Professional Documents
Culture Documents
LBO Modelling
LBO Modelling
LBO Modelling
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Improve Operations
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Leveraged Buyout
Leverage ranges from 6:1 to 12:1
Investors seek returns of 25 to 40 percent
Average life of 6.7 years, after which investors take the firm public
Characteristics
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LBO Statistics
3% to 6% of M&A activity in number of transactions
Peak in 1980s
Significant increases in efficiency
Late 1980s, 27 percent of LBOs defaulted
Opportunities to transfer wealth between groups
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LBO Example
MediMedia
Mezzanine Debt
Amount $15 million
Term 8 years
Rate LIBOR + 3.25%
Vendor Note
Amount $11 Million
Equity
Amount $11 Million
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455,000
Senior Subordinated
400,000
Subordinated
210,000
Junior Subordinated
91,145
Common Stock
93,750
Exchangable Preferred
130,200
Convertible Preferred
85,000
Junior Preferred
30,098
Investor Common
34,276
Cash of Revco
10,655
Total Sources
1,448,799
1,253,315
Repayment of Debt
117,484
78,000
Uses
Total Uses
1,448,799
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Characteristics
Hostile
Industry clusters
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Financial buyers
Arranged going private transactions
Bought segments of diversified firms
"Bustup acquisitions"
Buyers would seek firms whose parts as separate entities were worth
more than the whole
After acquisitions, segments would be divested
Proceeds of sales were used to reduce the debt incurred to finance the
transaction
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Few defaults
1/3 defaulted
Securities fraud
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Waterfall Issues
Defaults and subsequent repayments of defaults before
dividend distributions
Model different priorities of debt
Model cash flow trap mechanisms
Evaluate Pre-payments from covenant violations
Compute Debt service reserve injections and withdrawls
Accumulation of debt service reserve after construction
period
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Maximum Default
When modelling the defaults on debt, it is possible that the cash
flow is less than the total debt service.
In this case, the default is only the debt service that was not
covered, not the negative of the cash flow.
Therefore, the default formula should be:
If(cash<0,min(-cash,debt service),0)
Notes:
Cash is cash flow to tranche
Debt service includes the repayment of defaults
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Once defaults are modeled, one can evaluate the IRR earned
on debt instruments and the amount of debt outstanding.
The amount of debt outstanding is the loss given default.
The IRR allows you to compute a probability distribution
for the loan facility
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Begin with the cash flow after capital expenditures and after all new financing
and acquisitions
Add back interest expense that was deducted because the interest will be
accounted for on an issue by issue basis
Add the beginning balance of cash. Even though it seems odd to add the
cash balances, these cash balances are available to pay off debt.
The sum of these items gives the cash flow for the waterfall as illustrated
below.
Cash Flow After Capital Expenditures
Add: New Debt Issues
Add: New Equity Issues
Cash Flow before waterfall adjustments
Add: Total Interest Expense
Add: Beginning Cash Balance
Cash Flow for Waterfall
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Once the cash flow for the waterfall is computed, you can compute the defaults on senior and
junior debt.
Subtract scheduled interest payments and maturities from the cash flow for waterfall
The difference is cash flow after senior debt that determines default defaults are the driven by an
if statement driven by whether there is negative cash flow.
Any defaults are added to cash flow to determine the cash flow to junior debt
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