BIWS LBO Exam Questions With 100%
Correct Answers
What is a leveraged buyout, and why does it work? - answer- PE firm acquires a company
using a combination of debt and equity
- it operates it for several years
- then sells the company at the end of the period to realize a return on its invest...
What is a leveraged buyout, and why does it work? - answer✔- PE firm acquires a company
using a combination of debt and equity
- it operates it for several years
- then sells the company at the end of the period to realize a return on its investment
- during the ownership period, the PE firm uses the company's cash flows to pay for the debt
interest expense and to repay the debt principal
IT WORKS BECAUSE
- leverage amplifies returns
- if the deal performs well, the PE firm will realize higher returns than if it had bought the
company with 100% equity
- BUT leverage also presents risks because it means the returns will be even WORSE if the deal
goes wrong
Why do PE firms use leverage when buying companies? - answer✔- to amplify their returns
- using leverage (borrowing money from others) makes positive returns even MORE positive
- leverage also makes negative returns even MORE negative
- using leverage makes it easier to reach IRR
- also more capital to buy add-on acquisitions
Walk me through a basic LBO model. - answer✔1) make assumptions for
- purchase price
- debt and equity
- interest rate on debt
- revenue growth
- EBITDA and profit margins
2) create a Sources & Uses schedule
- shows how much in investor equity the PE firm contributes
- also create a purchase price allocation schedule (PPA schedule) to calculate goodwill
3) adjust the BS for new debt and equity figures
- allocate the purchase price
- add goodwill and other intangible assets
4) project IS, CFS, and BS
- determine how much debt company repays each year
5) make assumptions about the exit
- assume an EBITDA exit multiple
- calculate IRR and MoM
Can you explain the legal structure behind a leveraged buyout and how it benefits the PE firm? -
answer✔- PE firm forms a holding company, which it owns
- holding company acquires the real company
- banks and other lenders provide debt to holding company
- managers and executives at the acquired company can retain ownership after acquisition
(rolling-over shares)
- up to the target company, NOT PE firm, to repay debt
What assumptions impact a leveraged buyout the most? - answer✔- purchase and exit
assumptions (based on EBITDA multiples)
- lower purchase multiple - higher returns
- higher exit multiple - higher returns
- want lower purchase multiple, higher exit multiple
- afterwards, % debt used makes the biggest impact
How do you select the purchase multiples and exit multiples in an LBO model? -
answer✔PUBLIC COMPANIES
- assume a share-price premium
- check purchase multiple
- example: assume a 30% premium to company's share price of $10
- EV/EBITDA multiple of 10X
PRIVATE COMPANIES
- look at comparable companies, precedent transactions, and DCF
- always use a range of purchase and exit multiples via sensitivity tables
What is an ideal candidate for an LBO? - answer✔- stable and predictable cash flows (repay its
debt)
- low CapEx spending
- highly fragmented industry for add-on acquisitions
- strong management team (roll over equity too)
- realistic path to an exit
- based on EBITDA growth and debt pay down, NOT multiple expansion
How do you use an LBO model to value a company, and why does it set the "floor valuation" for
the company? - answer✔- value a company by setting a targeted IRR (25%)
- use goal seek function in Excel (determines purchase price the PE firm could pay for targeted
IRR)
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