Collateral in an LBO for software companies?
Obviously a lot of big software focused buyout companies, and I'm wondering what kind of collateral can be used in an LBO given the capex light nature of the industry. Or am I thinking about collateral in the context of an LBO incorrectly? Much appreciated.
Generally I have not heard of ABL (Asset Based Lending) in Software Industry…..
LBO financing is generally based on underwriting the cash flows
I'm still a beginner in learning about LBOs so apologies if this is an obvious answer.
So would it be fair to say that all LBOs to have some from of collateral, whether you consider an asset or cash flows, to put up against the financing? It just so happens that in the context of buying out a software company, such companies don't have much valuable physical assets and so the cash flow is kind of the collateral?
My brother in christ did you just recently discover the concept of debt?
if you're not gonna help out there's no need to be a dick about it. I'm not familiar with lbos.
Used to work in corp dev for a software company. We didn't have an ABL based on assets per say, but we had an ARR (Annual Recurring Revenue) based facility which we'd draw on for acquisitions. With that said, with each acquisition we did our borrowing base did expand with the ARR we acquired. But the ARR wasn't really considered collateral, it was used to measure our borrowing base. I've seen this at other small PE owned software companies as well.
Frankly I don't know how software companies convince lenders to agree to this since the debt is serviced based on EBITDA vs. ARR. You could have very high ARR growth but if you can't turn EBITDA profitable how are you supposed to service the debt? Would be interested if someone had any opinions on this.
Also sometimes it can take a while for that ARR to even translate into Revenue since ARR is just a point-in-time metric vs. measuring Revenue across a span of time.
del
Plenty of online resources out there, baby steps on learning concepts before jumping hoops on software lbos
Most is unsecuritized so no asset backing the debt. In case of default, the debt holders can take over the company as courts can convert their debt to equity while equity holders get wiped out
Got it, I had always thought LBO debt financing was secured but I guess it's not the case for software LBOs. Appreciate it.
Deleted
There are a couple of ways to do this:
1. Re asset: You can ask for IP / patents as security - assuming they are valuable - but it's not common in the industry, so doubt you will succeed
2. Re cash flows: Most common is to do underwrite cash flows. Here you can do it two ways:
A. Ask co to keep certain months of debt coverage cash flows in an escrow account
B. Charge interest rate based as a % of revenue and see what that equates to as % of debt outstanding so that you're not coming up with a ridiculous interest expense
Having an explicit security package in your debt financing is really a function of being able to ring fence specific assets and the value of doing so in terms of establishing seniority by facilitating enforcement and defending your claims against other creditors.
You can create security over intangible or operating assets (e.g. receivables, inventory, operating cash accounts) in addition to fixed assets but it may not really be required or accepted if you're dealing with a large, creditworthy counterparty and a streamlined capital structure.
The contracts of the software the company sells to customers sometimes can be used as collateral.
Sed est laboriosam ut ad. Aspernatur ab voluptatem libero dolorum. Unde delectus autem sit quasi adipisci sunt earum doloribus.
Voluptatem ipsam qui velit ut et et sunt. Sed placeat et minus. Quis quis ea dignissimos repellat.
Quo nihil minima enim quisquam fuga ad molestiae excepturi. Necessitatibus autem alias quo sapiente. A occaecati nisi perferendis eum veritatis dolores. Omnis ea itaque placeat praesentium omnis aut.
See All Comments - 100% Free
WSO depends on everyone being able to pitch in when they know something. Unlock with your email and get bonus: 6 financial modeling lessons free ($199 value)
or Unlock with your social account...