I work in the lower middle market space (commercial and industrials) where companies typically trade for 6-7x LTM EBITDA. These deals are typically financed with 3-4 turns of senior debt, a turn of mezz, and the rest funded via equity.
How are LBOs of tech or public companies that trade over 30x LTM EBITDA (e.g. Craft Brewers Alliance, $BREW) financed? Are unregulated credit funds like Golub anchoring these deals with a 15x unitranche solution? Even then the Sponsor has to cut a fat equity check.
I don't know anything about that company but think about the types of companies that trade for ridiculous multiples - it's usually fast growing and scalable companies. Now think about why you use some debt to finance buyouts sometimes - oftentimes it's to turbo charge the returns because you won't meet your cost of capital on an unlevered basis. But if your target co is growing at 20%+ annually with good runway, you might not need/want to use leverage at all.
Working in O&G, I've seen a lot of OFS valuations using 2018 EBITDA as the metric since LTM is likely to be anywhere from negative to 25x or more and FWD multiples are prone to being at 15-20x.
Unlikely that Golub/a direct lender would provide 15 turns of leverage. Direct lenders are going to look at enterprise value and loan-to-value, but there are some limits to that. You may see a lot of tech deals trading at 12-15x being done with a 6-6.5x unitranche structure, and ~7 to 8 turns of leverage seems to be the upper limit for most middle market unitranche deals.
Echoing CHItizen's thoughts, I don't think many sponsors are acquiring performing assets at 30x EBITDA. Since Golub is primarily a sponsor-based lender, they likely aren't seeing many deals will EBITDA multiples in that range. Even high-growth middle market roll-up strategies, enterprise software companies, device manufacturers, etc. are typically trading hands at multiples below 15x.
One recent example: Bain, along with Bow Street, paid ~27x EBITDA in the take-private of Blue Nile. Goldman provided the debt. Any idea what that cap table looks like?
This will ultimately come down to the definition of Adjusted EBITDA. I believe you are looking at an unadjusted number, which will significantly skew the purchase multiple and leverage profile.
The Blue Nile deal was marketed at 4x leverage against an 11x purchase multiple. If you completely strip out add-backs, it looked more like a 9x deal against a 26x multiple:
https://www.ft.com/content/ce5d0eee-eea0-11e6-930f-061b01e23655
Lenders apparently believed that at least some portion of the EBITDA adjustments could be underwritten, and ultimately got comfortable with the deal. A large chunk of the add-backs were usual and customary (stock-based comp, removal of public company costs, etc.), and lenders likely gave some credence to at least part of the anticipated synergies.
While I think experienced creditors would haircut the synergies and not agree with the 4x marketed leverage, they probably aren't signing up for a 9x deal, either. Anecdotally, after looking at past filings and some of the customary add-backs, it is probably a 6-7x deal after credit is given to the usual and customary add-backs without giving much value to anticipated synergies.
I work for a firm in Europe which has a direct lending fund. I know that the team isn't even allowed to finance deals above a certain leverage due to limits imposed on them by the fund's bylaws. I know that some mid market direct lending funds in Europe are not allowed to go above either 7x or 8x net leverage. And most of these funds are starting to get uncomfortable when you are above 5x-6x net leverage in the lower mid market space. I am guessing funds in the US will have fairly similar restrictions.
At the end of the day, it depends on the deal. Even high growth deals of a great company with high cash conversion and favorable market dynamics most likely won't see a net leverage north of 8x in a mid market deal.
As outlined by a previous poster if a company trades at 26x EBITDA then it is either growing very fast so you might not need that much leverage or the EBITDA is depressed because the company is not performing well so you need to adjust it.
I actually heard that US banks can't give you more than 6x EBITDA. (outside of Jefferies) for regulatory reasons i forgot. now of course it all depends on how EBITDA is defined given that there's no legal/accounting definition of that. Can anyone confirm this ?
You are correct about the 6-7x ceiling the Fed placed on the banking system. This has driven the decline in leverage for bank-financed LBOs in recent years. The winners in this market have been the players in the shadow banking system (Crescent , Golub, etc.) as they don't have to follow the same leveraged lending guidelines. Similarly, Jefferies does not run a commercial bank so they are not bound by the max EBITDA restrictions that JPM is for example.
The restrictions set on banks paved the way for all these new unregulated direct lending platforms. They pop up on a weekly basis and the entrance of all these new credit funds with their billions of dollars of dry powder will continue to change the lending landscape. Assuming Trump doesn't dismantle Dodd Frank, it will be interesting to see how middle market companies are financed 5-10 years from now.
While there is no a legal/GAAP definition of EBITDA, bank examiners are definitely laser focused on EBITDA adjustments, because they realize that arrangers are using "large percentage" adjustments to lower the marketed leverage profile of a borrower. Deals that have adjustments accounting for more than 20% of EBITDA are increasingly drawing scrutiny, and regulators are likely to assess "real" leverage after stripping out all or some of the add-backs.
Just look at the financials on CapIQ. Brew has 2.0x net leverage. High growth companies don't need a lot of leverage to generate returns.
As a few others mentioned, it all comes down to adjustments that 'rationalize' leverage and PP metrics. I work in the space, and increasingly EBITDA for leverage purposes on larger deals has been composed of higher levels of adjustments (e.g., 30%+). As such, headline (unadjusted) multiples tend to look significantly higher than how the investors (equity and debt) view them.
Guys,
How about a PE case study where you get such a company - how legit is it to say that you gonna have 25% debt and 75% equity check? Is it even an LBO after that - there’s barely any leverage.
Let’s assume it’s a double digit growth company and it still spits out 25% IRR with that big equity check - would it work for the case study?
Thanks!
Think about how you get levered cash flows: EBITDA - interest - taxes - ONWC - CAPEX = Levered cash flow. If you don't need a lot of CAPEX and you have an okay working capital need, you don't pay a lot of interest --- suppose you don't have a lot of existing debt --- then you pretty much only pay taxes here, which gives you a stream of good cash flows to evaluate. Then you have a solid IRR.
For a lot of those tech/SaaS deals where you see high leverage ratios, those deals are sometimes underwritten based on recurring revenue leverage rather than EBITDA leverage. These companies are trying to grow quick to be sold to another PE, VC firm or exited via IPO or other M&A and are spending a lot in marketing to gain more customers / gain market share so EBITDA wouldn’t be the best proxy for underwriting to these types of companies. These deals generally generate a higher return for investors.
I was on a large cap software deal at 15x+ (40% margin, double digits growth) you can think of a structure as such:
6x senior, 2x Junior, if you really want to be aggressive you can add a layer of PIK/Preferred equity for say 2x. So you can have a c.50% debt funded capstack.
Thank you Monkey!
But what if the deal is 25x - and therefore 6x leverage won't help - still 19x to cover....Any ideas how to manage? Thank you!
Did you read my post? It takes you to 10x, sure you have 15x to cover but you can likely syndicate some of that equity to LPs to reduce the size of you check. A 25x buisness implies very high growth so it's fine to have a large part of equity in your business.
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