How to model prexisting ownership in a take private?
Hi all, Would be incredibly grateful for any advice. I’m doing an exciting analysis into a take private but noticed the PE fund had let’s say 20% existing ownership. If there are 100 shares:
This means they only need to buy 80% of existing shares - ie 80 shares.
My question is how to model the sources and uses and also rollover equity.
What I’ve done so far is put the purchase equity as based on 100% of shares but then I’ve taken the existing 20% ownership and rolled over. This means they contribute the same market value of equity now as in the sources.
My only issue with this being correct is: 1. The IRR comes out very low as I’m presuming the additional equity causes the leverage ratio to drop. This means there isn’t as much debt financing this.
- Is IRR calculated on total equity contributed (ie the rollover AND new equity) or the new equity only?
Would be incredibly grateful for any advice as spinning my wheels for a few days. Thank you!
Normally you would only calculate it on new money but you can just call it new money IRR or footnote it. Why don’t you have competent coworkers?
That’s exactly what I’ve done so glad I was on the right lines! I guess the IRR is in single digits so I wanted to double check.
I’m doing this in a non corporate setting so don’t have any sources to ask.
Thanks for the help :)
To keep it simple I would just assume that the rolled equity is contributed at the same value as the new equity, otherwise I think you would need to figure out what the entry value was for the existing 20% stake. I also don't think you should lower the amount of debt used to finance the deal, because the overall enterprise value is going to include the 20% stake, i.e. you're going to purchase the 80% that you don't already own - the implied EV is going to be [Purchase Price / .80]
The overall debt needed doesn’t change right to buy the 80% equity. Given there is a 100% roll over of that 20% doesn’t it effectively fund itself?
If you divide the equity value by what you suggest won’t it end up artificially increasing the value?
What I'm saying is the dollar quantum of debt shouldn't change. Lenders are going to be looking at debt/TEV, debt/EBITDA ratios etc. to determine debt quantum. Those metrics are not really impacted by how much equity is rolled vs how much is new. With regards to the EV math, your purchase price includes everything, not just the current value of the equity (unless the debt is being rolled)
Assuming the PE firm is the same as the one that originally bought the 20% minority stake, you would calculate the total IRR. Think about these problems in terms of what is actually happening. I find it easier to model these things in steps. Let's put some numbers here to make it easier to think about (see picture at bottom for reference):
Premise
Company Assumptions: In 2024, the company generated $200 million of EBITDA and carries $300 million of Debt, $20 million of Cash, and 100 shares outstanding. Assume this company does not grow and margins remain constant. Assume $0 D&A, CAPEX, and Change in NWC. Assume 20% tax rate.
Transaction Assumptions: You (the PE firm) value the company at 10x LTM EBITDA, so you are valuing the whole company at $2 billion enterprise value. Minus net debt of $280 million = $1,720 equity value.
However, you choose to acquire 20% stake on 12/31/24, and you expect to acquire the remaining 80% on 12/31/25 (one year after the first transaction).
You also don't want to lever up too high, so for each transaction, you limit yourself to 3.0x target pro forma gross leverage (aka debt/EBITDA). Your bank agrees to lend you whatever loan at 10% interest rate.
----
The Minority Stake Acquisition (Assume closing on 12/31/24)
Now, you want to acquire 20% of the company, meaning 20% of the equity value = you write a $344 million check to buy the equity from 20% of the company stakeholders.
Now aside from the equity value of the 20% stake at $344 million, the company has $300 million existing Debt at an interest rate you think is too high. You think you can refinance that to get a lower rate, so you want to pay down that $300 million and replace it with new debt for less. However, you can use some of the cash ($20 million) on the company's balance sheet to do this repayment. Therefore:
Total Uses = $344 million equity check + $300 million debt paydown = $644 million
Total Sources (assumes no txn or financing fees for simplicity) = $600 million new debt raised (LTM EBITDA is $200 million, so $600 million is the debt ceiling based on the target 3.0x leverage) + $20 million of target cash on balance sheet + $24 million that you, the sponsor, contributes in cash = $644 million
Pro Forma Capitalization = You own 20% of the equity and the company now has $600 million of debt and $0 cash because you used the $20 million existing cash and you paid down the $300 million of existing debt, so all that remains is the $600 million of new debt you raised.
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First Year Post-Transaction (12/31/24 - 12/31/25)
Since the company has flat growth and constant margins, it generates $200 million of EBITDA in 2025. Let's say the new debt was raised at 10% interest rate, so $200 million minus 10%*$600 million = $140 million pre-tax, or $112 million net income after 20% tax rate.
Assuming no D&A, CAPEX, or Change in NWC, that $112 million is also Free Cash Flow.
You use that $112 million to pay down your debt at 12/31/25, so you have $488 million Debt remaining at 12/31/25.
Cash is still $0 since you generated $112 million of FCF and used it to pay down debt.
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The Majority Stake Acquisition (Assuming Closing on 12/31/25)
Let's assume, given flat growth and margins, the valuation remains the same at 10x EV/EBITDA, so once again the total enterprise value is $2 billion. Minus net debt of $488 million at 12/31/25 = $1,512 equity value.
You're now purchasing an 80% stake, so the equity check becomes $1,210.
The $488 million of debt with $200 million of EBITDA (remember this is flat vs. prior periods) means you are below your target leverage of 3.0x, so you refinance again to $600 million of debt pro forma.
Total Uses = $1,210 million equity check + $488 million debt paydown = $1,698 million
Total Sources = $600 million new debt raised + $0 million of target cash on balance sheet + $1,098 million that you, the sponsor, contributes in cash = $1,698
Pro Forma Capitalization = You now own 100% of the equity and the company now has $600 million of debt and $0 cash because it already had $0 cash at 12/31/25 (since 2025 FCF used for debt paydown) and you've paid down the $488 million of existing debt with new debt, so all that remains is the $600 million of new debt you raised.
----
Second Year Post-Transaction (12/31/25 - 12/31/26)
The company continues to generate $200 million of EBITDA. Debt is back up to $600 million, so you again have 10% interest expense = $140 million pre-tax income or $112 million net income, or $112 million of FCF again assuming no D&A, CAPEX, change in NWC.
You pay down the debt again with all that FCF, so at 12/31/26, you once again have $488 million of Debt and $0 of Cash since you used all of the FCF.
----
Exit Transaction (12/31/26)
Now let's say at 12/31/26, you want to exit the investment. Nothing changed - still flat growth and margins, so an acquirer says, "Sure, I'll take it off your hands for the original multiple - 10x".
So 10x * $200 million LTM EBITDA = $2 billion enterprise value.
You have $488 million of Debt / $0 of Cash at 12/31/26, so your equity value is $2 billion EV minus $488 million Debt = $1,512 million of Equity Value, of which you now own 100%.
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So what's the final result from an IRR perspective? Well, what cash actually came into and out of your OWN pockets (not the company's pockets, but your own as the financial sponsor).
12/31/24 (the 20% acquisition): You contributed -$24 million in cash as part of the Sources for purchasing the 20% minority stake. Everything else in the transaction was funded by the new debt you raised (i.e., proceeds come in-and-out the door) and the existing cash sitting on the target company's balance sheet.
12/31/25 (before the 80% acquisition): One year has elapsed, but you did not contribute any more cash nor did you receive any cash since all FCF generated during 2025 was used for debt paydown from $600 million to $488 million.
12/31/25 (the 80% acquisition): You contributed -$1,098 million in cash as part of the Sources for purchasing the 80% remaining stake. Again, everything else was funded by new debt you raised.
12/31/26 (before the exit transaction): Once again, you've used all 2026 cash flows to pay down the debt to $488 million.
12/31/26 (the exit transaction): Now, you receive 10x * $200 million EBITDA = $2 billion proceeds. HOWEVER, after using the 2026 cash flows to pay down debt, you still owe $488 million to the lenders, so you get +$1,512 in proceeds to yourself.
So to summarize, from 2024, 2025, 2026, your cash outflows (-) and inflows (+) are: -$24, -$1,098, +$1,512.
Therefore, your IRR is 34%.
Oh, and if your question is assuming that the 80% stake is acquired by a separate sponsor from the first, you still model out the LBO the same, but you only care about the part after the 80% was acquired. In the final exit calc., the equity proceeds you would receive would be only 80% of the $1,512 = $1,210, so your IRR turns into 10%.
Makes a lot of sense - thanks so much!
So I guess my initial analysis is sort of correct?
Assuming we don’t need to do the first refinancing as that transaction was before me?
The low IRR makes sense now and I guess clears up the need for roll over
This is amazing - thank you so much for taking the time to make this and write it all out.
Truly very kind of you and very insightful!!
I wanted to ask though, isn’t this IRR looking at the POV of the initial transaction?
Whereas I guess my analysis is from the POV of just second transaction if that makes sense?
I think so assuming I’m reading your answer correctly. Gtg now but hopefully others chime in to verify
You can’t refi target debt when you acquire 20%. This will have to happen at step 2 when you get control
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