If a company goes private via a LBO, how does the new debt impact the balance sheet and would it result in negative share holder equity to equalize both sides of the balance sheet?
Off the top of my head, I'd think that the additional debt will mean higher interest expense on debt, less net income on the the income statement, lower retained earnings balance, and finally less ending cash balance in cash flow statement.
But what about the balance sheet?
With more debt on the books of an LBO portfolio company, won't the balance sheet have to have negative shareholder equity so the balance sheet balances out on the asset side and the (liabilitites + shareholder's) equity side?
Is it legal or does it violate accounting rules to have negative shareholder equity on the balance sheet post transaction? how is addtional debt accounted for in the balance sheet?
This was a recent superday question.
Think of it this way: a private equity firm is buying all the equity in a company and financing it with new debt and equity. Oftentimes cash and existing debt are swept away and refinanced with this new capital structure. Existing SE will be replaced by the sponsor's equity, existing debt will be replaced by new debt, and the balance on the asset side comes from goodwill. Hope that helps.
The plug here is goodwill.
GameTheory is right on.
Right after the transaction there wouldn't be negative SE b/c the sponsor's equity investment would be the new SE. Negative SE might occur should NI run in the red for too long...
thadonmega, was this for full-time for summer interviews?
Bulge bracket full time IBD.
Strange, I've never heard of people getting questions on LBOs.. Did you have something related to LBOs on your resume?
How did you prepare for these questions, and did you feel it was a dealbreaker if you were unable to answer that question?
In an LBO you recognize the company before recap and after recap as two separate entities. The newly recaped company is the new co, and the old company is the old co.
Certainly is weird for a superday question.
Perhaps he interned in an FSG.
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