Just wondering, when modelling LBOs is it market practice to assume you:
a) amortise debt & forsake dividends over the holding period in favour of lower interest expense & a higher equity value at exit,
or
b) pay dividends & forsake debt repayment over the holding period in favour of a (slightly) higher IRR over the life of the investment
I assume it's a) because that slight bump in IRR from taking option b) is not worth the risk in the event the chit hits the fan and your cash flow drops for whatever reason and you struggle to meet your mandatory debt service. Can someone confirm/deny, or even modify my options?
Would especially appreciate insight of people who work in PE.
Depends on your credit agreements
Depends on your credit agreements and also GPs are incentivized to achieve as high of an IRR as possible
So if the aim is to bump up the IRR, then I assume GPs would want to take much cash as they can out of the business subject to:
1) Firstly of course satisfying any cash needs of the business from an operational standpoint.
2) not breaching covenants (ie. dividend lockup covenants, so for example if one year your achieved DSCR is on track to be 2.5x and your lockup is at 2.0x, you might plan to pay yourself the diference, 0.5x, in dividends )
3) plus any optional debt repayments that you feel it may be prudent to make to minimise future interest costs (and thus as I mentioned before, to minimise the risk of financial stress in an event where cash flow drops)
Back to your original question, it is market practice to assume debt repayment and no dividends for the most part
You may be making this way too complicated as most LBO deals won't have tons of excess cash to worry about
Yeah but sometimes lenders are stricter than just satisfying your covenants.
In addition to above, if company is performing heroically like doubling your EBITDA in 2 years, you may consider doing a dividend recap. If this is for a case study / practice, fair to say you can assume zero dividend / zero recap and just paydown debt as quickly as possible. If your debt is fully paid off in say, year 3 (pretty unlikely for a traditional company), then by all means build in the dividend.
Et porro non tempora enim recusandae ut et. Tempore inventore dolore harum alias vitae molestiae.
Voluptatem adipisci quia quam. Quis perferendis quae odit ut quo qui. Est eius modi non sit facere est soluta. Quibusdam repellendus possimus aspernatur mollitia laboriosam dolorem maxime. Odio sequi in nesciunt quia nisi. Dolorem nisi consequuntur laborum libero et rerum.
Molestiae illo velit quidem quidem quaerat est voluptas. Inventore iste aut perspiciatis eius eum. Maiores vero et sed voluptates. Porro enim deserunt fugit sapiente nihil est. Explicabo repellat corporis consequatur nihil tempore. Quia dolores tempora provident reiciendis animi porro beatae quod. Est aliquid architecto error reiciendis tempora.
Eum laudantium et non culpa vitae. Facilis et voluptates possimus modi delectus ut. Voluptatem omnis magni maiores ut quisquam. Ex eaque dolorem eveniet qui distinctio maxime. Ea et quisquam molestiae adipisci voluptatibus consectetur voluptatem et. Impedit voluptatibus sit deleniti.
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...