When projecting out a private companies balance sheet post acquisition by a sponsor, would common stock remain, or does it disappear when the sponsor buys the company? Being replaced by sponsor equity?
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The mechanics are the same, you wipe out the initial Shareholder's equity and replace it with Sponsor equity.
Retained earnings wiped to 0, followed by incurring any transaction cost (advisory fees, legal fees) i.e. you initially have negative retained earnings.
This should cover the equity side of your BS.
Thanks for this, very helpful.
On another note, let's say this company has a SaaS business model, therefore high cash balance and unearned revenue on the balance sheet. Well, once the acquisition takes place, the cash balance goes to zero and you start using it to pay down debt going forward, while the unearned revenue remains high. This gives a very negative number for working capital, assuming this represents managerial efficiency rather than being a hindrance?
In reality, the sponsor would require some type of contingency relating to working capital or cash on the balance sheet to begin with. This can be part of the negotiation process and could have an impact on the purchase price.
They could also require a matching proportion for A/R against unearned revenue to offset the imbalance in WC.
Also, erasing this large cash balance throws off change in working capital portion of cash flow, any insight here? It creates an increase in regard to free cash flow
Cash balance is not in your cash flow statement of working capital; changes in working capital here are the non-cash and non-debt items. This means things like inventory, AR, AP, deferred revenue.
Cash balance is gotten after going through your cash flow statements (CFO, CFI, CFF) and getting your CHANGE is cash for the year.
Ending Cash Balance = Beginning Cash Balance + Change in Cash
After a LBO, Working Capital (incld. cash and debt items now) being negative is not surprising.
Yes I understand that. But with this business, unearned revenue (aka current liabs) grow in proportion to sales, so working capital continues decreasing, therefore there's a significant increase to FCF. It has made my valuation spike given how much working capital adds to the FCF calculation.
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