Curious why LBO's would give a lower valuation than comps, I understand it's the floor valuation in that strategic aquirers pay more than sponsors for a variety of reasons, but wouldn't it still be higher than trading comps?
If I hold shares in a company I'm not going to sell them for less than they're worth on the public market (potential upside, liquidity, etc), wouldnt a PE firm have to pay more for this reason alone?
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Related q- in what way is an LBO a valuation strategy? I’m LBOs I’ve seen, you get an in and out price (usually based on multiples), and get IRR and stuff, but you don’t get an actual valuation the way you do from comps or a DCF. I guess you can look at the purchase price, but isn’t that usually just an input?
You build out the LBO model then tweak the purchase price to find how high you/the buyer can afford to pay and still meet a return target. As a banker, you could just assume the sponsor requires 25% IRR or so to do a deal. In your model, you would flex that purchase price until you get to about 25% IRR. Then, you have a decent idea how much they would be willing to pay for the business
Valuation is lower cause it’s probably a financial buyer if using an LBO - never shoot yourself in the foot
I'd never bring up the question myself, just curious in case it does come up. Even if it's a sponsor, they'd still likely have to pay some premium over public markets, so I don't really understand. Only reason I can think of might be because of opportunity costs, but that seems like a weak answer
Strategic buyers can recognize synergies (i.e. TargetCo has its own accounting team, HR, etc. that can be cut after acquisition since acquirer has their own, decreasing operating expenses and raising the effective EBITDA) so when they factor in the synergies, they can afford to pay a higher price. A pure financial sponsor isn’t recognizing any synergies. They also generally have a higher cost of capital than strategics (not always, but generally) so they’ll require higher returns —> lower purchase price
^ In case that wasn’t clear on this, a financial sponsor is who would be performing an LBO, thus why LBOs generally lead to lower valuations
Thanks for the response I understand that, but from a pure LBO vs trading comps valuation I don't quite get it i.e. if a company is currently trading at an EV/EBITDA of 10x - how could a PE firm acquire it for any lower? No one would sell their shares. Your logic makes sense for a DCF and precedents, but I don't understand how that applies to trading comps
I might be missing the boat here though
PE firms usually don't try to purchase public companies with LBOs. If they do, it's usually in a "going private" transaction where they delist the public company from a stock exchange. They tend to buy private companies. To determine EV for private companies, you use public comparables and then use an average or median multiple(like EV/EBITDA or EV/EBIT) and multiply by the private companies earnings metric. Remember that private companies don't actually have market caps since they don't trade on a public exchange. Plus, private company valuations are usually discounted from their implied valuation in public comparables because of the lower liquidity. I wouldn't worry too much about the control premium because once again these are private and not public companies. A control premium might be factored in by not applying as large of a liquidity premium discount. Furthermore, it's important to remember that just because PE firms offer lower purchase prices, doesn't mean the target has to take it. Yes, a company should try to get the highest valuation possible, but that doesn't stop a PE firm from offering a lower purchase price that meets their own IRR objective.
Let me know if this helps
Implied return on equity for a public company (which is baked into the price of a stock) is a lot less than 20-30%, which is the IRR required by PE funds. This results in public comps giving a higher valuation than LBOS.
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