How to model an LBO with minority stake
What would you do in the case where a financial sponsor makes a minority investment? What is the equity contribution amount? This is assuming the management team stays on.
For instance, if a PE firm buys a 30% stake in a company, requires the firm to take on bank and mezz debt and also makes the management team stay on, would the equity contribution equate to the 30% cash/equity from the financial sponsor + the book value of equity from the existing ownership team (staying on)?
Anyone?
if I'm understanding your question, here's how I'd think about this...
normally, if PE firm acquires all equity, they repay old debt, buyout all old equity, put in new debt, put in new equity (some other smaller steps can apply)
the difference here would be that not all of the old equity is bought out. they'd still repay old debt, and use new debt issuance to reduce some existing equity, but not all of it. equity contribution is 30% of total equity valuation (I don't think you'd add 30% of book value - you would just increase total equity balance such that the sponsor has 30% of the diluted equity pool -that would balance with the cash that the firm receives for the equity stake).
bumping; how do the debt assumptions work in this case?
ie; does one still assume they can lever the company?
Sure. Why can't they? You can almost think of it like a div recap with the PEG contributing to the deal.
Would the pe firm in question acquiring a minority stake have to have covenants with respect to the debt to be added? How do they go about "controlling" that aspect of the company when they don't have a control stake?
Hi, I have a similar question to the above user.
If the PE investor only has a minority stake, how do they make the company take on debt and lever up? Wouldn't that only be possible if the PE investor has a majority stake and gets to control the company's financing decision?
Also, when you say dividend out, do you mean that the company takes on the debt and immediately dividends it out to the PE investor? Or does the PE investor directly take on the debt to fund the acquisition instead of making the company take it on? (not sure if this gets onto the legal structure aspect of deals..)
Usually they will purchase this percentage of ownership in an agreement with the company, where the company "issues" senior notes or another form of debt. Some of the "leveraged finance" shops like Oaktree or Ares will do these.
Not sure I understand the second half. The debt is held by the corporate but paid for by the sponsor
Super interesting thread, maybe reviving this a bit (as there is only one other thread on WSO on this topic):
In an LBO with a minority investment by PE, I would assume that:
a) they are also looking at relevering the OpCo (HoldCo leverage being less attractive). As described above, equity is fixed in this structure, so remaining cash from relevering would be the plug — would it make sense to use this as a dividend recap on day 1, distributed pro-rata, to provide PE with a return boost and incentivize the rollover majority holder with liquidity without requiring them to sell their stake (instead of leaving cash on the balance sheet for e.g. investments)?
b) the minority stake would probably still require a premium (e.g. 20%) to be bought out, while the rollover equity stays as-is. Would this mean that in the S&U, PE's investment on the sources side equals the minority purchase price on the uses side (e.g. 30% stake at a 20% premium), while the rollover equity nets to zero on both sides (70% stake)? In return calculations at exit (whether through a common equity split or accruing preferreds), the 30% stake determines the proceeds split, with the 20% premium already baked into PE's entry price.
Any thoughts? Happy to exchange on this!
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