Barriers To Entry/Exit Strategy
What are the barriers to entry for starting your own leveraged buyout holding firm?
Example: I'd pay $10,000 and borrow $90,000 at 10% interest to purchase a $100K business that nets 13K per year post-tax.
The business would be my collateral.
I pay the interest ($9,000) and kept what is left ($4,000).
That's a 40% return on investment.
I am also lost with regard to exit strategy, as well. What happens when it's time to pay the principal? Do I raise the money via bonds?
Recap of two main questions:
A. What are the barriers to entry?
B. What is the exit strategy?
Who is going to loan you $90,000 to buy a business when you only have $10,000 at stake? Your ratio is way off for a business that size, if you can even find a loan at all.
Exit -- when principal becomes due you sell the business and use part of the proceeds to repay the debt while keeping the rest. If you don't want to sell, you refinance and the cycle starts again.
entry - capital, meaning access to both debt and equity = largest barrier
exit - depends on the investment / if you don't know this, time is better spent first understanding the fundamentals of LBOs vs. thinking about running our own firm
Think of this as real estate and it should be easier to understand. Let's say you put down $20k on a $100k property. Your annual mortgage payments are $5k per year, plus $2k in property taxes, $1k in basic upkeep, and $1k in insurance. You rent the place for $1k per month. All seems well. You earn $12k and you only spend $9k, clearing $3k per year.
What happens when the boiler breaks? What happens when your shit-bag tenant doesn't pay rent? What happens when your good tenant moves out and you have to pay a real estate agent 1 month rent as a commission and your place is unoccupied for two months? What happens when insurance rates triple because of some weather incident?
Not such a sure thing, right? Most underlying businesses are more volatile than real estate. Plus, nobody is going to give you 10-1 leverage anyway.
The other barrier to entry is scale. You're not going to be able to feed yourself if you're making 2/20 off of $10k equity investments (not to mention qualified investor considerations).
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