Hi guys,
I have a 48-hour case study lined up, and I have a question about the debt structure. I will be only provided some raw K & Q raw materials. How/where can I get information on the debt structure? I can use comps for purchase multiples, but I don't know how I should split to equity/debt. I plan to simplify it to two tranches but not sure how I should split and what interest rate I should use.
Also, is there anyone would be willing to share some case studies?
Many thanks !!
You don't need to be super accurate in your assumptions, in my view, as long as you state clearly what they are.
The level of debt typically depends on: 1) cash generation and debt capacity of the business (e.g. ability to service the debt and not breach covenants); 2) providing a reasonable equity cushion of 25-35%; and 3) market conditions (the hotter the market, the more debt you can put on, it will be cheaper and with lighter covenants).
In terms of making specific assumptions for your case study, I personally would not care about your numbers reflecting the actual market. You just need to provide a worked example that demonstrates your knowledge and broadly relates to reality. Therefore, for instance, if your purchase multiple is 10 x EBITDA, I would assume 6 x term loan and 1 x mezzanine loan. I would assume for simplicity that your term loan is one tranche, amortizing (straight line over 7 years), cash pay interest L + 250-350 bps, with margin depending on how risky the business is. For mezz, I would assume all PIK, 7% per annum, 7-year bullet.
Good luck!
Thank you, Tamara! I have some more thoughts hope you could help.
1) if the market generally debt multiple is about 5~6x, is it reasonable to assume a 7/8x multiple?
2) Also, given there probably will no covenants info, should I just ignore it?
3) "You just need to provide a worked example that demonstrates your knowledge and broadly relates to reality. " Does it mean I need to find a similar transaction with a similar structure?
To answer your questions:
1) If you know that the market is 5-6x total debt for this kind of companies, I would assume 5.5 x total debt consisting of 4.5 x term loan and 1 x mezz. Pricing as I mentioned
2) Nobody expects you to know the exact details of covenants in past transactions - it is typically private info. If you want to learn more about debt covenants, however, Ippolito's recent book Private Capital Investing is an excellent resource for this
3) Worked example I mean taking your debt through the three financial statements correctly so that you can demonstrate how the debt mechanics works (i.e. cash interest affects income statement and cash flow statement, PIK interest does not affect cash but accrues as PIK principal over time, etc.)
Good luck!
Thank you Tamara. What would you answer in a case interview (i.e. 1-2 h prep, 30 mins discussion) to the question WHAT WOULD YOU PAY?; if NO LBO model is involved in this prep time? Just a multiple I would find applicable plus a comment? Would be great if you could elaborate
I would say that to establish value of any illiquid asset, you need to look at as many data points as possible. You do not need to give the numbers for each data point, but mentioning this would be helpful. What are they?
1) Public comps and their multiples
2) Comparable M&A and PE transactions and their multiples
3) FCF generation and multiple of that compared to other comps in the market in 1) and 2)
4) Value of the hard asset base (for capital intensive business)
5) Liquidation value and / or replacement value (always an approximation)
6) Vendor's price expectations
7) DCF for income-producing assets that have no terminal value (shipping, satellites, wind turbines, etc.)
When mentioning multiples, it is worth looking at EBITDA but also at other multiples, such as those of revenue, EBIT, EBITDAR and any other multiples not affected by leverage (so, not PE unless you will re-lever all comps in order to have the same capital structure across the comps universe, and you clearly don't want to do it).
What would you pay? You triangulate the above points to derive a value range, and offer a price below the "true" intrinsic value of the business.
Thank you, i mean more in a PE Interview Case study where just the CIM is given and you have 1-2 h ...
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