Depreciation & Amortization in LBO

In the context of a LBO, D&A comes into play as it affects levered free cash flows. More D&A means a lower EBT (pre-tax income), which results in less cash paid for taxes, and ultimately higher Levered FCFs. Depreciation is simply an allocation of costs.

In financial modeling, CapEx always translates into subsequent D&A. So if CapEx were to remain at steady levels, then D&A will likely remain at steady levels (with the exception of differing depreciation schedules like straight-line, accelerated MACRS, etc). D&A always follows CapEx.

As for the purpose of identifying a good LBO candidate - you want to look at CapEx more so than D&A. Why? it is the true cash outflows as a result of a requirement to invest in CapEx. The cash saved from the D&A is a more minor change to cash flows than actual capex spending, and again, D&A comes from Capex anyways. If a PE sponsor were to take on a company, then they may decide that it does not have as high of a capex requirement going forward as it current does, and will lower CapEx - which is the true cash outflow from purchasing LT assets. because we care about future cash flows and because D&A follows CapEx, so when identifying a good LBO candidate, you want to look at what cash outflows will actually come from future capex.

EDIT-this paragraph is not entirely true, see next commentSo the only way that companies can have large D&A but low CapEx (aside from depreciation schedules - MACRS would have a relatively larger D&A in the earlier years relative to CapEx), is if a company changes from a high to a lower Capex requirement.