IRR decomposition / Attribution in LBO
Dear all,
I am currently finishing an LBO model and included an overview of value creation in terms of MOIC (equity value bridge incl. ebitda growth, multiple expansion, debt paydown etc.). So far so good. However, I am getting stuck at the following and would love to hear your input:
I am trying to compute the same analysis but on an IRR perspective. Trying to get to the following:
1) Starting IRR Yield (unlevered base yield)
-
organic Revenue Growth IRR
-
organic EBITDA Margin Expansion IRR
+ organic EBITDA Multiple expansion IRR
- Leverage effect IRR
= Equity IRR (levered return)
Would appreciate your input / examples how to correctly compute the above?
Many thanks guys!
Just create a case that doesn't have any of those factors, and then cases that layer in each factor one at a time, with the final case including all factors and identical to your actual case. The order you turn the factors on will impact the IRR impact for that individual item (for example, if you increase exit multiple first it will show a different impact than if you increase exit multiple last), so there is no "right" answer for any individual bar, so take that into consideration when you lay out the order.
Point on the order of cases. I'm sure it changes from one deal to another and depends on the nature of those changes too but can you elaborate on how you might think about it internally? Why would the Partner want to see a specific order in the bridge vs another?
I actually generally like the order that OP had, I always like to show the impact of operational items first (i.e., revenue growth, margin expansion, etc...) and then layer on exit and then leverage. But it really just depends what the risks are with the investment and what you're actually trying to understand. If it's just a generic chart to show relative contribution, I'd do as above. If you're trying to test whether the leverage will be a major issue if you don't hit the operational goals, then maybe it would make sense to increase leverage first and see the impact. If you think the exit assumption is the most aggressive assumption, then maybe you'd save that for last so that you can easily distill what returns would look without an exit uplift (although for a single-variable test like that a tornado chart would be more appropriate anyway). It gets pretty specific to the facts and circumstances.
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