LBO - Debt-Like Items
Hi guys, 2 quick questions-
1) I understand that most debt has change of control provisions that would require it to be refinanced in the event of a LBO. If a company has capital lease obligations though, do you just assume these rollover?
2) If you're setting up a take-private and a company has significant unfunded pension obligations, do you consider this a separate use or is target company responsible for paying it with proceeds (or "it depends")?
Thanks!
Rollover existing capital leases --according to this LBO's LP. not a modeling expert but checked a big LBO for sources & uses, pro forma cap table. if anyone who knows better disagrees, say so. but that would make sense. Pensions idk
Agree with comment above. The cap leases usually remain in place, as these are debt that is collateralized by specific, narrowly defined assets
Depends and is handled differently on a case by case basis. One way to handle this is to treat the underfunded “gap” as a debt-like item at close and deduct sellers’ proceeds by that amount
Both capital leases and underfunded pensions are typically considered debt like items. However, they are different from normal debt in that they will reduce the amount of required equity in the LBO sources.
As an example, if a company's TEV is $1bn, and has $600M of term loan debt and $50M of seller transaction fees, the buyer will pay $600M to repay the debt, $50M to the service providers related to the fees, and the remaining $350M to the seller. The buyer will need to fund the $1bn - if it turns out there is actually $500M of term loan debt, the buyer still needs to fund the $1bn and the seller gets $100M more of proceeds.
Capital leases or underfunded pensions are different in that they are not typically liabilities that need to be satisfied at close. Therefore, in the above example, if there are $50M of cap leases and $50M pension underfunding, the buyer will reduce the seller's proceeds by this $100M, and the total funding need related to the buyout is now $900M. It is a dollar-for-dollar purchase price (TEV) deduction, rather than holding purchase price and netting debt items.
In a take-private scenario (where you're going off of share price premium and not a TEV purchase price), would the buyer not need to fund the capital leases or unfunded pension obligations then?
E.g. if you agree to purchase the 100 shares of a company at $25 / share, and the company has $500 debt (doesn't include capital leases), $50 capital leases, and $100 of unfunded pension obligations, would the uses for the transaction be the $2500 purchase of equity and the $500 refinance of existing debt?
There is no requirement to satisfy capital lease liabilities or underfunded pensions at the close of an LBO, regardless of take private or remain-private.
In your example, the only uses are the equity and existing debt as you mention. The extra liabilities theoretically should be included in the trading share price of the equity / the premium.
Is the below correct way to think about it EBITDA: 100m Purchase multiple: 10x EV (pre adjustment): 1bn Less: Unfunded pension/leases: (100) Purchase EV: 900m
Sources Sponsor equity Acquisition debt
Uses Purchase price 900m Transaction fees 50m
If there was 500m term loan and 100m cash prior to transaction. Vendor would take the cash pay off debt which will have 400m left. Netting off 400 from 900 then vendor proceeds will be 500m correct?
No the 100 pensions and leases are both source and use, they do not lower the EV.
In your example I assume the 50 fees are buyer fees, not seller fees. Next to that you assume 0 target debt (purchase price = equity value).
Make btw sure there are no change of control clauses with associated fees with the leases. Have seen fees that were c. 50% of asset value.
What about DTL / DTA at entry (existing on BS); Macabus does not take into consideration for EV/ Equity bridge at entry and ignores at exit? Rover-S
Often you will see a practical approach for DTA: if they turn into cash within 2 to 3 years they will be treated as cash-like. DTL: taken as debt-like. If they can be postponed for another 10 years you will have a discussion on value.
Let's say you have $100 of debt-like items, which will be a deduct to purchase price (so seller gets $100 of less cash proceeds). For LBO modeling purposes - do you also add the $100 on the balance sheet as debt that will be deducted from buyer's cash proceeds on their exit (in 3-5 years)? Is this the "right" way to model this?
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