Hello all,
For those of you who have been through the PE modeling exams, how exactly are management options typically incorporated? I have not worked much with management options and it would be great if someone could explain to me how to build this into my model.
Thanks much!
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Exit EBITDA * Exit Multiple = Exit EV Exit EV - Net Debt = Exit equity value
Assuming management gets 10% of equity exceeding 2.0x sponsor equity.
Then (Exit Equity Value - 2*Sponsor Equity) * 10%
So you wouldn't need to take into account the strike/exercise price or anything?
Guess I'm thinking out loud here, but say management holds X amount of options. At transaction close, wouldn't these options be automatically exercised and thus increase the total shares outstanding?
that guy's example includes a strike price. the strike price is exit equity value = 2x sponsor equity. above 2x sponsor equity, the mgmt options are above the strike, in the money, and they receive proceeds. below 2x sponsor equity, they are out of the money and don't receive proceeds.
there's a difference between mgmt options existing before the deal and mgmt options after the deal. mgmt options before the deal need to be factored into the total shares that the purchaser is buying (you do treasury stock method to figure out additional shares from options). when the deal occurs, the sponsor pays out the existing in-the-money options (buys these shares along with all the other common shares). then the sponsor will give management new options in the pro forma company and those will be set at a strike price of 1x sponsor invested equity value or 2x or something like that.
(At least for the modeling exam) you shouldn't consider it as normal 'stock options'
While you don't HAVE to consider it as normal stock options, you CAN probably do it that way if you want, since an lbo model usually includes # of shares and the purchase price/share.
Like all the inputs to a model (especially a hypothetical model) you can set the strike wherever you want.
You might consider doing it this way so that you can show that you know how to handle the dilution and changes to a cap table that options can cause.
The real question is what were you asked to do? I don't see any need to put in any extraneous complexities that weren't handed to you as an assumption. What did the instructions/assumptions say about terms/structure of management options?
less cash value when they are exercised ...
Mgt Options - how to model (Originally Posted: 09/24/2012)
Need some quick help. I'm doing an lbo model where I need to model in management options. I have looked online, but I just have a few questions.
What are the major differences in the model here? From my understanding, the assumed 10% mgt options are still considered equity and won't affect the basic functions?
When calculation the sponsor IRR, would you only take 90% (assuming 10% mgt options) to calculate?
For strike price, etc.. Can you just make up # of shares?
It's not very reassuring, given the current economic state of the country, that analysts at investment banks are scouring internet forums for help with their work at their job.
This is not for my job.. but thanks for the reassurance!
nothing in the model will change except the irr calc... upon exit, basically assume owner (PE probably) is diluted down to 90%... set mgmt strike at value of pro forma equity at assumed close of transaction. no need to calculate or assume any specific # of shares, do it all in terms of % ownership.
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