Opportunistic Lending - Interview Q

When tackling a scenario like this, here's how you could approach the problem based on the most helpful WSO content:

Part A: Valuation of the Company (Y1 vs. Y2)

1. Valuation Framework:

   • Without comps or market data, you would typically rely on an EBITDA multiple approach. For a manufacturing business, assume a reasonable range of multiples based on your experience or industry norms (e.g., 6-8x EBITDA for a stable manufacturing company).
   • In Y1, calculate the enterprise value (EV) using the EBITDA multiple and the company's EBITDA.
   • In Y2, adjust the EBITDA for the 10-15% loss due to the lawsuit and apply the same multiple to determine the new EV.

2. Impact of the Lawsuit:

   • The lawsuit's impact on EBITDA directly reduces the EV, assuming the multiple remains constant. However, if the market perceives the company as riskier post-lawsuit, the multiple could compress, further reducing valuation.

3. Net Debt and Equity Value:

   • Subtract net debt from EV to estimate the equity value. Since the company raised senior debt to pay off the settlement, net debt should remain stable, as noted in your scenario.

Part B: % of Par to Buy the Notes

1. LTV Analysis:

   • Use the EV from Part A to calculate the Loan-to-Value (LTV) ratio. For example:
     • If EV is $500M and the senior debt is $200M, LTV = 40%.
   • A lower LTV indicates a safer position for the debt, which could justify paying closer to par. Conversely, a higher LTV suggests more risk, warranting a discount.

2. Yield and Risk Assessment:

   • Without market data, you would estimate the yield required for the risk profile of the notes. For a company with stable FCF generation (~30% FCF yield to EBITDA) and leverage around 4x, you might expect a yield in the high single digits to low teens, depending on the perceived risk.
   • Discount the notes to achieve the target yield. For example, if the notes have a coupon of 8% but you require a 12% yield, you would calculate the price to pay below par to achieve that yield.

3. Market Context and Judgment:

   • In the absence of direct comps, rely on your knowledge of similar transactions or industry benchmarks. For "spicier" lending deals, you might expect to buy the notes at a discount (e.g., 80-90% of par) to account for the elevated risk.

Key Considerations:

• Valuation Multiple Sensitivity: Be prepared to justify your choice of multiple and how it aligns with the company's risk profile and industry norms.
• Debt Recovery Analysis: Consider the company's asset base and recovery potential in a downside scenario. This can influence the discount you apply to the notes.
• Holistic View: Tie Part A and Part B together by ensuring the valuation supports the LTV and pricing assumptions for the debt.

This approach demonstrates a structured thought process, which is critical in interviews for direct lending roles. It also shows your ability to navigate uncertainty and make informed assumptions.

Sources: Alternative Lenders & the End of Risk Taking for Banks - Opportunity or Risk?, Private Credit Secondaries Case Study Insight, Q&A - High Yield/Distressed Debt Sell Side Analyst, Investment Sales Vs. Debt/Equity Brokerage, Specialty Lending (GS/TPG) - Any insights?