PE Multiples

multiples are contingent on a number of factors. really comes down to the industry, size of the deal (mid market vs. large cap), and if there are any troublesome circumstances (distressed situation, high customer concentration, etc.). There are a lot of other things to consider - those are just a few you'll come across.

One point that you can make that will demonstrate that you have some semblance of current PE industry standards has been the shift away from leverage as the debt markets have closed and how larger equity contributions are needed to fund a deal. The good old days of cheap debt and highly levered capital structures are over. You should also note the significant slow down in M&A deal flow activity (esp in the mid - large cap range) as financing on accetable terms has become impossible.

Like Mlamb said all of the multiples are contingent upon industry, size, etc. so there is no sense in trying to memorize anything. If you can determine what types of portfolio companies the group you are interviewing has then you can get more specific answers. Good luck in the interview.

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One "technical" question relating to multiples that I was asked was:

You have industries A and B. They are both mature, and have been mature for 50 years. They have the same growth and risk characteristics. During the past 50 years, the average EV/EBITDA multiple for industry A was 9x, and for industry B, was 6x. Why?

I liked this question because if you know the answer, you probably understand the essential point behind multiples. Because -- what are multiples, really? Even though they are probably more widely used than discounted cash flow analysis, they certainly aren't an improvement -- academics and investment professionals alike will tell you that, with the correct assumptions, the DCF is a technically perfect valuation method. Multiples only function insofar as they approximate, or implicate a certain set of discounted cash flow assumptions by drawing on the experience and analysis of a [more or less] efficient market. Therefore, we have to look at how EBITDA differs from the input of a DCF -- specifically, the free cash flow portion of the DCF. If we assume that EBITDA is a decent proxy for the earnings power of a business, then we need to add in the non-earnings portion of the FCF formula to make EBITDA more financially accurate. The way to do this is simply to subtract capital expenditures from EBITDA. Thus the answer to the question I was asked is very simply: "Industry B has higher capital expenditure requirements than industry A, and thus generates less free cash flow per dollar of revenue. Investors would however pay the same multiple of EBITDA-CAPEX for the two industries." Again, this simply demonstrates that multiples are predicated on the underlying free cash flow analysis. If you understand this simple rule (and you also understand DCFs and the stuff that goes into it) you should have a complete understanding of multiples. There are simply no magic numbers.

Another quick and dirty way to get an approximate multiple is to use the constant growth formula. Take next year's FCF projection and divide by the cost of capital less the implied growth rate (FCF1/Kc-G). This gives you a FCF multiple. You can then take the implied value of the business and turn that into an EBITDA multiple. Example: FCF1 = $10 EBITDA= $25 Kc = 10% G = 5% Implied Value = $200 Implied EV/EBITDA: 8.0x

Hope this is helpful to you