PE Debt Fund Interview Case Study

Basically no deal because it's already overlevered and they bought a dog (local/regional cyclical distributor with low barriers to entry if a national came in and decided to compete on price, although I have no idea if there are national paint distributors) at a bad price since it just came off of bankruptcy and there's not much room to grow because they're the market leader and with the second co that takes you up to 3/4 of the market-you don't want to get into a zero sum game and basically only compete on price to gain market share. I also doubt there are many hard assets because it's a distribution company.

But questions, in no particular order and kind of in a stream of consciousness because I had a few drinks already...:

-explore the 45MM line: is that a working capital revolver, which it seems like it is if they're in and out of it, and if it is, what are they using it for? I would guess that they distribute to mom & pop shops, painters, etc (I don't know the paint distribution industry at all so I'm making assumptions based on industries where I've done deals) and maybe an HD or Loews, but I would guess they purchase nationally directly from manufacturers and self distribute anyway. So what they're most likely doing is extending better payment terms to smaller customers (i.e. no credit receivables) while they pay their manufacturers (credit entities, or at least better than their payables) on better terms, so they're putting their AR/AP out of whack and their DSO is far too long, 90-120 days, for non credit receivables. You can do that the other way although it's not optimal so, for example, you could offer better terms to HD or Loews if they were your receivable and the mom & pops were your payable-less credit risk and most likely distributed risk.

-if it's a working capital line, is there acquisition debt that they want you to ask about or did they pay 30MM of equity, which would be odd? This is too flat of a capital stack for a PE leveraged acquistion. Sr, sub, mezz? Explore terms on that. I've never done a 30MM deal outside of a follow on acq, so I don't know if it gets much beyond sr debt at that level, but get the term, amortization and cash sweeps, and if there are any restrictions on cash flows beyond sr debt service: i.e. does the sr sweep 50%+ of free cash and therefore you can't service a second lien, or at least at terms that are palatable to an sub issuer. EBITDA is useful but you need to know current "I" when you're going behind that. Plus you need to know the equity invested: because I doubt they paid all cash, are they trying to pull out all of their equity (plus a return possibly) and leave no skin in the game?

-you don't want smoke blown up your bum when you're discussing projections, but 5% project rev growth when they did 25% the prior year, and a 100% growth in ebitda from the prior year, seems like a pretty bad investment because it says to me that they don't have much more room to grow, especially in a cyclical industry so you're starting to max out your debt service ability. Also, if they bought it at 5x (I'm assuming of ebitda and not an ev/ebit or 5 turns of debt) the acquisition year's ebitda was 6MM, so the first year they decreased earnings. Yes, they bought it 3 years ago out of bk and we were just coming off of the recession, especially in building products, materials and services, but I don't want to invest (EQ or D) at the plateau. You'd also want a comp analysis because maybe paint distributors historically trade at 10x and you happened to buy at 5, but I doubt it.

-gross margins of 30% I'm assuming and maybe I'm reading it wrong, because this past year they had 100MM rev and 10MM ebitda, so ebitda margins of 10%. That's a high delta when it's distribution and not manufacturing or services. The 10% is actually quite good, but the gap is high to gross since there's no value added other than distribution channels on the company's part.

-Audited/reviewed statements with notes or a well put together CIM would give you most of this.

I'm sure there are more questions to be asked but that would get me to the yes/no on a 10 minute initial look if I wanted to see more. I'm not a debt guy though and this is probably more of an acquisition analysis.