Leveraged Buyouts Overview

Leveraged Buyouts (LBOs)

• LBOs are transactions where a company is acquired using a substantial amount of debt.
• Private equity funds typically initiate and structure LBOs, focusing on this type of transaction.
• The goal is to increase the company's value and achieve a profitable sale ("exit") after a period.
• The acquired company ("target") or an equivalent special purpose vehicle (SPV) handles the acquisition debt.
• Management buy-outs (MBOs) or management buy-ins (MBIs) occur when the target's managers are involved in the acquisition.

LBO Goals

• Understand the concept of Leveraged Buyouts (LBOs).
• Recognize the different approaches to structuring LBO transactions and the key elements driving value creation.
• Gain proficiency in applying LBO analysis for structuring and valuation purposes.

LBO Agenda

• Introduction, deal structuring, and value drivers of LBOs.
• Selected transactions as examples.
• LBO analysis as a valuation/structuring tool.

LBO Definition and Characteristics

• LBO transactions involve acquiring a company using a significant amount of debt to finance the acquisition price.
• Private equity funds usually initiate and structure these transactions.
• The equity component of the purchase price is provided by the buyout fund.
• The acquired company or an equivalent SPV is responsible for servicing the acquisition debt.
• The main objective is to increase the company's value and sell it for a profit ("exit") within a few years.
• Management buy-outs (MBOs) or management buy-ins (MBIs) involve managers acquiring a significant portion or the entire company.

LBO Market Volume

• LBO transaction volume has fluctuated over time, with notable peaks and troughs.
• Data from Preqin illustrate the number and values of LBO transactions.

Typical Financing Structure

• Senior debt (50-70%): Euribor/Libor + 225–300 bps, 7-9 years.
• High Yield (10-20%): 10y AAA-bonds + 500 bps, 10-12 years.
• Mezzanine (10-20%): Cash interest: 10y AAA-Bonds + 400 bps, Pay-in-kind rate: 400-600 bps, 10-12 years.
• Equity (25-40%): Expected IRR of (at least) 20-25%.

Legal Structuring of LBOs (Asset Deal)

• LBO fund acquires the assets of the target company from the seller.
• Target company's assets are transferred to the new company (NewCo).
• The seller receives the purchase price, less any potential future liabilities.

Legal Structuring of LBOs (Share Deal)

• LBO fund acquires shares of the target company from the seller.
• Target company is merged with the new company (NewCo).
• The seller receives the purchase price.

Case Study: Bartelsmann Springler LBO

• In 2003, Canven and Cindover acquired Bartelsmann Springler.
• The purchase price was EUR 1.1bn, financed by EUR 300m equity and EUR 800m debt.

Value Creation Drivers in LBOs

• Leverage effect increases return on equity.
• Interest tax shields reduce cost of capital (WACC).
• Modigliani Miller model provides the theoretical framework.
• Management incentives are strengthened by significant equity stakes.
• High leverage disciplines management (principal-agent theory).
• Operational enhancements focus on core business, divesting nonessential areas and improving efficiency within divisions.

Firm Valuation

• Future-oriented assessment of debt capacity by analyzing predicted free cash flows (before and after interest payments).
• Constraints on free cash flows and redemption periods are established.
• Past-oriented analysis involves assessing debt-to-EBITDA multiples, considering planned financing and market conditions.
• Calculating IRR for invested equity based on debt capacity, acquisition price, and expected exit price.

LBO Analysis vs DCF Methodology

• LBO analysis focuses on financing structure, CF generation for debt repayment, and target internal rate of return
• DCF valuation prioritizes free cash flows and terminal value for discounting at the weighted average cost of capital (WACC).
• Asset/equity valuation in LBOs involves iterative processes, with financing structures playing a key role.
• Discounted cash flow does not emphasize the financing structure, but rather the Free Cash Flows.

Important Parameters

• Acquisition Price: Price for target (unknown, variable in LBO analysis).
• Debt/EBITDA: Major multiple for maximum debt capacity calculation, with typical ceilings for total debt and senior debt.
• Exit Multiple/Exit Year: Assumptions for overall asset value (e.g., Exit Multiple = Entry Multiple).

LBO Analysis as an Iterative Procedure

• The process involves implied entry multiple, IRR calculation, and maximum debt capacity.
• Conditions for the IRR are set to ensure the IRR is higher than the target benchmark, indicating sufficient profitability.

LBO Example (Specific Company):

• Provides key financial forecasts and input data for a company (e.g., LBO Beispiel AG).
• Data such as income statement, cash flow statement, purchase price, values, etc are presented.