13. LBO Basics

13. LBO Basics - Presentation to Investment Banking and...

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January, 2008 Presentation to Investment Banking and Private Equity Boot Camp Regarding LBOs: Overview DealMaven 1350 Broadway, Suite 2412 New York, New York (212) 944-6105 support@dealmaven.com www.dealmaven.com
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The Shell Corporation LBO sponsor (e.g. Blackstone) incorporates a new company (often called a Newco). Newco issues equity to the LBO sponsor and raises additional debt and equity financing from other investors. Once Newco receives capital commitments from the various financing sources, it can make a credible bid to the Board of TargetCo.
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The Importance of Management Generally, not a good idea investing in companies with bad management. o Such deals are widely viewed as being high risk. Preferred approach is to find an attractive business with an excellent management team. Management’s overall equity ownership percentage typically increases dramatically after an LBO.
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Why Not Simulate Financial Leverage? Buying stock on margin (replicating leverage at the individual investor level) is not equivalent to the company changing its capital structure. When a company increases its leverage, the value of the business actually increases by the present value of the interest tax shield.
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Sources of LBO Financing Bank Debt (Revolver + Term Loan) High Yield Bonds / Bridge Loan Mezzanine (“Mezz”) Shares in LBO LP, LLC Common Stock
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Bank Debt - Prepayments Can be paid down early from excess cash flow. Typically specifies a schedule of minimum principal payments to be made. May also be divided into tranches. Term Loan A, which is paid back rather quickly, Term Loan B and C tranches, which are paid back almost entirely at the end of the term.
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Maintenance Covenants If certain levels of cash flow are not met (e.g. EBITDA / Interest Expense), the banks can force a liquidation. Concerns about these maintenance covenants are one key reason that a sponsor generally won’t finance just with bank debt, despite the lower interest rates.
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Obtaining a Commitment Letter Bankers from the lead bank need to be involved in the due diligence process, to get comfortable with the credit risk of the target. A larger portion of the deal will usually be "syndicated" out to other commercial banks.
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Obtaining a Commitment Letter (Ct’d) The lead bank, LBO Sponsor and company management will develop a "bank book", which contains the following: Detailed information about the company. Credit highlights and risks. Historical and projected financials. Terms of the deal (e.g. the maintenance covenants).
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Bank Debt: How Much Is Too Much? Typically sponsors may borrow 40-50% of the total
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13. LBO Basics - Presentation to Investment Banking and...

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