Lbo Model

Leveraged Buyout Model (LBO) Copyright 2009 Investment Banking Institute www. ibtraining. com Table of Contents I. Uses for An LBO Model on Sell-side and Buy-side Construction of LBO Model Structure and Assumptions Worksheet Purchase price calculation and considerations Sources and Uses II. Capital Structure Alternatives Integration of Proforma Balance Sheet into Financial Model Income Statement, Balance Sheet and Cash Flow Projections Integration III. IRR Analysis for Financial Sponsor and Hybrid Debt Lender IV. Sensitivity Tables V. Credit Ratios 2 Uses for an LBO Model on the Buy-Side

A Leveraged Buyout Model (“LBO Model”) is a key analysis used by private equity firms / financial sponsors to evaluate a potential acquisition The goal of an LBO is to acquire a company by financing the purchase with as much debt as the cash flows of the business and the debt markets will support The more debt a financial sponsor is able to obtain to finance an acquisition, the less of an equity investment the financial sponsor has to make The higher the leverage levels, the higher the expected Internal Rate of Return (“IRR”) is for the financial sponsor / private equity firm The goal of an LBO model is to establish expected internal rates of return (“IRR”) for the acquisition using a financial model that reflects the following: Purchase price assumptions and the necessary cash needed to finance the acquisition (uses of cash) Capitalization assumptions: leverage (amount of debt), different debt tranches, equity investment amounts (sources of cash) Base case financial projections for the income statement, balance sheet and cash flow based upon the purchase price and capitalization assumptions The LBO model should be built with the ability to run sensitivities for a range of purchase prices, capitalization structures, operating assumptions, etc. 3 Uses for an LBO Model on the Buy-Side Private Equity Firms / Financial Sponsors usually have a required rate of return hurdle f the expected IRR range for a potential acquisition does not meet or exceed the hurdle rate, often the PE firm / financial sponsor does not move forward with the acquisition PE firms required rates of return usually range from 15% on the low-side to 30% on the high-side, with the typical range targeted at 18% – 25% The IRR analysis is strongly driven by the amount of leverage With higher leverage levels, the financial sponsor has to invest less equity, and therefore has a higher IRR Therefore, often the goal is to leverage up the Company as much as the cash flow of the business and the debt markets will permit More leverage makes the business inherently riskier, as more of the cash flows generated by the business will be used to pay interest expense and debt service

The amount of leverage is largely determined by the state of the debt markets 4 Uses for an LBO Model on the Buy-Side The amount of leverage is largely determined by the state of the debt markets For the last several years, the debt markets have been experiencing excess liquidity Because of the excess liquidity, lenders have been allowing higher leverage levels Depending on the industry and business, transactions over the last several years have been leveraged at between 4. 0x – 6. 0x recent EBITDA These higher leverage levels allow the financial sponsor to pay more for the company and still attain its required IRR The leverage level of 4. 0x – 6. x recent EBITDA is comprised of some combination of senior secured loans and junior loans (second lien, third lien, unsecured loan, hybrid debt / equity securities) Lenders may require the financial sponsor to have a minimum equity investment as % of total capitalization Minimum equity contribution is typically around 20% – 25%, depending on industry and purchase price 5 Uses for an LBO Model on the Buy-Side The LBO Model is also used for the Lenders’ perspectives Lenders like to see expected leverage and coverage ratios based upon the Company’s projected income statement, balance sheet, cash flow, and capitalization Typical ratios that lenders like to see are: Leverage Ratios

Total Debt / EBITDA Net Debt / EBITDA Secured Debt / EBITDA EBITDA / Net Interest Expense EBITDA / Cash Interest Expense Interest Coverage Statistics EBITDA / Net Interest Expense EBITDA / Cash Interest EBITDA – Capex / Net Interest Expense EBITDA – Capex / Cash Interest Expense EBITDA – Capex – ? W/C / Net Interest Expense EBITDA – Capex – ? W/C / Cash Interest Expense EBITDA – Capex – ? W/C – Taxes/ Net Interest Expense EBITDA – Capex – ? W/C – Taxes/ Cash Interest Expense 6 Uses for an LBO Model on the Sell-Side Investment Bankers often construct LBO models to: Provide this service to a financial sponsor client that is interested in pursuing an acquisition

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Provide this service to a Company client where the company is being sold – Illustrates the range of purchase prices financial buyers could pay and still attain their required IRR – Uses the current debt markets conditions as assumptions for the capitalization As a “gut-check” for other valuation methodologies (DCF, Public comparable company multiples, acquisition multiples) 7 Table of Contents I. Uses for An LBO Model on Sell-side and Buy-side Construction of LBO Model Structure and Assumptions Worksheet Purchase price calculation and considerations Sources and Uses II. Capital Structure Alternatives Integration of Proforma Balance Sheet into Financial Model

Income Statement, Balance Sheet and Cash Flow Projections Integration III. IRR Analysis for Financial Sponsor and Hybrid Debt Lender IV. Sensitivity Tables V. Credit Ratios 8 Construction of LBO Model Structure and Assumptions Worksheet Build upon the Financial Model template, and modify accordingly Add a worksheet for the LBO Model Structure and Assumptions The LBO Assumptions tab will have drivers for Purchase price assumptions Uses: Cash required to acquire the company and pay associated fees Sources: Cash available to acquire the company (debt, equity) USES = SOURCES Capitalization assumptions IRR Analyses 9 Purchase Price Calculation and Considerations

The determination of the purchase price is complicated and typically involves a full-scale valuation (DCF, public company multiples and transaction multiples) as well as extensive due diligence on Company’s operations, financial condition, management team, customers, suppliers, assets, etc. If the Company has publicly traded equity, then typically a purchase price would be calculated much as TEV is calculated: (Offer price per share * fully diluted shares) + debt + minority interest + preferred interest – cash For the purposes of this model, we are assuming the LBO of a private company, and therefore using the most recent 12 month EBITDA and EBITDA multiple as the drivers of purchase price Purchase price = EBITDA * EBITDA multiple We are assuming the transaction closes on December 31, 2008 LBO of Company A ($ in millions) TRANSACTION ASSUMPTIONS Closing Date 31-Dec-08 2008 EBITDA $60. 0 EBITDA Multiple 6. 0x

Transaction (Enterprise) Value $360. 0 Less: Existing Debt ($190. 8) Plus: Cash $0. 0 Implied Equity Purchase Price $169. 2 10 Sources and Uses Total Uses is the amount of cash necessary to complete the transaction Usually equals the purchase price plus transaction fees and any other cash payment required as part of the transaction – For the LBO of a publicly traded company, purchase price is calculated as (offer price per share * shares outstanding ) + debt + minority interest + preferred equity – cash, and cash on target’s balance sheet is used as a source Other required cash payments could be payments to certain parties that kick-in with a change of control (e. g. anagement payments, premiums to outstanding notes, etc. ) Total Sources illustrates the sources of capital to complete the transaction Usually equals debt + equity + any other cash available Total Uses = Total Sources LBO of Company A ($ in millions) TRANSACTION ASSUMPTIONS Closing Date 31-Dec-08 2008 EBITDA $60. 0 EBITDA Multiple 6. 0x Transaction (Enterprise) Value $360. 0 Less: Existing Debt ($190. 8) Plus: Cash $0. 0 Implied Equity Purchase Price $169. 2 TOTAL USES Uses Equity Purchase Price Paydown Existing Debt Financing Fees Investment Banking Fees Legal Fees Other Fees and Expenses $169. 2 $190. 8 8. 0 4. 0 1. 0 1. 0 Total Uses $374. 0 TOTAL SOURCES Amount EBITDA of Funded Multiple Capitalization $0. 0 0. 0x 0. 0% 0. 0 0. 0x 0. 0% 120. 0 2. 0x 32. 1% 90. 0 1. 5x 24. 1% 60. 0 1. 0x 16. 0% 270. 0 4. 5x 72. 2% 104. 0 27. 8% $374. 0 100. 0% Capitalization Cash Revolver Term Loan Senior Bonds Unsecured Notes with Warrants Total Debt Sponsor Equity Total Sources 11 Interest Rate Cash Pay PIK 7. 0% 7. 5% 9. 5% 0. 0% 0. 0% 0. 0% 0. 0% 10. 0% % of Fully Diluted Equity na na na 5. 0% Capital Structure Alternatives The Total Sources Side is comprised of the capitalization assumptions The financial sponsor typically wants to leverage the transaction as much as the business’s cash flow and the lenders will allow

Depending on the conditions of the debt markets and lenders’ requirements, financial sponsors would typically provide approximately 20% – 30% of the capitalization as an equity investment The debt is comprised of different securities usually provided by different lenders Revolver / Term loan (senior secured loans) are usually provided by typical commercial banks such as Citigroup, JPMorganChase, GE Commercial Finance, etc. , and have lower interest rates Junior loans such as second and third lien pieces and unsecured loans can be provided by public markets (high yield issue) and private placements (hedge funds, junior loan providers, investment bank providing balance sheet financing, etc. )

Often, the most junior piece on the capital structure will have equity warrants attached; the most junior lender will require a much higher rate of return than the more senior lenders The financial sponsors want to attain as much of the lower-priced debt as possible; in this example, we have assumed that total senior leverage (revolver + term loan) = 2. 0x EBITDA The example shows a 4. 5x EBITDA leverage ratio, and 1. 7x EBITDA equity ratio (LTM EBITDA is $60 million in this case) Capitalization Cash Revolver Term Loan Senior Bonds Unsecured Notes with Warrants Total Debt Sponsor Equity Total Sources TOTAL SOURCES Amount EBITDA % of Funded Multiple Capitalization $0. 0 0. 0x 0. 0% 0. 0 0. 0x 0. 0% 120. 0 2. 0x 32. 1% 90. 0 1. 5x 24. 1% 60. 0 1. 0x 16. 0% 70. 0 4. 5x 72. 2% 104. 0 27. 8% $374. 0 100. 0% 12 Interest Rate Cash Pay PIK 7. 0% 7. 5% 9. 5% 0. 0% 0. 0% 0. 0% 0. 0% 10. 0% % of Fully Diluted Equity na na na 5. 0% Creation of Proforma Balance Sheet Proforma Balance Sheet ($ in millions) Balance Sheet Assets Cash Accounts Receivable Inventory Other Current Assets Total Current Assets Historical Dec. 31 2008 $0. 0 $16. 0 $10. 0 $1. 0 $27. 0 Financing/ Transaction Adjustments $0. 0 0. 0 0. 0 0. 0 $0. 0 Proforma Dec. 31 2008 $0. 0 16. 0 10. 0 1. 0 $27. 0 Gross PP&E Cumulative Depreciation Net PP&E $323. 2 $45. 0 $278. 2 $0. 0 0. 0 $0. 0 $323. 2 45. 0 $278. 2 Amortizable Intangibles Goodwill

Total Assets $0. 0 5. 0 $310. 2 $8. 0 65. 2 $73. 2 $8. 0 70. 2 $383. 4 Liabilities Accounts Payable Accrued Liabilities Other Current Liabilities Total Current Liabilities $11. 0 $2. 4 $0. 0 $13. 4 $0. 0 0. 0 0. 0 $0. 0 $11. 0 $2. 4 0. 0 $13. 4 Existing Debt Revolving Credit Facility Term Loan Unsecured Debt $40. 8 $100. 0 $50. 0 New Debt Revolving Credit Facility Term Loan Second Lien Unsecured Debt $0. 0 0. 0 0. 0 0. 0 $0. 0 $120. 0 $90. 0 $60. 0 $0. 0 $120. 0 $90. 0 $60. 0 Other Liabilities Total Liabilities $2. 0 $206. 2 $0. 0 $79. 2 $2. 0 $285. 4 Shareholders Equity Retained Earnings Common Stock Total Shareholders Equity $94. 0 10. 0 $104. ($100. 0) $94. 0 ($6. 0) Total Liabilities and Equity Check $310. 2 $0. 0 $73. 2 $0. 0 ($40. 8) ($100. 0) ($50. 0) $0. 0 $0. 0 $0. 0 ($6. 0) 104. 0 $98. 0 $383. 4 $0. 0 13 Creating a proforma balance sheet on a new worksheet allows for the integration of the new capital structure / sources into the existing financial model In the purchase of a private company, the seller typically sweeps all of the cash on the balance sheet at closing In the LBO of a publicly traded company, cash would not typically be swept as it is part of the offer price per share There may be a writeup or writedown of the value of the AR, Inventory and PP&E; this has an mpact on the tax basis All financing fees incurred in the transaction can still be capitalized and amortized The Goodwill is Purchase Price + M&A Fees – New Debt – Old Book Value of Equity; this amount can no longer be amortized In the purchase of a public company, goodwill is calculated as equity value of purchase – book value of equity The buyer typically assumes all of the normalcourse short term liabilities The “old debt” is eliminated (as the seller typically uses proceeds from the sale to pay all existing debt) In the purchase of a public company, often the existing debt of the acquired company remains outstanding, and is “assumed” by the acquirer

The “new debt” is fed from the Total Sources cells Shareholders’ Equity may require a plug to allow for the Total Assets to equal Total Liabilities + Shareholders’ Equity Creation of Proforma Balance Sheet ($ in millions) PROJECTED FINANCIAL STATEMENTS Fiscal Year Ending December 31, 2009P 2010P 2011P 2012P 2013P 2008A Pro Forma 2008P Balance Sheet Assets Cash Accounts Receivable Inventory Other Current Assets Total Current Assets $0. 0 $16. 0 $10. 0 $1. 0 $27. 0 $0. 0 $16. 0 $10. 0 $1. 0 $27. 0 $0. 0 $17. 5 $10. 5 $1. 0 $29. 0 $0. 0 $18. 4 $11. 0 $1. 0 $30. 4 $1. 9 $19. 3 $11. 6 $1. 0 $33. 8 $7. 5 $20. 3 $12. 2 $1. 0 $40. 9 $0. 0 $21. 3 $12. 8 $1. 0 $35. 0 Gross PP&E

Cumulative Depreciation Net PP&E $323. 2 $45. 0 $278. 2 $323. 2 $45. 0 $278. 2 $337. 9 $51. 8 $286. 1 $353. 3 $58. 8 $294. 5 $369. 5 $66. 2 $303. 3 $386. 6 $73. 9 $312. 6 $404. 4 $82. 0 $322. 4 Amortizable Intangibles Goodwill Total Assets $0. 0 $5. 0 $310. 2 $8. 0 $70. 2 $383. 4 $6. 4 $70. 2 $391. 7 $4. 8 $70. 2 $399. 9 $3. 2 $70. 2 $410. 5 $1. 6 $70. 2 $425. 4 $0. 0 $70. 2 $427. 6 Liabilities Accounts Payable Accrued Liabilities Other Current Liabilities Total Current Liabilities $11. 0 $2. 4 $0. 0 $13. 4 $11. 0 $2. 4 $0. 0 $13. 4 $11. 7 $2. 5 $1. 0 $15. 2 $12. 3 $2. 6 $1. 0 $15. 9 $12. 9 $2. 8 $1. 0 $16. 6 $13. 5 $2. 9 $1. 0 $17. 4 $14. 2 $3. 1 1. 0 $18. 2 Existing Debt: Revolving Credit Facility Term Loan Unsecured Debt $40. 8 $100. 0 $50. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 New Debt Revolving Credit Facility Term Loan Senior Bonds Unsecured Debt $0. 0 $0. 0 $0. 0 $0. 0 $0. 0 $120. 0 $90. 0 $60. 0 $1. 5 $100. 0 $90. 0 $66. 0 $1. 0 $80. 0 $90. 0 $72. 6 $0. 0 $60. 0 $90. 0 $79. 9 $0. 0 $40. 0 $90. 0 $87. 8 $3. 8 $0. 0 $90. 0 $96. 6 Other Liabilities Total Liabilities $2. 0 $206. 2 $2. 0 $285. 4 $2. 0 $274. 7 $2. 0 $261. 5 $2. 0 $248. 5 $2. 0 $237. 3 $2. 0 $210. 7 Shareholders Equity Retained Earnings Common Stock

Total Shareholders Equity $94. 0 $10. 0 $104. 0 ($6. 0) $104. 0 $98. 0 $13. 1 $104. 0 $117. 1 $34. 4 $104. 0 $138. 4 $58. 0 $104. 0 $162. 0 $84. 1 $104. 0 $188. 1 $112. 9 $104. 0 $216. 9 Total Liabilities and Equity Check $310. 2 $0. 0 $383. 4 $0. 0 $391. 7 $0. 0 $399. 9 $0. 0 $410. 5 $0. 0 $425. 4 $0. 0 $427. 6 $0. 0 14 The Proforma Balance Sheet is then fed into the existing model’s balance sheet, and integrated appropriately into the cash flow and income statement We are assuming the transaction occurs on Dec. 31, 2008 Be careful when you are integrating to NOT CHANGE the income statement, balance sheet and cash flow statement for the period right efore the transaction date The income statement and cash flows for 2008 will not change because of the acquisition (as it occurs on Dec. 31, 2008, after the 2008 period has ended) Only the 2009 and onward income statement and cash flows will reflect the impact of the new capital structure / balance sheet Income Statement, Balance Sheet and Cash Flow Projections Integration The remainder of the projection model is completed as we discussed in the last class Construction of a debt and interest schedule and revolver model allows the integration of the income statement, balance sheet and cash flow projections Be careful to make sure that the cash flow for the period irectly following the transaction closing is being calculated as the changes in the proforma balance sheet and that period directly following the transaction 15 Table of Contents I. Uses for An LBO Model on Sell-side and Buy-side Construction of LBO Model Structure and Assumptions Worksheet Purchase price calculation and considerations Sources and Uses II. Capital Structure Alternatives Integration of Proforma Balance Sheet into Financial Model Income Statement, Balance Sheet and Cash Flow Projections Integration III. IRR Analysis for Financial Sponsor and Hybrid Debt Lender IV. Sensitivity Tables V. Credit Ratios 16 IRR Analysis for Financial Sponsors

The financial sponsor’s IRR analysis accounts for all cash flows coming from the financial sponsor for or to the Company, as well as all cash flows from the Company to the financial sponsor during the period from closing the acquisition to the sale of the company (other than management fees) Often, the company pays the financial sponsor “management fees” in exchange for the financial sponsor’s ongoing support, management and advice provided to the management team as well as covering the financial sponsor’s direct expenses and overhead allocation Management fees are expensed as an SG&A expense on the company’s income statement and range greatly, depending on company’s size

Typically financial sponsors do not include the payment of management fees in the IRR analysis 17 IRR Analysis for Financial Sponsors Amounts that the financial sponsor pays for or to the company are counted as cash outflows; examples include Initial equity investment Any additional equity investments made into the company during the holding period Any amount received by the financial sponsor from or by the company are counted as cash inflows (other than management fees); examples include: Proceeds from sale of the company Common or preferred dividends paid to financial sponsor Proceeds from a recapitalization 18 IRR Analysis for Financial Sponsors

Calculate the sale of the business, assuming it is sold on December 31, 2013 Use the 2013 projected EBITDA, and the same EBITDA multiple assumption used for the purchase of the Company in 2008 Calculate the proceeds to the financial sponsor, taking into account any equity dilution that may result from warrants, management stock plan, transaction fees, etc. SALE OF COMPANY A IN 2013 Closing Date 31-Dec-13 2012 EBITDA EBITDA Multiple Transaction Value Less: Total Debt Plus: Cash Balance $76. 6 6. 0x $459. 5 (190. 5) 0. 0 Less: Transaction Fees (1) Equity Value % Equity to Sponsor Equity to Sponsor (6. 6) $262. 4 95. 0% $249. 3 % Equity to Unsecured Lender Equity to Unsecured Lender 5. 0% 13. 1 (1) Assumes 1% of Purchase Price for Investment Banking Fees, plus $2 million in legal and other expenses. 19 IRR Analysis for Financial Sponsors The following table illustrates the categories to calculate the IRR to the financial sponsor Any cash flow from the financial sponsor for or to the company is negative Any cash flow from or for the company to the financial sponsor is positive In general there is no closed-form solution for IRR, particularly with variable cash flows for each year; however, excel can easily calculate the IRR using the following formula: = IRR (total cash flows over period, estimated IRR) From Total Sources table

SALE OF COMPANY A IN 2013 Closing Date 31-Dec-13 2012 EBITDA EBITDA Multiple Transaction Value Less: Total Debt Plus: Cash Balance Less: Transaction Fees Equity Value % Equity to Sponsor Equity to Sponsor $76. 6 6. 0x $459. 5 (190. 5) 0. 0 (1) % Equity to Unsecured Lender Equity to Unsecured Lender IRR to Financial Sponsor Initial Equity Investment Dividends Proceeds at Sale Total Cash Flows to Sponsor IRR Calculation 12/31/08 ($104. 0) 0. 0 0. 0 ($104. 0) 19. 1% 12/31/09 $0. 0 0. 0 0. 0 $0. 0 12/31/10 $0. 0 0. 0 0. 0 $0. 0 12/31/11 $0. 0 0. 0 0. 0 $0. 0 12/31/12 $0. 0 0. 0 0. 0 $0. 0 12/31/13 $0. 0 0. 0 249. 3 $249. 3 (6. 6) $262. 4 95. 0% $249. 3 5. 0% $13. 1

IRR = IRR (Total Cash flows to sponsor 2009 – 2013, estimated IRR) 20 IRR for Hybrid Securities Holder The following table illustrates the categories to calculate the IRR to the Unsecured Lender Recall from the sources and uses, that the unsecured lender loaned an amount of $60 million at a 10% PIK interest rate, with equity warrants equal to 5% of the fully-diluted equity of the company upon a sale Any cash flow from the lender to the company is negative (initial loan) Any cash flow from the company to the lender is positive (includes any cash interest received during the period, the payment of the principal balance plus any accrued interest at maturity, and equity to the unsecured lender at a sale)

In certain cases, the exercise of the warrants would require the payment by the warrant holders to the Company of an exercise price; the proceeds from the warrant exercise would be a source of cash for the seller This is very transaction-specific and would be extensively negotiated in the agreement between the company and the lenders From Total Sources table IRR to Unsecured Lender Initial Loan Cash Interest Received Principal Repayment at Sale Equity from Warrants at Sale Total Cash Flows to Lender IRR Calculation From Debt and Interest Schedule – Cash Interest only 12/31/08 ($60. 0) 0. 0 0. 0 0. 0 ($60. 0) 12. 8% 12/31/09 $0. 0 0. 0 0. 0 0. 0 $0. 0 12/31/10 $0. 0 0. 0 0. 0 0. 0 $0. 0 12/31/11 $0. 0 0. 0 0. 0 0. 0 $0. 0 12/31/12 0. 0 0. 0 0. 0 0. 0 $0. 0 12/31/13 $0. 0 0. 0 96. 6 13. 1 $109. 8 From Balance Sheet IRR = IRR (Total Cash flows to lender 2006 – 2010, estimated IRR) 21 Table of Contents I. Uses for An LBO Model on Sell-side and Buy-side Construction of LBO Model Structure and Assumptions Worksheet Purchase price calculation and considerations Sources and Uses II. Capital Structure Alternatives Integration of Proforma Balance Sheet into Financial Model Income Statement, Balance Sheet and Cash Flow Projections Integration III. IRR Analysis for Financial Sponsor and Hybrid Debt Lender IV. Sensitivity Tables V. Credit Ratios 22 Sensitivities on Financial Model

Running sensitivities on your LBO assumptions is a good check to make sure the model is running properly as well as being able to show how a change in one variable will impact the whole model Sensitivity tables illustrate the impact on the model for a range of variable changes, and this LBO model has the flexibility to run sensitivities on the LBO assumptions (purchase price, capital structure, etc. ) and the business’s operations (growth rates, margins, etc) to see the impact on the expected IRRs of the financial sponsor and unsecured lender Setting up a sensitivity table: Input a range of variables on the x-axis of the chart Input a second range of variables on the y-axis of the chart link the intersection cell on the left hand corner of the chart to the cell that has the proper formula Highlight the data sensitivity table

Go to “Data” toolbar, select “Table”; a box pops up that has Row Input Cell and Column Input Cell – – For Row Input Cell, click on the cell that has the driver / assumption input for the x axis variable For the Column Input Cell, click on the cell that has the driver / assumption input for the y axis variable 23 Table of Contents I. Uses for An LBO Model on Sell-side and Buy-side Construction of LBO Model Structure and Assumptions Worksheet Purchase price calculation and considerations Sources and Uses II. Capital Structure Alternatives Integration of Proforma Balance Sheet into Financial Model Income Statement, Balance Sheet and Cash Flow Projections Integration III.

IRR Analysis for Financial Sponsor and Hybrid Debt Lender IV. Sensitivity Tables V. Credit Ratios 24 Credit Ratios In determining how much money to lend to companies / financial sponsors for an acquisition, lenders analyze the amount of coverage they will have on their loans Lenders typically look at the following projected credit ratios, based on the base case scenarios, and then will run stress tests on the model to look at the impact on these ratios in the event the company takes a turn for the worse Leverage Ratios Total Debt / EBITDA Net Debt / EBITDA Secured Debt / EBITDA EBITDA / Net Interest Expense EBITDA / Cash Interest Expense 4. 1x 4. 1x 3. 0x 2. 8x 3. 7x 3. 7x 3. 7x 2. 6x 3. 0x 4. 3x 3. x 3. 3x 2. 2x 3. 3x 5. 0x 3. 0x 2. 9x 1. 8x 3. 6x 5. 9x 2. 5x 2. 5x 1. 2x 4. 1x 7. 5x Interest Coverage Statistics EBITDA / Net Interest Expense EBITDA / Cash Interest EBITDA – Capex / Net Interest Expense EBITDA – Capex / Cash Interest Expense EBITDA – Capex – ? W/C / Net Interest Expense EBITDA – Capex – ? W/C / Cash Interest Expense EBITDA – Capex – ? W/C – Taxes/ Net Interest Expense EBITDA – Capex – ? W/C – Taxes/ Cash Interest Expense 2. 8x 3. 7x 2. 1x 2. 9x 2. 1x 2. 9x 1. 6x 2. 1x 3. 0x 4. 3x 2. 3x 3. 3x 2. 3x 3. 3x 1. 7x 2. 4x 3. 3x 5. 0x 2. 5x 3. 8x 2. 6x 3. 9x 1. 8x 2. 8x 3. 6x 5. 9x 2. 8x 4. 5x 2. 8x 4. 6x 2. 0x 3. 2x 4. 1x 7. 5x 3. x 5. 8x 3. 2x 5. 8x 2. 1x 4. 0x 25 Build an LBO Model from Scratch Build an LBO Model for Company B, using the historic financial statements (available electronically) Use the assumptions you feel are appropriate for projecting the Income Statement, balance sheet, and cash flow Use the following assumptions for the acquisition and financing: Acquisition – Closing date is December 31, 2008 – Purchase price is 7. 0x 2008 EBITDA Multiple Uses – Financing Fees are equal to 3% of purchase price – Investment banking fees are equal to 1% of purchase price – Legal fees are equal to $1 million – Other fees and expenses are equal to $1 million Sources Equity must equal 20% of total uses / sources – Revolver availability is $20 million, with total amount funded equal to 75% of Inventory and 65% of Accounts Receivable at a 5% cash pay interest rate – Term Loan is equal to 2. 5x 2008 EBITDA, to be amortized over 7 years, at a 5% cash pay interest rate – Second Lien debt is equal to 1. 5x 2008 EBITDA, with a 10% cash pay interest rate – Unsecured Notes with Warrants fill the balance of the capital structure; 10% PIK rate with warrants equal to 15% of fully diluted equity upon sale of company Annual management fees to financial sponsor of $1 mm starting in 2007 Amortize fees over 5 year period

Sale of Business in 2012 – Sold at 7. 0x 2012 multiple – Transaction fee equal to 1% of purchase price for investment banking fees plus $2 million in legal and other expenses Calculate the IRR to the financial sponsor Calculate the IRR to the unsecured lender with warrants Calculate sensitivity tables for the following: – IRR to financial sponsor for range of multiples paid and equity investment as % of total capital – IRR to unsecured lender for range of multiples paid and equity investment as % of total capital – Maximum revolver drawn for range of multiples paid and equity investment as % of total capital Add summary and credit ratios tables 26

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