1. LEVERAGED BUYOUT

2. Meaning
• A Leveraged buyout is a takeover of a company, or
of a controlling interest in a company, using
borrowed money, usually amounting to 70% or more
of the total purchase price (with the remainder being
equity capital)
• The goal of a Leveraged buy-out can be of a dual
nature: a strategic-industrial nature and a financial-
speculative nature
SUMEET AKEWAR

3. History
The leverage buyout market rose to prominence in
the late 1980s
• Private equity firms such as Kohlberg Kravis &
Roberts (KKR) and Fortsmann were making
headlines with large buyouts including KKR’s $25
billion buyout of RJR Nabisco in 1988
• The success of these financial sponsors (i.e. PE
firms) and others earning favorable returns,
attracted many other parties to the industry
SUMEET AKEWAR

4. Theory of LBO
• The Company / Private equity firm acquiring the
target company will finance the acquisition with a
combination of debt and equity
• Portion of the debt incurred in an LBO is
secured by the assets of the acquired
business
• The bought-out business generates cash flows
that are used to service the debt incurred in its
buyout
• In essence, an asset acquired using leverage
helps pay for itself
SUMEET AKEWAR

5. Theory of LBO
• In a successful LBO, equity holders often receive
very high returns because the debt holders are
predominantly locked into a fixed return
• Financial buyers invest in highly leveraged
companies seeking to generate large equity returns
• An LBO fund will typically try to realize a return on
an LBO within three to five years
SUMEET AKEWAR

6. Types of LBO
• LBO: When a company is bought by another company
made just for this purpose. Stocks of the acquired company
are hold by a partnership of investors (usually institutional)
• MBO: It occurs when the operation is set up by the
managers of the company and the objective being to take
control of the company. It is the company management
buying back its shares, Management buyout
• Family buyout: it occurs when the shares of the company
are held by a family group which retains control of the
company as a result without actually having the financial
means to make the purchase
SUMEET AKEWAR

7. LBO Candidate Criteria
•Steady and predictable cash flow
•Clean balance sheet with little debt
•Strong, defensible market position
•Limited working capital requirements
•Minimal future capital requirements
•Heavy asset base for loan collateral
•Divestible assets
•Strong management team
•Viable exit strategy
•Synergy opportunities
•Potential for expense reduction
SUMEET AKEWAR

8. Valuation
• Market Comparisons - Metrics such as multiples of
revenue, net earnings and EBITDA that can be
compared among public and private companies.
Usually a discount of 10-40% is applied to private
companies due to lack of liquidity of their shares
• DCF Analysis - Is based on the concept that the
value of a company is based on the cash flows it
can produce in the future. An appropriate discount
rate is used to calculate NPV
SUNNY SANCTIS

9. LBO Transaction Structure
Offering % of Cost of Lending Parameters Likely
Sources
Transaction Capital
Senior 50 – 60 % 7 – 10 % 5 – 7 Years Payback Commercial Banks
Debt 2x – 3x EBITDA Credit Companies
Mezzanine 20 – 30 % 10 – 20 % 7 – 10 Years Payback Public Market
Financing 1x – 2x EBITDA Insurance Co’s
LBO Funds
Equity 20 – 30 % 25 – 40 % 4 – 6 Years Exit Management
Strategy LBO Funds
Investment banks
SUNNY SANCTIS

10. Sources & Uses of Funds
• Capitalization - Most leveraged buyouts make use of
multiple tranches of debt to finance the transaction
• Bank Debt - is usually provided by one of more
commercial banks lending to the transaction
- Revolving Credit Facility: Source of funds that the
bought-out firm can draw upon as its working capital
needs dictate
- Term Debt: Secured by the assets of the bought-out
firm, is also provided by banks & insurance companies
in the form of private placement investments
SUNNY SANCTIS

11. Sources & Uses of Funds
• Mezzanine Financing - It exists in the middle of the
capital structure and generally fills the gap between
bank debt and the equity
• Equity Component
- Private equity firms typically invest alongside
management to ensure the alignment of
management and shareholder interests
- Preferred equity is attractive because of
dividend interest & equity ownership component
SUNNY SANCTIS

12. Leverage Statistics
• Balance Sheet Transaction Adjustments : “Actual”
& “Adjustments”
• Pro Forma Financial Statements : Company’s
revised financial projections post-LBO
- Transaction Fee Amortization
- Management Fees
- Interest Expense
- Transaction Goodwill
• Equity Sponsor IRR Calculation
SUNNY SANCTIS

13. Exit Strategies
Sale Often the equity holders will seek an outright
sale to a strategic buyer, or even another
financial buyer
Initial While an IPO is not likely to result in
Public the sale of the entire entity,
Offering it does allow the buyer to realize a gain on its
investment
Recapital The equity holders may recapitalize by re-
ization leveraging the entity,replacing equity with more
debt, in order to extract cash from the company
SUNNY SANCTIS

14. FINANCIAL
ANALYSIS

15. LBO Analysis
ABC CO
• Transaction Summary @ Deal Equity
• Equity Purchase Price per Share 32.00
• Common Shares Outstanding 113.5
• Equity Value 3,631.0
• Plus: Total Debt 694.5
• Less: Cash (148.6)
• Transaction Value 4,176
JAIKISHAN PARMAR

16. Sources of Funds
INTEREST
• Debt & Preferred Stock Amount Percent Cash
Bank Revolver 5.0 0.1% 6.5%
Acquisition Senior Debt 2,205.8 50.0% 6.5%
Acquisition Mezzanine Financing 661.8 15.0% 15.0%
Total Debt & Preferred Stock 2,872.6 65.1%
Equity Amount Percent % Equity
Management 10.0 0.2% 0.6%
Equity Sponsor 1,529.0 34.7% 99.4%
Total Equity 1,539.0 34.9% 100.0%
Total Sources of Funds 4,411.7 100.0%
JAIKISHAN PARMAR

17. Use of Funds
Uses of Funds Amount Percent
Purchase Common Equity 3,631.0 82.3%
Refinance Short-term Debt 5.0 0.1%
Refinance Senior Debt Refinance Short-term Debt 5.0 0.1%
689.5 15.6%
Refinance Mezzanine Debt 0.0 0.0%
Transaction Fees 86.2 2.0%
Total Uses of Funds $4,411.7 100.0%
JAIKISHAN PARMAR

18. Balance Sheet Adjustments
Actual Adjustments LBO
06/29/03 Sources Uses Pro Forma
• Assets
Cash and Cash Equivalents 148.6 4,411.7 (4,411.7) 148.6
Accounts Receivable 96.5 0.0 0.0 96.5
Inventory 49.8 0.0 0.0 49.8
Other Current Assets 21.8 0.0 0.0 21.8
• Total Current Assets 316.6 4,411.7 (4,411.7)
316.6
Net Property,P & M 1948.3 0.0 0.0 1,948.3
Transaction Goodwill 0.0 0.0 0.0 0.0
Transaction Costs 0.0 0.0 86.2
86.2
Goodwill 279.5 0.0 0.0 279.5
Intangibles 47.1 0.0 0.0 47.1
Other Assets 193.3 0.0 0.0 193.3
• Total Assets 2,784.8 4,411.7 (4,325.5) 2,871.0
JAIKISHAN PARMAR

19. Balance Sheet Adjustments
Liabilities and Shareholders' Equity ADJUSTMENT LBO
ACTUAL SOURCE USE PROFORMA
Bank Revolver 5.0 5.0 (5.0) 5.0
Accounts Payable 91.0 0.0 0.0 91.0
Other Current Liabilities 218.8 0.0 0.0 218.8
• Total Current Liabilities 314.8 5.0 (5.0) 314.8
Other Liabilities 201.0 0.0 0.0 201.0
Senior Debt 689.5 2,205.8 (689.5) 2,205.8
Subordinated Debt 0.0 661.8 0.0 661.8
• Total Liabilities 1,205.3 2,872.6 (694.5) 3,383.5
Existing Preferred Stock 0.0 0.0 0.0 0.0
Acquisition PIK Preferred 0.0 0.0 0.0 0.0
Common Equity 1,579.5 1,539.0 (3,631.0) (512.5)
• Total Liabilities and Equity 2,784.8 4,411.7 (4,325.5) 2,871.0
JAIKISHAN PARMAR

20. Income statement
Pro Forma Income Statement
Estimated Projected
Fiscal Year End 2003 2004 2005 2006 2007 2008
Sales 3,139.8 3,532.3 3,973.8 4,410.9 4,852.0 5,288.7
Cost of Goods Sold 1,591.2 1,766.1 1,947.2 2,117.2 2,304.7 2,512.1
Gross Profit 1,548.6 1,766.1 2,026.6 2,293.7 2,547.3 2,776.6
SG&A 273.4 282.6 317.9 352.9 388.2 423.1
Other Operating Expenses 664.5 706.5 755.0 838.1 921.9 1,004.9
EBITDA 610.7 777.1 953.7 1,102.7 1,237.3 1,348.6
Depreciation 309.9 398.2 497.6 607.8 729.1 782.9
Amortization 5.9 5.9 5.9 5.9 5.9 5.9
EBIT 294.9 373.0 450.2 489.0 502.2 559.8
Amortization of Transaction Fees 12.3 12.3 12.3 12.3 12.3 12.3
Management Fees 1.0 1.0 1.0 1.0 1.0 1.0
Interest Expense (net) 236.0 236.0 229.2 216.4 198.1 175.3
Other (Income) / Expense 6.9 6.9 6.9 6.9 6.9 6.9
Pre-Tax Income 38.7 116.8 200.8 252.3 283.9 364.4
Provision for Taxes 14.2 42.9 73.8 92.7 104.3 133.9
Net Income to Common 24.5 73.8 127.0 159.6 179.6 230.5
JAIKISHAN PARMAR

21. Cash flow
Cash Flow From Financing Activities
07 08 09 10 11
Change in Revolver (5.0) 0.0 0.0 0.0 0.0
Change in Senior Debt (64.7) (165.6) (253.4) (340.1) (390.4)
Change in Subordinated Debt 6.7 6.7 6.8 6.9 6.9
Existing Preferred Stock 0.0 0.0 0.0 0.0 0.0
Plus: Non-cash Dividend 0.0 0.0 0.0 0.0 0.0
Less: Common Dividend Paid 0.0 0.0 0.0 0.0 0.0
Cash Provided / (63.1) (158.9) (246.6) (333.2) (383.4)
(Used) by Investing Activities
Beginning Cash Balance 148.6 155.3 162.0 168.8 175.6
Change in Cash 6.7 6.7 6.8 6.9 6.9
Ending Cash Balance 155.3 162.0 168.8 175.6 182.5
JAIKISHAN PARMAR

22. Balance sheet
Liabilities and Shareholders' Equity
2006 2007 2008 2009 2010 2011
Bank Revolver 5.0 0.0 0.0 0.0 0.0 0.0
Accounts Payable 91.0 96.8 106.7 116.0 126.3 137.7
Other Current Liabilities 218.8 246.1 276.9 307.4 338.1 368.5
Total Current Liabilities 314.8 342.9 383.6 423.4
464.4 506.2
Other Liabilities 201.0 201.0 201.0 201.0 201.0 201.0
Senior Debt 2,205.8 2,141.1 1,975.5 1,722.1 1,382. 991.7
Subordinated Debt 661.8 668.4 675.1 681.9 688.8 695.7
Total Liabilities 3,383 3,353 3,235 3,028 2,736 2,394
Existing Preferred Stock 0.0 0.0 0.0 0.0 0.0 0.0
Acquisition PIK Preferred 0.0 0.0 0.0 0.0 0.0 0.0
Common Equity (512.5) (438.6) (311.6) (152.0) 27.6 258.0
Total Liabilities and Equity 2,871 2,914 2,923 2,876 2,763 2,652
JAIKISHAN PARMAR

23. Objectives of LBO
• Investors takeover a company when they see it
undervalued or its assets are not being used
properly
• Investors takeover the company, improve it
causing its value to increase then sell it back to the
market at a higher price share
• Sometimes they sell parts of it which could give
back a big amounts of money
RITESH MACHHI

24. Objectives of LBO
• Generally, the acquiring group plans to run the
acquired company for a number of years, boost its
sales and profits, and then take it public again as a
stronger company
• In other instances, the LBO firm plans to sell off
divisions to other firms that can gain synergies, but
the inherent risks are great due to the heavy use of
financial leverage
• Saving a lot of taxes because they are borrowing a
lot of money
RITESH MACHHI

25. Pros & Cons Of Using Leverage
PROS
• Large interest and principal payments can force
management to improve performance and operating
efficiency
• As the debt ratio increases, the equity portion of the
acquisition financing shrinks to a level at which a private
equity firm can acquire a company by putting up
anywhere from 20-40% of the total purchase price
• Interest payments on debt are tax deductible thus tax
shields are created and they have significant value
RITESH MACHHI

26. Pros & Cons Of Using Leverage
CONS
• Events such as recession, litigation, or changes in the
regulatory environment can lead to financial distress
• Weak management at the target company or
misalignment of incentives between management and
shareholders can also pose threats
• Increase in fixed costs from higher interest payments can
reduce a leveraged firm’s ability to weather downturns
• In troubled situations, management teams of highly
levered firms can be distracted by dealing with lenders
concerned about the company’s ability to service debt
RITESH MACHHI

27. CASES

28. RJR Nabisco Case
A good example of an LBO is KKR’s buyout of RJR Nabisco
• On October 28,1988 Ross Johnson, the company’s CEO,
had formed a group of investors that was prepared tobuy all
RJR’s stock for $75 per share in cash and take the company
private
• RJR’s share price immediately moved to about
$75,handling
shareholders a 36 percent gain over the previous day’s price
of $56
• At same time RJR’s bonds fell, since it was clear that
existing bondholders would soon have a lot more company
• Johnson’s offer lifted RJR onto the auction block. VAIBHAV ATRI

29. RJR Nabisco Case
• Four days later KKR bid $90 per share,$79 in cash plus PIK
preferred valued at $11
• The resulting bidding contest had many surprises, but in the
end it was Johnson group against KKR
• KKR offered $109 per share, after adding $1 per share in
the last hour
• The KKR bid was $81 in cash, convertible subordinated
debentures valued at about $10,and PIK preferred shares
valued at $18.Johnson group bid $112 in cash and securities
• RJR board chose KKR although Johnson’s group had
offered $3 per share more, its security valuations were
viewed as “softer” and perhaps overstated
VAIBHAV ATRI

30. Tata – Corus Deal
• Tata Steel's $8.23 billion leveraged buyout of UK
steel producer Corus is multi-faceted
• The Deal Comprises:
- $3.88 billion equity contribution from Tata Steel
- Fully underwritten non-recourse debt package
of $5.63Bn
- Revolving credit facility of $669 million
VAIBHAV ATRI

31. Tata – Corus Deal
• £3.3 billion is being raised at the SPV level
- Credit Suisse will provide 45% and
- ABN AMRO and Deutsche will pick up 27.5%
each
• $1.8 billion bridge debt is being raised at the Tata
Steel level in India is being shared between
Standard Chartered and ABN AMRO
• In addition, Standard Chartered is providing
subordinated debt of £196 million to Tata Steel
VAIBHAV ATRI

32. THANK YOU