LBO VALUATION AND RETURN

The principals of the PE firm HNI Partners are considering the acquisition of PGM, an
electronics firm that manufactures printed circuit boards. PGM is a subsidiary of a large
chemical company, which has decided that the business is no longer critical to the firm’s
future success and seeks to sell to the highest bidder.

Acquisition data indicate that PGM has current EBITDA of $100 million. The acquisition
is expected to require a purchase price equal to five times the current level of EBITDA or
$500 million. In addition to the equity investment from HNI Partners, the acquisition is
financed with 75% debt that has an interest rate of 14%. The debt has covenants that
require that all excess cash be used to retire principal, which means that the equity
investors will not receive anything until Year 5, when the firm is sold.

HNI Partners projects that it can grow EBITDA at a rate of 10% per year for five years
and then sell the firm, hopefully for six times EBITDA. When HNI sells the firm, the
firm’s outstanding debt will be repaid and the remaining funds distributed to the equity
investors. The platform and the exit multiples are assessed based on the prevailing
comparable companies in the similar industry and geography.
PGM
Earnings Estimates
Current year EBITDA $100 Growth rate in EBITDA 10%
Planned holding period 5 years corporate tax rate 35%
Depreciable life of assets 10 years Depreciation Expense $40

LBO Capital Structure

Debt to Value 75% Interest Cost 14%
Annual Capex $50.00
Acquisition & Sale EBITDA Multiples
Purchase Multiple- Platform Company (PGM) 5
Company Sale (Harvest) Multiple 6

The transaction requires an investment of $500 million and if all works as planned, it will
produce an EBITDA of $161.05 million in five years. Under this scenario, HNI Partners
will sell PGM for the projected six times EBITDA.

Assess the return of HNI partners when the firm is sold based on the levered method.

Are there any major differences if it was a completely unlevered transaction?