Professional Documents
Culture Documents
LBO Financing
Prof. Ian Giddy
New York University
Leveraged Buy-Outs
LBO is a transaction in which an investor group acquires
a company by taking on an extraordinary amount of
debt, with plans to repay the debt with funds generated
from the company or with revenue earned by selling off
the newly acquired company's assets
Leveraged buy-out seeks to force realization of the
firm potential value by taking control (also done by
proxy fights)
Leveraging-up the purchase of the company is a
"temporary" structure pending realization of the value
Leveraging method of financing the purchase permits
"democracy" in purchase of ownership and control--you
don't have to be a billionaire to do it; management can
buy their company.
Copyright 2002 Ian H. Giddy
Leveraged Financing
Leveraged Finance is the provision of
bank loans and the issue of high yield
bonds to fund acquisitions of companies
or parts of companies by
an existing internal management team
(a management buy-out),
an external management team (a
management buy-in), or
a third party (a leveraged acquisition).
Copyright 2002 Ian H. Giddy
Company
has
unused
debt
capacity
Takeover?
Leveraged
buyout?
Leveraged
recapitalization?
Corporate Restructuring
Divestiturea reverse acquisitionis
evidence that "bigger is not necessarily
better"
Going privatethe reverse of an IPO
(initial public offering)contradicts the
view that publicly held corporations are
the most efficient vehicles to organize
investment.
Going Private
A public corporation is transformed into a privately
held firm
The entire equity in the corporation is purchased by
management, or managment plus a small group of
investors
These account for about 20% of public takeover
activity in recent years in the United States.
Can be done in several ways :
Seagate
1.
2.
3.
Seagate
1998
SEAGATE
VERITAS
Seagate
2000
Seagate
shareholders
100% worth $16b
SEAGATE
Distribution
taxable at
39.2%?
VERITAS
Seagate
Nov 2000
Seagate
shareholders
$2b cash
NEWCO
Cost $1.65b
after tax
Management,
Chase,
Goldman
109m Veritas
shares
(worth $18.7b)
SEAGATE
Disk drive
business
128m Veritas
shares
(worth $22b)
VERITAS
Silver Lake
Partners
Seagate
NEWCO
Disk
drive
business
Debt $1b
Equity $1b
Management,
Chase,
Goldman
IPO or sale of
company
Restructuring
Efficiencies
Divestitures
Financial
? years
Copyright 2002 Ian H. Giddy
3-9 months
5-7 years
Corporate Financial Restructuring 13
Debt ($m)
Debt ($m)
Equity ($m)
EBITDA
Interest
Coverage Ratio
Copyright 2002 Ian H. Giddy
Equity ($m)
1
5.5
1
2
5
1.09
3
4.5
1.273
1080000
550000
1.96
1401000
500000
2.80
1761150
450000
3.91
Coverage Ratio
4
5
4
3.5
1.55845 1.957218
2166323
400000
5.42
2623271
350000
7.50
6
3
2.4818
2835434
300000
9.45
-400000
-600000
-800000
FCFF
FCFF
- Interest*(1-T)
- Principal repayment
= FCFE
Copyright 2002 Ian H. Giddy
Interest*(1-T)
1
220000
330000
500000
-610000
Principal repayment
2
253000
300000
500000
-547000
FCFE
3
4
5
6
290950 334592.5 384781.4 404020.4
270000
240000
210000
180000
500000
500000
500000
0
-479050 -405408 -325219 224020.4
LBO Financing
NEWCO
Disk
drive
business
Senior
debt $1b
Mezzanine
What securities?
What returns?
What investors?
Equity $0.25b
Expected Return
Equity
Equity
Preferred
Preferred equity
equity
Convertible
Convertible debt
debt
Subordinated
Subordinated debt
debt
Senior
Senior unsecured
unsecured debt
debt
Senior
Senior secured
secured debt
debt
Risk
Copyright 2002 Ian H. Giddy
Convertibles
V
a
l
u
e
o
f
C
o
n
v
e
r
t
i
b
l
e
Conversion
Value
Market
Value
Market Premium
Straight
Bond Value
B
o
n
d
($) 0
Price Per Share of Common Stock
Copyright 2002 Ian H. Giddy
Warrants
V
a
l
u
e
o
f
W
a
r
r
a
n
t
Market
Value
Market Premium
Theoretical
Value
($)
0
Preferred Equity
Legally a form of equity
Claim senior to ordinary equity
May have fixed dividend, or may be
participating
But cannot trigger liquidation if payment
missed
Par value determines liquidation claim
Convertible Preferred
Used by venture capital firms
Permit investors to participate in growth
But give preference in liquidation if the
venture fails
And disguise share value (tax!)
A variant PERCS* give issuer right to
convert into common stock
Disadvantages
Higher after-tax cost
than debt
Lower return on
equity
Limited investor
interest
Driven by investor
needs
Company
hedges
Company
does not
hedge
Debt or
equity are
Not good enough
Corporate Financial Restructuring 28
Case Study
The John Case LBO Proposal
Devise a recommended financing plan
Buyers
VC Investors