Leveraged Buyout (LBO) Model
AdvancedAlso known as: LBO Model A leveraged buyout (LBO) model is a financial model used to analyse the acquisition of a company funded largely with debt, estimating the returns that the equity investors, usually a private equity firm, can expect. An LBO model projects the target company's financial performance, models how its cash flows will be used to pay interest and repay debt, and estimates the value of the investors' equity when the company is sold. Key inputs include the purchase price, the mix of debt and equity, interest rates, operating forecasts, the holding period and the expected exit multiple. Key outputs are the internal rate of return and the money multiple on the equity invested. For example, a private equity firm buys a company for 100,000,000, funded with 60,000,000 of debt and 40,000,000 of equity. After five years, debt has been reduced to 30,000,000, and the company is sold for 150,000,000. Equity is worth 120,000,000, three times the original investment, an annual return of about 24.6%. LBO models show how returns depend on three main levers: growth in earnings, repaying debt and changes in the valuation multiple. They also help determine the maximum price a buyer can pay while meeting its target return.
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