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Case Study

The LBO of Plato Data

Prof Ian Giddy
New York University

The management team of  BB Services is considering a leveraged buyout of their company from the existing owners. For several months they have worked closely with a private equity firm on analyzing the possibilities. At last they have come up with some numbers to show the banks and potential equity investors. The idea is that they would form a new company, Plato Data, to buy the existing company.   

The proposed purchase price of BB Services is EUR60 million. In addition the new company would assume EUR5.5 million worth of long-term lease obligations (this is the present value of the lease obligations). Fees and expenses are expected to run at 7% of the purchase price. Expected new capex and restructuring costs are estimated at $5.1 million up front. After these investments, only maintenance capital expenditures would be needed for several years.

Plato Data expects to have EBIT of EUR9 million in the first year after purchase. This is predicted to grow at 15% for the first 3 years and 5% thereafter.                      

Depreciation expenses amount to some EUR3 million p.a.. The company's effective tax rate is 25%.

The challenge is financing the buyout. Discussions with banks suggest that for this kind of business it might be difficult to obtain an acquisition loan unless EBIT interest coverage is at least 1.8. At this level, the cost of funds would be quite high (see table), but the prospective owners expect to be able to repay the loans within 4-5 years. The cost of borrowing would be a spread over the relevant interest rate swaps rate, which was currently 4.5% p.a.

The senior managers, who would continue to run the company, have managed to raise EUR1.5 million among themselves to invest in the company. The remainder must be raised by the private equity firm, whose investors generally look for a 25% return and an exit plan within 5 years.  

The partners have pledged that no dividends will be paid for the first 5 years. Similar companies (with little or no debt) have been sold at a multiple of 6x EBITDA minus net debt. (This group is hoping for more, but not counting on it).                                                                          

(a) What is the total cost of the deal?

(b) What is the company's debt capacity, and how much external private equity financing is needed?   

(c) How long do you estimate it will take for Plato Data to pay down its debt? (1 year, 2 years, 3 years, 4 years, 5 years, 6 years, more)              

(d) What approximate rate of return can the management team expect to make if the predictions work out?    (-15%, 15%, 20%,23%,  28%, 32%)
                          
                                             

For smaller and riskier firms

 

If interest coverage ratio is

 

greater than

and no more than

Rating is

Spread is

 

0.50

D

14.00%

0.5

0.80

C

12.70%

0.8

1.25

CC

11.50%

1.25

1.50

CCC

10.00%

1.5

2.00

B-

8.00%

2

2.50

B

6.50%

2.5

3.00

B+

4.75%

3

3.50

BB

3.50%

3.5

4.50

BBB

2.25%

4.5

6.00

A-

2.00%

6

7.50

A

1.80%

7.5

9.50

A+

1.50%

9.5

12.50

AA

1.00%

12.5

 

AAA

0.75%



A proposed solution may be found at platodata_solution.xls



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