The Daily Technical #23: What are the main levers in an LBO that drive returns?

Good morning. Welcome to the 23rd edition of The Daily Technical. You’re here for one reason so let’s dive in.

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OVERVIEW OF YESTERDAY’S QUESTION
How do you calculate equity value from enterprise value?

1. Understand the Components: Start with the enterprise value, which represents the total value of a company, factoring in both its equity and debt components.

2. Subtract Net Debt: Calculate net debt by adding up the company's gross debt and any debt-like claims (like preferred stock) and then subtracting cash and any cash equivalents. This isolates the company's net obligations.

3. Subtract Preferred Stock: Deduct the value of preferred stock if it exists. Preferred stock acts somewhat like debt because it typically has fixed dividends.

4. Adjust for Minority Interest: If the company has minority interest, subtract this from the enterprise value. Minority interest represents the portion of subsidiaries not owned by the parent company.

Each step focuses on isolating the equity interest remaining for shareholders after debts and obligations are accounted for.

Common Mistakes

1. Forgetting to exclude non-operating assets can skew your calculation. Always double-check you’re only considering operating assets.

2. Often, preferred stock is wrongly added to equity instead of subtracted. It’s a debt-like liability for which you need to subtract the value from enterprise value.

3. Some students forget to account for minority interest, especially if it’s not explicitly listed.

Key Takeaways / TLDR

• Equity Value = Enterprise Value – Net Debt – Preferred Stock – Minority Interest

• Start with enterprise value and subtract net debt, considering both cash and debt-like features like preferred stock.

• Remember to also subtract preferred stock and minority interests; these are commonly missed but crucial adjustments.

TODAY’S QUESTION
What are the main levers in an LBO that drive returns?

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