Step 1 – Entry Valuation – Calculating the implied entry valuation based on the entry multiple
and LTM EBITDA of the target firm is the first step in creating an LBO model.
Step 2 – Sources and Uses, the proposed transaction structure will then be shown in the “Sources and Uses” section. The “Sources” side will describe how the deal will be funded, while the “Uses” side will determine the overall amount of funds needed to make the acquisition. The biggest question that needs to be resolved is: How much equity must the financial sponsor
contribute?
Step 3 – Financial Projections – Following completion of the Sources & Uses table, the company’s expected free cash flows (FCFs) will be determined by the operating hypotheses (e.g., revenue growth rate, margins, interest rates on debt, tax rate). The amount of cash available for debt amortisation and the annual interest expense are both determined by the FCFs generated, making them a crucial component of an LBO.
Stage 4: Calculating Returns In this last step, the exit assumptions for the investment are made (exit multiple, date of exit, etc.), and the total funds collected by the private equity company are used to compute the IRR and cash-on-cash return, with a number of sensitivity tables linked below.
