Slide 1 - SIRC Welcomes

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					      Presentation on Private Equity




They buy companies…and then sell them
(hopefully) at a profit in a few years



           May 27, 2009
Quick primer on industry jargon:



• Private equity firm = financial sponsor (e.g. The Blackstone
Group)
• Strategic investor = corporation (e.g. Walmart)
• LBO = leveraged buyout
The private equity process
• Private equity firms raise ‘funds’ – e.g. ABC Fund I, ABC Fund II
• Within each fund, the private equity firm is a General Partner (GP). GP
directly invests 1% of the fund
• All other investors are Limited Partners (LP) and they invest 99% of the
fund
• GP – LP is an important distinction both for legal purposes and also for
understanding how PE process works
• The fund itself is structured as a limited partnership
• Funds invest in multiple companies, acquire a controlling stake (usually
100% of equity)
• IRR threshold is 20-25% depending on size of the fund
• Lifetime of fund is ~ 5-10 years, this means that all companies in the fund
must be sold within this period
 PE hiring

• Private Equity firms usually setup groups based on Industry and/or
Geography
• Many of the big firms are global
• Most firms are small with 50-100 investment professionals
• Some firms separate investment team from portfolio management team
• At entry level, most PE firms hire investment banking analysts with 2
years of experience
• Hard to break into industry, best way to do so is through contacts
• Lucrative and better hours than banking
• Culture tends to vary by firm – most PE guys are ex-bankers so some
similarities in culture
  PE exits
• Exits can be of the following types:
    • IPO
    • Sale to another PE firm
    • Sale to a strategic investor




“Any fool can buy a company. You should be congratulated when you
sell.”
                                 -- Henry Kravis, founding partner of KKR
How do private equity firms make money?

• How do Limited Partners make money
   • Periodic return on capital (e.g. dividends), 80% of profits
   • Profit on exit, proportionate to investment


• How do General Partners make money
   • Management fee of 2% per annum on raised fund
   • Carry or Carried Interest, usually 20% of profits
   • Profit on exit, proportionate to investment
What company makes a good target for a
buyout?

• Mature Industry
• Mature Company
• Strong Management Team
• Low Leverage
• Low CapEx Requirements
• Strong Cashflows
• Good Exit Options
3-step IRR calculation for PE deals
Step 1
•   Determine purchase price
•   Determine how much will be paid for using debt vs. equity
•   What is the entry multiple (i.e. EV/EBITDA of x)
Step 2
•   Project company’s cash flows over investment horizon (e.g. over 5 years)
•   Use any excess cash (after operating expenses and interest has been paid) to pay
    down debt
•   Equity holders receive no cash during these years
Step 3
•   Assume an exit multiple (i.e. EV/EBITDA of x)
•   Multiply this with EBITDA in exit year (e.g. in year 5)
•   You now have EV. EV – outstanding debt = Value of Equity at Exit
•   Using Equity put in from Step 1 and Equity at exit from Step 3, you can calculate
    IRR of equity investment
Barneys Case Study
•   Deal size ~ $950 million
•   Financed by 30% equity, 70% debt
     •   GPs invest 1% of the equity, LPs invest 99%
•   Assume 5 year investment horizon
•   2% management fees per annum
•   Profit sharing among GPs & LPs is 20% and 80% respectively
•   Assume $120mm debt paid down each year & no cash distribution to equity
    holders during years 1-5
•   Assume entry multiple (EV/EBITDA) of 8.0x and exit multiple (EV/EBITDA) of 8.5x
1. How much money did the General Partners invest initially?
2. How much money will the General Partners make in management fees on
   this deal?
3. What is the IRR earned by GPs?
Barneys IRR (for LPs)
Deal value                            950
Total Equity                30%       285
Total Debt                  70%       665

Equity from GPs                      2.85
Equity from LPS                    282.15

Entry multiple              8.0x
Exit multiple               8.5x

                     Year               0      1    2     3     4        5

EBITDA                                       120   120   120   120     120

Debt begin                                   665   545   425   305     185

Debt end                                     545   425   305   185      65

EV at exit                                                            1020

Debt at exit                                                            65

LPs Equity value at exit                                             945.45

CF to LPs                          -282.15     0    0     0     0    945.45

IRR                                                                    27%
Barneys IRR (for GPs)
Deal value                           950
Total Equity                30%      285
Total Debt                  70%      665

Equity from GPs                      2.85
Equity from LPS                    282.15

Entry multiple              8.0x
Exit multiple               8.5x

                     Year              0      1    2     3     4       5

EBITDA                                      120   120   120   120    120

Debt begin                                  665   545   425   305    185

Debt end                                    545   425   305   185     65

EV at exit                                                          1020

Debt at exit                                                          65

GPs Equity value at exit                                             9.55

Management fees                               2    2     2     2       2

Total CF to GPs                     -2.85     2    2     2     2    11.55

IRR                                                                  81%

				
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posted:5/14/2011
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