Session 13

LBO:
1. What is an LBO?
Cash Based acquisition funded by large amount of debt at varying interest
rates and with different kinds of debt structures.
i.
FCX-PD (a kind of LBO)
ii.
KKR-DG
iii.
KKR-RJR NABISCO
2. What
a.
b.
c.
d.
e.
f.

are the characteristics of typical LBO candidate?

The firm is not doing well? ROI, ITR, ATR
Firm has lot of asset built-up: Fixed assets, brands, WC
The assets can be disposed-off, can be used as collateral
Asset Stripping
The firm is undervalued in the market
The shareholder group is not diverse

3. What
a.
b.
c.
d.
e.

is the business model of a buyout firm?

Identify a target with LBO characteristics
Have access to sources of funding
The target has a potential value if turned around
Infuse large amount of debt into BS
Pay the existing owners through cash and delist the target (This is
done to gain free ride with regards to decision making like getting
rid of emotionally attached businesses etc)
Improve the targets performance generate free cash flow
Deliver the target over a period of time increase the value of
equity exit
Exit: take the firm public & go for OFS (offer for Sale) or sell a part
or whole of the firm to another buyout firm to another strategic
investor for a better premium
Reason for exiting coz a buyout firm is a financial investor and
hence would like to exit at the end of your investment horizon.

f.
g.
h.
i.

Increase Value by:

Only by deleverage
EBITDA expansion
EBITDA expansion, multiple expansion , deleverage

Price = EPS * P/E

EPS represents performance & P/E represents perception get paid to talk

Call transcripts
CFOs Presentation
Communication cost to capital markets
All these are done to improve the P/E expansion by improving perception
about the firm

CAPEX equals Depreciation only for firms that already have a lot of asset built-up
and is not technology oriented so does not need constant upgrade. Then all you
are left with is maintenance CAPEX which can be met with cash available. If you
have growth capex then you have to improve cash flows a lot. IF you only have
maintenance CAPEX to bother with then all you have to do is improve the
turnover to improve the free cash flows.

Debt Capital Markets

Types of Debt: Public capital markets/ Private Capital Markets Term Loan Private
Placement
Interest Rates: Fixed / Floating
Location: Domestic, International, Euro, Global
Convertibility: FC, PC, NC
Bonds with call & Put

Credit Rating Advisory

Valuing Debt Instruments and working on the yield Curve
Understanding & interpreting the yield curve

Yield Curve as leading indicator

Yield Curve: Yield vs maturity shape:
1. Normal Yield Curve:
Short Run Interest Rates < Long- Run Interest rates
2. Inverted Yield Curve:
Short-Run Interest rates > Long-run Interest rates
3. Flat Yield Curve

Term Premium:
Yield = base rate + term premium
Liquidity preference/ Expectations/ Preferred Habitat/ Segmentation Theory

Yield to value a bond:

1. Yield to maturity
Face Value: 10000
Maturity: 8
Coupon: 9%
YTM: 10% (Intermediate coupons are reinvested at YTM till N)
Value: Price (1, 2, 3, 4, 5)
Checklist:

Yield Curve interpretation shape & direction: shape as a predictor of

future economic outlook
Parallel shift in the yield curve
Yield pick up

DB research division
In-house research division
A trade in a direct fashion trading
Advising: a client; in-house trading desk monetise the idea or information

Information: Arbitrage relative value trades is nothing but finding out arbitrage
in the bond markets
Arbitrage is a short run phenomenon
Relative value trade: arbitrage derived from yield curve data
Boot strapping model
Cubic spline model
Affline model
NSE uses NS model: Nelson-Siegel Model (ZCYC): ZCYC Zero Coupon Yield
Curve