CASE I: COMPANY D 1.1. Lbo investment opportunity in year n D is a European, family owned company. D is a distributor of medical disposable supplies (like infusion sets, medical gloves, test strips, needles and syringes, facemasks, adult incontinence products, wound care products...) to hospitals in 25 countries. The company distributes a wide range of products on a recurring basis to over 50,000 customers. It benefits from a strong market share in its home country where it is by far the domestic leader on the infusion sets segment. Disposable medical products play a critical role in every medical practice. The size of the market in Europe is circa 50 bn. The need for disposable medical supplies has witnessed consistent growth in the recent years. Regulatory approvals, at a European level, are necessary to operate in this industry. However, companies in the sector are now challenged by Asian competitors. The increasing imports from Asia put pressure on price, as customers are price sensitive. Company D has reacted three years ago to this changing environment by opening a new production facility in Eastern Europe, in cooperation with a local partner, to manufacture large volumes. Debt was raised to finance this investment. That resulted in its current (end of year n) net debt of 20 m = 2.0x EBITDA. The analysis of a peer group shows that the average EBITDA/Revenue margin in the sector is of +4.5%. The family is facing a succession issue, as the current CEO is 65 and no one within the family is willing to replace him. Last year (year n-1) the family was approached by a trade buyer, but the negotiation failed on price, and because of the uncertainty about the buyer's intentions on future management (inside or external). A mid-market fund ('the fund') became aware of the situation by a small intermediary who specializes in the health care sector. The intermediary was not given a mandate by the family. He worked on the transaction on the basis on an informal agreement with the fund: The fund agreed on a 1% EV success fee in case the deal would be completed. The fund is used to work with a network of small M&A boutiques on a similar basis. The intermediary introduced the fund to a Mbo team, composed of: The incumbent Head of sales and marketing (aged 48) and the incumbent CFO of the company (aged 50). They believe they could run the company, with the head of sales and marketing in the CEO position. Both have spent most of their professional career within the company. The business plan elaborated by the Mbo team and presented to the fund is summarized as follows: m Realised Forecast n+3 n n+1 n+2 n+4 n+5 Revenue 200 210 230 250 255 260 5% 10% 9% 2% 2% 10,0 10,3 11,0 12,0 12,5 12,8 Change EBITDA EBITDA margin Free Cash Flow 5,0% 4,9% 4,8% 4,8% 4,9% 4,9% 3,0 3,1 3,3 3,6 3,8 3,8 . The business plan relies on: The development of international sales; The improvement of the company's information and management processes, which are limited; The improvement of logistics with the help of specialized consultants that the current CEO was not prepared to hire; The reinforcement of various management positions within the company. Both the intermediary and the Mbo team believe that the family would consider a lbo proposition based on an EV/EBITDA multiple above 7.0x. Question 1 (3 points): What are the merits and the main elements of risk of a Lbo on D? Question 2 (1 point): What type of governance measures would you recommend, to help the execution of the business plan? Question 3 (1 point): What should the fund do to transform this opportunity into a proprietary transaction? 1.2. Lbo structure Eventually the deal is completed in year n by the fund, at a price based on an EV/Year n EBITDA multiple of 7.5x, including transaction fees. Questions 4 to 7 (0.6 point per question): Please calculate (4) The Enterprise Value (EV) retained for the transaction and equity value, including transaction fees? (5) The amount of acquisition debt (in m) used to acquire the company and pay the transaction fees, assuming the equity invested in the Newco is 25 m (24.5 m by the fund and 0.5 m by the management)? (6) The consolidated net debt at closing (in m and multiple of year n EBITDA) of the Lbo. Do you regard this Lbo as highly or prudently leveraged? - (7) The consolidated net debt and net debt/EBITDA ratio at end of year n+5 considering the business plan detailed above. 1.3. Exit assumptions The fund assumes that at the end of year n+5 the company could be sold to a multinational, Asian- based, company, interested by acquiring a position on the European market, based on an EV/EBITDA multiple of 8x. The fund has incentivized the management via a rachet clause such that 10% of the capital gains of the fund above 2.0x (i.e. above a hurdle of 24.5 x 2.0 = 49.0 m) will be paid to management. Questions 8 to 13 (0.6 point per question): Please calculate (8) The equity value forecasted at exit based on an EV/EBITDA multiple of 8x, and the amount of 'value created'? (9) The contribution to value creation of EBITDA growth? (10) Please comment this contribution (is it be high or low, considering the standards of the buyout industry)? (11) The contribution to value creation of multiple arbitrage'? (12) The forecasted exit proceeds and multiple on invested capital for the fund? (13) The amount paid by the PE fund to the management after the trigger of the incentivization clause? CASE I: COMPANY D 1.1. Lbo investment opportunity in year n D is a European, family owned company. D is a distributor of medical disposable supplies (like infusion sets, medical gloves, test strips, needles and syringes, facemasks, adult incontinence products, wound care products...) to hospitals in 25 countries. The company distributes a wide range of products on a recurring basis to over 50,000 customers. It benefits from a strong market share in its home country where it is by far the domestic leader on the infusion sets segment. Disposable medical products play a critical role in every medical practice. The size of the market in Europe is circa 50 bn. The need for disposable medical supplies has witnessed consistent growth in the recent years. Regulatory approvals, at a European level, are necessary to operate in this industry. However, companies in the sector are now challenged by Asian competitors. The increasing imports from Asia put pressure on price, as customers are price sensitive. Company D has reacted three years ago to this changing environment by opening a new production facility in Eastern Europe, in cooperation with a local partner, to manufacture large volumes. Debt was raised to finance this investment. That resulted in its current (end of year n) net debt of 20 m = 2.0x EBITDA. The analysis of a peer group shows that the average EBITDA/Revenue margin in the sector is of +4.5%. The family is facing a succession issue, as the current CEO is 65 and no one within the family is willing to replace him. Last year (year n-1) the family was approached by a trade buyer, but the negotiation failed on price, and because of the uncertainty about the buyer's intentions on future management (inside or external). A mid-market fund ('the fund') became aware of the situation by a small intermediary who specializes in the health care sector. The intermediary was not given a mandate by the family. He worked on the transaction on the basis on an informal agreement with the fund: The fund agreed on a 1% EV success fee in case the deal would be completed. The fund is used to work with a network of small M&A boutiques on a similar basis. The intermediary introduced the fund to a Mbo team, composed of: The incumbent Head of sales and marketing (aged 48) and the incumbent CFO of the company (aged 50). They believe they could run the company, with the head of sales and marketing in the CEO position. Both have spent most of their professional career within the company. The business plan elaborated by the Mbo team and presented to the fund is summarized as follows: m Realised Forecast n+3 n n+1 n+2 n+4 n+5 Revenue 200 210 230 250 255 260 5% 10% 9% 2% 2% 10,0 10,3 11,0 12,0 12,5 12,8 Change EBITDA EBITDA margin Free Cash Flow 5,0% 4,9% 4,8% 4,8% 4,9% 4,9% 3,0 3,1 3,3 3,6 3,8 3,8 . The business plan relies on: The development of international sales; The improvement of the company's information and management processes, which are limited; The improvement of logistics with the help of specialized consultants that the current CEO was not prepared to hire; The reinforcement of various management positions within the company. Both the intermediary and the Mbo team believe that the family would consider a lbo proposition based on an EV/EBITDA multiple above 7.0x. Question 1 (3 points): What are the merits and the main elements of risk of a Lbo on D? Question 2 (1 point): What type of governance measures would you recommend, to help the execution of the business plan? Question 3 (1 point): What should the fund do to transform this opportunity into a proprietary transaction? 1.2. Lbo structure Eventually the deal is completed in year n by the fund, at a price based on an EV/Year n EBITDA multiple of 7.5x, including transaction fees. Questions 4 to 7 (0.6 point per question): Please calculate (4) The Enterprise Value (EV) retained for the transaction and equity value, including transaction fees? (5) The amount of acquisition debt (in m) used to acquire the company and pay the transaction fees, assuming the equity invested in the Newco is 25 m (24.5 m by the fund and 0.5 m by the management)? (6) The consolidated net debt at closing (in m and multiple of year n EBITDA) of the Lbo. Do you regard this Lbo as highly or prudently leveraged? - (7) The consolidated net debt and net debt/EBITDA ratio at end of year n+5 considering the business plan detailed above. 1.3. Exit assumptions The fund assumes that at the end of year n+5 the company could be sold to a multinational, Asian- based, company, interested by acquiring a position on the European market, based on an EV/EBITDA multiple of 8x. The fund has incentivized the management via a rachet clause such that 10% of the capital gains of the fund above 2.0x (i.e. above a hurdle of 24.5 x 2.0 = 49.0 m) will be paid to management. Questions 8 to 13 (0.6 point per question): Please calculate (8) The equity value forecasted at exit based on an EV/EBITDA multiple of 8x, and the amount of 'value created'? (9) The contribution to value creation of EBITDA growth? (10) Please comment this contribution (is it be high or low, considering the standards of the buyout industry)? (11) The contribution to value creation of multiple arbitrage'? (12) The forecasted exit proceeds and multiple on invested capital for the fund? (13) The amount paid by the PE fund to the management after the trigger of the incentivization clause