The LBO (or
leveraged buyout
A leveraged buyout (LBO) is one company's acquisition of another company using a significant amount of borrowed money ( leverage) to meet the cost of acquisition. The assets of the company being acquired are often used as collateral for the loa ...
) valuation model estimates the current value of a
business to a "financial
buyer
Procurement is the method of discovering and agreeing to terms and purchasing goods, services, or other works from an external source, often with the use of a tendering or competitive bidding process. When a government agency buys goods or serv ...
", based on the business's forecast financial performance. An already-completed five-year
financial forecast
A financial forecast is an estimate of future financial outcomes for a company or project, usually applied in budgeting, capital budgeting and / or valuation; see .
Depending on context the term may also refer to listed company (quarterly) ea ...
and two assumptions are all that are necessary to create a first draft of a comprehensive LBO valuation of the business.
From a processing standpoint, the model makes a copy of the already completed five-year forecast and uses that copy (and any changes made to it) for projecting future
operating results. As such, the original forecast is preserved.
The model analyzes the value of a business from the point of view of a "financial buyer" who owns no other businesses in that industry and, therefore, expects all of its investment return to result solely from the future operations of the business. The LBO valuation model assumes that the buyer has investigated a business and
operating plan and believes the business will achieve the financial results that have been forecast.
From a timing standpoint, the LBO valuation model assumes that the financial buyer intends to purchase the business at the beginning of year two of a five-year forecast and intends to own the business for the ensuing four years, and then sell the business.
In order to generalize the analysis across a potentially infinite range of "deal" attributes, the model assumes the financial buyer is buying only the
asset
In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value of ownership that can ...
s of the business and assuming none of its
liabilities. Therefore, the
seller
Sales are activities related to selling or the number of goods sold in a given targeted time period. The delivery of a service for a cost is also considered a sale.
The seller, or the provider of the goods or services, completes a sale in r ...
of the business needs to pay off all of the liabilities of the business (and in all likelihood, any tax owed as a result of the gain realized on the sale of the assets) from the purchase price paid by the financial buyer.
References
{{Citation , title=LBO Valuation Model , url=http://www.corpfin.net/newsite/models/lbo.shtml , publisher=Corporate Finance Network , accessdate=2009-02-12
Private equity