Private Equity Basics

Leveraged Buyouts (LBOs) 101: Things Every Aspiring IB Analyst Needs to Know If you are preparing for a role in Investment Banking or Private Equity, there is one concept you must master—>the LBO Here’s a breakdown for clarity and interviews What is an LBO? - An LBO is when a company is acquired using a significant amount of debt (leverage). - The idea is simple: use a small portion of equity, borrow the rest, buy the company and let the company's own cash flows pay down the debt over time. It's like buying a house with a mortgage —>but instead of living in it, you are trying to improve its value and sell it for more. Key Elements of an LBO Model: 1) Purchase Price Assumption – How much are we paying? 2) Debt Structure – Types of debt used (senior, mezzanine, etc.) 3) Operating Projections – Revenue, margins, and free cash flow 4) Debt Paydown Schedule – How and when the debt is repaid 5) Exit Assumption – Sell the business after 3–7 years 6) Returns Analysis – Typically measured by IRR and Cash-on-Cash Multiple What Makes an LBO Attractive? 1) Stable cash flows to service debt 2) Low CapEx needs 3) Potential for margin improvement or cost cutting 4) Asset-rich businesses for downside protection Keep these things in mind while preparing for interviews 1) Can you walk through a basic LBO model? 2) What levers impact IRR the most? 3) What happens if exit multiples compress? 4) How does leverage affect returns? 5) What risks does debt introduce to the structure? If you’re aiming for PE or IB, understanding LBO becomes critical to crack and perform in such roles Similar Posts on this 1) LBO Mechanics – Understanding the structure and the debt game https://lnkd.in/dbAmE2vE 2) 3 reasons why LBO is the mother model for any Investment Banking Professional https://lnkd.in/dus-PXWv 3) LBO - The need, the Ideal LBO Candidate & the Drivers of the LBO model https://lnkd.in/d9rAMbFU Follow Pratik for Investment Banking careers and education

Would LPs (investors) continue to invest in alternative assets like venture capital, private credit, or private equity, if they knew the exits would come from continuity funds? (Continuity funds - are funds that buy out assets of an existing fund and provide liquidity options to investors, when traditional exits are delayed or unattractive.) While the answer is probably complex, one thing is certain - if LPs knew that exits would eventually be sourced through continuation funds rather than simple liquidation (which is the product to start with), many would likely reconsider their allocations or demand different terms to compensate for the added risk and complexity. And LPs who invest in funds that have to depend on continuity funds will probably be more cautious about allocating to the same fund manager again. So while in the short run there is some relief, there is probably more pain later down the road. This excerpt from a piece on liquidity issues with Private Credit in the US is something to think about for LPs allocating funds across private funds, I suppose.

I helped a port-co save $2M in nine months by implementing findings from a marketing audit. The truth: In PE, marketing waste doesn't just impact the P&L. It eats into enterprise value. When I audit portfolio companies, I keep seeing the same issues: - Suboptimal campaign structures leading to $50-100K monthly inefficiencies - Marketing efforts prioritizing engagement metrics over revenue-driven KPIs - Misaligned conversion targeting in six-figure budgets These aren't just marketing problems. They're EBITDA problems. Here’s what happens *after* the audit: First 30 Days: Quick Wins The first month is about identifying and stopping active waste ASAP across all marketing channels. It's triage, focusing first on the worst offenders: - Shut down wasteful campaigns and fix fundamental setup issues across channels - Reset all success metrics to focus on revenue instead of surface-level engagement - Implement proper tracking to measure the true impact of changes Days 31-90: Rebuild the Foundation With waste eliminated, the focus now is on rebuilding marketing systems, the right way: - Deploy new campaign architecture based on business objectives and revenue potential - Build comprehensive tracking systems that connect paid marketing directly to pipeline and revenue  - Realign teams and processes to maintain the new approach (when/if necessary) Months 4-9: Optimize and Scale Now we can focus on growth, using real data to guide every decision. This phase is about turning marketing from a cost center into a profit driver: - Scale what works based on actual performance data, not assumptions - Implement systematic testing and optimization across all campaigns - Create repeatable processes that maintain efficiency at scale That’s how you save a port-co $2M. And every portfolio company I've worked with has similar potential. It's just waiting to be unlocked. P.S. Got a port-co (or considering an acquisition) whose marketing feels... off? Shoot me a message. Let's see how we can make things better.

Most PE firms don’t have an operating model. They have a PowerPoint. The “Value Creation Plan” (VCP) has become a kind of corporate theatre.....a glossy internal pitch deck designed to impress LPs, not to actually change how portfolio companies run. It’s full of big promises: digital transformation, pricing excellence, sales enablement. Then it disappears into the ether the moment the deal closes. In reality, most firms are still managing value creation through ad hoc emails, Excel trackers, and quarterly updates. They talk about playbooks, but they don’t operate from one. The “ops model” is a myth built to sell credibility, not capability. A real operating model isn’t a presentation. It’s infrastructure. It’s what happens every Monday morning, not every QBR. Here’s what that would actually look like: 1. Live dashboards, not static reports. Every portfolio company should feed performance data into a single platform, updated weekly. You don’t need 40 KPIs per company, you need 6 that matter. Revenue, CAC, LTV, conversion rate, retention, and cash. Real-time visibility drives action. 2. Cross-portfolio benchmarks. Stop pretending every company is unique. The point of owning multiple businesses is to spot patterns and act on them. If one business converts at 8% and another at 3%, that’s an immediate playbook opportunity. You don’t need consultants to find that; you need standardised data. 3. Capability pods. Hire functional experts.....in digital marketing, pricing, M&A integration....and let them operate across the portfolio. These aren’t advisors or slide-makers. They’re doers who drop into companies to fix, build, and leave systems behind. Think of it as shared services for execution. 4. Cadence and accountability. Weekly stand-ups. Monthly performance reviews. Clear owners. If the only time your ops team meets management is before board meetings, you don’t have a system, you have a reaction function. 5. Shared language of performance. Right now, every portfolio company defines “success” differently. Some measure top-line growth, others focus on EBITDA, others on margin expansion. A real model creates a unified framework: one vocabulary, one scorecard, one rhythm. When you see the few firms that do this well, the difference is obvious. Their portfolio dashboards look like trading floors. Their operators sound like GMs, not consultants. And their CEOs know where they stand every week, not every quarter. Until then, “value creation” will stay exactly where it began: inside a PowerPoint, somewhere between the “synergy pipeline” slide and the “next steps” placeholder. #PrivateEquity #OperatingModel #ValueCreation #ClaymorePartners #notveryprivateequity

Over each of the past 2 years, just 𝟱% of the total VC market value has been distributed to LPs—leaving a 𝗺𝗮𝘀𝘀𝗶𝘃𝗲 𝗴𝗮𝗽 𝗶𝗻 𝗹𝗶𝗾𝘂𝗶𝗱𝗶𝘁𝘆. What can GPs do? 𝗘𝗻𝘁𝗲𝗿 𝗖𝗼𝗻𝘁𝗶𝗻𝘂𝗮𝘁𝗶𝗼𝗻 𝗙𝘂𝗻𝗱𝘀 💡 • LPs are restless for liquidity. While recent fund vintages don't have DPI to give, more mature venture funds are stretching well beyond their original 10-year timelines. 1-to-2 year extensions are manageable, but after 12+ years (with fees piling up), LPs understandably want their money back. •  Continuation funds have become a go-to strategy in private equity to fix this problem. LPs can either cash out or roll over their interests into a new vehicle. This provides liquidity for LPs who want to cash out while allowing long-term investors to stay invested & maintain exposure to the portfolio. According to a 𝗨𝗻𝗶𝘃𝗲𝗿𝘀𝗶𝘁𝘆 𝗼𝗳 𝗖𝗵𝗶𝗰𝗮𝗴𝗼 𝗕𝗼𝗼𝘁𝗵 paper: 🔹 +𝟳𝟱𝟬% 𝗶𝗻𝗰𝗿𝗲𝗮𝘀𝗲 in deal value over 5 years, hitting $68 billion in 2021. 🔹 𝟴𝟬-𝟵𝟬% 𝗼𝗳 𝗟𝗣𝘀 in legacy funds opt to cash out rather than roll over. 🔹𝟰𝟰-𝟱𝟬% of total secondary market volume came from GP-led secondaries between 2020-2023—that is, $102-126 billion annually. However, there are challenges, particularly in venture capital: 🔹 𝗤𝗦𝗕𝗦 𝗘𝗹𝗶𝗴𝗶𝗯𝗶𝗹𝗶𝘁𝘆: When a continuation fund buys assets from the original fund, LPs might lose their QSBS eligibility. QSBS typically requires the stock to be held directly by the taxpayer or through a pass-through entity (like a VC fund) for at least 5 years. Careful tax structuring around this is possible, but it adds complexity. 🔹 𝗖𝗼𝗻𝗳𝗹𝗶𝗰𝘁𝘀 𝗼𝗳 𝗜𝗻𝘁𝗲𝗿𝗲𝘀𝘁: GPs may collect more fees and carry without full performance alignment, creating tensions between LPs & new LPs. Also LPs often lack sufficient data for informed decisions. 🔹 𝗡𝗼𝘁 𝗮𝗹𝗹 𝗟𝗣𝘀 𝘄𝗮𝗻𝘁 𝗼𝘂𝘁: Some LPs may prefer to stay invested—there's no "status quo" option; LPs forced to cash out or accept new terms. 🔹 𝗖𝗼𝗺𝗽𝗹𝗲𝘅𝗶𝘁𝘆 𝗮𝗻𝗱 𝗥𝗮𝗿𝗶𝘁𝘆: While this strategy is relatively common in PE, it's uncommon in VC, at least from my experience. Would be interested to hear how costs and time play a role in this strategy. Cooley has offered some alternative strategies for creating liquidity while managing ongoing investments in a VC fund (link in comments). 𝗕𝗼𝘁𝘁𝗼𝗺 𝗹𝗶𝗻𝗲: Continuation funds are an option to provide liquidity to LPs without forcing GPs into bad exits. But GPs need to provide full disclosure of all potential conflict of interest and have full alignment with a majority in interest of their LPs. Thoughts? Anyone else seeing this trend? How are GPs balance their LP liquidity needs with long-term value creation for their portfolios?

📊 An Investment Banker's Guide to Leveraged Buyout Modelling: Leveraged buyouts (LBOs) represent a fundamental transaction structure in private equity and investment banking, combining high leverage with operational improvements to generate attractive equity returns. Topics covered in this document: - LBO structure, mechanics, and sources and uses of funds - Debt structure analysis: senior secured, subordinated, and mezzanine financing - Equity returns: IRR and MOIC calculations and value creation attribution - Financial modelling components: operating models, debt schedules, and cash flow waterfalls - Valuation methods: comparable companies, precedent transactions, and DCF analysis - Credit analysis: covenants, headroom, and credit risk assessment - Exit strategies: strategic sales, sponsor sales, IPOs, and dividend recapitalisations If you're interested in #finance, #quantitativefinance, #riskmanagement, #accounting or #actuarialscience, feel free to follow me, Armandt Erasmus, as I frequently talk about these topics. 🫡

Your PE fund targeted 25% IRR. You're seeing 15%. The gap isn't underperformance. It's fees. Start with that 2% annual management fee. Sounds reasonable until you realize only 35-40% of your committed capital is actually deployed in deals at any given time. You're paying 2% on $100M committed while only $40M is working. That's effectively a 5% fee on invested capital. Over a 10-year fund life, management fees alone consume 20% of your commitment before anyone makes a dollar. Then add the layers most LPs miss. Portfolio company fees. Transaction fees, monitoring fees, director fees all flowing back to the GP. StepStone estimates these add another 10-15% drag beyond standard fees. Carried interest. 20% of profits above an 8% hurdle sounds fair. But when gross returns hit 25%, that's 3.4% annually off your net. Fund expenses. Legal, audit, placement agents, broken deal costs. Another 1-2% annually that doesn't show up in the headline fee structure. The Cambridge Associates data tells the real story. 25-year pooled net returns at 12.77%. Top-quartile funds at 22.5% IRR. Median funds at 15% IRR. Good returns. But nowhere near the 25% gross targets pitched in fundraising decks. The median PE firm targets 25% gross IRR. After all fees, investors see 15%. That's a 40% haircut. Not from a single source. Death by a thousand cuts. Meanwhile, family offices doing direct deals report 200-400 basis points in annual fee savings. No fund-level management fees. No GP carry on the entire portfolio. No organizational expenses spread across LPs. Just deal-specific incentives aligned with actual performance. You still pay for execution. Legal, diligence, operating support. But you're paying for value creation, not fund administration. Every 100 basis points in fees compounds to 10% less capital over a decade. Traditional PE funds delivered 12.77% net over 25 years. That's solid. But if you could have captured even half the fee drag through direct investing, you'd be sitting on 15-17% returns instead. On a $10M commitment, that's the difference between $40M and $55M after 10 years. The best performing PE allocation isn't always the fund with the highest gross returns. It's the structure with the lowest fee leakage. Direct deals with proven operators aren't just an alternative to PE funds. At current fee levels, they're becoming the rational choice for any family office that can execute them. The question isn't whether you can afford to do direct deals. It's whether you can afford not to. #PrivateEquity #FamilyOffice #DirectInvesting #AlternativeAssets #FeeTransparency

💰 10 days ago I had dinner with a private equity (PE) veteran who walked me through a structural problem in the asset class that I had not fully appreciated before. PE attracts three main categories of limited partners: pension funds, sovereign wealth funds, and family offices. All share the same core challenge: they manage long-term liabilities and need their capital to work hard over decades. The problem is that delivering consistent long-term returns across asset classes is genuinely difficult. PE became so big because it offers a structural answer to that problem. By locking capital in for years, it removes the temptation to exit at the wrong moment and, in theory, generates a premium over public markets in return for that constraint. That illiquidity premium, combined with the difficulty of finding reliable long-term returns elsewhere, explains why institutional allocation to PE has grown so large. As explained by my friend, though, the case that once seemed solid looks different on closer inspection. 1️⃣ PE funds raise and deploy in synchronised cycles. When everyone deploys at once, target valuations rise. When funds then need to show performance ahead of their next raise, they try and generate liquidity, and sell their strongest assets. The buyer is usually another fund. Because most large LPs sit across multiple PE funds simultaneously, they pay an inflated entry price on the way in, and they pay again every time an asset rotates between vehicles, each transfer generating another round of fees and carried interest. 2️⃣ Management fees compound this. At 2% per year, that is roughly 10% over a standard fund life. When the same asset passes through two or three funds, the cost multiplies. According to Ludovic Phalippou, a finance professor at Saïd Business School, University of Oxford who has studied the industry in depth, total return drag from fees across their various forms reaches 6-7% annually. 3️⃣ The deeper problem is that the illiquidity premium appears to have been largely consumed. Academic studies show that PE's risk-adjusted returns now barely match public market equivalents. Cambridge Associates data puts PE outperformance versus the S&P 500 at near zero today, down from 500 basis points in the 1990s. Investors are accepting illiquidity, paying substantial fees, and receiving returns they could largely replicate in public markets. ➡️ The illiquidity premium was real. But when a system remains stable for long enough, it creates room for extraction to outpace value creation. The premium may have been largely arbitraged away, and the industry is overdue a reshuffle. Beyond that, the underlying problem still lacks a definitive solution: managing long-term liabilities over decades is one of the hardest problems in finance, and LPs are still looking for a reliable answer. -- I am Head of Research at Vsquared Ventures. Follow me here and subscribe to my personal newsletter Drift Signal to track my work. Views are my own.

#PrivateEquityBasics How General Partner (GP) make money from private equity funds? General Partner (GP) in Private Equity (PE) funds earn money through several key mechanisms associated with their roles in managing and growing the fund’s assets. Here’s a detailed breakdown of how GPs generate income: 1. Management Fees Management fees are the primary and most predictable source of income for GPs, providing a steady revenue stream regardless of the fund’s performance. These fees are typically: • Percentage of Committed Capital: Usually around 1.5% to 2% per annum of the total capital committed by the Limited Partners (LPs) • Usage: These fees cover the operational costs of managing the fund, such as salaries, administrative expenses, and overhead Example: If a PE fund raises $1 billion and charges a 2% management fee, the GP earns $20 million annually as a management fee. 2. Carried Interest (Performance Fees) Carried interest, or “carry,” is a share of the profits generated from the fund’s investments, and it constitutes the most significant and potentially lucrative part of a GP’s compensation. Key aspects include: • Profit Sharing: Typically, GPs receive 20% of the profits after returning the initial invested capital and often achieving a preferred return (hurdle rate), commonly around 8% • Alignment of Interests: This performance-based compensation aligns the GPs’ interests with those of the LPs, incentivizing the GPs to maximize the fund’s returns Example: A PE fund generates $500 million in profits after returning the original capital and the preferred return to the LPs. The GP’s 20% share of these profits would be $100 million. 3. Portfolio Company Fees GPs may charge additional fees to the portfolio companies for various services provided during the investment period. These fees can include: • Monitoring Fees: Compensation for ongoing oversight and advisory services • Transaction Fees: Fees for services related to mergers, acquisitions, or other transactions • Director Fees: Fees paid for serving on the board of portfolio companies • Consulting Fees: Fees for providing specialized expertise or consulting services Example: A PE firm might charge a portfolio company $1 million annually for monitoring services and additional fees for consulting or board services. 4. GP Commitments and Capital Gains GPs typically invest their own money into the funds they manage, known as the GP commitment. This can range from 1% to 5% of the fund’s total capital. They earn returns on this invested capital, just like the LPs, which can be significant if the fund performs well. • Capital Gains: The returns on their own capital investment in the fund, often reinvested in the same manner as the LPs’ investments, but sometimes on more favorable terms Example: If a GP commits $10 million to a fund and the fund returns 2x the invested capital, the GP’s commitment would yield $20 million, resulting in a $10 million profit for the GP

Only 15% of VCs understand this fund structure hack. The rest are leaving MILLIONS on the table👇 ◾️ Most VCs invest just 80-85% of the capital they raise. Why? Management fees consume the rest. On a $100M fund with standard fees over 10 years, that's $15-20M never invested in startups. That's amount that can never generate returns for LPs or carry for GPs. ◾️ The hack? Management fee recycling. Instead of distributing early exit proceeds, smart VCs reinvest them. This gets the FULL $100M working in portfolio companies - or even more. Elite firms like Foundry and Union Square Ventures aim for 110% deployment. ◾️ The math is astonishing (with 1.5% MF): - Without recycling: $85M invested needs a 4.1x multiple to achieve a 3x net return to LPs. - With recycling: $100M invested only needs a 3.65x multiple for the same 3x return. That's 11% less pressure on performance. ◾️ Think about that: you're asked to generate the SAME returns with LESS capital. Brad Feld puts it perfectly: "If an LP gives us a $1 to invest, we should invest at least that $1, not $0.85." When you frame it this way, NOT recycling seems absurd. Yet 85% of VCs still don't do this effectively. ◾️ For emerging fund managers, this is your edge. Established funds often get away with poor recycling because of their track record. You don't have that luxury. Offer better structural alignment and you'll stand out in LP conversations immediately. ◾️ What early-stage companies deserve recycling capital? - "Singles" that return 1-2x quickly. - Small positions in companies that get acquired early. - Secondary sales of promising but not rocket ship companies. Don't recycle your home runs. Let those distribute. ◾️ Fred Wilson notes they've put as much as $140M to work in a $125M fund. Think about it: they called less capital than committed ($110M) yet deployed MORE than committed ($140M)! That's the magic of aggressive recycling + smart exit management. ◾️ The typical objections to recycling: - "LPs want distributions early". - "It complicates tax planning". - "It could extend the fund life". All valid, but addressable through smart provisions in your LPA that limit timing, amount, and source of recycling. ◾️ The best LPA recycling provisions include: - Cap of 20-25% of fund size for recycling. - Limited to investment period (first 5 years). - Only from exits within 2 years of initial investment. - Clear rules on what recycling can fund (new deals vs. follow-ons). ◾️ For LPs, the key question to ask GPs: "What's your recycling strategy and how does it maximize my capital efficiency?" The answer reveals whether a GP truly understands fund construction or is just collecting fees. ◾️ The bottom line: management fee recycling is the closest thing to "free money" in venture. It puts more capital to work, reduces the required multiple for success, and aligns GP-LP interests perfectly. What do you think about recycling?