In an LBO model, which of the following would increase the IRR for the sponsor without improving the company’s performance?

Question

BlackTom AI · Accepted Answer

Question restatement: In an LBO model, which of the following would increase the IRR for the sponsor without improving the company’s performance?

Option 1: Improving EBITDA margin through cost-cutting.
This option improves the company’s operating performance by increasing EBITDA, which in turn raises cash flow and profitability. Since the criterion specifies not improving the company’s performance, this choice does not meet the condition. It would raise IRR by improving the business, rather than by financing structure or exit timing.

Option 2: Reducing working capital investment.
By managing working capital more efficiently, the company could free up cash, boosting free cash flow without altering underlying operations. However, this still reflects a tactical cash management improvement within the business model, which arguably changes the company’s performance profile (cash generation) rather than purely altering financing terms. Depending on interpretation, this may count as a performance change, so it’s arguable whether it truly satisfies “without improving performance.” In most LBO analyses, tighter working capital is considered a performance-driven improvement of operating efficiency.

Option 3: Increasing leverage at entry.
Using more debt at the time of the LBO increases the sponsor’s equity returns when the exit occurs, due to a higher debt burden magnifying equity cash-on-cash. This levered structure can raise IRR because equity is smaller relative to enterprise value at exit, and interest tax shields also contribute to higher cash flow to equity. Critically, this enhancement comes from financing choices rather than an improvement in the company’s operating performance, so it aligns with the goal of increasing IRR without changing operating performance.

Option 4: Move entities to different countries to reduce tax.
Shifting jurisdictions to lower taxes can reduce cash taxes and improve after-tax cash flow, potentially boosting IRR. However, such moves involve legal, regulatory, and transfer-pricing considerations and may not be feasible or permitted in all contexts. Even when possible, this is a strategic tax optimization rather than a direct operational improvement, and it can blur ethical and legal boundaries. Depending on the model, it could still count as altering after-tax cash flow without improving operating performance, but it introduces significant legal risk and complexity that many sponsors would flag as problematic or outside standard practice.

Summary: Among the options, increasing leverage at entry is the most direct way to raise IRR for the sponsor without changing the company’s operating performance, since it leverages financing structure rather than operational improvements. The other options either change the company’s performance or rely on tax/regulatory strategies with considerations beyond simple performance improvements, and in some interpretations may still involve performance-related cash effects or legal risk.

In an LBO model, which of the following would increase the IRR for the sponsor without improving the company’s performance?

查看解析

登录即可查看完整答案

类似问题

Regarding private equity and the valuation of LBOs, select the correct statement:

Which of the following statements regarding LBOs is incorrect?

An ideal LBO target would be unlevered, inefficiently managed, with stable cash flows, low required capital expenditures, and significant excess non-core assets.

In an LBO deal, which of the following is NOT a desired feature of an ideal LBO “target” company?

Which of the following statements is most CORRECT regarding Leveraged Buyouts (LBO's)?

Assuming the overall economy can remain strong for the next five years, PE firms that finance LBOs with maximum debt capacity will likely experience a higher IRR on their equity investment than PE firms that use modest leverage on their LBO deals.

更多留学生实用工具

考试浏览器助手

风格化写作助手

论文查重助手

文献引用助手

课堂转译助手

课堂笔记助手

Quiz搜索助手

学校历年真题

智能刷题助手

智能匹配练习

希望你的学习变得更简单