How do you assess the optimal debt level for an LBO, considering both the benefits of leverage and the risks of default?
A core Private Equity interview question — asked in analyst and associate interviews across IB, PE, and the Big 4.
THE SHORT ANSWER
To assess the optimal debt level for an LBO, you should consider the company's ability to generate cash flow, its industry and market position, and the overall economic environment. A good starting point is to analyze the company's debt-to-EBITDA ratio, as well as its interest coverage ratio. Additionally, you should consider the company's ability to deleverage over time, through a combination of EBITDA growth and debt repayment.
WHAT INTERVIEWERS LISTEN FOR
- ✓debt-to-EBITDA ratio
- ✓interest coverage ratio
- ✓deleveraging
COMMON MISTAKES
- ✗ignoring industry benchmarks
- ✗failing to consider economic environment
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