Walk Me Through an LBO: Ultimate Guide to Nailing the Interview Question

The ‘Walk me through an LBO’ interview question is a standard part of private equity and investment banking recruiting. It’s used for early screening, to make sure you have a baseline level of knowledge to advance past the first round. With that, it’s a relatively simple ask, so you should make sure you’re fully prepared to handle it.

First, we’ll outline the key steps in an LBO so you have the full background. Then, we’ll cover a simple framework to tackle the interview question while both hitting the main points and keeping it concise.

The Key Steps of an LBO Model

Here’s a complete list of the steps in an LBO model and investment. Your ‘walk me through an LBO’ answer won’t be this long, but it will summarize each key point below.

  1. Investment entry
    • The first step in an LBO is to purchase the target company
    • You’ll buy the target based on its EBITDA and an entry multiple, multiplying the two to get to your purchase price (enterprise value)
  2. Sources & Uses
    • In the sources & uses, you’ll figure out how much money you need to complete the deal, as well as where that money is coming from
    • Your sources (where the cash is coming from) will include equity (your own money) and debt financing raised from a lender
    • Your debt financing will be based on the target’s EBITDA and leverage profile, multiplying EBITDA by your leverage to get to your debt quantum
    • In the Uses (the cash you need to do the deal), the biggest component will be the purchase price that you figured out in the first step
    • Alongside the purchase price, you’ll also have some extra transaction expenses (things like investment banking or consulting fees) as well as financing fees (some extra costs of raising the debt)
  3. Project out your financial performance
    • Now that you own the target company, pull together a projection for the period of time that you hold the investment, typically five years
    • You’ll look at an income statement, as well as your cash flow
  4. Debt schedule
    • You took out a bunch of debt to buy the target company, and now you need to understand how you’ll service that debt over the five-year hold period
    • With your free cash flow, you’ll complete any mandatory amortization (debt repayment you’re required to do), plus any optional prepayments (additional debt repayment above what you’re required to do, if you have any leftover cash to do it with)
  5. Interest schedule
    • Alongside your debt, you’ll also need to track the interest expense that you now have to pay
    • You’ll look at each period’s average debt balance, multiply that by your interest rate, and then make sure you flow that interest expense back through your income statement in Step 3
  6. Exit of the investment
    • Now in the final stretch, we’ll make some assumptions around what happens after you’ve held your investment for the five-years (or however long you might have in your specific deal), and then get ready to sell the company
    • Similar to how we bought the business, you’ll look at your projected EBITDA at exit (from Step 3) and multiply that by an assumed exit multiple — the result will be the enterprise value at which you sell the business
  7. Returns
    • The last step in our LBO walk through — after exit of the investment, we have to see how much cash we hauled in from all this effort
    • From your enterprise value in Step 6, you’ll subtract any remaining debt you still owe lenders and add any cash the business generated that you have on the balance sheet (together, your net debt), the result of which will equal your equity value
    • The equity value is the amount of proceeds you get to keep, and what you’ll base your returns calculation off of
    • We’ll compare it to the equity we put into the deal in our sources & uses (Step 2) to calculate our returns metrics, which are typically our MOIC (multiple of invested capital) and IRR (internal rate of return)

How to answer the ‘walk me through an LBO’ question in an interview

Now that we’ve got the background, we can condense everything down into a couple of key points that you can talk through.

It’s important to deliver your answer quickly and concisely. Don’t drone on for 5 minutes about the intricacies of LBO modeling — your interviewer will either fall asleep or tell you to get lost.

  • In an LBO, you first buy a company using a mixture of debt and equity
  • The, you hold that company for a period of time, generally five-years, and ideally with EBITDA growth over that period
  • During that time, you would use the company’s cash generation to pay down debt
  • And then, at the end of the five-years, you would sell the company, repay any debt you still owe, and pocket the remaining proceeds, hopefully realizing a return on your investment

How to deliver your response in the interview

After your initial answer, note that you would happy to dive deeper on any of the steps you just mentioned. Then, sit back and let your interviewer make the decision to either move on or ask a few follow-up questions.

During the follow up questions, you’ll likely have an opportunity to more thoroughly talk through the steps we covered above. Or, you might be asked to do a full paper LBO and actually sketch out each of the steps.

Last thing — make sure you practice a few times before you get into the interview. You don’t want to get nervous and bungle your answer because you never actually went through it before game day.

Sam Hillier

Sam Hillier is a reporter at Transacted covering private equity and investment banking. He previously spent time as an investment professional focused on direct buyouts, as well as an earlier strategic advisory stint.