July 10, 2025 • 37 mins
In Episode 15, hosts Emily Sanders and Rory Liebhart delve into the world of Leveraged Buyouts (LBOs), examining how private equity firms and other entities utilize substantial debt to acquire companies. Joined by expert Edward Barton, the conversation examines the mechanics of an LBO, its benefits and substantial risks, including cash flow pressure and covenant breaches. The episode also addresses why the current private equity market is experiencing a "log jam" due to factors like high valuations from past years and rising interest rates.
Key Takeaways & Discussion Highlights (Leveraged Deal Structure)
What is an LBO?
An LBO is a private equity funding strategy where a significant portion of the purchase price is financed through debt. The acquirer uses the target company's future cash flow to service the loan (12:01, Rory).
Example: A private equity firm paid ~$50M + ~$140M debt for a business with $11-13M in annual free cash flow (12:01, Ed/Rory).
The Players in an LBO & How They Make Money
Private Equity Firms: Profit through appreciation (sale at higher valuation), dividends (cash distributions - corrected later in the episode), and management fees (20:22, Edward; 23:37, Emily/Rory).
Company/Sellers: May use an LBO if the buyers (often PE firms) need a loan to close, sometimes offering a quicker exit or a multiple on EBITDA (21:07, Edward).
Lenders/Banks: Earn interest payments and fees (warrants/loan fees may be required). Crucially, they often control the company's cash flow through restrictive covenants and account control agreements (19:17, Emily/Rory, 25:06, Rory). Defaults can lead to forced sales or bankruptcy filings (25:42, Ed/Rory).
Benefits of LBOs
High Returns for PE: If executed well, debt allows leveraging a smaller equity investment into a larger holding, potentially increasing returns (20:37, Edward/Rory).
Opportunity for Turnaround: Skilled management can restructure ("staple down" goodwill) and grow the business, repaying debt and realizing the equity gain (*28:02, Edward). (Example: debt-financed turnaround selling back to seller, or using debt to fuel growth).
Significant Risks and Challenges
Refinancing Risk & Maturity Shock: Large balloon payments due at specific dates (Term Sheets) if the hold period ends without selling or refinancing (13:28, Ed, 15:44, Emi
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Transcript
Episode Transcript
Available transcripts are automatically generated. Complete accuracy is not guaranteed.
emily-sander_1_06-17-2025_1 (00:34):
all right, let's see.
Icebreaker question for now.
If you had to describe thecurrent state of private equity
in one emoji, what would it be?
squadcaster-67f2_1_06-17-2 (00:50):
I'm, I'm not gonna say fire, like a,
like a dumpster fire'cause it'snot, but uh, yeah, I think, um,
pensive perhaps, you know, that
sweet-eddie-b--it-_1_06-17-2 (01:01):
It is
emily-sander_1_06-17-2025_ (01:01):
Mine would be the one with like the
big eyes where it's like, uh.
squadcaster-67f2_1_06-17- (01:04):
could be.
sweet-eddie-b--it-_1_06-1 (01:05):
Yeah, no, I'm actually going with the
one that's got just the two eyesno mouth.
Like it's just a little roundface with two eyes staring out
at you.
I, I don't, I mean, right now noone knows whether to be sad or
happy.
They don't know whether to frownor to smile, so there's no
mouth.
It's just two eyes, a littleemoji with two eyes.
emily-sander_1_06-17-2025 (01:29):
Okay.
squadcaster-67f2_1_06- (01:30):
investor in defense related, uh,
contracts, I think you'reprobably smiling.
All right.
Just want, you
emily-sander_1_06-17-2025 (01:35):
Yeah.
sweet-eddie-b--it-_1_06-17- (01:36):
You might be right now.
squadcaster-67f2_1_06-17- (01:37):
this, this goes where, I guess the
dates where we're at, but youknow, who knows?
We might be at war with Irananother day or two.
You never know.
So.
emily-sander_1_06-17-2025_ (01:46):
What is.
No, let me, let's jump right in.
So I was gonna do a hangoverquestion, like true confessions.
What's your worst hangover?
But, um, we can save that for alater episode.
I think I've witnessed Ed'sworst hangover Dublin.
Um, but we'll save that for alater episode.
Uh, but we did run across anarticle more specifically by we,
I mean, Rory came across asarticle.
(02:08):
Just touch us off on that.
Rory, what's, what's thatsaying?
squadcaster-67f2_1_06-17- (02:11):
Well, it, it really is.
Um, yeah, it kind of.
It kind of summarizes what we'vebeen talking about.
You know, both in our podcasts,in our book to some degree is
about basically liquidity intoday's market and how a
emily-sander_1_06-17-202 (02:27):
What's the headline of the article?
squadcaster-67f2_1_06-17-2 (02:29):
just call the private equity
hangover,
emily-sander_1_06-17-2025_1 (02:31):
The Private Equity Hangover.
squadcaster-67f2_1_06-17-20 (02:33):
uh, basically what, uh, you know,
what, what founders need to knowabout the$3.6 trillion exit log
jam.
So what that means is thatthere's a ton of businesses that
are.
Actively being held by privateequity groups, venture
capitalists, et cetera, thathave not transacted, meaning
they're getting the wholeperiod's long.
(02:54):
there's so many reasons whypeople are holding onto these
assets.
Um, so mostly bad, but you know,a variety of reasons.
It's just not as robust of a buysell market right now as it has
been in recent years.
emily-sander_1_06-17-2025_ (03:06):
What is the long-term impact of that?
If this keeps going.
squadcaster-67f2_1_06-17- (03:10):
Well, it could be a lot of, a lot of
things.
Um, you know, not the least ofwhich is people that invest in
private equity funds that wantto get their money back, they
may have to sit on sidelines andwait longer.
I.
sweet-eddie-b--it-_1_06-17-20 (03:26):
I was gonna say on the, the
private equity part of thecomponent of private equity
where private equity guys maketheir money is velocity because
you want to have deals turningquickly.
So you don't wanna hold'em toolong.
'cause you get, you get therealization of your upside on
that.
So from the.
(03:46):
PE firm perspective.
got your little two percents orone percents your care, you
know, your kind of run along,um, that you get on an annual
basis for management, but youreally make your money on a
transaction and that does twothings.
One, it puts money into.
Private equity firms pocket.
So they get a realized gain.
(04:07):
They get a, as we've talkedabout on other podcasts and in
the book you, they may getbetween 10 and 20% of the profit
goes right into the generalpartner, the private equity
firm's pocket.
The second thing is they returnthat capital back to the to the
limited partners who then investin the next fund.
And so if.
If the entire system is kind ofclogged up or you know, we've
(04:31):
got private equity,constipation, and these deals
aren't moving, making money.
Nobody's able to reinvest'causethere's no liquidity at the
limited partner line, so theydon't have the ability to
reinvest.
And so the private equity guysdon't have the ability to raise
another fund and because theydon't have an ability to raise
another fund, there's no moneyavailable to be able to go buy
(04:53):
the stuff that's on the market.
And it just clogs everything up.
emily-sander_1_06-17-2025_16 (04:57):
So there's this cadence that it has
to run at, and this is like logjamming, that cadence, and it's
clogging it up.
We need Metamucil, we need totake some Epsom salt baths.
We need to get, get the logjamthrough whatever analogy we
wanna use.
Because like, my question is ifthat continues for long enough,
does it just does something justdie?
Like what?
Like, does private equity goaway?
sweet-eddie-b--it-_1_06-17- (05:18):
end up happening, I, from my
perspective, is you'll get to,there's a reason why nothing's
moving.
And it's, it's a liquidityissue.
So there's a liquidity issuewhere, you know, folks are
looking at the liquidity.
They have their ability to putstuff back to work.
The, yeah, it just doesn't makesense to pull the trigger.
At some point, someone needs toget liquid, the price will,
(05:40):
prices will start coming down towhere folks go.
Okay.
I, regardless of kind of whereI'm at.
squadcaster-67f2_1_06-17- (05:47):
Yeah.
I
sweet-eddie-b--it-_1_06-17 (05:47):
This makes sense.
I'm pulling the trigger I'mgonna buy Now.
The issue is when you've got thebuy, when the buy sell spread on
these transactions, which isreally what we're seeing right
now, is there's a buy sellspread that's fairly large.
The sellers bought as, as wetalked about earlier, the
sellers bought.
Or the, the, the, when thesellers bought in, they bought
(06:09):
in, you know, five years ago totoday, which is, you know, I was
sitting in the market going, Ican't believe people are paying
these multiples and companiesare trading at ridiculous
prices.
And during COVID, you know, itseems like everybody was
overpaying for everything.
squadcaster-67f2_1_06-17- (06:24):
Yeah.
sweet-eddie-b--it-_1_06-17- (06:24):
now
squadcaster-67f2_1_06-17- (06:25):
Yeah.
sweet-eddie-b--it-_1_06-1 (06:25):
folks are, they're looking to sell.
Their basis in those assets isvery high.
squadcaster-67f2_1_06-1 (06:30):
Mm-hmm.
sweet-eddie-b--it-_1_06-17- (06:30):
Now what we've seen is interest
rates have risen.
So the risk premium goes up, andso as a result, you've gotta
'cause,'cause again, you've gotyour risk-free rate has gone up.
So the risk premium above thathas gone up.
So the prices come down andthere's a gap between this is
what I paid for it, this is whatI modeled my return to be, or
this is what I booked myvaluation as.
(06:52):
And this is what the market'swilling to transact based upon
the current profile of kindarisk, premium, and discounted
cash flow.
emily-sander_1_06-17-2025_16 (07:00):
So basically like you're taking a
loss.
sweet-eddie-b--it-_1_06-17- (07:02):
It, it could be, it could be a, it
may not be a loss from theinitial investment, but it may
be a
squadcaster-67f2_1_06-17- (07:09):
Yeah.
sweet-eddie-b--it-_1_06-1 (07:09):
lower than expected return to either
the limited partners, thegeneral partner, or both.
squadcaster-67f2_1_06-17- (07:17):
Yeah, I mean, cash is king right now
too, so that's another thingwith private equity, you know,
and we talked about privatecredit in our last episodes.
Typically those two go together.
But, you know, um, I'd say interms of deal flow, the groups
that have the advantage rightnow to buying companies are
probably strategics, like large,large corporations that.
(07:39):
Have an acquisition strategy aspart of their ethos.
And so there's maybe not as muchcompetition, one might say, um,
against private equity andothers that maybe rely a lot on
leverage.
Uh, with Ed, talked about it,you know, interest rates are
high.
They were pretty much zero, um,risk-free rate four or five
years ago.
(08:00):
you're looking at 7% interestrates plus on just like a paper.
And so, you know, um, whereas.
know, strategics may not havehad as much of an upper hand on
private equity in a lot of ways.
Now they, they may, uh, there'sjust not as much competition for
deals probably.
And then flip it on the otherside.
talk a lot in this podcast, inour book, et cetera, about
(08:22):
founder perspective, right?
So if you're a founder that'sbuilt your business and you've
been wanting to transact, you'vebeen wanting to sell your
business, or you thought fiveyears ago, Hey, if I grow this
sucker five years from now, I'mgonna trade it and a massive
multiple on my EBITDA orrevenue, or however you wanna.
Build that valuation.
Um, you're probably rerunningyour models these days on, you
(08:43):
know, what that looks like, andyou might not have as much
option you did before.
So you're probably forced withthe idea of do I continue to
bootstrap this thing?
Do I continue to look at takingon or the investors, whatever.
Uh, maybe you take pay forexpensive debt, who knows?
But, um, maybe you're,rethinking things now when, when
you, uh, you know, had adifferent vision four or five
(09:04):
years ago.
emily-sander_1_06-17-2025_16 (09:06):
So you mentioned leverage, you
mentioned taking on debt.
Does a a leverage buyout helpyou in this scenario?
squadcaster-67f2_1_06-17-2 (09:13):
Does it help you?
Uh, that depends on a lot ofthings, I guess.
Uh, what are the terms of thatdebt?
What's the cost of that debt,you know?
Um, does the
emily-sander_1_06-17-2025_16 (09:23):
If we zoom out, what's a, if we
zoom out what's an LBO?
squadcaster-67f2_1_06-17-20 (09:27):
Oh, it's just simply using debt to
finance the purchase of a, anasset a company.
emily-sander_1_06-17-2025_1 (09:32):
if, so, if you don't have cash,
squadcaster-67f2_1_06-17-2 (09:34):
Yep.
emily-sander_1_06-17-2025_1 (09:34):
you can finance this thing through
debt.
squadcaster-67f2_1_06-17- (09:36):
Yeah, that's right.
emily-sander_1_06-17-2025 (09:38):
Okay.
squadcaster-67f2_1_06-17-20 (09:39):
And
emily-sander_1_06-17-2025 (09:39):
just,
squadcaster-67f2_1_06-17-2 (09:40):
the, that's the common, common
playbook used by private equityfirms is, and they're
emily-sander_1_06-17-2025_ (09:45):
hmm.
squadcaster-67f2_1_06-17-2 (09:46):
with banks that they're really
familiar with, um, privatecredit funds that they're really
familiar with.
And, and it really allows themto put equity down, um, minimum
loan cash down at close, know,in typical terms, you're able to
use the cash flows from thebusiness to service that debt
over time.
then you think about it in aprivate equity hold period
(10:07):
scenario, you know, call itthree to seven years, you know,
you structure well, you're,you'll either refinance that
debt out to, um, better terms,or you'll basically transact the
business within that timeframebefore the debt's mature.
But I think right now a lot ofthe businesses are having to
face restructuring their debtbecause they hadn't previously,
um, you know, sold the company,the op, the asset.
(10:29):
So it's like, all right, well Igotta pay, I gotta bullet
maturity on my debt facility.
I gotta deal with that.
And so maybe they're not gettingas much as Ed talked about, um,
good economics on their, theirwhole situation right now.
emily-sander_1_06-17-2025 (10:44):
Okay, so, so, um, give me an example
of an LBO.
So at the beginning, I don'thave cash, so I might pay, I
don't know, I'm making upnumbers.
Like let's just pick simplenumbers, like 1 million in cash
and then I'm taking on X amount
sweet-eddie-b--it-_1_0 (11:02):
depends.
So XX is a variable number andit really depends upon the free
cash flow of the target.
So what you're looking, whatyou're looking for, essentially.
So I'll, I'll use an example,um, a a real life example.
So you have a, a company thatRoy and I worked with that just
spun cash like crazy.
(11:23):
So when you look at the, whenyou look at the.
Kind of the debt-free at, so youlook at the balance sheet, you
look at the assets, and you, youhave it, just no liabilities.
You look at the assets and it'sgot a hundred million of assets
and that a hundred million ofassets is, is spinning, you
know, 11, 12,$13 million of freecash flow on an annualized
(11:44):
basis.
When the private equity guyscome in to buy it, they go,
okay, look, there, you got thisa hundred million of assets,
we're gonna pay you one 30 or140 million.
We're gonna put.
40,$50 million of equity andwe're gonna borrow a hundred
million
squadcaster-67f2_1_06-17- (12:01):
Yeah.
emily-sander_1_06-17-2025 (12:02):
Okay.
sweet-eddie-b--it-_1_06 (12:03):
because the assets, they were, you know,
it was a loan portfolios, theincome coming off, those were
more than service.
The debt that's on the otherside of the, that we used to
acquire it.
So, you've got on, on the otherside, you know, and we were in
a, a.
Uh, business that they, that wasa leverage buyout where they
(12:24):
paid 50 million and put 14million at debt on it and would
check in for, for 36.
And that was one where it wasn'tthe majority of the purchase
price, but they said, okay, wecould get good terms on this, on
this note, and it makes ourequity, it kind of juices our
equity returns.
So that's a leverage buyout too.
It's just less leverage.
(12:45):
The issue with that one, as youwould call.
Is, as Rory just noted, the,there's a bullet maturity.
So basically what that says is,you know, the loan pays off a
little bit every quarter, fiveyears in because the guy said,
well, five years we'll have soldthis if five years in the entire
balance is due.
(13:06):
So it may have been paying downa million dollars a year.
For five years on a$14 millionnote, and then all of a sudden
at the end of year five, theygotta stroke a check for 9
million bucks.
Well, if they don't
emily-sander_1_06-17-2025_16 (13:16):
Oh no.
sweet-eddie-b--it-_1_0 (13:17):
million, then they've either gotta
refinance the debt under, underduress or sell the business to
raise the, to raise the money,or they've gotta do a capital
call
squadcaster-67f2_1_06-17-20 (13:28):
for
sweet-eddie-b--it-_1_06-17- (13:28):
and put more capital in.
squadcaster-67f2_1_06-17- (13:29):
Yeah, yeah.
emily-sander_1_06-17-2025 (13:31):
Okay, so let me recap what I think I
just heard.
Leverage buyout is a strategy.
It's an acquisition strategy.
You can use many strategies toget in, but okay, so you're
taking on a significant amountof debt, like ballpark, like is
this anywhere from 60% to 90%?
Is that a gen?
sweet-eddie-b--it-_1_06-1 (13:48):
could be anywhere from 25, generally
25% to 75%.
You tend not to,
emily-sander_1_06-17-2025 (13:53):
Okay.
sweet-eddie-b--it-_ (13:53):
effectively don't see much above that in the
market where they're borrowing ahundred percent or 90% of the
purchase
emily-sander_1_06-17-2025 (14:00):
Okay,
squadcaster-67f2_1_06-17- (14:00):
Yeah.
emily-sander_1_06-17-2025_16 (14:01):
so this, this makes sense if you
have a cash rich asset
sweet-eddie-b--it-_1_06-1 (14:05):
flow.
squadcaster-67f2_1_06-17-20 (14:05):
so.
emily-sander_1_06-17-2025_1 (14:06):
and private equity uses this
strategy a lot.
The downside is if you run intothese long hold periods, which
we're talking about in thiscurrent market, you are.
Term with the bank runs out andyou owe a crap ton of money all
at once.
sweet-eddie-b--it-_1_06-17 (14:23):
Yes,
squadcaster-67f2_1_06-17-20 (14:24):
and that's one risk on the other, of
course, as we've talked about aswell, covenants,
sweet-eddie-b--it-_1_ (14:28):
evidence.
emily-sander_1_06-17-2025_1 (14:29):
Oh.
squadcaster-67f2_1_06-17-2 (14:29):
you, once you have, uh.
You know, take on debt.
You know, you're, you're, you'rebasically, you have to operate
within a certain set ofguardrails, which we call
covenants.
They're basically saying, ifthese, if these elements that
are set in the credit agreementare not met, you know, there
will be consequences of one, onesort or another.
It could be just a financialpenalty, it could be full
acceleration of the facility, etcetera.
(14:51):
There's a lot of, there's a lotof potential outcomes, but the
point is, you know, if you havea debt facility, you know, you.
Don't have as much margin forerror with your business.
Say something like, reallyproblematic happens, you lose
like half of your top customers,you know, for whatever reason
could be a force majeure event.
(15:11):
Who knows, could be anything.
You're still on the hook to topay back that debt on the terms
of the agreement.
Even if the disruption of yourbusiness means your revenue and
your cash flows have gone down.
So there's like real risk tothis.
I mean, leverage.
emily-sander_1_06-17-2025_16 (15:26):
I.
squadcaster-67f2_1_06-17- (15:26):
means risk.
I mean, leverage means.
Uh, re you know, risk andreturn, but in some cases on the
downside, it's, it's, it'spretty, it can be risky for
sure.
emily-sander_1_06-17-2025 (15:36):
Well, I remember, like we, we've
talked about, we're like, ed,you and I are the last company.
Um.
During COVID, I think, came intothat situation where our, our
revenue, we put them on hold.
'cause we were trying to be niceto our clients.
You don't have to pay us forthree months, blah, blah, blah.
But we got into a sticky, wickedsituation with the bank because
(15:56):
we were about to blow covenants.
We were trying to renegotiateterms and they were like, we'll
give you new term, new terms.
But their, their rates and liketheir terms were just in a free
fall here with revenue andyou're, you're refinancing this
thing, but the terms areatrocious.
So they have huge leverage.
They, they call the shots atthat point,
squadcaster-67f2_1_06-17- (16:16):
Well, it's very analogous to somebody
today.
Maybe like, that's pretty, youknow, like let's say they have a
home with equity in it, um, and,you know, but they lose their
jobs or something like that, andthey, they need to tap
emily-sander_1_06-17-2025_16 (16:27):
I.
squadcaster-67f2_1_06-17-2 (16:29):
home equity, et cetera.
Or they need to refinance their,their, their mortgage to tap
into some equity.
It's like, gonna pay, it's gonnacost you, you're gonna have to
give up the.
two and a half percent interestrate you've got on your mortgage
and you're gonna have to go tomarket rates now, which is like
six and half as of right now.
yeah, you don't, you just don'twanna find yourself in
situations where you've taken ondebt.
(16:49):
It's no different than in yourpersonal life where you've taken
on debt and you know there'sdisruption to your life or your
business and, you know, itforces you to have, it forces
your hand, um, to the lender.
emily-sander_1_06-17- (17:01):
Question, is there a scenario where it
gets to the point where it'sbetter to declare bankruptcy to
get debt off of your books?
squadcaster-67f2_1_06-17- (17:08):
Yeah.
sweet-eddie-b--it-_1_06 (17:09):
Mm-hmm.
Yeah.
I.
squadcaster-67f2_1_06-17-20 (17:11):
all the time.
Yeah.
sweet-eddie-b--it-_1_06-17-20 (17:12):
I was, uh, I was making a comment
as to a colleague yesterday,kind of doing a little
reminiscing, uh, on, on, uh, adeal that I had worked on when I
was, uh, over at Lone StarFunds, which was a, a accredited
home lenders, which washeadquartered outta San Diego.
(17:33):
And they had, just prior to thehousing crisis in 2008, they had
acquired ames.
Home Mortgage, which was aretail mortgage provider.
So they had hundreds ofcommercial storefront leases
across the United States.
Then the mar the, the mortgagemarket stopped.
(17:53):
They filled their warehouse'cause they, and they couldn't
securitize.
So basically they were stuckwith a bunch of mortgages they
couldn't continue to generate,and they had hundreds of
storefronts that they werepaying.
Millions of dollars a month toto
emily-sander_1_06-17-202 (18:06):
Yikes.
sweet-eddie-b--it-_1_06-17- (18:06):
And the only way out of those leases
unless you're gonna negotiateeach one, is to file for chapter
11 now.
And my recommendation was filethis thing for chapter 11 and
then 360 3 sale, essentially buyit out of bankruptcy and cleaned
it up.
Instead, they put additionalcapital in and then a year later
filed for chapter 11.
emily-sander_1_06-17-2025_16 (18:27):
Oh no.
sweet-eddie-b--it-_1_06-17-20 (18:28):
3 sale.
Yeah.
And bought it out.
So, and, and that was, I was,that was the first time the
private equity folks accused meof being defeatist because I
didn't see that.
But I, the defeat was actually,you know, I would've saved them,
I would've saved them ninefigures.
Um, had they not gone throughthat process.
squadcaster-67f2_1_06-17-202 (18:47):
Oh man.
sweet-eddie-b--it-_1_06-17- (18:48):
But no one anticipated that the
market was gonna be, again,constipated on the mortgage side
that long, that it, theywouldn't be able to clear the
warehouse.
squadcaster-67f2_1_06-17- (18:55):
Yeah.
emily-sander_1_06-17-2025 (18:57):
Okay, so, okay, so in LBO, who are
the, who are the key players?
You have the PE firm, you havethe company,
sweet-eddie-b--it-_1_06 (19:04):
Mm-hmm.
emily-sander_1_06-17-2025_1 (19:04):
you have the banks.
Is there a better name for that?
Like just
sweet-eddie-b--it-_1_06-17 (19:07):
have the lender.
emily-sander_1_06-17-2 (19:08):
lenders.
Okay.
sweet-eddie-b--it-_1_06 (19:09):
because sometimes it's banks, sometimes
it's specialty lenders.
Sometimes it's a bond issue.
Sometimes it's a combination ofall of those.
squadcaster-67f2_1_06-17-2 (19:17):
Yep.
emily-sander_1_06-17-202 (19:17):
Lender and then Are those, are those
the main one, like theleadership team or Those are the
main.
sweet-eddie-b--it-_1_06-17-2 (19:23):
is not it.
It has to manage, as Rory noted,you've got covenants and you've
got all those things you gottamanage your way through.
squadcaster-67f2_1_06-17-2 (19:29):
than any
sweet-eddie-b--it-_1_06-17-2 (19:29):
is impacted.
Leadership team is impacted, buthopefully the leadership team
has not personally guaranteedany of this debt
squadcaster-67f2_1_06-17-202 (19:37):
Oh my gosh.
Yeah.
sweet-eddie-b--it-_1_06-17 (19:38):
and.
They're not stuck in a positionwhere, and that generally will
happen when you've got a founderled business.
Founders often are personallyguaranteeing the debt of their
business.
squadcaster-67f2_1_06-17 (19:49):
right.
sweet-eddie-b--it-_1_06-17- (19:50):
so, you know, hopefully the
leadership team is not stuck inthat position.
emily-sander_1_06-17-2025_16 (19:55):
So we have three main players.
And then how do those playersmake money?
Private equity firms the companyappreciates in value.
sweet-eddie-b--it-_1_06-1 (20:02):
Yeah, a company appreciates in value.
So instead of putting a hundredmillion, so let's say the
company goes from a hundredmillion in value to 200 million
in value.
The private equity guys, if theydidn't have any debt on the
books, went from, they made ahundred million dollars.
They made a 100% return on theirthey investment
squadcaster-67f2_1_06-17-2 (20:22):
Yep.
sweet-eddie-b--it-_1_06-17-2 (20:22):
if they borrowed.
A chunk of the money.
So if they borrowed half of it,50 million it paid back with the
cash flow outta the business andthey still sold it for 200
million, made four times theirmoney.
squadcaster-67f2_1_06-17- (20:36):
Yeah.
sweet-eddie-b--it-_1_06-17- (20:37):
But the, the key there is they have
to have made cash flow from theoperating business to pay off
the debt because companies aresold on a basis of EBITDA
generally.
Normally debt free.
when a private equity firm buysa company, normally you don't
buy it subject to the existingdebt.
Normally there's a, a provisionin the existing debt that calls
(21:01):
that debt.
Just like when you sell yourhouse, you can't just sell your
house and not pay off themortgage.
Same thing with most,
squadcaster-67f2_1_06-17 (21:07):
Right.
sweet-eddie-b--it-_1_06-17 (21:07):
most of these loan packages, if you
have a change of control, thebank can call the debt, and so.
if the cash flow is paid it offand they're selling it on
ebitda, multiple EBITDA excludesall debt, excludes the impact of
debt.
'cause interest is excluded.
So now they went from 50 millionto 200 million and they used the
cash flow from the company topay off the debt.
(21:29):
Now, otherwise, they might havebeen getting dividends.
But the one
emily-sander_1_06-17 (21:33):
Dividends.
sweet-eddie-b--it-_1_06-1 (21:33):
yeah, the one thing that, that, uh,
and we've, we've touched on it acouple times.
You asked a really goodquestion.
And I, I kind of dismissed itand probably shouldn't have.
The covenants have a, have asignificant impact on the
company's management team.
Debt tends to cause it.
What I will refer to since,since we've gone to a little bit
(21:55):
of this type of, uh, type ofanalogy, it causes a little bit
of a pucker factor associatedwith the, with the, uh, with the
management team because you, younow have basically the big bag
bank.
Is who could take the company?
Who can.
So you've got this third partythat's forcing you to run lean.
(22:16):
You've got debt service whichforces you to run lean.
You don't have fat city cashflow anymore.
And again, I've got, I've got anexample where, you know, I was
with a, I was a another LoneStar company.
I was inserted, we did, theytook a public company, private.
squadcaster-67f2_1_06-1 (22:34):
Mm-hmm.
sweet-eddie-b--it-_1_06-17- (22:35):
had a huge real estate portfolio
that was all paid off, and wewent and sale lease back.
So we sold all of that, weleased it back, we borrowed a
bunch of money, we dividend itout, all of that to the private
equity guys and basically havethis almost like.
amount of debt and leases on abusiness that previously was run
(23:00):
with five private jets with abunch, like the company cars
were all accurate as a Mercedes.
Then all of a sudden you gotnothing.
I mean, you're lucky if wecould, we, we were stretching to
make the, make the leasepayments every month and that's,
that's keeps the management teamfocused on
squadcaster-67f2_1_06-17-2 (23:16):
Yes.
sweet-eddie-b--it-_1 (23:16):
execution.
emily-sander_1_06-17-2025 (23:17):
does.
squadcaster-67f2_1_06-1 (23:18):
Aligned Uhhuh.
emily-sander_1_06-17-2025 (23:19):
Okay.
Okay.
So PE firms make money throughappreciation, dividends and the
management fees.
in a, in the perfect world, whenthis is going well, that's how
they make money.
Okay.
Lenders make money through I'msure fees.
sweet-eddie-b--it-_1_06-17 (23:33):
Fee.
emily-sander_1_06-17-2025_1 (23:33):
And like interest, interest
payments.
squadcaster-67f2_1_06-17-2 (23:35):
Yep.
Fees and interest.
Yep.
Absolutely.
emily-sander_1_06-17-2025 (23:38):
Okay.
Um,
squadcaster-67f2_1_06-17-2025 (23:40):
I mean, I'll throw it in there,
sometimes there's some equitycomponent.
A lot of times lenders,depending on how early stage
emily-sander_1_06-17-2025_1 (23:45):
for the lenders.
squadcaster-67f2_1_06-17- (23:46):
yeah, they'll take a, they'll take
warrants as form ofcompensation, a warrant being an
option to acquire equity.
Basically an equity grant ofsorts.
Um, yeah, a
emily-sander_1_06-17-2025 (23:55):
Okay.
squadcaster-67f2_1_06-17-202 (23:55):
of times they'll do that.
If there's, especially now, Imean, I work, yeah, I work
sweet-eddie-b--it-_1_06-1 (23:58):
Yeah.
That comes down to when we, acouple, a couple, uh, podcasts
ago, and we talked about privatedebt.
They will, and we said thatthey'll often throw warrants in
there
squadcaster-67f2_1_06-1 (24:07):
Mm-hmm.
sweet-eddie-b--it-_1_06- (24:08):
equity kickers in order to increase
value.
Well, that's, that private debtis also what's being used to
fund.
pro,
emily-sander_1_06-17-2025_ (24:15):
Hmm.
sweet-eddie-b--it-_1_06 (24:15):
buyout.
So it may be that a bank, it'snot a good, it's not a good, um,
opportunity for the bank'causethey've got regulatory
requirements that may, this maybe too risky alone given their,
you know, kind of theirstatutory regulatory
requirements or their internalunderwriting requirements.
But a private lender's gonnacome in and go, yeah, this is
fine.
But if you really hit away, Iwant my interest, I want my
(24:38):
fees.
A loan fee, a guarantee fee, uh,this fee or that fee, and
another fee and a and a monthly,you know,
squadcaster-67f2_1_06-17-20 (24:46):
Fee
sweet-eddie-b--it-_1_06 (24:46):
service analysis, charge fee and put
your, you gotta put your moneyhere, but also at the end.
squadcaster-67f2_1_06-17-202 (24:53):
So their cost of capital is
extremely low, and
sweet-eddie-b--it-_1_06-1 (24:55):
Yeah.
squadcaster-67f2_1_06-17-2 (24:55):
they can lend it out at a bigger
margin, net
sweet-eddie-b--it-_1_06-1 (24:57):
Yeah.
'cause the other, the otherthing is normally the bank or
lender will, will have what'scalled an account control
agreement.
And they control all your cash.
squadcaster-67f2_1_06-17- (25:06):
Yeah.
Yep.
emily-sander_1_06-17-2025_ (25:09):
Hmm.
squadcaster-67f2_1_0 (25:09):
Literally,
emily-sander_1_06-17-2025_16 (25:10):
so
squadcaster-67f2_1_06-17- (25:10):
yeah.
emily-sander_1_06-17-2025_16 (25:11):
in the end, like they own this
company.
sweet-eddie-b--it-_1_06-17- (25:15):
the business and they,
emily-sander_1_06-17-2025_ (25:16):
They own everything.
sweet-eddie-b--it-_1_06-17- (25:17):
and they own the business.
And as long as you keep makingyour payments, they'll let you
emily-sander_1_06-17-20 (25:22):
They're fine.
sweet-eddie-b--it-_1_06-1 (25:23):
Yeah.
emily-sander_1_06-17-2025 (25:23):
Yeah.
squadcaster-67f2_1_06-17-202 (25:24):
to all the cash flow.
That's what it comes down
emily-sander_1_06-17-2025_1 (25:26):
But as soon as they think like,
these people can't run thisbusiness effectively, they're
gonna,
sweet-eddie-b--it-_1_06-17 (25:31):
it's not a, they think it's a, it's a
you trip, a covenant.
squadcaster-67f2_1_06-17- (25:35):
Yeah.
sweet-eddie-b--it-_1_06-17-20 (25:35):
a covenant and you don't cure fast
enough, the loan becomesimmediately due and payable.
And
emily-sander_1_06-17-2025_ (25:41):
then they.
sweet-eddie-b--it-_1_06-1 (25:42):
can't write a check to pay off the
loan right away.
So then the bank has the abilityto force you in a bankruptcy and
take over the business.
squadcaster-67f2_1_06-17 (25:49):
wonder how, how that, how, how
frequently that if ever actuallyhappens is like, you know, all
sweet-eddie-b--it-_1_06-17- (25:55):
the bank, the banker.
squadcaster-67f2_1_06-1 (25:55):
you're, I'm calling this, I'm calling
this loan, and they're like,fine, fuck you.
I'll just write a check.
And they do it.
Like how often can that happen?
I wonder.
I mean, it probably does fromtime to time, but like
sweet-eddie-b--it-_1_06-1 (26:05):
I've, I've seen, I've seen a couple
threats where, you know, thefolks have said, I'm gonna,
squadcaster-67f2_1_06-17-2 (26:11):
kind of threats.
But yeah.
sweet-eddie-b--it-_1_06-1 (26:13):
mean, we, I, I've been in one
situation where the conversationwas, okay, we'll toss you the
keys.
And normally they come back witha no, no, no, just, we'll, we'll
do a covenant waiver or we'llchange the covenants, but you
gotta pay us a big fee.
squadcaster-67f2_1_06-17-20 (26:28):
the one kind of point of, I guess,
leverage, maybe not, not theright use of term in this case
for a variety of reasons.
But the one thing that we allgenerally know is that banks
aren't in the business of, like,coming in and running operating
companies.
So
sweet-eddie-b--it-_1_06-17- (26:42):
No.
squadcaster-67f2_1_06-17-2 (26:43):
they don't want you to toss them the
keys and say, come get it.
so generally, you know, um, youwork it out, but it can be an, a
costly endeavor for theoperating company, which, you
know, from a, as you said, as Iguess.
As we incorrectly dismiss, thatcan impact management teams.
If it's like all about,maximizing cash flow and things
like that, you know, um, and,you know, in some cases people's
(27:07):
bonuses are tied to companyperformance, which,
emily-sander_1_06-17-2025_16 (27:09):
Oh yeah.
squadcaster-67f2_1_06-17-20 (27:10):
net income, may in some dumb reason,
but like, you know, as opposedto EBITDA or something like
that, like, dollar that goes outthe door, whether you're paying
for fees for, you know, um.
Private jet flights or, youknow, uh, uh, you know, fees
for, for bank covenant waivers,then yeah, it's coming outta
your pocket.
So, yeah.
emily-sander_1_06-17-2025 (27:30):
Well, I've seen some like C-suite
leaders, like mostly sales justget, like one of'em cried and
one of'em just you could justsee like he was deflated, when
he knew his bonus was going downby 75%.
He just like lost all kind of,
squadcaster-67f2_1_06-17-2 (27:44):
that in salespeople.
You want'em to be, uh, coin
emily-sander_1_06-17-2025 (27:47):
Yeah, but this can take this wind out
of stuff, but yeah, and Iremember
squadcaster-67f2_1_0 (27:50):
especially good ones that are
emily-sander_1_06-17-2025 (27:52):
yeah,
squadcaster-67f2_1_06-17- (27:52):
they, you know, this is a bit of a
digression, but just generalbusiness is if a really coin
operated, really high poweredsalesman, like feels like
they're not gonna make anymoney, they're gone.
You know, they're gonna go
emily-sander_1_06-17-2025 (28:01):
yeah.
And I remember before I knewwhat covenants meant.
I like you, ed and Rory andsomeone else at, at G two was
having a conversation covenants.
Covenants.
And I could just see likeeveryone was super stressed.
I had no idea what this meant.
I had no idea what you weretalking about, but I was this is
serious.
These people are not happy.
This is super stressful forthem.
And like later on in differentrounds and companies, I learned,
(28:23):
I was like, I'm super stressedand I, and I have to be a buffer
to my team.
And everything's fine.
Keep doing your stuff.
You're doing great.
But it's.
squadcaster-67f2_1_06-17-2 (28:29):
have a good place in my heart.
sweet-eddie-b--it-_1_0 (28:31):
compared to, compared to a couple of
deals that I've been in.
That one, that one.
squadcaster-67f2_1_06-17-2 (28:35):
just gonna say that, ed, I mean all
in all, I mean, was probablythe, the company that had the
tightest.
Most predictable, uh, p and land balance sheet light.
Thank you actually to thesponsor who as, as you called
out, didn't leverage thatbusiness up very much.
It was like 33%,
sweet-eddie-b--it-_1_06-17 (28:55):
Yep.
squadcaster-67f2_1_06-17-20 (28:56):
Um, but in hindsight, that was
probably the healthiest businessI worked for, from a pure
cashflow perspective straightaway.
I, I yearn for that againsomeday, know?
emily-sander_1_06-17-2025_1 (29:08):
And we'll end with Rory's yearning.
squadcaster-67f2_1_06-17 (29:10):
equity though, like, and you know, we
restructured that debt while wewere there together, ed,
sweet-eddie-b--it-_1_06-17 (29:14):
Yep.
squadcaster-67f2_1_06-17-202 (29:14):
we did, we, we did what you usually
can't do, which is out adividend to sponsors while
you're still in the deal.
We, we did that because it
sweet-eddie-b--it-_1_06-1 (29:22):
Yeah, we paid down, paid down.
The accrued preferred, accruedpreferred dividend, plus some of
the preferred,
squadcaster-67f2_1_06-17-2 (29:29):
yep,
sweet-eddie-b--it-_1_06-17-2 (29:30):
it
emily-sander_1_06-17-2025 (29:30):
Yeah.
squadcaster-67f2_1_06-17-2 (29:30):
Good thing, you know, for so many
emily-sander_1_06-17-2025 (29:32):
Okay.
squadcaster-67f2_1_06-17- (29:33):
Yeah.
emily-sander_1_06-17-2025_1 (29:33):
So, so one of the risks just to,
'cause I'm trying to think thisthrough.
you take on a high debt load ifyou have a high percentage at
the beginning, and the downsideof that is there's less, there's
less cash flow to work with.
Like you have little, you have alittle leash to work with versus
if, hey, like we're gonna dothis 25% at the beginning, then
(29:54):
you have a little more room tooperate in with cash.
Is that.
squadcaster-67f2_1_06-17-2025 (29:58):
I just, yeah, I really like how,
for the listeners out there thatare not just.
Swimming in the world thatwe're, we're swimming in here.
Just to put it in your own worldterms is like if you buy a house
that's really expensive and youneed to finance that, um, and
your paycheck is a finiteamount.
Your, your, your, your, yourmortgage payment takes up a
(30:19):
bigger proportion of yourpaycheck.
The higher the, the more houseyou're buying call it or.
Take the down payment equationout of it for a second, but like
you're choosing to take on moredebt to buy a bigger house.
You don't have to do it, butyou're choosing to, which leaves
you little margin for error onyour other expenses that you
have in your life and your pay,right?
Same thing happens in businessand that's actually one piece of
(30:41):
advice I can give for mostlisteners that are not as
plugged into the day-to-day aswe are is like business is not
that dissimilar to like yournormal life, how you manage your
checkbook, how you manage your.
You know, proverbial checkbookanyway, um, how you manage your,
you know, sheet, which is justall of the things you have
versus all the things you owe.
It's, it's really similar.
(31:02):
It's just at a much biggerscale, generally speaking.
So just think about things inthose terms and use common sense
basically.
emily-sander_1_06-17-2025 (31:10):
Yeah.
Okay.
Exit question.
What breaks this log jam?
Is it like interest rates?
Is it you saying likevaluations, we're just gonna
give you what you want.
Is it a whole different modelemerging?
What breaks the log jam?
I.
squadcaster-67f2_1_06-17- (31:25):
Well, interest rates, I'll say for
sure.
Um, you know, cheaper cost ofcapital means generally
speaking, uh, people are morewilling to borrow, to make
things happen.
Pretty much.
sweet-eddie-b--it-_1_06-17-20 (31:37):
I think structurally, I think
structurally interest ratelowering.
I agree with Rory.
I also think that that's.
It's gonna be a tough, a toughask given the current,
squadcaster-67f2_1_06-17-2025 (31:47):
a tough
sweet-eddie-b--it-_1_06-17- (31:47):
the current macro economy and
governmental squeezing out ofthe borrowing base.
So I think the other, the otherside of that is time will force
transactions.
You
emily-sander_1_06-17-2025_ (31:59):
Hmm.
sweet-eddie-b--it-_1_06-17-2 (31:59):
no choice, but at some point
transact the business, the, theprivate equity folks and that
those valuations, if they allcome down and it's a macro
factor.
One thing private, well, theprivate equity guys will take
it, will, will take it on thechin because, you know, they
make money on the multiple up.
You know, that's, that's a bigcomponent of their compensation.
(32:22):
if everybody's suffering with itand everybody's gotta transact
and everybody's gotta go throughthe process, private equity guys
can at least look their limitedpartners in the face and go,
this is a macroeconomic issue.
It's not a US issue.
And we're gonna transact thisstuff, get liquidity, and we're
gonna go buy in now that theprices have come down and you
know, there's a lot ofattractive opportunities out
(32:43):
there.
So I think if, if interest ratesdon't fall and I don't see that,
you know, a dramatic change ininterest rates, I actually see
them probably continuing to tickup.
Over the next, you know, five,five to 10 years, I think we're
gonna continue to see risingrates just because of government
debt requirements.
I think the flip side of that istime is gonna cause these to
(33:04):
transact and you know, they'll,they'll move on and you know,
we'll hit reset
squadcaster-67f2_1_06-17- (33:10):
Yeah.
Yeah.
emily-sander_1_06-17-2025_ (33:12):
Who, who wins in this economic
environment?
squadcaster-67f2_1_06-17- (33:15):
Yeah.
sweet-eddie-b--it-_1_06-17 (33:16):
They won.
squadcaster-67f2_1_06-17- (33:17):
yeah.
sweet-eddie-b--it-_1_06-17 (33:18):
They sold it.
They sold at high valuationsthat aren't able to get
replicated in today's market.
emily-sander_1_06-17-2025_16 (33:27):
Is this good for anyone else?
If you're like contrarian, like,oh, this is.
squadcaster-67f2_1_06-17-2025 (33:30):
I think it's the, I think the big,
the big companies out there thathave a voracious appetite for
acquisition, they win too.
There's tons of cash sitting onbalance sheets right now for the
very reasons we're talkingabout.
There's, you know, there, therehasn't been a lot of other
avenues to spend.
A lot of people are pluggingmoney into, um, technology
innovation, stuff like that,where maybe they were buying it
(33:51):
through acquisition before.
Now I'd say.
You know, prices are going to godown.
So if you have cash and you'reacquisitive, you're gonna win.
You know,
sweet-eddie-b--it-_1_06-17-20 (34:00):
I think.
squadcaster-67f2_1_06-17 (34:00):
you're buying good businesses, you
know?
sweet-eddie-b--it-_1_06-17-20 (34:02):
I think Rory hit it on the head
earlier strategic buyers havelargely been getting forced out
by private equity buyers whowere overpaying essentially.
So the strategic buyers, theyprivate equity was paying
strategic buyer pricing.
Assuming you know that there'sgonna be a another upside, I
(34:24):
think the real winner here isgonna be.
The strategic buyer who can getcost synergies, who can get, you
know, strategic synergies withthose acquisitions, they're
gonna be willing to pay morethan the, than a private equity
buyer.
And the private equity buyer'snow gonna be having to set their
sites lower, and it'll be lesscompetitive for the strategic
buyer to be able to make some ofthese key acquisitions for
(34:45):
their, for their corporateportfolio.
emily-sander_1_06-17-2025_16 (34:49):
Do you think this changes exit
strategies or the exitenvironment forever?
Or do you think like in a yearor two.
You, it'll go back to how itwas.
squadcaster-67f2_1_06-17-2 (34:56):
Boy.
sweet-eddie-b--it-_1_06-1 (34:57):
don't see a year or two, but I do, and
I, I do think, I actually thinkthe last five to seven years
have been more of an anomaly.
if you look at the long,
squadcaster-67f2_1_06-17- (35:06):
side.
Yeah.
sweet-eddie-b--it-_1_06-1 (35:07):
yeah, if you look at the long history,
the long history is I.
Private equity tends to buysmaller, undervalued businesses
that are private, that aren't ona strategic radar.
They grow them, they make themready for institutional money or
institutional purchase.
Strategic purchase.
Strategic buyers buy them,integrate them into their
business, and then it's andrepeat.
(35:27):
Or they buy businesses that arelarger and I'll use like the RJR
and Nabisco.
From back in the, back in theday, back in the eighties where
the company is big fat and notbeing run effectively as a, as a
public company.
The private equity guys buy it,they strip it down, they put
debt on it.
They use all the tactics that weuse today and then take it back
(35:51):
public later.
that's been the norm the lastfive years of private equity,
flipping the private equity andyou know, the prices going up
and up and up has not been thenorm.
And so I do think.
Instead of it being a permanentchange, I actually think it's
like back to kind of back tonormal, um, for the industry.
squadcaster-67f2_1_06-17- (36:09):
Yeah, I could see it.
Yep.
emily-sander_1_06-17-2025 (36:12):
Final call.
Anything else on current marketor leverage buyouts?
What they are, how to use them,what to think about?
squadcaster-67f2_1_06-17-20 (36:22):
No, just.
sensible choices.
You know, uh, use, use commonsense.
If you, if you can't, uh, if youcan't afford it, maybe don't buy
it or finance it.
You know, like it's, it is just,you know, simple principles I'd
say, you know, look for valueout there.
That, that's the
sweet-eddie-b--it-_1_06 (36:38):
Mm-hmm.
squadcaster-67f2_1_06-17-202 (36:39):
If you have the wherewithal,
there's value to be found, um,because of this lack of
liquidity and lack of, uh, um,financing option for that.
Yeah.
Relative to what it has been inthe last, call it five years or
so.
Yeah.
emily-sander_1_06-17-2025_160 (36:54):
I think apply Common sense is just
a good life philosophy in
squadcaster-67f2_1_06-1 (36:57):
answer.
emily-sander_1_06-17-20 (36:57):
realms.
Yes, love it.
squadcaster-67f2_1_06-17-202 (36:59):
it defies, uh, defies things that
emily-sander_1_06-17-2025_1 (37:01):
Not a lot of people have it.
Not a lot of people have itsurprisingly.
So that's a good one to end on.
Apply common sense, applyjudgment to all of your
decisions, and we will catch younext time on the Private Equity
Experience podcast.
Thanks, ed.
Thanks Rory.
squadcaster-67f2_1_06-17-2 (37:14):
you.
sweet-eddie-b--it-_1_06- (37:14):
Thanks guys.
all right, let's see.
Icebreaker question for now.
If you had to describe thecurrent state of private equity
in one emoji, what would it be?
squadcaster-67f2_1_06-17-2 (00:50):
I'm, I'm not gonna say fire, like a,
like a dumpster fire'cause it'snot, but uh, yeah, I think, um,
pensive perhaps, you know, that
sweet-eddie-b--it-_1_06-17-2 (01:01):
It is
emily-sander_1_06-17-2025_ (01:01):
Mine would be the one with like the
big eyes where it's like, uh.
squadcaster-67f2_1_06-17- (01:04):
could be.
sweet-eddie-b--it-_1_06-1 (01:05):
Yeah, no, I'm actually going with the
one that's got just the two eyesno mouth.
Like it's just a little roundface with two eyes staring out
at you.
I, I don't, I mean, right now noone knows whether to be sad or
happy.
They don't know whether to frownor to smile, so there's no
mouth.
It's just two eyes, a littleemoji with two eyes.
emily-sander_1_06-17-2025 (01:29):
Okay.
squadcaster-67f2_1_06- (01:30):
investor in defense related, uh,
contracts, I think you'reprobably smiling.
All right.
Just want, you
emily-sander_1_06-17-2025 (01:35):
Yeah.
sweet-eddie-b--it-_1_06-17- (01:36):
You might be right now.
squadcaster-67f2_1_06-17- (01:37):
this, this goes where, I guess the
dates where we're at, but youknow, who knows?
We might be at war with Irananother day or two.
You never know.
So.
emily-sander_1_06-17-2025_ (01:46):
What is.
No, let me, let's jump right in.
So I was gonna do a hangoverquestion, like true confessions.
What's your worst hangover?
But, um, we can save that for alater episode.
I think I've witnessed Ed'sworst hangover Dublin.
Um, but we'll save that for alater episode.
Uh, but we did run across anarticle more specifically by we,
I mean, Rory came across asarticle.
(02:08):
Just touch us off on that.
Rory, what's, what's thatsaying?
squadcaster-67f2_1_06-17- (02:11):
Well, it, it really is.
Um, yeah, it kind of.
It kind of summarizes what we'vebeen talking about.
You know, both in our podcasts,in our book to some degree is
about basically liquidity intoday's market and how a
emily-sander_1_06-17-202 (02:27):
What's the headline of the article?
squadcaster-67f2_1_06-17-2 (02:29):
just call the private equity
hangover,
emily-sander_1_06-17-2025_1 (02:31):
The Private Equity Hangover.
squadcaster-67f2_1_06-17-20 (02:33):
uh, basically what, uh, you know,
what, what founders need to knowabout the$3.6 trillion exit log
jam.
So what that means is thatthere's a ton of businesses that
are.
Actively being held by privateequity groups, venture
capitalists, et cetera, thathave not transacted, meaning
they're getting the wholeperiod's long.
(02:54):
there's so many reasons whypeople are holding onto these
assets.
Um, so mostly bad, but you know,a variety of reasons.
It's just not as robust of a buysell market right now as it has
been in recent years.
emily-sander_1_06-17-2025_ (03:06):
What is the long-term impact of that?
If this keeps going.
squadcaster-67f2_1_06-17- (03:10):
Well, it could be a lot of, a lot of
things.
Um, you know, not the least ofwhich is people that invest in
private equity funds that wantto get their money back, they
may have to sit on sidelines andwait longer.
I.
sweet-eddie-b--it-_1_06-17-20 (03:26):
I was gonna say on the, the
private equity part of thecomponent of private equity
where private equity guys maketheir money is velocity because
you want to have deals turningquickly.
So you don't wanna hold'em toolong.
'cause you get, you get therealization of your upside on
that.
So from the.
(03:46):
PE firm perspective.
got your little two percents orone percents your care, you
know, your kind of run along,um, that you get on an annual
basis for management, but youreally make your money on a
transaction and that does twothings.
One, it puts money into.
Private equity firms pocket.
So they get a realized gain.
(04:07):
They get a, as we've talkedabout on other podcasts and in
the book you, they may getbetween 10 and 20% of the profit
goes right into the generalpartner, the private equity
firm's pocket.
The second thing is they returnthat capital back to the to the
limited partners who then investin the next fund.
And so if.
If the entire system is kind ofclogged up or you know, we've
(04:31):
got private equity,constipation, and these deals
aren't moving, making money.
Nobody's able to reinvest'causethere's no liquidity at the
limited partner line, so theydon't have the ability to
reinvest.
And so the private equity guysdon't have the ability to raise
another fund and because theydon't have an ability to raise
another fund, there's no moneyavailable to be able to go buy
(04:53):
the stuff that's on the market.
And it just clogs everything up.
emily-sander_1_06-17-2025_16 (04:57):
So there's this cadence that it has
to run at, and this is like logjamming, that cadence, and it's
clogging it up.
We need Metamucil, we need totake some Epsom salt baths.
We need to get, get the logjamthrough whatever analogy we
wanna use.
Because like, my question is ifthat continues for long enough,
does it just does something justdie?
Like what?
Like, does private equity goaway?
sweet-eddie-b--it-_1_06-17- (05:18):
end up happening, I, from my
perspective, is you'll get to,there's a reason why nothing's
moving.
And it's, it's a liquidityissue.
So there's a liquidity issuewhere, you know, folks are
looking at the liquidity.
They have their ability to putstuff back to work.
The, yeah, it just doesn't makesense to pull the trigger.
At some point, someone needs toget liquid, the price will,
(05:40):
prices will start coming down towhere folks go.
Okay.
I, regardless of kind of whereI'm at.
squadcaster-67f2_1_06-17- (05:47):
Yeah.
I
sweet-eddie-b--it-_1_06-17 (05:47):
This makes sense.
I'm pulling the trigger I'mgonna buy Now.
The issue is when you've got thebuy, when the buy sell spread on
these transactions, which isreally what we're seeing right
now, is there's a buy sellspread that's fairly large.
The sellers bought as, as wetalked about earlier, the
sellers bought.
Or the, the, the, when thesellers bought in, they bought
(06:09):
in, you know, five years ago totoday, which is, you know, I was
sitting in the market going, Ican't believe people are paying
these multiples and companiesare trading at ridiculous
prices.
And during COVID, you know, itseems like everybody was
overpaying for everything.
squadcaster-67f2_1_06-17- (06:24):
Yeah.
sweet-eddie-b--it-_1_06-17- (06:24):
now
squadcaster-67f2_1_06-17- (06:25):
Yeah.
sweet-eddie-b--it-_1_06-1 (06:25):
folks are, they're looking to sell.
Their basis in those assets isvery high.
squadcaster-67f2_1_06-1 (06:30):
Mm-hmm.
sweet-eddie-b--it-_1_06-17- (06:30):
Now what we've seen is interest
rates have risen.
So the risk premium goes up, andso as a result, you've gotta
'cause,'cause again, you've gotyour risk-free rate has gone up.
So the risk premium above thathas gone up.
So the prices come down andthere's a gap between this is
what I paid for it, this is whatI modeled my return to be, or
this is what I booked myvaluation as.
(06:52):
And this is what the market'swilling to transact based upon
the current profile of kindarisk, premium, and discounted
cash flow.
emily-sander_1_06-17-2025_16 (07:00):
So basically like you're taking a
loss.
sweet-eddie-b--it-_1_06-17- (07:02):
It, it could be, it could be a, it
may not be a loss from theinitial investment, but it may
be a
squadcaster-67f2_1_06-17- (07:09):
Yeah.
sweet-eddie-b--it-_1_06-1 (07:09):
lower than expected return to either
the limited partners, thegeneral partner, or both.
squadcaster-67f2_1_06-17- (07:17):
Yeah, I mean, cash is king right now
too, so that's another thingwith private equity, you know,
and we talked about privatecredit in our last episodes.
Typically those two go together.
But, you know, um, I'd say interms of deal flow, the groups
that have the advantage rightnow to buying companies are
probably strategics, like large,large corporations that.
(07:39):
Have an acquisition strategy aspart of their ethos.
And so there's maybe not as muchcompetition, one might say, um,
against private equity andothers that maybe rely a lot on
leverage.
Uh, with Ed, talked about it,you know, interest rates are
high.
They were pretty much zero, um,risk-free rate four or five
years ago.
(08:00):
you're looking at 7% interestrates plus on just like a paper.
And so, you know, um, whereas.
know, strategics may not havehad as much of an upper hand on
private equity in a lot of ways.
Now they, they may, uh, there'sjust not as much competition for
deals probably.
And then flip it on the otherside.
talk a lot in this podcast, inour book, et cetera, about
(08:22):
founder perspective, right?
So if you're a founder that'sbuilt your business and you've
been wanting to transact, you'vebeen wanting to sell your
business, or you thought fiveyears ago, Hey, if I grow this
sucker five years from now, I'mgonna trade it and a massive
multiple on my EBITDA orrevenue, or however you wanna.
Build that valuation.
Um, you're probably rerunningyour models these days on, you
(08:43):
know, what that looks like, andyou might not have as much
option you did before.
So you're probably forced withthe idea of do I continue to
bootstrap this thing?
Do I continue to look at takingon or the investors, whatever.
Uh, maybe you take pay forexpensive debt, who knows?
But, um, maybe you're,rethinking things now when, when
you, uh, you know, had adifferent vision four or five
(09:04):
years ago.
emily-sander_1_06-17-2025_16 (09:06):
So you mentioned leverage, you
mentioned taking on debt.
Does a a leverage buyout helpyou in this scenario?
squadcaster-67f2_1_06-17-2 (09:13):
Does it help you?
Uh, that depends on a lot ofthings, I guess.
Uh, what are the terms of thatdebt?
What's the cost of that debt,you know?
Um, does the
emily-sander_1_06-17-2025_16 (09:23):
If we zoom out, what's a, if we
zoom out what's an LBO?
squadcaster-67f2_1_06-17-20 (09:27):
Oh, it's just simply using debt to
finance the purchase of a, anasset a company.
emily-sander_1_06-17-2025_1 (09:32):
if, so, if you don't have cash,
squadcaster-67f2_1_06-17-2 (09:34):
Yep.
emily-sander_1_06-17-2025_1 (09:34):
you can finance this thing through
debt.
squadcaster-67f2_1_06-17- (09:36):
Yeah, that's right.
emily-sander_1_06-17-2025 (09:38):
Okay.
squadcaster-67f2_1_06-17-20 (09:39):
And
emily-sander_1_06-17-2025 (09:39):
just,
squadcaster-67f2_1_06-17-2 (09:40):
the, that's the common, common
playbook used by private equityfirms is, and they're
emily-sander_1_06-17-2025_ (09:45):
hmm.
squadcaster-67f2_1_06-17-2 (09:46):
with banks that they're really
familiar with, um, privatecredit funds that they're really
familiar with.
And, and it really allows themto put equity down, um, minimum
loan cash down at close, know,in typical terms, you're able to
use the cash flows from thebusiness to service that debt
over time.
then you think about it in aprivate equity hold period
(10:07):
scenario, you know, call itthree to seven years, you know,
you structure well, you're,you'll either refinance that
debt out to, um, better terms,or you'll basically transact the
business within that timeframebefore the debt's mature.
But I think right now a lot ofthe businesses are having to
face restructuring their debtbecause they hadn't previously,
um, you know, sold the company,the op, the asset.
(10:29):
So it's like, all right, well Igotta pay, I gotta bullet
maturity on my debt facility.
I gotta deal with that.
And so maybe they're not gettingas much as Ed talked about, um,
good economics on their, theirwhole situation right now.
emily-sander_1_06-17-2025 (10:44):
Okay, so, so, um, give me an example
of an LBO.
So at the beginning, I don'thave cash, so I might pay, I
don't know, I'm making upnumbers.
Like let's just pick simplenumbers, like 1 million in cash
and then I'm taking on X amount
sweet-eddie-b--it-_1_0 (11:02):
depends.
So XX is a variable number andit really depends upon the free
cash flow of the target.
So what you're looking, whatyou're looking for, essentially.
So I'll, I'll use an example,um, a a real life example.
So you have a, a company thatRoy and I worked with that just
spun cash like crazy.
(11:23):
So when you look at the, whenyou look at the.
Kind of the debt-free at, so youlook at the balance sheet, you
look at the assets, and you, youhave it, just no liabilities.
You look at the assets and it'sgot a hundred million of assets
and that a hundred million ofassets is, is spinning, you
know, 11, 12,$13 million of freecash flow on an annualized
(11:44):
basis.
When the private equity guyscome in to buy it, they go,
okay, look, there, you got thisa hundred million of assets,
we're gonna pay you one 30 or140 million.
We're gonna put.
40,$50 million of equity andwe're gonna borrow a hundred
million
squadcaster-67f2_1_06-17- (12:01):
Yeah.
emily-sander_1_06-17-2025 (12:02):
Okay.
sweet-eddie-b--it-_1_06 (12:03):
because the assets, they were, you know,
it was a loan portfolios, theincome coming off, those were
more than service.
The debt that's on the otherside of the, that we used to
acquire it.
So, you've got on, on the otherside, you know, and we were in
a, a.
Uh, business that they, that wasa leverage buyout where they
(12:24):
paid 50 million and put 14million at debt on it and would
check in for, for 36.
And that was one where it wasn'tthe majority of the purchase
price, but they said, okay, wecould get good terms on this, on
this note, and it makes ourequity, it kind of juices our
equity returns.
So that's a leverage buyout too.
It's just less leverage.
(12:45):
The issue with that one, as youwould call.
Is, as Rory just noted, the,there's a bullet maturity.
So basically what that says is,you know, the loan pays off a
little bit every quarter, fiveyears in because the guy said,
well, five years we'll have soldthis if five years in the entire
balance is due.
(13:06):
So it may have been paying downa million dollars a year.
For five years on a$14 millionnote, and then all of a sudden
at the end of year five, theygotta stroke a check for 9
million bucks.
Well, if they don't
emily-sander_1_06-17-2025_16 (13:16):
Oh no.
sweet-eddie-b--it-_1_0 (13:17):
million, then they've either gotta
refinance the debt under, underduress or sell the business to
raise the, to raise the money,or they've gotta do a capital
call
squadcaster-67f2_1_06-17-20 (13:28):
for
sweet-eddie-b--it-_1_06-17- (13:28):
and put more capital in.
squadcaster-67f2_1_06-17- (13:29):
Yeah, yeah.
emily-sander_1_06-17-2025 (13:31):
Okay, so let me recap what I think I
just heard.
Leverage buyout is a strategy.
It's an acquisition strategy.
You can use many strategies toget in, but okay, so you're
taking on a significant amountof debt, like ballpark, like is
this anywhere from 60% to 90%?
Is that a gen?
sweet-eddie-b--it-_1_06-1 (13:48):
could be anywhere from 25, generally
25% to 75%.
You tend not to,
emily-sander_1_06-17-2025 (13:53):
Okay.
sweet-eddie-b--it-_ (13:53):
effectively don't see much above that in the
market where they're borrowing ahundred percent or 90% of the
purchase
emily-sander_1_06-17-2025 (14:00):
Okay,
squadcaster-67f2_1_06-17- (14:00):
Yeah.
emily-sander_1_06-17-2025_16 (14:01):
so this, this makes sense if you
have a cash rich asset
sweet-eddie-b--it-_1_06-1 (14:05):
flow.
squadcaster-67f2_1_06-17-20 (14:05):
so.
emily-sander_1_06-17-2025_1 (14:06):
and private equity uses this
strategy a lot.
The downside is if you run intothese long hold periods, which
we're talking about in thiscurrent market, you are.
Term with the bank runs out andyou owe a crap ton of money all
at once.
sweet-eddie-b--it-_1_06-17 (14:23):
Yes,
squadcaster-67f2_1_06-17-20 (14:24):
and that's one risk on the other, of
course, as we've talked about aswell, covenants,
sweet-eddie-b--it-_1_ (14:28):
evidence.
emily-sander_1_06-17-2025_1 (14:29):
Oh.
squadcaster-67f2_1_06-17-2 (14:29):
you, once you have, uh.
You know, take on debt.
You know, you're, you're, you'rebasically, you have to operate
within a certain set ofguardrails, which we call
covenants.
They're basically saying, ifthese, if these elements that
are set in the credit agreementare not met, you know, there
will be consequences of one, onesort or another.
It could be just a financialpenalty, it could be full
acceleration of the facility, etcetera.
(14:51):
There's a lot of, there's a lotof potential outcomes, but the
point is, you know, if you havea debt facility, you know, you.
Don't have as much margin forerror with your business.
Say something like, reallyproblematic happens, you lose
like half of your top customers,you know, for whatever reason
could be a force majeure event.
(15:11):
Who knows, could be anything.
You're still on the hook to topay back that debt on the terms
of the agreement.
Even if the disruption of yourbusiness means your revenue and
your cash flows have gone down.
So there's like real risk tothis.
I mean, leverage.
emily-sander_1_06-17-2025_16 (15:26):
I.
squadcaster-67f2_1_06-17- (15:26):
means risk.
I mean, leverage means.
Uh, re you know, risk andreturn, but in some cases on the
downside, it's, it's, it'spretty, it can be risky for
sure.
emily-sander_1_06-17-2025 (15:36):
Well, I remember, like we, we've
talked about, we're like, ed,you and I are the last company.
Um.
During COVID, I think, came intothat situation where our, our
revenue, we put them on hold.
'cause we were trying to be niceto our clients.
You don't have to pay us forthree months, blah, blah, blah.
But we got into a sticky, wickedsituation with the bank because
(15:56):
we were about to blow covenants.
We were trying to renegotiateterms and they were like, we'll
give you new term, new terms.
But their, their rates and liketheir terms were just in a free
fall here with revenue andyou're, you're refinancing this
thing, but the terms areatrocious.
So they have huge leverage.
They, they call the shots atthat point,
squadcaster-67f2_1_06-17- (16:16):
Well, it's very analogous to somebody
today.
Maybe like, that's pretty, youknow, like let's say they have a
home with equity in it, um, and,you know, but they lose their
jobs or something like that, andthey, they need to tap
emily-sander_1_06-17-2025_16 (16:27):
I.
squadcaster-67f2_1_06-17-2 (16:29):
home equity, et cetera.
Or they need to refinance their,their, their mortgage to tap
into some equity.
It's like, gonna pay, it's gonnacost you, you're gonna have to
give up the.
two and a half percent interestrate you've got on your mortgage
and you're gonna have to go tomarket rates now, which is like
six and half as of right now.
yeah, you don't, you just don'twanna find yourself in
situations where you've taken ondebt.
(16:49):
It's no different than in yourpersonal life where you've taken
on debt and you know there'sdisruption to your life or your
business and, you know, itforces you to have, it forces
your hand, um, to the lender.
emily-sander_1_06-17- (17:01):
Question, is there a scenario where it
gets to the point where it'sbetter to declare bankruptcy to
get debt off of your books?
squadcaster-67f2_1_06-17- (17:08):
Yeah.
sweet-eddie-b--it-_1_06 (17:09):
Mm-hmm.
Yeah.
I.
squadcaster-67f2_1_06-17-20 (17:11):
all the time.
Yeah.
sweet-eddie-b--it-_1_06-17-20 (17:12):
I was, uh, I was making a comment
as to a colleague yesterday,kind of doing a little
reminiscing, uh, on, on, uh, adeal that I had worked on when I
was, uh, over at Lone StarFunds, which was a, a accredited
home lenders, which washeadquartered outta San Diego.
(17:33):
And they had, just prior to thehousing crisis in 2008, they had
acquired ames.
Home Mortgage, which was aretail mortgage provider.
So they had hundreds ofcommercial storefront leases
across the United States.
Then the mar the, the mortgagemarket stopped.
(17:53):
They filled their warehouse'cause they, and they couldn't
securitize.
So basically they were stuckwith a bunch of mortgages they
couldn't continue to generate,and they had hundreds of
storefronts that they werepaying.
Millions of dollars a month toto
emily-sander_1_06-17-202 (18:06):
Yikes.
sweet-eddie-b--it-_1_06-17- (18:06):
And the only way out of those leases
unless you're gonna negotiateeach one, is to file for chapter
11 now.
And my recommendation was filethis thing for chapter 11 and
then 360 3 sale, essentially buyit out of bankruptcy and cleaned
it up.
Instead, they put additionalcapital in and then a year later
filed for chapter 11.
emily-sander_1_06-17-2025_16 (18:27):
Oh no.
sweet-eddie-b--it-_1_06-17-20 (18:28):
3 sale.
Yeah.
And bought it out.
So, and, and that was, I was,that was the first time the
private equity folks accused meof being defeatist because I
didn't see that.
But I, the defeat was actually,you know, I would've saved them,
I would've saved them ninefigures.
Um, had they not gone throughthat process.
squadcaster-67f2_1_06-17-202 (18:47):
Oh man.
sweet-eddie-b--it-_1_06-17- (18:48):
But no one anticipated that the
market was gonna be, again,constipated on the mortgage side
that long, that it, theywouldn't be able to clear the
warehouse.
squadcaster-67f2_1_06-17- (18:55):
Yeah.
emily-sander_1_06-17-2025 (18:57):
Okay, so, okay, so in LBO, who are
the, who are the key players?
You have the PE firm, you havethe company,
sweet-eddie-b--it-_1_06 (19:04):
Mm-hmm.
emily-sander_1_06-17-2025_1 (19:04):
you have the banks.
Is there a better name for that?
Like just
sweet-eddie-b--it-_1_06-17 (19:07):
have the lender.
emily-sander_1_06-17-2 (19:08):
lenders.
Okay.
sweet-eddie-b--it-_1_06 (19:09):
because sometimes it's banks, sometimes
it's specialty lenders.
Sometimes it's a bond issue.
Sometimes it's a combination ofall of those.
squadcaster-67f2_1_06-17-2 (19:17):
Yep.
emily-sander_1_06-17-202 (19:17):
Lender and then Are those, are those
the main one, like theleadership team or Those are the
main.
sweet-eddie-b--it-_1_06-17-2 (19:23):
is not it.
It has to manage, as Rory noted,you've got covenants and you've
got all those things you gottamanage your way through.
squadcaster-67f2_1_06-17-2 (19:29):
than any
sweet-eddie-b--it-_1_06-17-2 (19:29):
is impacted.
Leadership team is impacted, buthopefully the leadership team
has not personally guaranteedany of this debt
squadcaster-67f2_1_06-17-202 (19:37):
Oh my gosh.
Yeah.
sweet-eddie-b--it-_1_06-17 (19:38):
and.
They're not stuck in a positionwhere, and that generally will
happen when you've got a founderled business.
Founders often are personallyguaranteeing the debt of their
business.
squadcaster-67f2_1_06-17 (19:49):
right.
sweet-eddie-b--it-_1_06-17- (19:50):
so, you know, hopefully the
leadership team is not stuck inthat position.
emily-sander_1_06-17-2025_16 (19:55):
So we have three main players.
And then how do those playersmake money?
Private equity firms the companyappreciates in value.
sweet-eddie-b--it-_1_06-1 (20:02):
Yeah, a company appreciates in value.
So instead of putting a hundredmillion, so let's say the
company goes from a hundredmillion in value to 200 million
in value.
The private equity guys, if theydidn't have any debt on the
books, went from, they made ahundred million dollars.
They made a 100% return on theirthey investment
squadcaster-67f2_1_06-17-2 (20:22):
Yep.
sweet-eddie-b--it-_1_06-17-2 (20:22):
if they borrowed.
A chunk of the money.
So if they borrowed half of it,50 million it paid back with the
cash flow outta the business andthey still sold it for 200
million, made four times theirmoney.
squadcaster-67f2_1_06-17- (20:36):
Yeah.
sweet-eddie-b--it-_1_06-17- (20:37):
But the, the key there is they have
to have made cash flow from theoperating business to pay off
the debt because companies aresold on a basis of EBITDA
generally.
Normally debt free.
when a private equity firm buysa company, normally you don't
buy it subject to the existingdebt.
Normally there's a, a provisionin the existing debt that calls
(21:01):
that debt.
Just like when you sell yourhouse, you can't just sell your
house and not pay off themortgage.
Same thing with most,
squadcaster-67f2_1_06-17 (21:07):
Right.
sweet-eddie-b--it-_1_06-17 (21:07):
most of these loan packages, if you
have a change of control, thebank can call the debt, and so.
if the cash flow is paid it offand they're selling it on
ebitda, multiple EBITDA excludesall debt, excludes the impact of
debt.
'cause interest is excluded.
So now they went from 50 millionto 200 million and they used the
cash flow from the company topay off the debt.
(21:29):
Now, otherwise, they might havebeen getting dividends.
But the one
emily-sander_1_06-17 (21:33):
Dividends.
sweet-eddie-b--it-_1_06-1 (21:33):
yeah, the one thing that, that, uh,
and we've, we've touched on it acouple times.
You asked a really goodquestion.
And I, I kind of dismissed itand probably shouldn't have.
The covenants have a, have asignificant impact on the
company's management team.
Debt tends to cause it.
What I will refer to since,since we've gone to a little bit
(21:55):
of this type of, uh, type ofanalogy, it causes a little bit
of a pucker factor associatedwith the, with the, uh, with the
management team because you, younow have basically the big bag
bank.
Is who could take the company?
Who can.
So you've got this third partythat's forcing you to run lean.
(22:16):
You've got debt service whichforces you to run lean.
You don't have fat city cashflow anymore.
And again, I've got, I've got anexample where, you know, I was
with a, I was a another LoneStar company.
I was inserted, we did, theytook a public company, private.
squadcaster-67f2_1_06-1 (22:34):
Mm-hmm.
sweet-eddie-b--it-_1_06-17- (22:35):
had a huge real estate portfolio
that was all paid off, and wewent and sale lease back.
So we sold all of that, weleased it back, we borrowed a
bunch of money, we dividend itout, all of that to the private
equity guys and basically havethis almost like.
amount of debt and leases on abusiness that previously was run
(23:00):
with five private jets with abunch, like the company cars
were all accurate as a Mercedes.
Then all of a sudden you gotnothing.
I mean, you're lucky if wecould, we, we were stretching to
make the, make the leasepayments every month and that's,
that's keeps the management teamfocused on
squadcaster-67f2_1_06-17-2 (23:16):
Yes.
sweet-eddie-b--it-_1 (23:16):
execution.
emily-sander_1_06-17-2025 (23:17):
does.
squadcaster-67f2_1_06-1 (23:18):
Aligned Uhhuh.
emily-sander_1_06-17-2025 (23:19):
Okay.
Okay.
So PE firms make money throughappreciation, dividends and the
management fees.
in a, in the perfect world, whenthis is going well, that's how
they make money.
Okay.
Lenders make money through I'msure fees.
sweet-eddie-b--it-_1_06-17 (23:33):
Fee.
emily-sander_1_06-17-2025_1 (23:33):
And like interest, interest
payments.
squadcaster-67f2_1_06-17-2 (23:35):
Yep.
Fees and interest.
Yep.
Absolutely.
emily-sander_1_06-17-2025 (23:38):
Okay.
Um,
squadcaster-67f2_1_06-17-2025 (23:40):
I mean, I'll throw it in there,
sometimes there's some equitycomponent.
A lot of times lenders,depending on how early stage
emily-sander_1_06-17-2025_1 (23:45):
for the lenders.
squadcaster-67f2_1_06-17- (23:46):
yeah, they'll take a, they'll take
warrants as form ofcompensation, a warrant being an
option to acquire equity.
Basically an equity grant ofsorts.
Um, yeah, a
emily-sander_1_06-17-2025 (23:55):
Okay.
squadcaster-67f2_1_06-17-202 (23:55):
of times they'll do that.
If there's, especially now, Imean, I work, yeah, I work
sweet-eddie-b--it-_1_06-1 (23:58):
Yeah.
That comes down to when we, acouple, a couple, uh, podcasts
ago, and we talked about privatedebt.
They will, and we said thatthey'll often throw warrants in
there
squadcaster-67f2_1_06-1 (24:07):
Mm-hmm.
sweet-eddie-b--it-_1_06- (24:08):
equity kickers in order to increase
value.
Well, that's, that private debtis also what's being used to
fund.
pro,
emily-sander_1_06-17-2025_ (24:15):
Hmm.
sweet-eddie-b--it-_1_06 (24:15):
buyout.
So it may be that a bank, it'snot a good, it's not a good, um,
opportunity for the bank'causethey've got regulatory
requirements that may, this maybe too risky alone given their,
you know, kind of theirstatutory regulatory
requirements or their internalunderwriting requirements.
But a private lender's gonnacome in and go, yeah, this is
fine.
But if you really hit away, Iwant my interest, I want my
(24:38):
fees.
A loan fee, a guarantee fee, uh,this fee or that fee, and
another fee and a and a monthly,you know,
squadcaster-67f2_1_06-17-20 (24:46):
Fee
sweet-eddie-b--it-_1_06 (24:46):
service analysis, charge fee and put
your, you gotta put your moneyhere, but also at the end.
squadcaster-67f2_1_06-17-202 (24:53):
So their cost of capital is
extremely low, and
sweet-eddie-b--it-_1_06-1 (24:55):
Yeah.
squadcaster-67f2_1_06-17-2 (24:55):
they can lend it out at a bigger
margin, net
sweet-eddie-b--it-_1_06-1 (24:57):
Yeah.
'cause the other, the otherthing is normally the bank or
lender will, will have what'scalled an account control
agreement.
And they control all your cash.
squadcaster-67f2_1_06-17- (25:06):
Yeah.
Yep.
emily-sander_1_06-17-2025_ (25:09):
Hmm.
squadcaster-67f2_1_0 (25:09):
Literally,
emily-sander_1_06-17-2025_16 (25:10):
so
squadcaster-67f2_1_06-17- (25:10):
yeah.
emily-sander_1_06-17-2025_16 (25:11):
in the end, like they own this
company.
sweet-eddie-b--it-_1_06-17- (25:15):
the business and they,
emily-sander_1_06-17-2025_ (25:16):
They own everything.
sweet-eddie-b--it-_1_06-17- (25:17):
and they own the business.
And as long as you keep makingyour payments, they'll let you
emily-sander_1_06-17-20 (25:22):
They're fine.
sweet-eddie-b--it-_1_06-1 (25:23):
Yeah.
emily-sander_1_06-17-2025 (25:23):
Yeah.
squadcaster-67f2_1_06-17-202 (25:24):
to all the cash flow.
That's what it comes down
emily-sander_1_06-17-2025_1 (25:26):
But as soon as they think like,
these people can't run thisbusiness effectively, they're
gonna,
sweet-eddie-b--it-_1_06-17 (25:31):
it's not a, they think it's a, it's a
you trip, a covenant.
squadcaster-67f2_1_06-17- (25:35):
Yeah.
sweet-eddie-b--it-_1_06-17-20 (25:35):
a covenant and you don't cure fast
enough, the loan becomesimmediately due and payable.
And
emily-sander_1_06-17-2025_ (25:41):
then they.
sweet-eddie-b--it-_1_06-1 (25:42):
can't write a check to pay off the
loan right away.
So then the bank has the abilityto force you in a bankruptcy and
take over the business.
squadcaster-67f2_1_06-17 (25:49):
wonder how, how that, how, how
frequently that if ever actuallyhappens is like, you know, all
sweet-eddie-b--it-_1_06-17- (25:55):
the bank, the banker.
squadcaster-67f2_1_06-1 (25:55):
you're, I'm calling this, I'm calling
this loan, and they're like,fine, fuck you.
I'll just write a check.
And they do it.
Like how often can that happen?
I wonder.
I mean, it probably does fromtime to time, but like
sweet-eddie-b--it-_1_06-1 (26:05):
I've, I've seen, I've seen a couple
threats where, you know, thefolks have said, I'm gonna,
squadcaster-67f2_1_06-17-2 (26:11):
kind of threats.
But yeah.
sweet-eddie-b--it-_1_06-1 (26:13):
mean, we, I, I've been in one
situation where the conversationwas, okay, we'll toss you the
keys.
And normally they come back witha no, no, no, just, we'll, we'll
do a covenant waiver or we'llchange the covenants, but you
gotta pay us a big fee.
squadcaster-67f2_1_06-17-20 (26:28):
the one kind of point of, I guess,
leverage, maybe not, not theright use of term in this case
for a variety of reasons.
But the one thing that we allgenerally know is that banks
aren't in the business of, like,coming in and running operating
companies.
So
sweet-eddie-b--it-_1_06-17- (26:42):
No.
squadcaster-67f2_1_06-17-2 (26:43):
they don't want you to toss them the
keys and say, come get it.
so generally, you know, um, youwork it out, but it can be an, a
costly endeavor for theoperating company, which, you
know, from a, as you said, as Iguess.
As we incorrectly dismiss, thatcan impact management teams.
If it's like all about,maximizing cash flow and things
like that, you know, um, and,you know, in some cases people's
(27:07):
bonuses are tied to companyperformance, which,
emily-sander_1_06-17-2025_16 (27:09):
Oh yeah.
squadcaster-67f2_1_06-17-20 (27:10):
net income, may in some dumb reason,
but like, you know, as opposedto EBITDA or something like
that, like, dollar that goes outthe door, whether you're paying
for fees for, you know, um.
Private jet flights or, youknow, uh, uh, you know, fees
for, for bank covenant waivers,then yeah, it's coming outta
your pocket.
So, yeah.
emily-sander_1_06-17-2025 (27:30):
Well, I've seen some like C-suite
leaders, like mostly sales justget, like one of'em cried and
one of'em just you could justsee like he was deflated, when
he knew his bonus was going downby 75%.
He just like lost all kind of,
squadcaster-67f2_1_06-17-2 (27:44):
that in salespeople.
You want'em to be, uh, coin
emily-sander_1_06-17-2025 (27:47):
Yeah, but this can take this wind out
of stuff, but yeah, and Iremember
squadcaster-67f2_1_0 (27:50):
especially good ones that are
emily-sander_1_06-17-2025 (27:52):
yeah,
squadcaster-67f2_1_06-17- (27:52):
they, you know, this is a bit of a
digression, but just generalbusiness is if a really coin
operated, really high poweredsalesman, like feels like
they're not gonna make anymoney, they're gone.
You know, they're gonna go
emily-sander_1_06-17-2025 (28:01):
yeah.
And I remember before I knewwhat covenants meant.
I like you, ed and Rory andsomeone else at, at G two was
having a conversation covenants.
Covenants.
And I could just see likeeveryone was super stressed.
I had no idea what this meant.
I had no idea what you weretalking about, but I was this is
serious.
These people are not happy.
This is super stressful forthem.
And like later on in differentrounds and companies, I learned,
(28:23):
I was like, I'm super stressedand I, and I have to be a buffer
to my team.
And everything's fine.
Keep doing your stuff.
You're doing great.
But it's.
squadcaster-67f2_1_06-17-2 (28:29):
have a good place in my heart.
sweet-eddie-b--it-_1_0 (28:31):
compared to, compared to a couple of
deals that I've been in.
That one, that one.
squadcaster-67f2_1_06-17-2 (28:35):
just gonna say that, ed, I mean all
in all, I mean, was probablythe, the company that had the
tightest.
Most predictable, uh, p and land balance sheet light.
Thank you actually to thesponsor who as, as you called
out, didn't leverage thatbusiness up very much.
It was like 33%,
sweet-eddie-b--it-_1_06-17 (28:55):
Yep.
squadcaster-67f2_1_06-17-20 (28:56):
Um, but in hindsight, that was
probably the healthiest businessI worked for, from a pure
cashflow perspective straightaway.
I, I yearn for that againsomeday, know?
emily-sander_1_06-17-2025_1 (29:08):
And we'll end with Rory's yearning.
squadcaster-67f2_1_06-17 (29:10):
equity though, like, and you know, we
restructured that debt while wewere there together, ed,
sweet-eddie-b--it-_1_06-17 (29:14):
Yep.
squadcaster-67f2_1_06-17-202 (29:14):
we did, we, we did what you usually
can't do, which is out adividend to sponsors while
you're still in the deal.
We, we did that because it
sweet-eddie-b--it-_1_06-1 (29:22):
Yeah, we paid down, paid down.
The accrued preferred, accruedpreferred dividend, plus some of
the preferred,
squadcaster-67f2_1_06-17-2 (29:29):
yep,
sweet-eddie-b--it-_1_06-17-2 (29:30):
it
emily-sander_1_06-17-2025 (29:30):
Yeah.
squadcaster-67f2_1_06-17-2 (29:30):
Good thing, you know, for so many
emily-sander_1_06-17-2025 (29:32):
Okay.
squadcaster-67f2_1_06-17- (29:33):
Yeah.
emily-sander_1_06-17-2025_1 (29:33):
So, so one of the risks just to,
'cause I'm trying to think thisthrough.
you take on a high debt load ifyou have a high percentage at
the beginning, and the downsideof that is there's less, there's
less cash flow to work with.
Like you have little, you have alittle leash to work with versus
if, hey, like we're gonna dothis 25% at the beginning, then
(29:54):
you have a little more room tooperate in with cash.
Is that.
squadcaster-67f2_1_06-17-2025 (29:58):
I just, yeah, I really like how,
for the listeners out there thatare not just.
Swimming in the world thatwe're, we're swimming in here.
Just to put it in your own worldterms is like if you buy a house
that's really expensive and youneed to finance that, um, and
your paycheck is a finiteamount.
Your, your, your, your, yourmortgage payment takes up a
(30:19):
bigger proportion of yourpaycheck.
The higher the, the more houseyou're buying call it or.
Take the down payment equationout of it for a second, but like
you're choosing to take on moredebt to buy a bigger house.
You don't have to do it, butyou're choosing to, which leaves
you little margin for error onyour other expenses that you
have in your life and your pay,right?
Same thing happens in businessand that's actually one piece of
(30:41):
advice I can give for mostlisteners that are not as
plugged into the day-to-day aswe are is like business is not
that dissimilar to like yournormal life, how you manage your
checkbook, how you manage your.
You know, proverbial checkbookanyway, um, how you manage your,
you know, sheet, which is justall of the things you have
versus all the things you owe.
It's, it's really similar.
(31:02):
It's just at a much biggerscale, generally speaking.
So just think about things inthose terms and use common sense
basically.
emily-sander_1_06-17-2025 (31:10):
Yeah.
Okay.
Exit question.
What breaks this log jam?
Is it like interest rates?
Is it you saying likevaluations, we're just gonna
give you what you want.
Is it a whole different modelemerging?
What breaks the log jam?
I.
squadcaster-67f2_1_06-17- (31:25):
Well, interest rates, I'll say for
sure.
Um, you know, cheaper cost ofcapital means generally
speaking, uh, people are morewilling to borrow, to make
things happen.
Pretty much.
sweet-eddie-b--it-_1_06-17-20 (31:37):
I think structurally, I think
structurally interest ratelowering.
I agree with Rory.
I also think that that's.
It's gonna be a tough, a toughask given the current,
squadcaster-67f2_1_06-17-2025 (31:47):
a tough
sweet-eddie-b--it-_1_06-17- (31:47):
the current macro economy and
governmental squeezing out ofthe borrowing base.
So I think the other, the otherside of that is time will force
transactions.
You
emily-sander_1_06-17-2025_ (31:59):
Hmm.
sweet-eddie-b--it-_1_06-17-2 (31:59):
no choice, but at some point
transact the business, the, theprivate equity folks and that
those valuations, if they allcome down and it's a macro
factor.
One thing private, well, theprivate equity guys will take
it, will, will take it on thechin because, you know, they
make money on the multiple up.
You know, that's, that's a bigcomponent of their compensation.
(32:22):
if everybody's suffering with itand everybody's gotta transact
and everybody's gotta go throughthe process, private equity guys
can at least look their limitedpartners in the face and go,
this is a macroeconomic issue.
It's not a US issue.
And we're gonna transact thisstuff, get liquidity, and we're
gonna go buy in now that theprices have come down and you
know, there's a lot ofattractive opportunities out
(32:43):
there.
So I think if, if interest ratesdon't fall and I don't see that,
you know, a dramatic change ininterest rates, I actually see
them probably continuing to tickup.
Over the next, you know, five,five to 10 years, I think we're
gonna continue to see risingrates just because of government
debt requirements.
I think the flip side of that istime is gonna cause these to
(33:04):
transact and you know, they'll,they'll move on and you know,
we'll hit reset
squadcaster-67f2_1_06-17- (33:10):
Yeah.
Yeah.
emily-sander_1_06-17-2025_ (33:12):
Who, who wins in this economic
environment?
squadcaster-67f2_1_06-17- (33:15):
Yeah.
sweet-eddie-b--it-_1_06-17 (33:16):
They won.
squadcaster-67f2_1_06-17- (33:17):
yeah.
sweet-eddie-b--it-_1_06-17 (33:18):
They sold it.
They sold at high valuationsthat aren't able to get
replicated in today's market.
emily-sander_1_06-17-2025_16 (33:27):
Is this good for anyone else?
If you're like contrarian, like,oh, this is.
squadcaster-67f2_1_06-17-2025 (33:30):
I think it's the, I think the big,
the big companies out there thathave a voracious appetite for
acquisition, they win too.
There's tons of cash sitting onbalance sheets right now for the
very reasons we're talkingabout.
There's, you know, there, therehasn't been a lot of other
avenues to spend.
A lot of people are pluggingmoney into, um, technology
innovation, stuff like that,where maybe they were buying it
(33:51):
through acquisition before.
Now I'd say.
You know, prices are going to godown.
So if you have cash and you'reacquisitive, you're gonna win.
You know,
sweet-eddie-b--it-_1_06-17-20 (34:00):
I think.
squadcaster-67f2_1_06-17 (34:00):
you're buying good businesses, you
know?
sweet-eddie-b--it-_1_06-17-20 (34:02):
I think Rory hit it on the head
earlier strategic buyers havelargely been getting forced out
by private equity buyers whowere overpaying essentially.
So the strategic buyers, theyprivate equity was paying
strategic buyer pricing.
Assuming you know that there'sgonna be a another upside, I
(34:24):
think the real winner here isgonna be.
The strategic buyer who can getcost synergies, who can get, you
know, strategic synergies withthose acquisitions, they're
gonna be willing to pay morethan the, than a private equity
buyer.
And the private equity buyer'snow gonna be having to set their
sites lower, and it'll be lesscompetitive for the strategic
buyer to be able to make some ofthese key acquisitions for
(34:45):
their, for their corporateportfolio.
emily-sander_1_06-17-2025_16 (34:49):
Do you think this changes exit
strategies or the exitenvironment forever?
Or do you think like in a yearor two.
You, it'll go back to how itwas.
squadcaster-67f2_1_06-17-2 (34:56):
Boy.
sweet-eddie-b--it-_1_06-1 (34:57):
don't see a year or two, but I do, and
I, I do think, I actually thinkthe last five to seven years
have been more of an anomaly.
if you look at the long,
squadcaster-67f2_1_06-17- (35:06):
side.
Yeah.
sweet-eddie-b--it-_1_06-1 (35:07):
yeah, if you look at the long history,
the long history is I.
Private equity tends to buysmaller, undervalued businesses
that are private, that aren't ona strategic radar.
They grow them, they make themready for institutional money or
institutional purchase.
Strategic purchase.
Strategic buyers buy them,integrate them into their
business, and then it's andrepeat.
(35:27):
Or they buy businesses that arelarger and I'll use like the RJR
and Nabisco.
From back in the, back in theday, back in the eighties where
the company is big fat and notbeing run effectively as a, as a
public company.
The private equity guys buy it,they strip it down, they put
debt on it.
They use all the tactics that weuse today and then take it back
(35:51):
public later.
that's been the norm the lastfive years of private equity,
flipping the private equity andyou know, the prices going up
and up and up has not been thenorm.
And so I do think.
Instead of it being a permanentchange, I actually think it's
like back to kind of back tonormal, um, for the industry.
squadcaster-67f2_1_06-17- (36:09):
Yeah, I could see it.
Yep.
emily-sander_1_06-17-2025 (36:12):
Final call.
Anything else on current marketor leverage buyouts?
What they are, how to use them,what to think about?
squadcaster-67f2_1_06-17-20 (36:22):
No, just.
sensible choices.
You know, uh, use, use commonsense.
If you, if you can't, uh, if youcan't afford it, maybe don't buy
it or finance it.
You know, like it's, it is just,you know, simple principles I'd
say, you know, look for valueout there.
That, that's the
sweet-eddie-b--it-_1_06 (36:38):
Mm-hmm.
squadcaster-67f2_1_06-17-202 (36:39):
If you have the wherewithal,
there's value to be found, um,because of this lack of
liquidity and lack of, uh, um,financing option for that.
Yeah.
Relative to what it has been inthe last, call it five years or
so.
Yeah.
emily-sander_1_06-17-2025_160 (36:54):
I think apply Common sense is just
a good life philosophy in
squadcaster-67f2_1_06-1 (36:57):
answer.
emily-sander_1_06-17-20 (36:57):
realms.
Yes, love it.
squadcaster-67f2_1_06-17-202 (36:59):
it defies, uh, defies things that
emily-sander_1_06-17-2025_1 (37:01):
Not a lot of people have it.
Not a lot of people have itsurprisingly.
So that's a good one to end on.
Apply common sense, applyjudgment to all of your
decisions, and we will catch younext time on the Private Equity
Experience podcast.
Thanks, ed.
Thanks Rory.
squadcaster-67f2_1_06-17-2 (37:14):
you.
sweet-eddie-b--it-_1_06- (37:14):
Thanks guys.
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