10. Amending Our Transaction Assumptions


If the new loans put too much strain on MarkerCo's cash balance, the investors may need to change their initial inputs to make the deal work. Find out how in this lesson.


  1. Lesson Goal (00:04)

    The goal of this lesson is to modify the assumptions of our transaction to improve the projected cashflow position.

  2. Potential Model Modifications (00:16)

    There are many different modifications that can be made to our financial model to improve the projected cashflow position. These include reducing the asking price, reducing the amount of debt in the deal, reducing future capital expenditure, and negotiating better loan terms.

  3. Reducing the Asking Price (00:52)

    Reducing the asking price is a simple method of improving cashflows. Reducing the price we pay for a company reduces the amount of debt we need, which reduces debt payments and improves the projected cashflow position. However, it may not be possible to reduce the asking price without losing the deal. In our case, PrivEq cannot reduce the asking price for MarkerCo.

  4. Reducing the Percentage of Debt (01:47)

    Reducing the percentage of debt in the deal reduces the amount of debt we need, which in turn reduces debt repayments and improves cashflows. In our case, reducing debt from 70% to 50% keeps our cash balance above the specified minimum balance, and leads to cashflows being positive in the final year of the projection.

    Reducing the percentage of debt in the deal may also mean that lenders will offer better terms, as the risk to them is reduced. This can further improve the cashflow position by reducing interest payments on the debt.

    The downside of this approach is that it reduces the returns on the investment, and requires us to find more funding from equity sources.

  5. Reducing Future Capital Expenditure (02:59)

    It may be possible to improve cashflows by reducing or deferring planned expenditure on PP&E. We can make these changes by adjusting the projected capital expenditure schedule. This will generally be a viable option for some companies and situations, but not others. In our case, we can reduce this capital expenditure slightly in later years, which provides an additional boost to the projected cash position after the transaction.

  6. Earning Interest on Cash Balances (03:52)

    As another improvement to our model, we can consider the possibility of earning interest on the company’s cash balance. It should be possible to do this by investing the cash in low risk, short term investments.

    In our model, we add the rate of interest that can be earned to our Income Statement assumptions, then calculate the interest income in the debt schedule by multiplying the assumed interest rate by the cash balance for each year. This reduces the net interest expense slightly, which has a positive impact on projected cashflows.

  7. Making Optional Repayments (05:01)

    If a company has excess cash to spare, then it may be worthwhile making optional additional payments on the senior notes. Clearing the debt more quickly can help reduce the interest expense paid on the debt. The easiest way to add this in the model is to simply add a one-off additional payment to the debt schedule. This results in the debt being paid back slightly sooner and improves cashflows in later years of the model.


In the previous lesson we found a big problem with the current transaction. The cash flows from the business were unable to cope with the amount of debt that PrivEq wanted to put on the company's Balance Sheet. To combat this, we've a couple of options and I'll scroll up to the top to take a look at some of the assumptions related to these options. The first option is to reduce the asking price with the problem being that we may lose the deal as a result.

The next option is to reduce the amount of debt in the deal. However, this reduces our potential returns. The third option is to reduce future capital expenditure and the fourth option is to negotiate for better loan terms. Let's explore each of these options in turn starting with the reduced asking price. Let's say I reduce the asking price to 200.

I'll now scroll down to my cash flow and as you can see I have a much healthier ending cash flow balance although I still end up breaching my minimum cash flow level of 35 million.

As I'm paying less for the asset, I'm also paying less debt.

From this particular set of assumptions, it appears that we're in very little danger of running out of cash in the next 5 years. When we show this to our manager, she signals that the price is unlikely to change and instead we will need to come up with some other ideas for making the model work, so let's scroll up to the top and undo that change.

The next option on our list is to reduce the amount of debt in the deal. Say I only put 50% of debt in with 50% of equity. What happens to the cash flows now? And again I'll scroll down and as you can see, the cash flows are even healthier as our new debt repayments each year are much lower and the ending cash balance never drops below the minimum cash balance that we had specified in our model. What's more, the company will turn cash flow positive in the final year 2020.

Having reduced the debt equity ratio to one to one, our lenders will now give us better terms. It turns out that the bank will reduce our rate from LIBOR plus 3.5 to LIBOR plus three.

And the subordinated notes will drop the interest rate to 7.5.

As you can see when I scroll down this makes our cash balance even healthier. The last option I'm going to explore is reducing future capex spend. Having talked to the management team, they believe it's possible to delay some of the capex in 2018 to 2020 by about three million each year, so we can go to our assumptions tab and make this change.

So, alt A, J to open up the tab and I'll reduce this to 4.4, 4.4 and 4.4.

I'll now minimize and scroll down to the bottom and as you can see we have an even greater ending cash balance than we did in the past and we actually have a positive net change in cash in 2020.

Before we leave this lesson, there are a few items to address. The first of these is interest income. Companies can earn small amounts of interest on a cash balance each year. PrivEq believes that it can earn 1.6% on its cash balance. If we go to the Income Statement assumptions, and open this section of the model I can add this assumption in here and I'll do so off camera.

To calculate the interest income, I go down to my debt schedule and simply multiply this percentage by the opening cash balance.

I'll copy across for the remaining cells.

This reduces my net interest expense slightly and as a result has a positive impact on my cash flow.

The remaining item to be discussed is the optional repayment. If the company has excess cash lying around that it used to pay back debt early it can make an optional repayment on the same year notes. Although you can try and build a formula around this amount, I like to keep the repayment options flexible so that I can simply enter values as I wish to test out scenarios.

For example, say I want to pay back an additional 8 million in 2016.

I'll simply type minus eight and as you can see, my formulas update accordingly and I can see my immediate impact on my ending cash.

As you may have noticed, our debt gets paid back a little sooner and with positive cash flows in both 2019 and 2020.

In the next lesson we'll start calculating some key metrics from MarkerCo that will laeve interest to lenders when establishing convenance on the loan.

Financial Modeling Essentials
Leveraged Buyouts


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