Tad O’Malley: The Investment Conundrum

By David Birulin

The Empire Investment Group was a top-tier buy-out firm within the private equity community. Tad O’Malley, a second-year student at the Harvard Business School, accepted a position at Empire Investment Group.
Ted received a call from his boss, Townsend “Sandy” Beech, the head of his four-person deal team and founding member of the firm. Sandy requested Tad, on a Friday afternoon, to review three presentations for possible buyout targets. Tad was to make a presentation at the partners’ meeting on Monday morning, recommending only one (1) investment and detailing the strengths and weaknesses of all three.
The Empire Investment Group had a strong “brand name” and historically sponsored very successful business partnerships. The company was strong in “structuring deals” and had just recently added an advisory services operation as a way to expand its services internationally and provide deal flow. By 2005, Empire’s buyout unit consisted of 25 seasoned partners with a range of backgrounds that encompassed financial, consulting, and operations experience.
The objective of a “leveraged buy-out” is to find companies, either domestically or internationally (or both), where Empire can utilize borrowed funds or debt to finance its acquisition. Often times a leveraged buy-out does not involve much committed capital (maybe a 70% debt to 30% equity) that will achieve high returns for Empire. Basically, Empire buys a company with debt, fixes the company, and sells it. After the purchase of the company, the debt to equity ratio is generally greater than 1.0x. During the ownership of the company, the company’s cash flow is used to buy down the debt. The overall return realized by Empire in a Leveraged Buyout is determined by the exit cash flow of the company or the EBIT or EBITDA, the exit multiple (of