The paper "How Carlyle Group Would Buy Hertz, Subsidiary of Ford Motor Company" is a perfect example of a case study on business. The main problem to be solved in the case study is how Carlyle Group would buy Hertz, a subsidiary of Ford Motor Company. In order to buy the subsidiary, Carlyle needed to fulfill three requirements that were given by Ford: provide adequate returns for sponsor’ s limited partners, provide a higher amount than Ford can get from an IPO, and offer the best bid compared to other rival bidders.
Carlyle can meet these requirements by following certain steps. The first step in solving the problem is to determine the fair value of Hertz so that it can be able to know how much they need to pay for the company. This requires the company to understand the basic entry assumptions such as earnings metric (P/E or EBITDA). In the case study, the EBITDA margins were approximately 400 basis points below 2000 points and 100 to 200 basis points below Avis. The fair value of the company can be obtained through an ability-to-pay basis. The second step is to determine the equity returns that Carlyle can achieve if it takes over Hertz, grows it, and ultimately sells it or takes it public.
This step ensures that the company takes into consideration all risks and that the benefits of taking over the Hertz have more benefits than costs. In order to determine the equity returns of the company, the Carlyle may use IRR calculations using the information given by Hertz. In this case, the main assumption is that of debt/equity percentage.
A mix of debt/equity rates from 25%/75% to 45%/55% can be established depending on the size of the transaction in terms of growth equity vs. leveraged buyout, and financing market conditions. The third step is to find out the impact of the recapitalization of Hertz by issuing debt to replace equity. This is based on the assumptions of debt capital structure whereby the company may use debt funding mix which includes revolvers, senior debt, subordinated or high yield debt, and quasi debt. The total leverage, in this case, should be 6-7 times the total EBITDA of Hertz with a 5% floating coupon and 5-7 years’ maturity.
In this step, Carlyle may find out whether Hertz has a huge amount of debt to be settled by the company. This will help the company if the debt can be refinanced at lower rates of interest. The fourth step in preparation for the leveraged buyout is to establish the Hertz’ s debt service limitations from its cash flows. This will enable the company to determine the amount of working capital that will be needed for the new buyout.
In this step, Carlyle should also identify the transaction expenses associated with the buyout. The recommended amount of expenses associated with the transaction should be approximately 3-4% of the transaction value. The fifth step is to determine growth projections of the new buyout using various management models e. g. exit multiple and time horizon. Carlyle should establish financial projections and balance sheet adjustments for the LBO. In this case, the three financial statements should be projected for 5 years and the debt to be paid down each year should also be calculated.
The balance sheet should be adjusted for the new debt and equity. In this stage, the company should calculate an exit value using EBITDA for the five years and then subtracting the net debt to find the exit equity value for Carlyle.