Working Paper: NBER ID: w3695
Authors: Steven N. Kaplan; Jeremy C. Stein
Abstract: This paper presents evidence on systematic changes in the pricing and financial structure of 124 large management buyouts completed between 1980 and 1989. We find that over tine (1) prices increased relative to current cash flows with no accompanying decrease in risk or increase in projected future cash flows; (2) required bank principal repayments accelerated, leading to sharply lower ratios of cash flow to total debt obligations; (3) private subordinated debt was replaced by public debt while the use of strip-financing techniques declined; and (4) management teams invested a smaller fraction of their net worth in post-buyout equity. These patterns of buyout prices and structures suggest that based on ex ante data, one could have expected lower returns and more frequent financial distress in later buyouts. Preliminary post-buyout evidence is consistent with this interpretation.
Keywords: buyouts; financial structure; pricing; leverage
JEL Codes: G34; L25
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| higher buyout prices relative to fundamental values (G19) | lower expected returns (G19) |
| increase in buyout prices over time (G34) | no corresponding decrease in risk or increase in projected future cash flows (G32) |
| accelerated bank principal repayments (G21) | lower cash flow to total debt ratios (G32) |
| replacement of private subordinated debt with public debt (H63) | shift in the nature of financing (G32) |
| decrease in management teams' investment of their net worth in post-buyout equity (G34) | perceived risk or quality of the buyouts (L15) |