02/15/2026
Private Equity 101: How to Build a Leveraged Buyout Model (LBO) — A Step-by-Step Guide 💰
What is an LBO model?
An LBO model measures the implied returns of a leveraged buyout, a transaction where a significant portion of the purchase price is funded with debt.
For PE professionals, this model is the core tool for analyzing entry/exit valuations, credit risk, and return metrics like IRR and MOIC.
How to Build an LBO Model (Step-by-Step Guide)👇
Suppose you’re currently recruiting for a position to join a PE, and the interviewer sitting across from you asked the following question:
Q. “Walk me through an LBO model?”
The first step is to calculate the implied entry valuation based on an entry multiple assumption.
1) Entry Valuation
To calculate the enterprise value (EV) at entry, the entry multiple is multiplied by either the last twelve months (LTM) EBITDA of the target company or the next twelve months (NTM) EBITDA.
Entry Valuation = Purchase EBITDA × Entry Multiple.
In a "cash-free, debt-free" transaction, this EV represents the total purchase price.
2) Sources and Uses of Funds
This table approximates the capital required and the funding strategy.
Uses: Primarily the buyout of target equity, but also includes transaction costs (M&A, legal) and financing fees (debt issuance).
Sources: Includes total debt financing, lending terms for each debt tranche, management rollover assumptions, and excess cash.
The remaining amount for the Sources and Uses to be equal is the equity contribution by the financial sponsor (i.e. the equity investment to “plug” the remaining funds required).
3) Financial Forecast and Debt Schedule
A full 3-statement model is projected over a 5-to-7-year horizon to build the Free Cash Flow (FCF) profile used to pay down debt.
The Debt Schedule tracks the revolver, mandatory principal amortization, and the Cash Sweep (optional prepayment).
It also calculates the interest expense based on fluctuating balances.
4) LBO Exit Analysis
The realization of the investment is modeled using an assumed Exit Multiple (often conservatively set equal to the entry multiple).
Exit Equity Value: Exit EV − Remaining Net Debt.
After calculating the exit equity value because of the sponsor, the key LBO return metrics – i.e. the IRR and MoM – can be estimated.
The IRR is the annualized yield on an investment, with the effects of compounding factored in.
IRR = (Ending Value ÷ Current Value)^(1 ÷ Number of Periods) – 1
The MOIC is the ratio between the proceeds retrieved from an investment and the original investment.
MOIC = Total Cash Inflows ÷ Total Cash Outflows
5) Sensitivity Analysis
In the final step, different operating cases must be considered, e.g. a “Base Case”, “Upside Case”, and a “Downside Case”, along with sensitivity analysis to assess how adjusting certain assumptions impacts the implied returns from the LBO model.
