Returns across entry and exit multiples
| Entry Multiple ↓ / Exit → | 8x Exit | 9x Exit | 10x Exit |
|---|---|---|---|
| 7x Entry | 2.1x / 16% IRR | 2.4x / 19% IRR | 2.8x / 23% IRR |
| 8x Entry | 1.8x / 12% IRR | 2.1x / 16% IRR | 2.4x / 19% IRR |
| 9x Entry | 1.5x / 8% IRR | 1.8x / 12% IRR | 2.1x / 16% IRR |
The danger of relying on multiple expansion
If your returns depend on multiple expansion (buying at 8x and selling at 10x), you’re betting on market conditions, not operational improvement. The best LBOs deliver target returns even with flat or compressed multiples.
Four stress tests every model runs
| Stress Test | Scenario | Key Question |
|---|---|---|
| Revenue decline | Revenue drops 10–20% | Can the company still service debt? |
| Margin compression | EBITDA margins fall 300–500 bps | Does FCF stay positive? |
| Multiple compression | Exit at 1–2x below entry | Is equity still positive? |
| Delayed exit | Hold period extends to 7+ years | Does IRR drop below cost of capital? |
Build a sensitivity table by hand
Build a simple sensitivity table: How does the equity return change if you pay 7x vs. 9x entry, and exit at 8x vs. 10x? Which variable has the largest impact?
When returns hinge on one scenario
An LBO returns 2.5x only if the exit multiple expands from 8x to 11x. The same deal returns 1.3x at flat multiples. Is this a good deal?
Margin of safety in the downside case
How sponsors weigh tail risk
LBO sensitivity: base case 25% IRR. At 15% EBITDA decline: 5% IRR. At 25% EBITDA decline: negative equity return. How should PE firm think about this?
Check your understanding
Sit with the ideas.
An LBO model shows these IRR outcomes across scenarios: Base case (8x entry, 8x exit, 5% growth): 22% IRR. Downside (8x entry, 7x exit, 0% growth): 8% IRR. Stress (8x entry, 6x exit, -5% EBITDA): -3% IRR. The PE firm's fund minimum IRR threshold is 15%. Should they proceed?
Why: