Why do we need a Sources & Uses schedule?
In an LBO, the schedule is the basis of the new capital structure of the pro-forma company (post-LBO).
The capitalization of the business will change depending on how much leverage the private equity firm decides to put on the company to close the deal.
The S&U schedule will indicate the sponsor equity required to close the deal.
Where, sponsor equity refers to the amount of money the private equity firm must invest of its own capital in order to close the deal.
The sponsor equity is the plug in the table.
We know that sources must be equal to uses.
That is, we must have enough funds to cover the total cost of the buyout. Not only the cost of acquiring the company but also all the transaction-related expenses.
So, if we take all the costs and subtract out all the sources of capital we currently have lined up, we get the amount of capital that the private equity firm must invest to complete the deal.
In other words, Uses – Existing Sources = Sponsor Equity.
Now, we traverse from the most recent balance sheet, make positive and negative adjustments, and arrive at the pro-forma balance sheet.
The changes may include…
- Spending excess cash
- Revaluing PP&E
- Revaluing Intangibles
- Writing down/up DTAs/DTLs
- Wiping out and creating goodwill
- Retiring and issuing new debt
- Retiring and issuing new debt
- Wiping out existing common shareholder equity
- Adding new shareholder equity
Etc.
These changes will be reflected on the company’s pro-forma balance sheet.
These changes will go on to affect the income and cash flow statement.
Notably, the effects of increased leverage will be seen with the higher interest expense. Less means less interest income.
As PP&E and Intangibles get written up, there will be additional depreciation and amortization costs. Etc.
Bottom-line? The S&U schedule allows us to see how the deal is capitalized and how the changes in capital structure flow through the financial model in the projected period.