Traditional Search Fund Financial Models + Equity Step up

August 16, 2024

by a searcher in Knoxville, TN, USA

I am constructing Financial Models for a Traditional Search based on a traditional LBO Model as well as the Stanford primer exhibits, but I am struggling to understand where to include the Equity Step up in the model. Do I include it in my sources and uses?

Does anyone have examples of what they have seen as an effective way to include the step up in the model?

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Reply by a searcher
from Harvard University in Piedmont, CA, USA

This file shows how the equity step up works. This is a "back of envelope" LBO model that's very high level, but it does show how the step up rolls into the investor equity.

See cell C42 - Preferred Shares are calculated by taking the equity the investors put into the purchase + (search capital * 1.5).

https://docs.google.com/spreadsheets/d/1DZYP6TMoCib2lE8bs0YO4yajPeG4OknWAcaLPlIHzZo/edit?gid=###-###-#### #gid=###-###-####

Reply by a searcher
from University of Miami in Dallas, TX, USA

I would recommend recognizing the Equity Step-Up as a non-cash valuation adjustment rather than a cash inflow. This adjustment should be reflected in the Sources and Uses statement at the time of acquisition. On the balance sheet, the step-up increases equity, often leading to goodwill or revalued intangible assets, depending on the PPA. While it doesn't directly impact the cash flow statement, it can affect cash flows indirectly through increased depreciation or amortization. Be sure to update the capitalization table accordingly!

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