Levered valuation asks how much would I be willing to pay now in order to get a desired return over a set number of years Let's say my desired return is 25% and I want that over 4 years Well I come up with my LBO model and my LBO model would start by telling me the enterprise value at exit I'll have got to that by calculating EBITDA as exit and applying a multiple I'll then subtract net debt remaining at exit and that's after paying down as much debt as possible using the cash flows of the target To get to my equity at exit Okay, so that equity is at the end of fours and includes a 25% return every year I could back out how much equity I'll be willing to put in at entry Now that's not how much I'm willing to pay for the target (not at all), that's just how much equity I'm willing to put it I then add on net debt at entry, so debt financing and equity financing And that gets me the enterprise value of the target at entry Now I could go from there and I could take off the debt of the target to calculate the equity purchase price So that is my levered valuation of this company, the maximum I'd be willing to pay Here we see a levered valuation example At exit I've got an EBITDA of 250 and I apply a multiple of 7 times to get to an exit EV of 1,750 I subtract net debt to get my exit equity of a 1,000 Now remember that's already at the end of four years and at 25% returns over each of those years If I can back those out, that will get me an IRR implied entry equity valuation of 409.6 at entry (that's the important bit) I then add on as much debt as possible at entry 1,600, to get to an IRR implied EV of 2,009.6 (remember that's our entry) I can then subtract the target's refinanced net debt and that gives me the equity purchase price The maximum that I would pay for the target's equity Now we can see the current target market cap is 1,600, so great I'm willing to pay than that In fact, I'm willing to pay up to a 10% premium but that is the maximum