medium · Investment Banking
An LBO includes a tranche of Mezzanine debt with a 12% PIK (Payment-in-Kind) interest rate.
What is the impact of this PIK interest on the sponsor's exit returns?
- It has no impact on exit equity since interest is always treated as a pure operating expense.
- It decreases exit equity because the debt balance grows over time without any cash interest being paid.
- It increases IRR modestly by deferring near-term cash interest payments out until the exit date.
- It increases exit equity because the company conserves and retains more operating cash during the holding period.
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