In private equity, an LBO model is used to assess the equity investor returns of a potential deal (often done by analyzing the internal rate of return or IRR). An LBO model analyzes the free cash flow generated by a company to determine how much debt can be paid off during the lifetime of the deal. The amount of the debt that can be paid off impacts the IRR, and any increase in cash flows and EBITDA by the time of sale will impact the IRR as well.
Private equity firms also build other types of models, including DCFs, to understand financial performance, potential synergies and M&A impacts.
