Cash Flow Sweep

Cash sweeps serve two parties. For lenders, a sweep is a protection: it reduces credit risk by ensuring surplus cash repays debt rather than being spent on dividends, acquisitions, or sitting idle — it's often a covenant in the credit agreement. For private equity sponsors, the sweep is a value engine: in an LBO, equity value grows as debt is repaid (the company's enterprise value stays roughly flat while debt shrinks, so the equity slice expands). Sweeping cash to debt accelerates this deleveraging and, all else equal, lifts the internal rate of return at exit.

The waterfall runs: free cash flow → minus mandatory (scheduled) amortization → minus the minimum cash buffer → equals 'excess free cash flow.' The sweep then applies its percentage (say 75%) to that excess and uses it to prepay debt, typically the highest-priority tranche first (term loan A, then B, etc.) before touching subordinated debt. The remaining cash either builds on the balance sheet or, if cash is short, the revolver draws to cover the gap. Sweep percentages often step down over time (e.g., 75% in early years, 50% later) as leverage targets are hit — sometimes tied to a leverage ratio grid.

The sweep is a key lever on LBO returns. A more aggressive sweep pays down debt faster, cutting interest expense and increasing the equity value that the sponsor captures at exit — boosting MOIC and IRR. But there's a tradeoff: cash used to repay debt isn't available for growth investment or dividends. Modeling-wise, the sweep is a prime source of circularity — debt paydown depends on excess cash, which depends on interest, which depends on the debt balance the sweep is paying down — so it's typically modeled with a circularity breaker, and interest is sometimes calculated on the beginning balance to keep things stable.