LBO: Leveraged Buy Out

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A leveraged buy out (LBO) is a transaction in which a company acquires another firm by using a large amount of borrowed funds. The borrowed funds are generally structured to include:[br]

  • A combination of bank loans

  • Loans from other financial institutions

  • Bonds with below investment-grade credit ratings (also called high-yield bonds)

 

In an LBO:

  • The assets of the acquired company are generally used as collateral for the loan and interest taken by the acquiring company.

  • The acquiring company uses the cash flows of the refinanced company to meet the principal obligations.

  • The financial institution/firm/individual that/who has sponsored the acquisition acquires a controlling interest in the company’s equity.

Who Finds Leveraged Buy Outs Useful?

 

A leveraged buy out generally involves 90% debt and 10% equity. As a result, companies can use an LBO to make huge acquisitions without investing substantial funds. An LBO is also extensively used by private equity firms to undertake a strategic purchase of other product lines, divisions or companies. LBOs can also be used for:

  • Management buyouts

  • Acquisitions

  • Divestitures

  • Refinancing

 

Since the acquired company will have a high debt to equity ratio (high leverage), only those companies that have the following characteristics are a suitable LBO target:

  • Strong balance sheet

  • Low initial debt levels

  • Adequate stable cash flows

What do you require for leveraged buyout financing?

 

When considering the leveraged buyout financing option, you must be prepared to:

  • Raise and bargain on the terms of senior, subordinated and equity financing.

  • Find strategic and financial partners.

  • Make business plans.

  • Hire the management personnel, whenever needed.

  • Organize new employee benefit plans.

  • Inform the employees.

  • Negotiate long-term supply and use agreements.

 

When undertaking an LBO:[br]

  • Research the company to be purchased.

  • Ensure that its management team is efficient and will continue with you after the buyout.

  • Hire a professional to meditate between the management, shareholders, potential investors and board members.

  • Accumulate your team of leveraged buyout specialists, investment bankers, accountants and attorneys.

Purchase a controlling interest in the company.

 

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