Leveraged Buyout (LBO): How It Works, Valuation and Exit Strategies
A Leveraged Buyout (LBO) is the acquisition of a company using significant borrowed funds. Private equity firms use LBOs to buy companies with the intent of selling them at a profit.
How an LBO Works
An LBO uses debt to finance most of the purchase price:
- Equity: 20-40% (from PE fund)
- Debt: 60-80% (from banks, bonds)
Target Returns
Private equity targets 20%+ IRR on investments.
Returns come from:
- Multiple expansion
- Debt paydown
- EBITDA growth
Exit Strategies
| Exit Type | Description |
|---|---|
| IPO | Listing on stock exchange |
| Trade Sale | Sale to strategic buyer |
| Secondary Buyout | Sale to another PE firm |
| Recapitalization | Refinancing and partial exit |
Key Metrics
- Entry Multiple: Purchase price / EBITDA
- Exit Multiple: Sale price / EBITDA
- Debt Paydown: Annual reduction in debt
- IRR: Internal rate of return
Example
Acquisition:
- Purchase price: $100M
- Equity: $30M
- Debt: $70M
5 Years Later:
- Sale price: $150M
- Debt remaining: $40M
- Equity value: $110M
- IRR: ~30%
Key Takeaways
- LBOs use 60-80% debt financing
- Target 20%+ IRR
- Exit via IPO, trade sale, or secondary
