Buyout

Reviewed by Sujaini | Updated on Aug 27, 2020

What is a buyout?

A buyout is the acquisition of a company's controlling interest and is used synonymously with the term acquisition. When the company's management buys the shares, it is known as a management buyout, and if significant debt rates are used to finance the buyout, it is referred to as a leveraged buyout. Buyouts often occur when a corporation is going private.

Understanding buyout

Buyouts occur when an investor acquires more than 50 per cent of the business, resulting in a control transition. Companies that specialize in funding and facilitating transactions operate on deals on their own or together and are typically funded by institutional investors, affluent individuals or loans.

Funds and investors in private equity are looking for under-performing or undervalued firms that they can take private and turn around, before going on public years later. Buyout firms are interested in management buyouts (MBOs), in which a share is taken in the management of the business being acquired. Often, they play critical roles in leveraged buyouts, which are buyouts financed with borrowed money.

Kinds of Buyouts

Management buyouts (MBOs) provide an exit plan for big corporations wanting to sell off divisions that are not part of their core business, or for private companies whose owners want to retire. Often the financing needed for an MBO is very substantial, and is typically a mixture of debt and equity originating from sellers, financiers, and sometimes the seller.

Leveraged buyouts (LBO) use large sums of borrowed money, with the company's purchased assets being used as collateral for the loans. Just 10 per cent of the funding can be raised by the organization conducting the LBO, with the remainder funded by debt. It is a high-risk, high-reward approach, where high returns and cash flows are to be achieved from the transaction to pay interest on the debt.