A PE firm puts up $200 million of equity to buy a $700 million company. Five years later, it sells for $1.35 billion. The equity is now worth $930 million, a 3.3x return. Without leverage, the same deal returns 1.9x. That gap is the entire buyout thesis.
A buyout means acquiring a controlling stake in a mature, cash-flow-generating business. The target is typically an established company with predictable revenue, the opposite of a venture capital startup. The PE sponsor uses that stable cash flow to service acquisition debt. An leveraged buyout (LBO) classification kicks in when the post-deal debt-to-equity ratio is much higher than before, historically as high as 9:1 and more commonly capped near 6:1 after the Great Financial Crisis.
Five transaction structures show up on the exam.
Management buyout (MBO). The existing management team leads the acquisition, backed by PE financing. Management knows the business and has aligned incentives. This is the classic buyout format.
Management buy-in (MBI). An outside management team acquires the company and replaces incumbent management. MBIs carry integration risk because the new team lacks institutional knowledge.
Common mistakes
- Confusing MBO with MBI. An MBO is led by the existing management team. An MBI brings in an external team to replace incumbents. A BIMBO blends both. If the scenario says "an outside team acquires and takes over," that is an MBI.
- Calling a secondary buyout a "second round of funding." A secondary buyout is specifically one PE firm selling a portfolio company to another PE firm. It is not a second round of equity financing, not a follow-on investment, and not a public market transaction.
- Naming PIPEs "strategic vs financial." The curriculum taxonomy is traditional (fixed conversion) vs structured (floating conversion). Choices using "strategic" or "financial" PIPE labels are distractors.
Bottom line
- Buyouts acquire controlling stakes in mature companies using significant leverage (typically 50-70% of purchase price), through five transaction types: MBO, MBI, BIMBO, SBO, P2P.
- Three economic and agency issues frame the strategy: market segmentation, MBO fiduciary conflicts, and MBI golden-parachute incentives.
- Eight LBO categories run from Traditional and Operational Efficiency through Carve-outs, Spin-offs, Buy-and-build, Turnaround, Growth Buyout, and Buyout-to-buyout.
- Buyout funds layer fees (management 1.25-3%, carry 20-30%, transaction, breakup, divestiture, directors') atop an 8% preferred return.
Exam shortcut
When you see an LBO calculation, draw the capital stack first: enterprise value at top, subtract debt to get equity. Every LBO question follows this pattern. EV minus debt equals equity, equity at exit divided by equity at entry equals MOIC. For coverage ratios, remember the denominator grows as you move from interest coverage (interest only) to DSCR (interest + principal) to FCCR (interest + principal + CapEx).
The full lesson (about 5,762 words, 38 min read) adds 2 worked examples, all 8 common mistakes, a self-check, free in the app.
Learning objectives
- intro
- firms and funds
- institutional programs
- subscription lines
- lp gp lifecycle
- publicly traded gps
- exit ipos
- exit spacs
- vc overview
- vc stages
- vc risk returns
- vc return research
- vc valuations
- vc financing
- vc securities
- vc dynamics
- growth equity intro
- growth equity valuation
- growth equity deals
- buyouts overview
- buyout strategies
- buyout characteristics
- lbos
- pipes
- liquid alts
- long term performance
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