Advanced Finance

The Leveraged Buyout in One Page

The entire logic of a buyout — entry, leverage, cash sweep, exit, and the return it produces — compressed into arithmetic you can run on one page before anyone builds a model.

  • Advanced
  • 9 min total
  • 12 chapters

What decision this helps you make: Whether a business can carry buyout leverage at a given price, and where the equity return would actually come from.

What this topic is

A leveraged buyout is the purchase of a company financed mostly with borrowed money secured against that company's own cash flows and assets. The sponsor puts in a minority of the price as equity, the business services the debt out of its own cash, and the equity is what remains when the business is sold several years later — after the debt has been partly repaid.

Why it matters

Buyouts set the price of privately held businesses across most of the developed economy, which means the arithmetic on this page is what a private equity firm will run on your company, your competitor, or your employer. Being able to reproduce it in ten minutes tells you what a financial buyer can pay, why they can pay it, and what they will need to do to you afterwards to make the numbers work.

Who should learn it

Deal professionals who need the intuition beneath the model, executives whose company is a target, sellers negotiating with a financial buyer, and investors evaluating funds that do this for a living.

What you will understand

  • The full one-page arithmetic: sources and uses, entry, sweep, exit, and return
  • The three components of the returns bridge, and which of them a sponsor controls
  • Exactly how leverage magnifies the return — and the outcome distribution it magnifies too
  • What makes a business financeable at buyout leverage, and what quietly does not

Prerequisites

Common misconception

"Leverage creates the return." Leverage magnifies whatever return the business produces and shifts risk onto the equity — that is all it does. Run a buyout on a business whose earnings do not grow and whose multiple does not move, and the sponsor earns roughly the yield on debt paydown minus fees. The operating improvement is where the value comes from; the debt is what makes the equity gain feel large relative to a small cheque, and what makes a modest disappointment total.