What is a leveraged buyout?

In practice, the debt usually sits in the acquisition vehicle and is repaid from the target’s cash flow or from sale proceeds. It typically combines senior loans with junior layers such as mezzanine or high-yield bonds. Lenders size it against EBITDA and set covenants. An LBO is a financing structure, not a fund strategy, though buyout funds use it most.

Say a firm buys a company for $500 million, using $300 million of debt and $200 million of its own equity. The company’s cash flow pays down that debt.

Debt magnifies returns when a deal goes well and losses when it does not.