Private equity buyout funds make up the largest segment of private market strategies. Buyout managers aim to take a controlling stake in mature businesses with the intention to improve the business and exit at a higher multiple.
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Buyouts in a nutshell
- Target companies. Buyout managers typically target mature businesses with the aim of implementing changes to improve revenues and exit opportunities.
- Typical investment type. Buyout funds generally make large investments (>$100m) to purchase controlling stakes in companies with the intention of improving the business and exiting at a higher multiple.
- Value add operations. Buyout managers look to add value typically by improving revenue growth, optimising costs and efficiency, making leadership changes or using leverage.
- Exit strategies. Typical exits are by way of a strategic sale or an IPO.
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What is a buyout fund?
Buyout funds look to purchase controlling stakes in companies with the intention to improve the business and exit at a higher multiple. Target companies are usually mature businesses with established cash flows and hard assets.
Typically, up to 75% leverage used in transactions with company assets and future cash flow used as collateral, hence the alternative name “leveraged buyout”. See ‘Why “leveraged” buyout? for more on how this works.
A buyout manager’s ability to identify long term macroeconomic trends - as well as individual target companies - is key to strong performance. Valuation of each target company is carried out by incorporating comparable valuations, debt levels as well as the potential future exit value.
The main exit avenues for buyout funds are by way of a strategic sale or an IPO. See Private Equity Harvesting Stage for more.
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What is a “minority buyout” fund?
“Minority buyout” funds follow a similar strategy to buyout funds, but only purchase minority stakes in target companies. Since they are not in full control of the company, they often require board seats to help guide the company’s growth from within. As such, they can be seen as a cross between a buyout and growth equity fund.
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How do buyout managers add value?
Sourcing proprietary deals: Buyout managers will leverage their network of entrepreneurs and portfolio companies to source unique deals. The ability to source and construct complex deals is a competitive advantage for more experienced managers.
Revenue growth: Often referred to as “topline growth”, a buyout manager will use their controlling position to optimise pricing, enter new geographies and refocus product development.
Improving margins: Buyout managers often implement cost-optimisation programs, improve supply chain practices and eliminate redundant costs or assets. They can also optimise the capital structure of a business by increasing or decreasing leverage levels.
Focusing on core activities: This involves strategic redirection - exiting non-core activities to focus on primary activities. Whether the changes affect product and service lines, geographic focus or otherwise, the aim is similar to above: to grow revenue and improve margins.
Enhancing management: Buyout managers can also leverage their networks to complement existing leadership - whether positioning a new CEO or simply building out the broader management team.
Exit planning: A buyout manager will advise portfolio companies on potential exit avenues through an IPO, strategic sale or secondary buyout.
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Why “leveraged” buyout?
The term “leveraged buyout” has lost popularity over recent years, but the use of leverage is still a key driver of returns. It works like this:
- At acquisition: If a deal is funded by a mixture of equity and debt - using the target company’s cash flow as collateral - then it lowers the cost at acquisition.
- During ownership: Interest payments (from debt) lower the tax rate throughout ownership, while dividend payments (from equity) do not.
- Overall, the cost of financing is reduced when a deal is funded with debt, which acts as a lever to increase returns - hence “leverage”.
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Important notice: This content is for informational purposes only. Moonfare does not provide investment advice. You should not construe any information or other material provided as legal, tax, investment, financial, or other advice. If you are unsure about anything, you should seek financial advice from an authorised advisor. Past performance is not a reliable guide to future returns. Don’t invest unless you’re prepared to lose all the money you invest. Private equity is a high-risk investment and you are unlikely to be protected if something goes wrong. Subject to eligibility. Please see https://www.moonfare.com/disclaimers.
FAQs
Buyout managers look to add value typically by improving revenue growth, optimising costs and efficiency, making leadership changes or using leverage. Exit strategies. Typical exits are by way of a strategic sale or an IPO.
How do buyouts create value? ›
Value creation in buyout funds
It derives directly from the ability of fund managers to add value to the companies they invest in, generating returns through an active approach to investment and management.
What is the buyout strategy? ›
Key Takeaways. A buyout involves the process of gaining a controlling interest in another company, either through outright purchase or by obtaining a controlling equity interest. Buyouts typically occur because the acquirer has confidence that the assets of a company are undervalued.
How do investors of a buy-out fund earn their return? ›
Buyout funds are the most common form of private equity. They typically invest by taking a controlling stake in privately-held companies, working to improve the operational efficiency and profitability of these businesses, so as to enhance the return on investment when the stake is sold.
What is a growth buyout strategy? ›
In a growth buyout, the private equity fund seeks to capitalize on growth in the revenues of the portfolio company. These funds often seek to create revenue growth through market share gains, overall market growth, distribution or product line expansion, and market consolidation and acquisitions.
How do acquisitions add value? ›
A careful selection of targets and effectively implemented acquisitions can achieve synergy and create value. For example, the difference in sizes between the acquiring company and the target company influences value creation.
What is the buyout valuation method? ›
A leveraged buyout (LBO) valuation method is a type of analysis used for valuation purposes. The alternative sources of funds are analyzed in terms of their contribution to the net IRR. This analysis is carried out in order to project the enterprise value of a company by the financial buyer that acquires it.
How do buyout funds work? ›
What is a buyout fund? Buyout funds look to purchase controlling stakes in companies with the intention to improve the business and exit at a higher multiple. Target companies are usually mature businesses with established cash flows and hard assets.
How do you structure a buyout deal? ›
Follow these steps when issuing or signing buyout agreements
- Understand the legal requirements.
- Align the agreement with your business/personal goals.
- Know the potential risks.
- Send your partners a notice.
- Draft the agreement.
- Negotiate terms.
- Sign the agreement.
- Execute the agreement.
The returns in an LBO are driven by three factors, which we demonstrate in our topic on creating value in LBOs: De-levering (paying down debt) Operational improvement (e.g. margin expansion, revenue growth) Multiple expansion (buying low and selling high)
For example, in the UK, the well-known fashion retailer New Look was taken from public back to private ownership with a management buyout which put its former founder back in the driving seat. They're popular succession routes for founders or owners looking to exit a business.
What is the difference between buyout and buyback? ›
However, buyouts are different from buybacks. A buyout is a takeover strategy which is generally not planned in advance, while a buyback contract generally includes an explicit statement allowing the investor to sell its shares back to the founders or managers ex post.
What is the difference between a leveraged buyout and a management buyout? ›
A leveraged buyout (LBO) is when a company is purchased using a combination of debt and equity, wherein the cash flow of the business is the collateral used to secure and repay the loan. A management buyout (MBO) is a form of LBO, when the existing management of a business purchase it from its current owners.
What is a buyout structure? ›
Key Takeaways
A buyout is the acquisition of a controlling interest in a company and is used synonymously with the term acquisition. If the stake is bought by the firm's management, it is known as a management buyout, while if high levels of debt are used to fund the buyout, it is called a leveraged buyout.
How do you manage a buyout? ›
What are the steps involved in a management buyout?
- Step 1: Find the right people to buy out the company. ...
- Step 2: Transfer knowledge and responsibilities. ...
- Step 3: Negotiate a price. ...
- Step 4: Ask for a business valuation. ...
- Step 5: Financing the MBO.
From start to finish, an MBO works like this:
- The owner(s) wish to sell all or a part of the business.
- Members of the existing management team – C suite, board seats, employees – choose to buy the business.
- Buyer and seller agree the sale price. ...
- The management team assesses the amount they can invest.
Buyout Value means the sum of (i) the present value of the remaining future lease rental payments originally due under any Financing Contract that is made subject to a Restructuring Transaction pursuant to Section 6.15 hereof discounted to the effective rental start date of such Restructuring Transaction at a per annum ...
How do you value a partner buyout? ›
You may use the conventional partnership buyout calculation to estimate the worth of your partner's share in the business. Your partner's share of the firm's worth is calculated by multiplying the business's assessed worth by the amount of ownership of the partner.
Why do companies offer buyouts? ›
An EBO is often used to reduce costs or avoid or delay layoffs. An employee buyout (EBO) may also refer to a restructuring strategy in which employees buy a majority stake in their own firm. This type of restructuring is a company takeover by its workers.
