LEVERAGE WORLD
The Leverage Buy-Out (LBO) is a method of financing the purchase of companies that use the leverage effect of gearing.
This technique proceeds from the creation of a holding company that will finance part of the acquisition through bank debts, the bank being repaid by dividends of the purchased company.
Concretely, you (either alone or with a pool of associates) form the capital of the holding company with a minimum contribution, completed with a bank loan. Each financial year, the dividends from the purchased company are then sent up to the holding company in order to repay this bank debt (a loan which is generally for six or eight years).
Example:
The financial package of the LBO is thus based on the following:
The ability of the purchased company to show profits: the absence of dividends may lead the holding company to file for bankruptcy.
The visibility of the purchased company over the medium term as well as the company’s investment needs must therefore be closely analysed
(repayment of the debt may slow down development of the company).
More generally, it is important that the relation between capital and debt be well situated with regard to the potential levels of profitability.
Three factors explain the liveliness of the phenomenon of transference of companies:
- The pyramid of ages, which leads numerous founders of companies to hand their company along;
- The growth of a domestic market on the European scale, forcing companies to adopt strategies for external growth in order to reach a European dimension;
- The increasingly financial nature of the economy, leading more and more buyers to see a company as a “product” or an “investment” purchased mainly for resale with capital gains;
- Companies engaged in strategies of external growth.
Three categories of investors intervene on the LBO market:
- Private individuals, such as corporate executives, often affiliated with financiers (the share of financiers in financial packages is developing and becoming more and more preponderant);
- Financiers, who are becoming increasingly involved in majority LBOs so as to have greater control over their withdrawal;
- Industrialists, in form of the purchased company’s dividends and profits.
With regard to taxes, the LBO makes possible a savings on tax equivalent to the amount of interest paid on this acquisition as from the time the holding company owns at least 95 % of the purchased company.
It should also be stressed that the LBO tool is gaining a more and more pertinent scope of application with the increasingly financial nature of the economy.
- MBO (Management Buy-Out): operation for buying a company involving the management team in place financially, with or without leverage effect of the banks.
- IBO (Institutional Buy-Out): operation of buying a company through an investment fund, with or without support from management.
- MBI (Management Buy-In): operation of buying a company involving the management team in place financially, the team being external to the purchased company, with or without leverage effect of the banks.
- BIMBO (Buy-In Management Buy-Out): operation of buying a company involving a mixed management team financially, the team being composed of managers in place and of new managers external to the purchased company, with or without leverage effect of the banks.
- LBU (Leverage Build-Up): an MBO or MBI operation followed by one or more operations of external growth financed in part by a leverage effect of the banks.
- OBO (Owner Buy Out): operation with a patrimonial aim of buying from oneself under the terms of an LBO.