What is a leveraged buyout (LBO)?

A leveraged buyout (LBO) is indeed characterized by the purchase of a company using a substantial amount of borrowed funds. In an LBO, the acquirer typically uses the assets of the target company as collateral for the loans, which allows them to invest a relatively small amount of their own capital while significantly increasing the potential return on investment. This financing structure is attractive because, once the business is acquired, the cash flows generated by the company can be used to repay the debt over time.

Understanding this concept is crucial, as LBOs are a common strategy in private equity, where firms seek to buy undervalued companies, improve their operations, and eventually sell them for a profit. This contrasts with other options presented, which do not accurately define LBOs. Improving company operations, liquidation, or increasing employee ownership are different strategies or events that can occur in the business realm but do not encapsulate the financial mechanics and intentions behind a leveraged buyout.