What are leveraged buyouts (LBOs)?

Leveraged buyouts (LBOs) refer specifically to debt-financed acquisitions of companies. In an LBO, a financial sponsor, often a private equity firm, uses a significant amount of borrowed funds to acquire a target company. The rationale behind this approach is that the acquisition can be financed with the company's future cash flows, which help pay off the debt over time.

The key characteristics of an LBO include the use of leverage (debt) to enhance the potential returns on equity invested by the buyers, as well as focusing on acquiring companies that have strong operational cash flows or undervalued assets. This strategy enables the acquiring firm to control a larger asset base with a smaller amount of equity, amplifying returns if the investment performs well.

In contrast, the other options do not accurately describe leveraged buyouts. For example, equity investments in startups are typically venture capital investments, while acquisitions of non-profit organizations and government-funded buyouts do not align with the financial mechanics and objectives of LBOs.