Why does a strategic acquirer prefer to purchase in cash, but a financial sponsor uses an LBO?
Answer
A strategic acquirer prefers to pay in cash because it is a sign of strength to shareholders that they’re able to recoup that cash with synergies close to instantly.
A PE firm would prefer to purchase using an LBO because the debt is “owned” by the acquired company, not the PE firm. Therefore, it’s not as risky for them.
Another way to think about it is to think about the debt piece specifically. Since debt gets paid before equity, if a strategic takes on debt, it actually makes their stock slightly more risky for shareholders. That probably means their stock is gonna go down.
For PEs, they’re planning to exit the business and debt gives them the opportunity to amplify their returns and they don’t have shareholders to appease. Similarly, strategics don’t plan on exiting the business so they don’t have the same opportunity to amplify returns.
Why this matters to bankers
Understanding how both types of buyers will finance a transaction helps bankers understand their underlying goals and guide discussions effectively.