Even before dealing with the intricacies of nondisclosure agreements, employment offer letters, stock restriction agreements, and incentive plans, it is not unusual for founders to have already dreamt of an IPO or sale event. In fact, it is crucial for founders to consider when and how to make that ultimate decision to sell their companies (see Thinking IPO? Timing is Everything and Prepare Your Company for a Sale by Almost “Going Public”). Of course, exit events can take on innumerable forms, each of which has its own benefits and drawbacks. One type of exit event that gained traction in the 1980s and continues to be favored by many financial sponsors is the leveraged buyout (LBO). An LBO occurs when a purchaser acquires a control stake in a company using borrowed funds. These borrowed funds often come from banks or private equity funds or a combination of the two. Although, in theory, any type of company could be the target of an LBO, one key factor in structuring an LBO is that the target’s assets are generally used to collateralize the loan. In other words, if the company stops servicing the debt, the bank may seize the company’s assets. As a result, companies that have stable cash flows or tangible assets are often prime candidates for an LBO.

If you have been following the resolution of the Market Basket saga (for a quick primer, see the Boston Globe’s article The Saga of Demoulas’ Market Basket), you will have witnessed an LBO in action. For the last few months, after having been ousted as CEO, Arthur T. Demoulas has been negotiating with Arthur S. Demoulas (the leader of the majority shareholders and Board of Directors) to purchase the company from Arthur S. and his family. This type of LBO, in which an outside management team raises funds and purchases the target is known as a management buy-in (had Arthur T. still been CEO when he purchased the company, it would be a management buyout).

Arthur T. was initially proposing seller financing as a source of cash in the deal. While seller financing may have kept an additional party out of the capital stack, it is not surprising, given the strained relationship between the two factions, that the sellers were not agreeable to this structure. Instead, $550 million of the purchase price is coming from a private equity firm. In addition to cash from Arthur T. and his family, the balance of the purchase price is coming from a loan secured by the company’s real estate holdings in Massachusetts, New Hampshire, and Maine (the Boston Globe: Market Basket Deal Ends Bitter Feud). But, in this case, having to put up the company’s assets as collateral for the loan is only part of the problem.

Although an agreement is now in place, each side must now work toward a closing in the following months. Even then, it is only the beginning of the next chapter for Market Basket. With the loan in place, it is unclear whether the company can continue one of the things that made it so successful in the first place, low prices. In fact, some studies have found that prices in supermarkets may increase after an LBO. (Judith A. Chevalier, Do LBO Supermarkets Charge More? An Empirical Analysis of the Effects of LBOs on Supermarket Pricing, The Journal of Finance, Vol. L, No. 4, p. 1095 (1995), available here). It remains to be seen whether Arthur T. can keep prices low and loyal customers happy or whether he will have to change the business plan entirely. If he must implement changes, what will happen to the Market Basket that so many employees and customers know and love? All we can do is wait and see.

So, before dreaming of an LBO, consider, are you mortgaging your company’s future?