What is the primary risk associated with 'leveraged buyouts' (LBOs) in private equity?

Question: What is the primary risk associated with 'leveraged buyouts' (LBOs) in private equity?

Answer options:

• Lack of diversification due to investment in public companies. ✅ Significant debt burden on the acquired company, increasing bankruptcy risk.
• Excessive liquidity of the investments, making them hard to manage.
• Low potential for capital appreciation.

Correct answer: Significant debt burden on the acquired company, increasing bankruptcy risk.

Explanation: Leveraged buyouts utilize a large amount of borrowed money (leverage) to acquire a company. While this magnifies potential returns for the private equity firm, it simultaneously places a significant debt burden on the acquired company, increasing its financial risk and the risk of default or bankruptcy.