What drives the preference for bank debt over bonds in a leveraged buyout scenario?

In a leveraged buyout (LBO) scenario, the preference for bank debt often arises from its typically lower interest rates compared to bond financing. Bank debt generally offers a more favorable cost of capital, which is crucial for the heavily leveraged nature of LBO transactions. Lower interest rates enable the acquiring firm to manage its debt obligations more effectively and maintain cash flow stability, which is vital given the higher debt levels assumed during an acquisition.

Moreover, banks usually structure their loans with covenants that can be tailored to the specific needs of the borrower, allowing for more flexibility than bond covenants typically offer. This flexibility, along with the lower interest costs, can make bank debt a more attractive option for financing.

While other financing mechanisms like bonds might have longer maturities or could be secured, the cost benefit of lower interest rates in bank debt is critical in the context of maintaining an optimal capital structure and ensuring the long-term viability of the acquisition strategy.