The private equity fund is a pooled investment offered by the private equity firm that lets the investors invest in a business or company. It is a great opportunity for institutional investment firms and accredited investors to diversify their portfolios. In this way, investors can earn higher returns than they can earn by investing in public companies.
Private equity involves three parties: The investors, the private equity firm, and the companies, which are the private equity firms where the money is invested. If you are also interested in investing in private equity, find here the 3 ways to invest in private equity!
3 Ways To Invest In Private Equity
Growth equity, Buyouts, and venture capital are the 3 ways to invest in private equity. These strategies do not compete against each other and require a different set of skills for success. But each of these has a specific place in the life cycle of an organization. Let’s look over these strategies here one by one:
Growth Equity
It is all about the capital investment in an established and growing company. Once a company is established, it needs more funds for the growth, where the growth equity comes into play. The growth equity investments are granted for the company equity in return, usually in minority shares. The investors can search about the company's financial track record, try the products, and interview the clients before investing. Though every investment involves risk in growth equity, the company can prove that it will give back before the equity firm makes any investments.
Most firms in growth equity maintain a database of up-and-coming companies and monitor the financial information for a certain period. It helps the firms to get an idea about the earning revenue and helps them to know when the companies will need the funds to continue their growth. The investors must get the growth strategy or plan from the company to get an idea about their returns or investments. Remember that the success of the growth equity depends on the strong team or founder, financial analysis, and calculated research.
Buyouts
In a buyout, the private equity buys the company to sell it later for a profit. The company can be private or public; if it is public, it will be taken private through purchase. Sometimes, the private firms use the capital from the funds and borrow money to complete the deal. The private equity firms also use the assets of the company they purchase to secure the loan. The deal is a leveraged buyout if the borrowed money is involved. In this strategy, the private equity firm identifies the company with room for improvement. After purchasing the company, the private equity firm improves its management or operations and sells it to earn a profit, known as "exit." It is just like flipping the house.
Venture Capital
It is a type of private equity investment that is made at an early-stage startup. The venture capitalists give the company a specific amount of seed funding and get a share in the result. The venture capitalists don't require majority shares (more than 50%), which seems attractive to the founders. It can be risky because the startups are just ideas and need to ensure the ability to turn a profit.
Like other investments, the return of the capital venture is not guaranteed. But, when the startup becomes the next big thing, the capitalists can earn millions or billions. Venture capital is the only investment strategy with a high persistence level. So, the capitalist who invested and succeeded in the last startup has a greater chance of success.
Why Invest In Private Equity?
Wealthy individuals and institutional investors usually get attracted to private equity investments. It includes pension plans, large university endowments, and family offices. The money is used to fund early-stage and high-risk ventures, which later play a key role in the economy. Often, the money is invested in a new company showing growth potential and possibilities in software, healthcare, hardware, telecommunication, and biotechnology industries.
Private equity firms always try to add value to the companies they purchase and make them profitable. For instance, the firm can bring new management teams, aggressively cut costs, add complementary companies, or spin off the parts of the underperforming businesses. The companies which can receive the private equity funding are:
- FedEx
- Intel
- Cisco Systems
- Network Solutions
- A&W Restaurants
Risks Of Private Equity
Here are the risks of investing in private equity:
Transparency, Regulation And Data:
Remember that the private equity fund is not registered with the Securities and Exchange Commission. Therefore, the private equity firm is not required to disclose any information about their funds (as mutual funds). Private companies are mostly the target of private equity acquisitions and are not subject to private scrutiny. The private equity firms must identify the company with complete, healthy, and accurate balance sheets. It can lead to varying risk levels within the private equity universe. The mature company on the buyout can show the earnings and operations data. Early-stage startups will show a little information in this regard. It makes investing in the startup through venture capital risky compared to investing in growth-stage companies with an established market share and revenue.
Illiquidity:
Being the limited partner, if you want to see the return on your investment, you may have to hold it in private equity for a long time, for ten years. Remember that private equity funds work differently than the other common fund types as mutual funds, where a specific number of partners invest a specific amount the firm uses when needed within a certain period. When the private equity firm requests money from investors, it is called a capital call. The other types of investments can be easily converted into cash or stocks. However, capital call investment periods and the time required to sell the company make the private equity investments illiquid.
Conclusion:
Private equity is a form of investment outside the public stock market and allows you to own private companies. The industry has shown remarkable growth over the last few years and has gained attention, specifically when stock prices and rates get lower. The 3 ways to invest in private equity include buyouts, venture capital, and growth equity. Each of these has its advantages and requires specific skills!
