Pools of capital invested in private companies
What are Private Equity Funds?
Private equity funds are pools of capital to be invested in companies that represent an opportunity for a high rate of return. They come with afixedinvestment horizon, typically ranging from four to seven years, at which point the PE firm hopes to profitably exit the investment. Exit strategies include IPOs and sale of the business to another private equity firm or strategic buyer.
Institutional funds and accredited investors usually make up the primary sources of private equity funds, as they can provide substantial capital for extended periods of time. A team of investment professionals from a particular PE firm raises and manages the funds.
Equity
Equity can be further subdivided into four components: shareholder loans, preferred shares, CCPPO shares, and ordinary shares.
Typically, the equity proportion accounts for 30% to 40% of funding in a buyout. Private equity firms tend to invest in the equity stake with an exit plan of 4 to 7 years. Sources of equity funding include management, private equity funds, subordinated debt holders, and investment banks. In most cases, the equity fraction is comprised of a combination of all these sources.
Types ofPrivate Equity Funds
Private equity funds generally fall into two categories: Venture Capital and Buyout or Leveraged Buyout.
1. Venture Capital (VC)
Venture capital funds are pools of capital that typically invest in small, early stage and emerging businesses that are expected to have high growth potential but have limited access to other forms of capital. From the point of view of small start-ups with ambitious value propositions and innovations, VC funds are an essential source to raise capital as they lack access to large amounts of debt. From the point of view of an investor, although venture capital funds carry risks from investing in unconfirmed emerging businesses, they can generate extraordinary returns.
2. Buyout or Leveraged Buyout (LBO)
Contrary to VC funds, leveraged buyout funds invest in more mature businesses, usually taking a controlling interest. LBO funds use extensive amounts of leverage to enhance the rate of return. Buyout finds tend to be significantly larger in size than VC funds.
Exit Considerations
There are multiple factors in play that affect the exit strategy of a private equity fund. Here are some necessary questions to ask:
- When does the exit need to take place? What is the investment horizon?
- Is the management team amenable and ready for an exit?
- What exit routes are available?
- Is the existing capital structure of the business appropriate?
- Is the business strategy appropriate?
- Who are the potential acquirers and buyers? Is it another private equity firm or a strategic buyer?
- What Internal Rate of Return (IRR) will be achieved?
Typical Exit Routes for PE Funds
When deciding to exit, PE firms take either one of two paths: total exit or partial exit. In terms of a wholesale exit from the business, there can be a trade sale to another buyer, LBO by another private equity firm, or a share repurchase.
In terms of a partial exit, there could be a private placement, where another investor purchases a piece of the business. Another possibility is corporate restructuring, where external investors get involved and increase their position in the business by partially acquiring the private equity firm’s stake. Finally, corporate venturing could happen, in which the management increases its ownership in the business.
Lastly, a flotation or an IPO is a hybrid strategy of both total and partial exit, which involves the company being listed on a public stock exchange. Typically, only a fraction of a company is sold in an IPO, ranging from 25% to 50% of the business. When the company is listed and traded publicly, private equity firms exit the company by slowly unwinding their remaining ownership stake in the business.
Additional Resources
Thank you for reading CFI’s guide on Private Equity Funds. To keep learning and advancing your career, the following resources will be helpful:
FAQs
What to Include in Your Answer to “Why Private Equity?”
- Highlight that you have some transaction experience.
- Express an interest in a sector that the PE firm invests in.
- Position yourself as a long-term thinker or investor.
- Show that you know what the PE firm has invested in.
The short answer: It's a solution to volatility, providing capital preservation and stable returns.
Why is private equity so hard to get into? ›
Landing a career in private equity is very difficult because there are few jobs on the market in this profession and so it can be very competitive. Coming into private equity with no experience is impossible, so finding an internship or having previous experience in a related field is highly recommended.
Why PE instead of IB? ›
However, investment bankers tend to work longer hours, often working late into the night and on weekends. Private equity firms also tend to have a more relaxed work environment and offer more flexible hours. So, if you're looking for a career with less hours commitment, private equity may be the way to go.
How do you stand out in a private equity interview? ›
Show your personality: Headhunters meet with dozens of investment bankers every day, so you need to be able to stand out with your own unique personality. Beyond the actual interview, create small talk with all of the people you meet at the headhunting firm and be able to talk about more than just finance.
How to answer why KKR? ›
As a leading global investment firm with a strong track record of success, kkr.com is an organization that aligns with my personal values and professional goals. I am drawn to the company's reputation for excellence, innovation, and commitment to making a positive impact on the world through its investments.
What is the difference between a private credit fund and a private equity fund? ›
The Bottom Line. Investing in private credit involves making loans to companies or individuals and collecting interest payments, while private equity investors acquire an ownership stake in a company whose shares don't currently trade on the public markets.
How do you explain private credit? ›
Private credit (also known as direct lending) is generally defined as lending by non-bank financial institutions—including private equity firms and alternative asset managers—most often to small and mid-sized businesses, who are often highly leveraged and generally cannot borrow in corporate bond markets.
What is the loss ratio in private equity? ›
The loss ratio is calculated by dividing the percentage of capital realised below cost (minus any recovered proceeds) by the total invested capital.
Why are people in private equity so rich? ›
Private equity owners make money by buying companies they think have value and can be improved. They improve the company or break it up and sell its parts, which can generate even more profits.
Private equity funds are illiquid and are risky because of their high use of debt; furthermore, once investors have turned their money over to the fund, they have no say in how it's managed. In compensation for these terms, investors should expect a high rate of return.
How much does the average person in private equity make? ›
What is the Average Salary in Private Equity?
| Private Equity Salary Data | | |
|---|
| 2nd Year Associate | $160k – $180k | $170k – $270k |
| 3rd Year Associate | $180k – $200k | $180k – $300k |
| Senior Associate | $200k – $220k | $210k – $390k |
| Vice President (VP) | $230k – $260k | $340k – $520k |
2 more rowsMar 8, 2024
Analysts at all types of private equity firms earn significantly less than Associates, just as Analysts in IB earn significantly less than Associates. In fact, PE Analysts often earn less than IB Analysts! So, you might initially make less money if you start in private equity.
Is PE less stressful than IB? ›
The corporate culture of investment banks is considered more stressful than private equity firms. Investment bankers typically have a strict, suit-and-tie corporate culture with 10+ working hours a day and a less flexible schedule.
Is private equity stressful? ›
While the travel will be less, the work in private equity is very stressful and demanding, so the hours you actually spend working may be more stressful or mentally demanding.
Why are you a strong candidate for private equity? ›
Private equity firms are always on the lookout for candidates who are driven, ambitious, and possess a strong work ethic. They want to know that you are willing to put in the hard work and dedication required to succeed in this industry.
Why do you currently want to work in venture capital private equity? ›
You might say you want get into private equity because you're interested in investing and going deeper into finance. That's fine. But the answer would be much better if you could mention that you want to learn more about investing because you've loved it since college when you part of your school's investment club.
Why do I want to work in private sector? ›
As private-sector companies are usually profit-driven, you may find more jobs with a higher salary than government or non-profit positions. Ensure your ideal job entails a salary that will meet your needs. Private-sector jobs in larger cities may have a higher salary.
Why do people go to private equity? ›
The underlying reason for private equity investing is to achieve returns on investment that may not be achievable in the public market. Partners at PE firms raise and manage funds to yield favorable returns for shareholders, typically with an investment horizon of four to seven years.
