The huge sums that private equity firms make on their investments evoke admiration and envy. Typically, these returns are attributed to the firms’ aggressive use of debt, concentration on cash flow and margins, freedom from public company regulations, and hefty incentives for operating managers. But the fundamental reason for private equity’s success is the strategy of buying to sell—one rarely employed by public companies, which, in pursuit of synergies, usually buy to keep.
The chief advantage of buying to sell is simple but often overlooked, explain Barber and Goold, directors of the Ashridge Strategic Management Centre. Private equity’s sweet spot is acquisitions that have been undermanaged or undervalued, where there’s a onetime opportunity to increase a business’s value. Once that gain has been realized, private equity firms sell for a maximum return. A corporate acquirer, in contrast, will dilute its return by hanging on to the business after the growth in value tapers off.
Public companies that compete in this space can offer investors better returns than private equity firms do. (After all, a public company wouldn’t deduct the 30% that funds take out of gross profits.) Corporations have two options: (1) to copy private equity’s model, as investment companies Wendel and Eurazeo have done with dramatic success, or (2) to take a flexible approach, holding businesses for as long as they can add value as owners. The latter would give companies an advantage over funds, which must liquidate within a preset time—potentially leaving money on the table.
Both options present public companies with challenges, including U.S. capital-gains taxes and a dearth of investment management skills. But the greatest barrier may be public companies’ aversion to exiting a healthy business and their inability to see it the way private equity firms do—as the culmination of a successful transformation, not a strategic error.
FAQs
The goal of these strategies is to help investors achieve high returns on their investments. This article will discuss five major private equity investment strategies: Leveraged Buyouts, Growth Capital, Distressed Investments, Special Situations and Turnarounds, and Industry and Sector Focused Strategies.
What is a strategic in private equity? ›
While strategic buyers are interested in absorbing sellers into a larger corporate entity, private equity buyers are more interested in growing your company's revenue and profit over several years before selling it as part of a larger consolidate entity. Naturally, this goal impacts the experience of the seller.
Why is private equity so powerful? ›
They emphasize the ability of private equity firms to infuse capital into struggling companies, potentially saving them from bankruptcy and preserving jobs. These firms have the financial resources and strategic expertise to carry out changes needed by whoever owns them while streamlining operations and driving growth.
How do you succeed in private equity? ›
Strong problem solving and analytical skills in addition to required knowledge on:
- bolt-on acquisition analysis and market research conductions.
- confidential information memorandum (CIM) reviews and financial modeling formulation.
- ability to create leveraged buyout (LBO) for client deals.
The 2 and 20 is a hedge fund compensation structure consisting of a management fee and a performance fee. 2% represents a management fee which is applied to the total assets under management. A 20% performance fee is charged on the profits that the hedge fund generates, beyond a specified minimum threshold.
What is the main goal of private equity? ›
Private equity describes investment partnerships that buy and manage companies before selling them. Private equity firms operate these investment funds on behalf of institutional and accredited investors.
Which of the following is most likely a private equity strategy? ›
Answer C) leveraged buyout. Explanation C is correct. A type of private equity fund that invests in established profitable and cash generative companies with solid customer bases, proven products, and high quality management is most likely described as a leveraged buyout.
Is BlackRock a private equity firm? ›
Private equity is a core pillar of BlackRock's alternatives platform. BlackRock's Private Equity teams manage USD$41.9 billion in capital commitments across direct, primary, secondary and co-investments.
Why do PE firms pay less than strategics? ›
Instead of looking for synergies in a potential target company, a private equity company, or any other financial acquirer, seeks for inefficiencies that they can fix, so that they can later exit with a profit. Top financial acquirers pay smaller premium and make bigger profit than strategic acquirers.
Is private equity oversaturated? ›
Another major downside is that private equity is a much more saturated market today than in previous decades. There's too much capital chasing too few high-quality companies, which means that returns will almost certainly decrease in the future.
Private equity investing involves lower risk with a longer return horizon, whereas venture capital investments carry higher risk and the potential for higher returns. In favor of nurturing the growth of startups and technological innovations, the venture space is characterized by higher risk.
What is unique about private equity? ›
Private equity investors believe that the benefits outweigh the challenges not present in publicly traded assets—such as complexity of structure, capital calls (and the need to hold liquidity to meet them), illiquidity, higher betas than the market, high volatility of returns (the standard deviation of private equity ...
What is the average income for private equity? ›
Private Equity Salary in California
| Annual Salary | Monthly Pay |
|---|
| Top Earners | $136,686 | $11,390 |
| 75th Percentile | $118,400 | $9,866 |
| Average | $107,284 | $8,940 |
| 25th Percentile | $68,100 | $5,675 |
What Is the Average Private Equity Firms Salary by State
| State | Annual Salary | Monthly Pay |
|---|
| California | $89,038 | $7,419 |
| Maryland | $88,832 | $7,402 |
| Tennessee | $88,240 | $7,353 |
| Utah | $87,969 | $7,330 |
46 more rowsPrivate equity is a very lucrative career. As an asset class, private equity has enjoyed tremendous success over the past decade. Investors around the globe continue to pile their money into private equity firms.
What is a strategy used by private equity firms looking to generate value and grow their returns? ›
The buy and build strategy is common among private equity firms with a short holding period of between three and five years. When investors put their funds into private equity, they do so expecting a reasonable amount of interest after an agreed period of time.
What are the three ways to make money in private equity? ›
Private equity firms make money through carried interest, management fees, and dividend recaps. Carried interest: This is the profit paid to a fund's general partners (GP).
