Operational dimension of private equity investment
Saturday, 30 June 2007
Shireen Scheik Mainuddin
EQUITY capital that is made available to companies or investors, but not quoted on a stock market is termed private equity. More accurately, private equity refers to the manner in which the funds have been raised, namely on the private markets, as opposed to the public markets. Categories of private equity investment include leveraged buyout, venture capital, growth capital, mezzanine capital and others.
A leveraged buyout (or LBO, or highly-leveraged transaction) occurs when a financial sponsor gains control of a majority of a target company's equity through the use of borrowed money or debt. It involves the acquisition of another company using a significant amount of borrowed money to meet the cost of acquisition. The purpose of leveraged buyouts is to allow companies to make large acquisitions without having to commit a lot of capital. The equity component of the purchase price is typically provided by a pool of private equity capital.
Venture Capital is considered a subset of private equity focused on investments in new and maturing companies.
Growth Capital is a very flexible type of financing with the money borrowed under the growth capital line of credit to be used for any corporate purposes.
Mezzanine capital is a similar class of alternative investment focused on structured debt securities in private companies. Risk is lower in mezzanine capital funds, which provide interim investments to companies which have already proven their viability but have yet to raise money from public markets.
Private equity funds are the pools of capital invested by private equity firms. Although other structures exist, private equity funds are generally organised as either a limited partnership or limited liability company which is controlled by the private equity firm that acts as the general partner. Private equity funds typically control management of the companies in which they invest, and often bring in new management teams that focus on making the company more valuable.
Private equity fundraising refers to the action of private equity firms seeking capital from investors for their funds. Typically an investor will invest in a specific fund managed by a firm, becoming a limited partner in the fund, rather than an investor in the firm itself. As a result, an investor will only benefit from investments made by a firm where the investment is made from the specific fund that they have invested in.
The majority of investment into private equity funds comes from institutional investors and in 2006 these were public pension funds, banks and financial institutions. Together these institutions provided 40% of all commitments with insurance companies as the other prominent groups investing in private equity.
The amount of time that a private equity firm spends raising capital varies, depending on the level of interest amongst investors for the fund, which is defined by current market conditions and also the track record of previous funds raised by the firm in question.
Firms can spend as little as one or two months raising capital where they are able to reach the target that they set for their funds relatively easily, often through gaining commitments from existing investors in their previous funds, or where strong past performance leads to strong levels of investor interest. Other managers may find fundraising taking considerable longer. It is not unheard of for funds to spend as long as two years on the road seeking capital, although the majority is completed within nine to fifteen months.
Private equity firms generally receive a return on their investment through one of three ways: an initial public offering (IPO), a sale or merger of the company they control, or a recapitalization. Unlisted securities may be sold directly to investors by the company (called a private offering) or to a private equity fund, which pools contributions from smaller investors to create a capital pool. A growing number of unexploited countries, niches and industries present a host of new opportunities for profit. Gross private equity returns may be in excess of 20% per year due to the high level of risk associated with early stage investments.
Until the introduction of the Freedom of Information Act (FoIA) in the United States and other countries such as the U.K, it was extremely hard to get accurate information about private equity deals and their consequences. The post-FoIA studies show that nearly $135bn of private equity was invested globally in 2005, up a fifth on the previous year due to a rise in buyouts as market confidence and trading conditions improved. Buyouts have generated a growing portion of private equity investments by value, and increased their share of investments from a fifth to more than two-thirds between 2000 and 2005. By contrast, the share of early stage or venture capital investment required for new industry has declined during this period.
The regional breakdown of private equity activity shows that in 2005, North America accounted for 40% of global private equity investments and 52% of funds raised . Between 2000 and 2005, Europe increased its share of investments (from 17% to 43%) and funds raised (from 17% to 38%). This was largely a result of strong buyout market activity in Europe. Asia-Pacific region's share of investments increased from 6.0% to 11% during this period while its share of funds raised remained unchanged at around 8.0%.
Private equity fundraising reached new record levels in 2006 with $432 billion in commitments.
EQUITY capital that is made available to companies or investors, but not quoted on a stock market is termed private equity. More accurately, private equity refers to the manner in which the funds have been raised, namely on the private markets, as opposed to the public markets. Categories of private equity investment include leveraged buyout, venture capital, growth capital, mezzanine capital and others.
A leveraged buyout (or LBO, or highly-leveraged transaction) occurs when a financial sponsor gains control of a majority of a target company's equity through the use of borrowed money or debt. It involves the acquisition of another company using a significant amount of borrowed money to meet the cost of acquisition. The purpose of leveraged buyouts is to allow companies to make large acquisitions without having to commit a lot of capital. The equity component of the purchase price is typically provided by a pool of private equity capital.
Venture Capital is considered a subset of private equity focused on investments in new and maturing companies.
Growth Capital is a very flexible type of financing with the money borrowed under the growth capital line of credit to be used for any corporate purposes.
Mezzanine capital is a similar class of alternative investment focused on structured debt securities in private companies. Risk is lower in mezzanine capital funds, which provide interim investments to companies which have already proven their viability but have yet to raise money from public markets.
Private equity funds are the pools of capital invested by private equity firms. Although other structures exist, private equity funds are generally organised as either a limited partnership or limited liability company which is controlled by the private equity firm that acts as the general partner. Private equity funds typically control management of the companies in which they invest, and often bring in new management teams that focus on making the company more valuable.
Private equity fundraising refers to the action of private equity firms seeking capital from investors for their funds. Typically an investor will invest in a specific fund managed by a firm, becoming a limited partner in the fund, rather than an investor in the firm itself. As a result, an investor will only benefit from investments made by a firm where the investment is made from the specific fund that they have invested in.
The majority of investment into private equity funds comes from institutional investors and in 2006 these were public pension funds, banks and financial institutions. Together these institutions provided 40% of all commitments with insurance companies as the other prominent groups investing in private equity.
The amount of time that a private equity firm spends raising capital varies, depending on the level of interest amongst investors for the fund, which is defined by current market conditions and also the track record of previous funds raised by the firm in question.
Firms can spend as little as one or two months raising capital where they are able to reach the target that they set for their funds relatively easily, often through gaining commitments from existing investors in their previous funds, or where strong past performance leads to strong levels of investor interest. Other managers may find fundraising taking considerable longer. It is not unheard of for funds to spend as long as two years on the road seeking capital, although the majority is completed within nine to fifteen months.
Private equity firms generally receive a return on their investment through one of three ways: an initial public offering (IPO), a sale or merger of the company they control, or a recapitalization. Unlisted securities may be sold directly to investors by the company (called a private offering) or to a private equity fund, which pools contributions from smaller investors to create a capital pool. A growing number of unexploited countries, niches and industries present a host of new opportunities for profit. Gross private equity returns may be in excess of 20% per year due to the high level of risk associated with early stage investments.
Until the introduction of the Freedom of Information Act (FoIA) in the United States and other countries such as the U.K, it was extremely hard to get accurate information about private equity deals and their consequences. The post-FoIA studies show that nearly $135bn of private equity was invested globally in 2005, up a fifth on the previous year due to a rise in buyouts as market confidence and trading conditions improved. Buyouts have generated a growing portion of private equity investments by value, and increased their share of investments from a fifth to more than two-thirds between 2000 and 2005. By contrast, the share of early stage or venture capital investment required for new industry has declined during this period.
The regional breakdown of private equity activity shows that in 2005, North America accounted for 40% of global private equity investments and 52% of funds raised . Between 2000 and 2005, Europe increased its share of investments (from 17% to 43%) and funds raised (from 17% to 38%). This was largely a result of strong buyout market activity in Europe. Asia-Pacific region's share of investments increased from 6.0% to 11% during this period while its share of funds raised remained unchanged at around 8.0%.
Private equity fundraising reached new record levels in 2006 with $432 billion in commitments.