Private equity is a source of investment capital from high net worth individuals and institutions for the purpose of investing and acquiring equity ownership in companies. Partners at private equity firms raise funds and manage these monies for the purpose of yielding favourable returns for their shareholder clients, typically with an investment horizon between four and seven years.
These funds are used to purchase shares of private companies or public companies that eventually become delisted from public stock exchanges under go-private deals. The minimum amount of capital required for investors varies depending on the firm and funds raised. The fee structure for private equity firms varies, but it typically consists of a management fee, usually 2% and a performance fee of 20% of gross profits upon sale of the company.
An important function of private equity companies involves oversight and support of the firm’s various portfolio companies and their management team. Among other support work, they can assist management in best practices in strategic planning and financial management. Additionally, they can help with new accounting, procurement and IT systems in order to increase the value of their investment.
There are different types of private equity firms. Some are strict financiers – passive investors, who are wholly dependent on management to grow the company (and its profitability) and supply their owners with appropriate returns.
Other private equity firms consider themselves active investors in that they provide operational support to management in order to help them build and grow a better company. These types of firms may have an extensive contact list and “C-level” relationships, such as CEOs and CFOs within a given industry, which can help increase revenue, or they may be experts in realising operational efficiencies and synergies. If an investor can bring in something special to a deal that will enhance the value of the company over time, such an investor is more likely to be viewed favourably by sellers. It is the seller who ultimately makes the choice of whom they want to sell to, or partner with.