The words Venture Capital and Private Equity are generally used together, but there is only one category of private equity, and that is venture capital. Private Equity involves various risks. For example, some businesses will experience changes in growth over time, typically requiring different amounts of capital. This capital also comes from multiple sources. Each stage in the growth of a business is considered a “risk continuum”. If your business is young and barely generates cash flow, then financing becomes a high risk. Typically, a business in this situation would be required to raise capital from family, friends, or angel investors. Once the business begins to generate income, the risk decreases.
Venture capital is typically for established products or services that are looking to get into the marketplace. Various investors are always on the lookout for the newest, best performing product that consumers will absolutely love. Some of the big IT companies have used venture capital to fund their operations. This type of financing is considered a private partnership. Venture Capitalists will provide the necessary equity financing in exchange for an equity stake. They will generally play a daily guiding role so that the investment takes off in a few years. Most venture capital investments don’t go far, but for those who do, they can reap a huge return by making their investment overall and more.
There are other private equity options such as LBOs and Mezzanines. These are often used once the business has grown and is a bit more secure. They may require debt and equity, but the overall risk is much lower with a low failure rate.
LBO stands for Leveraged Bayouts. They are one of the most common loans used for private equity. A business obtains a loan from a private equity firm which is then secured by cash or business assets. Sometimes the LBO is sold in multiple pieces and any cash generated would be used as a down payment for high leverage. This type of process was very important a few decades ago, but today LBO operations are more focused on buying companies with the aim of adding value to the company’s assets rather than on the sale of parts of its structure.
The financing of mezzanines is only a private loan. This type of loan comes either from a commercial bank or from a venture capital company specializing in Mezzanines. They generally include subordinated loans or common stocks. When you don’t take a full-fledged equity position, a company specializing in mezzanine debt can reduce its risk. This is based on the preservation of capital.
In order to engage in a private equity or venture capital partnership, the investor must be accredited. Sometimes even the net worth has to exceed a million dollars. For investors whose net worth is a little lower, then they have the option of going for stock market trading funds. Exchange traded funds are an index of private equity. There is a list of many publicly traded companies that will invest in private equity.
Globally, private equity has many forms and venture capital is just one of those that can help a business at different stages of its growth. It all depends on the evolution of the market and existing cycles.