Private Equity vs Venture Capital

Private Equity and Venture Capital work at different stages of the life cycle of companies, why is there confusion in these 2 terms?

Venture Capital Firm (VC)  and Private Equity Firm (PE) collect pools of capital from accredited investors, known as limited partners (LPs), and do so to invest in private companies and startups.The goals of VC and PE are the same: to add value to the companies in which they invest, and then sell them or their shares for profit.

It can be assumed that VC venture capital is only part of PE. Both invest in companies, both hire former investment bankers, and both earn money from investments rather than consulting fees. But if you look closely at them, you will see that they are significantly different.

VC: invest in technology startups that are growing fast. Startups already have a product, some kind of demand and revenue. They need money to expand. These are mainly startups at the early and growth stages.

PE: usually invest in mature companies operating in traditional industries. Such companies need money to eliminate inefficient work, to overcome stagnation, and to grow. Although the structure of PEs may vary, the most common type of transaction is a leverage back (LBO).

VCs Firm never enter LBO deals, but every year PEs Firm increasingly go to higher-risk technology companies in which VCs invest. These are mainly companies and startups of the growth and mature stages. Therefore, confusion arises. Let's take a closer look at the features of these markets.

Companies and startups for investing

• PE firms are bought by mature, public companies.
• VC invests mainly in early stage companies.

Types of Companies

• PE is bought by companies in all sectors.
• VC is focused on technology, biotechnology and environmentally friendly companies.

% acquisition of shares

• PE receive a controlling stake in transactions with LBO.
• VC acquires only a minority share, which is usually less than 50%.

Investment amount

• PE make a big investment: $ 100M - $ 10B.
• VC investments up to $ 10M.

Structure

• PEs use a combination of capital and debt.
• VC use only capital

Business Model PE and VC

VCs Firm realize that many of the companies in which they invest will go bankrupt. But the hope here is that at least one investment will bring huge returns and make the entire fund profitable.

In addition, VC Firm invests small amounts of money in dozens of companies, which is why this model works for them.

But this model will be a disaster if it is applied by PE, since here the number of investments is less and the size of investments is much larger. Therefore, even if one company goes bankrupt, the entire fund will be doomed. And that is why PE funds are invested in mature companies, where the probability of failure in the near future is 0%.

Why are private markets becoming more valuable?

When companies go public, IPO, is when their need for capital exceeded the capabilities of private investors. In the last decade companies are less likely to go public, IPO, for two main reasons:

 Attracted by high-yield potential investors flooding the market, creating an inflow of affordable capital, and It’s become easier for companies to get the investment they need to grow.

As a result, we are seeing a sharp influx of startups supported by venture capital and PE in recent years. Here the risk may be high, but such are the expected returns.

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Date of publication: 30.06.2020