Definition: Private equity is the funds that institutional and retail investors use to acquire public companies or invest in private companies. These funds are typically used in acquisitions, expansion of business, or strengthen a firm’s balance sheet.
What Does Private Equity Mean?
What is the definition of private equity? This funding also has a different meaning that addresses the equity investments made by private equity firms to raise capital. In these cases, the fundraising takes place by offering a prospectus to investors who are interested in funding the business.
Once the funds are exhausted, the private equity fund can raise a second round of capital funding, or it can have several funds going on at the same time. PE firms are not the same as venture capital firms because they are not investing in public firms, but they invest solely in private firms, even if they are already established and globally known. Also, PE firms may finance their investments with debt and participate in a leveraged buyout.
Let’s look at an example.
Example
Mike is an investment manager, and he works for a prominent PE firm. The firm is seeking for strong companies with established growth, but also for younger companies with the potential to rally over the next months due to their strong fundamentals. Mike has reviewed a lot of business plans and has met with several entrepreneurs and company managers, and he is intrigued by one technology company, which, he believes has a great potential.
The technology company is on request of $250,000 in exchange for 15% of the company. The $250,000 will go to equipment and software installations to be able to fulfill the customer orders. Mike sees an opportunity in this company, so he performs due diligence and offers an exit strategy. Therefore, Mike undertakes an active management role, and he provides his managerial expertise to the company. Furthermore, the exit strategy seeks to reap the proceeds from the 15% investment in the technology company in 10 years.
The president of the PE firm, satisfied with the new deal, is offering Mark a great bonus as an incentive to aggressively pursue the financing of the project and seek to improve the margins of the company through the generation of strong cash flows.
Summary Definition
Define Private Equity: Private equity means non-public investors who fund private companies or purchase public companies.
