Like venture capital, which we discussed last week, private equity firms will pool money from wealthy investors, and manage it in a professional fund. However, unlike venture capitalists, private equity firms are risk averse.
Private equity firms invest in well established businesses that have a proven track record. These firms will not deal with early stage companies. Unless you are a really established entrepreneur, it is unlikely they will be on your immediate investment horizon. However, if you have success with a venture capital firm, and achieve incredible growth, they may take on your business and help you expand into realms you hadn’t ever imagined.
What do I need to do?
What do you need to do to successfully raise money with a private equity firm? As discussed above, private equity firms have a much lower appetite for risk. Therefore, to successfully raise money with a private equity firm, your business will need to demonstrate good profits, several years of audited financial statements and a solid management team. You will also need a high turnover; anywhere from £20 million a year and up. As well as this, you will need a connection into the private equity firm. They won’t receive 500 applications a year, like some venture capitalists, but are still incredibly hard to get into. One of the leading routes is through venture capital firms.
A venture capitalist may have initially invested a few million into a business, experienced good growth, and decided to sell. In this case, they would typically go to a private equity firm who will acquire and continue to grow the company. So, to successfully raise money through the private equity route, it is beneficial to have already raised money and experienced growth with a previous investor.
How does it work?
- Private equity funds are comprised of investments from wealthy individuals and groups, such as pension and university endowment funds.
- The money will be managed in a highly professional capacity, and firms will only invest in well established businesses.
- Once a private equity firm acquires a business they will be very involved in the business strategy, and will work with senior management to increase EBITDA during the course of the investment.
What kind of businesses can use Private Equity firms?
As seen above, only later stage companies can use private equity firms. Typically, they’ll need an annual turnover of at least £20 million, have several years of audited financial statements, a stable management team and proven growth. Private equity firms are patient investors. Where venture capital firms will invest in 10 companies with the expectation that 7 will go bust, one or two will plod along and one will be a massive success, private equity firms will expect most of the companies they invest in to return a steady, reliable profit.
How involved are the investors?
Like venture capitalists, private equity firms get very involved. They’ll have several members on the board of directors and will contribute to the business strategy. They tend not to touch the day to day operations, but they’ll want to make sure there is solid corporate governance in place. This will involve a properly structured board that meets on a regular basis. Shareholders will appoint the board of directors, and the board will develop the business strategy and sign off the annual and long-term business plans.
Conclusion
To conclude, the private equity route is only for well-established companies. If you have an early stage business, this route is not for you, at least not for now. Consider raising money through crowdfunding, an angel or even a venture capital firm. Once you’ve got several years of demonstrable profit and clear growth, you may look into the private equity route, but it really is a few rungs up the investment ladder. That being said, 2017 saw private equity investment at its highest level since 2007, so if you meet all the requirements, it can be a hugely beneficial route.[1]
Stay tuned…
In the next post, we’ll look at institutional investors in public markets. We’ll focus on the alternative investment market (AIM), on the London Stock Exchange. David spent 8 years as CFO of two AIM listed companies so has done a lot of work on this route. If you want to exit your business, you don’t necessarily need to go through a private equity firm, the other option is to list it on the stock exchange. However, there’ll be more on that next week. Until then!
David
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