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Private equity firms

PE refers to the equity or shares that represent the ownership of interest in an entity that is not publicly traded or listed. PE is an alternative investment class. PE funds are generally organized as limited partnerships. A limited partnership generally consists of a general partner who manages the fund and limited partners who are passive investors. A general partner usually invests and hence owns 1% interest in a fund and assumes full liability, and is responsible for managing as well as operating the fund.

The limited partners usually own 99% interest of the fund and only have limited liability in the fund.

PE firms raise funds from wealthy individuals, accredited investors, and institutional investors such as endowments, banks, insurance companies, and pension funds.

PE investments are managed by PE firms. PE firms charge a fee for their services provided. The fee consists of two parts, the management fee and performance fee.

The management fee rate varies from 1.0% to 2.0% per year initially and later will be reduced by 0.5% to 1.0%. The performance fee is usually around 20% of profits from investments.

PE funds can invest in startups or private companies or in the privatization of a public company.

They finance companies at their middle and mature stages for purposes such as company growth, buyouts, and so on. Common PE investment objectives include leveraged buyouts, growth capital, distressed investments, and mezzanine capital. PE was thought by some people to be a rebranding of leveraged buyout firms post the 1980s. Big PE firms, for example, The Carlyle Group, Kohlberg Kravis Roberts (KKR), and The Blackstone Group, invest in leveraged buyout transactions in mature companies.

PE funds are often confused with angel funds or VC funds. For example, they are all private capitals investing in companies and exit by selling their stakes in equity financing, like IPOs. However, they are quite different. For instance, PE firms make investments in fewer companies but larger amounts than those made by angels and VCs. PE firms often buy 100% ownership of a company, while a VC firm likely buys 50% or less ownership.

Most VC firms diversify their risk by investing in many different startups. Consequently, the return-on-investment of PE frequently depends on one investment. Another difference is the investment timing. As we mentioned previously, PE firms buy mature/established companies and streamline their operations to increase revenues. VC firms invest in startups with high growth potential.

With the investments from PE, a company can develop new technology and products, acquire competitors, bolster its balance sheet, increase working capitals, or streamline the company's operations.