Financial Education

Buyout funds represent a significantly larger market segment within private equity compared to venture capital. Mega-cap buyout funds typically will take public companies private through a leveraged buyout. Mid-market funds will purchase private companies or divisions of larger companies.

Buyout funds add value by restructuring operations, by buying opportunistically when companies are selling at less than their intrinsic value, or by capturing gains by adding to or restructuring existing debt. They can realize these gains through a later public offering, selling the company to another buyer or by recapitalizing (borrowing and using the proceeds to pay a special dividend).

Buyout funds differ from venture capital funds in a number of ways:

• They are usually highly leveraged
• Cash flows to investors are typically more stable and start sooner
• Returns are not as subject to measurement error

Formative stage companies and privately held companies often have limited access to capital. Start-ups often need capital to fund research or obtain office space before they have generated any revenue. Other companies may need capital in order to expand operations.

Venture capital can be supplied by Angel investors (accredited investors who supply small amounts of seed or early-stage capital), venture capitalists (who manage pooled capital and also offer companies financial and management support) or large companies who want to become strategic partners.

Financial needs for private companies typically go through several stages:

1. Early stage financing
   • Seed capital - small amounts of money used to form the company and prove the idea
   • Start-up - pre-revenue commercialization of a product
   • First stage - additional funds that may be needed, and which are typically supplied only when conditions warrant
2. Later-stage financing offers funds to promising companies that need to expand their operations
3. Exit stage
   • Acquisition by a larger company
   • Merger with another company
   • Initial public offering (IPO)

Private equity investments are investments made in companies that are not publicly traded. They can take a number of forms:

• Financing of private businesses by venture capitalists
• Leveraged buyouts of public companies
• Investments in distressed debt
• Financing public infrastructure projects

Characteristics of private investments include:

• Illiquidity (lack of a secondary market)
• Requirement of long term commitments
• Higher risk relative to public equities
• Need for a high internal rate of return (25-30%)
• Limited information availability, particularly for venture investments in novel technologies