private equity
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Private equity (PE) is
stock Stocks (also capital stock, or sometimes interchangeably, shares) consist of all the Share (finance), shares by which ownership of a corporation or company is divided. A single share of the stock means fractional ownership of the corporatio ...
in a
private company A privately held company (or simply a private company) is a company whose Stock, shares and related rights or obligations are not offered for public subscription or publicly negotiated in their respective listed markets. Instead, the Private equi ...
that does not offer stock to the general public; instead it is offered to specialized
investment fund An investment fund is a way of investment, investing money alongside other investors in order to benefit from the inherent advantages of working as part of a group such as reducing the risks of the investment by a significant percentage. These ad ...
s and
limited partnership A limited partnership (LP) is a type of partnership with general partners, who have a right to manage the business, and limited partners, who have no right to manage the business but have only limited liability for its debts. Limited partnership ...
s that take an active role in the management and structuring of the companies. In casual usage "private equity" can refer to these investment firms rather than the companies in which they invest. Private-equity capital is invested into a target company either by an investment management company (
private equity firm A private equity firm or private equity company (often described as a financial sponsor) is an investment management company that provides financial backing and makes investments in the private equity of a Startup company, startup or of an existin ...
), a
venture capital Venture capital (VC) is a form of private equity financing provided by firms or funds to start-up company, startup, early-stage, and emerging companies, that have been deemed to have high growth potential or that have demonstrated high growth in ...
fund, or an
angel investor An angel investor (also known as a business angel, informal investor, angel funder, private investor, or seed investor) is an individual who provides capital to a business or businesses, including startups, usually in exchange for convertible de ...
; each category of investor has specific financial goals, management preferences, and investment strategies for profiting from their investments. Private equity can provide
working capital Working capital (WC) is a financial metric which represents operating liquidity available to a business, organisation, or other entity, including governmental entities. Along with fixed assets such as plant and equipment, working capital is consi ...
to finance a target company's expansion, including the development of new products and services, operational restructuring, management changes, and shifts in ownership and control. As a financial product, a private-equity fund is private capital for financing a long-term
investment strategy In finance, an investment strategy is a set of rules, behaviors or procedures, designed to guide an investor's selection of an investment portfolio. Individuals have different profit objectives, and their individual skills make different tactics ...
in an illiquid business enterprise. Private equity fund investing has been described by the financial press as the superficial rebranding of investment management companies who specialized in the
leveraged buyout A leveraged buyout (LBO) is the acquisition of a company using a significant proportion of borrowed money (Leverage (finance), leverage) to fund the acquisition with the remainder of the purchase price funded with private equity. The assets of t ...
of financially weak companies. Evaluations of the returns of private equity are mixed: some find that it outperforms public equity, but others find otherwise.


Key features

Some key features of private equity investment include: * An
investment manager Investment management (sometimes referred to more generally as financial asset management) is the professional asset management of various securities, including shareholdings, bonds, and other assets, such as real estate, to meet specified inve ...
(the private equity investor) raises money from institutional investors (e.g.,
hedge funds A hedge fund is a pooled investment fund that holds liquid assets and that makes use of complex trading and risk management techniques to aim to improve investment performance and insulate returns from market risk. Among these portfolio techniq ...
,
pension funds A pension fund, also known as a superannuation fund in some countries, is any program, fund, or scheme which provides retirement income. The U.S. Government's Social Security Trust Fund, which oversees $2.57 trillion in assets, is the world' ...
, university endowments, and ultra-high-net-worth individuals) to pursue a particular investment strategy. ** The fund's raised proceeds are placed into an
investment fund An investment fund is a way of investment, investing money alongside other investors in order to benefit from the inherent advantages of working as part of a group such as reducing the risks of the investment by a significant percentage. These ad ...
, of which the investment manager acts as a general partner (GP) and the institutional investors act as limited partners (LPs). * The investment manager then purchases equity ownership stakes in companies by using a combination of equity and debt financing, with the goal of generating returns on the equity invested, including any subsequent equity investments into the target companies, over a target horizon based on the particular investment fund and strategy (typically 4–7 years). * From a financial modeling perspective, the primary levers available to private equity investors to drive returns are: **
Revenue In accounting, revenue is the total amount of income generated by the sale of product (business), goods and services related to the primary operations of a business. Commercial revenue may also be referred to as sales or as turnover. Some compan ...
growth **
Margin Margin may refer to: Physical or graphical edges *Margin (typography), the white space that surrounds the content of a page * Continental margin, the zone of the ocean floor that separates the thin oceanic crust from thick continental crust *Leaf ...
expansion (typically an
EBITDA A company's earnings before interest, taxes, depreciation, and amortization (commonly abbreviated EBITDA, pronounced ) is a measure of a company's profitability of the operating business only, thus before any effects of indebtedness, state-mandat ...
margin) **
Free cash flow In financial accounting, free cash flow (FCF) or free cash flow to firm (FCFF) is the amount by which a business's operating cash flow exceeds its working capital needs and expenditures on fixed assets (known as capital expenditures). It is that p ...
generation / debt paydown ** Valuation multiple expansion (typically an Enterprise Value / EBITDA multiple) * Value creation strategies can vary widely by private equity fund. For example, some investors may target increasing sales in new or existing markets (driving revenue growth), and others may look to reduce costs through headcount reduction (expanding margins). Many strategies incorporate some amount of corporate governance restructuring, for example, setting up a
board of directors A board of directors is a governing body that supervises the activities of a business, a nonprofit organization, or a government agency. The powers, duties, and responsibilities of a board of directors are determined by government regulatio ...
or updating the target's managerial reporting structure. * The use of
debt financing Debt is an obligation that requires one party, the debtor, to pay money borrowed or otherwise withheld from another party, the creditor. Debt may be owed by a sovereign state or country, local government, company, or an individual. Commer ...
in acquiring companies increases an investment's
return on equity The return on equity (ROE) is a measure of the profitability of a business in relation to its equity; where: : Jason Fernando (2023)"Return on Equity (ROE) Calculation and What It Means" Investopedia Thus, ROE is equal to a fiscal year's net in ...
by reducing the amount of initial equity required to purchase the target. Moreover, the interest payments are tax-deductible, so the debt financing reduces corporate taxes and thus increases total after-tax cash flows generated by the business. ** Following a series of high-profile bankruptcies, aggressive leverage usage by private equity funds has declined in recent decades. In 2005, approximately 70% of the average private equity acquisition represented debt, but it was closer to 50% in 2020. ** Firms that assume large operational risks (e.g., "turnarounds") will usually apply far lower leverage levels to acquired companies in order to provide management with more financial flexibility; firms taking fewer operational risks will often try to maximize available leverage and focus on investments that generate strong, stable cash flows needed to service the higher debt balances. * Over time, "private equity" has come to refer to many different investment strategies, including
leveraged buyout A leveraged buyout (LBO) is the acquisition of a company using a significant proportion of borrowed money (Leverage (finance), leverage) to fund the acquisition with the remainder of the purchase price funded with private equity. The assets of t ...
,
distressed securities In corporate finance, distressed securities are security (finance), securities over companies or government entities that are experiencing Financial distress, financial or operational distress, Default (finance), default, or are under bankruptcy. ...
,
venture capital Venture capital (VC) is a form of private equity financing provided by firms or funds to start-up company, startup, early-stage, and emerging companies, that have been deemed to have high growth potential or that have demonstrated high growth in ...
,
growth capital Growth capital (also called expansion capital and growth equity) is a type of private equity investment, usually a minority interest, in relatively mature companies that are looking for capital to expand or restructure operations, enter new markets ...
, and
mezzanine capital Mezzanine capital is a type of financing that sits between senior debt and equity in a company's capital structure. It is typically used to fund growth, acquisitions, or buyouts. Technically, mezzanine capital can be either a debt or equity ins ...
. One of the most noteworthy differences between leveraged buyouts and the other strategies is that buyouts are generally "control equity positions", as buyout funds usually purchase majority ownership stakes in their target companies, while other investment strategies typically purchase minority ("non-control") ownership stakes, reducing their ability to effect transformational changes across target companies. * For large deals, private-equity investors often invest together in a
syndicate A syndicate is a self-organizing group of individuals, companies, corporations or entities formed to transact some specific business, to pursue or promote a shared interest. Etymology The word ''syndicate'' comes from the French word ''syndic ...
, in order to jointly benefit from exposure diversification, complementary investor information and skills, and heightened connectivity for future investments.


Strategies

The strategies private-equity firms may use are as follows, leveraged buyout being the most common.


Leveraged buyout

Leveraged buyout (LBO) refers to a strategy of making equity investments as part of a transaction in which a company, business unit, or business asset is acquired from the current shareholders typically with the use of financial leverage. The companies involved in these transactions are typically mature and generate operating cash flows. Private-equity firms view target companies as either Platform companies, which have sufficient scale and a successful business model to act as a stand-alone entity, or as add-on / tuck-in / bolt-on acquisitions, which would include companies with insufficient scale or other deficits. Leveraged buyouts involve a financial sponsor agreeing to an acquisition without itself committing all the capital required for the acquisition. To do this, the financial sponsor will raise acquisition debt, which looks to the cash flows of the acquisition target to make interest and principal payments. Acquisition debt in an LBO is often non-recourse to the financial sponsor and has no claim on other investments managed by the financial sponsor. Therefore, an LBO transaction's financial structure is particularly attractive to a fund's limited partners, allowing them the benefits of leverage, but limiting the degree of recourse of that leverage. This kind of financing structure leverage benefits an LBO's financial sponsor in two ways: (1) the investor only needs to provide a fraction of the capital for the acquisition, and (2) the returns to the investor will be enhanced, as long as the
return on assets The return on assets (ROA) shows the percentage of how profitable a company's assets are in generating revenue. ROA can be computed as below: :\mathrm = \frac The phrase return on average assets (ROAA) is also used, to emphasize that average as ...
exceeds the cost of the debt. As a percentage of the purchase price for a leverage buyout target, the amount of debt used to finance a transaction varies according to the financial condition and history of the acquisition target, market conditions, the willingness of lenders to extend credit (both to the LBO's financial sponsors and the company to be acquired) and the interest costs and the ability of the company to cover those costs. Historically the debt portion of a LBO will range from 60 to 90% of the purchase price. Between 2000 and 2005, debt averaged between 59.4% and 67.9% of total purchase price for LBOs in the United States.


Simple example of leveraged buyout

A private-equity fund, ABC Capital II, borrows $9bn from a bank (or other lender). To this, it adds $2bn of ''equity'' – money from its own partners and from ''limited partners''. With this $11bn, it buys all the shares of an underperforming company, XYZ Industrial (after ''
due diligence Due diligence is the investigation or exercise of care that a reasonable business or person is normally expected to take before entering into an agreement or contract with another party or an act with a certain standard of care. Due diligence ...
'', i.e. checking the books). It replaces the senior management in XYZ Industrial, with others who set out to streamline it. The workforce is reduced, some assets are sold off, etc. The objective is to increase the valuation of the company for an early sale. The stock market is experiencing a
bull market A market trend is a perceived tendency of the financial markets to move in a particular direction over time. Analysts classify these trends as ''secular'' for long time-frames, ''primary'' for medium time-frames, and ''secondary'' for short time ...
, and XYZ Industrial is sold two years after the buy-out for $13bn, yielding a profit of $2bn. The original loan can now be paid off with interest of, say, $0.5bn. The remaining profit of $1.5bn is shared among the partners. Taxation of such gains is at the capital gains tax rates, which in the United States are lower than ordinary income tax rates. Note that part of that profit results from turning the company around, and part results from the general increase in share prices in a buoyant stock market, the latter often being the greater component. Notes: * The lenders (the people who put up the $9bn in the example) can insure against default by syndicating the loan to spread the risk, or by buying credit default swaps (CDSs) or selling collateralised debt obligations (CDOs) from/to other institutions. * Often the loan/equity ($11bn in the example) is not paid off after the sale, but left on the books of the company (XYZ Industrial) for it to pay off over time. This can be advantageous since the interest is largely off-settable against the profits of the company, thus reducing, or even eliminating, tax. * Most buyout deals are much smaller; the global average purchase in 2013 was $89m, for example. * The target company (XYZ Industrials here) does not have to be floated on the stock market; most buyout exits after 2000 are not IPOs. * Buy-out operations can go wrong and in such cases, the loss is increased by leverage, just as the profit is if all goes well.


Growth capital

Growth capital Growth capital (also called expansion capital and growth equity) is a type of private equity investment, usually a minority interest, in relatively mature companies that are looking for capital to expand or restructure operations, enter new markets ...
refers to equity investments, most often minority investments, in relatively mature companies that are looking for capital to expand or restructure operations, enter new markets or finance a major acquisition without a change of control of the business. Companies that seek growth capital will often do so in order to finance a transformational event in their life cycle. These companies are likely to be more mature than venture capital-funded companies, able to generate revenue and operating profits, but unable to generate sufficient cash to fund major expansions, acquisitions or other investments. Because of this lack of scale, these companies generally can find few alternative conduits to secure capital for growth, so access to growth equity can be critical to pursue necessary facility expansion, sales and marketing initiatives, equipment purchases, and new product development. The primary owner of the company may not be willing to take the
financial risk Financial risk is any of various types of risk associated with financing, including financial transactions that include company loans in risk of default. Often it is understood to include only downside risk, meaning the potential for financi ...
alone. By selling part of the company to private equity, the owner can take out some value and share the risk of growth with partners. Capital can also be used to effect a restructuring of a company's balance sheet, particularly to reduce the amount of leverage (or debt) the company has on its
balance sheet In financial accounting, a balance sheet (also known as statement of financial position or statement of financial condition) is a summary of the financial balances of an individual or organization, whether it be a sole proprietorship, a business ...
. A
private investment in public equity A private investment in public equity, often called a PIPE deal, involves the selling of publicly traded common shares or some form of preferred stock or convertible security to private investors. It is an allocation of shares in a public compan ...
(PIPE), refer to a form of growth capital investment made into a publicly traded company. PIPE investments are typically made in the form of a
convertible A convertible or cabriolet () is a Car, passenger car that can be driven with or without a roof in place. The methods of retracting and storing the roof vary across eras and manufacturers. A convertible car's design allows an open-air drivin ...
or preferred security that is unregistered for a certain period of time. The Registered Direct (RD) is another common financing vehicle used for growth capital. A registered direct is similar to a PIPE, but is instead sold as a registered security.


Mezzanine capital

Mezzanine capital Mezzanine capital is a type of financing that sits between senior debt and equity in a company's capital structure. It is typically used to fund growth, acquisitions, or buyouts. Technically, mezzanine capital can be either a debt or equity ins ...
refers to
subordinated debt In finance, subordinated debt (also known as subordinated loan, subordinated bond, subordinated debenture or junior debt) is debt which ranks after other debts if a company falls into liquidation or bankruptcy. Such debt is referred to as 'subord ...
or preferred equity securities that often represent the most junior portion of a company's
capital structure In corporate finance, capital structure refers to the mix of various forms of external funds, known as capital, used to finance a business. It consists of shareholders' equity, debt (borrowed funds), and preferred stock, and is detailed in the ...
that is senior to the company's common equity. This form of financing is often used by private-equity investors to reduce the amount of equity capital required to finance a leveraged buyout or major expansion. Mezzanine capital, which is often used by smaller companies that are unable to access the high yield market, allows such companies to borrow additional capital beyond the levels that traditional lenders are willing to provide through bank loans. In compensation for the increased risk, mezzanine debt holders require a higher return for their investment than secured or other more senior lenders. Mezzanine securities are often structured with a current income coupon.


Venture capital

Venture capital (VC) is a broad subcategory of private equity that refers to equity investments made, typically in less mature companies, for the launch of a seed or startup company, early-stage development, or expansion of a business. Venture investment is most often found in the application of new technology, new marketing concepts and new products that do not have a proven track record or stable revenue streams.Joseph W. Bartlett
"What Is Venture Capital?"
The Encyclopedia of Private Equity. Accessed 20 February 2009
Venture capital is often sub-divided by the stage of development of the company ranging from early-stage capital used for the launch of startup companies to late stage and growth capital that is often used to fund expansion of existing business that are generating revenue but may not yet be profitable or generating cash flow to fund future growth. Entrepreneurs often develop products and ideas that require substantial capital during the formative stages of their companies' life cycles. Many entrepreneurs do not have sufficient funds to finance projects themselves, and they must, therefore, seek outside financing. The venture capitalist's need to deliver high returns to compensate for the risk of these investments makes venture funding an expensive capital source for companies. Being able to secure financing is critical to any business, whether it is a startup seeking venture capital or a mid-sized firm that needs more cash to grow. Venture capital is most suitable for businesses with large up-front
capital requirement A capital requirement (also known as regulatory capital, capital adequacy or capital base) is the amount of capital a bank or other financial institution has to have as required by its financial regulator. This is usually expressed as a capital ...
s which cannot be financed by cheaper alternatives such as
debt Debt is an obligation that requires one party, the debtor, to pay money Loan, borrowed or otherwise withheld from another party, the creditor. Debt may be owed by a sovereign state or country, local government, company, or an individual. Co ...
. Although venture capital is often most closely associated with fast-growing
technology Technology is the application of Conceptual model, conceptual knowledge to achieve practical goals, especially in a reproducible way. The word ''technology'' can also mean the products resulting from such efforts, including both tangible too ...
,
healthcare Health care, or healthcare, is the improvement or maintenance of health via the preventive healthcare, prevention, diagnosis, therapy, treatment, wikt:amelioration, amelioration or cure of disease, illness, injury, and other disability, physic ...
and
biotechnology Biotechnology is a multidisciplinary field that involves the integration of natural sciences and Engineering Science, engineering sciences in order to achieve the application of organisms and parts thereof for products and services. Specialists ...
fields, venture funding has been used for other more traditional businesses. Investors generally commit to venture capital funds as part of a wider diversified private-equity portfolio, but also to pursue the larger returns the strategy has the potential to offer. However, venture capital funds have produced lower returns for investors over recent years compared to other private-equity fund types, particularly buyout.


Distressed securities

The category of distressed securities comprises financial strategies for the profitable investment of working capital into the corporate equity and the
securities A security is a tradable financial asset. The term commonly refers to any form of financial instrument, but its legal definition varies by jurisdiction. In some countries and languages people commonly use the term "security" to refer to any for ...
of financially weak companies. The investment of private-equity capital into distressed securities is realised with two financial strategies: # "Distressed-to-Control" ("Loan-to-Own") investment whereby the investor buys debt securities in hope of acquiring ownership and control of the company's equity after financing the corporate restructuring of the target company; # "Special Situations" ("Turnaround") investment wherein the investor buys debt securities and equity investments, to be used as ''rescue financing'' that will restore the profitability of the financially-weak target company. Moreover, the private-equity investment strategies of
hedge fund A hedge fund is a Pooling (resource management), pooled investment fund that holds Market liquidity, liquid assets and that makes use of complex trader (finance), trading and risk management techniques to aim to improve investment performance and ...
s also include actively
trading Trade involves the transfer of goods and services from one person or entity to another, often in exchange for money. Economists refer to a system or network that allows trade as a market (economics), market. Traders generally negotiate throu ...
the loans held and the bonds issued by the financially-weak target companies.


Secondaries

Secondary investments refer to investments made in existing private-equity assets. These transactions can involve the sale of
private equity fund A private equity fund (abbreviated as PE fund) is a collective investment scheme used for making investments in various equity (and to a lesser extent debt) securities according to one of the investment strategies associated with private equity. ...
interests or portfolios of direct investments in privately held companies through the purchase of these investments from existing
institutional investor An institutional investor is an entity that pools money to purchase securities, real property, and other investment assets or originate loans. Institutional investors include commercial banks, central banks, credit unions, government-linked ...
s.The Private Equity Secondaries Market, A complete guide to its structure, operation and performance
The Private Equity Secondaries Market, 2008
By its nature, the private-equity asset class is illiquid, intended to be a long-term investment for
buy and hold Buy and hold, also called position trading, is an investment strategy whereby an investor buys financial assets or non-financial assets such as real estate, to hold them long term, with the goal of realizing price appreciation, despite volatili ...
investors. Secondary investments allow institutional investors, particularly those new to the asset class, to invest in private equity from older vintages than would otherwise be available to them. Secondaries also typically experience a different cash flow profile, diminishing the j-curve effect of investing in new private-equity funds. Often investments in secondaries are made through third-party fund vehicle, structured similar to a
fund of funds A "fund of funds" (FOF) is an investment strategy of holding a portfolio of other investment funds rather than investing directly in stocks, bonds or other securities. This type of investing is often referred to as multi-manager investment. A f ...
although many large institutional investors have purchased private-equity fund interests through secondary transactions. Sellers of private-equity fund investments sell not only the investments in the fund but also their remaining unfunded commitments to the funds.


Other strategies

Other strategies that can be considered private equity or a close adjacent market include: * Real estate: in the context of private equity this will typically refer to the riskier end of the investment spectrum including "value-added" and opportunity funds where the investments often more closely resemble leveraged buyouts than traditional real estate investments. Certain investors in private equity consider real estate to be a separate asset class. *
Infrastructure Infrastructure is the set of facilities and systems that serve a country, city, or other area, and encompasses the services and facilities necessary for its economy, households and firms to function. Infrastructure is composed of public and pri ...
: investments in various public works (e.g., bridges, tunnels, toll roads, airports, public transportation, and other public works) that are made as part of a privatization initiative on the part of a government entity. *
Energy Energy () is the physical quantity, quantitative physical property, property that is transferred to a physical body, body or to a physical system, recognizable in the performance of Work (thermodynamics), work and in the form of heat and l ...
and Power: investments in a wide variety of companies (rather than assets) engaged in the production and sale of energy, including fuel extraction, manufacturing, refining and distribution (Energy) or companies engaged in the production or transmission of electrical power (Power). *
Merchant bank A merchant bank is historically a bank dealing in commercial loans and investment. In modern British usage, it is the same as an investment bank. Merchant banks were the first modern banks and evolved from medieval merchants who traded in comm ...
ing: negotiated private-equity investment by financial institutions in the unregistered securities of either privately or publicly held companies. *
Fund of funds A "fund of funds" (FOF) is an investment strategy of holding a portfolio of other investment funds rather than investing directly in stocks, bonds or other securities. This type of investing is often referred to as multi-manager investment. A f ...
: investments made in a fund whose primary activity is investing in other private-equity funds. The fund of funds model is used by investors looking for: :* Diversification but have insufficient capital to diversify their portfolio by themselves :* Access to top-performing funds that are otherwise oversubscribed :* Experience in a particular fund type or strategy before investing directly in funds in that niche :* Exposure to difficult-to-reach and/or emerging markets :* Superior fund selection by high-talent fund of fund managers/teams * Search fund: A search fund is an investment vehicle through which an entrepreneur (called a "searcher") raises funds from investors in order to acquire an existing small business. After an acquisition is made, the entrepreneur takes an operating role in the acquired company, such as CEO and President. * Royalty fund: an investment that purchases a consistent revenue stream deriving from the payment of royalties. One growing subset of this category is the healthcare royalty fund, in which a private-equity fund manager purchases a royalty stream paid by a pharmaceutical company to a drug patent holder. The drug patent holder can be another company, an individual inventor, or some sort of institution, such as a research university. and this to compensate for private equities not being traded on the public market, a private-equity secondary market has formed, where private-equity investors purchase securities and assets from other private equity investors.


History and development


Early history and the development of venture capital

The seeds of the US private-equity industry were planted in 1946 with the founding of two venture capital firms: American Research and Development Corporation (ARDC) and J.H. Whitney & Company. Before World War II, venture capital investments (originally known as "development capital") were primarily the domain of wealthy individuals and families. In 1901 J.P. Morgan arguably managed the first leveraged buyout of the
Carnegie Steel Company Carnegie Steel Company was a steel-producing company primarily created by Andrew Carnegie and several close associates to manage businesses at steel mills in the Pittsburgh, Pennsylvania area in the late 19th century. The company was formed in ...
using private equity. Modern era private equity, however, is credited to Georges Doriot, the "father of venture capitalism" with the founding of ARDC and founder of
INSEAD INSEAD ( ; French: ''Institut européen d'administration des affaires'') is a non-profit business school with locations in Europe (Fontainebleau, France), Asia (Singapore), the Middle East (Abu Dhabi, UAE) and North America (San Francisco, USA ...
, with capital raised from institutional investors, to encourage
private sector The private sector is the part of the economy which is owned by private groups, usually as a means of establishment for profit or non profit, rather than being owned by the government. Employment The private sector employs most of the workfo ...
investments in businesses run by soldiers who were returning from World War II. ARDC is credited with the first major venture capital success story when its 1957 investment of $70,000 in
Digital Equipment Corporation Digital Equipment Corporation (DEC ), using the trademark Digital, was a major American company in the computer industry from the 1960s to the 1990s. The company was co-founded by Ken Olsen and Harlan Anderson in 1957. Olsen was president until ...
(DEC) would be valued at over $355 million after the company's initial public offering in 1968 (a return of over 5,000 times its investment and an annualized rate of return of 101%). It is commonly noted that the first venture-backed startup is
Fairchild Semiconductor Fairchild Semiconductor International, Inc. was an American semiconductor company based in San Jose, California. It was founded in 1957 as a division of Fairchild Camera and Instrument by the " traitorous eight" who defected from Shockley Semi ...
, which produced the first commercially practicable integrated circuit, funded in 1959 by what would later become Venrock Associates.


Origins of the leveraged buyout

The first leveraged buyout may have been the purchase by McLean Industries, Inc. of Pan-Atlantic Steamship Company in January 1955 and Waterman Steamship Corporation in May 1955 Under the terms of that transaction, McLean borrowed $42 million and raised an additional $7 million through an issue of
preferred stock Preferred stock (also called preferred shares, preference shares, or simply preferreds) is a component of share capital that may have any combination of features not possessed by common stock, including properties of both an equity and a debt ins ...
. When the deal closed, $20 million of Waterman cash and assets were used to retire $20 million of the loan debt. Lewis Cullman's acquisition of Orkin Exterminating Company in 1964 is often cited as the first leveraged buyout. Similar to the approach employed in the McLean transaction, the use of
publicly traded A public company is a company whose ownership is organized via shares of share capital, stock which are intended to be freely traded on a stock exchange or in over-the-counter (finance), over-the-counter markets. A public (publicly traded) co ...
holding companies as investment vehicles to acquire portfolios of investments in corporate assets was a relatively new trend in the 1960s popularized by the likes of
Warren Buffett Warren Edward Buffett ( ; born August 30, 1930) is an American investor and philanthropist who currently serves as the chairman and CEO of the conglomerate holding company Berkshire Hathaway. As a result of his investment success, Buffett is ...
(
Berkshire Hathaway Berkshire Hathaway Inc. () is an American multinational conglomerate holding company headquartered in Omaha, Nebraska. Originally a textile manufacturer, the company transitioned into a conglomerate starting in 1965 under the management of c ...
) and Victor Posner ( DWG Corporation) and later adopted by
Nelson Peltz Nelson Peltz (born June 24, 1942) is an American billionaire businessman and investor. He is a founding partner, together with Peter W. May and Edward P. Garden, of Trian Partners, an alternative investment management fund based in New York. He i ...
(
Triarc The Wendy's Company is an American fast food corporation and the holding company for Wendy's and First Kitchen. Originally founded as the Deisel-Wemmer Company, it is sourced in Dublin, Ohio. The company's principal subsidiary, Wendy's Interna ...
), Saul Steinberg (Reliance Insurance) and Gerry Schwartz ( Onex Corporation). These investment vehicles would utilize a number of the same tactics and target the same type of companies as more traditional leveraged buyouts and in many ways could be considered a forerunner of the later private-equity firms. Posner is often credited with coining the term "
leveraged buyout A leveraged buyout (LBO) is the acquisition of a company using a significant proportion of borrowed money (Leverage (finance), leverage) to fund the acquisition with the remainder of the purchase price funded with private equity. The assets of t ...
" or "LBO". The leveraged buyout boom of the 1980s was conceived by a number of corporate financiers, most notably Jerome Kohlberg Jr. and later his protégé
Henry Kravis Henry Roberts Kravis (born January 6, 1944) is an American businessman, investor, and philanthropist.Bear Stearns The Bear Stearns Companies, Inc. was an American investment bank, securities trading, and brokerage firm that failed in 2008 during the 2008 financial crisis and the Great Recession. After its closure it was subsequently sold to JPMorgan Chas ...
at the time, Kohlberg and Kravis along with Kravis' cousin George Roberts began a series of what they described as "bootstrap" investments. Many of these companies lacked a viable or attractive exit for their founders as they were too small to be taken public and the founders were reluctant to sell out to competitors and so a sale to a financial buyer could prove attractive. In the following years the three
Bear Stearns The Bear Stearns Companies, Inc. was an American investment bank, securities trading, and brokerage firm that failed in 2008 during the 2008 financial crisis and the Great Recession. After its closure it was subsequently sold to JPMorgan Chas ...
bankers would complete a series of buyouts including Stern Metals (1965), Incom (a division of Rockwood International, 1971), Cobblers Industries (1971), and Boren Clay (1973) and Thompson Wire, Eagle Motors and Barrows through their investment in Stern Metals. By 1976, tensions had built up between
Bear Stearns The Bear Stearns Companies, Inc. was an American investment bank, securities trading, and brokerage firm that failed in 2008 during the 2008 financial crisis and the Great Recession. After its closure it was subsequently sold to JPMorgan Chas ...
and Kohlberg, Kravis and Roberts leading to their departure and the formation of
Kohlberg Kravis Roberts KKR & Co. Inc., also known as Kohlberg Kravis Roberts & Co., is an American global private-equity and investment company. , the firm had completed private-equity investments in portfolio companies with approximately $710 billion of total ...
in that year.


Private equity in the 1980s

In January 1982, former
United States Secretary of the Treasury The United States secretary of the treasury is the head of the United States Department of the Treasury, and is the chief financial officer of the federal government of the United States. The secretary of the treasury serves as the principal a ...
William E. Simon and a group of investors acquired Gibson Greetings, a producer of greeting cards, for $80 million, of which only $1 million was rumored to have been contributed by the investors. By mid-1983, just sixteen months after the original deal, Gibson completed a $290 million IPO and Simon made approximately $66 million. The success of the Gibson Greetings investment attracted the attention of the wider media to the nascent boom in leveraged buyouts. Between 1979 and 1989, it was estimated that there were over 2,000 leveraged buyouts valued in excess of $250 million. During the 1980s, constituencies within acquired companies and the media ascribed the "
corporate raid In business, a corporate raid is the process of buying a large stake in a corporation and then using shareholder voting rights to require the company to undertake novel measures designed to increase the share value, generally in opposition to t ...
" label to many private-equity investments, particularly those that featured a
hostile takeover In business, a takeover is the purchase of one company (law), company (the ''target'') by another (the ''acquirer'' or ''bidder''). In the UK, the term refers to the acquisition of a public company whose shares are publicly listed, in contrast t ...
of the company, perceived asset stripping, major layoffs or other significant corporate restructuring activities. Among the most notable investors to be labeled corporate raiders in the 1980s included
Carl Icahn Carl Celian Icahn (; born February 16, 1936) is an American businessman and investor. He is the founder and controlling shareholder of Icahn Enterprises, a public company and diversified conglomerate holding company based in Sunny Isles Beach, ...
, Victor Posner,
Nelson Peltz Nelson Peltz (born June 24, 1942) is an American billionaire businessman and investor. He is a founding partner, together with Peter W. May and Edward P. Garden, of Trian Partners, an alternative investment management fund based in New York. He i ...
, Robert M. Bass, T. Boone Pickens,
Harold Clark Simmons Harold Clark Simmons (May 13, 1931 – December 29, 2013) was an American businessman, investor, and philanthropist whose banking expertise helped him develop the acquisition concept known as the leveraged buyout (LBO) to acquire various corpora ...
,
Kirk Kerkorian Kerkor Kirk Kerkorian (; June 6, 1917 – June 15, 2015) was an American businessman, investor, and philanthropist. He was the president and CEO of Tracinda Corporation, his private holding company based in Beverly Hills, California. Kerkorian ...
, Sir James Goldsmith, Saul Steinberg and
Asher Edelman Asher Barry Edelman (born November 26, 1939) is an American financier. Biography Edelman was the son of New York real estate investor, Richard M. Edelman. He graduated from Bard College and in 1961, he went to work for Halle and Stieglitz wh ...
.
Carl Icahn Carl Celian Icahn (; born February 16, 1936) is an American businessman and investor. He is the founder and controlling shareholder of Icahn Enterprises, a public company and diversified conglomerate holding company based in Sunny Isles Beach, ...
developed a reputation as a ruthless
corporate raid In business, a corporate raid is the process of buying a large stake in a corporation and then using shareholder voting rights to require the company to undertake novel measures designed to increase the share value, generally in opposition to t ...
er after his hostile takeover of TWA in 1985.10 Questions for Carl Icahn
by Barbara Kiviat,
TIME magazine ''Time'' (stylized in all caps as ''TIME'') is an American news magazine based in New York City. It was published weekly for nearly a century. Starting in March 2020, it transitioned to every other week. It was first published in New York Cit ...
, 15 February 2007
Many of the corporate raiders were onetime clients of Michael Milken, whose investment banking firm, Drexel Burnham Lambert helped raise blind pools of capital with which corporate raiders could make a legitimate attempt to take over a company and provided high-yield debt ("junk bonds") financing of the buyouts. One of the final major buyouts of the 1980s proved to be its most ambitious and marked both a high-water mark and a sign of the beginning of the end of the boom. In 1989, KKR (
Kohlberg Kravis Roberts KKR & Co. Inc., also known as Kohlberg Kravis Roberts & Co., is an American global private-equity and investment company. , the firm had completed private-equity investments in portfolio companies with approximately $710 billion of total ...
) closed in on a $31.1 billion takeover of
RJR Nabisco R. J. Reynolds Nabisco, Inc., doing business as RJR Nabisco, was an American conglomerate, selling tobacco and food products, headquartered in the Calyon Building in Midtown Manhattan, New York City. R. J. Reynolds Nabisco stopped ...
. It was, at that time and for over 17 years, the largest leveraged buyout in history. The event was chronicled in the book (and later the movie), '' Barbarians at the Gate: The Fall of RJR Nabisco''. KKR would eventually prevail in acquiring RJR Nabisco at $109 per share, marking a dramatic increase from the original announcement that Shearson Lehman Hutton would take RJR Nabisco private at $75 per share. A fierce series of negotiations and horse-trading ensued which pitted KKR against Shearson and later Forstmann Little & Co. Many of the major banking players of the day, including
Morgan Stanley Morgan Stanley is an American multinational investment bank and financial services company headquartered at 1585 Broadway in Midtown Manhattan, New York City. With offices in 42 countries and more than 80,000 employees, the firm's clients in ...
,
Goldman Sachs The Goldman Sachs Group, Inc. ( ) is an American multinational investment bank and financial services company. Founded in 1869, Goldman Sachs is headquartered in Lower Manhattan in New York City, with regional headquarters in many internationa ...
,
Salomon Brothers Salomon Brothers, Inc., was an American multinational bulge bracket investment bank headquartered in New York City. It was one of the five List of investment banks, largest investment banking enterprises in the United States and a very profitabl ...
, and
Merrill Lynch Merrill Lynch, Pierce, Fenner & Smith Incorporated, doing business as Merrill, and previously branded Merrill Lynch, is an American investment management and wealth management division of Bank of America. Along with BofA Securities, the investm ...
were actively involved in advising and financing the parties. After Shearson's original bid, KKR quickly introduced a tender offer to obtain RJR Nabisco for $90 per share—a price that enabled it to proceed without the approval of RJR Nabisco's management. RJR's management team, working with Shearson and Salomon Brothers, submitted a bid of $112, a figure they felt certain would enable them to outflank any response by Kravis's team. KKR's final bid of $109, while a lower dollar figure, was ultimately accepted by the board of directors of RJR Nabisco. At $31.1 billion of transaction value, RJR Nabisco was by far the largest leveraged buyouts in history. In 2006 and 2007, a number of leveraged buyout transactions were completed that for the first time surpassed the RJR Nabisco leveraged buyout in terms of nominal purchase price. However, adjusted for inflation, none of the leveraged buyouts of the 2006–2007 period would surpass RJR Nabisco. By the end of the 1980s the excesses of the buyout market were beginning to show, with the bankruptcy of several large buyouts including Robert Campeau's 1988 buyout of
Federated Department Stores Macy's, Inc. (previously Federated Department Stores, Inc.) is an American holding company of department stores. Upon its establishment in 1929, Federated held ownership of the regional department store chains Abraham & Straus, Lazarus (departm ...
, the 1986 buyout of the Revco drug stores, Walter Industries, FEB Trucking and Eaton Leonard. Additionally, the RJR Nabisco deal was showing signs of strain, leading to a recapitalization in 1990 that involved the contribution of $1.7 billion of new equity from KKR. In the end, KKR lost $700 million on RJR. Drexel reached an agreement with the government in which it pleaded ''
nolo contendere ''Nolo contendere'' () is a type of legal plea used in some jurisdictions in the United States. It is also referred to as a plea of no contest or no defense. It is a plea where the defendant neither admits nor disputes a Criminal charge, charg ...
'' (no contest) to six felonies – three counts of stock parking and three counts of
stock manipulation In economics and finance, market manipulation occurs when someone intentionally alters the supply or demand of a security to influence its price. This can involve spreading misleading information, executing misleading trades, or manipulating ...
. It also agreed to pay a fine of $650 million – at the time, the largest fine ever levied under securities laws. Milken left the firm after his own indictment in March 1989.New Street Capital Inc.
– Company Profile, Information, Business Description, History, Background Information on New Street Capital Inc." at Reference For Business.
On 13 February 1990 after being advised by United States Secretary of the Treasury Nicholas F. Brady, the U.S. Securities and Exchange Commission (SEC), the
New York Stock Exchange The New York Stock Exchange (NYSE, nicknamed "The Big Board") is an American stock exchange in the Financial District, Manhattan, Financial District of Lower Manhattan in New York City. It is the List of stock exchanges, largest stock excha ...
and the
Federal Reserve The Federal Reserve System (often shortened to the Federal Reserve, or simply the Fed) is the central banking system of the United States. It was created on December 23, 1913, with the enactment of the Federal Reserve Act, after a series of ...
, Drexel Burnham Lambert officially filed for
Chapter 11 Chapter 11 of the United States Bankruptcy Code ( Title 11 of the United States Code) permits reorganization under the bankruptcy laws of the United States. Such reorganization, known as Chapter 11 bankruptcy, is available to every business, w ...
bankruptcy protection.'' Den of Thieves''. Stewart, J. B. New York: Simon & Schuster, 1991. .


Age of the mega-buyout: 2005–2007

The combination of decreasing interest rates, loosening lending standards and regulatory changes for publicly traded companies (specifically the
Sarbanes–Oxley Act The Sarbanes–Oxley Act of 2002 is a United States federal law that mandates certain practices in financial record keeping and reporting for corporations. The act, , also known as the "Public Company Accounting Reform and Investor Protectio ...
) would set the stage for the largest boom private equity had seen. Marked by the buyout of Dex Media in 2002, large multibillion-dollar U.S. buyouts could once again obtain significant high yield debt financing, and larger transactions could be completed. By 2004 and 2005, major buyouts were once again becoming common, including the acquisitions of
Toys "R" Us Toys "R" Us is an American toy, clothing, and baby product retailer owned by Tru Kids (doing business as Tru Kids Brands) and various others. The company was founded in 1948 in Washington, D.C.; its first store was built in April 1948, with i ...
, The Hertz Corporation,
Metro-Goldwyn-Mayer Metro-Goldwyn-Mayer Studios Inc. (also known as Metro-Goldwyn-Mayer Pictures, commonly shortened to MGM or MGM Studios) is an American Film production, film and television production and film distribution, distribution company headquartered ...
and SunGard in 2005. As 2006 began, new "largest buyout" records were set and surpassed several times; nine of the top ten buyouts by the end of 2007 had been announced in an 18-month period from the beginning of 2006 through the middle of 2007. In 2006, private-equity firms bought 654 U.S. companies for $375 billion, representing 18 times the level of transactions closed in 2003. Additionally, U.S.-based private-equity firms raised $215.4 billion in investor commitments to 322 funds, surpassing the previous record set in 2000 by 22% and 33% higher than the 2005 fundraising total The following year, despite the onset of turmoil in the credit markets in the summer, saw yet another record year of fundraising with $302 billion of investor commitments to 415 funds Among the mega-buyouts completed during the 2006 to 2007 boom were: EQ Office, HCA, Alliance Boots and TXU. In July 2007, the turmoil that had been affecting the mortgage markets, spilled over into the leveraged finance and high-yield debt markets. The markets had been highly robust during the first six months of 2007, with highly issuer friendly developments including PIK and PIK Toggle (interest is "''P''ayable ''I''n ''K''ind") and covenant light debt widely available to finance large leveraged buyouts. July and August saw a notable slowdown in issuance levels in the high yield and leveraged loan markets with few issuers accessing the market. Uncertain market conditions led to a significant widening of yield spreads, which coupled with the typical summer slowdown led many companies and investment banks to put their plans to issue debt on hold until the autumn. However, the expected rebound in the market after 1 May 2007 did not materialize, and the lack of market confidence prevented deals from pricing. By the end of September, the full extent of the credit situation became obvious as major lenders including
Citigroup Citigroup Inc. or Citi (Style (visual arts), stylized as citi) is an American multinational investment banking, investment bank and financial services company based in New York City. The company was formed in 1998 by the merger of Citicorp, t ...
and UBS announced major writedowns due to credit losses. The leveraged finance markets came to a near standstill during a week in 2007. As 2008 began, lending standards tightened and the era of "mega-buyouts" came to an end. Nevertheless, private equity continues to be a large and active asset class and the private-equity firms, with hundreds of billions of dollars of committed capital from investors are looking to deploy capital in new and different transactions. As a result of the
2008 financial crisis The 2008 financial crisis, also known as the global financial crisis (GFC), was a major worldwide financial crisis centered in the United States. The causes of the 2008 crisis included excessive speculation on housing values by both homeowners ...
, private equity has become subject to increased regulation in Europe and is now subject, among other things, to rules preventing asset stripping of portfolio companies and requiring the notification and disclosure of information in connection with buy-out activity.


2010 onwards: Staying private for longer

From 2010 to 2014 KKR, Carlyle,
Apollo Apollo is one of the Twelve Olympians, Olympian deities in Ancient Greek religion, ancient Greek and Ancient Roman religion, Roman religion and Greek mythology, Greek and Roman mythology. Apollo has been recognized as a god of archery, mu ...
and
Ares Ares (; , ''Árēs'' ) is the List of Greek deities, Greek god of war god, war and courage. He is one of the Twelve Olympians, and the son of Zeus and Hera. The Greeks were ambivalent towards him. He embodies the physical valor necessary for ...
went public. Starting from 2018 these companies converted from partnerships into corporations with more shareholder rights and the inclusion in stock indices and mutual fund portfolios. But with the increased availability and scope of funding provided by private markets, many companies are staying private simply because they can.
McKinsey & Company McKinsey & Company (informally McKinsey or McK) is an American multinational strategy and management consulting firm that offers professional services to corporations, governments, and other organizations. Founded in 1926 by James O. McKinse ...
reports in its Global Private Markets Review 2018 that global private market fundraising increased by $28.2 billion from 2017, for a total of $748 billion in 2018. Thus, given the abundance of private capital available, companies no longer require public markets for sufficient funding. Benefits may include avoiding the cost of an IPO, maintaining more control of the company, and having the 'legroom' to think long-term rather than focus on short-term or quarterly figures. A new feature in the 2020s: regulated platforms which fractionalize the assets, making possible individual investments of $10,000 or less.


2024

Private equity deal-making in the United Kingdom surged in 2024, with total investment reaching £63 billion, just 7% below the record high of £68 billion in 2021. According to Dealogic, there were 305 private equity deals in 2024, marking a significant increase from 229 deals in 2023. The uptick in activity was driven by improving financial conditions and a rebound in investor confidence after a period of high interest rates in 2022 and 2023, which had slowed deal flow. Notable acquisitions included: * Hargreaves Lansdown – a £5.4 billion takeover of the FTSE 100 financial services firm. * International Distribution Services (Royal Mail's parent company) – acquired for £3.6 billion. * Darktrace – a £4.2 billion acquisition by
Thoma Bravo Thoma Bravo, LP is an American private equity and growth capital firm based in Chicago, Illinois. It is known for being particularly active in acquiring enterprise software companies and has over $130billion in assets under management . It ...
, a private equity firm specializing in technology investments. The rapid pace of acquisitions also contributed to the decline in the number of listed companies in London, as private equity firms increasingly targeted publicly traded businesses. Research by
Goldman Sachs The Goldman Sachs Group, Inc. ( ) is an American multinational investment bank and financial services company. Founded in 1869, Goldman Sachs is headquartered in Lower Manhattan in New York City, with regional headquarters in many internationa ...
showed that the London Stock Exchange experienced its fastest pace of shrinkage in over a decade due to private equity takeovers. However, concerns have been raised regarding the financial health of private equity-backed companies. The
Bank of England The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the Kingdom of England, English Government's banker and debt manager, and still one ...
issued a warning in 2024, stating that businesses owned by private equity firms were more vulnerable to default than other large businesses. The central bank’s research found that more than 2 million people in the UK were employed by firms engaged with private equity and that these companies were responsible for 15% of all corporate debt. Despite these risks, private equity interest in undervalued British companies has continued into 2025. As of early 2025, 19 deals worth a total of £2.9 billion have already been announced, highlighting the sector’s continued expansion.


Investments in private equity

Although the capital for private equity originally came from individual investors or corporations, in the 1970s, private equity became an asset class in which various
institutional investor An institutional investor is an entity that pools money to purchase securities, real property, and other investment assets or originate loans. Institutional investors include commercial banks, central banks, credit unions, government-linked ...
s allocated capital in the hopes of achieving risk-adjusted returns that exceed those possible in the public equity markets. In the 1980s, insurers were major private-equity investors. Later, public pension funds and university and other endowments became more significant sources of capital. For most institutional investors, private-equity investments are made as part of a broad asset allocation that includes traditional assets (e.g., public equity and bonds) and other
alternative assets An alternative investment, also known as an alternative asset or alternative investment fund (AIF), is an investment in any asset class excluding capital stocks, bonds, and cash. The term is a relatively loose one and includes tangible a ...
(e.g.,
hedge fund A hedge fund is a Pooling (resource management), pooled investment fund that holds Market liquidity, liquid assets and that makes use of complex trader (finance), trading and risk management techniques to aim to improve investment performance and ...
s, real estate,
commodities In economics, a commodity is an economic good, usually a resource, that specifically has full or substantial fungibility: that is, the market treats instances of the good as equivalent or nearly so with no regard to who produced them. Th ...
).


Investor categories

US, Canadian and European public and private pension schemes have invested in the asset class since the early 1980s to diversify away from their core holdings (public equity and fixed income).M. Nicolas J. Firzli
'The New Drivers of Pension Investment in Private Equity', Revue Analyse Financière, Q3 2014 – Issue N°52
/ref> Today pension investment in private equity accounts for more than a third of all monies allocated to the asset class, ahead of other institutional investors such as insurance companies, endowments, and sovereign wealth funds.


Direct versus indirect investment

Most institutional investors do not invest directly in privately held companies, lacking the expertise and resources necessary to structure and monitor the investment. Instead,
institutional investor An institutional investor is an entity that pools money to purchase securities, real property, and other investment assets or originate loans. Institutional investors include commercial banks, central banks, credit unions, government-linked ...
s will invest indirectly through a
private equity fund A private equity fund (abbreviated as PE fund) is a collective investment scheme used for making investments in various equity (and to a lesser extent debt) securities according to one of the investment strategies associated with private equity. ...
. Certain
institutional investor An institutional investor is an entity that pools money to purchase securities, real property, and other investment assets or originate loans. Institutional investors include commercial banks, central banks, credit unions, government-linked ...
s have the scale necessary to develop a diversified portfolio of private-equity funds themselves, while others will invest through a
fund of funds A "fund of funds" (FOF) is an investment strategy of holding a portfolio of other investment funds rather than investing directly in stocks, bonds or other securities. This type of investing is often referred to as multi-manager investment. A f ...
to allow a portfolio more diversified than one a single investor could construct.


Investment timescales

Returns on private-equity investments are created through one or a combination of three factors that include: debt repayment or cash accumulation through cash flows from operations, operational improvements that increase earnings over the life of the investment and multiple expansion, selling the business for a higher price than was originally paid. A key component of private equity as an asset class for institutional investors is that investments are typically realized after some period of time, which will vary depending on the investment strategy. Private-equity investment returns are typically realized through one of the following avenues: * an ''
initial public offering An initial public offering (IPO) or stock launch is a public offering in which shares of a company are sold to institutional investors and usually also to retail (individual) investors. An IPO is typically underwritten by one or more investm ...
'' (''IPO'') – shares of the company are offered to the public, typically providing a partial immediate realization to the financial sponsor and a public market into which it can later sell additional shares; * a ''
merger Mergers and acquisitions (M&A) are business transactions in which the ownership of a company, business organization, or one of their operating units is transferred to or consolidated with another entity. They may happen through direct absorpt ...
'' or '' acquisition'' – the company is sold for either cash or shares in another company; * a ''recapitalization'' – cash is distributed to the shareholders (in this case the financial sponsor) and its private-equity funds either from cash flow generated by the company or through raising debt or other securities to fund the distribution. Large institutional asset owners such as pension funds (with typically long-dated liabilities), insurance companies, sovereign wealth and national reserve funds have a generally low likelihood of facing liquidity shocks in the medium term, and thus can afford the required long holding periods characteristic of private-equity investment. The median horizon for a LBO transaction is eight years.


Liquidity in the private-equity market

The private-equity secondary market (also often called private-equity secondaries) refers to the buying and selling of pre-existing investor commitments to private equity and other alternative investment funds. Sellers of private-equity investments sell not only the investments in the fund but also their remaining unfunded commitments to the funds. By its nature, the private-equity asset class is illiquid, intended to be a long-term investment for buy-and-hold investors. For the vast majority of private-equity investments, there is no listed public market; however, there is a robust and maturing secondary market available for sellers of private-equity assets. Increasingly, secondaries are considered a distinct asset class with a cash flow profile that is not correlated with other private-equity investments. As a result, investors are allocating capital to secondary investments to diversify their private-equity programs. Driven by strong demand for private-equity exposure, a significant amount of capital has been committed to secondary investments from investors looking to increase and diversify their private-equity exposure. Investors seeking access to private equity have been restricted to investments with structural impediments such as long lock-up periods, lack of transparency, unlimited leverage, concentrated holdings of illiquid securities and high investment minimums. Secondary transactions can be generally divided into two primary categories:


LP Interest Secondaries (Sale of Fund Interests)

This is the most common type of secondary transaction, involving the sale of an investor’s interest in a private-equity fund or a portfolio of multiple fund interests. Transactions may take several forms: * Traditional Sale – A simple transfer of limited partnership interests in one or more private equity funds. In these transactions, the buyer pays to purchase the interest and assumes any remaining unfunded commitments associated with the interest. The purchase price may be paid entirely upfront in cash or through a deferred payment plan. Often, these deferrals will be fully committed by the buyer to be paid over a period of 6 months to 2 years although. The timing of payments is often a highly negotiated part of this transaction. * Structured Joint Ventures – A customized transaction where buyers and sellers agree on shared ownership structures, often a waterfall of distributions with various sharing between buyer and seller tied to the performance of the underlying portfolio. Typically, the purchase price, timing of payments as well as the funding of remaining unfunded commitments will also be heavily negotiated. Other variants include the Managed Fund in which the seller retains management of the portfolio in order to retain its relationships with the private equity managers in the portfolio and the buyer acquires the economic ownership of the portfolio. * Securitization – The seller contributes fund interests into a vehicle that issues notes, generating partial liquidity.AlpInvest Closes $1 Billion Collateralized Fund Obligation
Wall Street Journal ''The Wall Street Journal'' (''WSJ''), also referred to simply as the ''Journal,'' is an American newspaper based in New York City. The newspaper provides extensive coverage of news, especially business and finance. It operates on a subscriptio ...
, 2024
* Early Secondaries or Late Primaries– Involves selling interests in young funds that have called less than one-third of committed capital. In some cases, secondary investors will make a primary commitment to a fund that is already substantially invested (often in excess of 35%) in order to capture an uplift in the valuation in the fund during the fundraising period. In some cases a manager may reopen the fundraising for a fund that had already had a final closing.


GP-Led Secondaries

Also known as GP-Centered, secondary directs or synthetic secondaries, these transactions involve the sale of a portfolio of direct investments in portfolio companies. Subcategories include: * Continuation funds - The most common form of GP-led transaction in which the buyer uses a new private equity fund vehicle (the Continuation Fund) to allow a fund manager to extend the holding of one of its existing portfolio companies (Single-Asset Continuation Fund) or several existing portfolio companies (Multi-Asset Continuation Fund) from one or more existing funds. This allows the manager to maintain control of its best-performing assets while giving existing limited partners the option to receive early liquidity. Existing investors will typically have an option to re-invest their investment into the new Continuation Fund. * Fund Recapitalization - The buyer uses a new private equity fund vehicle (the Realization Fund) to allow a fund manager to provide liquidity to existing limited partners in a private equity fund purchasing all (or nearly all) of the remaining portfolio companies. Existing investors will typically have an option to rollover their investment into the new Realization Fund. * Stapled Secondaries – A secondary buyer acquires interests in an existing fund while also committing capital to a new fund being raised by the manager. In certain cases a manager will sponsor a "tender offer" to all of its limited partners, although this practice has waned in the 2020s with the increasing usage of continuation funds. A cornerstone secondary is a transaction in which the manager coordinates a stapled secondary from one or more of its largest existing investors, who may be choosing not to make a new commitment to the manager's successor fund. * Secondary Directs – The buyer purchases a portfolio of direct private-equity investments from a corporation or institution often through a newly formed private equity fund vehicle typically without an incumbent manager. * Spinout or Synthetic Secondaries – Investors acquire interests in a newly formed limited partnership holding direct investments often to facilitatie the spinout of a captive private equity investment team from a bank, insurance company or asset management platform.


Private-equity firms

According to Private Equity International's latest PEI 300 ranking, the largest private-equity firm in the world today is
The Blackstone Group Blackstone Inc. is an American alternative investment management company based in New York City. It was founded in 1985 as a mergers and acquisitions firm by Peter G. Peterson, Peter Peterson and Stephen A. Schwarzman, Stephen Schwarzman, who h ...
based on the amount of private-equity direct-investment capital raised over a five-year window. As ranked by the PEI 300, the 15 largest private-equity firms in the world in 2024 were: #
Blackstone Inc. Blackstone Inc. is an American alternative investment management company based in New York City. It was founded in 1985 as a mergers and acquisitions firm by Peter Peterson and Stephen Schwarzman, who had previously worked together at Lehman ...
#
Kohlberg Kravis Roberts KKR & Co. Inc., also known as Kohlberg Kravis Roberts & Co., is an American global private-equity and investment company. , the firm had completed private-equity investments in portfolio companies with approximately $710 billion of total ...
#
EQT AB EQT AB is a Swedish global investment organization founded in 1994. Its funds invest in private equity (EQT Private Capital Europe & North America), infrastructure (EQT Infrastructure), real estate (EQT Real Estate), growth equity, and ventur ...
# CVC Capital Partners #
TPG Capital TPG Inc., previously known as Texas Pacific Group and TPG Capital, is an American private equity firm based in Fort Worth, Texas. TPG manages investment funds in growth capital, venture capital, public equity, and debt investments. The firm in ...
#
The Carlyle Group The Carlyle Group Inc. is an American multinational company with operations in private equity, alternative asset management and financial services. As of 2023, the company had $426 billion of assets under management. Carlyle specializes in ...
#
Thoma Bravo Thoma Bravo, LP is an American private equity and growth capital firm based in Chicago, Illinois. It is known for being particularly active in acquiring enterprise software companies and has over $130billion in assets under management . It ...
#
Advent International Advent International Corporation is an American global private equity firm. It is focused on buyouts of companies in Western and Central Europe, North America, Latin America and Asia. The firm focuses on international buyouts, growth and strat ...
# Warburg Pincus # Hg # Clayton, Dubilier & Rice # Silver Lake #
Hellman & Friedman Hellman & Friedman LLC (H&F) is an American private equity firm, founded in 1984 by Warren Hellman and Tully Friedman, that makes investments primarily through leveraged buyouts as well as growth capital investments. H&F has focused its efforts ...
# Vista Equity Partners # General Atlantic Because private-equity firms are continuously in the process of raising, investing and distributing their
private equity fund A private equity fund (abbreviated as PE fund) is a collective investment scheme used for making investments in various equity (and to a lesser extent debt) securities according to one of the investment strategies associated with private equity. ...
s, capital raised can often be the easiest to measure. Other metrics can include the total value of companies purchased by a firm or an estimate of the size of a firm's active portfolio plus capital available for new investments. As with any list that focuses on size, the list does not provide any indication as to relative investment performance of these funds or managers.
Preqin Preqin Ltd. is a Privately held company, privately held London-based investment data company that provides Financial data vendor, financial data and insight on the alternative assets market, as well as tools to support investment in alternatives. ...
, an independent data provider, ranks the 25 largest private-equity investment managers. Among the larger firms in the 2017 ranking were AlpInvest Partners, Ardian (formerly AXA Private Equity), AIG Investments, and Goldman Sachs Capital Partners. Invest Europe publishes a yearbook which analyses industry trends derived from data disclosed by over 1,300 European private-equity funds. Finally, websites such as AskIvy.net provide lists of London-based private-equity firms.


Versus hedge funds

The investment strategies of private-equity firms differ from those of
hedge fund A hedge fund is a Pooling (resource management), pooled investment fund that holds Market liquidity, liquid assets and that makes use of complex trader (finance), trading and risk management techniques to aim to improve investment performance and ...
s. Typically, private-equity investment groups are geared towards long-hold, multiple-year investment strategies in illiquid assets (whole companies, large-scale real estate projects, or other tangibles not easily converted to cash) where they have more control and influence over operations or asset management to influence their long-term returns. Hedge funds usually focus on short or medium term liquid securities which are more quickly convertible to cash, and they do not have direct control over the business or asset in which they are investing. Both private-equity firms and hedge funds often specialize in specific types of investments and transactions. Private-equity specialization is usually in specific industry sector asset management while hedge fund specialization is in industry sector risk capital management. Private-equity strategies can include wholesale purchase of a privately held company or set of assets, mezzanine financing for startup projects,
growth capital Growth capital (also called expansion capital and growth equity) is a type of private equity investment, usually a minority interest, in relatively mature companies that are looking for capital to expand or restructure operations, enter new markets ...
investments in existing businesses or
leveraged buyout A leveraged buyout (LBO) is the acquisition of a company using a significant proportion of borrowed money (Leverage (finance), leverage) to fund the acquisition with the remainder of the purchase price funded with private equity. The assets of t ...
of a publicly held asset converting it to private control. Finally, private-equity firms only take long positions, for
short selling In finance, being short in an asset means investing in such a way that the investor will profit if the market value of the asset falls. This is the opposite of the more common Long (finance), long Position (finance), position, where the inves ...
is not possible in this asset class.


Private-equity funds

Private-equity fundraising refers to the action of private-equity firms seeking capital from investors for their funds. Typically an investor will invest in a specific fund managed by a firm, becoming a limited partner in the fund, rather than an investor in the firm itself. As a result, an investor will only benefit from investments made by a firm where the investment is made from the specific fund in which it has invested. *
Fund of funds A "fund of funds" (FOF) is an investment strategy of holding a portfolio of other investment funds rather than investing directly in stocks, bonds or other securities. This type of investing is often referred to as multi-manager investment. A f ...
. These are private-equity funds that invest in other private-equity funds in order to provide investors with a lower risk product through exposure to a large number of vehicles often of different type and regional focus. Fund of funds accounted for 14% of global commitments made to private-equity funds in 2006. * Individuals with substantial
net worth Net worth is the value of all the non-financial and financial assets owned by an individual or institution minus the value of all its outstanding liabilities. Financial assets minus outstanding liabilities equal net financial assets, so net w ...
. Substantial net worth is often required of investors by the law, since private-equity funds are generally less regulated than ordinary
mutual fund A mutual fund is an investment fund that pools money from many investors to purchase Security (finance), securities. The term is typically used in the United States, Canada, and India, while similar structures across the globe include the SICAV in ...
s. For example, in the US, most funds require potential investors to qualify as accredited investors, which requires $1 million of net worth, $200,000 of individual income, or $300,000 of joint income (with spouse) for two documented years and an expectation that such income level will continue. As fundraising has grown over the past few years, so too has the number of investors in the average fund. In 2004, there were 26 investors in the average private-equity fund, this figure has now grown to 42 according to
Preqin Preqin Ltd. is a Privately held company, privately held London-based investment data company that provides Financial data vendor, financial data and insight on the alternative assets market, as well as tools to support investment in alternatives. ...
ltd. (formerly known as Private Equity Intelligence). The managers of private-equity funds will also invest in their own vehicles, typically providing between 1–5% of the overall capital. Often private-equity fund managers will employ the services of external fundraising teams known as placement agents in order to raise capital for their vehicles. The use of placement agents has grown over the past few years, with 40% of funds closed in 2006 employing their services, according to Preqin ltd. Placement agents will approach potential investors on behalf of the fund manager, and will typically take a fee of around 1% of the commitments that they are able to garner. The amount of time that a private-equity firm spends raising capital varies depending on the level of interest among investors, which is defined by current market conditions and also the track record of previous funds raised by the firm in question. Firms can spend as little as one or two months raising capital when they are able to reach the target that they set for their funds relatively easily, often through gaining commitments from existing investors in their previous funds, or where strong past performance leads to strong levels of investor interest. Other managers may find fundraising taking considerably longer, with managers of less popular fund types finding the fundraising process more tough. It can take up to two years to raise capital, although the majority of fund managers will complete fundraising within nine months to fifteen months. Once a fund has reached its fundraising target, it will have a final close. After this point it is not normally possible for new investors to invest in the fund, unless they were to purchase an interest in the fund on the secondary market.


Size of the industry

The state of the industry around the end of 2011 was as follows.Private Equity Report, 2012
. TheCityUK.
Private-equity
assets under management In finance, assets under management (AUM), sometimes called fund under management, refers to the total market value of all financial assets that a financial institution—such as a mutual fund, venture capital firm, or depository institutio ...
probably exceeded $2 trillion at the end of March 2012, and funds available for investment totaled $949bn (about 47% of overall assets under management). Approximately $246bn of private equity was invested globally in 2011, down 6% on the previous year and around two-thirds below the peak activity in 2006 and 2007. Following on from a strong start, deal activity slowed in the second half of 2011 due to concerns over the global economy and sovereign debt crisis in Europe. There was $93bn in investments during the first half of this year as the slowdown persisted into 2012. This was down a quarter on the same period in the previous year. Private-equity backed buyouts generated some 6.9% of global M&A volume in 2011 and 5.9% in the first half of 2012. This was down on 7.4% in 2010 and well below the all-time high of 21% in 2006. Global exit activity totalled $252bn in 2011, practically unchanged from the previous year, but well up on 2008 and 2009 as private-equity firms sought to take advantage of improved market conditions at the start of the year to realise investments. Exit activity however, has lost momentum following a peak of $113bn in the second quarter of 2011. TheCityUK estimates total exit activity of some $100bn in the first half of 2012, well down on the same period in the previous year. The fund raising environment remained stable for the third year running in 2011 with $270bn in new funds raised, slightly down on the previous year's total. Around $130bn in funds was raised in the first half of 2012, down around a fifth on the first half of 2011. The average time for funds to achieve a final close fell to 16.7 months in the first half of 2012, from 18.5 months in 2011. Private-equity funds available for investment ("dry powder") totalled $949bn at the end of q1-2012, down around 6% on the previous year. Including unrealised funds in existing investments, private-equity funds under management probably totalled over $2.0 trillion. Public pensions are a major source of capital for private-equity funds. Increasingly,
sovereign wealth funds A sovereign wealth fund (SWF), or sovereign investment fund, is a state-owned investment fund that invests in real and financial assets such as stocks, bonds, real estate, precious metals, or in alternative investments such as private equity ...
are growing as an investor class for private equity. Private Equity was invested in 13% of the Pharma 1000 in 2021 according to Torreya with Eight Roads Ventures having the highest number of investments in this industry.


Private-equity fund performance

Due to limited disclosure, studying the returns to private equity is relatively difficult. Unlike mutual funds, private-equity funds need not disclose performance data. And, as they invest in private companies, it is difficult to examine the underlying investments. It is challenging to compare private-equity performance to public-equity performance, in particular because private-equity fund investments are drawn and returned over time as investments are made and subsequently realized. An oft-cited academic paper (Kaplan and Schoar, 2005) suggests that the net-of-fees returns to PE funds are roughly comparable to the S&P 500 (or even slightly under). This analysis may actually overstate the returns because it relies on voluntarily reported data and hence suffers from
survivorship bias Survivorship bias or survival bias is the logical error of concentrating on entities that passed a selection process while overlooking those that did not. This can lead to incorrect conclusions because of incomplete data. Survivorship bias is ...
(i.e. funds that fail will not report data). One should also note that these returns are not risk-adjusted. A 2012 paper by Harris, Jenkinson and Kaplan, 2012 found that average buyout fund returns in the U.S. have actually exceeded that of public markets. These findings were supported by earlier work, using a data set from Robinson and Sensoy in 2011. Commentators have argued that a standard methodology is needed to present an accurate picture of performance, to make individual private-equity funds comparable and so the asset class as a whole can be matched against public markets and other types of investment. It is also claimed that PE fund managers manipulate data to present themselves as strong performers, which makes it even more essential to standardize the industry. Two other findings in Kaplan and Schoar in 2005: First, there is considerable variation in performance across PE funds. Second, unlike the mutual fund industry, there appears to be performance persistence in PE funds. That is, PE funds that perform well over one period, tend to also perform well the next period. Persistence is stronger for VC firms than for LBO firms. The application of the Freedom of Information Act (FOIA) in certain states in the United States has made certain performance data more readily available. Specifically, FOIA has required certain public agencies to disclose private-equity performance data directly on their websites. In the United Kingdom, the second largest market for private equity, more data has become available since the 2007 publication of the David Walker Guidelines for Disclosure and Transparency in Private Equity.


List of private equity billionaires

Below is a partial list of billionaires who acquired their wealth through private equity.


Taxes

Income to private equity firms is primarily in the form of " carried interest", typically 20% of the profits generated by investments made by the firm, and a "
management fee In the investment advisory industry, a management fee is a periodic payment that is paid by an investment fund to the fund's investment adviser for investment and portfolio management services. Often, the fee covers not only investment advisory ser ...
", often 2% of the principal invested in the firm by the outside investors whose money the firm holds. As a result of a tax loophole enshrined in the U.S. tax code, carried interest that accrues to private equity firms is treated as
capital gains Capital gain is an economic concept defined as the profit earned on the sale of an asset which has increased in value over the holding period. An asset may include tangible property, a car, a business, or intangible property such as shares. A ca ...
, which is taxed at a lower rate than is ordinary income. Currently, the long term capital gains tax rate is 20% compared with the 37% top ordinary income tax rate for individuals. This loophole has been estimated to cost the government $130 billion over the next decade in unrealized revenue. Armies of corporate lobbyists and huge private equity industry donations to political campaigns in the United States have ensured that this powerful industry receives this favorable tax treatment by the government. Private equity firms retain close to 200
lobbyists Lobbying is a form of advocacy, which lawfully attempts to directly influence legislators or government officials, such as regulatory agencies or judiciary. Lobbying involves direct, face-to-face contact and is carried out by various entities, in ...
and over the last decade have made almost $600 million in political campaign contributions. In addition, through an accounting maneuver called "fee waiver", private equity firms often also treat management fee income as capital gains. The U.S.
Internal Revenue Service The Internal Revenue Service (IRS) is the revenue service for the Federal government of the United States, United States federal government, which is responsible for collecting Taxation in the United States, U.S. federal taxes and administerin ...
(IRS) lacks the manpower and the expertise that would be necessary to track compliance with even these already quite favorable legal requirements. In fact, the IRS conducts nearly no income tax audits of the industry. As a result of the complexity of the accounting that arises from the fact that most private equity firms are organized as large partnerships, such that the firm's profits are apportioned to each of the many partners, a number of private equity firms fail to comply with tax laws, according to industry
whistleblower Whistleblowing (also whistle-blowing or whistle blowing) is the activity of a person, often an employee, revealing information about activity within a private or public organization that is deemed illegal, immoral, illicit, unsafe, unethical or ...
s.


Debate


Carried interest


Effects

PE's interest in short term profits without regard for the long term effects and the ability to "make money even if their companies blow up" can lead to job loss, raised prices, asset stripping and increased likelihood of bankruptcy for companies acquired.


Loss of innovation and quality

When a private equity entity invests in a company, industry or public service, there have been reports of reduced quality, both in terms of services and goods produced. While a private equity investment into a business might result in short-term improvements, such as new staff and equipment, the incentive is to maximize profits, not necessarily the quality of products or services. Over time, cost-cutting has also been common, and deferring further investments. Private equity investors may also be incentivized to make short-term gains by selling a company once a certain level of profitability is achieved or simply selling off its assets if that is not possible. Both of these situations, and others, can result in a loss of innovation and quality.


Recording private equity

There is a debate around the distinction between private equity and
foreign direct investment A foreign direct investment (FDI) is an ownership stake in a company, made by a foreign investor, company, or government from another country. More specifically, it describes a controlling ownership an asset in one country by an entity based i ...
(FDI), and whether to treat them separately. The difference is blurred on account of private equity not entering the country through the stock market. Private equity generally flows to unlisted firms and to firms where the percentage of shares is smaller than the promoter- or investor-held shares (also known as free-floating shares). The main point of contention is that FDI is used solely for production, whereas in the case of private equity the investor can reclaim their money after a revaluation period and make investments in other financial assets. At present, most countries report private equity as a part of FDI.


Transparency

The lack of transparency has raised concerns of exploitation and money laundering.


Healthcare investments

Some studies have shown that private-equity investments in health care and related services, such as nursing homes and hospitals, have decreased the quality of care while driving up costs. Researchers at the Becker Friedman Institute of the
University of Chicago The University of Chicago (UChicago, Chicago, or UChi) is a Private university, private research university in Chicago, Illinois, United States. Its main campus is in the Hyde Park, Chicago, Hyde Park neighborhood on Chicago's South Side, Chic ...
found that private-equity ownership of nursing homes increased the short-term mortality of Medicare patients by 10%. Treatment by private-equity owned health care providers tends to be associated with a higher rate of "surprise bills". Private equity ownership of dermatology practices has led to pressure to increase profitability, concerns about up-charging and patient safety. In a 2024 study of 51 private equity–acquired hospitals matched with 250 controls, the former had a 25% increase in hospital-acquired conditions, such as falls and
central line-associated bloodstream infection A central venous catheter (CVC), also known as a central line (c-line), central venous line, or central venous access catheter, is a catheter placed into a large vein. It is a form of venous access. Placement of larger catheters in more centra ...
s.


Incentives

Loans lent for private-equity acquisitions are often sold to others as securities leaving the original lender uninvolved with the outcome of the loan.


Wealth capture

According to conservative Oren Cass, private equity captures wealth rather than creating it, and this capture can be "zero-sum, or even value-destroying, in aggregate." He describes "assets get shuffled and reshuffled, profits get made, but relatively little flows toward actual productive uses."


Influence on inequality

''Bloomberg Businessweek'' states that:
PE may contribute to inequality in several ways. First, it offers investors higher returns than those available in public stocks and bonds markets. Yet, to enjoy those returns, it helps to already be rich. Private-equity funds are open solely to "qualified" (read: high-net-worth) individual investors and to institutions such as endowments. Only some workers get indirect exposure via pension funds. Second, PE puts pressure on the lower end of the wealth divide. Companies can be broken up, merged, or generally restructured to increase efficiency and productivity, which inevitably means job cuts.


See also

* Common ordinary equity *
History of private equity and venture capital The history of private equity, venture capital, and the development of these asset classes has occurred through a series of boom-and-bust cycles since the middle of the 20th century. Within the broader private equity industry, two distinct sub-in ...
*
Holding company A holding company is a company whose primary business is holding a controlling interest in the Security (finance), securities of other companies. A holding company usually does not produce goods or services itself. Its purpose is to own Share ...
* List of private equity owned companies that have filed for bankruptcy *
Private equity fund A private equity fund (abbreviated as PE fund) is a collective investment scheme used for making investments in various equity (and to a lesser extent debt) securities according to one of the investment strategies associated with private equity. ...
*
Private investment in public equity A private investment in public equity, often called a PIPE deal, involves the selling of publicly traded common shares or some form of preferred stock or convertible security to private investors. It is an allocation of shares in a public compan ...
* Publicly traded private equity * Specialized investment fund * Search fund * Enshittification


Organizations

* Institutional Limited Partners Association – advocacy organization for investors in private equity * American Investment Council – advocacy and research organization for the industry


References


Further reading

* * * * * * * * * * * * * * *
Private Inequity
by James Surowiecki, The Financial Page, ''
The New Yorker ''The New Yorker'' is an American magazine featuring journalism, commentary, criticism, essays, fiction, satire, cartoons, and poetry. It was founded on February 21, 1925, by Harold Ross and his wife Jane Grant, a reporter for ''The New York T ...
'', 30 January 2012. * * *


External links

*
Archive of articles on private equity controversies in the 21-st century
''
Naked Capitalism Naked Capitalism is a liberal American financial news and analysis group blog. Susan Webber, the principal of Aurora Advisors Incorporated, a management-consulting firm based in New York City, launched the site in late 2006, using the pen name Yve ...
''. {{DEFAULTSORT:Private Equity Corporate finance