Private equity and venture capital are two forms of investment that are often used interchangeably. While there are some similarities between the two, there are also some notable differences that set them apart. In this blog post, we’ll explore the differences between private equity vs venture capital and discuss when each may be appropriate.
What is private equity?
Private equity (PE) is a form of investment that involves investing in companies that are not publicly traded. Private equity firms typically invest in established companies that are looking to expand or restructure. These companies are usually mature and have a proven track record of success. Private equity firms may invest in a variety of industries, including healthcare, technology, energy, and finance.
Private equity firms typically acquire a controlling stake in the companies they invest in. This means that they may have a significant amount of control over the company’s management and decision-making processes. Private equity firms generally invest for a period of 3-7 years, after which they look to sell their stake in the company with the goal of realizing a return on their investment.
One of the primary ways that private equity firms help the company grow is by trying to increase the value of the companies. This can be achieved through a variety of methods, including improving operational efficiencies, expanding the company’s product offerings, or acquiring complementary businesses. Private equity firms also often use leverage (borrowed money) to fund their investments, which can help amplify returns but also can increase risk.
Risk
PE investors are more risk-averse relative to VC investors, generally investing only in mature companies whose odds of failure are much less than that of an early-stage startup. PE investments are substantial, which is why PE investors invest in fewer companies. The failure of just one investment can have a catastrophic impact on the fund; therefore, PE investors tend to be very structured in their approach.
Level of Involvement
When a PE firm acquires a majority stake in a company, its intention is to improve it and flip it for a profit. As such, they tend to be highly involved in the function and performance of the companies they buy. Because they have the majority stake, they are able to make a significant impact on the operations of the company.
What is venture capital?
Venture capital (VC) is a form of investment that involves investing in early-stage companies that are typically not yet profitable. Venture capital firms usually invest in companies that are just starting out and are often focused on developing a new product or service. These companies are generally in industries such as biotechnology, software, and e-commerce.
Venture capital firms typically invest in companies that have a high potential for growth but are also high-risk investments. Venture capital firms generally invest for a period of 3-7 years, after which they look to exit their investment with the goal of realizing a return on their investment.
One of the primary ways that venture capital firms find growth opportunities is by investing in companies that have the potential to become “unicorns”. A unicorn is a privately held startup company that is valued at over $1 billion. Venture capital firms sometimes invest in companies that they believe have the potential to become unicorns, and then help these companies grow by providing strategic advice and access to networks.
Risk
Venture investments are riskier by nature. VCs don’t expect every company they invest in will generate a return. Some will just break even, and many will fail, which is why they make smaller investments across a larger number of companies. By investing a little in many startups, the hope is that at least one will make it big, generating enough of a return to counteract inevitable losses.
Level of Involvement
How involved VCs get in the day to day operations of a startup they’re invested in can vary depending on where the startup is in its lifecycle, what the VC-entrepreneur relationship looks like, etc. Typically, VCs tend to be more heavily involved in the early, developmental stages of the startups they invest in, offering guidance, helping with hiring, making partnership connections, and offering general support. As the startup grows, this relationship will evolve, typically becoming less hands-on.
What’s the difference?
There are several key differences to consider when comparing private equity vs venture capital. One of the primary differences is the stage of the company that each type of investment targets. Private equity firms typically invest in established companies that are looking to expand or restructure, while venture capital firms usually invest in early-stage companies that are focused on developing a new product or service.
Another key difference is the level of control that each type of investor has over the companies they invest in. Private equity firms typically acquire a controlling stake in the companies they invest in, which means they may have a significant amount of control over the company’s management and decision-making processes. In contrast, venture capital firms usually invest in minority stakes in companies and may not have the same level of control over the company’s management.
Another difference is the level of risk involved in each type of investment. Private equity investments are typically less risky than venture capital investments because they are made in established companies with a proven track record of success. In contrast, venture capital investments are typically high-risk investments because they are made in early-stage companies that have not yet proven their business model.
Finally, there can be a difference in the investment timeline for each type of investment. Private equity firms typically invest for a period of 3-7 years, while venture capital firms invest for a period of 3-7 years as well, but sometimes longer. Generally, private equity firms look to exit their investment after the 3-7 year period, while venture capital firms may hold their investment for a longer period of time, often until the company goes public or is acquired.
Which one is right for you?
Deciding between private equity vs venture capital depends on a variety of factors, including the stage of your company, the level of risk you’re willing to take, and your investment goals.
If you have an established company with a proven track record of success, and you’re looking to expand or restructure, private equity may be the right choice for you. Private equity firms can provide the capital you need to make strategic investments and help grow your company, while also providing valuable strategic advice and operational support.
If you have an early-stage company that is focused on developing a new product or service, and you’re looking for capital to fund your growth, venture capital may be the right choice for you. Venture capital firms can help provide the capital you need to develop and commercialize your product, while also providing valuable strategic advice and access to networks.
In general, private equity may be a better fit for companies that are already established and looking to grow, while venture capital can be a better fit for companies that are just starting out and are focused on developing a new product or service.
Final Thoughts
Private equity and venture capital are two forms of investment that are often used interchangeably, but there can be notable differences between the two. Private equity firms typically invest in established companies that are looking to expand or restructure, while venture capital firms usually invest in early-stage companies that are focused on developing a new product or service. Private equity investments can be less risky than venture capital investments because they are made in established companies with a proven track record of success, while venture capital investments are usually considered high-risk investments because they are made in early-stage companies that have not yet proven their business model.
Ultimately, wherever you land in evaluating private equity vs venture capital, it’s important to choose an investor who shares your vision and values and can help provide the support and guidance you need to achieve your goals.
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The information presented here is for general informational purposes only and is not intended to be, nor should it be construed or used as, comprehensive offering documentation for any security, investment, tax or legal advice, a recommendation, or an offer to sell, or a solicitation of an offer to buy, an interest, directly or indirectly, in any company. Investing in both early-stage and later-stage companies carries a high degree of risk. A loss of an investor’s entire investment is possible, and no profit may be realized. Investors should be aware that these types of investments are illiquid and should anticipate holding until an exit occurs.
