Private Equity • Aug. 3, 2022

Private Equity

Q. What is Private Equity?


Ans. Firms that invest in Equity of Private Companies with an aim to exit at higher valuations in future. Investors will invest into an idea or technology or a struggling company. Investors will provide their management & skills in the hope of turning the firm profitable & then selling it at a higher valuation. Planify is the largest private equity Marketplace in India.


Examples of Famous Private Equity Firms-

·        Planify Capital Ltd.

·         Bain Capital

·         Motilal Oswal Ltd.

·         IDFC Private Equity

·         ICICI Venture Fund


Four Asset Classes for Investment-



1. Equity Investment -> Stock Market, IPO

2. Fixed Income Investment-> Bonds, Debentures, Fixed Deposits

3. Commodities-> Gold, Silver, Copper, Wheat, Crude

4. Alternative-> Real Estate, Currency, Crypto Currency, Private Equity



Private Equity falls in Alternative Class of Investments.

Structure of Private Equity-

 

1. Four people come together & establish a fund, say ‘ABC Fund’. These 4 people are General Partners. They plan to use this fund in investing in particular ideas, technologies. Other than funds, they'll bring connections experience etc.

 

2. For raising funds, they'll contact big institutions like LIC, Pension Funds & High Net-worth Investors.

 

3. They'll invest funds in different businesses. Main motive is to make the companies achieve higher valuations & then exit or sell it to someone else.


Characteristics of Private Equity with Examples-



Particulars

Amount Invested

Exit Value (After 5 years)

Profit/Loss

Company A

Rs. 150 Cr.

Rs. 550 Cr.

Rs. 400 Cr.

Company B

Rs. 20 Cr.

Rs. 70 Cr.

Rs. 50 Cr.

Company C

Rs. 120 Cr.

Rs.30 Cr.

Rs. (90)Cr.

Company D

Rs. 95 Cr.

Rs. 350 Cr.

Rs. 255 Cr.

Company E

Rs. 85 Cr.

Rs. 220 Cr.

Rs. 135 Cr.

Total

Rs. 500 Cr.

Rs. 1220 Cr.

Rs. 720 Cr.

 

 

1. Private Equity charges higher fees. Common Fees Structure is 2 & 20 i.e 2% of Asset under Management every year will be fees & 20% of profits above a certain limit for which a benchmark is set.



Taking the above table as Example:

Assuming benchmark as 900 Cr.

2% of 500 Cr. (Total investment) x 5 years= Rs. 50 Cr. (Fees)

1220Cr. -900 Cr. = Rs. 320 Cr.

320 Cr. - 50 cr. = Rs. 270 Cr.

20% of 270 Cr. = Rs. 54 Cr.

Total Fees= Rs. 50 + Rs. 54= Rs. 104 cr.



2. Information Edge on a day to day basis as they're involved in management



3. High Risk = High Returns



4. Illiquid Investments due to Investments in different companies which reduces liquidity in hand



5. Less Regulated & Inaccessible to retail investors


Four Types of Private Equity Funds-



1. Venture Capital - Invest in Equity at an early stage of company, generally having negative cash flows to earn profits in future. If they provide seed capital, they're known as Angel Investors.



2. Growth Capital- The Growth Capital funds already set private companies which fall short on required assets. Due to lack of required assets, such companies cannot use conventional means to raise funds.



3. Leverage Buyout- Borrow Equity of the company using borrowed funds. In Normal investments, this is a disaster. Generally these companies have the capacity to generate consistent cash flows but are struggling due to Bad market etc.



4. Distressed Buyout- Invest in loss making companies which have a potential of turnaround.

For e.g. Vedanta Group purchasing Videocon. It can help Vedanta expand itself into other portfolios like Electronics, Telecom etc.



Exit Strategies: There are 5 Exit Strategies-



1. Secondary Sale- One P/E sells it's shares to another P/E firm at a higher valuation is Secondary Sale. That P/E firm might sell to another, so on & so forth. One major product Planify offers is related to Secondary Sale of Shares.



2. Repurchase via Promoter- If Private Equity funds invest into a company & are able to turn it profitable & sustainable, then promoters suggest to buy back at higher valuation.



3. Initial Public Offer- Private Companies offering its share to public.



4. Liquidation- When market conditions are bad or there are no buyers for the company & Private equity funds don't want to invest for a very long period. Then, instead of selling, they liquidate it by dividing these companies into parts & sell each.



5. Strategic Acquisition- Selling it to a firm that is already in that business.

For Example: Private Equity Firm invested into a Restaurant Business & were able to turn it profitable with 20 branches. Now, during exit, they sell it to another existing Restaurant chain. This is Strategic Acquisition for the buyer.

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