Private Equity Firms: Partners In Wealth And Growth

Generating higher returns than broad markets is a desire of most investors. Seamless flow of information irons out any amount of mispricing of a security and inefficiency in the markets and scope for outperformance. The moot question is: how many investors are able to outperform broad markets? And the answer is: Very few. Among these investors, private equity firms have demonstrated the capacity and ability to generate better returns than the broad markets.   

It has been observed that private equity companies do not prefer to list on stock markets. Generally, these firms are investment vehicles closely held by a few ultra-high networth individuals, private family trusts and institutional investors. These companies focus on generating a high return on capital by investing in high growth businesses or turnaround stories.

In the wealth creation journey, top private equity firms follow a four-pronged strategy. First, they raise resources to invest. Some of them invest their funds whereas a few prefer to raise money from high net worth individuals and institutional investors. Specific vehicles – equity funds or pooled money, are funded by a firm’s own capital or contribution from wealthy clients or a combination of the two. This is equity capital and takes risks. Private equity firms get paid a certain fee and profit share if equity funds’ investments do well. Top private equity firms can also issue bonds to raise capital. This money does not entail risk. The capital, thus raised, needs to be serviced by paying interest from time to time.

After raising money, private equity firms look for investment opportunities preferably in private markets. This is the second part of their strategy. They analyse the investee companies on parameters such as the demand for and supply of products or services the company offers, growth rate, extant capital structure and promoters’ or management’s ability to deliver growth. In the long term, the stock price of a company follows earnings and hence the focus is on investing in a high growth enterprise available at a reasonable price.

So far this may seem private equity firms operate like a mutual fund house. But Private Equity Companies in India go much beyond what mutual funds or insurance companies do. Top notch private equity firms prefer to buy large stakes in companies and also seek a seat or two on the board of directors wherever required. These are serious investment bets and private equity investors work closely with the management of such companies. Their portfolios have a few investee companies. They follow a focused approach. This means advising companies on strategising and aligning in such a manner that the best possible outcomes are achieved. Investments from top notch private equity firms also help relatively small companies attract best talent.

Helping the investee company realise its potential is the third key function of private equity companies. They may choose to focus on offering venture capital in the early phase of growth of companies or can fund the growth phase of a firm with an established business model or a combination of the two. Lastly, investments of private equity firms complete a cycle when they exit their investments. There is an old adage in the world of investments: it is when you sell that counts. This is what private equity firms follow with relentless focus. Private equity companies typically hold on to their investments for the long term – anywhere between three to ten years. They may choose to sell their investments by selling to the next stage investors. Also, a firm may select an Initial Public Offer (IPO) offering to raise funds and through IPOs, private equity firms may exit such firms.

Private equity is an integral part of modern world financial markets. They provide the necessary capital to companies along with business acumen required for sustainable growth.

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Created on Sep 20th 2020 02:15. Viewed 289 times.

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