Definition and opportunities behind the alternative finance.
Article written by Vanessa Bevilacqua for The Young Economist.
Private equity is a form of medium-long term investment carried out by institutional investors in unlisted companies with high development and growth potential. The principal aim is the dismission of the investment in order to obtain a capital gain.
It is mainly used in Technology, Healthcare, Manufacturing, Financial Services and Real Estate Energy sectors, but is also commonly used in mergers and acquisitions (M&A), where PE acquires a controlling stake in each company of the portfolio in order to create a larger and more efficient entity.
Although PE is extensively used in many countries around the world, there are some countries with a better-established private equity industry such as United States, United Kingdom, China, France, Germany.
Overall, private equity plays an important role in the global economy by providing fundings, operational expertises, and investment opportunities that can drive economic growth and innovation.
As proof of this, PE provides an alternative source of funding for companies that may not have access to traditional sources of financing and provides strategic guidance and operational expertise to help companies become more efficient and profitable, improving their performance and increasing their competitiveness, in particular investing in innovative companies that are developing new products and services.
Furthermore, PE can offer investors the opportunity to invest in high-growth companies that are not publicly traded, potentially providing higher returns than traditional stocks and bonds.
Is it private equity the future of the potential growing companies?
The main target of Private equity are companies with high growing potential, as those businesses can generate relevant returns for their investors, instead of consolidating businesses who are safer but less profitable.
The added value brought by the private equity fund is not limited to providing capital but is expanded through the contribution of expertise to allow the company to efficiently achieve its goals.
However, pursuing private equity funding has its own challenges, in fact, despite the multiple advantages seen previously, private equity reduces the control of the companies in which it invests as it requires a significant shareholding.
In conclusion, private equity can be a valuable option for potential growing companies that are looking to raise their capital and scale their operations, but not without its challenges.
Why should a firm choose private equity instead of traditional banks?
The decision to pursue private equity financing versus traditional bank financing will depend on a variety of factors specific of each individual company and its financing needs.
Compared to bank financing some of the potential advantages of private equity financing include access to: larger amounts of capital; longer investment horizons, PE firms typically have longer investment horizons than traditional banks, this can allow companies to focus on long-term growth and strategic initiatives rather than short-term profitability; strategic guidance and operational expertise; reduced reliance on debt, in fact PE financing is typically equity-based rather than debt-based, which means that companies may be able to reduce their overall debt load and improve their financial flexibility; greater alignment of interests, Private Equity firms typically take an equity stake in the companies they invest in, which means that their interests are closely aligned with those of the company's management team and founders.
Although the access to Private Equity also includes many risks such as loss of control and more stringent performance requirements.
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