The distinction between private equity and venture capital is often unclear. By definition, private equity (PE) is an investment strategy in which funds are raised from institutional investors or high-net-worth individuals to acquire equity ownership in private companies. On the other hand, venture capital firms pool resources from institutional investors and high-net-worth individuals and offer it as capital to early-stage companies or startups in exchange for an equity stake.
Are you confused yet? You’re not alone. Even investors and entrepreneurs use the terms interchangeably sometimes. However, the intricacies of the two investment vehicles set them apart.
Here’s a side-by-side comparison to help illustrate the difference.
While the table above provides a high-level overview of the differences between private equity and venture capital, a comparison of the two is not complete without considering the nuances and variations within each category.
In private equity, the focus is on more mature companies which are already established in the market. Think of well-performing manufacturing companies, infrastructure projects, or healthcare facilities as examples.
These companies have a solid track record and steady cash flows, making them an attractive asset. PE investors aim to drive improvements and increase their profitability to maximize their return on investment.
Venture capital takes a different approach by targeting young companies with high growth potential. These companies often have unique characteristics that catch the VCs’ eye, like disruptive technology or innovative business models.
The funding and support received helps them with research and development, entering new markets, and scaling their operations. Venture capital is all about fueling growth.
Typically, the size of investments accounts for another one of the differences between private equity and venture capital. PE investing involves purchasing a majority stake in established companies. As you can imagine, there’s a hefty sum involved.
How much are we talking? In 2021, three private equity firms teamed up to acquire a U.S. medical supply company, Medline, for a whopping $34 billion. This was the largest deal of its kind in more than a decade. However, it’s not unusual for PE transactions to hit the multi-million or billion-dollar mark.
In contrast, venture deals tend to be much smaller in size, providing ongoing capital infusions to help young companies reach proximate milestones.
Private equity investments are known for their lower risk compared to venture capital. They seek established companies with proven track records and stable cash flows, focusing on optimizing operations and generating steady returns.
With VC investing there is a higher risk, albeit with the potential for significant returns if the company succeeds and grows rapidly.
The average seed deals, for instance, aim for a 100x return on their investments, while Series A investors typically target a return of 10x to 15x, and later-stage investors aim for a 3x to 5x multiple of their initial investment.
Private equity firms have a longer investment horizon, enabling them to work closely with portfolio companies over several years to drive value creation and implement strategic initiatives. They aim for successful exits through initial public offerings (IPOs), mergers, or acquisitions, capitalizing on the growth and increased value of the company over time.
In contrast, VC firms expect to exit their investments within three to seven years, aiming for a liquidity event such as an IPO or acquisition that generates substantial returns. Startups are therefore required to achieve rapid growth and demonstrate scalability within a few years.
Private equity firms exhibit diverse industry focus, with certain sectors being more active than others.
According to reports, industries like healthcare, technology, and consumer goods attract the most significant private equity investments. These types of industries have favorable data trends, solid growth prospects, and opportunities for value creation through operational improvements or strategic initiatives.
Meanwhile, venture capital specializes in identifying and nurturing companies operating in emerging and high-growth sectors because of their potential for innovation and disruption — industries like tech have a higher chance of experiencing transformative breakthroughs, market expansion, and high returns on investment.
If you're interested in exploring private market opportunities, understanding the differences between private equity and venture capital will help you navigate the dynamic landscape.
Fortunately, you don’t have to be part of a PE or VC firm to get in on lucrative deals. PreIPO® connects investors like you to a diverse range of global investment opportunities in promising startups.
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