Private Equity vs Venture Capital (12 Key Differences)

Private Equity vs Venture Capital: What’s The Difference?

The difference between private equity and venture capital is far from subtle. However, many would-be entrepreneurs are still perplexed by the private equity vs venture capital dualism.

While the two types of funding have some similarities, private equity firms and venture capitalists operate in unique ways.

In this article, we’ll see why venture capital and private equity are both worth considering, and we’ll give you everything you need to make the right decision.

Private Equity vs Venture Capital: The Inside Scoop

Before we scrutinize every difference between private equity and venture capital, let’s get a solid overview of each one.

What Is Private Equity and How Does It Work?

Private equity refers to investment in company shares that are not publicly listed. This investment capital is provided by individuals or firms with a high net worth.

Generally, private equity firms take control of a public company, which they will later take private by delisting company shares from all stock exchanges.

Source: Bain

Recent years have ushered a record-breaking period for private equity, with the industry raising a collective $3.7 trillion between 2014 to 2018.

3 Private Equity Firms to Know About

Here are a few of the big hitters among the world’s top private equity firms.

Apollo Global Management LLC

Since its inception in 1990, Apollo has grown to a valuation of almost $150 billion. With offices in New York, LA, London, and Singapore, Apollo has Caesars Entertainment Group and Norwegian Cruise Line in its portfolio.

Blackstone Group LP

With headquarters in New York and offices in Beijing, Dubai, and Hong Kong, Blackstone Group has procured about $146 billion in private equity assets. Its diverse portfolio includes SeaWorld Parks alongside tech firms like Leica Camera.

TPG Capital LP

The Texas Pacific Group holds about $62 billion in private equity assets. In addition to its Fort Worth HQ, TPG has offices in Europe, Australia, and Asia. Airbnb and China Renewable Energy are two standouts in its growing portfolio.

How Does a Private Equity Firm Bring Value?

Typically, a PE firm will acquire companies suffering from financial stress and poor management. The firm will restructure company debt and hire new management to Improve operational procedures.

While no company welcomes debt, the prospect of a takeover by a private equity firm that has the resources for a large-scale, long-term overhaul project is invaluable – especially if big changes are needed.

What Is Venture Capital and How Does It Work?

Venture capital is financial investment for new startups and emerging companies, which is provided by wealthy individuals known as venture capitalists.

Typically, several venture capitalists pool their resources to form a limited partnership, and together they identify promising startups or emerging high-growth companies. The group will buy an equity stake in the company and use their collective funds to grow the business.

Source: CrunchBase

Crunchbase studies on worldwide venture capital funding revealed that almost $75B was invested in Q1 of 2019. This is a sizeable drop from the record highs posted in Q4 of 2018.

3 Venture Capital Firms to Know About

Sequoia Capital

How Does a Venture Capital Firm Bring Value?

A venture capitalist is not just a silent partner with deep pockets – they can bring more to the table for upcoming companies.

VC partners have a lot of board meetings to keep tabs on their investments. Over time, this experience becomes a valuable resource for companies to lean on.

Furthermore, once they have something to lose, venture capitalists can become a driving force for sales and fundraising campaigns. They also have powerful connections to senior talent with specialist skills, which can help startups get off the ground.

Source: Wall Street Mojo

12 Key Differences Between Private Equity and Venture Capital

Now that you’ve got the fundamentals down, it’s time to go head-to-head with VC vs PE so we can discover the real difference between private equity and venture capital.

Let’s dive in.

1. Stage

Private equity firms tend to buy well-established companies, while venture capitalists usually invest in startups and companies in the early stages of growth.

Typically, private equity firms will seek out companies that are already mature but on the downturn due to some inefficient management. PE firms come in so they can streamline operations with the goal of increasing revenue.

By comparison, VC firms look for new startups that show potential for massive growth. WhatsApp is one of the best examples of this, as Sequoia were the sole investor in the instant messaging service. Their initial $60M investment became $3B when Facebook acquired WhatsApp.

2. Company Types

When you compare private equity vs venture capital, one of the major differentiators is the types of company that each is used for.

Private equity firms often have diverse portfolios that cover all industries, from healthcare to construction, transportation to energy.

Contrary to this wide scope, venture capitalists usually have a narrow focus on tech companies. Some of the greatest tech disruptors in recent years are backed by venture capital, including Uber and Lyft.

3. Deal size

According to PitchBook, 25% of private equity deals in the U.S. are between $25M and $100M. Many venture capital deals are less than $10M in Series A rounds, though subsequent funding rounds are much bigger.

There are some anomalies, of course, but generally speaking, private equity firms possess vast wealth, even compared to the most affluent venture capitalists. Therefore, private equity acquisitions often dwarf deals done by venture capitalists.

Source: NVCA

4. Percentage Acquired

A key difference between private equity and venture capital is that private equity firms usually purchase the entire company, whereas venture capitalists only get a portion.

If they don’t get 100%, at the very least a private equity firm will secure the majority share, effectively claiming autonomy of the company.

Most of the time, venture capitalists will split shares with founders, angel investors, and other venture capitalists or private partners involved in the startup.

5. Risk Appetite

Venture capitalists expect that the majority of companies they back will eventually fail. However, the model works because they hedge their bets by investing small amounts in lots of companies. They know that at least one will be a hit, and the return on investment (ROI) from it is worth taking a few losses.

This strategy would never work for private equity firms. While PE firms make a relatively small number of investments, each acquisition is significantly more expensive. It only takes one company to fail and the entire fund is doomed. This is why private equity firms target mature companies, as the probability of failure is virtually zero.

6. Structure

While venture capital funds are simply cold, hard cash, private equity firms fund their takeovers with a combination of cash and debt.

Reports from QZ warn that the spiraling private equity debt is higher than it was at the time of the global recession in 2007. Despite this potential danger, the industry continues to thrive.

As private equity firms go for the whole pie, they are willing and able to spend many years transforming the company to work off the debt and recoup their initial investment. Venture capitalists look for a quicker return on smaller investments, so the concept of debt restructuring isn’t a viable option.

Source: Bain

7. Return Differences

Here’s the big question when you consider private equity vs venture capital:

Which generates a higher return?

Both private equity firms and venture capitals target about 20% internal rate of return (IRR). However, more often than not, they usually fall short.

For venture capitalists, the return hinges on the success of the top companies in their portfolio. By comparison, private equity returns can come from all sorts of companies, even ones that aren’t as well-known.

8. Operations Involvement

In the past, companies were wary of private equity takeovers, as some applied a ‘strip and flip’ approach, coming in to dismantle and restructure companies before selling them off.

While some people may still fear for their jobs and worry about the company being saddled with massive debt, times have changed. Now, private equity firms usually strive to enhance and expand the companies they buy. This invariably makes their assets much more valuable when the right time comes to sell.

On the other hand, venture capitalists are more intimately involved with companies beyond the balance sheet, especially if they have been involved since the project’s early days. This makes them more motivated to help on a personal level. That being said, their level of involvement is at the business owner’s discretion.

9. Effort

The work at private equity firms is akin to investment banking. While there may be a little less to tackle, the job comprises similar duties like performing company valuations, analyzing financial statements, and liaising with lawyers, bankers, and accountants.

Conversely, venture capital is a relationship-driven process. This means you’ll spend less time crunching numbers and more time making phone calls. For some, the idea of days filled with cold calls and sales patter might be hell, but others will love it compared to staring at Excel sheets.

Source: PitchBook

10. Pay

The median salary for both private equity and venture capital associates is about $150K, with variable bonuses. However, overall, if you want to be sure big returns, private equity is the way to go.

That’s not to say there aren’t exceptions or that you can’t make a fortune in venture capital. If you discover the next Google or WhatsApp before it blooms, you can turn a small investment into a lifetime of riches. However, generally speaking, this doesn’t happen often, and certainly not to every venture capitalist.

11. Culture

Venture capital has a more relaxed atmosphere, bringing together people from varied backgrounds, particularly tech. Compare that to the pure finance background that many people in private equity tend to have.

VC firms usually operate within the normal workweek schedule, while private equity firms demand long, unsociable hours and little time away from the money mill.

But that’s not the worst part.

Where there’s money, there’s power. More to the point, there’s a power struggle.

Private equity attracts ambitious and merciless individuals who are determined to make it to the top at all costs. This can make for a competitive work culture, bordering on hostile at times.

12. Exit

Life isn’t all about money, right? So, what can you do when you’ve had enough of the hamster wheel?

For those in private equity, there are a few options:

Move into hedge funds so you can generate a decent ROI in a much shorter space of time.
Switch to venture capital. While the risk-reward ratio may not be as enticing, the excitement of getting in on the ground floor of promising new startups is undeniable.
Join a corporate company. Many private equity employees take up a senior position for one of their portfolio companies, assuming a C-suite position or an advisory role like Head of Business Development.

For venture capitalists, cashing out for a good return is the name of the game. When you’ve had enough, a timely exit can free you up to pursue other projects. Here are a few roads out:

Initial Public Offering (IPO). By offering your shares to underwriters during an IPO, you can generate a return and get out.
Mergers & Acquisitions. Forming a union with related companies is a good way to combine resources and eliminate competitors. It also offers VCs a chance to earn returns from the other company in the M&A.
Shares buyback. It’s not feasible for all firms to simply buy all your shares, but this may be a possible exit route in larger companies.

Source: PitchBook

The Lines Between Private Equity and Venture Capital Have Blurred

While there are stark differences between private equity and venture capital, there are signs of the two paradigms embracing each other’s beliefs.

Traditionally, venture capital deals have been on the lower side of the scale. However, in recent years, major VCs like Sequoia and Accel have raised huge growth funds, and are now pursuing nine-figure deals.

And just as VCs begin moving up to larger takeover bids, private equity firms are exploring growth-stage companies. A prime example is the Next Generation Technology Fund from KRR, which is betting big on cybersecurity.

Furthermore, venture capitalists are going against the grain by using debt financing to help startups become public companies. This shift is all part of an evolution that is seeing private equity firms buying more VC-backed companies as the returns of the latter begin to skyrocket.

Private Equity vs Venture Capital: Which Is Best?

So, now that you know the differences between private equity and venture capital, which is the right one to choose?

It depends on a multitude of factors, including the type of company you have, the current stage it’s at, and your business objectives.

If your goal is simply to make a lot of money in a short space of time, private equity is best. On the other hand, if you want to forge an alliance with wealthy business partners, and grow your company together, you should go with venture capital.

There is also another option worth considering:

Accelerator programs.

These have great benefits for early-stage startups.

Accelerators offer new companies money and infrastructure and help founders nurture the skills they need to make a success of their business. Best of all, an accelerator program brings startups with genuine potential to a level that makes them much more attractive to angel investors and venture capitalists.

Ultimately, the choice is yours. With careful consideration of where your business is at now, and where you want to take it, you can find a backer that will help elevate your business and your bottom line.

Insights, advice, suggestions, feedback and comments from experts

Private equity and venture capital are two distinct types of funding that cater to different stages of company growth and have unique characteristics. Let's explore the concepts used in the article and provide information about each of them.

Private Equity:

Private equity refers to investment in company shares that are not publicly listed. It involves individuals or firms with a high net worth providing investment capital. Private equity firms typically take control of a public company and later delist its shares from stock exchanges. They often acquire companies suffering from financial stress and poor management, restructuring their debt and improving operational procedures. Private equity firms aim to increase revenue and enhance the value of the companies they acquire [[6]].

Some key points about private equity:

Private equity firms tend to buy well-established companies that are mature but experiencing a downturn due to inefficient management.
Private equity firms usually have diverse portfolios covering various industries.
Private equity deals are generally larger in size compared to venture capital deals.
Private equity firms usually acquire the entire company or a majority share, claiming autonomy.
Private equity firms have a lower risk appetite as they target mature companies with a lower probability of failure.
Private equity firms fund their takeovers with a combination of cash and debt.
Private equity firms aim for a higher return on investment (IRR) and often target about 20% IRR.
Private equity firms are involved in enhancing and expanding the companies they acquire.
Private equity firms demand long hours and have a competitive work culture.
Exit options for private equity professionals include moving into hedge funds, switching to venture capital, or joining a corporate company [[11]].

Venture Capital:

Venture capital involves financial investment in new startups and emerging companies. Wealthy individuals known as venture capitalists provide the investment capital. Venture capitalists pool their resources to form a limited partnership and collectively identify promising startups or high-growth companies. They buy an equity stake in the company and use their funds to help the business grow. Venture capital is often focused on the tech industry, but it can also cover other sectors [[6]].

Some key points about venture capital:

Venture capitalists usually invest in startups and companies in the early stages of growth.
Venture capital firms often have a narrow focus on tech companies.
Venture capital deals are generally smaller in size compared to private equity deals.
Venture capitalists typically acquire a portion of the company's shares, sharing ownership with founders, angel investors, and other venture capitalists.
Venture capitalists have a higher risk appetite and expect that most of the companies they back will fail.
Venture capital funds are primarily cash-based, without relying heavily on debt.
Venture capitalists aim for a higher return on investment (IRR) and often target about 20% IRR.
Venture capitalists are more intimately involved with companies, providing support beyond financial backing.
Venture capital firms have a more relaxed atmosphere and operate within a normal workweek schedule.
Exit options for venture capitalists include initial public offerings (IPOs), mergers and acquisitions (M&A), or shares buyback [[11]].

Blurring Lines:

While there are distinct differences between private equity and venture capital, there are signs of the two paradigms embracing each other's beliefs. Venture capital firms are pursuing larger deals, and private equity firms are exploring growth-stage companies. Additionally, venture capitalists are using debt financing to help startups become public companies, and private equity firms are buying more venture capital-backed companies. This blurring of lines indicates an evolution in the industry [[12]].

Choosing the Right Option:

The choice between private equity and venture capital depends on various factors, including the type and stage of your company and your business objectives. If your goal is to make a lot of money in a short period, private equity may be the best option. On the other hand, if you want to forge an alliance with wealthy business partners and grow your company together, venture capital could be the right choice. Additionally, accelerator programs can be beneficial for early-stage startups, offering funding, infrastructure, and mentorship to help them succeed and attract further investment [[12]].

Remember, the information provided here is based on search results and general knowledge about private equity and venture capital. It's always recommended to consult with professionals or experts in the field for specific advice tailored to your situation.

Private Equity vs Venture Capital (12 Key Differences) - MassChallenge (2024)