Private equity is one of the most popular and profitable ways to invest money. The success of many business giants was directly connected to private equity investment. This article will provide practical advice on becoming a successful private equity investor.
A private equity investor’s goal is to select companies with tremendous potential and motivate their management to take advantage of it. The most successful firms tend to be those with growth potential. Since private equity firms have a limited time frame of 10 to 15 years, they must be careful not to invest in companies with “pipe dreams” (i.e., businesses that are not likely to succeed). The ideal private equity investment is in an enterprise projected to have double-digit growth for the next one to two years.
Some private equity investors prefer to invest in companies without searching for and analyzing individual investments. For example, they might use one or more private equity fund managers to do the research and then give them a budget of $200 million to invest over the next 12 months. This makes sense, but you must finance with care as there is no way of knowing how well any given private equity manager will perform.
An alternative to investing in companies that are not growing and have limited potential for growth is to buy out the management team. Buying companies that perform well is one of the secrets of private equity success. Many successful private equity firms focus on acquiring businesses with high expected returns. However, some investors like to buy underperformed companies and then put the management team to work.
Private equity investors, for example, STORY3, led by Peter Comisar, are interested in how their investment will impact the long-term value of their acquiring business. Some private equity investors focus on the management team’s price for the business. For example, suppose that you have been able to identify a company with a market value of $100 million that has been underperforming and is projected to have revenue growth of 10 percent over the next four years. The management team has asked for $125 million in return. Ignoring all other factors, you should be willing to pay this amount if it means that you will get back your money plus an additional $25 million in profit on your investment within three years.
First of all, private equity firms do not normally “take companies to the cleaners.” At least, in theory, LBOs are supposed to be win-win transactions for both the buyers and sellers of a business. This means that the goal of both parties is to execute a trade at a fair price that is mutually beneficial for both parties. If a private equity firm buys a company at a price below its book value, it is assumed that management has not been doing its job properly. This means that the buyer may take losses and get nothing in return. Second, all company employees have usually been fired or have agreed to leave in such situations. That means that you will not be able to hire any new employees.
As you can see, there is no one-size-fits-all approach to private equity investing. The best thing you can do is focus on the most interesting factors (growth potential, price, management team) and then determine how much of your portfolio should be allocated to each. Remember that private equity is a long-term investment, so it is better to invest too little than too much.