Personal OpinionsALTERNATIVE INVESTING FOR FAMILY OFFICES: PRIVATE EQUITY

June 18, 2021

Successful investing goes way beyond the stock market and all good investors know this; But great investors like GMI Capital know exactly how to make the best of alternative options to diversify their portfolios.

One of such ways is through Private Equity investments, which I will be referring to as PE from this point in this post.

What is PE anyway? I’m glad you asked
The simple description would be an investment in a private company—that is a company that is not listed on any stock exchange.

 

So let’s say for instance an entrepreneur, we’ll call her Anita, sets up her new business, she approaches her friends and family for the money she needs. A few years in and Anita has scaled successfully. Turning over that initial capital profitably many times over. But now she needs to expand and there isn’t so much her current returns can do in that regard. She would like to issue shares to the public via an IPO but the company isn’t ready to go public yet. That’s where the Private Equity firm comes in to save the day.

Private equities  invest directly in private companies that are not publicly traded on a stock exchange.

 

STRUCTURE

Private equity partnership usually includes two types of partners:

GENERAL PARTNER LIMITED PARTNER
Sets up partnership Investors
Raises capital Contribute capital
Sources suitable investments Not involved in investment selection
Decision making Not involved in investment management
unlimited liability for all debts of the partnership Limited liability of all debts in partnership
   
   

So now Anita has got the funding she needs to grow her business from the PE that reached out to her. She and a lot of other entrepreneurs like her who were seeking funding to take on their expansion goals.
But what does mean for the partners in the PE?

This is where we look at strategies for PE.
Investing without a strategy is like a novice fisherman throwing his net into unfamiliar waters and hoping to catch fish.
Great investors, unlike the fisherman here know exactly where to cast their nets, how to navigate the water and what kind of fish to expect.

PE Top Strategies

Venture Capital

a strategy that involves the early financing of companies with innovative business ideas, typically startups. The company may have little or no revenue, and still be in the development phase of their product or service.

It is the private equity investment strategy with the most risk because there are just as many failures as there are success stories and sometimes it can take many years before a company becomes successful. Venture capital investing requires a lot of patience. Yet it still remains one of the more common strategies mainly because those companies eventually succeed tend to reward their investors exponentially.
Perfect net, perfect cast in the water and a lot of fish.

Growth Equity

A strategy that focuses on financing companies with proven business models and viable customer bases, with positive cash flows or profits. Like Anita from our story before, these companies often already have proven growth opportunities and are only looking to increase produc­tion or service delivery. They typically do not generate sufficient cash flows from their operations to support their growth plans and are willing to exchange company equity for additional funding to expand and become more established.

Buyouts

A strategy that consists of financing established companies that require money to restructure and facilitate a change of ownership. Buyout transactions sometimes involve making a publicly traded company private.

Companies that undergo leveraged buyouts (a transaction involving a high proportion of debt) must be able to generate strong and sustainable cash flows. So as a safety net, buyouts are often carried out on well-established companies with good competitive positioning in their industry. Buyout investors often target companies that have recently underperformed but that offer opportunities to grow revenues and margins.

 

WHY PRIVATE EQUITY?

To really make a decision on what type of investment vehicle to employ would require a balanced perspective of what to expect against what not to expect.
No matter how advantageous an alternative investment option is, there are always those little pitfalls to look out for.
An understanding of what not to expect always sets an investor in a great position to maximize what they do expect and get.

Private equity does have some unique challenges. First, it can be difficult to liquidate holdings in private equity because, unlike public markets, a ready-made order book that matches buyers with sellers is not available. Second, pricing of shares for a company in private equity is determined through negotiations between buyers and sellers and not by market forces, as is generally the case for publicly-listed companies.

Notwithstanding Private equity firms have grown over the years to become attractive investment vehicles for wealthy individuals and institutions who manage large pools of capital.

PE often promises better returns compared to other investments, with some private equity managers outperforming the public markets.

To diversify holdings, investors turn to private equity for higher returns than do public market.

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