Public vs private equity: venture capital, buyouts and PIPEs

How does private equity differ from publicly listed equity?

Publicly listed equity is shares listed on an exchange. Ownership is spread widely among individuals and institutions, prices are quoted all day, and the company must publish detailed, audited results. Private equity securities are issued mainly to institutional investors through a private placement , a sale to selected buyers instead of the general public. Because they are not listed, there is no active secondary market. A buyer who wants out must negotiate with another investor.

That one difference drives all the others.

	Publicly listed	Private
Owners	widely spread	a few, with majority or large minority stakes
Life-cycle stage	mostly mature	start-up, growth or decline, plus mature buyouts
Liquidity	high, traded every day	low, negotiated sales and sale restrictions
Prices	observable every day, with benchmarks	negotiated, rarely updated
Terms	standardized shares	often non-standard, negotiated terms
Disclosure	standardized, periodic audited reports	limited
Owners and managers	separate	often overlap
Control	dispersed	concentrated
Costs	listing, reporting and compliance	lower reporting costs, but investors want a higher return for illiquidity

In a private company the owners often run it, or control its board. This owner-manager overlap is the opposite of a large listed company, where thousands of shareholders hire managers to run the business for them.

Two points are easy to get backwards. First, private equity is not safer because its prices are steadier: the steadiness comes from rare measurement (see the first Deeper below). Second, being private cuts costs: no exchange fees, fewer filings, no quarterly calls with analysts. The price of that is illiquidity, which investors cover by demanding a higher return.

Exam tip Whenever the exam says “private”, think: concentrated control, owners who are also managers, limited disclosure, low liquidity, higher required return.

Why do companies list, or stay private?

A company lists for one of three reasons:

• to raise capital from outside investors;
• to reduce the concentrated holdings of its existing private owners;
• to transfer a state-owned company to private investors (privatization).

To list and stay listed, a company must meet the listing requirements of its exchange: a minimum market value, sales or profits, a minimum number of shareholders, and standardized financial and non-financial disclosure such as audited reports.

Many companies large enough to list choose not to, to keep control in a few hands and to avoid the expense and attention that public reporting brings. Ostrava Glassworks, a fourth-generation family glassmaker with over a thousand employees, could list but stays private: the family keeps full control and publishes far less.

Two scale facts are worth knowing as orders of magnitude. Private companies vastly outnumber listed ones: in the United States roughly 1 in 1,000 corporations has publicly traded shares (US Census Bureau data). Yet listed companies are far bigger: global listed equity is worth over USD 100 trillion (World Federation of Exchanges), roughly ten times the private equity fund market.

The number of US listed companies has fallen sharply since the late 1990s. Mergers took many companies off the market, regulation raised the cost of being listed relative to the benefits, and plentiful private equity money lets companies grow large while private, or be bought out of the market.

How is private equity used across the company life cycle?

Private equity funds hold each investment for several years and earn their return only when they sell it to new public or private investors. Which kind of private equity a company meets depends on its stage.

Private equityunlisted ownership capital, held for several years and sold to new investors

• Venture capital Memorize start-up: founders, friends and family, and venture funds back a company with little or no revenue
• Growth equity Memorize growth: new investors fund profitable expansion while the company stays private, and early backers can reduce their stakes
• Buyout equity Memorize mature: buy control, restructure, then sell or relist; the target can also be a private company
  • Leveraged buyout (LBO) Memorize all the shares of a listed company, often with heavy debt: a take-private
  • Management buyout (MBO) Memorize an LBO in which existing managers are among the buyers
• Special situations Memorize decline: companies in financial distress or facing event-driven change
  • PIPE Memorize a listed company in restructuring sells new shares privately, usually at a discount

Venture capital serves the start-up stage. Start-ups with negative cash flow and little or no revenue cannot list, so they rely on founders, friends and family, and venture funds. Ownership is concentrated, and the early investors take more risk and usually more control. Companies often raise several funding rounds, and investors exit through an initial public offering (IPO) or a sale.

Growth equity serves a company that is already profitable and expanding but wants to stay private. A new investor group funds the expansion, and the early backers can reduce their stakes, so ownership becomes less concentrated.

Buyout equity serves the mature stage. A leveraged buyout (LBO) is the purchase of all the outstanding common shares of a listed company by one or more investors, often with significant debt. The shares stop trading and the buyers take full control, in a take-private transaction . Targets look undervalued or would benefit from restructuring. The aim is to restructure the business and then sell it, by a new public offering or a sale to a listed or private company. If existing managers are among the buyers, it is a management buyout (MBO) . The target can also be a private company, for example a family business sold to a buyout fund before a later listing.

Special situations are investments in companies facing financial distress or event-related change, typically in the decline stage. A listed company in bankruptcy may even be delisted for failing a rule such as a minimum share price.

A private investment in public equity (PIPE) belongs here. A listed company facing a restructuring must raise equity quickly, so it sells new shares privately to a small group of investors. That is faster and cheaper than a public offering. The investors usually need an incentive such as a discounted price, and the deal may need existing shareholders’ approval. Because it is dilutive, a PIPE can set existing and new shareholders against each other.

Dilution is the fall in value per share when new shares are sold below the market price. To find the value per share after the sale, weight each price by its number of shares.

$$V_{\text{post}} = \dfrac{N_{\text{old}} \times P_{\text{mkt}} + N_{\text{new}} \times P_{\text{PIPE}}}{N_{\text{old}} + N_{\text{new}}}$$

With no discount there is no dilution: new shares sold at the market price leave the value per share unchanged.

Go deeper Why private valuations look smoother than public ones

Private holdings are valued rarely, often from models or from the last negotiated deal. Appraised values move slowly and lag the market, which is called smoothing. Measured risk looks lower than the true economic risk. This matters in Portfolio Management and Alternatives, where you compare private and public returns on a like-for-like basis.

Go deeper Why companies stay private longer

Private capital is now deep enough that a company can raise large sums without listing, or grow large while private. That lets founders keep control and avoid public reporting for longer. The cost is that ordinary investors cannot buy in until later, if ever.