It is the provision of capital in the medium and long terms to companies that are not listed on the securities market. The goal is for these companies to achieve greater gains than what they would on the stock market, whether that entails supporting them in their expansion phase, becoming actively involved in their management, or optimizing the company's financial structure.
The sector has undergone strong growth in recent years, and is now a key presence in the financial system of the more developed countries, catching the attention of executive investors, financial markets and regulators. In 2005, private-equity raising reached a record high of 72 billion euros.
Private equity can be structured around three activities:
• Venture capital. Provision of capital for the following phases: company launch, high expected returns, growth.
• Growth capital. Provision of capital for financing the high growth of consolidated companies without causing any changes in the control of the organization. The investor acquires a minimal participation.
• Leveraged buyout. Acquisition of a controlling interest in a company. Normally entails the increase of external debt to finance the purchase.
Today, the most common activity involving private equity is the leveraged buyout: it represents 80% of the private equity investment and, between 2001 and 2005, saw a growth of 190% in Europe, climbing to 32 billion euros. Conversely, venture capital investment posted negative growth and as a result, in Europe this type of investment is no longer considered part of private equity.
The United States is the world's largest private-equity market (62%), followed by Europe (26%), where the United Kingdom is the most active player. As for types of investors, pension funds and banks are the most important.
Why have they been so successful? The answer revolves around their high profits, backed by the growing valuations of the financial markets, as well as the solid macroeconomic environment, which has been the driving force behind corporate mergers and acquisitions by pumping in substantial liquidity. This has made private equity extremely attractive to fund managers, thanks to the involved risk/reward ratio.
As of now, the new challenges to be faced by private equity include: the economic-cycle change, the need for transparency, the new rivals existing in the market such as hedge funds and infrastructure funds, and the role it plays in controlling the efficiency or quality of the financial markets.
