80: Private Capital

Leveraged Buyouts

The most common PE strategy funded by debt - Management buyout: current managers involved in the purchase remain in the company -- MBO - Management buy-in: replaces managers in acquired company -- MBI

Private capital

funding provided to companies that are not raised from the public markets. - Includes Private Equity and Private Debt

Private Debt

- Direct lending: includes leveraged loans using money borrowed from other sources - Venture debt: lending to start-up companies, often convertible or with warrants -- Sweetener (equity upside participation from convertible) - Mezzanine debt: subordinated to the company's existing debt - Distressed debt: buying debt near or in default, may be active in restructuring company - Unitranche debt: combines different classes of debt into a single loan with an interest rate reflecting a blend of debt classes

Private Equity Spectrum

- Growth Capital = Primary Capital - LBO = Secondary Capital

PE Strategies

- Leveraged Buyout (LBO) -- Deal financed with debt, high leverage -- Large established companies - Venture Capital (VC) -- Youg abd growing companies - Private Investment in public equity (PIPE)

Diversification Benefits for Investing in Private Capital

- Moderate correlations of private capital fund index returns with public market index returns - Vintage year: year fans made first investment, influences performance

Private Equity Exit Strategies

- Strategic buyer = competitor - IPO = best case scenario (highest price, publicity for PE firm, future upside potential on equity) - Write-off/liquidation = worst case scenario ** 5-10 year life investments

Which type of private capital fund is most likely to earn excess returns over its life if its vintage year took place during an economic contraction? A) Venture capital fund. B) Distressed debt fund. C) Leveraged buyout fund.

B) Distressed debt fund. Funds with vintage years during contractions are likely to earn higher rates of return if they specialize in distressed companies. Funds with vintage years during expansions are likely to earn higher rates of return if they specialize in early-stage companies.

At what stage in its lifecycle is a company most likely to have distressed debt? A) Start-up. B) Mature. C) Growth.

B) Mature. Distressed debt is typically that of mature companies that have encountered financial trouble, which may be due to a temporary situation or a structural issue

In which stage of a firm's development is a venture capital fund most likely to make its initial investment? A) Start-up. B) Seed capital. C) Angel investing.

B) Seed capital. VC funds typically make their initial investments during a firm's seed stage for product development, marketing, and market research. At the angel investing stage, the funding source is usually individuals rather than VC funds. The start-up stage or early stage follows the seed stage and refers to investments made to fund initial commercial production and sales.

Relatively infrequent valuations of private equity portfolio companies most likely cause: A) average fund returns to be biased upward. B) standard deviations of fund returns to be biased upward. C) correlations of fund returns with equity returns to be biased downward. Infrequent valuation results in downward bias in both standard deviations and correlations.

C) correlations of fund returns with equity returns to be biased downward. Infrequent valuation results in a downward bias in both standard deviations and correlations. ** Due to survivorship and back fill bias

Private Equity

Invest in companies, or take public companies private The companies in which a private equity fund invests are called its portfolio companies.

Venture Capital

1. Formative Stage - Pre-seed capital/angel investing: business plans, market potential (could be own money) - Seed stage/Seed capital: Product Development, Market Research - Early stage/start-up stage: begin production and sales 2. Later stage: company expansion (PE) 3. Mezzanine-stage financing: prepare for IPO (PE/IB)

Private Capital risk and return (high to low)

1. PE (highest risk/reward) 2. Mezzanine debt 3. Unitranche debt 4. Senior direct lending 5. Senior real estate debt 6. Infrastructure debt (lowest risk/reward)