Decoding Growth Equity

Decoding Growth Equity

April 12, 2022

What are Private Companies? 

A private company is a business owned by one or a small group of people. Private companies do not trade their shares on public exchanges or issue them through an IPO (initial public offering), but they can issue stocks to shareholders privately. There are four major categories of private companies, sole proprietorships, C corporations (C-corps), limited liability corporations (LLCs), and S corporations (S-corps). Each of them has distinct rules for shareholders, members, and taxation.  

By staying private, companies can focus on expanding instead of managing public expectations and reporting. In the last 20 years, companies have been staying private for longer, dramatically expanding the demand and opportunities for growth equity investors. Being publicly listed comes with additional restrictions along with SEC rules which may seem challenging during a growth phase. Staying private also allows companies to have more control over their operations because the number of people involved in making key decisions remains small. 

What is Growth Equity? 

Growth equity is the term used to define investments made in relatively mature private companies that are going through a transformation event in their lifecycle while displaying potential for dramatic growth. Growth equity occurs later in the life cycle of a business than venture capital but earlier than a company going public. It is when the company is established and successful but is still open to receiving more capital to boost its product or service offerings.  

Even though a private company may not necessarily need the capital to stay afloat, they accept it because it allows them to expand and grow their business vastly. As the company generates more revenue and increases its profit margins, it enhances the investors’ portfolio value and its appeal to future investors.  

Why Invest in Growth Equity? 

The global private equity assets under management are expected to reach $5.8 trillion by 2025. The asset class continues to showcase resilience, increased demand, and consistent outperformance compared to other major asset classes. More than a dozen asset managers now manage at least $100bn in alternative assets on behalf of clients looking to gain exposure to fast-growing private companies. As of March 2022, there are 1,000 Unicorn companies. Venture Capital backed companies are staying private 2x longer (2005, it was a 7-year average, 2021, it was a 14-year average). 

A recent report found that the value of privately held shares has grown twice as fast as the combined value of listed companies over the last 20 years. Growth equity investors often enjoy the security of existing cash flow, comprehensive shareholder rights, and higher average growth rates while equipped with the option to liquidate their assets in 3 to 7 years, which is less than venture capital investments. Late-stage private companies offer additional opportunities for an exit strategy because their products or services are far closer to realizing their potential than a startup firm. 

Solving the Challenges of Investing in Private Markets 

Although private markets may seem incredibly attractive to investors because of their moderate risk and high potential upside, they are complicated to navigate. Many entry barriers and a lack of transparency can often make investments challenging. Even if an investor has the capital required to invest, companies are not required to sell, and even if they choose to, earlier investors can deny entry through a Right of First Refusal (ROFR) process. If the investor makes it past this stage, it can take 30-60 days for the investment to be entirely accepted. Another significant barrier in the growth equity market is getting the required information to make such investments. Private companies are not as strictly regulated when disclosing information, and they may not be readily willing to share specific data with investors, creating a disconnect. SEC’s upcoming decisions might impact the private market, we will be discussing this in detail in our upcoming insights. 

However, with decades of experience and industry expertise in the private market sector, InvestX  simplifies the complexities of transacting in the private markets for its clients. InvestX opens the private markets by lowering historic investment barriers and providing access to the highly coveted but elusive private equity. We also work hard to offer real-time information in an industry which faces challenges with information sharing. Historically, hedge funds, venture capital firms, and private equity firms have long dominated the private markets. InvestX is democratizing that by allowing the sell-side to offer this asset class to their clients. 

Reach out to your Investment Advisor for more information or ask us