Private Equity, Venture Capital, and Angel Investing Attracting Investment Yonsei UIC TAD Creative Technology Management

Private Equity… and “Private Equity” “Private equity”

Key differences between PE (e.g. Blackstone) and VC (e.g. Kleiner Perkins) Company Types: PE firms buy companies across all industries, whereas VCs are focused on technology, bio-tech, and clean-tech. % Acquired: PE firms almost always buy 100% of a company in an LBO, whereas VCs only acquire a minority stake – less than 50%. Size: PE firms make large investments – at least $100 million up into the tens of billions for large companies. VC investments are much smaller – often below $10 million for early-stage companies. Structure: VC firms use only equity whereas PE firms use a combination of equity and debt. Stage: PE firms buy mature, public companies whereas VCs invest mostly in early-stage – sometimes pre-revenue – companies.

Risk & return VCs expect that many of the companies they invest in will fail, but that at least 1 investment will generate huge returns and make the entire fund profitable. Venture capitalists invest small amounts of money in dozens of companies, so this model works for them. But it would never work in PE, where the number of investments is smaller and the investment size is much larger – if even 1 company “failed,” the fund would fail. So that’s why PE invests in mature companies where the chance of failing in 3-5 years is close to 0%.

The return? Returns in both industries are much lower than what investors claim to achieve. Most VCs and PE firms target 20% returns, but VCs have earned less than 10% returns over a 5-year period and many pension funds that invested in PE firms have also seen sub-10% returns.VCs have earned less than 10% returns over a 5-year periodmany pension funds that invested in PE firms have also seen sub-10% returns In venture capital, returns are heavily skewed to the top firms: if you think about their business model, that makes a lot of sense – invest in the 1 big winner and you’re set.

Improving operations? Some claim that private equity firms simply buy companies, fire people, saddle them with debt, and then sell the company without doing anything to improve operations. More common during the LBO boom of the 1980s.the LBO boom of the 1980s PE firms may not always overhaul a company’s operations, but they certainly work to improve them and find ways to expand – especially when it’s a recession and there’s not much buying and selling of large companies. VC’s should have a greater incentive to improve a company’s operations because they’re working with early-stage companies. VC involvement depends on the firm’s focus, the stage of the company, and how much the entrepreneur wants them to be involved.

Special cases Some VCs use debt to make their investments, especially for larger / later-stage investments. Some “turnaround” PE firms buy less-than-stable companies and focus on operational improvement rather than financial engineering.

Who are “angel investors” and why do they exist? Angels are wealthy individuals interested in lightly guiding the birth of companies. In the 60’s and 70’s, ventures typically required large-scale manufacturing, along with engineering, and sales forces. Ventures needed large amounts of money, access to senior executives, access to early adopters. Venture capitalists were expected to raise a large amount of capital, assemble a set of experienced partners, join on the board, dictate stage financing. Lengthy diligence process with at least $3 million This is where angels came in…

Angel investors Advantage of using angels: They generally use their own money. They don’t go on boards They don’t need to put in lots of capital (in fact, they usually don’t want to) They understand the experimental nature of the idea They can sometimes decide in a single meeting whether or not to invest. Disadvantage of using angels: Angels do not manage huge pools of capital, so entrepreneurs need to find someone else to fund the building of the company (as opposed to the product) Most angels do not plan to spend a great deal of time helping entrepreneurs build the company.

Angel or VC? Small team building a product with the hope of “seeing if it takes” Angel! Developed a strong belief in your product or your product idea and you are in a race against time to move first to market Venture capital round more appropriate.