| Sources of private equity
There is a wide range of types and styles of private equity available in the UK. The primary sources are private equity firms who may provide finance at all investment stages and business angels who focus on the start-up and early stages. In targeting prospective sources of finance and business partners, as in any field, it works best if you know something about how they operate, their structure, and their preferences.
Private equity firms
Private equity firms usually look to retain their investment for between three and seven years or more. They have a range of investment preferences and/or type of financing required. It is important that you only approach those private equity firms whose preferences match your requirements. See how to find the right private equity firm to approach on page 15.
Where do private equity firms obtain the money to invest in my business?
Just as you and your management team are competing for finance, so are private equity firms, as they raise their funds from a number of different sources. To obtain their funds, private equity firms have to demonstrate a good track record and the prospect of producing returns greater than can be achieved through fixed interest or quoted equity investments. Most UK private equity firms raise their funds for investment from external sources, mainly institutional investors, such as pension funds and insurance companies, and are known as independents. Private equity firms that obtain their funds mainly from their parent organisation are known as captives. Increasingly, former captives now raise funds from external sources as well and are known as semi-captives. These different terms for private equity firms now overlap considerably and so are increasingly rarely used.
How may the source of a private equity firm’s money affect me?
Private equity firms’ investment preferences may be affected by the source of their funds. Many funds raised from external sources are structured as limited partnerships and usually have a fixed life of 10 years. Within this period the funds invest the money committed to them and by the end of the 10 years they will have had to return the investors’ original money, plus any additional returns made. This generally requires the investments to be sold, or to be in the form of quoted shares, before the end of the fund. Some funds are structured as quoted Venture and Development Capital Investment Trusts (VCITs) and some types of unquoted funds may be able to offer companies a longer investment horizon.
Venture Capital Trusts (VCTs) are quoted vehicles that aim to encourage investment in smaller unlisted (unquoted and AIM quoted) UK companies by offering private investors tax incentives in return for a three-year investment commitment. The first were launched in Autumn 1995 and are mainly managed by UK private equity firms. If funds are obtained from a VCT, there may be some restrictions regarding the company’s future development within the first few years.
So How do I select the right private equity firm?
Some private equity firms manage a range of funds (as described above) including investment trusts, limited partnerships and venture capital trusts, and the firms’ investment preferences are listed in the BVCA Directory of members. A fully searchable version of the Directory is available free of charge to those seeking private equity investment on www.bvca.co.uk. It lists private equity firms, their investment preferences and contact details. It also lists financial organisations, such as mezzanine firms, fund of funds managers and professional advisers, such as accountants and lawyers, who are experienced in the private equity field. Your advisers may be able to introduce you to their private equity contacts and assist you in selecting the right private equity firm. If they do not have suitable contacts or cannot assist you in seeking private equity, obtain a copy of the Directory and refer to the professional advisers listed in the “Associate Members” section.
As far as a company looking to raise private equity is concerned, only those whose investment preferences match your requirements should be approached. Private equity firms appreciate it when they are obviously targeted after careful consideration.
You may find it interesting to obtain a copy of the BVCA’s Report on Investment Activity which analyses the aggregate annual investment activity of the UK private equity industry. It looks at the number of companies backed and the amounts they received by stage, industry sector and region.
You should be mindful of the requirements of the Financial Services and Markets Act (FSMA) before you communicate a business plan to potential investors. See pages 51-55.
The next chapter will take you through the selection process in more detail.
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