Private equity and venture capital offer two paths for business owners to obtain funding to run or grow their companies. Private equity (PE) is capital invested in a company that is not publicly listed or traded. Venture capital (VC) is funding provided to startups or other young businesses that show strong potential for long-term growth. Private equity is sometimes confused with venture capital because both refer to firms that invest in companies and exit by selling their investments, often in initial public offerings (IPOs).
At first glance, private equity and venture capital firms look alike: both types of firms invest in companies and exit when the time is ripe, generating attractive returns. However, there are significant differences in the way firms involved in the two types of funding conduct business. Private equity and venture capital firms invest in different types and sizes of companies, commit different amounts of money, and claim different percentages of equity in the companies in which they invest.
Key Learning Points
- Private Equity and Venture Capital are two types of funding provided to companies at various stages. Both types of firms raise funds from limited partners and invest in private companies. Their goals are the same: to increase the value of portfolio companies and then sell the companies, or their equity stakes, for a profit.
- Due to the similarity in concept, private equity and venture capital are often considered to be interchangeable. However, there are significant differences in the way each conducts business. Private equity and venture capital firms invest in different types of companies, commit different amounts of capital, and claim different amounts of equity in the portfolio companies.
- Private equity involves larger investments in mature companies. Venture capital firms make relatively small investments in companies in the initial stages of development.
- Private equity firms invest for control, acquiring a majority stake or 100% of portfolio companies, while VCs only acquire minority stakes.
- If you would like to make money in the short term and work in transaction deals, then a PE job might suit you. On the other hand, if you ultimately want to start a company of your own or enjoy the startup space, then a VC job will suit you better.
What is Private Equity (PE)?
Private equity (PE) refers to a type of alternative investment in which investment capital sourced from high-net-worth individuals and investment firms is invested directly in private companies.
Private equity investors are usually experts in their respective fields and typically focus on mature companies that are past the growth stage or companies that are deteriorating due to operational inefficiencies. Institutional and retail investors provide the capital, which the business uses to buy new equipment or technology, pursue bolt-on acquisitions, pursue growth opportunities, or bolster cash flow. Private equity funds offer an opportunity for mentorship to the portfolio company as well. Access the free download to find out who the top 10 PE Firms are, ranked by AUM.
What is Venture Capital (VC) ?
Venture Capital (VC) is contributed by investors or individuals to small enterprises or startup firms that offer a fresh concept and promising prospects in exchange for a minority stake. Venture capital specifically invests in new private companies that are not able to raise funds from the public.
Technically, venture capital is a sub-sector of private equity. Like private equity investors, venture capitalists invest in private companies. A venture capitalist prefers to see companies with exceptional potential for growth, whether due to early success, a previously successful founding team, or a particularly innovative concept.
At the junior levels, mid-sized and large PE firms are more likely to attract investment bankers, and candidates should have a bachelor’s degree from a top university in an analytical major such as finance, accounting, statistics, mathematics, or economics.
VCs draw a variety of professionals, including business development experts, product managers, consultants, former entrepreneurs, and even bankers. Generally, venture capitalists earn at least a bachelor’s degree in business, which provides the skills necessary for reading and comprehending business plans. This is a crucial skill for an investor.
The commonality between VC and PE is that new graduates do not have many opportunities to get into those firms. Both prefer professionals who have 2-3 years’ experience as both require technical knowledge, a network, and market understanding. Experience in investment banking is highly relevant.
There is more technical work in private equity, as it’s necessary to spend more time coordinating deals, and the work environment is a bit closer to banking. Private equity fund management requires the technical ability to analyze financial performance and estimate the value of a private company, analytical ability, and a background in banking, consulting, or corporate development. Also necessary is a talent for research, knowledge of financial modeling, and expertise in various industries.
As for venture capital, people from all backgrounds can find opportunities. You will need good trading experience, strong communication skills, and the ability to source investment opportunities. It helps if you have solid knowledge of technology/biotech or healthcare fields and can convince companies that you are interested in various industries, including start-ups. In addition, excellent communication and interpersonal skills are vital as you’ll be constantly reaching out to source deals, interacting with your colleagues and managers, and working with the management of portfolio companies. Other important characteristics include project management, organizational and analytical skills, a strong work ethic, the ability to effectively manage multiple tasks at one time, and familiarity with financial statements.
Private equity requires specific technical skills, from in-depth financial statement analysis to structuring complex add-on acquisitions in a leveraged buyout. Enroll on our online private equity course to master these core skills and receive a Wall Street-recognized certificate.
There are also several other financial certifications that can help you break into private equity: the chartered financial analyst (CFA) designation, chartered private equity professional (CPEP), chartered investment & management accountant (CIMA), and financial risk manager (FRM).
There are no specific certifications for venture capital associates, but the chartered financial analyst designation (CFA, administered by the CFA Institute), chartered alternative investment analyst (Chartered Alternative Investment Analyst Association), certified investment management analyst (Investments & Wealth Institute), and certified treasury professional may be helpful.
Private equity professionals work long hours, are highly competitive, and must think critically. They should have a passion for investing in companies.
Venture capital is more qualitative and involves more meetings/networking, and the hours and work environment are more relaxed.
The three components of salary—base salary, bonus, and carried interest—are higher in PE than in VC.
You’ll earn significantly more in private equity at all levels because the funds they manage are bigger, meaning the management fees are higher. First-year associates in a PE firm in the US may earn $200,000-$300,000. Junior-partner-level pay may be $400,000-$600,000 at a larger PE firm. Overall, if you want to make the most money in the shortest amount of time, private equity is for you.
First-year associate’s salaries in venture capital are 30-50 percent lower than in private equity. If you want to make big money in venture capital, all you need to do is find the next Google. At large and extremely successful VC firms, a junior partner can hope to earn $400,000-$600,000. But this is very rare.
Overall, the working hours in traditional private equity firms tend to be longer compared to venture capital, where the approach is much more of a “normal” workweek. This is because processes and time to term sheet in VC are faster than PE and sometimes decisions to move forward with a deal are made within weeks vs. months in traditional PE.
Private equity culture resembles investment banking, with long hours (60 – 80 hours per week), heavy focus on deals, and significant technical analysis (financial modeling, etc.). A PE analyst can expect to work 70 hours a week when there are no deals to be closed and 100 hours when there are.
At VC firms, the hours are shorter than they are at banks. Venture capital hours are more relaxed (about 50 – 60 hours a week); the work is also more qualitative and revolves more around meetings/networking. However, the hours grow longer when there is a deal to conclude.
Career paths in private equity include: analyst, associate (including pre-MBA associate and post MBA associate), vice president, director or principal, managing director (MD) or partner.
Career paths in venture capital include: analyst, associate (including pre-MBA associate and post MBA associate), principal or VP, partner or junior partner, senior partner, or general partner.
If you work in PE, you tend to continue in PE or move into other roles that involve working on deals. Working in VC prepares you for other VC firms, startups, and operational roles.
PE Exit Opportunities:
- Move into a hedge fund: You can generate a decent ROI in a much shorter amount of time.
- Switch to venture capital: While the risk-reward ratio may not be as enticing, the excitement of getting into the initial stages of a promising new startup is undeniable.
- Joining a company: Many private equity employees take up a senior position for one of their portfolio companies, assuming a C-suite position or an advisory role like Head of Business Development.
VC Exit Opportunities
- IPO: By offering your shares to underwriters during an IPO, you can generate a return and exit.
- Mergers and Acquisition (M&A): Forming a union with related companies is a good way to combine resources and eliminate competitors. It also offers VCs a chance to earn returns from the other company in the M&A transaction.
- Share buyback: It’s not feasible for all firms to simply buy all your shares, but this may be a possible exit route in larger companies.
- Sale to Other Strategic Investor/Venture Capital Fund
Both private equity and venture capital firms invest in private companies in exchange for ownership and future profits. The two investments have many similarities, but they also have some key differences. Both invest in companies to generate a return, but the deal size, company type, and acquisition percentage, as well as other factors, are distinct. Technically, venture capital is a lighter version of private equity. Private equity firms buy an already existing company and restructure it to develop it further, expand, and make it better than before. Leveraged buyout, venture capital, mezzanine capital, and growth buyout are the main strategies used by private equity firms. Venture capital (VC) firms typically invest in businesses that have proven their revenue model, or if not, at least have a sizable and rapidly growing customer base with a revenue strategy in clear sight.