9 Types of Private Equity Funds Explained

Private equity (PE) is a vital component of the financial ecosystem, particularly for medium-sized businesses (mid-caps) and startups. It involves investment funds that directly invest in private companies or engage in buyouts of public companies, leading to their delisting from public equity. For both companies and investors, understanding the different types of PE funds can be crucial for understanding the options for the right type of financial partner to fuel growth, expansion, or restructuring efforts. This article aims to demystify the nine primary types of private equity funds, offering insights into their structures, benefits and risks. 

1. Leveraged Buyouts (LBOs)

Leveraged buyouts (LBOs) involve acquiring a company using a significant amount of borrowed money, with the target company’s assets often used as collateral for the loans. This strategy is typically applied to established medium-sized companies with stable cash flows and undervalued assets, aiming to improve operational efficiency and eventually to sell the company at a higher value. However, the high debt levels associated with LBOs can pose significant risks if the company’s cash flows fail to cover the debt repayments.

2. Venture Capital (VC)

Venture capital (VC) focuses on investing in early-stage companies with high growth potential. VC firms often play an active role in the business’s development, offering strategic guidance and network. While this funding is crucial for startups with innovative products or services, it comes with the trade-off of high expectations for the startup to deliver a very steep growth trajectory over a 3-5 years time horizon.

3. Growth Equity

Growth equity investments are made in medium-sized companies that need capital to expand operations, enter new markets, or finance significant acquisitions. Growth equity targets businesses with already proven models and growing revenue streams, but with significant growth potential to scale operations. This type of funding helps businesses scale efficiently, although it requires balancing investor expectations with sustainable growth. 

4. Real Estate Private Equity

Real estate private equity funds invest in property assets, aiming to generate returns through property appreciation and rental income. These funds engage in various strategies, including core, core-plus, value-add, and opportunistic investments, covering commercial, residential, and industrial properties. Real estate PE offers diversification and potential high returns but comes with risks like market volatility and economic downturns.

5. Infrastructure Funds

Infrastructure funds invest in essential public assets like transportation, utilities, energy, and telecommunications projects. These long-term investments focus on physical assets providing essential services, targeting stable cash flows and value appreciation. While infrastructure investments offer stability and inflation protection, they also face risks such as regulatory changes and project-specific challenges.

6. Fund of Funds (FoF)

Fund of Funds (FoF) invests in a diversified portfolio of other private equity funds rather than directly in companies or projects. This approach allows investors to gain exposure to various strategies and sectors, offering diversification and professional management. However, FoFs can result in higher fees and potentially lower returns due to multiple layers of management costs.

7. Mezzanine Capital

Mezzanine capital is a hybrid of debt and equity financing, often used for expansions, acquisitions, or buyouts. It involves subordinated debt or preferred equity, providing capital in exchange for interest payments and equity upside. This financing option is ideal for companies needing flexible growth capital without significantly diluting existing ownership, but it comes with the obligations associated with debt. 

8. Distressed Private Equity

Distressed private equity funds invest in companies facing financial or operational difficulties, aiming to restructure and turn them around. These funds acquire distressed assets at significant discounts and implement strategies to restore profitability. While this approach can yield high returns through successful turnarounds, it involves high risks, complex negotiations, and extensive restructuring efforts.

9. Secondaries

Secondary private equity funds invest in existing private equity assets by purchasing stakes from other investors, providing liquidity to the original investors. These transactions can include direct secondary purchases, fund restructurings, and secondary buyouts, often at discounted prices. Secondaries offer liquidity and potential for discounted acquisitions, though they come with risks related to market pricing uncertainties.

‍

Understanding the nine types of private equity funds is crucial for both companies and investors since each type has a different mandate with unique risks and benefits.