Investments From Private Equity Firms

If you are a business owner or chief executive and you are looking for financing to support the growth of your business, you may consider private equity investment as an option versus traditional bank financing or venture capital.

Free Cash Flow

While venture capital firms tend to take risks on development stage companies based on their growth prospects, private equity investors tend to want a little more security. A private equity firm or investor will look closely at your company's free cash flow -- which is cash available to the owners after all expenses, capital expenditures and dividends are paid. Private equity investors often borrow money from a bank to make the investment and they find it easier to get better terms on the loan if they are buying into a business with plenty of cash available to service the loan. The more free cash flow you have, the better valuation you can achieve.

Board Representation

Private equity investors will often demand to have one or two board seats allotted to them. The investor or firm will appoint directors -- often the principals or investors themselves -- to sit on the company's board of directors. This board representation ensures that the investors have greater access to the day to day operations of the company, as well as stay informed about their investment through periodic board meetings. Expect for a serious private investor to take a seat on your board as part of an agreement to provide funding.

Preferred Stock

Private equity investors often require they receive preferred stock versus common stock when financing a business. This is particularly true for development stage or start-up enterprises. In most cases, the preferred stock converts to common stock on a certain date, when certain milestones are met or at the discretion of the private investor. The preferred stock allows the private equity firm to specify stipulations as part of the investment. For instance, via the terms of the preferred stock the private equity firm may disallow the company to take on debt, issue new shares of stock or pay dividends to common stockholders.

Management Requirements

Once a private equity fund takes a position in your company, they may start requiring you to do certain things to improve the business' visibility to outside investors. For example, you may have to start spending time presenting at investor conferences or hire executives in certain positions to bolster the management team. Outside appearances are very important to private equity funds, particular firms that manage large blocks of money for outside parties. Be prepared to commit time to these activities and absorb the expenses associated with presentation fees, travel and salaries for new executive leadership positions.

References

• Business Finance.com: Private Equity Investments
• Behind the Buyouts: An Introduction to Private Equity
• "Fortune; Private Equity, Private Lives; Geoffrey Colvin; November 2006
• Angel and Venture Capital Guide.com: Private Equity Financing Structures
• Preqin: Private Equity Fund of Funds Managers and the Challenge of Attracting Investors
• International Law Office: Private Equity Firms: Choose Your Board Seats Carefully