Private equity vs. public equity: Everything you need to know
As a company begins to grow, they will need to start raising capital in order to fund business operations. Generally, there are two paths a company can consider going down: private equity or public equity. Both of these options offer various pros and cons, with the majority of companies utilizing both paths at one point or another. Learning the difference between these two forms of equity can help a person better understand the basics of business ownership.
What is equity?
Before breaking down the primary difference between private and public equity, it’s important to look at the underlying similarity: equity itself. Put simply, equity is just a stake of a company’s overall value. Regardless of whether the owner of that equity is public or private, the value they hold is the amount of money that would be returned to them if all assets within the company were liquidated and the debt was taken care of.
Private vs. public equity 101
While people often confuse private and public equity due to the similar names, they are quite different. First and foremost, public equity refers to equity which comes from trading on the public stock markets, whereas private equity refers to equity which comes from stakes that are not publicly traded. However, regardless of whether equity is private or public, the goal is almost always to get a healthy return on investment.
Diving deeper into the difference between private and public equity, the latter is considered to be one of the three main assets classes besides bonds and cash. Oftentimes, public equity is referred to as “stocks”. An example of public equity would be a shareholder purchasing stock in a company. In return for paying a sum of money, the investor receives partial ownership of the company.
On the other side of things, the structure of private equity is a little bit different considering it is not publicly traded equity. Most often, a private equity firm starts by putting out a call for potential investors in private companies. They gather a group of these investors and form a limited partnership, which results in a private equity fund that comprises of the investors’ money. The firm manages these investments and takes a fee off the top in return, but the investors own the money in the fund itself.
What are the benefits of private equity?
To enter into the world of private equity typically requires access to more funds than the average person has. However, for those who are able, there are a number of key benefits that come from utilizing private equity:
- Private equity firms offer a level of expertise and guidance that doesn’t come from the standard public equity stock markets
- Private equity firms offer connections to thought-leaders such as CEOs and other C-suite executives at companies
- Private equity firms often offer a level of proven returns that are hard to see with public equity
- Private equity groups often have deep pockets which means they have the resources to stimulate growth within a firm
- Private equity firm management may offer special incentives for contributions
Which type of equity is better?
Considering the fac that there are major differences between public and private equity, the comparison is not truly fair. Private equity often comes with far higher risk than public equity, but the trade-off is that the reward is often far greater. Getting started in private equity also requires far more capital than simply investing in the stock market. Whether public or private equity is the better option depends entirely on the individual in question.
With this side, public equity is generally viewed as safer and more readily available for the average investor, which makes it a great starter option for those looking to get their foot in the door of equity. At a future point in your life, moving into private equity could be a good choice, whether that be as an investor or fund manager.
The bottom line
For many companies, the right choice is to use a mix of both public and private equity at various points throughout the life a company is quite normal. Companies will often start off using private equity as they begin to grow before eventually going public and switching to public equity at an initial public offering. By understanding the ownership structure of a business, as well as if they are using private or public equity, anybody can turn themselves into a more informed potential investor.