Table of Contents
Do private equity firms invest in public companies?
What are the most common industries for PE investment in public companies?
What investment strategies do PE firms use when investing in public companies?
Other PE investment strategies
The bottom line
Jun 21, 2022
7 min read
Private equity firms invest in public companies for a variety of reasons to accomplish a basic goal: increasing the value of their portfolio companies.
When private equity firm KKR (Kohlberg Kravis Roberts & Co.) triumphed in the bidding war for publicly traded company RJR Nabisco in 1988, paying an unprecedented $25 billion, it eclipsed leveraged buyout (LBO) deals of its day in that industry, and changed the investment landscape.
Through the decades, there have been other LBOs garnering just as much—if not more—attention. Notably: The April 25 announced leveraged buyout of Twitter, which reportedly includes financial backing from well-known private equity firm Brookfield. The deal, if it goes through, is valued at about $44 billion.
Private equity (PE) firms are largely known for investing in private companies with potential for profitability. These firms snap up startups, finance leveraged buyouts, and revitalize distressed companies. The goal is typically to create value for the companies and make profits for investors in the end.
But while private equity does focus on privately held companies, these firms also buy or invest directly into public companies, or companies preparing to sell shares to investors through an initial public offering (IPO).
Private equity firms do, in fact, invest in public companies—and increasingly so. One indicator suggests that they are buying companies listed on stock exchanges at record rates: The Economist reported in August 2021 that since January of that year, buyout groups had announced 6,298 deals worldwide, worth around $513 billion, according to data it collected from the data firm Refinitiv.
Private equity firms have made these purchases for several reasons:
When investing in or buying a private company, a PE firm often takes a majority stake, gets paid a 2% management fee, and earns a percentage of profits, typically 20%. The early 2000s brought more large deals where private equity firms invested in public markets, such as Bain Capital’s buyouts of Houghton Mifflin and Burger King, and the buyout by a consortium headed by Carlyle Group of The Hertz Corp. Such takeovers continued to redefine how investors considered this alternative investment class.
Some private equity funds themselves have even gone public. For instance, in 2007, Blackstone Group raised $4 billion in an IPO and listed its shares on the New York Stock Exchange.
Other ways a private equity firm could end up with an ownership stake in a publicly traded company include:
Investors in a private equity firm may take a portfolio company through an IPO, selling a portion of shares to public investors. The company registers with the SEC, which calls for meeting certain compliance and reporting requirements, and the issuance of financial disclosures. The company also undergoes a valuation process that sets a value for the shares and the business. After an IPO, PE funds sometimes retain shares in the now public company for a time (this so-called lock-up time is typically 90 to 180 days) so that a sudden liquidation doesn’t affect stock price. Some PE funds may hold on to shares longer than this, while others divest completely.
PE firms sometimes buy minority shares in public companies, giving the company access to capital and the PE firm a stake in a company they believe has good growth potential.
PE firms sometimes buy public companies before taking them private, delisting their shares, and restructuring their finances and management teams with the aim of improving profitability—then selling them for a profit.
A 2021 study by Private Equity Info identified the top 10 industries for private equity investment in public companies. These industries accounted for 46% of PE investment in publicly traded companies.
Investing in the software industry is popular with PE firms because it is an asset to virtually any industry sector. The software sector offers the potential for growth and high returns, and also may be tapped as a resource across holdings. PE firms sometimes see software as an add-on to their investments.
Similarly, manufacturing can be an asset to multiple sectors. PE firms that invest in manufacturing technology have the capabilities to leverage those resources for portfolio companies in the technology, aerospace, auto, and medical device spaces.
With an aging population, healthcare is viewed as a growth sector, and therefore, a good investment.
Another example of an asset that can be useful to portfolio companies, technology is an acquisition that PE firms often make not only to advance their holdings, but to also benefit the firm itself.
Private equity firms find this sector an attractive investment because demand is relatively constant. One prominent example: 3G Capital and Berkshire Hathaway’s takeover of Kraft and Heinz, which led to their merger. Sometimes, companies sell off brands to PE firms to streamline and focus on core products.
Other industries favored by PE firms include financial services, digital, education, industrial services, and e-commerce.
Sometimes private equity firms hold publicly traded stocks, usually as a result of a plan to take a public company private or exiting a wholly-owned portfolio company through an IPO. A PE firm may also use other strategies to invest in public companies. The most common one is buying out a company completely via a leveraged buyout.
In an LBO, a PE firm buys a target company with the intention of selling it later. PE firms will often use a mix of equity capital from the fund and debt, and secure the loan using the company’s assets. The buyout is considered “leveraged” because much of the financing is with borrowed funds.
A PE firm may buy a private or a public company. But when it buys a public company, the firm will often take that company private. PE firms often target companies for buyouts that need an influx of cash or a management change. Then, grow the companies through the operations and management expertise of their partners, and the fund’s capital—before selling either to another firm, or through an IPO.
Private equity companies have multiple ways of structuring investments in private and public companies.
This is a common investment strategy used in private equity investing, but not for public companies. Using a VC strategy, private equity firms (or firms that specifically do venture capital investments) will finance a start-up or young company, take a large equity position in it, and give it the resources it needs to grow. PE firms may lend the operational and management expertise of their partners, as well as cash and financing experience.
These investors, or angels as they are sometimes called, typically buy into start-ups or early-stage companies that are privately owned. While angel investing might resemble VC, the investors generally don’t take a controlling stake in the company and invest in the earliest stages of a company’s life. These businesses can be young, so they may not yet have revenue. In exchange for money, the fledgling company may give the investor the right to buy shares in a future equity round—but most deals are simply cash for equity.
Firms that engage in distressed funding, sometimes called vulture funding, invest in underperforming businesses with the intention of turning them around, or selling their assets, for a profit. Both public and private companies are candidates for distressed funding. A PE firm may take a controlling interest in a distressed company, take it private, and then reorganize it. Companies that have filed for Chapter 11 bankruptcy protection are sometimes candidates for distressed funding.
Private equity firms invest in public companies for a variety of reasons to accomplish a basic goal: increasing the value of its portfolio companies, selling them at a profit, and distributing proceeds among its partners. PE firms have typically done this by buying out public companies and taking them private or buying private companies and readying them for an IPO. Direct investment is yet another approach.
PE firms have increasingly turned to public markets looking for companies with growth potential and good prospects for returns. Top sectors for investment include software, manufacturing, technology, and food and beverage. By investing in public companies, PE firms can leverage the expertise of these acquisitions to serve both the firm and other portfolio companies.
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