What is the difference between venture capital and private equity?

What is venture capital?

Venture capital is technically a form of private equity, as outlined below, but one which is applied in very specific circumstances. Venture capital investors tend to target startup companies which they perceive to have high growth potential. This means that venture capital tends to be given relatively early in the startup process - and it is a risky investment but one which can deliver extremely high returns.

What are the benefits of venture capital?

Venture capital can make a big difference to companies in their early stages of growth - they benefit not only from an injection of finances but from the expertise and experience of venture capital investors. This can help a company to avoid the pitfalls that cause many startups to fail in the first few years.

However, each round of venture capital fundraising dilutes the shares and ownership of the person or people who started the business, and this process may be repeated if further fundraising is required.

What is private equity?

The term “private equity” refers to a company making a direct investment in another company. When this terminology is used it is often a mature company that is well past the initial growth stage, rather than a burgeoning startup.

Private equity investors are often brought in when a business is in some level of trouble - a firm may buy out another business, make improvements to the way it is run, increase its profitability and then sell it on. This increase in value is always the primary goal of any effective private equity CFO.

What are the benefits of private equity?

Having a private equity investor come on board gives a company access to expertise as well as finances - the investor may well help the business to find new opportunities for growth and improvement.

However, any private equity investor usually holds a majority stake in the company, so this can take away the decision-making power from those that ran it previously and it means there is always a risk of the company being downsized or solved altogether without their involvement.

What is the difference between venture capital and private equity?

While there are clear similarities between venture capital and private equity - and the ways in which the two forms of investment operate - there are clear differences too:

• The age of the company receiving the investment. Venture capital investors invest in new companies that they consider to be on a promising trajectory, whereas private equity investors target more established companies that may be struggling to maintain their success.
• The level of ownership involved. Private equity investors will usually buy up most or all of the ownership shares of a company, whereas venture capital investors tend to spread out their risk and take smaller levels of ownership - usually 50% or less.
• The amount of money invested. Private equity investors tend to invest much larger sums of money into companies - partly because this is considered the only way to stop them from going bust. They will regularly invest figures in the tens of millions, while venture capitalists will usually spend significantly less because of the higher chance of failure. 

Find out more about venture capital and private equity accounting

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