Growth Equity

Growth equity is a strategy of private equity in which an investment fund puts capital into a company that already operates, in exchange for part ownership, so that the company can expand.¹² It is distinguished both from venture capital, which concentrates on newer companies, and from the leveraged buyout, in which the whole company is acquired.³² Course materials at the University of Texas at Austin list growth funds as one of the specialized strategies that private equity funds have developed, alongside venture, mezzanine, buyout, infrastructure and energy funds.¹³

How it works

Money for private equity comes from individuals, pension plans, private foundations and other sources, which place it in funds managed by venture capital and private equity firms. The firms invest that money in businesses in exchange for part ownership, and seek to realize it later when the business is acquired or goes public.² A University of Texas finance course describes private equity as a major source of capital for new, growing and established private and public firms, and describes the ways businesses are later sold, through public markets, private buyouts and mergers.³

The same course presents private equity as providing a governance structure for the companies it backs, as well as capital.³ Research assigned in that course found that financing terms in venture deals, including anti dilution provisions by which new investors protect themselves against losses at the expense of earlier ones, are often poorly understood by at least some parties to the deal.³

How it differs from neighboring strategies

Venture capital. The Library of Congress research guide on small business financing describes venture capital as focused on newer companies in innovative industries, often high technology fields with patent protection, that can be acquired or taken public.² Venture financing is raised in several stages, and later investors may negotiate protections that come at the expense of earlier ones.³ Growth funds are named as a separate strategy from venture funds.¹

Leveraged buyouts. In a leveraged buyout, a company is acquired by a specialized investment firm using a relatively small portion of equity and a relatively large portion of outside debt, and the firms that make such acquisitions are generally referred to as private equity firms.³ In a buyout the company changes hands; in a growth investment the investor buys a share and the existing owners remain.³²

Debt. A company seeking growth capital may also borrow. The choice between the two, and the effect of each in a hard year, is taken up in the essay on paying down debt or buying the truck.

Scale

The Hicks, Muse, Tate and Furst Center for Private Equity Finance at the McCombs School of Business, endowed by a Dallas buyout firm, reports that worldwide private equity fundraising totaled about $375 billion in the five years before the center opened in 2000 and roughly $2.5 trillion in the five years ending in 2018.⁴ The article notes a shift in where growing firms raise new equity, toward private markets; in 2018 there were about 300 private companies valued at $1 billion or more, up from about 40 five years earlier, while the number of companies listed on United States exchanges fell from more than 7,000 in 1997 to about 3,600 in 2017.⁴ One of the founding partners, Tom Hicks, attributed the willingness of Texas investors to take risks on deals to the oil and gas industry.⁴

In energy services

Energy funds are one of the specialized private equity strategies named in University of Texas course materials.¹ The industry’s appetite for capital is large; federal cost work puts a single modern onshore well, in basins such as the Permian, in the millions of dollars.⁵ Much of that cost pays for the rigs, frac pumps, crews and materials supplied by the contractors that make up the oilfield services trade.⁵

Several essays on this site deal with the practical side of growth investment in such companies: how the collection of invoices affects bargaining power in a piece about unpaid invoices, what an acquisition by a portfolio company demands in the add on acquisition, how hiring reveals a company’s real plan in the essay on payroll, where negotiated terms become fixed in the letter of intent, and how a founder’s role changes in when the founder becomes chairman. This is the kind of financing Rosser Newton’s Dallas firm provides to the oil and gas service trade, and his page on the work says how he approaches it.

References

1. The University of Texas at Austin, McCombs School of Business, MS in Finance curriculum ↩ ↩² ↩³ ↩⁴

2. Library of Congress, Small Business Financing research guide, Venture Capital ↩ ↩² ↩³ ↩⁴ ↩⁵

3. The University of Texas at Austin, McCombs School of Business, Finance 394, Private Equity, course syllabus, Fall 2019 ↩ ↩² ↩³ ↩⁴ ↩⁵ ↩⁶ ↩⁷ ↩⁸

4. The University of Texas at Austin, McCombs News and Magazine, Investing in Private Equity Education ↩ ↩² ↩³

5. U.S. Energy Information Administration, Trends in U.S. Oil and Natural Gas Upstream Costs ↩ ↩²