Private Equity vs. Venture Capital


There’s one good thing about the recent economic uncertainty that many aren’t aware of…

It’s the pullback that’s happened with traditional institutional investors and venture capitalists.

They’ve tightened the grip on their money… pushing startups my way that I previously wouldn’t get a shot at.

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Back to the topic of private markets… 

If you spend any amount of time in the Angel Investing world, you’ll surely hear talk of Private Equity and Venture Capital.

According to the SEC, private markets control more than 25% of the U.S. economy in terms of the total amount of capital.


Private Market Investing


Private markets control over a quarter of the U.S. economy in terms of the total amount of capital. Ninety-eight percent of all businesses are private.1 

Within the private market, there are different types of investors. Sure, all of these investors aim for high returns and love a good IPO. But, while it can be easy to confuse private equity (PE) and venture capital (VC), each has its different strategies and goals. 

PE firms and VCs invest at different stages, invest different amounts, and take different percentages of equity in the companies they invest in.

Throw angel investors into the mix, and you have quite a complex system of private investment. 

I’m going to show you the differences between these three types of investors and why it matters to you.


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Private Equity


Put simply, “private equity” is just shares of a company that is not yet publicly traded. But, when discussing private equity investors, we are usually talking about firms that invest in and buy companies. 

To the private market, these PE firms are a major source of capital. 

Large, institutional investors like pension funds and private equity firms dominate this space. While high net worth individuals like angel investors work within this space, I think there are important differences between them. More on this later.

Let’s get into the DNA of private equity investments. 

Individuals or members of a firm are usually bankers and finance professionals.

They look for companies that have already started to generate revenue, have substantial cash flow, and have attained profitable margins

These later-stage deals are usually very large, from a few million up to billions of dollars. The risk on these deals is moderate but far less than VC or angels. There is a low chance that the investor or firm will lose all of their money. Naturally, being the most stable of the three, the returns are also lower.

PE firms mostly buy 100% ownership in a company, meaning the firm will have total control after the investment. 


Venture Capital


With VC, the goal is the same — invest in private companies and make a profit. However, rather than investing in established companies, VCs invest in startups and early-stage ones. 

Instead of looking for cash flow and profitability, they look for companies with the ability to scale rapidly. Still, VCs like to see a proven revenue model, or at the least, a growing customer base with a sensible revenue strategy. 

Venture capital usually invests in the range of $1 million up to $10 or $20 million. Investors can be entrepreneurs, or experts in banking, law, or finance.

VCs usually buy enough shares to own 50% or less of the company.

This is a high-risk strategy — there’s a decent chance a VC will lose their investment. For this reason, they aim for returns above ten times their investment


Angel Investing


Angel investors are usually independent but can work in groups. They invest at the earliest possible stages, sometimes pre-revenue or even when a startup has no customers at all. 

After bootstrapping, angel investors are almost always the first to fund a startup.

The main factors they look for are the idea, business model, team, and prototype, but also look at cash flow and revenue when applicable. 

These startups are so young that the risk is incredibly high. For this reason, the returns are the highest. An angel investor may look for a potential return of 20x, 50x, or even 100x their investment. 

Angels are usually entrepreneurs and former founders. For accredited angel investors, investments usually range from $10,000 to a few million.


Regulation Crowdfunding


The private markets have opened up dramatically in recent years. With Title III of the JOBS Act, non-accredited investors can now invest in startups through Regulation Crowdfunding platforms. They can buy equity for as low as $100 and usually have limits of a few thousand dollars depending on their income and net worth. 

This makes it easier for startups to raise capital and allows millions to build wealth investing in pre-IPO companies. 

Additionally, the SEC has recently changed the definition for “accredited investor” making it much easier for people to invest well beyond the limits of Regulation Crowdfunding.


Which is the Best For Founders?


In terms of accessibility, angel investing is the best. 

Startups need funding early, and at those stages, no one is willing to provide it other than angels. Even when accredited investors aren’t available, founders can run a Regulation Crowdfunding round and get up to $1.07 million without jumping through hoops.

However, the biggest checks will come from private equity firms. 

If you can meet their standards — profitability, cash flow — and need a large amount of capital, PE is the way to go. PE firms can offer companies the most money, but will most likely take control of the entire operation after the fact. 

Venture capital is somewhere in between. There are fewer stipulations than PE and even early-stage companies are of interest to them. However, VCs will want more of the company and impose stricter terms than angel investors.


How Has Each Responded to COVID-19?


It’s very clear at this point that venture capital and institutional private equity have taken a big hit. The pandemic hasn’t been kind to the private market. 

While seed rounds aren’t doing as well as they were pre-pandemic, within certain industries, they are still strong. 

While many PE firms and VCs are struggling to assess and maintain their portfolios, many angel investors are enjoying their agility in the space. Sectors and startups that solve COVID-19 problems, such as healthcare, e-commerce, and FinTech, are still open season for investors.

A silver lining of the situation is that all types of private investors can get great deals on undervalued companies that are likely to bounce back during the recovery. 

And overall, the current projections are that the private markets will recover and resume the historic growth trend. 


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