What is Private Equity? Industry Overview and Career Options - YouTube

what's up everyone kenji here and in this  video i thought i'd give an overview of the  

private equity industry so firstly we'll  start off with what is private equity  

then we'll look at some of the ways that they make  money then thirdly we'll go over the investing  

strategies that they have and then lastly we'll  go over the career paths in private equity  

looking at things like the work hours the skills  required and the compensation let's go so what is  

private equity and in short private equity funds  raise money from outside investors and with the  

money they acquire companies and then they look to  take a hands-on approach to improve their business  

and then hopefully in five to ten years time  they'll be able to resell it for a profit now  

the reason it's called private equity is because  these funds invest in private companies sometimes  

they do invest in public companies but the goal  is to take them back to private now if you don't  

know the difference between a private company and  a public company a public one is one that trades  

in the financial market so that means that anybody  can buy it say i can go to my broker and buy apple  

shares for instance because it's a public company  on the other hand the private one is usually  

just owned by the founders the management team and  maybe a couple early investors so it's not open to  

the public taking a macro view when looking at  the different asset classes private equity falls  

into the alternative investments category such the  same bucket as hedge funds real estate and so on  

so this isn't really an area that normal people  invest their money in instead it's usually just  

industry professionals so some of the big  investors usually include pension funds  

sovereign funds endowments as well as high net  worth individuals in terms of risk levels private  

equity is regarded as quite risky and that's  also why investors expect a high return for that  

now the reason is risky is because when you're  trying to transform a whole business so there's  

many variables to it it might not work out and  so on and at the same time it's regarded as an  

illiquid investment so liquidity is basically a  measure of how easily something can be converted  

into cash now a liquid is at the bad end of the  scale say so it takes a long time to convert  

and among other eliquid assets are real estate  for instance where there's a lot of paperwork  

a lot of contracts required for you or anyone  to be able to sell their real estate while on  

the other hand on the very liquid side there's  something like shares of apple apple stock for  

instance where everyone is buying and selling  so it's very easy for you to convert into cash  

so private equity is seen as an illiquid  investment mainly because you're investing  

in projects that last five to ten years and  you can't cash out before that now you may be  

aware that private equity sometimes gets a bad  reputation so let's look into why that is and  

there's primarily two main reasons firstly it has  to do with the actual transformation or maximizing  

a business right and that often involves cutting  costs and among the biggest costs out there  

are salaries so employees in this case so that  means that they have to lay off a lot of employees  

often and that's something that gives them a bad  reputation at the same time there's another reason  

and it's that they're usually in there for five  to ten years trying to maximize their returns so  

they're not really interested in whatever happens  after five to ten years because they don't really  

have any money to be made there right so that  means that they can sometimes be overly aggressive  

all right so how they make money and it's  usually a combination of a management fee  

and a performance fee and the industry standard  is known as the two plus twenty the 2 stands for  

the management fee so this is the fee for paying  down the technology the office space employees and  

so on and this one's fixed so that means that even  if they lose money or they win money they're going  

to get the same amount and then on the other hand  there's the performance fee and this one's usually  

unlocked once they hit a certain certain threshold  so for instance once they sell the investment and  

they make a profit on it then they can take it 20  percent off that as you can see it's quite aligned  

in that both the investors as well as the fund is  going to be happy if they get good returns overall  

the bigger the fun the more exaggerated this two  plus 20 structure becomes a two percent of a 10  

million fund might not sound like that much but a  two percent of a 10 billion fund obviously starts  

to become quite a lot of money but overall  depending on the reputation of the fund they  

might actually have a bigger structure than a  two plus twenty so maybe a three plus thirty  

or a smaller one if they're not so reputable  like it's a oneplus 15 right so within private  

equity most funds specialize in certain investment  strategies as you can imagine investing in a small  

startup is not the same as investing in a company  with 1000 employees right so let's look at some of  

the main ones here's a table showing a breakdown  of some of the most popular strategies out there  

so first one has to do with venture capital and  this is the smallest investment size it basically  

has to do with investing in startups now they're  looking to hit home runs so they're looking for  

massive returns that might happen once every 10  investments for instance so something like 500  

plus ownership here is minority so that means  that they don't take control of the business and  

examples of some of the big vcs include sequoia  or anderson horowitz i did make a video just on  

venture capital if you're interested in that i'll  leave it linked somewhere up here secondly we have  

growth equity and this one's sort of in between  the venture capital space and the big leverage  

buyout space so they're looking at companies  that are a bit more established than startups  

transaction amounts here are usually in the 25 to  100 million range and the home run is not really  

a goal anymore but rather getting steady returns  of around the 30 mark ownership here is a bit in  

between the minority and the controlling position  so they might have some influence on what they do  

with the business as well some examples of growth  private equity funds include general atlantic or  

ta associates and lastly you have leverage  buyouts which are also known as lbos and you  

might have heard of this term being thrown around  before this basically has to do with financing an  

acquisition of a company through debt primarily  so typically it's around 80 debt and only 20  

equity now this is usually done in the context of  taking a public company private so the amounts are  

typically above the 100 million mark and the fund  has full control of what they do with the company  

now the reason it's so attractive for private  equity funds to use this leveraged buyout method  

is because they use very little equity and a huge  amount in debt which translates to really high  

returns because over say five to ten years the  company is able to pay off the debt and with it  

the equity returns just increase and so does the  overall valuation as a company just keeps growing  

now going back to the fee structure this is  really how they maximize their performance fee  

but it is obviously very risky what if the company  is unable to pay down the debt they obviously have  

a problem then so for lbo candidates for leveraged  bio candidates they look for companies with very  

stable cash flows that have a stable business  model so it means that with that cash they'll  

be able to be paying down the debt throughout  time when it comes to companies with this kind  

of a strategy the biggest ones are blackstone and  kkr and there's obviously many other strategies  

out there like distressed debt or real estate  but i don't want to make this video too long  

when it comes to careers and private equity the  traditional approach is to work at an investment  

or a management consultancy for around two to four  years and then make the switch to private equity  

now the reason say investment banking analysts  are so keen to get into private equity  

is for a couple reasons firstly the pay is  usually better secondly the work hours are  

usually slightly better and then thirdly has to  do with the work itself which some people regard  

as just more interesting because you think of  companies more strategically i'd say having two  

to four years of experience is the most common way  to get there but there are an increasing number of  

funds that have summer internships as well as  first-year programs so for people fresh out of  

college an example of that is blackstone when it  comes to work hours it's usually around 60 to 70  

hours a week which is slightly better than the  80 hours you might average at an investment bank  

or the 70 hours you might average at a management  consultancy when it comes to skills required your  

bread and butter is going to be financial modeling  so finance and accounting as well as excel are  

obviously big points there and at the same time  being good strategically so understanding a  

business model and how to optimize it and then  lastly being able to communicate well as you'll  

probably be talking with the management team of  a company and you want to come across politely  

salary wise you can expect to earn around 130 000  in base salary in a big u.s city like new york say  

but the big portion here is actually the bonus  which can double or even more than that so you  

can expect to earn say around 300 000 depending  on your performance as well as that of your team  

now these figures are for the top funds out there  but you also got to keep in mind that they do have  

around two to four years of experience typically  so that means that they're not so junior anymore  

lastly if you want to learn further about the  topic here's a couple things i recommend firstly  

it's got to do with this book called king of  capital i thought it was really insightful  

on the private equity industry all the way  back from the 1980s to what it's like today  

with a special focus on blackstone which is the  biggest fun out there but if you're feeling a  

bit more lazy there is also a movie which is  called barbarians at the gate and it focuses on  

the biggest leverage buyout back in the day which  was that of rjr nabisco and it is based on a real  

story where henry cravis was involved who's one of  the co-founders of kkr which is still going strong  

today with around 250 billion under management so  that's all for this video i hope you enjoyed it if  

you did feel free to like and subscribe really  helps out i'll catch you guys in the next one