What Do Private Equity Firms Do in the Modern Economy?

By Gino Hitshopi Platinum Quality Author

The term Private Equity is one that many of us have heard at some point - especially over the last few years. But the term tends to cause some confusion as regards what it actually means. In this article we'll go over some of the main principles behind it as well as the range of opinions that have been formed - because the process of private equity is sometimes controversial.

Private equity firms basically find firms to buy with a long or medium term view of making them profitable once again. The art of private equity is the ability to pinpoint firms that have great potential, but that have not yet realised that potential. The idea is to find the quickest route to profitability, before selling the company for a substantial profit.

Private equity firms raise their capital from private sources, as opposed to public ones. These sources might be wealthy individuals or pension funds etc. The whole process is focussed on the idea that profits should be made quickly and overall rewards are enjoyed as quickly as possible.

Most governments around the world as well as the British government believe that private equity companies contribute a great deal to the British economy, by improving market discipline and generally making companies much more competitive. Since 1983 the industry has invested in excess of 80 billion pounds in about 29,500 UK businesses.

The process is sometimes criticised in some quarters as it is deemed unnecessarily harsh on failing firms. In many cases assets of the company will be sold off with little regard to the effects on the workforce. Sometimes called 'asset stripping', it can result in many redundancies, which obviously cause a great deal of hardship in the associated worker's families and have knock on effects for the whole community.

Another criticism is that many of these important decisions are made behind closed doors without the any dialogue between many of the parties involved.

Companies such as the AA and Birdseye have been subject to private equity firms and as such they have both had what is regarded by some as harsh decisions made with regards to them. This essentially means job losses, the cold side of modern capitalism.

Arguably these firms would not survive without some kind of large scale over-hall and re-investment, and so many would argue that they simply speed up any ill-effects of a firm's situation and propel it towards profitability more quickly. Ultimately, they are a reminder that everything is done for the good of the profit margin and not the good of the worker.

Gino Hitshopi is highly experienced in the realm of private equity, having worked in the investment industry for many years. For more information please visit: http://www.preqin.com/section/private-equity/1