Private Equity Explained

If you own shares in a company, you own equity. That company might be listed on a stock exchange, or it might be a private business owned by its founders and a few investors.

So at the broadest level:

Equity = public equity + private equity.

But there’s a small language problem here. When someone says they work in private equity, they usually don’t mean that they own part of their friend’s restaurant. They mean the investment industry: firms raising funds, buying stakes in businesses, working on those investments, and eventually selling them for a profit. Or at least trying to.

I want to explain how that works, including the things around it that are easy to mix up. What’s a fund? Why borrow money to buy a company? What does Bain do in the deal? And why are BlackRock and Blackstone different companies?

Equity and bonds

First, equity means ownership. If you buy 10% of a company, you own 10%, although your voting rights and other rights depend on the shares you bought. If the business becomes more valuable, your stake can become more valuable too. The company might also distribute some of its profits as dividends.

With ordinary equity, the company doesn’t promise to repay your investment on a particular date. You bought ownership, and that ownership can lose all its value. More on shares and shareholder rights.

A bond is debt. You’re lending money to the issuer, which might be a company or a government. A typical bond promises interest payments and repayment of the original amount, called the principal, at maturity.

Equity gives you more participation in a business’s upside, while also absorbing losses before its debt. That doesn’t mean every bond is safer than every stock. A struggling company’s bond can be extremely risky, and bond prices can fall when interest rates rise. Contractual payments are promises that the borrower can fail to keep. The SEC’s explanation of corporate bonds covers these differences.

Keep this distinction in mind. A private equity acquisition can contain both equity and debt. The lenders and the owners have different claims on the same business.

Public equity and private equity

Public equity usually means shares traded on an exchange. Private equity, in the broad ownership sense, means shares or ownership interests that aren’t publicly traded.

That includes founders owning their companies, family businesses, angel investments, and venture capital. But the professional PE industry is a narrower use of the term. In many finance conversations, PE specifically means buyout private equity: acquiring control of established businesses, often using borrowed money alongside investors’ equity.

Let’s compare two investors with €100 million each.

Investor A buys public equity. They spread their €100 million across shares in large listed companies. They own a small percentage of each business. They can vote where their shares carry voting rights, but they generally can’t choose a new CEO or tell the company to buy a competitor. They hope the businesses perform well and that this produces dividends or higher share prices.

Investor B makes a buyout investment. They use €100 million of equity together with €200 million of acquisition debt to buy a manufacturing business. In this simplified example, they buy all of it. Through control of the company and its board, they can change management, agree a different strategy, and approve major investments or acquisitions.

Both investors are owners. The practical distinction is owning a small stake versus acquiring control.

A typical public investor bets on the company’s performance. A buyout investor also tries to influence that performance directly. The SEC’s guide to PE funds describes this active involvement, while also explaining that some PE investments are minority stakes.

Of course, public shareholders can be influential too. Activist investors may push for board changes or a sale of the company. And a PE fund can buy a listed company and take it private. So control is a useful way to understand a buyout, but it isn’t the definition of private equity.

Private equity includes more than buyouts

Under the broad investment umbrella, you’ll commonly see these strategies:

Venture capital can therefore count as private equity in a broad classification, even though people often discuss VC and PE as separate industries. You need to know how the person is using the term. CFA Institute describes this range of private equity strategies.

For the manufacturing example, we’re talking about a buyout.

What a fund actually is

A fund is a pool of money from multiple investors, managed according to an investment strategy. The word doesn’t tell you what it invests in. There are funds for public shares, bonds, private companies, and many other things.

Suppose Blackstone wants to invest in several companies over the next five years. It doesn’t need to finance every purchase entirely from Blackstone’s own corporate bank account. It can establish a fund and raise money from investors.

This is fundraising. The manager approaches pension funds, insurance companies, sovereign wealth funds, family offices, and other investors. A family office manages a wealthy family’s assets; a sovereign wealth fund invests on behalf of a state.

In a common partnership structure, the fund’s investors are limited partners, or LPs. The general partner, or GP, controls the partnership, with a management company or adviser doing the investment work. People often use GP as shorthand for the PE manager, although the legal entities can be separate.

Pension funds, insurers, other investors
                  |
          commit and contribute capital
                  v
               PE fund <----- managed by the PE firm
                  |
             invests equity
                  v
       Acquired businesses
       (portfolio companies)

Now suppose a pension fund commits €100 million. That usually doesn’t mean it transfers all €100 million immediately. The manager requests portions when needed. These requests are capital calls. A €20 million call against that commitment leaves €80 million still to be called, assuming no earlier calls. The SEC explains these commitments and the separate fund-management entities.

This is why “the firm raised a €1 billion fund” doesn’t necessarily mean €1 billion is sitting in its bank account. Much of it may still be with investors who have committed to provide it.

The manager normally earns a management fee and may receive a share of investment profits, called carried interest, according to the fund’s terms. The investors receive distributions as investments generate cash or are sold. A traditional fund might run for around ten years, while an individual company is held for, say, five. Those are different clocks. The NAIC’s PE primer explains fund life, fees, and capital calls.

And the LP generally can’t withdraw the money whenever it wants. This is a long commitment, with limited opportunities to sell the fund interest.

From fundraising to selling a company

For a buyout fund, the process broadly looks like this:

1. Raise the fund. Investors commit money to the agreed strategy.
2. Find an acquisition. The deal team looks for businesses, talks to owners and advisers, and works out whether a purchase might make sense.
3. Investigate it. The fund and its advisers conduct due diligence, test the business plan, and assess the price and financing.
4. Complete the acquisition. The parties negotiate the contracts and arrange financing. Once the necessary conditions are met, the purchase closes and ownership transfers.
5. Work on the business. Management runs the company, with the PE owner influencing strategy, leadership, investment, and performance targets.
6. Exit. The fund sells its investment, hoping to return more money than it put in.

Some of these steps overlap. Financing discussions don’t wait until every investigation has finished. And plenty of potential deals stop during diligence because the business or the price doesn’t hold up.

Let’s look more closely at our manufacturer.

Due diligence means checking what you are buying

Due diligence, or DD, is the investigation before making an investment or acquisition. Think about buying a house. You check the roof, the plumbing, the documents, and whether the price makes sense. You wouldn’t rely entirely on the seller saying it’s a lovely house.

Buying a €300 million manufacturer needs a much more extensive version of that work.

The seller might give potential buyers access to a virtual data room: a secure online repository containing customer contracts, detailed financial information, internal forecasts, and employee information with appropriate access controls and redactions. Advisers examine the documents, interview management, and independently test important assumptions. PwC describes how secure data rooms support transactions.

This differs from ordinary public-market investing, where investors rely heavily on published accounts, regulatory filings, and other public information. Public investors can still do substantial independent research. And a negotiated acquisition of a public company can also involve confidential due diligence. The difference here is the access and purpose of the investigation.

Commercial due diligence

Commercial due diligence, or CDD, asks whether this is an attractive business in an attractive market. It examines market growth, competition, customer relationships, pricing power, and the company’s position.

Suppose our manufacturer’s management forecasts 15% annual sales growth. Where is that growth supposed to come from? Is the market growing that fast? Are customers actually planning to buy more? If the plan requires taking customers from competitors, why would those customers switch?

The forecast might turn out to be reasonable. But “management put it in the spreadsheet” isn’t an answer. Bain’s description of commercial diligence covers these market and customer questions.

Financial due diligence

Financial due diligence, or FDD, examines the earnings, cash flows, working capital, debt, and adjustments behind the reported numbers. How much of the profit is recurring? How much cash is tied up in inventory and unpaid customer invoices?

Suppose last year’s profit included a large one-off gain from selling an unused factory. That gain was real, but you can’t assume the company will earn it every year. Equally, rising sales are less useful for paying interest if customers take months to pay.

FDD helps the buyer understand the quality and sustainability of earnings. It isn’t simply another audit of the accounts. EY describes financial diligence and its treatment of earnings, working capital, and debt-like items.

Legal and tax due diligence

Here the advisers examine contracts, ownership rights, litigation, regulatory obligations, tax exposure, and employment obligations.

For our manufacturer, imagine that its largest customer can terminate the contract when the company changes owners. Buying the company could then put an important source of revenue at risk. That needs to affect the deal before it is signed.

Operational and technology due diligence

Can the company actually deliver the plan? This work examines production, supply chains, organizational capabilities, IT systems, cybersecurity, and the investment needed to improve them.

If management promises twice the output, someone needs to check whether the factory can produce it. If the plan assumes integrating a competitor, someone should examine whether the systems and processes can be combined at a sensible cost. EY’s diligence overview also covers operational, tax, cyber, and technology investigations.

The findings feed into the price, financing, contract terms, and the work planned after the acquisition. Sometimes the useful outcome is deciding to walk away.

Where Bain fits into the deal

Bain & Company is a management consulting firm. Bain Capital is a separate investment firm. Bain Capital was founded in 1984, and cofounder Josh Bekenstein previously worked at Bain & Company. The firms have separate ownership and governance.

Very helpful naming, obviously

In our acquisition, the PE manager might hire Bain & Company to investigate the manufacturer’s market and test its growth assumptions. After buying it, the manager might hire Bain again to help improve pricing, operations, or the sales strategy. Bain also advises on investment strategy, such as which sectors and markets a fund should pursue. Its Private Equity practice describes work across this investment cycle.

Blackstone, KKR, EQT, and CVC are examples of investment managers operating in this industry. Firms of this kind can hire consultants, accountants, lawyers, and technology specialists because a deal requires more expertise than the investment team alone provides.

In this arrangement, Bain earns consulting fees for its work. It can be paid even if the fund later loses money on the investment. But the exact contract matters: Bain also offers arrangements linking its fees to results.

Bain also has co-investment funds. In our example, though, its role is to advise the buyer. The PE fund makes the investment.

BlackRock and Blackstone

These are different firms too. Both manage investments for clients, but their businesses have different histories and emphases.

BlackRock is a broad asset manager. You might know its iShares ETFs, but it also manages private-market investments. Blackstone focuses on alternative investments, including private equity, real estate, credit, and infrastructure. A Blackstone buyout fund might acquire our manufacturer and work with its management over several years. BlackRock’s investment offerings, Blackstone’s businesses.

Very roughly, you can think of their roles like this (these are paraphrases):

The first two descriptions overlap. BlackRock is no longer usefully described as just a public-markets investor. It completed its acquisition of infrastructure manager GIP in 2024 and private-credit manager HPS in 2025. That has expanded its activities in areas where Blackstone also operates. GIP acquisition, HPS acquisition.

And private credit is debt, not equity. An asset manager can run both kinds of funds. You need to look at the particular strategy, rather than infer everything from the firm’s name.

Where hedge funds fit

A hedge fund also pools investors’ money, but it can use a relatively flexible investment strategy. Depending on the fund, that might involve stocks, bonds, currencies, derivatives, borrowing, or short selling, which can profit from falling prices.

A traditional buyout fund might buy our manufacturer and hold it for five years. A hedge fund might trade its publicly listed competitors, take a position on interest rates, or buy debt. Some positions last days; others last years. Some hedge funds also buy private assets or push for changes at companies they invest in.

So the distinction isn’t simply “PE invests slowly, hedge funds trade quickly.” Look at what the fund buys, how it seeks returns, and how much influence it wants over the businesses involved. And the word hedge doesn’t promise safety. Investors can face substantial losses and restrictions on withdrawing their money. The SEC’s hedge fund guide explains the strategies and risks.

Why we hear so much about private equity

If there’s private equity, why don’t we hear public equity just as often?

I think much of it is language. When people discuss stocks, the S&P 500, equity ETFs, or stock mutual funds, they’re already discussing public equity. They just use those more familiar names.

Private equity has also become an industry identity. Raising a fund, finding acquisition opportunities, negotiating financing, investigating companies, working with management, and arranging exits creates a recognizable profession. It has its own ecosystem of investment teams, banks, lenders, lawyers, and consultants.

There is a public-equity industry too, of course. We tend to refer to its individual activities: asset management, stock picking, equity research. The difference in wording makes the contrast sound larger than it is.

What happens to our manufacturer

Okay, the fund has completed the acquisition. It put in €100 million of equity, and the deal used €200 million of debt. The operating business was valued at €300 million.

This is a leveraged buyout, or LBO. Leverage means using borrowing. The debt commonly sits in a company set up to make the acquisition or in the acquired company’s group, rather than at the PE management firm itself. Our manufacturer needs to generate the cash to pay interest and repay that debt. CFA Institute explains the acquisition structures.

The PE owner now works with management on the investment plan. Perhaps the factory loses money through avoidable downtime. Fixing maintenance could increase output without building another factory. Perhaps the sales team can reach new customers, procurement can reduce material costs, or buying a competitor would add a useful product line.

These are possible improvements, not automatic consequences of a PE acquisition. Cutting maintenance would also make this year’s spending look lower, but could make the downtime worse next year. You have to look at what actually changes in the business.

Suppose that after five years, the business is worth €400 million and it has reduced its debt to €150 million. Here is the simplified calculation:

The value of the operating business is called enterprise value. Assuming no excess cash or other adjustments, equity value is enterprise value minus debt.

The fund put in €100 million and receives €250 million at the sale: 2.5 times its initial equity investment. That’s a €150 million gain, not a €250 million gain. The return comes from the business becoming more valuable and from debt being repaid.

I’m assuming the fund owns all the equity, contributes no additional capital, and receives no earlier distributions. The example leaves out transaction costs, taxes, management fees, and carried interest. Debt repayment would have to come from available cash after paying interest and meeting the business’s other needs. So this is gross deal arithmetic, not the pension fund’s final net return.

An exit could be a sale to another operating company, a sale to another PE fund, or a public listing followed by share sales. An IPO doesn’t necessarily let the fund sell everything immediately. I explain that distinction in Why Companies Go Public.

But now change the outcome. Suppose the business falls in value from €300 million to €240 million while its debt is still €200 million. Only €40 million remains for equity. A 20% fall in the business’s value has caused a 60% loss on the fund’s €100 million investment.

The debt didn’t fall just because the business became less valuable. And the company can run into trouble paying interest or refinancing before anyone gets to sell it.

That’s why I’d want to understand both the operating plan and the financing. Fixing the factory may be a good idea. Whether the company can afford its debt while that work happens is another question, and the deal needs a convincing answer to both.