CAIA Level I: An Introduction to Core Topics in Alternative Investments, 2nd Edition

CHAPTER 20

Introduction to Private Equity

Private equity is defined broadly in the CAIA curriculum—so much so that some securities that are not equity and some securities that are publicly traded are included in the category. Private equity is used in the CAIA curriculum as a generic term to encompass four distinct strategies in the market for private investing. First, there is venture capital (VC), the financing of start-up companies. Second, there are leveraged buyouts (LBOs), where public companies are converted into private companies using debt financing, or leverage. Third, there is mezzanine financing, a hybrid of private debt and private equity financing. Last, there is distressed debt, investments in established (as opposed to start-up) but troubled companies.

Private equity is as old as Columbus's voyages. Queen Isabella of Spain sold her jewelry to finance Columbus's small fleet of ships in return for whatever spoils Columbus could find in the New World. The risks were great, but the potential rewards were even greater. This in a nutshell summarizes the private equity market from the perspective of the investor: a large risk of failure but the potential for outstanding gains. It is a long-term investment process that requires patience, due diligence, and hands-on monitoring. From a more general perspective, private equity provides the long-term equity base for a company that is not listed on any exchange and cannot raise capital via the public equity market. Private ...