What are capital funds and venture funds? Discover the various private equity fund types

Private equity is an umbrella term for many types of funds with different strategies. I'll walk you through the various types.

Jan 11, 2024

Private equity

Isabella S. Rasmussen

Investing in a capital fund, a venture fund or a fund of funds is completely different things.

It's not as simple as deciding to invest in private equity. Just as it's not as simple as deciding to invest in obligations. You need to figure out what specific investments you want to make. Which ones fit your strategy, your values, and your overall situation and investment time horizon.

There are several kinds of private equity funds, and one of the first steps in your private equity journey should be figuring out which type of fund is the right one for you to invest in.

Some funds invest in startups, others in more established companies. Some focus on tech companies, while others invest in infrastructure like toll roads, bridges, airports, and others in entirely different areas.

Some private equity firms cater to larger investors, some to smaller ones, and there are variations in the level of seriousness among different firms.

Read on to learn about the various fund types, what they invest in, their goals and the level of risk typically associated with each kind.

Let's dive right in and begin with one of the most popular funds; the capital fund, also know as a buyout fund.

(Tip: It kills me to say it, but if you just want to get a quick overview of the different fund types, you can scroll down to the end of the article for a visual summary.)

Capital funds (buyout funds)

The two most popular types of private equity funds are venture funds and capital funds.

So, what is a capital fund?

It's a fund that acquires already established companies lacking the necessary capital to unfold their full potential. These companies are often stable, non-cyclical businesses with a steady cash flow. As a result, there is generally a lower risk associated with investing in capital funds compared to, for instance, venture funds.

The stability is imperative for a capital fund. The fund either borrows up to 80% of the acquisition price from the bank—using the acquired company's assets as collateral for the loan, which is repaid through the company—or they finance 80% of the acquisition price through leveraged loans.

Capital funds acquire already established companies lacking the necessary capital to unfold their full potential.

The remaining part of the acquisition price is covered by the capital fund's own resources. This method is known as Leveraged Buyout (LBO) and reduces the risk for the capital fund and its investors since they haven't paid the full acquisition price with their own funds.

The additional borrowed capital enables the fund to acquire larger companies than it could have without that extra capital. This, in turn, provides the fund (and its investors) with the potential for a higher return if the investment turns out successful.

A capital fund actively engages with their acquired companies to ensure their success. By buying a majority stake in the companies or acquiring them entirely, the fund can control the companies' strategy and restructure management or other parts of the companies, if they find that it's needed to unfold the company's full potential.

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Venture funds

In contrast to capital funds, venture funds invest in smaller, new companies in the early stages of their life cycle, perhaps consisting only of a good business idea.

For a venture fund to invest in a company, they must have a strong belief that the company has a significant growth potential, strong leadership, and a unique product.

Private equity funds are a vital source of capital for these types of companies since they rarely can borrow a substantial amount from the bank, due to the relative uncertainty of their future. With capital from a venture fund, these companies have a much better chance at unleashing their potential.

Considering the life phase of these companies, there is a relatively high risk associated with investing in them. On the other hand, there is an opportunity to achieve very high returns if the company becomes successful.

Unlike capital funds, venture funds often buy a minority stake in the companies they invest in, allowing control to remain with the company's own management. However, the fund often helps the company by connecting them with individuals in their network who can assist the company in growing through mentorship or other means.

Many are unaware of how many companies have received capital from venture funds. Some well-known companies that have achieved great success after receiving resources from venture funds include Facebook, Twitter, PayPal, and Airbnb.

Growth capital funds

In addition to venture funds and capital funds, several other, less widespread types of private equity funds exist. One of them is growth capital funds.

The strategy of growth capital funds closely resembles that of venture funds, but they invest in companies that are a bit further along in their life cycle and are already profitable.

The goal of a growth capital fund is to provide the company with the last capital injection it needs to truly become a success.

These companies are more expensive to invest in because they've already realized a part of their potential and are more stable than venture funds.

The goal of a growth capital fund is to provide the portfolio companies with the last capital injection they need to truly become a success.

There is a lower risk associated with investing in growth capital funds than in venture funds since they are more stable. But since there's already an indication of how successful the portfolio companies can be in the future, there's not the same probability of overwhelming success as there is for the companies in which venture funds invest.

Distressed funding

Funds that employ the distressed funding strategy invest in companies that underperform and are in serious financial trouble or may have even gone bankrupt.

The goal of the investment is either to turn the company's situation around and make it a success, or to sell its physical or intellectual assets—such as buildings and machines or patents—with profit. The method is therefore also less flatteringly referred to as vulture financing.

In the aftermath of the financial crisis, this strategy became more widespread as many companies faced financial problems or went bankrupt.

Funds of funds

As the name suggests, this type of fund invests in a range of other private equity funds and does not directly invest in companies.

The advantage of this method is that, as an investor in a fund of funds, you achieve a higher risk diversification and more investment opportunities than you would with an investment in a single fund that invests directly in companies.

On the other hand, a larger part of your investment goes to management fees, as with this method, you pay for multiple layers of management.

Real estate funds and infrastructure funds

There are also funds that only invest in real estate and land or infrastructure such as toll roads, airports, bridges, green energy, etc. Investment in these kinds of funds comes with different levels of risk.

Overview of types of private equity funds

As you can see, private equity is an umbrella term covering many different types of investments. While they all share the commonality of investing in the private market, they do so with different strategies.

Do you have an accurate overview of your total unfunded commitment?

In recent years, there has been explosive growth in private equity investments, and many have invested in several different funds, to which they have commitments.

The funds you have invested in can, in principle, demand the rest of your commitment at any time. Therefore, it is essential always to have an overview of all your unfunded commitments.

And now, just a few lines of self-promotion (bare with me).

We have extensive experience in private equity reporting and a thorough understanding of the reporting practices of many of the big private equity firms report, accumulated over many years of working with their reports.

In our wealth platform, Aleta, we provide you with an ongoing accurate overview of your unfunded commitments across all funds. This way, you always know precisely how much the various funds can call from you—individually and collectively. And how they're performing.

Drop a line if you have any questions about our reporting or about the article!

We have extensive experience in private equity reporting and a thorough understanding of the reporting practices of many of the big private equity firms, accumulated over many years of working with their reports.

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