Private Equity Funds: Definition, Structure & Benefits

To many aspiring investors surprise, investing isn’t just about stocks and bonds. Alternative investments like private equity funds offer a way to grow wealth by investing in private businesses. But how do these funds work, and why do institutional investors flock to them?

This guide will break down everything you need to know, from types of private equity funds to exit strategies and potential risks. 

Whether you're new to investing or looking to expand your knowledge, this article will help you understand how private equity funds fit into the wider investment landscape.

What Is a Private Equity Fund?

A private equity fund is a pooled investment vehicle that raises money from investors to buy and improve private companies. Unlike stocks traded on public exchanges, these businesses are privately held, making them harder to access for everyday investors.

Private equity funds typically operate over long timeframes (often 7-10 years) and require investors to commit their money for the duration. The goal is to improve the businesses, make them more profitable, and then exit the investment through a sale or IPO (Initial Public Offering).

How Private Equity Funds Works Raise Capital: The fund collects money from institutional and accredited investors. Acquire Businesses: The fund managers (general partners) invest in companies they believe have strong growth potential. Grow Value: The fund actively works on improving business operations, restructuring, or expanding. Exit for Profit: After several years, the fund sells the company (often at a significant profit) and distributes returns to investors.

Types of Private Equity Funds

Private equity is not a one-size-fits-all investment. There are different types of PE funds, each with its own strategy and risk profile. The two most common are venture capital (VC) and leveraged buyouts (LBO) funds. Let’s explore them in more detail:

Venture Capital (VC) Funds

Venture capital focuses on startups and early-stage businesses that have high growth potential. These investments are riskier because many startups fail, but those that succeed—think of companies like Uber or Airbnb—can deliver massive returns.

Key VC Features

Who invests?	Typically, high-net-worth individuals and institutional investors.
Risk level	High—many startups fail, but the winners can generate huge profits.
Investment timeframe	Long-term (often 10+ years).

Leveraged Buyout (LBO) Funds

Leveraged buyouts involve acquiring established, often underperforming companies using a mix of debt and equity. The idea is to restructure the business, cut inefficiencies, and improve profitability before selling it at a higher price.

Key LBO Features

Who invests?	Institutional investors, pension funds, and wealthy individuals.
Risk level	Medium—buyouts involve high levels of debt, which increases risk.
Investment timeframe	Typically 5-7 years.

How Are Private Equity Funds Structured?

Private equity funds typically follow a limited partnership structure, consisting of:

• General Partners (GPs): The fund managers who make investment decisions and actively manage portfolio companies. They invest a small amount of their own money and earn management fees and performance-based rewards.
• Limited Partners (LPs): Investors who contribute most of the fund’s capital but do not take part in day-to-day management. They include pension funds, endowments, and wealthy individuals.

PE Fund Lifecycle

A private equity fund usually goes through the following lifecycle:

1. Fundraising: PE firms raise capital from LPs.
2. Investment Period (3–5 years): The fund invests in promising businesses.
3. Holding Period (5–7 years): The fund works on growing the businesses.
4. Exit Strategies: The fund sells investments, distributing profits to investors.

#1 Fundraising Phase 

Before a private equity fund can begin investing, it must raise capital from limited partners. During this stage, fund managers present their investment thesis, past successes, and target market opportunities. Investors then agree to contribute capital, often in multi-million-dollar amounts. Once enough capital is committed, the fund is closed, and investments begin.

#2 Investment Period 

Once fundraising is complete, the general partners start investing the committed capital. The investment phase typically lasts for 3–5 years, during which the fund acquires businesses based on its strategy (e.g., venture capital or leveraged buyouts). The success of a PE fund depends on choosing the right businesses and structuring deals effectively.

#3 Holding & Value Creation Period 

Unlike passive stock investors, private equity firms actively manage the businesses they acquire. The goal is to drive significant growth before selling them at a higher price. For example, a PE fund that acquires a healthcare company might streamline its processes, introduce innovative software, and expand its services to increase revenue.

The holding period is where the real magic happens—PE firms work tirelessly to make businesses more profitable and attractive for future buyers.

#4 PE Exit Strategies & Profit Distribution 

After some period (usually 5–7 years), the fund starts exiting its investments to generate returns for investors. There are several ways to do this:

• Initial Public Offering (IPO). IPO involves listing the company on the stock market to attract public investors. It tends to provide high returns, but those depend heavily on market conditions.

• Mergers & Acquisitions (M&A). This exit strategy refers to selling to a larger company looking for expansion. It usually offers strong and quick returns.

• Secondary Buyout involves selling the business to another private equity firm. It’s a common exit strategy for LBOs and typically provides moderate returns. 

• Recapitalisation. By recapitalisation, we mean refinancing the company while giving partial liquidity to investors. The expected return here varies but can provide a steady cash flow to investors. 

Once an exit is completed, profits are distributed among investors. Limited partners typically receive 80% of the profits, and fund managers usually earn a performance fee (carried interest) of 20% of the profits. 

Exploring the Potential Benefits & Downsides of PE Funds

Private equity funds have gained a lot of positive traction, especially among institutional and high-net-worth investors, due to their ability to generate substantial returns. The list of benefits is longer, but so is the one of potential downsides:

Private Equity Benefits	Private Equity Downsides
✅ High Potential Returns: Historically, private equity outperforms public markets.  ✅ Diversification: Low correlation with traditional stocks means reduced portfolio risk.  ✅ Operational Improvements: PE firms actively improve companies, increasing their value.  ✅ Long-Term Focus: Avoids short-term stock market fluctuations.	❌ Illiquidity: Investments are locked in for over 5 or even 7 years.  ❌ High Capital Requirement: Most PE funds require millions in investment, making them inaccessible to most retail investors.  ❌ Management Risk: Success depends on fund managers’ expertise—a poorly managed fund can lead to losses.  ❌ Economic Sensitivity: Market downturns can delay exits and impact returns.

Alternative Investment Options for Everyday Investors: Splint Invest vs. Private Equity Funds

Although they offer exciting opportunities, private equity funds are rather out of reach for many individuals. If you don’t have thousands to spare, alternative investments provide a more accessible way to diversify portfolios.

From as little as €50, Splint Invest allow investors to buy fractional shares of alternative assets like fine wine, rare cars, luxury watches, trading cards, or whisky. 

By exploring alternative assets available through Splint Inveest, you can enjoy some of the benefits of private equity—such as high potential returns and portfolio diversification—without the high risks and capital requirements.

Create your account today, explore our investment categories, and join the ranks of investors looking for alternative ways to diversify their portfolios!