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One common way for a business to raise money is to offer equity, or shares in the ownership of its company, in exchange for capital. If an owner opts to pursue this kind of funding, they may be able to choose between private equity and public equity. Private equity typically involves selling a stake in the company to a private equity fund or firm. Public equity, on the other hand, entails taking the company public via an initial public offering (IPO).Both types of equity funding have their pros and cons — both for companies and investors. Here’s a closer look at private equity vs. public equity, how each type of investment works, and how they compare.
What Is Public Equity?
Public equity is a form of funding raised by selling shares of a company on a financial exchange, such as the New York Stock Exchange or NASDAQ. A company’s common stock is the ownership interest in the company divided into equal shares. Money made from the sale of stock can be used for capital expenditures to fuel growth.
How Does Public Equity Work?
To raise public equity, a company must be publicly traded. A private company can go public through an IPO during which shares are offered to the general public for the first time. To launch an IPO, a company will typically work with an underwriter (often an investment bank) to create a prospectus, which is a detailed financial report designed to help potential investors make informed decisions. Once the prospectus is filed with the Securities and Exchange Commission (SEC), a date is set for the company's IPO. The underwriter will then help set the initial offering price and take on most of the responsibility for issuing the offering to investors. The underwriter may also take some interest in the offering by purchasing a specified number of shares at the initial offering and possibly also later when certain thresholds are met.Once listed on a stock exchange, the general public can begin buying shares. A public company’s stocks are liquid, which means that shareholders can sell them whenever they want or need to.
Pros and Cons of Public Equity
For businesses, issuing stock can be a good way to raise capital. However, it also comes with some downsides. Here’s a look at the pros and cons.
Pros
Opportunity to raise funds quickly. Going public allows you to reach a large number of investors all at once.
Raises your company’s profile. Issuing shares of your company helps generate publicity for your business, which can lead to other business opportunities. There is also prestige that comes with being listed on a major stock exchange.
Can help you attract talent. An IPO can help your business attract new hires by offering perks like stock options.
Cons
The process is complex and time-consuming. An IPO can take anywhere from six to nine months, or longer. This can divert your attention away from other areas of the business and, as a result, the business could suffer.
It can be costly. An IPO comes with a lot of expenses, including financial service and underwriting fees, as well as filing fees. Once your company goes public, it will be subject to additional reporting and disclosure requirements, which also cost money.
You’ll have to answer to shareholders. Shareholders that own voting stock can play a role in shaping the company’s board of directors and deciding on special issues. Also, the pressure to perform well for shareholders can sometimes cause managers to sacrifice long-term growth for short-term profits.
What Is Private Equity?
Private equity tends to come from private equity funds, which invest in companies that are not publicly traded in return for a stake in the business. Some private equity funds specialize in funding promising startups. Others, such as growth equity funds, invest in more mature companies in order to spur continued growth and, possibly, prepare for an IPO. There are also private equity funds that invest in failing companies with the goal of turning their fortunes around and re-selling them at a profit. Though private equity funds typically invest in private companies, some funds will buy publicly traded companies with the goal of taking them private, restructuring them, then selling them at a profit. Recommended:Types of Private Equity
How Does Private Equity Work?
Private equity firms typically get their funding from institutional funds and accredited investors (typically high net-worth individuals with expertise in investing).The fund will then invest in, or buy a company outright, aiming to grow that company and increase its profitability in a set period of time. Its investors (who are often experienced former executives) may also bring management experience, and industry expertise to that company. Typically, the ultimate goal is to sell the company or take it public on an exchange through an IPO, then divest and distribute the profits to the investors.
Pros and Cons of Private Equity
Private equity comes with both advantages and disadvantages. Here’s a closer look at both.
Pros
Provides a large infusion of capital. Raising money for a company isn’t easy, especially if a company is just starting or experiencing financial difficulty. Private equity firms can provide the capital necessary to support a new or struggling business.
Avoids potentially high interest rates. If a company is new or struggling, it may be difficult to qualify for small business loans with attractive rates and terms. With private equity investments, a company can avoid conventional financing methods.
Can expedite growth. Private equity firms often bring both capital and operational expertise, a combination that can bring a company to the next level faster than they could do on their own.
Cons
It can be a long process. It can take a while for a company to get on the radar of a private equity firm. You’ll need to convince investors why they should put their money into your business, leading to months of negotiations that may not ever materialize.
Dilutes your ownership stake. With private equity, you typically have to give up a substantial share of the business. In many cases, private equity firms demand a majority stake (more than 50 percent), which could leave you with only a minority interest.
You’ll have less control over your business. The private equity firm will likely want to be actively involved, which can be helpful. However, it also means you’ll have less influence over the day-to-day decisions and future direction of your company.
Private Equity vs Public Equity
When weighing public vs private equity, you’ll see that, while there are some similarities, these types of investment are very different.
Similarities Between Private vs Public Equity
Public and private equity investments both require business owners to trade a stake of the company to investors for capital. Investors hope their share in the company will gain in value and they’ll be able to cash out at a later date, having made a profit. Generally speaking, this is where the similarities end.
Differences Between Private vs Public Equity
One of the biggest differences between private equity and public equity is that private equity means the ownership of shares in a private company, while public equity means the ownership of shares in a public company.However, there are a number of other key differences between public and private equity. Here’s a side-by-side comparison.
Private Equity
Public Equity
Investors
Institutions and high-net-worth individuals
General public
Regulation
Not regulated by a government agency
Regulated by the SEC
Privacy
Companies do not need to disclose any information publicly
Companies are obligated to release financial information to the public
Interaction
Investors don’t have a say in day-to-day business decisions
Investors typically have a say in company decisions and strategy
Liquidity
Investors generally must hold investments for many years (typically until an exit event, such as a sale or IPO)
Investors can sell at any time
Business stage
Company can be at any point in their development
Company must be relatively mature, with a proven product and track record for growth
The Takeaway
Public and private equity are two important ways businesses can raise capital. Both forms of equity can provide significant benefits to investors and to businesses seeking to raise money and expedite growth. However, these two types of equity financing have significant differences, including who is allowed to invest, how much say investors have over the company, and how and when they can cash out. Understanding these differences can help you decide whether either form of funding is appropriate for your business. If you’d prefer to raise capital without giving up any equity in your business, another funding avenue to consider is applying for a business loan. There are many different types of business financing, including startup loans, Small Business Administration (SBA) loans, long-term business loans, and equipment financing, so you may be able to find the right fit for your needs.
Small Business Loan Tips
Generally, it can be easier for entrepreneurs starting out to qualify for a loan from an online lender than from a traditional lender. Lantern by SoFi’s single application makes it easy to find and compare small business loan offers from multiple lenders.
If you are launching a new business or your business is young, lenders will consider your personal credit score. Eventually, though, you’ll want to establish your business credit.
SBA loans are guaranteed by the U.S. Small Business Administration and typically offer favorable terms. They can also have more complicated applications and requirements than non-SBA business loans.
Let Lantern by SoFi match you with the right small business lender for your financing needs.
Frequently Asked Questions
Is private equity better than public equity?
Is private equity considered more risky than public equity?
Can Private Equity Firms Go Public?
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About the Author
Austin Kilham
Austin Kilham is a writer and journalist based in Los Angeles. He focuses on personal finance, retirement, business, and health care with an eye toward helping others understand complex topics.
