“The beginning of wisdom is the definition of terms.” (Socrates)
Words that we encounter frequently have a way of engraining themselves in our mind, often attached to a visceral feeling more so than an academic understanding of what they really mean. I’ll never forget when I first reflected on the word “convertible” and sheepishly realized that it wasn’t a coincidence that cars with the ability to convert from a hard top to no top had been given this name. How many other words in our daily vocabulary fall into this category without our awareness of it? For starters, what about the term “private equity”?
Based on a simple Capital IQ screen1, there are currently just shy of 1,100 private equity funds in the United States. While their charge may be similar – deploying capital and managing investments – they are led by individuals with disparate backgrounds, egos and philosophies around how to achieve common goals. This creates a dissonance in that the proliferation of private equity as an asset class has led many to view capital as an abundant & lifeless commodity, when the reality is that there are human decisionmakers behind that capital that give it personality. Indeed, I’ve heard several business owners say something to the effect of, “If you’ve met one private equity fund…you’ve met one private equity fund.” Despite the practical reality of this diversity amongst the field of investors, private equity has become a monolithic shorthand for capitalists seeking to generate returns that beat the market. Thus, I thought it was time to stop and examine the name “private equity”.
First, let’s see how the dictionary2 defines it:
- Private Equity (noun, ˈprī-vət \ ˈe-kwə-tē \) – equity in a business that is raised from private sources, as opposed to shares that can be traded publicly
Really? I don’t know about you, but to me this was somewhat boring given the headlines and histrionics surrounding the industry which, according to the dictionary, is apparently just providing a non-public source of capital. We’ll call this “Definition 1”. What was more interesting was when I broke up the term into its component parts, private and equity, to see if that might reveal some less intuitive nuances, and indeed it did. Please examine the following definitions of each taken independently:
- Private (adjective) – belonging to some particular person
- Equity (noun) – the quality of being fair or impartial; fairness; impartiality
This made me pause. Over the course of a 10+ year career in the business, having uttered the term probably tens of thousands of times I only recently realized that I may not have truly understood what it meant (or could mean). For example, I’ll admit that I had never associated equity with impartiality given my narrow focus on its application within finance. If you take the analysis further and trace the word to its Latin origin, Aequitas, you learn that it stems from the notion of symmetry, or fairness, and in ancient Rome it was held as the concept of fairness between individuals.
I also realized that I had too often been mentally defaulting to what it meant from my perspective. Using the definitions above and taking both words together, private and equity, you get very different meanings depending on whether you are buyer or seller. From our side of the table as investors, it’s easy to focus on the returns potential that our capital can generate, but what should a business owner and management team expect in return from their equity provider? According to the definition, the seller should not only receive capital, but fairness during the negotiation and an unbiased partner with whom they can solve future business challenges together. This led me to consider the following alternate definition of private equity that we’ll call “Definition 2”:
- Private Equity (noun) – Capital invested by fair and impartial decisionmakers who are ideal partners for a company and its owner’s needs
I would argue that every private equity fund is a “Definition 1” firm insofar as they are all providing equity capital, but its the best ones that embrace “Definition 2”. In other words, a business owner should focus not on the capital that a fund brings to the table but rather discerning whether an investor can address their unique needs and those of their business while helping to drive optimal outcomes irrespective of personal agenda. Said another way, what if the expectation of a private equity fund was not in its provision of capital but impartiality supported by relevant industry or situational expertise? My bet is that it’s the “Definition 2” funds that enjoy the greatest success and longevity in this business.
As a business owner, the hard part is finding your “Definition 2” private equity partner. This is especially true when you are meeting investors for the first time in the context of a transaction with the associated stress that can cloud judgement. The best way to know that a group is going to live up to your expectations is to develop an early relationship with them. Only then will be you be able to (hopefully) observe behavioral patterns that embolden your decision to proceed in deal discussions. In that spirit, this is a call to business owners to reach out to us for an introductory conversation to begin the journey in determining whether we can offer what you deserve in a partner.
1Private investment firms based in the U.S. that are currently operating, have completed at least one deal, have raised a fund of at least $50 million and focus on growth capital, buyout and/or recapitalization transactions
About ClearLight Partners
ClearLight is a private equity firm headquartered in Southern California that invests in established, profitable middle-market companies in a range of industry sectors. Investment candidates are typically generating between $4-15 million of EBITDA (or, Operating Profit) and are operating in industries with strong growth prospects. Since inception, ClearLight has raised $900 million in capital across three funds from a single limited partner. The ClearLight team has extensive operating and financial experience and a history of successfully partnering with owners and management teams to drive growth and create value. For more information, visit www.clearlightpartners.com.
Disclaimer: The views and opinions expressed in this blog are solely my own and do not necessarily reflect any ClearLight opinion, position, or policy.