Small to medium enterprises are bound to reach a point where they demand growth. When this happens, the opportunity for outside capital can present itself. One of these options is private equity.
Private equity can help businesses that are exploring opportunities to scale. In this article, we’ll cover how private equity works for SMEs raising equity.
Understanding Private Equity
Private equity is money invested in a business in exchange for an ownership stake. This is different from taking a bank loan. In a loan, you must repay the money with interest, regardless of your profit. Private equity investors buy a part of your business. They expect to make their money back when the business is sold or reaches a significant milestone.
The typical model looks like this: investors buy shares, help the business grow in some way, and then exit after five to seven years. The exit usually happens when the business is sold to a larger company or another investment group. In South Africa, this model is still emerging for SMEs. Many small businesses here are not yet large enough in absolute terms to attract big investment funds.
What is the Difference Between Private Equity and Public Equity?
Private equity refers to investments in companies that do not have publicly listed shares that can be traded. These investments are typically made by companies that raise capital from institutional and accredited investors.
Public equity, on the other hand, refers to investing in publicly listed shares that are traded on the stock exchange. Unlike private equity, these shares offer high liquidity and are accessible to the general public, with value often determined by daily market forces and company performance transparency.
Types of Private Equity Investors
When small businesses consider private equity, they generally meet four types of investors.
1. Venture Capital or Angel Investors
Venture capital and angel investors look for businesses that display high-growth potential.
These investors buy part of your company and provide finances to improve product development, sales, and marketing.
VCs typically expect ten times their return on investment and often go for high-growth businesses like startups in tech, renewable energy, fintech, and other solution-driven industries.
2. Growth Equity Investors
These investors focus on businesses that already make money. They give cash to help the business grow, usually in exchange for a small share. Their goal is to make the business five times bigger in three to four years and then sell it. Businesses like logistics, factories, or retail products often attract these investors.
3. Buyout Investors
Buyout investors buy most of a company, often taking a bank loan to cover part of the cost. They use the company’s profits to pay back the loan while helping the business grow. In South Africa, this usually happens with mid-sized factories or service companies. They usually sell the business in about five years for two to three times what they paid.
4. Larger Companies
Sometimes a small business is sold to a bigger company. That company might be backed by private equity. The small business then becomes a new part of the bigger company. Its work helps the bigger company grow. At the same time, the small business gets access to better management and systems.
How Private Equity Really Works
A lot of people think private equity investors will fix all their problems and make the business huge. That is not true. Most investors just bring money. They usually do not run the company. They check businesses mostly to see if they can make money from them.
If you think about private equity, ask yourself:
- Can my business run on its own?
- Can it grow without me?
- Is there a team that can run it if I leave?
If the answer is no, private equity might not work for you. Investors want businesses that can run by themselves. It’s important that businesses don’t rush into looking for private equity investors. If your business is not ready, you can explore other ways of finding funds for your business.
Not every business should look for private equity. One of the alternative funding options includes debt financing. This is essentially a bank loan. You borrow money and pay it back with interest. You do not give up any shares. In South Africa, banks and alternative financiers give loans for small businesses. The key is to manage cash so you can pay on time.
Private Equity Tips for Small Businesses
1. Growth Must Be Clear
Investors need proof of growth. They check sales, profits, and market size. Without numbers, it is hard to get money.
2. Size Matters
Investors care about the total value, not just growth rates. Even if your business doubles sales, it may still be too small to attract investors in South Africa.
3. Continuity Is Key
Investors want a business that works without the founder. You need clear management and a plan for who runs things if you leave.
4. Realistic Valuation
Many owners expect too much money. Investors want a good return. Know what similar businesses in South Africa sell for.
5. Network Benefits
Private equity investors have contacts. They can open doors to new clients or partners. This helps growth, but should not be the only reason to take money.
Practical Steps for SME Owners Thinking About Private Equity
1. Check Readiness
Look at growth, profits, and your team. If your business cannot run without you handling each and every aspect, look at other options.
2. Prepare Your Numbers
Have clean financial statements, plans, and market info. Investors trust transparency.
3. Look at Local Funds
Small growth equity funds or angel investors in South Africa are more realistic for SMEs than huge private equity firms. Find funds that invest in your industry.
4. Learn Deal Types
A minority investment lets you keep control but requires teamwork. A majority buyout gives investors more say in operations.
5. Plan Your Exit
Have a clear plan for leaving the business. Investors want to know how and when you might step out.
