PE

Question 1

PE types

Answer 1

1) VC
2) buyouts
3) Mezzanine debt
4) distressed debt
5) PIPEs

Question 2

VC

Answer 2

relates to capital invested with entrepreneurs to fund their young and potentially fast-growing companies.

Question 3

Buyout funds or buyout transactions or public-to-private transaction

Answer 3

are related to capital provided in the mix of debt and equity to acquire shares in an established business or one of its business units. In most cases buyout transactions involve the use of leverage, which leads one to refer to them as leveraged buyouts or LBOs.

Question 4

Mezzanine debt

Answer 4

derives its name from its position in the capital structure of a firm: between the
ceilings of senior secured debt and the floor of equity.

Question 5

Secondary market

Answer 5

facilitates trading among investors of previously existing securities.

Question 6

Fund of funds

Answer 6

is a hedge fund or private equity fund with underlying investments that are predominantly investments in other hedge funds or private equity funds.

Question 7

Evergreen funds

Answer 7

are unlisted open-end funds which allow investors to subscribe to or redeem from these funds on a regular basis.

Question 8

Partnership agreement

Answer 8

is a formal written contract creating a partnership.

Question 9

Private placement memorandum (PPM)

Answer 9

is used interchangeably with Offering Memorandum and seeks to accomplish four key functions such as limited partner education, risk disclosure, risk assignment, assignment of decision-making authority.

Question 10

Distressed debt

Answer 10

is the outstanding debt of troubled companies, and is, therefore, subject to substantial risk.

Question 11

PIPEs

Answer 11

private investment in public companies

Question 12

PE structure

Answer 12

1. The private equity fund manager (who’s the general partner), who generally manages pooled money in the private equity fund on behalf of the investors in the fund, although there has been a recent growth in managed accounts and direct investing.
2. The private equity fund – a pooled investment fund that gains investments from limited partners, as well as the senior members of the private equity fund management company.
3. The portfolio company, including both its shareholders and its management; and in the case of a leveraged buy-out, the bank proposing to lend money.
4. Outside advisors, who are hired by the general partner to help with monitoring and management of the portfolio companies.

Question 13

PE manager role

Answer 13

1. Raise funds from investors. These funds are used to make investments, principally in businesses, which are, or will become, private companies.
2. Source investment opportunities and make investments.
3. Actively manage investments.
4. Realizing returns, which come from income and dividends, as well as from exiting the investments through sales to strategic or financial buyers or to public markets in the form of an initial public offering (or IPO).

Question 14

role of the buyout managers

Answer 14

Buyout managers look to leverage their expertise to turn around underperforming businesses, improve profitable businesses or to organize the company’s balance sheet and its finances.

Question 15

Venture capitalists often play an active role in

Answer 15

the company’s operations by either sitting on the board of directors or becoming involved in the day-to-day management.

Question 16

dry powder refers

Answer 16

to the amount of committed capital that has yet to be called by the general partner.

Question 17

life cycle pf PE fund

Answer 17

stage-1: Organizing and Fundraising (1-2 years)
stage-2: Identifying Potential Investments (1-4 years)
stage-3: Allocation of Capital (1-4 years)
stag-4: Management of Portfolio (2-7 years)
stage-5: exit or harvesting (4 year and more)

Question 18

PE fund source of income

Answer 18

1) management fee = 1-2% of the committed capital/raised fund
2) transaction fees paid by the portfolio company
3) deal fee/carried interest/incentive fee = a share in the profits of the fund;

Question 19

hurdle rate

Answer 19

pre-agreed rate of return (8% per annum) alculated on the amounts actually invested.v

Question 20

clawback provision

Answer 20

When a fund may perform very well in the first few years, and then investments may be unprofitable towards the end. In such cases, LPs could recover some of the incentive fees that were paid in earlier years

Question 21

PE risks

Answer 21

1) manager selection

2)

Question 22

performance measures

Answer 22

IRR (Internal Rate of Return)
TVPI (Total Value to Paid-In Ratio/total return)
DPI (Distribution to Paid-In Ratio/realized return)
RVPI (Residual Value to Paid-In /unrealized return).

Question 23

Paid-in-Capital

Answer 23

Paid-in-Capital = the capital contributed by LPs to the fund. Paid-in-capital is also known as “contributed capital” or “called capital” or sometimes “drawn capital.” Note that Paid-in-Capital is different than Committed Capital. Recall that an investment in a private equity fund occurs over time. An investor in the fund, known as a limited partner or LP, agrees (commits) to invest a certain amount in a fund, say $10 million, as and when the manager of the fund, known as a general partner or GP, needs the capital. In this case, the $10 million is the LP’s commitment. As the GP asks for a portion of this commitment (known as a “call”), the amount paid by the LP to the fund is known as Paid-in-Capital, or PIC (this is also known as “called capital”).

Question 24

Distributions

Answer 24

= the value of the cash and stock that the fund has given back (distributed) to the LPs. Distributions are typically low early in a fund’s life, ramping up over time as investments are exited.

Question 25

Residual Value

Answer 25

= the remaining value of the fund at a given point in time. Residual value is the value of the fund’s investments plus other fund assets (cash, etc.) less fund liabilities. So, for example, if the fund has 12 remaining investments with an aggregate estimated fair value of $100 million and another $3 million in cash, the Residual Value of the Fund is $103 million. Early in a fund’s life when investments are being made residual value is typically high (reflecting the value of the investments) and declines over time as the fund exits its investments and makes distributions to the LPs.

Question 26

Total Value

Answer 26

= the total value of the fund, which is the sum of the distributions and the residual (remaining) value of the fund at a given point in time. The mathematical relationship among these metrics is:

Question 27

IRR

Answer 27

speed at which investment yields returns. Solved through equation,
NPV=0=-PV(1+IRR)^-0+FV(1+IRR)^-n1+FV(1+IRR)^-n2 etc
n= number of years
NPV= net past value
FV=future value
IRR=internal return rate or discount rate
-PV(1+IRR)^-0 =-PV

Question 28

DPI (Distributions to Paid-in-Capital).

Answer 28

Distributions to Paid-in-Capital is the ratio of Distributions to Paid-in-Capital, and that value is expressed as a multiple, such as 0.5, 1.2, 2.0, etc., but also expressed as 0.5x, 1.2x, 2.0x, etc. The DPI equation is as follows: DPI=D/PI
To me, DPI is a critical evaluation tool. The higher DPI, the better. A DPI of 1.0x means that the fund has returned to LPs an amount equal to their Paid-in-Capital. A DPI of 3.0x means the fund has returned to LPs an amount equal to 3.0x their Paid-in-Capital. A 3.0x DPI for a fund is a good result.

Question 29

RVPI (Residual Value to Paid-in-Capital).

Answer 29

Residual Value to Paid-in-Capital is the ratio of Residual Value (the remaining value of the fund) to Paid-in-Capital, which is also expressed as a multiple, such as 1.0 or 1.0x. The RVPI equation is as follows: RV/PI

Question 30

TVPI (Total Value to Paid-in-Capital).

Answer 30

Total Value to Paid-in-Capital is the ratio of Total Value to Paid-in-Capital, also expressed as a multiple, such as 1.0x or 2.0x. The equation is as follows: DPI+RVPI (or D+RV/PI)

Question 31

Track record is

Answer 31

financial performance of a management team based on their previous ventures.

Question 32

Committed capital is

Answer 32

the cash investment that has been promised by an investor but not yet delivered to the fund.

Question 33

Milestone is

Answer 33

a set of goals that must be met to complete a phase and usually denotes when the entrepreneur will be eligible for the next round of financing.

Question 34

Angel investing refers to

Answer 34

the earliest stage of venture capital, in which investors fund the first cash needs of an entrepreneurial idea.

Question 35

Business plan

Answer 35

should clearly state the business strategy, identify the niche that the new company will fill, and describe the resources needed to fill that niche, including the expenses, personnel, and assets.

Question 36

Early-stage venture capital denotes

Answer 36

the funding after seed capital but before commercial viability has been established

Question 37

Junk-bonds are

Answer 37

debt instruments with high credit risk, also referred to as high-yield, noninvestment-grade, or speculative-grade debt.

Question 38

Balance sheet

Answer 38

a summary of assets, liabilities, and partners’ capital.

Question 39

Primary market refers to

Answer 39

the methods, institutions, and mechanisms involved in the placement of new securities to investors.

Question 40

Middle market refers to

Answer 40

companies that are not as large as those companies that have ready access to the financial markets but are larger than companies seeking venture capital.

Question 41

Distressed debt investing is

Answer 41

the practice of purchasing the debt of troubled or bankrupt companies, requiring special expertise and subjecting the investor to substantial risk.

Question 42

Chapter 7 bankruptcy is

Answer 42

entered into when a company is no longer viewed as a viable business and the assets of the firm are liquidated. Essentially, the firm shuts down its operations and distributes its assets to various claimants and creditors.

Question 43

Chapter 11 bankruptcy is

Answer 43

a reorganization process that attempts to maintain operations of a distressed corporation that may be viable as a going concern.

Question 44

Plan of reorganization is

Answer 44

a business plan for emerging from bankruptcy protection as a viable concern, including operational changes.

Question 45

Reorganization process (chapter 11 in U.S. bankruptcy laws),

Answer 45

has the goal of preserving the firm’s activities as a going concern.

Question 46

Return target is

Answer 46

a level of performance deemed necessary to satisfy the goals of the owners or beneficiaries.

Question 47

Spending rate is

Answer 47

the fraction of asset value spent each year. U.S. law requires that foundations spend a minimum of 5% per year on operating expenses and charitable activities.

Question 48

Modern portfolio theory (MPT) is

Answer 48

based on Nobel Prize–winning economist Harry Markowitz’s insight that because they have unique risk and return characteristics, less than perfectly correlated assets can be combined in a way that maximizes return for any given level of risk.

Question 49

Lumpiness

Answer 49

describes when assets cannot be easily and inexpensively bought and sold in sizes or quantities that meet the preferences of the buyers and sellers.

Question 50

Mixed approach

Answer 50

either starts with a bottom-up strategy, to which increasing top-down optimization is added, or starts as an iterative short process cycle, in which bottom-up screenings are followed by top-down analysis and then by bottom-up screenings.

Question 51

Vintage year is

Answer 51

the year a particular private equity fund commences operations.

Question 52

J-curve is

Answer 52

the classic illustration of the early losses and later likely profitability of venture
capital investments.

Question 53

Established team is

Answer 53

a group of general partners that have been able to generate a top-quartile performance for most of its funds (more than three funds) through at least two business cycles.

Question 54

Emerging team is

Answer 54

a group of general partners with limited joint history but with all the characteristics to become an established team.

Question 55

LIBOR

Answer 55

London Interbank Offered Rate