Growth equity is on a tear. Since 2014, $367 billion has been raised globally for the strategy, much of it by traditional buyout firms. For some firms, this is a return to their roots. While they started out raising funds that felt much closer to growth equity, they grew through the current cycle to find themselves concentrated mostly in the big buyout space. Raising a fund focused on fast-growing companies takes them back to where they started. For other buyout firms, growth equity represents a true adjacency expansion. They recognize that these funds aren’t much of a stretch from their core capabilities and strengths.
The investment straddles the space between buyout, which focuses on companies with years of proven cash flow and profitability, and venture capital, which invests in start-ups that are still developing products and persuading early adopters. The target companies have typically reached an inflection point and need capital to scale an already proven business model.
The appeal for investors is the risk/return profile, which is closer to buyout than to venture. While venture capital holds the potential for huge wins, it also risks big losses for investors that make the gamble. Growth equity, on the other hand, is less risky and offers buyout-like performance, without the need for heavy leverage to magnify returns.
A look at the distribution of deal returns, as tracked by the State Street Global Exchange Private Equity Index, shows that growth equity performance is very close to that of buyout funds, with much lower rates of capital impairment than venture capital (see figure).