https://medium.com/stellerro/digital-securities-the-next-generation-of-private-equity-7face39df1e6STELLERRO: Digital Securities — The next generation of Private Equity
What is Private Equity?
The simplest definition of private equity is that it is Equity; Any shares representing ownership of or an interest in an entity that is not publicly listed or traded is considered private equity.
Private equity is considered an alternative investment class (An alternative investment is an asset that is not one of the conventional investment types, such as stocks, bonds, and cash) and consists of capital that is not listed on a public exchange. Private equity is composed of funds and investors that directly invest in private companies, or that engage in buyouts of public companies.
The Private Equity industry has evolved enormously from its humble beginnings in the 1940s to an industry worth more than £3 trillion today. The expansion can be seen on a global scale with just in the UK, the percentage of PE houses raising new funds had jumped from 44% in 2016, compared to 24% in 2015 and 12% in 2014.
Traditionally, Private equity firms have attracted clients such as sovereign wealth funds, institutional investors and pension funds, but falling yields in traditional asset classes and changes to pension regulations have led to new Private equity, retail investors family offices and a larger number of pension funds. Since the basis of private equity investments is a direct investment in a firm, often to gain a significant level of influence over the firm’s operations, some funds set a $250,000 minimum investment requirement while others can require millions of dollars. As a result, only large, stable, well-founded entities are usually the key players.
The origins of private equities
The origins of the modern private equity industry can be traced back to one of the major periods in the history of private equity and venture capital. One of the first known figures in private equity is JP Morgan — an American financier and banker who dominated corporate finance and industrial consolidation in the United States of America in the late 19th and early 20th centuries and who would in his early carrier finance railroads and other industrial companies throughout the United States. JP Morgan’s 1901 acquisition of the Carnegie Steel Company for $480 million represents the first true major buyout as they are thought of today. This was the first time in history where an individual has “bought out” a company and established a monopoly over the entire American steel market.
The thirty-five-year period from 1946 through the end of the 1970s was characterized by relatively small volumes of private equity investment, rudimentary firm organizations and limited awareness of and familiarity with the private equity industry. In January 1982, former United States Secretary of the Treasury William E. Simon and a group of investors acquired Gibson Greetings, a producer of greeting cards, for $80 million. By mid-1983, just sixteen months after the original deal, Gibson completed a $290 million IPO. This success attracted the attention of the wider media to leveraged buyouts. Between 1979 and 1989, it was estimated that there were over 2,000 leveraged buyouts valued in excess of $250 million.
In the year 2000, a mix of changes in regulatory, decreasing interest rates and loosening lending standards publicly traded companies would set the stage for the largest boom private equity had seen with buyouts that could once again obtain significant high yield debt financing and larger transactions could be completed. Over the next ten years, other major buyouts were becoming more common, including the acquisitions of mega-corporate such as Toys “R” Us, Metro-Goldwyn-Mayer and SunGard.
Obstacles in private equity
The top concerns for private equity funds today, are based on the competition equities has among themselves. There are thousands of PE funds out there with billions of dollars to spend and as the number of PE funds continue to grow, there is still a relatively limited amount of companies that may be available for sale. This makes entry sums extremely high which in turn, makes many companies try and avoid the auction process because it generally drives the multiple up higher. As the price tag goes up, the intensity goes up for all involved.
In addition to these costs, management fee and a performance fee are required in almost every venture (in some cases, a yearly management fee of 2% of assets managed and 20% of gross profits upon sale of the company). Another big risk in PE is the third-party risk. As their investments expand, private equity firms routinely engage third parties to perform services. Doing so increasingly exposes PE firms to outside contractors, who can easily damage the PE firm’s reputation and investments.
Another pending risk is one of fraud or misconduct. Private equity firms and funds have a long history of transparency with their limited partners and with regulators. This transparency is key when potential fraud or misconduct issues arise. PE firms are also under many compliance risks. The laws, rules, and regulations impacting the private equity sector have grown exponentially over the past several years. The private equity business model is no longer driven by performance alone — it now must balance costs with a duty to ensure a robust compliance infrastructure.
Attractions in private equity
Interest in PE is generally driven by its enhanced risk-adjusted return potential alongside concerns of low yield and high current public valuations.
Some of the biggest traction in private equity is diversification: the access to private companies that are otherwise hard to gain exposure to via other asset classes (where most investment is in public companies). PE investments have a low correlation with the traditional stock markets. As a result, intrinsic value is not necessarily impacted by factors that typically affect listed companies PE results in a different value creation model from public equity markets, as investors have a meaningful stake in the company they are investing in. PE managers take part in the result and are much more invested in the firm performance than in public equity firms. The said managers will usually implement longer-term strategies without short term public investor pressure as the companies being invested will usually have an experienced management team, leading to organizational growth and tend to be more successful, leading to higher investor returns.
PE provides an investment opportunity for investors willing to lock-up their capital, allowing managers to follow strategies otherwise unavailable. This is the major compensation for Illiquidity.
Digital securities growth in the space of private equity funds
The evolution of PE investors is a consequence of the financial crisis of the mid-2000s. Following the crisis, every asset class saw re-evaluation by investment boards and a government-incentivize shift from public to individual pension plans particularly in the UK and US, both resulting in stricter regulation and scrutiny of investments — yields were expected to be lower.
The traditional capital markets switching to a new innovate method of actualizing the funds invested using a fully extensive finance framework as digital securities were part of a long transformation. As mentioned above, the traditional markets are slow, more expansive, mostly non- transparent and full of bureaucracy compared to the new, digital asset-backed ventures. There is clearly a heightened interest by various stakeholders and multiple start-ups and financial institutions that understand the outstanding value of tokenization. Private equity funds in Europe and the United States play a major role in the evolution of blockchain technology in the private capital sector. Private equity funds have shown interest earlier in blockchain technology than other financial players mainly due to the decent entry sums and much lower fees compared to the traditional capital markets.
Due to legacy systems in the private fund infrastructure, the proportion of these PE funds that invest in blockchain technology is still small as a proportion of all PE funds focused on technology. However, a growing subgroup of private equity funds is embracing blockchain and smart contracts (as well as artificial intelligence and machine learning).
Indifference from the classic PE funds, investors embracing blockchain and smart contracts has the unique chance to take part in a fully managed, professional, mega-corporate fund with very flexible exit points, which was previously available for only a specific type and characterizes of an investor.
“Private equity funds based on Blockchain Technology forge a fully holistic value proposition which can’t be found today in traditional private capital instruments. The new innovative technology of Equity tokenization will drive value creation and attract retail investors in the masses. Based on our analysis, 15% of the global private capital sector will be based on digital securities by 2022.“
Aviad Gindi, CEO — Stellerro™
Bridging the gap between traditional capital markets and Digital Securities
Stellerro™ is the first Technological Underwriter of its kind, spearheading a disruptive umbrella for the emerging Digital Securities Offerings industry, ensuring companies meet the right compliance conditions of numerous regulated jurisdictions. Some of our expertise in navigating this innovate market successfully include:
Technology & A.I.: Integrated with existing data and business systems, backed by advanced AI developed in house, we help firms to innovate and differentiate themselves based on big data. Our database improves efficiency and productivity, eventually delivering cost savings and better revenues.
Opportunity comes knocking: Stellerro™ has a vast chain of partners, assisting us in finding and connecting with potential opportunities, market trends, eventually helping PE firms remain competitive.
Financial & Investments Expertise: Stellerro™ has much industry experience, with a team of professionals who spent many years in top tier investment houses, VCs and various financial ventures and have been involved in multiple Alternative Investment projects across all alternative asset classes, including private equity. On the other hand, Stellerro™ is aligned with top global financial institutions and investment funds as a dedicated partner in enhancing the integration of both ecosystems.
A full holistic solution: Stellerro™ keeps up to date with the latest Blockchain technologies including Smart contracts issuance, KYC & AML, Cyber-security Audit, innovative Tokenomics models, market analysis & target acquisition Identification, commercial due diligence, proprietary methodology of opportunity assessment, all ensuring strategy, advisory, selection, and implementation are all being done on the highest tiers out there and driving the highest value creation for numerous acquired firms and many more to come.
Stellerro ™, founded in 2018, stands at the threshold between traditional capital markets and the innovative world of Digital Securities backed by Blockchain technologies. Whether you’re an Asset owner, Entrepreneur or a Startup, Stellerro™ is your brain trust for data and knowledge, your Underwriter & Financial Distributor.