Deal number five of private equity is represented by replacement financing. If you remember, replacement financing is the financing of a mature company. However, this definition doesn't help us a lot. We have to better understand what stays behind this label. The word replacement can help us because in replacement financing, the role of private equity is to replace another existing shareholder. We have to better understand this mechanism for two different reasons: The first one, replacement financing is a very broad definition, and behind this definition, we have evidence of three different deals we have to investigate. The other aspect is related to the fact that in replacement financing, we modify a bit, the DNA of private equity. Where the DNA of private equity is based on the concept that the company needs money, and the private equity is going to finance the company. In the case of replacement financing, we modify this definition. Step by step, let's start, and first of all, we have to highlight the names of the three different deals we find in replacement financing. The name are the following, buyout or leveraged buyout, PIPE, and corporate governance deals. Let's start with buyout. Buyouts are very popular within a private equity, especially in the US and UK. If I consider these two markets, buyouts more or less represent 40 - 45% of the market of private equity. What are buyouts? Buyouts are deals of private equity based on a very specific technicality, where the technicality is the technicality of the buyout. With a buyout, the role of private equity is not yet to finance a company. But the role of the private equity investor is to identify a potential target to buy 100%. When the private equity identifies the potential target to be bought, the private equity creates an SPV; where SPV, as I mentioned in the clip before, means special purpose vehicle. The SPV is an empty shell where the private equity investor puts equity and becomes the 100% shareholder. The private equity collects a lot of money to debts, and on average the proportion between debt and equity is 80%/20% or 90%/10%. That means the SPV uses a lot of debts. Using debt and equity the SPV receives an incredible amount of cash. With this amount of cash, the SPV is able to buy another company. And the acquisition could be an acquisition, or even by a negotiation. Or it could be also, a very aggressive and hostile acquisition that could also happen through a public offer launched in the stock exchange. At the end of the process, the SPV becomes the owner of the target. That means the private equity investor becomes the 100% owner of the target. The only consequence of this process is that the company votes by the private equity, receives inside the balance sheet all the debt of the SPV. After the acquisition, the purpose of the private equity investor is not to manage the company, but to keep it in the portfolio for a very short time, and to sell it to another buyer. But this time, the selling process is, honestly, very easy. Because the private equity investor has the possibility to sell 100% of the company. These deals could be good or could be bad. In some cases, it could be honestly very aggressive, especially if the private equity investor is going to use a lot of leverage to buy the target. The second deal is represented by PIPE. The term PIPE stands for private investment in public equity. Also in this case as in attempting a buyout, the DNA of the deal of private equity is honestly modified. It’s modified because the starting of the story is not the company needing money. The starting of the story is, again, the private equity willing to run an investment. In this case, the investment of the private equity is a minority investment run in the company listed in the stock exchange. That's pretty strange because in the first clip I said private equity is not public equity, and this time, the private equity investor is going to invest in a listed company. This is not strange. Because the idea of the private equity investor is to make a profit, not trading shares in the stock exchange; but buying the shares and selling them to another buyer using a price which is not related to the stock exchange. How does it work? It works in a way in which the private equity investor is able to buy a minority share in the bet, the gamble, the assumption is that this amount of shares could be enough to decide who will be the owner of the company. As you can imagine, if you have enough shares to decide who will be the owner of a certain company, you do not have a problem in negotiating pricing. These kinds of deals are becoming very popular. In the US but especially in Europe where the targets are represented by banks, and private equity investor are going to invest in banks listed in the stock exchange. The last deal is represented by corporate governance deals. Also in this case, the DNA of private equity is modified because the beginning of the story is not related to a need of money of the company. The beginning of the story is represented by the fact that the company needs to reorganize its corporate governance. For example, in a succession starting within a family business. In this case, the role of the private equity is to buy some shares from an existing shareholder to become an insider of the company and to work as an insider to completely redesign completely the corporate governance of the company. If the private equity will do a great job, the private equity will be able to sell the shares to the new shareholders of the company. In countries in which family business is very important like in Italy, in Spain, and in Germany, these deals are nowadays very common.
