What Is Private Equity and How Does It Buy Companies?

A founder who gets a call from a private equity firm is rarely being offered a simple purchase. They're being offered a partnership with a financial investor that has a fund to deploy, lenders to satisfy, and a date by which it expects to sell the company again. That structure explains almost everything about how a PE deal feels from the inside: the focus on earnings, the borrowed money, the new board, the reporting rhythm, and the second sale that's planned before the first one closes.

This article explains what private equity is, how a fund is built, the main kinds of deals, how a buyer values and finances a company, what usually changes for the founder afterwards, and how the model differs from venture capital. It's one route among the options covered in the exit options for business owners overview. The point isn't to sell you on it or talk you out of it. It's to let you read a term sheet and understand who is on the other side of the table.

What private equity is

Private equity means investing in companies that aren't listed on a public stock exchange, usually by buying a large share or all of the company. The most common form is the leveraged buyout. In their 2009 Journal of Economic Perspectives paper, Steven Kaplan and Per Strömberg describe it this way: a company is acquired by a specialized investment firm using a relatively small portion of equity and a relatively large portion of outside debt financing. They add that the firms doing this today refer to themselves, and are generally referred to, as private equity firms.

Two features of that definition matter for founders. The buyer is a professional investment firm, not an operating company, so it has no plan to merge your business into its own. And the acquisition leans on borrowed money, which shapes how the buyer prices the deal and what it expects the company to do afterwards.

How a PE fund is built

A PE firm doesn't usually buy companies with its own money. It raises a fund, and the fund buys the companies. Three roles are worth knowing.

The general partner (GP). The ILPA glossary defines the general partner as the managing partner in a private equity management company, with unlimited personal liability for the partnership's debts and the right to take part in managing it. In plain terms, the GP is the PE firm's deal team, the people you'll actually meet.

The limited partners (LPs). These are the investors who put money into the fund. The same glossary defines a fund commitment as a limited partner's obligation to provide a certain amount of capital to the fund for investments. The fund pools their money, and the GP decides where it goes.

Committed capital. ILPA defines this as the total amount of capital pledged to the fund. It isn't all handed over on day one. Cash up to the commitment can be requested, or drawn down, by the managers usually on a deal-by-deal basis, and the glossary describes the call as the moment when money that was already pledged is actually transferred to the investment target.

That's why a PE buyer can tell you it has a fund of a certain size and still need weeks to close. It may need to call capital from LPs, and it will certainly be arranging debt alongside.

How the GP gets paid

Two structures matter, and the exact terms vary by fund. The management company earns a fee for running the fund, and the GP earns carried interest, a share of profits. ILPA's glossary describes carried interest as a bonus entitlement accruing to the management company, payable once investors have been repaid their original investment plus a defined hurdle rate, if one applies, with the details varying by each fund's limited partnership agreement. You'll sometimes see these summarized with a short headline formula, but treat any such formula as a starting point, not a rule. What counts for you is the effect: the GP does best when the fund's investments are sold for far more than was paid, which is why a PE buyer thinks about your company as something to be sold again.

The fund's life cycle

A fund moves through stages, and you'll be dropped into one of them.

1. Fundraising. The GP raises commitments from LPs and the fund closes.
2. Investment period. ILPA's glossary defines the commitment period as the time within which the fund can make investments, as set in the fund's agreement. New platform deals are signed in this window.
3. Value creation. The fund owns the companies and works on growing them. Follow-on investments and add-on acquisitions happen here.
4. Exit. The fund sells the companies. The ILPA glossary lists the usual routes: a trade sale (described as the most common), a stock market listing, a share repurchase by the company or its management, a refinancing, and the sale of the investment to another PE firm.
5. Wind-up. The glossary defines the termination date as the date in the agreement by which the fund must cease operations and liquidate its investments.

The practical lesson: the fund has an end date, so every company in it has an expected sale date, even if it's flexible. If you sell to a fund in year two of its investment period, you have a different counterpart than one in year eight.

The main types of PE deals

"Private equity" covers several different kinds of transaction. The label on the deal tells you how much control you give up and what the buyer wants from you.

A few notes on these.

LBO. ILPA's glossary describes a leveraged buyout as a takeover using a combination of equity and borrowed funds, in which the target company's assets generally act as collateral for the loans and the acquirer repays the loan from the cash flow of the company it bought. That last point is the core of the model. Your company's own earnings service the debt used to buy it.

Growth equity and minority recapitalizations. Not every PE transaction is a control sale. Minority deals are structured differently and carry a different governance relationship, which is why a founder should know which type is on offer before negotiating anything. ILPA's glossary also lists recapitalization, the reorganization of a company's capital structure, as an alternative exit strategy for buyout sponsors, which is a reminder that the same technique can be used on either side of a deal.

Buy-and-build. The glossary describes consolidation, also called a leveraged rollup, as an investment strategy in which a buyout firm acquires a series of companies in the same or complementary fields. A founder who sells as an add-on usually sells to an existing platform company, with the platform's management team in charge. A founder who sells the platform is more likely to be asked to lead the consolidation, or hand it to a new CEO.

Secondary buyout. The company changes from one fund to another. It's common enough that Bain's 2026 report tracks a "sponsor-to-sponsor" exit channel alongside sales to corporate buyers and public listings. See the strategic vs financial buyers comparison for how PE and corporate buyers differ in what they pay for.

How PE values and finances a deal

The focus on EBITDA

PE buyers price companies mainly off earnings, and the usual measure is EBITDA: earnings before interest, taxes, depreciation and amortization. A buyer will quote a price as a multiple of EBITDA, then adjust for the net debt the company carries. It's a shorthand for cash generation, and it matters because that cash is what pays the lenders.

This is why PE diligence digs into how your reported EBITDA was built. Owner-managers often run personal expenses through the business, pay themselves unusually, or have one-off costs. Buyers normalize these. A company that's profitable but can't show clean, repeatable earnings gets a lower multiple, or none. The broader methods are in business valuation methods.

Leverage

The buyer funds part of the purchase price with debt. The share has moved over time. In its Global Private Equity Report 2026, Bain describes an illustrative US example: in a typical 2015 buyout, 50% of the purchase price was borrowed at a 6% to 7% interest rate, whereas today borrowing costs are in the 8% to 9% range and leverage is closer to 30% to 40%. Bain says that, with less leverage and no multiple growth, these deals only work if EBITDA rises by about 10% to 12% a year to generate a 2.5x return over five years, compared with roughly 5% a year in the 2015 example.

Treat those as one consultancy's illustrative large-deal numbers, not a rule for every market. But the direction is useful for a founder. Debt is cheaper to use when rates are low and deals are priced to grow, and more expensive now, which pushes buyers to look for companies where earnings can really grow, not just be financially re-engineered.

What the lenders require

Debt comes with conditions: reporting requirements, limits on further borrowing, and covenants that tie to the company's earnings or cash. A founder who has run the company without any of that will notice. Missing a covenant isn't a rule-breaking scandal, but it brings lenders into decisions you used to make alone.

What changes for a founder after a PE deal

This is where most founders feel the real difference. The following list describes common patterns, and each one is negotiated, so read it as a checklist of things to ask about.

• The board changes. The PE firm usually takes board seats and sets the agenda. If you sold a majority, you no longer control the board, even if you remain CEO.
• Reporting gets heavier. Expect monthly management accounts, a budget approved by the board, KPIs tracked against a plan, and lender reporting on top.
• A value-creation plan is agreed. The buyer has a thesis for how earnings will grow: new markets, pricing, add-on acquisitions, cost discipline, a stronger management layer. The plan comes with targets, and your role is judged against them.
• The management team may change. Buyers often add a CFO, strengthen sales leadership, or replace a CEO who can't scale the business. This links to professionalizing a business, which many founders have to do anyway.
• You may roll equity. In many control deals the founder reinvests part of the proceeds as shares in the new company, so the founder gets a "second bite" when the PE firm sells. That has upside, and it also means part of your payout isn't cash. It's a minority stake in a leveraged company, subject to the terms in the shareholder agreement.
• You may stay or you may leave. Some founders remain as CEO for a defined period. Others step into a chair or advisory role, as covered in founder CEO to chairman. Some leave after a transition.
• A holding period starts. Bain's report says the average holding period at exit for buyout funds is hovering around seven years, up from an average of five to six years from 2010 to 2021. That's a global figure from a consultancy's analysis of the industry, not a promise about your deal. But it shows why a founder shouldn't assume a quick second sale.
• The next exit is planned. The fund will sell to a strategic buyer, another PE firm, or occasionally the public markets. If you hold rollover equity, your outcome depends on that sale.

One more point on culture. A founder who has run on instinct for fifteen years may find the shift to a plan-and-report rhythm harder than the financial side. That isn't a flaw in either side, but it's why the conversation about governance and decision rights should happen before signing.

What the research says about outcomes

Debates about PE tend to be loud, so it helps to see what careful studies actually found.

The Davis, Haltiwanger, Handley, Jarmin, Lerner and Miranda study in the American Economic Review (2014) tracked about 3,200 US target firms and their 150,000 establishments before and after buyouts, comparing them with controls matched on industry, size, age and prior growth, across deals from 1980 to 2005. They found that buyouts lead to modest net job losses but large increases in gross job creation and destruction, and that buyouts bring gains in total factor productivity at target firms, mainly through accelerated exit of less productive establishments and greater entry of highly productive ones.

The balanced reading is that PE ownership tends to reshape a company, not leave it alone. That means productivity gains for some parts of the business and disruption for others. The study covers US buyouts in a past period, so it's evidence about a pattern, not a prediction for a specific founder's business or for any region.

Kaplan and Strömberg's paper takes a longer view of the industry, comparing the then-recent wave with the 1980s wave. They describe the economics of the firms and the transactions, and set the recent wave against the buyout wave of the 1980s. The takeaway for a founder is that the buyout model isn't new, and that it's been studied for decades without a single verdict.

Market conditions matter too. Bain's 2026 report says buyout investments reached $904 billion in 2025, a 44% increase over 2024, while the number of deals fell 6% to 3,018, pushing the average disclosed deal size to a record $1.2 billion. It also reports roughly 32,000 unsold companies worth $3.8 trillion in the industry's portfolios. Two things follow. These are global numbers dominated by very large transactions, so they say little about the size of fund likely to approach an owner-led business. And a large stock of unsold companies means funds are under pressure to sell, which affects both how they value what they own and how patient they are with it.

How PE differs from venture capital

Both are fund-based investors with GPs and LPs. They buy different things for different reasons.

If your company is profitable, has steady cash flow, and isn't built around exponential growth, a buyout investor is the more natural conversation. If it's burning cash to capture a market, venture is. The venture capital entry covers that side.

Questions to ask before you talk to a PE firm

1. What type of deal is this? Control buyout, growth equity, minority recap or add-on.
2. Where is the fund in its life? An older fund is under more pressure to sell.
3. What's the value-creation plan? Ask for the specific targets your role is measured against.
4. How much of my payout is cash, and how much is rolled equity? And on what terms does the rolled equity get paid out?
5. Who controls the board and the CEO decision? Get this in writing.
6. What debt will the company carry, and what covenants? Your freedom to invest depends on them.
7. What's the plan for the management team? Including you.

Key Facts: Private equity

• A leveraged buyout is the acquisition of a company by a specialized investment firm using a relatively small portion of equity and a relatively large portion of outside debt, according to Kaplan and Strömberg (2009, Journal of Economic Perspectives).
• A PE fund is a partnership: the general partner manages it, and limited partners commit capital that is drawn down deal by deal (ILPA glossary).
• The fund has a defined commitment period and a termination date by which it must liquidate its investments (ILPA glossary).
• A study of about 3,200 US buyout targets found modest net job losses, large increases in gross job creation and destruction, and productivity gains at target firms (Davis et al., American Economic Review, 2014).
• In an illustrative US example, a typical 2015 buyout was 50% debt-funded at 6% to 7%, while today leverage is closer to 30% to 40% at 8% to 9% interest, so deals need about 10% to 12% annual EBITDA growth for a 2.5x return over five years (Bain, 2026).
• Global buyout investment reached $904 billion in 2025, up 44% on 2024, across 3,018 deals, and the average holding period at exit is around seven years (Bain, 2026).

Related reading

• Exit Options for Business Owners
• Strategic vs Financial Buyers
• Management Buyout
• Business Valuation Methods
• EBITDA
• Venture Capital
• Professionalizing a Business