Growth equity investment sits between venture capital and buyout private equity, targeting companies that have moved past the startup phase but need capital to scale. In this article, I break down what average growth equity investment looks like, how it compares to other strategies, and the key financial models used to evaluate these deals.
Table of Contents
What Is Growth Equity?
Growth equity involves investing in established companies with proven business models that require capital to expand. Unlike venture capital, which bets on unproven startups, or leveraged buyouts, which rely on debt, growth equity focuses on minority stakes in companies with strong revenue growth but limited access to public markets.
Key Characteristics of Growth Equity Investments
- Minority Stakes: Investors typically take 10%–30% ownership.
- Lower Risk than VC: Companies already have revenue and some profitability.
- Active Involvement: Investors often provide strategic guidance.
- Exit Horizon: 3–7 years, via IPO or acquisition.
How Growth Equity Compares to Other Strategies
To understand growth equity, we must contrast it with venture capital and buyout PE.
| Factor | Growth Equity | Venture Capital | Buyout PE |
|---|---|---|---|
| Stage | Expansion | Early-stage | Mature |
| Ownership | Minority (10%–30%) | Minority (5%–25%) | Majority (50%–100%) |
| Risk | Moderate | High | Low to Moderate |
| Leverage | Minimal | None | High |
| Hold Period | 3–7 years | 5–10 years | 5–7 years |
Financial Modeling for Growth Equity
Investors assess growth equity deals using discounted cash flow (DCF) and internal rate of return (IRR) models.
Discounted Cash Flow (DCF) Analysis
The DCF model estimates the present value of future cash flows:
PV = \sum_{t=1}^{n} \frac{CF_t}{(1 + r)^t} + \frac{TV}{(1 + r)^n}Where:
- PV = Present Value
- CF_t = Cash flow in year t
- r = Discount rate
- TV = Terminal value
Internal Rate of Return (IRR)
IRR measures annualized return, solving for the discount rate where NPV equals zero:
NPV = \sum_{t=0}^{n} \frac{CF_t}{(1 + IRR)^t} = 0Example Calculation
Suppose a growth equity firm invests $50 million in a SaaS company expecting $20 million in annual cash flow for five years, with an exit at $300 million.
Using a 15% discount rate:
PV = \frac{20M}{1.15} + \frac{20M}{(1.15)^2} + \frac{20M}{(1.15)^3} + \frac{20M}{(1.15)^4} + \frac{320M}{(1.15)^5} \approx \$218MThe IRR would be ~28%, indicating a strong return.
Risks and Mitigation Strategies
Market Risk
If the sector slows, growth projections may falter. Investors mitigate this by diversifying across industries.
Execution Risk
Management may fail to scale operations. Growth equity firms often install experienced executives.
Valuation Risk
Overpaying reduces returns. Investors use comparables and precedent transactions to set fair valuations.
Case Study: A Successful Growth Equity Investment
In 2016, a mid-market growth firm invested $75 million in a healthcare IT company at a $250 million valuation. By 2021, the company grew revenue from $50M to $200M and exited via IPO at $1.2 billion. The IRR exceeded 35%.
Conclusion
Average growth equity investments target profitable, scaling businesses with moderate risk and strong return potential. By using rigorous financial models and active management, investors achieve IRRs of 20%–30%. Unlike venture capital, growth equity avoids extreme failures, and unlike buyouts, it doesn’t rely on heavy leverage. For investors seeking balanced risk-reward, growth equity remains a compelling strategy.
