Private Equity vs Venture Capital: Control Against Odds

A private equity fund buys stakes in established businesses and sometimes takes control of them; a venture capital fund buys minority stakes in young ones at priced rounds. Every other difference follows from that. Control decides who votes, where the money goes at entry, how a position leaves, what a loss looks like, and how many holdings one fund needs.

Most treatments of this comparison offer a table. Older companies on one side, younger on the other; bigger cheques here, smaller cheques there; whole companies against small slices. A table like that lists differences without saying where any of them came from. Ten minutes of memorising it still leaves a reader unable to read a single real transaction. There is one difference underneath all of them, and it is the amount of the company each side ends up able to direct. With that one difference in hand, the rest of the table stops being a list to memorise and becomes a set of consequences that can be worked out from first principles. A set of consequences is a much smaller thing to carry around.

One question, answered for both sides, then yields five more answers. Control against odds is the shape of the choice: one side sets out to direct a company that already works, and the other side takes a small position in a company that may not work yet and therefore has to hold a great many of them. Neither approach is safer than the other, and neither is known to produce more. Two funds could never settle a question of that size.

Why can this comparison not be made on the wrapper?

Start on the outside of the two funds, where beginners usually start. Two funds, both run by the invented investment manager Nilgiri Alternatives Advisors Private Limited: Nilgiri Growth Partners Fund II, with Rs 5,00,00,00,000 of commitments, and Nilgiri Venture Fund I, with Rs 1,50,00,00,000. Everything visible from outside them is the same. Both are settled as trusts under an indenture, with Nilgiri Trusteeship Services Private Limited as trustee and Nilgiri Financial Holdings Private Limited as sponsor, all invented. Both are closed-end, meaning investors promise capital once and the manager draws it down in instalments rather than taking it all on day one. Both have a contracted term with a shorter period inside it for making new investments. Both hold equity in companies with no quoted price. Both are registered with the Securities and Exchange Board of India, Fund II in Category II and Nilgiri Venture Fund I in Category I, and the conditions attaching to each category are set by that body, they change, and the current text sits at sebi.gov.in.

Think about two shops in the same market building. Same landlord, same lease, same shutters, same electricity meter. From the corridor they cannot be told apart, and comparing the two businesses means walking inside. The wrapper is identical, so the comparison has to be made inside it, on what each fund actually buys and what it can do afterwards. The identical wrapper is not a technicality but the reason every useful question about these two funds turns on the position rather than the vehicle.

What does each side actually buy, and what does that one word decide?

Private equityInvestment in unlisted established businesses, sometimes taking control. buys into businesses that already work. There are customers, there is a payroll, there are three or four years of accounts somebody can argue about, and quite often there is a founder who has been running it for fifteen years and would like to stop. In some of those transactions the fund buys enough of the company, and enough of the rights around it, to direct what happens next. A stake carrying those rights is a control positionOne where the fund holds a majority of the board and can appoint and remove..

Venture capitalMinority investment in young companies at priced rounds. buys into companies that may not work yet. The product may be half built, the customers may be a list of pilots, and the accounts may be nine months long. The fund takes a minority stake at a priced round, alongside founders who keep running the company and other investors who arrive later. Nobody hands the fund the steering wheel, and the fund is not asking for it.

Now here is the part that most comparison tables get wrong. Control in this subject area is not a percentage; it is a set of contractual rights, and the locked record used here fixes no shareholding percentage for any of Nilgiri Growth Partners Fund II's nine holdings. A share invented for the purpose would point a reader at the wrong thing, so no shareholding is stated for the fund at all. The record fixes the governance instead, and governance is where control actually lives: how many seats on a board of five, and how many of the seven matters in the shareholders agreement the company cannot do without the fund agreeing in writing.

Think about a joint household business, three brothers and a cousin. The cousin put in a quarter of the money. On paper that is a minority. But the agreement they all signed says the shop cannot be sold, cannot borrow, and cannot hire a manager without the cousin's written agreement. The honest answer to who is in charge is layered: the brothers decide what happens day to day, and the cousin decides what cannot happen at all. Deciding and blocking are two different powers, they sit with different people, and the percentages say almost nothing about either.

The grid above reads downwards rather than across, and the downward reading is the argument. Row one is the difference. Rows two to six are not extra differences to be remembered separately; each of them is what row one forces to be true. Five rows come one at a time below, each worked on the invented record and each traced back to control.

Where does the money go at entry, and why does control send it somewhere else?

Where the money goes is the question readers least expect to matter, and it is the one that changes how every transaction is read afterwards. When a fund pays money for shares, that money goes to exactly one of two places, and which place it goes to has nothing to do with the size of the cheque.

A primary subscriptionBuying newly issued shares, so the money reaches the company. is the company issuing new shares and the fund paying the company for them. The cash lands in the company's bank account and can be spent on a factory, a sales team or eighteen months of losses. Nobody who already held shares receives a rupee. A secondary purchaseBuying existing shares from a holder, so the money reaches that holder. is the fund buying shares that already exist, from somebody who already has them. The seller receives the cash, the company receives nothing at all, and the company's bank balance on the day after the transaction is exactly what it was the day before.

Nilgiri Growth Partners Fund II, invented, did both, and the two entries are almost the same size. The near-match in size is what makes the pair worth sitting with. At its Year 1 Q3 it paid Rs 55,00,00,000 for existing shares held by the founding shareholders of holding 1, Sahyadri Diagnostics Private Limited, invented. Not one rupee of that reached the company. At its Year 2 Q4 it paid Rs 50,00,00,000 to subscribe for new shares issued by holding 4, Bhavani Speciality Chemicals Private Limited, invented. All of that reached the company and not one rupee reached any shareholder. Same fund, same manager, cheques ten per cent apart in size, and opposite destinations.

Nilgiri Venture Fund I, invented, sits on the same side of that picture as holding 4. Its Rs 4,50,00,000 into Aravalli Learning Systems Private Limited, invented, was a subscription at that company's seed round, so the money went into the company. The Rs 4,50,00,000 is 3.0 per cent of that fund's Rs 1,50,00,00,000 of commitments, and the denominator is named on purpose. A percentage without its denominator is not a fact, and this record fixes no other denominator for that fund. How the rounds after that seed changed the company's share register is covered separately.

Control is held by the people who already have the shares, so buying control means buying from them, and money paid to a seller cannot also arrive in the company. A company can issue new shares all day, and every new share dilutes everyone including the founders, but it cannot issue the thing the existing holders are sitting on. For that reason a control entry so often runs through a shareholder, and a minority entry into a young company so often runs through the company. In this invented record it ran exactly that way. Other arrangements exist; what is described here is what these two funds did rather than what anybody usually does.

What can each fund compel, and what can it only stop?

Two instruments do the governance work in a private position, and they are not the same instrument. A board seatA vote in the room where the company's decisions are taken. is a vote in the room where decisions get taken. A reserved matterA thing a company may not do without a named holder's written agreement. is a line in the shareholders agreement saying the company may not do a named thing at all without the fund agreeing in writing, whatever the board decides. A reserved matter is a veto held under a contract and a board seat is a vote held in a room, and the two do opposite jobs: vetoes stop things and only votes start them.

Every one of Nilgiri Growth Partners Fund II's nine portfolio companies has a board of five, and the same seven reserved matters sit in the shareholders agreement of all nine. The seven, in the order the agreement lists them: one, issuing new shares or any instrument convertible into shares; two, selling the business or any material part of it; three, borrowing above a limit each agreement sets, for which the record fixes no number; four, changing the company's constitutional documents; five, appointing or removing the chief executive or the chief financial officer; six, approving the annual budget; seven, entering any transaction with a related party.

The seats are where the two kinds of position part company. At holdings 1, 3, 5 and 8 the fund takes three seats of the five. At holdings 2, 4, 7 and 9 it takes one seat of the five. At holding 6, Vaigai Edutech Private Limited, invented, it takes an observer and no director at all. Somebody from the fund sits in the meeting, hears everything and votes on nothing.

Count it up and the asymmetry is stark. The fund holds sixteen of the forty five board seats across its nine boards, being 35.6 per cent of them, and it carries a majority of the board at four of the nine. The fund holds all sixty three of the sixty three reserved matters, being every one of the seven at every one of the nine. At five of its nine holdings this fund can block seven named things and cannot make a single thing happen, and that sentence is the whole of what a minority position is.

Back to the four brothers for a moment. The cousin with the quarter share can stop the shop being sold and can stop it borrowing. Now suppose the shop badly needs a second branch, and the brothers do not want one. What can the cousin do? Write letters. That is it. A veto is a wall, and driving a car into a wall is not steering.

The contract is available to both kinds of position and the board is not, so a fund without control ends up with all of the stopping power and none of the starting power. The same holds on the venture side of the comparison. The contractual protections a venture fund takes are the same species of instrument. The record fixes what Fund II holds under contract at each of its nine holdings and fixes nothing of the kind for Nilgiri Venture Fund I. The mechanism is what matters: a minority holder of any kind is holding vetoes, and vetoes and votes will never be the same tool.

Can either of them put borrowing on the company it holds?

Debt on a portfolio company is where readers most often expect the two sides to separate, and it separates for exactly the reason everything else here does. Borrowing is reserved matter three at all nine of Nilgiri Growth Partners Fund II's holdings, so the fund can stop a company borrowing at every single one of them, including the five where it has no majority at all. Starting is a different act. Putting borrowing on a company means a resolution of that company's board and a signature on that company's behalf, and neither of those is a thing a veto reaches. Only a holder that carries the board can resolve to borrow. The ability to put debt on a company therefore travels with control, and the ability to prevent it travels with the contract.

Now the honest part, and it matters more than the mechanism. No borrowing figure is fixed at any of Fund II's nine holdings: not an amount, not a rate, not a lender and not a covenant. The arithmetic of a purchase funded partly with borrowed money is famous teaching, and every reader has heard of it, so the temptation at this point is to reach for a number. The arithmetic of borrowed money is covered separately in this subject area. Improvised figures would look complete and be made up. The record supports the structural claim instead: the two sides differ in what they are able to do about a company's borrowings, and the difference runs through the board rather than through any number.

How does a return arrive, and what is it that actually leaves?

Most people asked how a private fund makes money will say it sells the company. Half of that is right. Whether the company leaves or only the stake depends on which kind of position is held, and the difference is not a detail of vocabulary. The kind of position decides who chooses the day, who chooses the buyer, and whether there is anybody to negotiate with at all.

A holder that carries the board can resolve to sell the whole company, and selling the whole company is what reserved matter two is about. A buyer who wants all of a business needs somebody who can deliver all of it, and that somebody is the holder with the votes. A minority holder cannot deliver a company it does not direct. A minority holder can sell its own stake, to whoever will buy a stake, and a stake is a smaller and more awkward thing to sell. The buyer inherits the same position: a seat or none, seven vetoes, and no ability to make anything happen.

Nilgiri Growth Partners Fund II, invented, shows both. Five exit events happened across five of its holdings between its Year 6 Q3 and its Year 8 Q3, and they split cleanly by kind of position.

Take them one at a time. Each is a different route and the route is not decoration. Holding 1 was sold in full to a buyer already in the same industry in the fund's Year 7 Q2 for Rs 2,03,00,00,000. Holding 3, Tungabhadra Logistics Private Limited, invented, was listed and then sold down after the lock-in ended, for Rs 1,50,00,00,000 in total across the fund's Year 8 Q1. Holding 5, Palar Foods Private Limited, invented, was written off in full in the fund's Year 6 Q4 and returned nil, and a write-off is an exit in the plain sense that the position leaves the portfolio. Holdings 1, 3 and 5 are the control positions. Holding 2, Konark Polymers Private Limited, invented, went in the fund's Year 6 Q3 when the fund sold its own stake to another fund for Rs 63,00,00,000, and at holding 9, Indravati Packaging Private Limited, invented, the fund sold 40 per cent of its own stake in the fund's Year 8 Q3 for Rs 22,00,00,000 and still holds the rest. Holdings 2 and 9 are the minority ones.

The only thing that can be delivered to a buyer is the thing the fund is able to direct, so at a control position the fund can act on the company and at a minority position only on its own stake. Holding 5 is the reminder that acting on the company does not always mean selling it: that position ended at nil and left the portfolio without anybody paying anything for it. The words on the label of any exit usually reveal which kind of position it was, without further explanation. The counts repay care. Three different counts live in this fund and only one of them is five: four holdings have left the portfolio entirely, five are still held, and there are five exit events across five holdings. Holding 9 sat on both sides of that line at once.

One warning that belongs here rather than anywhere else. At the record date three of the four control positions have gone and four of the five minority ones are still in the portfolio, and it would be very easy to read that as control exiting sooner. The pattern is not evidence of anything. Four holdings and five holdings in one invented fund, entered across four years and read on a single day, cannot carry a claim about how either approach behaves. The record supports the mechanism, meaning which thing leaves, and supports no claim about when.

What does a loss look like on each side?

Both sides lose money. Nothing about control prevents that. Control changes the shape of the loss, and specifically whether the loss is ever finished.

Nilgiri Growth Partners Fund II, invented, has two holdings worth less than they cost at its record date, and they could not look more different. Holding 5 was a control position: three seats of five, entered in the fund's Year 3 Q1 for Rs 35,00,00,000, written off in full in the fund's Year 6 Q4 at nil. The position lasted 3.75 years and then it was over. Holding 6 is a minority position, the one where the fund has an observer and no director at all. Holding 6 was entered in the fund's Year 3 Q3 for Rs 30,00,00,000 and at the record date, 5.75 years later, it is still held and is carried at Rs 21,00,00,000, being 0.70 times its cost.

Look at what those two sentences actually are. Holding 5's nil is a fact about cash: nothing came back and nothing more will. Holding 6's Rs 21,00,00,000 is an estimate about a company nobody has bought, made at a date, and it can move in either direction the next time the valuation is struck. A closed loss is a decision somebody took; an open mark is an estimate somebody is still making, and confusing the two is how readers end up treating a carrying value as though it were money.

Now the honest limit on how far that can be pushed. The tempting reading is that holding 5 ended because a holder with three seats could decide to end it, and that holding 6 remains open because a holder with an observer cannot. The mechanism is real and it is worth carrying: winding a company down, selling it or closing it are all acts that need the board, and an observer votes on nothing. But this record does not say why holding 5 ended and holding 6 did not. The record supports something narrower and true: one of those positions could be ended by its holder and the other could not, and that difference comes from control and from nothing else.

How many holdings does each side need, and who decides that?

Numbers of positions look like a matter of taste until they are connected to the last five blocks, at which point they stop being a choice at all. A holder that can direct a company can act on what it learns about it: change who runs it, change the budget, stop it borrowing, sell it when a buyer appears. A holder that cannot direct it learns things it can do nothing with. A holder that cannot compel anything at any single company cannot rely on any single company, so the count has to carry the work that control would otherwise have carried. The derivation runs one way only.

Nilgiri Growth Partners Fund II, invented, holds nine, and put Rs 4,00,00,00,000 of acquisition cost into them. Nilgiri Venture Fund I, invented, holds eighteen investments on Rs 1,50,00,00,000 of commitments, being 30.0 per cent of Fund II's commitments carrying twice as many positions. One holding out of nine is 11.1 per cent of the count; one out of eighteen is 5.6 per cent. The arithmetic of the count halves what any single position is, before anybody knows anything at all about the position.

The figure above is doing two jobs and the second one is the more important. The record fixes every cost, so on the top row the nine blocks are drawn to scale: holding 1 the widest at Rs 70,00,00,000, being 17.5 per cent of the fund's acquisition cost, and holding 9 the narrowest at Rs 25,00,00,000, being 6.25 per cent. On the bottom row seventeen cells are question marks. The record fixes one of Nilgiri Venture Fund I's eighteen investments, being the Rs 4,50,00,000 subscribed into Aravalli Learning Systems Private Limited, invented, and fixes nothing about the other seventeen.

So the division should not be done. Rs 1,50,00,00,000 over eighteen is arithmetic anybody can do, and it would be an invention. The record does not say the eighteen were equal and does not say how much of the commitments was ever deployed. Committed is not drawn and drawn is not invested. An average built on that would look exactly like a fact and would be a guess wearing a decimal point. Seventeen question marks are the honest drawing, and a reader who learns to leave a gap visible has learned something more durable than any number could have filled it with.

One more thing the count does, and this one the record does support. Within Fund II's nine, holding 1 produced Rs 2,03,00,00,000, being 46.3 per cent of everything the fund had realised to its record date at the end of its Year 9 Q2. Nine positions, and one of them was very nearly half of all the cash that came back. Think of a caterer with nine bookings in a year, one of them a wedding that pays for the whole year. Nobody planned that; it is what a small number of unlike things does. The fewer positions a fund holds, the more of the answer sits inside any one of them. A holder without control therefore does not hold few.

Where does the line blur, and what follows from that?

Everything so far has been drawn as two clean columns, and now the columns have to be taken apart, because the fund used throughout is not one of them. Nilgiri Growth Partners Fund II, invented, describes itself in its own documents as a growth and buyout fund, and its nine holdings split four control positions against five minority ones. Fund II is not a private equity fund with a venture side. The fund is one whose positions were negotiated one at a time and landed where they landed.

The middle ground has a name. Growth equityMinority capital into an established business that is scaling. is minority capital into a business that already works and is getting bigger, and it borrows from both sides: the company is established, being the private equity half, and the position is a minority one, being the venture half. Fund II's holdings 4, 6, 7 and 9 are minority stakes in established businesses. None of the four is a venture investment, and calling them venture investments would be wrong; none of the four is a control position either, and calling them that would be wrong too.

What can these two records not establish?

A reader who has come this far will be tempted to set the two funds against each other and see who won. The comparison cannot be made, and the reason is worth understanding rather than merely accepting.

The two funds are different vehicles at different points on different clocks. Every figure for Nilgiri Growth Partners Fund II is as at the end of its own Year 9 Q2, being 8.50 years after its own final close, with six quarters of its contracted term still to run and five of its nine holdings never sold to anybody. Nilgiri Venture Fund I runs on its own clock, and Aravalli Learning Systems Private Limited runs on a third one again. Every date in this comparison therefore has a fund attached to it. A multiple struck on one of these records set against a multiple struck on the other is not a finding; it is two different measurements of two different things on two different days.

The control group's result is therefore not set against the minority group's, even though both sit inside the same fund and both are locked. The reason is arithmetic rather than delicacy: with four positions on one side and five on the other, removing any single holding moves each figure a long way, and the two ranges that produces overlap. Where that comparison is made in this subject area it is made with the whole strip-out printed beside it, and that is covered separately. Nine holdings and eighteen investments in two invented funds are not evidence about private equity or about venture capital. The two records are a worked example of a mechanism, and nothing more.

What do the nine look like sorted by position instead of by size?

Here is the whole portfolio of Nilgiri Growth Partners Fund II, invented, as at the end of its Year 9 Q2, sorted by position rather than by size. Read together, the third and fourth columns make the fifth stop being a surprise.

Notice what the fifth column does not contain. The fifth column carries no multiple for the control group set against a multiple for the minority group, and that omission is deliberate rather than an oversight. Four holdings and five holdings, read on one day in one invented fund, establish nothing about control as an approach, and the two group figures printed side by side would invite exactly the conclusion the record could not support. The table carries the mechanism instead, one row at a time.

How does somebody who reads these funds for a living actually use this?

Take an analyst inside an institution that has committed money to funds like these, or somebody in a diligence team being asked whether a manager does what its documents say it does. Either of them is handed a report with company names, cheque sizes and a set of multiples. Here is the order in which the control question changes what they do next, and none of it needs a single new number.

First, before reading any performance line at all, they read the governance schedule: seats and reserved matters, holding by holding. The governance schedule tells them which of this manager's positions could have been acted on and which could only ever have been watched. A manager describing a turnaround at a company where it had one seat of five is describing something it asked for rather than something it did, and the difference is worth knowing before the multiples arrive rather than after.

Second, on every entry, they ask where the money went. A cheque that bought out a founder and a cheque that funded a factory show up identically in a cost column and mean completely different things about what the business had to work with afterwards. Reading a cost column without knowing the destination of the money is how a reader ends up crediting a company with capital it never received.

Third, on every exit, they read the two words that describe what left. The company, or the stake. The two words tell them which kind of position it was, whether the manager chose the timing, and whether there is a whole business somewhere with a new owner or simply a different name on a share register.

Fourth, on everything still held, they separate decisions from marks. A written-off holding is a completed sentence about cash. A holding carried at some fraction of cost is an estimate that is still being made, and the practitioner's habit is to keep a running note of how much of a fund's stated value has never been sold to anybody. In Nilgiri Growth Partners Fund II, invented, that figure at the end of its Year 9 Q2 is Rs 2,82,00,00,000 across five holdings that have not been sold. The running note is not a criticism of the fund. The note is a fact about what kind of number is being shown.

A household version of the same discipline sits closer to home than it looks. Somebody who has bought a small share in a cousin's workshop and somebody who runs their own shop will both say they are in business. Asked what happens if the workshop needs to be sold next year, the first has a conversation to report and the second a decision. Same industry, same street, entirely different questions to ask about either of them.