So the differences are fairly simple.
Private Equity: You own equity shares in private companies. Think of this like buying shares in a particular stock. You own a portion of the company. However, these are not publicly traded companies.
Private Credit: Instead of buying equity stakes in the company, you loan them money. You don't own any of the company.
So, the income from private equity comes from the equity stake you have in the company going up. So, if you buy 10% of a company that is worth $1M and they sell that company for $10M, you'd get $1M back.
Private credit, if you loaned a company worth $1M $100,000 at a rate of 5%, you'd earn 5% a year on your loan. If the company sold later on for $10M, it wouldn't matter because all you've done is loaned them money. You don't own any equity.
Private equity is typically the riskier investment, because you are not paid anything in terms of interest or anything. You are simply banking on the company being worth more down the line. With private credit, they are obligated to pay you a rate of interest every year, and you will realize returns on your loaned capital every year.
In the event of a bankruptcy, debtholders are paid back before equity holders as well. With private credit, you are higher on the totem pole than equity.
All in all, private equity is the higher risk investment that brings with it much higher reward.Take for instance the example above, you would have realized a 1000% return on your initial capital. Say the above examples span over the course of 5 years. In the private equity situation, you'd have realized a 1000% return in 5 years. In the private credit situation, you'd be paid $5000 a year for $25,000 in profit on your $100,000 loan. So, you'd get your initial capital back plus the interest.
Both of these investment vehicles are high risk, but equity would be the higher risk/higher reward. Most of these investments are illiquid. If you buy shares of a publicly traded corporation with trading volume, you can buy in and out of your investment on a whim as long as the market is open. Private equity is not the same. It is often difficult (not impossible, difficult) to get your capital back quickly.
I hope this makes sense. Drop a comment if you'd like me to clarify anything else.
Posted by Anonymous