Chapter 21: Private Equity and Venture Capital (CAIIB – Paper 3)
1. Which of the following is a key characteristic of venture capital investments?
A. Guaranteed fixed returns
B. Primarily invests in publicly traded companies
C. High risk, high return, early-stage investments
D. Debt financing with collateral
Venture capital investments target early-stage companies with high growth potential, carrying high risk but potentially high returns. They are usually equity-based rather than debt-based.
2. Which of the following is a characteristic shared by both private equity and venture capital?
A. Investment in unlisted companies
B. Focus on short-term debt financing
C. Guaranteed returns to investors
D. Only invest in publicly traded companies
Both private equity and venture capital primarily invest in unlisted companies, providing equity funding to support growth or expansion, though the stages and risk profiles may differ.
3. Which of the following distinguishes private equity from venture capital?
A. Private equity invests only in start-ups
B. Private equity carries higher risk than venture capital
C. Private equity provides only minority stakes
D. Private equity typically invests in mature companies for restructuring or buyouts
Private equity usually targets mature companies for buyouts, restructuring, or strategic growth, while venture capital targets early-stage or start-up companies.
4. What is a common exit strategy for venture capital investors?
A. Long-term debt repayment
B. Initial Public Offering (IPO) or acquisition
C. Collateral liquidation
D. Continuous reinvestment without exit
Venture capital investors typically exit their investments through an IPO, merger, or acquisition, realizing gains from the increased company valuation.
5. Which of the following is NOT a typical characteristic of private equity investments?
A. Large capital investment
B. Active involvement in management
C. Investment in very early-stage startups only
D. Medium to long-term investment horizon
Private equity typically invests in established companies rather than very early-stage startups, focusing on buyouts, expansion, or restructuring.
6. Which statement correctly describes the risk-return profile of venture capital?
A. High risk with potential for high returns
B. Low risk with guaranteed returns
C. Moderate risk with fixed interest income
D. Risk-free due to diversified investments
Venture capital investments are inherently risky as they fund early-stage companies, but they offer potential for very high returns if the startup succeeds.
7. Which of the following differentiates venture capital from private equity in terms of involvement?
A. Venture capital investors avoid any management participation
B. Venture capital investors often actively mentor and guide startups
C. Venture capital only provides debt financing
D. Venture capital only invests in mature companies
Venture capital investors typically take an active role in mentoring and guiding the startup management to increase the likelihood of business success.
8. Which of the following is a common financing option used by venture capitalists?
A. Public bond issuance
B. Bank overdraft facilities
C. Equity financing in exchange for ownership stakes
D. Trade credit from suppliers
Venture capitalists primarily provide **equity financing**, taking ownership stakes in startups in exchange for capital to fuel growth.
9. Convertible debt in venture capital refers to:
A. A debt instrument that must be repaid immediately
B. A loan that can be converted into equity at a later stage
C. Debt secured against company property
D. Short-term overdraft facility
Convertible debt is a form of financing where the loan can later be converted into equity, allowing venture capitalists to benefit from potential upside if the startup grows successfully.
10. Mezzanine financing in venture capital is best described as:
A. Hybrid financing combining debt and equity features
B. Pure equity investment only in early-stage startups
C. Government-backed loan for startups
D. Trade credit provided by suppliers
Mezzanine financing is a **hybrid form of capital** that has features of both debt and equity, often used for expansion or bridging finance before a larger equity round.
11. Which financing option allows venture capitalists to maintain downside protection while retaining potential upside?
A. Common equity only
B. Pure debt financing
C. Government grant
D. Preferred equity with liquidation preference
Preferred equity gives venture capitalists **priority in liquidation** while allowing participation in the company's upside growth, balancing risk and reward.
12. Bridge financing in venture capital is primarily used for:
A. Long-term company expansion
B. Short-term funding between two major financing rounds
C. Financing government projects
D. Day-to-day operational expenses only
Bridge financing is a **short-term funding** solution used to cover expenses or support growth between two significant rounds of investment.
13. Which of the following is a typical feature of venture capital term sheets?
A. Ownership percentage, investor rights, and exit terms
B. Government approval for every transaction
C. Short-term repayment schedules like a bank loan
D. Fixed interest payments guaranteed
Venture capital term sheets outline the **ownership stakes, investor rights, and exit strategies**, defining the key terms of the investment.
14. Private equity investment typically targets which type of companies?
A. Only start-ups with no revenue
B. Mature or growing companies with potential for restructuring or expansion
C. Publicly listed companies exclusively
D. Only non-profit organizations
Private equity investors primarily focus on **mature or growing companies** that require capital for expansion, restructuring, or buyouts to enhance value.
15. Which of the following is a key benefit obtained by companies through private equity investment?
A. Strategic guidance and active management support
B. Immediate public listing without preparation
C. Guaranteed debt repayment at low interest
D. Exemption from corporate governance regulations
Private equity investors provide **strategic guidance, operational expertise, and active management involvement** to help companies grow and improve performance.
16. How does private equity funding typically differ from traditional bank financing?
A. PE provides short-term loans with fixed interest
B. PE funding requires collateral and guarantees
C. PE provides equity capital, often without requiring collateral, with involvement in management
D. PE funding is risk-free and insured by the government
Private equity invests in companies through **equity capital**, taking ownership stakes, and often engages actively in management. Unlike bank loans, PE does not usually require collateral.
17. Which of the following is a common advantage for investors in private equity funds?
A. Guaranteed interest payments
B. Short-term liquidity
C. Government-backed returns
D. Potential for high returns through capital appreciation
Investors in private equity funds can benefit from **high capital gains** if the invested companies grow successfully, though the investment is illiquid and carries risk.
18. Which statement correctly describes the role of private equity in business growth?
A. Provides capital and strategic expertise to enhance growth and operational efficiency
B. Only lends funds with interest obligations
C. Guarantees instant market dominance
D. Replaces the need for any company management
Private equity not only provides **capital**, but also **strategic guidance and management support** to enhance business growth and efficiency.
19. Which of the following is a long-term benefit for companies backed by private equity?
A. Immediate profit guarantees
B. Improved corporate governance and operational performance
C. Exemption from market competition
D. Guaranteed dividend payouts
Companies backed by private equity benefit from **enhanced corporate governance, professional management, and operational improvements**, which support sustainable long-term growth.
20. Which of the following is a strategic benefit of private equity for the invested company?
A. Instant stock market listing
B. Risk-free expansion
C. Access to networks, expertise, and potential future funding
D. Guaranteed tax exemptions
Private equity investors often provide **strategic guidance, access to professional networks, and potential for additional funding**, which helps companies scale and succeed.
21. Which of the following is a common drawback of private equity investments for companies?
A. Guaranteed public listing
B. Loss of some managerial control due to investor involvement
C. Immediate liquidity for shareholders
D. No obligation to improve operations
Private equity investors often take an **active role in management**, which may reduce the original owners’ control over business decisions.
22. Which of the following is a potential financial drawback of private equity for the company?
A. Guaranteed low-interest loans
B. Risk-free business growth
C. Pressure to achieve high returns and meet investor expectations
D. Exemption from regulatory compliance
Companies backed by private equity face **pressure to deliver high performance and returns**, which can create stress on operations and management.
23. What is the purpose of due diligence in private equity investment?
A. To assess the financial, legal, and operational health of the target company
B. To provide free consulting services to startups
C. To guarantee future returns
D. To bypass regulatory requirements
Due diligence helps investors **analyze the company’s financial, legal, operational, and market position** to reduce risk before investing.
24. Which of the following is NOT typically examined during due diligence?
A. Financial statements and projections
B. Company founders’ personal hobbies
C. Legal and regulatory compliance
D. Operational and market risks
Due diligence focuses on **financials, operations, legal compliance, and market conditions**, not personal hobbies of founders.
25. Which of the following is a common exit strategy for private equity investors?
A. Continuous reinvestment without exit
B. Defaulting on company obligations
C. Initial Public Offering (IPO), trade sale, or secondary sale
D. Giving ownership back to founders for free
Private equity investors exit by **selling their stakes** through IPOs, trade sales, or secondary sales to realize capital gains.
26. Which of the following best describes a trade sale exit strategy?
A. Selling the company or equity stake to another company or investor
B. Issuing debt to public markets
C. Retaining ownership indefinitely
D. Liquidating company assets without a buyer
A **trade sale** involves selling a company or stake to another company or private investor, often to realize investment returns.
27. Which exit strategy involves selling shares to the public for the first time?
A. Secondary sale
B. Initial Public Offering (IPO)
C. Management buyout
D. Trade sale
An **IPO** allows private equity investors to sell their stake to the public by listing the company’s shares on a stock exchange.
28. Why is due diligence critical before a private equity investment?
A. To guarantee short-term profits
B. To avoid paying taxes
C. To bypass investor regulations
D. To identify risks, verify claims, and make informed investment decisions
Due diligence helps investors **identify potential risks, validate company claims, and make informed decisions**, minimizing investment losses.
29. Which of the following is a potential drawback for investors in private equity?
A. Immediate liquidity of investment
B. Guaranteed fixed returns
C. Long lock-in periods and illiquidity
D. No risk of capital loss
Private equity investments are typically **illiquid with long lock-in periods**, meaning investors cannot easily access their capital until an exit event occurs.
30. Which of the following best describes a secondary sale exit?
A. Selling assets to repay debt
B. Selling the equity stake to another private equity investor or institutional buyer
C. Issuing new shares to employees
D. Liquidating the company entirely
A **secondary sale** involves selling the investor’s equity stake to another private equity firm or institutional investor, providing liquidity without an IPO.
