background
Welcome to Wall Street Prep! Use code at checkout for 15% off.
Wharton & Wall Street Prep Certificates
Now Enrolling for September 2024 for September 2024
:
Private EquityReal Estate Investing
Buy-Side InvestingFP&A
Wharton & Wall Street Prep Certificates:
Enrollment for September 2024 is Open
Wall Street Prep

Minority Interest

Step-by-Step Guide to Understanding Minority Interest (Non-Controlling Interest)

Last Updated February 20, 2024

Learn Online Now

Minority Interest

What is the Definition of Minority Interest?

A minority interest is an investment structure, where the investor’s equity ownership is less than 50% post-investment.

In the private equity industry, firms specializing in minority investments obtain a non-controlling stake in a company’s equity in exchange for capital.

The objective of minority investments is to provide capital to a company already exhibiting significant growth and trending in an upward trajectory.

The two types of firms that most commonly engage in minority investments within the private markets are the following:

  1. Venture Capital (VC) → In venture capital, the investments are made into smaller-sized, high-growth companies attempting to disrupt industries (and thus, the risk is substantially greater).
  2. Growth Equity → In comparison, the funding provided by growth equity firms is intended to support the management team’s existing plans for growth, i.e. continue the positive momentum.

If an institutional firm makes a minority investment in a company’s equity, it owns a significant percentage of the total equity interest, yet its stake is non-controlling.

While there can be exceptions, such as with highly-regarded VC firms – most firms that make minority stake investments, especially those that invest in the later stages of a company’s lifecycle – tend not to be influential in the company’s decisions and strategies.

How Does Minority Interest Work?

Generally, minority investments consist of around 10% and 30% of the company’s total equity. In contrast, an investment structured as a majority stake implies the firm’s equity ownership exceeds 50%.

  • Minority Interest → <50% Ownership
  • Majority Interest → >50% Ownership

While the investments made by venture capital and growth equity firms are nearly always structured as minority investments, traditional private equity firms (LBOs) almost always make majority investments, barring unusual circumstances.

The trade-off here is that minority investors hold less influence over the company’s decisions and strategy, but controlling the company’s decisions is rarely the firm’s objective, anyway. Instead, the firm recognizes the company’s outlook is promising and seeks to participate in the upside potential (and is thus “along for the ride”), even if that means their investment strategy is relatively “hands-off”.

The Wharton Online
and Wall Street Prep Private Equity Certificate Program

Level up your career with the world's most recognized private equity investing program. Enrollment is open for the Sep. 9 - Nov. 10 cohort.

Enroll Today

Minority Interest vs. Majority Interest: What is the Difference?

The pros and cons of a minority interest and majority interest investment are described in the following table.

Advantages Disadvantages
  • High Entry Valuation (i.e. Positive Outlook and Strong Historical Financial Performance)
  • Majority Control Retained by Founders
  • Established Business Model and Validated Product-Market Fit
  • Onerous Terms and Unfavorable Conditions
  • Growth Capital to Fund Existing Expansion Plans
  • Limited Alignment with Founders (and Existing Investors)
  • Generally, Passive “Hand-Off” Capital Provider
  • Lack of Operational Value-Add Opportunities

Minority Buyout vs. Minority Growth Equity: What is the Difference?

  • Minority Buyout → A minority buyout is far less common than a majority buyout, as most private equity firms seek a controlling stake over the post-LBO target given the amount of debt placed on the balance sheet. In a minority equity buyout, the management team – usually the founder(s) – undergoes a liquidity event with the opportunity to “take some chips off the table” while retaining majority control over the company. Since the management team plans to continue running the company for the foreseeable future, the firm they decide to partner with is a strategic partner rather than a mere capital provider. Hence, the value-add capabilities are just as important to the founders as the valuation at which the capital was invested.
  • Minority Growth Equity → In contrast, the capital received from a growth equity investment (i.e. minority stake) mostly flows straight to the company’s balance sheet, instead representing a liquidity event for the management team. The newly-raised capital funds future growth plans, expansion strategies, and acquisitions. While management can still benefit from realizing monetary gains post-investment, the priority is to grow the company using the growth capital.

What is an Example of Minority Interest?

One recent example of a minority investment – or more specifically – a struggling public company attempting to raise capital, is Peloton (NASDAQ: PTON), the fitness equipment maker that saw its stock price reach record highs during the pandemic.

Peloton is seeking potential investors, such as strategic buyers and private equity firms, to acquire a 15% to 20% stake as it attempts a major turnaround.

But as mentioned earlier, most firms that make minority stake investments have a “buy high, sell even higher” approach to investing, so it is understandable why these firms are not jumping at the opportunity to provide capital to Peloton.

Hence, Peloton has faced difficulty in raising capital from institutional investors as it attempts a turnaround after its stock price plummeted once pandemic-related tailwinds faded.

Peloton Minority Investment Example

“Peloton Seeks Minority Investment to Shore Up Business” (Source: WSJ)

Comments
0 Comments
Inline Feedbacks
View all comments
Learn Financial Modeling Online

Everything you need to master financial and valuation modeling: 3-Statement Modeling, DCF, Comps, M&A and LBO.

Learn More

The Wall Street Prep Quicklesson Series

7 Free Financial Modeling Lessons

Get instant access to video lessons taught by experienced investment bankers. Learn financial statement modeling, DCF, M&A, LBO, Comps and Excel shortcuts.