Pre-IPOs occur in a state of equity ownership where-by the company is owned only by private equity investors and / or the original start-up entrepreneurs. Angle investors may also appear at this juncture.
A Pre-IPO situation may also have on offer an actual stock sale opportunity as a private equity offering by means of a Private Placement Memorandum (PPM).
This could be a lucrative opportunity to own a stake in a company before it “goes public” via its IPO; an eventual realization of some handsome profits.
A pre-IPO Private Placement occurs when a portion of an initial public offering (IPO) is placed with private investors right before the IPO is scheduled to hit the market. Typically, private investors in a pre-IPO placement are large private equity or hedge funds that are willing to buy a large stake in the company. The size of the investment means the price paid for shares in a pre-IPO placement is usually less than the prospective IPO price.
A Private Placement by Memorandum can occur long before the registration of an IPO. This funding can involve share offerings that can be many and varied in offering size and timing. It can involve many small investors or limited to only a few Angle investors represented by several stage funding rounds.
The idea here, for investors, is to get a hold of shares at very low prices far before the eventual IPO.
This is because the placement's price per share, and its risk, is contingent on the company eventually going IPO and the trading volume it is able to generate. So, pre-IPO placements compensate for that risk by offering a price per share that is much lower than it is expected to be at IPO. The risk arises when the post-IPO demand is lower than the expected demand, decreasing share price.
However, if the demand increases post-IPO prices, it may seem like these private equity and hedge funds would be able to turn around and sell the shares at a higher price right away. To stop this from happening, there is generally a lock-up period attached to the placement. This lock-up period prevents these funds from selling the shares in the short term and tends to attract investors who are looking to invest in the company for the long term.
The IPO (Initial Public Offering) is one of the few market acronyms that almost everyone is familiar with. The term conjures up pictures of sudden millionaires watching in glee as their previously inert holdings are translated into actionable money.
When a stock goes public, the company insiders who owned the stock in the first place are legally prohibited from selling it for a fixed period - set by Securities and Exchange Commission (SEC)regulations - of at least three months. Up until that point, the insiders are rich only on paper. The moment they can sell, they usually do - all at once. This, of course, depresses the stock price. It's at that point, with a glut of shares entering the market, that ordinary investors often get their first crack at what is now an IPO well along in its infancy.
Five Questions To Ask in buying either Pre-IPOs, IPOs, or Post IPOs trading shares.
- Was the company making money before the IPO? The most important thing in our minds, when investing in IPOs, is fundamentals. If the prospectus shows a business that's not making money, you should pass. You're not a venture capitalist.
- What valuation metrics are being used? Some, like IPO research specialist Renaissance Capital, use traditional metrics like price-to-sales, price-to-earnings and enterprise value-to-cash flow to compare an IPO to its peers. Others, like Morningstar, prefer to use a discounted-cash-flow model to arrive at an appropriate valuation
- Do the managers, owners and board have the interests of new shareholders at heart? It could be that they are simply looking for the big payoff. If the founders are selling more than 30% of the shares offered in the IPO, you can be fairly sure they aren't concerned about corporate governance.
- What's happening to the proceeds? If it's just to cash out, then forget it. The success or failure of the expansion might be less important because, for them, the money had already been made. What % of the company’s shares are the principals offering for sale?
- Who is underwriting the IPO? Big firms like Goldman Sachs (NYSE:GS) Morgan Stanley (NYSE:MS) or Merrill Lynch (NYSE:MER) will ensure the shares get into the hands of the most reputable institutional investors, indicating the deal is a good one. A good deal equals a higher offering price. The Structure of a PPM
The Structure of a PPM
Whether you have one suitor or many, creating a Private Placement Memorandum is the way to give investors confidence in your enterprise.
Learn more about Private Placement Memorandum (PPM)
You can use it to give potential investors detailed information about your company's finances, current projects, and future plans. A well-crafted Private Placement Memorandum ensures that investors are fully informed of the potential risks before they hand over their cash. This means inking the details in a Private Placement Memorandum. An investor may think he knows what the business is all about, but getting it in writing should be part of due diligence. A Private Placement Memorandum helps everyone involved.
Other names for this document: Private Investment Memorandum, Private Offering, Private Placement Letter
Investors Agreement basics
If you are entering into a business relationship which involves shares, or are already in such a business relationship, you can use an Investors Agreement to help secure your basic interests. Whether you're the one investing capital, or you own a business backed by investors, an Investors Agreement can help keep all protected.
There can be a lot of "what ifs" when it comes to investing, which is where an Investors Agreement comes in. Just how many shares does each investor have? How are dividends distributed? Who manages the business? These are just a few of the questions to answer. If there are any disagreements between investors down the road, you can use an Investors Agreement to resolve them. This document can also provide a more equal distribution of power, so that if you are a minority shareholder, you can use an Investors Agreement to help protect your best interests.
Letter of Intent vs. Memorandum of Understanding vs. Term Sheet
These documents are similar and are often used interchangeably. While they vary a bit from each other, they are used for the same purpose which is to show intent and an agreement to agree. Most are considered "nonbinding" unless the wording is included to make it binding.
Letter of Intent
Letters of Intent are most often used to start the process of beginning a business deal, purchase or project.
Memorandum of Understanding (MOU)
A Memorandum of Understanding is often used at the beginning of a business partnership. It can be a short-term agreement (to agree) for a single project or between your business and another that you work with often.
A Term Sheet is used to show interest in an investment opportunity. Often it is used to outline a potential agreement between an entrepreneur (or startup company) and investors. Term Sheets are used to start the process of establishing agreeable terms. Once both parties are agreed, a formal legal contract can be written.
Offering Memorandum or PPM basics
If you own a private company and need to raise money to expand, you'll need to create an Offering Memorandum to attract private investors. Also known as a Private Placement Memorandum (PPM), this document will include details about the state of your business. If you're a private investor, an Offering Memorandum will help you to know what you are getting into.
Use the Offering Memorandum document if:
Your company intends to secure investments from private investors and you want to describe the terms and conditions upon which you are offering interests in your business.
An Offering Memorandum is used when a company is offering the sale of securities - stocks, bonds, notes, etc - that are unregistered with the SEC. The Memorandum informs potential investors about the offering and about the potential risks of purchasing the securities, and should be as detailed as possible on the current state of the business.
It gives prospective investors the parameters of the offering, such as the number of shares being sold, the purchase price, and any caps or minimum number of shares an investor can buy. Most importantly, an Offering Memorandum includes in-depth information about the company, its current financial situation, any current and future projects, and potential uses for the new capital to be generated by the offering.
It can also protect the company offering the securities from liability, acting as proof that the investor was fully informed. Securities law can be complex.
Sites like SeedInvest, StartEngine and many others offer “Equity Crowdfunding.” This means that in exchange for your money, you will receive ownership/shares in that particular company.
The new Jumpstart Our Business Startups or JOBS Act legislation granted access to anyone who understands the risks of purchasing an “EQUITY” stake in privately held companies, and the increasing popularity of Crowdfunding portals presented the ideal place to conduct those equity transactions.
Up until 2012, investing in pre-IPO companies was reserved for venture capitalists and accredited investors.
The USA Business Startups or JOBS Act changed those limitations. Formerly “off-limits” Pre-IPO investments can now be used by the everyday investor for potential portfolio growth.
Equity ownership in a company does end when the business exits.
Exits occur when the business experiences success - a buyout from another firm or a highly desirable move to take the company public through an IPO. Alternately, exits also result from outright failure. In the speculative all-or-nothing world of startup investing, the expansion of the market didn’t escape the purview of the SEC.
The commission’s guidelines (SEC) currently limit annual contributions based on an investors financial standing.
Startup companies seeking capital can raise a maximum of $1 million per year
through Crowdfunding efforts. Regulation CF dictates that investors who earn less than $100,000 annually can contribute up to $2,000 in a year. Individuals who have a net worth and earnings greater than $100,000 each are limited to amounts of 10% of income or net worth, whichever is less.
Moving up the ladder, the SEC also allows capital raises of up to $20 million through Regulation A guidelines that let more established private companies seek funding from all classes of investors without capping their contribution limits. These dollars often fund growth rather than startup operations.
Tier 2 or Reg A+ funding levels extend to $50 million-- but the Crowdfunding or Reg CF maximums apply in this case.
Now that you understand the difference, here are some areas that initial investors should examine before pledging assets:
Investors are made aware that a total loss of capital could occur. These investments are highly speculative and differ greatly in nature from common stocks and mutual funds.
Securities acquired through pre-IPO investing can’t easily transfer to another party. Lock-up periods, in which assets can’t be sold or traded, apply to invested funds.
The Equity Crowdfunding Portal must put the companies listed on their site through a thorough pre-screening process that examines the foundations of a company before they list on their site.
The ability to perform extensive due diligence factored into the equation, depends on companies seeking funding via equity Crowdfunding methods meeting SEC filing regulations. In this way, betting on early stage companies becomes a guided tour.
Equity Crowdfunding platforms make it simple to get started and invest online. After basic administrative details are tended to, participants select an investment and determine how much they want to invest.
Be aware that sales or transfers of Crowdfunding shares are usually prohibited for 12 months so you may need to exhibit some patience before a transaction can take place.
Pre-IPO investing lets everyday investors share in the same exhilarating opportunities that were once only afforded to deep-pocketed venture capitalists
The USA /JOBS Act finally provided the same opportunities to all individuals that were once only granted to angel investors and venture capitalists or what many people refer to as the “WallStreet Elite.”
Contact Us for current ideas on opportunities available in Pre-IPO investments