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What is the Difference between Public and Private Equity?

Today, I will be speaking to Mike Whitney. He’s the Vice President of Sales at Invest X. He is an awesome resource, and we will be talking about the private vs public equity markets.

When you think of public markets, you think of Amazon, Apple, and companies you see everyday that trade efficiently. Private markets are before those companies go public, and it is a broad spectrum. Sometimes brand new companies that are super small may never go public because they may go out of business. Compared to late-stage companies that do over a billion dollars in sales but are not accessible in a public sense. So there’s risk and rewards, and there’s a whole gamut to how you can invest. The thought for the day is to apply this information to your portfolio because there are some major returns to be made. We want you to know about them and have access to them. 

Invest X Background

Invest X is headquartered out of Vancouver, British Columbia, with offices in New York City. The company is a pioneer in the pre IPO asset class. The purpose is to get access to companies before they go public. The challenge is they’re looking for companies that are quite large, have good operating momentum, and have a clear focus. Ultimately, the goal is to get clients to allow liquidity and provide innovation in the marketplace. The mandate is looking at late-stage private equity, where a lot of growth is happening with companies now and getting in before they get listed on the stock market.

 

Late Stage Private Equity Explained

Late Stage Private Equity is best explained by example. Let’s say someone came up with an idea to revolutionize how hockey sticks are made. The first step would most likely be to tell their friends, parents, or talented hockey player and tell them about the idea. Next, they would go to the bank and explain why they needed money. Finally, assume the bank goes ahead and gives them that money. There are a couple of different avenues that can happen from there. One is that’s enough money, they grow to a specific size, and they’re a happy person making hockey sticks in a small business.

 

Conversely, they could make goals to globally dominate the market with the best hockey stick so that everybody in the NHL will carry it. Then they get the interest of large investors, and that would be the start of venture capital. This is the kind of start where people get that first million or two in cash from a few small entities, and they buy in with the expectation that it will work. In reality, one in ten is going to work, and the other nine will never go anywhere. So in this situation, the early venture capital people are happy because they’ve taken some calculated risks. This relates to the TV show Shark Tank, where they interview people with business ideas and decide to write a check or not. That show is similar to venture capital right now. Those can be staged over multiple periods, but once you get the venture capital, the first couple rounds of funding, there is more room for success. 

The Series of Funding

A is the first one, B is the second, and C is the third. Sometimes you’ll see companies offered in the marketplace that is on F series funding. It means there’s been a lot of interest, but people are paying more for the shares as those series go by. The company has grown much larger, and it becomes important to understand what they are doing with that money. Ask questions: Is the money being plowed back into the company? Are they looking to expand their footprint? Is this only a domestic market when I am trying to get into a global market? As investors look through those plans, they will decide if they want to be part of it. 

Invest X is specifically looking at people who have had multiple rounds of funding. These are companies that have been around for eight to ten years and have had many professional investors who wanted to engage with them. They’ve grown to a size of more than a billion-dollar company. From there, Invest X has strict parameters in terms of their revenue, earnings, burn rate of incoming cash, plans, and the management team composition. Then ultimately, decide if they are prepared to go public and exhibit characteristics of wanting to go public.

Generally speaking, an early-stage venture is going to have an eight to ten-year window. There were a lot of things happening in those companies in the first couple of years. They are figuring out who they are, how they will grow, and who they will bring on board. For a company like this, one change can completely change the trajectory, whether it be a good developer, good manager, or one good idea. Something simple can change the outcome long-term for the company. So Invest X looks at those companies that have been around for eight to ten years on their last leg before entering the public market. 

 

Multiple On Invested Capital

The acronym for multiple on invested capital is MOIC. Essentially if someone gives you a dollar, how much will you give them back in the future? Invest X has done over 56 different deals and counting since 2014. Some companies with familiar names and others not so much. They have in common that they exist in the same space, being late-stage private equity. Some companies: Data Miner, Dropbox, Instacart, Impossible Foods, Pinterest, Uber, Scopely, even SpaceX have been companies that Invest X has looked at and made investments for clients. 

The companies that Invest X has owned and that have gone public have realized gains. In realized gains where it had an average annual return, a return of 29.6% since the inception in 2014 when looking at the MOIC number. So this multiple on invested capital will look over the entire life of the investment and understand what type of return they were able to get. There are a couple of different ways to look at it, but on average, for the deals that Invest X has exited, the MOIC number is an excess of two and a quarter percent. So if you were to give Invest X a dollar, they’d give you $2.25 back, and that’s after taking into account any fees, expenses, or markups that would come into that as well. 

 

Landmines In The Private Market

The most important factor is knowing what you own. Next is figuring out how to get the information because private companies are private. For example, Mike Whitney has no requirement to disclose anything about his net worth or spending habits. After getting the insight needed, you must get yourself in a position to know that you’re going to receive what you planned on getting when the company goes public. The private market is sometimes referred to as an unregulated market. Some small regulations still exist, but not many. For example, there is insider trading in public companies, but there’s no such thing in private companies because they’re private.  

There’s a lack of liquidity because private companies don’t have to give you access to their shares. They’re not traded on an exchange, and there’s no guarantee that you can get it. The companies have what’s called the right of first refusal. Let’s say someone who works at your company wants to sell some shares. As the owner of the company, you have the right of first refusal not to allow that to occur. That said, how do we know what we own? We do a lot of deep research. We call the companies, and they know we are players in the game who have done deals. The point is to help consolidate the balance sheet. So, where someone may have had 30 or 40 individuals on the balance sheet, it’s going to be one individual now. The big partnership is everybody that’s putting their money into SPV with your business. So it is vital to existing on the cp table for a significant amount of money. Then those companies are more interested in talking and giving information that they’re not required to give. 

 

The Importance Of A Cap Table

If you want to sit on a cap table, you are invited when a company has shareholder meetings. Investors through Invest X do not get direct access to the cap table. Invest X does. Then you own a proportional share of that partnership that is set up for that particular investment. It doesn’t mingle. So if you buy into a current offering that Invest X has, that doesn’t mean you get access to Space X, for example. This is important because then you know what you bought and what you own. 

Relationships are very important in this space; knowing who to talk to and how to access these companies is paramount to ensure that you’re getting access to those shares. Anecdotally we’ve seen in the marketplace that there might be an SPV for a popular company that people have access to, and they can’t sell those shares. So what they do is package that SPV into another SPV that only does their own that next SPV. So now you’re paying a layer of fee for the SPV and all that comes with that. This is popular, particularly in SpaceX, because people are clamoring to get access there. Because of that, we are starting to see that people are finding interesting ways to market it. The good news is that InvestX doesn’t buy stuff like that. Invest X vets in making sure they know where they’re going and that they’re part of the cap table so that when a company goes public, it’s one transaction, and they deliver your shares once it’s available.

 

How To Get Access To Deals

When Invest X started bringing out deals, they would bring out two and a half million bucks. The last deal they closed was 42 million-plus. That’s a big difference from two and a half or 3 million from the first deals they made. Now every single one of those deals is a relationship. So there are phone calls that are made, presenting 10 to 12 companies a month. Sometimes it is an industry that is of interest and sometimes the complete opposite. 

Companies call Invest X, saying they have shared and asking if they want to buy them. It is up to you, the individual investor, to decide if that’s a good deal or not. They give you no information on financials, the current outlook, or on management. The difference is if a company like Invest X sees a company they are interested in, but they won’t give any financial or they won’t give us direct cap table access, then they’re out of the picture. So no is said ten times for every yes, and that’s the marketplace. 

Moreover, billion dollars or greater and revenues increasing at significant multiples is what Invest X is looking for. They’re generally looking for 40% and companies where they think they can get an average annual return of at least 30%. And again, companies that have been around for eight to ten years. They’ve been in the marketplace that is known to exist. Then two other really important ones. They need to get access to the shares and make sure they can get that information to know that they’ll be sitting on the cap table. So if it doesn’t work out that all those things come together, they say they’re going to pass.

With that comes the fact that they can distill down the opportunities and only present the ones that make the most sense. That is why Invest X does a lot of research and puts companies on their list. The goal is to bring out one new company name and deal per month.

 

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