Pre-IPO Investing: How To Buy Private Company Stocks in 2022 (And Should You?)
Investing in shares of private companies has traditionally been difficult, yet private companies offer the greatest upside for early investors. At the same time, fewer companies are publicly listed, and startups are taking longer to IPO. However, you can invest in startups in the secondary market before they go public. Learn how.
SustainFi Updated February 18th, 2022
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What is pre-IPO stock investing?
Pre-IPO investing is buying shares in a company before its Initial Public Offering (IPO). In essence, you buy stock in companies before they are publicly traded, i.e., listed on a stock exchange like the New York Stock Exchange or Nasdaq.
Why invest in pre-IPO stocks?
The number of publicly listed companies has steadily decreased over the years. More businesses choose to stay private to avoid public market scrutiny and the pressure to generate consistent earnings every quarter. Deep-pocketed venture capitalists can provide an alternative funding source so that companies can delay going public.
Two decades ago, it was normal for companies to IPO after two years, now it’s over ten years. Yet the biggest gains often accrue to the earliest investors. For example, in 2019, EV carmaker Rivian was valued at $5-7 billion, but it IPO’d two years later at a $66.5 billion valuation, roughly 10x the 2019 valuation.
Who sells pre-IPO shares?
You can buy shares directly from private companies, but the choices are limited
Private companies can sell shares to accredited investors and, from 2016 to the general public through Regulation Crowdfunding. There are many crowdfunding platforms like StartEngine that let you buy small stakes in private companies even if you aren’t super-wealthy.
If you are an accredited investor, you have more options. You can become an angel and invest in private companies by building your own founder network or through accredited investor platforms like AngelList.
However, late-stage private companies have enough connections to raise money from venture capitalists and don’t use crowdfunding. So if you wanted to invest in companies like Rivian or Palantir before they went public, crowdfunding would not have been an option. Besides, companies only raise money at specific times, and monitoring these opportunities is time-consuming.
Being an angel is also hard – you need to build up a reputation, and you are limited to the startups you can source.
If you know which company you want to invest in, you can buy shares from its employees or investors
If there is a specific private company you want to invest in, your best bet is trying to buy shares not from the company itself, but from its employees and shareholders, i.e. in the secondary market.
Employees in private companies get stock options as a form of compensation and a way to get them more tied to the company. For early employees, in particular, stock compensation can make up a large chunk of what they get paid.
Some of these employees may feel wealthy on paper, but it can be hard to monetize that paper wealth to buy something like a house in the real world. Earlier investors like angels may also want to monetize their investment to diversify.
Several platforms like EquityZen and Forge have emerged to let employees and early investors sell shares before the company goes public. These platforms don’t help companies raise money directly. Instead, they help earlier investors and employees sell their holdings.
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Can I invest in pre-IPO stocks?
Pre-IPO investing is highly risky, so pre-IPO investing platforms are for accredited investors only.
To be an accredited investor, you need to earn at least $200,000 a year for two years, or your net worth, excluding your main home, should exceed $1 million. There are a few extra ways in which you can qualify.
What are the risks of pre-IPO investing?
The problem with investing in private companies is that the sellers (the employees with options and early investors) know more than the buyers (you). Of course, they may want to sell to diversify their investments or pay for their child’s education. But it is also possible that they know something bad about the company that you don’t.
Limited disclosure requirements
The SEC makes companies listed on U.S. stock exchanges disclose a lot of information to investors. All these filings, including highly detailed annual and quarterly earnings reports, are available on the SEC website.
The same requirements don’t apply to private companies. So you are buying shares from people who know more than you do, and it’s hard to get good information on the business.
Not all pre-IPO companies go public
You can invest in a pre-IPO company that doesn’t go public or get acquired. It is normal for private companies to generate losses before they IPO and even after. If the business doesn’t do well and can’t IPO or raise more money, the company could fold, and you could lose your entire investment. There are many stories of failed companies valued at $1 billion +.
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How to buy pre-IPO stocks: Pre-IPO investing platforms
Pre-IPO investing platforms let accredited investors buy shares in private companies before they IPO. EquityZen and Forge Global are the two best-known options.
- Minimum investment: $10,000
- Fees: 5% for standard deals
EquityZen lets you buy shares in private, pre-IPO companies. They’ve listed over 350 startups, including big names like Rivian and Airbnb.
You can invest in several ways:
- Invest in a single startup through an EquityZen fund
EquityZen sets up a fund that buys private company shares from investors or employees in a specific startup. They feature larger, well-known startups like SpaceX. Logistically, it’s easier for you to invest in the fund than to broker a direct deal with the sellers.
EquityZen lets new investors make their first investment at a reduced minimum of $10,000. The same minimum applies to investors who have invested in 5+ deals. Those who have made 2-4 investments have a $20,000 minimum.
- Invest in a diversified managed portfolio of pre-IPO companies
EquityZen puts together a portfolio of pre-IPO companies you can invest in. They have an investment committee that has reviewed over 200 companies since 2015.
- Buy shares directly from the seller
EquityZen can also broker a direct share acquisition, which requires higher minimums, typically over $200,000. Buying directly from the seller can be more difficult than investing through the EquityZen fund because startups have different procedures for managing stock transfers.
Forge Global (SharesPost)
- Minimum investment: $100,000
- Fees: 5%
Founded in 2014, Forge Global runs the largest marketplace for pre-IPO shares. They help startup employees sell shares in startups like the NFT marketplace OpenSea, Elon Musk’s Neuralink, and the anonymous browser DuckDuckGo. Forge Global’s extensive database of private market data can help put a valuation on the private company.
In 2020, Forge acquired its rival SharesPost, which focused on serving individual investors. (Forge started off targeting institutions.)
The minimum investment size on the platform is $100,000, and it’s available only to accredited investors.
Compared to EquityZen, Forge Global’s services are more bespoke, which is in line with their higher minimum investment amount. Because you are buying directly from the seller, the process can be lengthy, and the startup can sometimes block the share sale.
And you can actually invest in Forge Global’s pre-IPO shares on the EquityZen platform.
🔔 Want to buy shares directly from startups? Learn more about crowdfunding platforms.
NOT INVESTMENT ADVICE. The content is for informational purposes only; you should not construe any such information as investment advice.