Pre-IPO Profits

Why Pre-IPO Investors Are in a Sweet Spot

Why Pre-IPO Investors Are in a Sweet Spot
By Adam Sharp
Date August 6, 2019

Before we delve into a couple of interesting items in the pre-IPO investing universe, I want to remind you about two things:

  1. I know some of you have subscribed to Pre-IPO Profits but haven’t invested in the Pre-IPO Premier Fund. You still have time to invest in the fund. But make sure you don’t forget! Once the fund is closed, you won’t be able to invest in it.
  2. I will be releasing my second Angel Investing Master Class video next week! In it, I share some of the lessons and experiences I’ve gained as an angel investor. I hope you enjoyed the first video on the basics of angel investing. If you haven’t watched it yet, here’s a link to it. The video does a good job of introducing the basic concepts and information you need to know to become a successful angel investor.

Now that we’ve taken care of those two things, let’s focus on the pre-IPO side of private investing. There are two important items on the agenda:

  • Why pre-IPO investing is in a sweet spot today
  • Investing in multi-company funds vs. single company funds.

As a reminder, “pre-IPO” most often refers to later-stage startup companies. These companies are mature enough to be ready for an IPO (initial public offering of shares) within one to three years.

As individual accredited investors, we can buy pre-IPO shares through what are called “secondary sales” on sites like MicroVentures. These shares are sourced from early investors and employees of the company who are looking to sell a portion of their stake.

Why Pre-IPO Investing Is a Gem Today

Pre-IPO shares are available for purchase online only by accredited investors (for now). As more and more nonaccredited investors learn about the impressive returns from private markets, however, everyone will eventually demand access. We’re starting to see this now.

In theory, the accredited investor income requirements are supposed to de-risk pre-IPO investing. The idea is only individuals with the bankroll to absorb the risk to invest have the knowledge and “sophistication” to invest in these sorts of deals.

It’s likely that in the future there will be a “sophistication test” that will allow everyone, not just accredited investors, to invest in private startup companies. In fact, the SEC is just starting to come around on the idea that wealth doesn’t equal sophistication and that there are plenty of people who are sophisticated enough to invest in pre-IPO companies even if they don’t make as much money as accredited investors. Here’s an excerpt from a legal analysis on Mondaq:

The Release explores a number of questions relating to the definition of accredited investor, including whether to revise the existing eligibility limitations to consider additional indicia of an investor’s sophistication, the involvement of an adviser or other financial professional, the amount of the investment, or other criteria, rather than focusing exclusively on the income or wealth of the investor as a proxy for sophistication.

My best guess is it will take the SEC and Congress five years to get this done, but it’s coming.

And when everyone can invest, prices for private shares will go up. There will be far more “price discovery” because the number of potential buyers will expand. And that will result in higher prices.

Until this happens, however, there is a very small universe of people competing to buy these shares at what I believe are generally very favorable prices.

And as we’ve pointed out more than once, all the “hypergrowth” remains in private markets. Fast-growing companies are going public later and later.

Now is a fantastic time to take advantage of this opportunity in private markets for multiple reasons. Software-enabled startups are growing faster than at any other time in history, disrupting corporate dinosaurs who can’t adapt to these digital times. The internet is enabling thousands of new business categories. Cannabis is being legalized all over the world. AI and machine learning are creating breakthroughs across many industries. Powerful online advertising tools allow businesses to target exactly who they want, when they want.

And a bulk of the best action in all these areas is happening in private markets!

We’re here to guide you through them.

Now let’s get started on an important topic that applies to both the pre-IPO and early-stage worlds.

Investing in Multi-Company Funds vs. Single Company Funds

When investing early, you sometimes have a choice between investing in a single company fund or a multi-company fund. With a single company fund, you’re investing in only one company. With a multi-company fund, you’re investing in multiple companies. In multi-company funds, you are typically relying on the fund manager to select the companies.

The Pre-IPO Premier Fund that our friends at MicroVentures put together for you is a multi-company fund. So it will include shares from 10 to 14 different companies. You’ll get to see the companies soon, track them and learn about pre-IPO investing in the process.

We believe multi-company funds are a great way to start out. One major benefit to investing in multi-company funds is that you’ll likely pay less in carried interest. As a reminder, carried interest, or simply “carry,” is the fund manager’s portion of profits, typically 10% to 20%. With single company funds, you pay carried interest on a per-deal basis. So if you hit a big winner in a single company fund, there won’t be any losses to deduct.

But with multi-company funds, you pay only carried interest on profits, when there are any. And when you invest in a multi-company fund, any losses are counted against gains when fees are calculated. Basically, you get a better deal on fees with multi-company funds.

With a multi-company fund, you also get instant diversification. It’s quite convenient to be able to buy one fund and get exposure to 10 to 14 companies.

Multi-company pre-IPO funds are somewhat rare (rare outside of this service, where you’ll get access to two per year), but I have seen them occasionally.

Multi-company funds are more common on AngelList. But most of the investments there are early-stage opportunities. And in my experience, you have to be a member of someone’s syndicate for a while before being invited into a multi-company fund there.

On AngelList, multi-company funds have one extra advantage. The syndicate lead raises the money ahead of time then goes and invests it. This means that if they come across a deal that’s closing within a few days, they can invest.

Normally, if they share the deal with this syndicate, it will take weeks to raise the funding. This sometimes means missing out on a hot deal. So I do recommend investing in AngelList multi-company funds if you’re interested in the early-stage stuff. But as I mentioned, you’ll need to get into those syndicates and be an upstanding member for a bit before being invited to your first multi-company fund.

Good investing,


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