When it comes to rapid growth, private firms may be better positioned than most publicly traded companies. After all, in the immortal words of Facebook creator Mark Zuckerberg, startups can “move fast and break things.”
While some private companies have found success with this approach, it inherently involves significant risks. By extension, so does investing in shares of pre-IPO companies through the private secondary market.
Fortunately, there are several strategies to help mitigate risk in secondary market investments. Here are a few that potential investors might want to keep in mind.
It almost goes without saying, but it’s just as important to do your own research when it comes to private securities as it is in the public markets.
While input from analysts and other market observers can be useful, it is crucial for investors to get their own read on a company's growth potential. This typically means evaluating the financial health, growth prospects, and overall stability of a company, as well as the strength of its management team and position within its sector.
Private companies have additional variables worth considering. For instance, what is the company’s stage of development? Early-stage startups might carry extra risk and face more operational challenges or competitive threats. Companies in later stages, on the other hand, might have a clearer path to liquidity, but could also require a more substantial investment.
Private investments might have high growth potential, but they also tend to have low liquidity. In other words, there’s not a centralized exchange like the Nasdaq or NYSE where investors can quickly cash in their holdings. You would have to find a buyer, agree on a price, and manage the logistics of executing the deal yourself.
Luckily, platforms like Augment* have emerged to address these challenges. Augment provides a secure and centralized marketplace where shareholders of pre-IPO companies can do all of the above and more.
But it is still key for potential investors to consider the liquidity concerns inherent in the private secondary market. To ensure you can eventually monetize your investment, assess demand by other investors and potential exit routes for the company. These might include IPOs, mergers, acquisitions, or private secondary sales. Look for a clear path to liquidity, even if the IPO process is delayed or the company ultimately does not go public.
In the private market, it’s also important to be aware of any lock-up periods or restrictions that may prevent shareholders from selling shares immediately after a company’s IPO.
Mitigating risk in the private secondary market requires thorough due diligence, diversification, careful consideration of liquidity, and a good understanding of the company in question and broader market dynamics. While these strategies may help investors evaluate opportunities in the private secondary market, thorough research and careful consideration of all risks remain essential.
*Augment is a registered Alternative Trading System (ATS). All securities transactions are conducted through Augment Capital, member FINRA/SIPC.
Important Disclosures: Investing in private securities involves substantial risk, including the potential loss of principal. Private securities are typically illiquid, have limited pricing transparency, and often require longer holding periods. These investments are available exclusively to qualified accredited investors and offer no guarantee of returns. Additionally, past performance of private securities does not indicate or predict future results.