It is important to understand the reasoning behind why companies raise capital prior to listing shares on the public markets, and how certain investors can benefit when companies offer pre-IPO investing. In addition, we discuss the opportunities made available to the everyday investor to take part in these pre-IPO placements in the Canadian markets.
At a Glance:
· Pre-IPO differs from a regular IPO in that the sale of shares happens prior to the company going public.
· Shareholders who participate in the pre-IPO typically receive shares at a discounted price.
· Companies raise money at an earlier stage of development with hopes to go public in the near future.
What is a Pre-IPO?
Pre-IPO funding is often completed by companies that are looking to go public in the near future. The reasoning behind the private funding round is to raise capital for projects or operations in hopes to grow the business to a point where it is ready to hit the public markets for additional funding by everyday investors.
Pre-IPO investing is seen as a riskier investment than the traditional IPO because of the lack of liquidity (can't sell your shares until the company is public) and transparency, as the company is yet to go public and run the risk of never going public at all. Due to the risks, pre-IPO investing is usually reserved for institutional investors with a high net worth, including venture funds and private equity firms willing to purchase a large portion of the company. The risks involved allow institutional investors to receive the purchased shares at a discounted price from the expected IPO listing price, which is viewed as compensation for the ambiguity and risk involved.
Advantages of Pre-IPO Investing
There can be several benefits investing pre-IPO in a company who is looking to go public down the road. As mentioned above, investors receive shares at a discounted price to reflect the risk that comes with the investment, which can account for advantageous returns once or if the company does go public. These returns are typically quite substantial, but vary completely on a deal-by-deal basis.
For example, say in advancement to a company going public, they open a pre-IPO placement to institutional investors at a share price of $0.10/share with hopes to raise the necessary capital prior to going public. An individual may decide to purchase shares in the pre-IPO round at $0.10/share. On IPO day, the company going public opens trading at a price of $0.30/share, therefore instantaneously tripling the investment made by the individual on a per-share basis, leaving the shareholders of the firm with a profit. However, pre-IPO investors are sometimes subjected to a “lock-up period,” where they are not allowed to sell any stock for a certain number of days, prohibiting an immediate liquidity event.
In the scenario above, the company uses the capital to grow its business leading into it's planned IPO. The individual share purchaser utilizes it as profit earned from the discounted shares versus the actual share price during the IPO, though there is no guarantee that the market will pay the anticipated price per share.
The Crowdfunding Exemption
Equity crowdfunding is an evolving way for start-ups and early-stage issuers to raise capital. With equity crowdfunding, a business can raise capital through online platforms by issuing securities to several individual investors who do not normally have access to pre-IPO investment opportunities. This form of financing is intended to provide an alternative source of capital to non-reporting issuers at an earlier stage of development.
This is a huge benefit to the everyday investor who is not deemed a high net worth individual or accredited investor. With the crowdfunding exemption, investors can now invest into companies who utilize it no more than $2500, with a higher limit of $10,000 if a registered dealer advises that the investment is suitable for the purchaser. This allows investors like you and I to gain access to early seed rounds of funding prior to the company listing on the markets, therefore providing more lucrative opportunities.
These exemptions pave the way for the democratization of pre-IPO investing to the masses and provides occasions previously only available to large financial institutions and high net worth individuals. In a following blog, I will go into further detail about the equity crowdfunding exemption as it changes the way start-ups can raise capital, while at the same time providing a more lucrative investment opportunity to investors.
For more information about the start-up Crowdfunding Registration and Prospectus Exemptions, visit the Canadian Securities Administrators website.
For any additional clarification in regard to pre-IPO investing and how you can utilize the potential benefits from the crowdfunding exemption, please reach out to Our Team of experts who will gladly assist.