With a basic understanding of the private capital markets, it is now important to understand the type of transactions available and the implications of each — whether the transaction is a primary or secondary transaction, and whether it is a marketed deal or a trade.
The most basic question to ask when viewing a private investment opportunity is whether the transaction is primary or secondary. A primary transaction involves the sale of new securities, which are sold by the company. This may seem obvious, but it is not always the case. In a primary transaction, the money raised goes to the company and may be used by that company for any number of purposes, which are typically laid out in their offering materials.
By contrast, a secondary transaction is a transaction involving the sale of existing securities by the owner of those securities (i.e. not the company). In these transactions, the money from the sale goes to the seller and not to the company. This is analogous to buying shares in General Electric (GE) through your online brokerage account; the counterparty to that transaction is an owner of GE shares, not the company itself. A marketed transaction (described below) may be a mix of primary and secondary, in which case the company is seeking to raise proceeds for use by the company while at the same time allowing certain security holders to sell those securities to new investors on the same terms.
Of course, in the case of a secondary security sale, it is important to understand why the seller is seeking to sell such securities and whether the seller has disproportionate information about the company. There are numerous good, valid reasons why investors would seek to sell securities, but in the private markets, where information is not necessarily equal, investors need to proceed with added caution.
The second consideration in evaluating the type of investment opportunity is whether the transaction is a marketed transaction or a trade. A marketed transaction is typically a new issue, heavily weighted to primary shares, but may include a portion of shares sold from existing shareholders (e.g. secondary), with detailed information and offering documentation available for review (e.g. Confidential Information Memorandum, Private Placement Memorandum etc.). It is typical that the company raising the capital or selling the securities would hire an investment bank or placement agent to oversee the offering process, conduct third party due diligence on the company, interact with investors and ensure compliance with securities regulations.
A trade, on the other hand, is a secondary transaction, based on existing information, typically with no new offering documents prepared. This again would be analogous to buying or selling shares in GE in your online brokerage account; however, in the private market, you might be at a significant disadvantage with respect to information. The seller of the securities might be an employee of the company who received shares as part of an equity incentive plan and might be selling believing the value of the company is going down. In addition, these transactions rarely have an investment bank engaged on the transaction, with no third party diligence having been done on the company whose securities are being traded.
For investments in private securities, it is very important to protect yourself — you should be financially sophisticated and review all information. In general, a marketed primary transaction would likely provide investors with the greatest amount of information to base their investment decision upon and typically there would have been third party due diligence completed on the company if an investment bank has been engaged. If the company is marketing the transaction itself, be cautious, as they have strong incentive to promote their company without third party due diligence and oversight. A secondary trade would likely have the highest risk in terms of disparate information and lack of oversight.
At ACE, we focus only on marketed transactions, which are sponsored by approved investment banks and placement agents. This ensures that due diligence is completed and materials are prepared in a proper fashion, and that a third party is available to answer questions. Many of the crowd funding sites out there are attempting to allow companies seeking to raise money to interact directly with investors. As noted above, this can be particularly dangerous — proceed with caution.
— ACE Group manages the online marketplace for new issuances of private securities. ACE connects Qualified Institutional Buyers and other Accredited Investors with private investment opportunities marketed by investment banks and other private placement agents. ACE is a partner of AD:60, parent of MyBankTracker.