Download - Private company secondary markets
Private Company Secondary Markets
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@cardinalrose
Table of Contents
Market Overview
Deal Mechanics
Completing a TransactionCompleting a Transaction
Appendix
Private Company Secondary Markets
Private company secondary markets will solve the liquidity problems for employees and board members while also providing inexpensive access to growth capitalinexpensive access to growth capital
Private Company Secondary Markets
“Late stage venture funds are like the small cap funds of the ‘90s and the early 2000s.” Lawrence Lenihan, Jr, FirstMark Capital, April 2011
My Prediction
Secondary markets institutionalize changing the industry:
• Many more companies adopt secondary marketplace platforms
• SEC introduces regulation that strengthens the market
• Late stage market expands and IPOs get pushed out further
• Stronger companies emerge as a result of longer gestation period
• Secondary marketplaces experience rapid growth replacing antiquated systems
The lines blur between late stage venture funds and hedge fundsThe lines blur between late stage venture funds and hedge funds
• Late stage funds reduce lockups from 10 years to 2 years to adjust for liquidity
• Hedge funds allocate 10-30% to less liquid secondary markets
•Balanced with market neutral public markets
• Massive amounts of capital flow into this new asset class
The IPO – Pros & Cons
Pros:
• Gain liquidity for shareholders
• Gain access to growth capital
Cons:
• Sarbanes Oxley
• Headaches, regulation & compliance
• Additional legal risks
• Wall Street disconnect
• Short term trader mentality
• Algorithmic trading disconnected from fundamentals
• Loss of cache
The Public Markets – Drivers of Change:
• Sarbanes Oxley
• Decimalization
• Separation of investment banking and research
• Consolidation of boutique banks
• Longer pre-IPO gestation periods
Current Late Stage Market Overview:
• There is ~$21b invested in late stage deals per year
• Traditionally 30-50 funds participate in this market
• Companies require inexpensive access to growth capitalcapital
• Companies require less board seat and operational advice
Ideal Private Secondary Market Company:
• $100-$500m in market cap
• $20m in revenues
• Approximately 5 years old
• Too small to go public
• Tech and Clean Tech sectors
• Don’t have to be profitable
• Venture backed
• Over 100 shareholders
Testimonials:
“These companies I’m buying on the private market are at the same stage as when I used to buy them when they went public. So why not buy them?” Business Insider, January 2011
“We now believe Facebook could be worth more than $200b in 2015” Wedbush, March 2011
The 4 Horsemen:
Company Date Funding Last Round Val Recent Rumored Val Revs 2011E P/S
Facebook Jan-11 $1.5b $50b $75b $4b 19x
Groupon Jan-11 $950m $4.8b $15b $2b 8x
Zynga Jun-10 $300m $4.5b $10b $2b 5x
Twitter Dec-10 $200m $3.7b $7b $140m 50x
Source: Company reports and Business Insider
Is There A Tech Bubble?
Blue chip techs are cheap
Expansion stage growth, similar to late stage
Completely ignored, no liquidity, getting worse
A handful are valuations are extreme, similar to mid capsLate Stage
Small Cap
Mid Cap
Large Cap
Valuations have crept up from $2-3m to $3-4m pre
Total VC AUM shrinkage decreases demand
Companies seeking $3m+ getting decent valuation
Seed Stage
Early Stage
Mid Stage
Changing VC Perceptions
Old:• No one exits before we exit
• A future exit keeps the employees motivated
New: New: • Employee liquidity helps retention & recruitment
• Secondary sales are a 3rd exit avenue after IPOs & M&A
• Can manage portfolio more efficiently
Private Markets are Institutionalizing:
2010: 90% of transactions were over-the-counter
2011: ~80% will be listed market transactions
• SecondMarket & Xpert Financial will be 100% listed
• SharesPost is registering as a broker-dealer• SharesPost is registering as a broker-dealer
• Primary markets will be established
What is a “Listed” Private Market?
• Company and board approved
• Controlled sales
• Limited Selling Windows• Limited Selling Windows
• Market Creation
• Right of First Refusal
Comparison:
SecondMarket• Launched April 2009
• Broker-Dealer
• Over $500m transacted
• Diverse Alt Assets
• 28 Reported Companies
• 2010: OTC
• 2011: Listed
• VC: FirstMark
SharesPost• Online Bulletin Board
• 3rd Party Research
• Registered Specialists
• 60,000 Members
• 16,000 Accredited
• Min Transaction: $25k
• Standardized Contracts
• Heavy Technology
Xpert Financial• 2 Years Old
• Broker-Dealer & SEC Reg ATS
• Tim Draper- Chairman
• Licensed Nov 2010
• Electronic Platforms
• Full Level II Quotes
• 8-9 Cos in Pipeline
• RegD Rule 506 –Primary Share
Sale License• Pursuing BD License
• 2-5% fee both sides
Sale License
• Rule 144A – Qualified
Institutional Buyers
• Rule 144 – Accredited investors
- non-Affiliated sellers - pending
• Reverse Inquiry Basis
• Company approval
Notable Secondary Transactions:
Kleiner Perkins $38m in Facebook at $52b, Feb 2011
Andreesen Horowitz $80m in Twitter, Feb 2011
DST indirect secondary participant: Facebook,
Zynga, Groupon
Accel sold $516m Facebook to TCV (~$200m), Andreesen Horowitz (~$80) and others at $35b, Nov 2010
Chris Sacca $400m in Twitter at $4.5b from Spark,
Union Square, and Ev Williams, Feb 2011
Deal Mechanics
3 Parties in a Secondary Transaction:
• Buyer
• Seller
• Company• Company
- Right of First Refusal
- Co-Sale Rights
Types of Buyers:
• Existing VC Investors
• VC Funds that lost primary round
• Fund-less Sponsors/Special Purpose Vehicles
• Participants in Secondary Markets
• Endowments, Pension Funds, HNW, Sovereign Wealth, Insurance, Private Equity
• Direct Secondary Funds
• Late Stage Venture Funds
• Mutual Funds & Hedge Funds - Public Market Investors
Types of Sellers:
40%
50%
60%
70%
80%
90%
100%
1Q10
2Q10
3Q10
0%
10%
20%
30%
40%
Ex-Employees Employees Investors/Other
3Q10
4Q10
Source: SecondMarket
Types of Secondary Sales:
• Sr. Preferred – indirect for Common Shares
• Jr. Preferred – indirect for Common Shares
• Outright purchase of Common or Preferred
• Upside Sharing – buyer splits proceeds of future sale• Upside Sharing – buyer splits proceeds of future sale
• Escrowed Shares – earn-out incentive
• Loan for Shares – avoids ROFR, Co-Sale & Taxes
• Loan to Exercise Options
Types of Transactions:
• Modified Dutch Auction
•Minimum bid, clearing price => lowest bid that clears
• Fixed Price Auction
•Set price, all bids above minimum
• Bulletin Board• Bulletin Board
•Bidders are matched to sellers online
Considerations:
Transfer Restrictions
• Right of First Refusal (ROFR)
• Co-Sale
• Upfront waiver rights can be granted
Workarounds
• Loan for Shares avoids ROFR and Co-Sale• Loan for Shares avoids ROFR and Co-Sale
• Earn-outs deter Co-Sales
Contractual Rights
• Registration rights and preemptive rights are transferrable
• Require separate transfer agreement with the company
Risks:
Two Primary SEC Regulatory Risks:
Special Purpose Vehicles designed to bypass the 500 investor rule
• Goldman Sachs’ US Facebook SPV was canceled
• Could give rise to parallel market of SPV
• Small SPVs charging 8% fees & 20% carried interest
•Shares post has completed 5 SPV auctions
•3% commission, 5% management fee, 3% distribution fee
•Cannot exit until IPO when Units convert to FB shares•Cannot exit until IPO when Units convert to FB shares
Lack of Share Count, Cap Table, and Company Financials
• Even “sophisticated” investors need financials
• Significant amount of 3rd party data but little company data
• Listed markets resolve this issue
Additional Risks:
• Illiquidity
• Opacity
• Information Asymmetry
• Valuation
• Behavior of secondary investors
• Shift from options to RSUs
Future Listed Markets:
Companies will waive ROFR in exchange for:
• Employees sell no more than 10-15% of vested/owned positions
• Only employees with 4+ years can participate
Board approved potential investor list
• Investors adhere to the board’s guidelines• Investors adhere to the board’s guidelines
• Investor group receives audited financials
• Company has recourse if guidelines are violated
Completing the Transaction
Private Company Secondary Markets:
SharesPost example:
Current Active Trades on SharesPost:
SharesPost Order Entry:
SharesPost Order Confirmation:
SharesPost Bid/Ask Page:
Yelp! Company Registration:
NeXt Up Research: Yelp! Key Metrics:
NeXt Up Research: Yelp! Valuation:
NeXt Up Research: Yelp! Lead Investors:
Appendix
Companies Traded on SecondMarket:
Facebook Price Chart:
$30.00
$40.00
$50.00
$60.00
$70.00$33.00 4/1/2011
$33.00 4/1/2011
$35.00 3/29/2011
$35.00 3/17/2011
$33.00 3/11/2011
$33.00 3/11/2011
$37.00 2/18/2011
$30.00 2/14/2011
$31.00 2/11/2011
$31.00 2/7/2011
$32.50 2/3/2011
$35.00 2/2/2011
$35.00 2/2/2011
$35.00 1/26/2011
$35.00 1/19/2011
$60.00 1/19/2011
$50.00 1/13/2011
$46.00 1/12/2011
$45.00 1/12/2011
$50.00 1/11/2011
$55.00 1/11/2011
$50.00 1/11/2011
$55.00 1/11/2011
$35.00 1/10/2011
$40.00 1/7/2011
$55.00 1/6/2011
$25.00 11/30/2010
$25.00 11/24/2010
$20.00 11/22/2010
$15.20 11/9/2010
$20.00 11/4/2010
$15.20 11/2/2010
$25.00 10/19/2010
$0.00
$10.00
$20.00$51.00 1/19/2011
$40.00 1/19/2011
$27.60 1/19/2011
$60.00 1/18/2011
$40.00 1/18/2011
$45.00 1/18/2011
$50.00 1/17/2011
$45.00 1/16/2011
$50.00 1/15/2011
$45.00 1/14/2011
$48.00 1/14/2011
$66.00 1/13/2011
$25.00 10/19/2010
$14.40 8/31/2010
$15.00 8/31/2010
$15.00 8/30/2010
$15.00 8/10/2010
$15.20 8/5/2010
$12.00 7/27/2010
$14.00 6/25/2010
$13.50 6/24/2010
$12.60 6/21/2010
$10.00 4/26/2010
$5.40 12/4/2009
$2.40SharesPost
3rd Party Research:
• Wedbush Securities
• Liquid Scenarios
• VC Experts
• Research 2.0
• NextUp Research
• Arcstone Partners
• CB Insights
• Greencrest Capital
• Blueshift Research
• GigaOm
• Crystal Research Associates
• PrivCo
• Majestic/ITG
Largest VC Backed Deals in 2010:
1 Better Place Clean Tech Expansion $350,000,300
2 Twitter Internet Expansion $200,000,000
3 BrightSource Energy Clean Tech Later Stage $150,000,000
4 Abound Solar Clean Tech Expansion $111,000,000
5 Trilliant Telecommunications Later Stage $105,999,800
6 Elevance Renewable Sciences Clean Tech Expansion $100,000,000
7 HighTower Holdings Financial Services Expansion $99,999,900
8 Casa Systems Internet Infrastructure Later Stage $96,460,000
9 Pierpont Securities Financial Services Expansion $84,999,9009 Pierpont Securities Financial Services Expansion $84,999,900
10 Fisker Automotive Clean Tech Later Stage $78,078,900
IPO Pipeline:
Date Name Ticker Description IPO size 2010 Revs
7/14/2010 AMC Entertainment AMC Movie Theaters $450m $2417m
3/11/2011 HomeAway AWAY Online Real Estate Rentals $230m $168m
3/15/2011 Qihoo 360 QIHO Chinese Online Security $200m $58m
2/27/2011 LinkedIn Business Social Network $175m $161m 9 months
9/29/2009 NewEgg.com EGGZ Electronic Ecommerce $175m $2100m 2008
2/28/2011 Skullcandy SKUL Electronic Accessories $125m $140m estimated
11/9/2010 Tudou TUDO Chinese Online Video $120m $34m 9 months
2/11/2011 Pandora Online Music $100m $55m FYJan112/11/2011 Pandora Online Music $100m $55m FYJan11
8/9/2010 Skype Online Telephony $100m $406m 6 months
12/23/2010 Responsys MKTG Email Marketing $60m $85m
11/17/2010 Kayak KYAK Online Travel $50m $128m 9 months
2/10/2010 Gamefly GFLY Online Video Game Rentals $50m $98m FYMar10
Relevant 2010 IPOs:
Name Ticker Performance
Epocrates EPOC 44%
Demand Media DMD 24%
Neilson Holdings NLSN 17%
Sky-Mobi YSM -33%
Dangdang DANG 69%
Youku.com YOKU 174%
Bitauto BITA -26%
Mecox Lane MCOX -33%
MakeMyTrip MMYT 86%
GreenDot GDOT 20%GreenDot GDOT 20%
RealID RLD 49%
Tesla TSLA 31%
Vringo VRNG -41%
Motricity MOTR 55%
ReachLocal RLOC 59%
TeleNav TNAV 39%
Convio CNVO 32%
Quinstreet QNST 51%
Average 34%
VC Market in Graphs
The VC industry has lagged the major benchmarks over the past 10 years:
10 years
Dow Jones 2.50%
S&P 500 -0.40%S&P 500 -0.40%
Nasdaq -4.30%
US Venture Capital Index -4.60%Cambridge Associates, Sept 2010
Due to “J-Curve” older funds should have higher TVPI but they don’t:
0.8
1
1.2
1.4
Total Value to Paid in Capital (TVPI)
0
0.2
0.4
0.6
0.8
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Cambridge Associates, Sept 2010
As a result VC assets under management are falling:
$200,000
$250,000
$300,000
Assets Under Management
$0
$50,000
$100,000
$150,000
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
NVCA, Jan 2011
And the total # of VC funds are falling:
1000
1200
1400
1600
1800
2000
Total # of VC Funds
0
200
400
600
800
1000
NVCA, Jan 2011
But the total # of investments is steady:
5000
6000
7000
8000
9000
Number of venture investments
0
1000
2000
3000
4000
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
NVCA, Jan 2011
And the total amount invested is steady:
$80.00
$100.00
$120.00
Total Amount Invested
$0.00
$20.00
$40.00
$60.00
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
NVCA, Jan 2011
There have been so many deals but so few exits:
8%
10%
12%
14%
16%
Exits as a % of Total Deals
0%
2%
4%
6%
8%
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
NVCA, Jan 2011
IPOs have dried up:
150
200
250
300
IPO exits
0
50
100
150
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
NVCA, Jan 2011
The median age at IPO has risen from 6 to 10 years:
6
8
10
12
Median Age at IPO
0
2
4
6
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
NVCA, Jan 2011
Private Secondary Markets are a new exit option:
$100,000,000
$120,000,000
$140,000,000
$160,000,000
$180,000,000
Transaction $ Amount
$0
$20,000,000
$40,000,000
$60,000,000
$80,000,000
1Q10 2Q10 3Q10 4Q10
SecondMarket, Feb 2011
What happens next?
Secondary markets institutionalize changing the industry:
• Many more companies adopt policies and platforms
• SEC introduces regulation that enhances the market
• IPOs get pushed out further and bypassed entirely in some instance
• Stronger companies emerge as a result of longer gestation period
The lines blur between late stage venture funds and hedge funds
• Late stage funds reduce lockups from 10 years to 2 years to adjust for liquidity
• Hedge funds allocate 20%-40% to less liquid secondary markets
•Balanced with market neutral public markets
• Massive amounts of capital flow into this new asset class
Thank You
Jason M. [email protected]@highstepcap.com914-315-9751
Follow me on Twitter: @cardinalroseProfile on Google: /profiles.google.com/jjones1/