What is a Pre IPO?
Pre-IPO is an investment you make before a private company’s planned initial public offering, or IPO takes place. In a pre-IPO trading scenario, a limited number of a company’s shares are offered to investors before it goes public.
So, what’s the distinction between an IPO and a pre-IPO investment?
IPO vs Pre IPO
In an IPO, a company is about to float on the stock exchange and seeks to lure investor funds by issuing a prospectus. Usually, the amount of investments sought will depend on company size and capital requirements. When you invest in an IPO, you need to get a copy of the prospectus, either online or through a broker. You fill out an application form and attach an EFT payment or a check. It takes around 3 to 4 weeks before you get listed by the company and get your shares.
In an IPO, there is greater urgency in responding to an investment opportunity. The company through their broker usually grants a period of 3 weeks for you to respond.
While IPO and pre-IPO investment might seem alike, there are significant differences. First, in pre-IPO, you can raise capital for a longer time period, usually 3 months to 18 months before the company lists into the stock exchange. Second, no prospectus is required when investing in pre-IPO. There is also no broker or company that represents or underwrites the listing.
How to Buy Pre IPO Stock
Investing in startups prior to their going public is usually accessible only to investment funds, professional investors, wholesale investors, and high net worth individuals. Smaller investors would be hard-pressed to maximize pre-IPO investment opportunities. Yet while buying pre-IPO stock for small investors is tough, it isn’t impossible.
There aren’t many pre-IPO companies around, but here are some methods you can use to access pre-IPO stock.
- Consult an advisory firm, stockbroker, or a company that specializes in pre-IPO investments and capital raising. They can nudge you in the right direction on where and what pre-IPO investment opportunities are the most promising.
- Do your due diligence. Good research and a grasp on the latest news on startups or information about private companies about to go public.
- You can also consult with local bankers for information on companies on the lookout for investors.
- Establish better business connections. In the pre-IPO community, who you know matters.
- Set yourself up in the angel community by becoming an angel investor. An angel investor provides much-needed capital for startups thumbed down by other investors.
- There are also online startup platforms where you look for promising IPO opportunities.
Advantages of Pre IPO
Of course, the biggest advantage of pre-IPO investments are the huge returns. Compared with your average stock market return of 10% yearly computed before inflation, pre-IPO investments yield so much more for investors. For instance, Snapchat’s IPO was in 2017. If you invested $100 prior to its going public, you’d already have made $22,000. That is equivalent to a whopping 21,900% return.
One other advantage of investing in pre-IPO is you can be protected from the renowned volatility of the stock market. The stock market is prone to get a beating from the financial crisis, or even at present, the COVID-19 pandemic where economies are going into recession. While this does not entirely spare pre-IPO investments, the impact will not be so severe.
Disadvantages of Pre IPO
Sadly, pre-IPO investing is a high-risk affair. Since you’re investing on startups, the success rate is unpredictable, even dismal. Therefore, when the investment crumbles, you get zero returns and all losses.
Yet companies are mindful of these risks and compensate by offering discounts of shares to investors. For instance, the IPO price is anticipated at $1 a share, so the company instead offers pre-IPO share at $0.25 a share.
In addition, the chances of the company actually getting an actual IPO is not 100%. Since your pre-IPO investment is dependent on the IPO share price, it could take as long as two years to see some return. Also, since pre-IPO shares are not registered, selling them would be hard until the IPO’s completion.
To sum up, pre-IPO investing is highly risky, but the potential returns are huge. Therefore, it pays to do your due diligence to protect yourself from incalculable losses. Do your research on the company first and get to know whether it can actually deliver.