What does Nvidia, Amazon and Seek all have in common? Firstly, they are all listed companies on stock exchanges, secondly, they all started as a private business.
Private investments, offer investors opportunities that public markets simply can’t. The main advantage and simultaneously disadvantage of private investments, is that all information is not known to all market participants equally or at the same time. This allows for arbitrage opportunities, first mover advantages, monopolies and the development of relationships that lead to opportunities. These “market inefficiencies” as traditional economics would label them as, are exactly what allows investors to make alpha returns (read our other article here).
In this article we discuss, what private investments are, and strategies you need to grow your wealth.
The basics of private investment
What are private investments?
Private investments include venture capital, private equity, private credit, real estate, collectables like heritage plates, art work and any asset class that isn’t publicly traded.
These investments are not publicly traded and require private market participants to exchange assets between them.
The main feature of private investments is that they are not as liquid as publicly traded assets, and information is not as easily shared. Because of this, investors earn an illiquidity premium, which is a risk adjusted rate of return, for not being able to easily dispose of assets, like you can on public markets.
Not all information or relationships are equal in private investments.
Because not all information is equally shared with private investments with all market participants, and the relationships between participants is largely unknown. Investors are able to get market discounts and take advantage of various market opportunities.
A businessman could buy a supplier’s business at a discount, if he knew they were financially distressed, and he was their main customer. A developer can secret lobby members of government to rezone land and profit from it. A businesswoman could have information on crop production levels from farmers, then lock in contracts with distributors at fixed prices before market shocks hit the system. An investor could have access to a new unique business and their cutting-edge IP, before others investors in the broader market know about it.
All of these opportunities relate to having access to information and opportunities that are not widely known to the public.
Unlike publicly traded securities, investors are required to do more work to find such opportunities. Which is why family offices and HNW investors use firms like Royce Stone Capital to get access to private investment opportunities through our capital arm, and our advisory services to help shape opportunities.
Private investment strategies to grow your wealth?
Private investments can grow your wealth through income from business profits, but also the sale of the business and the capital gain that comes with it. Below we’ve listed home some of the strategies our clients have used to maximise their wealth.
Getting a private business listed on a stock exchange.
The reality is, when you buy into an IPO for an established business, you are buying into someone else’s well formulated exit. In other words, you are the exit! The run that they got from a $10M starting valuation, to a $100M or $1bn valuation on IPO, is something you’ll most likely never experience. Unless you have access to such opportunities, and the right team behind them.
Such opportunities are formulated years in advance and have circles of the right people in them. This doesn’t mean you start investing in a range of new private businesses. On the contrary venture capital and private equity businesses, carry risk. It is important therefore you understand the purpose of your investment. Do you want profits from the business, or rapid capital growth, or both?
Good businesses take time, and the level of risk you’re willing to tolerate, will determine when you enter an investment. So, you may enter when a mature business needs growth capital or a venture capital opportunity of a new business.
Regardless of where you see yourself entering, it is important that there is a plan in place, and everyone is aligned (founder, investment manager and investor).
Selling a private business to a PE or listed fund.
Private equity funds are big business and are often on the look out for businesses to purchase. Mature private equity investments (business typically doing above $5M EBITDA) and mature venture capital businesses, that have solid ARR, are ideal candidates for acquisitions by PE funds.
PE multiples here could range for 5x to 12x, subject to the type of industry, business, revenue, profit and locked in future work.
Most investors here hold onto businesses for 3 to 10 years, enjoying dividends, until the point of sale. To do this effectively businesses must have an exit plan put together 2 years in advance before selling. This is known an exit readiness or dressing the bride.
At present we are putting together such opportunities for our advisory clients.
Aggregating commercial property stock and selling them to investment funds.
A good example is certain child care operators. One example is an operators that had 40 childcare businesses, that also owned the properties the businesses were operating in. Given the strength of his business as the tenant and operator, he was able to sell the 40 property freeholds at a premium price to a property investment fund.
This particular client got a 100% upside compared to the price he bought each property at.
The client essentially bought very poor performing childcare businesses and their respective properties. He renovated the properties, appointed his management team with his childcare operations business and then doubled the rental lease agreements with his operating business.
By doubling the previous rental agreements, improving the properties, and his childcare business as the tenant, the properties become worth substantially more. When sold as 40 properties together, it became a compelling investment for large investment funds to purchase.
Selling a private business to larger businesses and family offices.
The bulk of private businesses are sold to other market participants, but the most attractive private businesses are actually sold to larger corporates and family offices.
These larger parties often buy other businesses to vertically integrate them into their current business structures. This allows them to maximise profits along the vertical supply chain, reduces costs across their all their businesses and to gives them further control of their industry. If a family or business, can further control the supply chain, they inadvertently control the industry!
Selling a private businesses to listed companies.
Because of the PE differential between listed companies operating at 15x to 22x PE, and private businesses at 5x to 10x PE. Some listed companies, that may not have successful businesses are open to purchasing successful private businesses, that can quicky cause a jump in the share price of the listed business.
This works well for investors in the private business, as they will earn a premium price on the value of their shares, when the business is absorbed by the listed entity, compared to if they sold privately. Alternatively they may also get shares in the listed company instead of cash payment or a blend, and get the benefits of increased share price over time.
Once again such investments take time and careful planning by property corporate advisory teams.
A final note on private investments.
When it comes to private businesses, and successful exits, these opportunities need a team around them to structure them, have everyone aligned and a number of exit options prepared.
That is why at Royce Stone Capital, we don’t just invite investors into investment opportunities. We stay along for the journey as advisors to the business to ensure investor capital is safe.
To learn more about private investments speak to us today
