Illustration by Bankrate.
Private companies are having a moment, with some firms, such as SpaceX and OpenAI, boasting valuations in the hundreds of billions of dollars and Wall Street pushing to include private assets in retirement accounts.
In the old days, companies would go public through an initial public offering, or IPO, relatively early in their life, allowing investors to participate in the majority of their growth. Companies such as Walmart, Home Depot and Microsoft all went public at relatively modest valuations and have handsomely rewarded investors in recent decades.
Today, more companies are choosing to stay private longer and may not go public at all, but that doesn’t mean investors are completely left out in the cold. Here are four ways to invest in private companies.
1. Be an accredited investor
Federal securities laws limit certain private investment offerings to “accredited investors.” In order to qualify as an accredited investor, you need to meet at least one of the following financial or professional requirements.
- A net worth over $1 million, excluding the value of your primary residence (individually or with a partner).
- An income over $200,000 (individually) or $300,000 (with spouse or partner) for each of the past two years and an expectation for the same in the current year.
- Investment professionals who hold certain professional licenses such as the Series 7 or Series 82. Other professionals may also qualify.
To be sure, just because you qualify as an accredited investor doesn’t mean you should be investing in complex securities or private companies. Make sure you understand the risks involved in any investment before committing your money. Consider working with a financial advisor who can help you build an overall financial plan.
2. Buy publicly traded private equity firms
One way to participate in the private asset boom is to buy the public stocks of private equity firms such as Blackstone (BX), KKR (KKR) or Apollo (APO). Keep in mind, however, that shareholders in these companies aren’t invested in the private equity funds themselves, but rather the parent companies’ operations. These businesses largely earn revenue from the fees they charge clients, so as their assets increase, their earnings should also rise, all else being equal.
3. Invest in private asset funds
There are some mutual funds that invest a portion of their assets in private companies, but there are limits on the percentage of their portfolios that can be invested in illiquid securities. For example, there are funds that hold stakes in SpaceX.
These funds may come with higher fees than a more traditional mutual fund and there also may be restrictions on redemption due to the funds’ illiquid holdings. Be sure you understand how easy it is to sell a fund before making an investment.
4. Purchase via secondary markets
Shares of some private companies trade on secondary market platforms such as Hiive, but you’ll need to be an accredited investor in order to buy shares. These secondary markets give those who own stakes in private companies an opportunity to sell their shares prior to a company going public. These sellers may be employees at the company who have received equity as part of their compensation and are looking to cash out a portion or all of their shares.
Risks of investing in private companies
Investing in private companies can have the potential for strong returns, but it also comes with additional risks. Here are a few to consider.
- Lack of liquidity
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Private company investments are inherently less liquid than public stocks that trade on an exchange. This means it may be difficult to sell a private investment quickly if you need to raise cash.
- Limited disclosures
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There is also less information available on private companies and fewer disclosure requirements compared to public companies.
- Greater risk of failure
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Private companies, particularly startups, may see a higher rate of failure compared to their public counterparts.
- Higher potential fees
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If you’re investing in a private asset fund, you may pay higher fees than if you hold a fund with more traditional public securities, such as an index fund.
Bottom line
Private credit and equity are seeing a boom right now, and investors may be looking to get a piece of the action. Some private investments are reserved for accredited investors, but there are some ways that non-accredited investors can participate. Be aware that private investments typically come with less liquidity, fewer disclosures and higher risks than public companies.
Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.
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