The raft of
high-profile initial public stock offerings this year has one financial adviser jockeying to get ahead of the trend by launching a fund that invests in companies
before they go public.
James Gambaccini, managing partner at Acorn Financial Services in Reston, Va., has been buying shares of private companies for years through his network of connections. Now he's ready to start packaging
pre-IPO stock into a private fund that initially will be offered exclusively to his wealthier clients.
"I've been buying private companies for my own portfolio for quite a while," Mr. Gambaccini said. "And I've been matching up buyers and sellers since Facebook went public" in 2012.
The fund, which will be available later this year, is possible because of the demand for liquidity from some of the earliest investors in companies that have not yet gone public.
But as investors and advisers like Mr. Gambaccini effectively create a secondary market for pre-IPO companies, they are taking on the same kind of liquidity risk that the original owners are trying to offload.
"The biggest risk is that the company stays private for a long time," Mr. Gambaccini said.
Most privately owned companies retain the right of first refusal to buy back stock from shareholders; if a company is on track for an initial public offering, such buybacks are usually forbidden.
That's where Mr. Gambaccini sees an opportunity to build a portfolio of five to 10 companies that are in various stages of going public. "The idea is to have a liquidity event happening about every 12 months," he said.
In terms of investor appeal, there are several examples of what can go right by getting in early on an IPO.
BeyondMeat (BYND), a company that makes a plant-based meat substitute, has seen its stock gain more than 200% since its May 1 public stock offering, and shares of Silk Road Medical (SLK), a medical device company, have risen more than 140% since its April 3 IPO.
There are also
flops in the IPO space, as evidenced by the 60% price decline in the price of Guardion Health Sciences (GHSI) since its April 4 stock sale.
Josef Schuster, manager of the $1.1 billion First Trust IPO ETF (FPX), agreed that liquidity is the biggest risk when buying pre-IPO stock, but he added that a secondary risk is buying stock in a company that could fall flat in the public markets.
"We always talk about the great IPO success stories, but it's really like buying a lottery ticket," said Mr. Schuster, whose fund tracks an index of post-IPO companies and holds the newly public companies for set period.
"The big issue with owning shares of a private company is if the market turns south, how do you get out of your investment?" he added. "In some circumstances, the company might not go public and you will be sitting on those shares forever."
Mr. Gambaccini acknowledges the liquidity risks and admits the due diligence must be stepped up when dealing with private companies that don't publish as much balance-sheet information.
"The price we buy at is usually where the last round of valuation is," he said. "It can be difficult to value because private companies are not as transparent as public companies."
Acorn Financial manages nearly $1 billion in client assets, and Mr. Gambaccini said more than half of the clients qualify to invest in the private fund, which would have a $250,000 minimum. But he said the strategy would only be appropriate for about 20% of the clients who qualify.
