There is a new sheriff in town lead by the digital revolution. This sheriff is bypassing traditional money sources, traditional slow vetting processes, and speeding directly to eager, educated investors. There are new leaders in this field, allowing projects to sell a portion of their cash flows without lengthy due diligence processes, to raise capital for growth.
Below is Reprint by www.MorganShields.com and Scott Shields of Katy, Texas Houston, Texas.
The Fuel Powering Corporate America: $2.4 Trillion in Private Fundraising
The boom is transforming how companies grow, concentrating investing in fewer hands and raising concerns about oversight. When Telegram, the messaging-app company, wanted to raise funds, like many others it shunned the public stock market. PHOTO: CHRIS RATCLIFFE/BLOOMBERG NEWSBy
Jean Eaglesham and
Updated April 3, 2018 10:40 a.m. ET
When the messaging app Telegram set out to raise billions of dollars this year for a project to launch a cryptocurrency, it shunned the stock market and instead invited a select group of firms to invest in its virtual coins.
These investors would be backing a project yet to be built. Little was known about the private company’s ownership or finances. Even so, 81 investors stepped forward to pour in $850 million, with other financing rounds still to come.
It was a mark of the dramatic rise of private capital markets, which have leapfrogged public markets to become the most popular way for companies to raise money in the U.S., a phenomenon that in some ways is changing the very way companies run and operate.
Private markets have “reshaped the financial landscape,” said Jason Thomas, director of research at private-equity firm Carlyle Group LP. “The growth of private capital is across the economy.”
With little information disclosed about money raised privately, including the identity of investors, it is difficult to get a clear picture of what’s happening in these markets. An analysis by The Wall Street Journal found they have more than doubled in size over the past decade, surpassing the growth of public stocks and bonds available to all investors.
The Universe of Private Markets
Private equity and debt markets total more than $2.4 trillion, exceeding public stock and bond markets.
* Crowdfunding total represents amount offered
Sources: Dealogic; Wall Street Journal analysis of SEC filings; Token Report
At least $2.4 trillion was raised privately in the U.S. last year. That widened a gap that emerged in 2011 with the public markets, which raised $2.1 trillion, according to the Journal’s analysis of tens of thousands of securities filings and data provider Dealogic. Deals known as private placements, the largest chunk of the private markets, raised at least $1.6 trillion for businesses last year, according to the Journal’s analysis of more than 40,000 filings.
The private markets are fueled both by companies eager to raise money without the regulatory burdens of going public and by investors looking for new ways to score large payouts outside of the stock and bond markets.
The boom in such private dealings unquestionably helps some businesses grow. Private capital can encourage innovation by enabling companies to take risks without reporting the immediate impact on profits. That is one reason the expansion of private markets has been important to Silicon Valley.
“It’s fueling entrepreneurship,” because “companies have lots of options to access capital,” said Jacqueline Kelley, head of the Americas IPO Markets practice at accounting firm Ernst & Young LLC.
As private capital increases, public markets are shrinking: The number of public companies has fallen by more than half since 1996. This “de-equitization” of the U.S. concerns some regulators and challenges some of the fundamentals of corporate governance. “There are fewer investment opportunities for Main Street investors,” Securities and Exchange Commission Chairman Jay Clayton told a congressional panel last year.
Companies issuing stock and debt publicly must register with the SEC and provide intimate financial details. Regulators require little—in some cases no—disclosure in private fundraising. The process lets companies and the broader capital market operate and expand under the radar.
Investment in private fundraisings is often restricted to institutions such as pension, sovereign-wealth and hedge funds, Wall Street firms and insurance companies. In some cases, relatively affluent individuals can get in. The exclusion of smaller investors means, among other things, are unable to get a piece of the stupendous early growth of some startups, especially in Silicon Valley.
The typical number of investors in private placements last year was eight, according to the Journal’s analysis.
SEC Chairman Jay Clayton has expressed concern about the number of options for Main Street investors.SEC Chairman Jay Clayton has expressed concern about the number of options for Main Street investors. PHOTO:ANDREW HARRER/BLOOMBERG NEWS
The world of private capital markets includes companies of all sizes, from small oil-well operators to agribusiness giant Cargill Inc. that raise equity and float debt with a few investors. Besides those private placements, companies sell debt privately to big investors such as banks in what are called 144A deals.
New corners of the markets continue to emerge, from share sales via crowdfunding to initial coin offerings, or ICOs.
Last year saw many multibillion-dollar initial offerings in the private space that far outstripped initial public stock offerings. At least 20 private placements, mostly by funds, raised more $4 billion each, the Journal’s analysis found.
That included $93 billion raised by the Japanese conglomerate SoftBank Group Corp. for a technology investment fund, the world’s biggest. By contrast, the largest initial public offering of stock last year, by tech company Snap Inc., raised $3.9 billion, according toDealogic .
scott shields katy houston texas
Masayoshi Son leads SoftBank, which has raised a giant tech investment fund. PHOTO: NURPHOTO VIA GETTY IMAGES
A huge chunk of money is waiting for the right moment to pour in: Private-equity assets totaled $2.8 trillion as of June 2017, of which nearly $1 trillion had yet to be invested, according to the most recent figures available from data provider Preqin.
Private GrowthPrivate placements and debt offerings grew inthe past decade, as private capital marketsmore than doubled.Amount raisedSources: Dealogic; Wall Street Journal analysis ofSEC filingsNote: *Private placement shows regulation Dofferings †Debt shows rule 144A sales.
All the money looking for the next shiny investment helps explain the rise of the Silicon Valley phenomenon of unicorns—private companies that are valued at $1 billion or more by venture-capital firms. The number of U.S. unicorns tripled over four years, to 105 in February from 31 in 2014, according to a Journal tracker. Among them, the home-rental site Airbnb Inc. was valued at $31 billion in its ninth funding round a year ago.
Securities laws keep ordinary investors out of these high-growth markets, forcing the “little guy” to stick with a stock market that Elizabeth de Fontenay, a law professor at Duke University, describes as becoming a “holding pen for massive, sleepy corporations.”
Contrast this with two decades ago, when public markets ruled. Amazon.com Inc. went public as a three-year-old startup valued at $660 million. Stock investors who bought shares in the public offering in 1997 and held on have made returns of 96,389%, dwarfing the 364% total return of the S&P 500 over the period, according to FactSet .
scott shields katy houston texas
Amazon CEO Jeff Bezos, second from right, as Nasdaq began trading in 2001. PHOTO: JOHN RIZZO/BLOOMBERG NEWS
In more recent times, Facebook waited till it was eight years old before going public, and its 2012 IPO share price valued it at $104 billion. Ordinary investors, without the ability to invest in Facebook while it was still private, were left out of its colossal early growth.
Today, ride-sharing giant Uber remains private nine years after its launch. By the most recent available valuation figure, in June 2016, Uber had grown to be worth $68 billion, also without the participation of Main Street investors.
Uber’s most prominent investors, according to Dow Jones VentureSource. are a typical private-markets mix: venture-capital firms, Wall Street backers such as BlackRock Inc. andGoldman Sachs Group Inc., and governments such as Saudi Arabia and Qatar via sovereign-wealth funds.
SEC rules dictate that some private offerings be sold only to banks and institutional investors. Others can be sold to those firms plus “accredited” individuals, meaning those with more than either a $200,000 net income or a net worth of $1 million, excluding homes. This test leaves out about nine-tenths of U.S. households, according to a 2015 SEC report.
Regulators say the rules are there to protect people from the private capital markets’ risks, including swindlers who might exploit the sparse information and lax policing to target retirees or other small investors.
The SEC has brought some fraud cases involving private companies, such as February's’s civil charges against blood-testing company Theranos Inc. and its founder Elizabeth Holmes. Both settled without admitting or denying liability.
At an SEC conference last year, Michael Piwowar, a commissioner, questioned “the notion that nonaccredited investors are truly protected by regulations that prevent them from investing in high-risk, high-return securities available only to the Davos jet set.”
A Push to PrivatePrivate capital markets more than doubled inthe past decade, surpassing growth seen inpublic stock and bond offerings.Capital raised by U.S. companiesSource: Dealogic; Wall Street Journal analysis ofSecurities and Exchange Commission filings
.trillionPublic marketPrivate market2009’10’11’12’13’14’15’16’170.51.01.52.02.5$3.0
One of the private markets’ fastest-growing sectors is private credit. Information on how much is being lent, to whom and by whom is sparse. One indicator of this market’s growth is the increase in assets of funds set up for such confidential lending. These more than quadrupled over a decade to $722.8 billion by the end of 2017, according to data from private-market advisory and investment firm Hamilton Lane Inc.
The fast-growing market has made it easier for smaller and medium-size companies to get loans. But the risk of bad loans has moved beyond tightly watched banks into a largely unpoliced market, raising questions about whether defaults in a downturn could affect the wider economy.
The Journal looked at the single biggest private market, a type of private placement known as Regulation D, which can be gauged because those doing these deals file forms with the SEC. Regulation D offerings totaled at least $1.6 trillion last year, the Journal found, more than triple the amount in 2009.
Other private placements require no disclosure at all, said Anna Pinedo, a partner at law firm Mayer Brown. “It’s impossible to know who’s raising money this way or from whom.”
Private placements aren’t seen as inherently dangerous to the wider economy. Still, said Ms. de Fontenay, the Duke law professor, the fact that some areas of the private markets are “effectively black holes” makes it impossible to assess overall risks accurately. “It’s a concern if regulators don’t know the size of the market or what’s going on in it,” she said.
Even when companies disclose private placements, the very limited information leaves most in the dark.
Telegram is a good example. It has said nothing about the fundraising for its planned new digital network and banking system. It isn’t even clear who owns the company. The website says Telegram is “supported” by Russian brothers Pavel Durov and Nikolai Durov, who were named as Telegram executives in the SEC filing for the $850 million funding.
Telegram co-founder Pavel Durov, right, meeting Indonesia’s communication and information minister last year. Telegram recently raised money privately with minimal disclosures.
Telegram co-founder Pavel Durov, right, meeting Indonesia’s communication and information minister last year. Telegram recently raised money privately with minimal disclosures. PHOTO: ATAN SYUFLANA/ASSOCIATED PRESS
In its filing, the company, which has a widely used messaging app, reported revenue as “decline to disclose.” It provided only one contact, a law firm on the offshore financial center of Tortola in the British Virgin Islands.
Telegram’s app offers encrypted chats out of reach of law enforcement and it has been banned in some places amid controversy over use by terrorists or others trying to evade government surveillance.
The Telegram sale illustrates a risk in private markets. The prices of company shares listed on stock exchanges are displayed. Owners can generally count on finding a buyer at some price if they want out, whereas investors who become part owners of a business via a private deal have no such guarantee.
Shares issued in private placements also are generally “restricted,” meaning they usually can’t be resold for at least six months to a year.
Telegram has said it would refund investors’ money if its new digital network doesn’t launch by October 2019, according to documents reviewed by the Journal.
The same documents warn there “can be no assurance” of enough money left over to pay any such refunds.
Telegram has delivered early paper profits to investors. Though its planned digital coins have yet to be issued, the price to get in on them has shot up from 38 cents for each digital coin based on the first round of private funding completed in February to an expected average $1.33 in the second round that began in late February, according to documents reviewed by the Journal.
Charles Noyes, an analyst at Pantera Capital , a crypto hedge fund, called the technical plans published for the new network “completely unproven.” In a post on Medium, the analyst said he “would not put a single cent I care more than nil about losing into this.”
Steve Strongin, head of global investment research at Goldman Sachs, wrote in a February note that while few of the many cryptocurrencies issued so far are likely to last in the long term, “just because we are in a speculative bubble does not mean current prices can’t increase for a handful of survivors.”
Telegram didn’t respond to requests for comment.
—Miriam Gottfried and Maureen Farrell contributed to this article.
Write to Jean Eaglesham at firstname.lastname@example.org and Coulter Jones at Coulter.Jones@wsj.com