Investors raise pre-listing bets on the ‘next big thing’
US MUTUAL funds are placing bigger bets on privately held companies to get a head start finding the next initial public offer (IPO) superstar, a strategy that has yielded some dramatic payoffs and flameouts.
Fast-growing private companies such as Uber Technologies, Pinterest and India’s Flipkart Online Services have attracted billions of dollars in investment from US mutual funds, marking a rise in overall pre-IPO betting over the past few years, analysts and fund managers said. It is a way to boost their returns and differentiate themselves from faster-growing index funds.
Funds run by Boston-based Fidelity Investments and Baltimore’s T Rowe Price Group, for example, more than doubled their money with pre-IPO bets on Facebook. And shares of Zafgen are up 15-fold since the Fidelity Select Biotechnology portfolio made a pre-IPO investment of $11.2m in late 2013. Zafgen’s IPO was in June last year.
“We’re seeing more activity in the private market over the past few years as companies delay their IPOs and stay private longer,” said Katie Reichart, an analyst at fund research firm Morningstar. “It can be a big boost if they get in early. Mutual fund managers do not want to miss out on that runway to growth.”
A comprehensive, industrywide picture is difficult to track because mutual fund companies do not disclose their aggregate private company investments. Disclosures from number two US mutual fund company Fidelity, however, show that some of its biggest funds have more than doubled their pre-IPO investments over the past two years.
Of course, some pre-IPO bets have fizzled after firms made their stock-market debuts. Twitter was an IPO darling in 2013, helping Morgan Stanley’s $2bn Small Growth Company Portfolio generate a 62% return for investors that year. The fund invested in Twitter when it was a private firm.
Twitter shares have tumbled about 46% since reaching $69 a share last January. Last year, the Morgan Stanley fund lost 10%, partly because of Twitter’s plunge, while peer funds posted an average return of 2.4%, according to Morningstar. Morgan Stanley declined to comment.
Andrew Boyd, who oversees private investments for Fidelity, said the pre-IPO market has become the IPO market of the past, but it is only available to investors such as venture capital firms, mutual funds and hedge funds able to put up large amounts of money that once were only available through public markets.
Before, rapid growth might happen after a company’s IPO. But now, much of it is happening before the IPO as the pre-IPO financing allows companies more time to mature and get bigger out of the public eye.
From companies looking for capital, Mr Boyd said: “We hear that constantly over and over, ‘We’re just not ready for the limelight of (being) a public company. But we need capital!’” Once Fidelity invests it also holds regular meetings with firms to see if they can make accurate quarterly projections and handle tough questions from sceptical fund managers, he said. “Finishing school isn’t a bad way to think about it.”
As a result, a company such as ride-sharing service Uber may make its stock market debut with a value of more than $50bn. By contrast, Google’s market capitalisation was only about $23bn when it went public in 2004.
Funds run by Fidelity, T Rowe Price and Morgan Stanley’s investment management arm have become the most aggressive pre-IPO investors in the fund industry, US regulatory filings show.
Fidelity’s $111bn Contrafund alone had at least $900m invested in latestage, pre-IPO companies at the end of April, fund disclosures show. The fund’s pre-IPO investment in photosharing website Pinterest, valued at $419m, was more than its stakes in Home Depot ($356m) and General Motors ($342.5m).
Mr Boyd said Fidelity funds typically have less than 1% of their assets invested in pre-IPO companies.
Some of the biggest bets, as disclosed by the Fidelity funds, are on Uber, Pinterest, Intarcia Therapeutics and Space Exploration Technologies (SpaceX).
But Morgan Stanley’s $2bn Small Company Growth Fund takes a more aggressive approach. For example, about 5% of the fund’s assets are invested in pre-IPO companies.
And one of the single biggest preIPO bets, as a percentage of fund assets, is the Morgan Stanley fund’s nearly $50m investment in Flipkart, India’s biggest e-commerce firm. That is 3% of the fund’s assets, disclosures show.
We’re seeing more activity in the private market over the past few years as firms delay their IPOs and stay private longer