“Market is always right” - we all probably heard at one point or another. This phrase is frequently used to describe financial markets.
But markets are not always efficient, meaning that while over time markets tend to be right, at any given point in time the market might be mispricing particular investments for one reason or another. Warren Buffet famously said: “I’d be a bum on the street with a tin cup if the markets were always efficient”. Markets provide signals and create opportunities for entrepreneurs and investors to increase wealth and allocate capital where the returns are highest over time.
Some markets are more efficient than others and technology play an important role in creating efficiencies by disseminating the information and facilitating buy and sell transactions. However, private securities markets are very inefficient. Private securities markets are extremely important because they allow entrepreneurs to raise capital as they build their business. A few will eventually go on to conduct an IPO and exit into the public markets. But a vast majority of the businesses will remain in the private market for their entire existence. Therefore, private securities markets need to become more efficient.
I have met hundreds of entrepreneurs in the past 2 years, discussing and presenting how our technology can create efficiencies in private securities markets. Our platform allows entrepreneurs to access a broad network of investors and raise capital in a more efficient manner leveraging our technology. Nearly everyone was excited about a more efficient way to raise capital. Most CEOs I spoke with had a story about how long it took them to find investors, negotiate, and transact. In the meantime, their business struggled to grow at a higher rate than could have been achieved, opportunities were missed, and valuable products were not launched. So, all would welcome a more efficient market and better access to capital.
However, as a platform, we have also built an ability for investors to engage in secondary market trading. In other words, an investor can sell their investment on our platform if they choose to do so. It is a pretty novel concept, foreign to most private market participants.
When the time came to discuss the secondary market transactions where investors can sell or buy securities in their companies, most CEOs would turn cautious. Suddenly, a myriad of questions would come up. Some asked whether they can prevent their investors from ever selling, some asked if they could hide the transactions and prices from the market view. Many wondered if suddenly a lower price in the secondary market would impact their future capital raising. Basically, a more efficient market that was a welcome place to raise capital suddenly seemed like a potential threat.
To be clear, we do not believe that our mission is to create an active trading platform for private securities. We ourselves are firm believers in investing for the long term and hope that every investor on our platform finds investment opportunities that they can commit to for a long time. All private securities issued on the iownit platform are restricted from secondary market trading for 12 months, preventing a “flipping” attitude. But we also believe that a secondary market is an absolutely necessary feature of any effective and efficient market.
The secondary market imposes a greater discipline on the companies than almost anything else. If we look in the public markets, well-run companies get rewarded through a higher share price whereas poorly run businesses get penalized by investors relentlessly selling. Management of public companies looks to the market for important signals on whether investors are supporting them or not. CEOs spend time making sure that the investors and market participants understand the company’s vision, strategy, and performance. It is a dialog where both sides win.
CEOs of private companies can benefit from market feedback as much as CEOs of public companies. A well-performing company should command ever-higher valuation and demand for its securities. The discipline of communicating with investors, meeting strategic objectives, and growing the business will get rewarded. And if an investor wants to sell for one reason or another, the price at which the sale may happen is likely to be reflective of the company’s success. But when a company does not perform or is struggling to deliver returns, the secondary market will give appropriate signals much earlier.
Some may argue that public markets reward short-termism and obsession with quarterly results. But in fact, that is not the case. Public markets rewarded companies such as Amazon, Apple, and many others that had a long-term vision and were able to build great products or services. And at times when market participants unduly penalized the companies, investors that could see the value and buy at a low point got richly rewarded.
CEOs of private companies should embrace the secondary market for their securities the same way they embrace the market for their products and services. It will provide useful signals about the value they are creating for their investors. The recent trend of companies staying private for a long time and avoiding the scrutiny of the public eye resulted in debacles like WeWork.
So rather than resisting and trying to lock up their investors, CEOs should focus on how to make them long term partners. And if they do their part, investors will not even need the secondary market.