Ian Wyatt is pitching a “pre-IPO” opportunity in Spotify, the music-streaming business that is going public on the NYSE tomorrow… so what’s the story? Can you “get in early?” Should you want to? What’s this all about, anyway?
We’ve gotten quite a few questions slipped under the door here at Gumshoe HQ about this one, so I’ll try to get you some answers.
Here’s a taste of how this was promoted in the ads for Wyatt’s Million Dollar Portfolio ($795/year), in case you missed those ads:
“Spotify shares GO PUBLIC Tomorrow! That means this is your LAST CHANCE to buy ‘pre-IPO shares.’
“Your urgent IPO briefing starts in just a few minutes at 12pm ET / 9am PT- set a calendar alert RIGHT NOW.
“This is an EXTREMELY LIMITED situation you don’t want to miss!”
(And yes, in case you’re wondering, this is another of those “no refund” services… they say that it’s “satisfaction guaranteed,” but that guarantee just means that if you want to cancel you’ll get either a credit for other Wyatt newsletters, or you’ll get another year free — which is a frequent guarantee that I don’t understand: “It turns out that this newsletter is a terrible fit and was misrepresented in the ads and I don’t like it at all, so gosh, it’s great that now I get it for two years instead of one!”)
Newsletters love to tease “pre-IPO” opportunities, because it makes it seem like they have secret, insider access that they can sell to you, and they like to profess that they can provide inside access to the “little guy” (for a fee) … and they find a willing audience, because we are conditioned by the financial press to believe that IPOs are millionaire-makers that would let you bathe in $100 bills if only you could get in early.
So what’s the story? Can you really get access to Spotify before it starts trading tomorrow?
Yes. Sort of. As long as you want to buy a basket of other companies, too.
Wyatt says you can buy pre-IPO shares in Spotify and in other Silicon Valley companies, and that if you wait for the IPO you’ll pay 50-100% more for Spotify after it goes public tomorrow. And that might be true, we won’t know until it starts trading what the public valuation of Spotify will be.
That’s because Spotify is not actually having a traditional IPO — IPO stands for Initial Public Offering, usually used when a company wants to sell part of itself to the public to raise capital for expansion (or let early investors sell their holdings), and Spotify is really just listing its stock… though there will, of necessity, be some selling as part of that (otherwise, there wouldn’t be any shares to list).
So Spotify is not marketing themselves or selling shares to raise money for expansion, they’re trying to cut out the Wall Street middle man and avoid the underwriting process, and just take the shares that already exist and make it possible for their employees and their early investors to sell shares if they want to.
In the future, I imagine they’ll probably also do a stock offering if the shares trade at a good price — but for now, they don’t need the cash, so they’re going to let the market set the price. That gives them what their early investors and their employees want, which is liquidity for the shares they hold, but it means they don’t have to go through the process of trying to engineer a share price on day one that generates a “pop” for the underwriters and fat cats (IPOs are generally offered to the biggest or most valuable accounts), and they don’t have to pay nearly the fees that public offerings usually entail.
So the stock will essentially go public at an auction price that is determined by market makers based on the volume of buy orders they’ve received at the open — most brokers will open up SPOT for orders a couple hours before the market opens, and the market maker will come up with a price that generates good fills for all the insider sell orders they have in hand. And it will almost certainly be dominated by retail investors, since the institutions will probably mostly want to offer lowball bids until they see which way the wind blows (particularly since tech stocks are currently getting treated quite poorly by the market).
The price target for Spotify that Wyatt refers to obliquely is more than double the value on the private market, and from what I read that’s one reasonable interpretation, that SPOT could double over the next year (price targets are not for tomorrow, they’re generally for the next 12 months). This article, for example, notes that one analyst has a $220 price target and another puts it at $160, while the most recent private sales, probably by employees, were between $97-127.50 a share back in February.
This is not a tiny company that’s yet to grow into its opportunity, it’s a bet that a very large company will get much larger — if the price is around $200 when it starts trading, that would mean the company is valued at close to $40 billion. By way of comparison, Netflix (NFLX) was a $40 billion company as recently as 2016, when it had revenue of about $8 billion. MaMark Mahaney, the analyst who has that $220 price target, expects SPOT to have sales of $8.3 billion in 2019… so we’re getting a story, at least from those who are bulls, that this is very much a “Netflix for music” stock, and deserves a similar valuation.
Wyatt has pitched these kinds of pre-IPO investments before, including the failed Facebook clone Renren (RENN) that turned itself into a fintech venture capital investor (that’s down from about $18 to $8 in four years), as well as, just last Fall, a pitch that also referenced Spotify back in September.
And, it turns out, that was reasonable timing for a couple of the publicly traded investment funds that own Spotify shares — Firsthand Tech Value Fund (SVVC) is up about 40% since then (most of that was returned to investors in the form of a special dividend at the end of the year), and GSV Capital (GSVC) has essentially the same return. T
hat has really helped both of these venture capital funds to emerge from the doldrums they were stuck in back in 2016, when there was a dearth of “animal spirits” in the market and a shortage of IPOs to get investors jazzed up about buying “pre-IPO” stocks… but, of course, the fees and hit or miss nature of these investments also mean that they have to average out all the failed investments, and they have failed to keep up with the S&P 500.
So is that still what Wyatt is pitching? Shares of SVVC or GSVC? Let’s get to the actual clues…
And, really, by the time we get to the clues the story has already changed… it’s no longer just “how to get Spotify shares before the IPO” … it’s the very different “How to develop a portfolio of 100 pre-public investments.” Which means, if you’re thinking along at home, that these are going to be diversified funds that won’t move all that much based on whatever the price change is for SPOT shares between February and tomorrow.
Here’s what Wyatt says — I’m using my notes, so these aren’t direct quotes, but I’m paraphrasing:
These three easy investments will let you build a portfolio of pre-IPOs. They have many benefits, including liquidity and diversification, and with each you’ll own 30-50 pre-IPO investments that are professionally managed.
OK, which ones?
Closed-end fund that started in 2011, has invested over $200 million in 22 companies, made big returns in Facebook, Twitter, Solarcity and others.
They also have paid large dividends, and the founders are buying stock. The portfolio also includes Cloudera, Hightail, Pivotal, Roku, and Wrightspeed, among other companies.
So yes, that’s Firsthand Technology Value Fund (SVVC), which is a publicly traded venture capital fund. SVVC’s performance has been dominated by a few large successes, primarily Facebook and Twitter, not only because those two picks made most of the returns that SVVC has generated since going public, but because those two hotly anticipated IPOs were also what drove people to buy SVVC shares to get access to “pre-IPO” pieces of Twitter or Facebook. In fact, they held so many Twitters shares for a while, even after the IPO, that the fund traded almost as a Twitter proxy (which, until recently, was mostly a bad thing).
You can peruse their website here, including reports about the “exits” they’ve made and the fund’s performance since inception. As has been the case for quite a while, SVVC is trading at a pretty steep discount to their assessed net asset value… and more than half of their value is in their top five positions, any of which might be interesting but none of which are “name brand” private companies like Spotify (or Uber, or AirBNB). Given the crazy valuations that most of the “name brand” pre-IPO companies reportedly carry, perhaps that’s a good thing.
BDC founded in 2010 by a Sillicon Valley banker, also an early investor in Facebook and Twitter, current owns 46 pre-IPO investments and has invested about $300 milllion. Trades on the Nasdaq. Trades at a discount to NAV, target price is 42% upside. He thinks it should trade at a premium, he says they’ll reap a huge private windfall when spotify starts trading.
Spotify is 2nd largest position, Dropbox was fourth largest and also just went public, so he thinks the shares will surge following SPOT’s IPO.
That one is GSV Capital (GSVC), which I’ve also owned and written about before… though I gave up on the fund after they continued to be a drain as the last hotly anticipated IPO from their portfolio failed to drive interest (that was Snap (SNAP)… remember them), sometimes there’s only so long you can stand to invest in paying management fees while there’s no investor interest in the underlying companies.
But, like SVVC, GSVC trades at a steep discount to the assessed value of its portfolio… and it is, in fact, a major investor in Spotify, with SPOT representing about 15% of their portfolio (second largest holding, behind the also-oft-teased Palantir). Dropbox is also still a big chunk of the portfolio, though you might note the fairly limited importance of that to GSVC’s share price — Dropbox (DBX) jumped as much as 10% after the IPO, but it did not do anything for GSVC’s shares. That doesn’t mean anything, we’re talking about less than two weeks since the DBX IPO, but it does mean we should probably limit our expectations.
GSV’s long-term investments are valued at $320 million on their balance sheet, and they say the fair value of their SPOT shares is $30.7 million. I don’t know what they’re using for fair value, but it’s probably at least $100 a share, since that’s the lowest price at which private shares were sold in February. If it is at the low end like that, and SPOT surges to $200 shortly after it starts trading (which is certainly possible, though I don’t know what the probability is), then it’s possible that those SPOT shares could be worth $60 million in the near future. If that’s the case, it’s possible that the book value of GSVC could surge to $11 a share.
Of course, GSVC also trades at a steep discount to book value, the late December book value was $9.63 and the shares now trade at $7.25… so if that kind of discount persists and the shares still trade at roughly a 25% discount to book value, perhaps the stock could have potential upside to $8.30 or so. Also a gain, in case you want to close the loop on the math, of about 15%.
So yes, if SPOT is twice as valuable tomorrow as people thought it was in February, the shares might surge 15%. That’s a reasonable guess, though it could obviously change if sentiment shifted — if investors decided to start paying a premium for access to GSV Capital’s portfolio, the stock could easily double from here. It’s just that they haven’t wanted to do that in recent years… and it tends to be profit lust that drives those kinds of moves, which doesn’t feel like the most prevalent sentiment in the market right now.
Wyatt also hints at another investment, a mutual fund, and I bet you can guess what that is…
Mutual Fund — started by a softbank exec who managed $1.5 billion started the fund, it invests in late-stage VC-backed tech, has made 39 pre-ipo investments and has a $2,500 minimum.
Owns shares of Appdynamics, Cloudera, Spotify, Lyft, Docusign, Openx, SoFi, Spruce, etc.
So yes, that’s the SharesPost 100 Fund (PRIVX), which is a limited access mutual fund (meaning it doesn’t have daily liquidity — it prices like a mutual fund, and can be bought every day at NAV, but you can only sell during their quarterly liquidity offerings, and if everyone wanted to sell at once your sales would likely be restricted).
I have a few shares of PRIVX in my portfolio still, I bought some when I was researching it for a Michael Robinson teaser and interviewing the fund manager a few years back… it has done fine, though has certainly not beaten the market, and it will never be as exciting as the publicly traded funds because it doesn’t trade at a discount or a premium, so you won’t be able to buy it when no one cares at 50 cents on the dollar and sell it when everyone’s red-eyed with profit lust at $2 on the dollar. But it’s an interesting diversifier, at least, and I like reading their updates.
If you want to buy Spotify, though, there’s no need to get in on a portfolio of other stocks you don’t want just to get some limited “bump” from any possible surge in SPOT shares… unless you’re excited about spreading your investment among 30 or 40 different private companies, half of which (or more) will disappoint and most of which you’re not particularly interested in, why not just buy SPOT shares tomorrow if you want to buy SPOT?
Of course, we don’t know if they’ll have a $20 billion valuation or a $50 billion valuation… but we do know that it will probably be volatile over the next few months, because trading will be initially dominated by retail investors and will not be “managed” by the bankers who backstop traditional IPOs. Volatility brings buying opportunities if you’re convinced about the fundamental promise of the underlying company — I wouldn’t say I’m there yet with Spotify yet, but if you’re convinced, as Wyatt seems to be, that it will be the next Netflix (and not the next Pandora), then look for a chance to buy it at a valuation that makes sense to you. It’s a $20-40 billion company, and it’s not going to go up 1,000% in a year, so you’ll have time to think.
There’s a big difference between buying “pre-IPO” companies like Uber or Palantir or Dropbox or Instagram really early, when they’re very risk and they’re getting their very first venture capital investments, and buying these well-known private companies after lots of people have heard of them, when they’re within a couple years (or a day or two) of an IPO. The former is a home run derby, with lots of strikeouts and the occasional incredibly huge success… the latter, especially these days, is simply a way to diversify your portfolio a bit and profit from the valuation boost that companies historically get in the years between when they become stable and sustainable and when they actually go public.
Both strategies make some sense in providing long-term returns as part of a portfolio, but we shouldn’t mix up these two strategies… buying a stock right before the IPO is not going to make you 1,000% returns when the company surges into the public markets. The IPO might provide a “pop” in the value of the company, but the private markets are much more robust now and competition for “hot” stories in private companies can get fierce, too, leading sometimes to stocks that appear wildly overvalued in the private markets (like Uber — though often those private values, like Uber’s $65 billion valuation, are not real)… and the company that goes public with a massive price spike and never looks back is quite rare, usually you’ll see buying opportunities at lower prices at some point.
And these three publicly traded venture capital investments are all aimed at pretty mature companies — these are not funds that are going and sniffing out the next Mark Zuckerberg in his dorm room, they are mostly just trying to buy a piece of successful private companies in the 3-5 years before those firms move to going fully public. That has worked reasonably well, on average, but it doesn’t necessarily beat investing in the stock market, and it doesn’t mean you’re going to get those crazy 1,000% or 50,000% returns that are sometimes made by extremely early state venture capital firms who nurture and build those real “startups” (of course, you probably aren’t going to strike out 95 times out of 100 like they might, either).
So there you have it… a long presentation urging you to “Get in early!” on Spotify, and it’s really just touting the same three publicly traded venture capital investments that are most often touted by newsletters. Here’s how those three funds have done over the past three years, just to provide some perspective (the red line is the S&P 500 — if you go back further the underperformance gets a lot more dramatic, but PRIVX hasn’t been around five years so I kept the chart at three).
Near the end of his presentation, Wyatt did also note that he is going to have an “urgent buy alert” for an investment started by a former Facebook exec who is trying to make a major pre-IPO investment — and he says it’s a fund that you can buy for the value of its cash…
… and that sounds an awful lot like Social Capital Hedosophia (IPOA), a “blank check” company helmed by Chamath Palihapitiya, which I’ve written about for the Irregulars a few times and bought personally back in September. That’s not an unusual valuation, by the way, almost all blank check companies trade at about the value of their cash — that’s all they own, after all, some cash and the hope that they’ll buy a worthwhile investment with the cash. Nothing magic, but Chamath is an interesting guy and I hold out hope that he’ll make a worthwhile investment… if not, as with most such companies, shareholders can effectively “opt out” of the deal and get most of their cash back instead.
So how will it all work out with Spotify, do you think? Will lightning strike again, and turn Spotify into the next Netflix? Are you interested in jumping into SPOT trading on the first day tomorrow, or do you think that GSV Capital is a more appealing leveraged exposure to SPOT shares? Like or dislike these public venture capital fund investments in general? Let us know with a comment below.
Disclosure: I own shares and warrants on IPOA, and have money invested in the SharesPost 100 Fund. Among the companied mentioned above, I also own Facebook shares. I will not trade in any covered stock for at least three days, per Stock Gumshoe’s trading rules.