Amid an SEC crack down on pre-IPO trading, the market is calling for more transparency around secondary -market trading.
It used to be that venture investors had to wait untl an acquisition or an IPO of their companies in order to get liquidity. But increasingly secondary trades have helped them get relief a lot sooner. This phenomenon has exploded with the advent of secondary trading platfors, like Second Market, where private transaction dollar volume in the first nine months of last year hit $475 million.
Secondary markets help everyone, from investors, founders, and people seeking a new asset class to place bets on.
At Venture Shift NY, we brought a group of very smart people together to talk about how secondary markets are helping the entrepreneur ecosystem take more risks by allowing entrepreneurs and the investors who bet on them to take money off the table well before an exit.
On the panel were Spencer Punter from Capital Dynamics, Dani Hughes from Divine Capital Markets LLC , Ward Breeze, an attorney at Gunderson, Ed Zimmerman, a prolific angel investor (having invested in 27 start-ups) and attorney at Lowenstein, David Cundey of Credit Suisse, and moderator: Duncan Davidson, partner at Bullpen Capital.
Some key takeaways.
Cundey noted that Second Market is taking the risk out of entrepreneurship. In the old days, it used to be that people had to wait until an IPO to get liquidity. But unfortunately, when employees had the chance to liquidate their stock (typically six months after the IPO), the stock would be underwater. These days, secondary markets helps employees and investors get out while the stock has value. For instance, secondary markets could provide an opportunity for current employees to cash out at Tumblr's $800 million valuation.
Zimmerman: Secondary markets emerged because the holding periods were just too long for VCs. The trend in secondary markets started about five to six years ago.
Punter: In the last decade, limited partners have allocated more of their private equity capital toward venture capital. About 10 years ago, they allocated 1%. That's gone up to double digits. But this won't continue to happen if there are no liquidity events. In order for LPs to be inspired to put more money to work in venture capital, they need to see liquidity. Hold times need to shorten. "We feel good about taking a little off the table."
Zimmerman: Secondary liquidity is good for this whole class of seed-stage investors, like First Round Capital, which is fhte first institutionalized super seed fund. When they can liquidate, they can also recycle the money back into the system. This is a tremendous driver of employment and innovation.
Hughes: In the old days, market makers provided liquidity in public markets. Then day traders provided that. At the same time, the flood of information allowed traders to make decisions. But the activity won't happen on secondary markets unless there's more information to trade on. How do we convince these private companies to give us more information?
Punter: The key to secondary markets is "full disclosure." If there's going to be more activity on secondary markets, there needs to be more information available.