What is PIPE funding?
Let’s start with the definition of “PIPE funding” and how it differs from venture capital, private equity, and other investment vehicles. PIPE stands for “Private Investment in Public Stocks.” It is essentially the process that results in a private equity, venture capital, and/or hedge fund investment in a registered public company in exchange for ownership of stock, typically at a discounted price.
What is the relevant history of PIPE’s funding?
In the fourth quarter of 2007 there was a dramatic increase in the amount of financing provided to public companies due to the extraordinary stresses of the credit crunch that are now inherent in the subprime market. According to Robert F. Kyle, executive vice president of Sagient Research, the PIPE market reached historic levels in 2007 with more than $45 billion raised in the fourth quarter alone. That one-quarter total exceeded any annual total for the past twelve years.
Why is PIPE funding growing so fast?
Mark Twain once said, “I am more interested in the return on my investment than the return on my investment.” This statement echoes the main advantage for an investor in PIPE financing over the exit strategy. When an investor makes an investment in a company, one of the main concerns is the exit strategy. With PIPE financing, the company is public, so the investor has control over ownership of it and can buy more or sell at any time. Private companies are typically unable to provide liquidity to investors until an exit strategy is identified and executed, which typically carries great risk and over an extended period of time. This is the reason why PIPE funding has increased in the last 12 years. Another benefit of investing in public vs. private entities is disclosure. A public company is required to disclose financial information and is regulated by the SEC. Investors around the world, including hedge and hedge fund managers, institutional bankers and individual investors, refer to this information. Another main advantage for a public company is the ability of management to retain control. Angel and venture capital investors typically demand board seats and majority voting rights. In our experience, companies that take their business public and obtain PIPE funding retain majority ownership, allowing them to execute or modify their strategy to achieve company growth goals as they see fit.
Does your company qualify to be publicly traded?
Not every company is positioned to be a public company and we advise that companies always seek the advice of an industry expert who specializes in PIPE financing and the DPO process.
– Would your friends and family invest in your company? If not, there’s little chance someone else will. This may sound simplistic, however, in our experience, this is perhaps the most powerful litmus test of all.
– Does your company have the potential to reach a national or even global market? For example, a local flower shop with 10 locations would not be in a good position to go public. However, a florist with national growth aspirations such as nationalflowers.com may well be a viable candidate due to their national market plans and growth strategy.
– Does your company have a strong and experienced management team? A strong management team is the backbone of any company. Over the years, we have seen a sharp increase in the number of start-ups and early-stage companies going public to raise capital. However, to attract investors, these companies must demonstrate consistent revenue growth and/or a track record of success within a related industry. We often use the example of a local banker who wanted to market a golf ball that he developed and patented for national distribution. With no background in that field, his chances of succeeding in the public offering process were diminished. However, if that same inventor had a proven track record with similar development projects, his chances of going public and getting funding, even without existing revenue, would be greatly improved.
– Do you know how much capital your company needs? If your company is looking for less than $1 million, then the public listing process would be too expensive. The typical funding opportunity for a new public company is between $1 million and $10 million. However, established companies with revenues in excess of $3 million typically fetch larger sums once they go public.
– Can the company generate cash or create value? All public companies must perform for their share price to continue trending in the right direction. If a company can’t demonstrate the ability to generate cash or create value in the minds of investors as a private company, it probably won’t as a public company. Half the battle for a public entity is creating interest, a “buzz,” about the potential of the company or its product or service. This is critical not only to attract investors initially, but also to help maintain the continued health and growth of the business. If a business has a good story to tell and a product or service that fills a need on a regional, national or global scale, then the PIPE financing process is an excellent financing solution to consider.
How much does the IPO process cost?
The IPO process, which involves an underwriter like Goldman Sacks or Merrill Lynch, can cost a company up to $10 million. Direct Public Offerings (DPOs) for small and medium-sized businesses where an underwriter is not required due to the stock exchanges and sources we use cost around $100,000. The other big difference from the DPO process is the exchanges. Most direct public offering stocks are kept on the OTC bulletin board, often referred to as Pink Sheets.
In conclusion
PIPE funding has been increasing steadily over the past 12 years due to increasing amounts of capital allocated to hedge funds and private equity groups that invest primarily in public entities. The opportunities for start-ups, as well as investors, are enormous.
The advantages for private companies of going public through DPOs include:
– Low cost compared to IPO
– Access to a wider variety of investors
– Access to larger business growth investment funds
– Maintain operational control by the management of the company.
– Higher market valuation
The advantages for the investor in public entities include:
– Access to company data and finances, resulting in reduced risk.
– Integrated exit strategy
Although investors in public entities may not hold board seats or retain voting rights, leveraged ownership speaks volumes to company leaders and can be a very powerful motivator to continue moving the company in the right direction. . So the “exit strategy” certainly involves greater benefits than just the opportunity to liquidate an investment.