Illustration for article titled What Are Pre-IPO Stocks and Are They Worth It?Photo: Hadayeva Sviatlana (Shutterstock)

Before a private company goes public initial public offering (IPO) they could set aside a few stocks to be bought in what is called a Placement before the IPO. You can make lots of money on pre-IPO stocks, but the risks are also significant. Either way, getting your hands on these early bird stock deals isn’t easy. Here’s how pre-IPOs work, and how to determine if they’re right for you.

What is investing in before going public?

A pre-IPO is like an IPO in that it is an opportunity for investors to buy shares in a company for the first time, but it differs in that you are still investing in a private company, not a company that is just that has become public. In fact, there is no guarantee that a pre-IPO will ever go public.

Since pre-IPO investments are typically offered in large blocks of shares, most of these investments are made by private equity firms, hedge funds, and large investment banks. Pre-IPO stocks are also subject to a lock-up period, which prevents buyers from establishing a secondary market where they can sell their stocks immediately for short-term profits.

What are the benefits of pre-IPOs?

The big advantage of pre-IPOs is that you can beat the crowd in owning stocks for a company that could be the next Alibaba or Google. Also, these stocks are usually offered at a discount.

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Investors can also benefit from a “first-day pop,” where a stock makes significant gains on the first day of an IPO (for example, Alibaba shares were trading 36.3% higher than their offer price on the first trading day). The benefit can be enormous.

Illustration for article titled What Are Pre-IPO Stocks and Are They Worth It?

What are the risks of pre-IPOs?

There is no guarantee that a company’s stock will perform well – and worse, your investment will be held hostage until the IPO closes, which it may never do. And even if a company has its first “pop” on day one (again, there are no guarantees), the stock price could still fall below what you later paid for it.

They also have limited information or transparency about how a particular company works because the company is not yet publicly traded. The best way to illustrate this is to imagine buying a bunch of stocks on We Work before going over-hyped corporate disaster– just before their IPO fell apart.

How to invest in pre-IPOs

It’s not easy – unless you are an institutional investor or one wealthy person with connections – but there are still ways a regular individual investor can get a pre-IPO placement. via

  • Crowdfunding platforms. Invest through platforms that offer pre-IPO stocks, such as: Our crowd, SharesPost or EquityZen.
  • Indirect exposure. It is common practice for companies to invest in companies. If you can’t directly back up a stock, consider investing in a publicly traded company that participates in private fundraisers.
  • Placement broker before going public. Some banks, credit institutions, and investment brokers specialize in pre-IPO placements, so you may have access to pre-IPO stocks through third parties.
  • Become an Angel Investor. While it may not be a viable option for everyone, becoming an angel investor is a way to support private businesses. Angel investors are allowed to participate in pre-IPO placements. So, if you already qualify as an accredited investor, consider becoming a full-fledged angel investor and join a syndicated angel list.