Understanding private market valuations
Private markets have been around for centuries, but only recently have they become more accessible to the general public. Private market investments can offer higher returns than traditional public market investments, but they can also be more risky and complex. One key aspect of private market investing is understanding how private market valuations work. In this blog post, we will break down the basics of private market valuations for non-sophisticated investors who are new to private markets.
What are private markets?
Before we dive into private market valuations, let's define what we mean by private markets. Private markets are investments that are not publicly traded on exchanges like the New York Stock Exchange or NASDAQ. Examples of private market investments include venture capital, private equity, real estate, and hedge funds. These investments are typically only available to accredited investors, which means they have a high net worth or meet other financial requirements.
Private market investments can offer higher returns than public market investments because they are less liquid and less transparent. This means that they can be riskier and more complex to invest in. However, private markets also offer the potential for higher returns because they allow investors to access early-stage companies and real estate properties that have not yet gone public.
What is a private market valuation?
A private market valuation is the process of determining the value of a privately held company or asset. Unlike publicly traded companies, private companies do not have a stock price that can be easily tracked on an exchange. Instead, private companies must be valued based on a number of factors, such as their revenue, profits, assets, and potential for growth.
Private market valuations are typically done by professional investors, such as venture capitalists or private equity firms, who are looking to invest in the company or asset. These investors will analyse the company's financial statements, market potential, management team, and other factors to determine what they believe the company is worth.
Private market valuations vs public market valuations
The process of valuing a private company is very different from valuing a public company. Public companies have a stock price that is based on the supply and demand of the market. The stock price of a public company is constantly changing based on news, earnings reports, and other factors.
Private companies, on the other hand, do not have a stock price that is publicly available. This means that their valuation is based on other factors, such as revenue, profits, and potential for growth. Private market valuations are typically done by professional investors who have access to detailed financial information about the company.
Why do private market valuations matter?
Private market valuations matter because they determine the price that investors are willing to pay for a company or asset. If a company has a high valuation, it means that investors believe it has a lot of potential for growth and are willing to pay a high price for it. If a company has a low valuation, it means that investors are less confident in its potential and are only willing to pay a lower price for it.
Private market valuations also matter because they can have an impact on the company's future fundraising efforts. If a company has a high valuation, it may be easier for them to raise money from investors in the future. On the other hand, if a company has a low valuation, it may be more difficult for them to attract new investors. Real life examples of private market valuations To illustrate how private market valuations work in real life, let's look at a couple of examples.
Example 1: Uber
When Uber was still a private company, its valuation skyrocketed as investors saw the potential for the ride-sharing industry. In 2014, Uber raised $1.2 billion in funding at a valuation of $17 billion. Just one year later, Uber raised another $1 billion at a valuation of $51 billion. This increase in valuation reflected the company's growth and potential for future success. However, it's important to note that private market valuations can be volatile and subject to change based on a variety of factors.
Example 2: WeWork
Another example of private market valuations is WeWork, a company that provides shared office spaces. In 2019, WeWork was preparing for an initial public offering (IPO) but ultimately decided to postpone due to concerns about its valuation. WeWork's valuation had reached as high as $47 billion in private market transactions, but public investors were sceptical about the company's profitability and future prospects. Ultimately, WeWork's IPO was cancelled, and the company was forced to restructure and cut costs in order to remain afloat.
Understanding private market valuations is an important aspect of investing in private markets. While private market investments can offer higher returns than traditional public market investments, they can also be riskier and more complex. Private market valuations are used to determine the value of a privately held company or asset and can have an impact on future fundraising efforts. Real life examples like Uber and WeWork demonstrate the volatility and subjectivity of private market valuations. As with any investment, it's important to do your research and consult with a financial advisor before investing in private markets.