Many business owners are satisfied with their own company. But many others enjoy the thrill of the chase and the prospect of more happy returns. If you’re in the latter camp, then buying into private companies can generate big payoffs and an opportunity to put your expertise to work.
Mark Borkowski, president of Toronto-based Mercantile Mergers & Acquisitions Corp., works with many entrepreneurs looking to invest in private companies. Typically, his clients are very wealthy entrepreneurs who’ve cashed out but want back in. More often than not, they’re buying themselves a job.
“Private investors are going to be dealing with companies that need someone to get involved, hands-on,” he says. That’s because most of the deals out there involve companies that are underperforming. They might have a good underlying business model, but they suffer from an Achilles heel they can’t overcome, such as management squabbles, outdated technology or financing problems.
An entrepreneur who buys into a company can offer experience, knowledge and contacts that help the enterprise perform better — sometimes much better. Borkowski says that 70% of private investments he’s been involved with have been successful — generating annual returns on equity of 20% to 45% over five years — while 30% have been unsuccessful, typically within two years and at a complete loss to investors. He once worked with an accountant who plugged $400,000 into a company and started working there on a project basis. It soon became a full-time job, and the company subsequently grew its revenue from $2 million to $50 million. After seven years, the firm was acquired and he sold his shares for $11 million.
There’s no plain-vanilla approach to structuring private investments. Some are straight equity deals. Others have a lending component. Some investors want to be silent partners, others want a spot on the board and still others want to sit in the CEO’s chair.
THE CATCH: The risks are obvious, but can be reduced by splitting your capital among a number of private companies, investing in industries you know and learning as much as you can about the firm and its managers. More important, it can be hard to cash out before the firm goes public or is acquired. If you’re prepared to buy, then also be willing to hold.
TURBO TIP: Your prospects for making more money sooner rise if you invest in a business with a good chance at a near-term “liquidity event” — say, a tech company that will use your funds to commercialize a product that’s attractive to venture capitalists. Applying hard-won lessons from your own business helps, too.
© 2004 Caroline Cakebread