Investing in early-stage unlisted private growth companies can come with high rewards, but there are several risks that prospective investors should be aware of before investing in such companies. Overall, investment in small or early-stage companies should be regarded as high risk. There is a greater chance of losing your investment than investing in a larger more mature and diversified company with a listing providing liquidity.
Your invested capital is at risk if you invest in early-stage unlisted private growth companies which have limited revenues and are not financially self-sufficient. They are also more vulnerable to becoming loss-making as a result of the loss of a single contract, customer or employee than larger more mature companies. Early-stage growth companies have a high failure rate. You must assume that many of the companies of this profile are very likely to experience difficulties, be unable to cope with those difficulties and, in some cases, become insolvent. As a result, you may lose all of your invested capital. You should not make an investment you cannot afford to lose.
Shares in early-stage unlisted private growth companies are highly illiquid – meaning that there are limited opportunities to buy and sell them. Once you’ve invested in shares in an early-stage unlisted private growth company, it is extremely unlikely that you will be able to sell them through a secondary marketplace. In other words, it is likely that you would have to hold on to them until there is a strategic exit – like a management buy-out or a sale of the business, if such a strategic exit occurs at all. It will typically only occur if the business is sufficiently successful to be acquired by another company or sufficiently large and consistently successful to achieve a listing. Until the strategic exit occurs your investment is illiquid and cannot be returned to you. You will be unable to access your capital when and if you need it. You should therefore only invest capital which you do not need access to at any given date.
Most early-stage unlisted private growth companies don’t pay any dividends to shareholders because they consume the cash they generate and more besides in order to achieve growth or sustain early trading losses. That means you are highly unlikely to receive any income from your shares, even for profitable enterprises. You should not rely on your investment to provide you with any income at all. You will need to wait for a successful exit, which cannot be guaranteed, before receiving any return of invested capital.
Shares in early-stage unlisted private growth companies tend to be subject to dilution. If the business wants to raise more capital at a later date, it will probably issue new shares to new investors, thereby reducing the percentage that you own. If the company needs to raise money at a point in time when its fortunes and valuation are at a low point, the dilution will be very significant indeed- you cannot assume that the shares will always be worth at least as much as they are worth at the point you invest. Your investment will also be diluted as a result of options being granted to employees of, service providers to or certain other parties connected with, the Company.
Prospective investors in EIS and other early-stage business opportunities should always consider the importance of spreading risk by investing in multiple ventures as opposed to a single opportunity. The tax advantages are the same, but you are potentially less likely to incur a total loss should one or more business fail. It is also important to have the majority of your investment portfolio in less risky asset classes such as Government bonds and publicly traded shares. The lack of diversification of early-stage companies is a significant risk factor because they are highly susceptible to negative events affecting their clients’ contracts and/or employees.
Tax reliefs are not guaranteed. They depend on the venture maintaining its qualifying status and may be withdrawn at any time by HM Revenue & Customs. An investee company may as a matter of commercial expediency take actions which result in a loss of investor tax reliefs. In addition, the tax treatment of EIS and SEIS schemes in the future depends on the individual circumstances of each investor and the rules may be subject to change in the future.
Potential Investors should not assume that any Company’s past performance or the fund manager’s past performance is a reliable indicator of future performance. Furthermore, potential investors should not assume that a company’s forecasts for future sales profits and cash flows are reliable.
Galaev & Co Ltd is authorised and regulated by the Financial Conduct Authority in the UK under firm reference number (FRN) 922358. Galaev & Co Ltd does not provide investment advice to clients in relation to investment activity. It does not advise you to invest, or recommend that you invest, in any company or investment opportunity which it identifies. If you require professional financial advice you should engage a suitably qualified independent advisor.