NASDAQ And SharesPost’s Private Market Is A Good Idea But Has A Long Way To Go

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    Quick Take 

  • NASDAQ announced a JV with SharePost to create a platform on which shares of privately held companies could be traded.
  • The platform is scheduled to be launched later this year if it manages to get the required regulatory approvals.
  • If successful it could give NASDAQ an edge over competitors by giving it the ability to cultivate companies on this platform until they grow large enough to be listed on its main exchange.
  • However, the company has been unsuccessful in gaining a foothold in this segment till now.

This week NASDAQ OMX (NASDAQ:NDAQ) announced a joint venture with SharePost, a market for trading shares of privately held companies, to create a platform, called NASDAQ Private Market (NPM), for trading securities of high growth, non-listed firms. The platform is expected to be launched later this year and is subject to regulatory approvals. [1]

We believe that this is another (appreciable) attempt by the exchange operator to attract more companies to its platform, especially since competitors like NYSE Euronext (NYSE:NYX) have been gaining ground on the firm in the race for technology IPOs. [2] If successful, the move could bring a significant strategic advantage to NASDAQ OMX group by allowing it to list (and “cultivate”) private firms on this platform until they grow large enough to be transferred onto the main exchange.

However, we don’t think there will be much impact on NASDAQ’s stock price in the near term given the regulatory uncertainty and limited size of the current opportunity.

See our full analysis for Nasdaq OMX

This Is Not The First Time NASDAQ Has Tried It

One of the reasons for our conservative outlook regarding this news is that the development in the area has been very slow and NASDAQ has tried the same thing, (somewhat unsuccessfully, on at least two occasions in the past.

The SEC had approved NASDAQ’s idea of such a market since 1990, the same year when it passed rule 144A – the rule that allows securities of non-publicly held securities to be sold to a maximum of 499 qualified institutional buyers (QIBs). [3]

However it was only in 2007 – seventeen years after receiving regulatory approval – that NASDAQ started the PORTAL Alliance, a platform with very similar objectives to NPM, in partnership with large investment banks such as BofA-ML, Citi, Credit Suisse, Deutsche Bank, Goldman Sachs, J.P. Morgan, Morgan Stanley, UBS and Wells Fargo. [4] Yet, the platform did not spark too much interest and, as last reported by P&I Online, was still looking to complete its first transaction in 2010. [5] As of this writing, we were unable to find a list of issuers that are listed on the PORTAL Alliance platform.

Then in 2011, NASDAQ announced BX Venture Market to serve early stage companies (small cap firms) and companies that were de-listed from a national stock exchange. [6] As of this writing their website states that the “development for the BX Venture Market is on hold.”

However, despite NASDAQ’s unsuccessful attempts in the past, there are reasons to remain hopeful as the model is not without any precedent. The London Stock exchange has operated AIM, short for Alternative Investment Market, in Europe since 1995. More recently, the British exchange has expanded this alternative market geographically with the launch of AIM Italia in March 2012. In the U.S., the NYSE operates a junior market called NYSE MKT (erstwhile NYSE Amex LLC), which has the same intent as BX Venture Market.

Oversight Is A Problem For These Markets And Liquidity Is Low

As mentioned above, rule 144A allows only qualified investors to participate in these markets. To qualify, these investors must have over $100M in assets. That leaves very few players to act as buyers in these markets. Further, the sellers on such platforms are most likely to be ex-employees and early stage investors, looking for an exit opportunity. Also, since the proposed market will allow listed companies to control who can sell shares and when, the liquidity is likely to remain low. SharesPost could potentially help in this area as its forum has managed to clear the 144A hurdle as long an investors are accredited.

These markets have often also found themselves subject to scrutiny and criticism due to the high risk associated with them. As lately as December 2010, the SEC was reportedly scrutinizing the trading of privately held company shares to ensure that the number of shareholders did not exceed 499 – in which case those companies are bound by law (rule 144A) to report financial results to the public, according to the New York Times. [7] Later in 2011 the regulator was still looking for sign of conflicts of interest in such type of trading, according to the Wall Street Journal. [8]

Across the Atlantic too, the established models for trading of privately held company stock are not spotless. Within the past decade, London Stock Exchange’s AIM was the victim of the now famous Langbar Fraud due to its less stringent oversight. You can read more about it here.

However, The Opportunity Is Large

If the new market manages to pick some momentum the strategic advantages for NASDAQ OMX will be significant. The market will give NASDAQ OMX the ability to groom small companies until they grow large enough to be listed on its main exchange.

A market for privately held company stock may also be intriguing for entrepreneurs who have sufficiently large private companies which are in need of capital but are unwilling to take the company public – either due to the cumbersome process and high costs of doing so or due to the fear of losing control and autonomy.

NASDAQ Private Markets could attract companies that had to previously look for capital on LSE’s Alternative Investment Market (AIM), in the absence of similar alternatives in America. AIM’s website suggests that over 3,000 companies are listed on it and we believe NASDAQ’s brand could attract a similar number onto its new platform, if successful.

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Notes:
  1. NASDAQ OMX and SharePost to form private market, SharePost Press Release, March 6, 2013 []
  2. NYSE Gaining Ground on Nasdaq in IPO Race, WSJ, November 11, 2012 []
  3. Nasdaq Plans to Spin Off 144A Stock Platform, Securities Technology Monitor, October 6, 2008 []
  4. The PORTAL Alliance to Create Industry-Standard Facility for 144A Equity Securities, NASDAQ Press Release, November 12, 2007 []
  5. Slow start, great hope for Nasdaq private exchange, P&I Online, January 14, 2010 []
  6. Order Granting Approval of Proposed Rule Change and Amendment No. 1 Thereto and Notice of Filing and Order Granting Accelerated Approval to Amendment No. 2 Thereto to Create a Listing Market on the Exchange, NASDAQ OMX BX []
  7. Stock Trading in Private Companies Draws S.E.C. Scrutiny, New York Times, December 27, 2010 []
  8. Private-Share Trade Is Probed, Wall Street Journal, February 23, 2011 []