Private vs Public Markets - Five Key Differences Investors Need to Know

Is it better to invest in private or public companies? Depending on an investor’s experience and risk tolerance, this answer will vary. Do you want to chase some big money gains, or are you happy to plod along getting a fairly stable return each year?

Especially in 2022, given that public markets have been absolutely hammered, it’s understandable that many investors will be wondering if there’s a better option out there.

Most investors understand that major differences exist between both the private and public markets, but what exactly are those key differences? Most importantly, how does investing in each of them impact what kind of return you can get? After all, that’s what investing is all about at the end of the day.?

Before making the decision, investors should understand how public vs. private markets compare against each other.

Five major differences include:

1. Ownership Structure
2. Liquidity
3. Regulation
4. Stakeholders
5. Valuation

TL;DR

Private Companies

• Private companies have more freedom and flexibility to do what they want, take big bets and lose money in the short term in the pursuit of massive growth in the longer term. They can innovate fast and pivot quickly.
• They’re fairly illiquid, meaning it’s harder or more time consuming to buy in and out of.
• The pay off? Potentially explosive gains.

Public Companies

• Public companies have a huge level of scrutiny, transparency and a heap of people to keep happy. It means they’re slower to innovate and can’t take the same risks as private companies.
• They’re easy to buy into and easy to buy out of.
• This means there’s a lower chance of major multiple returns, but less risk of outright collapse as well.

Want to dive into the details on all this? Read on.

Ownership Structure

A share refers to a single unit of a company’s ownership.

For both public and private companies, shareholders are the owners of company shares, and have a legal right to the profits of a corporate entity. Company founders and executives are usually major shareholders for both public and private companies.

For public companies, anyone in the general public can become a shareholder. You can go online right now and become a part owner of Apple, Tesla or Disney. You probably won’t be getting a corner office anytime soon, but being a shareholder allows you to take part in the annual shareholders meeting, and vote on the future direction of the company.

Meanwhile, ownership of private companies is much more restricted. Shares of private startup companies are held by a company’s founders, institutional investors and private equity firms.?

Employees may also receive company shares as part of their compensation package, but often shareholders are not allowed to sell or trade stock except in certain circumstances.?

Essentially, public markets have an open door policy where anyone with a couple of hundred bucks can buy in, while private companies are a closed shop where you need to have connections to get on the cap table.

Liquidity

Due to the nature of public versus private marketplaces, there is a big difference in terms of the liquidity of equity assets.

Public markets are referred to as more liquid since there tends to be a much higher trading volume. Buyers and sellers can easily be found to transact stock shares with relative ease, thus making it simple for investors to “liquidate” their assets by selling shares.

If you want to dump your Coca-Cola stock, you can do that within seconds.

However, private markets experience much less trading activity. Additionally, many private shareholders aren't allowed to sell or transfer stocks in many cases, outside of exceptions such as employee liquidity and tender events.

Liquidity can be both a benefit or a detriment, such as for investors that tend to make impulse buy or sell decisions.

Regulation

In general, public companies must adhere to a greater regulatory standard, especially when it comes to reporting and disclosure requirements.

In the United States, three major regulatory acts include the Securities Exchange Act of 1934, Investment Company Act of 1940, and the Sarbanes-Oxley Act of 2002.

Unlike public companies, private companies experience fewer restrictions and guidelines, from regulators such as the Securities and Exchange Commission (SEC).

For instance, private companies can explicitly solicit commitments over time from investors that provide long-term planning assistance.

Regulation can help create a consistent and fair marketplace, but also hinder the operations and growth of companies. It slows down innovation and means a lot of company resources are allocated to ticking all the bureaucratic boxes.

Stakeholders

Various public company stakeholders have already been mentioned in this article. For instance, regulators, shareholders, prospective investors, and the general public are all considered stakeholders.

Leadership within privately held companies typically report to fewer stakeholders; namely the company founders, board members, and private investors. Look at Elon Musk at Twitter for example. Since taking the company public, the guy is doing whatever he wants and answering to no one.

Fewer stakeholders typically results in more flexibility for management and the ability to focus on long-term business strategy rather than short-term profitability driven by quarterly financial reporting cycles.

More stakeholders with varied interests may lead to competing goals and a less focused strategic vision.

Valuation

There are several methods to determine the value of a company. For instance, the discounted cash flow (DCF) method is commonly used to value both private and public companies.

The major difference in valuation is that for public markets, company valuations occur frequently. Anyone with the right knowledge and ability to read quarterly 10-Q or annual 10-K reports and financial statements to make or update a valuation.

Additionally, stock prices are a proxy for a company’s value. Stock prices are constantly updated in real time for buyers and sellers trading on an active exchange.

In private markets, information is harder to come by, outside of experienced and connected analysts that often work for institutional investors. Valuations also occur much less frequently, such as after a startup’s latest funding round.?

Private investors may perform their own valuations but the average investor likely won’t have access to that information.

Valuations can change drastically for many private companies compared to public companies. This is especially for tech startups and unicorn companies that are undergoing exponential growth.

Public companies are perhaps “easier” to value a company but also harder to find a “diamond in the rough”.

The experts at Venley Capital can provide the financial guidance to make smart investments? within companies that operate in the private market. Contact us to learn more.