What it means
Traditional investors in private companies are venture capital and private equity firms. A crossover investor comes from the other side of the market, normally trading listed shares.
It steps into private deals during the last funding rounds before an initial public offering, often at a stage when the company is large and has proven revenue. The motive is access.
Many of the fastest-growing companies stay private for longer, and by the time they list, a good share of the early growth may already have been enjoyed by private backers. A crossover investor seeks to participate in that growth and to secure a position that can be held once the shares trade.
Companies welcome these investors for several reasons. They provide large amounts of money and bring knowledge of how public markets value companies.
Their presence also helps build a shareholder base that is already familiar with the business when it lists. Crossover investors accept risks that they do not usually face.
Private shares are harder to value and cannot be sold on an exchange, and the listing may be delayed or cancelled. They often negotiate protections, such as rights to receive information or arrangements that adjust their price if the listing is at a lower value.
For a non-specialist, the headline is simple: when a well-known public market investor puts money into a private company, it can be a hint that a listing is being prepared. It is only a hint, and not a guarantee of success.
Investor type influences the later share price as well, because large holders may sell once any lock-up period ends. Watching who holds shares before a listing can help explain price moves afterwards.
In practice
Real-world examples.
Example
A large mutual fund invests $50 million in a payments company in a final private round. Eighteen months later the company lists, and the fund holds its shares in the public market. The fund's analysts believe the payments company is close to profitable, which is what attracted them to the deal.
Example
A hedge fund buys shares from early employees of a fast-growing delivery business before its listing. It plans to hold the shares through the offering and sell if the price rises. It will receive the same shares as other holders, subject to any restrictions on selling after the offering.
Example
A sovereign wealth fund, which invests a country's savings, takes part in a pre-IPO round for an energy technology company. The company uses the money to expand production capacity ahead of its listing. Its investment also gives the company credibility with other large investors, who see a long-term holder on the register.
Formula
Calculation
Ownership percentage = Investment / Post-money valuation x 100
Post-money valuation = Pre-money valuation + New investment
Worked example: a crossover investor puts $20,000,000 into a late-stage company valued at $180,000,000 before the investment.
Post-money valuation = $180,000,000 + $20,000,000 = $200,000,000.
Ownership percentage = $20,000,000 / $200,000,000 x 100 = 10%.
If the company later lists at a valuation of $300,000,000, the stake would be worth 10% x $300,000,000 = $30,000,000, a gain of $10,000,000 before any fees, taxes or dilution.Case study
Seen in the real world.
Silverpine Capital is a fictional asset manager, and this story is illustrative only. It normally invested in listed technology shares, but its analysts believed that the best growth was happening in private companies.
The firm took part in a late private round of a fictional cloud software company, investing $30 million for a stake of about 5%. The company listed a year later and the shares rose by 40% on the first day.
The firm's managers were pleased, but they pointed out that two other pre-IPO investments had been postponed, tying up money for longer than planned. They used the experience to set a limit on how much of the portfolio could be placed in private rounds. Today the firm reviews each pre-listing deal against a checklist covering valuation, rights and the expected time to listing.
Watch out
Common mistakes.
- Assuming a crossover investor guarantees a successful listing, when its involvement is only one signal. Delays and withdrawn listings are not unusual, particularly when markets fall.
- Ignoring that private stakes cannot be sold quickly, which can matter if the investor needs cash. A fund that promises daily redemptions to its own clients needs to be especially careful about locking up cash.
- Forgetting that early gains can be reduced by dilution when the company issues new shares. Always check how many new shares the company plans to issue and what that does to the ownership percentage.
Questions
People also ask.
Who counts as a crossover investor?
Typically a mutual fund, hedge fund or asset manager that usually holds listed shares but also buys into private companies before a listing. The label describes behaviour rather than a legal category, so the same firm may be called a crossover investor in some deals and not in others.
Why do they invest before the listing?
They hope to capture growth that would otherwise be enjoyed by earlier private investors, and to hold a position when the shares start trading.
What risks do they face?
The listing may be delayed, the valuation may fall, and private shares are hard to sell, so the investment may be locked in for longer than planned.
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