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Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

Monday, February 22, 2021

 Pavel Cherkashin, Managing partner of Mindrock Capital, spoke in detail about his main specialization: investing in late-stage startups that are preparing to enter the stock exchange, how everything works, what is important to know and where the money is. Also in the two-hour edition, there was a place for the story about SPAC. We have gathered the most relevant things in a short text version.

The full version of the conversation between Pavel Cherkashin and hosts of the Angel Talks Ivan Lomakin and Sergey Belyaev can be found here.

Startup Jedi

We talk to startups and investors, you get the value.

“Sweet” round

80% of deals in the venture capital market have to do with M&A (mergers and acquisitions): larger companies buy smaller ones to strengthen their positions. But the most successful startups, which have grown more than others, prefer to go to the IPO.

An IPO is a very significant moment for all investors, an opportunity to get their liquidity, where stocks turn into money. According to tradition, before the public offering, the company attracts a round of investments. But they don’t need so much money (there is enough of it and the product is launched) — investors need this round to “restore order in the house”. Large investors want to add more money to earn more on the IPO, and small investors want to get out because they have been in the company for too long.

For this purpose, the last round is held approximately six months or a year before the stock market is launched. This round is the most “sweet” for investment: the company has clear indicators, will have liquidity soon, and low risks. Such transactions were made quietly five years ago, for “their own’’ and to “get into” them was very difficult-until the OTC market appeared.

OTC (Over The Counter) isn’t an exchange trading in real time, it’s a situation where between the seller and buyer there is a live person and some kind of manual process. This is a requirement of the regulator — but if the transaction takes place between live people, you can’t get an exchange license to perform this operation.

Today, there is a network of agents and specialized sites that post information about transactions. So, the investor can find an opportunity to enter the round both independently and through aggregators such as our fund.

Today, the total annual volume of pre-IPO rounds is $3 trillion, and 10 years ago this market was non-existent. It is only being formed and that’s why there are no clear rules and processes — and this gives a great opportunity to make money: it is possible to enter the capital of interesting companies and win the war with large investors.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

How does it work?

There is a direct path to the pre-IPO rounds: it lies through specialized sites. The two largest of them (Sharespost and FORGE) recently merged into one and operate under the FORGE brand. These are bulletin boards where those who want to sell shares post information, and those who want to buy contact them.

EquityZen works in a little bit different way: the platform itself buys back shares, then forms a syndicate of interested investors. There are still other options for sites: for example, EquityBee is looking for employees itself with options and offers a multi-stage scheme for buying them out.

All of these sites work in accordance with the laws of the United States. For working with them, you need to be at least an accredited investor. It’s not so hard: it’s enough to have a legal source of income of more than $ 250 thousand a year, or legal capital of more than a million.

After registration on the sites, you need to send a request: I want to buy such amount of shares at such a price. You may have to compete with other investors at the auction. If your offer wins, then you enter into a contract with the seller and wait for the transaction approval from the company.

The probability of passing all the way to the shares of a promising company through the sites is about 10%. Together with experience, the number will grow: I have a good percentage of rates that can reach 30.

You can go to the pre-IPO in another way: there are more and more syndicates for interesting rounds on AngelList.

The general trend of the market is the following: there are professional investors with a focus on pre-IPO — such as me. My job is to find deals, structure, check, prepare all the documents and make a decision: is it worth investing in this company, or is the price too high . And such professionals are followed by others, including beginning investors.

Today, however, everything is growing: you can enter almost any pre-IPO or IPO and exit with a profit. But the trends towards hype-based unjustified growth tend to collapse very quickly and unexpectedly — there is a risk of ending up with a bunch of non-liquid stocks..That’s why, despite the growth of the market, I carefully choose companies to invest in: I look for companies that have the potential to grow thanks to their product.. We are interested in startups that have made the impossible possible.


We are a syndicate

I invest my own funds and invite other investors to participate in the round. Together, we can invest big checks and compete on the terms of the deal with the top funds. I also have access to the rounds of my portfolio companies that I work with from the early stages.

The syndicate gives you more freedom of action. In large funds, where the money of corporations, oligarchs, family offices, almost always additional conditions are put: they want to participate in decision-making processes or require a special approach. The organization of the syndicate eliminates such difficulties.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

How to join the syndicate

It’s easy to join our syndicate: write a letter to me, or rather to Sergey and Ivan. In the letter, write a little bit about yourself: the volumes of transactions and types of investments you are interested in, your experience in investing. It’s also essential for us to understand where your funds came from. No one will get into your pocket, but we want to be sure that the funds we invest are clear.

In response, we will send you a guide for investors, which describes the entire transaction process. Then we check whether we can work with you as an investor. If everything is good, we include it in the database and periodically send information about the current transaction that we found.

It is important to understand: we are not a platform, we are investors. We are engaged in the transactions ourselves. We have a maximum of 10–12 transactions per year. Accordingly, there is a limited amount of funds available for each transaction. If you like the deal, then you answer how much you are willing to deposit. As soon as the transaction amount is collected, we stop accepting applications.

Legall syndicate is a company incorporated in the State of Delaware. Its only function is to own the shares that we have bought. Accordingly, we sell a share in this company to investors.

We send documents about this to investors, and they transfer money in return. Russian banks usually are problemless,because all transfers are made good. When all the funds are in our accounts, we buy a share in the portfolio company, and send out supporting documents to all investors.

We hold the assets until some Liquidity Event and this is not necessarily an IPO. It happens that at the pre-IPO stage, the share price already exceeds our IPO price forecast. In this case, there is no point in waiting, in agreement with each investor, we can sell his share and make a profit.

Twice a year, we provide our investors with a report on the current situation. We are planning to switch to quarterly reports. But more often, investors write to me themselves as soon as something significant happens. Of course, we are always ready to tell you in detail how our portfolio companies are doing.

The minimum check in the syndicate is $50 thousand. We don’t charge a management fee, only a small setup fee at the input and 20% carry at the output. The average size of the syndicate today is about $5 million. The average check we have is $100–150 thousand.

We need a year to realize our investment strategy and another year just in case. Cancellation of the IPO or inadequate market conditions for example. We take the investors ‘ money for a summary period of two years.We try to turn around in a year and a half. The average return on our portfolio for three years is 63% per annum.Sounds cool, but the NASDAQ is up 40%.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

Not only IPO

The company can always postpone the IPO or refuse it at all. It’s not a risk, it’s just one of the possible scenarios. If the company cancels the IPO and makes the next round, then we will have the opportunity to sell our shares at a good price. If the company is doing worse than expected, we can wait a year or two until the situation improves.

There are no guarantees in this market. This is not a bank deposit or even a stock market. There is always uncertainty in the future actions of the companies in which we invest, and there is also hesitation in the demand for stocks.

Look at SpaceX: for three years, no one needed their shares at all. Investors were afraid of them and the paper was worth a penny. Then the company had several high-profile successes that could have been predicted in advance. I thought that the stocks should increase , invested myself and invited others to join. I know that as long as the rockets take off and the scale grows, the stocks will be in value — regardless of whether there is an IPO or not.



The main mistake of an investor at the pre-IPO stage is an incorrect assessment of the company’s growth potential. The more the market is “heated”, the higher is the risk of making a mistake. The price for the IPO may be lower than we will buy the shares on the pre-IPO. This can happen if the market falls and the company is valued with other multipliers. For me, the priority is to buy companies that cost +/- 10 annual deductions.

It is also necessary to look very seriously at the liquidation privileges. Often, an investor who enters later has a greater advantage in the exit than early-stage investors. For example, UBER attracted the last round with 5X liquidation privileges: the investor received $5 for every dollar invested when exiting.

It may like that, because of the privileges of later investors, the earlier ones will get much less money. I prefer to invest in companies that basically don’t give anyone liquidation privileges.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

Stocks searching

Finding the right projects for investment is a whole science. It is based on signals: when you need to find markers of a successful transaction in conditions of uncertainty. Imagine a company that has been existing for 4 years, raises a round every year, and attracts well-known investors. It can be assumed that it is growing persistently by more than 100% annually.

According to our statistics, the probability of fivefold growth in the next two years for such a company is about 60%. And the probability of bankruptcy is almost zero. It is clear that it is interesting to invest in such a company. So the first part of the task is to find such companies.

Second and more difficult part is to find an opportunity to enter these companies. We look for inputs through early investors, employees, service providers: in general, by all available means. If we find the stocks, we collect the syndicate and make a deal.

It took me 7 years of my life and several million dollars of my own funds, which were not spent in the best way, to build a conveyor for finding good deals.

Now I have people who know where and how to find the right information. There are relationships with co-investors that allow us to share access to good deals and collect syndicates. Some of the work on finding the right deals can be done independently, using the platforms.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

How to estimate a company before an IPO

Two models of company valuation converge here: standard Private equity with multipliers, EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization — an analytical indicator equal to the volume of profit before interest, taxes and depreciation. — Startup Jedi), the growth rate. On the other hand — venture valuation, when we take the expected valuation for an IPO and discount on the risks.

For example: if an investor plans to earn a million on a transaction, but the probability of this is 10%, then the investment should be estimated at $100 thousand. At the same time, the exit estimate largely depends on how investment bankers evaluate the company — foremost, they look at the forecast of its revenue for the next year.

The investor needs to foresee the valuation on the IPO. That’s why you need to think like an investment banker: understand what factors they will use, on what to make forecasts, on what similar companies to look at.

To make an investment thesis, you need to combine these two estimates and build a probabilistic model. In most cases, the information for this purpose has to be collected bit by bit.


Pavel Cherkashin. SPAC, pre-IPO and how to make money on it

What is SPAC

The reverse takeover scheme appeared a long time ago: an existing company bought out a “shell” company (SPAC) (Special-purpose acquisition company — a company created specifically to merge with another private company that wants to enter the stock exchange, by passing the IPO procedure — — Startup Jedi) — that’s how it became public.

American regulators were wary of such schemes, so they worked mainly in Canada. A few years ago, the SEC (US Securities and Exchange Commission — Startup Jedi) adopted a new regulation that allowed such companies to enter the stock exchange under certain conditions.

First, the”shell” company must have enough money: at least $100 million in accounts. In addition, this money should be the only asset of such a company — in this case investors clearly understand that this is it’s only value.

Secondly, a company cannot have a purchase agreement with anyone in the market. This is a very strict rule, for its violation it is quite possible to go to prison.

When transparent regulatory conditions appeared, the creation of”shell” companies was put on stream. Investors actively invest in them, because it is a good opportunity to” park “ their money.

SPAC stocks are always worth $10 at the start — this is a legal requirement. The funds raised are necessarily stored in a special account and cannot be spent on anything other than the purchase of a company that wants to enter the stock exchange. SPAC has two years to find a promising company — if the transaction has not occurred during this time, the funds are returned to investors.

SPACE stocks can also be easily sold at around $10 if the takeover process has not taken place yet. And if the transaction happens, then the stock usually goes up in price and investors make good money. Such pleasant conditions caused a SPACE boom in 2020. I buy up all the SPAC’s in a row.

When an empty SPAC finds a target to absorb, it is sure to notify the entire world. It is immediately clear from the quotes whether investors believe in the company being absorbed or not.

The deal must be approved by the SEC, which usually takes two to three months. As soon as the regulator gives a green light , the companies hold a general meeting to approve formally and go to the stock exchange in the nearest free time.

Often , there is a sharp increase in the value of stocks after that.If large investment funds are interested in including the company in their portfolio, then after the transaction is approved, they will come and buy stocks at the market price.

As a result, a simple strategy is born for the investor: buy stocks of SPAC at the time of the announcement of the transaction and wait for the price to rise. The easiest way to speculate. There are special websites that report on all absorption.


The types of investors in the SPAC

Anyone can run their own SPAC — no special licenses are needed for this. It is enough to turn to lawyers for help in processing documents, and then to raise money from investors.

There are three types of investors in SPAC:

The first-sponsors, they participate in the start-up of the company with money, from their money all expenses for the launch of the company are paid. Such investors have more privileged exit conditions, but there is a risk of losing money if SPAC doesn’t attract the company.

The second type is pipe-investors like me. They come in when it is already clear which company is being absorbed by SPAC, buy stocks at a price of $10. The growth rate of the company is not so large, but the risks are lower. If I like the company being absorbed, then I am investing in it with pleasure.

Third investors come to the open market when the deal has already taken place and the stocks are traded on the stock exchanges. We open a brokerage account in any system and start speculating: we buy on the day of the announcement of the entry to the stock exchange and wait for growth — it seems that everyone around earns so.


Why does business need this?

SPAC saves time and money. For an IPO with its help, you need two to three months, instead of six months when the company directly enters the stock exchange. Also, you don’t need to hire an expensive CFO who can prepare the company for an IPO — SPAC makes it possible to do without him, and the startup team just needs to do their business.



In today’s form, investing in SPAC is very “overheated” — the estimates of the company don’t correspond to reality. This tendency was caused by the growth of free money among people who are helped by the authorities to fight the pandemic with money grants.

80% of the money printed by governments went to the stock market.It is still unclear how long we won’t see inflation and falling prices, so we need to be careful.


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