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Differences in Private and Public Investment: AppDynamics vs. New Relic

Phil Haslett | March 26, 2015


Accredited investors that are new to the startup and angel-investing world often ask "what's the difference in investing in a private company compared to buying public stock?"

The short answer is, a lot.

Items to consider include the following:
  • Liquidity
  • Type of Stock
  • Available Information
  • Comparable Metrics
  • Opportunity Cost


To bring this analysis to life, I'll look at two rival companies, AppDynamics (private) and New Relic (public). Both are highly successful App Performance Management firms.

Liquidity

Public stocks are freely tradable on listed exchanges and can be bought (and sold) through online brokerage accounts seamlessly.  Over 130,000 shares of New Relic (ticker: NEWR) exchange hands daily. 

Private stock rarely trades hands, and is held by a much smaller shareholder base. It's safe to assume that, with 620 employees and less than 15 Venture Capital investors, under 1000 people in the world are shareholders of AppDynamics. Transactions in private stock are mostly on a primary basis: that is, new shares are issued rather than pre-existing shares changing hands.

Type of Stock

Public stock is usually one class of common stock, and in some cases there are two classes, typically called Class A and Class B Common Stock. New Relic has just one class of Common Stock, which means that every shareholder has equal ownership, preference, and voting rights.

AppDynamics is private, and its Venture Capital investors own various classes of Preferred Stock (typically denoted Series A Preferred Stock, Series B Preferred Stock, etc). Employees and founders own Common Stock (or options that give them the right to buy Common Stock at a fixed price). Common Stock and Preferred Stock are not equal: as you can guess, Preferred Stock has preference over the Common Stock. Most important of these preferences, for any retail investor, is the liquidation preference. In the event of a sale of the company, AppDynamics' VC investors get their money back first, before Common Stock (you can read more about this in our previous blog post).

Should AppDynamics go public (via an IPO), all Preferred Stock would convert into Common Stock, and you'd have the same scenario as New Relic.

Available Information

Public companies are required to file quarterly and annual updates with the SEC, and also a lengthy overview of the business in an initial filing called an S-1 (see New Relic's S-1 here). These updates provide fully audited financial details about the company and their cash flows, revenue, growth and balance sheet. They also highlight material developments and risk factors. 

Private companies can elect to share as much or as little information as they desire. However, a developing theme I've seen is that late-stage VC-backed companies are offering up more on their top-line growth as a means of increased marketing. AppDynamics shares annual updates on their bookings (which is a superset of revenue, and best explained by OpenView Ventures here).

A snapshot of AppDynamics' press release from their website

Comparable Metrics

Depending on what category of business it's in, a company will usually be compared to competitors using certain metrics or ratios that make analysis simpler. In the case of technology companies (especially ones that are yet to be profitable), the focus is on:

  • Multiple of revenue: the company's valuation divided by its last twelve months' revenue
  • Revenue growth: the annual increase (or decrease) in top-line revenue
Fortunately, public and private companies can be compared in this way:

AppDynamics vs New Relic
(Note: the $150 million revenue number for AppDynamics is actually for "Bookings", so net revenue may be below the $150 million number)



A major difference here is price discovery: the liquid market for New Relic shares means that we can continuously assess what investors are willing to pay to own a share of New Relic. With AppDynamics, our last available data point is from July 2014. What would (or should) an investor be willing to pay for a share of AppDynamics now, given that the company has touted a $150 million bookings rate for 2014? This is where comparable metrics prove to be most valuable.

Opportunity Cost

Investors considering a private investment are mostly excited by the opportunity to invest earlier in a company's life-cycle, with the thesis that it will lead to higher returns. This is perpetuated by the well-documented "IPO Pop" where public shares jump on their first day of trading (New Relic jumped 31% on its first day), and the fact that very few investors have the opportunity to buy shares at the IPO price.

Were AppDynamics to trade on the same multiple of revenue as New Relic does in the public markets, it would be valued at $2.5 billion, a 123% price increase to its last round in July 2014. Put another way, if you could buy shares in AppDynamics at the same price investors paid last July, they would be 53% "cheaper" than New Relic shares are currently trading.

That discount to New Relic's metrics must also take into account the illiquidity of your private investment. While there are private stock exchanges out there (most are still in a nascent stage), you're most likely going to have to wait until AppDynamics goes public to realize any gains/losses. And there is no guarantee that the company will go public.

Conclusion

Private company investments, especially ones in later-stage private companies, can provide tremendous investment opportunities, and often at discounts to comparable public companies. But be sure to do your homework: gather any information on the company's finances that are available, take the illiquid nature of the investment into account before pulling the trigger. 

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