Stephen received a prestigious SBA “Financial Services Advocate of the Year award” for his efforts in creating a marketplace for entrepreneurial companies: Entrex.

I asked my next guest to join us because he is the founder and CEO of the company that is revolutionizing the markets…  the company name is Entrex and the Private Company Index or PCI.

 

 We discussed it is a little bit of a complicated product.  We discuss it because I believe it's taking a new look at the way capital can be raised United States.  I was very interested in it and I wanted to share it with all my listeners.  Welcome back to the show Steve Watkins.

 

Good to be here.

 

Tell us exactly what the private company index is once again and tell us how it works

within this idea for capital raising.

 

The index was designed around  tracking the private companies across America and how do we make an investable product that allows retail investors and institutional investors to invest into companies that typically have been very difficult to invest in.

 

Yeah,  because most companies either they are startups,  they have to find angel investors or venture capital investors and those investments themselves are difficult ones because they're not liquid,  it’s hard to cash out , having an equity ownership in something may not pay off for many years. So there are  inherent problems in basically investing in early-stage companies.

 

Right, but I think it would be fair to say that the Angels and the venture world is there to solve those capital problems .  Where we saw the niche was the kind of the $5- $250 million revenue company that was averse to bank debt and didn't really have access to capital to provide a growth solution.  So if you're a $10 million producer in a town and you maximize your bank capabilities but want to grown  to $15 or $20 million, try to find an investor that would invest into that company because it is probably not going to go public.

 

That's the issue there is not really a cash out in the future.  Right, even as a stockholder you hope to participate in the earnings growth of the company but  with private companies earnings can be kind of problematical. 

 

You have heard me talking in the past about  EBOT, Earnings before owner Theft .

 

Meaning that owners can generally put in things into their expense sheets that necessarily aren't true company expenses and so on your gross revenues minus expenses equals profit but that profit may not really be all that real or all that accurate.

 

 Exactly so when you go back there that big investor in town wants to support the growing company and they know that the earnings are going to be affected by those expenses,  suddenly they have no cash flow, there is no dividend if you will.

 

There’s no dividend therefore there is less interest in something like this.  So, you have taken a look at this private market and how have you fashioned your offerings there?

 

Well Iet’s start at the beginning, we stumbled for a long time trying to make that equity solution for those private companies.  In time,  we said let's create an index to track the performance of these companies, how do we do this? 

 

 so now  the index is tracking the performance by tracking specifically what?

 

Well what we found out was because of that EBOT earnings before owner theft issue,  we couldn't do it on a traditional value index which is what we are all familiar with.

 

When you go into the S&P 500 or something or any kind of company,  you're looking at earnings,  publicly reported earnings.  These are not publicly reported earnings so the earnings are questionable .

Exactly and so then we ended up same that the way to track performance of private companies was to track the top line of the line item and so that started us and our quant team looking at this and saying well geez, if  we track the revenue performance on the monthly basis of all these private companies we can start creating an index around that to show the investor community hey look this is the return on an aggregate base.

 

This is what really peaked my interest early on in this whole new idea of being able to track these private companies and doing so just on pure revenue base.  Now so how long have you been doing this now?

 

We are in our fourth year, going into our fifth year, excuse me. 

 

And this is the PCI Index.

 

Right, it’s called Private company Index.

 

So anybody looking for information on this could go to private company index.com

 

Sure, and we should qualify, it’s not an investable index. 

 

This is not about investing, guys, this is just about information tracking.

 

And so what we wanted to do Steve, was we wanted to show the market that this is the performance of this subset of the economy nobody talks about today.

 

How big a subset is it?

 

 About 500 companies apply, it’s the subset of that that have survived over the five-years,  four years but it's a consistent group of people.  We have had actually, interestingly enough, only one company go out of business which I think is self-selecting in the process.

 

So the index in a sense doesn’t give a true track record because once a company bounces out,  it's no longer included in the numbers.

 

That’s right, the same way the Dow Jones has.

 

The same way, the same way, that's how all of those indexes really work.

 

Exactly

 

All right, so since this has been going on for four years and you have been tracking it for four years and now you're tracking on a month-to-month basis.  The growth or the lack of growth of revenues of this subset of the small to midsize companies give us an idea of what kind of numbers we have  seen there.

 

Well, traditionally these companies are growing in the 25 to 35% a year category which is very surprising Their average revenues are $17 million and their average age is 13 years old so these are not the  startups,  these are probably not  going public but these are great cash flowing businesses for the owners of these companies. 

 

So for example in 2008 or 2009 what has been the overall growth of the index?  

 

Don’t forget in 2008 was the year of the most difficulty.   That was actually our lowest growth, we started in 2006 would be 36%, 2007 was also about 37% actually, 2008 was 22%.

               

So looking at those numbers this is revenue growth in the aggregate of these so many companies that are in the index. 

 

It’s a little more than aggregate.  It’s the growth of the index.

 

It’s the growth of the index.  You wouldn’t say average?

 

I Cannot , theirs average, median, there’s a bunch of , you know those quant guys.   

 

So nevertheless the index itself is growing by these rates of return which has to do with the way the rate of growth on the revenues for the companies on a month by month basis.  so even though in 2008 where we had such a huge disaster in terms of the S&P 500 down 40% and earnings to such tremendous weakness,  revenues for the small to midsize companies still grew at a significantly double-digit rate.

 

Well, you know, I’ll say yes to that simplistically but what I think what is more important is if you start looking at the Dow Jones Companies,  the Revenue Growth Was Actually Increasing in the Last Quarter,  Last Two Quarters of 2008 Versus that  40% Drop.

 

 Just the earnings

 

The revenues of the revenue under the earnings were off because, well if you included the financials the banks are writing off all these bad loans.

 

Sure

 

And that comes as the charge against earnings.

 

Right but it is just kind of interesting to watch how the market sentiment dropped that 40% against  their  earnings projections. Yet  revenue grew by 45%

 

Well , you know it's like real estate is location, location, locations, in stock investing its earnings, earnings,  earnings.   I mean , and if the earnings are published and they can be believed and you know even if you go in look at a public companies earnings there is two or three or maybe even four ways that you can measure those earnings according to gap principles , there is IBITA, there is earnings before interest taxes depreciation

 

And occasionally there is ebot.

 

That's your deal.  My point is that you can look at the earnings before one-time charges and things like that so even a public company earnings can be a little fuzzy but the point is you're saying that revenue had been growing the whole time even in the public companies and even in the small to midsize companies. Now what about , you talked about 2008, what about 2009? 

 

Well 2009  it was interesting the last two months we've had a downcycle which historically over  the last four years has been an up cycle and so we were kind of concerned about that because this last quarter is traditionally a 15% type quarter.  So there is a lot of seasonality associated with this.  Last month we had a 9.9% growth in the index of the average revenues .

 

In December?

 

In December , that’s correct.

 

If you just joined us, I’m talking with Stephen Watkins.  He is the founder and CEO of Entrex Private Company Index and the reason we're talking about this stuff , it may sound esoteric,  is that there is a reason,  there is the rubber meeting the road here we are going to get to that. You are listening to On the Money, I’m Steve Pomeranz, your host and this is a show where you learn the facts about money and facts about so many other things.  Also don't forget that you can hear us and see us and to do all kinds of things with us on the web.  We have our website on the money radio.org where we post our shows on a weekly basis plus articles that I write and others write.  We are on Twitter now and we promise,  I do not write about what I’m having for dinner  or while I'm waiting to have my car washed what I'm thinking.  It's some timely advice in a very short format on Twitter.  Also on Facebook we have a fan page on there as well.  Plenty of places to get information on a regular basis from us.  Stephen why is all this important are people raising money through this process that you have created?

 

Well, yes, it’s interesting you bring that up Steve.   What we found was that by tracking the revenue performance of these private companies , the idea of creating a security around the revenue allowed us to start making a marketplace for these private companies,  these $5 – 250 revenue companies. So I'm pleased to say last week I saw nearly $300 million worth of deals getting posted which is pretty significant.   We kind of see that in the pipeline every week moving forward.

 

These are deals available to who?

 

These would only be really institutional  people today.  There are some people putting them in mutual funds but I don’t think that is an opportunity today. 

 

We have to be careful when we talk about that stuff anyway.  So money is being raised,  corporations are being invested in,  and in return investors are getting some kind of a percentage of the revenues.  Kind of like a royalty.  Talk about that.

 

It is very much like a royalty.  So instead of an investor saying I’ll give you a half of a1 million dollars  for 5% of your company,  they say I’ll give you half a million dollars for 1% of your revenue and what we've done is we have partnered up with Bank of New York to actually be the transfer agent there.  So the company ends up distributing that 1% of revenue on a monthly basis of the Bank of New York.   Bank of New York says well who owns this contracts and then that gets then distributed to the contract holder of the certificate. 

 

Are these those TigrCubs that we talked about in segments past?  

 

Well they are, they’re called Tigrcubs Topline Income generation rights certificates and the reason we certificate them is because that allows them to be sold very readily based on their cash flow.  What's interesting is that we've seen a few of these deals actually go DTC registered or eligible securities.

 

What does that mean?   

 

That means they become part of your portfolio in your electronic registered investment. 

 

So an institutional investor can see them on their statements and so on.   Is that what you mean?

 

Yes, exactly.  So as opposed to, usually an alternative investment like this would be taken out of an advisers portfolio.  This allows it to actually stay in so they can be properly managed  and potentially even sold .

 

What is the goal of this in the future?

 

Well the goal of this is to take it all the way thru to a trading environment so you can actually trade these things like the bond markets.

 

How many billions or hundreds of millions are you going to need before you think this could be the case?

 

We project multibillion dollars this calendar year.   I think that will be the beginning of big offers being listed. We are doing that on BXS which will be interesting to start seeing.  The first securities were put up on Bloomberg this month, so it's kind of interesting.  So now the bloomberg network everybody with a Bloomberg channel can start seeing the security.

 

And I suppose, since it’s a stream of cash flow, I suppose it's going to trade very much like a bond like  relative to interest rates or something like that. 

 

It should, exactly, on the net present value.

 

Net present value and then it will be either over valued or under valued based on what the market perceives as the future values.

 

We only see premiums being tracked.

 

Why did you get in to this?   It sounds so complicated.  Why don’t you do what the rest of us do, you know?  Something normal.

 

Well, when I sold my last company, Steve, I was amazed at how efficient the public capital market was and how inefficient my world was, the private capital market.  When I sold the company or actually raised money for the company.

 

What do you mean?  Why was it inefficient? 

 

Oh my gosh ,  it is a friend of friends, it's a rolodex, it’s who your lawyer knows, who your accountant knows versus broker-dealers and registered investment advisors all working together to create liquidity for that market.  So I nievely said let’s create Entrex as an entrepreneurial exchange but not even knowing what the SEC stood for back then.  And today it has taken a long time.  It’s taken ten years.

 

Ten years you have been working on this. 

 

This is why the bruises are still on my forehead.

 

Yes, I can see that.  Your hair is not even gray. 

 

Yeah, it should be.

 

Stephen  Watkins,  the CEO and Founder of Entrex Private Company Index.  For  more information on the index anyway

 

Head over to private company index dot com.

 

Any other place they can go to or is that the place?

 

They can go to Entrex.net which carries them over if they are interested.

 

Thanks for joining us Steve.

 

Thank you,  Steve.