December 28, 2010 6:44 pm

SEC investigates private tech stock market

US watchdogs are investigating the secondary market for private company stocks, a largely unregulated investment arena that has seen the valuations of top technology companies such as Facebook, Zynga and Twitter soar.

The Securities and Exchange Commission has sent letters to several parties involved in the secondary market, according to people familiar with the inquiry. The regulator is seeking more information about how the market operates and how shares of the private companies are valued.

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In recent months the implied value of Facebook has risen more than 50 per cent, while the value of Twitter has more than doubled. Facebook is now valued at more than $41.2bn, based on the price being paid for shares on the secondary market, while Twitter is now worth more than $3.7bn.

Early employees and investors in private companies have recently been selling their stock to buyers who want exposure to these fast-growing enterprises.

As the marketplace has evolved, online brokers have taken a larger role and funds have been set up to allow individual and institutional investors access to the market.

But because private technology companies do not publicly disclose financial information, regulators are looking to understand how buyers and sellers on the secondary market value the companies and price shares.

The SEC may also take a closer look at how the existence of funds affect an SEC rule that states that private companies must have fewer than 500 shareholders, or else publicly disclose significant financial information. This was part of the reason Google went public in 2003.

News of the SEC’s inquiry was first reported by The New York Times’ website.

This year, Facebook moved to protect employees from any legal complications arising from transactions on the secondary market, and to keep its overall number of shareholders down. It instituted a new insider trading policy that barred current employees from selling stock. The company was not available for comment on Tuesday.

Frank Mazzola, founder of Felix Investments which operates company-specific funds that buy up stock in companies such as Facebook and Twitter, would not say whether or not his company had received a letter from the SEC.

“It’s a rapidly expanding market, and these kind of inquiries are good,” Mr Mazzola said. “The investors and companies need to be protected.”

Nyppex, an investment firm that tracks the secondary market, has estimated that as much as $2.4bn in private stock will trade hands this year, and says that could grow by 50 per cent next year.

“[The inquiry] legitimises what we’re doing, and certainly validates it,” said Mr Mazzola.

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