Max Brenner
It’s the classic startup employee dream. You’ve worked hard for years, finally built your company equity into something big and now you’re finally ready for a payout.
Financial institutions struggle to evaluate startup employees, as private company equity traditionally isn’t considered an asset you can underwrite. Since it’s not liquid, banks don’t want to use it as collateral. They sometimes make exceptions for high-net-worth individuals or founders when they want to build a long-term relationship, but the majority of the startup community lacks any way of achieving private equity liquidity.
You could claim the system is broken. I happen to agree.
So what can startup employees do if they want liquidity?
- Nothing.
- Wait for a company-sponsored tender offer (typically once you are a unicorn but less common with the market softening).
- Explore the secondary market and inquire if investors or other individuals are seeking to purchase your private stock.
No matter the solution, it’s important to set accurate expectations.
The process to get liquidity sucks, especially in a market downturn. There is no LaaS (liquidity as a service) startup … yet. Here are some awkward situations you’ll come across:
- Cold messages on LinkedIn: “Are you interested in selling [your company] shares?”
- Facebook ads (if you still use Facebook): “Get cash now for your startup shares today!”
- Independent brokers who promise to “get buyers for your equity.”
It’s mind-boggling: How can a multibillion dollar industry be so fragmented and confusing? There are hundreds of thousands of startup employees interested in accessing liquidity. Yet there’s no source of trusted information or solutions to the real problem.
Nonetheless, there are two primary ways that you can get liquidity today: tender offers and secondary markets.
Tender offers
A tender offer is when a company offers its employees the chance to sell their illiquid shares at a set preferred price per share. Tender offers are most common at late-stage growth companies (unicorn range) and can be offered once or twice a year.
This can be a win for all parties involved: You get liquidity, investors get to buy illiquid shares that they otherwise wouldn’t have access to and the company can make its employees happy by providing them access to cash.
Tender offers are simple. Your company sets it up for you, so they support it. And the investors have already set their price — all you need to decide is if you want to participate and for how much. There are typically no fees for employees selling shares during a tender offer (other than your possible tax liabilities).
On the other hand, tender offers are outside of your control. You’re at the mercy of your company to set one up for you (and they have no obligation to do so) and to acquire desirable terms.
Typically, any employee with shares in the business has the opportunity to sell them, although sometimes the company limits who can participate based on some level of tenure. You can only sell common stock in a tender offer, so you may need to exercise your vested options ahead of time. (If you haven’t exercised your options yet, the exercise might trigger a tax event, so be sure to brush up on the tax details.) In some cases, your company might even offer a cashless exercise to allow you to exercise and sell your shares at the same time, so you can sell without needing any personal liquidity.
In a tender offer, all of the shares are sold at the same price. Typically this price is at a slight discount to the most recent preferred price, which will usually be quite a bit higher than the 409A price that your options were issued at.
Secondary markets
Secondary markets are another way to obtain liquidity. They have one key benefit: You can sell your shares on your own time (not just when your company sets it up for you). They also allow you to negotiate the price for your transaction, which means the price could be higher or it could be lower.
Secondary markets consist of two parties: “buyers” who want to buy your private stock before the company goes public and “sellers” — you. The trade makes sense for both parties: You get liquidity and investors buy shares that they can’t get anywhere else.
To participate in secondary markets, you can either go to a platform like Forge or EquityZen that will help find you a buyer, or you can try to find an independent buyer on your own. One safer pathway to a credible independent buyer is to ask your CFO if there are investors looking to acquire more shares. In any case, you must ensure that your stock option plan permits you to sell your shares to private buyers. There’s a chance the company will need to approve the transaction.
The platforms trying to help will ask you to upload your equity. You can request to sell your shares at a predetermined share price (but it’s not guaranteed). Platforms will then ping their network of investors for interest in your equity.
Once interest in your equity is determined, there’s typically an offer and negotiation. Investors (obviously) want to pay as little as possible, and (a little less obviously) have leverage over you given you want liquidity. There are also a lot of nuances and variations in how the purchase of your equity can be structured on these platforms, and people often involve attorneys in these negotiations, especially if there is a large amount of equity involved.
If you’re able to come to an agreement with the buyer, the platform will handle the transfer of your shares to the buyer and wire the money to your account. Typical fees for secondary sales at platforms like Forge and EquityZen are around 5%, so if you sell $1 million in shares, you’ll walk away with $950,000 after the platform retains its fee (yep, that hurts.)
This process is similar for an independent buyer, except that it will be much more DIY. You’ll have to figure more of the details out on your own and will likely have to hire a securities lawyer to walk you through the process and draft/review the agreements.
What you can do today
If you have equity and are seeking liquidity, you are not alone. Getting liquidity for startup equity is an industrywide problem and has been for decades. I wish I had a better answer, but this is the current structure. Here’s what you can do today:
Have a plan
If you’re reading this article, you probably have illiquid equity and need some cash. Consider how selling these shares fits in with your broader portfolio. Unfortunately, the market downturn has slowed down the capital markets and this applies to investor appetite for illiquid company equity, too.
I don’t advise trying to time the market, but because it could be such a large part of your portfolio, it might be worth waiting if your need for liquidity isn’t urgent.
Review your options
Now that you’ve read this article, you have a better idea of the options available to you. If your company has a tender offer, consider participating in that. Otherwise, you can connect with some secondary market exchanges to see if there’s an appetite for your shares.
Get expert advice
Regardless of your choice, it can be helpful to chat this through with someone. Even if you don’t utilize a financial adviser, make sure to find proper tax and legal support as you go about selling your shares.
Disclaimer: Investment advisory services are provided by Compound Advisors, Inc. (“Compound Advisers”), an SEC-registered investment adviser (CRD# 306341/SEC#: 801-122303). The information contained in this communication is provided by Compound Advisers for general informational purposes and should not be considered as financial or tax advice. This communication is not an offer to sell securities. All investing involves risk, including the possible loss of any or all of the money invested, and past performance never guarantees future results. Please see Compound Advisers’ Form CRS here, and ADV Part 2A Brochure here.
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