Why Do Employees Need Pre-IPO Liquidity?

Brianne Lynch
May 20th

As companies stay private longer than ever 1, the need for pre-IPO liquidity has become increasingly important for early shareholders, especially early employees.  There are now over 650 Unicorn companies globally, with an aggregate valuation of $2.1 trillion 2.  These companies are not “startups” in the typical sense, but instead late stage industry leaders generating significant revenue.  Fifteen years ago, many of these companies would already be publicly traded, allowing employees to access liquidity via the public markets.  However, with the abundance of venture capital available, companies have fewer incentives to raise capital via the public market, leaving some early employees stuck waiting upwards of 10 years for liquidity.  At the same time, providing employees equity grants is a key tool that startups use to attract talent and compete with offers made by publicly traded companies. Something has to give.  Luckily, an increasing number of companies are supportive of pre-IPO liquidity and are embracing the unique benefits of secondary programs in particular.  This article will delve into the need for liquidity and how companies can provide liquidity in a way that is advantageous to both them and their shareholders.

Given the proliferation of Equity Stock Ownership Plans (“ESOPs”) at private companies, some early stage employees may own hundreds of thousands or even millions of dollars worth of equity, which is great!  However, because the options for selling that equity are very limited, there is no means for these employees to use their hard earned equity to pay off a loan, put a downpayment on a house or put their kids through college.  On average, 20% of a private company’s equity is held by employees 3.  This means among Unicorn companies alone there is a whopping $420B of equity held by employees whose value has not been unlocked.  Not only do early employees have life needs they need to finance, but many of these employees may find that the vast majority of their net worth is tied up in equity of their employer.  Any financial advisor knows that from a pure risk diversification perspective, this isn’t prudent.  Selling some equity allows these employees to participate in the future upside of their company with their remaining shares, while de-risking, diversifying and therefore improving their overall financial health.

Pre-IPO liquidity allows employees to sell their equity to meet their personal financial needs while also increasing employee retention and morale.  This is a huge benefit and a growing number of private companies are openly embracing the benefits of liquidity because of this.  By allowing liquidity, companies are able to stay private while meeting the needs of some of their most important stakeholders - their employees.  Also, by making equity tangible to employees via liquidity transactions, private companies are better able to compete with larger, public competitor compensation packages.  It’s truly a win-win.

So how do early employees and shareholders go about getting liquidity? Tender programs are a common option companies evaluate when considering liquidity options.  However, tenders can involve significant costs for the company, long execution timelines, and extensive legal work.  Tender sales may also happen at prices that are less advantageous to selling shareholders with potentially higher tax and 409A implications.  Given some of these considerations, secondaries have become an increasingly popular option for many private companies.  While the secondary market used to be opaque and fractured, platforms like EquityZen have emerged to help companies and shareholders achieve liquidity in a transparent, compliant, efficient, and cost effective manner.  These transactions help alleviate much of the stress for shareholders that comes with holding substantial private company equity while providing longer term optionality and operational ease for private companies.

Founded in 2013, EquityZen has worked with over 60% of the top U.S. tech Unicorns 4 to facilitate 20,000+ secondary transactions.  In doing so, EquityZen aims to make the liquidity process as streamlined and efficient as possible for both shareholders and private companies.  One of our core tenants is to view the late stage private companies we work with as true partners. Thus we work directly but discreetly with the appropriate corporate  teams to approve secondary transactions and align our process with their unique needs.  Through our tech-enabled platform, EquityZen handles the shareholder due diligence, documentation, legal, compliance and regulatory work required with the goal of saving companies and their shareholders both time and expense.  Our goal is to make secondary liquidity programs as easy as possible to empower companies to provide more liquidity for their shareholders for the benefit of all.

EquityZen is working with more companies than ever on secondary liquidity transactions.  To find out more about how EquityZen can help your company manage liquidity for its early employees and investors, please reach out to partnerships@equityzen.com.

Sources:

  1. Forbes
  2. CB Insights
  3. Holloway
  4. As of 12/31/2020

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