How to get liquidity for your pre-IPO stock

I’ve been an early employee and investor at multiple pre-IPO companies and have recently been heavily studying private secondary markets. This is a living guide to getting cash from private stock (liquidity) that I will keep updated on a best effort basis. Please feel free to propose any edits!

The primary market is when a company sells shares directly to investors. The secondary market is what happens to those shares. The conceptual hierarchy is:
-One-off
—Direct sale
—Forward transaction
-Stock backed loans
—Non-recourse
—Partial or full recourse
-Company sponsored tender offer
—Buyback (share repurchase)
—Third party tender offer

The following list of industry participants is not an endorsement. The list is presented alphabetically and not ranked in any way.

One-off

A direct sale is when a holder sells their shares to a a buyer without the company facilitating the transaction

In the case of a direct sale, the facilitator will for a fee (generally <10% of the total value of the shares being sold) either

  • Match the seller with a buyer for the exact amount of shares and process the transaction

  • Use a special purpose vehicle to purchase the shares from the seller. Buyers invest in the special purpose vehicle instead of holding shares directly. This frees sellers from having to wait for an exact match from a buyer. It also enables lots of smaller sellers to aggregate their positions since buyers tend to want large blocks of shares.

A holder can also enter into a forward agreement where cash is paid immediately to the current shareholder and the stock is delivered to the new holder during an IPO or acquisition, all without the company being involved in the transaction.

One-off sales are negotiations between sellers and potential buyers (or brokers). A way to streamline this process is to organize potential sellers into a large block. If an ex-employee wants to sell their shares, they can speak with other ex-employees to determine the total volume for sale and then assign one person in the group to speak for the block to all potential buyers. This has the benefit of not making buyers think there is more sell volume available than there otherwise is (by having multiple sellers talk to different brokers).

Taking out a stock backed loan

My understanding is that the loans

  • Are generally non-recourse: in case of default, the lender can only seize the shares and cannot come after the borrower’s other assets. Some providers will do partial or full recourse loans.

  • Have interest that accrues on the loan amount (which tends to be <50% of the estimated value of the stock) and is paid upon a liquidity event.

  • May have a <10% additional fee on the total value of the stock due at time of repayment, acting as equity upside to the lender.

  • May require the borrower transfer title of the shares to a trust administered by a 3rd party which can ensure both sides comply with the credit agreement.

Some may also provide loans to option holders so that they can exercise their options without using personal capital.

Company sponsored tender offer

This is when the company either buys back the shares or otherwise facilitates the sale of the shares to company approved and/or sourced buyers.

Resources

TODOs

  • Podcast interviews with industry experts?

Interested in learning how to get more equity upside in the first place?

Disclaimer

I'm not a professional CPA, lawyer, CFP, RIA, B/D, ERA, etc. or anything else. All content is informational only and is not intended as professional advice/investment advice/counsel or an offering of any kind.