Cleveland News

A few years ago, it was virtually impossible to find buyers for private startup shares. Today, however, there’s a wide array of online platforms and a whole cottage industry of buyers. But what are the ups and downs of founder liquidity? In this read, we are going to look at some of the important issues to consider before selling your pre-IPO (Initial Public Offering) shares.

Why Sell?

This might seem like an obvious question, but why should you consider selling your shares in the first place? It seems like a bad idea to sell early, as the reason to invest in the first place was to be in it for the long term. However, there are some reasons you may want to seek founder liquidity including:

-An urgent liquidity need.

-You no longer believe in the upside of the firm.

-A huge portion of your net worth is in one basket and want to diversify.

-You still believe in the upside of the company but want to protect yourself against the downside.

There’s a lot to cover in regards to the history of founder liquidity which we are not going to delve into in this read. However, we are going to discuss some things you can do to ensure your founder liquidity works.

1. Only Sell When The Company Has a Gained a Substantial Level of Success

If you value your relationships with the investors, co-founders and employees, then you’ll want to restrict your selling activity until the firm has achieved substantial success. Of course, substantial success in this context is subjective, but there are some ways to gauge it including:

-The firm has achieved reasonably high revenue amounts, usually $2 to $5 per annum.
-The company has gained a substantial amount of revenues and it’s still growing fast, usually over $5M per annum.
-The fundraising process is easy and fast, with a high valuation.

2. To Key Investors in Advance

Your investors and co-founders may resent you if you ask for liquidy and they’re not offered the same opportunity. Ideally, it’s easy for them to think that you no longer have confidence in the company.

However, if you bring up your desires for founder liquidy well in advance, you can avoid these concerns. Most firms have a Right of First Refusal. This implies that you’ll likely have to give your firm and the investors the right to purchase your shares before you can sell them to a third party.

Also, it’s worth considering issuing liquidity-friendly stock to the founders from the start. This is a founder-friendly stock that’s designed to make liquidity easy without causing harm to the company and shareholders.

3. Consider The Tax Implications

The taxation of stock can be sophisticated. If you sell options or stocks too early, you might get hit with a huge tax bill. It is important to be careful that your tax obligations to not offset the majority of your gains and ascertain that the structure and timing of the sale are optimized for favourable tax treatment.

Tax treatment mechanics are well beyond the scope of this read and so, it is important that you polish up on the different tax strategies as well as consequences. It’s also advisable to seek advice from a financial expert.