IPO vs. Direct Listing vs. Tender Offer

If your company is about to undergo a liquidity event, congratulations! While many companies achieve this milestone by going through the IPO process, an IPO isn’t the only way to get there. Your company may reach public equities markets through a SPAC acquisition or direct listing, or it may offer employees liquidity via a tender offer. This article will provide a brief overview of the IPO, direct listing, and tender offer processes and how each could affect you as a recipient of equity compensation.

What is the IPO process?

To reach IPO, a private company raises money from a variety of sources. It works with an investment bank to host a roadshow, in which managers pitch the company to investors and build interest in the public market. Once adequate funding is secured, the underwriting process, which establishes the initial offering price and other terms of the IPO, is completed. The entire process often takes 18 months to complete.

Following the IPO date, underwriting often requires a lockup period of six months, during which pre-IPO shareholders are prohibited from selling their shares. The SPAC process works similarly but is shorter and simpler than traditional IPO because the SPAC has gone through the IPO process ahead of the acquisition. As a result, a SPAC merger may be completed in as little as four to six months; however, the lockup period might stretch for as much as a year.

How is the direct listing process different from an IPO?

In a direct listing, the company skips the IPO process and lockup period. As a result, it’s usually a less expensive route for companies to appear on public equities exchanges, and it provides employees and executives the opportunity to liquidate shares immediately. Rather than releasing additional shares, the company allows existing shareholders to trade on the public market. While direct listing can have a lot of benefits for some companies and their employees, it isn’t ideal for all businesses.

Because there is no roadshow and no investment bank behind the direct listing process, IPO is often the preferred route for companies that are seeking capital. Additionally, in a direct listing, the share price is set by the market alone. This can benefit companies with strong brand recognition and easily understood business models. However, without the hype generated by a roadshow, lesser known or understood companies are more likely to see a lackluster response to their debut on the public market. Additionally, without the stability the investment bank lends to the process, directly listed companies often experience more volatility in the early days of their listing.

How is a tender offer different from a public offering?

In a tender offer, shares are not publicly listed. Instead, the company or a third party offers to buy a specific number of existing shares for a set price, within a defined timeframe. Like a direct listing, this can provide instant liquidity for employee shareholders.

While this can be a welcome way for many employees to diversify out of their concentrated position, it’s important to carefully consider whether the offered share price appropriately values your company. Research of tender offers in the past few years found that these offers often underprice shares, sometimes at a fraction of the company’s eventual IPO price. For example, employees at Snowflake, which reached $253 on its IPO day in September 2020, sold shares for just $38.77 in a tender offer in February of that year.

How do I know whether to participate in a tender offer?

Employees can decide whether or not to sell shares under the tender offer. These offers are conditional, so if employees aren’t willing to let go of the number of shares the offering entity wants to buy within the set timeframe, the deal doesn’t go through. When deciding whether to participate, it’s important to consider not just the price offered but also how selling at that time and price point aligns with your overall financial goals. Keep in mind that if you have stock options, you will need to exercise them before you can sell shares, and that exercising incentive stock options and selling them at this early stage could cost you important tax benefits.

Your company will provide documentation of the terms of the offer as well as its own financials. It may also host information sessions to help employees understand the tender offer and ask questions about the process. Start by getting all the information you can from these sources. Then, work with a trusted financial advisor to determine the strength of the offer and whether participation would best support your individual goals.

Each approach to liquidity has potential benefits and drawbacks for employee shareholders. Understanding your liquidity opportunities is key to properly preparing for them and making wise choices that support your highest goals and priorities. WRP Wealth specializes in helping employees like you make the most of their equity compensation. For more insight into preparing for liquidity events, subscribe to our blog.