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IPO Lockups: Overview and Exceptions – IPOhub

IPO Lockup Period

Introduction

IPO blocks are not required by a regulator, but almost all IPOs include them. in fact, most underwriters require them, investors will often walk away from companies without them, and the most sophisticated law firms insist on including them early in the life of companies. Any company considering going public should understand what IPO lock-ups are, why they are important, and the common exceptions to traditional lock-up periods. this article will cover the following topics.

ipo blocking overview

Reading: How long is the ipo lockup period

  1. what are ipo locks?
  2. why are ipo locks important?
  3. what happens when ipo lock periods expire?

exceptions to traditional ipo blocking

  1. space ipo locks
  2. experienced stock offerings
  3. advance releases
  4. other exceptions

ipo lock overview

what are ipo locks?

an ipo lock-in is an agreement signed by those who own shares prior to an ipo (i.e. insiders and early investors). The agreement restricts these shareholders’ ability to sell shares for a period of time, typically 180 days. these agreements are not mandatory, except in states that require them through “blue sky laws.”

why are ipo locks important?

  1. protect the share price from falling immediately after the trade date

ipo locks serve an important purpose in protecting the common investor, which is why they are so in demand. Without the lock-up period, many insiders and early investors would sell their shares shortly after the IPO in an effort to gain liquidity. this rush of supply could overwhelm demand, depressing the stock price, hurting ordinary investors who recently bought stocks in the expectation that the value would rise.

  1. guard against information asymmetry

Furthermore, IPO lock-ins can protect ordinary investors by creating a period of time in which the health and profitability of the company are further revealed, while insiders cannot sell shares. this restriction guards against potential information asymmetry, the condition that exists when insiders make decisions based on information not yet available to ordinary investors.

In a 180-day ipo lock-in period, there are two quarterly earnings announcements. If negative information was withheld during the IPO process in order to artificially increase the initial share price, for example so that insiders could cash out immediately after the IPO, these announcements would likely reveal that hidden information. this removes much of the motivation to hide negative information during the IPO process to “cash in” before stock prices plummet on such news. by largely removing that motivation, the common investor has more confidence that information publicly available on and immediately after the IPO date is accurate.

By guarding against potential information asymmetry, IPO blocks not only benefit ordinary investors, but also the IPO companies themselves. most companies have nothing to hide from the public and executives are confident in the future of their companies. however, those optimistic owners may still want to sell shares after the IPO in an effort to gain liquidity. the public often interprets these inside sales as a lack of confidence in the company’s future. the stock price would likely take a hit as the public assumes there is bad non-public news, even if that’s not true. when informants agree to a lockdown period, in essence, they are showing that they are not only willing to “not just put their money where their mouth is, but also keep it there” (brau, “reviewed lockdowns”).2

what happens when ipo lockout periods expire?

When IPO locks expire, experts tend to sell a portion of their shares. due to increased supply, the share price may fall. In anticipation of this event, many investors will sell their shares in the days leading up to the expiration date to get ahead of the decline. however, this behavior often causes the stock price to drop days before the expiration date, in addition to falling when the lock actually expires. For example, in 2019, Uber experienced a 17% drop in its share price in the days leading up to the lockdown expiration. although this was partly due to company performance, it was widely recognized that the upcoming expiration of the block played a role.3

exceptions to traditional ipo blocking

spac ipo locks

spac ipos also have lockout periods, similar to traditional ipos. the main deviation is the length. spac ipo lock-up periods tend to be longer than the traditional lock-up period, often stretching around a year.4 this gives spac time to find a target company to acquire.

experienced stock offerings

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Experts can potentially circumvent IPO lock-in restrictions by completing an experienced stock offering (SEO), sometimes known as a secondary offering,5 during the IPO lock-in period. SEOs are often a combination of newly issued company shares and pre-IPO shares personally owned by top executives. Executives can potentially sell a portion of their pre-IPO shares as part of an SEO that occurs during the IPO lockup period and bypass lockup period restrictions. however, if executives choose to take this route, they may be met with alarmed or negative sentiments from outsiders and should be prepared with an explanation of their decision.

premiere releases

Although the typical IPO lock-up period does not expire until the scheduled day, there are some circumstances that warrant early release of deals. however, these early release provisions generally apply only to a percentage of the blocked shares or only to a subset of “early release shareholders” rather than the entire population of insiders.

early release provisions have become more common in recent years. This greater flexibility may be linked to the rise of alternative listing methods, such as direct listings. some of the more common circumstances are described below.

blocking periods

Generally speaking, a blackout period is any period of time in which specific actions in a company are restricted or prohibited. In the context of stock trading, companies generally have blackout policies that restrict the sale of their stock by specific groups of executives and employees due to the potential existence of material inside information. If these lock-up periods overlap with IPO lock-up periods, IPO lock-up agreements will sometimes include early release provisions to prevent the two events from coinciding and prolonging the IPO lock-up period.

specific event blackout periods

Sometimes these blackout periods are enacted due to specific and irregular events, such as mergers and acquisitions. these event-specific blackout periods are not announced to the entire company or the public due to the highly confidential nature of the information. Simply knowing there is a blackout period for specific events could fuel speculation and lead to notable drops or rises in a company’s share price. instead, only the specific people involved with such information are privately notified that they cannot sell their shares until the information is publicly available.

Because these locked events cannot be announced to the public and the dates of these specific events are generally unknown during the construction of the IPO lockout agreement, these specific event lockout periods do not give rise to provisions early release in blocking the initial public offering agreements.

quarterly blackout periods

Quarterly lock-in periods caused by quarterly earnings announcements are more common than event-specific lock-in periods. In most cases, executives, accounting and finance employees, and any other company personnel who may have access to undisclosed information are prohibited from trading in its securities for a period of time (usually a few weeks) before that quarterly earnings be announced every quarter.

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These quarterly lock-in periods have the potential to coincide with the expiration of the IPO lock-in period, essentially lengthening the lock-in period. Because quarterly blackout periods are regularly scheduled and the expected expiration date of the blackout period is also known, companies can anticipate whether the two events will overlap. as such, the problem must be addressed in the initial agreement with the insurers by setting a release date from the previous lock-in period.

price conditions

One of the most common early release provisions in ipo lock deals is price conditions. A price condition is a specific price set forth in the IPO’s lock-up agreement that the company’s share price must reach in order for the company to experience an early release from the lock-up period. the price is often expressed as a percentage increase from the initial public offering price (for example, the share price must reach a price that is 25% higher than the initial public offering price). Beyond the price condition, there are other specific conditions that must be met. for this type of early release to be activated. some of these conditions include the following:

  1. A specified number of days have passed since the IPO date. for example, many regulations specify that 90 days must have elapsed from the IPO date. this is commonly known as the “early expiration deadline”.
  2. at least one quarterly earnings report has been filed since the date of the initial public offering.
  3. as mentioned above, the price condition must be met. Generally, the agreement specifies that the most recently reported closing price must reach a price expressed as a percentage increase of the IPO price. (for example, 25% more than the IPO price).
  4. This price condition was not met just once, but the specified price was met or exceeded over an extended period of time . for example, most provisions specify that the price milestone must be reached during at least 10 of the 15 trading days.

In short, for an early release of price condition fulfillment to be triggered, a company generally must meet or exceed the price condition for a number of consecutive days after the “early expiration deadline” has passed. and at least one quarterly earnings report has been filed since the date of the initial public offering.

early expiration date

Sometimes the early expiration deadline falls on a quarterly lock-in period, which would prevent early release. In these cases, the agreements almost always make it clear that the early expiration deadline will be moved, usually to an earlier date, if the company meets all the requirements for an early release of price conditions before the early expiration deadline.

multiple periods of ipo lockouts

Some companies have multiple ipo lockout periods associated with their ipo. This arrangement is more common with larger IPOs, especially when insiders own a large proportion of the shares. By staggering lock-up periods, the supply of new shares is introduced slowly rather than saturating the market after a single lock-up period.

Sometimes, specific groups of employees are allowed to trade their shares after specific expiration dates. more often, however, different periods release a specific percentage of shares.

other exceptions

Sometimes, lock-up agreements will specify a number of exceptions to the lock-up period that allow certain persons subject to the agreement to sell or transfer shares in specific circumstances. some common exceptions include the following:

  • transfers as gifts to charities
  • transfers under divorce clauses
  • transfers under wills
  • transfers to the company or its officers

These exceptions generally don’t have much of an effect on the open market.

conclusion

To effectively negotiate lock-up terms during the IPO process, companies must understand the purpose of those lock-ins and the common exceptions to traditional lock-ups. By implementing effective blocks, not only can the common investor be safeguarded, but the company can also be protected.

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resources consulted

  1. eli ofek, richardson matthew. stern school of business, new york university. “The IPO Lock-in Period: Implications for Market Efficiency and Downward-Sloping Demand Curves”. January 2000.
  2. ihs markit: opi lock deals
  3. seconds quick responses: initial public offerings: lock deals

footnotes

  1. “in addition to the federal securities laws, each state has its own set of securities laws, commonly known as “blue sky laws,” that are designed to protect investors against unfair sales practices and activities. fraudulent”. (sec, “laws of the blue sky”.)
  2. james c. wow, ok e. lamb, and grant mcqueen. “revised locks”. the journal of financial and quantitative analysis vol. 40, no. 3 (September 2005). p. 519-530.
  3. dan rosenberg. “IPO investments and lockups: what to know before you hit the door, airbnb”. ameritrade. December 8, 2020.
  4. Ramey Layne and Brenda Lenahan, Vinson & elkins llp. “Special Purpose Acquisition Companies: An Introduction”. harvard law school forum on corporate governance. July 6, 2018.
  5. A seasoned stock offering or secondary offering is any new share issuance or sale of closely held shares of a company that has already conducted an IPO. (investopedia, “secondary offering.” 2021.)
  6. lyft, inc. Aug 7, 2019. Form 8-k. article 8.01.
  7. snowflake inc. Dec 29, 2020. form 8-k. article 8.01.
  8. jfrog ltd. November 23, 2020. form 8-k. section 8.01.
  9. albertsons companies, inc. 2020. exhibition 4.3
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