Preparing a Tender Offer: The Benefits of Proactive Liquidity Events
For many private companies, a broad-based equity plan is a great way to foster a culture of ownership. But employee equity incentives can lose its shine if the IPO milestone remains far in the future. Too often, share plan participants who need funds to pay off their student loans, get married, buy a new house or meet their other financial goals have to wait years before accessing liquidity through some type of exit event.
To reward employees for their hard work and avoid losing them to a public company, where their equity can be readily traded, many private companies have begun to offer liquidity through employee-focused tender offers. Here, we answer some high level questions about what tender offers are and how they work.
What is a tender offer?
A tender offer is an offer made by either the company or a third-party investor to purchase stock from a shareholder. There are several criteria a secondary transaction must meet before it’s considered a tender offer.
Specifically, tender offers include an active and widespread solicitation made for a substantial percentage of the issuer’s securities. The offer is made at a premium over the prevailing market price, with fixed terms, and is contingent on the tender of a fixed number of shares. Additionally, tender offers are only open for a limited period of time and shareholders often face pressure to sell their securities.
What are the triggers for a tender offer?
Tender offers tend to occur in response to participant demands or expectations for greater liquidity. For instance, if your executives were allowed to sell some of their holdings after a primary round, the broader-based community may expect the ability to sell following a secondary transaction. In fact, 55% of the tender offers run through the Shareworks platform in the first half of 2020 were offered by companies that completed a fundraise in the past six months – with the majority structured as company buybacks.
That said, in recent years, more companies have begun to make tender offers scheduled events. Some private companies now guarantee liquidity as part of their equity plans and actively commit to a regular cadence for these transactions. Taking this type of proactive approach is a great way to show appreciation to employees prior to an IPO or exit event. It’s also probably easier to offer one tender offer a year than several one-off secondary offers. Keep in mind, though, that running a tender offer can be a heavy administrative burden, so be sure to think through your goals in advance.
How might a tender offer affect our 409A valuation?
As most private companies know, you need a 409A valuation to help set the price for any options you issue. Although these valuations are typically valid for 12 months, certain trigger events require you to update your 409A. Tender offers may be one of them.
Admittedly, if the tender offer is made to a founder by an existing investor, this probably won’t count as a trigger event. It simply doesn’t have enough of a widespread impact. But if you’re running an employee-wide offer at a scheduled frequency and/or with a high volume, your 409A valuation will be affected – especially if hundreds of shareholders suddenly have the opportunity to sell stock at once.
Most of the tender offers run through the Shareworks system in the first half of 2020 fall into this category. Among the transactions we tracked, the median amount offered to 333 total eligible sellers was $27.8 million. Roughly 40% of eligible sellers participated in these transactions, which is a pretty good baseline for tender offers.
If this sounds like you, you’ll want to get your lawyers and auditors involved right from the start. Nothing is more likely to delay a deal than failing to prepare for the valuation impact of a tender offer.
Advance planning may also help you keep your option strike prices low by giving you the time to structure the offer with these impacts in mind. For instance, if you work with a single secondary counterparty rather than multiple buyers, the transaction may not be “weighty” enough to trigger a new 409A valuation. Similarly, if you structure the deal as a simple redemption of common shares in exchange for preferred shares that confer the same rights and privileges, the transaction value is more likely to align to your current 409A valuation.
How can Shareworks help?
Although tender offers can be complex, Shareworks can automate the entire process to enhance both the participant and administrative experience.
Participants get an intuitive interface that walks them through the offer step-by-step. When they login to Shareworks, they’ll see which options are available to exercise and sell, the option price, the maximum dollar amount they’re eligible to sell and an estimate of the net proceeds they’ll receive. Depending on your system’s configuration, your participants may even be able to see tax withholding estimates based on your YTD file from your payroll provider and calculated at their personal tax rates.
Money movement is streamlined thanks to the ability for participants to open up a self-directed Morgan Stanley Access Direct brokerage account directly through Shareworks. Conversely, you can wire funds directly to your participants’ existing accounts following a liquidity event.
Equity plan administrators can benefit from having centralized data in one secure place, so you can easily share liquidity event details with internal teams and stakeholders, and maintain auditable reporting. With data updates in near real time, you can also keep your cap table up-to-date. Plus, Shareworks makes sure your participants know what they need to do by allowing you to send account activation reminders, tender participation deadline reminders and other customized communications.
As part of the service, you’re also provided with a team of specialists who can help you hit the ground running – by confirming all your participant accounts are activated, helping you update your demographic information, offering education sessions, providing you with sample documents, creating your eligibility file, testing your configurations and building the final product. By the time you reach processing and settlement day, all you’ll need to do is press a few buttons.
If you’d like to learn more about how to prepare for a tender offer, get in touch!