Latest / The Startup Exit Podcast with Fexingo: IPOs, Acquisitions, and Founder Liquidity Events / How Founders Use Pre-IPO Secondary Sales for Early Liquidity
Transcript
- Lucas: If you are building a company that might go public in the next twelve to eighteen months, there is a financial move you can make long before the IPO bell rings. And it is not a loan, not a line of credit. It is selling some of your own existing shares — pre ipo — to institutional investors. That is what we are drilling into today: secondary sales before the public offering. Luna: And this is not some niche loophole. It is becoming increasingly standard. Just look at Palantir — the stock is trading around $134 as of this morning, up about 2 percent over the past five days. That company had significant secondary activity before its direct listing in 2020. Lucas: Right. And the mechanism that makes it possible is Rule 144 under the Securities Act. That is the rule that governs the sale of restricted or control securities. For founders — who typically hold restricted shares — Rule 144 lays out exactly when and how they can sell without a full-blown SEC registration. Luna: So the rule requires a holding period first. For a company that has been reporting its financials for at least 90 days, the holding period is six months. But for non-reporting companies, it is one year from when the shares were acquired. Lucas: Exactly. And after that holding period, there are volume limitations. In any three-month period, the founder cannot sell more than the greater of 1 percent of the outstanding shares or the average weekly trading volume over the prior four weeks. That constraint matters — it prevents a flood of insider shares hitting the market all at once. Luna: But here is the thing — before the company is public, there is no trading volume on an exchange. So how do founders actually execute these sales? Lucas: That is where the secondary market platforms come in. Forge Global, EquityZen, SharesPost — these are the matchmakers. They connect founders who want to sell a chunk of their pre ipo holdings with institutional buyers — mutual funds, sovereign wealth funds, family offices — who are willing to buy those shares at a discount to the expected IPO price. Luna: And what kind of discount are we talking about? Typically 15 to 25 percent below the most recent 409A valuation — the fair market value determined by an independent appraisal. So the buyer gets a built-in cushion, and the founder gets cash now rather than waiting for the IPO lockup to expire. Lucas: Which is a huge strategic advantage. Because the lockup period after an IPO typically lasts 180 days. During that time, the founder cannot sell a single share. And a lot can happen in six months — the stock could drop, the market sentiment could shift, the sector could fall out of favour. By selling pre ipo, the founder locks in liquidity at a known price, or at least a known discount range. Luna: And there is a psychological angle too. Founders often have 80, 90 percent of their net worth tied up in the company. That is a massive concentration risk. A pre ipo secondary sale lets them diversify — pay down debt, buy a house, fund a new venture — without waiting for the public market window. Lucas: But it is not without signalling risk. If a founder sells a big chunk pre ipo, the public market might interpret that as a lack of confidence. Why would the founder sell if they think the stock is going to double on day one? So the trick is to sell enough to achieve personal diversification, but not so much that it looks like a vote of no confidence. Luna: Which is why many founders sell through what are called 'secondary tender offers' — the company itself orchestrates a process where existing shareholders, including employees, can sell a portion of their shares to a single large investor. That way, it looks less like an individual bailout and more like a structured liquidity event. Lucas: And the SEC has rules around those too. For companies that are still private, a secondary tender offer typically relies on Rule 506 of Regulation D, which allows general solicitation but only to accredited investors. So the buyer pool is limited, but it is deep. Luna: Let us talk numbers. A typical pre ipo secondary transaction might involve a founder selling 5 to 15 percent of their stake. At a $2 billion valuation, that could be $10 million to $30 million in liquidity. Not life-changing for a billionaire, but for a first-time founder, that is transformative. Lucas: And it is not just founders. Employees with vested options can also participate, often through the same tender process. That can be a huge retention tool — giving early employees a chance to cash out some of their paper wealth before the company goes public, which can make them more likely to stay through the IPO process itself. Luna: But there is a tax consideration. If the founder sells shares pre ipo, the gain is typically taxed as a long-term capital gain — if they have held the shares for more than one year. But if they sell within a year of exercise, it is ordinary income. So timing matters a lot. Lucas: And then there is the 83 election — a move that many founders make early on, electing to be taxed on the fair market value of their restricted stock at the time of grant, rather than at vesting. That can significantly reduce the tax burden on a future secondary sale, because the appreciation from grant to sale is treated as capital gain, not ordinary income. Luna: So the whole strategy really starts on day one — or at least, it should. Founders who do not plan for liquidity until the IPO roadshow is underway have fewer options. The secondary market is most accessible when the company is still private and the valuation is still climbing. Lucas: Right. And it is worth noting that the current market environment is unusually active for secondary deals. We have seen a wave of high-profile IPOs — SpaceX just went public, Coinbase is up 9 percent in the last five days, and the ARK Innovation ETF is up over 6 percent. That kind of enthusiasm in the public markets spills into the private market, making buyers more willing to pay up for pre ipo shares. Luna: But it also means that founders might be tempted to hold out for an even higher valuation. The risk, of course, is that the window closes. Market sentiment can shift quickly — just look at the headlines: Sundar Pichai facing backlash at Stanford, the government banning Anthropic models. Uncertainty is never far away. Lucas: Which brings us back to the core question every founder should ask: Do I want to be a billionaire on paper, or a millionaire in the bank? pre ipo secondary sales offer a path to the latter, and sometimes that is the smarter bet. Luna: Especially when you consider that many founders who held through the IPO and lockup ended up selling at lower prices than they could have gotten in the secondary market. The IPO pop is not guaranteed, and the lockup expiration can create a supply glut that depresses the stock. Lucas: So the tactical takeaway: If you are a founder and you are thinking about an IPO in the next 18 months, start talking to secondary market platforms now. Get your 409A valuation updated. Understand your Rule 144 holding period. And model out what a 15 to 25 percent discount looks like against your personal financial goals. Luna: Honestly, if today was worth a coffee to you, that is the link — buy me a coffee dot com slash fexingo. It keeps the show ad-free and lets us keep doing deep dives like this. Lucas: Yeah, we do not run ads. So if these conversations are useful for what you are building or running, that link is the simplest way to support the show. No pressure, but it helps. Luna: And we appreciate every single one. Now, back to the mechanics — there is one more nuance I want to flag: the difference between a primary and a secondary sale. In a primary sale, the company issues new shares and the proceeds go to the company. In a secondary sale, the shares already exist and the proceeds go to the selling shareholder. Lucas: That distinction matters because a primary sale dilutes existing shareholders, while a secondary sale does not. So when a founder sells secondary shares, the cap table does not expand. That makes it a cleaner transaction for everyone involved — the company does not raise new capital, it just facilitates liquidity. Luna: And from an investor perspective, buying secondary shares at a discount to the next round's price can be very attractive. You are effectively getting a 'pre ipo' price without waiting for the IPO. That is why funds like Tiger Global and SoftBank have been active buyers in the secondary market. Lucas: One final point — the SEC has been tightening disclosure requirements around secondary transactions. Form 144 must be filed with the SEC at the time of sale, and it is publicly available. So if a founder sells, it is not a secret. The public can see it, and journalists can write about it. That transparency is part of what makes the market fair. Luna: So the bottom line: pre ipo secondary sales are a powerful tool for founder liquidity, but they require planning, legal advice, and a clear understanding of the trade-offs between cash now and upside later. Lucas: And given the current IPO cycle — with SpaceX, Palantir, and others in the mix — the window for these sales is wide open right now. But windows close. So if you are a founder with an exit in sight, now is the time to act.