Question & Answer
What Is a Secondary Sale?
A secondary sale occurs when existing shareholders – founders, early investors, or employees – sell their shares to a new buyer, rather than the company issuing new shares. Unlike a primary sale, where funds go directly to the company to fuel growth, a secondary sale transfers ownership between investors.
How Secondary Sales Work
In most cases, secondary sales happen when an investor or shareholder wants liquidity before an IPO or major exit event. These transactions can involve institutional investors, venture capitalists, or even other founders looking to increase their stake.
For investors, secondary sales provide an opportunity to enter a company without waiting for a funding round. For sellers, it offers a chance to cash out part of their holdings without waiting for an acquisition or public offering.
Key Reasons for Secondary Sales
- Early Liquidity: Founders or employees might need to sell shares for personal financial reasons before a full company exit.
- Investor Rebalancing: Some venture capital firms prefer to exit earlier rather than waiting for an IPO.
- New Investors Gaining Entry: Late-stage investors may want exposure to a company without dilution from a new funding round.
- Cap Table Clean-Up: Some companies facilitate secondary sales to streamline their shareholder structure before raising new capital.
Example: How Secondary Sales Impact Ownership
Imagine a startup that raised $10M in a Series B round. One of the early angel investors wants to exit and sells a portion of their shares to a late-stage fund at a higher valuation. The company itself does not receive funds, but the new investor gains a stake in the business.
Another scenario is a founder selling a small portion of their shares in a secondary sale to secure personal liquidity while maintaining a controlling interest.
Challenges and Considerations
Secondary sales are not always straightforward. Many companies impose restrictions on share transfers, requiring board approval or offering a right of first refusal (ROFR) to existing investors.
Additionally, pricing can be complex. Unlike primary rounds, where valuation is set by an investor agreement, secondary sales rely on private negotiations, making pricing inconsistent across transactions.
Secondary sales play an important role in venture capital and private equity, providing liquidity in an otherwise illiquid asset class. For founders, managing secondary sales strategically ensures investor alignment while maintaining control.
In Deal Structuring, I explore different scenarios where secondary sales were used effectively to create liquidity while preserving shareholder value. Understanding these transactions helps investors and founders make informed decisions about their stake in a growing business.
Deal Structuring
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