After Going Public, What Comes Next?
As an entrepreneur, shepherding your company through the initial public offering (IPO) process can be a stressful and exhilarating time with the potential for a big payout. But what comes next for your finances after you take your company public? The following tips can help you make smart financial decisions post-IPO.
#1 – Plan for liquidity.
A common misconception among many entrepreneurs who take their companies public is that their wealth will immediately skyrocket the day of the IPO. While it’s true you have the potential to significantly increase your wealth and gain access to liquidity following your IPO, the majority of that wealth will likely remain inaccessible for a period of time due to the following reasons.
- Blackout (lock-up) period – Many IPOs include contract provisions that prevent insiders from selling stock for a designated period of time, such as 90 to 180 days following the IPO. This restricted period is crucial because it prevents investors from flooding the market with a large volume of shares, potentially lowering the stock’s value.
- Holding requirements – Many companies have holding requirements that require key shareholders to maintain a certain amount of stock as part of their compensation agreements. These holding requirements are typically designed to align key employees’ interests with those of the company and its other shareholders.
- Board approval – As a key employee, you may be required to seek approval to sell your shares. This is typically done by creating a 10b5-1 plan, which specifies the amount of stock you wish to sell and the timing of that sale. That plan must be approved by the company’s board of directors before you can sell the stock.
Because of these liquidity issues, it’s important to have a plan in place to cover your living expenses. Start by building an emergency fund with adequate savings to cover at least three to six months of living expenses. Then work with your wealth manager to develop a liquidity strategy in line with your overall financial plan, income needs and goals for the future.
#2 – Understand your holdings.
You may hold the following types of stock options or shares depending on how your IPO was structured.
- Incentive stock options (ISOs) –ISOs offer you an opportunity to purchase shares at a discounted price to fair market value. When exercised and held for at least one year after vesting and two years after the grant date, sales of ISOs are taxed at capital gains rates rather than (typically higher) ordinary income tax rates.
- Non-qualified stock options (NSOs) – NSOs are less commonly issued to key employees as part of an IPO. Still, they’re sometimes granted to non-employees, such as contractors, once the company reaches a certain size and can no longer offer ISOs. When you exercise an NSO, you must pay income tax on the spread between the grant and exercise prices.
- Restricted stock awards (RSAs) –RSAs represent stock shares rather than options. They’re granted in place of cash or compensation, and they typically have a vesting schedule. RSAs can receive long-term capital gains tax treatment with proper planning.
- Restricted stock units (RSUs) – RSUs are rights to acquire shares of common stock under which the shares will be delivered once certain conditions are met and, typically, a vesting schedule has been satisfied. Although you normally won’t have to pay anything to acquire the shares, the fair market value of vested RSUs is generally treated as compensation (ordinary income) at the time they’re delivered.
#3 – Establish an exercise strategy.
Your decision of when and how to exercise your stock options and/or sell your shares can have significant tax implications. It’s important to carefully weigh your options and develop a strategy that makes sense for your personal financial situation.
Keep in mind that you’re not required to exercise options or sell your shares immediately following the blackout period; you can typically delay until the expiration date. It’s often wise to exercise when the current market value of the shares is low, as this practice can help minimize your tax exposure.
Your wealth manager can help you establish an exercise strategy that’s in line with your overall financial plan and future goals.
#4 – Diversify your portfolio.
As an entrepreneur, you likely have a lot invested in your business in terms of time and your personal assets. Following an IPO, you may find yourself even more heavily invested in your company. While you want to share in the success of your efforts, being overly invested in company stock could expose you to unnecessary risk should something unexpected occur. That’s why it’s important to diversify your investment portfolio.
Investing in different types of assets can help spread out your risk, because when one sector or investment type is performing poorly, another investment that’s performing better can help smooth out your portfolio’s volatility. Consider investing in a combination of stocks and bonds, large and small companies, U.S. and international stocks, and various sectors (such as technology, energy, healthcare, etc.).
#5 – Update your estate plan.
Following any major life event, such as taking your company public, it’s important to review your estate plan to help ensure it continues to meet your needs. If you don’t have an estate plan, there’s no better time than now to get started.
Your Creative Planning wealth manager and estate planning attorney can help you get started with estate planning and/or determine how your IPO may impact your current plan.
Could you use some help planning for your company’s upcoming IPO? Creative Planning is here for you. Our experienced professionals serve as fiduciaries to clients, providing advice that’s in your best interests. We understand the unique challenges entrepreneurs and business owners face, and we can help you successfully navigate complex financial decisions following an IPO. To learn more, schedule a call with a member of our team.