For many tech executives, hearing that your company is planning an IPO can feel like crossing a finish line. Years of grinding, late nights, product pivots and missed family dinners seem about to finally translate into real wealth.
But reality is often more complicated and precarious than the Silicon Valley legend suggests. Every year, employees at companies heading toward a public exit are surprised by what happens next: private market liquidity shuts down before the IPO and, once the IPO happens, lock-ups prevent selling, tax liabilities emerge, and the stock price declines before they can sell. In the worst cases, employees end up paying big tax bills on shares that later trade below the amount used to calculate the taxes.
This article is about what smart executives do to manage a concentrated stock position, reduce risk, and optimize wealth before, during and after an IPO.
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Before diving into strategy, it’s important to understand (1) the multiple IPO-related restrictions on your ability to sell your shares, (2) the danger of declines in share price during the lock-up period, and (3) the impact taxes have on the wealth you get to keep.
Limitations on Your Ability to Sell
1. Secondary trading often closes pre-IPO
It's common for companies to suspend private secondary sales one to two months or more before the IPO. That means if you're exploring pre-IPO liquidity options - whether selling or diversifying - the window may close before you have the opportunity to act.
2. You’ll likely have to sign a lock-up
The investment banks underwriting the IPO will almost certainly require you sign a lock-up agreement. This agreement restricts you from:
- Selling shares
- Entering into hedging or derivatives positions
- Pledging or otherwise transferring ownership
Lock-ups typically last 180 days from the IPO date, which may sound short but can feel extraordinarily long when your net worth is floating on a stock price ticker.
3. Senior executives face added securities constraints
Even after lock-up expiration, Section 16, Rule 144, and insider-trading policies may limit how and when senior executives sell. Blackout periods and clearance requirements mean liquidity isn’t always as simple as “day 181 and done.”
Don’t Assume the Stock Price Will Increase
Employees commonly assume the stock will hold its IPO value or increase after the lock-up expires. It can happen - but statistically, it’s not the norm. There are three reasons why post-IPO performance often disappoints employees:
1. First-day pricing is unreliable
To engineer a successful public market debut, underwriters typically restrict the supply of shares and set the initial offering price low enough to attract a surge of buy side demand. This can create a first day “pop” in share price that is often unsustainable when supply and demand ultimately find equilibrium.
2. Missed earnings are disastrous
The first two quarters of a company life in the public market is fraught with peril. The market is hypersensitive to any negative developments that could affect the projected earnings on which the company’s stock price is based. Even small misses in quarterly earnings forecasts can have material downward impact on stock price.
3. Lock-up expiration floods the market with sellers
When the 180-day lock-up finally expires, large numbers of employees, funds, and early investors all seek to sell at the same time. Many of those sellers have been waiting years for a payday on their shares and are willing to sell even at depressed prices in order to achieve it. An influx of supply with no corresponding increase in demand generally drives share prices down.
Historical examples tell the story:
- Uber (2019): IPO price $45 → Post-lockup price $33 - a 37% decline
- Facebook (2012): IPO price $38 → Post-lockup price $19.87 - a 48% decline
- Peloton (2019): IPO price $29 → Post-lockup price $20.56 - a 29% decline
These are iconic companies that employees assumed would perpetually Increase in value. An all-too-common outcome is that employees watch the stock price initially jump but then decline steadily for six months, only to finally sell for sell less than the offering price.
Tax Issues: The Hidden Risk That Can Hurt the Most
Optimizing your wealth from an IPO means minimizing the taxes you pay on your sale proceeds. Unfortunately, many executives make decisions about when to exercise options and when to sell shares without the tax implications in mind. The result is frequently that they pay far more in taxes than they needed to. Here are two important tax considerations to be aware of:
1. Ordinary income vs. capital gains
If you sell shares held less than a year, you pay ordinary income tax rates. This can eat up 37% of your sales proceeds just for federal tax - state taxes can take as much as an additional 13%. However, if you hold your shares for more than a year, you may qualify for the much the lower long-term capital gains rate. This is why many executives exercise their options well in advance of the IPO.
2. Option exercise timing matters
The timing of your option exercise and sale of the underlying shares relative to the IPO date and subsequent fluctuations in share price can have an enormous impact on the size of your tax bill. Whether your options are incentive stock options (ISOs) or non-qualifying stock options (NSOs) can also be a critical distinction as the way taxes are calculated on each differ radically.
In a worst-case scenario:
- You exercise your options right before the IPO
- The stock price immediately trades up, creating a huge gain
- You owe AMT or income tax based on that higher price
- You can’t sell during lock-up
- The stock price drops 40% before you can sell
Result: Your tax bill is based on a higher price than the price you ultimately receive for your shares. In extreme cases, employees owe more in taxes than their post lock-up shares can cover.
So, What Should a Smart Executive Do?
A thoughtful strategy before the IPO can dramatically improve after-tax outcomes and reduce your risk. Here are three key moves to consider:
1. Diversify before the IPO
If your company still permits exchanges or secondary sales, exchanging or selling a portion of your shares pre-IPO can:
- Reduce the risk of holding a concentrated stock position by diversifying
- Generate cash for option exercises, taxes and/or other needs
- Make it easier to sleep at night during post-IPO share price volatility
Ideally, your shares are eligible for tax-efficient diversification via a private market exchange fund. This strategy reduces your risk and gives you access to liquidity without triggering capital gains tax. But, even if your only alternative is to sell some of your shares and pay the taxes on the sale, it is often better than watching paper wealth evaporate as the stock price declines during the lock-up.
2. Plan your tax strategy
Connect with a tax advisor who is experienced with private company stock options and initial public offerings. Your advisor will want to know whether your options are ISO’s or NSO’s, their grant date(s) and exercise price(s), the expected timing and offering price of the IPO and to learn generally about your financial circumstances and objectives.
In particular, consider exercising your options in advance of the IPO. Exercising before the IPO can:
- Start your long-term capital gains holding period
- Reduce exposure to painful AMT timing mismatches
- Avoid a “Disqualifying Disposition” on ISOs
- Simplify eventual liquidity planning
However, it is also important to remember option exercises are investments (i.e., payment of the exercise price) that comes with some risk. If the IPO never happens or, it happens, but the sale price you receive after the lock-up expires is lower than your exercise price, you could lose money.
3. Plan your sales
Consider planning your stock sales in advance of the IPO. For example, one such strategy would be to sell 25% of your shares when the lock-up expires and then sell an equal number of shares each week such that at the end of one year (or two) you will have sold all of your stock. This avoids dumping your stock the day the lock-up expires and prices are at their lowest because so many other employees are selling too. Having a sales plan also means you’re less likely to respond emotionally and overreact to market developments.
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Summary
Seeing your company prepare for an IPO is exciting. Very few private tech companies ever make it that far. But lasting wealth won’t be created just by your company’s first day “pop” but rather through long-term risk management, access to liquidity and tax optimization.
The executives who come out of the IPO process in the best financial shape are typically the ones who:
- Diversified when they could
- Planned their tax strategy in advance
- Understood the limitations on their ability to sell pre- and post-IPO
- Prepared for post-IPO price declines
- Planned their public market sales
If your company is gearing up for a public listing, now is the right time to get started with your planning. If you wait until lawyers are drafting the S-1, many of the most valuable tax and liquidity strategies will already be unavailable. Smart executives plan 12–24 months ahead, not a few weeks before the roadshow.
IMPORTANT DISCLOSURES