Facebook director Peter Thiel collected almost $400 million selling most of his remaining stake in the social network over two days last week. The quick sell-off came right after the end of Facebook’s first “lockup” period, which prevented insiders like him from trading shares for 90 days after the company went public.
Lockups are designed to prevent insiders from jumping ship too quickly after a company goes public. While lockups used to be simple—usually lasting 180 days for everyone—they’ve become increasingly complex. Facebook’s IPO may take that to a new level, with five different key dates that dictate which insiders can start selling when. Let us explain.
When employees and pre-IPO investors initially get their shares or options, they sign a contract with the company that typically prohibits trades for the first 180 days after a future IPO. When the company is ready to go public, the underwriting bank then reaffirms the existing agreements in new contracts.
Usually employees and early investors want shorter lockups (so they can cash out sooner) while the underwriting banks want longer ones (to keep insiders from flooding the market and sinking the share price). The company is often somewhere in the middle—wanting to keep employees and investors happy but not wanting it to look like insiders don’t have faith in it.
In the froth of Silicon Valley, IPOs increasingly have deviated from the 180-day standard. Zynga, for example, had a 165-day lockup, and Zillow insiders had the contractual right to start trading some shares after 90 days if the company hit certain performance measures. Large investors could have bargaining power to get an earlier exit. In February 2010, two big Facebook investors, Mail.Ru Group and Digital Sky Technologies, worked out an agreement to be able to sell as many as 75 million shares just 90 days after an IPO, but had to hold on to 47 million shares for a full year, according to Facebook’s prospectus.
Contracts aside, a few other factors dictate when more shares can hit the market. Employees can’t always exercise their options if they’re not yet vested. And there is some regulation, known as Rule 144, that limits when corporate officers and large shareholders can sell. Depending on the company, Rule 144 can push the lockup out to a year for some shares, though it can be as low as 90 days.
Facebook’s lockup schedule shows just how complicated things have become. While the end of its first lockup sent shares down more than 6 percent, that’s just the tip of the iceberg:
Aug. 16: Original investors aside from Mark Zuckerberg were allowed to start trading 271 million shares.
Oct. 16 to Nov. 14: Directors and employees can start selling some stock and options that could total 247 million shares.
Nov. 14: The Big Kahuna. Almost 1.2 billion in shares become available, plus for the first time Zuckerberg will be allowed to trade 60 million shares.
Dec. 14: Another 149.43 million shares are free to trade.
May 18, 2013: Facebook investors Mail.Ru Group and Digital Sky Technologies will be able to trade their remaining 47.32 million shares.
There’s one last wrench that could change how these new shares can hit the market. Usually the underwriters of an IPO have the authority to grant one-off waivers to the lockup if, say, an employee needs money to buy a house. That, too, has been expanding. Zynga execs, including Chief Executive Officer Mark Pincus, got a waiver from underwriters to shorten the lockup period by almost two months. That let them sell at $12 a share—twice what the stock fetched when the original lockup date finally came around. In Facebook’s case, the company—not its underwriter—retained the right to decide whether some investors could sell earlier. The Zynga case has prompted a potential class-action lawsuit for insider trading, so that could put a chill on Facebook exercising those clauses.
In any case, a lot more shares could be headed to the market over the next year.