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Earning stock options at a private company is a great compensation perk. But in most cases, employees can’t simply turn around and sell the stock they’ve earned. Most private stock awards are illiquid, meaning the stock can’t be sold unless the company experiences a liquidity event—like an IPO or an acquisition. 

While IPOs and acquisitions are two types of liquidity events that typically make the news, private companies will often provide liquidity to employees and early investors before they’re acquired or go public. A common mechanism for doing so is the tender offer. 

If your company’s preparing a tender offer, here’s what you need to know.

What is a tender offer?

A tender offer is a structured liquidity event that typically allows multiple sellers to tender their shares either to an investor, a group of investors, or back to the company. In other words, it’s a potential way for you to sell some of your shares while your company is still private. 

Tender offers can benefit everyone involved:

What are the different types of tender offers?

There are two types of tender offers used in this context:

  • Corporate repurchase, also known as share buybacks, are when the company offers to buy shares back from shareholders.
  • Third-party tender offers are when an investor or company offers to buy shares.

How do tender offers work?

The details can vary, but in general, the tender offer process looks something like this:

A buyer, or multiple investors, offers to buy shares at a set price typically agreed to by the company. Once the company confirms the offer price and gets approval from its board of directors, the company will  work with their counsel and the buyers to prepare the disclosures and transaction documents.

Finally, a window is opened for you as a seller to evaluate the transaction details and decide whether you want to participate, and if so, how many of your eligible shares you want to sell. Under U.S. Securities and Exchange Commission (SEC) rules, tender offers must remain open for at least 20 business days, so you have time to ask questions, examine the documents, consult an advisor, and decide whether participating is right for your personal circumstances. Your company will typically provide financial statements and other disclosures as part of the offering documents, to help you make an informed decision about selling.

Tender offer rules and regulations

Companies will often set qualifying criteria for participating in a tender offer. Sometimes, your company might only allow you to participate if you’ve exercised your options and held the resulting stock for at least six months. They might also limit how many shares you can sell to ensure your incentives are aligned with the company’s goals.

Tender offer example

  • Krakatoa Ventures offers to buy at least 2,000,000 shares, or 5%, of Meetly common stock
  • Fair market value (FMV) of Meetly stock prior to the tender offer: $15
  • Krakatoa Ventures offers $17 per share
  • The offer lasts for 20 business days

Should you participate in a tender offer?

Ultimately, participating in a tender offer is a personal decision. Here are a few tips to help you decide: 

  • Go to the info sessions. There, you can ask questions and get the important details, like who qualifies and when you have to decide by.
  • Read all the documents your company gives you. This will help you get a better idea of how your company is doing.
  • Talk to a financial advisor. They can help you figure out if it’s a good idea to participate in the context of your current financial situation and goals.

Also, ask yourself the following questions:

  • What are my financial goals? Do I need the money now, or can I wait?
  • How’s my company doing? Do I think the value of my stock will continue to rise?
  • When do I think the next liquidity event will be?
  • How much will it cost to exercise my remaining stock options?
  • Do I think the price the buyer is offering is fair?

Pros and cons of participating in a tender offer

Pros Cons
  • You get to monetize otherwise illiquid equity
  • You can use proceeds from the sale to exercise your remaining options for better tax treatment in future transactions, diversify your personal portfolio, pay off debt, put in savings, etc.
  • Sometimes you get to sell for more than the shares are currently worth
  • If the shares become more valuable later, you lose out on additional growth
  • If you exercise and sell in one transaction (companies don’t always allow this), you may lose out on the favorable tax treatment of ISOs because you don’t meet the holding period requirements

 

What happens if you don’t accept a tender offer?

You don’t have to participate in a tender offer. If you’d rather keep your shares, simply don’t do anything.

How are tender offers taxed?

If your company lets you exercise options and sell the resulting shares in the same transaction (and you choose to go that route), you’ll pay ordinary income tax on the difference between your strike price and what the shares are worth when you exercised and sold them. Keep in mind that if you make enough profit, this extra income could bump you up into a higher tax bracket.

If you tender shares you already own (e.g., shares from exercised options or settled RSUs), you’ll pay capital gains taxes on any increase in the value of the shares between your cost basis and the sale price.

  • If you’re making a qualifying disposition of shares you exercised from an ISO grant, you’ll pay long-term capital gains rates on all associated income.
  • If you’ve held stock for at least one year from your acquisition date, you’ll pay long-term capital gains on the difference between your cost basis and the sale price.
  • If you sell before you hit the holding periods mentioned above, you’ll pay short-term capital gains.

Tender offer example (continued)

  • You exercised 500 shares from your ISO at a $5 strike price over a year ago. You received your grant more than two years ago. The FMV of the shares was $10 when you exercised.
  • Your company allows you to sell up to 10% of your 500 shares
  • You decide to sell 50 shares in this tender offer, which gets you $850 ($17 offer price x 50 shares)
  • You will pay long-term capital gains on $600 [ ($17 offer price – $5 strike price) x 50 shares]

If you want to optimize your tax withholding strategy, lowering your adjusted gross income by maxing out your 401(k) and increasing charitable donations may help. You should also consult with a tax professional before participating.

 

DISCLOSURE: This post contains general information only and eShares, Inc. dba Carta, Inc. (“Carta”) is not, by means of this publication, rendering accounting, business, financial, investment, legal, tax, or other professional advice or services.  This post is not a substitute for such professional advice or services nor should it be used as a basis for any decision or action that may affect your business or interests. Before making any decision or taking any action that may affect your business or interests, you should consult a qualified professional advisor.  This post is not intended as a recommendation, offer or solicitation for the purchase or sale of any security. Carta does not assume any liability for reliance on the information provided herein.
This post contains links to articles or other information that may be contained on third-party websites.  The inclusion of any hyperlink is not and does not imply any endorsement, approval, investigation, or verification by Carta, and Carta does not endorse or accept responsibility for the content, or the use, of such third-party websites. Carta assumes no liability for any inaccuracies, errors or omissions in or from any data or other information provided on such third-party websites.

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