IPO Lockup Expiration

An IPO lockup expiration is the end of the contractual period, following a company's initial public offering, during which its insiders have agreed not to sell their shares. The SEC's investor glossary explains the agreement it ends: lockup agreements "prohibit company insiders—including employees, their friends and family, and large shareholders—from selling their shares for a set period of time after an IPO. In other words, the shares are 'locked up.'" The company's insiders and its underwriter typically sign the agreement before the offering "to ensure that shares owned by these insiders don't enter the public market too soon after the offering."

The initial public offering page covers the offering itself and why the early price behaves as it does; this page covers the one dated event that most reliably changes the supply of shares in the months after it. Two other things share the word and are not this. A hedge fund's lockup restricts when its investors may withdraw money, a restriction on the fund's customers rather than on a company's shareholders. And the legal limits on reselling unregistered securities, which apply to many of the same insiders under SEC rules, are a matter of law rather than contract and do not end on the lockup date.

Who is bound, and why the underwriter wants it. The parties to a lockup are the company's pre-IPO holders on one side and the underwriters on the other. The holders are typically founders, executives, employees with vested equity, venture and private-equity investors and other large pre-IPO shareholders. The underwriters want the agreement because they are selling a limited number of shares at a price they have set, and a flood of insider selling in the first weeks would undercut the offering they just placed. The SEC's framing is that the lockup keeps insider shares from entering "the public market too soon after the offering." The agreement is private; there is no rule requiring one, and the SEC's guidance treats its existence and terms as facts to check rather than as a legal safeguard.

The terms, and where the variety hides. The SEC states that "the terms of lockup agreements may vary, but most prevent insiders from selling their shares for 180 days," and that lockups "may limit the number of shares that can be sold over a designated period of time." In practice the variety lies in the exceptions and the releases. Some agreements release shares in stages, some allow an early release if the stock trades above a stated price or after the company's first earnings report, and some permit limited sales through pre-arranged trading plans; the prospectus states whichever applies. A lockup written as a single 180-day bar produces one expiration date, while a staggered one produces several, and an investor who has read only a headline date can be surprised by an earlier release.

Where the date is disclosed. US securities laws, the SEC says, "require a company using a lockup to disclose the terms in its registration documents, including its prospectus," and the SEC's advice to anyone considering a recently public company is to "determine whether the company insiders have a lockup and when it expires." The prospectus is filed on EDGAR, and the lockup terms appear in its discussion of the shares that will become eligible for sale after the offering. The exchanges treat locked-up shares as unavailable too: Nasdaq's listing rules define Restricted Securities to include shares "subject to a lockup agreement or a similar contractual restriction," and exclude them from the publicly held shares a company needs to qualify for listing.

Why the price can move before anyone sells. The SEC's sentence is the whole argument: "a company's stock price may drop in anticipation that locked up shares will be sold into the market when the lockup ends." In a typical IPO the shares sold to the public are a fraction of the shares outstanding; the rest sit with insiders under the lockup. When it expires, the number of shares that could be sold rises several-fold overnight. Not all of them will be sold, and insiders who believe in the company may hold, but the market prices the possibility, and it does so before the date rather than on it, because every participant can read the same prospectus. The expiration is therefore one of the few scheduled events in a young public company's life whose direction of effect is known in advance even though its size is not.

What the expiration does not end. Insiders' shares are generally restricted securities under the SEC's rules for reselling unregistered stock, which impose holding periods, volume limits and filing requirements on affiliates that continue after the contractual lockup ends. Executives also remain subject to the insider trading laws and to company trading windows. So the expiration removes one restriction, the contractual one, and the volume that actually reaches the market in the following weeks is shaped by the legal limits that remain, by tax considerations, and by what the insiders think the shares are worth.

Before the IPO, insiders sign an agreement with the underwriters not to sell for a stated period, most often 180 days from the offering. The prospectus discloses the terms and, by implication, the expiration date. Through the lockup period only the shares sold in the offering, plus any other unrestricted shares, trade. On the expiration date the contractual bar lifts, and insiders may sell subject to whatever legal resale limits and company policies still apply to them. The market, having read the same prospectus, typically prices the prospect of new supply in the weeks beforehand.

A hypothetical example. Corvid Analytics has 100 million shares outstanding after its IPO. It sold 20 million of them to the public at $24 in an offering priced on February 10; the other 80 million are held by founders, employees and venture investors under a 180-day lockup. The lockup expires on August 9, 180 days later. For six months the tradable supply is 20 million shares; on August 9 the shares that could be sold rise to as many as 100 million, five times the prior float, although nobody expects every insider to sell.

Suppose that by July the stock trades at $36, a 50 percent gain on the offering price, and that an early venture investor holds 10 million shares bought years earlier at an average of $3. Its position is worth $360 million against a cost of $30 million, and it has told its own investors it will distribute or sell after the lockup. Other holders can see the same thing in the prospectus and in the venture fund's public filings. If the market marks the stock down to $31 in the two weeks before August 9 in anticipation, a public holder who bought at $36 has lost about 14 percent before a single insider share has traded, which is the SEC's warning in numbers.

Pros

• The lockup stops insiders from selling into the offering they just completed, which protects the public buyers of the IPO shares during the first months.
• Its terms and therefore its expiration date are disclosed in the prospectus, so the event is scheduled and public rather than a surprise.
• The exchanges' treatment of locked-up shares as restricted keeps them out of the publicly held share count, so listing standards are measured on shares that can actually trade.

Cons

• The expiration can move the price before it arrives, so a buyer who does not know the date can lose money to an event everyone else has read about.
• The lockup is a contract, not a rule; its terms vary, it can contain early releases and staged expirations, and the underwriters can waive it.
• It ends only the contractual restriction. Legal resale limits, trading windows and the insiders' own decisions determine how many shares actually reach the market, so the effect on any given stock is unknowable in advance.