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If you're looking for financial planning when my company goes public, this is your complete guide to exercising company stock options and preparing for the IPO. It's crucial to be prepared for your company's IPO so you can get your finances in order and develop a strategy for wealth management.
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What Does It Mean When a Company Goes Public
When private companies go public, they've undertaken their initial public offering, known as an IPO. Doing this allows the public to buy, sell, and trade the company's stock. They are now a publicly-owned and traded entity.
In doing this, a company gives up some power in exchange for capital from the public. Taking an IPO can be high risk, but it's also a high reward for the company's financial future if successful.
What an IPO Means for:
An IPO can mean many different things for both employees and company owners. It can be very beneficial for employees and owners with shares they want to sell.
For business owners, an IPO can mean more liquidated assets and capital to expand the company. However, even if a company is doing well, the profit margins may not be enough for massive growth. One way to get this capital is from investors, but another is undertaking an IPO.
When owners take an IPO, they give up a percentage of the company to the public. So they may have less control over the business and may even lose money if the IPO doesn't go as planned.
But some owners use an IPO as an exit strategy. It's one way to sell a company without actually having to find a buyer and go through a lengthy sales process.
For employees, an IPO is also a risk or reward situation. As far as the workplace and salaries, these can increase or decrease based on the success of the IPO. On the other hand, salaries and bonuses may increase if the founders and investors can expand the company thanks to capital from the IPO.
But if they lose significant money and management control, the work environment may become tense and stressful, and salaries could decrease in the worst scenarios.
The most significant aspect of an IPO for employees is the stock options. Typically, when a company goes public, they offer employees discounted stock options.
So employees can buy stocks at low rates and then make money when they go public and become worth more. But with any stock investment, this is a risk.
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Taxes, Liquidity, and Cash Needs
There are several reasons a company may go public. The most common reason is that the company wants to expand and needs fluidity and capital to do so.
An IPO can help raise capital and keep the company's finances fluid as people buy and sell shares and the stock price fluctuates. A successful IPO can fulfill the company's cash needs and create a more fluid financial situation.
Concerning taxes, employees with shares will have to pay taxes when they sell, which can push them into a higher tax bracket, which is something to be aware of when buying options.
For owners and operators of the company, an IPO means more tax scrutiny to protect the public. So more documents will need to be available to the public, and financial reporting will be more diligent.
Planning Timeline: How to Start Planning
Before the company goes public, you should learn what timeline to expect, whether you're an owner or employee.
Business owners should create an advisory team before taking an IPO. This team will be responsible for assessing risk, managing stocks, and determining tax requirements. Having an excellent CFO to manage this team is the best strategy.
For employees, it's important to understand your options. Will there be stock options? What shares are available to employees? What is the employee discount? Every employee will have to decide the amount of risk they're willing to take if any.
As the company goes public, there is typically a lock-up period. Right after the IPO, company employees, insiders, and early investors cannot sell their shares during this period.
The period usually lasts between 90 and 180 days. This period prevents the market from being flooded, which may hurt the company.
As an employee or insider with these restrictions imposed, the best time to sell stocks is immediately when the lock-up period expires. But sometimes, other investors sell their shares back just days before the lock-up period's expiration, which can lower the price of shares.
This price drop is hard to avoid as an employee or insider. But typically, the price is still higher at the time of lock-up expiration than when purchased, so there is still profit to be made. Otherwise, you can hang onto your shares and monitor the market.
After the IPO, employees and insiders cannot do anything but watch their shares until after the lock-up period. Once the lock-up period ends, you can sell or hold your shares as you please.
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Financial Planning Tips When Your Company Goes Public
Below are some tips for when your company goes public. Above all, it's important to prepare. You should consider your options and plan a strategy at least a year before the company takes an IPO.
While it can be tempting to sell immediately after the lock-up period and get some cash, it's best to develop a long-term strategy to make the most of your company shares. Try to think in the long-term, planning for years down the road, not just weeks or months.
It's best not to put all your eggs in one basket. Especially if that basket also supplies your paycheck. If you choose to exercise stock options, diversify your portfolio, so you invest in other companies as well as your own.
Consult a Financial Advisor
The best way to develop a smart investment strategy is to speak with a financial advisor. They can help you determine how many stock options to exercise, how to properly diversify your portfolio, and help you plan for the long-term.
What to Consider If:
Not everyone will be in the same position with an IPO, so you must understand your shares and stock options before the initial public offering.
If You Already Own Stock in a Private or Pre-IPO Company
If you already have exercised stock, the IPO likely means your stocks will become worth more. But you can't use them until after the lock-up period.
If You Have Unvested Options or Vested Unexercised Options at a Pre-IPO Company
When you have unvested or unexercised options, you'll have to make some choices before the IPO.
An IPO shouldn't affect your unvested options or your vesting schedule. But the IPO means your shares will be easier to sell or trade once they're vested.
Vested Options You Haven't Exercised Yet
Find out if the exercise price on the stock is greater than the fair market value (FMV). If it's greater or equal, it doesn't make sense to exercise at this time.
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When and How to Exercise Stock Options
If you plan to sell your stocks as soon as possible, the best time to exercise your stock options is six months before the IPO.
By the time the lock-up period ends and you can sell, you will have held the stocks long enough that they're eligible for long-term capital gains tax and can reduce your tax bill.
Otherwise, you can exercise or hold them as you please, but exercising them before an IPO can often result in a higher profit margin when it's time to sell.
If the shares do well on the public market, you may make a decent pot of money when you decide to sell. However, you must be aware of the tax implications of selling these stocks. You may qualify for a higher tax bracket and receive a painful tax bill come April. From financial advisors to a tax professional, there are individuals that can provide you with tax and investment advice if you're in need of tax planning assistance.
The Bottom Line
Preparation is everything before, during, and after an IPO. Speaking with a financial advisor about your options, strategy, and financial plan is the best way to prepare yourself for tax implications and what to expect from the IPO.
An IPO can be a successful and lucrative move for most employees and business owners. But planning and preparation are crucial for prosperity.