Private Stock

Private Stock

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Private company stock is a type of stock offered exclusively by a private company to its employees and investors. Unlike public stocks, the purchase and sale of private stock must be approved of by the issuing company. Buying private stock of a company that intends to go public can be a lucrative investment strategy. Private companies are not required to provide inside information to the public, so investors are often hesitant to buy private equity. Although private stocks are not registered with the SEC, SEC regulations still apply to their purchase and sale. 1

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An initial public offering (IPO) refers to the process of offering shares of a private corporation to the public in a new stock issuance.

A security is a fungible, negotiable financial instrument that represents some type of financial value, usually in the form of a stock, bond, or option.

A direct public offering (DPO) is an offering where the company offers its securities directly to the public without financial intermediaries.

Subscribed in investing refers to newly issued securities that an investor has agreed to buy or stated an intent to buy prior to the issue date.

An IPO lock-up is a period after a company has gone public when major shareholders are prohibited from selling their shares, and typically lasts 90 to 180 days after the IPO.

A primary market is a market that issues new securities on an exchange, facilitated by underwriting groups and consisting of investment banks.

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A private company is a privately-held commercial entity. While it may issue shares of stock, these shares are not offered to the general public and aren't listed on a public stock exchange. Private company stock includes shares issued by the company to employees or investors.

For example, startups often use equity to compensate employees during the early stages when cash flow is limited. Public companies also use equity compensation programs. These programs are designed to motivate employees by tying a portion of their pay to the company's earnings.

Contrary to a public company, a private company doesn't have to provide financial information to investors or shareholders. In addition, due to the often smaller size of private companies, they typically issue fewer shares of stock. That can make the shares less liquid and difficult to sell.

Selling stock in a private company is not as simple as selling stock in a public company . Public company employees and investors can sell company shares through a broker . To sell private company stock—because it represents a stake in a company that is not listed on any exchange—the shareholder must find a willing buyer.

In addition, a sale of private stock must be approved by the company that issued the shares. Some companies may not want their shares to be widely distributed.

What's more, some employees of startups may feel pressured to hold onto their company stock as proof of loyalty. If there is a good reason for the sale—such as a downpayment on a house—a company could be persuaded to approve a sale.

Individual brokers and companies facilitate investments in private or pre-IPO stocks.

Shares of a startup company that plans to go public with an initial public offering (IPO) are often easier to cash out. A number of web-based companies, such as EquityZen and SharesPost, connect sellers of, and investors in, pre-IPO shares.

Pre-IPO private company stock exchanges are essentially venture capital markets for the masses. An employee who holds stock in a pre-IPO private company can list shares for sale on such an exchange. Some of these secondary market sites offer loans to buy pre-IPO stock.

Before you sell private company stock, you need to get its valuation . You can obtain this through either the company itself or a private valuation service.

It is trickier to sell the stock of a private company that has no intention of going public. The lack of information about most private companies dissuades most outside investors. They can be reluctant to buy into a company that they know nothing about and cannot thoroughly research in public documents. In any case, the company may not approve the sale of its stock to outsiders.

The simplest solution for selling private shares is to approach the issuing company and ask how other investors liquidated their stakes. Some private companies have buyback programs, which allow investors to sell their shares back to the issuing company.

In addition, an insider may be able to provide leads about current shareholders or potential investors who have expressed interest in buying the company's shares.

The seller would be wise to visit a securities lawyer to make sure the paperwork is done correctly. Although private stocks are not registered with the Securities and Exchange Commission (SEC), all SEC regulations that apply to selling stocks must still be followed. 1

First, contact the company to obtain permission to sell your shares. Also, you'll need agreement on the manner of sale. The company can provide you with a valuation of its stock. Next, you'll need to find a buyer.
Perhaps the simplest way to sell your stock is through a buyback program offered by the company. The company can also explain how other investors sold their stock. Finding a buyer can be a challenge due to the lack of public information about a private company. To ensure proper paperwork connected with a sale, consider consulting a securities lawyer.
These days, private companies usually issue stock electronically instead of via paper certificates. Shareholders receive an email providing proof of ownership and all other details.
Stock options give you the right to buy a company's stock at a predetermined price within a particular time period. They're often used by a private company as an incentive for employees to stay and participate in the growth of the company.

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A private company may issue stock to investors.
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The SEC has strict rules about how offerings of stock in a private company can be made and who may purchase the shares. Private stock is not registered with the SEC, and the companies are not required to report financials and key company developments. These disclosure requirements apply only to companies with stock issued through registered public offerings. Resale of private stock is also prohibited unless the transaction meets certain requirements.
Private stock is issued under Regulation D of the Securities Act of 1933, which requires all offerings of stock to be registered with the SEC or be offered in compliance with Regulation D requirements. Reg D has three exemption levels known as Rules 504, 505 and 506. They primarily apply to the amount of the offering. Most private offerings are made under Rule 506. If you are approached to buy private stock, Reg D requires that you receive a private placement memorandum disclosing the company business and potential negatives associated with the company and the value of the investment. Also required is a subscription agreement and an accredited investor questionnaire.
Private stock can only be sold to accredited investors, unless the investors meet specific requirements as non-accredited investors. An accredited investor is an individual who has a net worth higher than $1 million, excluding the value of her primary residence. Or, she may qualify if she has annual income in the previous two years higher than $200,000 or, if married, $300,000 in combined spousal income, and expects to maintain that level for the following year. A director, executive officer or general partner of the company issuing the securities is also considered an accredited investor.
Non-accredited investors able to buy stock in a private offering include relatives and spouses of accredited investors, providing they live at the same address. Trusts, estates and corporations owned by an accredited investor also qualify. A company may only sell stock to 35 non-accredited investors. These restrictions are imposed to protect inexperienced investors or those whose lifestyle would be severely affected by losing the money they invest in private stock.
Restrictions governing who may buy a private placement of stock also seek to protect investors who might need to sell their securities for financial reasons. It is extremely difficult to sell private stock. Such stock is “restricted” by the SEC so, unless you obtain an attorney's letter stating your stock is exempt from registration with the SEC, you can't sell your stock. Such exemptions are common, but there is no market for most private stocks. There are a few alternative exchanges that try to trade some of the more popular issues, but the market is still extremely illiquid. If you need to sell your private stock, contact the investor relations manager at the issuing company and ask for an attorney's exemption letter. You can sell your stock to another private individual or company if you know someone who wants to buy it, but first inform the issuing company and obtain the attorney's letter.
Victoria Duff specializes in entrepreneurial subjects, drawing on her experience as an acclaimed start-up facilitator, venture catalyst and investor relations manager. Since 1995 she has written many articles for e-zines and was a regular columnist for "Digital Coast Reporter" and "Developments Magazine." She holds a Bachelor of Arts in public administration from the University of California at Berkeley.
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