The Year of the Disappearing Lock-Up

The Shifting Power Dynamic in Startup Funding

It’s become increasingly evident that startup founders currently hold a position of considerable influence. This is demonstrably seen in the substantial increase in funding, with investors reportedly allocating a record $93 billion to early-stage U.S. startups in the previous year – a figure that represents a tripling of investment compared to five years prior.

Furthermore, the average valuation of seed- and early-stage startups has doubled during the same timeframe. This indicates a heightened willingness among investors to support ambitious ventures at earlier stages.

The Erosion of Traditional Lock-Up Periods

A less publicized, yet significant, indicator of the leverage founders now possess concerns lock-up periods. These traditionally span 90 to 180 days following a company’s initial public trading, during which founders, investors, and employees refrain from selling shares to demonstrate confidence in the company and reassure new shareholders.

However, these lock-ups are increasingly becoming less common, and this trend is accelerating. Recent research from Renaissance Capital, a firm specializing in IPO-focused exchange-traded funds, reveals that early lock-up provisions “exploded” in the last year.

Specifically, a full quarter of the year’s IPOs – totaling 91 offerings – included provisions allowing for early lock-up releases. This represents a more than fivefold increase from 2020.

Examples of Early Lock-Up Releases

Tech IPOs were particularly prominent in utilizing these provisions, accounting for 60 of the new issuers, or 66% of the total. Companies like Coupang and Robinhood exemplify this trend.

Coupang, South Korea’s leading e-commerce retailer, secured an early release of approximately 34 million shares just one week after its NYSE debut, contingent upon its stock price remaining at or above its IPO price of $35 – a condition quickly met. (Currently, the shares trade around $26 each.)

Similarly, Robinhood permitted employees to sell 15% of their holdings immediately upon commencing trading, with another 15% available for sale after three months.

Other Companies Loosening Restrictions

Snowflake, a data warehousing company, allowed employees to sell up to 25% of their vested stock three months after its 2020 public offering. Airbnb, going public in December 2020, enabled employees to sell up to 15% of their shares within the first seven trading days.

DoorDash also saw underwriters agree to halve the standard 180-day lockup period for certain shares following its December 2020 IPO. Dutch Bros., Allbirds, The Honest Company, TuSimple, and Affirm also incorporated early lock-up provisions, as detailed in Renaissance’s report.

The Changing Landscape of Lock-Up Periods

While never mandated by the Securities and Exchange Commission, lock-up periods were historically viewed as a sign of good faith and aided public market shareholders in planning their investments. A traditional lock-up often resulted in a temporary price decrease as early investors sold shares, increasing supply.

Factors Contributing to the Shift

Several factors have contributed to the weakening of these measures. Companies are remaining privately held for longer periods, increasing the demand for liquidity among insiders. The emergence of direct listings has also played a role. Only one of the twelve direct listings to date, that of Palantir, featured a lockup.

The proliferation of special purpose acquisition companies (SPACs) is another key influence. Many SPAC deals include provisions restricting sponsor share sales for a year, but offer quicker exit strategies. For instance, if a SPAC’s shares trade slightly above their initial pricing for more than 20 days within a 30-day period, the lockup provision is lifted.

Founders Driving the Change

The common denominator in these developments is that founding teams have actively sought, and obtained, more flexible lock-up terms from their investors, who often also benefit from this trend. It’s unlikely a venture capitalist would prefer restrictions on their ability to sell shares after a public offering.

Increasing Complexity and Opacity

Renaissance Capital’s report highlights that lock-ups are not only becoming less frequent but also more difficult to track. Early releases are now frequently tied to earnings dates or blackout periods that are not defined at the time of the IPO.

The release date may also be contingent on the share price reaching a specific threshold, such as remaining 33% above the IPO price for 10 out of 15 consecutive trading days. Furthermore, the details of early releases are often embedded in complex legal language and may lack clarity regarding the actual number of shares released.

Market Reaction and Future Outlook

The critical question is whether public market shareholders are concerned about the diminishing prevalence of lock-up periods. Currently, there’s limited evidence to suggest they should be. While SPACs have generally underperformed traditional IPOs, direct listings have shown better results.

Given the record-setting performance of U.S. stocks in 2021, investors are unlikely to challenge these trends until market conditions change. The future response, however, remains uncertain.