What is a Liquidity Event?
A liquidity event is a process by which an investor liquidates their investment position in a private companyPrivately Held CompanyA privately held company is a company’s whose shares are owned by individuals/corporations and that does not offer equity interests in the company to investors in the form of stock shares traded on a public stock exchange, nor is it owned by a government. A company in the "private sector" refers to non-government-owned and exchanges it for cash. The main purpose of a liquidity event is the transfer of an illiquid asset (an investment in a private company) into the most liquid asset – cash.
A liquidity event is a form of the exit strategyExit StrategiesExit strategies are plans executed by business owners, investors, traders, or venture capitalists to exit their position in an asset at a certain point utilized by private equity firms. Usually, the event is carefully planned long before it is triggered. It is typically triggered when certain conditions are met or particular circumstances have arisen. The founders of the company and the investors are the primary parties interested in the event.
Forms of Liquidity Event
1. Initial Public Offering (IPO)
The company’s shares become publicly traded after an IPOInitial Public Offering (IPO)An Initial Public Offering (IPO) is the first sale of stocks issued by a company to the public. Prior to an IPO, a company is considered a private company, usually with a small number of investors (founders, friends, families, and business investors such as venture capitalists or angel investors). Learn what an IPO is. The company’s founders and investors may sell their shares and monetize their initial investments.
2. Direct Acquisition
Instead of going public, the company or a stake in the company can be sold directly to an interested party (e.g., private equity firmTop 10 Private Equity FirmsWho are the top 10 private equity firms in the world? Our list of the top ten largest PE firms, sorted by total capital raised. Common strategies within P.E. include leveraged buyouts (LBO), venture capital, growth capital, distressed investments and mezzanine capital.). This is another method of monetizing an initial investment.
Reasons for a Liquidity Event
A liquidity event can be triggered due to the following reasons:
- Profit target is reached
- Loss prevention
- Legal reasons
- Dramatic change in market conditions
Example of a Liquidity Event
PE Partners is a private equity firm that invested $5 million in NewTech Corp., a technology startup. In its five years of operations, NewTech Corp. has experienced significant growth and become very profitable. In order to raise additional financing for further growth, the company’s management decides to undertake an IPO.
PE Partners assesses the market conditions and the company’s growth potential and concludes that an IPO would be the best way to liquidate their investment. During the IPO, PE Partners sold their stake in NewTech Corp. for $25 million.
Additional Resources
Thank you for reading CFI’s explanation of a Liquidity Event. CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)™FMVA™ CertificationThe Financial Modeling & Valueation Analyst (FMVA)™ accreditation is a global standard for financial analysts that covers finance, accounting, financial modeling, valuation, budgeting, forecasting, presentations, and strategy. 
certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional resources below will be useful:
- Capital StructureCapital StructureCapital Structure refers to the amount of debt and/or equity employed by a firm to fund its operations and finance its assets. The structure is typically expressed as a debt-to-equity or debt-to-capital ratio. Debt and equity capital are used to fund a business’ operations, capital expenditures, acquisitions,
- Cash ReservesCash ReservesCash reserves are funds that companies set aside for use in emergency situations. The cash that is saved is used to cover costs that are unplanned or unexpected. In most cases, the reserves are specifically for short-term needs.
- Current AssetsCurrent AssetsCurrent assets are all assets that can be reasonably converted to cash within one year. They are commonly used to measure the liquidity of a company. A company’s assets on its balance sheet are split into two categories – current assets and non-current assets (long-term or capital assets).
- Founders StockFounders StockFounders stock refers to the equity that is given to the early founders of an organization. The stocks differ in a few ways from common stocks in a secondary market. The key differences are that founders stock can only be issued at face value, and it comes with a vesting schedule.
