What is the Lock-up Period?
A lock-up period, also called a locked-up, lock-in or lock-out period, refers to the predetermined time frame in which corporate insiders, investors, and employees are not allowed to sell or redeem their shares after an initial public offering (IPO). It normally happens in instances where a private entity offers its initial public stock issuance.
The management and initial large stockholders of a publicly-traded company are forbidden to sell their shares immediately following an IPO.
The law usually does not oblige businesses that want to go public to follow a lock-up period. The lock-up period is normally something that the company and/or the investment banks underwriting the IPO request. The purpose is to prevent excessive volatility and allow the market to find the stock’s true value.
How Long is a Lock-up Period?
The lock-up period is usually 90–180 days, depending on the company. Although lockups used to be fairly simple – typically lasting 180 days – they are gradually becoming more complex.
Investors and employees usually want lockups that are shorter so that they can cash out earlier. Underwriting banks often want lockups that are longer to prevent insiders from dropping the share price. The company is usually somewhere in the middle. They want to ensure that the investors are happy but do not want it to seem like insiders lack faith in the stock.
What is the Purpose of an IPO Lock-up Period?
A company usually brings in more money when the price and demand for the stock are up. When a private entity goes public, many key employees usually want to cash in their stock as quickly as possible. The main purpose of an IPO lock-up period is to prevent flooding of the market with too many shares, which will lower the stock’s price.
The lock-up period is also important because large stock sales by people close to the company may give the impression of a lack of confidence in its prospects. It is common for the stock price of a company to go down permanently after the end of the lock-up period.
At times, corporate insiders can’t sell their shares even after the expiry of the lock-up period because they possess substantial, nonpublic information and, therefore, a sale would be considered as insider trading. A similar scenario may occur, for instance, if the expiry of the lock-up corresponded with earnings season.
An IPO lock-up period is a contractual constraint that inhibits business insiders holding stock before the company goes public from selling their stock for a period. Such Insiders may include company owners, founders, employees, managers and venture capitalists.
The purpose of lockups is to stop corporate insiders from hastily liquidating assets after the company’s IPO. It helps ensure that the stock price will not decline from a sudden flood of selling.
The lock-up period for freshly issued public shares helps stabilize the price of the stock on entering the market. When corporate insiders sell their shares in the company to the public, it may appear that the company is not worth investing in.
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