When a company goes public the founder or founders get a lot of shares. Sometimes millions of shares. How do they determine how many shares the founders get? Do they pick a number or is that number of shares suggested by the brokers who are selling the IPO shares?
It works the other way around.
Until the company goes public, the owners (founders and/or venture capitalist backers) own the entire company. When doing the IPO, they decide how much of the company they want to sell. Anything they don’t sell remains theirs, as it was until then.
So if for example they want to retain 60% of the company, then the company markets enough shares for them to retain 60%, and sells the 40% to the public. And so on.
Generally founder(s) own shares in the company prior to the IPO. The IPO generates a bunch of additional shares that are sold to the public. The number of additional shares is determined by the board of the company and dilutes the ownership of the previous owners. But there are endless variations. Consult a very expensive lawyer.
Simple example: Anne and Bob start a company and co-own it equally. They each own 50% of the company, but they don’t bother to say that there are N shares between them.
At some point they want to get outside investment, and they do so by taking $100,000 from Charlie for 10% of the company. They decide that the company is worth $1m and they’re going to have 100k shares each worth $10. Anne and Bob each get 45k shares and Charlie gets 10k.
A few years later, they go public, and decide to create another 70k shares and sell them on the open market. In addition, Charlie decides to cash out of some of his and sells 5k shares. After the IPO, there are 170k shares. Anne and Bob still each own 45k, for a slightly more than 1/4 share of the company each. Charlie owns 5k, and whoever bought on the public market own the rest.
It should also be emphasized (as IATW alluded above) that the per share value of the IPO is directly influenced by the number of shares the founders (and/or current owners) are keeping for themselves in the IPO.
So in the example above, suppose the “market” believes that the value of the company is $1M at the time of the IPO, then adding 70K shares reduces the value of each share from $10 to $5.88 per share. Essentially the founders/current owners are reducing their share of the company from 100% to 58.8% and selling off 41.2% of the company (leaving out Charlie cashing out 5K shares), and the value of what they’re selling is $412,000 out of the total $1,000,000 value.
Had the founders chosen to leave themselves a higher percentage of the post-IPO shares, then the value of what they’re selling would be that much lower, and they would receive that much less.
I should add that it’s a bit more complicated than that. Because it’s also possible that the money the IPO brings in will remain with the company and not go to the founders/current owners. In that case, the math is a bit different, though the overall dynamic is the same.
If the company is worth $1M and there are 100K shares with each share worth $10, and the company issues 70K new shares at the IPO with the money to remain with the company, then the value of the company is now equal to $1.7M (the sum of the old value plus the $700K brought in by the IPO) and the shares would still sell at $10 ($1.7M with 170K shares). In that case, the founders would not be cashing out any of their shares, but would be reducing their stake in the (now-bigger) company from 100% to 58.8%.
Bottom line remains that the amount held by the founders is not something that someone determines that “the founders get”. The founders are effectively selling off X% of the company, at a price determined by the market assessment of what X% of the company is worth.
I don’t believe it’s just possible, it’s mandatory. Only the company can raise money by issuing shares, when it sells the shares, the money must go into the company bank account. The company can also, as a part of that deal, reward cash or shares to certain people but that’s a separate deal, the money goes from shareholders → company → founders.
The founders and investors get money by selling their personal shares on the open market, not by any windfall from the IPO process itself. And usually founders aren’t allowed to sell shares during the IPO anyway, they usually have a 6 month lockup period.
I don’t know if that’s correct. From Wikipedia (emphasis added):
When a company lists its securities on a public exchange, the money paid by the investing public for the newly-issued shares goes directly to the company (primary offering) as well as to any early private investors who opt to sell all or a portion of their holdings (secondary offerings) as part of the larger IPO. An IPO, therefore, allows a company to tap into a wide pool of potential investors to provide itself with capital for future growth, repayment of debt, or working capital. A company selling common shares is never required to repay the capital to its public investors. Those investors must endure the unpredictable nature of the open market to price and trade their shares. After the IPO, when shares are trade market, money passes between public investors. For early private investors who choose to sell shares as part of the IPO process, the IPO represents an opportunity to monetize their investment.
I think we agree on the substance but disagree on the wording. New shares that are created as a part of the IPO process (primary offering) only goes to the company. Existing shares that are sold at the same time as the IPO (secondary offering) is what goes to founders & investors.
You can have existing equity shares being divested as part of an IPO. It has to be declared in the IPO’s prospectus, and also in the listing documents submitted to the exchange where the new stock will be listed. It’s uncommon, as usually a stock’s price is expected to go up after an IPO. However, the divestment may be required for regulatory reasons, or for contractual reasons based on how the pre-IPO corporate capital basis was structured.
I’m no expert but I’ve gone through a couple of IPOs and I don’t think you guys have it quite right. A company can’t just add shares; they have to go through a re-valuation (often triggered by outside investment) and a stock split. After the valuation the value of the stocks is just total-company-value / number-of-stocks. The number of stocks is chosen to make it easier to divide up the company among owners.
The valuation is somewhat regulated; you can’t start a company and decide to valuate it at $1billion without some justification. When going IPO the estimated value of the company doesn’t matter much, it’s more just a guide for investors who might want to buy stock.
I’m not an expert either, but it looks to me like you’re describing the same thing in a different way.
Well, you can, but as your last sentence (that I snipped from the quote) indicates, ultimately the market determines the actual valuation. The ‘regulation’ is via supply and demand rather than being imposed by a regulatory organisation.
I worked across the street from Red Hat when they had their IPO. I heard that regular workers got a good amount of stock. Met a guy who left RH not long after that and he seemed to have a lot of cash. Big house , indoor/outdoor pool, lots of land ,etc.
I know lots of folks at RH, most did quite well for their years of hard work. Many of them were there at the beginning, so had built up considerable equity, which is common for startups. I’ve been in several startups and built up significant equity, but unfortunately none of them made it to IPO.