‘Equity like water’: do private companies need to be more liquid?

Sponsored Feature Presented by Ledgy

By Yoko Spirig is CEO and co-founder at Ledgy and Mathias Pastor is co-founder at Semper

If you read the headlines, it’s a difficult time to be a tech company right now. With founders and employees adjusting to lower valuations and multiples, the situation looks especially tough for later-stage companies. As last year’s bull market runs out of gas, companies – and shareholders – might just be coming back down to earth.

This realignment is causing some friction for employees who own equity, even at tech giants. Netflix, for example, has been dealing with disgruntled team members pressing for additional stock grants after a precipitous drop in the share price effectively wiped out unrealised gains made on any options granted after 2018.

But there is one key difference that sets Netflix apart from private startups. As a listed company, Netflix staff with vested options did have the ability to sell their shares in the public markets. Netflix stockholders enjoyed – and still enjoy – far greater liquidity than private companies.

Take JustWorks, for example, which earlier this year announced a delay to its IPO, or WeRock, WeTransfer’s parent company, which cancelled its planned listing around the same time citing unfavourable market conditions. Employees of businesses in this situation are potentially facing additional years without being able to cash out on their equity stakes.

Particularly in this talent market, SaaS companies can’t afford to frustrate employees who might have expected to see some liquidity after years spent sweating to build successful businesses.

Let’s not forget that equity is a core part of the reason many people join early-stage companies. Yes, there’s the unique opportunity to help build a special, category-defining business. But often, talented and curious people are willing to take a lower salary because of the financial rewards their equity brings if their startup hit the big time.

That said, private companies aren’t so starved of options as it might seem when it comes to letting employees liquidate vested shares. Secondary share sales are an established device that let employees with vested options turn some of their equity into cash.

Right now, though, secondaries haven’t quite hit the mainstream in tech. Especially in Europe, secondaries have been seen as a luxury, only enjoyed by founders and very senior executives when they do occur.

Another reason why secondaries are still a relative rarity is the administrative overhead. Employees liquidating their shares need to be matched with investors willing to buy them, and components like shareholder pre-emption rights can make deal processes quite complex. If expensive lawyers have to get involved, and if the finance team’s bandwidth is consumed by the back-and-forth, are secondaries really worth the headache?

For companies, the cultural impact of secondaries might be the decisive factor. Recent years have already seen a trend of companies staying private for longer. A market downturn or (whisper it) a recession could exacerbate this shift, especially for the strongest performers: why would a company growing strongly and keeping cash burn under control expose itself to volatile public markets if it doesn’t have to?

In this context, companies need to find ways to reward employees that have devoted a part of their career to growing the business. Long-serving team members often have a significant chunk of their net worth tied up in stock. Allowing these employees to turn part of their stakes into cash shows the rest of the company that they will be rewarded, even if the CEO isn’t going to be posing for pictures and ringing the opening bell at a stock exchange any time soon.

The good news? There are signs that companies are becoming more open to secondaries, with prominent European scaleups like Taxfix and Revolut using secondaries to open up liquidity to their teams. We’ve seen several examples of companies where more than 1% of the total cap table transacts through secondaries annually. In a billion-dollar business, that’s $10 million becoming liquid for executives and employees in any given year.

In the early days of Spotify, founder Daniel Ek coined an evocative phrase to describe his startup’s value proposition: “music like water”. When people were still manually downloading songs onto mp3 players, the frictionless availability of music on demand was radical and changed business models throughout the entertainment sector.

Why can’t the same be true for liquidity in private companies? The infrastructure is now being built to facilitate seamless movement of shares between team members and investors. Our industry needs boards – and founders – to endorse an ‘equity like water’ model by demonstrating their will to support valued team members. Companies taking this approach can build cultures that reward people for their efforts as well as improving employer branding for new hires. Equity needs to remain core to compensation for stable and enduring companies, private or not.

About Authors:

Yoko Spirig is CEO and co-founder at Ledgy. Prior to founding Ledgy, she worked at CERN and contributed to the Swiss Hyperloop project.

Mathias Pastor is co-founder at Semper. Before founding Semper, he worked at The Family in Paris.