It was used that startup founders generally did not try to personally cash their stakes in their companies until they had gone public or were acquired.
As WeWork CEO Adam Neumann has demonstrated – to the tune of $ 700 million, according to a report by the Wall Street Journal on Thursday – that norm is changing. And you can attribute that shift to the massive influx of capital into venture markets and specifically into companies such as WeWork.
"Traditionally, it would be uncommon for this to happen," said Charlie Plauche, a partner with Austin, Texas-based S3 Ventures. "But traditionally, companies did not raise that many dollars in dollars of rounds of funding prior to an IPO."
The taboo on founders cashing in before their companies went public was rooted in the desire to ensure that the founders were fully invested in the long-term success of their startups and not just trying to make a quick buck. But the general prohibition on such moves has been gradually lifting, and the practice of founders selling off their stakes for their own benefit while their companies are still private has become more common, especially since the last financial crisis.
Zynga founder Marc Pincus, for example, sold $ 1
09 million worth of his stock in a pre-IPO transaction in 2011. Evan Spiegel and his cofounders of Snap each cashed in $ 10 million worth of their stakes in 2013, four years before the company's IPO. And Uber's Travis Kalanick sold 29% of his stake in the app-based ride-hailing company in 2018, after he was ousted as CEO but before the company went public.
Neumann's transactions, however, stand out for their collective size, especially for a founder who remains his startup's CEO. As the Journal reported, WeWork's Neumann has personally garnered some $ 700 million from a combination of selling his shares in the company and taking out loans from it that are backed by some of his remaining shares.
WeWork cofounder and CEO Adam Neumann reportedly sold shares he owned in the company and took loans worth $ 700 million "The magnitude of Neumann's sales is an extreme outlier," said Jay Ritter, a finance professor at the University of Florida who closely tracks the IPO market.
It is impossible to determine without more details on the transactions just how much of his stake Neumann sold in the moves. That's because they took place over the last five years, according to the report, and WeWork's valuation has soared over that time – going from $ 5 billion at the end of 2014 to $ 47 billion at the beginning of this year.
Neumann, through a WeWork representative, declined to comment on the report or transactions to Business Insider.
Unlike founders in earlier eras, but like a growing number today, Neumann holds a controlling stake in this company despite not owning a majority of its shares. He is able to do that because the shares he own does get 10 votes each, while other shares get one vote, as The Journal reported. That control means, in general, that he can run the company as he sees fit and does not have to worry as much as another founder might about whether his investors approve of his stock sales. Pincus, Spiegel, and Kalanick were in similar positions.
But the size of Neumann's sales is also a function of the value of his company. And that in turn is related to a big influx in late-stage capital. Firms such as Softbank have been buying up stakes in older, more mature startups. That money – Softbank alone has been investing out of its mammoth $ 100 billion Vision Fund – has allowed these companies to stay private longer.
That trend, however, has also helped shift the attitudes about founders cashing in some of their early stakes, venture investors said.
In previous times, before the influx of late-stage capital, companies of the age and maturity of WeWork would have been already public. Founders often sell parts of their stakes in an IPO; it used to be the first time that many of them got to see a windfall from the success of their companies. Investors have come to see moves such as Neumann's in a similar light, Plauche said. The WeWork Snake was public now – as traditionally it would have been – he would have been able to cash in anyway.
"In later stage companies, where the founder has put off liquidity events for years and the valuation has grown, cash outs make a lot more sense," Plauche said.
Investors are actually encouraging it, in some cases
Another factor related to the rise of such cash outs is that they are often the only way for late-stage investors to get the stake they want in a particular company, investors said. In some of the more mature startups, the company itself does not necessarily need any more cash or the existing investors do not want to further dilute their stakes by having it issue new shares. So new investors themselves may encourage their founders and early employees to sell their shares on secondary markets.
"There's just more and more late-stage investors looking to put money to work," Pauche said, "and at some point, the only way to do that is to give liquidity to current holders than put money on the balance sheet . "
But the trend is moving beyond just more mature startups to those who are earlier in their development, said Kristian Andersen, and a partner with High Alpha, an Indianapolis-based venture studio. Investors have come to believe, from observing the growing number of cash outs at more mature startups, that there is not as much risk as they might have previously thought in such moves, he said. And actually the startups can benefit from the founders taking a little off the table, he said.
New founders at later stage companies tend to have a huge amount of wealth locked up in their shares. Worried that they could lose it all if they mess up things, they can become cautious, Andersen said. Allowing them to cash in some of their stakes before an exit can help them be a little more relaxed and more focused on the company's future beyond an IPO, he said. He still frowns on founders at really early stage companies trying to cash in. But for those at companies that are further along – those in their series B funding rounds and beyond – he thinks it's perfectly fine.
"Increasingly, you're seeing early-stage investors not only comfortable with it, but in many cases encouraging it," Andersen said. He continued: "We have encouraged many of our CEOs to take a few chips off the table as they take their ride up."
Still, there are legitimate reasons to worry if and as the trend becomes more prevalent. In some cases, a founder selling off early may be a sign of lack of confidence in the company or worse. In 2000, for example, Nina Brink sold most of her stake in her startup, World Online, a few months before her initial public offering at a fraction of its IPO price. The company's stock price plunged shortly after its IPO, and the company was sold months later.
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