Liquid assets

What to do right now if you’re the founder of a successful early-stage technology business in Europe? Valuation multiples remain high. On paper, your company is worth more than ever, as enthusiasm for themes such as artificial intelligence, big data and digital transformation sends them soaring. But realising any of that value is increasingly difficult. The initial public offering (IPO) market has virtually ground to a halt amid global stock-market volatility and trade sales are also negatively impacted by the uncertain climate.

The answer for a growing number of founders is a secondary share sale, conducted as a standalone process or alongside a further fundraising. These are transactions in which shareholders in early-stage companies sell some or all of their holdings to new investors. Those shareholders might include the business’s founders – who will typically retain control – employees offered equity in the company and investors who backed the business early on. A secondary sale enables all of them to cash in to some extent on the value of their shares. This is despite the challenges that currently make more traditional liquidity events so difficult.

Such secondary share sales have been common practice in the US for many years, but now appear to be gaining momentum in Europe too, and particularly in the UK. Data from the crowdfunding platform Crowdcube reveals that the amount raised through secondary share sales more than doubled in the final three months of 2024. The platform itself hosted more secondaries last year than in the previous 10 years combined. In the technology sector, 78% of companies surveyed recently by equity management platform Ledgy said they were considering a secondary sale.

Evolving structures

Amid the impact of escalating international trade tensions, this trend is only set to accelerate suggests Chris Lowe, partner and managing director at AlixPartners. “Public capital markets are locked right now and have been since the moment the US government unveiled its tariffs board in the Rose Garden,” Lowe says. “The growth of deal structures such as secondaries, funded by private capital, is a natural evolution.”

High-profile British businesses that have staged secondary share sales in recent months include the fintechs MoneyBox, Monzo and Revolut; at the latter company, staff and early investors have reportedly sold almost $1bn of stock to investors since last summer (see Talking about a revolution, below). And secondaries are not only for tech companies; in other sectors, women’s fashion brand ME+EM and footwear company Vivobarefoot (see Walk the Walk, below) have also completed successful secondaries.

Such deals will have benefits for multiple stakeholders, argues Andrew Jakins, managing partner of corporate finance adviser Highstead Partners, which has supported a number of companies through secondary share sales: “The psychology of being the founder is tough; it’s a pretty lonely place where you’re very aware that each new risk you take could jeopardise what you’ve achieved so far and that all your eggs are in one basket,” he says. “If you can de-risk to some extent, that can make it easier to take those bold commercial decisions that will enable the company to grow even faster.”

Businesses that have offered employees shares in the company see secondaries as valuable for recruitment and retention, Jakins adds. “Share options are often highly prized by key employees, but they’re only valuable if staff can see a route to cashing some of them in.”

Investors like secondaries, too. For some, there is the obvious appeal of being able to cash in gains on early-stage stakes. But also, for investors sticking with the company, there is the potential for the business to be more attractive to potential acquirers and investors in the future. A secondary can be a useful way to clean up and simplify the capital table, clearing the way for streamlined deal processes in the years ahead. And this can be of particular use to businesses that have gone through many funding rounds and have different classes of shares.

Moreover, these supply-side drivers are currently meeting elevated levels of demand from investors keen to participate in secondaries. “The pace of fundraising in the private capital space has been frenetic,” adds Lowe. “Those funds are scouring the market for opportunities to deploy this money.” Fast-growing, privately owned companies such as Revolut are prime targets – all the more so given the tech sector’s recent rollercoaster ride on public markets.

Not so simple

That’s not to suggest secondary share sales are always straightforward. Advisers stress the need for careful preparation and thorough due diligence. One danger is that founders spend so much time working on the secondary process that they lose focus on running the business. In a small, immature company with thin management resources, this may prove disastrous.

Corporate finance advisers have a particularly critical role in helping businesses to manage valuation expectations, suggests Rick Thompson, managing director of investment banking at Singer Capital Markets. “Founders will need to recognise that they may not get the same price as they might expect from an outright sale of the business,” he warns. “And it’s important to send the right signals to potential investors – to demonstrate that this is still a growth business with strong prospects, rather than a case of the founder trying to exit.” The fact that the key management team is staying on, for example, can lend confidence.

The mechanics of a secondary may be less demanding than, say, an IPO, where the regulatory and compliance burden is substantial. But Thompson warns that there may still be significant work to do to prepare the business, from reconfiguring corporate structures to reviewing shareholder agreements. “There will be a cost attached to this work,” he adds. “Secondaries may turn out to be cheaper and less time-consuming than an IPO, but that will depend on the complexity of the process. There is also the question of who is picking up the bill for due diligence, particularly if there are multiple private equity or venture capital houses looking to invest.”

Taxing times

The tax implications of the deal are also a key consideration, particularly given recent increases in capital gains tax (CGT) rates and reductions in the value of business asset disposal relief (BADR). Founders and employees alike may be disadvantaged if the deal is not structured in the most tax-efficient manner possible. 

More broadly, when it comes to employees, founders may need support in helping staff to understand their options during a secondary sale. “Information and education, with clear communications, is really important,” adds Thompson. “This is an opportunity to build engagement and incentivise staff, but mismanaged expectations can cause a backlash.”

Eligibility criteria can be a particular problem. The terms of share awards made to employees may include strict vesting schedules, lock-in periods and right-of-first-refusal clauses that give certain groups the right to participate in share sales ahead of other investors. Some companies also limit participation in secondaries to existing employees, excluding staff who have left the company but still hold shares.

“Your existing shareholders may have different interests,” says Thompson. “There may be conflicts between early investors now looking for a full exit at the best possible valuation and employees and founders who want some liquidity, but also an ongoing stake.”

Other alternatives

A secondary may not even be the right option. In certain circumstances, suggests Gerry Young, a director of RVE Corporate Finance, founders might prefer to explore the sale of the business to an employee ownership trust (EOT). These structures enable an owner to sell the company to the workforce with no CGT to pay on the proceeds of the disposal.

“EOT transactions have seen steady growth since they were introduced in 2014, with interest increasing further in the context of changes to CGT and BADR,” says Young. “EOTs can work particularly well as part of a succession strategy where the founder can pass operational responsibility to the management team during the earn-out period and then retire from the business.”

EOTs typically offer the owner a deferred consideration rather than full payment upfront, funding the deal from profits in tranches over a period of several years. But the discount rates usually applied to these structures make EOTs look less attractive in some sectors, Young warns: “The model definitely doesn’t work as well if you’ve got a business with a double-digit EBITDA valuation, as the EOT will struggle to pay down the consideration over an acceptable period of time.” Tech businesses, for example, may prefer the secondary approach.

One other issue to address is the practicalities of executing a secondary. In some cases, businesses choose to manage secondaries as entirely private transactions; but others are making use of platforms such as Crowdcube and Seedrs. These platforms, originally launched to help companies raise first-time equity investment, also now offer secondary markets through which businesses can enable shareholders to exit and new investors to come in.

Crowdcube, for example, was able to provide access to the Revolut secondary, with investors on its platform offered the chance to sell their holdings alongside the fintech’s employees; investors on another platform, Republic Europe, were also able to participate. “It’s proved to be one of the greatest private market investments of all time,” says Matt Copper, chief executive of Crowdcube. “Early investors in the business earned a 400x return on their money.”

Equity crowdfunding sites have become popular with businesses looking to raise money through tax-efficient government-backed schemes such as the Enterprise Investment Scheme (EIS) and the Seed Enterprise Investment Scheme (SEIS). Such businesses therefore have broader and more diverse shareholders bases than typical start-ups; a secondary, conducted partly through the platform that brought in those EIS and SEIS investors, can be an opportunity to tidy up.

Platform options are also growing amid the desire to improve liquidity for investors in privately owned companies, with the aim of encouraging more investors to back these businesses in the first place and unlocking much-needed capital. The government hopes trading on its new PISCES market for private companies will begin later this year (see Sink or Swim?, below). Suddenly, secondary trading is all the rage.