an INTRODUCTION to SECONDARY AUCTIONS for PRIVATE MARKETS
This article originally posted on Nasdaq Private Market. Reposted here with NPM's permission.
Nasdaq Private Market’s mission is to reduce barriers to accessible liquidity for private companies and private funds. For private
companies, we are experts in facilitating private secondary transactions and have facilitated over 230 transactions in the last 5
years. The transaction type that dominates the private landscape is called a “tender offer”. A private tender offer generally follows
certain criteria (e.g., 20 or more sellers, open for 20 business days, etc.). According to the SEC, a tender offer is a broad solicitation
by a company or a third party to purchase a substantial percentage of a company’s Section 12 registered equity shares or units for
a limited period of time. The offer is at a fixed price, usually at a premium over the current market price, and is customarily contingent
on shareholders tendering a fixed number of their shares or units1
. There may be more considerations in order to satisfy all the
requirements to a tender offer, and we would highly encourage you to speak with your legal counsel regarding them.
For the purposes of this report, we will include company buybacks with third party tender offers since the mechanics of these transaction types are similar. Most private companies and their legal counsel have become comfortable with this transaction type for several reasons, including its predictability and structure. However, as companies stay private longer, they have begun to search for alternatives to the tender offer that provide competitive pricing and potentially allow company shareholders to be more involved in the transaction itself. This brings us to auctions. Auctions have existed in the public markets for decades, and have been used in various forms – from Dutch auctions for public offerings to call auctions used by most major stock markets to open and close trading for the day2,3.
The private markets have not used auctions to nearly the same extent, especially regarding secondary transactions for private company shares. But that is starting to change. With dry powder continuing to remain at all-time high levels, growth equity and venture capital investors are looking for more opportunities to deploy their approximately $145 billion of capital4 . This competitive landscape lends itself perfectly to the auction format. In 2018, Nasdaq Private Market began exploring its capabilities in private secondary transactions to include several different types of auctions, in addition to those we have run for our clients in the past. We are able to leverage our legal expertise and operational excellence to successfully execute these new and innovative program structures for the private markets. While there are some risks to holding auctions compared to a standard tender offer or secondary transactions, we believe that these auction programs may have benefits for the sponsor company, shareholders, and the buyers, and could change how private companies hold secondary transactions in the future.
The Private Company Auction Process
In its simplest form, an auction is a process in which potential buyers place bids on assets or services, with the intention of becoming the highest bidder and purchasing the asset or service for that amount5. From there, auctions can be customized to change the dynamics of the transaction. Bids can be open or sealed, the winning price may end up being the second highest price bid, sellers may provide input on price per share and quantity willing to be sold, and more. Simple auctions typically take four different forms: English, Dutch, first price, and second price auctions.
Table 1.0 – Simple Forms of Auctions
Nasdaq Private Market can run different variations of these price discovery processes, including auctions that mimic public offering
Dutch auctions whereby the clearing price of the secondary transaction is calculated after collecting all bids, in a sealed manner, to
determine the highest price at which the total projected amount of shares for sale can be sold. This is our “Buy-side Auction” process,
and we are also exploring modified Dutch auction processes in which both Buyers and Sellers enter bids and asks, respectively.
Additionally, our technology platform has the ability to hold many different types of auctions, including first price auctions for investor
and founder blocks, and we can project sell-side demand prior to the auction processes through our Seller Indication of Interest (IOI)
collection process. NPM is also able to customize auction programs to meet a company’s specific needs. Details such as the timing,
the price collars, and the number of participants can be adjusted and tailored to adhere to an individual transaction’s requirements.
We can also introduce additional buyers to a competitive bidding process to supplement any investors that the company may want
to participate. Our network of institutional buyers are experienced in secondary transactions and many have dedicated funds ready to
invest in private companies.
Table 2.0 – Auction Types Supported by Nasdaq Private Market
ADVANTAGES & DISADVANTAGES
OF AUCTION-BASED TRANSACTIONS
While tender offers have become widely accepted as the main type of secondary transaction for private companies, including an auction component to these secondary transactions or running a standalone auction may have even greater benefits and risks for all participants, including buyers. Companies that run auctions can potentially benefit from competitive price discovery from sophisticated, institutional buyers. This generally leads to a more transparent process for both buyers and sellers. Additionally, it provides valuable data points for those sellers who may not be eligible or do not elect to sell in the transaction. The aggregation of buy-side demand may also lead to more price competition from buyers who may be willing to outbid one another to get their shot at investing in high growth companies. A higher price is obviously advantageous for a seller, but may also deter some buyers from entering the process, which is why buyers traditionally favor one-on-one transactions that inherently leave room for negotiation around potentially more favorable price and investment terms for a buyer. A sponsor or issuer looking for less negotiation around terms (e.g., information rights) and price (e.g., price per share) may elect to have a standardized letter of intent signed by each buyer. This letter of intent would define the rights that would be given to each successful bidder upon completion of the transaction before placing bids to expedite the transaction process and focus more on the auction itself.
Depending on the structure, companies may also be able to carry out the entire auction in less time than it takes to hold a traditional tender offer, mainly due to the 20-business day mandatory tender offer window. Companies looking for a quicker secondary may want to explore options for these types of auctions. In addition to the potential for a shorter transaction duration, both buyers and sellers may get the added benefit of paying or receiving a price per share that is better than what they originally bid or asked, respectively. There are many different types of clearing price calculations, and each type may be able to provide more advantageous pricing for clearing bids in certain auction types – potentially leading to a benefit for both sellers and buyers. Auctions also provide the same level of customization, if not higher, than tender offers. Companies can name price floors and ceilings to control bidding, they can project or limit the amount eligible to be sold in the transaction, they can permission certain buyers into the process, and they can control what information they disclose to all participants. Lastly, tender offers can include an auction component, thus bringing together the benefits of both secondary transaction structures.
2Wall Street Journal, “The Path to Silicon Valley Riches:Stake Sale” (November 19, 2017)
3Institutional Investor, “It’s Becoming a Seller’s Market for Secondary Private Equity Interests” (May 23, 2017
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