Navigating the IPO Lock-up Period

Following an initial public offering (IPO), there is frequently a lock-up period to prevent major stakeholders from selling their shares, which could potentially flood the market and cause the share price to drop.

IPO lock-up periods don’t pertain to all investors in an IPO, but they do apply to certain shareholders. Here’s what to know about lock-up periods and how they work in an IPO.

What Is an IPO Lock-up Period?

The IPO lock-up period is the time after a company goes public during which company insiders — such as founders, managers and employees — and early investors, including venture capitalists, are not allowed to sell their shares.

These restrictions are not mandated by the Securities and Exchange Commission (SEC), but instead are self-imposed by the company going public or they are contractually required by the investment banks that were hired as underwriters to advise and manage the IPO process.

Lock-up periods are usually between 90 and 180 days after the IPO. Companies may also decide to have staggered lock-up periods that end on different dates and allow various groups of shareholders to sell their shares at different times.

How the IPO Lock-Up Period Works

The IPO lock-up period is typically put into place by the company going public or the investment bank underwriting the IPO. An agreement is reached with company insiders and early investors specifying that they are prohibited from selling their shares for a specific period of time after the IPO.

The purpose of the lock-up period is to prevent a sudden flood of shares on the market that could reduce the stock price. The lock-up period also sends a signal to the market that company insiders are confident in the company’s prospects and committed to its success.

Once the lock-up period is over (typically in 90 to 180 days), insiders are allowed to sell their shares if they wish.

What Does “Going Public” Mean?

Going public with an IPO means that shares of a company are being offered on the public stock market for the first time. The company is shifting from a privately-held company to a publicly traded company.

When a company is private, ownership is limited and can be tightly controlled. But when a company goes public, investors can buy shares on the public market.

It’s worth noting that when a company first goes public, there may already be a series of shareholders in the company. Founders, employees, and even venture capitalists may already own shares or have stock options in the company.


💡 Quick Tip: Keen to invest in an initial public offering, or IPO? Be sure to check with your brokerage about what’s required. Typically IPO stock is available only to eligible investors.

What Is IPO Underwriting?

Before a company goes public, it generally goes through a process in which an underwriter — usually an investment bank — does IPO due diligence and helps come up with the valuation of the company, the share price of the stock, and the size of the stock offering on the market.

The underwriter also typically buys all of or a portion of the shares. They then allocate shares to institutional investors before the IPO.

The IPO underwriter will try to generate a lot of interest in the stock so that there will be high demand for it. This may lead to the stock being oversubscribed, which could lead to a higher trading price when it hits the market.

Recommended: How Are IPO Prices Set?

How IPO Lock-ups Get Used

A company or its underwriters might use the lock-up period as a tool to bolster the share price during the IPO, to prevent a sharp increase in shares from flooding the market, and to build confidence in the company’s future.

For instance, with tech startups, a great proportion of compensation may be paid out to employees through equity options or restricted trading units. In order to avoid flooding the market with shares when employees exercise these contracts, the lock-up restrictions prevent them from selling their stock until after the lock-up period is over.

Recommended: Guide to Tech IPOs

What Is the Purpose of a Lock-up Period?

A lock-up period typically has several different functions in an IPO, including the following:

Ensuring Share-Price Stability

Company insiders, like employees and angel investors, can own shares in a company before it goes public. Since share prices are set by supply and demand, extra shares can drive down the price of the stock. A lock-up period helps stabilize the stock price by preventing these extra shares from being sold for a certain amount of time.

Avoiding Insider Trading

To help avoid insider trading, company insiders may have extra restrictions regarding the lock-up period before selling their shares. That’s because company insiders might have information that is not available to the general public that could help them predict how their stock might do.

For example, if a company is about to report its earnings around the same time a lock-up period is set to end, insiders may be required to wait for that information to be public before they can sell any shares.

Public Image

Lock-up periods can also be a way for companies to build confidence in their future performance. When company insiders hold onto their shares, it can signal to investors that they have faith in the strength of the company.

On the other hand, if company insiders start to sell their stock, investors may get nervous and be tempted to sell as well. As demand falls, the price of the stock usually does, too, and the company’s reputation may be damaged.

The lock-up period can help keep this from happening while it’s in place.


💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.

What’s an Example of a Lock-up Period?

To give a hypothetical example of how a lock-up period could work, let’s say Business X — a unicorn company — went public with an IPO in March. The company set a lock-up period of four months. In July, the lock-up period ended and early investors and insiders sold up to 400 million shares of the company. As the new shares hit the market, the stock dropped by as much as 5%, but ended the day down just 1%.

What Does the Lock-up Period Mean for Employees with Stock Options?

Restrictions imposed during a lock-up period usually apply to any stock options employees have been given by the company before an IPO. Stock options are essentially an agreement that allows employees to buy stock in the company at a predetermined price.

The idea behind this type of compensation is that the company is trying to align employees’ incentives with its own. Theoretically, by giving employees stock options, the employees will have an interest in seeing the company do well and increase in value.

There’s usually a vesting period before employees can exercise their stock options, during which the value of the stock can increase. At the end of the vesting period, employees are generally able to exercise their options, sell the stock, and keep the profits.

If their stock options vest before the IPO, employees may have to wait until after the lock-up period to exercise their options.

How Does the IPO Lock-Up Period Affect Investors?

Most public investors that buy IPO stocks won’t be directly affected by the lock-up period because they didn’t own shares of the company before it went public. However, the lock-up period can reduce the supply of available shares on the market, keeping the stock price relatively stable.

But when the lock-up period ends, if a surge in shares suddenly hits the market, this could lead to volatility and cause the price of the shares to drop. Investors should be aware of these possibilities, do thorough research and due diligence, and carefully consider the risks before buying shares in an IPO.

Reading the IPO Prospectus

You can find information on a company’s lock-up period in its prospectus, the detailed disclosure document filed with the SEC as part of the IPO process. Investors can locate a company’s prospectus by using the SEC’s EDGAR database and searching for the company by name. Then, on the company’s filing page, look for Form S-1, which is the initial registration statement. The prospectus should be included in that filing.

Waiting to Buy Until After Lock-ups End

Investors considering investing in an IPO may choose to hold off until the lock-up period is over. The reason: When the lock-up ends and company insiders are free to sell their shares, the stock price may experience volatility as the new shares enter the market. This could potentially cause a drop in a stock’s price.

Some investors may want to take advantage of the dip that could occur when a lock-up period ends, especially if they believe the long-term fundamentals of the company are strong. However, this type of timing-the-market strategy can be very risky. It depends on a number of variables, including the company itself and market conditions. In other words, there is no guarantee that it will produce good results.

The Takeaway

A lock-up period can follow an IPO. It’s a period of time during which company insiders and early investors are prohibited from selling shares of the company. One of the main purposes of a lock-up period is to keep these stakeholders’ shares from flooding the market, and to help stabilize the stock price of a newly public company.

Understanding how a lock-up period works — and how it might affect the price of a stock — can be helpful to investors who may be interested in buying shares of an IPO on the public market.

Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it's wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

What is the purpose of a lock-up period?

The purpose of a lock-up period is to prevent company insiders and early investors from selling shares of stock right away, which could flood the market and cause the price of the stock to drop. A lock-up period can help stabilize the stock price and also send a message to the market that company insiders are committed to the company and confident in its future performance.

How do I know if an IPO has a lock-up period?

To find out if an IPO has a lock-up period, you can use the Securities and Exchange Commission’s EDGAR database. Search for the company by name, and on their listing page, look for a Form S-1, which is the company’s initial registration statement. In that filing, you should find the company’s prospectus, which will have information about the lock-up period if there is one.

What is the lock-up period for IPO employees?

A lock-up period is designed to prevent company insiders, including employees, from selling their stock quickly after a company goes public. That could cause the stock price to drop and might also signal that the employees don’t have confidence in the company. A lock-up period typically lasts 90 to 180 days.

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