We refer to most of our clients as HENRY’s or “High Earners, Not Rich Yet”. Many people who fit into that category work at companies that offer stock-based compensation or stock options. In this article, we would like to explore privately held stock, why employees own it, and some things to be aware of.
What is a privately held stock?
A privately held stock is an ownership stake in a corporation whose shares are not available to the public.
- Companies that are not publicly traded (in theory) do not have as much focus on short-term stock price and can take a longer view on the future of the company
- These companies have power to select their investors and advisors
- These companies could IPO in the future leading to potentially significant gains by the investor
- Privately held stock may experience less price movement due to market volatility because of the lack of liquidity
- Because shares are not available to the public, the investor would have to seek someone to buy their shares if they have need for liquidity
- Owning a single illiquid stock position puts disproportionate risk on the investor holding it
- Unicorns are rare; As of 2021, there were only 900 unicorns in the world[i] (The number of companies in the United States was 10,750,000 in 2020[ii])
- If companies choose their advisors or investors poorly, the company may be at significant risk
Common Reasons an Investor May End Up with Privately Held Stock:
It is part of their compensation/bonuses: We’ve found this to be the most common and unavoidable way that investors at privately held companies end up with the stock.
They were given stock options: This is when an investor can opt to buy the stock at a fixed price for hopes they can sell it later at a higher price.
For many reasons, we do not encourage investors to hold concentrated stock for their investment goals. Individual stocks run the risk of going to zero and broadly diversified portfolios help mitigate risk and can potentially improve returns. If an investor is on track with all their financial goals (retirement, major purchase, education, charitable giving, etc.) and has some excess funds to “play with”, that is generally the only time we would say it may be acceptable to take those kinds of speculative risks and sacrifice liquidity of funds held on the side.
If owning privately held stock is unavoidable and tied to compensation, we would encourage staying in the loop about upcoming liquidity events and sale opportunities and learning if there is a system in place to facilitate the sale of these securities. Relying on privately held concentrated positions for financial goals is ill advised and we would generally recommend getting out of the position, when possible, to avoid excessive exposure.
If an investor were to seek out private equities outside of their own organization, they would need to meet high minimums in liquid investible assets to invest in this asset category with fund managers. Privately held stock and private equities may offer an attractive investment for those who can afford to diversify and have sufficient other assets to sacrifice some liquidity, but they are not suited for every investor.
Before deciding to invest in this kind of asset class, speak with a financial advisor regarding your current risk tolerance, goals, and investment needs.
AGE-4849230.1 (8/22) (Exp. 8/24)