Registration Rights Agreements

Registration Rights Agreements Allow Shareholders to Force an IPO

Investors that own restricted shares of a privately-held company need access to a broader market to eventually sell those shares. Such investors need to have the right or ability to require the company to list the shares publicly. This would most commonly occur through an initial public offering (IPO). Shareholders can force an IPO through registration rights agreements.

Registration rights refer to this right of investors holding private, restricted shares. They can compel the company to list its shares publicly. When an investor exercises a registration right, the investor can compel a privately-held company to go public.

Investors often enter into registration rights agreements in the startup context. At some point, startups issue shares in order to raise money during a financing round. Common startup investors, such as venture capital firms and angel investors, often receive restricted stock in the company. This restricted stock starts out privately held. Registration rights come into play once the company switches from being privately-held to becoming a public company. Investors holding restricted securities are then able to exercise their registration rights. They may sell their shares once the company goes public and the lock-up period has expired.

Lock-Up Period

A lock-up period seeks to protect against this problem. The lock-up period most commonly extends 180 days from the IPO date. During that period, investors holding pre-IPO shares may not sell their shares. This helps reduce stock price volatility in the days and weeks after the IPO or other liquidity event. Hence, registration rights agreements.

A massive selloff can occur if a large percentage of pre-IPO investors decide to liquidate their shares immediately after the 180-day lock-up expires. For example, the stock price of Snap Inc. saw its stock price fall around 5% after the expiration of its lock-up period.

Registration Statement Filed with the SEC

Demand versus Piggyback Rights in Registration Rights Agreements

Restricted Rights Agreements Shareholder
Restricted Rights Agreements Shareholder
Photo by Scott Graham on Unsplash

To protect the company from an IPO at an early stage of its existence, the company typically restricts early investors from exercising their registration rights agreements. This is for a certain period of time after a given financing round closes. Investors in early stage financing rounds of the company often may not exercise demand rights until five years after the financing round closes. For investors participating in later stage financing rounds, a shorter time period applies.

Piggyback rights allow an investor to sell their shares following an IPO by “piggybacking” on other investors’ demand registration rights. In other words, investors with only piggyback rights will have to rely on investors with demand rights to exercise those demand rights.

Holders of Piggyback Rights Can’t Control Timing

From the company’s point of view, both demand and piggyback registration rights are mechanisms to reward early investors in the company. Allowing early investors an opportunity to liquidate their shares after the IPO can pave the way for share purchases by new investors on the public market. Such new investors might have a greater interest in the long-term growth prospects of the company.

Registration Rights Agreements as Key Document

Ryan Carpenter serves as Attorney and Managing Director of Carpenter Wellington. Ryan advises clients across a broad set of corporate and commercial matters.

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