Supercharged IPOs and the Up-C Structure in IPOs: How It Works

Image credit: Charity Digital

In recent years, so-called supercharged IPOs have become increasingly popular. A traditional IPO is a non-taxable event and tax benefits are not obtained from the company’s debut onto public markets. In a supercharged IPO, the company as well as pre-IPO owners are able to derive significant tax benefits from the IPO transaction. The value of the various tax benefits, such as tax deductions and tax credits are shared between the company and the pre-IPO owners through what is called a tax receivable agreement (TRA).

Structuring a Supercharged IPO

The term “supercharged IPO” was coined by leading tax expert Robert Willens. He sees the technique as helping company founders retain more of their hard-earned gains and asserts that there is “nothing nefarious about it”. Critics argue that supercharged IPOs enable insiders to take advantage of IPO pricing uncertainties. This allows them to reap tax arbitrage opportunities and does not benefit public investors.

Supercharged IPOs UP-C Structure
Supercharged IPOs UP-C Structure
Image credit: mondaq

Umbrella Partnership-C Corporation Structure (“Up-C”)

Once PubCo is formed, it will be structured to have two classes of common stock typically offered in supercharged IPOs — the Class A and Class B shares. The Class A shares, to be sold to the public in the IPO and held by public shareholders, contain voting and economic rights. The Class B shares will not be publicly traded and will be held by the pre-IPO owners. The Class B shares come with voting rights, but no economic rights. In addition to the two classes of common stock, the capital structure of the operating partnership will be modified so that a new class of interests is created. This involves a reclassification of the interests held by the pre-IPO owners into a new class of common units that will be exchangeable for Class A PubCo common stock. These newly issued common units are called “OP Units”.

Essential Agreements in an Up-C IPO

Tax Receivable Agreement

Tax benefits are conferred in an Up-C transaction mainly in the form of an increase in tax deductions. When the pre-IPO owners exchange the OP Units for publicly traded Class A shares, the transaction results in a stepped-up tax basis of the assets of the operating partnership. This increase in the tax basis in turn results in increased depreciation and amortization deductions. The outcome of the increases in the tax basis that occur with these exchange transactions is that less taxes are owed in the future. Under the terms of the TRA, PubCo must share 85% of these tax benefits with the exchanging pre-IPO owner.

Exchange Agreement for Supercharged IPOs

Registration Rights Agreement

Disadvantages of Supercharged IPOs

Examples of the Up-C Structure in Supercharged IPOs

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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