M&A and IPO are both paths to a successful exit for startups, yet many people don’t realize that M&A (in particular) is a possibility for firms of all sizes, and at all times. How come? That’s because public market investors that purchase the bulk of new IPOs (mutual funds, hedge funds, insurance companies, etc.) have very large portfolios so smaller deals (firms valued at under $1B, or so) may not be a great fit.
When it comes to M&A, however, deals of any size can be completed with the right buyer. This can include strategic buyers (i.e. larger competitors) who see an acquisition target as complementary to their existing business, as well as financial buyers such as private equity firms.
Acquisition can be one of the few opportunities for employees to cash out their equity without leaving anything on the table, but from a practical standpoint it’s rarely that simple. That’s why if your employer is getting acquired, you’ll want to avoid several common mistakes we’ve outlined below to make the most of a windfall from your stock options, restricted stock, or restricted stock units (RSUs).
Mistake #1: Not confirming your payout is correct – Even among sophisticated tech startups where M&A is quite common, many employees and executives are surprised to find out that getting paid out for your stock is a surprisingly cumbersome process, and (big) mistakes do happen. This can include not receiving the full amount of cash you’re due to receive, not being paid on time, or not receiving the correct amount of new stock in the acquiring firm.
Pro tip: Acquisitions are a whirlwind of activity, and with the likelihood of staff turnover (both voluntary, and involuntary) many people find themselves afraid the ask the right questions at the right time to ensure they are paid out correctly. If you determine that your stock grants were not correctly issued and you’ve moved on from your employer, you may find yourself out of luck. Don’t let that happen, and contact Paceline if you have questions.
Mistake #2: Not setting aside money for taxes – Acquisitions are less complicated in terms of turning your stock into cash because, of course, you don’t get to decide when a deal will occur, or at what price. That’s why with little involvement on the front end, many people fail to prepare on the back end, which means covering a tax liability associated your payout.
Pro tip: Your tax bill is determined by the type of stock you received from your employer (stock options, restricted stock, etc.) as well as how long you’ve held your stock, as tax rates for long-term and short-term capital gains are very different. To avoid unpleasant surprises, don’t assume that the correct amount of taxes was withheld from your payout.
Mistake #3: Not understanding payout structures – When a firm is acquired, the deal may be paid out using cash, stock in the acquiring firm, or a combination of both. The buyer may find it attractive to pay using its own stock if it has reached a high price, while paying cash may be preferable to firms that are highly profitable or have access to low-cost debt financing. In some cases, the full payout may not be received until certain operational milestones have been met, such as revenue or profit targets.
Pro tip: Deals often take months to close, and in some industries may require regulatory approval. Where deals are transacted in stock the exchange ratio is defined in the deal terms, which means that your payout will continue to fluctuate in value until the deal closes.
Mistake #4: Spending money before you have it – M&A is a time of high emotion, and this can lead to impulsive financial decisions. If you’re expecting a windfall from your stock, consider which financial goals (with emphasis, plural) are most important to you.
Pro-tip: Employer stock often vests over a 3 to 5-year period, so it’s important to remember that this is pay that you’ve earned over a similar amount of time. Unlike your salary or annual bonus, M&A is not a regularly occurring event, so you’ll want to save, invest, and spend it in a way that benefits you over multiple years.
Acquisitions often present themselves with little advance notice, and with big changes ahead many find it uncomfortable to ask questions about the deal internally. Management and HR also find themselves handling a sudden change in responsibilities, which makes it easier than normal for things to fall through the cracks, and communication to break down.
That’s why it’s important to plan ahead, and work with a financial advisor who specializes in leading clients through a successful M&A transition. If you have questions about how to handle your windfall, or if you’ve received the correct payout from M&A, click the button below to schedule a 15-minute phone consultation.
This blog was written by Jeremy Bohne, Principal & Founder of Paceline Wealth Management. Paceline is a fee-only investment advisor serving clients in the Boston area, and on a remote basis throughout the country. Paceline specializes in helping tech and biotech executives, physicians, and those seeking financial planning services.