What it means
After an IPO, only a fraction of a company's shares are available for the public to trade, which is called the free float. Insiders often hold the majority of the rest.
If they all sold at once, the new shareholders would see the price fall. To prevent this, the underwriters ask insiders to sign lockup agreements as a condition of the offering.
These contracts bar sales for the agreed period, and sometimes they also cover borrowing against shares or hedging them. The company's prospectus states the length of the lockup and any exceptions, such as sales to family members or transfers to a trust.
The end of the lockup is closely watched. When the period expires, insiders become free to sell, and the number of shares that can trade may rise sharply.
Investors often expect added selling pressure around that date, and share prices sometimes dip beforehand as traders position for it. Some lockups are staged, with part of the shares released earlier if the share price performs well or after the first earnings report.
Others allow early release at the discretion of the lead bank. These features give insiders partial liquidity while limiting the shock to the market.
For finance teams, the lockup affects planning. Employees who hold shares cannot sell to cover taxes on their equity awards until it ends, so companies sometimes help with tax withholding arrangements.
Analysts also model the expiry date as an event that can change supply and demand for the stock. Companies sometimes plan the calendar around the lockup.
They may schedule an earnings release shortly before expiry, so that investors have fresh information, or arrange a follow-on offering for after the date. Insiders who want to sell are best served by a clear, pre-announced plan so the market is not surprised.
In practice
Real-world examples.
Example
A software company lists at $25 per share. Its founders and venture investors agree to a 180-day lockup, and on the expiry date the share price falls 6% as some early investors sell to return cash to their funds.
Example
An employee who received share options at a start-up wants to sell some shares to pay a $40,000 tax bill. The company is still in its lockup, so he has to wait until the period ends or arrange a permitted transaction, such as a loan secured on other assets.
Example
A retail chain structures its lockup in two stages. Half of the insider shares are released 90 days after the IPO and the rest at 180 days, so the new supply reaches the market in two smaller steps.
Formula
Calculation
Increase in free float at expiry = shares released and sold / free float before expiry
A company has 80,000,000 shares outstanding after its IPO. The public holds a free float of 20,000,000 shares, and insiders hold the other 60,000,000 under lockup. When the lockup expires, insiders sell 10% of their holding, which is 60,000,000 x 0.10 = 6,000,000 shares. The free float rises by 6,000,000 / 20,000,000 = 0.30, or 30%, which is a large increase in supply.Case study
Seen in the real world.
Quillfeather Health is an illustrative, fictional company that listed with 100,000,000 shares, of which 25,000,000 were sold to the public. Insiders owned the other 75,000,000 and agreed to a 180-day lockup.
In the weeks before expiry the analysts noted that if insiders sold even 20%, that would be 15,000,000 shares, equal to 60% of the existing free float. The company's finance director arranged an investor meeting to explain its results and plans, and the lead investors agreed to sell gradually over several months through a pre-announced schedule.
When the lockup ended, the share price dipped about 3% for a few days and then recovered. The illustrative lesson is that clear communication and an orderly selling plan can reduce the shock from an expiry.
Watch out
Common mistakes.
- Assuming the lockup is a legal rule, when it is usually a contract between the insiders and the underwriters that the company can describe in its prospectus.
- Expecting the price to fall on the exact expiry date, when the market often anticipates the event and moves earlier or later.
- Forgetting that early release terms may allow insiders to sell sooner than the headline period, so the real date can differ.
Questions
People also ask.
How long does an IPO lockup last?
It is commonly 90 to 180 days, although the length is negotiated and can be shorter or longer in some deals.
Who is bound by a lockup?
Usually directors, executives, early investors and sometimes employees who own shares or options before the IPO.
Why do underwriters require a lockup?
It helps to keep trading orderly after the offering and reassures new investors that insiders are not selling immediately.
From the founder's library
Take it further with the book.
Build your financial confidence beyond this definition. Shihan's full-length guide, Accounting Fundamentals, takes the same plain-English approach and turns it into a complete, practical playbook for non-finance managers, business owners and students - with chapter-end quiz answers and presentation slides included.
25% off with code MMHQ25, applied at checkout. Priced in USD - checkout may show the equivalent in your local currency.
View the book and save 25%Related