Lockup periods impose restrictions on when company insiders can sell their shares, and they exist in several different contexts relevant to executive divorces. IPO lockup agreements prevent insiders from selling shares for typically 180 days after a public offering. Rule 144 restrictions limit the volume and manner in which holders of restricted securities can sell. Section 16 reporting obligations require officers and directors to report transactions and subject short-swing profits to disgorgement. And some equity plans impose their own holding periods for tax or policy reasons.
For a non-executive spouse who is entitled to a share of the executive’s equity, these restrictions can mean that even a “settled” divorce leaves the non-executive spouse unable to convert their entitlement to cash for months or years.
How Lockup Periods Affect Settlement Value
When a spouse receives stock or the right to proceeds from stock that is subject to a lockup, they bear market risk during the lockup period. If the stock price falls substantially between the settlement date and the date the shares can be sold, the non-executive spouse receives far less than the settlement appeared to be worth. The reverse can also happen, and the former spouse can receive more.
This risk allocation question is a real negotiating point. Settlements that use stock-for-cash offsets, where the executive spouse keeps the stock and the non-executive spouse receives another asset of equivalent value, avoid this problem entirely. The cash or real estate the non-executive spouse receives has a certain value that does not depend on future stock price movements.
When the parties choose to actually transfer restricted stock to the former spouse, the decree should be explicit about who bears the lockup risk and should specify the valuation date used for any offset calculations. Using the stock price on the date the decree is signed creates one set of risks. Using the average price over the lockup period creates another. Using the price on the first date the stock can be sold is perhaps the most logical approach, because it reflects what the non-executive spouse actually receives.
Rule 144 and Restricted Securities
When an executive holds restricted securities (those acquired in transactions not registered under the Securities Act of 1933), the transfer of those securities to a former spouse incident to divorce may be subject to Rule 144 volume and manner-of-sale restrictions even after the lockup expires. The non-executive spouse who receives restricted securities takes on the executive’s holding period, which helps with the one-year holding period requirement, but they are still subject to volume limitations and the requirement to file Form 144 before selling if they are an affiliate of the issuer.
For most non-executive spouses, the simplest approach is to require the executive to sell the restricted shares and transfer cash proceeds rather than to transfer the shares themselves.
Our article on how to handle restricted securities in divorce settlements goes into considerable detail on the mechanics of these restrictions.
Insider Trading Plans and Divorce Timing
Executives subject to insider trading restrictions often have Rule 10b5-1 trading plans in place that automate pre-scheduled stock sales to avoid accusations of trading on inside information. A divorce proceeding that results in a transfer of restricted stock or equity awards can disrupt an existing trading plan and require the executive to obtain new legal advice before making any trades.
If a 10b5-1 plan is in place, the divorce decree should address whether the plan can be continued, modified, or terminated in connection with the property division. Disrupting the plan inadvertently can create securities law compliance issues for the executive, which can in turn affect their employment and earning capacity. The non-executive spouse has an indirect interest in avoiding those complications as well, because they may depend on the executive’s continued employment for support payments or the vesting of community-share awards.
For executives in Houston, Katy, Sugar Land, The Woodlands, and surrounding areas who work at publicly traded companies, the intersection of securities law and family law is a real concern in every high-net-worth divorce. Ensuring that the divorce attorney has either securities law expertise or access to securities counsel as a resource is an important factor in choosing representation for these cases.
The Risk of Company Failure
One factor that receives insufficient attention in pre-IPO divorce settlements is the possibility that the company never goes public and never produces a liquidity event at all. Most startups fail. A spouse who accepts a generous share of pre-IPO equity in lieu of cash, real estate, or other liquid assets may end up with nothing if the company runs out of funding or pivots to an acquisition at a low valuation.
Any settlement that includes pre-IPO equity as a significant component needs to include realistic provisions for the possibility of failure or a distressed exit. This might mean capping the share of pre-IPO equity at a defined percentage of the total settlement value, including fallback provisions that trigger additional payments from other assets if the equity fails to produce a minimum return, or simply ensuring that the non-executive spouse retains enough liquid assets to maintain financial stability regardless of what happens to the startup.
For an executive whose compensation is dominated by pre-IPO equity, working with a Houston divorce attorney alongside a financial planner who understands startup equity planning is the most effective approach to getting a settlement that accurately values the opportunity while protecting against downside risk.
Getting Professional Valuations
When pre-IPO equity is a meaningful component of the marital estate, both parties should insist on an independent business valuation expert rather than relying on the company’s most recent 409A or the last VC round price. An experienced business valuator who works with family law cases can analyze the company’s financials, the terms of the cap table, the liquidation preferences of the preferred series, and comparable private market transactions to arrive at a defensible range of values for the common stock. Presenting competing valuations from qualified experts is normal in high-stakes pre-IPO divorce cases, and a court-appointed neutral expert is sometimes the most efficient path to resolution.
Executives and their spouses in Houston, Katy, Cypress, The Woodlands, and surrounding communities who hold pre-IPO equity should not wait until the divorce is imminent to start gathering documentation. Grant agreements, plan documents, cap tables, and recent board meeting minutes (to the extent accessible to the employee) should be collected early and preserved for use in the property division analysis.