how many shareholders it has and who they are. We don’t want random people becoming shareholders. Also, if you had a situation where employees are cashing out 100 percent of their stake, or even the majority of their stake, it would be very problematic. It would destroy incentives. So there are good arguments for allowing some of this type of stuff, but I do think it has to be reasonable.”
Interestingly, that’s the key point SecondMarket is trying to make these days—that it’s a reasonable partner. The company says it’s working with issuers to address their biggest concerns and to bring more order to the process of private stock sales.
For one thing, there’s the issue of disclosure and what Thomas calls “information asymmetry.” Private stock transactions obviously aren’t regulated in the same way as those on the public markets; pre-IPO companies don’t have to file 10-Ks or any of the other SEC paperwork that makes going public such a hassle. But individuals must be “accredited” to take part in secondary trading—meaning they must have a net worth above $1 million and an income above $200,000 a year—and the assumption is that these buyers are sophisticated enough to know what risks they’re taking. Still, the more light companies can shed on their financial prospects, the better decisions potential investors can make. To help with that, Thomas says SecondMarket can set up private online “data rooms” where companies can share selected information. For example, they might share overall financials, but not detailed breakdowns of revenue streams.
Along with these data rooms, SecondMarket says it can regulate access to the online marketplaces for each company’s shares, allowing issuers to control who sees their data and who might end up owning shares. “There is a commonly held misperception that if you allow trades in the secondary markets, all your private financial data will be broadcast to everybody,” says Thomas. “But by controlling who is let in on the buy side you are controlling who has the ability to see that information.”
The company can also work with issuers to meter private trades by setting up liquidity schedules similar to vesting schedules—for example, employees might be told that they can sell up to 25 percent of their stock each year. Finally, SecondMarket says it can work with issuers to set up temporary “market windows” so that secondary trading happens only during a defined time every quarter or every year. “Companies aren’t looking for a 24/7 or even a 9:30 to 4:00 market experience,” Thomas says. “By centralizing to market windows, it’s much easier for them to deal with the question of information disclosure.”
Thomas says that SecondMarket is so committed to building a system that makes secondary trading less threatening for issuers that it’s willing to scale back its whole private market operation until it can get more companies on board. “We are walking away from a short-term revenue opportunity around a handful of companies that would be very actively traded if we hadn’t made the transition,” he says. “But what we are trying to do is develop a new market structure that works for private companies.”
Privately, however, CEOs still say they’re worried that secondary trading is causing problems for which SecondMarket doesn’t yet have workarounds. One is that private trading can push actively traded startups closer to the so-called 500 shareholder limit. Under SEC rules, companies with more than 500 shareholders must report their financial data as if they were public; avoiding that burden is one of the reasons companies like Facebook are so desperate to
