Divestment/Sale Planning

How to create a “no regrets” selling plan for your stock comp holdings

Pre-Read: Key Questions This Article Answers

• Should I be selling my stock options/RSUs now that my company is publicly traded; and what is the best way to do that?

• How can/should I create a selling plan that I'll be happy with ("no regrets")

• What are the key decisions I need to make when creating a selling plan?

Creating a Selling Plan Is Important

Post-IPO, your shares are now liquid, and you now have the ability (outside of blackout periods and lockups) to sell your options/shares for cash. You likely want to start selling--or at least you know you should be--but don’t know how you should go about doing it. You want to minimize regret, and need to balance downside risk, upside reward, your individual financial needs and requirements, and optimize for tax. It's a lot....

At 30-40 Wealth we've helped a large number of individuals develop a tax-smart divestment plan that they feel good about (”no regrets”). Key parts of our framework and approach are detailed below.

How to Create a No Regrets Selling Plan in 3 Steps

Selling a concentrated position tends to bring back the age-old investing dynamic: balancing fear and greed. Many individuals we speak with discuss being simultaneously worried about (i) selling too soon and the stock increasing, and (ii) not selling and the stock declining. Needless to say, solving both of these worries simultaneously isn’t possible.

Our approach sub-segments your company stock into three different groups: (1) immediate sales, (2) long-term holdings, and (3) sales over time. This segmented approach helps strikes a balance between the “fear of not selling and the stock declining” (solved via immediate sales) and the “fear of selling and the stock increasing” (solved via long-term holdings), with the final group (sales over time) providing incremental flexibility (depending on your financial plan, risk tolerance, and company opinion).

Group 1: Sell Shares Immediately (Typically 30-100%)

Financial theory suggests that an individual should divest 100% of their concentrated holdings immediately and reinvest them in a diversified portfolio. At 30-40 Wealth we believe this has merit, but also misses the mark by failing to include both (i) individual need/circumstances, and (ii) the behavioral dynamic that you (very likely) believe in + invested time, sweat, and tears into.

To balance all of these elements, we developed and utilize a 6-prong framework (detailed below) to help individuals decide how much likely makes sense for them to sell immediately.

Group 3 (But Decided 2nd): Shares to Hold Long-Term (Typically 0-20%)

The framework for this group is straightforward, and largely depends on your opinion of the company’s long-term business prospects:

• If you’re not bullish on the company long-term (which is perfectly OK!), we recommend that you don’t keep any holdings long-term.

• If you see scenarios where the company could do well long-term, keeping 5-10% of your holdings can make sense

• If you see strong upside potential in the company long-term, keeping 10-20% of your holdings can make sense (but never more than 20%).

Group 2 (Decided Last): Sell Over Time (Typically 20-60%)

The percentage of shares that remain, if any, after determining (i) the amount to sell immediately and (ii) the amount to keep long-term, fall into this group. Within the group, there are typically 2-3 primary strategies, each of which has pros and cons. Most individuals choose one or the other, but in some cases an individual will do both (i.e. use a selling schedule for half of the shares in this group and a target price strategy for the other half).

(1A) Sell a Specific Amount of Shares via a Selling Schedule (”Price Averaging”)

This strategy is a commitment to sell a specified number of shares over time. Most frequently, it’s implemented by selling an equal number of shares each month over a period of 12-24 months.

• Key benefit(s). You're (i) guaranteed to divest all of the scheduled shares, and (ii) should achieve an average selling price that closely approximates the average company stock price over that time period. Most individuals feel that this gives them a “fair price” (i.e. balances the fear of selling too early with the fear of not selling).

• Key drawback(s). The average price that you’ll ultimately get is unknown.

(1B) Sell to Generate a Specific Amount of Dollars via a Selling Schedule (”Dollar Targeting”)

This strategy is a commitment to sell a variable amount of shares over time, but target raising a specific amount of cash. Most frequently, it’s implemented by selling however many shares are required each month over a period of 12-24 months to generate a specific amount of cash each period.

• Key benefit(s). You're (i) guaranteed to sell a significant amount of shares, and (ii) in many cases will be able to generate a specific amount of cash that you're targeting.

• Key drawback(s). The amount of shares that you'll sell is ultimately unknown.

(2) Set a Target Price (or Prices) for Selling the Shares (”Limit Orders”)

This strategy is somewhat the opposite of 1A and 1B above. It involves setting one or more target price(s) to sell all of the remaining shares at.

• Key benefit(s). Stock sales (if they occur) are certain to be at a price-per-share that you, the seller, desired/set.

• Key drawback(s). The stock price needs to rise to/above the target price in order for any shares to sell (i.e. there is no guarantee that any shares will be sold).

Don't Forget to Optimize for Taxes

The above selling plan framework works well with our clients, but leaves out any mention of strategy variations for tax optimization purposes. Planning for and managing your investment risk is more important than tax optimization in most cases, but there are a number of strategies where the two can/should overlap. For more details, see Why Tax Planning Matters and/or 50+ Tax Strategies.

Additional Items to Consider When Creating Your Selling Plan

(1) Follow a Logical Process When Creating a Plan and Commit to Using the Plan You Develop

We’ve spoken with many individuals whose divestment “plan” was random selling when they felt like it—including at times panic selling if/when the stock was falling. Others created a plan, but then decided to override that plan when prices changed. In both cases, these individuals frequently (i) had regrets about how they sold their stock, (ii) typically sold at lower pricing than their plan would have provided for, and (iii) generated higher-than-necessary tax bills.

(2) Be Brutally Honest With Yourself + Realistic About Your Company’s Future Potential

One of the biggest challenges we encounter with clients is many believe their company stock will likely increase significantly in value post-IPO. This is despite the strong evidence that most tech companies decline in price post IPO, and that even with the largest companies, most S&P500 companies underperform.

If that data isn't persuasive enough, we encourage you to consider this scenario ("Imagine you just inherited $1 million. What are your plans for that money (save it, invest it, spend it)?"). As you might expect, we get a wide variety of answers to this question. But an answer we almost never get is “buy stock in my company.” This typically means you know you should be selling a significant portion of your company stock. But the endowment effect is holding your back (e.g. you over-value your company stock because (a) you currently own it, and (b) you invested time/sweat/tears into helping build it).

(3) Build Your Selling Plan Around Your Financial Wants/Needs and Tolerance for Risk

For current or former employees of recent IPO companies, it's not uncommon for 30-90% of an individual’s net worth to be held in company stock or options. With the shares now publicly traded and liquid (i.e. can be sold at nearly any time) — it’s critical to deeply consider both (i) your financial plan, and (ii) your risk tolerance. The value of a single publicly-traded company can change rapidly at times; ensuring you take money off the table to cover important wants/needs and sleep better at night (i.e. not taking on an amount of risk you’re uncomfortable with) is essential.

(4) Consider the Pros/Cons of Selling Different Holdings if You Have Multiple Grants

Fore more details see: Prioritized Selling When You Own Multiple Grants