IPOs are not liquidity events
The world is abuzz about liquidation preferences right now so it’s really important to understand that IPOs are not liquidity events.
In multiple articles, I’ve seen writers assume that liquidation preferences protect late stage investors and effectively lock in a minimum return in an IPO. The reality is that:
In an IPO, all the preferred shareholders convert to common and this process ends up wiping out the waterfalls created by liquidation preferences
The source of this conflation is in how we define a liquidity event.
An IPO is not a liquidity event. Mergers, acquisitions, and/or changes in control, etc. are considered liquidity events.
Liquidation preferences only matter during the kind of events listed above BUT don’t relax just yet.
The waterfalls from prefs may go away in an IPO but investors can dam up and divert some water to themselves
For example, if you look at the Box IPO, it wasn’t the liquidation preferences that protected Coatue and TPG. It was the ratchet and poison pill. Check out this EquityZen post for detail.
Given this different point of view, go back and read this old Bill Gurley piece about the benefits of IPOs vs staying private longer:
It is obviously quite ironic that the very event that many of these entrepreneurs were hoping to avoid (the IPO) becomes their only saving grace. Yet, because they did not focus on the normal steps that lead up to an IPO, they are ill prepared for this singular redemptive path.
Now, on the flip side, let’s say you’re running Uber and you have strong conviction on an IPO path. The more de-risked the path to IPO becomes, the less you should be concerned about liquidation preferences.