This Top 10 Practice Tips provides key practice points to consider in drafting and negotiating lock-up agreements. In securities offerings, the underwriters or placement agents generally negotiate a lock-up agreement with the issuer, as well as with the issuer's directors, officers, and, in the case of initial public offerings (IPOs), control persons and other stockholders. Lock-up agreements provide the underwriters or placement agents with some assurance that new issuer securities will not be sold immediately following the proposed offering, which might disrupt the trading market for the offered securities.

For additional information on lock-up agreements, seeMarket Trends 2019/20: Lock-Up Agreements,IPO Key Documents, Lock-Up Agreement (IPO), and Lock-Up Waiver (IPO).

Under an issuer lock-up agreement, the issuer agrees during the term of the agreement to refrain from issuing securities of the same class as the offered securities, as well as securities convertible or exchangeable into the same class as the offered securities, and from filing a registration statement relating to a securities offering, subject to certain exceptions discussed further below, during the term of the agreement. The directors, officers, control persons, and other stockholders similarly agree in their lock-up agreements to refrain from selling securities of the issuer that are of the same class as, or exchangeable or exercisable for the same class as, the offered securities.

  1. Form of Lock-Up Agreement. When acting as underwriters' counsel, a good starting point for drafting a lock-up agreement is the lead underwriter's form of lockup agreement, which will contain the lock-up provisions generally sought by the underwriter. The form can then be tailored to address the specific facts and circumstances of the offering, and can be negotiated with the issuer's counsel, who may request customary carve-outs, many of which we discuss below, as well as carve-outs to address any other concerns of directors, officers, and other stockholders. Issuer's counsel may review the forms of lock-up agreements filed as exhibits to underwriting agreements for other recent offerings led by the same underwriter to gauge the underwriter's willingness to agree to specific carve-outs.

  2. Length of Lock-Up Period. The underwriters for an IPO will typically seek to obtain lock-up agreements covering 180 days, subject to limited carve-outs.

    It is unusual to depart from the 180-day lock-up period; however, in some IPOs, there may be different lock-up periods for different types of holders (i.e., employees or other persons holding options, or directors, officers, or other insiders). This is increasingly common in high-profile IPOs, especially tech IPOs; in these offerings, there is often a longer lock-up period for directors, officers, other insiders, and substantial security holders, and a shorter period for employees and other option holders. However, IPOs for special purpose acquisition companies (SPACs) generally have a 365-day lock-up period.

    From time to time, although it remains unusual, an IPO lock-up period may be shortened to 120 or 150 days to allow holders to sell their securities prior to the issuer's quarterly earnings blackout period, or a release from the lock-up may be granted if the issuer's common stock is trading above a specified price. For a follow-on offering (i.e., an offering following an issuer's IPO), the lock-up period generally varies from 30 days to 90 days depending on various factors, including whether the issuer is a seasoned issuer and the liquidity of its stock.

  3. Parties and Securities Subject to Lock-Up Agreements. As early as possible when preparing for the transaction the issuer should discuss and negotiate with the underwriters or placement agents which parties will be subject to lock-up agreements, especially large stockholders who are not directors or officers. In almost all IPOs, substantially all the outstanding pre-IPO shares, and shares acquired in the offering through a directed share program, will be subject to lock-up agreements.

    In follow-on offerings, which often are undertaken in an abbreviated time period, lock-up agreements will usually only be obtained from the issuer and its directors and officers. Other significant stockholders are usually not advised that a follow-on offering may be undertaken given that information regarding a potential offering may constitute material nonpublic information (MNPI), and stockholders generally would not want to receive MNPI that would restrict their ability to trade the issuer's securities. In some cases, donees, distributees, or transferees that received lock-up securities in transfers permitted to be made under prior lock-up agreements (as discussed in tip #5, below) may be required to sign lock-up agreements as well.

    The issuer also will want to discuss with the underwriters the class or classes of securities that will be subject to the lock-up agreement (i.e., whether classes of the issuer's equity securities, such as preferred stock, will also be subject to lock-ups).

  4. Customary Lock-Up Restrictions. Customary lock-up agreements require lock-up parties to agree not to (1) offer, sell, contract to sell, pledge, or grant any option to purchase or otherwise dispose of (collectively, a disposition) any company securities or any securities convertible into or exercisable or exchangeable for, or any rights to purchase or otherwise acquire, any company securities held by or acquired by the lock-up party, or that may be deemed to be beneficially owned by the lock-up party (lock-up shares) pursuant to the rules and regulations promulgated under the Securities Act of 1933, as amended (Securities Act), and the Securities Exchange Act of 1934, as amended (Exchange Act), for the lock-up period; (2) exercise or seek to exercise or enforce in any manner any rights of any nature that the lock-up party has or may have to require the company to register the lock-up party's sale, transfer, or other disposition of any of the lock-up shares or other securities of the company held by the lock-up party, or to otherwise participate as a selling securityholder in any manner in any registration effected by the company under the Securities Act; or (3) engage in any hedging, collar (whether or not for consideration), or other transaction that is designed to or reasonably expected to lead or to result in a disposition of lock-up shares during the lock-up period, even if such lock-up shares would be disposed of by someone other than the holder. The prohibited hedging or other similar transactions would include any short sale or any purchase, sale, or grant of any right (including any put option or call option or reversal or cancellation thereof) with respect to any lock-up shares or with respect to any security (other than a broad-based market basket or index) that includes, relates to, or derives any significant part of its value from the lock-up shares.

    As noted above, under an issuer lock-up agreement, the issuer agrees to refrain from issuing securities of the same class as the offered securities, as well as securities convertible or exchangeable into the same class as the offered securities, and from filing a registration statement relating to a securities offering, during the lock-up period.

  5. Customary Carve-Outs. Underwriters or placement agents will generally agree to exceptions from the lock-up restrictions for (1) transfers of shares as a bona fide gift, including gifts to charitable organizations; (2) transfers of shares to a trust for the direct or indirect benefit of the lock-up party or such party's immediate family; (3) transfers by will or intestacy to legal representatives, heirs, or legatees; (4) distributions of shares to members, limited partners, or stockholders of the lock-up party; (5) transfers to affiliates or to any investment fund or other entity controlled by or managed by the lock-up party; and (6) transfers of shares to the issuer as forfeitures to satisfy tax withholding and remittance obligations of the lock-up party in connection with the vesting or exercise of equity awards granted pursuant to the issuer's equity incentive plans or pursuant to a net exercise or cashless exercise by the stockholder of outstanding equity awards pursuant to the issuer's equity incentive plan. In addition, sales of shares purchased by the lock-up party in the open market following the offering (provided that such sales are not required to be reported in any ownership reporting filing and the lock-up party does not otherwise voluntarily make any public filing regarding the sales) will typically be allowed.

    In issuer lock-up agreements, underwriters and placement agents typically allow for (1) sale of securities to the underwriters or placement agents; (2) issuance of securities pursuant to executive compensation plans subject to certain limits (unless the lock-up agreement is for a SPAC IPO, in which case carve-outs for stock-based compensation are not typical); (3) issuance of shares in connection with acquisitions or joint ventures; (4) issuance of shares (or a specified number of shares) by life science companies in connection with licensing arrangements; and (5) issuance of shares pursuant to preexisting agreements.

  6. Restrictions on Public Filings. Given that lock-up agreements provide the underwriters or placement agents some assurance that issuances or sales of new securities will not disrupt the trading market for the offered securities, transactions in the issuer's securities that trigger a filing with the Securities and Exchange Commission, such as an insider report under Section 16 of the Exchange Act (15 U.S.C. § 78p), typically are prohibited.

    Lock-up agreements also generally prohibit voluntary public filings regarding sales. However, underwriters or placement agents will generally agree to exceptions for transfers of shares to the issuer as forfeitures to satisfy tax withholding and remittance obligations, as described in item 6 of the first paragraph of tip #5 above, which are subject to a public filing, as long as the reporting person states in the footnotes thereto that the filing relates to the circumstances described in item 6 of tip #5 and the lock-up party agrees to not voluntarily effect any other public filings or reports regarding any such transfers of shares during the lock-up period.

  7. Special Considerations. The underwriters or placement agents may agree to other lock-up carve-outs to address special situations. For example if the lock-up party is a broker-dealer, investment adviser, or other financial services company, the lock-up is not intended to prevent it or its affiliates from engaging in ordinary course lending or capital markets activities, such as brokerage transactions, asset management, derivatives transactions, and other securities activities. The underwriters or placement agents may also agree to allow transfers during the lock-up period under a court or regulatory agency order.

    In recent offerings, underwriters and placement agents have also permitted a carve-out for transfers pursuant to a bona fide third-party tender offer, merger, consolidation, or similar transaction that is made to all holders of a company's common stock involving a change of control; however if the transaction is not consummated, the shares will remain subject to the lock-up agreement.

    Underwriters and placement agents may also agree to a carve-out allowing holders to enter into a trading plan established pursuant to Rule 10b5-1(c) under the Exchange Act (17 C.F.R. § 240.10b5-1) provided that sales under the plan do not occur during the lock-up period and entry into the plan is not required to be disclosed in any public filing.

    Some lock-up parties may also request a "most-favored-nation" lock-up release provision that provides the right to be released from the agreement to the extent any other lock-up party is granted an early release (see tip #8 below). Private equity and venture capital funds may also request carve-outs for distributions to their limited partners, stockholders, or any corporation, partnership, or other business entity that controls or is controlled by or is under common control with the lock-up party.

    Last, more and more often companies are undertaking private placements in close proximity to their IPOs. Investors in these pre-IPO private placements, especially crossover fund investors (i.e., those that invest in both public and private equity securities), will address IPO lock-up provisions in the investors' rights agreement. Generally, a crossover fund investor will want to ensure that the IPO lock-up does not exceed 180 days and that it covers only pre-IPO shares and not shares purchased by the fund in the open market. Crossover investors also will want to be certain that all company directors, officers, and 1% stockholders will be subject to substantially similar lock-up agreements. Crossover fund investors will also request a most-favored-nation lock-up release provision, which will release the fund from its lock-up agreement to the same extent and in the same proportion as any other stockholder so released.

  8. Release from Lock-Up Agreement. Generally, the lead book-runner will have the right to release parties from their lock-up agreements. In transactions with joint book runners, the book runners may negotiate to require the consent of two (or more) co-book or joint book runners for any lock-up agreement releases. The right to release the lock-up agreement is important, especially in an IPO, since releasing the lock-up may position co-book runners to secure roles as lead underwriters in the issuer's follow-on offering.

    As mentioned in tip #7, lock-up parties will sometimes negotiate for the right to be released from their agreement to the extent any other lock-up party is granted an early release. The release provisions may stipulate that if the maximum number of lock-up shares released pursuant to such early release in the aggregate is at least 1% of the released holder's total lock-up shares, then certain significant holders of the company's securities also will be granted an early release from their lock-up restrictions on a pro rata basis based on the maximum number of lock-up shares held by such holder. This early release provision for significant holders will sometimes not be triggered if the underwriters release a stockholder because of an emergency or hardship affecting only such holder.

    Additionally, as mentioned in tip #2, in some IPOs the lock-up agreement may provide for a release of a specified percentage of the lock-up shares if the issuer's stock is performing well. The release will be staggered to release more shares on hitting higher prices. This is not typical, but when it happens it is usually limited to IPOs for larger companies.

  9. Announcement of Release from Lock-Up. Under Financial Industry Regulatory Authority, Inc. (FINRA) Rule 5131, the release of a lock-up in an IPO must be publicly disclosed through a major news service at least two business days prior to the effective date of the release. The rule does not require an announcement for a release for a transfer not made for consideration to a transferee who has agreed to be bound by the lock-up provisions. The issuer typically agrees in the underwriting or purchase agreement to issue the press release.

  10. Termination. Lock-up agreements typically terminate if the underwriting or purchase agreement is terminated, the issuer elects to not pursue the offering, or a certain drop-dead date for the offering has passed.

Originally published by Lexis Nexis - Practical Guidance.

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