Liquidation Event

A liquidation event is the trigger defined in preferred stock terms that activates the liquidation preferences and waterfall mechanics. Typical triggers include sale of the company (acquisition or merger where existing stockholders own less than majority of surviving entity), sale of substantially all assets, dissolution or winding up of the company, and sometimes other defined events like change of control transactions. The specific definition matters because what counts as a "liquidation event" determines when preferred stockholders get paid and common stockholders only get what remains. It is the mechanism that activates preferred preferences; understanding what triggers it is foundational.

The standard liquidation events:

Sale of company (most common):

• Acquisition for cash, stock, or combination.
• Merger where existing stockholders own less than majority of surviving entity.

Asset sale:

• Sale of substantially all assets (typically >50% or 80% threshold).
• Different from sale of company; sometimes treated differently.

Dissolution / winding up:

• Voluntary or involuntary dissolution.
• Bankruptcy proceedings.

Change of control:

• Some certificates include change-of-control as separate liquidation trigger.

What's NOT typically a liquidation event:

IPO: typically NOT a liquidation event (preferred converts to common at IPO). Why: IPO is a positive outcome where everyone wants the same upside; preference structure doesn't apply.

Recapitalization without change of control: typically not liquidation event.

Internal restructuring: typically not.

The certificate of incorporation defines what counts:

Read the cert carefully: definition of "liquidation event" varies.

Negotiation point: founders can negotiate what counts (e.g., excluding internal restructurings, including IPO under certain conditions).

Standard NVCA language: broadly used; defines events relatively standard.

How liquidation events affect preferred conversion decisions:

Below preference threshold: preferred takes preference, common gets remainder.

Above preference threshold: preferred typically converts to common to take pro-rata as-converted share.

The crossover point: depends on preference amount, ownership percentage, and total proceeds.

At IPO (not a liquidation event): preferred typically converts automatically to common.

What founders get wrong: Not understanding what counts as a liquidation event in their certificate, then being surprised when preferences activate in unexpected scenarios. The right discipline: read the cert's liquidation event definition at each financing; ensure standard language; understand the implications.

Related: Liquidation Preference · Liquidation Waterfall · Acquisition · IPO · Dissolution

FAQ

What is a liquidation event?
The trigger defined in preferred stock terms that activates liquidation preferences and waterfall mechanics. Typically includes sale of company, asset sale, dissolution, and sometimes other defined change-of-control events.

Is an IPO a liquidation event?
Typically NO. Preferred stock typically converts automatically to common at IPO. Different from sale of company because IPO is a positive outcome where everyone wants the same upside; preference structure doesn't apply.

What's NOT a liquidation event?
IPO (typically), recapitalization without change of control, internal restructuring. Depends on certificate of incorporation language; founders should read carefully and ensure standard NVCA language.