Direct Listings as an IPO Alternative

A direct listing is a method of going public that is an alternative to a traditional IPO. In a direct listing, a company lists shares (either its own shares or shares owned by its stockholders) on a national stock exchange without a firm commitment underwritten offering.

The requirements for direct listings differ depending on whether the direct listing is:

Both types of direct listings are permitted on the New York Stock Exchange (NYSE) and the Nasdaq Stock Market (Nasdaq). However, to date, companies have only conducted selling stockholder direct listings.

This article examines the mechanics of a direct listing, including:

(For more on direct listings, see Comparing Traditional IPOs and Direct Listings: Chart and Direct Listings: Key Points Checklist on Practical Law; for up-to-date information on pending and completed direct listings, see Direct Listings Tracker on Practical Law.)

Direct Listing Advantages

A direct listing offers several advantages over a traditional IPO. Companies may opt for a direct listing to:

Despite these advantages, direct listings are not suited for all companies. While there is a history of direct listings for small-scale resales of shares and spin-offs, most of the direct listings that have been executed to date involve well-known private companies and unicorns. Companies that pursue a direct listing often have the capacity to handle a larger role in educating investors about the company. Further, companies that pursue a selling stockholder direct listing often have:

Market-Driven Price Discovery

During the marketing process of a traditional IPO, underwriters take indications of interest and build an order book from interested investors. Based on discussions with the company and investors and this order book, the company and the underwriters agree on a price to sell shares to investors in the IPO.

By contrast, in a direct listing, the opening share price is generally determined based on buy and sell orders submitted from a broader pool of potential investors and sellers through the facilities of a stock exchange. Companies may prefer this approach to determining the price per share as a potentially more accurate market-driven price than one that is set through a traditional bookbuilding process.

Lock-Up Agreements

In an IPO, underwriters will require the company, its officers and directors, and certain stockholders to sign lock-up agreements prohibiting them from selling shares for a specified period following the commencement of sales in the IPO, typically 180 days. Underwriters traditionally require lock-ups to protect the market for shares being offered and sold in the IPO and to reduce trading volatility following the listing on a stock exchange. By contrast, in a selling stockholder direct listing, the company can provide liquidity to existing stockholders, and existing stockholders are free to resell their shares immediately, subject to compliance with federal securities laws.

Even though there are no underwriters to request lock-up agreements in a selling stockholder direct listing, companies may still choose to enter into lock-up agreements with officers and directors and certain stockholders to ensure there is not an over-supply of shares from selling stockholders and the company following the commencement of trading.

It remains to be seen how lock-up practices will evolve in primary direct listings.

(For the complete version of this resource, which includes more on lock-ups in direct listings, see Direct Listings as an IPO Alternative on Practical Law; for more on lock-ups generally, see Understanding Lock-Up Agreements on Practical Law.)

Underwriting Commission

In a firm commitment underwritten offering, such as an IPO, underwriters agree to purchase shares from the issuer and selling stockholders, if any, and then sell those shares to investors. As compensation, the underwriters receive a commission on the sales of those shares, which is calculated as a discount to the public share price, often around 7% for an IPO. This commission is the largest expense in a firm commitment underwritten offering.

Although a direct listing will not generate this expense, companies will still incur other significant costs, including fees paid to financial advisors (in a selling stockholder direct listing) and/or underwriters (in a primary direct listing), legal counsel, and auditors. Additionally, companies conducting a primary direct listing are required to retain and identify in their registration statements an underwriter that will be subject to the liability provisions of the Securities Act of 1933 (Securities Act). This requirement would likely increase the fees a company must pay in a primary direct listing and could potentially disincentivize companies from pursuing a primary direct listing instead of a traditional IPO.

(For more on underwriting expenses, see Registration Process: Expenses on Practical Law.)

Selecting a Stock Exchange

The mechanics of direct listings are largely driven by the initial listing standards and auction procedures of the selected stock exchange. Both the NYSE and Nasdaq Global Select Market allow for primary and selling stockholder direct listings.

The requirements and procedures of the NYSE and Nasdaq are similar for both primary and selling stockholder direct listings. Companies must also meet all other quantitative and qualitative initial listing standards to be approved for listing in connection with either a primary direct listing or a selling stockholder direct listing.

(For the complete version of this resource, which includes more on the NYSE and Nasdaq requirements for direct listings, see Direct Listings as an IPO Alternative on Practical Law; for a detailed comparison of the initial listing requirements, see Standards for Direct Listings Comparative Chart: NYSE vs. Nasdaq on Practical Law.)

NYSE

Section 102.01 of the NYSE Listed Company Manual provides the quantitative listing standards relating to the market value of publicly held shares that companies must meet to list their shares on the NYSE. Under Section 102.01B, companies conducting a direct listing must establish an aggregate market value of publicly held shares of at least $100 million.

Nasdaq

Nasdaq has three listing tiers for public companies:

Each listing tier has its own separate qualifications for listing, including requirements applicable to primary and selling stockholder direct listings.

Nasdaq Global Select Market

If companies are not listing through an IPO, the Nasdaq Global Select Market requires companies to establish a market value of unrestricted publicly held shares of $110 million (or $100 million if the company has stockholders’ equity of at least $110 million) (Nasdaq Listing Rule IM-5315-1).

The Nasdaq Global Select Market is the only tier that permits primary direct listings. For primary direct listings, companies are deemed to have satisfied the market value listing requirement if the amount of unrestricted publicly held shares immediately before the offering together with the market value of shares sold by the company in the opening auction is at least $110 million (or $100 million if the company has stockholders’ equity of at least $110 million) (Nasdaq Listing Rule IM-5315-2).

Nasdaq Global and Capital Markets

The Nasdaq Global Market and Capital Market tiers each have certain price-based initial listing standards that all companies must meet, including:

Role of Financial Advisors and Underwriters in a Direct Listing

Companies often consider an IPO and a direct listing simultaneously and therefore engage investment banks early in the process to participate as either an underwriter or a financial advisor, as applicable. The working group for an IPO and a direct listing is nearly identical, and the timeline and responsibilities are also similar, except as otherwise described below.

In a selling stockholder direct listing, the roles of each financial advisor should be well defined in the early stages of engagement. Well-defined roles are important not only for efficiency, but also to ensure that the financial advisors in selling stockholder direct listings are not deemed to be statutory underwriters.

Financial advisors assist in a selling stockholder direct listing by:

As part of the selling stockholder direct listing process, financial advisors generally do not participate in investor meetings or otherwise facilitate or coordinate price discovery activities or sales of shares in consultation with the company, except under NYSE and Nasdaq rules as noted below. However, for primary direct listings, the investments banks that act as underwriters are expected to engage in activities similar to those they conduct in an IPO.

Selling Stockholder Direct Listings: NYSE

A designated market maker (DMM) is responsible for determining the opening price for trading on the NYSE. If the company does not have a recent sustained history of trading before listing, NYSE rules require that the DMM consult with one or more financial advisors to effect a fair and orderly opening of trading without coordination with the company, consistent with the federal securities laws.

Further, a financial advisor designated by the company to consult with the DMM is expected to share with the DMM their understanding of the ownership of outstanding shares and pre-listing selling and buying interest that they become aware of from potential investors and stockholders, in each case, without coordination with the company.

Selling Stockholder Direct Listings: Nasdaq

A financial advisor to the company is responsible for notifying Nasdaq that the company’s shares are ready to trade and will approve proceeding at the current reference price (Nasdaq Rule 4753(a)(3)) primarily based on consideration of volume, timing, and price. The financial advisor must determine when a reasonable amount of volume has crossed on the opening trade such that sufficient price discovery has been made in order to open trading at the current reference price.

Primary Direct Listings: NYSE and Nasdaq

Both the NYSE and Nasdaq require companies to retain an underwriter with respect to the primary sales of shares and to identify the underwriter in their registration statements. Underwriters retained and named by companies will become subject to the liability provisions of the Securities Act. Additionally, both exchanges contemplate that an underwriter would perform functions substantially similar to those performed by an underwriter in a typical IPO, including those related to establishing and adjusting the price range.

Nasdaq will consult with the named underwriter to the company to determine when shares are ready to trade. On the NYSE, the DMM may consult with an underwriter to the company to effect a fair and orderly opening on the first day of trading.

Independent Valuation

For selling stockholder direct listings, both the NYSE and Nasdaq use independent third-party valuations to determine whether a company meets certain quantitative initial listing requirements. An independent third party with significant valuation experience must complete the valuation and must consider, among other factors, the audited annual financial statements and interim quarterly financial statements to be included in the registration statement (see NYSE Listed Company Manual, Section 102.01B and Nasdaq Listing Rule IM-5315-1(f)).

Primary direct listings on the NYSE and Nasdaq do not require an independent valuation. Instead, both exchanges require companies to establish a price range for the offering, which is used to determine whether the company is qualified for listing and establish limits on the opening auction price. Therefore, while not subject to independence restrictions, companies conducting a primary direct listing will retain and consult with an underwriter in determining an appropriate price range for the offering.

Federal Securities Law Compliance

For selling stockholder direct listings, registration of the resale of securities is not strictly required under the Securities Act if all shares are eligible to be resold under an exemption. However, the initial listing standards of both the NYSE and Nasdaq require a Securities Act registration statement to be filed in connection with the listing.

For primary direct listings, NYSE and Nasdaq rules also require the listing to be in connection with a Securities Act registration statement, but as a practical matter, companies must register newly issued shares sold in the opening auction regardless.

The registration statement is filed on Form S-1 for US domestic issuers and Form F-1 for foreign private issuers. At least one financial advisor or underwriter (or both) and their counsel, along with company counsel, are responsible for assisting with drafting and reviewing the registration statement. The timeline and responsibilities for preparing the registration statement closely align with those of an IPO.

However, the registration statement and prospectus include certain differences from an IPO, including the following:

As with IPOs, companies listing their securities on an exchange must also register the class of securities under Section 12(b) of the Securities Exchange Act of 1934, as amended (Exchange Act). Because the company is filing a registration statement with the Securities and Exchange Commission (SEC) under the Securities Act, it may file a short-form registration statement using Form 8-A, under which the company can incorporate by reference required information from its registration statement and any related prospectus.

(For more on registration statement forms used in direct listings, see Registration Statement: Form S-1, Registration Statement: Form F-1, and Registration Statement: Form 8-A on Practical Law; for more on the registration process, including submitting a confidential draft registration statement, see Registration Process: Overview and Filing Documents with the SEC on Practical Law.)

Shares Eligible for Resale

Section 4(a)(1) of the Securities Act and the safe harbor under Securities Act Rule 144 provide a commonly used exemption for the resale of restricted securities. A company considering a selling stockholder direct listing should work closely with counsel to determine which shares are eligible for resale under the Rule 144 safe harbor and which must be registered for resale under the Securities Act to be sold at the opening of trading. For selling stockholder direct listings, companies will likely need to register the resale of shares for all affiliates and any non-affiliates owning shares not qualified for resale under Rule 144.

Companies must also consider how to manage shares granted to employees, directors, and other service providers using equity compensation plans in reliance on Securities Act Rule 701. In connection with the listing, the company may decide to register certain shares subject to equity awards.

(For more on Section 4(a)(1) and the Rule 144 safe harbor, see Resales Under Rule 144 on Practical Law; for more on Rule 701, see Employee Incentive Compensation and the Role of Rule 701 on Practical Law.)

SEC Review

Registration statements in direct listings are subject to the same SEC review as is applicable to registration statements filed in IPOs. However, until they become more common, direct listings may draw increased scrutiny during review and may require closer coordination with the SEC.

Nearly one-third of the SEC’s comments to Spotify during its direct listing registration process were related to risks and procedures specific to a direct listing and how those matters were communicated to investors, including:

(For more on SEC review of registration statements, see Registration Process: SEC Review on Practical Law.)

Section 11 Liability

Section 11 of the Securities Act provides purchasers of securities in a registered offering with an express right of action for damages if a company’s registration statement, at the time it is declared effective by the SEC, contains an untrue statement of material fact or omits a material fact necessary to make a statement not misleading. However, purchasers must be able to trace the shares to the registration statement to bring suit under Section 11. (See Slack Techs., LLC v. Pirani, 143 S. Ct. 1433 (2023).)

In a traditional IPO, the tracing requirement is generally easier to establish because all or virtually all of the shares traded on the exchange are sold under the registration statement. For a direct listing, it may be difficult, if not impossible, for a plaintiff to trace the shares to the registration statement because both registered and unregistered shares, such as those eligible for resale under Rule 144, are listed and sold simultaneously. For example, only about 42% of the shares available to be sold in Slack Technologies, Inc.’s (Slack’s) 2019 direct listing were registered. The remaining available shares were already eligible to be freely resold under Rule 144.

Further, if the registration statement is terminated and any unsold shares are deregistered after a certain period of time, the number of possible sales under the registration statement is further reduced. Companies completing selling stockholder direct listings traditionally have stated in their prospectus an intent to withdraw their registration statements after 90 days, which aligns with Rule 144’s public information and holding period requirements and Rule 701.

Section 11 liability in the context of direct listings is still a controversial topic. In a class action stemming from Slack’s direct listing, the US Supreme Court ruled in June 2023 that a plaintiff must be able to trace the shares to the registration statement to bring suit under Section 11. The Supreme Court utilized a textualist approach and focused primarily on the contextual clues in the Securities Act to reach its holding that Section 11 “requires a plaintiff to plead and prove that he purchased shares traceable to the allegedly defective registration statement.”

The Supreme Court remanded the case back to the Ninth Circuit for consideration of whether the plaintiff’s pleadings can satisfy Section 11 “as properly construed.” (Slack, 143 S. Ct. at 1440, 1442.) While the traceability requirement is now clear, the particular facts a Section 11 plaintiff must plead with respect to tracing to survive a motion to dismiss, as well as what a plaintiff must ultimately prove to prevail on a Section 11 claim, will be for the lower courts to decide.

Additionally, the Supreme Court declined to reach the parties’ arguments about the scope of claims under Section 12 and remanded that issue back to the Ninth Circuit for it to consider in light of the Supreme Court’s decision on Section 11. The Supreme Court declined to express a view about the proper interpretation of Section 12 but cautioned that Section 11 and Section 12 “contain distinct language that warrants careful consideration.” (Slack, 143 S. Ct. at 1442 n.3.)

The Ninth Circuit’s decision on these important issues is anticipated in or near the first quarter of 2024.

(For more on the Slack decision, see Supreme Court Holds Section 11 Requires Plaintiffs to Trace Shares to Registration Statement on Practical Law; for more on Section 11 liability, see Liability Provisions: Securities Offerings on Practical Law.)

Investor Education

In a typical IPO, company executives and lead underwriters conduct a one- to two-week road show in which they meet with institutional investors and money managers to market the company and the securities being offered. Retail investors can view these road show presentations online.

In a selling stockholder direct listing, while a financial advisor may be engaged to assist in creating marketing materials and presentations, the company is ultimately responsible for investor education. While this onus on the company can be considered a burden of a selling stockholder direct listing, it also gives the company significant flexibility in how it manages its investor education efforts. In particular, it is common for issuers in selling stockholder direct listings to host investor days, on which company management presents on their business through a live webcast to all potential investors.

While no primary direct listings have been executed to date, the stock exchanges have indicated that an underwriter in a primary direct listing would perform substantially similar functions as an underwriter in an IPO. Therefore, an underwriter in a primary direct listing would likely conduct investor education. Underwriters in a primary direct listing are not precluded from hosting an investor day, should they choose to do so.

A company pursuing a direct listing may also elect to meet individually with potential investors (effectively conducting a version of its road show), subject to certain limitations. Although hosting an investor day is common for direct listings, this approach to investor education is not a requirement. There is no one-size-fits-all approach to investor education, and companies may take different approaches depending on their objectives, the expected investors, and other factors.

Companies conducting a direct listing must still comply with all rules relating to publicity. Investor day presentations or other investor education efforts may be considered a road show, as defined in Securities Act Rule 433. If filing a confidential draft registration statement with the SEC, companies must ensure the registration statement is made public at least 15 days before any road show begins. Companies should also ensure all other materials and public statements that are required to be filed as free writing prospectuses are filed accordingly.

(For more on the rules governing publicity and registered offerings, see Registration Process: Publicity on Practical Law; for more on road shows, see The Nuts and Bolts of Road Shows on Practical Law.)

Pricing the Offering

As part of the road show for an IPO, underwriters build an order book to gauge investor interest and demand for the stock, which is used by the underwriters to price the IPO. In a direct listing, there is no bookbuilding process, and market-driven price discovery occurs under the rules of the applicable exchange. The process for pricing the offering and opening trading differs for primary and selling stockholder direct listings, and based on whether the stock is listed on the NYSE or Nasdaq.

NYSE Pricing

For selling stockholder direct listings, the NYSE establishes a reference price for investors based on previous trading in private placement markets or in consultation with a financial advisor to the company. The opening price is then determined by the DMM based on existing buy and sell orders and in consultation with the financial advisor to effect a fair and orderly opening of trading.

For primary direct listings, the reference price is the lowest price of the price range disclosed in the company’s registration statement. To open trading, the NYSE has a unique order type used only for the opening auction in primary direct listings called an Issuer Direct Offering Order (IDO Order). An IDO Order is a limit order placed on behalf of the company to sell the number of shares to be offered at the lowest price of the price range as disclosed in the registration statement.

The opening auction price can be as low as 20% below the lowest price in the price range specified in the registration statement or as high as 80% above the highest price in the price range, provided that the company has specified the quantity of shares registered in its registration statement (not the maximum aggregate offering amount) under Securities Act Rule 457. The company must also make certain public disclosures and certifications to the NYSE (for more information, see Direct Listings as an IPO Alternative on Practical Law).

The upper and lower limits are calculated based off the highest price in the price range disclosed in the registration statement. For example, if the company discloses a price range of $28 to $30, the 20% and 80% calculations will be based off $30. Therefore, the upper limit would be $54 and the lower limit would be $22.

To support price discovery transparency, the NYSE provides investors access to real-time pricing information and makes readily available the indication reference price (that is, the lowest price in the primary direct listing price range) on a public website.

Nasdaq Pricing

For selling stockholder direct listings, Nasdaq establishes a current reference price based off existing buy and sell orders. A financial advisor appointed by the company determines, based on several factors, when to approve proceeding to open trading at the current reference price.

For primary direct listings, Nasdaq, in consultation with the named underwriter, establishes a current reference priced based off existing buy and sell orders. However, Nasdaq modified the fourth tiebreaker in Nasdaq Rule 4753 to be the price closest to the lowest price of the price range disclosed in the company’s registration statement. Similar to the NYSE, Nasdaq also created a new order type specifically for primary direct listings called a Company Direct Listing Order (CDL Order). A CDL Order is a market order placed on behalf of the company for the number of shares to be sold by the company in the offering.

For a CDL Order to execute and the shares to begin trading, the opening auction price must be as low as 20% below the lowest price in the price range specified in the registration statement or as high as 80% above the highest price in the price range, provided that the company has specified the quantity of shares registered in its registration statement (not the maximum aggregate offering amount) under Rule 457. The company must also make certain public disclosures and certifications to Nasdaq (for more information, see Direct Listings as an IPO Alternative on Practical Law).

The upper and lower limits are calculated based off the highest price in the price range disclosed in the registration statement. For example, if the company discloses a price range of $8 to $10, the 20% and 80% calculations will be based off $10. Therefore, the upper limit would be $18 and the lower limit would be $6.

Nasdaq has also established a price volatility constraint and price collar for primary direct listings. The price volatility constraint requires the current reference price to have not deviated by 10% or more from any current reference price during the pre-launch period within the previous 10 minutes. Once the price volatility constraint is satisfied, the pre-launch period will continue for at least five minutes, and Nasdaq will provide investors with:

This would provide investors with at least five minutes to modify their orders based on the near execution price, if needed. To ensure that the near execution price is a meaningful benchmark for investors, Nasdaq also adopted a 10% price collar, which requires the opening price to be no more than 10% below or above the disseminated near execution price. If the security has not been released for trading within 30 minutes, and the current reference price falls outside of the 10% price collar at the end of the 30-minute countdown or at any time thereafter, the price volatility constraint will be reset.

To support price discovery transparency, Nasdaq provides real-time pricing information to investors by disseminating, free of charge, the current reference price on a public website during the pre-launch period and indicates whether the current reference price is within the price range disclosed in the registration statement. Nasdaq also disseminates the near execution price, the near execution time, and the 30-minute countdown from this time.

Opening of Trading

In an IPO, trading on a stock exchange typically begins the day after the registration statement becomes effective and the IPO prices. In a direct listing, companies often wait longer after registration becomes effective to open trading. Direct listing issuers commonly take more than a week from the time their registration statements are declared effective and when shares initially open for trading. The delay in the opening of trading provides the following benefits:

The order of events in a direct listing typically is as follows: (i) the SEC declares the registration statement effective, (ii) the company issues a press release with financial guidance, and (iii) subsequent to the issuance of guidance, the company waits a period of at least five full trading days before commencing trading. This sequence is common because it: