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What Events Trigger a 409A Stock Re-Evaluation?

March 05, 2024

An annual 409A valuation helps ensure that the value of your employee stock options are protected against IRS penalties. Sometimes, events trigger a “re-valuation” before this one-year mark. We explore these events here.

Check out our blog, What is a 409A Valuation and Why Does Your Business Need One? In addition to IRC 409A requiring an annual valuation, material events such as changes within your company, may occur which would necessitate re-valuing the company’s equity before the one year expires.

As previously noted in Part 1 of this blog series, some of the consequences of not complying with acquiring a new valuation after a material event are: (1) substantial penalties, (2) fines, and (3) other sanctions, including taxes on the employee or option recipient and additional taxes charged to the company itself.

What is considered a material event?

A material event is anything that could be reasonably expected to change the value of the company.

There are 5 material events to watch out for:

1. New equity financing or significant secondary sales of common stock

A new round of equity financing is when a company raises additional capital by issuing new shares of stock to new and existing investors. This process allows the company to secure funds for various purposes, such as expansion, product development, or debt repayment. Investors receive ownership stakes in the company in exchange for their investment. By selling shares, a business effectively sells ownership of its company in return for cash. The cash paid by the investors can be indicative of the fair market value of the company’s shares and also implies the equity value of the company based on the amount paid. A significant secondary market for a company’s shares may lead to additional indicators of value of a company’s shares.

2. Merger and/or acquisitions

If your company has recently been acquired or merged with another company, the price paid by the acquiring company for your company’s shares may be significantly more than the fair market value of the company’s shares per the company’s last 409A valuation. It would be imperative to receive a new 409A valuation to avoid the issuance of cheap stock.

3. An Initial public offering (“IPO”).

An IPO is the first sale of a company’s stock to the public. In an IPO, a private company becomes a publicly traded company by issuing new shares of stock, which are then sold to institutional and individual investors. This process allows a company to raise capital from public markets, and it often provides liquidity for existing shareholders. In the process leading up to an IPO, typically it’s more appropriate to receive 409A valuations on a regular basis (i.e. quarterly) as a company moves forward to completing a successful IPO event.

4. Major changes to a company’s business model

If a company completes a restructuring or changes direction within its corporate strategy into new products/services or geographic areas and territories, these changes may have an impact on the fair market value of a company’s stock.

5. Major changes to market conditions

Sometimes, unusual changes that greatly affect your company come along, whether expected or unexpected, such as the significant declines observed during the COVID-19 pandemic and the Financial Crisis of 2008.

In conclusion, it’s all in the timing. Keep a close watch over your stock options and know that when a material event occurs, it’s time for you to reach out to us so that we can assist with your valuation needs. Contact us today for more information regarding 409A valuations.

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