How do founders get liquidity? originally appeared on Quora: the place to gain and share knowledge, empowering people to learn from others and better understand the world.

Answer by Jonathan O'Connell, Counsel at Atrium, on Quora:

The obvious answers are through an exit event like an acquisition or public offering. However, we are seeing more founders get liquidity as part of early-stage financing rounds. Given the length of time companies stay private and the high cost of living in startup dense areas like San Francisco and New York, founders might wish to sell a portion of their shares prior to or in connection with an equity financing. This is known as a "secondary sale", which is a transaction where a stockholder, whether a common or preferred holder, sells shares to a third party.

Prior to raising a priced equity financing, the process for a founder to sell some of his or her shares is relatively straightforward: in most cases a founder can sell a portion of his or her vested shares if he or she first offers to sell them to the company on the same terms (assuming the company has a right of first refusal in the bylaws, founder stock purchase agreement or elsewhere). One pro to the company repurchasing shares is that there are fewer shares outstanding, which increases everyone's ownership percentage. However, the company is spending much needed capital to buy back stock instead of on things like product development, so a company repurchase is typically not what ends up happening. The selling stockholder, the purchasing stockholder and company's tax advisors should also review and sign off on any proposed transaction such that each stakeholder understands his or her tax treatment.

If the company elects not to purchase the offered shares, the founder can sell them to a third party purchaser. The benefit of this is it does not cost the company any money. But it could result in new stockholders the company does not know or want on the cap table.

After raising a priced equity financing, however, the process is slightly more complicated because as part of the financing process the company, the founders, and the investors likely entered into a Right of First Refusal and Co-Sale Agreement (a "ROFR Agreement"). Typically the ROFR Agreement gives the company a right of first refusal on any shares that a founder wishes to sell and provides the investors with a secondary refusal right (the right to purchase those same shares if the company does not exercise its right of first refusal). Additionally, the investors will typically have a co-sale right. Sometimes called a tag along right, the co-sale right provides the investors with the right to sell a pro rata portion of their shares along side the shares the founder wishes to sell. There may be existing provisions (unless waived) that prevent repurchases at greater than cost or outside termination of services. Finally, there may be transfer restrictions in place which could require approval from the board of directors or and/or stockholders.

One standard workaround to the ROFR Agreement hurdle is to carve out a percentage of the founders' holdings that can be sold outside of restrictions imposed by the ROFR Agreement. In many of the Series A financings we've worked on, the founders have had the ability to sell a small portion of their shares (commonly 1 - 10%) free of the restrictions imposed by the ROFR Agreement.

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