A secondary transaction is one of the four types of exit options available to entrepreneurs and investors.

In a secondary transaction shares are sold by individual shareholders to a third-party buyer. Note that this differs from an investment in the company since the shares are not being sold by the company. In essence this is structured like a side deal whereby one shareholder is able to realize liquidity without changing the number of shares or cash position.

Secondary transactions generally happen most frequently for one of two reasons. First, employees that have been working on a startup for a number of years may want to liquidate a portion of their shares to get some cash out of the venture, before the company is acquired or has an IPO. Secondaries are also frequently leveraged by investors who are either in need of cash to meet other commitments or who need to liquidate their assets because they are at the end of their fund’s life cycle.

Secondary transactions are generally considered less attractive than an acquisition or IPO. One reason for this is simply the fact that these do not represent a company-wide exit, meaning that this type of exit presents a less sexy story in the track record of founders and investors – the fate of the company may not yet be determined at the time of the transaction. Another reason for this comes from the fact that buyers in a secondary transaction generally understand that they are purchasing assets from individuals in somewhat urgent situations, in some cases enabling them to buy the assets at a discount. As a result, secondary transactions are often (albeit not always) done at a discount to what the share price that would be realized in an acquisition or IPO.

It is important to note, however, that these transactions play an important role in the investment community as they give investors a way out of sticky liquidity situations.