Closely Held Shares

What Are Closely Held Shares?

Closely held shares refers to stocks that are held by a small number of investors in a closely held corporation; a closely held corporation is one where a small number of investors possess most of the corporation's available shares. These shareholders — also called “majority” or “controlling” stockholders — are either affiliated with the company, its management, or family members; they may also have another type of close relationship or interest in the company.

Understanding Closely Held Shares

Closely held shares are different from the shares of privately held companies, which do not trade shares at all; they are also distinct from publicly traded companies, which are more actively traded each day.

Although closely held corporations do trade their stock publicly at times, they do so irregularly and infrequently. So there are few opportunities for new investors to buy into the company (or sell out) because trading volume is light; majority shareholders tend to hold onto their shares for the long term because they are part of — or have in interest in — the company.

In order for the firm to qualify as a closely held company, a minimum number of shares must be held by persons outside of the business (such as members of the public).

Closely Held Shares vs. Actively Traded Shares

In many ways, closely held shares behave the same as actively traded shares: They both represent ownership rights in the corporation; and they both come with the same right to vote, receive dividends, and collect a distribution of the company’s net assets if the company is liquidated. The biggest difference is not so much in the shares themselves, but in the ownership structure of the company that is issuing them.

Because closely held shares do not trade frequently in the open market, it is the value of the company itself (rather than market sentiment or irrational investor activity) that generally determines the share price. Also, all decisions made on the behalf of the business are solely for the interest of the business itself, with fewer external constituents to satisfy. So closely held companies tend to be more stable than other companies.

Although they might enjoy greater stability than actively traded corporations, closely held corporations also might find it more difficult to raise additional working capital through the sale of associated stock.

Closely held corporations are more resistant to hostile takeovers and proxy wars than are actively traded companies. Their close-knit nature, and the fact that controlling shareholders rarely release any of their shares, make it difficult for an outside entity to gain a foothold in attempting a takeover, thus adding another measure of stability.

There are few opportunities for investors to purchase closely held shares. However, publicly traded shares are generally readily available; buying and selling them is as simple as placing an order with any broker or brokerage firm.

Special Considerations

It is usually more difficult to value a closely held company. Because there is no public marketplace for selling its shares, it may be challenging to obtain the data necessary to make a valuation analysis. On the other hand, it is easy to assess the value of a publicly held company both because it is valued by the worth of its stockholders, and because the corporation’s filings are publicly accessible.

When a company’s shares are closely held, the company has the option to apply for S Corporation (S Subchapter) status with the Internal Revenue Service (IRS). If the company qualifies, it would report income but not pay taxes. Instead, the shareholders in the S Corporation would pay taxes on their proportional share of the profits. If the S Corporation sees losses, then the owners of the closely held shares would receive tax deductions.

Example of Closely Held Shares

Dell Technologies Inc. (DELL) went public in 2018 after being privately held for the prior five years. Prior to this, the firm's CEO and founder, Michael Dell, took the firm private in 2013.

Dell decided to take the company private, buying out public shareholders to the tune of $25 billion, in order to refocus the company after a tough year. As a private company, it wouldn't have to appease public shareholders; instead, it could focus on rebuilding the brand how they (the closely held shareholders) wanted.

The tactic paid off. When the company came back to market in 2018, it was valued at $70 billion. At this time, $22 billion worth of shares were provided to the public.