For angel investors, Special Purpose Vehicles (SPVs) can provide a convenient way to invest in startups. SPVs are legal entities that allow angel investors to pool smaller individual contributions into a single, larger investment in a startup.
In this blog post, we share key information about SPVs for angel investors.
What is the legal structure of SPVs?
In most cases the SPV is set up as a holding company, registered as a Limited Liability Company (LLC). The SPV holding company is usually designed to make a single investment. Funds are collected from individual investors into the SPV and are then invested in a startup. In this model, the SPV becomes the investor in that startup instead of the individual investors. Individual investors in each LLC are called members, and there is an overall LLC manager. Investors will typically sign investment and operation agreements when they invest, which will dictate their participation, voting rights, and liquidation benefits upon investment in the startup.
Why do angel investors use SPVs to invest in startups?
There are several reasons why SPVs are attractive to angel investors:
Affordability: Historically, startups raise money from individual angel investors with investments ranging from $25,000-50,000. In return, angel investors receive equity or stock of the startup. Each investor is then part of the startup’s capitalization table (cap table). However, accredited investors are often unable to write a large check and can be left out of a round if a startup has a minimum investment amount.. SPVs create a flexible way for individual investors to diversify their portfolios without the large commitment needed as a sole investor or as part of a fund.
Risk dilution: By investing a smaller amount of money with multiple investors tied to the SPV, each individual investor minimizes their risk of loss while still receiving the same benefits individual angel investors have when investing in a startup.
Simplification: Angel networks, venture capitalists (VCs), funds, and startup founders often have the common goal to minimize the number of investors on the startup’s cap table to simplify voting and other common legal procedures. When multiple angel investors come together and use a single SPV investment tool, it reduces the overall number of investors on a startup’s cap table.
How does an angel investor receive returns as part of an SPV?
If a startup experiences a liquidation event, each angel investor organized in the SPV receives money based on the agreement outlined in the SPV’s creation. Each investor’s ownership on the startup’s cap table is determined by the structure of the SPV.
What’s the difference between SPVs and VC funds?
There are three key differences between SPVs and VC funds for angel investors. First, the entry investment required to create an SPV is typically significantly less than the amount of investment needed to join a VC fund.
Second, VC funds usually charge approximately 2 percent in management fees annually (which comes to 20 percent in fees over the life of a ten-year fund). There is also typically an additional 20 percent carry interest. Carried interest, also known as “carry,” is the share of profits from an investment that is given to the partners of the VC firm. While SPVs also charge varying amounts of management fees and carry, these fees are rarely close to 20 percent. When investing via an SPV, these fees will be determined in the investment and operating agreements created in the formation of the LLC.
Finally, each SPV typically invests in one startup, so each angel investor knows exactly where their dollars are being invested. In a VC fund, the pool of money is invested in multiple startups over a period of time, so angel investors do not know where their money will be invested over the course of the fund’s investment period.
What are the limitations of an SPV?
There are a few things to keep in mind when investing via an SPV:
Like any other LLC, members of an SPV will be required to create and maintain the company. That typically includes operational fees, like legal costs. Members must also manage payment of taxes and fees that are known as ‘Blue Sky’ fees, which are state-specific taxes or fees members pay to join the company.
While risk is reduced because investors are putting in less money using an SPV than they would with a venture fund, there is still significant risk for angel investors. Because the SPV represents a one-time investment in a startup, angel investors stand to lose their entire investment and associated SPV fees if the startup fails.
Reinvestment is complicated with an SPV and requires consensus from all members of the company. Each SPV typically makes a single investment in a single startup, so best practices suggest the creation of a new SPV to reinvest.
Investors in the SPV will not have direct access to the startup. The owner of the SPV (the LLC manager) manages the investment. Each investor in the SPV must first take their concerns to the manager, who will work with the startup on their behalf.
How do I create an SPV?
Any angel investor interested in creating an SPV tend to go through an SPV provider. These providers are responsible for creation, maintenance, and administration of the LLC. Fundr is launching its own SPV provider service and tools so that angel investors can manage all parts of their portfolio in one place. Fundr’s SPV management system will include a simple pricing structure that takes into account all macro- and micro-SPV fees transparently. We're doing this all with an eye towards automating the process to make it painless for both startups and investors.
Stay tuned for more information on our SPV investment vehicle!