What is an SPV? Special purpose vehicles explained

A special purpose vehicle (SPV) is a type of company or partnership which allows investors to pool their money to invest together in a company.

If you’re an investor considering joining a syndicate, you might encounter syndicates which use SPVs to make their investments. In this post, we explain how SPVs work, their advantages and disadvantages, and some popular alternatives for groups of investors in the UK.

Contents

• What is a special purpose vehicle?
• How is an SVP different from a syndicate?
• Why use an SPV?
• What are the downsides of investing via an SPV?
• Different countries have different rules for SPVs
• Alternatives to SPVs
• Talk to the experts

What is a special purpose vehicle?

It might sound like a fancy Range Rover but a special purpose vehicle (SPV) is a legal entity, a type of company or partnership used by investors.

‘Special purpose’ means it’s set up as a one-off, especially for the investment.

‘Vehicle’ means it’s for carrying out a specific task, in this case for a group of investors to pool their money to make a one-off investment.

A group of investors puts money into an SPV, then the SPV invests in a target company.

How is an SVP different from a syndicate?

A syndicate is a group of investors, whereas a special purpose vehicle is a type of company or partnership set up especially to make an investment.

One way that a syndicate can make an investment into a target company is by using an SVP.

How do SPVs work?

In the UK, SPVs are often formed as a limited liability company (LLC) or limited partnerships. Investors then put money into the SPV to become members of the SPV. Each member has a membership interest: their percentage of the total money put into the SPV.

For example, if an investor puts £5,000 into an SPV that raises £100,000 in total, that investor’s membership interest is 5%

After raising money, the SPV makes a single investment in a target company. The SPV appears on the company’s cap table as a single entry.

SPVs are sometimes called pass-through vehicles because the SPV’s income ‘passes through’ to the SPV members.

For example, let’s say the SPV invests in a company and then later that company is acquired and the SPV gains £20 million. A member with 5% membership interest gets 5% of the income, £1 million, minus any carry fee.

Why use an SPV?

For startup founders, SPVs can be an easy way to onboard multiple investors via one neat entry on the cap table. And for investors, special purpose vehicles are a popular way for syndicates to pool money to invest in a specific startup:

• Get access to bigger/better deals
  With an SPV, you pool your funds with other investors. With a larger amount of capital to invest, the SPV is more attractive to fundraising companies than an individual with less to invest. This means as an SPV member, you could gain access to a wider range of potentially more lucrative deals.
• Decide which company to invest in
  Unlike investing in a venture capital fund where you rely on the fund manager to choose which companies to invest in, when you invest in an SPV, you’ll know exactly what the SPV plans to invest in. (In theory anyway: there have been a few instances of SPVs created without an investment target in mind but that’s unusual.)
• Learn from a lead investor
  If you’re new to investing, joining an SPV with a lead investor you trust means you can make the most of their experience to guide you through the investment, and hopefully to help you avoid mistakes.
• Streamline the investment
  An SPV is a well-defined way to manage the investment process. An SPV acts like a secure collection jar to gather money from different investors and then send the cash to the chosen startup. The SPV’s legal set-up means you have a clear understanding of where your money is going and why, and how your ongoing relationship with the startup will be managed.
• Limits your risk
  The SPV is often a ‘limited liability company’ – this protects you by limiting your risk to only the specific investment made by the SPV. This helps mitigate risks related to the investee company’s wider activities.

What are the downsides of investing via an SPV?

SPVs aren’t a perfect solution for investing as a group:

• Limits your control and flexibility
  After you commit to an SPV, your investment is governed by the SVP’s rules. You won’t be able to withdraw your money or change how it’s allocated.
• Requires more admin to set up
  Joining an SPV can add more layers of complexity and governance when you initially make the investment. SPV members often share the cost of setting up the SPV, and the carry fee for the organiser, and you might need to spend more time on admin or on complying with your obligations to the SPV.
• Restricts you to only one investment
  SPVs invest into one company only so if that company fails, you won’t see any return on your investment. Syndicates which instead operate as a mini fund, or by making various investments, allow you to diversify your portfolio.
• Might not give you voting rights
  With an SPV investment, the SPV is the shareholder on the company’s cap table, not the individual investors so the SPV manager votes on behalf of the SPV. To have more say in the decision-making at the startup you invest in, you’d need to invest directly.

As with all investments in startups, the success of an investment via an SPV depends on the performance of the target company. This type of investment is high risk with no guarantee of a return.

Different countries have different rules for SPVs

The rules governing special purpose vehicles differ depending on the law in the country where the SPV is incorporated. For example, for SPVs incorporated in the US raising over $10 million, the limit is 100 investors.

You might also find the number of members restricted by the legal provider setting up the SPV for you.

Alternatives to SPVs

For a group of angel investors, using a special purpose vehicle is not the only way to make an investment in a startup. Here are a few alternatives:

Direct investment

You can invest directly in a startup without needing to set up an SPV. In this case, each investor in your group negotiates their own investment terms directly with the startup.

You can use a platform such as SeedLegals to negotiate and sign your agreement. Investing directly gives you more autonomy in the deal and your relationship with the startup, but for the startup, it’s more complicated to coordinate multiple investors.

Convertible loan

You could opt to support a startup via a convertible loan (at SeedLegals, these are called SeedNOTEs). These agreements are short-term loans to the startup that either convert into shares (usually at the next funding round) or the loan is repaid in full with agreed interest.

Startup founders often like convertible loan notes because they don’t need to determine the company valuation to sign the loan agreement.

You might prefer to use a convertible note because they give you specific protections and a discount on shares in a future funding round. If the startup thrives, your loan converts into equity and you get a stake in the company, often at discount. But if the company doesn’t raise a funding round, you might get your money back with interest – if the startup has set the convertible loan note to convert at maturity or be repaid.

SeedLegals Syndicate

With SeedLegals Syndicate*, there’s no need to go to the time and expense of creating an SPV for your deal, your syndicate can invest as a group using the SeedLegals MPL Nominees company.
You can use SeedLegals Syndicate to generate and share the legal documents to create your syndicate before you invest together in a startup fundraising on SeedLegals.

Equity crowdfunding

Your group of investors could collaborate to invest via crowdfunding in startups. Crowdfunding platforms have the legal structure set up behind the scenes so making an investment is fast and easy. Typically investors use crowdfunding platforms to invest smaller amounts into multiple companies.

As an investor via crowdfunding, you don’t hold the shares yourself. They’re held by the crowdfunding platform’s nominee company on behalf of all the crowd investors. For the startup raising via the crowdfunding platform, the crowd investors appear as one line on their cap table: the nominee company.

Talk to the experts

At SeedLegals, we’re market-leading experts for early-stage deals. Since 2017, thousands of angels, VCs and funds have invested over £1.3 billion in companies on SeedLegals.

To get started, find out more about SeedLegals Syndicate.

* All references to SeedLegals Syndicate refer to the Syndicate service provided by SeedLegals MPL Limited, company number 14319103. SeedLegals MPL is an appointed representative of Kroll Securities Limited, which is authorised and regulated by the Financial Conduct Authority FRN: 466588