Target Audience
Employees
of US based venture capital backed companies who want more equity upside.
If your company is not based in the US, see this guide
Investors: see Investor’s Guide
CEOs: see CEO’s Guide
Board members: see Board Member’s Guide
Everyone: see the Master Plan
Overview
You can choose how much equity upside you have in your employer.
How? Buy it with other people’s money.
Raise capital from your network by forming a special purpose vehicle (SPV). An SPV is a one time use fund that collects capital from investors and makes a single investment.
As the SPV’s organizer, you earn a % of the profits in an exit (carry).
This can potentially be many multiples of your options/RSUs.
You’re only limited by how much allocation (the amount the CEO will let you invest in each round) and investor capital you can gather.
How is this different from asking for more incentive stock options (ISOs)? A company sets aside ~10% of the total outstanding equity to be common shares that go into an “option pool”. Options (the right to purchase common stock at a significant discount to preferred stock) are a form of compensation. The rest of the shares are either common shares that founders (or former employees) own or preferred shares that investors own. A good heuristic is that investors buy preferred shares at market price. Employees buy common shares at a heavily discounted price (the strike price of the options).
The number of common shares in the options pool is a hard upper limit on how many shares employees can buy at any given time. Even the most desirable employee can’t buy more common shares than are in the option pool. The company needs board approval to expand the pool. The company uses options to recruit and retain employees so negotiating for more options is almost a zero sum game against current and future employees.
Option grants are an expensive form of dilution to the company. This is because the options let the employee buy shares from the company at a significant discount to what an investor would pay. So if an investor would pay $10 for a share, the company lets the employee buy virtually the same share for $1. This is why companies are very reluctant to give out any more options than absolutely necessary.
In contrast, a company needs to raise a certain amount at a given round. Capital is a commodity. Everyone's money spends the same. The company picks the lead investors for a round and those lead investors will receive board seats. The round’s capital doesn’t all have to come from a lead investor. Often the majority comes from the lead and the rest from existing and new minority investors. This is irrelevant to the company as long as the company gets the desired:
Terms (preferred price, liquidation preference, etc.)
Board members
Timeline
Total capital raised
For example, the company will have difficulty granting an employee options that let the employee buy 5% of the company through discounted common shares. Even if the employee has joined as a late co-founder or as one of the first 5-10 employees. The company is far more open to the employee buying that level of ownership through preferred shares with cash at market price. This solves three problems for the company:
The company gets capital at a market price for its shares
The employee will act more like a founder.
The employee is far less likely to voluntarily resign to pursue other opportunities.
Example Scenario
If the company is raising a Series A at a preferred share price of $1 and you raise $200k in commitments:
You’ll submit the deal to AngelList to form a Special Purpose Vehicle (a one time use fund)
The investors will execute subscription docs with AngelList and wire/ACH funds to AngelList’s designated account
AngelList will sign a purchase agreement with the company on behalf of the SPV and wire $200k to the company
The SPV now owns preferred shares in the company with a total value of $200k.
If the company does not raise another round and then gets bought at a preferred share price of $10, then
The SPV capital value is $2m
200k shares * $10/share
The profit to the SPV is $1.8m
$2m - $0.2m
Carried interest to the SPV lead is $360k
20% * $1.8m
The aggregate carry can skyrocket when you lead SPVs into multiple rounds. You earn the sum of all the carried interest generated by each SPV. The carry also scales as a linear function of capital raised. Roughly every $5 you raise from investors for a given round has the same upside as investing $1 of your own personal capital without proportional financial downside.
If you raise a $10m SPV and the company exits at a 2x multiple, then your carried interest is $2m ($20m-$10m = $10m, $10m * 20% = $2m)
These examples are for illustration only and don’t take into account dilution, taxes, fees, etc.
To clarify: there is always the downside risk of the company failing in which case no carry will be earned by the lead and the investors lose their principal.
Here is an example financial model (video) you can use to run different scenarios:
Before starting: Get your inbox under control
Your email communication volume will increase dramatically during this process. You might raise millions more if you can efficiently process email. This can become tens of millions of dollars in extra carry.
Make sure you can get to Inbox Zero consistently in both your personal and work email inboxes before you proceed to the next steps.
See this guide and tools like Superhuman.
Confirm ability to invest with the CEO
WARNING: ONLY SPEAK WITH THE CEO ABOUT ALLOCATION. DO NOT SPEAK WITH ANYONE ELSE (HIRING MANAGER, COLLEAGUES, ETC.)
Reasons for only speaking with the CEO
The CEO is generally the only person who can make a decision in this area
Speaking with other employees may lead them to think that you are competing with them. They may also resent because they see this as unfair. There is no rational basis for them to think of this as competition or as unfair. Allocation is not a form of compensation like salary.
This next step is the most psychologically difficult but the easiest to execute because VC backed CEOs
likely have multiple SPVs on their cap table
prefer raising capital from someone they already trust.
Email your CEO the following:
Hi <your CEO’s first name>,
I’m super bullish on everything we’re doing and I’d like to invest in <your company> using an employee led SPV.
Are you open to providing allocation into a priced round or an uncapped SAFE at 20% discount to the next priced round?
Thanks!
<Your name>”If your CEO replies
“Yes”
“How much”
“Thanks! Let me check with my LPs and I’ll get back to you. Could you share the most recent investor deck?”
“What terms?”
“Preferred shares in a priced round are ideal. If a priced round isn’t open, I’m open to an uncapped SAFE at a discount to the next round.
“Let’s discuss this live”
Coordinate a time.
Read the rest of this guide and the CEO’s guide before the discussion
“No, because <reasons>”
DM me in the Slack group and we’ll craft next steps.
Important Context re Fundraising
Only accredited investors can invest in the SPV. Accredited investors generally have
Income > $200k in the last 2 years
Net worth > $1m excluding primary residence
They can also be a trust > $5m in assets or an entity where all the equity owners are accredited investors
You will need to raise $100k from your network for the deal to become viable and for me to surface the deal to my LP network. The initial $100k is a proxy for your network’s respect for your judgement/execution.
You will likely overestimate the # of accredited investors among your strong ties but severely underestimate the # of accredited investors in your weak ties.
Assume that you will need to reach out to every single one of your LinkedIn connections, Twitter followers, etc. to fill the allocation.
You’ll encounter investors on a spectrum from relationship driven to financially driven
Relationship investors
You’ll see an initial surge of interest and commits from your true fans (friends, family, former colleagues, etc.)
They are investing because you are leading the investment. They may be indifferent to the actual investment, structure, etc.
The bigger your audience/network, the more true fans you’ll have
Financial investors
They evaluate the investment on a purely financial basis
You will likely get much larger commits from this group than you do from your true fans but it will be more work. Learning how to persuade this group is a valuable and compounding skill set
More likely to be 2nd and 3rd degree connections.
They will ask hard questions and expect thorough answers. Embrace this stress test of your conviction. You may find that it may not make sense to invest or even continue working at the company. This is a good thing for you long term.
Fundraising calibration
Expect to
Pitch at least 100 qualified investors
Close 50 investors who sign and wire funds
The average close rate hovers around 50% and tends to improve with more pitches.
This sounds like a lot but not all pitches are meetings.
Some of those pitches will be via email/text so you will get a fast yes or no.
Some may be more involved but shouldn’t be more than one 30m call/Zoom.
Anything more than a 30m call/Zoom should only be for a >$50k commitment
If a potential investor passes, then there is no need to follow up with them for this investment. If someone is not interested, then there is nothing you can do to change their mind. Each SPV investment is unique. Someone who is not interested at this stage may want to invest in a later stage.
Prioritize reaching out to the following people in your network about the SPV
CEOs and executives of for-profit companies, especially private ones
General Partners or other employees at
Private Equity firms
Hedge Funds
Real Estate Funds/Companies
Avoid reaching out to partners or other employees at VC firms.
Expect to reach out to 50 people per day at minimum.
There are tools that may help automate this process
SalesQL for scraping LinkedIn contacts
MixMax for mail merge and scheduling
Streak for CRM
Building the deal materials
Build a deal folder that has a
Deal outline
A one page high level description of all the deal terms and relevant information including a link to the most recent fundraising deck.
We will set the minimum investment to $1k unless it needs to be higher for some reason.
Pipeline spreadsheet
A way to track investors and commitments
Company provided investor deck
Fundraising scripts.
Investor Qualification and Indicators of Interest
Send the below to your network
“Hey! I’m loving my time at <company name>
I may have an opportunity to invest in the company and invite a few friends to participate using an employee led SPV
Are you interested in learning more?
Thanks!
<Your first name>
If they are interested, share the deck with them via Google Drive
Finalize allocation with the CEO
Once you have >$100k in soft commits, email the CEO:
“Hi <CEO’s first name>, I have <$xxxk> in commits for the employee led SPV. Can you provide deal docs and confirm who I should coordinate with regarding doc execution and wires?”
You can always ask for more allocation if more commits come in later.
Create your syndicate
Create a Syndicate with AngelList (there are other Service Providers but I’ve found AngelList great so far for this use case)
Click
“Get Started”
“Lead a syndicate”
“+ Create A New Syndicate”
Fill out the form
Syndicate name: your first and last name or name that people know you by
Syndicate high-concept pitch: Operator/Investor
How many deals: 12
Minimum LP investment per deal: $1k
What carry will investors pay: 20
Pitch to investors: copy/paste your LinkedIn headline/about section
Dealflow sharing: “All deals where I have sufficient allocation”
Privacy: Promoted
Click “Start Syndicate”
Once you are able to see your Syndicate view
Click
“LP network” on the left side menu
“Invite” on the menu that expands
Copy the link
Invite everyone who expressed interest in investing to join your syndicate.
AngelList will onboard the people you invite
Verify accreditation
Connect bank accounts
KYC/AML, etc.
Enable you to message them about the deal
Go back to the AngelList Syndicate portal, fill out the info, and click “New Deal
AngelList will
Give you access to the SPV organizer portal where you can submit information about the deal (company name, valuation, stage, any supporting docs like a deck, etc.)
Assign you an account manager to coordinate the process
Your account manager will let you know what docs to share with AngelList and will coordinate funds getting to the company
Generate a link to the live deal page you can share with potential investors
Filling the allocation
Email the deal link to the investors that soft committed.
Follow up with them to execute their commitment and transfer funds.
Continue sourcing new investors. There is no marginal cash cost to bringing in new investors. Raising more capital lowers the expense ratio of the SPV. The expense ratio is the $8k setup fee paid by investors divided by the total amount raised.
Follow up every other day with your investors until the AngelList dashboard shows the commitments in the Pipeline spreadsheet are fully funded.
If we are oversubscribed (investors want to invest more than the allocation you were given by CEO)
Contact the CEO or whoever you fundraising point of contact is and ask for additional allocation
“Hey X, I’d like to raise our allocation to <total desired additional amount is>, is that feasible?”
AngelList will
collect funds from all investors
execute the company’s fundraising docs and wire the capital to the company
Issue carry assignment agreements that confirm your share of the profits if and when the SPV has a successful exit.
The company will update its cap table with the SPV’s holdings.
Carry assignment
Carry entity setup
Ask your lawyer if you should have your SPV provider assign the carry to you directly or if you should form an entity (LLC, trust, etc.) to receive the carry
see Service Providers for formation companies and fund formation attorneys
ERA registration
Ask your lawyer if you need to register as an Exempt Reporting Advisor. This is often dependent on which state you reside in, total assets you advise on, etc.
FAQ
What is the operational overhead of the SPV to the employee after the deal has closed?
There is virtually no additional work required by the employee. Once the SPV is ready to make distributions at exit, the fund admin will prepare tax docs and handle the distributions.
When is the optimal time to ask for an allocation?
The optimal time to ask for allocation is after you’ve been at the company for at least 3 months. This gives the employee and company a 90 day full time mutual due diligence period.
An employee should not ask for allocation if they are planning to leave the company soon.
The company may announce a priced round during the first 3 months of the employee’s tenure. It’s up to the employee if they want to run the above process earlier than 3 months in their tenure.
If top tier investors are pursuing the company, why would it take capital from an employee led SPV?
Startups generally spend a large portion of raised capital on salaries. This makes talent retention extremely important for startup founders/executives. The total carry from many employee led SPVs can incentivize the employee to stay at the company longer than they would have if they just received options. Cash compensation may not be as competitive but the prospective carry may more than make up for this. This reduces voluntary turnover after employees pass their 1 year cliff. Employees often start receiving competitive offers from other employers after their cliff.
The carry does not vest like options. An employee can raise an SPV and then leave right after the deal closes. But, raising from their network is a strong social incentive to stay at the company. Staying at the company is a compounding benefit because the employee can raise more SPVs.
Do I need to be an accredited investor to be an advisor (one who receives carry) to an SPV?
No, but confirm this with your attorney
Can the SPV do multiple closings?
Yes, for example, the company is raising on a SAFE in between priced rounds
The employee led SPV raises $500k, the SPV wires $500k to the company and executes the SAFE for $500k
The employee led SPV stays open and raises another $400k, wires it to the company, and executes a $400k SAFE.
This should be functionally equivalent to all the SPV raising all the capital up front and executing a $900k SAFE.
Can the employee invest in the SPV itself?
Yes if the employee is an accredited investor.
What are the tradeoffs of the employee investing in the SPV?
The employee can't invest unless the employee qualifies as an accredited investor. Generally SPV leads commit $1k if they are also accredited.
Can this backfire on an employee in any way? Could asking for allocation and/or filling it with an SPV upset the CEO, other executives, etc.?
Anything is possible but it’s hard to imagine a scenario where this occurs.
Have any CEOs said that an employee asking for allocation is pushy/inappropriate?
No. Almost all CEOs who have encountered employee led SPVs have been enthusiastic about employees investing.
Multiple employees working together
Can multiple employees approach the CEO together to ask for an allocation?
I don't recommend this. Each employee should separately approach the CEO. They may choose to collaborate on fundraising together later.
Does each employee set up their own SPV or can employees use one SPV and share carry?
Each employee should lead their own SPV so that there are minimal dependencies.
Can SPV leads divide carry in proportion to the amount each co-lead raised?
This is a gray area and you should consult with an attorney. Generally you can split carry on other factors (every lead receives equal carry, total allocation sourced, etc.). Sharing carry proportional to how much each lead raised may be broker-dealer territory.
What do investors think of an employee leading a SPV while selling common shares in a secondary?
Shouldn’t be an issue though the employee should disclose this to the SPV investors. It’s up to each investor. An employee is already concentrated in the company through many means (sole salary, options, reputation, SPV carry, etc.). It generally does not alter incentives for the employee to have some liquidity. Check with counsel.
Can the employee offer different carry terms to different investors
Employees should by default reject any attempt to negotiate carry
“I don’t have any flexibility on the carry since there is ample demand for the allocation. 20% carry is the industry standard for SPVs. This guide describes common carry schedules across the private funds industry”.
If needed, the employee can use a “side-letter” to offer different carry terms for an investor. This letter overrides the SPV’s formation/subscription documents for this specific investor. AngelList can help with this
What should an employee say if an investor asks for a hurdle?
Employees should reject the ask for a hurdle. Hurdles are uncommon in venture investing. The majority of investors in early/growth stage companies invest without a hurdle.
Can an employee share carry with a co-lead in exchange for help with fundraising?
Generally yes, though it’s a gray area to divide carry proportional to capital raised. Speak with an attorney if you’re working with a partner.
How is carried interest calculated at exit?
IPO
The SPV administrator calculates the average of the closing prices for the first 5 trading days. That share price will be used as the “exit” price.
For example, assume an SPV bought 100 shares at $1/share and the average of the first 5 days of trading’s closing prices is $10/share.
The SPV admin will calculate per share profit as $10-$1 = $9/share.
$9/share * 100 shares = $900 in profit.
$900 in profit * 20% carried interest = $180 in carried interest.
$180 / $10/share = 18 shares that the SPV fund admin will transfer to the carry recipients. If dividing the carried interest by the exit price leads to a remainder, then the SPV fund admin will distribute the remainder amount in cash.
Secondary sale or acquisition
The SPV will take the sale or acquisition price as the exit price and conduct the same calculation as above.
The carried interest may be distributed in all cash, shares of the acquirer, or a mix of both.
Can an employee lead an SPV into a non US based company?
Yes. If using AngelList
The company will need to execute a tax reps letter stating that they don’t make the majority of their revenue from weapons or alcohol.
The SPV can only accept investors who are not based in the country that the company is headquartered in.
AngelList will collect USD from investors and will wire either USD to the company’s USD denominated bank account. Or AngelLis can convert to the target currency and wire the foreign currency to the company’s bank account.
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