What you need to know about Special Purpose Vehicles.
A special purpose vehicle (SPV) is a legally structured entity used to pool capital and sometimes used as a subsidiary designed by a parent company to mitigate financial risk.
Since these entities are designated legally as a separate company (usually a LLC), SPV obligations will remain secure, even if the parent company or underlying private asset experiences bankruptcy.
An SPV is created to pool investment capital from investors or by a parent company to safeguard or silo assets in a different asset that, more often than not, is not represented on the parent company’s balance sheet. In this way, the asset(s) attributed to the investors or company are protected. Across the board, SPVs help to build joining ventures, ensure asset security, protect specific corporate assets, or enact other investment or financial transactions.
The underlying private assets that SPVs are used to to invest in can range from startup equity, private company debt, real estate, alternative assets, secondaries or other high-risk ventures or investments. Regardless of the purpose, SPVs protect the partners in the entity from risk, even if the underlying asset flounders.
In other instances, an SPV may be designed exclusively to securitize debt so investors are confident in ultimate reimbursement.
Overall, operations of the SPV pertain solely to the acquisition and financing of specific assets. Given the nature of the separate legal structure, this architecture isolates the risks of the associated activities engineered by the startup company or asset.
There are a variety of investor types in an SPV, including an individual, trust, limited partnership, LLC or other corporation, or retirement accounts, among many other options.
As discussed above, SPVs have a variety of uses for a variety of purposes. Some of the most common SPV uses include:
1. Pooling Investment Capital
The most common use for SPVs today is for deal-by-deal investment into early stage startup companies. Within private capital raising, SPVs are also called sidecars, syndicates, PE funds, nano funds, pledge funds, LLCs or co-investing. Raising capital with an SPV allows for up to 250 accredited investors to pool their investment capital into a startup company. Startup companies that are fundraising like SPVs because it keeps the startup's cap table clean.
2. Risk Sharing
Certain projects entail more financial risks than others. If a company foresees involvement in a high-risk project, by creating an SPV, that company can legally isolate the project risks.
Another common reason to create an SPV, securitization, enables assurance of return on investment. Consider, for example, when a bank issues mortgage-backed securities from a pool of existing mortgages. The bank can then isolate those loans from other existing financial obligations through creation of an SPV. The creation of this vehicle enables investors in the mortgage-backed securities to receive their payments before other bank creditors
4. Asset Transfer
Some assets can be more complicated than others. To make these assets easier to transfer, a parent company can build an SPV to own those hard-to-transfer assets. When the company wants to sell those assets, they can actually sell the SPV itself, completing a merger and acquisition process with the purchasing company.
5. Property Sale
Another common use of SPVs is for sales of property. If the taxes on a specific property sale outweigh the gain from the sale, an SPV is a solution. By creating an SPV that owns the sale property, the parent company can then sell the SPV rather than the properties. The parent company will then pay taxes on the gains from the sale of the SPV, rather than having to pay the sales tax of the properties
There are many advantages of SPVs for your capital raising needs. Below, we break down some of the most beneficial aspects of SPVs:
While these are just a few of the many benefits that come with SPVs, that does not mean that the structure is not without risk. Like any investment in private assets, if the asset held by an SPV does not result in a return on the investment, the investors in the SPV lose money.
While the risk may seem overwhelming on paper, with help from a first-to-market industry leader that has simplified the setting up and running deals with SPVs you can diversify your investment capital into multiple startups using multiple SPVs and investors instead of just investing directly into one.
To learn more about how Assure can help you ensure the success of your next venture, click here.