Special purpose vehicles (SPVs) are legal entities created to pool investments for a specific purpose, often used to fund startups. They are a powerful tool for both startups and investors, enabling startups to streamline their cap tables while providing investors with opportunities for targeted investment.
However, while SPVs provide many advantages, they also come with certain challenges and limitations. In this guide, we’ll explore the role of SPVs in startup funding and outline the key considerations for those looking to use them.
What is an SPV?
An SPV, or special purpose entity (SPE), is a legal entity created for a specific financial purpose, such as managing investments or holding assets.
SPVs operate as independent entities and are commonly used to pool investor capital for targeted ventures. They can be created by individuals or groups looking to co-invest, rather than solely by corporate organizations.
This structure allows SPVs to separate financial risks from other investments or interests, making them valuable tools for investors seeking focused opportunities. By functioning as standalone entities, SPVs offer flexibility and risk isolation, regardless of whether they are linked to a parent company or formed by a group of independent investors.
Designed to manage projects requiring clear financial separation, SPVs enable investors to consolidate resources and direct their capital toward a single venture or asset. Whether used to oversee an investment fund or finance a major project, SPVs provide a flexible and controlled approach to handling complex financial arrangements.
In the context of startup funding, SPVs play an essential role by offering a streamlined method for bringing together capital from multiple investors. But how exactly do they work?
How SPVs Work in Startup Funding
SPVs are typically structured as limited liability companies (LLCs) or limited partnerships (LPs). How they operate can vary, but here are some general guidelines:
What Is the Process of Setting up an SPV?
A lead investor or sponsor creates the SPV, outlining its purpose and investment strategy. Important steps include selecting a name, registering the SPV with the relevant authorities, and appointing directors and shareholders. During the life of the SPV, you will also need to run its accounting, tax declarations etc.
During the fundraising phase, the SPV leads will pitch the opportunity to potential co-investors. They pitch the opportunity, explaining the expected returns and risks. Investors then contribute a set amount based on the terms agreed upon.
How Do You Use an SPV to Fund a Startup?
Once the capital is sourced, the SPV invests it into the startup. Early-stage startups typically use this funding for key areas such as team expansion, marketing, research, and scaling operations.
Ideally, investors should be well informed of how their money will be used. A good SPV manager will ensure transparency, providing a clear strategy that outlines how their contributions are driving the startup toward success.
Who Is Involved and What Are Their Responsibilities?
SPVs function much like companies, often with a director or third-party manager overseeing operations. They handle the financials, ensure compliance with the agreed terms and legal requirements, and maintain regular communication with investors.
That “regular communication” typically means monitoring the startup’s performance and reporting back to investors. Investors themselves have minimal involvement, with their primary obligation being to pay personal income tax on any profits earned.
Key Use Cases for SPVs in Startup Funding
SPVs are utilised in two primary ways within startup funding:
- Founder SPVs: Founders often group business angels into an SPV to keep their cap table clean. By consolidating multiple investors into a single entity, the startup can simplify its ownership structure, making future rounds of fundraising more straightforward. This helps avoid the complications of having too many individual investors on the cap table, streamlining decision-making and maintaining control over the startup’s equity.
- Investor SPVs: In other cases, an investor who has secured an allocation in a startup's funding round may form an SPV to pool money from additional investors interested in joining. This is often seen in investor syndicates or venture capital (VC) funds creating co-investment vehicles. In these scenarios, the lead investor negotiates terms with the startup and offers others the chance to participate, enabling smaller investors to access deals they might not have been able to individually.
Advantages of Using SPVs for Startup Funding
There are several advantages of using SPVs for startup funding, including:
- Resource Pooling: Startups can access capital from a broad range of investors. For the investors, pooling smaller contributions allows them to participate in high-potential opportunities without needing to commit large sums individually.
- Management Control: Compared to direct investments, SPVs give lead investors or managers greater control over how funds are managed.
- Cap Table Simplification: By consolidating many small investors into a single entity, SPVs make cap table management much easier for startups. This allows them to keep investor relationships organized and manageable as the business scales rapidly (and more investors come on board).
- Deal Flow and Private Market Access: SPVs play a crucial role in sharing deal flow among investors, especially those seeking access to private market opportunities. By creating a dedicated investment vehicle, sponsors can offer investors access to promising startups or ventures that would otherwise be difficult to reach.
Challenges and Considerations
Naturally, there are also challenges and considerations to keep in mind:
- Complex Setup and Management: Setting up an SPV can be complicated, involving multiple parties and overlapping interests. Managing portfolios of SPVs can also be challenging, especially when dealing with multi-currency and inter-company transactions across different regions[1].
- Costs and Administrative Burdens: There are significant costs involved in establishing and maintaining an SPV, including legal, accounting and management fees. Using a third-party SPV provider can however decrease expenses, with set-up fees that can come in under what accounting alone can often cost.
- Legal and Regulatory Requirements: SPVs must comply with specific regulations, and failure to do so can result in legal and financial consequences.
To overcome these challenges, it’s essential to prioritize transparency in reporting, maintain clear communication with all stakeholders and actively avoid conflicts of interest. Regular audits and careful oversight will also help keep the SPV on track and compliant.
Example Case Study: Homaio
In 2023, Valentin Lautier founded Homaio, a startup aimed at unlocking Compliance Carbon Markets for individual investors.
To raise funds, Lautier used Roundtable to set up an SPV, grouping smaller investors together. This approach allowed him to involve friends, family and smaller ticket investors without overcrowding his cap table.
The Roundtable SPV raised €100,000 from around 25 investors, simplifying the management of smaller contributions. Lautier credits Roundtable for streamlining the fundraising process and making it possible to onboard smaller investors efficiently.
Comparison with Other Funding Methods
Now, let’s compare how SPVs work with direct investments and venture capital (VC) funds:
SPVs vs. Direct Investments
SPVs are typically focused on a single investment, allowing investors to pool capital,
which means they can contribute smaller amounts (sometimes as low as $1,000). Direct investments often have higher minimums and can target a broader range of opportunities beyond startups.
SPVs vs. VC Funds
SPVs usually make one targeted investment, while venture capital funds invest in multiple startups over time. SPVs can also manage assets beyond startups, such as real estate or private equity, whereas VC funds specialize in early-stage businesses and growth companies.
In the context of startups, SPVs allow investors to back specific companies, but the risk is concentrated in one deal. VC funds diversify risk across multiple investments, though they offer less control over individual investments.
Since SPVs usually aren't regulated, they tend to also be a lot cheaper than funds, which is worth bearing in mind.
Future Trends in SPVs and Startup Funding
SPVs are gaining popularity across Europe, thanks to the rise of accessible investment platforms and apps3]. They’re also becoming a go-to tool for property investors, with SPV buy-to-lets doubling in the UK between 2020 and 2022[4].
In the tech sector, venture capitalists are increasingly using SPVs to sell shares in AI companies like OpenAI and Groq to smaller investors.
As more people look to get involved in investing, SPVs will continue to rise in popularity.
SPVs in Startup Funding: Key Takeaways
SPVs offer a flexible, efficient way to raise funds and manage investments in startups. They help streamline cap tables, mitigate risk and provide greater control over investment management.
For founders and investors, SPVs present a powerful tool for structuring investments, but careful planning and a solid understanding of the associated challenges are crucial for success.
To learn how to set up an SPV with Roundtable, book a demo today!
References
[1] https://www.accountsiq.com/accounting-glossary/what-are-special-purpose-vehicles/
[2] https://www.linkedin.com/pulse/art-creating-spv-special-purpose-vehicle-7-essential-ogbechie-rust/
[3] https://sifted.eu/articles/special-purpose-vehicles-101
[4] https://www.foundationforintermediaries.co.uk/news/spvs-for-buy-to-let-doubled-in-5-years/
[6] https://www.brickken.com/en/post/blog-special-purpose-vehicle-in-asset-tokenization
