Offering Documents for Single Purpose Vehicles
A Single Purpose Vehicle (“SPV”) is a legal entity created for a limited purpose, typically to facilitate investment in a single opportunity or asset. When launching an SPV, a set of offering documents is essential to provide investors with necessary information about the entity’s purpose, structure, financial obligations and risks. In addition, effective offering documents prevents sponsors from accepting capital from non-qualified investors. With the private fund space becoming increasingly competitive, independent sponsors can set themselves apart by presenting investors with well-drafted and comprehensive offering documents. This article provides an overview of the key offering documents necessary to launch an SPV, including:
Private Placement Memorandum; and
Governing Documents (“Governing Documents”): Commercially viable and up to date governance documents, i.e. Limited Partnership Agreement, Operating Agreement, or Subscription Agreements
Private Placement Memorandum
One of the most comprehensive documents involved in an SPV launch is the Private Placement Memorandum (“PPM”). The PPM outlines the details of the investment opportunity and provides potential investors with information about the fund’s operations, strategy, and risks. Broadly, the PPM serves two purposes: (1) market the investment opportunity and (2) make disclosures that inform investor decision-making.
Many independent sponsors take the view that because an SPV’s investment strategy is limited, a PPM is not necessary. However, while there is no SEC requirement for a PPM in a private offering, a well drafted and targeted PPM may provide specific marketing, risk management, and transparency advantages without significantly increasing legal costs.
One key component of the PPM is the executive summary, which provides an overview of the SPV’s purpose and investment strategy. Because the specific investments of the SPV are generally already identified, the description of an SPV’s investment strategy is typically more detailed compared with what is usual for a fund investing in multiple assets or companies. This targeted and specific investment description may allow independent sponsors to market the SPV more effectively. While the required disclosure contained in a PPM can also generally be found in the SPV’s Governing Document, investors may struggle with both the formality and the “legalese” typical of a formal contract.
A PPM provides independent sponsors, together with their counsel, the opportunity to craft a clear and transparent description of the SPV’s terms and structure, as well as the essential elements of the investment opportunity. For example, a PPM should discuss how distributions with respect to the underlying investment are allocated and paid. This is often one of the most important sections of the PPM because it details how profits are split between investors and sponsor, in addition to any preferred return that investors may enjoy before the allocation of carried interest to the sponsor.
Another important component of the PPM is the risk factors, which detail the potential risks of the SPV’s investment strategy and its structure. Disclosure of all material risks of an investment is an essential risk mitigation tool for sponsors and, as a result, risk factor disclosure should be prominent and extensive, including material economic risks, risks specific to the investment and any risks related to the structure or terms of the SPV.
Taken together, a PPM provides investors with a holistic understanding of the investment opportunity and significantly informs their investment decision. It also helps the sponsor defend against claims that full and fair disclosure was not provided to an investor prior to the investor’s investment decision.
Governing Document
The Governing Document is the legally binding agreement between the sponsor and the investors and governs the internal operations of the SPV and sets out the rights and responsibilities of the sponsor and the investors, including fee terms.
Typically, SPVs are structured as either Delaware limited liability companies or limited partnerships. These entity forms allow the SPV to be treated as a pass-through entity for US federal income tax purposes, as well provide significant contractual flexibility to sponsors to agree to terms that are mutually beneficial to investors and the sponsor.
Subscription Documents
The Subscription Agreement is an additional contract between the SPV and the investor. It binds the investor’s commitment to the SPV and includes the amount of capital the investor is committing, subscription procedures, and representations that the investor understands the risks and terms of the investment. Importantly, the subscription agreement typically contains an exculpation and indemnification clause that protects the sponsor from liability to the investor and allows the sponsor to recover losses it may incur in connection with its management of the SPV, other than for sponsor’s fraud, gross negligence or willful misconduct.
In addition to the Subscription Agreement, the Subscription Documents also contain an investor questionnaire that is used to assess the eligibility of potential investors to invest in the SPV. If an independent sponsor is attempting to raise capital through a private offering, they should ensure that their investors are eligible to participate under the applicable registration exemptions. The investor questionnaire serves this purpose by ensuring investors meet certain regulatory thresholds based on their net worth, income, or other criteria. Furthermore, the questionnaire gauges an investor’s experience in similar investments and helps sponsors determine whether investors understand the risks involved in the investment. In essence, a well-drafted subscription agreement and investor questionnaire will protect the sponsor from investors that do not fulfill their obligations or are not qualified to invest in the SPV.
Conclusion
Launching a Single Purpose Vehicle requires detailed documentation to ensure transparency, regulatory compliance, and investor and sponsor protection. These key offering documents help investors make informed decisions, ensure the SPV operates within a clear legal and financial framework and helps the sponsor mitigate legal and regulatory risk. Proper preparation and disclosure through these documents are essential for a successful launch. Speaking to legal counsel early in the process will allow you to develop a thorough investment offering even before approaching potential investors. Sadis & Goldberg LLP offers a full suite of legal services for independent sponsors, including forming the applicable legal entities, creating sophisticated offering documents, and ensuring you are in compliance with the appropriate regulations. If you would like assistance with anything related to this article, please contact David Fitzgerald (Partner) at (212) 5738428 or dfitzgerald@sadis.com or Paul Marino (Partner) at (212) 573-8158 or pmarino@sadis.com