Minority Equity Investments and Alignment

“The Anchor investor sets the stage”

Being intentional on how you approach your capital raising strategies is key – that includes creating a database to help identify potential investors with specific interests that align to your investment strategies. In the investment, the anchor investor often sets the stage for others, typically representing between a third and 50% of the equity raised. So choosing that anchor investor is a major strategic initiative

It’s also important to note that driving alignment through shared security, rather than preferential treatment, works best.

In choosing who to work with, it was noted that Institutional and control investors usually get preferential  economics, whereas economics in deals with   high net worth individuals and family offices tend to favor the independent sponsor who will control the deal. There are also tax benefits of rolling transaction fees into equity, which further reinforces alignment with other investors.

Board Observer Rights and Communication

“Minimize board observer rights - you can only have one quarterback on a team”

Minimize the number of board seats and observer rights given out - having too many cooks in the kitchen doesn't work, especially at a board level. Depending on the investors, especially non-control, holding firm on not providing board observer rights is important – but in doing so you’ll need to offer more transparency. An LP advisory committee of the SPV is one idea to help foster that transparency, which allows for feedback and exposure to operational issues without giving away board observer rights. Bolstering your communication strategies with an annual or more frequent investor letter also helps add to the transparency needs. These can be delivered through an investor portal which helps create good discipline within the company.

It's also important to encourage investors to ask questions upfront. In fact, institutional investors will often require a list of items upfront so this helps support those needs. (we may need some clarity on this one)

Distribution Strategies, Capital Allocation and Exit Planning

"Taking Multiple Deals to the Same Investor Can Be Beneficial"

The administrative handling of the Special Purpose Vehicle (SPV) can be “an administrative nightmare”. Oftentimes Independent Sponsors manage them on their own, but there are also small fund administration companies entering the space that can be used to help handle the back-office tasks and allow investors to focus on managing the investment.

Independent Sponsors typically limit distributions to tax distributions and keep profits in the business unless there's an extraordinary event. Buyout investors for example are cash in when they enter and cash out when they exit. Oftentimes hands are tied by debt agreements, limiting the ability to make many distributions.

Usually cash-in is held until a larger liquidity event occurs, and profits stay with the business unless obligated for tax purposes.

It’s important to maintain relationships with capital providers - taking multiple deals to the same investor is beneficial to forming those good relationships. Personal connections and in-person visits are also still foundational and essential. And when you get to exit strategy negotiations, it’s important to set clear expectations and involve independent directors.

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Aim for a Healthy Balance of Transparency & Control

Overall, the big takeaway was that success in navigating multiple investors means using the many levers independent sponsors have to offer upfront transparencyon expectations without giving up too much control, after all you are the GP. Making sure investors are aligned from the start on governance and distribution strategies to exit strategies-  and communicating that alignment and progress consistently was instrumental to alignment and trust.

To engage with or be part of the only curated, vetted community developed by and for independent sponsors visit the Independent Sponsor Forum at https://sbia.org/independent-sponsor-forum/

 

By Stephanie McAlaine, Executive Director, Independent Sponsor Forum

February 25, 2025