Robert Sterling, an M&A and strategy advisor and investor, has issued a stark warning against investing in "3rd-layer Special Purpose Vehicles" (SPVs), asserting that their accumulated fees can reduce investor returns by as much as 43%. Sterling, who previously held corporate finance roles at Koch Industries and Cargill, described these structures as a "con" designed to bleed investors through excessive charges. His caution highlights a significant concern within complex investment landscapes.
A 3rd-layer SPV is defined as an investment vehicle that invests in another SPV, which in turn invests in yet another SPV, before finally investing in the actual target company. Sterling likened this structure to "multiple extension cords daisy-chained together to reach an electrical outlet," where each cord represents an additional layer of fees. This multi-tiered setup complicates the investment path and increases costs.
According to Sterling, each SPV layer typically levies annual asset-management fees of 1-2%, often applied upfront for several years. He illustrated that for every $100,000 invested, only $70,000 to $85,000 might ultimately reach the underlying company, with the remainder consumed by these initial fees across the three layers. This upfront erosion of capital significantly reduces the effective investment amount.
Furthermore, upon the exit of an investment, each SPV layer also collects its own "carry," or performance bonus, typically ranging from 10% to 25%. Sterling's model demonstrated that a $100,000 investment in a 3rd-layer SPV, assuming a 5x return on the underlying company, would yield only $285,000 for the investor. This represents just 57% of the $500,000 return an investor would have received by directly investing the full $100,000 into the company, with the remaining 43% lost to fees and carry across the multiple layers.
While SPVs are legitimate tools used in venture capital to pool investor capital for single investments, simplify cap tables for startups, and isolate financial risk, Sterling emphasizes that the layering of these vehicles creates significant financial disadvantages. Investors are often drawn to such complex structures due to "FOMO" (fear of missing out) on highly sought-after startup allocations. However, the advisor strongly cautions against allowing this to turn investors into "the mark" in these deals.
Sterling concluded his warning by stating, "Three layers of SPVs is two too many, no matter how great the company is or how exciting the investment would otherwise be." His commentary underscores the critical importance of scrutinizing fee structures and understanding the true cost of access in multi-layered investment vehicles to protect potential returns.