Understanding Co-Investments: Key Legal Considerations
Co-investments is a popular strategy for investors looking to complement their investment portfolios. This post explores what co-investments are, the legal issues they present, and the unique value they offer to investors.
What is a Co-Investment?
A co-investment is a direct investment made alongside a private equity or other investment fund by an investor who is also participating in the fund. Typically, co-investments are offered on a deal-by-deal basis and allow investors to participate in specific transactions without the fees and carried interest typically associated with the main fund. Co-investors will typically invest through a co-investment vehicle that will invest on a side-by-side basis with the main fund.
For example, if a private equity fund is acquiring a company and requires additional capital beyond its fund resources or its investment limitations, it may offer co-investment opportunities to its limited partners (LPs). These opportunities are often exclusive to select investors and can provide exposure to a single asset.
Key Legal Issues to Address in Co-Investments
While co-investments can offer significant benefits, there are several legal issues that investors and fund managers should address to ensure a successful arrangement:
- Investment Terms: The agreements for both the main fund and the co-investment vehicle should address whether the vehicles will acquire the same securities simultaneously, i.e., on a pari passu basis.
- Allocation of Opportunities: How co-investment opportunities are allocated among investors should be transparent and fair. The partnership agreement or side letters may govern these allocations.
- Broken Deal Expenses: Managers should clearly disclose how broken deal expenses will be allocated among the main fund and co-investors. Generally, broken deal expenses are borne by the main fund unless the co-investment vehicle becomes bound to the purchase, in which case co-investors may share the costs.
- Expense Allocation: The co-investment agreement and main fund agreement should address how expenses between the main fund and co-investment vehicle are allocated with respect to the investment. Investment expenses are typically allocated based on the investment amount of each vehicle unless the expense benefits solely one vehicle.
- Liquidity and Exit Strategy: Co-investors should clearly understand the terms governing liquidity, including exit opportunities or any restructuring events related to the investment. Fund documents typically require the co-investment vehicle to follow the main fund's exit strategy.
Conclusion
Co-investments represent a compelling opportunity for investors seeking targeted exposure and cost efficiencies. However, navigating the complexities of co-investments requires careful consideration of alignment, legal issues, and governance. With the right approach, co-investments can create value for both investors and fund managers, fostering a mutually beneficial partnership.
This article is provided for general informational purposes only and does not constitute legal or tax advice. You should always consult with a qualified attorney or tax adviser regarding your specific circumstances.