What is a spin-out?

A spin-out is where a team of individuals leaves its current employer (whether a management group or a larger institution, such as a bank) to establish a new business. This business may have links to the former employer or may be independent.

Depending on the events leading up to the spin-out, there may be the opportunity to seed the new business with a legacy portfolio. Assuming such a portfolio is in good order, it may be attractive for potential investors to have some visibility on some of the new company's investments.

When financing a legacy portfolio, care should be taken to avoid taking investments merely from dedicated secondary investors, as these may be unable to participate in future Funds marketed by the Management Group.

Employment

When establishing a Management Group as a spin-out from an existing organisation, or when finding employees from elsewhere, it is important to consider whether any restrictions prevent the person from joining the Management Group. If restrictions exist, whether in their current or former employment contracts, legal advice should be sought on how to overcome them.

Some common restrictions include:

  • notice periods and whether the employee in question is required by their contract of employment to serve their notice period on 'gardening leave' or otherwise.
  • good leaver/bad leaver provisions which may affect their receipt of carried interest or deferred bonuses. A good leaver typically is one who leaves due to retirement at the normal retirement age, redundancy, death or permanent disability. A bad leaver typically is one who is summarily dismissed or who resigns. Where a solicited employee stands to lose bonuses or carried interest entitlements as a result of resignation, the issue will need to be handled with sensitivity.
  • non-competition clauses on termination of the employment contract which prevent the employment for working for a competitor of their current employer for a certain period of time. Similarly, the employment agreements of the principals of the Management Group should also be reviewed in the context of the above considerations.

Investor

Principals of the Management Group who have worked previously in funds will need to have their previous contract of employment reviewed for any restriction on the solicitation of investors who have participated in funds managed by their previous outfit.

MJ Hudson's How to Launch a PE/VC Fund Guide can be downloaded at https://www.mjhudson.com/wp-content/uploads/2017/05/MJ-Hudson-Fund-Guide-1.pdf

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.