EM Pro Tips: Seeding Arrangements
For many emerging managers, the greatest challenge is not sourcing investments but securing the capital to launch a first fund. In some cases, this can be addressed through seed capital or an anchor commitment into the fund or directly into the manager’s platform. These arrangements can be critical for the portfolio manager after several years of building a credible track record, as they help offset the substantial upfront costs of establishing both a fund and the investment advisory business that is often highly regulated. The tradeoff is that the manager will typically give up a share of long-term economics and agree to certain control or governance rights, making it essential to structure these deals carefully from the outset.
What Is a Seed Arrangement?
A seed arrangement is a significant early-stage investment in a new or relatively unproven manager. Unlike a standard fund subscription, a seed arrangement is often made into the manager’s operating platform rather than solely into a single fund. The investor may provide capital to the general partner entity itself to help build the manager’s business infrastructure. In return, the seed investor typically receives a bespoke package of rights at both the GP level and the fund level, such as an equity stake or revenue share in the advisory business, coupled with preferential rights in the fund that are generally not available to other limited partners of the fund.
Common Seed Arrangement Models
Although no two seed arrangements are the same, most follow one of three models:
1. GP Stake Plus LP Commitment. The investor commits capital as a limited partner and also acquires an equity interest in the GP or manager, often with preferred economics in the GP entity that allow the investor to recoup its invested capital from GP-level distributions before profits are shared more broadly with the portfolio manager and other principals of the manager. The investor’s value lies in access to GP revenue streams, including carried interest and management fees, as well as enhanced preferential rights as a limited partner of the fund.
2. Revenue Sharing Plus LP Commitment. The investor does not take equity in the GP but instead negotiates a contractual right to a share of the manager’s revenue, usually from management fees and carried interest, which may extend across multiple funds or until a specified return threshold is achieved. The investor will also make a capital commitment to the fund and receive enhanced rights as a limited partner of the fund. Some investors prefer this structure over an equity interest in the GP, as equity stakes can attract higher regulatory scrutiny and may require the investor to be disclosed in the manager’s Form ADV, a regulatory filing that investment advisers make to the SEC that is accessible to the public.
3. Anchor LP. The investor acts as an early limited partner, serving as an anchor to the fund, and receives enhanced economics such as discounted management fees or carry, along with expanded reporting and governance rights with respect to the fund that are not generally available to other limited partners of the fund
The Tradeoff and Control Considerations
All seed deals involve a tradeoff: early capital in exchange for enhanced economics or influence over the GP platform or the fund. Most seed investors avoid taking control to limit “control person” liability under SEC rules, which can expose them to joint liability for securities law violations by the manager. For this main reason, ownership stakes are generally kept well below 25%, often in the 5% to 10% range, and structured to remain passive. Regulators assess both equity ownership and governance influence in determining control, so investors should be cautious about negotiating excessive veto or consent rights that could inadvertently confer control status and create liability exposure. From the manager’s perspective, these same considerations can be used strategically in negotiations to limit investor governance rights.
When equity is involved, the relationship is governed by the GP’s organizational documents, such as an LLC operating agreement or partnership agreement. In other cases, a framework or revenue-sharing agreement will set out the economic rights, governance provisions and other mechanics.
Key Issues to Consider in Seed Arrangements
Seed arrangements are often complex and can influence a manager’s trajectory long after the capital is deployed by the investor. The following issues should be addressed clearly in any negotiation:
1. Scope of Rights and Capacity. Define whether the investor’s rights apply only to the current fund or also to successor funds, adjacent strategies or special purpose vehicles. Avoid broad or imprecise definitions of “successor fund” or “related vehicle,” which could unintentionally grant the investor rights in future ventures without additional commitments, even if the strategy of such future ventures is significantly different. If capacity rights are included, determine whether they are subject to minimum capital commitments in future funds, similar to a pay-to-play mechanism, as well as any other applicable thresholds or time limits. For instance, the agreement could provide that if the investor does not commit at least the same amount of capital to the next fund as it committed to the current fund, the capacity right will not be offered for that next fund and will terminate with respect to all subsequent funds.
2. Most Favored Nation. MFN provisions can significantly limit a manager’s flexibility with later investors. Absolute MFNs require that any better terms offered to a subsequent investor be extended to the seed investor, which can be especially problematic if the seed investor’s deal already includes unique elements such as GP equity or revenue sharing. Tiered or commitment-based MFNs provide more room for negotiation and are easier to manage. The seed investor’s rights should be expressly carved out from the standard MFN provisions in fund documents to avoid inadvertently extending those rights to other LPs that are not seed investors.
3. GP Economics and Revenue Sharing. If the arrangement involves sharing carried interest, management fees or other GP revenues, clearly define whether the sharing applies only to the current fund or extends to future funds, co-investment vehicles, managed accounts or SPVs. Consider whether there will be sunset provisions, step-downs in the percentage after certain return thresholds are met, or dilution mechanics if equity is issued to new team members. Address whether the investor’s interest is transferable and whether it can be diluted in future transactions. Managers should be cautious about giving away too much of the management fee stream, as this can impair the GP’s ability to fund operations, expand the team and ultimately grow the platform.
4. Governance and Operational Provisions. Seed investors may request LP advisory committee seats, enhanced reporting, or consent rights over key GP and fund decisions. These should be carefully limited to avoid conferring excessive control or creating tension with other LPs in later funds. Governance rights can be tied to a minimum commitment threshold or expire after the first flagship fund (or second flagship fund). Operational covenants, such as non-competes, time commitments, or restrictions on launching new strategies, should be balanced to protect the investor’s position without unduly restricting the GP’s ability to adapt if the relationship changes.
5. Exit, Dilution, and Branding. If GP equity is part of the deal, establish clear buyout rights, valuation methodologies and dilution mechanics at the outset. Consider whether the GP has a right to repurchase the equity, and under what terms, and whether change-of-control provisions will be triggered in future strategic transactions. Branding rights should also be addressed early. Publicly identifying the investor as an anchor can add credibility and help fundraising, but it can also create challenges if the investor is associated with competitors of other fund investors, has a controversial reputation or operates in markets that could lead to perceived conflicts.
Final Thoughts
A seed commitment can be the catalyst for launching and scaling a fund and an investment advisory business, but it must be structured with foresight. Terms that seem attractive in the first fund can become long-term constraints if rights are too broad or economics too generous. Managers should assess how the arrangement will affect future funds, strategic pivots of the manager and current and future partner relationships.
At AnchorPoint, we work with fund sponsors and seed investors to evaluate and negotiate seed arrangements that align with their long-term objectives. Whether you are a manager considering an anchor investor’s proposal, laying the foundation for your first fund or an investor looking to seed a promising team, we can help you anticipate the downstream consequences and structure terms that support sustainable growth.
