Tl;dr: A line by line explanation of all the legal terms in an Indication of Interest letter you will issue to limited partners that are interested in investing in your fund. You issue this to get soft commitment and push yourself to closings of your fund
As you know, raising a venture capital fund is a lot harder than raising money for a startup. You are also raising a lot more money, in many cases. To get the whole process ticking, you want to try and get prospective investors to give soft commitments you can leverage to encourage more investors to get on the choo choo train too. One thing you can do is to get prospective limited partners to sign a non-binding Indication of Interest document.
No one likes virgins in VC land. No one wants to be the first. You want to be the last (Trying hard not to make this sound gross 😉 ). Most investors take a wait and see approach to investing in venture capital funds. Most will wait for the first close to happen or even the first transaction in a fund if the fund starts investing out of the first close. There just isn’t any upside, financial or other. Though there are a few things you can do to incentivize people to get into the fund faster, such as offering no management fees (Yes, I know a fund that has done this).
Why not see who is kicking ass and get in on the final close, if not the last investor in the fund? If you are a fund of fund, this is even more likely. The only downside is that they get shut out of fast-moving, oversubscribed fund, but that’s rarely if ever the case for new funds (You aren’t reading this if you are a GP at a top, established fund).
As a GP of a first, or maybe second fund, you really need to try lock down investors with a hard commitment (by signing definitive documents). Knowing that most investors are sheep and driven by social proof, what you can do is elicit soft commitment. The tangible means of doing this is to get prospective limited partners to sign a document known as an Indication of Interest. You can then say to every new investor that you meet that you have signed Indication of Interest documents for $xm from x investors.
I know, I know… it’s not as good as a hard commitment, but you work with what you got. An Indication of Interest plays to the desire of LPs to invest, but also lets them ‘wait and see’. It doesn’t really cost them anything to sign the document, other than a few minutes (or maybe getting a lawyer to read), so why not?
I’ve been making intros for two funds to family offices and was sent an Indication of Interest. There is so little information around to teach prospective GPs, so I totally anonymized the document so I can share it with you and help educate. You can download the Indication of Interest template in Word in the next section.
Clearly, this is not legal advice. You would be out of your mind to trust anything I say 😉 Hopefully, this sheds some light for you on running your process.
I’m going to run through the whole document line by line with you now. No doubt a VC lawyer can do a better job than me, but this is free and you get what you pay for!
Download the Indication of Interest template
Input your email and it will be sent to you. You need to press the download button in the email.
Line by line explanation of the indication of interest template
[FULL VC FUND NAME]
INDICATION OF INTEREST
The undersigned indicates an interest in making an investment in [FULL VC FUND NAME] (the “Fund”) on the terms set forth in the Summary of Terms attached hereto as Exhibit A by becoming a limited partner of the Fund with a capital commitment in the amount of:
(Please indicate desired capital commitment or range)
The limited partner you are sending this to fills in the amount of loot they intend spotting you.
Exhibit A is the long ass explanation of the terms that will be in the definitive documentation so you can decide if you are happy with all the terms before wasting any time.
The undersigned acknowledges and agrees that no binding obligation shall exist prior to the execution and delivery of mutually agreeable, definitive legal documentation related to an investment in the Fund. In addition, the undersigned acknowledges and agrees that the final capital commitment amount (if any) allocated to the undersigned by the general partner of the Fund (as determined in its sole discretion) may be less than that for which the undersigned may otherwise wish to subscribe.
Please email this completed Indication of Interest to the attention of [GP PERSONAL NAME] of [FUND NAME] at [VC EMAIL].
This section then says that this document isn’t actually binding. Only when the limited partner signs the “definitive legal documentation” is it binding.
The “the final capital commitment amount” is the amount the investor actually can invest. The final sentence says that the fund says that the General Partner will decide how much the investors actually can invest. They are doing to prioritize big tickets and famous investors.
(Print name of individual or entity that wishes to invest)
(Signature of authorized signatory)
(Print name of authorized signatory)
(Print title of authorized signatory)
Simple stuff. The limited partner just signs everything.
This is all the legal shizzle.
[FULL VC FUND NAME]
Summary of Terms
The following information is intended as a summary of certain key proposed terms and conditions of the limited partnership agreement of [FULL VC FUND NAME] This summary is intended to form the basis for further discussions regarding a potential investment in the Fund by one or more investors. This summary is qualified in its entirety by reference to a definitive limited partnership agreement that would be drafted to reflect final agreed upon terms and conditions.
This is yet more FYI stuff, reiterating that this is just “key proposed terms and conditions”.
You only need to add the full name of the fund.
How is your fund structured? It’s going to depend on where your investors are based. With American investors, you might have a Delaware company. This is really complicated stuff you need a lawyer for. Yes, that’s going to cost you. Maybe $40k without any connections, $20k if you have connections.
The Fund will have a [ten]-year term (the “Initial Fund Term”) [with two one-year extensions at the option of the General Partner with the approval of the Advisory Committee]. [Eighty percent] in interest of the Limited Partners may elect to terminate the Fund for any reason or no reason.
VC fund lives are typically 10 years. you frequently see fund extensions, which mean that you can extend the life of the fund to give deals a little longer to reach an exit. In this case, we are saying that the Advisory Committee can agree to extend the life another two years.
Finally, if [80%] of limited partners call bullshite, they can shut the fund whenever they want. Don’t piss them off 😉
The Fund is being organized to provide a limited number of select investors (the “Limited Partners”) with an opportunity to realize substantial long-term capital appreciation. The Fund will invest primarily in private companies, with a focus on [SECTOR THESIS].
The fund is being set up to make money. You can chuck in what you are investing in such as startups in the healthcare or… crypto space.
Management of the Fund:
The Fund will be managed by its general partner, [MANAGING FUND NAME], a [STATE] limited liability company (the “General Partner”). [GP PERSONAL NAME] and will be the initial managing members of the General Partner.
Someone has to manage the fund, likely you, right? What’s the name od the fund manager, what state/city is it incorporated in and who are the GPs managing the firm. If you have multiple GPs you would add more names as the ‘managing members’.
The total committed capital of the Fund is expected to be approximately [$xx] million, and shall not exceed [$xx] million. Closings may occur at the discretion of the General Partner, provided that any subsequent closings shall occur no later than  months after the date on which the initial capital contribution is due from Limited Partners (the “Initial Contribution Date”). The Limited Partners will contribute capital to the Fund in installments, upon  business days’ notice. The General Partner will have a capital commitment to the Fund of at least $[x] million.
What is the size of the fund in millions? You can have a minimum and a maximum amount. That ensures investors are confident that the size of the fund is sufficient to execute on the strategy at a minimum, but not so large to complicate the strategy.
You as the GP, can close when you like, but once you have the first close, you have a maximum amount of time, such as  months to do so once a first capital call has been made. This ensures that investors who come in early and late are aligned on risk and reward.
Limited partners don’t pony up their commitment all at once, to have it sitting in your bank account. It stays in theirs. When you are investing in a startup, you ‘call’ the capital from the limited partners pro-rata. Investors have 10 business days to pony up the cash they need.
Finally, the GP(s) will invest $[x]m in the fund. 1% is the typical minimum. For larger funds, you can take out loans against this. SVB and the like can assist with that. For a small, first time, I expect Lps to expect you are all in with your cash.
The Fund’s “Investment Period” shall end on the [fourth] anniversary of the Initial Contribution Date. Without the consent of the Advisory Committee, the Fund will not call capital for the purpose of making investments in new portfolio companies after the Investment Period, other than (i) investments with respect to which the Fund had entered into a written agreement prior to the end of the Investment Period, and (ii) follow-on investments in companies the securities of which were held by the Fund as of the end of the Investment Period or acquired after the Investment Period pursuant to clause (i) or with Advisory Committee consent.
You typically have a 10-year fund, so the ‘investment period’ matters. The investment period is the time during which you are allowed to make new investments.
The definition is that the investment period here starts from the time money is drawn down from investors.
The investment period is typically 3-5 years, with a bias to the short end. You might ask for a longer period to be opportunistic. You would not want to be doing pre-seed deals in year 5 of an investment period unless you are pretty sure you can sell out in 5 years, though! Yeah, you have 5 years, but it’s going to be a headache at the end of it.
Suspension of the Fund:
If, prior to the Substantial Investment Date, [GP PERSONAL NAME] ceases to devote the required amount of time to the operations of the Fund, then a suspension period shall automatically commence. Within six (6) months after commencement of a suspension period, a majority in interest of the Limited Partners may elect to terminate the suspension period. If the suspension period is not terminated within six (6) months after its commencement, the suspension period shall continue until the end of the Fund’s term, unless otherwise determined by the General Partner and a majority in interest of the Limited Partners. During a suspension period, no capital may be called for the purpose of making investments in new portfolio companies.
The ‘Substantial Investment Date’ is defined later, but simply put is once 70% of the fund has been invested (It’s more technical, but let’s park that for now).
This clause says that if the GP(s) don’t spend enough time on the fund before the ‘Substantial Investment Date’, then a ‘suspension period’ will commence. This basically means that the fund is dormant and you, the GP are dicking about playing polo or on the beach. During the suspension period, no money can be called from the LPs in the fund.
If the suspension period is not canceled within 6 months, then the fund basically does no new investments unless the majority of the LPs and the GP(s) agree.
Allocation of Profits and Losses:
Net recognized profit and losses will be allocated in the following manner and order of priority:
- First, % to the General Partner and % to the Partners (General and Limited), until the Fund has allocated aggregate net profit to the Limited Partners in an amount equal to [1.5]x the aggregate capital contributions of the Limited Partners (i.e., an amount sufficient to generate [2.5)x returns to Limited Partners); and
- Thereafter, % to the General Partner and % to the Partners (General and Limited).
You can make your returns as complicated as you like, but unless you have clout, not one is going to be Kool and the Gang.
Standard VC terms are 2 and 20. So 2% management fee and 20% performance fee. If you are a big brand firm you might have 2.5% and 30%. If you are a tiny ass fund, you might have 3-5% and 20% so that your management fees are large enough to pay your salary. I have friends that have done this.
If you want to have a go, you can try asking for balloon payments for higher performance. In this example, we are asking for 20% up to 1.5x net and 2.5x gross multiple ROIC (return on invested capital). THEN, if you make more than that, we are going to get our grubby little finders on 25% of the returns.
2.5x gross is ok, but I would think 3x would be more easy to sell, since 3x is typically what LPs are looking for.
To the extent that the allocation to the General Partner of a disproportionate share of the Fund’s net losses would exceed the amount of net profits previously allocated disproportionately to the General Partner, such net loss shall instead be allocated to the Limited Partners (“Contingent Loss”). Such net losses shall be restored to the extent of future net profits that would otherwise be disproportionately allocated to the General Partner.
This section is about managing when the shite hits the fan. Funds rarely actually lose money, but when they do, they don’t want to be on the hook. LPs take the hit on losses and if there are new profits, they are credited against the losses.
A portion of net recognized capital gains and net ordinary income sufficient to pay income taxes resulting from such gains and income may, from time to time and at the discretion of the General Partner, be distributed to the Partners in the proportions that such income is allocated to the Partners.
If the partners make money, then they can take fund money to cover their tax bill. Go figure.
In addition, the General Partner may, in its discretion, make additional distributions in cash and distributions in kind of marketable securities (other than Digital Assets) in the following manner and order of priority:
- First, 100% to all Partners in proportion to their capital commitments until they have received distributions (including tax distributions) equal to their aggregate capital contributions;
- Second, % to the General Partner and % to the Partners (General and Limited) in proportion to their capital commitments, until the Fund has distributed to the Limited Partners, for all periods and pursuant to all provisions, aggregate distributions in an amount equal to [2.5]x the aggregate capital contributions of the Limited Partners; and
- Thereafter, % to the General Partner and % to all Partners (General and Limited) in proportion to their capital commitments.
Now we deal with how everyone makes the real money from the performance.
GPs want to make sure they cover their ass first. They get 100% of any distribution until they have received their investment and any tax they need to pay. Hilarious, I know.
Next, we follow the waterfall we went through in the “Allocation of Profits and Losses” section above. 20/80 and then 25/75.
The General Partner may, in its discretion, make distributions in cash or distributions in kind of marketable securities, with such distributions being made to all Partners in accordance with contributed capital, if there are no unrestored Contingent Losses in the Limited Partners’ capital accounts. At any time the General Partner may, in its discretion, make distributions in cash or distributions in kind of marketable securities, with such distributions being made 100% to Limited Partners.
So long as the LPs haven’t any losses on their books, distributions of cash can be handed out like candy to everyone. If the GPs want they can make direct payments to the LPs.
The General Partner or its designee (the “Management Company”) will provide management and administrative services to the Fund. For its services to the Fund, the Management Company will receive an annual management fee initially equal to [2.0]% of the Fund’s committed capital.
LPs live on management fees, which is typically 2% of the total amount of the fund annually.
Beginning with the first full fiscal quarter after the earlier of (i) the end of the Investment Period, or (ii) the date on which management fees begin to accrue with respect to a Successor Fund with capital commitments of at least $[xx] million, the annual management fee percentage shall be reduced to [1.75]%, and shall thereafter be reduced by an additional [0.25]% per year (i.e., the annual management fee percentage shall be reduced from [2.0% to 1.75%, to 1.5%, to 1.25%, and so on); provided, that the annual management fee percentage shall not be reduced below 1.0%.
The management fees tend to get smaller over time as there isn’t all that much work to do towards the end of a fund life. The investment period is typically when most things happen. You need to remember drawing down management fees isn’t all roses. You are reducing the amount of investible assets, but you still need to return a multiple on the fund gross of fees.
Since you typically need less money over time, you reduce the fees. In this example, 3 months after the 1/ investment period ends, or 2/ you raise another fund at a min value of say [$50m] and make mulah from that, you start reducing the fund annually in 25bps. In this example, the minimum management fee is 1%.
In addition, beginning with the first full fiscal quarter after the end of the Initial Fund Term, the management fee for each fiscal quarter shall be calculated based on the cost basis of the assets held by the Fund as of the first day of such fiscal quarter.
The ‘initial fund term’ is ten years. After ten years, if you extend the life of the fund, the management fee is based only on the assets invested and held, so if you sell off companies, there are less MF to pay out.
The management fee shall be reduced by the amount of directors’ fees or other compensation (in cash or securities) received by the General Partner or the managing members of the General Partner from a portfolio company unless waived by the Advisory Committee.
If companies you invest in pay fees then that is deducted from the management fee. LPs don’t want you double dipping.
From the management fee, the Management Company shall pay the following normal operating expenses of the General Partner and the Management Company: (i) salaries and wages, entertainment and other customary expenses of the Fund’s, the General Partner’s and the Management Company’s employees; (ii) rents payable for space used by the Fund, the General Partner or the Management Company; and (iii) expenditures for equipment used by the Fund, the General Partner or the Management Company.
GPs don’t pay for any expenses (well, most expenses). The management fee covers it all.
The Fund will bear all expenses incident to the organization of the Fund, the General Partner and related entities. In addition, the Fund shall also bear all costs incurred in connection with the operation of its business, including those costs associated with holding or sale of securities; all legal, audit, registration, financial fees; the cost of Fund meetings; and any extraordinary expenses of the Fund.
The costs of running the fund from a boring legal point of view are treated differently. These fees don’t come out of the management fees, they also come separately from the fund.
If at the time the Fund is liquidated the General Partner’s cumulative distributions (exclusive of the General Partner’s distributions in respect of the General Partner’s committed capital) exceed net recognized gains and losses allocated to the General Partner in respect of its carried interest, the General Partner will refund such excess distributions; provided that the General Partner shall not be required to refund an amount in excess of the cumulative distributions (exclusive of the General Partner’s distributions in respect of the General Partner’s committed capital) received by the General Partner less taxes paid or deemed paid by the General Partner in respect of its carried interest.
If the GPs make more money than they should, then they pay the money back, less anything they have paid tax on already.
All Partner Givebacks:
Merger Proceeds – If the Fund, in connection with the disposition of an investment, is required to return all or a portion of the proceeds of such disposition, the General Partner may require that the Partners return distributions of such amounts in accordance with the proportions in which such amounts were received from the Fund. A Partner’s obligation to return such distribution shall survive the liquidation of the Fund; provided that such obligation will not extend past the earlier of (a) 5 years after the date of the distribution to which it relates and (b) 3 years after the date of the Fund’s final liquidating distribution, without in either case the prior consent of the Advisory Committee. In such event, any such return shall be treated as a return of the original distribution and not as a new contribution to the Fund.
If you sell an investment and there is a claim against a fund that the fund does not have enough assets to pay (this usually occurs late in a fund’s life), then the GP can require LPs to pay back to the fund any distributions received by the LP to pay the claim. This lasts 5 years from the distribution of capital, or 3 years after the last distribution from selling a company. The GP doesn’t need approval from the Advisory Committee to do so.
Finally, this is a return of capital to cover liability and not a new investment into the fund.
Indemnification – If the Fund incurs an indemnification obligation that exceeds the assets of the Fund, the General Partner may require that the Partners return prior distributions from the Fund in order to enable the Fund to satisfy such indemnification obligation. Such contributions will be made by the Partners in proportion to the aggregate amount of distributions received from the Fund by such person. No Partner shall be required to return an aggregate amount pursuant to this provision greater than the lesser of (a) % of the aggregate amount of distributions made to such Partner, and (b) % of such Partner’s capital commitment. Notwithstanding the foregoing, in no event shall a Partner be required to return any amount pursuant to the foregoing sentence that exceeds the amount of distributions received by the Partner during the two years prior to receipt of notice from the General Partner of such return obligation.
The GPs are covering their ass from any losses. If profit from sale of investments are given to investors, then if there are any subsequent liabilities larger than the assets of the fund, the GPs can claw back any money that was distributed to the LPs in proportion to the amounts handed out.
If LPs/GPs need to pay money back then they pay either 1/ 50% of the money they got, or 2/ 33% of the amount that they invested. Furthermore, you don’t have to pay more than the amount you got in the past 2 years.
Without the approval of the Advisory Committee, (i) no more than % of total capital commitments of the Fund shall be invested in the securities of any single issuer, (ii) no more than % of total capital commitments of the Fund shall be invested in other investment funds with respect to which the Fund pays management fees or carried interest, unless management fees and carried interest paid by the Fund are reduced to avoid duplicative management fee or duplicative carried interest, (iii) no more than % of total capital commitments of the Fund shall be invested in cryptocurrencies, tokens, app coins, or other digital instruments that are based on blockchain, distributed ledger or similar technologies (collectively, “Digital Assets”), and (iv) the Fund shall not invest in “passive” investments in securities publicly traded at the time of investment (other than Digital Assets). As used herein, “passive” shall mean those investments where the General Partner does not anticipate an active role in advising management. The Fund will not purchase securities in a transaction that is opposed by the issuer’s Board of Directors. The Fund may reinvest proceeds realized on the sale or disposition of Securities in the Fund’s portfolio, provided that the Fund’s cumulative investment in portfolio companies over the term of the Fund shall not exceed % of the Fund’s capital commitments. Any amounts withheld pursuant to the preceding sentence shall be withheld from distributions in proportion to the capital commitments of the Partners. Unless otherwise approved by the Advisory Committee, the Fund will not invest in any company in which any of the General Partner or any of its affiliates have an investment. Without the approval of the Advisory Committee, neither the General Partner nor any managing member of the General Partner will (i) invest in any privately held portfolio companies of the Fund or (ii) make any investment that would reasonably be viewed as an investment opportunity of the Fund.
LPs don’t want GPs doing just anything. They have restrictions.
The fund will not:
- Put more than 15% of the fund into one deal
- 10% into another fund where there are multiple layers of fees
- No more than 20% of the fund into crazy crypto shite
- Won’t invest in the stock market (passive assets)
- Be hostile and invest in assets where their Board do not approve
- ‘Recycle funds’ of more than 120% the fund size. This means if you sell a company and make money, during the investment term you can invest more money. Not everyone allows this
- Have a conflict of interest by investing in a company that the GP has invested in (unless the Advisory Committee says ok)
- The GPs can’t invest int the portfolio companies directly (potentially reducing the allocation size) or in any company that the fund might otherwise invest in (again, why isn’t the fund doing it?)
Notwithstanding the foregoing restrictions, to the extent an investment opportunity, together with amounts reasonably reserved for follow-on investments in such portfolio company, would exceed % of total capital commitments to the Fund, the General Partner may allocate the excess amount of such investment opportunity to a special purpose vehicle (“SPV”) formed, sponsored, advised or syndicated by the General Partner or its affiliates. Until the Substantial Investment Date, each Limited Partner whose capital commitment constitutes at least % of the aggregate capital commitments to the Fund shall be afforded an opportunity to subscribe for a pro rata portion of the interests of any SPV.
If you find a deal which is hot shite and you have an allocation which is more than the fund can cover (You can’t invest more than 10% of the fund in one deal), you can do magic to invest. You create an SPV to invest (side care investment) by raising money. Until that ‘Substantial Investment Date’, mainly 70% of the fund invested, if LPs have 2% of the fund or more than can do a pro rata investment in the SPV.
The Fund shall have an Advisory Committee consisting of [three to five] members selected by the General Partner. The Advisory Committee will review certain conflict of interest matters.
We have mentioned the advisory committee many times. These guys really need to have the back of the LPs. Ironically the GP picks 3-5 of their buddies.
Formation of a New Fund:
Without the approval of a majority in interest of the Limited Partners, the managing member of the General Partner will not call down capital from any other investment fund with similar objectives and operations (a “Successor Fund”) until the earlier of (i) such time as at least % of the Fund’s capital commitments have been invested in portfolio companies, used to pay expenses or reserved for future expenses or follow-on investments in portfolio companies, (ii) the expiration of the [fourth] anniversary of the initial closing date of the Fund, or (iii)  months after the commencement of a Suspension Period that has not earlier been terminated (the earliest of such dates, the “Substantial Investment Date”).
Until such time, the managing members of the General Partner shall devote substantially all of their business time to the affairs of the General Partner, the Fund and SPVs.
Now we deal with launching new funds.
The GP will not raise for another fund with a similar mandate before:
- 70% of the fund has been invested
- The 4 year investment period is over
- 6 months after a suspension period has started
Otherwise, generally, the GPs need to work their cute little ass off to make the LPs money.
The Fund will indemnify the General Partner, its members, employees, agents and affiliates, and the members of the Advisory Committee against claims, liabilities, costs and expenses (including legal fees, judgments and amounts paid in settlement) as incurred, in connection with their activities on behalf of, or their association with, the Fund; provided that the person seeking such indemnification has acted in good faith and did not engage in gross negligence, recklessness, or willful malfeasance.
Again, GPs cover their ass. The GPs and Advisory Committee are covered from all nasty shizzle. That is unless they did something stupid.
Reports and Meetings:
Limited Partners will receive within  days following the end of each year audited financial statements of the Fund. Summary financial information will be provided within  days of the close of each of the first three quarters of each calendar year. In addition, each Limited Partner will be provided annually with an IRS Schedule K-1 and such other information as may reasonably be requested by such Limited Partner as necessary for the completion of federal income tax returns. The Fund will hold an annual meeting of Limited Partners (which may be held telephonically) to review and discuss the Fund’s investment activities.
Who does love some boring ass accountability? Each year within 120 days there will be audited financial statements. Because, who doesn’t love a sneak peek, within 45 days of the end of the third quarter there will be a summary of the financials.
Each year the LPs will get the information they need to file their taxes.
The Schedule K-1 is an IRS tax form issued annually for an investment in partnership interests. The purpose of the Schedule K-1 is to report each partner’s share of the partnership’s earnings, losses, deductions, and credits.
Finally, each year there will be an annual LP meeting.
Who is the legal firm you are using?
Conclusion on the Indication of Interest template
Wasn’t that fun! Now you know what might be in your indication of interest to get investors to start committing to investing in your new venture capital fund.
Every fund is different, so whilst this Indication of Interest template might have been the highlight of your week, you will need to blow cash on lawyers. There just aren’t enough VC funds to make the whole process cheaper.
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