What is Sweet Equity and why is it important in a business sale?

Jim Whitaker

Sweet Equity is commonly a feature of Private Equity (PE) transactions. It is a useful tool to ‘lock in’ key staff members post transaction, as it helps to ensure senior staff are incentivised and aligned to the continued success and interests of the business.

Sweet Equity is a discounted slice of equity that features as part of the capital structure of a new company (‘Newco’) corporate structure, which has been formed to facilitate a PE investment. It is called Sweet Equity as the price per share is heavily discounted when compared to the amounts invested by the PE shareholders.

When Sweet Equity features in a PE transaction, the PE investors themselves typically do not run the business

Typically, existing and new senior management can purchase a meaningful equity share for the equivalent of around one times annual salary. As well as ensuring continued loyalty to the business, Sweet Equity gives senior staff some ‘skin in the game’ so that they too will benefit from any future company sale.

In a PE transaction, the founder shareholders are selling all or a substantial part of their shares, and positioning their long-serving and loyal management team as the future of the business. Likewise, the incoming PE investor is keen to align their interests and those of the management team for the duration of their investment. All investors are looking for significant value growth from their investment, and are therefore keen to incentivise management to deliver that growth.

Mission-critical staff

When Sweet Equity features in a PE transaction, the PE investors themselves typically do not run the business. Instead they take an advisory position on the board, providing follow-on funding and strategic insights. A chairman will be introduced to the board and be provided the opportunity to participate in Sweet Equity in the same way as management. Managing Directors, Finance Directors, Sales Directors, Operations Directors and HR Directors are the usual recipients of the pot of Sweet Equity, though other mission-critical staff identified could also be eligible.

If the management team has some skills gaps (for example there is no Sales Director in the current management structure and recruitment is required to fill these vacancies), then the offer of Sweet Equity can be used as a further enticement to secure the right candidates during the recruitment phase. An allocation of some of the Sweet Equity will make up part of the overall package the prospective employee is offered.

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