Using special purpose vehicles (SPVs) structure to set up a company in the UK has been gaining popularity over the years, especially with property investors. However, even if you are not dabbling in property investments, there are also reasons why you may want to consider including setting up an SPV in your business planning.
In this article, we will go through what is a special purpose vehicle, why do investors and entrepreneurs use them, and how they can help you in your business.
What Is a Special Purpose Vehicle?
To put it simply, a special purpose vehicle is a legal entity created for a limited purpose.
You may be wondering - so where and when does an SPV come into play?
An SPV is created by the parent or primary company to isolate financial risks. In other words, if the parent company, unfortunately, goes bankrupt, the SPV will not be affected as it is a separate company.
An SPV has its own balance sheet that is separated from the parent company. Parent companies usually do this to protect the parent company while undertaking a risky project, so that the parent company will not bear the bulk of the failure if the project goes underway.
Catherine is a new business owner who has just started up her company - Wardrobe Misfits. She decides to set up an SPV to attract potential investors and also to manage her investments. Nonetheless, Catherine’s business is not doing well and she finds herself having to close down. In her case, even if the parent company Wardrobe Misfits goes bankrupt, the SPV can still operate and will be under her name even if its financials are affected as well.
Here are some main features of an SPV:
- Can be formed as a limited partnership, a limited liability corporation, a corporation, a trust and other business types.
- The SPV’s financials will not appear on the parent company’s balance sheet. Instead, it will have its own balance sheet.
- It is possible to form several different SPVs for different projects to keep projects independent.
- If you place a property within an SPV, your property can be sold or transferred if you choose to sell or transfer ownership of the SPV.
If you’re looking to invest in a company, be sure to look at their balance sheets and always check if they are using SPVs. Remember, SPVs can be used as a way to mask company debt, and you may not be getting the full view of a company’s financial state if you do not look into their SPVs.
Should You Use SPVs for Your New Business?
In recent years, it has been a trend for new business owners to create an SPV to assist the parent company with financing. In other words, the SPV is used as a separate tool that allows potential investors to pool their money, instead of them investing directly into the parent company. That sum of money is then used to invest in the parent company or other ways.
Why would investors do that, you may ask. Investing in a new company, especially startups, can be seen as a risky investment for some investors and sponsors.
Alternatively, if they choose to invest in the SPV instead of the parent company, the amount required can be lower as compared to funding the parent company.
Thus, if you are a new entrepreneur and need an easier way to get funding, you may consider setting up an SPV to attract risk-averse investors.
Common uses of SPVs include but are not limited to the following.
- Sharing of business risks
You can create several SPVs that are ‘tagged’ to different ongoing projects. Having an SPV allows you to legally isolate the risks of a certain independent project without affecting the others.
- Sale of properties
This touches on the taxes on property sales. If the taxes are higher than the capital gain you attain from selling the property, you can set up an SPV that will own the properties that are put up for sale. In this way, you can pay the tax for selling the SPV, instead of paying the property sales tax from selling the property itself directly.
- Transfer of assets
For certain types of assets that require more work to transfer, you can create an SPV to own these assets. Therefore, transferring these assets will require less work. You will only need to sell the SPV through a merger and acquisition process.
How Do You Form Your SPV?
You will need to:
- Appoint at least one director and one shareholder
- Prepare your company name, address, and details of director(s)
- The Memorandum of association (MOA) and Articles of association (AOA) should define the company as an SPV
- Define your SIC code
- Submit all information to the Companies House
You will need to incorporate and register your business first, then submit all relevant documents. It is not that much different from incorporating a business entity. However, it is a complicated process, and the results can be dire if you do not know what you are doing.
Osome helps entrepreneurs form their company in the United Kingdom with the documents needed for company formation and we cover an exhaustive list of industries. We handle both e-commerce and traditional companies’ accounting, taxation and bookkeeping tasks that you may need throughout your business journey.
What Are the Risks Involved When Using a Special Purpose Vehicle?
Well, there are always two sides to the coin. As with all business ventures, there is a risk for using SPVS.
If you are a business owner, be transparent in your balance sheets for both your parent company and SPV. It is not a good idea to mask information from your investors. Being clear with your company’s finances is a better way to gain the trust of investors and in turn, gain more funding.
If you choose to close your SPV, the parent company will have to take back the assets, which will involve substantial costs for you. The parent company’s balance sheet will also be affected. You may think of this as closing down both the parent company and the SPV, although you could still operate the SPV.
Things You Must Look Out for When Investing in a Special Purpose Vehicle
From the investor’s view, you may not be getting the full view of a company’s financial situation just by looking at their balance sheet. Less seasoned investors are more likely to fall into the trap of investing in the wrong company or SPV. This can be seen from the infamous Enron company example.
One example of how a company can wrongly use an SPV to its sole advantage is the Enron Corporation incident in 2001.
- Enron Corporation was an up and rising energy company formed in 2001;
- Its stock price was soaring too rapidly;
- Enron started transferring the majority of its parent company’s stock into an SPV;
- The SPV was used to hedge assets that were on the parent company’s balance sheet;
- The stock price of the parent company dropped;
- As a domino effect, the value of the SPV dropped as well;
- Enron owed huge sums of money to creditors and investors;
- This resulted in the bankruptcy of the company.
As always, we do not recommend investing in a company when you are unsure of the dealings and history of a company, no matter how interested or certain you are in their business operations.
Creating a Special Purpose Vehicle can be a benefit for your company, but it can also be dangerous if you are unsure of how to make use of it in your business operations. As a newbie entrepreneur, be sure that you fully understand the implied risk from choosing to create an SPV, and study more on this particular business model before you dive head-on into creating an SPV for your parent company.
However, if you are looking to first register a new company in any industry, big or small, traditional or e-commerce, feel free to drop us a question! Not to worry if you have documents pending all over the place, we have specialists to assist you to sort even your bookkeeping tasks. You do not even need to lift a finger, we will send and manage all your reports for your review and to e-sign digitally.