Sidecar funds primer: How do sidecars work?

After the guesswork of the last post, we’re on firmer ground when discussing how sidecar funds work!

First, structurally, they’re usually LLCs or Limited Partnerships, so that investors can pool funds while maintaining the legal liability protections of corporate entities.

Second, they generally combine some kind of “trigger” of the fund with a level of “match” investment and some kind of “oversight”.

In general, sidecar funds invest when a certain trigger level of investment is received from the driving entity. For example, if the angel group invests $50,000, then the fund is “triggered”.  The parameters for the trigger, and the threshold amounts of the parameters, will vary – but the idea of some kind of automated catalyst for the fund is standard.

Some level of match is also pretty ubiquitous to sidecar funds. The approach might vary: perhaps investors want a fixed amount like 20 deals at $250,000 each in a $5M fund (ignoring fees); or perhaps they want to flex with the popularity of the investment, investing from the sidecar 1x the amount invested by the lead group; or some combination of those. We can have fun debates about the best approach, but the common thread is some kind of match.

Lastly, oversight. Funds are generally not entirely automatic. It is good to have some human oversight that can help supervise or intervene when life’s inevitable complexity impacts the funds. This “management” can vary from very minimal – perhaps a veto on investments that are technically triggers but aren’t in the fund’s mandate – to more discretionary – perhaps an ability to choose the size of the “matching” investment. The management could be individuals, groups, or a committee; fund investors or outside mangers; and independent or bound by votes of the fund investors. Either way, some oversight is typical.

The particular combination of these three elements will tell you a lot about the fund, and might result in substantially different returns.