Can I work out a buyback formula for any shares that I sell to a VC/PE firm or angel investor?

Private equity firms, including early stage Venture Capital intevestors, often insert a clause for mandatory redemption of the preferred shares that they have purchased. That means that the company is required to return the money that they received from the investors after a stipulated time (say 5 years), plus interest. Since many companies would not have enough resources to redeem the shares, this clause can trigger a “liquidity event”, such as the sale of the company.

Many VC/PE investors include a redemption clause because the money they have invested in company is not their own; it belongs to their investors, also known as “limited partners”. The like having some assurance that they can exit the company within a reasonable time period, so that they can pass on the proceeds to their investors. However, having to redeem shares is a suboptimal result for VC/PE firms. The goal of VC/PE firms is to reap capital gains that are multiples on the money they have invested, so earning a debt-like interest is an outcome that they hope to avoid.

The redemption of their investment is something that is at the option of investors. It is unlikely they would agree to a redemtion that would be at the option of the entrepreneur, as this might limit how much the investors could earn. Since VC/PE investors take large risks, they would typically not like to limit their potential return.

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