Fund aims to reduce risk for entrepreneurs

EB Exchange Funds, a San Francisco-based firm designed to reward startup founders with liquidity, expects to close its third fund later this month, founder Larry Albukerk told PE Week.

The little-known firm creates a portfolio by inviting entrepreneurs and executives to contribute some of their common stock from their startups to a larger pool, from which they each will receive distributions when any one of the other companies in the pool has a liquidity event. Albukerk expects that at the fund close, the firm will have brought in between 50 and 75 executives nationwide from as many as 35 venture-backed startups.

The new fund comes as VCs look for innovative ways to keep their founders and startup executives happy. The increasing median time to liquidity can be a big problem for first-time founders. Firms such as Tudor Ventures have touted their willingness to provide cash to founders as they go through the investment rounds and The Founders Fund has even designated a special class of stock, called FF, that is designed to offer a little cash to the entrepreneurs before any liquidity event. EB Exchange Funds offers an alternative to VC-sponsored buyout programs.

Albukerk’s first fund, called Eleven Baskets, closed in 1999 and held stock from 11 companies. One of its holdings is San Francisco-based OpenTable, an Internet-enabled restaurant reservation service that some expect to launch an IPO later this year. The firm’s second fund, raised in 2002, had 26 companies represented in the pool. The fund would qualify as “top quartile” when compared to venture funds of the same vintage, Albukerk says. It had 13 liquidity events, about half of which were positive for the fund, Albukerk says.

The executives who invest in the fund generally contribute common stock worth between $300,000 and $1.2 million. The valuation is determined by EB Exchange Funds based on the last round of preferred stock sale, usually a Series B or Series C venture investment. The firm limits potential pool members to companies generating revenue that are near break even, have recently completed a financing round and probably won’t need to raise more venture capital. The firm never accepts more than 10% of an executive’s stock holdings in his or her startup and allows the executive to hold onto the voting rights associated with the stock.

The firm collects no management fee. It fronts the money to organize the fund and prepare the legal documents, benefiting only on the back end if there are liquidity events. Albukerk would not say how much carry the firm collects, describing it only as “significantly less than industry standards.”

EB Exchange started raising its third fund in January and has significant interest, Albukerk says. “There are a lot of VCs who are giving cash,” Albukerk says.

It’s certainly easier from a tax perspective. A contributing executive does not have to liquidate his or her common shares to participate in the pool, so there are no capital gains taxes to pay, Albukerk points out. Capital gains are only paid by pool members when they receive a check from one of the fund’s portfolio companies.