Pre-IPO Secondary Market: How Structures, Fees and Terms Work

What Pre-IPO Secondary Investments Are

Pre-IPO secondary investments involve buying existing shares in late-stage private companies before they become publicly listed. They do not represent an allocation in a future IPO. Typically, an employee, founder, early investor or fund sells an existing holding through a broker, placement agent or special-purpose vehicle, known as an SPV. Unlike a primary share issue, the proceeds generally go to the selling shareholder rather than to the company, and the transaction may require the company's approval.

Ownership Structures: L1, L2 and Direct Cap Table

The structure determines how the investor holds the underlying shares. "L1", "Layer 1" and "single layer" usually mean that the investor subscribes to one vehicle that directly owns the company's shares. An "L2" or "Layer 2" structure introduces another intermediary: the investor's vehicle holds an interest in a second vehicle, which owns the shares. This additional layer can introduce further fees, reduced transparency and structural risk. Being "direct on the cap table" means that the investor, or their investing entity, is registered directly as a shareholder of the company.

"Selling L1" generally means that the seller is offering interests in an existing single-layer vehicle rather than transferring the company's shares directly. If a vehicle is described as "collapsing into L1 after closing", the intention is to simplify an initially two-layer structure into one layer. "FO" is context-dependent and should be clarified with the seller rather than assumed to have a standard meaning.

How Fee Quotations Work

Fee quotations such as "5/0/10", "15/0/0" or "10/0/0" commonly refer to an upfront fee, an annual management fee and carried interest, respectively. Under this interpretation, "5/0/10" means a 5% upfront fee, no annual management fee and 10% carried interest. "15/0/0" means a 15% upfront fee with no annual management fee or carry. However, this convention is not universal, so the meaning of each number must be confirmed in writing.

A quotation containing "+3%", "+4%" or "+5%" usually indicates an additional transaction fee or buyer-side markup. A "buy-side fee" is a charge paid by the purchaser separately from the seller's quoted price. Investors should establish whether each charge is calculated on committed capital, the underlying purchase price or net asset value, and whether it is payable at entry, exit or both.

For example, if a $1 million commitment carries a 10% upfront fee and a further 4% buy-side fee, both deducted from the gross commitment, $140,000 goes towards fees and $860,000 purchases the underlying investment. The upfront reduction in invested capital is therefore 14%. The result changes if the fees are calculated on different bases or paid in addition to the commitment. Carried interest, by contrast, represents a share of investment profits, calculated according to the vehicle's distribution waterfall and any applicable hurdle or preferred return.

Pricing Conventions and Key Terms

"Round pricing" or "last-round pricing" means that the offer uses the company's most recent financing valuation as its reference. A quoted price per share generally excludes additional buyer-side fees unless stated otherwise. The implied valuation should be checked against the relevant share class and fully diluted share count. A claimed "discount to the upcoming round" depends on an anticipated future financing valuation; it is not a contractual entitlement or a guaranteed gain.

The "minimum ticket" is the smallest investment accepted. A "data room" provides access to company information and transaction documents, although its completeness can vary substantially. A "non-US GP" means that the vehicle's general partner or sponsor is based outside the United States, which may affect taxation, reporting and investor eligibility. "Terms upon request" means that the investor must ask for the detailed pricing, fees and structure.

What a Term Sheet Should Cover

Before investing, the buyer should request a written term sheet identifying the seller, the instrument being purchased, the ownership structure, the underlying share price and the complete fee schedule. It should also explain the distribution waterfall, company consent requirements, rights of first refusal, transfer restrictions, information rights, potential exit arrangements, IPO lock-ups and relevant tax and compliance requirements.

Comparing Net Returns Across Fee Structures

The most useful comparison is the expected net return after all fees and expenses. A "15/0/0" investment takes a substantial upfront fee regardless of performance, while a "5/0/10" investment combines a smaller upfront charge with a share of future profits. Which is more attractive depends on the eventual return, holding period and precise contractual terms.