Carry is the percentage that VCs will take on the extra returns in a company. The industry standard is 20% and in the US at least, if you hold the equity for over a year, the VC will be typically paying 15% capital gain taxes on it. This article is a primer for entrepreneurs, illustrating the tradition and the most common variables around carry.
The mechanics of carry are best illustrated through an example. You are a VC and invest $5M in a company at a post valuation of $50M ie you own 10%. There are no more financings and the company ends up getting sold for $200M so your portion becomes $20M. $5M goes back to LPs ie your own investors as that was the principal amount invested. Which leaves $15M in actual profits of which 80% will be returned to the LPs and 20% ie $3M is divided among the partnership. This division is almost always asymmetric ie the most senior people and the person who actually led the deal get a much larger share. Realistically the partner behind this particular investment could expect a personal ~$1M windfall from the sale.
This windfall is really what drives the exponential wealth that some VCs accumulate. In this particular example, it was a $1M personal gain in a 4x exit which could be especially attractive it it happens within a couple years. We did make some assumptions in this example, for instance that there was no subsequent fundraising round and your investment was the most senior in the liquidation preference stack. More complex examples require a bit more math but the mechanics are similar — calculate how much money total went in, return that principal to LPs, then figure out what 20% of the profits are.
Who Gets Carry
Many firms will give the title Partner even to junior members of the team who would normally be Analyst, Associate or Vice President, but will not give them carry. Carry is typically for Partners (in role not just name) and Principals (can lead deal but not enough years yet to be a Partner). Corporate VCs rarely have carry, the typical justification being you do not want to incentivize an investor financially to the point that it becomes more important to them than the strategic goals.
Deal By Deal Carry
Most VC firms operate on fund-level carry ie whatever deal returns profits ends up being divided amongst the entire partnership, not just the partner who did the deal. The benefit is the firm tends to operate more cohesively, where partners are incentivized to both help and keep each other accountable since one person’s success is shared by everyone. There are some firms though that will allocate carry by every deal ie there will be different groups of people who will accrue from a successful deal. This is obviously more challenging from a logistical point of view and creates for more tension in a firm, which is why very few do it anymore.
Some firms negotiate with their LP that if they achieve a return above a certain threshold they will get higher carry. For instance, if a deal goes above 3x the investors could argue they should instead get 30% carry. LPs obviously don’t like premium carry as a principle but may acquiesce to it if they have seen consistent outsize performance from a fund and/or incentivize it in the future. Typically very established successful funds are the ones that command premium carry.
What Does This Mean To You As An Entrepreneur?
Carry is something that VCs will rarely talk about publicly, except perhaps to publicize they are overall achieving outsize returns. In fact even within a firm the topic is typically not discussed openly and most investors will not know exactly how much their colleagues are making. You as an entrepreneur though can certainly ask a prospective or existing investor general questions such as how many deals yielded carry to the fund, perhaps in the last 5 years. You will find out binominal distributions and power laws at work — smaller funds will often have carry because they are able to return enough, larger funds will have carry less often but those that do are commanding the lion’s share. If you find your investor falls into either of these categories definitely give them extra credit because it means they are helping create disproportionate value.
These are purposely short articles focused on practical insights (I call it gl;dr — good length; did read). I would be stoked if they get people interested enough in a topic to explore in further depth. I work for Samsung’s innovation unit called NEXT, focused on early-stage venture investments in software and services in deep tech, and all opinions expressed here are my own.