A private equity sponsor requires us to roll 20 percent of our equity into their acquisition vehicle to align incentives for a secondary sale. What structural protections and share classes do we need to ensure our rolled equity is not diluted or trapped?

Question

Tyler Smith · Accepted Answer

Rollover equity is often marketed by private equity firms as a lucrative second bite at the apple, giving the founder a chance to participate in the next liquidity event. In reality, unless you scrutinize the legal capitalization table, rollover equity can function as high-risk common units that sit behind layers of preferred debt and management incentives.

If you agree to roll 20 percent of your proceeds into the buyer platform, demand these structural protections:

- Insist on pari passu equity units. You should receive the exact same class of equity securities that the private equity sponsor holds for its own cash contribution. Reject subordinated common units that sit behind high-yielding preferred equity returns or compounding liquidation preferences held exclusively by the sponsor.
- Secure tag-along rights and refine drag-along thresholds. Tag-along rights guarantee that if the sponsor sells their ownership stake, you have the contractual right to sell your shares on the exact same terms and price. If the sponsor exercises a drag-along right to force a sale, ensure there is a minimum return floor that guarantees your capital is returned before you can be forced to sign.
- Restrict predatory dilution. Require preemptive rights allowing you to participate in future capital calls to maintain your ownership percentage. If the sponsor issues new units to fund bolt-on acquisitions, ensure these issuances occur at genuine third-party fair market value, not at an arbitrary internal valuation.
- Mandate clear information rights. You must receive quarterly audited financials, board packets, and capital expenditure reports to maintain visibility into platform performance.

Treat rollover equity not as a guaranteed bonus, but as an active investment in an external portfolio company. If the sponsor will not give you equal-ranking shares, demand that your rollover portion be replaced with cash at the closing table.