Introduction

When private equity acquires a business, the management package is often where the real economicsfor the operators are negotiated. The headline salary matters less than theequity mechanics. Sweet equity, envy ratio, ratchet, vesting, leaver clauses.Each of these levers determines what the management team actually takes home atexit. Get them wrong, and a successful deal for the fund becomes adisappointing outcome for the people who ran the business.

Sweet equity: the basics

Sweet equity is theportion of the capital structure reserved for management on preferential terms. Instead of subscribing to shares at the same economic entry point as the PEfund, managers invest a smaller amount for a larger economic share on the upside.

Mechanically, the PE fundinvests most of its capital in preferred shares or shareholder loans that carrya fixed return. Management invests in ordinary shares that sit behind thepreferred stack. At exit, once the preferred return is paid out, the remainingproceeds flow through to the ordinary shares. This creates significant leverageon the upside for managers who committed relatively modest cash at entry.

The envy ratio

The envy ratio measureshow much more effective economic exposure management gets per euro investedcompared to the PE fund. A ratio of 3 means management's euro works three timesharder than the fund's euro in the ordinary equity. In Belgian mid market LBOdeals, envy ratios commonly range between 3 and 6, depending on deal size,management's cash commitment, and the fund's appetite for alignment.

The envy ratio is not agift. It is the price the fund pays to align the management team and ensurethey push for the highest possible exit value.

Ratchet mechanisms

A ratchet allows themanagement share of exit proceeds to increase if the fund exceeds certainreturn hurdles. Typically, above a 2x money multiple or a 20% IRR, anadditional slice of the equity flips to management. Some structures usemultiple tiers, with a further increase above 3x MoM.

Ratchets sound founderfriendly, but the hurdles matter. A ratchet that only kicks in at 4x MoM israrely reached in practice. A ratchet with tiers at 2x and 2.5x is far moremeaningful in most Belgian deal profiles.

Vesting and cliff

Management equitytypically vests over three to five years, with a one year cliff. Vesting isusually linear after the cliff. The question that matters is what happens tounvested shares if the manager leaves.

Two structures dominate.Time based vesting unlocks shares by calendar. Performance based vestingunlocks shares against KPIs. Most Belgian deals use time based vesting,sometimes with an acceleration clause on exit.

Leaver provisions: where the real risk sits

Good leaver and bad leaverdefinitions are the clauses managers must negotiate hardest. In a bad leavercase, typically dismissal for cause or voluntary resignation in the earlyyears, the manager usually gets back only the lower of cost or market value fortheir shares, losing all the upside they earned.

In a good leaver case,typically death, disability, dismissal without cause, or sometimes resignationafter a minimum period, the manager receives market value or a formula basedvalue.

The traps are in thedefinitions. A bad leaver clause that captures any resignation before exit isaggressive. Dismissal for cause defined broadly becomes a fund managed exitlever. These points need to be pinned down at the term sheet stage, not discoveredin the SPA draft.

Where managers typically give up too much

Three recurring mistakes.Accepting a broad bad leaver definition without pushing back. Failing tonegotiate acceleration on change of control. Underweighting the impact of thepreferred return structure on the ordinary equity if the exit is modest. Eachof these can silently erase most of the upside managers thought they had.

The Dups approach

At Dups, we advisemanagement teams on their package from the term sheet stage through to SPAsigning. We model the economics across exit scenarios, negotiate the leaverdefinitions and ratchet hurdles, and make sure the alignment actually works forthe operators, not just the fund. If you are about to sign a management packagein a Belgian LBO or PE deal, let us look at the numbers before you commit.

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