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Parallaxes provides liquidity to tax receivable agreement ("TRA") stakeholders by monetizing otherwise long-dated assets. Looking forward, we anticipate that TRAs will continue to become more common in the coming years and our goal is to be a leading authority in this domain.
We have worked hard to develop and refine our approach to alternative asset management and believe our team of professionals is distinguished in their breadth and depth of expertise in tax receiveable agreements.
Undiscounted Principal Balance Purchased
Tax Receivable Agreements Purchased
Parallaxes Capital is at the forefront of the Tax Receivable Agreement market. This whitepaper is intended to help promote standardization of terms and increase transparency in the ecosystem.
Tax Receivable Agreements have existed for thirty years. However, TRAs are often misunderstood and rarely drafted with a secondary purchaser in mind. Our updated whitepaper covers a few issues that Parallaxes Capital has found particularly pertinent from our perspective as secondary purchasers.
If you’ve ever felt unsure about the impact of tax agreements, you’re not alone. Tax Receivable Agreements (TRAs) can seem like a dry and complex financial tool, but they can significantly impact how businesses operate after going public.
TRAs are more than just tax savings—they’re a strategy to ensure that the hard work and value built over the years aren’t lost in the shuffle of new ownership. Using them effectively can make a big difference for you and your business.
A Tax Receivables Agreement (TRA) is a contractual arrangement between a company (typically a newly public company, known as the “IPOCo”) and its pre-IPO owners.
Under a TRA, IPOCo makes cash payments to the original owners based on tax savings generated by certain tax assets (e.g., asset step-ups) realized after the IPO. These payments are generally based on actual cash tax savings realized by the IPOCo, determined on a “with and without” basis.
This arrangement allows pre-IPO owners to monetize tax benefits contributed during the IPO process.
Tax Receivable Agreements are structured to provide post-IPO tax benefits to the original owners by sharing tax savings from certain tax attributes. TRAs are established when pre-IPO owners exchange their partnership or LLC units for IPO shares, creating a “step-up” in the tax basis of the company’s assets, which results in additional tax deductions such as depreciation and amortization over a set period.
Under the agreement, the company allocates a portion of these realized tax savings (typically 85%) to the original owners while retaining 15% for itself. Payments are calculated by comparing the actual tax liability with a hypothetical scenario where the tax benefits do not exist. The difference in tax liabilities forms the basis for annual TRA payments.
The value of a TRA is primarily based on future cash flows that the agreement generates through tax savings. Understanding how these components work is essential for accurately assessing their value and financial impact.
Verification of the “Collateral”: The value of a TRA is based on the underlying tax attributes, such as step-ups in basis or net operating losses (NOLs), which generate future deductions. The valuation depends on three factors:
the applicable tax rate (Price),
the total value of tax assets (Volume), and
the sharing percentage (S), typically set at 85%.
The formula for calculating the value is Price x Volume x Sharing. Each element must be verified to ensure accurate valuation.
Forecast of Taxable Income: TRA payments rely on the company generating sufficient taxable income. Factors like capital expenditures, debt obligations, and complex deductions (e.g., Foreign Tax Credits) can impact income forecasts and the timing of tax savings.
Construction of a Discount Rate: Future TRA payments are discounted using a rate that accounts for credit risk (subordinated claims), duration risk (delayed payments), and tax reform risk. These risks generally lead to a discount rate in the mid-to-high teens, reflecting the uncertainty in realizing expected cash flows.
These components determine how TRAs distribute tax benefits between pre-IPO owners and the public company, influencing their overall financial structure and long-term value.
Tax Receivable Agreements come in different structures, each designed to fit specific business contexts and transaction types. While the variety is limited, the primary types are:
These are the most common and are used in Up-C IPO structures. In an Up-C, pre-IPO owners maintain ownership in a flow-through entity (OpCo) and exchange their units over time for shares in a newly formed public company.
This exchange creates a tax basis step-up, generating future tax deductions. Up-C TRAs allow pre-IPO owners to capture most of these tax savings while aligning their incentives with public shareholders.
For M&A, TRAs help bridge valuation gaps by tying payments to future tax savings. These agreements are often tailored to cover tax attributes like net operating losses or asset step-ups resulting from the transaction.
Some TRAs are structured to address unique tax attributes, such as net operating losses (NOL), interest deductions, stock-based compensation, or specific state tax benefits.
These agreements are highly customized to meet the strategic needs of the business and are used in both public and private transactions.
Each type has nuances and should be tailored based on the company’s strategic goals and transaction structure.
Tax Receivable Agreements provide value by converting tax assets, like step-ups in basis, into predictable cash flows for pre-IPO owners. They crystallize value that would otherwise be obfuscated. This helps bridge valuation gaps in transactions and makes deals more attractive.
For companies, TRAs align the interests of original owners and new shareholders by sharing tax benefits, encouraging strong post-IPO performance. Additionally, TRAs simplify complex deals, such as Up-C IPOs or mergers, by turning uncertain tax benefits into structured payments, reducing financial risk.
Choosing the right TRA partner is essential for maximizing value and minimizing risks. A strong partner should have deep expertise in TRA structuring, a proven track record, and a long-term commitment to the evolving market.
Look for a partner with a strong history in TRA transactions and a robust understanding of structuring complex agreements. Parallaxes Capital, for example, is the market leader, having closed ten times more TRA acquisitions than the next most active participant since 2017.
The partner should align with your business goals, ensuring transparency and standardized terms. This approach promotes mutual long-term benefits and minimizes potential conflicts.
A reliable TRA partner has a dedicated team with specialized expertise in finance, tax, and legal matters, along with strong industry relationships, ensuring compliance and value optimization throughout the agreement lifecycle.
Choosing a partner like Parallaxes Capital, with deep expertise, a proven record, and a commitment to promoting transparency, is critical to navigating TRA complexities and maximizing long-term outcomes.
Tax Receivable Agreements are complex yet powerful tools for businesses looking to unlock and monetize hidden tax assets post-IPO. From structuring TRAs to selecting the right partner, understanding their components, and evaluating their long-term benefits, these agreements play a pivotal role in aligning the interests of pre-IPO owners and new shareholders.
With the right strategy and partner, TRAs can be utilized to optimize financial outcomes and bridge valuation gaps.
TRAs create value by converting future tax savings into predictable cash flows shared with the original owners. This allows pre-IPO owners to monetize tax benefits while aligning their interests with public shareholders.
TRAs commonly cover tax attributes like depreciation, amortization from step-ups in asset basis, net operating losses (NOLs), and deductions from stock-based compensation. The specific attributes vary based on the agreement’s structure.
Payments under a TRA are usually based on a “with and without” calculation. This compares the actual tax liability to a hypothetical scenario where the tax benefits did not exist. The difference forms the basis for annual payments to pre-IPO owners, typically distributed over the relevant amortization period (e.g., 15 years for goodwill).
Both pre-IPO owners and public shareholders benefit. Pre-IPO owners gain immediate compensation for the tax benefits they contribute. On the other hand, the public company retains a portion of these savings, aligning long-term financial interests.
