| What is a Private Placement? | | | | Speaking of disclosure documents, prospectuses |
| Private placements can take different shapes and | | | | and private placement memoranda, let’s |
| sizes. They are commonly used to place equity, | | | | explore this document in greater detail next. |
| equity-linked, and debt securities with a pool of | | | | What is a Prospectus, Private Placement |
| qualified investors. If done properly, issuers are | | | | Memorandum, or Substantive Disclosure |
| afforded an exemption from most registration | | | | Document? Do I need one for my offering and |
| and reporting requirements, either under Section | | | | are there any formal requirements in terms of |
| 3(a)(11), the so-called intrastate offering | | | | content and format? |
| exemption, Section 4(2), an exemption available | | | | The prospectus, private placement memorandum, |
| for transactions not involving a public offering, and | | | | or substantive disclosure document is a key |
| Regulation D of the United States Securities Act. | | | | element of any securities offering. Although |
| Since Regulation D Offerings are by far the most | | | | issuers are generally held to the same disclosure |
| popular and enable the structuring of a wide cross | | | | requirements as if their offering were a public |
| section of equity, equity-linked, and debt | | | | offering (Rule 502(b)(2)(i)(A)(CFR |
| placements, we will focus on this particular | | | | 230.502(b)(2)(i)(A)), information supplied in a |
| exemption for the remainder of this article. This | | | | prospectus under Regulation D typically includes a |
| very same Regulation D, however, also closely | | | | detailed and balanced discussion of the issuer's |
| regulates the process under which a private | | | | business, competition and market conditions, |
| placement can be conducted legally. | | | | senior management, risk factors, financial |
| So let’s take a closer look and find out if a | | | | statements, and in depth information on the |
| Private Placement or Regulation D Offering is for | | | | securities offered for sale. A private placement |
| you. | | | | memorandum usually consists of a descriptive |
| There are three different rules (Rule 504, 505, | | | | part, a subscription or promissory note |
| and 506), which further define the framework | | | | agreement, and an investor suitability |
| under which a private placement can be | | | | questionnaire. |
| structured and which enable you to raise different | | | | The task of drafting a private placement |
| maximum amounts of financing from different | | | | memorandum should be approached with the |
| types of investors. | | | | required thoughtfulness and probably entail a close |
| The Rules | | | | working relationship with a seasoned securities |
| Rule 504 | | | | attorney, certified public accountant, or |
| Private placements structured under Regulation D, | | | | investment banking professional to ensure that |
| Rule 504 enable an issuer to sell up to $1,000,000 | | | | your offering is viable and in compliance with state |
| worth of securities during any 12-month period by | | | | and federal securities laws. |
| imposing only very few restrictions on the issuer. | | | | Advantages & Disadvantages of Private |
| For instance, two requirements you would have | | | | Placements |
| to meet in order to qualify is that the issuer can | | | | Advantages |
| not be subject to any reporting requirements of | | | | On the upside, a private placement or Regulation |
| the United States Securities Act of 1933, such as | | | | D offering will probably enable an issuer to |
| most public companies, and that the issuer cannot | | | | penetrate the capital markets faster, more |
| be an entity formed solely for investment | | | | efficiently and cost-effectively than with any |
| purposes. | | | | registered offering or other form of formal |
| On the other hand, Rule 504 affords the issuer | | | | outside financing. |
| very broad discretion over the number of | | | | If done properly, it is also likely that the issuer can |
| participating investors, the disclosure of | | | | raise more capital in return for a lesser equity |
| investment related information, and the sale of | | | | stake in the company, if compared to traditional |
| restricted or even unrestricted securities. | | | | venture capital deals. Unlike financing that is sought |
| Technically, an issuer under Rule 504 is neither | | | | from venture capitalists or angel investors, the |
| required to cap the number of participating | | | | purchase of shares under a private placement is |
| investors nor to register or provide them with a | | | | non-negotiable and subject to a fixed price per |
| formal disclosure document before accepting | | | | share or membership interest. |
| investments; however, we do strongly encourage | | | | It is also likely that investors who are interested in |
| any issuer to supply a private placement | | | | participating in a private placement are less inclined |
| memorandum or prospectus to potential investors | | | | to require a board seat or otherwise play an |
| in order to clearly establish the terms and | | | | active role in your company. |
| conditions under which the securities were sold | | | | Disadvantages |
| and thus limit the exposure to potential legal | | | | Well, jumping through all these hoops won’t |
| liabilities later on. | | | | guarantee you any proceeds from an offering |
| An issuer under Rule 504 may even engage in | | | | unless you are able to tap into a pool of qualified |
| general solicitation, advertise, and offer | | | | investors, team up with a licensed broker dealer, |
| unrestricted securities for as long as he registers | | | | or work with a prospecting service that supplies |
| the offering in a state where such a registration | | | | you with a constant flow of qualified leads. Also, |
| and delivery of a prospectus or private placement | | | | keep in mind that under most rules you are |
| memorandum is required and he also complies | | | | strictly prohibited from advertising or promoting |
| with such requirements in other states even | | | | your offering, even on your website or blog, |
| though local laws and regulations may not require | | | | which can make it difficult to generate the |
| such compliance. | | | | required interest in your offering. |
| Rule 505 | | | | Private placements are no playing ground for the |
| Offerings structured under Rule 505 are popular | | | | inexperienced and financial novices. Composing an |
| because its requirements are in keeping with most | | | | equitable offering and corresponding prospectus or |
| state securities laws, which are commonly | | | | private placement memorandum can become a |
| referred to as Blue Sky Laws. Under Rule 505, an | | | | daunting task. It requires skill and experience in |
| issuer can sell up to $5,000,000 worth of | | | | such delicate legal and financial matters to create |
| securities to an unlimited number of Accredited | | | | an offering that will appeal to potential investors |
| Investors and up to 35 investors that don’t | | | | and be in compliance with all relevant securities |
| have to meet any wealth or sophistication | | | | laws and regulations. A slight misstep can subject |
| requirements. | | | | you to substantial civil and even criminal sanctions; |
| Issuers are again afforded broad discretion over | | | | result in lawsuits filed by disgruntled investors, or |
| what information and disclosure documents they | | | | render the entire offering useless. Please make |
| supply to Accredited Investors; however, they | | | | sure you have the required insight into capital |
| must supply any Non-Accredited Investors with a | | | | market conditions along with the expertise and |
| prospectus or private placement memorandum, | | | | experience in dealing with rather complex financial |
| which is similar in form and substance to those | | | | and securities related matters before attempting |
| used in registered public offerings. | | | | to raise funds with a private placement on your |
| Rule 506 (Safe Harbor Rule) | | | | own. In most cases it is advisable that you retain |
| Rule 506 is also known as the "Safe Harbor Rule" | | | | the services of a seasoned securities attorney, |
| because it exempts offerings from most | | | | certified public accountant or investment banking |
| qualification requirements of state laws; besides, | | | | professional. |
| issuers that intend to offer and sell more than | | | | Compliance |
| $5,000,000 worth of securities will have to resort | | | | Filing of Form D with Securities & Exchange |
| to Rule 506, as this is the only rule that does not | | | | Commission |
| impose a maximum offering amount. Once again, | | | | While offerings relying on an exemption from |
| issuers can sell their securities to an unlimited | | | | registration under Regulation D, Rule 504, 505, or |
| number of Accredited Investors and up to 35 | | | | 506 are exempt from most registration and |
| Non-Accredited Investors with the important | | | | reporting requirements under the United States |
| distinction that all Non-Accredited Investors will | | | | Securities Act of 1933, the Securities & |
| have to qualify as Sophisticated Investors. | | | | Exchange Commission (SEC) requires that you file |
| If only Accredited Investors are to participate in | | | | Form D within 15 days of the first sale of any |
| the offering, issuers are at liberty to either supply | | | | securities offered thereunder. Form D requires the |
| a formal prospectus or disclosure document or | | | | issuer to disclose a nominal amount of background |
| forego the distribution of such offering related | | | | information on the issuer, management, |
| information altogether. Regardless of any legal | | | | promoters of the offering and the offering itself. |
| requirements, we recommend that any issuer | | | | It is not a merits based review and the filing of |
| supply potential investors with a formal | | | | Form D should not be confused with filing a |
| prospectus or private placement memorandum to | | | | registration statement with the SEC. |
| clearly establish the terms and conditions under | | | | State Securities Laws (Blue Sky Laws) |
| which the securities were sold. | | | | You should also carefully review state securities |
| Accredited Investors vs. Sophisticated Investors. | | | | laws in states where you intend to make your |
| What’s the Difference? | | | | offering available to potential investors. The fact |
| Accredited Investors | | | | that you rely on a federal exemption does not |
| They are often casually referred to as the Million | | | | necessarily mean that you won’t face |
| Dollar Club because this definition is often | | | | additional regulatory requirements under state |
| associated with individuals having a net worth of | | | | securities laws. Some states require that you file |
| $1 million or annual income of at least $200,000 or | | | | a simple notice, whereas others require more |
| joint income of $300,000 with the individual’s | | | | substantial disclosure concerning the issuer and |
| spouse. | | | | offering. |
| However, the term Accredited Investor also | | | | Conclusion |
| applies to a much broader range of professionals | | | | Raising equity or debt financing through a private |
| and organizations. For instance, banks, insurance | | | | placement can yield substantial benefits for a |
| companies, registered investment companies, | | | | more mature issuer. If you are prepared to |
| including small business investment companies | | | | commit to the required legwork and dedicate the |
| (SBIC’s) all qualify as Accredited Investors. | | | | required time and resources to compose an |
| The term also covers charities, corporations, | | | | equitable offering, this process is likely to be a |
| partnerships, and trusts with assets in excess of | | | | viable alternative to knocking doors of venture |
| $5 million. Directors, officers and partners of | | | | capitalist, so-called angel investors, and other |
| businesses either selling securities or where all | | | | investor circles. |
| equity holders are considered to be Accredited | | | | Additional Resources |
| Investors, also qualify. | | | | Please feel free to learn more about our Private |
| Sophisticated Investors | | | | Placement Advisory Services by visiting our |
| This term is much more loosely defined and | | | | website at |
| applies to individuals and organizations that have | | | | Fast Ventures Publications offers the firm’s |
| sufficient experience in dealing with investment | | | | latest thinking on strategic business development |
| related matters including doing their own research, | | | | and corporate finance and includes a diverse |
| due diligence, and evaluation of the merits of a | | | | variety of reference documents, white papers, |
| potential investment. | | | | and articles. Fast Ventures Publications is available |
| Since doing the required due diligence on | | | | at: |
| investors’ wealth and sophistication standards | | | | The complete article is available at |
| rests with you, the issuer, most issuers are | | | | Disclaimer: This publication is designed to provide |
| employing an investor suitability questionnaire, | | | | accurate and authoritative information in regard to |
| which is often supplied as part of the required | | | | the subject matter covered. It is provided with |
| disclosure documents, prospectus or private | | | | the understanding that by means of this |
| placement memorandum. Asking potential | | | | publication Fast Ventures is not rendering business, |
| investors to answer a few questions concerning | | | | financial, investment, legal or other professional |
| their financial background and experience in dealing | | | | advice or services. This publication is not a |
| with investment related matters is probably the | | | | substitute for such professional advice or services |
| least invasive way to gather required background | | | | and it should not be used as a basis for any |
| information and ensure your compliance with | | | | decision that may affect your business. |
| state and federal securities laws. | | | | |