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Private placements - what are they?

As the name suggests, a “private placement” is a private alternative to issuing, or selling, a publicly offered security as a means for raising capital. In a private placement, both the offering and sale of debt or equity securities are made between a business or issuer and a select number of investors. There may be as few as one investor for any issue.

The three most important features that would classify a securities issue as a private placement are:

1. The securities are not publicly offered

2. The securities are not required to be registered with the securities regulators

3. The investors are limited in number and must be “accredited”*

Companies, both public and private, issue in the private placement market for a variety of reasons, including a desire to access long-term, fixed-rate capital, diversify financing sources, add additional financing capacity beyond existing investors (banks, private equity, etc.) or, in the case of privately held businesses, to maintain confidentiality.

Since private placements are offered only to a limited pool of accredited investors, they are exempt from registering with the securities regulators. This allows the issuer to avoid certain costs associated with a public offering and allows for more flexibility regarding structure and terms.  

Private placement - advantages

  • Long-term: Private placements provide longer maturities than typical bank financing at a fixed interest rate. This is ideal for when a business is presented with a growth opportunity where they wouldn’t see the return on their investment right away; a business would have more time to pay back the private placement while having the certainty of financing cost over the life of that investment.

  • Speed in execution: The growth and maturity of the private placement market have led to improved standardization of documentation, visibility of pricing and terms, increased capacity for financings, and an overall increase of size and depth of the market ($10MM - $1B+). Thus, the private placement market fosters an environment that allows for quick execution of an investment, generally within 6-8 weeks (for the first transaction. Follow-on financings can be executed within a shorter time frame).

  • A complement to Existing Financing: Private placements also help diversify a company’s capital and capital structure sources. Since the terms can be customized, private placements can complement existing bank debt versus compete with it and allow a company to manage its debt obligations better. Diversification of funding sources is essential during market cycles when bank liquidity may be tight.

  • Privacy and Control: Private placement transactions are negotiated confidentially. Also, public disclosure requirements are limited compared to those found in the public market. Companies would not be beholden to public shareholders.

Uses of capital

Long-term capital is congruent with a company’s long-term investments. Thus, capital raised from issuing a private placement is most commonly used to support long-term initiatives versus short-term needs, such as working capital. Companies, both public and private, use the capital raised from private placements in the following ways:

  • Debt refinancing

  • Debt diversification

  • Expansion/Growth capital

  • Acquisitions

  • Stock buyback/Recapitalization

  • Taking a public company private

  • Employee Stock Ownership Plan (ESOP)

 

*An investor is considered “accredited” if they meet minimum financial net worth qualifications as well as other requirements set by the federal government; They are considered to be more experienced and are the only investors allowed to purchase private placements. Being accredited should imply that the investor has the knowledge required to make prudent investment decisions and that they can afford to take a loss should something go wrong.

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