A Private Placement Memorandum (“PPM”), also known as a private offering document and confidential offering memorandum, is a securities disclosure document used in a private offering of securities by a private placement issuer or an investment fund (collectively, the “Issuer”). From an investor’s point of view, the purpose of the PPM is to obtain needed information about the Issuer and its securities, both good and bad, to make an informed decision about whether to purchase the security. The investor wants to know the parameters of investing in the Issuer and the potential rights, risks, and rewards of its investment. For the Issuer, the purpose of the PPM is to provide the necessary disclosures about the risks, strategies, management team, investment criteria and other information about its securities to protect itself and its managers against claims of misstatements or omissions.
After the initial seed raise, many issuers find it difficult to locate sufficient accredited investors to participate in the offering and turn to intermediaries. When using intermediaries, a company must (unless conducting a Rule 506(c) offering ensure that the intermediaries follow the rules requiring substantive pre-existing relationships with any prospective investors and avoid general advertising and solicitation. Intermediary violations of securities rules and regulations can subject the issuer to the same liabilities as if the issuer had committed the violations.
A company seeking to raise capital through a private placement generally looks to either debt or equity. Each has its respective advantages and disadvantages, both to the company and to the investor. An equity investment presents the investors with the possibility of a larger upside participation, but does not does not require the repayment of capital. A debt investments provides a periodic, fixed return to investors, but can put the company at risk if the company cannot timely meet its debt repayment obligations. If your company wants the benefits of debt without the risk of default, consider a hybrid approach: preferred equity.
Regulation D contains safe harbors that provide exemptions from federal registration. These include exemptions under Rules 504, Rule 505, and Rule 506. Rule 506 is the most commonly relied upon exemption in private offerings (accounting for more than 90% of offerings, according to SEC statistics).
Improper drafting of PPM disclosures often results in significant liability, even when the company did not overtly intend to deceive investors. The SEC and state securities commissions have developed a complex system of disclosure regulations, with which a company must comply for the securities to be deemed properly sold. In recent years, SEC regulations have undergone and continue to undergo major shifts, largely in response to the Dodd Frank Wall Street Reform and Consumer Protection Act (Dodd Frank) and the Jumpstart our Business Startups Act (JOBS Act). Failure to properly navigate the complex and continually changing regulations carries significant liability, including personal civil liability and criminal penalties in some cases.
A private placement offering’s basic structure involves either debt, equity, or some combination of debt and equity. Within the basic structure, an issuer has numerous options, from convertible securities (debts that convert to equity upon certain events), to priority distributions and resumptions. Not one structure fits every issuer. The offering structure is driven in large part by investor appetite for the particular investment.
Form D is a federal notice of an exempt securities offering and is the only disclosure document that is required to be filed with the SEC. This document discloses biographical information about the offering, the company, use of proceeds, and the principals of the company. Form D is not subject to a review or approval by the SEC, but is a required notification document. The federal Form D must be filed within fifteen days of the first sale to investors, an annual update must be filed as long as the offering remains open. Our firm offers issuers assistance in preparing and filing Form Ds as part of our flat-fee services. Form D is divided into two parts. The first part requests basic information about the issuer. The second part asks questions about the offering itself.
The SEC’s adoption of Rule 506(c) to allow general advertising and solicitation for private placement offerings has left us with some questions of practicality. We know from Rule 506(c) that issuers must take “reasonable steps” to verify the accreditation status of investors. We also know that the most non-invasive means of verifying that an investor is accredited is through obtaining written certification from a licensed professional, (attorney, CPA or broker/dealer) stating that the professional has reviewed documentation demonstrating that the investor meets the accreditation standard, as was set forth by the SEC. See the Capital Fund Law Group post on the adoption of Rule 506(c) here. But where can we find professionals willing to verify accreditation?
On July 10, the SEC adopted the long-awaited final rules to implement sections of the JOBS Act to lift the ban on general advertising and solicitation for certain Regulation D private placement offerings (as well as 144 offerings). At the same time, the SEC proposed new rules that, if adopted, will require additional regulatory burdens. The rules will take effect 60 days from the date of publication in the Federal Register.