What is a Private Placement
A private placement is a capital raising event that involves the sale of securities to a relatively small number of select investors. Investors involved in private placements can include large banks, mutual funds, insurance companies and pension funds. A private placement is different from a public issue in which securities are made available for sale on the open market to any type of investor.
BREAKING DOWN Private Placement
A private placement has minimal regulatory requirements and standards that it must abide by. While it is a capital raising event involving the sale of securities, it is a method of capital raising that does not have to be registered with the U.S. Securities and Exchange Commission (SEC). Its investors include a small pool of entities and individuals. The investment does not require a prospectus and in many cases, detailed financial information is not disclosed.
An important aspect of raising capital in a private placement is the involvement of accredited investors. While private placements do not require the issuer to register its securities with the SEC, it does require that the issuer only sell the private securities to investors that qualify as accredited investors under the standards set forth by the SEC in Regulation D of the Securities Act of 1933.
Accredited investors can be either individuals or entities that qualify under the SEC’s terms. Entities often include venture capital firms. For detailed standards and requirements defining an accredited investor, see also accredited investor.
Private Placement Advantages
The private placement regulations allow an issuer to avoid the time and expense of registering with the SEC. The process of underwriting the security is faster, which allows the issuer to receive proceeds from the sale in less time. If an issuer is selling a bond, it can also avoid the time and expense to get a credit rating from a bond agency. A private placement issuer can sell a more complex security to accredited investors who understand the potential risks and rewards, and the firm can remain a privately owned company, which avoids the need to file annual disclosures with the SEC.
Private Placement Disadvantages
The buyer of a private placement bond issue expects a higher rate of interest than he earns on a publicly traded security. Because of the additional risk of not obtaining a credit rating, a private placement buyer may not buy a bond unless the bond is secured by specific collateral. A private placement stock investor may demand a higher percentage of ownership in the business or a fixed dividend payment per share of stock.