As commonly as it’s used, the private placement memorandum is still widely misunderstood. It’s essentially a prospectus – a document that discloses material information about a new financial offering and the company that issues it. But in those precincts of the funding world that endeavor to avoid the burdens of Securities and Exchange Commission registration, the PPM holds a special place between a legal requirement (which it’s not) and a nice-to-have (which understates its importance).
But first, we should ask: Do you need one? The next question is: Are you the one who needs to write the PPM? There are plenty of professionals who do this – and you’d be surprised how cheap some of them are. If, however, you genuinely need a PPM and it falls to you to will it into existence, it's good to know there are checklists and templates to guide you.
As a rule of thumb, if you're asking people for money, you should tell them what they're getting for it. A PPM is a formalized way of doing that. Also called an offering memorandum or offering document, a PPM communicates the value proposition to prospective investors, whether on the debt or equity layer of your company's capital stack.
The Securities Act of 1933 stipulates that a company can’t sell securities without first registering with the SEC – but there are exceptions to this expensive and time-consuming requirement.
“It would not be unusual to take ten months and cost a company $150,000 to conduct a registration,” according to the website of Weingold Law, a White Plains, N.Y., firm which touts its services via the tagline, We Are PPM Lawyers. “In light of this significant hurdle, the SEC has enacted many exemptions to the registration rules that are specifically designed to allow startups and small businesses raise capital more quickly and at a much lower cost.”
The most widely cited exemption is Regulation D, which is intended to allow issuance of unregulated securities – providing that they aren’t sold directly to unsophisticated investors who might not be able to accept the downside risks. It ensures that issuers target only accredited investors – those with annual incomes exceeding $200,000 or liquid assets exceeding $1 million. Within it are two provisions, Rule 504 and Rule 505, that permit issuers to solicit investment for companies that aren’t yet big enough to trade on exchanges.
Rule 506(b) and Rule 506(c) are for those businesses big enough to trade on exchanges but don't want to. Rule 506(b) permits private offering only to investors with whom the company has a pre-existing relationship. No more than 35 investors may be unaccredited, although the rule requires audited financials if there's even one of them. Even so, this exemption provides no upward limit to the amount which can be raised.
Meanwhile, rule 506(c) permits issuers to solicit and raise unlimited capital using whatever advertising they choose to promulgate their offerings. While this marketing can appear on the general public's screens, only accredited investors are allowed to participate in the market for these securities.
According to the SEC, none of these require an issuer to promulgate a PPM, technically speaking. But maybe you should anyway.
“Perhaps if you are doing a small deal with three or four accredited investors, you know well, the risk [of forgoing a PPM] might be small, and it might be worth doing a deal without a PPM,” according to St. Augustine, Fla., attorney Kim Lisa Taylor. “But what if you are advertising to a large group of strangers? Is it still worth it? Before you take on risky behavior, decide what you have to lose and whether it’s worth foregoing the insurance policy a PPM can provide. And don’t forget, the funds you raise from investors can be used to reimburse you for the legal expense of having your securities offering documents professionally drafted – so, in effect, this is an insurance policy that protects you that your investors will pay for. Why wouldn’t you want that?”
While a PPM is indeed a legal document, that doesn’t mean you have to pay lawyers full freight to write it. After all, they might just be filling out a boilerplate template that you might be able to fill out yourself. You can Google “write a PPM” and come up with any number of templates – some via pay sites, some for free – and a lot of those are on law firms’ websites.
Your corporate counsel – and we’ll assume you already have one, or at least a fractional one on retainer – can advise how much more expertise you might need than a template offers. Still, few in the securities industry would advise you to download a template and do it yourself.
Weingold breaks down your options for PPM prep, including a rough price scale. A large law firm might run you more than $35,000, although a boutique firm's fee would max out at less than half that point, and some of them start as low as $5,000. Some non-attorney drafters could handle it for less than that; the lowest we saw was Shields Capital Partners, which advertises PPM prep starting at $3,600. Of course, in the $0-to-$100 range, you can fill in a template yourself.
As you can infer, it's not just expertise that increases and decreases as you climb or descent this cost ladder. There's also reputation. And wrapped up in reputation is a capital introduction. If you've already targeted whom you're going to raise money from, maybe you don't need Dewey Cheatham & Howe. But if your preparer can also serve, formally or informally, as a cap intro source, that should go into your equation.
However you go forward, there are certain elements that any PPM ought to contain:
Of course, an executive summary is always useful, and no prospectus ought to be presented without a description of risk factors. One other necessary element of a solid PPM is the subscription agreement – the actual sales contract governing the relationship between issuer and investor. And then there are always the investor suitability requirements, disclaimers, jurisdictional legends, and other bits that fill up the legalese section of the document.
Don’t forget to call out notices that these securities are unregistered and lacking a public market, as well as any restrictions on their transfer.
As for the financial section, it's best to include a capitalization statement and a discussion of economic conditions and operational results. This includes forecasts of future earnings.
Exhibits, according to Austin, Texas, attorney Brett Cenkus, might include:
Let’s remember what the PPM is for, though. It's to solicit funds. If your friends and family are in the shut-up-and-take-my-money mode, maybe you don't need to go through the exercise. However, if your goal is to attract capital from friends you haven't met yet, it's a good idea to have a full prospectus on hand, even though it might not technically be a statutory requirement.
If you’re still undecided, consider this: Is it better to have a PPM and not need it, or to need it and not have it?
William Freedman writes about business, technology, and finance for Global Finance, Macrotrends, AlphaSense, Sharestates, and other news outlets. He holds an MBA in international finance from The American University and serves on the board of governors of the New York Financial Writers’ Association.
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