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What is a Private Placement?

The Financial Industry Regulatory Authority (“FINRA”) has issued a new investor alert Private Placements-Evaluate the Risks Before Placing Them in Your Portfolio. As investors search for yield in a low-rate environment, more investors are being drawn to private placements.

A private placement, also called a non-public offering, is an offering of a company’s securities that typically is not registered with the Securities and Exchange Commission and is not available to the general public. The majority of private placements are offered pursuant to Regulation D of the Securities Act of 1933 (“Reg D”). Reg D specifies the amount of money that can be raised, and the type of investor that may be solicited to invest in a non-public offering.

In general, participants in private placements are institutional investors e.g., banks, insurance companies, and pension funds, or “accredited investors.” An accredited investor has an individual or joint net worth with his or her spouse exceeding $1 million, exclusive of primary residence; or had income exceeding $200,000 ($300,000 jointly with a spouse) in each of the two most recent years, and has a reasonable expectation of the same income level in the current year. In theory, an individual who meets the definition of an “accredited investor” is financially sophisticated and better equipped to understand and accept the risks of investing in private placements.

With the passing of the 2012 JOBS Act, companies will now be allowed to conduct general solicitation and advertising for non-public securities offerings. As a result, all potential investors, accredited or otherwise, will likely be the recipients of private placement sales pitches.

For investors who are invited to participate in a private placement, FINRA offers some tips to evaluate the investment and determine whether to add it to their portfolio.

  • Do your homework on the company’s business operations. Many private placements are offered by companies that are not required to file financial reports, so investors may have difficulty finding out how the company is doing. Ask your broker what information he or she reviewed about the company.

  • Ask how and when you may be able to liquidate the investment. Private placement securities are considered “restricted” securities and have specific limitations on how and when they can be resold.

  • Consider how the investment fits in with your overall investment profile and risk tolerance.

  • Be extremely cautious about non-public offerings you hear about through unsolicited emails, social media, or cold calling.

When considering whether to participate in a private placement, investors should consult an investment professional and tax adviser for a thorough and beneath-the-surface explanation of the investment’s risks, benefits and potential tax consequences before adding it to their portfolio.

FINRA’s Investor Alert: Private Placements-Evaluate the Risks Before Placing Them in Your Portfolio can be read by clicking here.

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