Even though a publicly traded company has access to the equity and debt capital markets, the conditions in the public markets are not always ideal for raising money. By selling shares in a private placement, a company doesn't have to register the shares with the U.S. Securities and Exchange Commission and can raise money more quickly. Private equity investors buy the assets of companies that don't list shares in the public markets. Private equity firms could very well participate in private placement deals.
When a publicly traded company sells shares of stock in a private placement, it can also known as a PIPE -- a private investment in public equities. Privately held small businesses can also perform private placements as a means to raise capital without the expense of an initial public offering. In a private placement, an issuer sells equity or debt to a select group of private investors. In exchange for buying private securities that aren't as easily traded as public investments, private placement investors are generally offered incentives, such as a discounted price.
Private equity generally involves the formation of an investment fund in which the capital of multiple investors is combined. The private equity firm then proceeds to make investments in individual assets or through buying out entire companies, which could include publicly traded companies that are converted to the private sector. Much of the time, the businesses that private equity firms invest in are distressed, or financially troubled, and yet private equity is known for adding debt to its target companies to perform takeovers. The private equity firm seeks to improve the business and eventually sell those assets in some manner for a profit.
A primary risk in a private placement is the potential lack of liquidity in shares. If private placement investors want to sell their shares for cash sooner than planned, there's no guarantee that there will be a buyer. In the public markets, investors have the support of market specialists matching buyers with sellers. A lack of liquidity is a risk investors in private equity funds face because it usually takes several years before profits materialize. In 2012, when investors were nervous about committing to long-term investments, private equity firm Carlyle Group began offering investors an opportunity for early withdrawals, according to a 2012 article in "The Wall Street Journal."
Prestige and Returns
In 2011, "The New York Times" reported criticism of social networking company Facebook's private placement as lacking detail. The article cited author and finance professor Meir Statman's assertion that investors were being lured by the attraction of status -- the prestige that accompanies the financial strength to participate in an offering requiring a minimum investment of $2 million. The overarching allure of private equity is the high profit potential that these investment vehicles offer. In the 26-year period leading up to 2010, private equity profits exceeded by 18 percent the broader stock market as represented by the S&P 500 index, according to a 2012 report published by Knowledge@Wharton.
- Inc.: Private Placement of Securities
- Morrison Foerster: Frequently Asked Questions About PIPEs
- The New York Times: Private Stock Deals Are That Way for a Reason
- The Wall Street Journal: Why Carlyle’s Liquidity Promise May Be Difficult to Keep
- Knowledge@Wharton: Private Equity -- Fact, Fiction and What Lies in Between
- PEI Media: Private Equity -- A Brief Overview
- Jupiterimages/Photos.com/Getty Images