Generally, any offering must comply with the Section 5 of Securities Act, which requires the issuer to file a registration statement before offering securities. Section 4(a)(2), however, exempts “transactions by an issuer not involving any public offering,” i.e. a private placement, from the requirement to file a registration statement. In determining whether an offering is public or private, courts historically focused on whether a particular class of investors needed the protections of the Securities Act, or whether the class of investors could make informed decisions without the protections of the Act; see, for example, SEC v. Ralston Purina Co., 349 U.S. 119 (1953). This accords with one of the rationales of the Securities Act, which is to protect unsuspecting investors from undue risk. If investors possess the financial literacy and sophistication to discern whether an investment contains undue risk, then the issuer and investor should be able to freely transact with minimal regulation from the government.
Regulation D and Resale
Currently, Regulation D governs how companies can conduct private placements of securities. Under Rule 504 companies may privately place up to $5,000,000 with minimal restrictions. Under Rule 506 there is no cap on the offering value, but issuers must meet other restrictions. There is a maximum of 35 investors who must qualify as sophisticated investors, but accredited investors are excluded from the 35-investor ceiling. Additionally, under Rule 506, issuers may not generally solicit their offering. Resale of privately placed under Rule 506 securities by the investors are restricted and must comply with Rule 144 or Rule 144A.
The most common private placements are corporations that want to raise capital but avoid the highly regulated process of filing a registration statement and conducting a public offering. As these corporations generally seek to raise greater than $5,000,000, they often rely on Rule 506 and offer their securities to large financial institutions, such as investment banks.
[Last updated in January of 2022 by the Wex Definitions Team]