For readers unfamiliar with the term, a Private Placement Memorandum, or PPM, is usually a long document, often half an inch thick or more printed, that is given to prospective investors and used partly to describe the deal but mostly to explain the risks.
The PPM finds its origins in the lengthy prospectus required of companies selling securities to the public in a registered offering. Following suit, Rule 502(b)(2) of Regulation D requires an issuer to provide specified information to prospective investors in some offerings and in some situations – for example, where securities are offered to non-accredited investors in an offering under Rule 506(b).
But where securities are sold only to accredited investors under Rule 506(b) or 506(c), the issuer is not required to provide the information described in Rule 506(b)2) – or any other information, for that matter. The idea is that accredited investors are smart enough to ask for the important information and otherwise watch out for themselves.
Companies like Fundrise that offer securities under Regulation A or Regulation A+ are required to provide specific information to investors. But Crowdfunding under Title II of the JOBS Act involves selling only to accredited investors in transaction described in Rule 506. Therefore, the law leaves to the issuer and the portal what information to provide and in what form.
For them, what are the pros and cons of a full-blown PPM?
The cons are obvious. Nobody but a lawyer could love a PPM. A full-blown PPM is bulky and unattractive, repetitive and filled with legalese. Ostensibly written to provide information to prospective investors, PPMs have, through time and custom, become so daunting that prospective investors rarely even read them. From a business perspective, a PPM creates friction in the transaction.
However, the pros are also obvious. Although Regulation D does not require an issuer or portal to provide any information, an issuer that fails to provide information, or provides incomplete or inaccurate information, may be liable to disgruntled investors under 17 CFR 240.10b-5, the general anti-fraud rule of Federal securities law, or various state statutory and common law rules.
That’s why the PPM exists: to provide so much information to prospective investors (albeit in an unreadable format), and to describe the risks of the investment in such repetitive detail, that no investor can claim after the fact “I didn’t know.”
The question is whether the issuer and the portal can get the same benefit without all the disadvantages. And the answer, in my opinion, is a resounding Yes!
In fact, the trend in private placements over the last two decades has been away from the full-blown PPM and toward a simpler disclosure document. I have been representing issuers in private placements of securities for more than 25 years and never prepare a PPM except where required by law (e.g., with non-accredited investors). None of the issuers I have represented during those 25+ years has been sued for securities law violations – much less successfully – and in my anecdotal experience, claims arising from alleged failures to disclose material information rarely if ever hinge on the presence or absence of a full-blown PPM.
Not only are portals not required to provide a full-blown PPM, in my opinion the question presents portals with a great business opportunity. Given that information must be provided, the manner in which it is provided, in what format, with what visual effects, how clearly and with what explanation, could well distinguish a portal in the minds of prospective investors. With the technology inherent in the platform, not to mention the creative minds in the industry, I expect that the manner of providing information will become one of the key ways that individual Title II portals distinguish themselves from one another and that the Crowdfunding industry in general improves the process of capital formation. Someday we will look back on the thick PPM and ask “Can you believe we once did it that way?”
A portal that gets it right – and there will be more than one way to get it right – will also create some protectable intellectual property interests and the accompanying breathing space vis-à-vis its competitors and additional valuation on exit.
Questions? Let me know.