A Private Investment in Public Equity, commonly known as a PIPE, is one method for micro-cap and small-cap issuers to raise capital while keeping transaction costs low. In this type of financing:
- Investors enter into private purchase agreement with a public company to acquire the company’s securities at a fixed price.
- Fixed price is typically at a discount to the current trading price.
- A Placement Agent often controls the investment process, but this offering can be coordinated directly by an issuer and an investor.
- Securities are sold in a private placement, making them restricted securities that cannot be resold immediately.
- Issuer grants investor registration rights and commits to file a resale registration statement which allows the investor to resell its securities into the public market.
- PIPE transactions are typically conditioned on the resale registration statement becoming effective with the SEC soon after the purchase of the securities, so the investor has quicker access to liquidity in the public markets.
Pros of PIPEs:
- Lower transaction expenses than an issuer would incur in a public offering, particularly if no placement agent is used.
- Expands base of accredited and institutional investors.
- The transaction is disclosed to the public only after definitive purchase commitments are received from investors, which can eliminate some uncertainty of pricing an offering.
- Investors receive only streamlined offering materials or information, including reports publicly filed under the Exchange Act.
Cons of PIPEs:
- Investors require a discount to the market price of the securities to compensate for the initial resale restrictions on the securities.
- If issuer is not eligible to use Form S-3, there is typically a longer period of time between closing and when the registration statement is declared effective by the SEC, when the purchaser cannot resell the shares.
- The offering can only be marketed to accredited investors.
- No general solicitation can be used to market the offering.
- An issuer cannot sell more than 20% of its outstanding stock at a discount without receiving prior stockholder approval.
Before structuring and conducting a PIPE, a company should consider:
- 20% Rule: stockholder vote requirement
- Prior stockholder approval is required for NYSE and Nasdaq-listed companies if the offering is priced at a discount and the offering results in an issuance of 20% or more of the issuer’s outstanding common stock.
- Warrant coverage in the offering will count for the 20% rule unless: (1) exercise price is equal to or exceeds market value; (2) not exercisable for six months; and (3) does not contain anti-dilution or price protection features or a variable exercise price based on Black-Scholes.
- Some PIPEs involve convertible preferred stock or convertible debt that converts at a discount to a variable market price driven formula, which can lead to a “death spiral” if the securities do not contain a price floor to reduce the incentive for an investor to short or otherwise drive down the price of the stock to obtain additional securities.
- Disguised primary offering
- The SEC will closely review registration statements where the investor has the ability to acquire more than 33% of an issuer’s common stock, and may deem such a registration as a disguised primary offering.
- In this scenario, the SEC may view the investor as an underwriter of the company’s securities, which would subject the investor to additional liability under the Securities Act.
- The SEC may prohibit the registration of the shares underlying a convertible security in advance if the SEC takes the view that the offering is a disguised primary offering.
- Potential integration issues
- If other private offerings are conducted within six months (before or after) of the PIPE and not conducted under a safe harbor, those offerings may be integrated with the PIPE.
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