Understanding Private Stock Offerings

Private stock offerings, also known as equity financing is the issuance of share ownership of a business or corporation through the offering of stocks through private sale. When a business entity decides to issue stock it is attempting to expand ownership and/or raise capital for business ventures. A stock offering is different from an incorporation share structure which is established when a company is formed.

Depending on the type of business the share structure may be initially limited to 100 shareholders or less in the case of a S corporation or more than 100 shareholders in the case of a C corporation. However, the number of shareholders does not necessarily have to equal the number of shares and often does not. Limited partnerships, as opposed to general limited liability partnerships may have shareholders who have only partial liability protection in relation to general partners and the number of shareholders is limited by the number of partners which tends to be quite small. 

Cross referencing share structure requirements with share offering allowances can help avoid confusion in the offering process, but generally speaking C-Corporations are the least likely to experience complications regarding number of shareholders.

Types of private stock offerings

There are three types of private stock offerings used in the United States. These are the "Private Placement Memorandum (PPM), Limited Partnership Offering (LPO) and the Small Corporate Offering Registration (SCOR)" (www.cfss.com)

The Limited Partnership Offering is designed for businesses structured and incorporated as limited partnerships and therefore this method of stock offering may not be utilized by S corporations and C corporations.

Small corporate offering registrations vary from state to state depending on state laws and procedures. Currently not all states allow this type of offering but a large number of states do. This type of offering is quite flexible in that it allows sale of stock to any interested persons rather than just "accredited" and "unaccredited" investors.

Investor accreditation is important in the Private Placement Memorandum offering which limits the number of potential investors to those with high personal wealth, experience and knowledge in the purchase of stocks and potential risks. A limited amount of additional investors are also allowed in this type of offering but they too must pass certain knowledge requirements. There are also restrictions on the amount of capital that can be raised using this method and how many times a year stock offerings can be made.

How to offer stock privately

Although issuing private stock is more simple than a public stock offering there is a fair amount of due diligence, careful though and preparation that ideally goes into the decision and process of issuing private stock. Knowing one's business inside and out, its needs, the effects of a stock offering, risks and benefits are all important factors to weigh. Additionally, understanding the process, and requirements can not only help a business owner or owners determine whether or not they require outside assistance, but also how much of that assistance may be necessary. The following is a general guideline of the some of the steps involved in private stock offerings.

• Incorporate the company as a partnership, S-Corporation or C-Corporation

• Become familiar with financial goals and capital requirements 

• Familiarize with the three types of stock offerings i.e. partnership, small business or C-Corporation

• Assess liability, legal and management risks and incorporate this into the decision making process

• Consider the benefits of legal counsel or business consulting services

• Create a detailed prospectus that includes stock, financial, legal, and business information

• Prepare additional paperwork, sale and recording items.

Advantages of private stock offerings

There are several unique advantages to issuing private stock. Most notably, the great amount of capital infusion into a business that has the potential to be cheaper than bank loans or other forms of debt financing. Some of the benefits of private stock offerings are listed below:

• No Securities and Exchange Commission (SEC) registration required

• In the case of SCOR offerings, stocks can be resold in stock exchanges

• Capital generation and infusion into the corporation

• Less publicity of corporate financial records, strategies and operations

• Taxation of earnings may be limited to shareholders

Disadvantages of private stock offerings

There are also potential disadvantages to private stock offerings, specifically in some cases liability, decline in the value of stock and therefore equity capital, and greater management accountability.

• Loss of complete ownership

• Increase in paperwork, and accounting record keeping requirements

• Increased responsibility to shareholders

• Dividends may be a requirement and/or expectation of investors

• Potential for lawsuit in some instances of business malpractice

Choosing to issue stock privately can be a big step in a businesses growth and is a decision that is left in the hands of the business owner(s). This decision may be best thought out carefully in terms of business goals, objectives and profitability. Understanding potential liability risks and benefits to the business in addition to the requirements and changes to the business operation that are subsequent to the offering are important. The information in this article provides a brief acclimation to the private stock offering process and may serve as a starting point or reference to the procedure of private stock offering and various attributes pertaining to it.

Sources:

1. http://www.jbv.com/lessons/lesson24.htm
2. http://www.cfss.com/stockofferingbasics.htm