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What is Private Placement?

  • Rudri Rawell
  • 22 Sep
  • 5 minutes

Every company requires capital for running its operations, achieving expansion goals, scaling up in terms of growth and catering to other business needs. So, where can companies get capital from? There are many routes for raising capital, like issuing shares in public, reinvesting its profits, selling stocks through private placement, etc. Many of us know about IPOs for raising capital through a public offering, however, not many may be familiar with private placements.

So, what is a private placement, how does it work, and how do companies benefit from it? Here is all you need to know about private placement.

Concept of private placement

Private placement is a process through which a company can offer its shares or bonds privately to accredited investors. 

Companies that require capital but are not eligible to list their stocks publicly often rely on private placements. Companies that are in the initial growth phase often rely on this method of generating capital. They prepare presentations for accredited investors who are well-versed with the business and can conduct due diligence before investing. 

In private placements, Private Equity funds are the key contenders since they have sufficient cash that is available for investment in companies that show good future prospects.

Types of private placement

There are two varieties of private placements. Details are in the table below:

TypePreferential allotmentQualified institutional placement
Who is it offered toA listed company issues securities at a certain price to a select group of entities, for example, institutions or promoters. Under this format, a listed company issues shares or convertibles to institutional buyers.
EligibilityThe eligibility of investors is determined according to Chapter XIII of SEBI (DIP) guidelines. The eligibility of investors is determined by the provisions of Chapter XIIIA of SEBI (DIP) guidelines. 
Key featuresInvestors may have to follow a lock-in period. In a normal scenario, companies must seek the permission of their shareholders before making a preferential allotment.Introduced in 2006, this process was meant for listed companies to get an additional route for raising funds from the domestic market instead of relying on foreign markets.

Latest news on private placement

This year, the amount of funds raised by companies through private placements is at the lowest since 2014. Until May’22, companies had raised about Rs 1.96 trillion as per statistics released by PRIME Database. This amount is down by 23.4% from the previous year’s Rs 2.56 trillion raised through private placements. The drop is mainly attributed to lower fund requirements and rising interest rates.

Why is private placement used by companies?

Some of the top reasons why many companies prefer to raise funds via this route are:

No stringent rules to be followed

Companies use this mode mainly to generate capital from wealthy individual investors and institutions. This way, they can avoid the rigorous process involved in raising capital from public. Private placement often lacks transparency and there are no restrictive rules regarding disclosure to public. 

Can be used at any stage

Irrespective of whether a company is in project initiation stage or has reached maturity in its business cycle, it can raise funds through private placement without any restriction. This may not be possible if raising capital through banks or from the public since there will be detailed scrutiny on the phase of business and why it requires funds.

Enhanced knowledge of private equity investors

Since private placements mostly involve private equity players who are experts in certain fields, their knowledge and network can aid the company in achieving faster success. A private equity, apart from lending funds through private placement, will also help the company grow by lending guidance and direction.

Benefits and flaws of private placement

The table below lists some of the benefits and drawbacks of private placement:

BenefitsDrawbacks
Ideal for small companies in the growth phase that are unable to meet the criteria to get listed on an exchange.The private placement market is highly illiquid. Also, investors may demand higher returns than what the company can deliver. 
Companies can benefit from expert advice lent by private equity players.Investors may demand a higher stake in the company in return for funds lent. They would also like to participate in the company’s decision-making process. 
Faster process as compared to raising funds through public offering since the latter involves relatively longer legal procedures.

Conclusion

Although the regulations surrounding private placements may be less stringent than a public issue, companies still have to adhere to the guidelines mentioned in Section 42 of the Companies Act, 2013 (‘Act’) while making a private placement. Companies should also note that private placement can only be made to select persons or entities and cannot involve public advertisements or media channels to notify the public about such offers. 

FAQs

Are private placements economical for companies?

Yes, private placements are considered economical since a company does not have to spend on prospectus, application forms and other mandatory requirements involved in a public issue.

Can companies enjoy confidentiality in private placements?

Since shares are allotted to selected individuals or entities in a private placement, companies can keep the procedure confidential as there is no need to make the information public.

Can private placements be used by listed companies?

Yes, private placements can also be used by listed companies to raise capital for specific business needs, especially during maturity phases when it is difficult to raise funds from financial institutions or public.

Is there a maximum limit for raising funds through private placement?

The maximum number of participants in a private placement can be 200 people. There is no specified maximum limit on the amount of funds that can be raised through this mode.

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Rudri Rawell