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Private Placement

See Also:
Convertible Debt Instrument
Common Stock Definition
Preferred Stocks
Hedging Risk
Treasury Stock

Private Placement Definition

The private placement definition is the process of raising capital directly from institutional investors. A company that does not have access to or does not wish to make use of public capital markets can issue stocks, bonds, or other financial instruments directly to institutional investors. Institutional investors include the following:

You do not have to register private placement issuances with the Securities and Exchange Commission (SEC). In addition, you do not have to provide a detailed prospectus. The issuing company and the purchasing investors negotiates the terms and conditions are negotiated. You cannot trade private placement securities on public markets, but they can be traded privately among institutional investors after they have been issued by the issuing company.

A private placement is in contrast to a public offering, which is issued in public capital markets, requires a detailed prospectus, must be registered with the SEC, and can be traded by the investing public in the secondary markets.

Advantages and Disadvantages of Private Placement

The primary advantage of the private placement is that it bypasses the stringent regulatory requirements of a public offering. You have to conduct public offerings in accordance with SEC regulations; however, investors and the issuing company privately negotiate the private placements. Furthermore, they do not have to register with the SEC, do not require the issuing company to publicly disclose its financial statements, and ultimately avoid the scrutiny of the SEC.

Another advantage of private placement is the reduced time of issuance and the reduced costs of issuance. Issuing securities publicly can be time-consuming and may require certain expenses. It forgoes the time and costs that come with a public offering.

Also, because the investors and the issuing company privately negotiate private placements, they can be tailored to meet the financing needs of the company and the investing needs of the investor. This gives both parties a degree of flexibility.

Now, let’s look at the disadvantages of private placement. The main disadvantage of private placement is the issuer will often have to pay higher interest rates on the debt issuance or offer the equity shares at a discount to the market value. This makes the deal attractive to the institutional investor purchasing the securities.

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Private Placement, Disadvantages of Private Placement, Private Placement Definition
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Private Placement, Disadvantages of Private Placement, Private Placement Definition

 

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Financial Instruments

See Also:
What is a Bond
Required Rate of Return
Return on Asset
Commercial Paper
Hedging Risk
Histogram

Financial Instruments and Securities

Financial instruments are contracts that represent value. They come in many varieties. In fact, financial managers and bankers have a lot of leeway in creating and issuing financial instruments. The Securities and Exchange Commission (SEC) regulates publicly traded financial instruments; however, the SEC less stringently regulates private placement instruments. Most financial instruments fall into one or more of the following five categories: money market instruments, debt securities, equity securities, derivative instruments, and foreign exchange instruments.


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Money Market Instruments

Money market instruments are highly marketable short-term debt securities. Furthermore, money market instruments are generally low-risk investments. Because of this, they offer yields that are lower than riskier stocks and financial instruments.

Often, investors trade money market instruments in large denominations among institutional investors. However, some money market instruments are available to individual investors via money market funds, or mutual funds that pool money market instruments.

Money market instruments include treasury bills, repurchase agreements, certificates of deposit, commercial paper, bankers’ acceptances, Eurodollars, and federal funds.

Debt Securities

Debt securities are longer-term debt instruments. With debt instruments, the issuer is essentially borrowing money from the investor. The investor plays the role of a lender lending money to the issuing entity. Longer-term debt securities often yield higher returns than money market instruments. Debt instruments also represent a claim on the assets of the issuing entity.

Debt securities are often called fixed-income securities. This is because the investor or lender often predetermines the terms of the debt instrument. For example, a debt instrument will be issued with a certain maturity, a certain principal amount, and a set coupon rate. However, while debt securities are often called fixed-income securities, this does not mean they yield a fixed stream of payments – debt securities’ returns can fluctuate and vary.

Examples of debt securities include: treasury notes, treasury bonds, inflation-protected treasury bonds, federal agency debt, international bonds, municipal bonds, corporate bonds, junk bonds, mortgages, mortgage-backed securities, and other types of debt.

Equity Securities

Equity securities represent shares of ownership in a company. In addition, equity securities often come with voting rights. They represent the shareholders’ interest in the issuing company and a residual claim on the company’s assets. This means if the issuing company goes bankrupt and has its assets liquidated, then the equity holders only get their money back after all other relevant claimants have been paid what they are owed.

Equity securities may be traded publicly on stock exchanges, they may be traded in over-the-counter (OTC) transactions, or they may be exchanged and held privately. Types of equity securities include common stock, preferred stock, and American Depository Receipts (ADR).

Financial Derivative Instruments

A financial derivative instrument is a contract that derives its value from an underlying asset or factor. In short, the value of a derivative depends on the value of something else. When the value of the underlying factor changes, the value of the derivative instrument also changes. Derivatives are often used for speculation, for leveraging a position, or for hedging risk.

Common derivatives include futures, forwards, options, and swaps. Common underlying assets or factors include stocks, bonds, currency exchange rates, commodity prices, market indices, and interest rates. However, derivatives can derive their value from almost anything, including weather data and political election outcomes.

Foreign Exchange Instruments

Another category of financial instruments is foreign exchange instruments. These are contracts involving different currencies. There are many currencies in the world, and there are several different instruments commonly used to trade in currencies.

The value of one currency relative to another depends on the exchange rate between the two currencies. Consider exchange rates either fixed or floating. Types of foreign exchange instruments include spot contracts, forward contracts, options, futures, and swaps.

Exchange foreign currencies for investment and speculative purposes and for hedging risk. You can trade foreign currencies all over the world twenty-four hours a day via banks and brokerages. The foreign exchange market is the largest market in the world. Consider speculating in foreign exchange markets very risky.

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financial instruments, money market instruments

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