Private Placements Explained: Bought Deal vs. Best Efforts

What is a bought-deal private placement?

Bought-deal private placements are one variety of private placement a company can undertake. They take place when an investment bank commits to purchasing all the securities being issued by a company (the issuer).

This type of private placement can be a popular option for companies as it eliminates the risk of not selling all the securities that are up for offer, and it means the issuer will immediately raise the funds it needs, which is generally good news for investors. At the same time, engaging in bought-deal private placements typically means companies will receive the bare minimum of funds, as buyers will usually receive a lower price if they buy all securities at once.

Those circumstances can benefit investment banks, but can also lead to more risk — investment banks may not be able to sell all the securities they purchase, for example. There’s also the chance that the securities may decrease in value after the investment bank purchases them, which is why buyers typically negotiate a discount.

Interestingly, law firm Morrison Foerster states that bought-deal private placements are easier to accomplish at specific times. For instance, if a bought-deal private placement occurs immediately after an issuer’s earnings announcement and the filing of its latest quarterly report, chances for insider trading may be reduced and the need to update disclosure information may be eliminated.

“Waiting until the issuer’s earnings announcements and the filing of the Forms 10-K or 10-Q will also make it easier for the underwriters to conduct due diligence and for the underwriters to obtain a comfort letter from the issuer’s auditors,” the law firm notes.

What is a best-efforts private placement?

A best-efforts private placement involves an underwriter who ultimately decides whether a deal is worth the risk and agrees to do their best to sell as much of a private offering as possible.

This type of deal doesn’t put the onus on buyers, as they will not be held responsible for unsold securities. Such private placements are typically used for more high-risk securities where the underwriter may not be fully confident of selling the full allotment.

Best-efforts private placements are the most common type of private placement offering. Since those participating in best-efforts private placements are not required to commit to purchasing securities in advance, it can be easier for companies to raise capital this way.

Best-efforts private placements offer other benefits to companies and their investors as well. One is that under a best-efforts private placement, underwriters only receive a flat fee, meaning companies have a chance to receive a higher return on their securities.