In periods of market stress and volatility, a company may find itself with an acute need for additional sources of financing and liquidity. Whether to finance existing operations or acquisitions, to refinance existing debt or to build a cushion of available cash in periods of uncertainty, a PIPE (private investment in public equity) transaction offers public companies an attractive source of capital.
Issuers in need of capital and investors looking to deploy funds nimbly are attracted to PIPE transactions—an investment in a private, non-registered issuance of securities in a public company—because they can be done quickly and discretely without disclosure to the market until a deal is signed. PIPEs enable parties to tailor investment terms to their commercial goals and, particularly for the issuer, signal to the market that it is worthy of investment by sophisticated investors. For private equity sponsors and other investors, PIPEs are a way to continue to invest in markets that may be challenging for buyouts and other investment strategies. PIPEs also present investors with an opportunity to take a sizeable position in an issuer at a price that is typically a discount to the prevailing public market price.
During the financial crisis of 2007-2009, there was a notable uptick in PIPE transactions for these reasons and, given current market conditions, there is reason to think PIPEs might again become the investment of choice for issuer and investors.
Key Commercial Terms
While PIPE issuers and investors tailor the terms of the investment to the aims and preferences of the parties, most PIPE transactions include some combination of the following key commercial terms.
- Board Rights. Many investors will negotiate for representation on an issuer’s board of directors proportional to the investor’s percentage ownership interest in the issuer, subject to the investor maintaining ownership above a certain minimum threshold.
- Consent Rights. An investor may be granted consent rights over certain key corporate actions such as changes to organizational documents and the seniority of the investment security. An investor will also typically vote on an as-converted basis with the issuer’s common stock (subject to exchange limitations, as noted below).
- Standstill. A PIPE transaction may subject its investors to a standstill provision restricting matters such as acquiring additional securities, entering voting agreements or otherwise seeking to assert additional control over the issuer.
- Registration Rights. In general, investors in PIPE transactions require registration of their investment securities to enable them to resell and obtain liquidity in the public markets and because many have internal limitations on the amount of restricted securities they can hold in their portfolios. Accordingly, investors typically negotiate terms governing the registration of PIPE securities, the timing and number of filings of registration statements of the issuer and investors’ ability to demand registration of their securities (i.e., demand rights) and add their securities in other registrations of securities by the issuer (i.e., piggyback rights).
- Lock-up. Investors in PIPE transactions may agree to a restriction on their ability to sell their investment securities (and attendant governance rights, to the extent transferable) for a certain time period after making the investment. A lock-up may also contain limitations on the size of the block an investor can sell to a future transferee as well as the identity of that transferee.
- Conversion. Triggering events that permit or require conversion may include the passage of a certain period of time, the issuer’s common stock reaching a specified threshold or, in the case of mandatory conversion, typically a change of control of the issuer. PIPE transactions may also include a “make-whole” feature in favor of the investor upon a change of control of the issuer or upon a notice of redemption.
- Redemption. Like conversion features, there are a number of triggering events that may permit or require the redemption by the issuer of the securities issued in a PIPE transaction, and redemption prices may include make-whole or rate of return based features.
- Investors in PIPE transactions receiving securities convertible into common stock typically receive anti-dilution protection in the event the issuer engages in a stock split, reclassification or other similar act. In addition, in the event of a future issuance of securities at a lower price, PIPE investors often negotiate for broad-based weighted average anti-dilution protection, which takes into account the weighted average dilutive effect of a future equity sale based on the size of that sale.
- In addition, PIPE investors often negotiate for preemptive rights to participate in future equity sales by the issuer, either by including an express preemptive right or by obtaining a consent right over future equity sales.
Key Structuring Considerations
Issuers and investors considering PIPE transactions should be mindful of a number of key structuring, legal and regulatory considerations.
Regulatory Update: On April 6, 2020, the Securities and Exchange Commission approved a waiver of certain limited aspects of NYSE’s shareholder approval requirements in connection with PIPE transactions. The waiver provides a degree of incremental flexibility to NYSE-listed companies conducting PIPEs priced at or above a minimum market price through June 30, 2020. The waiver aligns certain aspects of the NYSE’s rules with those of Nasdaq. The waiver does not, however, apply to the change of control rule. The shareholder approval rules are complex, and a proposed PIPE should be reviewed under all applicable shareholder approval rules, with advance consultation with the applicable stock exchange as appropriate.
As PIPE transactions offer both issuers and investors flexibility and speed, they may be an attractive and compelling option for businesses seeking capital in the current environment, particularly for businesses with urgent liquidity needs. However, a number of pitfalls remain for the unwary, and participants should consult with counsel in advance in order to appropriately structure a PIPE investment.
A version of this article appeared in Harvard Law Forum on Corporate Governance. See here.