experience for example, “has clearly demonstrated both that the private placement markets can be successfully promoted as a valuable source of capital, complementary to the public markets, as well as that these markets can only properly develop in an environment of clear regulatory “safe harbors,” under which both issuers and investors can operate with confidence.”<sup>56</sup> A private placement is a technique in which an issuer offers its securities to a restricted audience in exchange for funds. Because the offering is restricted in scope, it does not require the regulatory oversight necessary for investor protection in a public offering. It is therefore less timely and costly, and is well-suited for the needs of less established or lesser known companies with smaller capital requirements and limited resources. Similar to the market for bank loans, the terms of a private placement are typically negotiated between the issuer and the investors, who use contractual covenants to control their risk. However, maturities in a private placement tend to be longer than in a bank loan, and upon a possible default, it is easier and more typical for the parties to renegotiate the terms.

Historically, private markets emerged before public markets in developed economies. Indeed, a private placement market can serve as a filter for the public market. A private placement market allows riskier and newer companies to find financing outside of the public market which may have a base of inexperienced retail investors and is therefore better adapted to products with a safer profile. Private placements are well suited for companies seeking to bridge the financing gap between family and friends on the one hand, and the public markets on the other. It has been argued in fact that, in emerging markets there is “a pressing need for some form of registration exemption [or] modified process applicable to SMEs to enable them to raise capital in a quicker and less costly manner than the full registration process.”<sup>57</sup> Minimal legal and regulatory requirements apply to private placements. The principal requirement is that a legal or regulatory exemption from full securities registration be created. The rationale for this exemption is that the offering is being made to a limited audience and, therefore, the protections of the full panoply of securities laws are not necessary. The scope of that exemption, however, can vary, depending on the composition of the country’s market. For example, an exemption may be created for offerings to a limited number of investors, or to investors who are deemed to be “sophisticated” and able to look out for themselves without the protection of the securities laws. These “sophisticated” investors are typically denoted as individuals with high net worth or as institutional investors of a certain type or size. Alternatively, an exemption may be created based on the size of the offering.<sup>58</sup> What is key, though, is that the exemption be clear, certain, and complete. A clear legal and regulatory foundation is necessary to inspire confidence and attract issuers and investors. Absent certainty, the market will be confused and will not take

> 56 Managed Fund Association, 2001

> 57 S. Cohn, December 2004

> 58 For example, Rule 504 of Regulation D under the US Securities Act of 1933 allows issuers to sell up to $1million of securities without registration.

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