A subscription agreement is a firm handshake between a private or public company and a private investor—no “dead fish” handshakes allowed. A subscription agreement (also known as a private placement) ensures a specific number of shares are sold at a specific price. The document created for a subscription agreement includes:
- The number of shares being sold
- The price the shares are being sold for
A subscription agreement is commonly used for companies that are not publicly traded but want to sell parts of their company to private investors. These private investors are also known as “silent investors.” Additionally, subscription agreements are one-time investments and any “silent investors” do not participate in the business’s day-to-day operations. It’s also important to note that subscription agreements are essentially a discounted stock price or a sale stock—think Saks OFF 5TH rather than Ross.
Subscription Agreement Rules
You need to play by the rules in order to succeed. Companies with subscription agreements aren’t publicly traded, but that doesn’t mean they can bend the rules when it comes to taking your money. These rules and regulations are outlined by the United State’s Securities and Exchange Commission (SEC) under two rules:
- Rule 506(b): Rule 506(b) states the ways in which companies can and cannot solicit investors, as well as, how many non-accredited investors are allowed to invest in the company.
- Rule 506(c): Rule 506(c) states that any investors must be accredited investors and the business seeking an agreement must verify the investor’s status.
While companies looking to participate in subscription agreements are not required to file with the SEC, they are required to follow the rules outlined in the SEC Regulations.
How Subscription Agreements are Offered
There are three main ways that subscription agreements are offered:
- Common Share Offering: A common share offering is a subscription agreement that is being sold regularly. For example, if you’re looking to purchase 100 shares of a company and each share is $1, you will have to spend $100 to receive 100 shares.
- Unit Agreement: A unit agreement is for investors who want to purchase additional shares down the road. A unit agreement allows investors to purchase shares at the same original price the purchased their other shares for, even if the price goes up. For example, if you purchase your shares initially for $1 apiece and a few years later you’re interested in buying more shares, however, the price has risen to $2 a share, investors are able to purchase the shares for the $1 price.
- Warrants: Warrant agreements are for investors who see that the stock prices are rising and want to purchase more shares of the stock at the original discounted price. Unlike unit agreements, warrants have a lifespan to them ranging from 2-5 years.
Purpose of a Subscription Agreement
The purpose of a subscription agreement is determined by who is seeking out this type of agreement. There are a few different types of users who would benefit from a subscription agreement:
- Private companies looking for investors
- Companies looking to invest in other companies
- Private investors
Subscription agreements allow these types of companies and investors to sell and purchase shares without the expense of registering with the SEC. This agreement is also a one-time investment, which allows investors to be more hands-off—as they are “silent investors” and don’t have a say in the business’s operations—and spend less money—as a subscription agreement is a single investment.
A subscription agreement is great if you don’t want a lot of say in the businesses you are investing in. However, subscription agreements are bound and private investors are not able to get their money back even if the business makes decisions that the investor does not like. Since subscription agreements typically require a large amount of money upfront from you, it’s imperative that you vet the companies you’re putting money towards, as you cannot get your money back—no 30-day return policy here.
It’s important for you to know that subscription agreements are a contractual agreement between the company and you (the private investor). Once you sign your name on the dotted line, you a completely bound to the agreement—no take-backs allowed and no changing your mind.
Subscription Agreement To-Do List:
Before signing a subscription agreement, you should look for and understand:
- How many shares of the company are being offered
- The price at which the shares are being offered
- The restrictions on the agreement
- Any special terms that may be included in the agreement
Subscription agreements are often long and can vary in language. It’s important to consult legal counsel before signing a subscription agreement to ensure all that is written is understood by both parties involved.
Selling Subscription Agreement Stocks:
So now that you’ve made some money off of your subscription agreement, it’s time to sell it to reel in the big bucks. There are a few guidelines and rules for those looking to sell their subscription agreement stock(s). On the back of the subscription agreement itself, there is a legend outlining when you are allowed to begin selling and trading. On some occasions, trading can begin the first day that you purchase the agreement.
Prospectus stocks—especially in regards to subscription agreements—are highly favorable, as they don’t have any restrictions on the trading or selling of stocks. Because of this, many investors would prefer having a prospectus stock so given there are no restrictions.
Things to Consider:
- If you are an investor residing in Canada, it is important to know that many subscription agreements are not a prospectus and typically have a 4-month hold before being able to be sold or traded.
- If you are an investor residing in the United States, you have a bit more flexibility given Rule 1-44 (see below) that allows for the exemption of any subscription agreement holds. Otherwise, most subscription agreements have holds ranging from 6-12 months.
Rule 1-44 is a rule enforced by the SEC that allows for stocks or agreements to be traded or sold even if they have restrictions in place. Rule 1-44 additionally states that holds are able to be removed only if certain conditions are met: reporting of the selling, amount of stocks/agreements being traded, and a minimum holding period.
A subscription agreement itself helps private companies gather investors for their business. Sometimes, these businesses have unplanned events or changes at the corporate level that shareholders should be notified of. These changes are documented through an 8-K form with the SEC.
Some examples of events that may require an 8-K form are:
- Fiscal year changes
- Director changes or resignations
Companies are required to submit 8-K forms within 4 business days of the event or change.
What to Look For to Make Money
Okay, so now that you know what a subscription agreement is, let’s sum up how to make money from them. Ideally, you don’t want to put money in a company that you don’t think will make it (Duh—this goes for any investments you make). But with subscription agreements, this is even more important as most companies that are offering subscription agreements are small companies looking for private investors.
Long-story-short, it’s hard to make money off of a subscription agreement from a company whose outlook doesn’t look too hot—so make sure you do your research first. And, if you’re not into scavenging the search engines for the information that you need to know, then let us do the work for you. FinancingsNow gives you our opinion on private placements and what you should do with them. You’ll never have to look further than our cheat sheet to get the deets on which subscription agreements to purchase. We’ve got you covered.
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