Private Placements by Small Public Entities: Canadian Experience

Abstract:     
The specificities of the Canadian securities market render the analysis of private placements particularly insightful in this country. First, Canada applies very lax listing requirements, allowing tiny capitalization companies to list at a pre-revenue stage (Carpentier et al. 2009). Most of the private placements are offered by these companies - in essence, entrepreneurial ventures - for which the asymmetry of information and adverse selection problems are particularly acute. Second, public companies tend to use private placements more frequently than seasoned equity offerings as a financing source, probably owing to the lax regulation of this activity. Private placements seem to be a very important source of equity for these emerging businesses, which allows the analysis of a large number of placements. Third, hedge funds and other institutional investors that are strongly involved in the private equity activity in the U.S. are only marginally active in Canada, where individual investors are the main buyers of private placements. In contrast with the public offering process, placements of shares are made in the exempt market with accredited or sophisticated investors, and mandatory disclosure is dispensed with because it is assumed that these investors would be knowledgeable enough to protect their own interests. The question of whether such investors can indeed invest wisely in emerging companies should be analyzed. Lastly, in Canada, private placements are mainly composed of ordinary stocks, in contrast with the U.S., where structured private investments in public equity (PIPEs) make up a large proportion of private placements. The valuation problems associated with the specificities of structured PIPEs are then largely absent.

This situation provides a unique opportunity to analyze the information and pricing dynamics around private placements, which are quite different from PIPEs in the U.S. The aim of this chapter is to analyze the extent to which this financing tool can be considered fair, i.e. if it provides investors with a fair rate of return and if accredited investors are indeed able to price these placements correctly in a context of large asymmetry of information.

Number of Pages in PDF File: 34

Keywords: Private placement, small business, Canada, regulation

JEL Classification: K22, G38, G32

Accepted Paper Series