Increasing your PIPE line of operating capital.

• Author: Lee, Jason B.
• Position: Private investment in public equity

After three seasons of declining stock prices in most major equity markets, scores of CFOs are scrambling to find new ways to raise enterprise capital. Many are turning their attention back to private equity. At the forefront is a little known, highly controversial yet increasingly popular structured security known as a Private Investment in Public Equity, better known on Wall Street as a PIPE.

Simply defined, PIPEs are sales of equity securities in publicly held firms for which the number of shares, price and terms of the investment relationship are privately negotiated between buyer and issuer. They can be creatively structured using various investment vehicles, including common stock, common stock plus warrants, convertible preferred stock, convertible debt or structured private equity.

Probably the leading reason for issuing a PIPE is anticipation of a capital-intensive event like a merger, acquisition, product line expansion, mezzanine bridge, working capital buffer or recapitalization.

This type of fund-raising differs hugely from venture capital, as investors are rarely able to vie for board seats--nor do they have a say in how and on what the capital shall be spent. PIPEs offer a unique flexibility in that they are open to both institutional and individual investors, as long as the buyer can afford to meet fairly high minimum investment thresholds (for individuals, this typically means putting together a syndicate of contributors).

Terms are also quite flexible, and can be written to favor either the issuer or buyer; conversion price, dividend, redemption, covenants and protective restrictions, and warrants are all fair game in negotiations. "There are a lot of sellers who must learn to negotiate with a few buyers. Many prices start out very low," says Larry Allen, CEO of The New York Private Placement Network, LLC. According to investment banker Harlan Kleiman, CEO of Shoreline Pacific LLC, between 1995 and 2000, PIPE deals grew eight-fold, and the total number of completed deals reached 3,300 by 2002. But after peaking in 2000, the market fell in 2001-2.

Recent corporate scandals have put a temporary bump in the road for PIPE issuers. That, coupled with an increasing popularity in real estate private equity, has caused the number of deals and deal value to fall slightly from their peak.

There are several myths about PIPEs, all of which should be dispelled. One suggests that issuers are deeply troubled companies that may be on the verge of bankruptcy, have poor fundamentals and an atrocious credit rating, or are offering an unattractive public stock to buyers.

Another misconception about PIPEs is that they are the easiest type of...