Part 3 of 3: Will Your Private Placement Memorandum (PPM) Risk Factors Protect You?

This is the last part of a three part blog on PPM Risk Factors.


This is the last part of a three part blog on PPM Risk Factors.  Click here for Part 1 and here for Part 2.

What exactly are the applicable securities laws and why do they matter?

When going through the fund raising process, regardless of whether you are using a Private Placement Memorandum (PPM) for crowdfunding or otherwise, there are two primary federal acts that regulate securities offerings, namely, the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”).  The Securities Act is based on the premise that investors are capable of evaluating the merits of a securities offering if they are provided accurate and complete information regarding the company and the offering.  The civil liability provisions of the federal securities laws impose special disclosure obligations and liabilities on a company and the offering participants when the company offers its securities for sale.  These provisions are intended to:

  • Create an incentive for full disclosure.
  • Compensate buyers who either:
  • are denied the opportunity to review an accurate and complete prospectus; or
  • are provided with materially misleading investment information.

The Securities Act and the Exchange Act provide aggrieved buyers of securities with several express and implied causes of action.  These civil liability provisions expose offering participants to severe sanctions for violating the Securities Act or the Exchange Act.  Nevertheless, some of these provisions do not apply if the company can utilize one of the exemptions available under the Securities Act to offer securities without a registration statement, including those exemptions contained in Regulation D.

There are many federal securities law provisions that create potential liability in connection with a company’s offering.  The liability provisions applicable to an offering exempt from the registration requirements of the Securities Act are limited to Section 17 of the Securities Act, and Sections 10(b) and 20 and Rule 10b-5 of the Exchange Act.  The other civil liability provisions generally do not apply if the company can use one of the exemptions available under of the Securities Act to offer securities without a registration statement.

Section 17

Section 17 of the Securities Act is the general ant-fraud provision of the Securities Act and prohibits any person involved in the offer or sale of a security from using material misstatements or omissions to obtain money or property.  Essentially, this section specifically applies to the offering materials, including a PPM, used in the sale of securities.  There is no private right of action under this section, and claims based on Section 17 are enforced by the SEC.

Section 10(b) and Rule 10b-5

Section 10(b) and Rule 10b-5 of the Exchange Act provide an implied private action for material misstatements or omissions, or manipulative and deceptive devices, in connection with the sale or purchase of a security.  Section 10(b) prohibits fraud in the purchase or sale of securities, while Rule 10b-5 is the general anti-fraud provision of the Exchange Act.  These provisions apply not only to offering materials, including the PPM, but also to any other communications connected to the offering.  For example, any general solicitation used under Rule 506(c) of Regulation D would be subject to Section 10(b) and Rule 10b-5, and may be used to impose civil liability as well as prompt enforcement action by the SEC.

For civil liability to attach under Section 10(b) and Rule 10b-5, there must be:

  • A false statement about, or omission of, a material fact.
  • The false statement or omission must be made with scienter (that is, an intent to deceive, manipulate or defraud).
  • Evidence that the plaintiff justifiably relied on the statement or omission.
  • Evidence that reliance on the false statement or omission caused damages.

Section 20

Section 20(a) of the Exchange Act imposes liability on any person or company who directly or indirectly controls any other person or company held liable under Section 10(b) or Rule 10b-5.  This controlling person can be held liable jointly and severally with and to the same extent as the controlled person.  For example, officers and directors of a company involved in an exempt offering under Regulation D could be held personally liable under Section 20(a) if the company is found liability based on material misstatements or omissions in its PPM.

These liability provisions can overlap, and liability under one provision or one federal act does not preclude liability under another.  In fact, most actions under the securities laws are brought under more than one section.  In particular, virtually all securities actions involve a claim under Section 10(b) and Rule 10b-5, which impose liability on anyone who makes a material misstatement or omission in connection with buying or selling securities.

Boilerplate and template-based risk factors really wont protect you.

The “bespeaks caution” doctrine is a concept developed in case law holding that statements that include projections and expectations about a company’s prospects (that is, statements that are forward-looking) are not misleading if they are accompanied by adequate risk disclosure to caution readers about specific risks that may materially impact the forecasts.  The bespeaks caution doctrine requires the cautionary language to be meaningful and tailored to the specific company, its business, and projections.  Boilerplate or vague cautionary language will not suffice.

Although the SEC and courts clearly frown upon boilerplate language, it is inevitable that companies will have some generic cautionary language and risk factors that apply to a company’s industry in general.  The key is to also address how those factors affect the company specifically, thereby lending further credence to an argument that such cautionary language is meaningful.

Don’t dive head first into shark infested waters.

Well-drafted risk factors can help protect companies engaged in capital raising against liability under the broadly used anti-fraud provisions of the Securities Act, including under Section 17 and Rule 10b-5.  In addition to offering statutory protection, adequate cautionary language in the form of properly drafted risk factors offers companies further protection under the judicially-derived “bespeaks caution” doctrine.  Under this doctrine, alleged misrepresentations or omissions are immaterial as a matter of law if sufficient, specific cautionary statements accompany the alleged misrepresentations or omissions.  Where cautionary language is present, courts have analyzed the allegedly fraudulent materials in their entirety to determine whether a reasonable investor would have been misled.

Ultimately, the SEC’s guidance on risk factors boils down to this: tailor the risks as they would impact the company or its securities as specifically as possible and clearly explain the anticipated impact on the company.  If the company’s PPM includes risk factors that adhere to these guidelines, the company’s senior management should sleep well at night, knowing they are fully protected against legal exposure and securities laws violations.

About the Author: Erik P. Weingold

erikErik P. Weingold is an entrepreneur and corporate securities lawyer with over 20 years experience under his belt.  He has been practicing law since 1995, and since 1998 has been drafting PPMs that have been used to raise millions upon millions of dollars for startup companies and small businesses throughout the U.S.  Erik is the founder and General Counsel to PPM LAWYERS, as well as Of Counsel to Convergent Litigation Associates, LLC (, a national law firm focused on the representation of clients through complex securities and commercial litigation.

Spread the love

What Customers Say About Us