Introduction
In today’s challenging capital markets, public companies are searching for alternatives to conventional methods of raising capital. For many public companies, particularly smaller ones and those without investment grade-credit, neither conventional underwritten public offerings nor PIPEs and similar private transactions are viable options in the current market. Moreover, even companies that are in a position to complete such transactions may find them unattractive for cost or timing reasons. In either case, a registered direct offering (RDO) is an alternative that merits consideration, as it may offer advantages over other capital-raising methods, including faster and more flexible timing, better pricing, lower cost and reduced risk.

A registered direct offering is the sale of registered securities through a placement agent to a select group of investors on a best efforts basis. Securities sold through an RDO are typically sold under a shelf registration statement, and the buyers in an RDO are typically an issuer’s existing investors and institutional investors with whom the placement agent has a relationship. The type of security most often sold in an RDO is common stock, but RDOs of debt and convertible securities have lately become more common.

In order to understand the advantages and disadvantages of RDOs, it is helpful to compare them to other methods of raising capital that are familiar to most public companies: traditional underwritten public offerings and private investment in public equity (PIPE) transactions. RDOs share some of the characteristics of both, but have advantages and disadvantages distinct from each.

Underwritten Public Offerings
A traditional underwritten public offering is the SEC-registered sale of securities through a syndicate of underwriters on a firm-commitment basis. Because the offering has been registered with the SEC, securities sold through a traditional public offering are generally freely and immediately transferable by their purchasers.

Issuers that are eligible to use Form S-3 often use shelf registrations and shelf take-downs to expedite the process of raising capital in the public market, particularly if they expect to make several offerings in the relatively near future. Rather than covering a single, immediate offering of securities, a shelf registration statement covers one or more offerings of securities, up to a dollar amount specified in the registration statement. Before initiating any offerings the issuer files a shelf registration statement along with several basic disclosure documents and agreements, including a base prospectus, a form of underwriting agreement and, if the registration statement includes debt securities, a base indenture.¹ Once the shelf registration becomes effective, the issuer has the option to issue the securities under the shelf registration immediately or at a later point in time, as the issuer’s capital needs dictate or when market conditions are favorable, without the need to restart the registration process for each offering. When the issuer decides to offer securities under the shelf registration, the issuer files supplements to the base prospectus and other documents already on file and proceeds with an offering of all or some of the registered securities (a “shelf take-down”). This streamlines the process and reduces the time needed for the offering, providing more flexibility to the issuer.

The disadvantages of an underwritten public offering are the significant transaction costs of the registration and underwriting process, as well as the length of time that can be required to complete registration, book-building, pricing, and closing. Although the shelf process mitigates some of these expenses and timing issues, even a shelf take-down can result in surprisingly high transaction costs and take an unacceptable amount of time for an issuer that needs to take advantage of a narrow market window. Moreover, because of the length of this process, the time between the announcement of the sale and its completion leaves the market price of the issuer’s existing securities susceptible to speculation, fluctuation and downward pressure in anticipation of the upcoming sale of additional securities.

PIPE Transactions
In a PIPE transaction, a public company makes a private placement of unregistered securities to investors, generally with the help of a placement agent acting on a best efforts basis. The securities are sold subject to registration rights that require the issuer to register them at a later date (typically 60 to 90 days after the initial sale). PIPEs became and remain popular because, in contrast to underwritten public offerings, they allow the marketing of securities to a small group of investors on a confidential basis so that the issuer can gauge the market prior to announcement of the sale and avoid the speculation and publicity associated with a traditional underwritten public offering. Additionally, both the truncated marketing process and the deferral of registration until after closing of the initial transaction allow issuers to complete PIPEs more quickly than traditional public offerings, which can be a distinct advantage in a volatile market.

In addition to the significant advantages of a PIPE transaction, there are also substantial disadvantages. First, the pricing of securities sold through a PIPE transaction is typically less favorable to the issuer than for securities sold in a public offering. Because the securities sold in a PIPE transaction are unregistered and can be traded only on a restricted basis until they are registered, investors can demand a significant liquidity discount in price at the time of sale. Second, in PIPEs involving common stock or securities convertible into common stock, the discounted price of the securities offered through a PIPE also can cause the market price of the issuer’s publicly traded shares to drop when the sale is announced. Finally, a PIPE does not avoid the costs associated with registering the securities, it merely delays them until registration occurs after the sale.

Registered Direct Offerings Compared
An RDO can offer an issuer the advantages a PIPE transaction has over a traditional underwritten public offering, while avoiding some of its disadvantages. Like a PIPE, an RDO avoids some of the risk of market price fluctuation, as it allows the marketing of securities to a select group of investors on a confidential basis prior to announcement of the sale. Additionally, an RDO affords protection from the risk associated with speculative trading during the window between the announcement of an underwritten public offering and the date of pricing and closing, as an RDO is typically announced and priced on the same day. An RDO also shares the truncated marketing process of a PIPE and can be completed more quickly than a traditional public offering, giving the issuer the ability to hit a narrow market window.

Unlike securities sold in a PIPE transaction, the securities sold in an RDO are registered and immediately tradable, as in an underwritten public offering. Because of this, the securities sold through an RDO are not subject to the same liquidity discount as securities sold through a PIPE transaction, and the corresponding negative effect on the market price of the issuer’s shares may be avoided. Although there is some discount, pricing for securities in an RDO overall is usually more favorable to the issuer than for a PIPE transaction.

Compared to an underwritten public offering, an RDO typically involves lower transaction costs because the marketing process is more streamlined. Although an RDO, as a registered offering, requires a prospectus, because it utilizes the shelf registration process (reducing the amount of disclosure that must be included in the prospectus) and is marketed to a small group of sophisticated investors, the prospectus supplement for an RDO may be drafted much more quickly and easily than for a conventional underwritten public offering. However, because RDOs are public offerings, the placement agent is subject to underwriter’s liability under the Securities Act of 933, and therefore will need to conduct due diligence and negotiate a placement agent agreement that affords protections customary in underwriting agreements, such as representations, warranties and indemnities, all within the shorter time frame of an RDO. As a result, an RDO will generally involve higher transaction costs than a PIPE transaction in the same context.

Eligibility & Technical Considerations
An issuer must meet certain technical requirements to be able to benefit from the RDO process. First, because an RDO is a public offering, the securities must be sold pursuant to an effective registration statement. While any registration statement could be used, the advantages of an RDO are achieved only when an issuer has an effective shelf registration statement on Form S-3 in place. If the issuer has an effective shelf registration in place, then in order to use the shelf registration statement for an RDO:

• the issuer must be eligible to use the shelf registration for primary offerings;
• there must be sufficient capacity under the shelf to conduct the offering;
• the shelf must cover the type securities the issuer plans to issue through the RDO; and
• the issuer must either: (i) have a market capitalization of at least $75 million, excluding shares held by affiliates (its “public float”), or, (ii) for issuers with a market capitalization of less than $75 million, sell no more than 33.33% of its public float in primary offerings over any 12-month period.

In addition, issuers listed on the NASDAQ should be aware that under the NASDAQ rules an RDO is not considered a “public offering.” Consequently, under NASDAQ Rule 5635(d) the equity offered in an RDO generally cannot exceed 9.9% of the issuer’s public float without shareholder approval. There also may be other eligibility and technical considerations relevant to a particular issuer or potential transaction, on which counsel can advise an issuer considering an RDO.

Conclusion
For issuers that are able to use the process, an RDO may offer the advantages of a PIPE transaction without many of its drawbacks. However, an RDO is not always a better option than a PIPE transaction or a traditional public offering. Not all issuers are able to use Form S-3, and some that are may be limited in the amount of securities they may issue. Still, an RDO deserves careful consideration by any issuer looking to raise capital in today’s volatile markets, and in many cases it may prove to be the best option.

¹ An issuer eligible to use Form S-3, the form registrants typically use for shelf registrations, incorporates by reference its filings under the Securities Exchange Act of 934, further reducing the disclosure about the company that must appear in the registration statement.