The private placement memorandum, also called the PPM, may be one of the most daunting hurdles for syndicators. They tend to be really long, dense, confusing, and repetitive. But it actually doesn’t need to be that way. Let’s take all the mystery out of it. There are three ways that syndicators do their PPMs.
Three Ways Syndicators Do PPMs
Many just don’t do a PPM at all. If the syndicator is doing a 506C offering, then the regulation actually doesn’t require it; but a 506B does. Our advice is to always do a PPM.
The second way that syndicators get their PPM done is to try and find a template on the internet, or borrow a friend’s. This ends up being a weird patchwork of PPM, with repetition and contradictory things. Trying to do a PPM on the cheap is like trying to find property insurance for a commercial building from a guy sitting on a bus bench. You’re not spending money in the right kind of place. One role of a PPM is your insurance, so it’s critical to have it.
The third way to get a ppm done is to hire a lawyer who regularly does this. There are quite a few firms out there that do a very, very good job with PPMs. They care about protecting their clients. They’re certainly firms that you should consider.
Why Do a PPM?
There are three reasons why we do a PPM. One of them is absolutely critical, and the other two are really, really important, even if you’re doing a 506C. The first reason that we do a PPM is to explain the operating agreement in plain language that gives investors a sense of confidence about what is in this crazy contract. The PPM talks about the way voting and distributions work, what happens in capital calls, etc. This helps in case your investor doesn’t want to read a very, very dense operating agreement.
The second reason we do a PPM is to provide a shield. A PPM gives your disclosures, your disclaimers, and identification of every risk that you can possibly think of. At the end of the day, you don’t want to have an investor come to you when something’s going a little amiss, or they just need their cash, or they’re nitpicking about one particular thing that they’re not very fond of, or they’re looking for reasons to get out of it. Without a PPM, they could say to you, “Well, you never told me that.” But if it’s in the PPM, you told them, they reviewed it, and they had an opportunity to discuss it with their lawyer. This will also be crucial in the case that the SEC starts an investigation. The first thing they’re going to look into is what information was provided to the investor. And the onus is on you to prove that the investor is not telling the truth.
The third reason to do a PPM is that it is also a marketing tool. The PPM is your opportunity to show up at the most critical time and demonstrate that you’re a professional. You’re saying, “You can trust me with your hard earned money. You’re likely to make it back, and a lot more.” The PPM is your marketing material. It’s thorough, organized, and includes good content that’s nicely printed.
Sections of the PPM
Let’s talk about some of the common sections of a PPM to give you a flavor of what all goes in it. One of the most important things is the identification of risks. So we include all the risks of investment in two places in the PPM. Right at the front, immediately after the cover page, you should put a big disclaimer about risks. It’s not very specific, but it at least calls out risks and says to review more risks inside. The second place to put it is inside the PPM further down, somewhat near the end.
Next, summarize the investment. Give an executive summary of what that investment looks like, so that an investor who doesn’t have a lot of time can read it really quickly and say, “Oh yeah, this was the deal where they’re buying four buildings, and it’s going to be a seven year hold, and that’s the expected return. I remember talking about that.” It just reminds them of it and gives them the taste of it so they can decide whether they want to read more or not.
Next, talk about how the investment functions. Go through who manages it, how votes are done, all those rules that are in the operating agreement. Remember, the first reason to do a PPM is to explain the operating agreement in plain language.
The most important section of a PPM is identification of the terms. What your investors are really looking for is distributions and how they happen. There’s a lot of terms that we put in the term section, but the most important one that they always, always, always turn to first is distributions and how they happen. They want to know when distributions are happening – is it monthly, quarterly, annually? What does that look like? They want to know if it’s a waterfall, and then what does that waterfall structure look like? Is it a preferred return? What’s the preferred return rate? And how does that break down? Is it a hybrid between those two? How does it actually happen?
Another section that is important, relating more to marketing than anything else, is a section on the company, the management, and the bios. This is a good opportunity to show you’re an experienced syndicate or promote yourself if you’re new. Include who you are and why somebody should trust you with that money. What’s your special sauce? Put it in your bio.
Then go into detail on the risks. It’s good to identify different categories of risks. First, talk about general investment risks, that it’s speculative and the investor knows that there’s a possibility that they’ll lose all their money. It may seem that it’s way too negative, but this is the place to be negative. By not being negative, you look like an amateur. Be really, really specific about every kind of risk you could possibly imagine. This makes you look like a pro. If this is not there, big-time investors are going to be suspicious, and they should be. Go into very specific risks that are related to just real estate in general, then risks related to tenants.
And then there are a couple other sections that are always included. For any kind of syndication, include what happens if they need to get out sooner than the investment term, your projections, and any attachments, including the operating agreement, the subscription agreement, the verification process, the purchase and sale agreement, the business plan, and any marketing materials that you’ve done, and any existing leases.