FINRA provided guidance for members who market private placements, typically under Rules 504, 506(b) and 506(c) of Regulation D under the Securities Act of 1933, as amended, to retail investors. Based on deficiencies observed in a review of communications concerning private placements, FINRA stated that marketing materials should reflect the fact that many private placements are either illiquid or speculative in nature, and should "balance claims of these investments' benefits by disclosing these risks." FINRA issued the guidance as a reminder of applicable rules and to highlight recent regulatory notices.
Under FINRA Rule 2210(d)(1) ("Communications with the Public"), communications from member firms must (i) be fair and not misleading, (ii) disclose risks associated with investments in addition to potential rewards, (iii) provide a "sound basis" for potential investors to assess a financial service or product and (iv) be approved by a registered principal prior to filing such communication with FINRA's Advertising Regulation Department. FINRA also reminded members of their obligations in their review of third-party offering materials, such as private placement memoranda, in relevant private placements.
According to FINRA, when forecasting issuer operating metrics in retail communications, firms should consider (i) the period of a forecast, (ii) the correlation between growth rate assumptions and the nature and scale of a business, (iii) if a gross margin prediction is connected to industry averages, and (iv) whether sales and customer acquisition forecasts are consistent with the current market for an issuer's products or services.
FINRA also reminded member firms that communications with the public for registered and unregistered real estate investment programs "are applicable to retail communications regarding private placement investments designed to provide distributions to investors."
In addition, FINRA clarified that the use of an "Internal Rate of Return" measure for private placements of real estate, private equity and venture capital is permissible under Rule 2210 for completed programs. Such a measure is also permissible as to ongoing operations under certain conditions (i.e., it is "calculated in a manner consistent with the Global Investment Performance Standards (GIPS) adopted by the CFA Institute and includes additional GIPS-required metrics such as paid-in capital, committed capital and distributions paid to investors.")
Originally published July 06, 2020.
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