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How Can the Structure of a PIPE Affect My Company's Stock Price?

PIPE financings can take many forms. The most basic is a Common Stock placement that is sold at some set discount or premium to the market price at closing.This type of structure may also include warrants that let the private placement investor purchase more stock at a set premium price for a period of time.Another basic structure is the Fixed Convertible security (either Preferred Stock or Debt).These securities yield a current return through interest or dividends and can be converted by the investorsinto shares of the company's common stock at a set price (usually at some premium to the market price at closing).Private Placements structured in either of these basic structures are usually considered a good sign for the public company.They convey that the private placement investors believe in the company's prospects for the long term and are willing to take on market risk with their investment.

The private placement structures that have the potential to cause excessive dilution are Floating Convertibles, Reset Convertibles, Self-Amortizing Convertibles, Structured Equity Lines, and Reset Common Stock placements. All of these structures enable the Investors to convert their securities into common stock at a price (or at a discount to a price)that is based on the market price at the time of the conversion. In their most basic form, the securities allow the investors to convert and make a profit whether the stock price rises or decreases in the future.For example, if the market price at closing is $5.00, but the market price when the Investors choose to convert is $3.00, the investors will be able to convert with a conversion price of $3.00 (or some discount to $3.00). A $3.00 conversion price is of course more dilutive than a $5.00 conversion price. If an Investor is converting $1,000,000 of a total $2,000,000 convertible security, the Purchaser will get 333,333 at $3.00 rather than 200,000 shares at $5.00 for the $1,000,000 security. Any decrease in the company's stock price can be exacerbated by the potential need by the Investor to sell the shares received in its conversion into the market; instead of selling 200,000 shares, the Investor has to sell 333,333 shares. This may cause the stock to go down further to, say, $2.00. Now the investor has to convert his remaining $1,000,000 at $2.00 and will receive 500,000 shares. The investor may again have to sell these shares in the market, thereby causing the price to go down even more. Such securities have been termed Toxic Convertibles, Death Spiral Convertibles, or Floorless Convertibles. As concerns relating to these securities have grown, many beneficial features have been added to protect existing shareholders. The most important of these is a Floor provision.This provision restricts the investor from converting below a certain price. This effectively limits the potential dilution of any variable or reset convertible security.Another important provision is a Monthly Conversion Limitation. This limits the investor from converting a certain amount of his holdings below the market price during any given monthly period.This is beneficial to the company and its shareholders because it ensures that the investor will not sell too much stock in a down market.Keep an eye out for these and other protections when analyzing any variable or reset placement.

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