Legal Definitions - letter security

Letter security refers to an investment, such as a stock or bond, that carries specific limitations on when and how it can be sold or transferred. These restrictions typically arise because the security was acquired in a private transaction, not through a public offering registered with regulatory bodies like the U.S. Securities and Exchange Commission (SEC), or because it was obtained by an insider or affiliate of the company. The term "letter" often refers to a contractual agreement or "investment letter" signed by the buyer, acknowledging and agreeing to these resale restrictions. Essentially, a letter security is a type of restricted security.

• Example 1: Private Equity Investment in a Startup

  Imagine "Quantum Leap Innovations," a promising tech startup, needs to raise capital to develop its new product. Instead of undertaking a complex and expensive public stock offering, they decide to sell shares directly to a few specialized private equity firms and high-net-worth individual investors. These investors sign a detailed agreement acknowledging that the shares they are purchasing are not registered for public trading and cannot be immediately resold on a stock exchange.

  How it illustrates the term: The shares acquired by these private investors are "letter securities." The "letter" refers to the agreement they signed, which explicitly states the restrictions on their ability to sell the shares. They must hold these securities for a specified period or meet certain conditions before they can be publicly traded, ensuring compliance with securities laws designed to protect public investors.

• Example 2: Executive Stock Compensation

  Consider "Global Dynamics Corp.," a publicly traded company, which awards a substantial number of its own shares to its Chief Technology Officer (CTO) as part of her annual performance bonus. These shares are granted directly by the company, not purchased on the open market.

  How it illustrates the term: The shares granted to the CTO are "letter securities" because she is an insider (an "affiliate") of Global Dynamics. Even though Global Dynamics' stock trades publicly, the CTO cannot simply sell her newly acquired shares without adhering to specific rules. She likely signed an agreement outlining a "lock-up" period during which she cannot sell the shares, or volume limitations on how many shares she can sell within a certain timeframe. This prevents insiders from unfairly profiting from non-public information and ensures an orderly market for the company's stock.

• Example 3: Acquisition of a Private Company

  Suppose "Synergy Holdings," a large publicly traded conglomerate, acquires "Innovate Solutions," a smaller, privately held software company. As part of the acquisition deal, the founders of Innovate Solutions receive a significant portion of their payment in Synergy Holdings stock, rather than cash.

  How it illustrates the term: The Synergy Holdings shares received by the Innovate Solutions founders are "letter securities." Although Synergy Holdings' stock is publicly traded, the shares issued to the founders were not part of a public offering. The founders signed an agreement stipulating that they must hold these shares for a specific period (e.g., one or two years) before they can begin selling them on the open market. Even after this period, their sales might be subject to volume limits. This prevents a sudden influx of shares from the acquisition, which could depress Synergy Holdings' stock price, and ensures a smooth integration of the acquired company's assets and personnel.