Legal Definitions - letter stock

Letter stock refers to shares of a company's stock that have not been registered with the Securities and Exchange Commission (SEC) for public sale. Because they are unregistered, these shares come with specific restrictions on when and how they can be resold to the public. The term "letter stock" historically comes from the "investment letter" or "representation letter" that purchasers of such stock would sign, acknowledging these restrictions and stating they were buying for investment purposes, not for immediate resale. These shares are also commonly known as restricted securities.

Here are some examples illustrating letter stock:

• Startup Funding Round: Imagine "Quantum Leap Innovations," a promising tech startup, needs to raise capital to develop its groundbreaking new product. Instead of pursuing a public offering, which is costly and complex, it secures funding from a group of venture capitalists (VCs) and angel investors through a private placement. In exchange for their investment, these investors receive shares in Quantum Leap Innovations.

  How it illustrates letter stock: The shares issued to these VCs and angel investors are considered letter stock. Quantum Leap Innovations did not register these shares with the SEC because it was a private offering to a limited number of sophisticated investors. Consequently, these investors cannot immediately sell their shares on a public stock exchange. They must typically hold them for a specific period (often six months to a year, depending on the company's reporting status) and meet other conditions before they can be sold to the general public.

• Employee Stock Options in a Private Company: Sarah works for "BioSynth Dynamics Inc.," a rapidly growing private biotechnology company. As part of her compensation package, she is granted stock options. When she exercises these options, she purchases shares in BioSynth Dynamics Inc. at a predetermined price.

  How it illustrates letter stock: The shares Sarah acquires are letter stock. Since BioSynth Dynamics Inc. is a private company and its shares are not publicly traded, these shares are unregistered. Sarah cannot simply sell them on a stock market. She will typically need to wait for a significant company event, such as the company going public (an Initial Public Offering or IPO) or being acquired by another firm, or find a private buyer who also agrees to abide by the resale restrictions, after satisfying any applicable holding periods.

• Shares Issued in a Private Acquisition: "GlobalTech Solutions," a large publicly traded company, acquires a smaller, private artificial intelligence firm called "NeuralNet Labs." As part of the acquisition agreement, NeuralNet Labs' founders receive a substantial portion of their payment in GlobalTech Solutions' stock, rather than all cash.

  How it illustrates letter stock: Even though GlobalTech Solutions is a public company, the shares issued directly to NeuralNet Labs' founders as part of this private acquisition transaction are considered letter stock. These specific shares were not part of a public offering registered for immediate resale by the founders. The founders will be subject to specific holding periods and volume limitations (often under SEC Rule 144) before they can sell these shares on the open market, ensuring an orderly distribution and preventing market disruption.