What is a 'Subscription Agreement'

A subscription agreement is an application by an investor to join a limited partnership, and it is also used to sell stock shares in a private company. All limited partners must be approved by the general partner. The limited partner candidate fills out a form documenting the investor's suitability for the investment in the partnership.

BREAKING DOWN 'Subscription Agreement'

Private investors invest in companies by completing a subscription agreement, which is an agreement between the issuing company and the investor documenting how many shares are sold and the price of the shares.

The Differences Between Public and Private Stock Issuance

If a company wants to issues shares of stock to the general public, the firm must register securities with the Securities and Exchange Commission (SEC). The primary disclosure form for potential investors is a prospectus, which is an expensive and time-consuming document to create.

A private placement is a stock sale to a limited number of accredited investors who must have a specific level of investment experience, assets and net worth. A private placement memorandum takes the place of a prospectus and provides a lower level of disclosure to investors.

In many cases, a subscription agreement is provided with the memorandum, which commits the issuer to sell a fixed number of shares to the investor at a specific price. Some agreements document a specific rate of return that must be paid to the investor, such as a specific percentage of company net income or lump sum payments that must be paid on certain dates. This structure allows the investor to earn a rate of return on the investment before company founders or other minority owners are paid.

Factoring in Partnerships

A partnership is broadly defined as a business agreement between two or more people who both have personal ownership in the business. The partnership does not pay taxes because the profits and losses from the partnership pass through to the personal tax returns of each partner. Each partner in a general partnership is liable for the actions of every general partner, which creates more financial risk. Law firms and accounting firms are often formed as general partnerships.

In a limited partnership, a general partner manages the partnership and brings in limited partners using a subscription agreement. Each limited partner’s exposure for losses is limited to that partner's original investment. The subscription agreement for a partnership documents the investment experience, sophistication and net worth of the potential limited partner.

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