Often consultants and other
professionals working with companies
put themselves in a position to help raise
capital. This may be understandable
because these individuals already
understand the company’s issues
and often have strong contacts
in the financial community.
(2007), Brumberg, Mackey & Wall,
P.L.C., SEC No-Action Letter (2010).)
Finder or Broker-Dealer?
It also can be difficult to understand
when a person is effectuating a sale
and needs to be a registered broker-dealer. Essentially, a person who
promotes a security, helps negotiate
and structure the transaction, and
is paid a percentage of the deal is
acting as a broker-dealer and must be
registered. Unfortunately, however,
the law remains unclear. Most of the
guidance comes from the SEC’s no-action letters on particular fact patterns
and from a handful of federal court cases
spread out over a number of years.
However, professionals should be
extremely careful that the work they do
is not seen as effectuating transactions
for securities. Several factors are
important in the determination. Are
they structuring and promoting the
transaction? Do they take on this
type of work more often than rarely?
The SEC seems to provide more
leeway to professionals for whom
If the consultant negotiates the terms
of the capital raise, holds investor
funds or securities, prepares or
distributes sales literature, discusses
details of the securities with potential
investors, makes recommendations
regarding the securities, or receives
the likelihood of being found to be an
unregistered broker-dealer increases.
What types of companies can be sold
without a broker-dealer? Any type
can be, as long as the company isn’t
At the federal level, there
are no blanket exemptions
for persons who act also in
other capacities, whether
as lawyers or accountants.
Until recently, securities practitioners
understood that the method of
compensation (i.e., flat vs. transaction-based fees) was the determinative
factor for the SEC in deciding whether
a person acted as a permissible finder
or as an unregistered broker-dealer.
In SEC vs. Kramer, however, the
court found that the SEC’s “proposed
compensation’ test for broker activity…
is an inaccurate statement of the
law.” (M.D. Fla. April 1, 2011). Kramer is
currently on appeal with the 8th U.S.
Circuit Court of Appeals. Until this
matter is resolved, it is still best to avoid
If the capital raise is being effectuated
through some means other than
the distribution, sale, or exchange
of securities, such as the sale of a
business structured as an asset sale,
securities regulations regarding broker-dealers generally do not apply.
using an unregistered finder to “effect
or induce or attempt to induce the
purchase or sale of any security.” This
means, for example, that a company
could use a finder in connection with
the sale of 100 percent of its assets.
this work is a onetime event rather
than a main stream of revenue.
While real-world practice may differ, if
a company wanted to engage a finder
to assist in obtaining financing for an
acquisition or major capital purchase,
to be safe it should either (i) engage
a registered broker-dealer, or (ii) limit
the role of an unregistered broker to
introducing investors to the issuer
and limit the compensation of the
unregistered broker to flat fee unrelated
to the success/closing of the transaction.
In addition, how they are compensated
is an important factor. Although the
compensation to a consulting firm for
a successful large capital raise could be
lucrative, extreme caution is warranted
if the work may be construed as a
securities violation. A firm not only could
incur large financial penalties, but could
also lose something crucial to a service
provider’s business—its reputation.
At the federal level, there are no
blanket exemptions from broker-dealer
registration requirements for persons
who act also in other capacities, whether
as lawyers or accountants. Prior to SEC
vs. Kramer, it was relatively easy for an
attorney or accountant to credibly claim
it wasn’t acting as a broker-dealer—that
it was collecting a flat fee, as opposed
to a fee based on the success/size of
the securities sale—thereby passing
the SEC’s single-factor test. After
Kramer, however, this is less clear.
What consultants can do depends
on whether a capital raise involves (i)
the distribution, sale, or exchange of
securities or (ii) some other means.
Typically, the most determinate factor
is whether the broker is compensated
on fixed rate or a percentage of the
capital closed. This factor alone,
however, is not enough to determine
whether the work would be deemed
by a court to require a broker-dealer.
If a capital raise involves the distribution,
sale, or exchange of securities, the
consultant should limit its services
to introducing investors to the issuer
in exchange for a flat fee earned on a
basis unrelated to the success/closing
of the securities transaction. (Hallmark
Capital Corp., SEC No-Action Letter
Punishment for violating broker-dealer
laws can be severe. Not only could
a broker lose a commission, but he
or she also could bear liability for the
whole deal unraveling. In addition, the
company that hired the unregistered
broker-dealer could face liability as well.
Thus, to protect themselves and their
clients, professionals should not take on
continued on page 35