The SEC recently issued orders against two individuals and a company and, in doing so, continued the debate over what conduct requires someone acting as a “finder” to be registered as a broker or dealer or associated with a registered broker or dealer. This new guidance makes clear that the SEC takes a hard-line position on unregistered finders who receive transaction-based consideration, under facts and circumstances where such finders take an active role in securities transactions.
In the words of the SEC, “[t]he federal securities laws require that an individual who solicits investments in return for transaction-based compensation be registered as a broker.”
What is the New Development? The SEC’s new action is an order instituting alternative cease-and-desist proceedings against the individuals and their company. You can find a copy of the order and associated SEC press release.
What are the take-aways from the SEC orders?
Don’t do the following if you aren’t either a registered securities broker or associated with a registered securities broker:
- As an independent consultant,
- Actively solicit investors on behalf of a company,
- Receive in return transaction based compensation, and
- Include in your solicitation efforts sending PPMs, subscription documents and due diligence materials to potential investors.
If you do the above, under the order, you may become the subject of an SEC action.
What About SEC vs. Kramer?
In 2011, a Florida federal trial court in SEC vs. Kramer shot down the SEC’s position on what is a finder, holding that the “finder” question requires analysis of at least six factors, not merely whether there was transaction-based compensation paid to the finder. “In the absence of a statutory definition enunciating otherwise, the test for broker activity must remain cogent, multifaceted, and controlled by the Exchange Act.” The SEC appealed that decision, but the appeal was dismissed on procedural grounds.
The “finder” question remains unresolved, but prudence would suggest that any person who regularly engages in the business of finding investors and who receives transaction-based compensation should register as a broker-dealer.
What Does Form D Say?
In addition, you should be aware of the following: Companies raising funds are almost always required to file a Form D with the SEC and state securities regulators. The Form D requires disclosure of sales compensation, including the name of the recipient and whether the recipient has or doesn’t have a Central Registry Number (which licensed broker-dealers have). In addition the form requires sales commissions and “Finders’ Fees” to be separately broken out and reported.
What Does California Say?
California has a statute governing finders. Corporations Code Section 25501.5 provides purchasers of securities a rescission right for purchasers who purchased securities from a broker-dealer that were required to be licensed and were not.
The securities regulators don’t like finders. If you are a company raising funds, be extremely cautious if you are approached by someone who wants to act as an unregistered finder.