With current economic conditions more and more public companies seeking capital and private companies seeking to become public are using the services of intermediaries or finders. “Finders” are intermediaries that bring parties together for potential business opportunities. For a public or private company this may mean introducing the company to an investor. For a private company seeking to go public, a finder may be used to locate a public shell for a reverse merger transaction to enable the private company’s securities to become publicly traded. The use of a finder often involves activities requiring the finder to register as a broker-dealer, including those activities related to reverse merger transactions designed to take a private company public. Issuers and finders should be aware of the activities that require broker-dealer registration and the potential consequences associated with using or acting as an unregistered finder.
Under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), a “broker” is defined as “any person engaged in the business of effecting transactions in securities for the account of others”. A dealer is “any person engaged in the business of buying and selling securities for such person’s own account through a broker or otherwise.”
Section 15 of the Exchange Act, and the rules promulgated thereunder require that, prior “to effect[ing] any transactions in, or [inducing] or attempt[ing] to induce the purchase or sale of, any security …”, a broker-dealer must register with the Securities and Exchange Commission ( the “SEC”) and become a member of the Financial Industry Regulatory Authority (“FINRA”) and the Securities Investor Protection Corporation (“SIPC”). Any person performing services as a broker or dealer must also comply with the registration requirements of the laws of each state in which they propose to conduct business.
Prior to engaging in broker or dealer activity an individual or entity must file applications with the SEC, FINRA and applicable state securities commissions. Further, principals and associated persons must pass a series of examinations administered by FINRA and the review process, which includes the submission of a business plan and interviews with the entity’s principals, and can take six months or more to complete. Moreover, they must also complete a thorough background review. After becoming registered, brokers and dealers must comply with a number of specific conduct, financial responsibility and reporting requirements, and are subject to periodic compliance examinations by the SEC, FINRA and state securities commissions. Both the SEC and FINRA, as well as state securities commissions require registration and regulate the activities of persons performing services as brokers and dealers.
Engaged in the Business of Effecting Securities Transactions
The following activities have been found to be “engaged in the business” of effecting securities transactions:
♦ holding oneself out as a broker;
♦ receiving transaction-related compensation;
♦ soliciting the purchase or sale of a security or securities transaction;
♦ assisting others in securities transactions; or
♦ participating in securities transactions regularly.
Additionally, the following activities have been found to be “effecting transactions in securities”:
♦ identifying potential purchasers or sellers of securities;
♦ soliciting or structuring securities transactions;
♦ negotiating terms of securities transactions;
♦ performing due diligence in connection with securities transactions;
♦ providing valuations in connection with securities transactions;
♦ handling funds or securities; or
♦ otherwise acting as an intermediary in a transaction.
Exemptions from Broker-Dealer Registration
There are a limited number of exclusions and exemptions from the broker-dealer registration requirements of the Exchange Act. An issuer is generally excluded from the definition of “broker” as an issuer that only sells securities for its own account, and from the definition of “dealer” as an issuer that is not engaged in the business of buying and selling its own securities.
Further, associated persons of an issuer such as officers, directors or employees who participate in a sale of the issuer’s securities are generally exempt from registration as a broker or dealer, provided he or she:
(i) is not subject to a statutory disqualification;
(ii) is not paid a commission or other transaction based compensation;
(iii) is not an associated person of a broker-dealer; and
(iv) limits his or her activities to those permissible under the Exchange Act.
The term “finder” is also not defined in the Exchange Act or the rules promulgated thereunder, and the finder exemption from broker-dealer registration has been carved out largely in response to a series of SEC no-action letters. It is generally recognized that an individual or entity will come within the finder exemption if they do nothing more than provide the contact information of a potential investor to an issuer; however, because the finder exemption is not codified and its application is often unclear, any activities beyond this can raise issues associated with acting as an unregistered broker-dealer. Moreover, because the finder exception is merely a product of the interpretation of a number of no-action letters, the SEC is free to narrow the scope of permitted finder activities at any time.
Penalties of Using or Acting as a Finder
Finders who engage in activities that require broker-dealer registration face penalties ranging from monetary damages and civil injunctions to outright criminal prosecution.
Issuers bear the burden of establishing compliance with applicable federal securities laws, rules and regulations. An issuer using the services of a finder who engaged in activities requiring broker-dealer registration may be subject to SEC enforcement action, civil and criminal penalties and civil injunctions prohibiting future violations of the securities laws.
Additionally, contracts made in violation of the provisions of the Exchange Act are void and if challenged, will likely be found to be unenforceable.
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For further information about this article, please visit www.gopublic101.com and www.securitieslawyer101.com or contact Brenda Hamilton, Securities Attorney, 101 Plaza Real South, Suite 201 S, Boca Raton, Florida 33432, at BHamilton@Securitieslawyer101.com or 561-416-8956. This information is provided as a general informational service to clients and friends of Hamilton & Associates Law Group and should not be construed as, and does not constitute, legal and compliance advice on any specific matter, nor does this message create an attorney-client relationship. For more information concerning the rules and regulations affecting the use of Rule 144, Form 8K, FINRA Rule 6490, Rule 506 private placement offerings, Regulation A, Rule 504 offerings, Rule 144, SEC reporting requirements, SEC registration on Form S-1 and Form 10, Pink Sheet listing, OTCBB and OTC Markets disclosure requirements, DTC Chills, Global Locks, reverse mergers, public shells, go public direct transactions and direct public offerings, please contact Hamilton and Associates at (561) 416-8956 or firstname.lastname@example.org. Please note that the prior results discussed herein do not guarantee similar outcomes.