U.S. Congress Exempts Certain Merger and Acquisition Brokers From SEC Broker-Dealer Registration

Key Takeaways

Under the new exemption, firms that qualify as M&A Brokers should have greater certainty that their eligible M&A services will not trigger broker-dealer registration with the SEC. The new exemption relates only to broker-dealer registration with the SEC; eligible brokers will remain subject to any other applicable federal securities laws, including the Exchange Act’s antifraud provisions. The new exemption provides no protection from the broker-dealer registration requirements of the individual states, and qualifying M&A Brokers will need to continue to consider their registration obligations under applicable state laws unless the state they conduct business in has enacted a similar exemption.

Brokers that seek to qualify for the exemption should carefully consider the statutory provisions and their M&A business to ensure they satisfy all necessary criteria. Brokers should also be mindful of any additional interpretive guidance the SEC may provide with respect to the new exemption.

Background

Absent an available exception or exemption, Section 15(a) of the Exchange Act generally requires any “broker” or “dealer” that uses U.S. interstate commerce to solicit or effect securities transactions to be registered with the SEC. In January 2014, the SEC staff issued a no-action letter indicating that the staff would not recommend enforcement action against unregistered brokers whose securities brokerage business is limited to facilitating certain M&A transactions.¹ After the letter was issued, the North American Securities Administrators Association, Inc., adopted a model rule similar to the SEC’s No-Action Letter that exempts certain M&A brokers from registration in states that adopt the model. The intent of new Section 15(b)(13) is to reduce regulatory burdens on small brokers that facilitate privately negotiated M&A transactions by essentially codifying the SEC’s No-Action Letter and exempting qualifying M&A Brokers from SEC registration.

M&A Brokers Registration Exemption

New Section 15(b)(13) will provide an exemption from SEC registration for M&A Brokers. An M&A Broker is defined to mean a broker, and any person associated with a broker, engaged in the business of effecting securities transactions solely in connection with the transfer of ownership of an eligible privately held company,² regardless of whether the broker acts on behalf of a seller or buyer, through the purchase, sale, exchange, issuance, repurchase, or redemption of, or a business combination involving, securities or assets of the eligible privately held company. 

The M&A Broker must reasonably believe that upon consummation of the transaction, any person acquiring securities or assets of the eligible privately held company, acting alone or in concert, will

• control the eligible privately held company or the business conducted with the assets of the eligible privately held company³
• directly or indirectly be active in the management of the eligible privately held company or the business conducted with the assets of the eligible privately held company

For purposes of the exemption, an “eligible privately held company” is a privately held company that meets both of the following conditions:

• The company does not have any class of securities registered (or required to be registered) with the SEC under Section 12 of the Exchange Act or for which the company files (or is required to file) periodic reports under Section 15(d) of the Exchange Act.
• In the fiscal year ending immediately before the fiscal year in which the M&A Broker is initially engaged with respect to the securities transaction, the company must have (1) earnings before interest, taxes, depreciation, and amortization of less than $25 million or (2) gross revenues of less than $250 million. These dollar amounts may be amended by SEC rule and will be adjusted for inflation every five years.

This aspect of the exemption is notably different from the SEC No-Action Letter, which does not impose a size limitation on the privately held company.

If any person is offered securities in exchange for securities or assets of the eligible privately held company, such person must, prior to becoming legally bound to consummate the transaction, receive or have reasonable access to

• the most recent fiscal year-end financial statements of the issuer of the securities as customarily prepared by the issuer’s management in the normal course of operations and any related statement by the independent accountant if the issuer’s financial statements are audited, reviewed, or compiled
• a balance sheet dated not more than 120 days before the date of the offer 
• information pertaining to the management, business, results of operations for the period covered by the foregoing financial statements, and material loss contingencies of the issuer

An M&A Broker will be ineligible for the exemption (and therefore required to register with the SEC, absent an alternate exception or exemption) if the M&A Broker engages in any of the following activities:

• directly or indirectly, in connection with the transfer of ownership of an eligible privately held company, receives, holds, transmits, or has custody of the funds or securities to be exchanged by the parties to the transaction
• engages on behalf of an issuer in a public offering of any class of securities registered (or required to be registered) with the SEC under Section 12 of the Exchange Act or for which the issuer files (or is required to file) periodic reports under Section 15(d) of the Exchange Act
• engages on behalf of any party in a transaction involving a shell company,⁴ other than a business combination related shell company⁵
• directly, or indirectly through any of its affiliates, provides financing related to the transfer of ownership of an eligible privately held company
• assists any party to obtain financing from an unaffiliated third party without complying with all other applicable laws and disclosing any compensation in writing to the party
• represents both the buyer and seller in the same transaction without providing clear written disclosure and obtaining written consent from both parties to the joint representation
• facilitates a transaction with a group of buyers formed with the assistance of the M&A Broker to acquire the eligible privately held company
• engages in a transaction involving the transfer of ownership of an eligible privately held company to a passive buyer or group of passive buyers
• binds a party to a transfer of ownership of an eligible privately held company

An M&A Broker will also be ineligible for the exemption if the broker (including any officer, director, member, manager, partner, or employee of the broker) has been barred from association with a broker-dealer by the SEC, any state, or any self-regulatory organization or is suspended from association with a broker-dealer.

¹ M&A Brokers, SEC Staff No-Action Letter (Jan. 31, 2014), https://www.sec.gov/divisions/marketreg/mr-noaction/2014/ma-brokers-013114.pdf (revised Feb. 4, 2014) (SEC No-Action Letter). 

² Being active in management may include, for example, electing executive officers, approving the annual budget, serving as an executive or other executive manager, or carrying out such other activities as the SEC may determine by rule to be in the public interest. 

³ For purposes of the exemption, “control” means the power, directly or indirectly, to direct the management or policies of a company, whether through ownership of securities, by contract, or otherwise. Control will be presumed if, upon completion of a transaction, the buyer or group of buyers (1) has the right to vote 25% or more of a class of voting securities or the power to sell or direct the sale of 25% or more of a class of voting securities or (2) in the case of a partnership or limited liability company, has the right to receive upon dissolution, or has contributed, 25% or more of the capital.

⁴ A “shell company” is a company that at the time of a transaction with an eligible privately held company, has no or nominal operations and has no or nominal assets, assets consisting solely of cash and cash equivalents, or assets consisting of any amount of cash and cash equivalents and nominal other assets.

⁵ A “business combination related shell company” is a shell company that is formed by a nonshell company solely for the purposes of changing the corporate domicile of that entity within the United States or completing a business combination transaction among one or more entities other than the company itself, none of which is a shell company.