This post is not written for the business owners, but rather for the consultants who connect companies that are looking to raise capital with potential investors, whether angels or VCs. I was recently reviewing the broker-dealer definitions in the Securities Exchange Act of 1934, and decided to highlight a part of a definition of a broker that may not be well known or understood by some.
Section 3(a)(4)(A) of the Exchange Act defined “broker” very broadly as “any person engaged in the business of effecting transactions in securities for the account of others.” Depending on various factors, some of which I discuss below, the definition includes (among others) business brokers or finders, who find investors (venture capital, angel) for companies issuing securities, even if in “consultant” category; find buyers or sellers of businesses; act as investment advisers and financial consultants or act as “placement agents” for private placements of securities.
In order to determine whether you are a broker, the Securities and Exchange Commission (SEC) recommends looking at these factors (if answer is “yes” to any of the questions below, then it is likely that you are a broker):
• Do you participate in important parts of a securities transaction, including solicitation, negotiation, or execution of the transaction?
• Does your compensation for participation in the transaction depend upon, or is it related to, the outcome or size of the transaction or deal? Do you receive trailing commissions, such as 12b-1 fees? Do you receive any other transaction-related compensation?
• Are you otherwise engaged in the business of effecting or facilitating securities transactions?
• Do you handle the securities or funds of others in connection with securities transactions?
For example, the SEC recently denied no-action relief to a law firm that intended to help its client raise funds by introducing it to potential investors. The law firm was to be compensated based on a percentage of the gross amount the client raised as a result of the law firm’s introductions. See Brumberg, Mackey & Wall, PLC, May 2010. The SEC staff stated in its response that “a person’s receipt of transaction-based compensation in connection with these activities is a hallmark of broker-dealer activity.”
If you think that you may be a broker, you should consult with a private counsel or the SEC to determine whether you need to register. You cannot engage in the securities business until the registration is complete. A broker typically needs to register with the SEC. There is a number of exceptions to this rule, one of which is if the broker conducts all of his business in one state (then, registration with the state authorities is in order). However, since a lot of information is posted on the internet and is accessible to persons from any state, a broker may need to register federally as well.
Federal registration process involves filing form BD with the SEC, becoming a member of a self-regulatory organization (such as FINRA or a registered national securities exchange), becoming a member of the Securities Investor Protection Corporation and complying with all applicable state requirements. States require separate registrations.
Certain brokers may also need to register as investment advisers under the Investment Advisers Act. An investment adviser is a person who receives compensation for providing advice about securities as part of a regular business. Registration as an investment adviser involves filing a form ADV (check the recent amendments adopted in October 2010!) with the SEC or the state authorities depending on the amount of capital under management and the number of clients in a state.
In conclusion, it is important to reiterate that none of this should be considered as legal advice. I wrote this blog for information purposes only, as a reference for business consultants who may or may not be required to register as brokers in their states or federally.