The SEC recently enacted a new exemption from registration for brokers who provide certain services in M&A transactions. The new exemption, which became effective on March 29, 2023, largely confirms and codifies prior SEC guidance that was provided in a January 31, 2014 No Action Letter and will provide some comfort and certainty to qualifying M&A brokers and their advisors who work in this arena. However, it may require some M&A brokers to register with the SEC despite the fact that they were not previously required to do so.
Section 15(a) of the Securities Exchange Act of 1934 generally requires any person engaged in the business of carrying out securities transactions for other parties to register with the SEC. Such registration can be costly, intrusive, and time consuming, and it probably does not create a high level of additional consumer protection or benefits in the M&A context. This has consistently been an area of concern, however, since unregistered brokers can be subject to severe penalties such as monetary fines and disgorgement of fees that they have received. As a result, most M&A brokers and their advisors have relied on the 2014 No Action Letter to justify not registering with the SEC. This has largely been a successful strategy absent other disqualifying factors, but because no action letters can be reversed or changed, participants were unable to get totally comfortable.
The new exemption from SEC registration, which is contained in new Section 15(b)(13) of the 1934 Act, incorporates much of the language of the 2014 No Action Letter, but it imposes size limitations that were not contained in the 2014 No Action Letter. The SEC withdrew the 2014 No Action Letter on March 29, 2023.
The new exemption provides that an M&A broker is a broker (or 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. Most M&A brokers provide advisory services to clients rather than executing securities trades or other activities associated with traditional brokers, but many M&A transactions do involve the purchase or transfer of securities, and thus they could conceivably cause the M&A broker to fall within the SEC’s definition of a broker-dealer who would be required to register.
To qualify for the exemption, the M&A broker must reasonably believe that as of the closing of the transaction any person who acquires securities of the eligible privately held company will both control the eligible privately held company (or the business conducted with its assets) and be directly or indirectly active in the management of the eligible privately held company or the business conducted with the eligible privately held company’s assets. An “eligible privately held company” (a) cannot have any of its securities registered (or required to be registered) under Section 12 of the 1934 Act (i.e., it must be a private company), and (b) must have EBITDA of less than $25 million and/or gross revenues of less than $250 million in the fiscal year prior to the engagement of the M&A broker. The exemption also contains a list of activities that the M&A broker must not participate in, including engaging in a public offering of securities as part of the transaction and having custody of a buyer’s or seller’s securities.
The exemption is not a complete exemption from registration in all cases, and no exemption is provided for situations that do not comply with the above requirements. The exemption does not eliminate the potential fines or disgorgement requirements for violations of Section 15(a). Importantly, the exemption also does not consider or preempt state law requirements, and this leads to the potential for conflict between Federal and state law since state law will continue to apply notwithstanding the new exemption on the Federal level. It is crucial that M&A brokers and their advisors carefully evaluate applicable state law requirements as well as Federal law requirements when analyzing the need for M&A broker registration.
While this new exemption provides guidance for the M&A broker registration process, there are still some significant open areas and potential problems. The exemption will likely be advantageous to M&A brokers in qualifying transactions, but transactions in which the company is not an eligible privately held company will not realize any benefits from the exemption. In fact, one criticism of this process is that an M&A broker in a transaction which does not involve an eligible privately held company will not be eligible for the exemption, but since the SEC has withdrawn the 2014 No Action Letter M&A brokers in non-qualifying situations can no longer rely on its protection. The potential downside here is that such M&A brokers may be forced to register with the SEC where they could previously have relied on the 2014 No Action Letter as the basis for not registering. This potential problem is troubling in view of the significant number of large private companies that now exist (many of which will not be eligible privately held companies).
We expect more guidance from the SEC going forward on this and related issues in this area. It is possible that some states may revise their requirements (hopefully to harmonize them with the SEC requirements), but we do not currently expect that the exemption will be amended to cause Federal law to preempt state law. M&A brokers and their advisors must carefully review and analyze their specific situations to determine if they qualify for the exemption.
Please direct any questions or observations to Gunster technology law and emerging companies practice leader, Bob White.
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This publication is for general information only. It is not legal advice, and legal counsel should be contacted before any action is taken that might be influenced by this publication.
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