KMK Law Corporate & Securities Blog

On October 7, 2020, the SEC proposed a limited, conditional exemption from broker registration requirements for "finders" who assist issuers with raising capital in private markets from accredited investors. Finders identify and often solicit potential investors in order to connect issuers with investors in private placements of securities. The proposal responds to the lack of clarity regarding the regulatory status of finders which has developed through case law, no action letters and other SEC guidance.

Two Tiers of Finders. The proposed exemption from the broker registration requirements of 1934 Act Section 15(a) would permit certain limited capital raising activities involving accredited investors. The proposed rules categorize Tier 1 finders and Tier 2 finders and prescribe conditions tailored to the activities of each tier. Both Tier 1 and Tier 2 finders would be permitted to accept transaction-based compensation under the proposed exemption.

A Tier 1 finder would be limited to providing contact information of potential investors in connection with only a single capital raising transaction by a single issuer in a twelve-month period. A Tier 1 finder could not have any contact with a potential investor about the issuer.

Tier 2 finders may solicit investors on behalf of an issuer as long as such solicitation-related activities would be limited to: (i) identifying, screening for accredited investor status, and contacting potential investors; (ii) distributing issuer offering materials to investors; (iii) discussing issuer information included in any offering materials, provided that the Tier 2 finder does not provide advice as to the valuation or advisability of the investment; and (iv) arranging or participating in meetings with the issuer and investor.

Both Tier 1 and Tier 2 finders would be subject to the condition that the exemption is only available where:

• the issuer is not required to file reports under 1934 Act Section 13 or Section 15(d);
• the issuer is seeking to conduct the securities offering in reliance on an applicable exemption from 1933 Act registration;
• the finder does not engage in general solicitation;
• the potential investor is an "accredited investor" as defined in Rule 501 of Regulation D or the finder has a reasonable belief that the potential investor is an "accredited investor";
• the finder provides services pursuant to a written agreement with the issuer that includes a description of the services provided and associated compensation;
• the finder is not an associated person of a broker-dealer; and
• the finder is not subject to statutory disqualification, as that term is defined in 1934 Act Section 3(a)(39), at the time of his or her participation.

The proposed rules also contemplate that a finder could not rely on the exemption to engage in broker activity beyond the scope of the proposed exemption. Specifically, a finder could not rely on the exemption to facilitate a registered offering, a resale of securities, or the sale of securities to non-accredited investors or to investors the finder does not have a reasonable belief are accredited.

A finder would not be involved in structuring the transaction or negotiating the terms of the offering, handle customer funds or securities or bind the issuer or investor or participate in the preparation of any sales materials. A finder also would not perform any independent analysis of the sale, engage in any "due diligence" activities, assist or provide financing for such purchases, or provide advice as to the valuation or financial advisability of the investment.

Additional Tier 2 Requirements. The SEC proposed additional Tier 2 requirements because Tier 2 finders can participate in a broader range of activities. Tier 2 finders would need to satisfy certain disclosure requirements and other conditions. The disclosure requirements, which include a requirement that the Tier 2 finder provide appropriate disclosures of its role and compensation, would have to be made prior to or at the time of the solicitation. Also, the Tier 2 finder would have to obtain from the investor, prior to or at the time of any investment in the issuer’s securities, a dated written acknowledgment of receipt of the required disclosures.

State securities law regulators have not had an opportunity to respond to the SEC’s proposed rules or how such rules may interplay with state broker dealer registration requirements.

The SEC’s comment period expires 30 days after publication of the proposed rules in the Federal Register.