SEC Proposed Exemption for Finders: Discussion of the benefits, draw-backs, and structure of the tier-system

By Fortis Law Partners

In early October, the Securities and Exchange Commission voted to propose certain exemptions for those who assist issuers with raising capital in private markets, also known as “Finders”. The benefits of including Finders in the investment marketplace are extensive and include allowing small businesses to prosper by facilitating capital for smaller issuers and providing much-needed clarity to investors and issuers regarding the status of Finders. The SEC Proposal outlines a tier-system of Finders, detailed below, allowing natural persons to participate in certain investment-related activities without registering as a broker.

Tier I Finders are strictly limited to only a single capital raising transaction in a twelve-month period. The Tier I status allows the Finder to participate in the transaction by providing contact information of potential investors to a single issuer but prohibits the Finder from contacting any potential investors about the issuer. The Tier I level of Finders is quite restrictive, but would be an attractive option for those who do not require investor contacts to participate in the transaction or who do not anticipate participating in more than one capital raising transaction within a twelve-month period.

Tier II Finders are afforded less restrictive limitations. Tier II Finders are permitted to participate in more than one capital raising transaction within a twelve-month period and are allowed to contact and solicit investors on behalf of an issuer, provided that the contact is limited to certain types of activities. These activities include:

  1. Identifying, screening, and contacting potential investors;

  2. Distributing issuer offering materials to investors;

  3. Discussing issuer information included in any offering materials, provided that the Tier II Finder does not provide advice as to the valuation or advisability of the investment; and

  4. Arranging or participating in meetings with the issuer and investor.

Because of the heightened level of participation in investment activities afforded to Tier II Finders, there are additional disclosure requirements and other conditions with which they must comply. Tier II Finders must provide appropriate disclosures of their role and must obtain an investor acknowledgment of receipt of the disclosures prior to or at the time of solicitation.

The most pertinent differences between a Tier I or II Finder and a Registered Broker revolve around the level of involvement in all aspects of investor relations. For example, a Registered Broker is permitted to structure the transaction, engage in due diligence, and engage in general solicitation, whereas a Tier I or II Finders’ permissible level of investor involvement is significantly more restricted, depending on the tier.  If the Proposal is approved, an attorney at Fortis will be critical to best evaluate whether a Tier I, Tier II, or Registered Broker status may be most appropriate given the level of client involvement in investment-related activities.

It’s important to note that there are certain conditions that must be satisfied for a Tier I or Tier II Finder. The proposed exemption for Tier I and II Finders would only be available where:

  1. The issuer is not required to file reports under Section 13 or Section 15(d) of the Exchange Act;

  2. The issuer is seeking to conduct the securities offering in reliance on an applicable exemption from registration under the Securities Act;

  3. The Finder does not engage in general solicitation;

  4. 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”;

  5. The Finder provides services pursuant to a written agreement with the issuer that includes a description of the services provided and associated compensation;

  6. The Finder is not an associated person of a broker-dealer; and

  7. The Finder is not subject to statutory disqualification, as that term is defined in Section 3(a)(39) of the Exchange Act, at the time of his or her participation.

Critique of the Proposal generally revolves around the expansive nature of activities that Tier II Finders may participate in. The level of involvement that would be granted to Tier II Finders has historically been reserved for Registered Brokers, including involvement in most stages of the investment process and relationships with the issuer and investor. The most substantial exception to a Tier II Finders’ involvement is that they cannot provide advice as to the valuation or advisability of the investment. Critics have voiced concern over the Tier II exemption going much too far; in addition to being exempt from the broker registration process, the Tier II Finders would also not be subjected to the relevant regulations for Registered Brokers. Furthermore, by expanding the traditional broker-dealer framework to include Tier I and II Finders, many important investor protections would be eliminated, thus opening the door for increased fraudulent activity.

As the SEC considers implementation of this Proposal over the next few months, Fortis will be keeping an eye on any developments and will issue updates in a timely manner. Should you have any questions surrounding the potential implications of the Proposal or the contents of this blog post, please consult an experienced corporate attorney at Fortis Law Partners.


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