The narrower M&A broker exemption supersedes the 2014 M&A broker no-action letter while leaving state-level restrictions and foreign M&A broker relief unaffected.
On March 29, 2023, the Securities Exchange Act of 1934 (Exchange Act) was amended to exempt certain “M&A brokers” from registration as broker-dealers with the US Securities and Exchange Commission (SEC). The amendment, Exchange Act Section 15(b)(13), signed into law on December 29, 2022, as part of the Consolidated Appropriations Act (H.R. 2617), largely codifies previously granted SEC Staff no-action relief, albeit with certain limitations. Like the prior no-action relief, the new legislation does not preempt state or territorial laws concerning broker-dealer registration.
Persons previously relying on the M&A broker no-action letter should carefully examine the new exemption and related existing state and foreign relief to determine what, if any, implications the new law poses with regard to continued reliance.
Section 15(a)(1) of the Exchange Act requires the registration with the SEC of any person acting as a “broker” in securities in interstate commerce. A “broker” is defined under Section 3(a)(4) of the Exchange Act as “any person engaged in the business of effecting transactions in securities for the account of others.” In 1985, the US Supreme Court took the position that the sale of all of the outstanding shares of a privately held company involves the sale of a security. As such, absent an exemption or no-action relief, persons engaged in certain activities in connection with the purchase or sale of a privately held company are required to register as broker-dealers or be associated with a registered broker-dealer.
New Section 15(b)(13) and Withdrawal of the 2014 SEC M&A Broker No-Action Letter
In 2014, the Staff of the SEC’s Division of Trading and Markets issued a no-action letter (2014 NAL) granting relief from the registration requirements under the Exchange Act. The letter noted that SEC Staff would not recommend enforcement action under Section 15(a) if an M&A broker effected transfers of ownership of privately held target companies subject to the terms and conditions outlined in the letter, which largely mirror those under the new federal M&A broker exemption. The conditions under the new Section 15(b)(13) include:
- The buyer(s) must not be passive, instead actively managing and controlling the eligible privately-held target following the transaction, which will be presumed upon a 25% ownership/voting interest;
- The securities of the “eligible privately held company” received by the buyer(s) must be restricted securities issued in a transaction not involving a public offering. An eligible target is a privately-held company that does not have any class of registered securities; is not a shell company (other than a business combination related shell company); and, in the fiscal year prior to the transaction, meets either or both of the following: (1) EBITDA of less than $25 million; and/or (2) gross revenues of less than $250 million;
- The M&A broker does not have the ability to bind a party to a transaction; will not provide financing; at to time would it have custody, control, or possession of funds or securities in connection with the transaction; and reasonably believes that if any person is offered securities in exchange for securities or assets of the eligible privately held company, such person will not become legally bound to consummate the transaction prior to receiving or having reasonable access to various financials;
- The M&A broker cannot represent both buyers and sellers without informed written consent and can only represent a group of buyers if the group was formed without the M&A broker’s assistance, and
- The M&A broker, as well as its associated personnel, must not be disqualified or suspended from association with a federally registered broker-dealer.
Following passage of the new Section 15(b)(13), it was unclear whether the 2014 NAL would remain in effect to provide relief for transactions falling outside the scope of the new law. However, upon the March 29, 2023, effective date, the SEC formally withdrew the 2014 NAL.
The above conditions contain two key distinctions from the 2014 NAL. First, the 2014 NAL provided relief without regard to the size of the privately held target companies. However, the new federal exemption narrows relief to target companies which, in the prior fiscal year, have EBITDA of less than $25 million and/or gross revenues of less than $250 million. Second, the federal exemption adds a new requirement that, prior to becoming legally bound, buyers have reasonable access to the most recent fiscal year-end financials of the issuer.
State Regulations Remain Unaffected
Neither the 2014 NAL nor the new federal exemption preempted state law, which imposes its own set of registration requirements. To address this concern, the North American Securities Administrators Association (NASAA) adopted a Model M&A Broker Rule (Model Rule) on September 29, 2015. The Model Rule applied the same EBITDA, gross revenue, and financial information access qualifiers as the new federal exemption. The lower control threshold of 20% in the Model Rule is the one key difference from the new federal exemption.
However, prior to enactment of the new federal exemption, less than half of the states had adopted the model rule. As such, activities that are permissible under the federal exemption may still be prohibited without registering as a broker-dealer in many states.
While the SEC withdrew the 2014 NAL in response to the new law, Rule 15a-6 of the Exchange Act and the SEC’s relevant no-action letters thereunder notably remain unaffected, including the Roland Berger no-action letter concerning relief for certain foreign M&A broker-dealers.
Pursuant to Roland Berger, if a foreign M&A broker is retained outside of the United States by a non-US client, the M&A broker is permitted, without registering, to contact the potential US-based buyers or sellers to conduct certain activities to facilitate the transaction. These restrictions include that:
- The US target satisfies the definition of “Major U.S. Institutional Investor” under Rule 15a-6(b)(4) by owning, controlling, or managing at least $100 million in financial assets (i.e., cash, money-market instruments, securities of unaffiliated issuers, futures and options on futures, and other derivative instruments);
- The foreign M&A broker would only interact with either (i) personnel of the US target with relevant M&A experience, or (ii) US targets that are represented by external experienced professionals, such as broker-dealers or attorneys;
- The foreign M&A broker does not come into custody, possession, or control of funds or securities in connection with the transaction; and
- The foreign M&A broker does not represent or advise the US target in relation to the transaction.
Separately, of course, if a foreign broker-dealer enters into a chaperoning arrangement pursuant to Rule 15a-6(a)(3) with a US broker-dealer, the foreign broker-dealer is permitted to engage in broker-dealer activities (including M&A broker activities) with “Major U.S. Institutional Investors” pursuant to the parameters of its chaperoning arrangement and the requirements of the rule and related no-action relief, including through representing or advising the US target. Moreover, under the Ernst & Young no-action letter, the SEC notably allowed for the $100 million asset calculation for “Major U.S. Institutional Investor” to take into account non-financial assets for Rule 15a-6(a)(3) chaperoning arrangements in the M&A context.
Comparing Roland Berger to the new Section 15(b)(13), we note that the new federal law restricts relief to companies with EBITDA of less than $25 million and/or gross revenues of less than $250 million. Meanwhile, Roland Berger is available with respect to any US target that owns, controls, or manages greater than $100 million in financial assets. Accordingly, Roland Berger may offer a viable alternative to foreign M&A brokers with respect to target companies above the EBITDA and revenue threshold of the new Section 15(b)(13) without necessitating entering into a Rule 15a-6 chaperoning arrangement.
The new federal M&A broker exemption formalizes the 2014 NAL — with some additional restrictions. Market participants that previously relied on the 2014 NAL should carefully examine the changes to determine whether they need to register as broker-dealers or qualify under another exemption from registration, such as, in the case of foreign M&A brokers, pursuant to a chaperoning arrangement under Rule 15a-6 or Roland Berger. The federal exemption does not preempt applicable state law restrictions. Overlap with the Model Rule, therefore, may also spark more states toward adoption, further reducing the uncertainties of the current patchwork system.