An investment banking firm settled FINRA charges for the unregistered sale of securities.

According to FINRA, the firm claimed to conduct six securities offerings, in reliance on the private placement exemption from registration in Rule 506(b) under the Securities Act of 1933, without first establishing a "pre-existing, substantive relationship" with prospective investors to whom it offered the securities.

To settle the charges, the firm agreed to a censure and a fine of $50,000.

Commentary - Steven Lofchie

This disciplinary action is notable because the relevant investors seemed to have been "accredited investors" who were eligible to participate in the private placement. The firm's violation was that it did not have a relationship with the relevant investors until it had begun participation in the relevant offering. According to fn. 4 of the enforcement action, participation in an offering can begin before the actual solicitation of investors; e.g., when a firm is conducting due diligence activities. Under FINRA's approach to this matter, a firm will be required to establish the date on which it established a relationship with a customer and compare that to the date on which it is said to have started its participation in the offering.

In addition, FINRA refers to the firm's relationship with the various investors as being a "substantive relationship." Query what that means and how much of a relationship is necessary before a firm can approach an investor in a private placement?

Further, the firm was charged with a violation of FINRA Rule 2010 regarding "high standards of commercial honor." As noted previously, FINRA seems to be throwing in a Rule 2010 violation as an add-on in a very significant percentage of its cases. If the firm in question violated the private placement rules, throwing in a Rule 2010 violation adds nothing. Actually, it makes it impossible to tell whether Rule 2010 standing alone has any independent meaning.

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