The M&A Broker Exemption

Key Takeaways:

• The M&A Broker Exemption provides meaningful regulatory relief for advisors who facilitate the sale of smaller, private businesses.
• M&A brokers relying on this exemption should ensure that every transaction satisfies the eligibility requirements and tests outlined in this client alert. Engaging in any excluded activity will cause a broker to lose the benefit of the exemption and potentially expose it to liability for operating as an unregistered broker-dealer.
• The exemption is federal only and does not preempt state law. An M&A broker must separately confirm whether registration or a notice filing is required under the securities laws of any state in which it operates or whose residents are involved.

Overview

Section 15(a) of the Exchange Act generally requires any person engaged in the business of effecting transactions in securities for the account of others to register with the Securities and Exchange Commission (SEC) as a broker-dealer. This matters in M&A because the SEC has long treated the receipt of transaction-based compensation (such as a success fee tied to the closing of a securities transaction) as a hallmark of broker-dealer activity, and advisors who help sell a business through the transfer of securities can fall within the definition of a “broker” even if they do not view themselves as securities professionals. Acting as an unregistered broker-dealer can expose an advisor to SEC and state enforcement, civil penalties, disgorgement, and unenforceable compensation arrangements.

For years, business brokers and other M&A advisors managed this risk by relying on SEC staff no-action letters, most notably the 2014 M&A Brokers no-action letter, in which the Division of Trading and Markets stated it would not recommend enforcement against unregistered brokers effecting securities transactions in connection with the transfer of ownership of privately held companies, subject to specified conditions. That relief, however, was non-binding, fact-specific, and subject to change.

Congress codified a statutory exemption in Section 501 of Title V of Division AA of the Consolidated Appropriations Act, 2023, signed into law on December 29, 2022, which added new Section 15(b)(13) to the Exchange Act. The exemption became effective on March 29, 2023, and on that same day the SEC staff withdrew the 2014 M&A Brokers no-action letter. The statutory exemption largely codifies the 2014 relief but is narrower in important respects. Most notably, it applies only to transactions involving smaller “eligible privately held companies.”

Section 15(b)(13) now provides that a qualifying “M&A broker” is exempt from registering with the SEC as a broker-dealer, provided the broker satisfies all statutory conditions and does not engage in any of the excluded activities described below. The exemption, however, is federal only. It does not preempt state law, so an M&A broker must separately confirm whether registration or a notice filing is required under the securities laws of any relevant state.

Is the Broker an “M&A Broker”?

Section 15(b)(13) defines an “M&A broker” as “a broker, and 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.” The definition further clarifies that an M&A broker may act on behalf of either the seller or the buyer and that covered transactions include purchases, sales, exchanges, issuances, repurchases, or redemptions of securities or assets of the target company, as well as business combinations involving such securities or assets.

The exemption also imposes additional conditions on the broker. The M&A broker must reasonably believe that, upon completion of the transaction, the buyer (or buyer group) will control, and be active in the management of, the eligible privately held company, as further described below. Where a buyer is offered securities in exchange for securities or assets of the target, the broker must also reasonably believe that the buyer will, before becoming legally bound to close, receive or have reasonable access to the issuer’s most recent fiscal year-end financial statements (and any related accountant’s statement), a balance sheet dated within 120 days of the offer, and information about the issuer’s management, business, results of operations, and material loss contingencies. Finally, neither the M&A broker nor any of its associated persons may have been barred, or suspended from association with a broker-dealer, by the SEC, a state regulator, or a self-regulatory organization such as FINRA.

Is the Target an “Eligible Privately Held Company”?

For a broker to qualify for the M&A Broker Exemption, the target company in the underlying M&A transaction must meet the following requirements:

• Not a Public Reporting Company. The company must not have any class of securities registered, or required to be registered, under Section 12 of the Exchange Act, and must not be required to file periodic reports under Section 15(d) of the Exchange Act.
• Below the Size Thresholds. Measured as of the fiscal year ending immediately before the fiscal year in which the M&A broker is initially engaged, the company must satisfy either of the following size tests:
  1. earnings before interest, taxes, depreciation, and amortization (EBITDA) of less than $25 million; or 
  2. gross revenues of less than $250 million.

The above eligible privately held company thresholds may be subject to update by the SEC and should be monitored.

Control and Active Management

The exemption requires that the buyer (or group of buyers) obtain “control” of the eligible privately held company and be active in its management following the transaction. The statute applies this as a standard of the broker’s reasonable belief: the M&A broker must reasonably believe that, upon completion, the buyer will both control and be actively involved in managing the company or its business. This is a lower bar than the 2014 no-action letter, which required the buyer to actually control and operate the business. “Control” means the power, directly or indirectly, to direct the management or policies of a company, whether through ownership of securities, by contract, or otherwise, and is presumed to exist if the buyer has the right to vote, sell, or direct the sale of 25% or more of a class of voting securities (or, in the case of a partnership or limited liability company, has the right to receive upon dissolution, or has contributed, 25% or more of the capital). A buyer may demonstrate active management by, for example, electing executive officers, approving the annual budget, or serving as an executive or manager.

Prohibited Activities

An M&A broker will lose the benefit of the M&A Broker Exemption if the broker engages in any of the following excluded activities:

• Custody of Funds or Securities. The broker may not directly or indirectly receive, hold, transmit, or have custody of the funds or securities to be exchanged by the parties to the transaction.
• Public Offerings. The broker may not engage on behalf of an issuer in a public offering of any class of securities that is registered, or required to be registered, under Section 12 of the Exchange Act, or with respect to which the issuer is required to file reports under Section 15(d) of the Exchange Act.
• Providing Financing. The M&A broker may not directly or indirectly, including through any of its affiliates, provide financing related to the transfer of ownership of the eligible privately held company.
• Third-Party Financing Assistance Without Proper Disclosure. The M&A broker may assist a party in obtaining financing from an unaffiliated third party, but only if the broker complies with all applicable laws and discloses in writing to such party any compensation the broker receives in connection with such financing.
• Undisclosed Dual Representation. The M&A broker may not represent both the buyer and seller in the same transaction without providing clear, written disclosure identifying all parties that the broker represents and obtaining written consent from both parties.
• Buyer Group Formation. The M&A broker may not facilitate a transaction with a group of buyers that was formed with the broker’s assistance for the purpose of acquiring the eligible privately held company.
• Passive Buyers. The M&A broker may not engage in a transaction that involves the transfer of ownership of an eligible privately held company to a passive buyer or group of passive buyers (i.e., the active management requirement applies).
• Binding the Parties. The M&A broker may not bind a party to consummate a sale transaction.
• Shell Company Transactions. The M&A broker may not engage on behalf of any party in a transaction involving a shell company, other than a business combination related shell company.