| I was recently a speaker at a conference for | | | | Under certain conditions, a company can permit its |
| entrepreneurs. My topic was about the different | | | | employees to help it raise investment capital without |
| ways to raise investment capital. At the end of the | | | | triggering the broker registration requirements. For |
| program, a young entrepreneur spoke with me about | | | | example, the SEC's Rules allow an employee, officer |
| how he was raising capital to produce a film. | | | | or director of a company to participate as a finder in |
| A couple of weeks later, I received a letter from an | | | | a private offering provided that the employee: |
| accounting firm who was soliciting investments for | | | | ** is not considered by the SEC to be a securities |
| the young filmmaker. | | | | industry "bad boy"; |
| On its face, the letter seemed like a excellent idea: | | | | ** does not get paid commissions in connection with |
| the polished letterhead from the accounting firm (and | | | | the offering; |
| their endorsement) made the young filmmaker seem | | | | ** is not an associated person of a broker or dealer |
| more credible; this was a great reason for the | | | | at the time of his participation; performs a job for |
| accounting firm to contact new people; and, if the | | | | the company other than in connection with the |
| filmmaker raised the money he needed, the | | | | company's offering (i.e., marketing or customer |
| accounting firm would surely have a great new client. | | | | relations); |
| Problem is, both the filmmaker and the accounting | | | | ** was not within the last year a registered broker; |
| firm violated a number of state and federal securities | | | | and |
| laws by mailing that letter. | | | | ** does not participate in the company's securities |
| Let's face it, raising investment capital for a business | | | | offerings more than once every 12 months (with |
| isn't easy-and most entrepreneurs would take all the | | | | certain restrictions). |
| help they can get. | | | | Keep in mind, that each state has its own set of |
| Entrepreneurs are a clever bunch of people who are | | | | regulations that may differ from federal regulations. |
| often required to make things happen with limited | | | | For example, in some states only officers and |
| resources. Problem is, many of the techniques that | | | | directors of a company are permitted to engage in |
| you would rely on to fill a pipeline of prospective | | | | the sale of securities. |
| clients often times violate state and federal securities | | | | Does a finder-consultant always have to be a |
| laws when used to find investors. | | | | registered as a broker with FINRA? |
| For example, if you're selling shares in your company | | | | There are some circumstances where a |
| to raise cash, it seems logical that you should get | | | | finder-consultant is not required to register as a |
| your company's sales staff, or outsourced services, | | | | broker. However, if you're acting as a finder (or |
| to help you out. Perhaps you can even pay them a | | | | you're a company hiring a finder), you must take |
| high commission on stock sales and they'll be extra | | | | extreme care to ensure that the finder's activities |
| motivated. | | | | are limited so that he or she is not functioning as an |
| After all, few things motivate someone to sell like a | | | | unlicensed broker. |
| big commission check. | | | | Finders can avoid registering as a broker by limiting |
| Better yet, what about hiring one of these guys who | | | | to: |
| call themselves "consultants" or "finders" and claim to | | | | ** merely introducing prospective investors to a |
| help companies raise money? Just about anyone | | | | company without engaging in negotiations; |
| who's done some networking in the venture capital | | | | ** not recommending the company's securities to |
| seminar scene has likely run across someone like this. | | | | prospective investors; |
| They work on great terms: you don't pay unless | | | | ** and basing their compensation on a flat fee that is |
| they raise cash. And even if the fee they charge for | | | | not contingent on the closing of a securities sale (for |
| their services may be high, who wouldn't give up a | | | | example, the finder gets a fee of $50,000 for making |
| big chunk of cash (or a kidney) for the ease of | | | | the introduction to an investor, regardless of whether |
| having someone find investors for you? | | | | the investor purchases shares or not). |
| On a fairly regular basis, my entrepreneur and | | | | What kind of compensation cannot be paid to |
| investor clients ask me if they can pay their | | | | finder-consultants? |
| employees, or a finder-consultant a piece of the deal | | | | Transaction-based compensation, or success-based |
| if they help the company raise investment dollars. | | | | compensation, like a finder's fee or commission, is |
| In almost every case, the answer is a definitive no. | | | | compensation that is contingent on the transaction |
| The payment of a finder's fee or commission in | | | | closing. Often the fee is a percentage of the amount |
| connection with the sale of securities to a person | | | | of securities sold. Unregistered persons are not |
| who is not a broker registered with FINRA (formerly | | | | permitted to receive this type of fee from a |
| the NASD) is generally illegal. | | | | company. |
| Another common misconception among | | | | Permissible forms of compensation may include |
| entrepreneurs is that the payment of finder's fees | | | | professional fees based on hourly billing rates or fixed |
| falls within a "gray area" of the law. This is just | | | | fees; non-transaction based consulting fees; |
| wrong. It's a myth that seems to be perpetuated by | | | | non-transaction based due diligence fees; or expense |
| entrepreneurs and finders who have engaged in this | | | | reimbursements. |
| activity and haven't been caught. | | | | You'll notice that common theme among permissible |
| I can't tell you how many times I have heard from | | | | forms of compensation is that the fee is paid |
| clients "well, I know ABC Company who paid a finder | | | | regardless of whether funds are raised. My |
| a commission and didn't have any problems." My reply | | | | experience is that most companies are unwilling, or at |
| is always the same: "ever drive a car on the West | | | | least reluctant to pay a finder a fee for services that |
| Side Highway at 75 miles per hour and get passed by | | | | may or may not turn into an investment. |
| someone going faster than you and neither of you | | | | Many companies have attempted to disguise a |
| got a ticket?" Just because you didn't get nabbed by | | | | commission as a permissible fee. For example, |
| New York's Finest doesn't mean you weren't | | | | entrepreneurs often hire "finders" as "consultants" |
| breaking the speed limit by a fairly wide margin. | | | | and call the finder's fee a "consulting fee." However, |
| In my practice, I've represented clients who have | | | | if the compensation the consultant receives is |
| had problems with regulators by unknowingly violating | | | | ultimately tied to their activity of selling shares in the |
| these rules. In nearly every case, the company went | | | | company, and they would not have received the fee |
| out of business or sought protection from creditors | | | | absent the company raising capital, then the payment |
| under the bankruptcy laws as a result of the mistake. | | | | of the fee to an unregistered person is not |
| The business of getting paid commissions for | | | | permissible. |
| introducing investors to companies is something that | | | | Regulators will easily sniff out a thinly disguised form |
| our government has taken a keen interest in | | | | of success-based compensation, and the fee will not |
| regulating. | | | | be considered valid. |
| If you are serious about growing your business, you | | | | What can happen if a regulatory agency determines |
| will need to become adept at raising capital when | | | | that a finder-consultant or employee is acting as an |
| your company requires it. Educating yourself about | | | | unregistered broker? |
| what your employees and consultants can and | | | | If a regulatory agency, like the securities division of a |
| cannot do to help you raise capital is critical to your | | | | state or the SEC, determines that a finder-consultant |
| company's health. | | | | or employee has acted as an unregistered broker, |
| Here are the basics about using employees and | | | | the SEC or state could impose fines on the finder, |
| finder-consultants to help you with your capital raising | | | | which may include disgorging to the issuer |
| efforts: | | | | commissions paid. Further, regulators could bar the |
| What is a "finder?" | | | | finder in some cases from ever registering as a |
| A finder is an individual, company or service that | | | | broker in with their agency in the future. |
| receives compensation in connection with the | | | | What can happen to a company if the SEC |
| solicitation of potential investors. The most common | | | | determines it unlawfully used an unregistered finder? |
| examples of legal finders are broker-dealers or | | | | If a regulator determines that a company used an |
| investment bankers working for broker-dealers. | | | | unregistered finder to locate investors, they could |
| What is a broker? | | | | force the company to offer investors the right to |
| A "broker" is defined under the securities laws as | | | | rescind their purchase and obtain a return of their |
| "any person engaged in the business of effecting | | | | entire investment. This may be a problem if you've |
| transactions in securities for the account of others." | | | | spent the investment money and there's nothing in |
| Helping a company sell shares to raise capital, | | | | the company's coffers to purchase shares back from |
| engaging in other activities like participating in | | | | investors. |
| presentations and negotiations, making | | | | Also, under certain circumstances, the regulators |
| recommendations to investors concerning securities, | | | | could impose fines on the company for participating in |
| receiving transaction-based compensation (i.e. | | | | a transaction that violated the securities laws or |
| commissions or finder's fees), and continuing or | | | | prohibit the company from engaging in securities |
| regular involvement in sales of securities are evidence | | | | transactions in the regulators' jurisdiction in the future. |
| of activities rendering a person a broker. | | | | Finally, any irregularity in early financing activities can |
| If your employees or finder-consultants perform | | | | make subsequent rounds of financing more difficult |
| these tasks, typically the person is obligated to be | | | | to complete. When disclosed to subsequent |
| registered as a broker with (and thus regulated by) | | | | investors, errors made in early-stage funding efforts |
| FINRA. | | | | may cut the company off from funding options in |
| How can an employee help a company raise capital | | | | the future. |
| lawfully? | | | | |