On April 5, 2013, David Blass, the Chief Counsel of the SEC’s Division of Trading and Markets, addressed how certain activities of private fund advisers may raise broker-dealer status concerns.
Blass said that certain private fund advisers’ payments to personnel of transaction-based compensation for selling interests in a fund could raise broker-dealer status issues under Section 15(a) of the Exchange Act. He noted a March 2013 enforcement action in which the SEC settled charges against a private equity fund adviser and one of its executives for paying transaction-based fees to an independent consultant to solicit investors in the fund when the consultant was not registered as a broker.
Other than transaction-based compensation, Blass said that “a dedicated sales force of employees working within a ‘marketing’ department” of the adviser could be another strong indicator of brokerage activities. Consistent with the requirements under a safe harbor contained in Rule 3a4-1, he encouraged advisers to evaluate whether employees who solicit investors have other responsibilities. Rule 3a4-1 is available to an associated person or employee of a broker-dealer that, among other things, (1) does not receive transactionbased compensation tied to securities transactions; (2) performs substantial duties for the issuer other than in connection with transactions in securities; (3) was not an associated person of a broker or dealer within the preceding 12 months; and (4) does not participate in selling an offering of securities for any issuer more than once every 12 months.
Blass also discussed the practice of charging transaction-based compensation for “investment banking activity” in connection with the acquisition or disposition of a private equity fund’s portfolio company, including “negotiating transactions, identifying and soliciting purchasers or sellers of the securities of the company, or structuring transactions.” Blass suggested that an adviser’s receipt of such fees does not raise broker-dealer status issues when the adviser offsets its management fee by the amount of the transaction fee.
Blass emphasized the serious consequences of acting as an unregistered broker-dealer, noting the potential right of rescission of investors whose transactions are intermediated by an “inappropriately unregistered” broker-dealer.