As reported in our Alert dated March 13, 2013, the SEC recently announced the settlement of enforcement proceedings against a private equity firm, Ranieri Partners, one of its senior executives, and an unregistered “finder” for the finder’s solicitation of more than $500 million in capital commitments for two private funds in violation of the broker-dealer registration provisions of the Securities Exchange Act of 1934 (the “Exchange Act”). To settle the charges, the fund sponsor paid a penalty of $375,000, the partner paid a penalty of $75,000 and agreed to a nine-month suspension from acting in a supervisory capacity at an investment adviser or a broker-dealer, and the finder agreed to be barred from the securities industry.
According to the SEC’s order against the finder, William Stephens, Stephens’ role went far beyond that of a finder, in that he sent private placement memoranda and other materials to potential investors, urged at least one investor to consider adjusting portfolio allocations to accommodate an investment with Ranieri Partners, and provided potential investors with his analysis of the strategy and performance track record for Ranieri
Partners’ funds. The SEC’s order against Ranieri Partners and executive Donald Phillips found that Phillips had aided and abetted Stephens’ violations by providing key fund documents and information to Stephens while ignoring red flags indicating that Stephens had gone well beyond the limited role of a finder and was actively soliciting investments.
The case illustrates that using unregistered persons to solicit investors can be risky not only for the finder, but also for the sponsor and its personnel. These risks could extend to the use of in-house personnel engaged in the same conduct at issue in the Ranieri matter—namely, the direct solicitation of prospective investors and providing offering documents to those investors, in exchange for transaction-based compensation.
The SEC’s order in the case does not mention the so-called finder's exemption from broker-dealer registration, and notes that the sponsor subsequently revised its policies to provide that it would not retain an unregistered third party finder to solicit investors. However, the order emphasizes that Stephens' solicitation efforts including sending offering documents and confidential information to potential investors, urging an investor to invest, and analyzing the funds' strategy and track record, activities which had been prohibited by the fund sponsor. Therefore, it is worth considering whether the case would have been brought if the finder had complied with those restrictions, or whether the sponsor and its partner would have been named as respondents in the case if they had taken action when the full scope of the finder's activity had come to their attention. In addition, a recent court opinion in an SEC enforcement case, SEC v. Kramer, 778 F. Supp. 2d 1320 (M.D. Fla. Apr. 1, 2011) casts some doubt on the SEC's long-standing position that the receipt of transaction-based compensation is itself sufficient to require a finder to register as a broker-dealer.
The Ranieri case was recently discussed by David Blass, the Chief Counsel of the SEC’s Division of Trading and Markets (which regulates broker-dealers), in an important speech highlighting two “significant areas of concern” about broker-dealer registration. As discussed in more detail in our Alert dated April 9, 2013, Blass’s speech focused on (1) issues that arise when private fund personnel engage in marketing activities (such as soliciting or negotiating transactions) with respect to such private fund interests and when these activities would require such personnel to register as a broker-dealer, and (2) when private equity fund managers may receive transaction fees in connection with their advisory services. Blass’s speech further indicates that broker-dealer issues will continue to be raised by the SEC staff in “presence examinations” of registered investment advisers, and will be the subject of further public discussion and analysis.
Private equity firms that charge transaction-based fees to their portfolio companies or rely on internal marketing personnel to sell fund interests would be well advised to examine their historical practices in light of applicable broker-dealer regulations.