Issuers ask: can I raise money without using a broker-dealer?

This is an extremely common question, and surprisingly difficult to answer.

The situation: a company wants to raise money. It knows investors (or how to market to them directly) and thus doesn’t want to pay a broker-dealer for something it can do itself. So, can it go out and raise capital directly or does it absolutely have to use a broker-dealer?

The confusion: federal rules on raising capital pursuant to Regulation D, Regulation A, Regulation S and Regulation CF preempt the 51 “mini-SEC’s” (all states plus DC) desire to “blue sky” review the securities. Thus a state cannot decide “if” any 506(b), 506(c), Reg A (tier 2), or 4(a)(6) offering can be marketed to and purchased by residents of its jurisdiction.

HOWEVER, they can decide who can “sell” those securities to their residents.

Now, states generally have an “issuers exemption” which permits businesses to raise capital (sell securities) to residents without having to use (or become) a broker-dealer registered in that state. This may (or may not) exempt businesses who “infrequently” raise capital. It may (or may not) exempt businesses who only have a limited number of a state’s residents buying securities in the offering. It may (or may not) have other exemptions. Every single state has differences (KEY POINT).

The problem: 
Bad news for Reg A, 506(b&c) – there are no uniform or specific exemptions across each of the 51 jurisdictions for 506-D or Reg A securities. Thus, for those, a company has no choice but to either rely upon an issuers-exemption, use a broker-dealer, or register itself in each state as a securities dealer.

Many company’s (and their lawyers) say “okay, fine, we’ll just rely on the issuer’s exemption.”

Great, that’s perfectly legal, and here at FundAmerica we have many businesses who use our technology and services to raise capital directly and who don’t use any broker-dealers. Just be sure that you are in compliance with each and every states specific issuer’s exemption for you to legally raise capital.
E.g. in Maryland, New York and Texas, as I understand it, if you use any form of “general solicitation” (506c or Reg A) then you lose the exemption. In California and Florida, as I understand it, if you or any person associated with you are involved in more than 1 capital raise per year then you are a serial issuer and lose the exemption. Etc, etc.

Violate this and you are conducting an illegal act.

Related: click here to see the excellent article “can an issuer sell its own securities recently published by Mark Roderick, with support from Anthony Zeoil and Jillian Sidoti, all leading securities attorney’s in the Reg A and 506-D sector.

Protect Yourself: by doing one of the following:
• Have your lawyer research the issuer’s exemption’s in each and every one of the 51 jurisdictions (and, preferably, write you an opinion letter); or,
• Use a broker-dealer who is registered in all the states.

Lawyer – their time and effort to research the current regulations for each state (they change frequently and thus this would have to be done every single time, for every offering). I don’t know how much that would cost for your attorney to do that.

Broker-Dealers – there are 3 types of broker-dealers associated with private capital raises, each with different costs…
Soliciting – are the folks who “smile & dial” and proactively sell your securities to investors. This is usually 5% – 7%.
Executing – provides execution of transactions and, for purposes of regulation, are the ones who “sell” the securities to investors, though reactively and not proactively (e.g. a Merrill Lynch rep may, as a “soliciting” broker, call and try to sell an investor something, but an Etrade rep simply takes/executes an investors order for something the investor self-researched and decided upon). Typically this is a 1% fee.
Advisory (aka “banking”) – provides advice on what kind of securities you should sell, what price you should sell them at, what the structure of the offering should look like, and work with your lawyers to draft your documents and disclosures, as well as make any required regulatory filings. This service is usually 3% – 5%.
Combined – most (but not all) brokers combine these activities and charge a single fee of 8% – 11%. Their bankers will help a company structure a deal, their reps will solicit investors, and their back-office will execute direct transactions.
e.g. WR Hambrecht, SDDCO, and others are full service/combined. FundAmerica Securities is only an executing broker. Zack’s, Network1 and Dawson James are soliciting brokers (who may also do some banking). Houlihan Capital is only advisory.

Conclusion: For purposes of complying with state securities regulations, a company can use either a Soliciting or an Executing broker-dealer, or, of course, an issuer’s exemption. It is critical that businesses respect the regulations of both federal and state authorities to ensure compliance when raising capital. This is definitely one of those “ignorance of the law is not a defense” situations.


Legal Disclaimer:
These materials are my personal opinions and for informational purposes only and not for the purpose of providing legal or tax advice. The issues discussed include complicated areas of law and legal advice should only be obtained and relied upon from a securities attorney about your specific circumstances.