On December 29, 2022, President Biden signed the “Consolidated Appropriations Act, 2023” into law. Among its many provisions is Division AA, Title V, “Small Business Mergers, Acquisitions, Sales and Brokerage Simplification”, which clarifies SEC and FINRA registration and regulation requirements for merger and acquisition professionals.
The new law clarifies an issue that has long been a sticking point for many sell-side investment bankers. The crux of the matter related to whether the sale of a middle-market business involved the sale of securities, in which case the investment banker would technically be required to be registered as a broker/dealer in accordance with the Securities Exchange Act of 1934 (the “1934 Act”), which regulates securities trading on the secondary markets and the participants involved in those transactions.
Whether or not the sale of a middle-market business involves the sale of securities depends primarily on the structure of the M&A transaction. At a high-level, the sale of a middle-market business can take one of two primary forms, namely (a) the sale of the stock of the business, or (b) the sale of the assets of the business. In the case of a stock sale, the transaction would involve the sale of securities. However, in the case of an asset sale, it likely would not.
If every sell-side M&A transaction were structured the same way, the issue would not be as significant. For example, if every transaction were structured as a stock deal, the M&A advisor would probably just register as a broker/dealer in accordance with the 1934 Act. However, participants to a sell-side M&A transaction negotiate the form of the transaction (i.e., stock sale versus asset sale) as the transaction unfolds, due primarily to legal and tax implications. Because the ultimate form of the transaction is unknown at the outset of a typical sell-side M&A transaction process, the investment banker was in a tough position.
From a 1934 Act compliance perspective, the investment banker could (a) try to assess the likelihood of a certain transaction structure before taking a business to market, (b) rely on interpretations from FINRA (the agency that oversees broker/dealers), or (c) simply bite the bullet and register as a broker/dealer in the event that the transaction was ultimately consummated as a securities transaction.
As someone that was once registered as a broker in accordance with the 1934 Act, I can tell you from experience that the registration and ongoing compliance activities had little, if anything, to do with middle-market M&A activities. It was really just the technical nuance that the sale of a middle-market business might involve the sale of securities that created the possible registration requirement in the first place. A classic example of a square peg in a round hole. And an expensive and time consuming one at that.
The passage of the new bill finally provides much-needed relief to sell-side investment bankers; it amends the 1934 Act to provide a registration exemption for M&A advisors as long as certain conditions are met. In other words, if certain conditions are met, M&A advisors are not subject to the registration and regulation requirements of the 1934 Act.
The new bill indicates that registration is not required in the event that:
- The M&A advisor represents buyers and sellers in M&A transactions involving privately held businesses, and
- The privately held business involved in the transaction has either (a) less than $25 million in EBITDA, or (b) less than $250 million of gross revenue.
Among other things, the registration exemption is not available in the event the M&A advisor:
- Receives, holds, transmits, or has custody of the funds or securities to be exchanged by the parties to the transaction;
- Provides financing related to the M&A transaction;
- Facilitates a transaction with a group of buyers formed with the assistance of the M&A advisor;
- Engages in a transaction involving the transfer of ownership to a passive buyer or group of passive buyers; or
- Engages on behalf of an issuer in a public offering of securities;
The new registration exemption is good for middle-market business owners because it clarifies that most middle-market M&A advisors are not subject to the 1934 Act and therefore the costs of those activities, which were ultimately passed on to clients, will no longer be necessary.
That doesn’t mean that middle-market business owners should just go out and hire any investment banker. They should still do their homework and choose a reputable investment banker with relevant transaction experience to help them achieve their objectives.
If you’re considering a sale of your business or have any questions on the contents of this article, please do not hesitate to reach out to our trusted experts today.
This material has been prepared for general, informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. Should you require any such advice, please contact us directly. The information contained herein does not create, and your review or use of the information does not constitute, an accountant-client relationship.
