Buyouts talked to its own source — someone with direct knowledge of the situation — suggesting that private equity firms should not be breathing a sigh of relief just yet. True, the industry, arguing in part that many firms are already regulated as investment advisers, has been lobbying for a no-action letter in which staff of the U.S. Securities and Exchange Commission would recommend no enforcement actions be taken. But the SEC, while open to all proposals, has not formulated its own plan to exempt private equity firms. And it appears to be a ways from making a decision. Here are five things you need to know about the prospect for your firm having to register as a broker-dealer.
- Speaking in April 2013 at a meeting of the American Bar Association in Washington DC, David W. Blass, chief counsel of the division of trading and markets at the U.S. Securities and Exchange Commission, alerted the industry to two activities that might require them to have to register as broker-dealers under the Securities Exchange Act of 1934. One is paying staff transaction-based compensation for selling interests in funds; the other is charging portfolio companies transaction-based compensation for investment banking or related services.
- Blass will soon have a new boss — Stephen Luparello, recently named director of the SEC’s division of trading and markets after serving as a partner in the Washington, D.C., office of WilmerHale with a specialty in broker-dealer compliance and regulation. Luparello may well have his own views on whether private equity firms should have to register as broker-dealers; for that reason alone it is too early to place bets on what or when the SEC will decide.
- Once Luparello is on board he will have to attach a priority to the broker-dealer issue given all the other tasks on the SEC’s plate, such as completing rulemakings related to enforcing provisions of Dodd-Frank and the JOBS Act. Staff appears to be closer to a decision on whether firms paying staff transaction-based compensation related to fund marketing need to be registered as broker-dealers. But our source sees neither decision as “being imminent.”
- The SEC considers the real hallmark of broker-dealer activity to be the receipt of transaction-based compensation, according to our source. On the fund marketing side, firms with full-time marketers whose compensation is directly tied to the success of a fundraise would appear to be at most risk for having to register — good news, since this is not common industry practice.
- The SEC may prove to be far less sympathetic to the industry’s argument that firms can charge transaction fees without being registered as broker-dealers. Our source called it “a bit of a head-scratcher how everyone got comfortable” with not registering. However, Blass said in his April 2013 speech that the SEC does not believe deal fees raise broker-deal issues so long as they are used to offset management fees. If your firm had been considering moving to this limited partner-friendly partnership term anyway, now may be the time to do it.