Broker-dealers Archives

The Broker-Dealer’s Guide to Due Diligence process

Posted on February 7, 2024February 7, 2024 by Oscar Jofre

In the realm of private capital markets, due diligence is not just a procedure but a pledge—a commitment to uphold integrity, trust, and compliance. This guide serves as a beacon for Chief Compliance Officers (CCOs) and their compliance teams, guiding them through the complexities of due diligence process in private company capital raises. From leveraging technology to navigating an ever-evolving regulatory landscape, to understanding the nuanced roles of FINRA Broker-Dealers, we delve into how these crucial processes safeguard the private capital markets, ensuring a secure and transparent investment environment for all parties involved.

Due Diligence by Chief Compliance Officers

Imagine a world where investments flow seamlessly, underpinned by an unshakeable trust between investors and companies raising capital. This is the reality that CCOs strive to create through meticulous process of due diligence on companies and investors. Through their diligent efforts, such as scrutinizing a company’s financial health, operational strategies, and leadership integrity, CCOs not only protect investors from unforeseen risks but also build a foundation of trust that is paramount for successful capital raises.

Empowering CCOs with Technology

The digital age has revolutionized due diligence process, providing CCOs with tools to gather and analyze vast amounts of data efficiently. Technologies tailored to regulations like RegCF, RegD, and RegA+ enable CCOs to customize and have still best practices in due diligence processes. Therefore, ensuring that each investigation meets specific regulatory standards. This not only streamlines compliance but also allows CCOs to allocate their resources more effectively, focusing on strategic decision-making rather than getting lost in a sea of paperwork. CCO’s are the backbone of the firm, and as such technology needs to be part of their overall strategy for the firm to be successful, tools such as Compliance Desk provide the necessary and regulatory requirements of making sure data is collected, tracked, and maintained for CCOs.

Navigating Challenges of due diligence process in a Dynamic Regulatory Environment

The landscape for FINRA Broker-Dealers is fraught with challenges, from navigating a complex web of regulations to ensuring that compliance teams are equipped with the necessary tools. The advent of technologies like the Compliance Desk represents a significant leap forward, enabling CCOs to maintain organized records in a FINRA-approved facility to meet Rule 17a-4 requirements. This capability is crucial for broker-dealers to manage their compliance efficiently, allowing them to focus on expanding their business while maintaining strict regulatory adherence.

The Critical Role of FINRA Broker-Dealers

FINRA Broker-Dealers are the guardians of the private capital markets, and their role extends beyond initial best practices on the due diligence process; they help to ensure the safety and integrity of transactions for investors, companies, and intermediaries alike. Once an offering goes live, they are responsible for continuous oversight, including KYC, AML, suitability, and investor verification. This dual focus on company and investor due diligence is essential for preventing bad actors from entering the market, thereby protecting the investment ecosystem.

7 Steps for Effective Due Diligence on Private Companies

For those aiming to enhance their due diligence processes or embarking on the journey to become a FINRA Broker-Dealer, consider the following steps:

Comprehensive Regulatory Understanding: Gain a deep understanding of the relevant regulations (RegCF, RegD, RegA+) and their implications for your due diligence process.
Robust Data Collection and Analysis: Leverage technology to efficiently collect and analyze company data, focusing on financials, management, and operational integrity.
Risk Assessment: Develop a framework for assessing and categorizing potential risks, including financial, legal, and operational risks.
Management and Operational Evaluation: Conduct thorough evaluations of the company’s management team and operational capabilities to ensure they have the necessary expertise and resources. Always do bad actor checks on the company and the principles of the company.
Legal Compliance Verification: Verify the company’s compliance with all applicable laws and regulations, including securities laws and industry-specific regulations.
Continuous Monitoring: Establish processes for ongoing monitoring of the company’s performance and compliance post-investment.
Record Keeping and Reporting: Implement systems for maintaining detailed records of your due diligence process, ensuring they meet FINRA’s Rule 17a-4 requirements for record-keeping.

Best practices on due diligence for broker-dealers

In the rapidly evolving landscape of private capital markets, the importance best practices on due diligence for broker-dealers cannot be overstated.

It is the bedrock upon which trust and compliance are built, safeguarding the interests of investors and ensuring the integrity of the market. For FINRA Broker-Dealers and their compliance teams, staying abreast of regulatory changes and leveraging technology are key to navigating this complex environment effectively.

So, by creating a comprehensive guide of due diligence best practices that align with current regulations and anticipate future shifts, firms can not only comply with today’s standards but also set a benchmark for excellence in compliance and investor protection. As we move forward, education and adaptability will remain crucial for all stakeholders in the private capital markets, ensuring that they can meet today’s challenges and seize tomorrow’s opportunities.

How Can a Company Raise Capital?

Posted on January 22, 2021January 24, 2021 by Oscar Jofre

For companies looking to raise capital, there are many different options. While not every option may be best suited for every company, understanding each will help companies choose which one is best for them.

In the early stages of raising capital, seeking investments from family and friends can be both a simple and safe solution. Since family members and friends likely want to see you succeed, they are potential sources of funding for your company. Unlike traditional investors, family and friends do not need to register as an investor to donate. It is also likely that through this method, founders may not have to give up some of their equity. This allows them to retain control over their company.

Angel investors and angel groups can also be a source of capital. Angel investors are wealthy individuals that meet the SEC requirements of accredited investors, who invest their own money. Angel groups are multiple angel investors who have pooled their money together to invest in startups. Typically, angel investors invest capital in exchange for equity and may play a role as a mentor, anticipating a return in their investment.

Venture capital investors are SEC-regulated and invest in exchange for equity in the company. However, they are not investing their own money, rather investing other people’s. Since venture capital investors are trying to make money from their investments, they typically prefer to have some say in the company’s management, likely reducing the founders’ control.

Strategic investors may also be an option for companies. Typically owned by larger corporations, strategic investors invest in companies that will strengthen the corporate investor or that will help both parties grow. Strategic investors usually make available their connections or provide other resources that the company may need.

For some companies, crowdfunding may be useful for raising funds. With this method, companies can either offer equity or rewards to investors, the latter allowing the company to raise the money they need without giving up control of the company. Through the JOBS Act, the SEC passed Regulation A+ crowdfunding, which allows companies to raise up to $75 million in capital from both accredited and non-accredited investors. Crowdfunding gives companies access to a wider pool of potential investors, making it possible to secure the funding they need through this method.

Alternatively, Regulation CF may be a better fit. Through RegCF, companies can raise up to $5 million, during a 12-month, period from anyone looking to invest. This gives companies an important opportunity to turn their loyal customers into shareholders as well. These types of offerings must be done online through an SEC-registered intermediary, like a funding portal or broker-dealer. In the November 2020 update to the regulation, investment limits for accredited investors were removed and investment limits for non-accredited investors were revised to be $2,200 or 5% of the greater of annual income or net worth. It is also important to note that now, companies looking to raise capital using RegCF are permitted to “test the waters,” to gauge interest in the offering before it’s registered with the SEC. The SEC also permits the use of SPVs in RegCF offerings as well.

Regulation D is another method that private companies can use to raise capital. Through RegD, some companies are allowed to sell securities without registering the offering with the SEC. However, companies choosing to raise capital through RegD must electronically file the SEC’s “Form D.” By meeting either RegD exemptions 506(b) or 506(c), issuers can raise an unlimited amount of capital. To meet the requirements of the 506(b) exemption, companies must not use general solicitation to advertise securities, can raise money from an unlimited number of accredited investors and up to 35 other sophisticated investors, and must determine the information to provide investors while adhering to anti-fraud securities laws. For 506(c) exemptions, companies can solicit and advertise an offering but all investors must be accredited. In this case, the company must reasonably verify that the investor meet the SEC’s accredited investor requirements

Companies can also utilize direct offerings to raise money. Through a direct offering, companies can issue shares to the company directly to investors, without having to undergo an initial public offering (IPO). Since a direct offering is typically cheaper than an IPO, companies can raise funding without having major expenses. Since trading of shares bought through a direct offering is typically more difficult than those bought in an IPO, investors may request higher equity before they decide to invest.

Companies can offer security tokens to investors through an issuance platform. Companies should be aware that these securities are required to follow SEC regulations. It is becoming more common for companies to offer securities through an issuance platform, as it allows them to reach a larger audience than traditional methods. This is also attractive to investors, as securities can be traded in a secondary market, providing them with more options and liquidity for their shares.

Additionally, companies looking to raise capital can do so with the help of a broker-dealer. Broker-dealers are SEC-registered entities that deal with transactions related to securities, as well as buying and selling securities for its own account or those of its customers. Plus, certain states require issuers to work with a broker-dealer to offer securities, so working with a broker-dealer allows issuers to maintain compliance with the SEC and other regulatory entities. This makes it likely that a company raising capital already has an established relationship with a brokers-dealer.

Lastly, companies looking to raise capital can do it directly through their website. With the KoreConX all-in-one platform, companies can raise capital at their website, maintaining their brand experience. The platform allows companies to place an “invest now” button on their site throughout their RegA, RegCF, RegD, or other offerings so that potential investors can easily invest.

Whichever method of raising capital a company chooses, it must make sure that it aligns with the company’s goals. Without understanding each method, it is possible that founders may end up being asked to give up too much equity and lose control of the company they have worked hard to build. Companies should approach the process of raising capital with a strategy already in place so that they can be satisfied with the outcome.

KorePartner Spotlight: Etan Butler, Chair of Dalmore Group

Posted on January 8, 2021 by Oscar Jofre

With the recent launch of the KoreConX all-in-one RegA+ platform, KoreConX is happy to feature the KorePartners that contribute to its ecosystem.

Etan Butler is Chairman of Dalmore Group, a FINRA registered national Broker-Dealer, founded in 2005. Dalmore provides a full range of investment banking services and specializes in assisting companies that seek to raise investment capital online through the SEC’s Regulation D, Regulation A+, and Regulation CF. Etan is recognized as a pioneer in the Regulation A+ industry and is an active participant in industry summits, panels, interviews, and publications.

Dalmore is among the most active Broker-Dealers for Reg A+ offerings, having been involved in more than 85 such offerings in 2020 – including some of the most successful listed and private Reg A+ offerings in history. A number of Dalmore’s Reg A+ clients have met their offering goals and have pursued follow on Reg A+ offerings to raise even more. Some of Dalmore’s clients have gone on to be listed on Canadian and US public exchanges.

“From our wide and varied experience as the broker-dealer on these offerings, we share what we have seen work well (and not so well) with our new issuer clients. This experience is particularly valuable to the entrepreneur who is approaching a Reg A+ capital raise for the first time, and who can tap into our network of quality service providers, including legal, marketing, and syndication specialists. We also offer our clients potential alternative trading solutions, and otherwise provide our issuers with the tools they require to enter the field equipped to have the greatest chance of success.”

Dalmore Group also provides business planning, development, and capital introduction services to public and private companies in a range of industries, and has participated in various capacities in significant investment, development, and other structured transactions. Over the course of their 15 years of investment banking activity, Etan and his team have been involved in the development of cutting edge, regulatory compliant approaches for the management of business development – including the raising of funds — and the oversight of complex due diligence activities in the heavily regulated area of U.S. and multinational transactions.

“What drew me to investment banking and the buildout of the Reg A+ division at Dalmore was the excitement of working with other entrepreneurs in cutting edge industries, and assisting them in the pursuit of their dreams. The recent launch of Dalmore’s DirectCF platform, which offers Reg CF issuers a direct, cost-effective, and open access solution for their Reg CF offering – untethered to a marketplace that lists other, competing offerings — reflects Dalmore’s obsession with giving issuers full control of their capital raising activities.”

Etan is also President of EMB Capital, LLC, which invests in early-stage ventures with a focus on real estate acquisition and financial services.

Click “RESET”

Posted on December 31, 2020December 31, 2020 by Oscar Jofre

In the future, 5 or 10 years from now, we will see an evolution in business and a paradigm shift occurring all due to the global COVID-19 pandemic. Many of us have been advocating that the business world has been operating ineffectively, but not until now has everyone been able to see it and experience it first hand. There are many examples where the chain is broken.

American Stimulus Checks (Banking)

Before the first round of stimulus checks issued to the American people, the US President told everyone that their checks would be deposited within 48 hours. However, a few hours later, the IRS issued a contradictory news release that only about 50% of Americans would receive the aid within 48 hours. For the rest of the population, without direct deposit set up, the process would take months and lacked the potential for setting up direct deposit only. Plus, since the pandemic began to close businesses and eliminate jobs, there has been no additional aid to the American people besides a smaller sum approved by Congress in December.

Opening Commercial Business Accounts (Banking)

Anyone with a business account has experienced the process of setting up a commercial bank account. Applicants need to bring their books, ID, etc., and set up an appointment with the bank to open a business account. The banker collects all the information and begins the onboarding process. However, this process is often variable and inefficient depending on the financial institution.

Broker-Dealer Transacting

Broker-dealers in the alternative investment sector, such as those who work with investors for private companies, are accustomed to meeting investors face-to-face to bring them opportunities and perform regulatory compliance. This often makes it more than just a service—it is a personal relationship built between investors and their broker-dealers. However, with face-to-face appointments becoming a way of the past in favor of virtual meetings, the process needs to be improved to support this fundamental change.

Post COVID-19 RESET

The last time we had a reset of any significant magnitude in business was at 11:59 PM on 31 December 1999. For those who remember the 12 months before this date and time, everyone knew that the future was going to be different, and we saw the next phase of the computer and software introduction to business.

Despite this, since 11:59 PM on 31 December 1999, all we have seen is more development but no “reset” and small uptake to really make a difference. These businesses on which we rely for our financial services have been noticing the signs that change is coming. Most of them would say, nothing to worry about because my business is very personal with my clients. Some have attributed that the only way you can offer a personal touch to your business is by not adopting technology to operate your business efficiently.

For those who understand and are already seeing this as an opportunity to lead the business world, this “RESET” will create new leaders in many areas as we move to end-to-end processes that have no broken links in these areas:

- Banking
  - Banks that will be fully online, including onboarding customers and transacting. No more PDF’s but fully integrated with your corporate activities
  - End-to-End integrated with companies
- Broker-Dealers
  - The personal touch extended to all clients to pursue opportunities and able to invest by simply updating their profile and from the comfort of their home, office, vacation.
  - End-to-End integrated with investors, compliance, companies, banking
- Companies
  - Managing all corporate records for C-level onward to be connected to their shareholders, access to capital, banking, insurance, and M&A, regardless of the size of a company
  - End-to-End integration with Broker-dealers, Banking, Secondary Market, and all stakeholders (management, board directors, shareholders, investors, legal, auditors)

Why Them?

We rely on them (Banking, Broker-Dealers) to transact to keep our businesses operational. If they are no longer changing the way a service is delivered or integrated or a company or stakeholders are onboarded, companies will pivot to make rapid, fundamental changes to keep their business operational.

There will be holdouts as we saw on 31 December 1999. In the end, they will be the ones complaining that it was Covid-19 that destroyed their businesses, but in reality, their businesses were adversely affected by not pivoting when all indicators pointed to the need for change.

Real-Time Success

We are seeing clear indicators already that we must pivot our way of doing business. Companies are raising capital online from registered funding portals or via their website, and the data is showing strong growth in online investing. This is one clear sign that those who have pivoted are getting rewarded versus those waiting and hoping for the good old days to come back.

11:59 PM 31 December 2020

RESET

Why is a Broker-Dealer Important for Private Company Offerings?

Posted on December 9, 2020 by Oscar Jofre

If you’re looking to raise money for your private company, chances are that you’ve at least heard the term “broker-dealer.” However, if you’re new to the process, you might not be too familiar with what they do and why they are a key component of the fundraising process.

Simply put, a broker-dealer is an agent that assists you in raising capital for your private company. Broker-dealers can be small, independently working firms or ones that operate as part of large banks and investment firms. Both are subject to registration with the SEC and must join a “self-regulatory organization” such as FINRA. If a broker-dealer is not registered they can face penalties enforced by the SEC. You can check a broker-dealer’s registration here: https://brokercheck.finra.org/.

For private companies looking to raise money, working with a broker-dealer will be a key part of their capital raising activities. Certain states require issuers to work with a broker-dealer to offer securities, so working with a broker-dealer allows issuers to maintain compliance with the SEC and other regulatory entities. Ensuring that issuers are compliant with all regulations is essential to a successful round of capital raising and good business practices. If issuers are not compliant, they can face penalties from the SEC including returning the money raised.

Broker-dealers are intermediaries in a fundraise transaction between the private company and the investors. As such, they are mandated to perform a variety of compliance activities. If you retain a broker-dealer, they will first be responsible for performing due diligence on your private company. This is important so that there are no false representations to investors. Investor protection is one of the main responsibilities of the SEC, so the broker-dealers must ensure they are performing appropriate steps to ensure the information presented to investors is accurate, appropriate, and not misleading.

Once the broker-dealer has completed the due diligence, they work with private companies to prepare appropriate information to share with investors and set timelines. This can involve liaising with your legal counsel to ensure the offering documents are complete and to ensure what type of investors they can approach with your offering. Each country has its own regulations around how you can approach investors, which is why it is important to have a good broker-dealer and legal counsel in each region you intend to offer your securities.

There are different types of investors that can be approached depending on jurisdiction and securities regulations. They include Venture Capital, Private Equity firms, Institutional investors, or individuals. While most of these are professional investors, the individual investor group is further broken down into accredited/sophisticated investors and the general public. Accredited investors have to meet income or wealth criteria to invest in accredited investor offerings (Regulation D type of offerings in the USA). The popular mechanisms in the USA to present your offering to the non-accredited or general population (over 18 years) are Regulation CF and Regulation A+.

As the broker-dealers reach out to investors and find interested participants, there are steps that they have to perform to ensure that the investor is appropriate for the company. Typical checks that broker-dealers have to conduct on investors can include performing identification verification, anti-money laundering checks, assessing the suitability of the investment to the investor, and doing accreditation checks.

With the help of a broker-dealer, companies can raise the funding their company needs while being confident that they are maintaining compliance with the regulations that are in place. With over 3,700 registered broker-dealers in the United States alone, every issuer looking to raise capital can be confident of finding at least one well-suited broker-dealer that meets their needs.

FINRA BD Requirements for RegA+ & Digital Securities

Posted on May 25, 2020October 9, 2020 by Oscar Jofre

FINRA BD Requirements for RegA+ & Digital Securities

The private markets are receiving a much updated revamp by the SEC which is having a major impact on registered FINRA Broker-dealer firms. Here are two (2) of the most common activities for which FINRA Broker-dealers (BD) are approached by companies. Most BD’s are not aware that in order to help companies raise capital utilizing these regulations, there is a registration they must first do with FINRA.

We went to the source that has been helping many FINRA Broker-dealers and put the responses in a simple way. Ken Norensberg, Managing Director, Luxor Financial provides the answers to which all BDs need to pay extra attention to make sure you are fully compliant.

RegA+ (Regulation A)

Broker-dealers today have the ability to help companies that are using either Regulation D (RegD) or regulation A(RegA+). Now what they are not aware of is that in order to allow them to help companies with RegA+ they do need to be registered with FINRA. If that registration isn’t done, they are not allowed to proceed in offering those services. This process can take anywhere from 60 to 90 days or it could happen sooner. Most firms are not aware that when they take on a RegA+ client, they must apply to FINRA to represent them in the offering. This is done at the same time the company is filing their Form 1A with the SEC for their RegA+ offering.

Digital Securities

Digital Securities are now becoming main street language and most Broker-dealers want to offer this to investors. Unfortunately, if they do not have FINRA approval for digital securities, it’s not a product they can represent or offer to investors. Digital Securities require registration. The process is like putting a full new member application, and it will take anywhere up to four (4) months. Your firm must file with FINRA for each of the exemptions you want to use for Digital Securities (RegD and or RegA+. Here is what your firm will be required to answer to FINRA in its application.

You will need a detail business plan

What entities are the holders of the “private keys” in the DLT network that would be required to gain access to the digital securities, cash-backed digital securities holdings or digital currency?

Are multiple keys needed to gain access or is a single key sufficient?

Who controls or has access to the DLT network where the assets are held?

What happens in the event of a loss or destruction of assets (either due to fraud or technological malfunction) on the network?

If the broker-dealer was to fail and is liquidated in a proceeding under the Securities Investor Protection Act of 1970, as amended, how would customers’ securities and funds be treated, and how would customers access their assets?

In instances where firms have established partnerships with other firms to serve as their back-ups and to carry out critical functions in the event of emergencies, what type of access would those back-up firms have to the private keys?

How will customers or the Securities Investor Protection Corporation (SIPC) trustee access the customers’ assets in the event of a defaulted broker-dealer? What parties will be involved, and what are their roles and responsibilities?

How does the use or application of the DLT network affect the market risk, liquidity or other characteristics of the asset?

What information is maintained using the DLT network?

What will be deemed as the physical location of the firm’s records maintained on a node of a DLT network that may extend over multiple countries?

What parties have control or access to the firm’s records? What are their rights, obligations and responsibilities related to those records, and how are they governed?

What is the firm’s (and other participants’) level of access to the data, and in what format would it be able to view the data?

How does the DLT network interact with the firm’s own systems for recordkeeping purposes?

How would the records be made available to regulators?

How will the firm’s traditional exception reporting, used to supervise transactions, be generated from a DLT network?

How will the firm protect any required records from tampering, loss or damage?

Clearance & Settlement?

Anti-Money Laundering (AML) Procedures & Know Your Customer (KYC) Rules?

Customer Data and Privacy?

Trade & Order Reporting Requirements?

Supervision & Surveillance of Transactions?

Fees & Commissions?

Customer Confirmations & Account Statements?

Anticipated Customer Base?

Facilities, Hosting?

Licensed & Qualified Staff

As the market is evolving to provide more alternatives to companies and investors, FINRA Broker-dealers need to also make sure their licenses are up to date to be able to offer these updated alternatives. It’s not enough that you are registered with FINRA.

Thank you to Ken Norensberg, Managing Director of Luxor Financial, who provided this valuable information to assist Broker-dealers to stay compliant. Ken has been helping FINRA Broker-dealers manage these new registration requirements.

About Ken Norensberg & Luxor

Luxor Financial Group, Inc. a NY based Broker-Dealer Consulting Firm that specializes in setting up Independent Broker-Dealers. We are experts in New Member Applications, Continuing Membership Applications, Expansion Filings, FINRA and SEC Audits, Anti Money Laundering Reviews, Business Development and general compliance and business development services. www.luxorbd.com

Ken is a former Member of the FINRA Board of Governors. FINRA oversees the regulatory activities and business practices of over 4,500 Broker-Dealers, 163,000 Branch offices, 630,000 registered representatives and 3,500 employees and consultants with annualized revenues and a budget of approximately $800,000,000 (Eight hundred million dollars.)

The Board contends with many complex issues that affect large organizations from generating revenues, managing expenses, personnel, legal, regulatory, political and operational issues.

Additionally, Ken was a Member of the following committees and subcommittees:

Regulatory Policy Committee
Emerging Regulatory Issues (Subcommittee)
Financial, Operations & Technology Committee
Pricing (Subcommittee)
Ex-Officio of the Small Firms Advisory Board (SFAB)

Tag: Broker-dealers