When a Done Deal is Not a Done Deal

The world of investment banking can be confusing especially for small and middle market companies. Much of the uncertainty centers on the definition of the term (what services are provided) investment banking and the license requirements for industry professionals. It is vital that, as a business owner, you understand these two important points before you embark on the process of selling your company. The stakes are high. Not only might you hire the wrong person from an expertise standpoint, but you could also find yourself needing to unwind your deal post transaction. Imagine having your deal rescinded one year after selling your company!

Few people really understand the term "investment banking." To complicate matters further, the industry uses it in different contexts. In the broadest sense, investment banking includes capital raising, acting as an intermediary, providing advice related to corporate mergers and acquisitions, and securities trades including underwriting new securities, or buying or selling issued securities. Firms, in actuality, provide different combinations of these services depending on the particular market segment they serve.

There are three market segments of providers: main street, middle market, and large transaction. Main street firms, commonly referred to as business brokers, typically handle deals up to two or three million dollars in value. Middle market firms, known as mergers and acquisitions firms, handle deals from several million up to one hundred million. Large transaction firms, called investment banks, handle deals above one hundred million. Each market segment utilizes a different methodology to accomplish their goal. Therefore, it is critical you utilize a firm that operates in your segment.

Things can get complicated when you move past the market segment and begin to look at licenses required to perform the job. To cut through the noise and begin to get a handle of this vital issue, you first need to understand there are two basic types of transactions – an asset sale or a stock sale. The type (and location) dictates the license required.

In certain states, a real estate license is required to handle an asset sale. It sounds strange, but it is true. Regardless of whether real estate is involved in the deal the service provider must be real estate licensed in some states. In the majority of states, there is no license required to handle an asset sale. You will generally find the vast majority of main street business brokers have a real estate license, a much smaller percentage of middle market firms have one, while many large transaction firms do have a real estate license.

In all states, based on federal regulations, a securities license is required to handle a stock deal. The person who wishes to engage in providing services related to transactions must be a member of the National Association of Securities Dealers (NASD), or hold one or more appropriate licenses that allow him or her to be a representative of a NASD member. In other words, if you end up selling the stock of your corporation instead of the assets, the broker, mergers and acquisitions advisor, or investment banker must have a securities license if you want them to assist you with the entire process of managing the deal. Very few main street brokers have a securities license; very few middle market firms have one and all large transaction firms have one. Using an improperly licensed person to handle your stock deal can result in significant problems including rescinding your deal. Consider the following from the Exchange Act:

"Section 29(b) of the Exchange Act provides that "Every contract made in violation of any provision of this title or any rule or regulation thereunder, and every contract . . . the performance of which involves the violation of, or the continuance of any relationship or practice in violation of, any provision of [the Exchange Act] or any rule or regulation thereunder, shall be void: (1) as regards the rights of any persons who, in violation of any such provision, rule or regulation, shall have made or engaged in the performance of any such contract." A maximum three year or one year from date of discovery statute of limitations is applied."

It is important to note that many advisors are unaware of the licensing requirement. They are not intentionally ignoring the rules. They are simply uninformed. In fact, most of them are ethical and honest people.

What if you think your deal will end up as an asset deal – should you ignore the securities licensing issue and use a firm that does not have one? Can you really be sure – positive – it will not be a stock deal? The problem is that no one knows with certainty what the deal will look like until it happens.

If your company has a value over one hundred million dollars, it is highly likely your investment banker will have all of the appropriate licensing to handle your deal regardless of what form it takes. If your deal is in the middle market (especially the lower middle market of $5,000,000 in value to $50,000,000 in value) or main street market, there is a strong possibility most of the firms you will talk to will not have all of the proper licenses. Do not take the chance with your company. Make sure all of the firms you are interviewing are properly licensed. Finally, make sure the firms you use focus on your deal size – main street brokers, mergers and acquisition advisors, and investment bankers are generally not effective when they attempt to stray too far outside of their market segment.