
[Federal Register Volume 80, Number 246 (Wednesday, December 23, 2015)]
[Notices]
[Pages 79969-79983]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-32189]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-76675; File No. SR-FINRA-2015-054]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Adopt 
the Capital Acquisition Broker Rules

December 17, 2015.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act,'' ``Exchange Act'' or ``SEA'') \1\ and Rule 19b-4 
thereunder,\2\ notice is hereby given that on December 4, 2015, 
Financial Industry Regulatory Authority, Inc. (``FINRA'') filed with 
the Securities and Exchange Commission (``SEC'' or ``Commission'') the 
proposed rule change as described in Items I, II, and III below, which 
Items have been substantially prepared by FINRA. The Commission is 
publishing this notice to solicit comments on the proposed rule change 
from interested persons.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to create a separate rule set that would apply 
to firms that meet the definition of ``capital acquisition broker'' and 
elect to be governed under this rule set.
    The text of the proposed rule change is available on FINRA's Web 
site at http://www.finra.org, at the principal office of FINRA and at 
the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. FINRA has prepared summaries, set forth in sections A, 
B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    There are FINRA firms that are solely corporate financing firms 
that advise companies on mergers and acquisitions,

[[Page 79970]]

advise issuers on raising debt and equity capital in private placements 
with institutional investors, or provide advisory services on a 
consulting basis to companies that need assistance analyzing their 
strategic and financial alternatives. These firms often are registered 
as broker-dealers because of their activities and because they may 
receive transaction-based compensation as part of their services.
    Nevertheless, these firms do not engage in many of the types of 
activities typically associated with traditional broker-dealers. For 
example, these firms typically do not carry or act as an introducing 
broker with respect to customer accounts, handle customer funds or 
securities, accept orders to purchase or sell securities either as 
principal or agent for the customer, exercise investment discretion on 
behalf of any customer, or engage in proprietary trading of securities 
or market-making activities.
    FINRA is proposing to establish a separate rule set that would 
apply exclusively to firms that meet the definition of ``capital 
acquisition broker'' (``CAB'') and that elect to be governed under this 
rule set. CABs would be subject to the FINRA By-Laws, as well as core 
FINRA rules that FINRA believes should apply to all firms. The rule set 
would include other FINRA rules that are tailored to address CABs' 
business activities.
General Standards (CAB Rule 010 Series)
    Proposed CAB Rule 014 provides that all persons that have been 
approved for membership in FINRA as a CAB and persons associated with 
CABs shall be subject to the Capital Acquisition Broker rules and the 
FINRA By-Laws (including the schedules thereto), unless the context 
requires otherwise. Proposed CAB Rule 015 provides that FINRA Rule 
0150(b) shall apply to the CAB rules. FINRA Rule 0150(b) currently 
provides that the FINRA rules do not apply to transactions in, and 
business activities relating to, municipal securities as that term is 
defined in the Exchange Act.
    CAB Rule 016 sets forth basic definitions modified as appropriate 
to apply to CABs. The proposed definitions of ``capital acquisition 
broker'' and ``institutional investor'' are particularly important to 
the application of the rule set.
    The term ``capital acquisition broker'' would mean any broker that 
solely engages in any one or more of the following activities:
     Advising an issuer, including a private fund, concerning 
its securities offerings or other capital raising activities;
     advising a company regarding its purchase or sale of a 
business or assets or regarding its corporate restructuring, including 
a going-private transaction, divestiture or merger;
     advising a company regarding its selection of an 
investment banker;
     assisting in the preparation of offering materials on 
behalf of an issuer;
     providing fairness opinions, valuation services, expert 
testimony, litigation support, and negotiation and structuring 
services;
     qualifying, identifying, soliciting, or acting as a 
placement agent or finder with respect to institutional investors in 
connection with purchases or sales of unregistered securities; and
     effecting securities transactions solely in connection 
with the transfer of ownership and control of a privately-held company 
through the purchase, sale, exchange, issuance, repurchase, or 
redemption of, or a business combination involving, securities or 
assets of the company, to a buyer that will actively operate the 
company or the business conducted with the assets of the company, in 
accordance with the terms and conditions of an SEC rule, release, 
interpretation or ``no-action'' letter that permits a person to engage 
in such activities without having to register as a broker or dealer 
pursuant to Section 15(b) of the Exchange Act.\3\
---------------------------------------------------------------------------

    \3\ See proposed CAB Rule 016(c)(1).
---------------------------------------------------------------------------

    A firm would be permitted to register as, or change its status to, 
a CAB only if the firm solely engages in one or more of these 
activities.
    The term ``capital acquisition broker'' would not include any 
broker or dealer that:
     Carries or acts as an introducing broker with respect to 
customer accounts;
     holds or handles customers' funds or securities;
     accepts orders from customers to purchase or sell 
securities either as principal or as agent for the customer (except as 
permitted by paragraphs (c)(1)(F) and (G) of CAB Rule 016);
     has investment discretion on behalf of any customer;
     engages in proprietary trading of securities or market-
making activities; or
     participates in or maintains an online platform in 
connection with offerings of unregistered securities pursuant to 
Regulation Crowdfunding or Regulation A under the Securities Act of 
1933.\4\
---------------------------------------------------------------------------

    \4\ See proposed CAB Rule 016(c)(2).
---------------------------------------------------------------------------

    The term ``institutional investor'' would have the same meaning as 
that term has under FINRA Rule 2210 (Communications with the Public), 
with one exception. The term would include any:
     Bank, savings and loan association, insurance company or 
registered investment company;
     governmental entity or subdivision thereof;
     employee benefit plan, or multiple employee benefit plans 
offered to employees of the same employer, that meet the requirements 
of Section 403(b) or Section 457 of the Internal Revenue Code and in 
the aggregate have at least 100 participants, but does not include any 
participant of such plans;
     qualified plan, as defined in Section 3(a)(12)(C) of the 
Exchange Act, or multiple qualified plans offered to employees of the 
same employer, that in the aggregate have at least 100 participants, 
but does not include any participant of such plans;
     other person (whether a natural person, corporation, 
partnership, trust, family office or otherwise) with total assets of at 
least $50 million; and
     person acting solely on behalf of any such institutional 
investor.
    The definition also would include any person meeting the definition 
of ``qualified purchaser'' as that term is defined in Section 2(a)(51) 
of the Investment Company Act of 1940 (``1940 Act'').\5\
---------------------------------------------------------------------------

    \5\ See proposed CAB Rule 016(i). FINRA Rule 2210 does not 
include ``qualified purchaser'' within its definition of 
``institutional investor.''
---------------------------------------------------------------------------

Member Application and Associated Person Registration (CAB Rule 100 
Series)
    The proposed CAB Rule 100 Series sets forth the requirements for 
firms that wish to register as a CAB. The proposed CAB Rule 100 Series 
generally incorporates by reference FINRA Rules 1010 (Electronic Filing 
Requirements for Uniform Forms), and 1122 (Filing of Misleading 
Information as to Membership or Registration), and NASD Rules 1011 
(Definitions), 1012 (General Provisions), 1013 (New Member Application 
and Interview), 1014 (Department Decision), 1015 (Review by National 
Adjudicatory Council), 1016 (Discretionary Review by FINRA Board), 1017 
(Application for Approval of Change in Ownership, Control, or Business 
Operations), 1019 (Application to Commission for Review), 1090 (Foreign 
Members), 1100 (Foreign Associates) and IM-1011-1 (Safe Harbor for 
Business Expansions). Accordingly, a CAB applicant would follow the 
same procedures for membership as any other FINRA applicant, with four 
modifications.

[[Page 79971]]

     First, an applicant for membership that seeks to qualify 
as a CAB would have to state in its application that it intends to 
operate solely as such.
     Second, in reviewing an application for membership as a 
CAB, the FINRA Member Regulation Department would consider, in addition 
to the standards for admission set forth in NASD Rule 1014, whether the 
applicant's proposed activities are consistent with the limitations 
imposed on CABs under CAB Rule 016(c).
     Third, proposed CAB Rule 116(b) sets forth the procedures 
for an existing FINRA firm to change its status to a CAB. If an 
existing firm is already approved to engage in the activities of a CAB, 
and the firm does not intend to change its existing ownership, control 
or business operations, it would not be required to file either a New 
Member Application (``NMA'') or a Change in Membership Application 
(``CMA''). Instead, such a firm would be required to file a request to 
amend its membership agreement or obtain a membership agreement (if 
none exists currently) to provide that: (i) The firm's activities will 
be limited to those permitted for CABs under CAB Rule 016(c), and (ii) 
the firm agrees to comply with the CAB rules.\6\
---------------------------------------------------------------------------

    \6\ There would not be an application fee associated with this 
request.
---------------------------------------------------------------------------

     Fourth, proposed CAB Rules 116(c) and (d) set forth the 
procedures for an existing CAB to terminate its status as such and 
continue as a FINRA firm. Under Rule 116(c), such a firm would be 
required to file a CMA with the FINRA Member Regulation Department, and 
to amend its membership agreement to provide that the firm agrees to 
comply with all FINRA rules.\7\
---------------------------------------------------------------------------

    \7\ Absent a waiver, such a firm would have to pay an 
application fee associated with the CMA. See FINRA By-Laws, Schedule 
A, Section 4(i).
---------------------------------------------------------------------------

    Under Rule 116(d), however, if during the first year following an 
existing FINRA member firm's amendment to its membership agreement to 
convert a full-service broker-dealer to a CAB pursuant to Rule 116(b) a 
CAB seeks to terminate its status as such and continue as a FINRA 
member firm, the CAB may notify the FINRA Membership Application 
Program group of this change without having to file an application for 
approval of a material change in business operations pursuant to NASD 
Rule 1017. The CAB would instead file a request to amend its membership 
agreement to provide that the member firm agrees to comply with all 
FINRA rules, and execute an amended membership agreement that imposes 
the same limitations on the member firm's activities that existed prior 
to the member firm's change of status to a CAB.\8\
---------------------------------------------------------------------------

    \8\ To the extent that the rules applicable to the member firm 
had been amended since it had changed its status to a CAB, FINRA 
would have the discretion to modify any limitations to reflect any 
new rule requirements.
---------------------------------------------------------------------------

    The proposed CAB Rule 100 Series also would govern the registration 
and qualification examinations of principals and representatives that 
are associated with CABs. These Rules incorporate by reference NASD 
Rules 1021 (Registration Requirements--Principals), 1022 (Categories of 
Principal Registration), 1031 (Registration Requirements--
Representatives), 1032 (Categories of Representative Registration), 
1060 (Persons Exempt from Registration), 1070 (Qualification 
Examinations and Waiver of Requirements), 1080 (Confidentiality of 
Examinations), IM-1000-2 (Status of Persons Serving in the Armed Forces 
of the United States), IM-1000-3 (Failure to Register Personnel) and 
FINRA Rule 1250 (Continuing Education Requirements). Accordingly, CAB 
firm principals and representatives would be subject to the same 
registration, qualification examination, and continuing education 
requirements as principals and representatives of other FINRA firms. 
CABs also would be subject to FINRA Rule 1230(b)(6) regarding 
Operations Professional registration.
Duties and Conflicts (CAB Rule 200 Series)
    The proposed CAB Rule 200 Series would establish a streamlined set 
of conduct rules. CABs would be subject to FINRA Rules 2010 (Standards 
of Commercial Honor and Principles of Trade), 2020 (Use of 
Manipulative, Deceptive or Other Fraudulent Devices), 2040 (Payments to 
Unregistered Persons),\9\ 2070 (Transactions Involving FINRA 
Employees), 2080 (Obtaining an Order of Expungement of Customer Dispute 
Information from the CRD System), 2081 (Prohibited Conditions Relating 
to Expungement of Customer Dispute Information), 2263 (Arbitration 
Disclosure to Associated Persons Signing or Acknowledging Form U4), and 
2268 (Requirements When Using Predispute Arbitration Agreements for 
Customer Accounts).
---------------------------------------------------------------------------

    \9\ The SEC has approved FINRA's rule change to adopt rules 
relating to payments to unregistered persons for the consolidated 
FINRA rulebook. See Regulatory Notice 15-07 (March 2015). FINRA Rule 
2040 became effective on August 24, 2015.
---------------------------------------------------------------------------

    CAB Rules 209 and 211 would impose know-your-customer and 
suitability obligations similar to those imposed under FINRA Rules 2090 
and 2111. CAB Rule 211(b) includes an exception to the customer-
specific suitability obligations for institutional investors similar to 
the exception found in FINRA Rule 2111(b).
    Proposed CAB Rule 221 is an abbreviated version of FINRA Rule 2210 
(Communications with the Public), essentially prohibiting false and 
misleading statements.
    Under proposed CAB Rule 240, if a CAB or associated person of a CAB 
had engaged in activities that would require the CAB to register as a 
broker or dealer under the Exchange Act, and that are inconsistent with 
the limitations imposed on CABs under CAB Rule 016(c), FINRA could 
examine for and enforce all FINRA rules against such a broker or 
associated person, including any rule that applies to a FINRA broker-
dealer that is not a CAB or to an associated person who is not a person 
associated with a CAB.
    FINRA has determined not to subject CABs to FINRA Rules 2121 (Fair 
Prices and Commissions), 2122 (Charges for Services Performed), and 
2124 (Net Transactions with Customers), since CABs' business model does 
not raise the same concerns that Rules 2121, 2122 and 2124 are intended 
to address.
    Rule 2121 provides that, for securities in both listed and unlisted 
securities, a member that buys for its own account from its customer, 
or sells for its own account to its customer, shall buy or sell at a 
price which is fair, taking into consideration all relevant 
circumstances, including market conditions with respect to the security 
at the time of the transaction, the expense involved, and the fact that 
the member is entitled to a profit. Further, if the member acts as 
agent for its customer in any such transaction, the member shall not 
charge its customer more than a fair commission or service charge, 
taking into consideration all relevant circumstances, including market 
conditions with respect to the security at the time of the transaction, 
the expense of executing the order and the value of any service the 
member may have rendered by reason of its experience in and knowledge 
of such security and the market therefor.
    CABs would not be permitted to act as a principal in a securities 
transaction. Accordingly, the provisions of Rule 2121 that govern 
principal transactions would not apply to a CAB's permitted activities.
    CABs would be permitted act as agent in a securities transaction 
only in very narrow circumstances. CABs would be allowed to act as an 
agent with respect to institutional investors in connection with 
purchases or sales of unregistered securities. CABs also would be

[[Page 79972]]

permitted to effect securities transactions solely in connection with 
the transfer of ownership and control of a privately-held company to a 
buyer that will actively operate the company or the business conducted 
with the assets of the company in accordance with the terms and 
conditions of an SEC rule, release, interpretation or ``no-action'' 
letter.
    In both instances, FINRA believes that these circumstances either 
involve institutional parties that negotiate the terms of permitted 
securities transactions without the need for the conditions set forth 
in Rule 2121, or involve the sale of a business as a going concern, 
which differs in nature from the types of transactions that typically 
raise issues under Rule 2121.
    Rule 2122 provides that charges, if any, for services performed, 
including, but not limited to, miscellaneous services such as 
collections due for principal, dividends, or interest; exchange or 
transfer of securities; appraisals, safekeeping or custody of 
securities, and other services shall be reasonable and not unfairly 
discriminatory among customers. As discussed above, CABs typically 
provide services to institutional customers that generally do not need 
the protections that Rule 2122 offers, since these customers are 
capable of negotiating fair prices for the services that CABs provide. 
Moreover, CABs are not permitted to provide many of the services listed 
in Rule 2122, such as collecting principal, dividends or interest, or 
providing safekeeping or custody services.
    Rule 2124 sets forth specific requirements for executing 
transactions with customers on a ``net'' basis. ``Net'' transactions 
are defined as a type of principal transaction, and CABs may not trade 
securities on a principal basis. For these reasons, FINRA does not 
believe it is necessary to include FINRA Rules 2121, 2122 and 2124 as 
part of the CAB rule set.
    CAB Rule 201 would subject CABs to FINRA Rule 2010 (Standards of 
Commercial Honor and Principles of Trade), which requires a member, in 
the conduct of its business, to observe high standards of commercial 
honor and just and equitable principles of trade. Depending on the 
facts, other rules, such as Rule 2010, may apply in situations in which 
a CAB charged a commission or fee that clearly is unreasonable under 
the circumstances.
Supervision and Responsibilities Related to Associated Persons (CAB 
Rule 300 Series)
    The proposed CAB Rule 300 Series would establish a limited set of 
supervisory rules for CABs. CABs would be subject to FINRA Rules 3220 
(Influencing or Rewarding Employees of Others), 3240 (Borrowing from or 
Lending to Customers), and 3270 (Outside Business Activities of 
Registered Persons).
    Proposed CAB Rule 311 would subject CABs to some, but not all, of 
the requirements of FINRA Rule 3110 (Supervision) and, consistent with 
Rule 3110, is designed to provide CABs with the flexibility to tailor 
their supervisory systems to their business models. CABs would be 
subject to many of the provisions of Rule 3110 concerning the 
supervision of offices, personnel, customer complaints, correspondence 
and internal communications. However, CABs would not be subject to the 
provisions of Rule 3110 that require annual compliance meetings 
(paragraph (a)(7)), review and investigation of transactions 
(paragraphs (b)(2) and (d)), specific documentation and supervisory 
procedures for supervisory personnel (paragraph (b)(6)), and internal 
inspections (paragraph (c)).
    FINRA does not believe that the annual compliance meeting 
requirement in FINRA Rule 3110(a)(7) should apply to CABs given the 
nature of CABs' business model and structure. FINRA has observed that 
most current FINRA member firms that would qualify as CABs tend to be 
small and often operate out of a single office. In addition, the range 
of rules that CABs would be subject to is narrower than the rules that 
apply to other broker-dealers. Moreover, as noted above, CABs would be 
subject to both the Regulatory and Firm Element continuing education 
requirements. Accordingly, FINRA does not believe that CABs need to 
conduct an annual compliance meeting as required under FINRA Rule 
3110(a)(7).\10\ The fact that the annual compliance meeting requirement 
would not apply to CABs or their associated persons in no way would 
reduce their responsibility to have knowledge of and comply with 
applicable securities laws and regulations and the CAB rule set.
---------------------------------------------------------------------------

    \10\ For the same reasons, FINRA does not believe that FINRA 
Rule 3110.04 should apply to CABs.
---------------------------------------------------------------------------

    FINRA does not believe that FINRA Rule 3110(b)(2), which requires 
members to adopt and implement procedures for the review by a 
registered principal of all transactions relating to the member's 
investment banking or securities business, or FINRA Rule 3110(d), which 
imposes requirements related to the investigation of securities 
transactions and heightened reporting requirements for members engaged 
in investment banking services, should apply to CABs. CABs would not be 
permitted to carry or act as an introducing broker with respect to 
customer accounts, hold or handle customers' funds or securities, 
accept orders from customers to purchase or sell securities except 
under the narrow circumstances discussed above, have investment 
discretion on behalf of any customer, engage in proprietary trading or 
market-making activities, or participate in Crowdfunding or Regulation 
A securities offerings. Accordingly, due to these restrictions, FINRA 
does not believe a CAB's business model necessitates the application of 
these provisions, which primarily address trading and investment 
banking functions that are beyond the permissible scope of a CAB's 
activities.\11\
---------------------------------------------------------------------------

    \11\ For the same reasons, FINRA does not believe that FINRA 
Rule 3110.05 should apply to CABs.
---------------------------------------------------------------------------

    FINRA does not believe that the requirements of FINRA Rule 
3110(b)(6) should apply to CABs. Paragraph (b)(6) generally requires a 
member to have procedures to prohibit its supervisory personnel from 
(1) supervising their own activities; and (2) reporting to, or having 
their compensation or continued employment determined by, a person the 
supervisor is supervising.\12\ FINRA also does not believe that FINRA 
Rule 3110(c), which requires members to conduct internal inspections of 
their businesses, should apply to CABs.
---------------------------------------------------------------------------

    \12\ FINRA Rule 3110(b)(6)(C)(i) and (ii). FINRA Rule 3110(b)(6) 
also requires that a member's supervisory procedures include the 
titles, registration status and locations of the required 
supervisory personnel and the responsibilities of each supervisory 
person as these relate to the types of business engaged in, 
applicable securities laws and regulations, and FINRA rules, as well 
as a record of the names of its designated supervisory personnel and 
the dates for which such designation is or was effective. FINRA Rule 
3110(b)(6)(A) and (B). In addition, paragraph (b)(6) requires a 
member to have procedures reasonably designed to prevent the 
standards of supervision required pursuant to FINRA Rule 3110(a) 
from being compromised due to the conflicts of interest that may be 
present with respect to an associated person being supervised. FINRA 
Rule 3110(b)(6)(D).
---------------------------------------------------------------------------

    FINRA believes that a CAB's business model, which is geared toward 
acting as a consultant in capital acquisition transactions, or acting 
as an agent solely in connection with purchases or sales of 
unregistered securities to institutional investors, or with the 
transfer of ownership and control of a privately-held company, does not 
give rise to the same conflicts of interest and

[[Page 79973]]

supervisory concerns that paragraph (b)(6) is intended to address. As 
discussed above, many CABs operate out of a single office with a small 
staff, which reduces the need for internal inspections of numerous or 
remote offices. In addition, part of the purpose of creating a separate 
CAB rule set is to streamline and reduce existing FINRA rule 
requirements where it does not hinder investor protection. FINRA 
believes that the remaining provisions of FINRA Rule 3110, coupled with 
the CAB Rule 200 Series addressing duties and conflicts, will 
sufficiently protect CABs' customers from potential harm due to 
insufficient supervision.\13\
---------------------------------------------------------------------------

    \13\ For the same reasons, FINRA does not believe that FINRA 
Rules 3110.10, .12, .13, or .14 should apply to CABs. FINRA also 
believes that it is unnecessary to apply FINRA Rule 3110.15 to CABs, 
since the temporary program authorized by the rule expired on 
December 1, 2015.
---------------------------------------------------------------------------

    Proposed CAB Rule 313 would require CABs to designate and identify 
one or more principals to serve as a firm's chief compliance officer, 
similar to the requirements of FINRA Rule 3130(a). CAB Rule 313 would 
not require a CAB to have its chief executive officer (``CEO'') certify 
that the member has in place processes to establish, maintain, review, 
test and modify written compliance policies and written supervisory 
procedures reasonably designed to achieve compliance with applicable 
federal securities laws and regulations, and FINRA and MSRB rules, 
which are required under FINRA Rules 3130(b) and (c). FINRA does not 
believe the CEO certification is necessary given a CAB's narrow 
business model and smaller rule set.
    Proposed Rule 328 would prohibit any person associated with a CAB 
from participating in any manner in a private securities transaction as 
defined in FINRA Rule 3280(e).\14\ FINRA does not believe that an 
associated person of a CAB should be engaged in selling securities away 
from the CAB, nor should a CAB have to oversee and review such 
transactions, given its limited business model. This restriction would 
not prohibit associated persons from investing in securities on their 
own behalf, or engaging in securities transactions with immediate 
family members, provided that the associated person does not receive 
selling compensation.
---------------------------------------------------------------------------

    \14\ FINRA Rule 3280(e) defines ``private securities 
transaction'' as ``any securities transaction outside the regular 
course or scope of an associated person's employment with a member, 
including, though not limited to, new offerings of securities which 
are not registered with the Commission, provided however that 
transactions subject to the notification requirements of NASD Rule 
3050, transactions among immediate family members (as defined in 
FINRA Rule 5130), for which no associated person receives any 
selling compensation, and personal transactions in investment 
company and variable annuity securities, shall be excluded.''
---------------------------------------------------------------------------

    Proposed CAB Rule 331 would require each CAB to implement a written 
anti-money laundering (``AML'') program. This is consistent with the 
SEC's requirements and Chapter X of Title 31 of the Code of Federal 
Regulations. Accordingly, the proposed rule is similar to FINRA Rule 
3310 (Anti-Money Laundering Compliance Program); however, the proposed 
rule contemplates that all CABs would be eligible to conduct the 
required independent testing for compliance every two years.
Financial and Operational Rules (CAB Rule 400 Series)
    The proposed CAB Rule 400 Series would establish a streamlined set 
of rules concerning firms' financial and operational obligations. CABs 
would be subject to FINRA Rules 4140 (Audit), 4150 (Guarantees by, or 
Flow through Benefits for, Members), 4160 (Verification of Assets), 
4511 (Books and Records--General Requirements), 4513 (Records of 
Written Customer Complaints), 4517 (Member Filing and Contact 
Information Requirements), 4524 (Supplemental FOCUS Information), 4530 
(Reporting Requirements), and 4570 (Custodian of Books and Records).
    Proposed CAB Rule 411 includes some, but not all, of the capital 
compliance requirements of FINRA Rule 4110. CABs would be required to 
suspend business operations during any period a firm is not in 
compliance with the applicable net capital requirements set forth in 
SEA Rule 15c3-1, and the rule also would authorize FINRA to direct a 
CAB to suspend its operation under those circumstances. Proposed CAB 
Rule 411 also sets forth requirements concerning withdrawal of capital, 
subordinated loans, notes collateralized by securities, and capital 
borrowings.
    CABs would not be subject to FINRA Rules 4370 (Business Continuity 
Plans and Emergency Contact Information) or 4380 (Mandatory 
Participation in FINRA BC/DR Testing Under Regulation SCI). FINRA does 
not believe it would be necessary for a CAB to maintain a business 
continuity plan (BCP), given a CAB's limited activities, particularly 
since a CAB would not engage in retail customer account transactions or 
clearance, settlement, trading, underwriting or similar investment 
banking activities. Moreover, FINRA Rule 4380 relates to Rule SCI under 
the Exchange Act, which is not applicable to a member that limits its 
activities to those permitted under the CAB rule set.
    Because CABs would not carry or act as an introducing broker with 
respect to customer accounts, they would have more limited customer 
information requirements than is imposed under FINRA Rule 4512.\15\ 
CABs would have to maintain each customer's name and residence, whether 
the customer is of legal age (if applicable), and the names of any 
persons authorized to transact business on behalf of the customer. CABs 
would still have to make and preserve all books and records required 
under SEA Rules 17a-3 and 17a-4.
---------------------------------------------------------------------------

    \15\ See proposed CAB Rule 451(b).
---------------------------------------------------------------------------

    CAB Rule 452(a) establishes a limited set of requirements for the 
supervision and review of a firm's general ledger accounts.
Securities Offerings (CAB Rule 500 Series)
    The proposed CAB Rule 500 Series would subject CABs to certain 
rules concerning securities offerings. CABs would be subject to FINRA 
Rules 5122 (Private Placements of Securities Issued by Members) and 
5150 (Fairness Opinions).
Investigations and Sanctions, Code of Procedure, and Arbitration and 
Mediation (CAB Rules 800, 900 and 1000)
    CABs would be subject to the FINRA Rule 8000 Series governing 
investigations and sanctions of firms, other than FINRA Rules 8110 
(Availability of Manual to Customers), 8211 (Automated Submission of 
Trading Data Requested by FINRA), and 8213 (Automated Submission of 
Trading Data for Non-Exchange-Listed Securities Requested by FINRA).
    CABs would not be subject to FINRA Rule 8110 (Availability of 
Manual to Customers), which requires members to make available a 
current copy of the FINRA manual for examination by customers upon 
request. If the Commission approves this proposed rule change, the CAB 
rule set would be available through the FINRA Web site. Accordingly, 
FINRA does not believe this rule is necessary for CABs.
    CABs also would not be subject to FINRA Rules 8211 (Automated 
Submission of Trading Data Requested by FINRA) or 8213 (Automated 
Submission of Trading Data for Non-Exchange-Listed Securities Requested 
by FINRA). Given that these rules are intended to assist FINRA in 
requesting trade data from firms engaged in securities trading, and 
that CABs would not engage in securities trading, FINRA

[[Page 79974]]

does not believe that these rules should apply to CABs.
    CABs would be subject to the FINRA Rule 9000 Series governing 
disciplinary and other proceedings involving firms, other than the 
FINRA Rule 9700 Series (Procedures on Grievances Concerning the 
Automated Systems). Proposed CAB Rule 900(c) would provide that any CAB 
may be subject to a fine under FINRA Rule 9216(b) with respect to an 
enumerated list of FINRA By-Laws, CAB rules and SEC rules under the 
Exchange Act. Proposed CAB Rule 900(d) would authorize FINRA staff to 
require a CAB to file communications with the FINRA Advertising 
Regulation Department at least ten days prior to use if the staff 
determined that the CAB had departed from CAB Rule 221's standards.
    CABs would be subject to the FINRA Rule 12000 Series (Code of 
Arbitration Procedure for Customer Disputes), 13000 Series (Code of 
Arbitration Procedure for Industry Disputes) and 14000 Series (Code of 
Mediation Procedure).
    If the Commission approves the proposed rule change, FINRA will 
announce the implementation date of the proposed rule change in a 
Regulatory Notice to be published no later than 60 days following 
Commission approval. The effective date will be no later than 180 days 
following publication of the Regulatory Notice announcing Commission 
approval.
2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\16\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. FINRA believes that the proposed rule change will 
improve efficiency and reduce regulatory burden by reducing the range 
of rules that apply to capital acquisition brokers given their limited 
activities and institutional business model, while maintaining 
necessary investor protections.
---------------------------------------------------------------------------

    \16\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act. FINRA has undertaken an 
economic impact assessment, as set forth below, to analyze the 
regulatory need for the proposed rulemaking, its potential economic 
impacts, including anticipated costs and benefits, and the alternatives 
FINRA considered in assessing how to best meet its regulatory 
objectives.
Economic Impact Assessment
A. Regulatory Need
    As discussed above, many firms solely engage in corporate financing 
activities, including advising companies on mergers and acquisitions, 
advising issuers on raising debt and equity capital in private 
placements with institutional investors, or providing advisory services 
on a consulting basis. These firms often register as broker-dealers 
because of their activities and because they may receive transaction-
based compensation as part of their services, but unlike traditional 
broker-dealers, they do not handle customer funds or securities, carry 
or act as an introducing broker with respect to customer accounts, or 
provide products and services to retail customers. As a result, many 
FINRA rules are not applicable to the business activities of these 
firms. The proposed rule change establishes a separate set of 
streamlined rules that would apply exclusively to these firms and is 
tailored to address their business activities, while maintaining 
necessary investor protections.
B. Economic Impacts
    The proposed rule change would impact member firms that engage in 
CAB-related business activities, discussed above. As a baseline and 
based on staff experience, FINRA preliminarily estimates that the 
number of member firms that meet this definition would range from 650 
to 750 firms.\17\ Thus, it is possible that between 16 and 19 percent 
of all FINRA member firms may be eligible to operate under this 
proposed rule set.\18\ These firms currently are required to comply 
with all applicable FINRA rules. These firms currently may incur costs 
to evaluate new FINRA rules and interpretations to ensure that they are 
not applicable for their business.
---------------------------------------------------------------------------

    \17\ FINRA notes that a commenter reported a higher estimate of 
906 member firms that would meet the CAB definition based on 
information available on BrokerCheck[supreg] (See comment of 3PM). 
This estimate is based on the number of firms that report their 
business line (in Form BD) only as ``Private Placement,'' ``Other,'' 
or ``Private Placement'' and ``Other.'' FINRA notes that these 
business lines may overlap with some of the business activities of 
CABs, but do not exactly correspond to the activities that would 
meet the CAB definition.
    \18\ There are 4,031 firms that are registered with FINRA as 
broker-dealers. Accordingly, 650 and 750 firms account for 16% and 
19%, respectively, of the total FINRA membership. See https://www.finra.org/newsroom/statistics (accessed June 29, 2015).
---------------------------------------------------------------------------

    FINRA anticipates that some firms provide similar services but are 
not currently registered as broker-dealers with the SEC or FINRA. For 
example, some firms may currently limit activities, such as not 
accepting transaction-based compensation for their services, to avoid 
broker-dealer registration requirements and attendant costs. Others may 
accept transaction-based compensation, but may be relying on SEC no-
action relief to avoid broker-dealer registration.\19\ It is possible 
that some of these firms would reconsider their non-registered status 
if the new rules were in effect.
---------------------------------------------------------------------------

    \19\ See M&A Brokers, 2014 SEC No-Act. LEXIS 92 (January 31, 
2014).
---------------------------------------------------------------------------

(i) Anticipated Benefits
    The proposed rule change would reduce the regulatory burden for 
CABs by decreasing the range and scope of current FINRA rules that 
would be applicable to them given their limited activities and 
institutional business model. For example, as discussed above, the 
proposed rule change would establish a streamlined set of conduct 
rules. Similarly, the proposed CAB rules would establish a limited set 
of supervisory rules that are better designed to provide CABs with the 
flexibility to tailor their supervisory systems to their business 
models. As discussed above, CABs also would be subject to more limited 
customer information requirements than those applicable to other 
broker-dealers.
    The reduction in these regulatory requirements is anticipated to 
reduce compliance costs for member firms that would register as CABs 
without diminishing investor protections. These cost savings would 
include reduction in costs associated with maintaining FINRA 
membership, including ongoing compliance activities such as maintaining 
policies and procedures. These firms also would likely benefit from 
more focused examinations that are tailored to their business 
activities. To avail themselves of these benefits, firms would, 
however, be required to maintain their CAB status and as a result limit 
their activities to those permitted under the CAB rules.
    As discussed above, CAB rules also may encourage non-member firms 
that engage in similar kinds of services as CABs to register with 
FINRA. FINRA membership would benefit these non-member firms by 
allowing them to expand their securities business and

[[Page 79975]]

engage in activities permitted under the CAB rules. FINRA membership 
would subject these firms to certain FINRA rules, including conduct 
rules, supervisory rules, and rules concerning financial and 
operational obligations of the firms. As a result, FINRA membership 
would increase regulatory oversight of these firms, thereby enhancing 
investor protection of their customers.
(ii) Anticipated Costs
    A member firm that seeks to register as a CAB would incur initial 
legal and other compliance costs associated with effectively completing 
the application to amend its membership agreement to elect CAB status. 
Such a firm also would incur administrative costs associated with 
updating its policies and procedures. FINRA, however, anticipates that 
these costs would likely be minimal relative to the cost savings from 
the streamlined CAB rules. As firms would have discretion to determine 
whether to apply for the amended status, FINRA anticipates that only 
those firms that anticipate net benefits to them would do so.
    Non-member firms that choose to register as a CAB would incur 
implementation and ongoing costs associated with joining and 
maintaining their broker-dealer registrations with FINRA. The initial 
implementation costs would include FINRA application fees, costs 
associated with adapting technology infrastructure for regulatory data 
reporting requirements, as well as other legal or consulting costs 
associated with developing policies and procedures to ensure continued 
compliance with SEC and CAB rules. The ongoing costs would include 
annual fees associated with FINRA membership, costs of maintaining data 
reporting, costs of legal work relating to FINRA membership, and other 
costs associated with additional compliance activities. FINRA notes, 
however, that the proposed rule change would not impose these costs on 
non-member firms because registering as a broker-dealer and electing 
CAB status is optional. Non-member firms would likely only choose to 
register as a CAB broker-dealer and incur these costs if the 
anticipated benefits of registering exceed the costs of doing so.
C. Alternatives
    In considering how to best meet its regulatory objectives, FINRA 
considered several alternatives to particular features of this 
proposal. For example, the initial proposal would have allowed CABs to 
solicit only institutional investors as that term is defined in FINRA 
Rule 2210. As discussed in more detail below, several commenters 
suggested that the proposed rule change also allow CABs to provide 
products and services to accredited investors or qualified purchasers. 
FINRA's regulatory programs have uncovered significant concerns 
associated with the ways in which firms sell private placements to 
accredited investors. Accordingly, FINRA does not believe it is 
appropriate to lower the institutional investor threshold for the CAB 
rules to the accredited investor standard.
    Nonetheless, FINRA agrees that the definition of institutional 
investor under the CAB rules should include qualified purchasers as 
that term is defined under the 1940 Act, since qualified purchasers are 
required to own significantly more investments than those required for 
accredited investors, and as a result qualified purchasers are more 
likely to have the resources necessary to protect themselves from 
potential sales practice problems. Accordingly, FINRA has revised the 
institutional investor definition to include qualified purchasers, 
which would allow CABs to offer interests in private funds that are 
excluded from the definition of ``investment company'' and thus exempt 
from registration under the 1940 Act, such as hedge funds or private 
equity funds.
    In developing this proposal, FINRA also considered expanding the 
scope of permissible activities for CABs. For example, as discussed 
below, commenters suggested that FINRA allow CABs to engage in 
activities related to the transfer of ownership or control of a 
privately-held company consistent with the SEC's M&A Brokers no-action 
letter. FINRA agrees that CABs should be permitted to engage in merger 
and acquisition transactions to the same extent as an unregistered 
broker-dealer pursuant to the M&A Brokers no-action letter and has 
revised the definition of CAB to allow such activities.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

Background
    In February 2014, FINRA published Regulatory Notice 14-09 (the 
``Notice''), requesting comment on a proposed rule set for firms that 
meet the definition of ``limited corporate financing broker'' 
(``LCFB'') (the ``Notice proposal''). A copy of the Notice is attached 
as Exhibit 2a. The comment period expired on April 28, 2014. FINRA 
received 51 comments in response to the Notice.\20\ A list of the 
commenters in response to the Notice is attached as Exhibit 2b, and 
copies of the comment letters received in response to the Notice are 
attached as Exhibit 2c.\21\ A summary of the comments and FINRA's 
response is provided below.
---------------------------------------------------------------------------

    \20\ Twenty-one of the comments were short emails or letters 
endorsing the comments of 3PM.
    \21\ See Exhibit 2b for a list of abbreviations assigned to 
commenters.
---------------------------------------------------------------------------

    As discussed below, most of the comments opposed the Notice 
proposal on the ground that it did not go far enough to relieve LCFBs 
of their current regulatory burdens. This concern, combined with the 
limitations in activities that the proposal's rules would impose, would 
lead most firms commenting on the proposal not to change their status 
to an LCFB.\22\
---------------------------------------------------------------------------

    \22\ As noted above, the proposal would have referred to firms 
subject to the proposed rule set as ``limited corporate financing 
brokers'' (``LCFBs'') rather than ``capital acquisition brokers'' 
(``CABs''). Similarly, this discussion refers to the rules proposed 
in the Notice as the ``LCFB rules'' rather than the ``CAB rules.'' 
The CAB rules which are submitted as part of this proposed rule 
change have been revised from the prior LCFB rules, but maintain the 
same rule numbers as the LCFB rules.
---------------------------------------------------------------------------

Application of LCFB Rules to Municipal Securities
    LCFB Rule 015 would have stated that the LCFB rules do not apply to 
transactions in, and business activities relating to, municipal 
securities as defined in Section 3(a)(29) of the Exchange Act. One 
commenter noted that some FINRA member firms provide financial advisory 
services only to municipalities or municipal agencies, including 
recommending the timing and type of offering and to assist in the 
selection of an underwriter. The commenter stated that if this type of 
firm does not engage in the sale of municipal securities and would 
otherwise qualify, it should be eligible to be an LCFB.\23\
---------------------------------------------------------------------------

    \23\ See Sutter.
---------------------------------------------------------------------------

    LCFB Rule 015 would not prevent an LCFB from engaging in municipal 
securities activities. Rather, as revised, it simply would clarify that 
FINRA Rule 0150(b) applies to the CAB rules. FINRA Rule 0150(b) 
currently provides that the FINRA rules do not apply to transactions 
in, and business activities relating to, municipal securities as 
defined in the Exchange Act.
Definition of ``Customer''
    LCFB Rule 016(d) would have defined the term ``customer'' as ``any 
natural person and any entity receiving corporate financing services 
from an LCFB.'' It also would have specified that

[[Page 79976]]

the term ``customer'' does not include a broker or dealer.
    One commenter stated that this definition is unclear and should be 
replaced with other terms, such as ``issuer,'' ``investor,'' 
``qualified investor,'' and ``intermediary,'' since these terms better 
describe the counterparties involved in an LCFB's business.\24\ Two 
other commenters recommended that FINRA use the term ``client'' rather 
than ``customer.'' \25\ Another commenter suggested that FINRA be 
clearer as to what types of corporate financing services a customer may 
receive from an LCFB.\26\
---------------------------------------------------------------------------

    \24\ See 3PM.
    \25\ See Achates and Q Advisors.
    \26\ See CFSC.
---------------------------------------------------------------------------

    FINRA does not believe it would be appropriate to replace the term 
``customer'' with other terms such as issuer, investor, or 
intermediary. The meaning of the term ``customer'' depends on the 
context in which it is used, such as the requirements to know your 
customer or to recommend a suitable investment to a customer. Terms 
such as ``issuer'' or ``investor'' would not be appropriate in these 
contexts. However, FINRA does believe that the term customer should be 
interpreted in a manner consistent with the way it is interpreted under 
the FINRA rules. Accordingly, FINRA has revised this term to have the 
same definition as it has under the FINRA rules.\27\
---------------------------------------------------------------------------

    \27\ See FINRA Rule 0160(b)(4) (``The term `customer' shall not 
include a broker or dealer'').
---------------------------------------------------------------------------

Institutional Investor Definition
    LCFB Rule 016(h) would have allowed an LCFB to solicit only 
institutional investors. LCFB Rule 016(g) would have defined the term 
``institutional investor'' to include banks, savings and loan 
associations, insurance companies, registered investment companies, 
governmental entities and their subdivisions, employee benefit plans 
and qualified plans with at least 100 participants (but not including 
the participants themselves), any other person with at least $50 
million in assets, and persons acting on an institutional investor's 
behalf.
    Seven commenters recommended that the LCFB rules allow LCFBs to 
offer interests in privately placed companies to accredited investors, 
as that term is defined in SEC Regulation D.\28\ One commenter noted 
that requiring an LCFB to pre-qualify potential investors to meet the 
LCFB rules' definition of institutional investor, rather than the 
Regulation D accredited investor definition, would be difficult, since 
an LCFB may not know the financial status of a potential buyer, and 
could potentially harm an LCFB client seller by diminishing the pool of 
prospective investors.\29\ Three other commenters recommended that the 
term ``institutional investor'' be replaced with a new term, 
``qualified investor,'' which would include ``qualified investors'' as 
that term is defined under the 1940 Act.\30\ One commenter questioned 
whether an LCFB would be permitted to accept an unsolicited offer from 
a non-institutional investor.\31\ Another commenter inquired as to the 
documents that FINRA would require an LCFB to retain to confirm an 
investor's institutional status.\32\
---------------------------------------------------------------------------

    \28\ See Achates, LIATI, SFA, Dole, RWI, HighBank, and EYCA. See 
also 17 CFR 230.501(a).
    \29\ See SFA.
    \30\ See 3PM, Q Advisors, and M&A Brokers Letter Attorneys.
    \31\ See SFA.
    \32\ See EYCF.
---------------------------------------------------------------------------

    As discussed in the Notice, FINRA purposely did not propose to 
define ``institutional investor'' based on a more inclusive standard, 
such as the definition of ``accredited investor'' in Regulation D under 
the Securities Act of 1933. FINRA's regulatory programs have uncovered 
serious concerns with the manner in which firms market and sell private 
placements to accredited investors. Application of the CAB rules to 
firms that market and sell private placements to accredited investors 
would require FINRA to expand the applicable conduct rules and other 
provisions. Therefore, lowering the threshold of ``institutional 
investor'' to the accredited investor standard would frustrate the 
purposes of a streamlined rule set.
    Nevertheless, FINRA agrees that the definition of ``institutional 
investor'' should include persons that meet the definition of 
``qualified purchaser'' under the 1940 Act.\33\ Persons that meet the 
definition of ``qualified purchaser'' in most cases must own not less 
than $5 million in investments, far greater than the minimum assets 
required by the accredited investor standard. FINRA believes that it is 
much less likely that a CAB would commit the types of sales practice 
problems that FINRA has observed in connection with the sale of 
Regulation D private placements to accredited investors if an investor 
is required to meet the qualified purchaser standard, since a qualified 
purchaser likely would have the resources necessary to protect itself 
from potential sales practice problems. In addition, by defining 
``institutional investor'' to include qualified purchasers, CABs would 
be able to offer interests in private issuers, such as hedge funds or 
private equity funds, that are excepted from the definition of 
``investment company'' pursuant to Section 3(c)(7) of the 1940 Act.
---------------------------------------------------------------------------

    \33\ See 15 U.S.C. 80a-2(a)(51).
---------------------------------------------------------------------------

    Moreover, as discussed below, FINRA has proposed to expand the 
permissible activities of CABs to include effecting securities 
transactions solely in connection with the transfer of ownership and 
control of a privately-held company in accordance with the terms and 
conditions of an SEC rule, release, interpretation or no-action 
letter.\34\ By expanding CABs' proposed activities to include these 
kinds of M&A transactions, CABs would not be limited to selling 
ownership or control of a privately-held company only to institutional 
investors as defined by the CAB rules, since the SEC's M&A Brokers no-
action letter \35\ does not contain this limitation. FINRA believes 
this expansion should address many of the commenters' concerns with the 
institutional investor definition.
---------------------------------------------------------------------------

    \34\ See proposed CAB Rule 016(c)(1)(G).
    \35\ See M&A Brokers, 2014 SEC No-Act. LEXIS 92 (January 31, 
2014).
---------------------------------------------------------------------------

Limited Corporate Financing Broker Definition
    The proposed definition of LCFB would have allowed firms meeting 
this definition to engage in:
     Advising an issuer, including a private fund concerning 
its securities offerings or other capital raising activities;
     advising a company regarding its purchase or sale of a 
business or assets or regarding its corporate restructuring, including 
a going-private transaction, divestiture or merger;
     advising a company regarding its selection of an 
investment banker;
     assisting in the preparation of offering materials on 
behalf of an issuer;
     providing fairness opinions; and
     qualifying, identifying, or soliciting potential 
institutional investors.
    The proposed definition of LCFB would have excluded any broker or 
dealer that carries or maintains customer accounts, holds or handles 
customers' funds or securities, accepts orders from customers to 
purchase or sell securities either as principal or agent for the 
customer, possesses investment discretion on behalf of any customer, or 
engages in proprietary trading of securities or market making 
activities.
    Although one commenter felt that the definition of LCFB was 
appropriate,\36\

[[Page 79977]]

others recommended that the definition of LCFB be amended specifically 
to permit an LCFB to provide valuation services,\37\ expert testimony 
and litigation support.\38\ Other commenters recommended that the 
definition be clarified to permit LCFBs to engage in negotiation of 
transactions,\39\ and to act as a placement agent for a buyer or 
seller.\40\ Another commenter urged FINRA to revise the definition so 
that it spells out in more detail the types of advice that an LCFB may 
provide to a client (e.g., preparing a business for sale, financial 
modeling, financial alternatives, evaluating competing offers, 
structuring transactions, due diligence and transition issues) and that 
it should allow an LCFB to act as a finder (introducing parties to a 
transaction).\41\ Others recommended that LCFBs be permitted to provide 
research and engage in public company transactions in connection with 
their advisory work.\42\
---------------------------------------------------------------------------

    \36\  See 3PM.
    \37\ See CFSC.
    \38\ See Sutter and RWI.
    \39\ See Q Advisors.
    \40\ See Q Advisors and M&A Brokers Letter Attorneys.
    \41\ See RWI.
    \42\ See Fells and EYCF.
---------------------------------------------------------------------------

    Commenters also suggested that FINRA allow LCFBs to advise 
controlling or minority shareholders in a private business in 
connection with the sale of stock,\43\ and that FINRA look to the SEC's 
M&A Brokers letter for a description of appropriate LCFB 
activities.\44\ The latter commenter also recommended that LCFBs be 
allowed to solicit non-institutional investors if both the seller and 
buyer are or will be actively involved in running the business (which 
also is consistent with the M&A Brokers letter).
---------------------------------------------------------------------------

    \43\ See Harris.
    \44\ See ABA.
---------------------------------------------------------------------------

    FINRA intended to allow CABs to provide valuation, expert 
testimony, litigation support, negotiation and structuring services, 
and to act as a placement agent for, or finder of, institutional 
investors. Accordingly, FINRA has revised the definition of CAB to make 
this clearer. FINRA does not agree, however, that CABs should be 
allowed to produce research for the investing public. If a CAB produced 
research reports, FINRA would need to consider whether to add FINRA 
Rule 2241 and potentially other rules to the list of CAB rules, which 
currently do not include these rules.
    FINRA agrees that CABs should be permitted to engage in M&A 
transactions to the same extent as an unregistered broker pursuant to 
the M&A Brokers no-action letter. Accordingly, FINRA has revised the 
definition of CAB to allow such firms to effect securities transactions 
solely in connection with the transfer of ownership and control of a 
privately-held company to a buyer that will actively operate the 
company in accordance with the terms and conditions of an SEC rule, 
release, interpretation or no-action letter that permits a person to 
engage in such activities without registering as a broker under Section 
15(b) of the Exchange Act.\45\
---------------------------------------------------------------------------

    \45\ FINRA also revised the list of activities that a CAB may 
not engage in to clarify that a CAB may not carry or act as an 
introducing broker with respect to customer accounts or participate 
in or maintain an online platform in connection with offerings of 
unregistered securities pursuant to Regulation Crowdfunding or 
Regulation A under the Securities Act of 1933. See proposed CAB Rule 
016(c)(2).
---------------------------------------------------------------------------

    One commenter argued that the term ``limited corporate financing 
broker'' itself is problematic because it may confuse clients into 
thinking that a firm has reduced its servicing offerings when in fact 
they remain unchanged.\46\ In response to this concern, FINRA has 
changed the name of this defined term, and the name of the rule set, 
from ``limited corporate financing broker'' to ``capital acquisition 
broker.''
---------------------------------------------------------------------------

    \46\ See McCracken.
---------------------------------------------------------------------------

New Member and Change of Business Applications
    LCFB Rule 112 would have subjected LCFBs to NASD Rule 1013, which 
governs new FINRA membership applications. LCFB Rule 112 also would 
have required applicants for FINRA membership that seek to qualify as 
LCFBs to state in their applications that they intend to operate as an 
LCFB.
    LCFB Rule 116 would have subjected LCFBs to NASD Rule 1017, which 
governs applications for approval of change in ownership, control, or 
business operations. Rule 116 also would have allowed an existing FINRA 
member firm that seeks to change its status to an LCFB, and that is 
already approved to engage in the activities of an LCFB, but which does 
not intend to change its existing ownership, control, or business 
operations, to file a request to amend its membership agreement or 
obtain a membership agreement (if none exists), to provide that: (i) 
The member firm's activities will be limited to those permitted for 
LCFBs under LCFB Rule 016(h); and (ii) the member firm agrees to comply 
with the LCFB rules. Rule 116 further specified that an LCFB that seeks 
to terminate its status as such and continue as a FINRA member firm 
would have to file an application for approval of a material change in 
business operations pursuant to NASD Rule 1017 (a ``CMA''), and would 
have to amend its membership agreement to provide that it agrees to 
comply with all FINRA rules.
    One commenter also recommended that FINRA streamline the new member 
and change in membership process for LCFBs, reduce the time period for 
decisions, and lower the application fees.\47\ Other commenters stated 
that any request to change a firm's membership agreement to elect LCFB 
status should be without a fee, and that firms should be allowed to 
revert back to their original non-LCFB status without having to file a 
change in membership application during the firm's first year of 
operation as an LCFB.\48\ Commenters also noted that the proposed 
requirement to pay a $5000 fee as part of the CMA in order to buy back 
a firm's full broker status is a substantial disincentive to become an 
LCFB.\49\
---------------------------------------------------------------------------

    \47\ See M&A Brokers Letter Attorneys.
    \48\ See 3PM and RWI.
    \49\ See Achates and RWI.
---------------------------------------------------------------------------

    FINRA does not agree that it should create a different new member 
process for applicants that are not already registered broker-dealers 
and that seek to become CABs. Although CABs would be subject to fewer 
FINRA requirements than other broker-dealers, FINRA still believes that 
it is important for investor protection and industry confidence reasons 
that FINRA have an opportunity to vet new CAB firms in the same manner 
that FINRA vets other new firm applicants. Similarly, if a firm wishes 
to change its ownership, control or business operations, FINRA believes 
that it is important that these changes receive the same review as any 
other registered firm. FINRA has modified CAB Rule 112, however, to 
clarify that a CAB applicant must state in its application that it 
intends to operate solely as a CAB.\50\
---------------------------------------------------------------------------

    \50\ FINRA also has modified CAB Rules 111, 112, 113, 114, and 
115 to clarify that they apply to persons applying for membership in 
FINRA as a CAB as well as to the CABs themselves.
---------------------------------------------------------------------------

    CAB Rule 116 already permits an existing FINRA member firm to elect 
CAB status by requesting a change in its membership agreement, and 
without filing a CMA or paying a filing fee. However, FINRA agrees that 
Rule 116 should provide some more flexibility to a CAB that seeks to 
revert to its full broker status within the first year after electing 
CAB status. Accordingly, FINRA has amended Rule 116 to provide that, if 
during the first year following an existing FINRA member firm's 
amendment to its membership agreement to elect CAB status, the firm 
seeks to terminate its CAB status and

[[Page 79978]]

continue as a FINRA member firm, the firm may notify the Membership 
Application Program group of this change without having to file a CMA. 
The member firm seeking this change would have to file a request to 
amend its membership agreement to provide that the firm agrees to 
comply with all FINRA rules, and execute an amended membership 
agreement that imposes the same limitations on the firm's activities 
that existed prior to the firm's change to CAB status.
Registration Categories
    Proposed LCFB Rule 123 would have allowed persons registered with 
LCFBs to hold only a limited set of registrations that relate to an 
LCFB's business.\51\ The proposal also would have subjected LCFBs to 
the Operations Professional (Series 99) registration requirement.
---------------------------------------------------------------------------

    \51\ Registered principals of LCFBs would have been permitted to 
hold the General Securities Principal (Series 24), Limited 
Principal--Financial and Operations (Series 27), Limited Principal--
Introducing Broker/Dealer Financial and Operations (Series 28), and 
Limited Principal--General Securities Sales Supervisor (Series 9 and 
10) registrations. Registered representatives of LCFBs would have 
been permitted to hold the General Securities Representative (Series 
7), Limited Representative--Direct Participation Programs (Series 
22), Limited Representative--Private Securities Offerings (Series 
82), and Limited Representative--Investment Banking (Series 79) 
registrations.
---------------------------------------------------------------------------

    Commenters objected to limiting the types of registrations that an 
associated person of an LCFB may retain.\52\ Commenters noted that 
registered persons may be required to hold other registrations under 
state law.\53\ In addition, commenters argued that this restriction 
would penalize individuals who may want to change jobs later and return 
to a full service broker-dealer, where other registrations would be 
required. They favored allowing registered persons to retain their 
registrations while employed with an LCFB. Commenters also opposed 
requiring LCFBs to employ an Operations Professional.\54\ Two 
commenters encouraged FINRA, as part of this process, to re-examine the 
permissible scope of activities of various registration categories, 
such as Series 22, 62, 79 and 82 registrations.\55\
---------------------------------------------------------------------------

    \52\ See 3PM, Achates, Signal Hill, Sutter, LIATA, RWI, 
HighBank, M&A Brokers Letter Attorneys, and EYCA.
    \53\ See 3PM, Achates, Sutter, and Q Advisors.
    \54\ See 3PM and M&A Brokers Letter Attorneys.
    \55\ See ABA and LeGaye.
---------------------------------------------------------------------------

    However, one commenter supported the restrictions. It recommended 
that LCFB representatives be required to obtain the Series 79 
registration, and that LCFB representatives not be permitted to obtain 
other registration categories or retain other existing registrations 
during the time they are associated with an LCFB.\56\ Another commenter 
suggested that LCFB principals and representatives not be permitted to 
hold other registrations unless a firm can adequately supervise the 
activities covered by those registrations.\57\
---------------------------------------------------------------------------

    \56\ See CFSC.
    \57\ See Harris.
---------------------------------------------------------------------------

    FINRA is persuaded that not allowing registered principals and 
representatives to obtain and hold the full range of registration 
categories could potentially penalize individuals who have already 
obtained those registration categories, and that the limitations of 
proposed LCFB Rule 123 also could potentially conflict with state law 
requirements. Accordingly, FINRA is amending CAB Rule 123 to eliminate 
the prior restrictions on the types of registrations persons associated 
with CABs may hold. Associated persons still would only be permitted to 
retain registrations that are appropriate to their functions under the 
registration rules.
    FINRA continues to believe that CABs should be subject to FINRA 
Rule 1230(b)(6) regarding Operations Professional (Series 99) 
registration. FINRA believes the Operations Professional registration 
category enhances the regulatory structure surrounding the specified 
(or ``covered'' functions), including contributing to the process of 
preparing and filing financial regulatory reports, and has noted that 
for some firms the Operations Professional often may be the firm's 
Financial and Operations Principal.\58\ FINRA also is not re-examining 
the range of permissible activities for principals and representatives 
in various registration categories, as those issues are beyond the 
scope of this proposed rule change.
---------------------------------------------------------------------------

    \58\ See Regulatory Notice 11-33 (July 2011).
---------------------------------------------------------------------------

Continuing Education Requirements
    Proposed LCFB Rule 125 would have required any person registered 
with an LCFB who has direct contact with customers in the conduct of 
the broker's corporate financing activities, and the immediate 
supervisors of such persons, to be subject to many of the same 
requirements contained in the Firm Element provisions of FINRA Rule 
1250. Proposed LCFB Rule 125 would not have subjected persons 
registered with an LCFB to the Regulatory Element provisions of FINRA 
Rule 1250, however.
    One commenter stated that it was not opposed to requiring 
registered persons to undergo additional training and continuing 
education testing to keep an associated person's registration active, 
but proposed that these requirements be imposed only once every two 
years.\59\ Another commenter questioned exempting LCFB personnel from 
the Regulatory Element requirements of FINRA Rule 1250, and noted that 
investment bankers need to keep up with current rules and regulations 
as much as other types of brokers.\60\
---------------------------------------------------------------------------

    \59\ See 3PM.
    \60\ See Washington U.
---------------------------------------------------------------------------

    Given that FINRA has revised the proposed registration rules to 
allow persons registered with a CAB to hold and retain any principal 
and representative registrations that are appropriate to their 
functions under the registration rules, FINRA believes it is 
appropriate to subject associated persons to all of the continuing 
education requirements of FINRA Rule 1250, including the Regulatory 
Element provisions. FINRA has amended CAB Rule 125 accordingly.
Expungement of Customer Dispute Information
    Proposed LCFB Rule 208 (Obtaining an Order of Expungement of 
Customer Dispute Information from the Central Registration Depository 
(CRD) System) would have subjected LCFBs to FINRA Rule 2080, which sets 
forth requirements for members or associated persons seeking to expunge 
information from the CRD system arising from disputes with customers. 
FINRA did not receive any comments on this proposed rule.
    Since the Notice was published, FINRA Rule 2081 (Prohibited 
Conditions Relating to Expungement of Customer Dispute Information) 
became effective.\61\ FINRA Rule 2081 prohibits members and associated 
persons from conditioning or seeking to condition settlement of a 
customer dispute on, or otherwise compensating the customer for, the 
customer's agreement to consent to, or not to oppose, the member's or 
associated person's request to expunge such customer information from 
the CRD system. The rule directly addresses any concerns about parties 
to a settlement ``bargaining for'' expungement relief as a condition to 
settlement and should apply equally to any CAB or its associated 
persons seeking to expunge information from the CRD system. 
Accordingly, FINRA has amended LCFB Rule 208 also to subject CABs and 
their associated persons to FINRA Rule 2081.
---------------------------------------------------------------------------

    \61\ See Regulatory Notice 14-31 (July 2014).

---------------------------------------------------------------------------

[[Page 79979]]

Know Your Customer and Suitability
    Proposed LCFB Rules 209 (Know Your Customer) and 211 (Suitability) 
would have included slightly modified versions of the know your 
customer (``KYC'') and suitability requirements of FINRA Rules 2090 and 
2111. Proposed LCFB Rule 211(b) specified that an LCFB or its 
associated person fulfills the customer-specific suitability 
obligations for an institutional account, as defined by FINRA Rule 
4512(c), if (1) the broker or associated person has a reasonable basis 
to believe that the institutional customer is capable of evaluating 
investment risks independently, both in general and with regard to 
particular transactions and investment strategies involving a security 
or securities and (2) the institutional customer affirmatively 
indicates that it is exercising independent judgment in evaluating the 
broker's or associated person's recommendations. Where an institutional 
customer has delegated decision-making authority to an agent, such as 
an investment adviser or bank trust department, the rule would have 
applied these factors to the agent.
    One commenter recommended that proposed LCFB Rule 209 be redrafted 
to remove any reference to ``customer,'' instead suggesting that LCFBs 
should be required to perform due diligence of issuers, as well as 
reviews of investors and intermediaries considering whether to invest 
in an issuer to ensure qualified status.\62\ Another commenter argued 
that the rule as written is too vague, and that an examiner would be 
unable to know if a firm had met its obligations to effectively service 
a customer.\63\
---------------------------------------------------------------------------

    \62\ See 3PM.
    \63\ See Sutter.
---------------------------------------------------------------------------

    Commenters also were largely critical of proposed LCFB Rule 211. 
One commenter stated that it was inappropriate to require a suitability 
analysis before any recommendation, and that the rule was written as if 
an LCFB services retail customers. This commenter suggested that any 
suitability analysis should only be required before a subscription or 
purchase agreement is signed, and only where an investor is not 
represented by a qualified intermediary.\64\ Another commenter 
encouraged FINRA to more clearly define a ``recommendation'' in this 
context and reconsider the definition of ``customer'' under the 
proposed rules.\65\
---------------------------------------------------------------------------

    \64\ See 3PM.
    \65\ See ABA.
---------------------------------------------------------------------------

    On the other hand, one commenter stated that LCFBs advise issuers, 
and that the KYC and suitability requirements should apply to these 
types of firms.\66\ Two other commenters agreed that LCFBs advise both 
sell-side and buy-side M&A clients, but do not make recommendations to 
customers in the traditional sense.\67\
---------------------------------------------------------------------------

    \66\ See RWI.
    \67\ See HighBank and CSP.
---------------------------------------------------------------------------

    FINRA believes that the KYC and suitability rules should apply to 
CABs. The KYC rule requires CABs to use reasonable diligence to know 
and retain the essential facts concerning every customer and concerning 
the authority of each person acting on behalf of such customer. Facts 
essential to knowing a firm's customer are those required to (a) 
effectively service the customer, (b) understand the authority of each 
person acting on behalf of the customer, and (c) comply with applicable 
laws, regulations and rules.
    The rule is flexible in that it recognizes that the determination 
of what is required to service a particular client will always be based 
on the facts and circumstances of a firm's relationship with its 
client. Likewise, the fact that a firm's client is a party to an M&A or 
other private equity transaction does not alter the need to understand 
the authority of each person acting on behalf of the customer, or facts 
necessary to comply with applicable laws, regulations and rules. Again, 
these facts will depend on each transaction's facts and circumstances, 
and the rule recognizes this flexibility.
    Likewise, FINRA also believes that CABs should be subject to 
suitability requirements. If a CAB does not recommend a securities 
transaction, as some commenters assert, then the suitability 
requirements would not apply. Likewise, the proposed rule specifies 
that a CAB or associated person fulfills the customer specific 
suitability requirements for institutional investors if (1) the broker 
or associated persons has a reasonable basis to believe that the 
institutional investor is capable of evaluating investment risks 
independently and (2) the institutional investor affirmatively 
indicates that it is exercising independent judgment in evaluating the 
broker's or associated person's recommendations. If the institutional 
investor has delegated decision-making authority to an agent, these 
factors apply to the agent. FINRA believes that this provision largely 
addresses concerns expressed by commenters that the proposed rule 
applies retail investor requirements to transactions involving 
institutional investors. It also recognizes that a CAB or its 
associated person may look to an institutional investor's agent if the 
investor is represented by an agent.
    FINRA has added supplementary material to proposed Rule 211 to 
clarify that a CAB still must have a reasonable basis to believe, based 
on reasonable diligence, that a recommendation is suitable for at least 
some investors. FINRA also has added supplemental material providing 
guidance with regard to the institutional investor exemption from the 
customer specific suitability requirements. The text of both of these 
supplementary materials is taken from similar supplementary materials 
that follow FINRA Rule 2111. FINRA believes that these additions will 
help clarify the scope of a CAB's suitability responsibilities under 
proposed Rule 211.
    FINRA also has revised the definition of ``customer'' to reflect 
the definition of this term under FINRA Rule 0160(b)(4). As revised, 
customer is defined as not including a broker or dealer. FINRA is 
making this change to make clear that the definition of customer under 
the CAB rules has the same meaning as under the FINRA rules.
Communications With the Public
    Proposed LCFB Rule 221 would have required LCFB communications to 
meet the general principles-based content standards of FINRA Rule 2210, 
although it also would have prohibited LCFB communications from 
projecting or predicting performance. Proposed LCFB Rule 221 would not 
have required LCFBs to approve communications prior to use, nor would 
it have imposed any filing requirements for LCFB communications.
    One commenter recommended that the proposed rule's content 
standards include a ``realistic approach'' to setting fair and balanced 
content standards to meet the realities of representing issuers of 
securities.\68\ Another commenter argued that the proposed rule does 
not sufficiently protect investors, and that it should require new 
firms to file communications with FINRA and require registered 
principals to approve firm communications prior to use.\69\ Another 
commenter argued that the cost of archiving emails for three years and 
reviewing emails periodically is burdensome.\70\
---------------------------------------------------------------------------

    \68\ See 3PM.
    \69\ See CFSC.
    \70\ See Colonnade.
---------------------------------------------------------------------------

    FINRA believes that proposed CAB Rule 221 is already sufficiently 
general to take into account the institutional nature of CABs' business 
models. However, FINRA recognizes that firms may need to include 
projections of an issuer's performance in communications that are sent 
to prospective investors,

[[Page 79980]]

such as pro forma financial statements related to a business 
acquisition or combination. For this reason, FINRA has removed the 
prohibition on predictions or projections of performance. The proposed 
rule would continue to prohibit communications from implying that past 
performance will recur or making any exaggerated or unwarranted claim, 
opinion or forecast.
    FINRA does not believe it is necessary to include either principal 
pre-use approval or filing requirements for CABs given the 
institutional nature of their business. CABs will be required to 
supervise communications, but FINRA intends to allow CABs the 
flexibility to determine the best means of such supervision given each 
firm's business model. LCFBs will be subject to the SEC's record-
keeping requirements for emails under Exchange Act Rules 17a-3 and 17a-
4, which FINRA has no authority to alter.
Engaging in Impermissible Activities
    Proposed LCFB Rule 240 provided that, upon finding that an LCFB or 
associated person of an LCFB has engaged in activities that require the 
firm to register as a broker or dealer under the Exchange Act, and that 
are inconsistent with the limitations imposed on LCFBs under LCFB Rule 
016(h), FINRA may examine for and enforce all FINRA rules against such 
a broker or associated person, including any rule that applies to a 
FINRA member broker-dealer that is not an LCFB or to an associated 
person who is not a person associated with an LCFB. One commenter 
argued that an LCFB that engages in impermissible activities should be 
given a defined remedial period and process for any unintentional 
activities of an LCFB until the rules have been in place for a while, 
given the potential for rule ambiguity.
    FINRA does not believe it is necessary to include within the rule a 
specific remedial period for engaging in impermissible activities. 
FINRA believes that unintentional violations during a transition period 
are best handled through the examination and enforcement process on a 
case-by-case basis. Accordingly, FINRA is not proposing to amend the 
rule.
Outside Business Activities of Registered Persons
    Proposed LCFB Rule 327 would have required LCFBs to be subject to 
FINRA Rule 3270 (Outside Business Activities). One commenter urged 
FINRA to clarify an LCFB's supervisory responsibilities when an 
associated person engages in private securities transactions away from 
the firm under NASD Rule 3040, and an LCFB's supervisory obligations 
when an associated person either is also registered with an affiliated 
or unaffiliated full-service broker-dealer or refers a customer to a 
full-service firm in return for a referral fee.\71\
---------------------------------------------------------------------------

    \71\ See CFSC.
---------------------------------------------------------------------------

    An associated person of a CAB would not be permitted to engage in 
private securities transactions away from the firm, since such 
activities would be beyond the scope of permissible activities for a 
CAB under proposed CAB Rule 016(c).\72\ However, in order to make this 
restriction more clear, FINRA has added CAB Rule 328, which would 
expressly prohibit associated persons of CABs from engaging in private 
securities transactions as defined in FINRA Rule 3280(e).
---------------------------------------------------------------------------

    \72\ See CAB Rule 014 (``Persons associated with a capital 
acquisition broker shall have the same duties and obligations as a 
capital acquisition broker under the Capital Acquisition Broker 
rules'').
---------------------------------------------------------------------------

    For the same reasons, an associated person of a CAB also would not 
be allowed to register with an affiliated or unaffiliated full-service 
broker-dealer. An associated person could receive a fee for referring 
business to another broker-dealer, provided that the proposed 
transaction would be permissible for the CAB to conduct itself.
Anti-Money Laundering Compliance Program
    Proposed LCFB Rule 331 would require an LCFB to develop and 
implement a written AML program reasonably designed to achieve and 
monitor its compliance with the requirements of the Bank Secrecy Act 
and the Department of Treasury regulations thereunder. The AML program 
would have to meet many of the same standards that full-service broker-
dealers must meet under FINRA Rule 3310, except that the program would 
provide for independent testing for compliance no less frequently than 
every two years, rather than every year.
    Five commenters stated that AML audits should not be required for 
LCFBs, since such firms receive no customer deposits and have no 
customer accounts.\73\ Another commenter argued that LCFBs should only 
have to implement a customer identification program (``CIP'') for 
issuers and intermediaries with which the LCFB does business, and for 
investors where there is no intermediary.\74\ However, another 
commenter stated that there is no reason to exempt an LCFB from the 
one-year AML testing requirement.\75\
---------------------------------------------------------------------------

    \73\ See Growth Venture, Signal Hill, Q Advisors, CSP, and 
LeGaye.
    \74\ See 3PM.
    \75\ See CFSC.
---------------------------------------------------------------------------

    Because the Bank Secrecy Act imposes AML obligations on all broker-
dealers, FINRA does not believe it has the authority to exempt CABs 
from the requirement to adopt and implement an AML program. However, 
due to the limited nature of CABs' securities transactions, FINRA 
believes it is appropriate to allow CABs to conduct independent 
compliance testing of their AML programs every two years rather than 
every year.
Capital Compliance
    Proposed LCFB Rule 411 would impose on LCFBs certain requirements 
imposed on full-service broker-dealers under FINRA Rule 4110 (Capital 
Compliance). Unless otherwise permitted by FINRA, an LCFB would have to 
suspend all business operations during any period in which it is not in 
compliance with the applicable net capital requirements set forth in 
Exchange Act Rule 15c3-1. The proposed rule also would authorize FINRA 
to issue a notice pursuant to FINRA Rule 9557 directing a non-compliant 
LCFB to suspend all or a portion of its business. The proposed rule 
would impose requirements related to withdrawal of equity capital, 
subordinated loans, and notes collateralized by securities and capital 
borrowings similar to provisions in FINRA Rule 4110.
    Numerous commenters recommended that FINRA either eliminate or 
substantially reduce net capital requirements for LCFBs,\76\ and that 
FINRA overhaul the net capital and FOCUS reporting requirements to 
better apply these requirements to LCFBs' business model.\77\
---------------------------------------------------------------------------

    \76\ See Growth Venture and LIATI.
    \77\ See 3PM, Colonnade, Bridge 1, CMC, McCracken, RWI, M&A 
Brokers Letter Attorneys, IMS, and Stonehaven.
---------------------------------------------------------------------------

    The SEC, however, sets these standards under its net capital rules 
and FINRA believes that the SEC would have to adjust its net capital 
requirements before FINRA could alter the net capital requirements that 
it imposes under its rules. In this regard, FINRA has clarified the CAB 
rules to note that CABs would be required to file supplemental FOCUS 
reports pursuant to FINRA Rule 4524 as FINRA may deem necessary or 
appropriate for the protection of investors or in the public interest.
Audit
    Numerous commenters urged FINRA to work with the SEC and the Public 
Company Accounting Oversight Board (``PCAOB'') to carve out LCFBs from 
the

[[Page 79981]]

requirement to produce audited financial statements.\78\ Two commenters 
recommended that, as an alternative to an audit, LCFBs' financials 
could be subject to an AICPA ``review.'' \79\ Another commenter 
recommended that audits not be required unless a firm has 20 or more 
employees or $10 million in net revenues.\80\
---------------------------------------------------------------------------

    \78\ See 3PM, Achates, Colonnade, Growth Venture, Signal Hill, 
Sutter, LIATA, Bridge 1, Q Advisors, Dole, McCracken, HighBank, CSP, 
M&A Brokers Letter Attorneys, LeGaye, and IMS.
    \79\ See Achates and RWI.
    \80\ See Anderson.
---------------------------------------------------------------------------

    FINRA believes that it does not have the authority to reduce or 
eliminate the requirement to obtain audited financial statements.
Fidelity Bonds
    The proposal would subject LCFBs to FINRA Rule 4360, which requires 
each member firm required to join the Securities Investor Protection 
Corporation (``SIPC'') to maintain blanket fidelity bond coverage that 
provides against loss and have insuring agreements covering at least 
six enumerated areas. The minimum required fidelity bond amount varies 
depending on a firm's net capital requirements, but in any case it must 
be at least $100,000.
    Some commenters argued this requirement should not apply to LCFBs, 
since fidelity bonds protect against theft of a customer's funds. 
Because LCFBs may not accept or hold customer funds, these commenters 
argue that the bond requirement makes no sense.\81\ One commenter noted 
that an LCFB that issues a fairness opinion should be required to carry 
a larger fidelity bond than $100,000.\82\
---------------------------------------------------------------------------

    \81\ See 3PM, Colonnade, Growth Venture, LIATI, Bridge 1, Q 
Advisors, Dole, McCracken, RWI, HighBank, CSP, LeGaye, IMS, and 
Stonehaven.
    \82\ See Sutter.
---------------------------------------------------------------------------

    In response to these comments, FINRA has determined not to subject 
CABs to FINRA Rule 4360 because of CABs' unique business model. CABs' 
clients would be limited to issuers of unregistered securities, 
institutional investors, and parties to a transaction involving the 
change of control of a privately held company. CABs would act as agent 
only in transactions in which funds flow directly from a purchaser of 
securities to the issuer or shareholder of such securities, and would 
not carry or act as an introducing broker in connection with customer 
accounts. In addition, CABs would belong to a separate FINRA membership 
category that would make them unique among all other FINRA member 
firms. For these reasons, FINRA believes it would be appropriate not to 
require CABs to maintain a fidelity bond under Rule 4360.
SIPC Dues
    Thirteen commenters argued that an LCFB should not have to pay dues 
to SIPC on the ground that an LCFB would not carry or act as an 
introducing broker with respect to customer accounts or hold or handle 
customer funds.\83\
---------------------------------------------------------------------------

    \83\ See 3PM, Anderson, LIATI, Bridge 1, Q Advisors, Dole, 
McCracken, RWI, HighBank, CSP, LeGaye, IMS, and Stonehaven.
---------------------------------------------------------------------------

    Almost all persons registered as brokers or dealers under Section 
15(b) of the Exchange Act must be members of SIPC.\84\ Because these 
requirements are imposed by statute, FINRA has no authority to exempt 
any CAB from SIPC membership.
---------------------------------------------------------------------------

    \84\ See Section 3(a)(2)(A) of the Securities Investor 
Protection Act, 15 U.S.C. 78ccc(a)(2)(A). The only exceptions to 
this requirement are for: (i) Firms whose principal business is 
conducted outside the United States, as determined by SIPC; (ii) 
firms whose business as a broker or dealer consists exclusively of 
(I) the distribution of open-end investment companies or unit 
investment trusts; (II) the sale of variable annuities; (III) the 
business of insurance; or (IV) advising investment companies or 
insurance company separate accounts; and (iii) firms that are 
registered as brokers or dealers solely for the purpose of trading 
security futures on an exchange.
---------------------------------------------------------------------------

Other Comments
    Commenters had a number of other observations and recommendations 
regarding the proposed rule set, which FINRA addresses below.
    One commenter recommended that FINRA relieve LCFBs from the 
requirement to review and file hard copies of employees' stock trading 
records.\85\ Another commenter recommended that FINRA impose the 
requirements of NASD Rule 3050 on LCFBs.\86\ NASD Rule 3050 imposes 
certain obligations on a member firm that knowingly executes a 
transaction for the purchase or sale of a security for the account of a 
person associated with another member firm, or any account over which 
such associated person has discretionary authority, and on an 
associated person who opens an account with another member firm. Among 
other things, upon written request by the employer member firm, the 
associated person must request that the executing member firm transmit 
duplicate account confirmations, statements or other information.
---------------------------------------------------------------------------

    \85\ See Colonnade.
    \86\ See CFSC.
---------------------------------------------------------------------------

    The CAB rules would not apply NASD Rule 3050 to CABs. FINRA 
believes that, due to the limited institutional activities of CABs and 
their associated persons, it is not necessary to impose this rule's 
obligations on CABs.
    Three commenters urged FINRA to eliminate or reduce its assessments 
on LCFBs due to the limited level of FINRA oversight of these 
firms.\87\ FINRA derives its revenues from a number of sources, many of 
which are user fees, such as fees imposed on firms that file 
communications with FINRA's Advertising Regulation Department, or 
public offerings with FINRA's Corporate Financing Department. CABs 
would not be subject to many of these user fees since they would not be 
subject to these filing requirements. However, CABs would be subject to 
fees and assessments that apply to all FINRA member firms, such as the 
gross income assessment or the new member filing fees. FINRA believes 
that it is appropriate to impose these more generalized assessments on 
CABs to cover the costs of regulating and examining CAB activities.
---------------------------------------------------------------------------

    \87\ See Anderson, RWI, and LeGaye.
---------------------------------------------------------------------------

    One commenter expressed concern that the proposed rule set will 
lead to differing interpretations of rules, and will create an uneven 
playing field with full-service broker-dealers. This commenter believes 
that the proposed rule set is contrary to FINRA's mission of market 
integrity and investor protection, and that FINRA and the industry 
would be better served by expanding existing rules rather than creating 
a new rule set.\88\
---------------------------------------------------------------------------

    \88\ See CFSC.
---------------------------------------------------------------------------

    FINRA staff strives to interpret all of its rules in a consistent 
manner, and it will make similar efforts to interpret rules 
consistently if the proposal is approved. To the extent a CAB rule 
requires compliance with an existing FINRA rule that applies to full-
service broker-dealers, the staff anticipates that it will interpret 
the CAB rule in the same manner as the corresponding FINRA rule. If the 
CAB rule differs from its FINRA rule counterpart, the staff intends to 
interpret the rule consistently with respect to all CABs. FINRA does 
not agree that the proposed rule set would be contrary to FINRA's 
mission of market integrity and investor protection. FINRA has 
carefully crafted the rule set to include rules that should apply to 
all broker-dealers, or to broker-dealers that engage in M&A and other 
private equity activities with institutional investors, while excluding 
from the proposal rules that have no applicability to CABs' business 
model, or that would impose unnecessary burdens given the kinds of 
activities in which CABs engage.
    One commenter suggested that the Federal Trade Commission Red Flag 
Rules should apply to LCFBs. This

[[Page 79982]]

commenter noted that LCFBs may be in possession of confidential and 
sensitive information concerning their customers, and that these 
customers could be exposed to risks resulting from identity theft.\89\ 
The proposal would not impact whether a CAB is subject to the Red Flag 
Rules adopted pursuant to the Fair Credit Reporting Act of 1970, as 
amended.\90\ The application of the Red Flag Rules depends on whether a 
broker or dealer falls within the requirements of the SEC's Regulation 
S-ID.\91\
---------------------------------------------------------------------------

    \89\ See RWI.
    \90\ Pub. L 91-508, 84 Stat. 1114 (1970), codified at 15 U.S.C. 
1681-1681x.
    \91\ 17 CFR 248 Subpart C. See also Securities Exchange Act 
Release No. 69359 (April 10, 2013), 78 FR 23637 (April 19, 2013).
---------------------------------------------------------------------------

    One commenter noted that the proposed rule set omits FINRA Rule 
5150 (Fairness Opinions) and a reference to information barriers, such 
as the guidance provided in NASD Notice to Members 91-45 (July 1991). 
The commenter also recommended that FINRA clarify that the proposed 
rule set would apply only to broker-dealers whose enterprise-wide 
activities fit within the definition of LCFB, and not to affiliates of 
large financial conglomerates, even if the LCFB itself only engages in 
activities permissible for an LCFB.\92\
---------------------------------------------------------------------------

    \92\ See Washington U.
---------------------------------------------------------------------------

    FINRA agrees that FINRA Rule 5150 should apply to a CAB that 
provides a fairness opinion that is subject to that rule. Although this 
rule generally applies to fairness opinions that are provided or 
described to public shareholders, it is possible that a CAB could serve 
as an advisor in connection with a public offering of securities and 
provide a fairness opinion in connection with the offering. In such a 
case, it would make sense to require the same disclosures regarding 
potential conflicts of interest in connection with the fairness 
opinion. Accordingly, FINRA is adding new CAB Rule 515 (Fairness 
Opinions), which would subject CABs to FINRA Rule 5150.
    NASD Notice to Members 91-45 was a joint memorandum prepared by the 
National Association of Securities Dealers, Inc., the New York Stock 
Exchange, and a committee of the Securities Industry Association that 
explained the minimum elements of adequate information barrier policies 
and procedures pursuant to the requirements of the Insider Trading and 
Securities Fraud Enforcement Act of 1988. To the extent a CAB deals 
with information that would trigger application of this statute or any 
other insider trading law, the CAB would be required to have in place 
adequate information barriers necessary to meet these requirements.
    FINRA disagrees that a CAB may not be affiliated with a broker-
dealer that engages in activities that are not permitted for CABs. As 
discussed previously, the CAB rules would prohibit both a CAB firm and 
its associated persons from engaging in activities that are not 
permitted under the definition of CAB. However, FINRA does not believe 
that it would be inconsistent for an affiliate of a CAB to engage in a 
wider array of activities; in those cases, the affiliate would be 
subject to all FINRA rules, and not the CAB rules.
    One commenter urged FINRA to collaborate with the North American 
Securities Administrators Association (``NASAA'') to further reduce 
regulatory burdens on LCFBs.\93\ FINRA cooperates with NASAA 
representatives on securities regulatory issues, and expects that its 
staff will continue to discuss matters of mutual interest regarding 
CABs with NASAA representatives in the future.
---------------------------------------------------------------------------

    \93\ See M&A Brokers Letter Attorneys.
---------------------------------------------------------------------------

    Another commenter requested that FINRA confirm that LCFBs may serve 
as ``chaperones'' for non-U.S. broker-dealers under Exchange Act Rule 
15a-6 by performing activities that are described in Rule 15a-6(a)(3) 
and related no-action letters. The same commenter recommended that 
FINRA confirm with the states that an LCFB would be eligible for an 
exemption from state business broker licensing laws, to the extent that 
they exempt other registered broker-dealers.\94\
---------------------------------------------------------------------------

    \94\ See EYCF.
---------------------------------------------------------------------------

    FINRA is not prepared at this time to confirm that all activities 
listed in Rule 15a-6(a)(3) and related no-action letters would be 
permissible for a CAB. For example, these activities include effecting 
securities transactions and issuing all required confirmations and 
statements, which appear to be activities beyond what would be 
permitted under the CAB definition. Likewise, the question of whether a 
CAB would be subject to a particular state's business broker licensing 
laws would be better directed to that state.
    Another commenter recommended that FINRA work with the SEC, NASAA, 
the Commodity Futures Trading Commission, the National Futures 
Association, and the industry to develop a unified simple regulatory 
approach to regulating broker-dealer activities on the basis of risk 
rather than on transaction-based compensation.\95\ The commenter's 
suggestion is beyond the scope of this proposed rulemaking and would 
likely require changes to the federal securities laws.
---------------------------------------------------------------------------

    \95\ See IMS.
---------------------------------------------------------------------------

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2015-054 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2015-054. This 
file number should be included on the subject line if email is used. To 
help the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE.,

[[Page 79983]]

Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m. Copies of such filing also will be available for 
inspection and copying at the principal office of FINRA. All comments 
received will be posted without change; the Commission does not edit 
personal identifying information from submissions. You should submit 
only information that you wish to make available publicly. All 
submissions should refer to File Number SR-FINRA-2015-054 and should be 
submitted on or before January 13, 2016.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\96\
---------------------------------------------------------------------------

    \96\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------


Robert W. Errett,
Deputy Secretary.
[FR Doc. 2015-32189 Filed 12-22-15; 8:45 am]
BILLING CODE 8011-01-P


