What is a Shell Broker-Dealer? And What is the Process to Buying One?

What is a Shell Broker-Dealer? And What is the Process to Buying One?

It is common knowledge that transactions in the securities industry are highly regulated. Whether you want to deal in private or public securities, registering as a broker-dealer is the only legal way to do so. However, registering with FINRA as a new broker-dealer is a time-consuming process, even when you know what you’re doing. Usually, it can take six months or more to get a new broker-dealer approved by regulators, which in many cases, means losing out on business opportunities. To save time and avoid the hassles, many people opt to purchase a ‘shell’ broker-dealer instead of going through the New Member registration process. So, what exactly is a ‘shell’ broker-dealer?

Demystifying Shell Broker-Dealers

A ‘shell’ broker-dealer is basically an inactive broker-dealer that has little or no production and accounts. You may ask why a broker-dealer exists if it is not conducting any business. Well, there can be several reasons, but generally speaking, plans or business opportunities for owners of these firms simply change. In those cases, even though the registration of the broker-dealer has been completed, the firm never sees the light of the day as an enterprise. It remains a ‘shell’.

Why Buy a Shell Broker-Dealer?

The answer is simple – it saves time. If done correctly, buying a ‘shell’ can have new owners up and running in about 45 days. When registering as a new broker-dealer, owners cannot conduct any business until FINRA’s review process is complete; this can take many months. But when purchasing a ‘shell’, new owners can conduct business under the broker-dealer’s already approved license(s) while their application is going through this process.

Liability Concerns

We constantly hear of liability concerns when buying a broker-dealer, and rightfully so. No one wants to purchase a firm, only to take on the liabilities of the previous transactions done by that broker-dealer. In this case, there are several things to consider:

Know the firm that you are buying

– This may seem overly simplistic, but like in any transaction, coming to know the principals and owners of the current business goes a long way. It will also tell you a lot about how valuable any indemnity clause may actually be.

Have a strong purchase agreement- 

Many issues can be avoided by addressing them in the purchasing documents. Things like clawback provisions, indemnity, and capital structure can go a long way when it comes to protecting the purchaser.

Conduct proper diligence-

Regardless of the purchase price, thorough diligence should never be overlooked.

A true shell will have no business- 

A ‘shell’ broker-dealer has little or no production. Hence, either it has never done a transaction or the transactions that it has done earlier can be cross-checked easily during the due-diligence process for any liabilities.

Buying A Shell Broker Dealer

The process of buying a ‘shell’ broker-dealer is rather simple once you get a professional advisor on your side. Considering the complexity of regulatory matters, a professional advisor is always recommended. They can advise you on compliance related matters when it comes to purchasing a firm and find solutions that are specific to your needs.

Finding A Shell Broker Dealer To Purchase

Once you have hired a professional advisor, he/she will do a need analysis and then begin the search for ‘shell’ broker-dealers that are approved for your ‘business lines’. Please remember that broker-dealers, apart from being registered with FINRA as an entity also need to be approved by the agency for specific ‘business lines’. Hence, purchasing any random ‘shell’ broker-dealer won’t derive the desired benefit, so be sure to make a plan and do your homework.

Due Diligence

Once a suitable ‘shell’ broker-dealer has been zeroed in, the process of due diligence begins. This is unarguably the most important step; therefore it is again strongly advised to take it only under the guidance of a professional advisor. Your advisor will be of immense help in verifying all the relevant documents – Gateway forms, Form BD, FOCUS reports, membership agreement with regulatory bodies, past or pending litigations, and other important diligence items.

FINRA Rule 1017 – File Change Of Ownership

Once the diligence process is completed and everything seems perfect, one can proceed to inform FINRA about the change in ownership that is taking place. Pursuant to membership rule 1017, FINRA must be informed at least 30 days in advance of consummating the deal by filing a notice letter. Once the 30 days has passed (provided FINRA has not provided notice of rejecting the proposed transaction), the transaction can close and one can start doing business using the ‘shell’ broker-dealer that has been purchased. However, please keep in mind that FINRA can take a few months to fully approve the transaction.

The Pitfalls Of Buying A Shell Broker Dealer

While buying a ‘shell’ broker-dealer there are several pitfalls that must be avoided during the process. We have written about those pitfalls and how one can avoid them in this previous article “Buying a Broker-Dealer? The Benefits, Pitfalls and What to Expect.”.

Handling Compliance When Buying A Shell Broker Dealer

If you’ve been running an OSJ and are currently licensed, it might not be a big jump to transition to your own broker-dealer. But for many that are outside the regulated industry, compliance can be a headache. Large firms can hire full-time professionals to handle this task, but most small to mid-size firms just don’t have the resources or expertise to do it. For such firms, outsourcing compliance is unarguably the best alternative. They can also hire part-time Principals, so owners can focus on the firm’s core initiatives and save money in the long run. Additionally, for those soon to be BD owners who have never worked in the regulated securities industry, full executive teams can be outsourced start-to-finish. Remember, one does not require a license to “own” a broker-dealer, just to manage it.

Compliance Exchange Group has an expertise in registering ‘shell broker-dealer’ with FINRA. We also provide principal outsourcing and full-service compliance solutions for broker-dealers of all types. Regardless of whether you are searching for a broker-dealer to buy or have already purchased one, we can help in each leg of your journey. Our offerings are well-suited for startups and small to medium size firms, and come well within the budget. For any compliance or broker-dealer related services, give us a call at (646) 849-5730



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