Quick Answer
When a member firm knows or has reason to know that its fairness opinion will reach the company's public shareholders, the FINRA fairness opinion rule requires six specific disclosures inside the opinion letter: (1) financial-advisor relationships and success fees, (2) other contingent payments such as stapled financing, (3) material relationships with the parties in the past two years, (4) whether client-supplied information was independently verified, (5) whether the opinion was approved by a fairness committee, and (6) whether the opinion addresses insider compensation relative to public-shareholder compensation. The rule requires disclosure of conflicts; it does not prohibit them.
The FINRA fairness opinion rule has two halves. The procedural half (covered in the prior two sections) governs how the opinion is built and approved. The disclosure half, sometimes called the rule's "a" prong, governs what must be disclosed in the opinion letter when the opinion will reach public shareholders. The exam tests the disclosure half more heavily than any other piece of the rule.
The Disclosure Trigger
The disclosure obligations do not attach to every fairness opinion. They attach when:
- The opinion is being issued to the board of directors of the company, AND
- The member firm knows or has reason to know that the opinion will be provided to (or described to) the company's public shareholders
The most common channel through which the opinion reaches public shareholders is inclusion of the opinion in the proxy statement, prospectus, or tender-offer document sent to shareholders. The proxy / prospectus disclosure path is covered in the opinion letter and proxy disclosure section.
If the opinion is for a fully private company with no public shareholders and no public disclosure path, the disclosure trigger is not pulled. The procedural requirements still apply; the substantive disclosure list does not.
Exam Tip: Gotchas
- The disclosure trigger is public shareholders receiving or being told about the opinion, not the opinion itself. An opinion for a private company that stays inside the boardroom does not trigger the disclosure list.
- "Knows or has reason to know" is the standard. A member firm that hands the opinion to the board for a deal headed to a shareholder vote has reason to know it will reach shareholders, even if no one explicitly told the firm so.
The Six Required Disclosure Items
When the trigger applies, the opinion letter must address all six items below. Three relate to compensation and relationships (items 1, 2, 3), two relate to the opinion's own preparation (items 4 and 5), and one relates to the insider-compensation question (item 6).
| Item | Required Disclosure |
|---|---|
| (1) Advisor relationships and success fees | Whether the member has acted as a financial advisor to any party to the transaction, and if so, whether it will receive compensation contingent on successful completion (the "success fee") |
| (2) Other contingent payments | Whether the member will receive any other significant payment or compensation contingent on completion of the transaction. Example: compensation from a related transaction such as stapled financing offered to the buyer |
| (3) Material relationships, past two years | Any material relationships with the parties that existed during the past two years, or that are mutually understood to be contemplated, in which compensation was received or is intended to be received |
| (4) Independent verification | Whether information supplied by the company that formed a substantial basis for the opinion has been independently verified by the member. Must describe what was verified, or state that no information was verified |
| (5) Fairness committee approval | Whether the opinion was approved or issued by a fairness committee |
| (6) Insider compensation question | Whether the opinion expresses a view on the fairness of compensation to officers, directors, or employees (or any class of such persons) relative to the consideration to be paid to the public shareholders |
The six items are a closed list. The opinion letter must address each one, not pick the ones the firm likes.
Exam Tip: Gotchas
- The material-relationships lookback is two years, not one year, not three, and not five. The exam tests this number directly. Memorize two-year lookback.
- The independent-verification disclosure (item 4) must affirmatively address verification. Silence is not an option. A letter that says "we did not verify any information" is compliant; a letter that does not mention verification at all is not.
- The fairness committee disclosure (item 5) requires a yes or no statement in the letter, not just adherence to the procedural rule. The committee approval is operational; the letter disclosure is documentary.
Common Conflict Scenarios That Trigger Disclosure
The disclosure items map cleanly onto the common conflict patterns the exam likes to write into scenarios.
| Scenario | Disclosure Item |
|---|---|
| Success fee: Banker's fee is contingent on the deal closing | Item 1 (success-fee disclosure) |
| Stapled financing: Sell-side advisor offers acquisition financing to the buyer | Item 2 (other contingent payments) |
| Prior advisory engagements in the past two years for either party | Item 3 (material relationships) |
| Lending or trading relationships with either party in the past two years | Item 3 (material relationships) |
| Independent verification was not performed on client projections | Item 4 (verification disclosure) |
| Insider compensation is part of the deal package | Item 6 (insider-compensation question) |
The stapled financing scenario is heavily tested. The mechanics:
- The sell-side advisor pre-arranges debt financing the buyer can use to fund the acquisition
- The financing offer is "stapled" to the offering materials sent to bidders
- The advisor earns fees on both sides: M&A advisory fees from the seller, plus financing fees from whichever buyer uses the staple
- That dual-fee setup is a conflict, and the rule requires disclosure of it under item 2
Industry practice has moved further than the rule requires. Many firms now refuse to provide stapled financing when they are also writing the sell-side fairness opinion, or condition the opinion on the seller obtaining a second opinion from an unconflicted advisor.
Think of it this way: the exam treats the rule like a checklist. Each conflict pattern has a specific disclosure item attached to it. If a scenario hands you a success fee, the answer is item 1. If a scenario hands you stapled financing, the answer is item 2. If a scenario hands you a prior M&A engagement two years ago, the answer is item 3.
Exam Tip: Gotchas
- A success fee is the textbook item 1 disclosure. Answer choices that say the success fee can be hidden, that it doesn't need disclosure, or that it disqualifies the firm are all wrong. The fee is disclosed and the firm continues.
- Stapled financing is the textbook item 2 disclosure. The exam may describe the arrangement without naming it; the giveaway is "the sell-side advisor also offers financing to the buyer."
- Prior engagements within the past two years map to item 3, not item 1 or 2. Item 3 is the lookback; items 1 and 2 are the current deal.
Disclosure, Not Prohibition
The most important conceptual point about the FINRA fairness opinion rule: it is a disclosure rule, not a prohibition rule.
- A member firm can issue a fairness opinion on a deal where it earns a success fee
- A member firm can issue a fairness opinion where it provides stapled financing to the buyer
- A member firm can issue a fairness opinion where it had prior advisory work for either party in the past two years
What the firm must do in each case is disclose the conflict. The decision whether to engage a conflicted advisor (or whether to commission a second opinion from an unconflicted firm) belongs to the client's board or special committee, informed by the disclosed conflicts.
Exam Tip: Gotchas
- The fairness opinion rule is disclosure, not prohibition. Answer choices that say "the conflicted firm cannot issue the opinion" are wrong by design. The firm can issue the opinion; the conflict must be disclosed.
- The board decides whether to use the conflicted advisor. The rule does not make that decision for the board. The rule makes sure the board has the information it needs to decide.
Summary
Six disclosure items map to the conflict patterns that show up most often in M&A: success fees, other contingent payments (stapled financing), two-year material relationships, independent-verification status, fairness committee approval, and the insider-compensation question. The trigger is public-shareholder reach, not the opinion itself. The rule disclosures, not prohibits. The next section covers what the opinion letter looks like and how the same opinion drives a separate set of proxy / prospectus disclosures.