Quick Answer
A broker-dealer that recommends a private placement owes its own reasonable investigation of the issuer and its claims. Regulation D exempts the offering from registration, never from fraud, and a sophisticated customer base is no substitute for doing the work.
Two scored items carrying the legal foundation under every private-placement recommendation.
Which One-Liners Win Points?
- Regulation D removes the registration requirement, not the antifraud requirement. A weak investigation can violate the federal antifraud provisions and Financial Industry Regulatory Authority standards, and forfeits the reasonable-care defense.
- "All my customers are accredited" is never a defense, and neither is the issuer's or its counsel's word. A firm lacking essential information discloses the gap and its risks.
- The reporting-company shortcut needs all three: a reporting company, no red flags, and a non-underwriter firm. Most private issuers do not report.
- Every offering gets a fresh investigation, and smaller companies of recent origin need a more thorough one. Earlier work does not carry over.
- Research is not financial data. Financial data is the numbers the issuer supplies; research is the firm's own verification: customer and supplier calls, litigation inquiries.
- A red flag is anything that would alert a prudent person to dig deeper, public or surfaced by the investigation itself. Promotional material promising unusually high returns is the example.
- Drafting the private placement memorandum raises the bar. The firm then owes an investigation duty over its own document's claims.
- The written record is the proof. Keep meetings, tasks, documents reviewed, results, dates, and attendees.
Which Numbers Matter Most?
| Item | Value |
|---|---|
| Components of due diligence | 5: financial data, industry and operational data, management and employee relations, research, product development and expansion |
| Minimum investigation items | 5: issuer and management, business prospects, assets, claims made, use of proceeds |
Which Gotchas Trip Students Up?
Exam Tip: Gotchas
- An audited, certified financial statement is not immune from further investigation, and neither is a due-diligence report from the issuer's own counsel. Red flags defeat reliance on both.
- A missing memorandum is neither automatically disqualifying nor automatically fine. The firm weighs it as a red flag on the facts, like an issuer's refusal to give information.
- A feasibility study has no rule text of its own here. A stem treating it as a defined checklist is the trap.
- Affiliation with the issuer does not license a lighter investigation. It raises customer expectations and helps set scope.
- Reliance on a syndicate manager is conditional, and so is reliance on counsel. The firm needs reason to believe the manager was expert, independent, and actually did the inquiry here; any gap stays its own.
- Customer facts do not answer a due-diligence question. This unit is product-level reasonable basis, not customer-specific suitability.
One-Breath Recap
A broker-dealer that recommends a private placement owes its own reasonable investigation, sized to the deal. Regulation D exempts registration, not fraud, and neither a sophisticated customer base nor an audit ends the inquiry. Cover the five minimum items on every offering and sort the facts into the five components. Red flags override management's word, the offering document, and counsel's report. Drafting the memorandum raises the bar, leaning on counsel or a syndicate manager shifts work rather than responsibility, and only the written record proves the work was reasonable.
Need more than the recap? Read the full Due Diligence and Feasibility Studies unit.