Broker-Dealer Due Diligence And FINRA Exam Priorities

FINRA Chairman and CEO Richard G. Ketchum gave a speech on April 9, 2013 as part of the National Compliance Outreach Program for Broker-Dealers.

Mr. Ketchum addressed FINRA’s view that there may be a need for additional supervision with respect to the marketing and sales of “complex products.”  One such complex product is a security purchased in a private placement.  Mr. Ketchum reminded the audience of broker-dealer compliance officers that they must perform reasonable due diligence on private placement issuers due to the heightened risks to consumers resulting from “the scarcity of independent financial information and the uncertainty surrounding the market- and credit-risk exposure associated with many private placements.” 

Firms should focus their issuer due diligence on the creditworthiness of the issuer, the strength of the proffered business model, and analysis of expected rates of return as compared to industry benchmarks.  In its broker-dealer examinations, FINRA will be focusing on whether a firm has in place appropriately robust due diligence policies, procedures, and processes. 

Now that FINRA requires a copy of the offering document to be filed in connection with private placements, it will be using that information in order to identify transactions that it classifies as “higher-risk” for further review.  In fact, FINRA is refocusing its exam program to utilize the growing amount of data that FINRA is collecting in order to target on high-risk firms, brokers, activities, and products.

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