Due diligence training: Use SEC tips to handle small organizations

Posted by Andrew Borowiec on Mar 15, 2018 10:40:41 AM


Handling small organizations is one of the trickiest areas for any due diligence professional. To inform our due diligence training in this area, we turn to the SEC and draw from an excellent past webinar “How Understanding SEC Examinations Can Inform the Due Diligence Process”. There are two major areas that you can draw from: Firstly, the focus areas identified by the SEC that they use to structure that year’s examinations; and secondly, the actual techniques they use to structure and conduct those examinations.

Use SEC focus areas to structure your investigation

Your firm might have any number of relationships with small organizations and the maturity of due diligence within those organizations will vary hugely. So, how do you focus and structure your investigations so you make the most of your time and have a due diligence process that works for every type of small organization?

One way is to use SEC examination focus areas for the current year as a basic structure for your investigations. These topics have been selected by the SEC based on their observations of current trends, so they give you a good steer as to the likely areas of highest risk to investigate. You’ll want to update your due diligence training every year to encompass that year’s SEC priorities. 2018’s focus areas are:

  1. Retail investors, including seniors and people saving for retirement
  2. Compliance and risks in critical market infrastructure
  3. The Financial Industry Regulatory Authority (“FINRA”) and Municipal Securities Rulemaking Board (“MSRB”)
  4. Cybersecurity
  5. Anti-money laundering programs

How to use these areas in your due diligence training on small organizations investigations:

  • Be aware of changing SEC focus areas and determine if those are higher risk areas for you
  • When performing due diligence ask the firm what they are doing in response to SEC focus areas
  • Consider managing your reviews using similar points
  • Don’t disregard your own insight and rely solely on SEC focus areas

Use SEC techniques when investigating

As well as paying close attention to the areas the SEC deems most important to focus on in its investigations, you can use the same techniques their examiners do when investigating and interviewing small organizations during your due diligence process. Here are some tips:

  • Use a risk based approach with a risk scoring model to determine the depth of your investigations into a particular small firm
  • Do as much work as you can prior to making contact, so you’ve pulled all publicly available information on a firm together and analyzed it before you speak to the organization directly
  • Give small organizations enough lead time to provide documents before your site visit, they are usually shorter on resources than larger firms and the extra time will pay off when you review what has been disclosed
  • When on site, test knowledge of regulatory concepts, policies, procedures. But don’t stop there. Build impressions into your assessment, such as whether the interviewee seems nervous, avoids questions or lacks confidence in their answers.
  • Some more pointers for effective interviewing on site include:
    • Ask broad, open ended questions
    • Evaluate body language as well as the content of the response
    • Ask the same question of multiple people
    • Play dumb, or if there are two of you consider the good cop/bad cop routine

Find out more about what the SEC does during its examinations and how you can apply that in your own due diligence training. Members can access the workshop recording and slides here and get the full picture on what you might want to include in your next due diligence investigation into a small organization.

View our Slides from our Due Diligence on ESG Webinar

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Tags: Due Diligence, SEC Exams

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