Equity Crowdfunding for Investors: A Guide to Risks, Returns, Regulations, Funding Portals, Due Diligence, and Deal Terms

CHAPTER 12

How to Invest, Part III: Due Diligence

Before you buy a house, you would walk through the premises and the grounds to make sure (1) the property will meet your requirements and (2) there are no undisclosed problems that would cost an arm and a leg to fix. The seller of the house has a duty to disclose problems that he or she knows about. But in most cases, if you buy the house and then find a serious problem, unless the seller claimed specifically that no such problem existed, then it's your problem to fix because you failed to discover it before the deal closed. That's why home buyers are keenly observant during their walk-throughs, study the neighborhood and local schools, and hire building inspectors to make sure any problems are exposed before the deal is closed. This is the real estate due diligence process.

In the context of investing in securities, due diligence is the research and investigation that an investor conducts into the issuer and its associated industry and market before buying its debt or equity securities. Investing in private securities is like buying a home in the respect that you spend a significant amount of money for something that you plan to live with for years.

Securities due diligence includes making sure the issuer is properly incorporated or registered with the state, confirming that it has the necessary permits to make and sell its product or provide its service, testing out the product or the service, digging into the backgrounds of the ...