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Due Diligence & Regulations

Veteran international investor John Corey comments

I was on a conference call recently. One of the investors taking part is a lawyer. He raised a point I had not thought of concerning bridge lenders or privately funded deals.

Assume for a minute that you were thinking of funding a deal by lending money to a project or forming a Joint Venture (JV). Would you know what you need to check to determine if the proposed investment is FCA compliant?

Do you want the risk of being in a deal that the FCA shuts down? Your money would be tied up or frozen during the investigation phase. There might be a loss if the project stalls mid-stream. Frozen bank accounts can make it hard to finish the on-going work. Or, the FCA might require the project to be liquidated rather than held for the original term. There are examples of frozen projects happening right now.

To be clear, you would not have done anything wrong yourself as a passive investor. The failure from your side would be one of due diligence - failing to check the regulatory compliance before putting your money into the project. And many lawyers who draft contracts are not up to speed on the FCA regulatory requirements. That is not the type of law they practice.

Coming back to the call, we were talking about a bridge loan situation where cash needed for the project has come from more than one passive investor. There was full disclosure to the lender, so no issues with mortgage fraud. The bridge lender felt they had a safe loan (LTV fine, exit clear, cash in the deal). What they did not check sufficiently was the equity fundraising. It turns out that the method used for promoting the opportunity plus the pooling of the funds from two passive investors created two violations - financial promotion without authorisation and running a collective investment scheme. The reader should take note; these are criminal acts - not just a civil matter.

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