Bad Actor Disqualification

An issuer planning a Rule 504 offering discovers that one of its executive officers has a disqualifying regulatory order against him. Its counsel says Rule 504 has no bad actor provision. Is counsel right?

1. A.Yes. The bad actor provisions appear only in Rule 506 and do not reach Rule 504 offerings.Wrong. Rule 504 adopts the Rule 506(d) disqualification by cross-reference.
2. B.Yes, provided the officer takes no part in soliciting investors for the offering.Wrong. Executive officers are covered persons whether or not they solicit anyone.
3. C.No. Rule 504 is unavailable to an issuer that would be disqualified under the Rule 506(d) bad actor provision.Correct. The disqualification reaches Rule 504 by reference and the companion disclosure duty comes with it.
4. D.No, but the consequence is only a disclosure obligation rather than loss of the exemption.Wrong. Disclosure is required for pre-effective-date events; a current disqualifying event removes the exemption.

Why: Rule 504 contains its own disqualification provision, which works by reference: no exemption is available under Rule 504 for an issuer that would be disqualified under the bad actor provision in Rule 506(d). The relevant persons include the issuer, its directors, executive officers and certain other covered persons, and a disqualifying event as to any of them removes the exemption. Rule 504 also imports the companion disclosure obligation, so events that pre-date the effective date of the provision must be described in writing to each purchaser a reasonable time before sale. Counsel is confusing the absence of the words in Rule 504 itself with the absence of the rule.

The bad actor disqualification provisions are located in Rule 506(d). Do these provisions apply only to offerings conducted under Rule 506(b), or do they also reach offerings conducted under Rule 506(c)?

1. A.They apply only to Rule 506(b) offerings, since Rule 506(c)'s verification requirement is considered a substitute for bad actor screening.Wrong. Accredited investor verification and bad actor screening address different concerns; one does not substitute for the other.
2. B.They apply only to Rule 506(c) offerings, since general solicitation is what specifically triggers the need for bad actor screening.Wrong. Bad actor disqualification is not triggered specifically by general solicitation.
3. C.They apply to neither subsection directly; bad actor disqualification is a separate, standalone requirement under an entirely different rule.Wrong. Rule 506(d) is specifically part of Rule 506 itself.
4. D.They apply to both Rule 506(b) and Rule 506(c) offerings, since both are part of the same Rule 506 safe harbor.Correct. Rule 506(d) is a shared feature of the entire Rule 506 safe harbor.

Why: They apply to both. Rule 506(d)'s bad actor disqualification provisions apply to any offering relying on Rule 506, whether structured under Rule 506(b) or Rule 506(c), since both subsections are part of the same Rule 506 safe harbor and share the same disqualification framework.

A Rule 506(b) offering's bad actor disqualification analysis needs to cover not just the issuer's own officers and directors, but also certain third parties compensated for soliciting purchasers. Does Rule 506(d) reach a paid solicitor who is not otherwise affiliated with the issuer?

1. A.No, Rule 506(d) reaches only persons formally affiliated with the issuer, such as officers, directors, and significant equity owners.Wrong. This misses the separate compensated-solicitor category Rule 506(d) also covers.
2. B.Yes, but only if the compensated solicitor is itself a registered broker-dealer; an unregistered finder receiving compensation falls outside Rule 506(d)'s coverage.Wrong. Rule 506(d)'s coverage of compensated solicitors is not limited to registered broker-dealers.
3. C.No, because bad actor disqualification analysis is limited exclusively to persons who have an ownership stake in the issuer.Wrong. Ownership stake is not the basis for the compensated-solicitor category; being paid to solicit purchasers is.
4. D.Yes -- Rule 506(d) covers any person paid, directly or indirectly, for soliciting purchasers in connection with the offering.Correct. A compensated placement agent or finder is independently a covered person.

Why: Yes. Rule 506(d)'s bad actor disqualification provisions specifically cover any person that has been or will be paid, directly or indirectly, remuneration for soliciting purchasers in connection with the offering -- a compensated placement agent or finder is itself a covered person.

An issuer's newly appointed CEO was convicted of securities fraud in connection with an unrelated company. The issuer is preparing a Regulation A offering. Is this conviction relevant to the issuer's eligibility to use Regulation A?

1. A.No, because Regulation A's eligibility requirements focus exclusively on the issuer's own financial and operational characteristics, not on the personal history of its individual officers or directors.Wrong. Regulation A's bad actor provisions look through to covered individuals, including officers and directors.
2. B.No, because bad actor disqualification provisions apply only to Regulation D offerings, not to Regulation A offerings, which rely on a different framework entirely.Wrong. Regulation A has its own bad actor disqualification provisions; this is not exclusively a Regulation D concept.
3. C.Yes, but only if the conviction occurred within the past two years, since older convictions automatically fall outside the disqualification framework regardless of the underlying conduct.Wrong. No such fixed lookback period should be assumed; the conviction's relevance must be evaluated under the actual disqualification framework.
4. D.Yes -- covered persons' disciplinary history, including a securities fraud conviction, must be evaluated against Regulation A's bad actor disqualification provisions.Correct. This history is directly relevant and must be assessed before the offering proceeds.

Why: Yes. Regulation A includes "bad actor" disqualification provisions that can disqualify an issuer from relying on the exemption if certain covered persons, including its officers and directors, have specified disciplinary events in their history, such as a securities fraud conviction. The CEO's history must be evaluated against these disqualification provisions before the offering proceeds.