The Due Diligence Defense and the Refco IPO

Despite weighty obligations imposed upon securities underwriters by Section 11 and 12 of the 1933 Securities Act, it seems inappropriate to saddle the underwriter with the entire burden to discover pre-offering fraud, especially in light of its dual roles, as well as its status as a dependent gatekeeper. Where fraudulent activity is so well concealed by perpetrators that even sophisticated parties such as pre-IPO private equity investors, auditors, SROs, and perhaps even federal regulators, do not uncover material facts of the fraud, underwriting firms, absent active involvement in concealing fraud, cannot be reasonably construed as culpable, and perhaps not even liable, for losses connected to and caused by the well concealed schemes of an issuer and its executives.