Self Preservation From Financial ScamsWhilst at lunch this week with a friend in the European Parliament we were discussing this newsletter. He suggested that I focus a little more on the things that the average person is in contact with daily. To that end, we then discussed financial scams (he had been approached by what I am certain was a fake investment a few weeks earlier and I had advised against it). Therefore, this month I am going to take a little time to try and explain the workings of a financial scam in the hope that you will not fall victim in the future. The Pump and Dump? My friend had been contacted by a stockbroker in Florida, USA. The broker was selling shares in a start up venture. The main assets of the firm, as far as I could tell, were a few Limited companies. One was in the UK and another in Sweden. The aim of the company was to procure government contracts worldwide for the clearing of land mines. This company had made a huge breakthrough in land mine clearing technology. I am sure you, like I, have seen the TV footage of mines being cleared. It is a painfully slow process which is highly dangerous to the people clearing the mines. This new venture had it all mapped out. They would be able to clear 50,000 acres each day with just one machine! They had armour plated a JCB digger and were simply going to drive over the mines and let them explode. Pure genius! Why had this not been thought up before? I have never seen a minefield. Thankfully. I don't plan to either! So it ought to be said that I am no expert on land mine technology. However, too many things about this 'investment opportunity' seemed fishy to me. Firstly, all of the web site links I used seemed very poor. I mean really poor. We all know that these days a pretty decent web site can be put together for an acceptable cost. For a company trying to raise finance, it is a must have. And, they were next to invisible. Google didn't list them! Equally, the stockbroker had a dreadful website, almost as poor as the first. This did not build my confidence. Can you imagine a broker like Charles Schwab having a bad website? Of course not. Even a bad company should be able to produce an ok website. Secondly, there were minimum investment limits. This is very unusual. The shares were US$4 each and could only be bought in lots of 10,000 meaning a $40,000 minimum investment. If you or I were trying to raise finance, would we not also target investors with perhaps $10-20,000 as well? Thirdly, you would be a direct investor in the UK Limited company. This means that your investment IS NOT quoted on any stock exchange and will be highly illiquid. So, should you decide to sell your 'shares' it might well prove to be impossible. You may or may not be aware of this, but a UK Limited Company can have a maximum of just 20 shareholders. Just 20 of you sounds far more risky doesn't it. I could go on. There were a dozen or so things that I was concerned about. The last point I will make though seemed just sloppy to me. The pictures of these armour plated JCB diggers did not seem quite right. They had no armour for those enormous tyres! How many members of staff might die trying to change the wheel of a JCB digger with a flat (and probably shredded) tyre in the middle of a mine field? Why did I call this a pump and dump? I don't know for certain that this was a fraudulent investment. They might be very genuine for all I know. What I do know is that the structure was highly unusual and as an investor it was exceptionally high risk. There would be no safety net. If I presume for a moment that I am correct in my judgement, the plan is highly profitable. You can buy a UK Limited company for around £50 online. If you can find 20 people to pay $40,000 each to be an investor, and there is no company, you just sold your £50 business very profitably. Since you are going to the trouble of doing this, why not establish three or four companies. Eighty lots of $40,000 seems better still! If the firm was quoted on a stock exchange, it becomes even easier to sell the shares. As you (the stockbroker) find more buyers, the share price rises. People will see a rising price in their daily paper and be more interested to hear the sales pitch. Sooner or later, the shares will all be sold, the broker will move on to other things and the price will plummet (as there is no market for them). The investor is left with worthless shares in a highly suspect company. If you would like to understand this a little better, might I recommend the film 'Boiler Room' to you. Don't worry, it is a good watch and has Ben Affleck and Vin Diesel in supporting roles. I ought to point out that this is illegal in America. However, as you are probably aware, American laws are different from state to state. This means that parts of this scam will be legal in parts of America. Of course, if you target investors that are neither in America nor American citizens, and offer shares in a company that also is not American, you can probably see how difficult to regulate this really is. Now it is fair to assume that I am not like the average investor. I want to see forecasts. I want to see profit and loss accounts, earnings per share and return on equity figures. Risk and reward, regulation and more. I want to understand and judge for myself the merits of an investment relative to other ideas. Most people however, do not want to be bothered by this. This is why schemes like this work and will continue to work. To ensure your financial self preservation, all you need do is be interested and ask common sense questions of yourself and the broker. * This was published in May 2004 * To read more articles about financial scams and frauds, please also visit:
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