I almost got involved in a ponzi scheme. The only reason I didn’t end up losing a lot of money was sheer luck.
The deal sounded great. It addressed my major pain point and I knew lots of people who were investing in the deal. So I tried to get in as well. The timing just didn’t work out. I felt like I missed the boat.
Instead, I avoided being on the titanic. The SEC shut down the deal in May [1]. People I know lost a lot of money,
A couple of things that I learnt from that close call:
- Don’t skimp on due diligence. I figured since people I trusted were already involved, I didn’t need to spend as much time vetting the deal. Wrong! Always take the time to do your due diligence, even on deals that have been vetted by others. What they see and look for is likely different than what you are looking at. Talk to them. Use them as a resource. But do your own due diligence, don’t be lazy.
- Ask the dumb questions. Get information that can be easily verified and check to make sure they know the basic information about the deal. If they say they have a patent, get the number and check it with the patent office. If they say they have a big customer, find out who it is. If they say they are shipping products, ask how many, how long it takes to create product, etc. If they are renting units, ask about vacancy rates, make ready times / costs, etc. If they are planning a value add, ask if they have the contractors lined up and if the estimates are based on actual bids. These are things that they should know or be able to easily find out.
- Ask to see the books. You aren’t an accountant and don’t want to question every line item. But if the business has been operating for a while, there should be money coming in from the customers and going to expenses and distributions to shareholders. If they say they are delivering products, ask for the invoices; if they are renting units, ask for the rent roll. Then look for the corresponding entries in the books. If there isn’t money coming in, that is a big red flag. If something doesn’t make sense, ask about it. Keep an open mind, but don’t be brushed off. They aren’t going to give you direct access to their bank account, but they should be able to give you a copy of the statements,
- Visit the site if at all possible. Both the main headquarters and wherever the business happens (assuming they are different). Does the location make sense? If they say they are shipping products, are there trucks going in and out? If not, why not? If they say they are doing a value add, where are the before and after units? Do they have the staff they say they do? If they are supposed to have a staff of 30 and the office has 2 desks that are both empty, where are the people?
- Talk to the customer. Who is using the product – is it other businesses or consumers? Can you call them and see what their customer support is like? If they say they have a contract with a business, ask to see it. And ideally follow up with whomever signed the contract to make sure they are happy. If they are renting units, talk to some of the tenants to see what is working and what isn’t.
- Don’t give in to FOMO. If it is really a good deal, you will have time to do your due diligence and still get in. Or get in on the next round. You need to be ready to act on short notice, since deals typically have short closing times, but you should always take the time to do the due diligence. Sometimes that means coming back on the second or third iteration instead of getting in on the ground floor. But listen to your instincts and don’t rush.
- Forgive yourself if you make a mistake. It happens. Sometimes, you can do all the due diligence in the world and you just get conned. Maybe you took a short cut. Maybe you were trying to help someone out. And maybe they were just running a really good con. It can happen to anyone. Don’t beat up on yourself. Assess the damages, learn the lessons, and move forward.
If the deal is legitimate, and the sponsor good, they will want to make sure you are comfortable with the deal and that you have all of the information you need. You will likely need to sign an NDA to get access to some of the information. Sometimes the information isn’t going to be available – like if they are just setting up the business for the first time, they aren’t going to have books to share with you. And sometimes you aren’t going to be able to contact everyone – for example, you may not be able to talk to customers directly. But ask the questions and see what the answers are.
If the sponsor pushes back, doesn’t provide good answers, or otherwise isn’t focused on ensuring that you have the information you need to make a well informed decision, then don’t do the deal. It’s ok. There will always be other opportunities that come along.
Even if the deal is legitimate, you don’t want to be in a situation where you are working with a sponsor who doesn’t take the time to make sure that you are an informed investor. That implies that they are more interested in making the deal work than building a strong relationship with you. And that isn’t good in the long term.
And always try to have empathy. For yourself if you make mistakes. And for others who might be caught up in a bad situation.
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This article is my opinion only, it is not legal, tax, or financial advice. Always do your own research and due diligence. Always consult your lawyer for legal advice, CPA for tax advice, and financial advisor for financial advice.