MICROCAP FRAUD
AND RED FLAGS?
Many of the microcap companies that don't file
reports with the SEC are legitimate businesses with real
products or services. But the lack of reliable, readily
available information about some microcap companies can open the
door to fraud. It's easier for fraudsters to manipulate a stock
when there's little or no information about the
company.
MICROCAP FRAUD DEPENDS ON
SPREADING FALSE INFORMATION
E-mail Spam
Fraudsters
distribute junk e-mail or spam over the Internet
to spread false information quickly and cheaply about a
microcap company to thousands of potential investors. Spam
allows the unscrupulous to target many more potential
investors than cold calling or mass mailing.
Internet Fraud
Fraudsters often use aliases on Internet bulletin boards and
chat rooms to hide their identities and post messages urging
investors to buy stock in microcap companies based on
supposedly inside information about impending
developments at the companies.
Paid Promoters
Some
microcap companies pay stock promoters to recommend the microcap stock in supposedly
independent and unbiased investment newsletters, research
reports, or radio and television shows. Paid promoters are
generally behind the unsolicited junk faxes you
may receive, touting a microcap company. The federal
securities laws require the newsletters to disclose who paid
them, the amount, and the type of payment.
Boiler Rooms and Cold
Calling
Dishonest brokers set up boiler rooms where a small army of high-pressure
salespeople use banks of telephones to make cold calls to as
many potential investors as possible. These strangers hound
investors to buy "house stocks" — stocks that
the firm buys or sells as a market maker or has in its
inventory.
Questionable Press Releases
Fraudsters often issue press releases that contain
exaggerations or lies about the microcap company's sales,
acquisitions, revenue projections, or new products or
services. These fraudulent press releases are then
disseminated through legitimate financial news portals on
the Internet.
MICROCAP FRAUD SCHEMES TAKE A
VARIETY OF FORMS
The Classic Pump and Dump
Scheme
It's common to see messages on the
Internet that urge readers to buy a stock quickly or to sell
before the price goes down, or a telemarketer will call using
the same pitch. Often the promoters will claim to have
"inside" information about an development or
to use an "infallible" combination of economic and
stock market data to pick stocks. In reality, they may be
company insiders or paid promoters who stand to gain by selling
their shares after the stock price is pumped up by the buying
frenzy they create.
Latest Variation of the
Pump and
Dump Scheme
Some people are finding that they have
received a "misdialed" call from a stranger, leaving a
"hot" investment tip for a friend. The message is
designed to sound as if the speaker didn't realize that he or
she was leaving the hot tip on the wrong answering machine. If
you get a message like this, it's not a wrong number at all.
Instead, it is from someone who is being paid to leave these
messages. Check out Wrong
Numbers and Stock Tips on Your Answering Machine for
more information and to hear one of these scams.
The Off-Shore Scam
Under a
rule known as "Regulation S," companies do not have to
register stock they sell outside the United States to foreign or
"off-shore" investors. In the typical off-shore scam,
an unscrupulous microcap company sells unregistered Reg S stock
at a deep discount to fraudsters posing as foreign investors.
These fraudsters then sell the stock to U.S. investors at
inflated prices, pocketing huge profits that they share with the
microcap company insiders. The flood of unregistered stock into
the U.S. eventually causes the price to plummet, leaving
unsuspecting U.S. investors with enormous losses.
Caution
If you've been asked to invest in a company but you can't find any record that
the company has registered its securities with the SEC or your
state, or that it's exempt from registration, call or write your
state's securities regulator or the SEC immediately with all the
details. You may have come face to face with a scam.
WATCH OUT FOR THESE RED FLAGS
SEC Trading Suspensions
The SEC has the power to suspend trading in any stock for up
to 10 days when it believes that information about the
company is inaccurate or unreliable. Think twice before
investing in a company that's been the subject of an SEC
trading suspension.
High Pressure Sales Tactics
Beware of brokers who pressure you to buy before you have a
chance to think about and investigate the opportunity. Dishonest brokers may try to tell
you about a once-in-a-lifetime opportunity or
one that's based on inside or confidential information. Don't fall for brokers
who promise spectacular profits or "guaranteed"
returns. These are the hallmarks of fraud.
Assets Are Large But Revenues Are Small
Microcap companies sometimes assign high values on their
financial statements to assets that have nothing to do with
their business. Find out whether there's a valid explanation
for low revenues, especially when the company claims to have
large assets.
Odd Items in the Footnotes to the
Financial Statements
Many microcap fraud
schemes involve unusual transactions among individuals
connected to the company. These can be unusual loans or the
exchange of questionable assets for company stock that may
be discussed in the footnotes.
Unusual Auditing Issues
Be wary when a company's auditors have refused to certify
the company's statements or if they've stated that
the company may not have enough money to operate.
Question any change of accountants.
Insiders Own Large Amounts of the Stock
In many microcap fraud cases , the company's officers and promoters
own significant amounts of the stock. When one person or
group controls most of the stock, they can more easily
manipulate the stock's price at your expense. You can ask
your broker or the company whether one person or group
controls most of the company's stock, but if the company is
the subject of a scam, you may not get an honest answer.
Additional Red Flags
Don't
deal with brokers who refuse to provide you with written
information about the investments they're promoting. Never tell
a cold caller your social security number or numbers for your
banking and securities accounts. Be extra wary if someone
you don't know and trust recommends foreign investments.
