One of the most common and most successful scams comes in a variety of forms. Unscrupulous brokers, investors and venture capitalists offer to find investors for a small business, or offer guidance and direction toward an Initial Public Offering or SCOR, only to charge thousands of dollars in upfront fees. When the money doesn't roll in as promised, whatever funds have been raised generally fall out of escrow and are returned to the investors. The only party sustaining any serious loss is the business owner.
What many entrepreneurs fail to realize, says David Newton, an economics and business professor specializing in entrepreneurship at Westmont College in Santa Barbara, California, is that many of the underwriters approaching them agree to work only on a "best efforts" basis. In other words, they are under no obligation to produce any investors or capital in return for the fees they charge. They simply promise to make a stab at doing so.
"It's almost like having your stock out there on consignment," Newton says. "The big question comes down to what constitutes a best effort. Most of the [unscrupulous investment firms who use this practice as a con game] probably don't have any intention or ability to sell an entire inventory of stock, but they collect management fees or other fees on a best-efforts offer." Legal fees and document processing fees are among the types of charges billed.
The best way to avoid such losses is to thoroughly check any unknown party offering such services, usually through your state's securities oversight authority. "You're giving them your hard-earned capital, which is at a premium," says Philip Rutledge, deputy chief counsel for the Pennsylvania Securities Commission. "Before you part with it, you want to see them do somersaults." Be warned: Some con artists are already prepared for such a background check, Rutledge says, providing phony public relations companies that will give you fraudulent letters of reference. Protecting yourself against such a practice is difficult, hence his advice: Use only agents who are known to you through others.