The Sting
Desperate entrepreneurs are easy marks for con men posing as venture capitalists. Here's the story of one business owner who was duped by phony investors.
Business owners today have access to more capital sources than ever before--which is why, ironically, they're more likely than ever to be conned out of the last cash they have. Here is one victim's story
The man from Atlanta speaks quietly as he tells how desperately he wishes he could take back the last two years of his life. In those two years he lost $400,000, a 37-foot boat, a beach house, and the respect of his friends and colleagues. What's worst, though, is that his once-vivid dream of starting up a company to recycle rubber tires into carbon, oil, and steel--a dream into which he had already sunk $500,000--has faded into gray twilight. And the exuberance and entrepreneurial spirit he once brought to his work as the founder and owner of a successful surgical-devices company have been replaced by a cool circumspection.
"After getting burned so bad, my hand doesn't reach out to shake another's so fast anymore," he says. "It's been a humbling experience."
The experience he's referring to is fraud--a kind of fraud that targets capital-hungry entrepreneurs, variously referred to as advance-fee fraud, prime-bank-instrument fraud, or venture-capital fraud. Its victims pay up-front fees--ranging from $45,000 to $2 million--to supposed investors and syndicators in return for promises of capital infusions as large as $50 million. Art Wilson, owner of a gypsum-mining company in Carson City, Nev., ponied up $300,000 for a deal that was supposed to net him $10 million. Michael Crow, an Alabama lawyer seeking capital to invest in a U.K. real estate venture, paid $250,000 in advance fees. The business owner in Atlanta, who refuses to allow us to print his name while he attempts to rebuild his life and reputation, paid even more.
What those eventual victims have in common is that no capital ever materialized and their money is irretrievably gone--forfeited, the con artists would say, when the victims failed to honor their side of what turned out to be an illegal and impossible-to-meet bargain.
S. Lin Kuo, assistant director of the Commercial Crime Bureau of the International Chamber of Commerce, in London, says that although a precise figure is difficult to determine because victims are reluctant to report having been taken, such scams will rake in more than $1 billion globally this year alone. "It's proliferating," says Kuo, "and there's no end in sight." This past May, after three years of investigation, the U.S. Customs Service and the Federal Bureau of Investigation announced the indictment of 8 individuals allegedly involved in the con ring that snagged Art Wilson. The number indicted in that case now totals 12. (To get an idea of the reach of just one ring, consider this: federal agents say that one of the leaders of the ring with which Wilson dealt had a database of 3,502 "client" names in his computer when it was seized.)
Company builders have always been unusually vulnerable to advance-fee type fraud, notes Harvard Business School professor Josh Lerner. Hell-bent on moving their pet projects forward, he says, "they can get so caught up in emotions that they are blinded to these traps." But two features of the changing capital-distribution landscape are combining to make entrepreneurs more vulnerable than ever.
One, paradoxically, is the sheer profusion of moneyed investors and the legitimate capital channels through which their cash is moved (such as traditional venture funds, private placements, less-formal "angel" deals, banks, and "nonbank" banks such as credit-card companies and brokerage houses). "There's a huge amount of money sloshing around out there," says Wendell E. Dunn III, executive director of the Batten Center for Entrepreneurial Leadership at the Darden School of the University of Virginia. "More individuals are investing, pension funds are investing, and foreign investors and corporations have come into the market." The trouble is, with profusion comes confusion--especially where secretive private deals are concerned.
That fragmentation of capital sources and the understandable confusion about them has bred another feature that makes fraud easier to pull off than before: the proliferation of brokers who help capital seekers sort through the chaos and match up with investors. While it's important to note that no legitimate broker operates precisely as the fraud artists do (see "A Fool and His Money," below), the practices of each can seem disarmingly similar even to accomplished business veterans. And it's in the shadows of legitimate brokering that the fraud perpetrators find their marks.
So how does one spot the illegitimates? How, exactly, does the con game work?
Until now, the methods of the fraud artists have been hard to discover. Of the dozen scam victims contacted for this article, few were willing to speak on the record about their experience. Some hastily hung up; others, such as Wilson, provided only vague details. For these small-business owners and entrepreneurs, losing tens of thousands of dollars of both their own and other people's money in a fraud scheme was, in the words of one, "excruciatingly embarrassing and humiliating." They do not feel they can afford to be publicly identified as victims of a scam. But the recent arrests and the legal proceedings that followed have opened a window into the mechanics of this growing swindle. And one particular victim, a 51-year-old Texan whom we'll call Paul Shearer, agreed to give Inc. unlimited access to his tale--and the individuals and documents related to it--in return for the use of an alias in print. [Editor's note: Other facts in this article are unchanged and have been obtained in the course of three dozen interviews with law-enforcement and banking officials, other victims, prosecutors, perpetrators, and peripheral participants in the events described, as well as by reviewing legal records.] In a dozen conversations over two months, Shearer revealed just how easy it was to be duped for some $700,000.
What's more, the way the Shearer con unfolded illuminates something about the entrepreneurial mind-set, underscoring not only the creativity and the passion but also the sheer desperation that can blind even the most astute businessperson in the face of his or her last best chance of realizing a dream. As Dunn puts it, "When entrepreneurs abandon their judgment, they become allies of their victimizers."
