Fraudulent startup claims

I wrote about the Securities and Exchange Commission’s (SEC) approval of Title III of the JOBS act a few days ago. Basically, the new rules which are currently in a 90 day commenting period allow non-accredited investors including those with less than $100K in annual income to invest in startups. I concluded the piece by stating that, for non-accredited investors, “investing 10-20% of your annual savings in illiquid startups with low success rates while competing with professional investors who do the same for a living is a very risky game.”

In addition to the challenge of competing with professional investors for the best startups, another important risk for non-accredited investors is the potential for fraudulent representations made by startups. Startups are private companies that hold the potential for mouth-watering returns but have no obligation to share a standardized and externally verified set of information. Often, the potential for these returns can tempt investors to forgo proper due diligence on a startup’s claims. This piece shows many examples of such fraudulent claims.

Even professional investors have a tough time getting comprehensive and accurate information about a startup before investing. While we perform reference checks on a startup’s founders, and financial and legal due diligence on a startup’s operating history before investing, it’s physically not possible to fact check every piece of information that a startup shares. With a portfolio of over 60 companies, it’s statistically likely that there are pieces of material information about our startups that may have impacted our investment decision that we don’t know about.┬áThis risk is exacerbated for non-professional investors who have less time to vet each startup.