Ponzi schemes have been with us since time began. They did not earn that name until Charles Ponzi decided that defrauding people was easier than working for a living. In January 1920 he set up company that offered to double a customer’s money in 90 days. As with all Ponzi schemes the early “investors” were paid their incredibly high returns through the “investments” of later customers. In the meantime Ponzi used the principal to fund his high-flying lifestyle.
These schemes only work because customers believe the criminal’s promise and receive “interest” on their investment. Of course, this “interest” is just the money invested by others. If customers took out their investment principal along with the interest the scheme would immediately collapse. To prevent this, operators of Ponzi schemes actively discourage withdrawals pressuring the customer to leave the funds invested or risk never being allowed in again. This last point enhances the greed of the customer who often agrees to leave the principal intact.
Ponzi’s scheme did not last long and collapsed in August 1920. Recent ones seem to last longer since they can be “marketed” to more people via social media, robocalls and other channels. Bernie Madoff’s scheme lasted at least 20 years.
This link goes to a Google Slides presentation I created. It demonstrates how a fictitious Ponzi scheme works and why most investors get only a fraction, if any, of their investment back.
To avoid a Ponzi scheme here are 3 things to remember.
First, it will promise a return much higher than any normal investment that you may be aware of. Ponzi was offering a 100% return over 90 days when banks then were offering 5% on bank accounts. A recent prosecution in NC described a scheme where the fraudster was promising returns of over 70%. While the idea of getting a higher return is attractive it should start an alarm bell in your head. How does this investment work, how can it create such a return and why am I being offered it? Research is needed before you invest.
Second, FOMO (fear of missing out). Remember that these fraudsters are con men (and women) with a natural ability to read their victims and manipulate emotions. They will pressure you into agreeing to invest before you can think about it. If it is a legitimate offer some form of it will be available in the future. Take your time before committing.
Third, verify the person or organization independently. Ponzi schemes are convincing because fraudsters provide realistic looking statements and documents that purport to show the balances you have and the returns you are earning. Ask the Better Business Bureau and Chamber of Commerce about the company. If the suspect company provides a financial statement to show their “financial strength” contact the accounting firm to verify that it is legitimate. The person selling you on the investment may have some letters behind their name on business cards or online. Check out these certifications with the organization that grants them to ensure the individual is legitimate and in good standing. For all of these verifications, do not use the phone numbers provided by the company you suspect but find how to contact these organizations (BBB, Chamber of Commerce, accounting firm, etc) independently online.
After doing these verifications you may still have questions. If so, work with an attorney, accountant or a fraud examiner to discuss the offer and help decide whether it may be legitimate or a fraud.
These schemes work and continue because the fraudster can manipulate his victims to suspend their natural skepticism and trust his or her lies. Don’t be that person. Verify and remember that if an offer is too good to be true, it is probably not true.
If your company has been a victim of fraud let me know if you are willing to discuss it with me. It would be helpful to other entrepreneurs to hear about real life examples of fraud, loss and recovery.