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Spotting Red Flags in Crowdfunding Schemes

Know these warning signs before you get cheated of your money

 

This article first appeared Lets Crowd Smarter

Another failed crowdfunding scheme – First Asia Alliance. How can investors tell the difference between the legitimate crowdfunding platforms and the fly-by-night operators? One way is to watch out for red flags. Here, we show you four red flags in the First Asia Alliance case.

“One of the pioneers” in crowdfunding. Really?

But first, let’s review the key facts of First Asia Alliance, the latest failed crowdfunding platform.

The Straits Times reported that a number schemes marketed by the firm failed to repay investors. At least eight investors invested some $665,000 into four investee firms. The interviewed investors were aged between 50 and 80 and had each invested around $100k. Police reports were filed.

Physical checks on the premises of the investee firms showed no sign of activity. An ACRA check showed that First Asia Alliance’s sole shareholder, Joel Lam, is also involved in several investee firms.  Mr. Lam was declared bankrupt in January last year and remains an undischarged bankrupt as of July.

First Asia Alliance is not licensed nor regulated by authorities and was placed on the MAS Investor Alert List in April.

Where are the red flags?

If you have spotted several red flags in the above, well done! You won’t fall for such a scheme. Unfortunately, many others didn’t notice the red flags.

We in the Let’s Crowd Smarter Team conduct our own research and invest our own money in legitimate crowdfunding schemes. We have seen enough scams and nonsense. For the benefit of all investors, we’ll go through several red flags that investors should watch out for.

Red flag 1: Nobody knows who they are

Novice investors should always stay with more established crowdfunding platforms and avoid the relatively unknown ones.

We’re not saying that all lesser known crowdfunding platforms are dodgy. We know of several well-running platforms that shun the limelight.

Unfortunately, there is also a large number of dodgy platform companies lurking below the surface. These companies are secretive and don’t like publicity.

Think about it. If a crowdfunding platform is legitimate and growing, it will need to market itself through newspapers (Straits Times, Business Times), magazines (the Edge), digital publishers (e27, TechInAsia) or industry blogs like ours. In the process, journalists will ask questions to assess their credibility of the crowdfunding platforms.

On the other hand, dodgy crowdfunding platforms avoid the media because they don’t want questions. Nobody, except themselves, really know where the money is coming from or going to.

So if you come across an unknown crowdfunding platform asking for money, you should always be extra careful.

Read Also: 3 Alternatives To A Dividend Portfolio

Red flag 2: Dodgy platforms love ‘dumb money’

Watch out when fellow investors are unsophisticated. Sharks on the other side usually call that ‘dumb money’.

In the First Asia Alliance case, several investment schemes already don’t pass the first smell test. Mushroom farming in Singapore, really? Wholesale trading of bags – who will you be selling the goods to and what margins can you earn?

Then, the age profile indicates a big risk mismatch. Several of the investors are aged 70+. Is crowdfunding suitable for them? Are they investing with their retirement funds? Do these aged investors really understand the intricacies of crowdfunding?

Clearly, something is very wrong here.

Whenever we see anyone eagerly marketing a risky investment product to unsophisticated, older investors, it reminds us of the Lehman minibonds saga.

Dodgy platforms love dumb money for a simple reason – they can’t get money from smart, sophisticated investors.

Red flag 3: Dodgy platforms want big sums of money quickly

Crowdfunding means raising small amounts of money from a big group of people. Watch out when any platforms do the reverse: raising big amounts of money from a small group of people.

Crowdfunding is powerful precisely because of the crowd. Because people talk, anything that is fishy will come to light quickly. This forces the platforms and the borrowers to be on their best behaviour, or else suffer a backlash.

When the crowd is not there, there is less protection for investors.

Now think from the opposite perspective. If you want a quick scam, would you rather scam 20 or 200 investors? Would you ask 20 investors to put in large sums of money or 200 investors to put in a small amount each?

Several investors with First Asia Alliance put in $100k behind a single investment. This is very risky.

A better approach is to start small. Put in a small amount of money and observe the platform over time. Increase the investment sum only when you become more confident of the platform’s ability to manage risk.

Red flag 4: Dodgy platforms may be self-dealing

Watch out if the crowdfunding platform is also directly involved in the investee companies. This can be an indication of self-dealing.

First Asia Alliance is asking investors to invest in companies such as Merx and US Invest. But the sole shareholder and director of First Asia Alliance, Joel Lam, is also a shareholder in Merx and US Invest.

If you think this looks unusual, you are right. This is known as a related party transaction and it should be watched very, very carefully.

In a typical crowdfunding transaction, the platform usually does due diligence on the deals they are marketing.

But if both the crowdfunding platform and the investee companies are controlled by the same person, would the due diligence be rigorous enough? One may even argue that the crowdfunding platform is nothing but a front to channel money into the investee companies.

Such tricks are hard to detect. But any investor investing $100k should at least comb through all the relevant ACRA documents.

In fact, the Let’s Crowd Smarter Team recently dug deeper into another crowdfunding platform and saw the same trick. The crowdfunding platform is directly related to its investee companies, contrary to the representations made to investors.

We may be too suspicious and there could be nothing wrong. But we prefer not to take any chances. Corporate intrigue is just not for us.

Read Also: 3 Ways Companies’ Financial Statements Could Be Manipulated To Attract Investors

What other red flags have you seen before?

Some frauds can be difficult to detect. But there are usually some giveaways. We’ve highlighted four red flags in the First Asia Alliance case. What other red flags have you seen before? Do share with us!

Lets Crowd Smarter is a digital publication about crowdfunding and investing in Singapore and Asia

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