Mo Lidsky's Blog
March 2, 2020
RAPE, PLUNDER AND LOOT: THE STORY OF THE FUGITIVE FINANCIER
Robert Lee Vesco was determined that his humble beginnings would not define him. Born to a Detroit autoworker in 1935, he lied about his age to begin working at an auto repair shop at age fifteen and then enrolled in night school to become an engineer. From there, he moved to New Jersey to work at a machine tool plant, eventually taking it over when it went bankrupt and dropping out of school to focus on promoting his business. In 1966, Vesco merged his defunct company with another equally unsuccessful enterprise to form a shell company named Cryogenics, which he referred to as a “fabulous moneymaking machine.” He began borrowing oodles of money and specialized in finding weak companies on which to perform hostile takeovers.
Within a few years, the now-renamed International Controls Corp. (ICC) had sales of over $100 million, profits of $4.7 million and was a publicly traded company with over $40 million in shareholder equity. Most of the earnings came from a California manufacturing company, which he acquired through significant legal trouble, that gave him a bad reputation and prevented ICC from truly taking off. While he had backing from Bank of America and Prudential Insurance Company, Vesco wanted more. He found “more” in the ruins of Bernie Cornfeld. Cornfeld was a celebrated playboy financier who, like Vesco, came from humble beginnings. Born in Turkey, he immigrated to the US with his parents at age three. He began his career as a socialist-leaning taxi driver before realizing that he enjoyed the conspicuous consumption of a flamboyant capitalist. Moving to France, he set up Investors Overseas Services (IOS), selling investment funds to US soldiers stationed abroad via door-to-door salesmen who offered soldiers $25-50 investments to help their families. His big attraction was his “Fund of Funds,” a mutual fund investment in other mutual funds. With mutual funds being extremely popular in the 1950s and ’60s, the idea of a “Fund of Funds” was very attractive to small investors and IOS soared.
Cornfeld’s operations expanded to target the general European public that was eager to get “in” on the American boom of the ’60s. By 1965, IOS trades made up five percent of all New York Stock Exchange trades. By 1969, Cornfeld had 13,000 salesmen and 750,000 customers in 110 countries. At the same time, he ran into serious trouble. The stock market had stagnated; sales were down, and over 20% of profits were needed to pay off long-term debt. Moreover, his operation was technically illegal, as the SEC required mutual funds to invest no more than three percent in other mutual funds.
Adding insult to injury, Cornfeld was being scammed himself. He had expected an upcoming downturn in the market and had invested $120 million in natural gas resources with a company led by former Republican congressman turned oil magnate John McCandish King. What Cornfeld didn’t know was that King was sending him resources at twice the price he sent to other customers, at times jacking up prices as much as ten times their actual value.
The combination of these three factors hit IOS hard. With their stock price down fifty percent and their headquarters in complete disarray, the board fired Cornfeld and began looking for a “white knight.” That prompted the thirty-four-year-old Vesco to take a June 1970 flight to Geneva to make his pitch.
Vesco presented well, with slicked back hair, long sideburns and a thick moustache that made him look like a reliably aggressive businessman. He mentioned to the board that he was backed by Bank of America and Prudential as prime lenders. However, when the board asked him if he had $5 million in cash on hand to lend, Vesco found himself in a bind. His Bank of America account only allowed him to withdraw $3 million. He contacted Butlers Bank, a small Bahamas-based bank with solvency issues due to a recent $9 million construction of an office building. Its chairman, Allan Butler, was as risky and ambitious as Vesco. Butler, a former ski captain who was managing a multitude of simultaneous businesses and by then already on his fourth wife, Shirley, was eager to make a buck. So he gladly lent Vesco the $5 million to present to IOS as his own. By August, they had an agreement and Vesco proceeded to take charge of the company while also buying out Cornfeld’s fifteen-percent share in IOS. Cornfeld had raised alarm bells about Vesco’s integrity and did everything he could to avoid selling to Vesco, but through a series of shells and subsidiaries, Cornfeld ended up selling it to Vesco anyway without realizing. With his hands firmly on the steering wheel of a completely dysfunctional company, Vesco put his mark on IOS fast. He began transferring IOS assets to companies that he owned without anyone catching on due to IOS’ continued dysfunctionality. To demonstrate his brash chutzpah, Vesco even considered setting up a company named RPL, an acronym for “Rape, Plunder and Loot” (he didn’t due to some investigations beginning by US authorities). Before anybody could say anything, IOS was suddenly short $224 million. The SEC turned to Vesco, but he was long gone. He fled to the Caribbean on a commercial flight, only leaving behind $200,000 to donate to President Richard Nixon’s 1972 re-election campaign in exchange for hopefully canceling the SEC investigation.
For a time, nobody quite knew where Vesco was. He resurfaced in Costa Rica, openly gallivanting around on his custom-made Boeing jet. Vesco’s bribe was unsuccessful and caused him to be subsequently indicted by the US Attorney General. He managed to obtain immunity in Costa Rica from then-leader Jose Maria Figueres in exchange for investing $13 million into the local economy and promises to invest $42 million more. Despite some half-hearted requests by the US for extradition, Vesco lived comfortably for a while, even arranging to have his yacht that was confiscated by US authorities stolen back from a Fort Lauderdale port. When Figueres was accused of harboring criminals, he merely shrugged it off and said, “I wish we had more Vescos.”
By 1978, however, he had worn out his welcome. A new leader had taken over Costa Rica and Vesco had founded a factory manufacturing weaponry that didn’t sit well with the locals. Jumping from Nicaragua to Bahamas and narrowly avoiding an FBI trap at Bahamas’ Nassau airport, Vesco was subject to an international manhunt that was followed closely by US news outlets. Fortune journalist Arthur Herzog wrote a long profile on him called “Stalking Robert Vesco” and eventually wrote his biography. Vesco even tried (unsuccessfully) establishing his own country in the Caribbean island of Antigua. Vesco forged a close relationship with the Libyan government, even attempting to bribe the Carter administration to sell them weapons. All the while, Vesco managed to retain much of his wealth, enough to appear on Forbes’ wealthiest in the world list.
Eventually, a urinary infection caused Vesco to find a place where he could receive healthcare, so he settled in Cuba where Fidel Castro claimed to accept him for “humanitarian reasons.” In truth, he was allowed there in exchange for lending his financial acumen to the Cuban government, which was then trying to stay afloat despite a heavy US embargo. Vesco was asked to help them turn Cuba’s Cayo Largo Island into a premiere tourist site. Growing a beard and passing himself off as Canadian citizen Tom Adams, he lived lavishly, chain-smoked and partied hard, all the while surrounding himself with an entourage of bodyguards and allegedly running a drug trafficking scheme, leading him to be named as the co-defendant in the trial against Florida drug dealer Carlos Lehder Rivas.
But Vesco made the capital mistake of “biting the hand that fed him,” as he claimed to produce a “wonder drug” to cure a variety of ailments from cancer to a regular cold, in the process defrauding Fidel Castro’s nephew, Antonio Fraga Castro. He was arrested shortly thereafter in 1995 and sentenced to thirteen years in prison. [Talk about snake oil treatments backfiring!] He was, however, released in 2005. According to friends, he lived quietly upon his release from prison, though he somehow managed to procure Italian citizenship in 2006 despite still being wanted by the US. Vesco died in November 2007, with his death only being discovered by the US five months later.
As for his IOS money, none of it was ever recovered, though Bernie Cornfeld and John McCandish King both served short jail stints for their roles in the company’s demise. Allan Butler, head of the bank that gave Vesco the $5 million to scam the IOS board with, was named as a co-defendant in the SEC lawsuit against Vesco.
* * *
To read more about this case as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
Within a few years, the now-renamed International Controls Corp. (ICC) had sales of over $100 million, profits of $4.7 million and was a publicly traded company with over $40 million in shareholder equity. Most of the earnings came from a California manufacturing company, which he acquired through significant legal trouble, that gave him a bad reputation and prevented ICC from truly taking off. While he had backing from Bank of America and Prudential Insurance Company, Vesco wanted more. He found “more” in the ruins of Bernie Cornfeld. Cornfeld was a celebrated playboy financier who, like Vesco, came from humble beginnings. Born in Turkey, he immigrated to the US with his parents at age three. He began his career as a socialist-leaning taxi driver before realizing that he enjoyed the conspicuous consumption of a flamboyant capitalist. Moving to France, he set up Investors Overseas Services (IOS), selling investment funds to US soldiers stationed abroad via door-to-door salesmen who offered soldiers $25-50 investments to help their families. His big attraction was his “Fund of Funds,” a mutual fund investment in other mutual funds. With mutual funds being extremely popular in the 1950s and ’60s, the idea of a “Fund of Funds” was very attractive to small investors and IOS soared.
Cornfeld’s operations expanded to target the general European public that was eager to get “in” on the American boom of the ’60s. By 1965, IOS trades made up five percent of all New York Stock Exchange trades. By 1969, Cornfeld had 13,000 salesmen and 750,000 customers in 110 countries. At the same time, he ran into serious trouble. The stock market had stagnated; sales were down, and over 20% of profits were needed to pay off long-term debt. Moreover, his operation was technically illegal, as the SEC required mutual funds to invest no more than three percent in other mutual funds.
Adding insult to injury, Cornfeld was being scammed himself. He had expected an upcoming downturn in the market and had invested $120 million in natural gas resources with a company led by former Republican congressman turned oil magnate John McCandish King. What Cornfeld didn’t know was that King was sending him resources at twice the price he sent to other customers, at times jacking up prices as much as ten times their actual value.
The combination of these three factors hit IOS hard. With their stock price down fifty percent and their headquarters in complete disarray, the board fired Cornfeld and began looking for a “white knight.” That prompted the thirty-four-year-old Vesco to take a June 1970 flight to Geneva to make his pitch.
Vesco presented well, with slicked back hair, long sideburns and a thick moustache that made him look like a reliably aggressive businessman. He mentioned to the board that he was backed by Bank of America and Prudential as prime lenders. However, when the board asked him if he had $5 million in cash on hand to lend, Vesco found himself in a bind. His Bank of America account only allowed him to withdraw $3 million. He contacted Butlers Bank, a small Bahamas-based bank with solvency issues due to a recent $9 million construction of an office building. Its chairman, Allan Butler, was as risky and ambitious as Vesco. Butler, a former ski captain who was managing a multitude of simultaneous businesses and by then already on his fourth wife, Shirley, was eager to make a buck. So he gladly lent Vesco the $5 million to present to IOS as his own. By August, they had an agreement and Vesco proceeded to take charge of the company while also buying out Cornfeld’s fifteen-percent share in IOS. Cornfeld had raised alarm bells about Vesco’s integrity and did everything he could to avoid selling to Vesco, but through a series of shells and subsidiaries, Cornfeld ended up selling it to Vesco anyway without realizing. With his hands firmly on the steering wheel of a completely dysfunctional company, Vesco put his mark on IOS fast. He began transferring IOS assets to companies that he owned without anyone catching on due to IOS’ continued dysfunctionality. To demonstrate his brash chutzpah, Vesco even considered setting up a company named RPL, an acronym for “Rape, Plunder and Loot” (he didn’t due to some investigations beginning by US authorities). Before anybody could say anything, IOS was suddenly short $224 million. The SEC turned to Vesco, but he was long gone. He fled to the Caribbean on a commercial flight, only leaving behind $200,000 to donate to President Richard Nixon’s 1972 re-election campaign in exchange for hopefully canceling the SEC investigation.
For a time, nobody quite knew where Vesco was. He resurfaced in Costa Rica, openly gallivanting around on his custom-made Boeing jet. Vesco’s bribe was unsuccessful and caused him to be subsequently indicted by the US Attorney General. He managed to obtain immunity in Costa Rica from then-leader Jose Maria Figueres in exchange for investing $13 million into the local economy and promises to invest $42 million more. Despite some half-hearted requests by the US for extradition, Vesco lived comfortably for a while, even arranging to have his yacht that was confiscated by US authorities stolen back from a Fort Lauderdale port. When Figueres was accused of harboring criminals, he merely shrugged it off and said, “I wish we had more Vescos.”
By 1978, however, he had worn out his welcome. A new leader had taken over Costa Rica and Vesco had founded a factory manufacturing weaponry that didn’t sit well with the locals. Jumping from Nicaragua to Bahamas and narrowly avoiding an FBI trap at Bahamas’ Nassau airport, Vesco was subject to an international manhunt that was followed closely by US news outlets. Fortune journalist Arthur Herzog wrote a long profile on him called “Stalking Robert Vesco” and eventually wrote his biography. Vesco even tried (unsuccessfully) establishing his own country in the Caribbean island of Antigua. Vesco forged a close relationship with the Libyan government, even attempting to bribe the Carter administration to sell them weapons. All the while, Vesco managed to retain much of his wealth, enough to appear on Forbes’ wealthiest in the world list.
Eventually, a urinary infection caused Vesco to find a place where he could receive healthcare, so he settled in Cuba where Fidel Castro claimed to accept him for “humanitarian reasons.” In truth, he was allowed there in exchange for lending his financial acumen to the Cuban government, which was then trying to stay afloat despite a heavy US embargo. Vesco was asked to help them turn Cuba’s Cayo Largo Island into a premiere tourist site. Growing a beard and passing himself off as Canadian citizen Tom Adams, he lived lavishly, chain-smoked and partied hard, all the while surrounding himself with an entourage of bodyguards and allegedly running a drug trafficking scheme, leading him to be named as the co-defendant in the trial against Florida drug dealer Carlos Lehder Rivas.
But Vesco made the capital mistake of “biting the hand that fed him,” as he claimed to produce a “wonder drug” to cure a variety of ailments from cancer to a regular cold, in the process defrauding Fidel Castro’s nephew, Antonio Fraga Castro. He was arrested shortly thereafter in 1995 and sentenced to thirteen years in prison. [Talk about snake oil treatments backfiring!] He was, however, released in 2005. According to friends, he lived quietly upon his release from prison, though he somehow managed to procure Italian citizenship in 2006 despite still being wanted by the US. Vesco died in November 2007, with his death only being discovered by the US five months later.
As for his IOS money, none of it was ever recovered, though Bernie Cornfeld and John McCandish King both served short jail stints for their roles in the company’s demise. Allan Butler, head of the bank that gave Vesco the $5 million to scam the IOS board with, was named as a co-defendant in the SEC lawsuit against Vesco.
* * *
To read more about this case as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
February 20, 2020
COMPUTER ASSOCIATES: CREATING THE 35-DAY MONTH
There was a time when IBM had a virtual monopoly on the hardware industry, but regulatory pressure clamped down, forcing them to start selling a wide range of products. It was then that an unlikely partnership formed between bombastic Chinese immigrant Charles Wang and a quiet programmer Russell Artzt.
At first, they began selling and developing IBM products with moderate success. Then they aimed higher. They formed a partnership with Swiss company Computer Associates to begin selling a data management product, CA-Sort, which had sold well in Europe but never quite made it in the US. Combining aggressive sales techniques with a “steal” of a product, Wang had great success and realized that for his company to thrive, all he needed to do was sell products, not develop them.
Wang proceeded to go on an acquisition binge that lasted decades. In the early 1980s alone, he spent over $60 million acquiring other companies and gaining the rights to sell their products, including dishing out $22 million for a Phoenix-based software company and $27 million for an early Silicon Valley start-up. After seeing the early success of this model, Wang continued to expand even more until 1989 when his company, now renamed Computer Associates (CA), became the first software company to earn more than a billion in annual revenues. Based in Long Island, it emerged as one of the most powerful corporations in the region, with some well-known Long Islanders serving on the company’s board, eventually paving the way for Wang to later purchase the local hockey team, the New York Islanders.
Through it all, CA was heavily criticized for its unsatisfactory customer service, as they would sell products but offer no way of updating, refining or evolving them, leaving their customers with products that would soon become obsolete and without any helpful service. Fortune magazine would later
describe CA as a “4 billion-dollar corporation run like a twenty-person start-up,” where the only thing that mattered was the sales department and how many sales it could push forward, with all other departments being essentially ignored. But who had time to care for the customers when Computer Associates was making so much money? It was this brash attitude that prompted Wang to attempt some hostile takeovers of other tech companies and in 1988, he was even sued for claims of bribery in a hostile bid to take over a computer consulting company. As the acquisition binge continued, Computer Associates made one acquisition that heavily changed the course of their existence. CA acquired UCCEL, originally a college start-up in Texas, for a sum of $800 million but even more important was their pickup of Sri Lankan immigrant Sanjay Kumar.
Kumar, who had fled Sri Lanka for South Carolina when he was just a teen, had advanced rapidly through the UCCEL system, despite having no college degree. At Computer Associates, he advanced even further and by 1993, Charles Wang’s older brother Tony Wang was forced to retire just to make room for Kumar on the board. Kumar then made his way up to CFO in the ’90s and, during that tenure, CA continued its success through buying more companies, including Platinum Technologies for $3.5 billion in what was then the software industry’s largest acquisition.
But as the end of the ’90s neared, Computer Associates faced a throng of negative publicity over ill-advised stock options. Wang, Kumar, and Artzt had taken stock options totaling $1.1 billion, an amount equal to the entire revenue of CA that year. Although some corporate greed is acceptable, this exorbitant amount was simply unprecedented. Now, CA didn’t just have unhappy customers; even shareholders were displeased. In the ensuing melee, Wang was forced out as CEO and he rechanneled his bombastic efforts to focus on running the New York Islanders, where his signature moves included firing a general manager after six weeks and replacing him with the backup goalie, along with dishing out (possibly) the worst sports contract in history, giving goalie Rick DiPietro a fifteen-year contract that lasted well beyond his playing years.
It came to the relief of many that Kumar was given full reign as CEO of CA. After all, while Wang’s pompous nature did a lot of good for the company, including its many acquisitions, his neglect of consumer and public relations left a black mark on the firm. With a wiry frame and sporting a thin moustache, Kumar projected an aura of serenity and promised to bring a calmer reign and “gold standard” to CA. He even managed to convince legendary former SEC accountant Walter P. Schuetze, an eventual member of the Accounting Hall of Fame, to join the board, which was previously comprised of insiders and members of the Wang family.
But if anybody thought Kumar was an improvement, they were markedly wrong. In a scheme that had preceded the stock option debacle, Kumar had already been cooking CA books for a few years. Conspiring with the head of sales, Stephen Richards, Kumar had been inflating CA revenues using the “35-day month.”
* * *
To learn more about the case as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
At first, they began selling and developing IBM products with moderate success. Then they aimed higher. They formed a partnership with Swiss company Computer Associates to begin selling a data management product, CA-Sort, which had sold well in Europe but never quite made it in the US. Combining aggressive sales techniques with a “steal” of a product, Wang had great success and realized that for his company to thrive, all he needed to do was sell products, not develop them.
Wang proceeded to go on an acquisition binge that lasted decades. In the early 1980s alone, he spent over $60 million acquiring other companies and gaining the rights to sell their products, including dishing out $22 million for a Phoenix-based software company and $27 million for an early Silicon Valley start-up. After seeing the early success of this model, Wang continued to expand even more until 1989 when his company, now renamed Computer Associates (CA), became the first software company to earn more than a billion in annual revenues. Based in Long Island, it emerged as one of the most powerful corporations in the region, with some well-known Long Islanders serving on the company’s board, eventually paving the way for Wang to later purchase the local hockey team, the New York Islanders.
Through it all, CA was heavily criticized for its unsatisfactory customer service, as they would sell products but offer no way of updating, refining or evolving them, leaving their customers with products that would soon become obsolete and without any helpful service. Fortune magazine would later
describe CA as a “4 billion-dollar corporation run like a twenty-person start-up,” where the only thing that mattered was the sales department and how many sales it could push forward, with all other departments being essentially ignored. But who had time to care for the customers when Computer Associates was making so much money? It was this brash attitude that prompted Wang to attempt some hostile takeovers of other tech companies and in 1988, he was even sued for claims of bribery in a hostile bid to take over a computer consulting company. As the acquisition binge continued, Computer Associates made one acquisition that heavily changed the course of their existence. CA acquired UCCEL, originally a college start-up in Texas, for a sum of $800 million but even more important was their pickup of Sri Lankan immigrant Sanjay Kumar.
Kumar, who had fled Sri Lanka for South Carolina when he was just a teen, had advanced rapidly through the UCCEL system, despite having no college degree. At Computer Associates, he advanced even further and by 1993, Charles Wang’s older brother Tony Wang was forced to retire just to make room for Kumar on the board. Kumar then made his way up to CFO in the ’90s and, during that tenure, CA continued its success through buying more companies, including Platinum Technologies for $3.5 billion in what was then the software industry’s largest acquisition.
But as the end of the ’90s neared, Computer Associates faced a throng of negative publicity over ill-advised stock options. Wang, Kumar, and Artzt had taken stock options totaling $1.1 billion, an amount equal to the entire revenue of CA that year. Although some corporate greed is acceptable, this exorbitant amount was simply unprecedented. Now, CA didn’t just have unhappy customers; even shareholders were displeased. In the ensuing melee, Wang was forced out as CEO and he rechanneled his bombastic efforts to focus on running the New York Islanders, where his signature moves included firing a general manager after six weeks and replacing him with the backup goalie, along with dishing out (possibly) the worst sports contract in history, giving goalie Rick DiPietro a fifteen-year contract that lasted well beyond his playing years.
It came to the relief of many that Kumar was given full reign as CEO of CA. After all, while Wang’s pompous nature did a lot of good for the company, including its many acquisitions, his neglect of consumer and public relations left a black mark on the firm. With a wiry frame and sporting a thin moustache, Kumar projected an aura of serenity and promised to bring a calmer reign and “gold standard” to CA. He even managed to convince legendary former SEC accountant Walter P. Schuetze, an eventual member of the Accounting Hall of Fame, to join the board, which was previously comprised of insiders and members of the Wang family.
But if anybody thought Kumar was an improvement, they were markedly wrong. In a scheme that had preceded the stock option debacle, Kumar had already been cooking CA books for a few years. Conspiring with the head of sales, Stephen Richards, Kumar had been inflating CA revenues using the “35-day month.”
* * *
To learn more about the case as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
January 30, 2020
SOVEREIGN PROMISES: SIR GREGOR MACGREGOR & THE DOMINION OF MELCHIZEDEK
Sir Gregor MacGregor is widely recognized as the creator of the “fake country” scam. Formerly a British general in Latin America, in 1822 the Scotsman MacGregor returned to England and began selling bonds and tracts of real estate in the country of Poyais. Claiming to be the “Cazique”—a local leader in Latin America—of Poyais, MacGregor started a publicity campaign, highlighting the marvels of Poyais, it’s astonishing infrastructure, the friendliness of its pro-British inhabitants and the opportunities for riches it presented. He established Poyaisian embassies in London, Edinburgh and Glasgow. He hired publicists and engaged journalists to drone on about its reliably magnificent weather patterns, its attractive topographic features and to aggressively promote a book on the country written by Captain Thomas Strangeways. Of course, he neglected to disclose that he authored the book under an alias, concocted its flag, currency, constitution, coat of arms and every other minute detail of this nation.
Eventually, Poyais penetrated England’s common consciousness. MacGregor proceeded to issue approximately £1.3 million worth (the equivalent of over $2 billion today) of Poyaisian bonds to investors; at the same time, he sold an undetermined number of acres to 500 people. Seven shiploads of people prepared to serve as the colonists of Poyais, and on September 10, 1822, the first ship of Poyais pioneers left everything behind to pursue their golden prospects in the land of Poyais. Of course, instead of finding the land of opportunity, they found a mosquito-infested barren forest and the majority of these pioneering colonists died of malaria and yellow fever. Fewer than fifty survived.
When word of MacGregor’s scheme reached London, he was arrested. Before trial, however, he escaped to Paris, where he attempted to recreate the legend of Poyais. He wasn’t nearly as successful and was arrested again. After being acquitted, he spent another ten years attempting to pull off smaller Poyais-related frauds. After those had fully run their course, he settled in Venezuela, where he was welcomed back as a war hero and eventually buried with military honors.
As is oftentimes the case, other fraudsters say the success of MacGregor’s scam and decided to follow suit. In today’s global world, where one can use Google Earth to see any place on Earth, one would think that such a scam would be hard to pull off. Unsurprisingly, gullibility still prevails. In fact, scammers have even used the internet to further such scams. One classic example is the Dominion of Melchizedek.
A 1991 Forbes article featured the story of convicted fraudster, Mark Pedley. Pedley had been convicted of mail and interstate fraud in 1983 for selling land he didn’t own in a Sacramento suburb, receiving three years imprisonment. He was convicted again in 1986, this time by a federal court in Boston, for a six-million-dollar peso conversion scam he conducted in 1982 and 1983. He was sentenced to eight years in prison and a $25,000 fine. But the public did not know this in 1990; when Mark was paroled again, he changed his name to Branch Vinedresser and founded the religiously inspired Dominion of Melchizedek (DoM).
The Dallas Observer quoted Pedley, describing DoM as an "ecclesiastical and constitutional sovereignty" founded on "the principles of the Melchizedek Bible," a revamped Christian Bible authored by Mark's father David. The elder Pedley was also a convicted fraudster who had supposedly died in a Mexican prison in 1987 (though the Washington Post reported that the Pedley family refused to allow FBI agents to fingerprint the corpse and agents believe that the death was probably faked).
…
To learn more about the case of Mark Pedley and the Dominion of Melchizedek (DoM) as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
Eventually, Poyais penetrated England’s common consciousness. MacGregor proceeded to issue approximately £1.3 million worth (the equivalent of over $2 billion today) of Poyaisian bonds to investors; at the same time, he sold an undetermined number of acres to 500 people. Seven shiploads of people prepared to serve as the colonists of Poyais, and on September 10, 1822, the first ship of Poyais pioneers left everything behind to pursue their golden prospects in the land of Poyais. Of course, instead of finding the land of opportunity, they found a mosquito-infested barren forest and the majority of these pioneering colonists died of malaria and yellow fever. Fewer than fifty survived.
When word of MacGregor’s scheme reached London, he was arrested. Before trial, however, he escaped to Paris, where he attempted to recreate the legend of Poyais. He wasn’t nearly as successful and was arrested again. After being acquitted, he spent another ten years attempting to pull off smaller Poyais-related frauds. After those had fully run their course, he settled in Venezuela, where he was welcomed back as a war hero and eventually buried with military honors.
As is oftentimes the case, other fraudsters say the success of MacGregor’s scam and decided to follow suit. In today’s global world, where one can use Google Earth to see any place on Earth, one would think that such a scam would be hard to pull off. Unsurprisingly, gullibility still prevails. In fact, scammers have even used the internet to further such scams. One classic example is the Dominion of Melchizedek.
A 1991 Forbes article featured the story of convicted fraudster, Mark Pedley. Pedley had been convicted of mail and interstate fraud in 1983 for selling land he didn’t own in a Sacramento suburb, receiving three years imprisonment. He was convicted again in 1986, this time by a federal court in Boston, for a six-million-dollar peso conversion scam he conducted in 1982 and 1983. He was sentenced to eight years in prison and a $25,000 fine. But the public did not know this in 1990; when Mark was paroled again, he changed his name to Branch Vinedresser and founded the religiously inspired Dominion of Melchizedek (DoM).
The Dallas Observer quoted Pedley, describing DoM as an "ecclesiastical and constitutional sovereignty" founded on "the principles of the Melchizedek Bible," a revamped Christian Bible authored by Mark's father David. The elder Pedley was also a convicted fraudster who had supposedly died in a Mexican prison in 1987 (though the Washington Post reported that the Pedley family refused to allow FBI agents to fingerprint the corpse and agents believe that the death was probably faked).
…
To learn more about the case of Mark Pedley and the Dominion of Melchizedek (DoM) as well as the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
January 28, 2020
How Ivar Kreuger’s Matches Set the SEC on Fire
Inthe 1920s, Ivar Kreuger was known as the Match King. He controlled ninety percent of the world’s match production and the stocks of his company, Kreuger and Toll, were the most-owned securities in America. He was also known as the savior of governments and a national status symbol in his homeland of Sweden, to whom Kreuger lent money in the post-World War I years. That is, until the Match King was exposed as a massive fraud and prompted some of the greatest changes in the field of accounting that we have today.
Ivar was born as the oldest of six children to Jenny and Ernst August Kreuger, a match entrepreneur living in Kalmar, Sweden. After taking private lessons for school and graduating two years early, the ambitious Ivar arrived in New York at the age of twenty and began his career as a construction engineer.
He returned to Sweden in 1913, taking over his father’s match company while also founding a construction engineering firm, Kreuger and Toll, with Paul Toll. He moved his match company into Kreuger and Toll and went on a buying spree purchasing other Swedish match companies. As Kreuger and Toll grew, they developed the ability to produce better matches at cheaper prices, putting their competition at an extreme disadvantage and forcing them to sell themselves to Kreuger. Before long, he had expanded through the rest of Europe. But Kreuger wasn’t satisfied with that. He wanted absolute monopolies, and World War I was his inspiration.
In the aftermath of the war, most European companies were in extreme debt, so Kreuger began lending massive amounts to governments, doling out a total of $253 million (the equivalent of over $3.2 billion in 2018). According to The Economist, he lent $125 million (over $1.5 billion in 2018 dollars) to Germany alone. In exchange, he received monopolies in fourteen countries and trading concessions in many others. However, Kreuger needed to finance these loans and even his match business couldn’t provide him with enough cash. Setting up the International Match Company (IMCO) in New York, he began selling shares of Kreuger and Toll on American stock markets and made his shares attractive by attaching twenty-percent dividends to them. But even as he made more loans for more monopolies, Kreuger needed to pay dividends to his growing number of shareholders and his match profits could not cover them.
That didn’t bother Kreuger though. He simply paid his shareholders from capital, oftentimes from the payments of subsequent investors, a typical pyramid scheme. People would press to see his financial statements and Kreuger would refuse, knowing that the enticement of twenty-percent dividends would make them buy the stock regardless. Audits were not mandatory for corporations at that time and many other companies employed similar levels of secrecy. Kreuger even brashly told an interviewer that his success was based on “silence, silence, and more silence.” In total, Kreuger raised about $150 million from American investors over a ten-year span, and IMCO’s share prices rose 1100% from 1923 to 1930.
Behind the scenes, Kreuger inflated the value of his assets, claiming $400 million in “other investments,” which, for the most part, didn’t exist. He also created Class A and Class B shares, where the voting rights were far more limited, allowing him to keep on selling stock while maintaining his control over IMCO. And in retaliation for Mussolini declining him a match monopoly, he forged $142 million in Italian government bonds that were barely worth the paper they were written on. Even when the market crashed in 1929, Kreuger’s stocks were still among the most widely held securities in the world.
As his operation grew, so did his persona. Hailed around the world for his government loans, Kreuger was given the French version of knighthood after giving a $75 million loan to France. He was on the cover of Time, visited the White House regularly, and served as an adviser and confidant to both President Hoover and King Gustav of Sweden. He received an honorary degree from Syracuse University and was so active at the League of Nations that he was suggested for a Nobel Peace Prize.
But even IMCO was beginning to feel the effects of the crash. Investors weren’t throwing in as much money as they used to, and Kreuger needed those investors to pay his dividends. Banks also began to wake up and told Kreuger that they were not “as completely informed about the company as they should be,” questioning his listings of “real-estate investments outside Sweden,” “other industrial shares,” and “loans secured by real-estate mortgages.” Kreuger kept a confident face, but inwardly, he was nervous. He tried merging one of his companies with International Telephone and Telegraph (ITT) to raise money, but ITT requested an external audit. Reluctantly, Kreuger complied, but the audit found gaps in his accounts. While some thought he’d survive due to his Italian bonds, Kreuger knew that he had forged them.
On March 12, 1932, Ivar Kreuger was found dead in what was largely believed to be a suicide (though some contend that he was murdered), and the still-ignorant public mourned the loss of a perceived hero. It took five years for Price Waterhouse to fully pour through his 400 companies and uncover the truth. They reported that Kreuger made a “gross misrepresentation” of his assets, and it was estimated that $750 million of his investor’s money was missing. Auditors knew that Kreuger had taken at least $100 million for himself, but as for the rest, they had no explanation. The fact that this transpired during the Great Depression only exacerbated its magnitude. In 1932 and 1933, five English books were published and over 300 New York Times articles had featured Kreuger.
But amid all the chaos and loss, there was one silver lining. As a result of Kreuger’s actions, America passed the Securities Acts of 1933 and 1934, which finally mandated corporations selling publicly traded securities to have an auditor.
—
To learn the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons fSelling Snake Oil: Investment Lessons from the World's Greatest Fraudsrom the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
Ivar was born as the oldest of six children to Jenny and Ernst August Kreuger, a match entrepreneur living in Kalmar, Sweden. After taking private lessons for school and graduating two years early, the ambitious Ivar arrived in New York at the age of twenty and began his career as a construction engineer.
He returned to Sweden in 1913, taking over his father’s match company while also founding a construction engineering firm, Kreuger and Toll, with Paul Toll. He moved his match company into Kreuger and Toll and went on a buying spree purchasing other Swedish match companies. As Kreuger and Toll grew, they developed the ability to produce better matches at cheaper prices, putting their competition at an extreme disadvantage and forcing them to sell themselves to Kreuger. Before long, he had expanded through the rest of Europe. But Kreuger wasn’t satisfied with that. He wanted absolute monopolies, and World War I was his inspiration.
In the aftermath of the war, most European companies were in extreme debt, so Kreuger began lending massive amounts to governments, doling out a total of $253 million (the equivalent of over $3.2 billion in 2018). According to The Economist, he lent $125 million (over $1.5 billion in 2018 dollars) to Germany alone. In exchange, he received monopolies in fourteen countries and trading concessions in many others. However, Kreuger needed to finance these loans and even his match business couldn’t provide him with enough cash. Setting up the International Match Company (IMCO) in New York, he began selling shares of Kreuger and Toll on American stock markets and made his shares attractive by attaching twenty-percent dividends to them. But even as he made more loans for more monopolies, Kreuger needed to pay dividends to his growing number of shareholders and his match profits could not cover them.
That didn’t bother Kreuger though. He simply paid his shareholders from capital, oftentimes from the payments of subsequent investors, a typical pyramid scheme. People would press to see his financial statements and Kreuger would refuse, knowing that the enticement of twenty-percent dividends would make them buy the stock regardless. Audits were not mandatory for corporations at that time and many other companies employed similar levels of secrecy. Kreuger even brashly told an interviewer that his success was based on “silence, silence, and more silence.” In total, Kreuger raised about $150 million from American investors over a ten-year span, and IMCO’s share prices rose 1100% from 1923 to 1930.
Behind the scenes, Kreuger inflated the value of his assets, claiming $400 million in “other investments,” which, for the most part, didn’t exist. He also created Class A and Class B shares, where the voting rights were far more limited, allowing him to keep on selling stock while maintaining his control over IMCO. And in retaliation for Mussolini declining him a match monopoly, he forged $142 million in Italian government bonds that were barely worth the paper they were written on. Even when the market crashed in 1929, Kreuger’s stocks were still among the most widely held securities in the world.
As his operation grew, so did his persona. Hailed around the world for his government loans, Kreuger was given the French version of knighthood after giving a $75 million loan to France. He was on the cover of Time, visited the White House regularly, and served as an adviser and confidant to both President Hoover and King Gustav of Sweden. He received an honorary degree from Syracuse University and was so active at the League of Nations that he was suggested for a Nobel Peace Prize.
But even IMCO was beginning to feel the effects of the crash. Investors weren’t throwing in as much money as they used to, and Kreuger needed those investors to pay his dividends. Banks also began to wake up and told Kreuger that they were not “as completely informed about the company as they should be,” questioning his listings of “real-estate investments outside Sweden,” “other industrial shares,” and “loans secured by real-estate mortgages.” Kreuger kept a confident face, but inwardly, he was nervous. He tried merging one of his companies with International Telephone and Telegraph (ITT) to raise money, but ITT requested an external audit. Reluctantly, Kreuger complied, but the audit found gaps in his accounts. While some thought he’d survive due to his Italian bonds, Kreuger knew that he had forged them.
On March 12, 1932, Ivar Kreuger was found dead in what was largely believed to be a suicide (though some contend that he was murdered), and the still-ignorant public mourned the loss of a perceived hero. It took five years for Price Waterhouse to fully pour through his 400 companies and uncover the truth. They reported that Kreuger made a “gross misrepresentation” of his assets, and it was estimated that $750 million of his investor’s money was missing. Auditors knew that Kreuger had taken at least $100 million for himself, but as for the rest, they had no explanation. The fact that this transpired during the Great Depression only exacerbated its magnitude. In 1932 and 1933, five English books were published and over 300 New York Times articles had featured Kreuger.
But amid all the chaos and loss, there was one silver lining. As a result of Kreuger’s actions, America passed the Securities Acts of 1933 and 1934, which finally mandated corporations selling publicly traded securities to have an auditor.
—
To learn the key takeaways from this case and best practices for investors, check out: Selling Snake Oil: Investment Lessons from the World’s Most Innovative Frauds. Please note that 100% of the proceeds from this book will be donated to the Prime Quadrant Foundation and the causes it supports.
About the Author: Mo Lidsky is the Chief Executive Officer at Prime Quadrant, Canada’s leading investment research and consulting firm. Mo is also the current Chairman of CAF Canada, the Prime Quadrant Foundation, and sits several the boards of several non-profit organizations including Hebrew University and Holland Bloorview Hospital. Aside from Selling Snake Oil: Investment Lessons fSelling Snake Oil: Investment Lessons from the World's Greatest Fraudsrom the World’s Greatest Frauds, Mo has authored or co-authored three additional books including, Partners in Preservation: How to Know Your Advisor Is Truly Protecting Your Wealth, In Search of the Prime Quadrant: The Quest for Better Investment Decisions, and The Philanthropic Mind: Surprising Discoveries from Canada’s Top Philanthropists. In recognition of Mo’s contributions to the community and leadership, Mo has been selected as the recipient of Canada’s Top 40 Under 40 Award. However, his greatest distinction continues to be his extraordinary wife and five adorable children.
January 15, 2020
The Irony of Fraud Detection
Selling Snake Oil: Investment Lessons from the World's Greatest Frauds
The other week I had the pleasure of officially launching my most recent book, Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds. It was a great evening, but for those that couldn’t make it, below were some highlights from the discussion.
When I started writing this book, I stumbled across the strange irony of fraud detection. Based on the research I came across, it appeared that most people are not very good at spotting or detecting fraud. At the same time, those individuals that are good at detecting fraud often live miserable, cynical and paranoid existence, with dysfunctional relationships and limited economic success.
The question is, why?
Let us take a step back.
For thousands (and perhaps millions) of years of human history, when we were confronted by a threat — usually in the form of a predator or an invading tribe — our internal wiring sent signals from the brain through our nervous system, triggering a “fight or flight” response. This reaction prompts our heart rate to increase, blood pressure to rise, muscles to tense, etc. This physiological response occurs whenever we perceive a tangible threat.
The problem with fraud detection is that when someone is trying to damage us financially, few of these biological responses emerge. And they’re not there for four primary reasons.
1. Contrary to popular belief, we are not that great at recognizing deception in general. Countless studies suggest that we have a far more optimistic belief in our abilities than warranted, and detecting lies is no different. We think we can tell who is lying by the look in people’s eyes, by the vagueness of their stories or by how nervous, fidgety and sweaty they get. Conversely, we think people are honest when their narratives are detailed, their assets or investors are substantial, and their brand is well known.
2. There’s a feedback disruption that occurs between our investment decisions and the outcomes of those decisions. It’s not like experiencing a punch and immediately feeling the pain. We can make a bad investment decision and not know the quality of that decision for many years. And by the time we realize that our money is gone, we forget how the decision ever occurred.
3. Our evolutionary DNA has yet to adapt to financial markets and products. We often forget that the ubiquity of financial products is less than a hundred years, as the idea of average people owning investments is relatively new. Wall Street didn’t really come to Main Street until after WWI, when subscribing for the US Liberty Bonds of 1917 became somewhat of a patriotic duty. So, unlike our bodies and tangible assets, we have yet to fully adapt our autonomic nervous system to passive financial investments.
4. Not only do we frequently fail to detect the fraud, but in most instances, investors are (unknowingly) excited to hand over their capital to fraudsters. As scam artists are exceptional at telling us the stories that we want to believe are true, and we are simply looking for the confirmatory evidence to support that belief.
As a consequence of these four reasons, the data suggests that educated, affluent middle-aged males with moderate familiarity of finance are actually more likely to be defrauded than the uneducated, the less affluent, the young and the elderly.
How and why is that remotely possible?
The answer lies in what psychologist Tim Levine refers to as the Truth Default Theory. In a nutshell, researchers discovered that our biologically imbedded assumption is that the people we’re dealing with are honest. We have a bias towards believing people, until they give us enough reasons not to. That is why psychologists like Tim Levine, who conducted studies on tens of thousands of people, found that almost no one was able to detect lies more than 54% of the time. Not lawyers. Not judges. Not even the CIA. For that reason, in this book I cover cases of fraud where the victims were financiers, presidents and prime ministers, authorities and regulators, titans of industry and even big-league scam artists who were defrauded themselves. They weren’t fools. They were simply humans, with normal biological wiring, who struggled to decipher deception.
There were, however, a small percentage of characters in my book who were first on the scene, who screamed that the emperor had no clothes when everyone else was in denial. It included individuals like Harry Markopoulos in the Madoff affair or David Thornton in Galbraith’s Pigeon Fraud. These individuals were skeptical and cynical from the start. They didn’t trust anyone and never got burned.
Or did they?
After completing the book, it occurred to me that it would be easy for any reader that completed it to potentially give up hope in the enterprise of trust. One may say, “Forget it, I can’t trust anyone” or “I should just assume everyone is liar.” Though, here’s the catch. The minute one allows themselves to fall prey to such cynicism might be the minute they kiss their quality of life goodbye. Numerous studies demonstrate that individuals with higher generalized trust are physically and mentally healthier, have stronger relationships, express more generosity and score higher on all metrics of happiness. So, our default to truth provides us with many evolutionary benefits that we shouldn’t readily give up.
But if we are weak spotting deception and cannot cease trusting people, how do we avoid frauds? How do we invest and manage our financial affairs responsibly?
The answer to this question is the essence of this book. Through dozens of stories covering the most innovative frauds ever executed I have tried to distill their lessons into the six most fundamental elements of due diligence. These six elements include a number of heuristics and best practices that anyone can implement — irrespective of their understanding of finance or investing — to avoid the overwhelming majority of snake oil salesmen.
So, what are these six elements?
Ultimately each of the six elements is multi-faceted and covered extensively in the book, but at the most basic level they include:
1. Third-Party Verification: e.g. independent verification on the pedigree of people, on the validity of the financials, the track record, etc.
2. Checks & Balances: ensuring good governance, providing a check on any significant financial decisions, etc.
3. Compliance: ensuring that all proper licensing and regulatory registrations are in place, no tax dodging, etc.
4. Quality of People: people with impeccable credibility, with a history of under promising and overdelivering, emotional intelligence, etc.
5. Validity of Opportunity: returns commensurate with opportunity, realistic supply and demand expectations, etc.
6. Alignment: skin in the game, sensible compensation and incentive strategies, reasonable lifestyle, etc.
By adhering to the six elements of due diligence, as spelled out in Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds investors could empower themselves with a shield of best practices against almost any charlatan they confront.
The other week I had the pleasure of officially launching my most recent book, Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds. It was a great evening, but for those that couldn’t make it, below were some highlights from the discussion.
When I started writing this book, I stumbled across the strange irony of fraud detection. Based on the research I came across, it appeared that most people are not very good at spotting or detecting fraud. At the same time, those individuals that are good at detecting fraud often live miserable, cynical and paranoid existence, with dysfunctional relationships and limited economic success.
The question is, why?
Let us take a step back.
For thousands (and perhaps millions) of years of human history, when we were confronted by a threat — usually in the form of a predator or an invading tribe — our internal wiring sent signals from the brain through our nervous system, triggering a “fight or flight” response. This reaction prompts our heart rate to increase, blood pressure to rise, muscles to tense, etc. This physiological response occurs whenever we perceive a tangible threat.
The problem with fraud detection is that when someone is trying to damage us financially, few of these biological responses emerge. And they’re not there for four primary reasons.
1. Contrary to popular belief, we are not that great at recognizing deception in general. Countless studies suggest that we have a far more optimistic belief in our abilities than warranted, and detecting lies is no different. We think we can tell who is lying by the look in people’s eyes, by the vagueness of their stories or by how nervous, fidgety and sweaty they get. Conversely, we think people are honest when their narratives are detailed, their assets or investors are substantial, and their brand is well known.
2. There’s a feedback disruption that occurs between our investment decisions and the outcomes of those decisions. It’s not like experiencing a punch and immediately feeling the pain. We can make a bad investment decision and not know the quality of that decision for many years. And by the time we realize that our money is gone, we forget how the decision ever occurred.
3. Our evolutionary DNA has yet to adapt to financial markets and products. We often forget that the ubiquity of financial products is less than a hundred years, as the idea of average people owning investments is relatively new. Wall Street didn’t really come to Main Street until after WWI, when subscribing for the US Liberty Bonds of 1917 became somewhat of a patriotic duty. So, unlike our bodies and tangible assets, we have yet to fully adapt our autonomic nervous system to passive financial investments.
4. Not only do we frequently fail to detect the fraud, but in most instances, investors are (unknowingly) excited to hand over their capital to fraudsters. As scam artists are exceptional at telling us the stories that we want to believe are true, and we are simply looking for the confirmatory evidence to support that belief.
As a consequence of these four reasons, the data suggests that educated, affluent middle-aged males with moderate familiarity of finance are actually more likely to be defrauded than the uneducated, the less affluent, the young and the elderly.
How and why is that remotely possible?
The answer lies in what psychologist Tim Levine refers to as the Truth Default Theory. In a nutshell, researchers discovered that our biologically imbedded assumption is that the people we’re dealing with are honest. We have a bias towards believing people, until they give us enough reasons not to. That is why psychologists like Tim Levine, who conducted studies on tens of thousands of people, found that almost no one was able to detect lies more than 54% of the time. Not lawyers. Not judges. Not even the CIA. For that reason, in this book I cover cases of fraud where the victims were financiers, presidents and prime ministers, authorities and regulators, titans of industry and even big-league scam artists who were defrauded themselves. They weren’t fools. They were simply humans, with normal biological wiring, who struggled to decipher deception.
There were, however, a small percentage of characters in my book who were first on the scene, who screamed that the emperor had no clothes when everyone else was in denial. It included individuals like Harry Markopoulos in the Madoff affair or David Thornton in Galbraith’s Pigeon Fraud. These individuals were skeptical and cynical from the start. They didn’t trust anyone and never got burned.
Or did they?
After completing the book, it occurred to me that it would be easy for any reader that completed it to potentially give up hope in the enterprise of trust. One may say, “Forget it, I can’t trust anyone” or “I should just assume everyone is liar.” Though, here’s the catch. The minute one allows themselves to fall prey to such cynicism might be the minute they kiss their quality of life goodbye. Numerous studies demonstrate that individuals with higher generalized trust are physically and mentally healthier, have stronger relationships, express more generosity and score higher on all metrics of happiness. So, our default to truth provides us with many evolutionary benefits that we shouldn’t readily give up.
But if we are weak spotting deception and cannot cease trusting people, how do we avoid frauds? How do we invest and manage our financial affairs responsibly?
The answer to this question is the essence of this book. Through dozens of stories covering the most innovative frauds ever executed I have tried to distill their lessons into the six most fundamental elements of due diligence. These six elements include a number of heuristics and best practices that anyone can implement — irrespective of their understanding of finance or investing — to avoid the overwhelming majority of snake oil salesmen.
So, what are these six elements?
Ultimately each of the six elements is multi-faceted and covered extensively in the book, but at the most basic level they include:
1. Third-Party Verification: e.g. independent verification on the pedigree of people, on the validity of the financials, the track record, etc.
2. Checks & Balances: ensuring good governance, providing a check on any significant financial decisions, etc.
3. Compliance: ensuring that all proper licensing and regulatory registrations are in place, no tax dodging, etc.
4. Quality of People: people with impeccable credibility, with a history of under promising and overdelivering, emotional intelligence, etc.
5. Validity of Opportunity: returns commensurate with opportunity, realistic supply and demand expectations, etc.
6. Alignment: skin in the game, sensible compensation and incentive strategies, reasonable lifestyle, etc.
By adhering to the six elements of due diligence, as spelled out in Selling Snake Oil: Investment Lessons from the World’s Greatest Frauds investors could empower themselves with a shield of best practices against almost any charlatan they confront.
