WHAT EVERY INVESTOR SHOULD KNOW

Document Sample
WHAT EVERY INVESTOR SHOULD KNOW Powered By Docstoc
					Until Money Grows on Trees, Verify Before You Buy!


What EvEry
InvEstor
should
KnoW




    sECurItIEs EduCatIon ProGraM
    Securities Division
    Arizona Corporation Commission
    1300 W. Washington, Third Floor / Phoenix, AZ 85007
    Tel: 602-542-4242 / Toll-free: 1-866-VERIFY-9 / Fax: 602-594-7470
    www.azinvestor.gov
                                                 TABlE
                                                  of Contents
About Us—The Arizona Corporation Commission & The Securities Division ................. 4

How to Verify Before You Buy Securities .......................................................................... 8

Risk and Suitability ........................................................................................................... 14

Affinity Fraud ................................................................................................................... 17

Boiler Rooms: Where Fraud is Always on Call ............................................................... 20

Guide to Mining Investments............................................................................................ 24

Online Investment Schemes.............................................................................................. 29

Promissory Notes .............................................................................................................. 35

Real Estate Investments as Securities ............................................................................... 38

Variable Annuities ............................................................................................................. 41




                                                                                                                                        table of co nten ts
Viatical or Life Settlements as Investments ...................................................................... 44

Small Business Investments.............................................................................................. 48

Preventing & Resolving Problems with Financial Professionals ..................................... 53

Arbitration and You........................................................................................................... 59

SIPC: Securities Investor Protection Corporation ........................................................... 61

Investor Complaints .......................................................................................................... 63

Oil and Gas Investments ................................................................................................... 66

Important Telephone Numbers.......................................................................................... 69
                                                                                                                                             3
                  ABoUT
                    The Arizona
            Corporation Commission
                   What Is thE arIzona
                   CorPoratIon CoMMIssIon?
                   Arizona Corporation Commission is
                   a state regulatory body charged with
                   several important responsibilities. The
                   Commission:
                       • Governs the offer and sale of
                          securities and investment advice in
                          or from the state,
                       • Licenses investment advisers and
                          their representatives,
                       • Registers securities dealers and
                          salespeople,
                       • Regulates over 500 public utilities
                          serving the state, including setting
                          the rates and charges for service
                          and ensuring adequate, reliable
ab out us




                          service,
                       • Registers corporations and limited
                          liability companies doing business
                          in or from Arizona,
                       • Enforces state regulations to ensure
                          railroad and pipeline safety.



  4
Who ForMEd thE CoMMIssIon                    consecutive terms. In case of a vacancy, the
and WhEn?                                    Governor appoints a replacement of the same
The authors of the Arizona Constitution      political party as the outgoing Commissioner.
created the Commission in 1912 as an
agency independent of the legislature, the   The ultimate responsibility for final decisions
executive branch, and the judiciary. The     on granting or denying rate adjustments,
Commission is an unusual public entity       enforcing safety and public service
in that only a handful of other states in    requirements, and enforcing securities laws
the U.S. have constitutionally formed        rests with the Commissioners, who are the
commissions. Then, as now, the goal was      state’s regulators.
to have an agency that could balance the
enormous economic power wielded by           The Commissioners oversee a staff
large corporations—such as the railroads     that is organized into seven divisions:
of that era—and ordinary citizens.           Administration, Hearing, Information
                                             Technology, Legal, Railroad and Pipeline
Who ChoosEs thE                              Safety, Securities, and Utilities.
CoMMIssIonErs?
You do! As a registered Arizona voter, you   To find more detail on each division’s
choose the Commissioners when voting         authority and responsibilities, and to view
in a statewide election. The Commission      the biographies of the commissioners
is governed by five commissioners. Each      serving you today, visit www.azinvestor.gov
Commissioner serves a four-year term         and click on the Commission’s seal at the
with the ability to serve a maximum of two   top-right portion of your computer screen.




                                                                                               a bo ut u s




                                                                                                  5
               The Securities
               Division
                                       your First line of defense against Investment Fraud
            our MIssIon                                          of the Arizona Securities Act and the
            The mission of the Securities Division is to         Investment Management Act, monitoring
            ensure the integrity of securities marketplace       pertinent legislation, engaging in
            through investigative actions as well as             rulemaking, and providing legal support
            the registration and oversight of securities,        and training to Division staff.
            securities dealers and salespeople, and
            investment advisers and their representatives;       EnForCEMEnt
            to enhance legitimate capital formation;             This section’s primary duty is to
            and to minimize the burden and expense of            investigate and take enforcement action
            regulatory compliance on legitimate business.        against violators of the state securities
                                                                 laws. The enforcement staff reviews
            The Securities Division is one of seven              complaints gathered from a variety of
            divisions of the Arizona Corporation                 sources, investigates data to determine a
            Commission. The Division is divided into             course of action, and if warranted, seeks
            the following sections, each with separate           administrative or civil remedies, or refers
            but overlapping responsibilities:                    the case for criminal prosecution.

            rEGIstratIon and CoMPlIanCE                          adMInIstratIon
            This section’s function is to register securities,   This section’s functions include setting
            dealers, salesmen, investment advisers, and          policy for the Division, providing
            investment adviser representatives, and              operational support to the entire staff and
            continually monitor their actions through            promoting wise investing and preventing
            investigative review, initiating enforcement         fraud through its investor education
            actions when the law is violated.                    programs.

            The Registration and Compliance section
ab out us




            reviews prospective securities offerings for
            fairness and a full disclosure of risk factors
            to investors.

            GEnEral CounsEl
            This section’s function includes responding
            to public inquiries regarding the substance
  6
HoW CAn
THE SECURITIES
DIVISIon
hElP ME?
Depending on your situation, you may
wish to contact different people within
                                           PublIC InForMatIon oFFICEr
                                           TEL: 602-542-0844
the Securities Division. Here are those    DUTIES: Interacts with the public and
employees who can assist you:              the news media to explain the Securities
                                           Division’s role on specific enforcement
duty oFFICEr                               actions and responds to questions
TEL: 602-542-0662                          regarding the Division’s cases.
DUTIES: Answers questions about
specific investment products and           dIvIsIon sPEaKErs burEau
provides background information on         To promote awareness, the Division
securities salespeople, dealers, and       conducts statewide investor
investment advisers. Responds to public    informational programs and offers free
inquires about the substance of the        materials to educate and protect investors
state’s securities laws found within the   against fraud and dishonest or illegal
Arizona Securities Act and Investment      practices in the securities industry.
Management Act. The Duty Officer
does not, however, provide legal advice    Besides the Investor Education
or legal counseling to the public.         Coordinator, Division staff are
                                           available, without charge, to speak
InvEstor EduCatIon                         with your group on a variety of topics,
CoordInator                                including the scope and function of
TEL: 602-542-0428                          the Commission and the role of the
DUTIES: Helps spread the word about        Securities Division, as well as:
avoiding investment scams and promotes
wise investing through speaking               • Top Threats to Arizona Investors
engagements, brochures, and investing         • How to Outsmart the Investment
information on the investor education           Swindlers: Verify Before You Buy
                                                                                        a bo ut u s


web site, www.azinvestor.gov.                 • How to Select and Monitor a
                                                Financial Professional
                                              • Basics of Saving and Investing

                                           To schedule a presentation, contact
                                           the Investor Education Coordinator at
                                           602-542-0428.
                                                                                           7
                                      HoW To
                                         VERIFY
                                  Before You Buy Securities
ho w to ver ify b efore you buy




                                           GEt It In WrItInG
                                           Whatever an adviser or a securities
                                           salesperson tells you about himself or
                                           herself, about the investment he or she
                                           is offering to you, or about the company
                                           or people with whom you would be
                                           investing, get what you are told in writing.

                                           Anyone offering you an investment
                                           opportunity should give you an offering
                                           memorandum—a complete description of
                                           the investment and the people and risks
                                           involved with the investment. READ
                                           THE OFFERING MEMORANDUM!
                                           If you do not understand it, get help
                                           from an accountant, lawyer, or another
                                           independent third party who understands
                                           how to read an offering memorandum.

                                           asK QuEstIons about your
                                           advIsEr or salEsPErson
                                           Talk to your adviser or salesperson
                                           and insist that he or she answers your



       8
questions to your satisfaction. Write down    If you are dealing with a securities
the answers you are given, the name of        salesperson, check out the individual and
who gives you the answers, and the date.      the dealer for which the salesperson works
Be sure to ask:                               on the Web CRD (central registration
                                              depository) at www.finra.org to see if the
   ü	What commission or fee will you          salesperson and dealer are registered in
     earn if I buy the investment?            Arizona, for how long, and whether they
   ü	Who or what entity will be paying        have any disciplinary history.
     you?
     Will
   ü	 you be receiving any benefit            If you do not have access to the Web
     other than your commission or fee if     CRD, contact the Securities Division at
     I buy the investment?                    602-542-4242 or toll free (within Arizona)
   ü	 you related to or involved with
     Are                                      at 1-866-VERIFY-9.
     the investment in any way other than
     recommending that I buy it?              asK QuEstIons about thE
     Are
   ü	 you registered or licensed              InvEstMEnt
     and, if so, with whom? If you are        Ask your salesperson, your adviser, and
     not registered or licensed with a        the officers or directors of the company
     regulatory agency, why not?              in which you may make an investment




                                                                                              how to verify b efore you b uy
   ü	Have you ever been sued,                 all of the questions you have about the
     disciplined, or had any complaints       investment until you understand it and
     filed relating to your work as a         are comfortable. Write down the answers
     salesperson or adviser?                  you are given, the name of the person who
                                              gives you the answers, and the date.
rEsEarCh thE baCKGround
oF your FInanCIal                             Pose this series of questions:
ProFEssIonal                                     • Is the investment registered with
If you are dealing with an investment               the Securities and Exchange
adviser, check the IAPD (Investment                 Commission or the Arizona
Adviser Public Disclosure) web site,                Securities Division? If not, why
www.adviserinfo.sec.gov to see if                   not?
the investment adviser is licensed in            • If the investment is exempt from
Arizona, how long the adviser has been              registration, what is the nature of the
licensed, and whether the adviser has any           exemption?
disciplinary history.                            • Is a notice regarding this exempt
                                                    offering on file with the SEC or the
If you do not have access to the IAPD,              Securities Division? If not, why
contact the Securities Division at 602-             not?
542-4242 or toll free at 1-866-VERIFY-9
(within Arizona).                             Understand the fundamental nature
                                              of the investment. Understand the
Also, check out the investment adviser        tax implications of the nature of the
representative (the individual dealing with   investment. Understand your rights as a
you, who works for the investment adviser)    creditor or an owner if the entity in which
by contacting the Securities Division.        you are investing goes bankrupt.

                                                                                                      9
                                  NOTE: The fact that a particular investment is properly registered, or exempt from registration,
                                  is not a guarantee as to how that investment will perform, or that it is an appropriate investment
                                  for you. If you need assistance understanding an investment and when it is suitable to invest in
                                  that type of investment, seek assistance from an accountant, attorney, or independent adviser.

                                  Is it a debt offering? If you invest in a debt offering (notes, bonds, debentures), you will
                                  become a creditor.

                                  If the offered security is a debt obligation, who will repay your investment to you?
                                  Will you get interest; how much? Is your investment, the debt obligation, secured or
                                  guaranteed? If so, by what or whom?

                                  Is it an equity (stock) offering? If you obtain an equity interest in an entity, you
                                  become an owner. Will you own shares of stock in a corporation? Will you own a
                                  partnership interest or a limited liability company membership interest? Will you have
                                  any control over how the entity is run? Will you receive dividends?

                                  Is the investment “liquid”? Can you sell the investment if and when you want
                                  to? Is there a market—are other buyers interested in the investment? Will you be
ho w to ver ify b efore you buy




                                  able to get your entire investment back? Do you have to hold the investment for a
                                  specific period of time? Will you have to pay penalties if you sell the investment
                                  earlier?

                                  NOTE: Most securities offerings do not contain a “buy-back” feature and if you need to get
                                  your money back, you will likely have to attempt to sell the investment on the “secondary market”
                                  if one exists. If you have to sell your investment in a secondary market, you may have to sell for
                                  a substantial discount from the original amount of your investment.

                                  • What type of business are you                    •	 What factors may jeopardize your
                                    investing in? Is it an established                  ability to recover your investment and
                                    business with an operating history?                 make a return on that investment?
                                    If so, what is that history? If not,
                                    does the proposed business make                  NOTE: Once you thoroughly understand
                                    sense? Is it likely to be successful?            the types of business risks and market risks
                                                                                     involved with the investment, you need
                                  • Who is responsible for operating the             to assess your financial position and risk
                                    business in which you are investing?             tolerance. Can you afford or are you willing
                                    Do those people have the necessary               to take those risks?
                                    skill, experience, and training to
                                    operate the business?

                                  •	 What risks are you taking by making
                                     the investment? What factors may
                                     jeopardize the success of the business
                                     venture?

10
IndEPEndEntly rEsEarCh                             Contact relevant departments to see if
thE InvEstMEnt                                     people are appropriately licensed and if
Check the public records of the superior court     they have disciplinary histories.
to see if any of the people or entities involved
have been or are involved in a lawsuit.            Department of Real Estate
www.superiorcourt.maricopa.gov                     602-771-7799
602-506-3360
                                                   Department of Insurance
Check the public records of the bankruptcy         602-364-3100
court to see if any of the people or entities
involved have filed bankruptcy.                    Securities Division
                                                   Duty Officer
602-682-4000 (Phoenix)                             602-542-0662
928-783-2288 (Yuma)                                Toll-free:
520-202-7500 (Tucson)                              1-866-VERIFY-9 (837-4399)

Call the Better Business Bureau to see if          See the section of this booklet titled,
the entities involved are members and if           “Directory of Important Phone Numbers”
any complaints have been filed:                    (page 69) for a listing of telephone




                                                                                                 how to verify b efore you b uy
                                                   numbers of regulatory entities.
www.phoenix.bbb.org
602-264-1721 or 1-877-291-6222                     Review materials that discuss that type of
                                                   investment. You can obtain many such
Check Corporation Starpas or contact               materials from the following organizations.
the Corporations Division of the Arizona           Review each organization’s web site for
Corporation Commission to see if the               links to additional resources:
corporations involved have filed annual
reports listing financial, officer, and            Securities and Exchange Commission
director information.                              202-272-2800
                                                   www.sec.gov
Arizona corporations are required by
statute to file annual reports with the            Financial Industry Regulatory Authority
Arizona Corporation Commission:                    202-728-8000
                                                   800-289-9999
www.azcc.gov/divisions/corporations                www.finra.org
602-542-3026 (Phoenix)
1-800-345-5819 (outside Phoenix)                   North American Association of Securities
520-628-6560 (Tucson)                              Administrators
                                                   202-737-0900
Call the Office of the Arizona Attorney            www.nasaa.org
General to see if they have any information
about the people or entities involved:             Alliance for Investor Education
602-542-5763                                       www.investoreducation.org

Until Money Grows on Trees, “Verify Before You Buy!”
                                                                                                  11
ho w to ver ify b efore you buy




                                  Once you have accumulated the above information, contact the appropriate agency
                                  to confirm that the person and company is licensed or registered in Arizona BEFORE
                                  handing over your money (see Important Telephone Numbers).

12
                                   RISk
                                and Suitability
                          Choosing an investment is complicated.
                          Should you invest in stocks, bonds, mutual
                          funds, CDs, commodities, options, futures
                          contracts, mortgage-backed securities, or
                          a myriad of other types of securities? And
                          once you have chosen a type of investment,
                          such as mutual funds, then you need to
                          decide in which areas of the economy—
ri sk and suita bil ity




                          such as technology or health care—you
                          want to invest. Before you make any
                          investment choices, however, you and your
                          financial professional need to consider two
                          factors that should influence all of your
                          choices: your risk tolerance and what
                          investments are suitable for you.

                          InvEstInG Is rIsKy busInEss
                          Risk can be simply defined as the
                          possibility of suffering a loss. One very
                          important principle to always remember
                          about risk is that the higher the return on
                          your investment, the greater the risk you
                          are taking.



14
If the risk of loss is high, a higher interest   securities diversification. Likewise, those
rate is used to entice investment. This          who invest in only a few companies or
is why U.S. Treasury securities, often           even a few areas of the economy are
referred to as T-bills, T-notes, and T-          assuming significant risk and should
bonds, have a lower rate of return as            consider diversifying.
opposed to bonds issued by financially
shaky companies that offer a higher rate         You can minimize your investment risk
of return.                                       through diversification, which may enable
                                                 you to invest in a mixture of low-risk/high-
Many people who invested solely in               risk investments. The old saying, “Don’t
the “dot-com” emerging companies of              put all your eggs in one basket,” holds true
the 1990s learned a hard lesson about            with investing.




                                                                                                risk a nd sui tab ility




                                                                                                15
                          suItabIlIty dEFInEd                             When you open a securities account, your
                          Now that you have thought about risk,           financial professional should ask you
                          what about suitability? Suitability means       questions about your income, net worth,
                          that the investment is in line with your        liquid assets, tax bracket, prior investment
                          investment objectives and financial             experience, retirement goals, plans for
                          situation. Your financial professional          major expenditures, and other similar
                          (securities salesperson/stockbroker or          relevant facts.
                          investment adviser) should not recommend
                          an investment that exposes you to risk          Your financial professional should also
                          beyond what you can afford to lose. So,         discuss with you what your investment
                          is buying a bond in a financially shaky         objectives are—for example, income,
                          company suitable for you? If you cannot         aggressive income, capital appreciation, or
                          afford to risk the money you invest, then       speculation.
                          absolutely not! If you are capable of and
                          willing to accept the risk of losing all or     Your financial information and objectives
                          part of your investment, then buying a          typically are recorded on forms required to
                          bond in a financial shaky company may be        open a securities account. In many instances,
                          suitable for you.                               the stockbroker or investment adviser
                                                                          completes these forms and has you sign
                          To determine if an investment is suitable,      them. But never, ever sign a blank form.
                          you must also consider how soon you
                          need to have access to the money you            You must make sure that the information
                          have invested. For example, let’s say that      your financial professional has about you
                          you need the money to send your child to        is accurate. Request a copy of any forms
                          college next year. Even if you can afford       prepared by your financial professional to
                          to lose some or all of your investment,         review for accuracy.
                          putting your money into a real estate
                          limited partnership would not be suitable       Your financial professional should
ri sk and suita bil ity




                          since it is not a liquid investment (one that   periodically review this information with
                          cannot be easily converted to cash).            you to keep it up to date. This way, you and
                                                                          your financial professional can make sure
                          your FInanCIal ovErvIEW                         he or she only recommends investments that
                          If you work with a financial professional,      are suitable for your specific situation.
                          he or she is required to have enough
                          information about you to determine—             vErIFy bEForE you buy!
                          before even recommending a security             If you wish to verify the background of your
                          to you—whether a security matches               financial professional or any of the types
                          your investment objectives and financial        of investments this person recommends,
                          situation. The only way for financial           contact the Arizona Corporation
                          professionals to determine if investments       Commission’s Securities Division at 602-
                          are suitable for you is for them to ask you     542-4242 or 1-866-VERIFY-9, toll free
                          questions to find out how “risk tolerant”       (within Arizona).
                          you are, what your investment objectives
                          are, and the status of your overall financial
                          situation.

16
AFFInITY
      Fraud
   In today’s investment climate, an ever-
   increasing number of Americans are
   putting their money in the financial
   markets. While this is good for the
   economy and often lucrative for
   individuals, many pitfalls remain. Stories
   of fabulous short-term gains may have
   created an atmosphere of unrealistic
   expectations. No one wants to miss the
   golden opportunities of the stock market,
   but determining where to invest is often
   difficult. As a short cut, people may rely
   on friends and persons like themselves for
   investment advice. This is where affinity
   fraud comes into play.
                                                   a ffini ty fr au d

   thE ultIMatE
   ConFIdEnCE GaME
   “Affinity fraud” involves con artists who
   target members of their own race, nationality
   or religious affiliation and exploit their
   status as members of the group to solicit
   investments in fraudulent schemes.



                                                   17
                    In one way or another, everyone is               who claim to provide “safe” alternatives to
                    connected to a group or association.             banks or have “no-risk” investments can
                    Our ethnicity, interests, backgrounds            take the funds of their victims and disappear,
                    and other factors will naturally lead to         dashing hopes and dreams of starting a
                    such organizations or affiliations. Our          new life in this country. The fact that these
                    heritage, religion and race can contribute       immigrants are not familiar with the laws and
                    to this gravitation to groups that we            ways of American society and are reluctant
                    often come to trust—sometimes to our             to call authorities greatly increases the
                    detriment. Because the average person            swindler’s success.
                    does not take the time or resources to
                    research investment opportunities, they are      Similarly, members of long-established
                    vulnerable to affinity fraud.                    ethnic groups that have amassed savings
                                                                     and achieved certain standards of living
                    Since the swindler is a fellow group             often have a desire to “give back” to their
                    member, he appears a natural match               communities. Affinity fraud artists of
                    for sharing information, resources               the same ethnicity often try to appeal to
                    and entrusting funds. The hook is the            such sentiments. Con artists also use this
                    affiliation to the group members who are         tactic in the increasing number of religious
                    the potential investors. The scam artist         affinity fraud cases. Swindlers who prey
                    plays up the association that he or she and      upon their faithful counterpart come in all
                    the investor have in the hopes of lowering       religious denominations.
                    the investor’s guard and exploiting a
                    natural trust.                                   ProtECtInG yoursElF
                                                                     Avoiding affinity fraud, as with any other
                    Why aFFInIty Fraud WorKs                         investment advice or product, involves
                    Affinity fraud is such a successful tool for     taking certain precautionary steps. There
                    scam artists for several reasons. One of         are several steps a careful investor can
                    the most noticeable is how conflict is dealt     take to significantly decrease the chance of
                    with within a group. Once a victim realizes      being a victim.
                    that he or she has been scammed, often the
                    response is not to notify the authorities,          1. Investors should be on guard when
                    but to try and solve the problem within the            someone uses testimonials from
                    group. This intergroup loyalty is an aspect            group members in connection with
affin ity fr a ud




                    that swindlers play upon, especially among             soliciting investments.
                    people of color and ethnic minority groups.
                    A desire to find an amicable resolution             2. Be wary of promises of high returns
                    “among ourselves” allows the swindler to               on your investment.
                    continue his scam undetected by regulators,
                    and if necessary, plan a discrete escape or         3. Early and high returns on the
                    cover his or her tracks.                               investment may be indicative of a
                                                                           “Ponzi” scheme, which involves the
                    New immigrants may be particularly                     use of later investors’ money to pay
                    vulnerable. Since new immigrants may be                earlier investors. These early investors
                    isolated from the larger community, their              become unwitting, but enthusiastic,
                    access to information is restricted. Swindlers         promoters of the scheme.

18
4. Always get an investment offering             a hasty decision, it is likely that the
   in writing. A legitimate promoter             investment is scam. There are many
   should always willingly provide               legitimate investments available in
   detailed written materials describing         today’s market. You should not let
   the uses of your funds, the risks             yourself be rushed into investing in a
   involved in the investment, financial         fraudulent one.
   statements, and any conflicts of
   interest that the promoter may have.    The Arizona Corporation Commission’s
                                           Securities Division can help. Before you
5. Once obtaining written disclosures,     actually put money into the investment,
   it is always a good idea to seek        call the Securities Division to learn
   outside professional advice. An         whether or not you are dealing with a
   independent accountant, financial       registered salesperson and firm. A simple
   planner, or attorney can help you to    inquiry into whether the person and firm
   evaluate the investment.                touting the investment are licensed in
                                           Arizona can speak volumes. Don’t just
6. Do not rush into making an              take the word of a salesperson—check
   investment decision. If the             the investment out for yourself and verify
   promoter is requiring you to make       before you buy!




                                                                                           a ffini ty fr au d




                                                                                           19
                  BoIlER
                  RooMS
                    Where Scams
                  Are Always on Call
                    One of the most common types of
                    securities fraud perpetrated against
                    individual investors occurs far from
                    plush corporate boardrooms and away
                    from the big city trading centers. Rather,
                    this type of investment scheme originates
                    out of hundreds of largely invisible
                    telemarketing offices located throughout
                    the United States, Canada, and, more
                    recently, as far away as Europe and
                    Southeast Asia. These operations sell
                    special “investment opportunities” over
                    the telephone, offering remarkably high,
bo iler r oom s




                    yet practically risk-free, rates of return.
                    What these telemarketers invariably
                    fail to mention is that these investment
                    opportunities only provide these
                    tremendous risk-free returns to a limited
                    population: themselves.

                    What Is a boIlEr rooM?
                    The nerve center in most of these
                    marketing schemes is the sales office,



20
otherwise known as the “boiler room.”       for the boiler rooms often start by
The term “boiler room” originated           identifying a recently successful
during an earlier era of telemarketing      business operation or industry, and then
fraud, where managers of these              mimic the blueprint of these business
operations would seek out cheap             operations to construct their imaginary
office space, such as in the basement       investment programs. As an example,
of buildings, where the conditions          telecommunication investment scams
were typically hot, uncomfortable, and      were epidemic in the early 1990s, and
crowded. Today, the term boiler room        fraudulent ‘dot-com’ investments were
is commonly understood to describe          the telemarketing scam of choice during
a commercial office setting involving       the late 1990s.
a simple set-up of desks, computers,
telephone lines, and salespeople            an oPPortunIty
employing a variety of high-pressure        FroM “out oF thE bluE”
sales tactics to push their investment      Once the fraudulent investment product
product to hundreds of potential            is prepared and packaged, often as
investors across the country each day.      a “private placement” to investors,
                                            salespeople begin targeting potential
These offices can be established            investors on their “lead lists.” Lead
anywhere, but are often found in remote     lists are a listing of potential investors
urban areas such as commercial parks,       who are most likely to be interested
industrial parks, or other discrete         in the fraudulent offering based on
locations. Beyond the low overhead and      past investment patterns, internet-
stealthy nature of these boiler rooms,      derived investor databases, or some
the sparse set-up allows the operations     other covert method of identifying
to dissolve and resurface almost at will.   potential investors. With the lead lists
                                            in hand, experienced salespeople then
boIlEr rooM ProduCts                        make “cold-calls,” otherwise known as
The types of boiler room investment         unsolicited calls, up to more than 200
scams are limited only by the               potential investors per day.
promoter’s imagination, and these
operations are continually reinventing      thE salEs PItCh
and refining their bogus investment         Boiler room salespeople may use
programs. Each operation ultimately         any number of techniques to sell
relies on three basic elements to           their fraudulent securities to unwary        boi ler roo ms
make the telemarketers and their            investors, their favorite quarry. A
telemarketing scams successful: 1) the      popular method is the “three-call”
appearance of a legitimate investment       technique, where an initial caller will
program, 2) investor leads, and 3)          “warm up” the potential investor with
unwary investors.                           descriptions of the company’s past
                                            successes and the exciting offerings
Producers may design what appears to        coming ahead.
be an authentic investment opportunity
in many ways. The “producers”               If the salesperson detects a level of
who design these bogus investments          interest, brochure materials are sent to

                                                                                         21
                  the prospect and second “set-up” man        rate of return. As said many times, “if
                  calls to tell the prospect of the amazing   something sounds to good to be true, it
                  opportunity currently available. The        probably is.” This mantra is the bane of
                  pressure is then turned up by the           all telemarketing scams; their success
                  experienced “closer,” who calls the         depends on the investor’s belief that
                  prospect to say that the prospect must      an investment may exist that has little
                  invest in the program now, using sales      or no risk but offers an extremely high
                  tactics and quick answers to any concerns   rate of return. There is no such animal,
                  the unwary prospect might have.             and even if one did exist, would a
                                                              telemarketer have to call a stranger to
                  Once the investment is made, usually        sell it? The answer is a resounding “of
                  through wire transfer or other              course not!”
                  immediate means of payment (after
                  all, the salesperson doesn’t want the       Similarly, when the salesperson is
                  investor to have any time to reflect        suggesting that he or she will buy back the
                  on a rash decision), the investor’s         investment at a later date, the salesperson
                  name is often elevated to a highly          is again implying that there is no risk
                  valued “sucker list,” which will often      associated with the investment; alarms
                  be resold to other boiler rooms for         should be sounding since this type of claim
                  additional securities offerings to be       is not credible.
                  hatched in the future.
                                                              Still another red flag is the salesperson’s
                  Boiler room salespeople are glib and        dire warning that the “window of
                  resourceful, and have a number of other     opportunity” is closing on the investment
                  techniques to help you part with your       opportunity, and the prospective investor
                  money. If the particular investment         “must act now.”
                  is “guaranteed,” or if the salesperson
                  will buy back the investment “after a       This routine ploy is usually nothing
                  certain time period,” a red flag should     more than the salesperson’s attempt
                  immediately go up.                          to prevent the investor from making
                                                              sensible background checks, researching
                  Most, if not all, investments               into the company further, checking
                  (perhaps other than certain low-            with regulators, and/or reflecting on the
                  yield government bonds and bank             rashness of the decision.
bo iler r oom s




                  certificate of deposits), have at least
                  some elements of risk. If a particular      This now-or-never pitch can often be
                  investment was not highly risky,            translated as it applies to the investor’s
                  the owners of the securities would          money: lose it to the salesperson
                  not likely find it necessary to sell        in the boiler room—now or never.
                  the investment through cold calls to        The salesperson will use any tactic
                  unknown individuals!                        in his or her repertoire, including
                                                              formulated scripts and answers, levels
                  hIGh-PrEssurE salEs taCtICs                 of aggression, derision or flattery—
                  A similar alarm should sound when the       anything it takes for the investor to
                  investment is offering an exorbitant        swallow the bait and “act now.”

22
don’t bE a tarGEt—                              regulatory bodies charged with overseeing
ProtECt yoursElF                                this activity. These agencies can often
Individuals who become targets for one          determine whether the securities being
of these boiler rooms can take various          offered to you have been properly filed or
steps to insulate themselves from this type     registered, as well as determining whether
of securities fraud. The most obvious           the principals of the company have had
and effective strategy is to immediately        any prior disciplinary problems within the
decline the opportunity to invest with the      industry. Often a fraudulent telemarketer
boiler room caller, but this can, at times,     may scold or threaten you for requesting
be more difficult than it sounds. These         to do such a check, a classic indication that
telemarketers are experienced sellers           something is amiss.
who have heard practically every excuse,
enabling them to develop what seems to be       Finally, be aware and have a healthy level
a rational answer to almost any question,       of cynicism about any investment offer
concern, or reservation.                        made over the phone. If an offering is very
                                                low risk and offers a high return, if you
This being the case, if you begin to            can’t lose, or if the investment is sure to
feel pressured to invest in a particular        go public and double, triple, or quadruple,
investment “opportunity,” simply terminate      recognize that if that truly was the case,
the call. Before hanging up the phone, ask      the boiler room on the other end of the line
the caller to have your number placed on        wouldn’t have called you in the first place.
the “do not call” list. Telemarketers will
typically move on to the next lead.

Other policies should also be considered
when dealing with a potentially fraudulent
investment telemarketer. First, never
be pressured into giving an immediate
decision on investing. If that is the only
alternative the salesperson is offering you,
then its time for you to go.

Next, make sure you receive everything
in writing before making any investment
decisions, particularly over the phone. You                                                     boi ler roo ms
may be surprised to find that the verbal
representations made by the salesmen are
at odds with the documentation offered by
the company. Alternatively, the written
disclosures about this company may, in fact,
be woefully inadequate and/or suspect.

With over-the-phone securities solicitations,
another important point to remember is to
always consult with the state and federal

                                                                                                23
                        MInInG
                          Investments
                          The problem of fraud in the precious
                          metals mining industry continues to
                          plague Arizona investors. The Arizona
                          Corporation Commission’s Securities
                          Division has prepared this bulletin as a
                          guide for the type of questions individuals
                          should ask before investing in any mining
                          program. All investments have risk, and
mi ning i nvestm ents




                          no particular investment is guaranteed
                          not to fail, no matter how diligently an
                          investor has studied the program prior to
                          investing.

                          One of the first questions you should ask
                          before investing in a mining program is…

                          WhErE Is thE MInE loCatEd?
                          The exact location of the mine site is often
                          not disclosed in many mining investment
                          scams, yet surprisingly, people continue
                          to invest in these programs without
                          knowing where the actual mining is to take
                          place. Press the people who are offering



24
the investment to you for the exact legal        meaningless—it takes literally hundreds
descriptions of the site—do not accept a lay     or thousands of separate ore samplings
description such as “the proposed mine site      to properly evaluate the true potential of
is located approximately twenty-five miles       a mine site. Also, be aware that even an
northwest of Flagstaff, Arizona.” That type      accurate assay only tells you the amount
of description tells you nothing at all about    of certain precious metals in a specific ore
the true location of the site. If the offerors   sample, not the amount of precious metals
cannot or will not provide you with the exact    that can be economically extracted from that
location of the mine, DO NOT INVEST!!            mine site or even that sample. No mining or
                                                 refining technique can economically extract
Once you know the exact location of the          all of the precious metals present in an ore
mine site, your next question should be …        body. In reading assay reports, certain
                                                 “red flags” signal that perhaps you are not
havE any assays bEEn                             receiving accurate information:
PErForMEd on thE orE?
Usually, offering materials do provide              • Reports indicating the presence of
what the offerors claim to be assays, but             a half ounce or more of gold per
beware. Assays are only meaningful if they            ton of ore. A mine site with ore
are based upon a systematic and scientific            values consistently this high would
program of ore sampling. An assay based               represent one of the richest finds of
upon one or two ore samples is essentially            the century!




                                                                                                min ing i nvestm ents




                                                                                                25
                           • Reports of precious metals not            not provided you with any references,
                             normally found together in the same       require them. If they have no references
                             ore. For example, while gold and silver   they can give you, or if their references
                             are commonly found together, gold and     are so vague that you cannot check on
                             platinum group metals are not.            them, then the operators may not have
                                                                       any mining or refining experience.
                           • Reports that traditional “fire assay”
                             methods will not give an accurate         You should next ask …
                             reading of the precious metals
                             content of the ore, while the offerors’   What Is thE FInanCIal
                             “secret” or “revolutionary” methods       CondItIon oF thE PEoPlE Who
                             will. A fire assay performed in a         Want My MonEy?
                             correct manner will give an accurate      Are the people to whom you will be
                             reading of the precious metals            giving your money financially solvent?
                             content of any ore sample.                Are they a newly created company with
                                                                       little or no assets? Do they personally
                           • Assayers who meet certain                 have any financial stake in the venture,
                             qualifications are registered with        or are they merely a group of people
                             the Arizona Board of Technical            who want to enter a high risk venture
                             Registration; call the Board (602-        using other people’s money? You don’t
                             364-4930) to see if the assayer           know the answer to these questions
                             is registered, and if there is any        until you see balance sheets, profit and
                             information available concerning          loss statements, and other financial
                             public actions against the assayer.       documents. Audited. Once again,
                                                                       if these types of financial statements
                        If mining is currently going on at the site,   are not provided to you, require them.
                        be sure to get copies of all production        Remember that the most meaningful
                        reports.                                       financial statements are those that
mi ning i nvestm ents




                                                                       have been prepared by an independent
                        Once you are satisfied that the ore at the     certified public accountant.
                        mine site has commercial value, you are
                        ready to ask the next question:                Your next question is …

                        What Is thE PrIor MInInG or                    havE any oF thE PEoPlE
                        rEFInInG EXPErIEnCE oF thosE                   assoCIatEd WIth thE
                        Who WIll bE In CharGE oF thE                   oFFErInG bEEn thE subJECt
                        MInInG oPEratIon?                              oF Past aCtIon taKEn by a
                        Do not trust your money with people            GovErnMEntal aGEnCy or
                        who have no prior experience in the            PrIvatE Party?
                        mining industry. Mining is a highly            Obviously, you want to know whether
                        skilled and technical profession, a field      the people to whom you will be giving
                        that cannot be profitably pursued by           your hard-earned money have a history
                        amateurs. If possible, check out ALL           of law violations, civil lawsuits, or
                        of the mining and business references          bankruptcies. Just as obviously, if the
                        provided by the offerors. If they have         people who want your money do have

26
such histories, they will naturally be         What arE thE rIsKs
reluctant to reveal their prior legal          assoCIatEd WIth thE
problems to you.                               InvEstMEnt ProGraM?
                                               All investments have some amount of
Contact the Securities Division for            risk involved in them, and the general
information about federal or state             rule is this: The greater the potential
securities law actions. Also, contact the      profit, the greater the potential risk.
mining department, any other appropriate
state agencies, and the Better Business            1. What assurance do you have
Bureau. If the mine site is located on                that the offerors will not simply
public land, contact the state’s land                 take your money and run? Is
department, or federal agencies such                  your investment secured by real
as the Bureau of Land Management or                   property or equipment? (NOTE:
the Forest Service. Review civil and                  It is a “red flag” if the promoters
bankruptcy court records.                             are guaranteeing that you will
                                                      not lose money, whether they
Having satisfied yourself that the people to          are offering your money back
whom you may be giving your money do                  on demand or guaranteeing
not have a history of law violations, you             that a certain amount of gold is
should next ask …                                     available).
                                                   2. If the price of gold drops
What arE thE Costs and                                suddenly, would it still be
oblIGatIons InvolvEd In                               feasible to mine? Does the
InvEstInG In thE ProGraM?                             mining program depend upon a
How much is the investment going to                   continuous stream of investment
cost you? What are you to receive for                 capital in order to operate the
your money? A certain tonnage of ore?                 mine? If it does, what if the
A certain number of ounces of precious                stream of money decreases or is




                                                                                               min ing i nvestm ents
metals? Stock? A pure cash return on your             cut off? It can take millions to
investment?                                           begin a viable mining operation.
                                                   3. Do the mine operators have any
How is your investment to be made? In                 conflicts of interest that could cause
a lump sum, or in the form of periodic                them to devote less than their best
payments? Could you be required to                    efforts to the mining project?
provide additional money at some time in           4. Mining is inherently dangerous. If
the future?                                           a worker gets injured at the mine
                                                      site, could you be held financially
Under the terms of the offering, must you             responsible? If an injured worker
meet any obligations or perform any duties            sues the mine, is there enough
other than making the investment?                     liability insurance to cover the
Once you understand the costs and                     worker’s claims?
obligations involved in investing in the       If you are satisfied that you completely
program ask …                                  understand the risks involved in
                                               investing in the program, your next
                                               question is …

                                                                                               27
                        EXaCtly hoW arE thE                        Can I aFFord to MaKE thIs
                        oFFErors GoInG to usE                      InvEstMEnt?
                        InvEstor ProCEEds?                         Be guided by your head, not your heart.
                        You need to know just where your           Do not let “gold fever” lead you down
                        money will be going. Would some of         an empty mine shaft. The basic warning
                        your investment funds be used to pay       to keep in mind when considering
                        sales commissions to the offerors or       any investment, including mining
                        others? Will your investment funds go      investments, is this:
                        towards salaries, legal fees, or other
                        administrative expenses? How much          IF YOU CAN NOT AFFORD TO LOSE
                        of your investment money is actually       ALL OF YOUR INVESTMENT, YOU
                        going directly into the mining or          CAN NOT AFFORD TO INVEST!
                        refining of ore? What types of fees are
                        going to be paid to the offerors? For      to lEarn MorE…
                        what services? Arizona securities law      For additional information on how to
                        requires that full disclosure be made to   investigate any offering before you invest,
                        investors of the exact uses of proceeds    see “How Do I Investigate?,” available
                        in the venture. Finally, before you        on the Securities Division’s investor
                        reach for your checkbook, you need to      information web site, www.azinvestor.gov
                        ask one more question…                     (Click on Investor Info Center).
mi ning i nvestm ents




28
 onlInE
Investment Schemes
   Unwary investors are in danger today




                                                online investment schemes
   of being taken for a ride on the Internet.
   State securities regulators around the
   U.S. are concerned about the explosion
   of fraudulent schemes now flourishing
   on commercial bulletin board services
   and the burgeoning web of computer
   networks that make up the Internet.

   Millions of U.S. households that
   already have access to the major online
   services are being exposed to hundreds
   of fraudulent and abusive investment
   schemes, including stock manipulations,
   pyramid schemes and Ponzi schemes.
   While the experienced pioneers who
   explore the online frontier are aware of
   some of the major rip-off techniques now
   in use, the investment fraud problem could
   reach epidemic levels over the next few
   years as several million newcomers crowd
   onto the once lightly traveled Internet.
   Cyberspace has the potential to educate



                                                29
                                investors, helping them to become savvy         pending announcements, product
                                customers.                                      innovations and new contracts, the
                                                                                schemers seek to run up the price of
                                Today, any home equipped with a                 the stock, which starts rising as unwary
                                computer and modem is just a few                investors read of the “great opportunity”
                                keystrokes away from a wealth of                and buy shares. In response, the insiders
                                instantly accessible research data and          take their shares (bought at the low, “pre-
                                financial news. State securities regulators     hype” prices) and sell them into the rising
                                emphasize that the problem of illicit           market. As interest builds, dozens of
                                and abusive online investment schemes           messages may be posted about the stock.
                                have spread like wildfire as the result of
                                increasing Internet exposure.                   When the hype-fueled stock price falters,
                                                                                the promoters may blame unnamed short
                                MaJor InvEstMEnt sChEMEs                        sellers. Sometimes, losses suffered by
                                Manipulation of obscure,                        the unsuspecting are made even worse by
                                thinly traded stocks.                           ruthless promoters who urge victims to
                                Most commercial bulletin board services         “dollar average” and keep buying shares,
                                allow individuals to post messages not          even at the falling prices. Talk of the
                                only under an alias...but multiple aliases.     stock then disappears from the board.
                                Since it may be impossible for another          Investors who are left holding the bag can
                                subscriber to ascertain the true identity of    do little more than post plaintive messages:
on li ne i nvestm ent schemes




                                the individual behind the message (or even      “Whatever happened to Company X?”
                                if a series of messages are being entered
                                by just one individual under various
                                aliases), there is enormous potential for
                                manipulation of little-known companies
                                that have a small float (the number of
                                shares trading hands).

                                Acting alone or with accomplices, one
                                company insider, broker, public relations
                                executive, or even just a large shareholder
                                can leave numerous messages calculated
                                to spark interest in an obscure stock. Once
                                a “thread” (in this case, a series of related
                                messages about a stock) is started, it will
                                show up on the computer bulletin board          Misconduct by phony and unlicensed
                                and be readily accessible by anyone who         brokers/investment advisers.
                                enters the bulletin board. Among the            One state securities agency investigated
                                popular targets for cyber-manipulation is       a case in which a woman held herself out
                                gold, silver and diamond mining stocks.         on a commercial bulletin board service as
                                                                                an investment adviser offering investing
                                Through a combination of puffery,               advice and soliciting clients. The state
                                speculation and breathless claims of            agency started to receive complaints
                                supposedly inside information about             from around the nation, based on the

30
extreme claims the phony investment             about public statements, disclosure
adviser made about the potential for            language and penalties for intentional
return on investments and on her possible       “misrepresentations and omissions”
mishandling of client accounts.                 intended to move stock prices.

In other instances, states are concerned that   Promotion of “exotic” scams.
brokers may be attempting to drum up new        The manipulation of publicly traded stock
business...without the supervision of their     and misconduct by professionals are just
employer and while making liberal use of        two types of problems that state securities
illegal assurances about the potential for      agencies have detected on commercial
profit in certain investments. The problem      bulletin board services and on the Internet.
here goes far beyond the oral comments          In hundreds of other cases, messages have
that an aggressive broker might make to         been posted promoting a wide variety of
a sophisticated client, since an on-line        highly suspect, unregistered investment
message is available to be read by, not one,    deals (e.g., wireless cable television,
but hundreds of thousands of investors.         “build out” schemes, ostrich farming,
Additionally, states are concerned about        oil, gas and mineral claims) as well as
brokers who may try to rope new clients         flat-out rip-offs (e.g., pyramid schemes,
without regard for the interest in keeping      including a number of twists on “chain”
individuals with a history of fraud and         e-mail letters and Ponzi scams). These
abuse outside of the U.S. borders.              so called “exotic” securities may pose




                                                                                               online investment schemes
                                                a greater threat to consumers than other
Undisclosed interests of promoters.             cyber schemes since out-and-out scams
The anonymity of cyberspace is exploited        often appeal to individuals who do not feel
to the hilt by schemers who promote             sophisticated enough to speculate on stock
fraudulent and abusive investment               investments.
schemes. In reading a bulletin board
message about a stock, you have no              Some of the investment fraud and abuse
way of knowing if the person involved           problems now cropping up in cyberspace
is a company official, public relations         are indistinguishable from those that have
representative, or market-making                been in circulation elsewhere for years
brokerage firm. Has the person hyping           and, in some instances, even decades. But
the stock been paid to do so and, if so, has    access to the online world represents an
the fact been disclosed? (In one instance,      enormous advance in the ability of con
an individual running a private bulletin        artists to victimize the unwary. Even the
board disclosed there that he received          fastest-talking boiler-room operator would
compensation for his stock promotion            be hard-pressed to make more than 150
activities, but did not make a similar          “cold call” telemarketing pitches in one
disclosure when he posted messages              day, whereas the fast-buck swindler with
on major commercial bulletin board              access to cyberspace can send e-mail to
services.) In some of these cases, the          many thousands of individuals in less than
role of the person involved in the scheme       one hour. The same con artist can then
is such that he or she is considered an         post a message that may be read in a matter
“agent” of the stock issuer and, as a result,   of weeks by tens or even hundreds of
is subject to strict legal requirements         thousands of individuals around the globe.

                                                                                               31
                                   Ten Rules
                                   of the Road
                                                                              For Internet travelers
                                1. EXErCIsE CautIon                            promise of the online world in perspective.
                                Perhaps the most important thing to            A failure to exercise the caution and
                                keep in mind is that there will never be       skepticism to all unfamiliar investment
                                enough “cyber cops” to keep the online         opportunities could be a serious misstep.
                                world free from fraud and abuse. Even          Remember, if the return on the investment
                                though state securities agencies and other     sounds too good to be true, it is!
                                investment regulators have mounted
                                serious efforts to spot and stop cyber-        3. don’t assuME your onlInE
                                fraud, the simple truth is that there are      CoMPutEr sErvICE PolICEs Its
on li ne i nvestm ent schemes




                                far too many places in the online world        InvEstMEnt bullEtIn boards
                                (particularly in the almost entirely           Most online computer services do not.
                                unregulated Internet) for swindlers to         When it comes to suspicious or even
                                set up shop. Even if all the federal and       blatantly fraudulent investments, the vast
                                state regulators as well as the Financial      majority of services take a “hands off”
                                Industry Regulatory Authority, and stock       approach. Even the ones that do minimal
                                exchanges were somehow able to put             policing are swamped by the volume of
                                aside all other tasks in a massive bid to      postings and do not have the expertise to
                                shut down online investment scams, it          spot investment swindles. In the “wild
                                is doubtful that the pervasive problem         and woolly” world of the Internet, just
                                would be stamped out all together. This        about anything goes. Nothing is in place
                                means that the person who ventures             to prevent a con artist from posting one
                                into cyberspace should do so with great        (or dozens) of pitches for a swindle. In
                                caution, being mindful of the fraud and        this largely unregulated cyberspace
                                abuse that waits online.                       environment, often the only check on
                                                                               abusive messages is “flaming” by other
                                2. don’t EXPECt to GEt rICh                    users.
                                QuICK In CybErsPaCE
                                The online world is filled with information    4. don’t buy thInly tradEd,
                                that can help you become an informed           lIttlE-KnoWn stoCKs strICtly
                                investor. Unfortunately, cyberspace also is    on thE basIs oF onlInE hyPE
                                home to a growing amount of investment         These are the stocks that are most
                                fraud and abuse. The trick is to keep your     susceptible to manipulation, unlike blue
                                excitement and expectations about the          chips and other stocks with substantial
32
floats (the number of shares available to      7. don’t assuME that Just
be bought and sold), the price of low-         bECausE soMEonE says
volume stocks can be moved through             that thEy havE ChECKEd
relatively small strategic trades. This        soMEthInG out that thEy
is why online hype usually involves            havE donE so
previously unknown securities, often for       Online stock swindlers make all sorts of
companies involved in trendy businesses.       claims about visiting companies, inspecting
If a stock that is being hyped starts to       mining operations and having personal
move up, proceed with extreme caution,         conversations with company officials. You
since this may just be part of the overall     may not be able to verify who is making
manipulation scheme. You could still end       these claims...much less whether any of the
up holding the bag! Always take the time       information is true or the claimed research
to do your own research using reputable        ever took place. Keep in mind that an
print and database resources.                  established tactic of investment schemers
                                               is to talk up mines and factories in remote
5. don’t aCt on thE advICE oF                  corners of the U.S. (or elsewhere around
PErsons Who hIdE thEIr oWn                     the globe) where it is impossible for you
IdEntIty                                       to either visit in person or get meaningful
Keep in mind that many computer bulletin       information.
board services allow people to use aliases
and nicknames. As a result, you may end        8. don’t ForGEt to bE on thE




                                                                                                online investment schemes
up dealing with an undisclosed broker,         looKout For ConFlICts oF
investor, or company insider who is intent     IntErEst
on driving up the price of a stock through     A growing number of those who analyze
false information or baseless speculation      stocks online are receiving cash or stocks
that is difficult or impossible to disprove.   in exchange for making glowing comments
Don’t assume that two (or more) people         about the companies in question. Some of
talking up a stock are actually two (or        the individuals prominently disclose this
more) different people!                        fact, while others make little or no mention
                                               of the fact that they are paid off. Make
6. don’t GEt suCKErEd by                       sure that you always know why someone is
ClaIMs MadE about “InsIdE                      so “high” on an investment opportunity!
InForMatIon”
This includes pending news releases,           9. don’t bE a “lurKEr”
contract announcements and products.           In the slang of cyberspace, a “lurker” is
Investment bulletin boards and discussion      someone who reads messages posted on
groups are crammed with hot tips about         bulletin boards and listens in on discussion
impending developments sure to send a          groups, but does not participate directly.
stock soaring in value. Just because these     Most investment schemes promoted online
tips appear in cyberspace does not mean        appear on the surface to involve just those
that they are exempt from federal insider      people who are posting messages, but the
trading laws and rules. It is extremely        reality is that the eight (or more) out of ten
unlikely that genuine “insider information”    people who “lurk” rather than participate
is going to be publicly broadcast on an        are the real audience for what are often
investment bulletin board.                     staged conversations designed to excite

                                                                                                33
                                the unsuspecting about the prospects         10. vErIFy IF thE IndIvIdual
                                for a stock. You may think that you are      and CoMPany ProMotInG
                                listening in on a private conversation,      a sECurIty arE rEGIstErEd
                                but the people who post messages in an       WIth thE sECurItIEs
                                investment scheme know that you are out      dIvIsIon
                                there...and they want you to read their      Laws designed to protect small
                                messages. This “keyhole illusion” often      investors from fraud and abuse also
                                convinces lurkers that they are privy to     apply in cyberspace. A failure by an
                                genuinely “inside dope.” Don’t think you     issuer or broker to follow the state
                                are safe from cyber-fraud just because you   requirements is often a “red flag” of an
                                don’t speak up online.                       investment scam.



                                  HoW A TYPICAl
                                  CYBER-SCHEME WoRkS
                                      “Is there anyone out there following Company X?”
on li ne i nvestm ent schemes




                                    “I heard that Company X is about to make a major
                                   announcement. E-mail me or call this toll-free number
                                             to get an information package...”

                                   “I	spoke	to	Company	X’s	CEO,	who	confirmed	details	
                                    of next month’s big news. I’ve bought 10,000 shares.
                                      Look for share price to double in the next month.
                                                        Get it now!”

                                     “Big news remains just around the corner. We hear
                                    from a friend who has visited Company X that this is
                                    going to be even bigger than we thought. There’s still
                                                        time to get in.”

                                   “Short sellers are in the market! Keep the faith...this will
                                   bounce back. The smart money will use the price drop as
                                     an opportunity to buy more and dollar average.”

34
PRoMISSoRY
    noTES
 Promises or Problems?
       For the average investor, promissory
       notes may be viewed as a safe way to
       invest short-term with reliable companies,
       particularly in light of a volatile stock
       market. Although promissory notes can
       be legitimate investments, many bogus
       and high-risk notes are often sold to
       unwary investors. Before investing in
       promissory notes you should ask questions




                                                    pro missor y n otes
       and demand answers, making certain that
       you understand how they work and what
       risks they pose.

       thE ProduCt
       A promissory note is a form of debt that
       a company may use to raise capital in
       much the same way as a loan. Typically,
       an investor agrees to loan money to the
       company for a set period of time. In
       exchange, the company promises to return
       the investor’s funds with interest. The
       investment sounds easy and safe, and
       therefore, is attractive to investors.



                                                    35
                     thE ProMotEr                                 capital. Instead of borrowing the money
                     The Commission has seen an increase          from a traditional lender, such as a bank,
                     in the number of insurance agents,           the note issuer is offering investors an
                     and others unlicensed to sell securities,    opportunity to purchase its promissory
                     promoting investments in promissory          notes. Usually, these notes mature in nine
                     notes. While touting high interest           months and pay above-market rates.
                     rates, they usually fail to inform you
                     that promissory notes are high-risk          The agent might encourage you to cash
                     investments with the potential for fraud.    in a life insurance or an annuity policy
                                                                  and roll the proceeds into the promissory
                     The hefty commissions offered to sales       notes. Sometimes insurance agents
                     agents may blind them to the problems        even invest their own money because
                     involved in selling these investments.       they, too, are convinced it’s such a great
                     Some sales agents may know very              investment opportunity!
                     little or nothing about the issuers of
                     the investments. These agents may            Too often, the promissory notes and
                     not realize that they must be registered     the company behind them are either
                     with the Securities Division to sell         financially shaky or totally fraudulent.
                     promissory notes. Having an insurance        And too frequently, the Commission’s
                     license does not mean an agent is            Securities Division sees con artists who
                     automatically qualified to sell securities   use investor funds to line their own
                     like promissory notes.                       pockets and disappear when the notes
                                                                  mature.
                     thE sCaM
                     A typical promissory note scam               thE dECEPtIon
                     operates like this: Initially, the           In addition, these investors may receive
                     con artist, who may or may not be            authentic-looking promissory note
                     affiliated with the company issuing          certificates complete with official, legal-
                     the promissory notes, persuades a            sounding language and gold-embossed
                     sales agent with a rolodex of trusting       seals. Such documents give a false sense
promi ssor y notes




                     clients to sell the notes. The con artist    of security. In addition to the official
                     promises to pay the sales agent much         appearance of the promissory note,
                     higher commissions than he or she            the involvement of insurance agents
                     could receive from companies selling         may also give comfort to investors.
                     legitimate investments —sometimes as         Unlike telephone solicitors, insurance
                     much as thirty or forty percent.             agents have a prior relationship with
                                                                  their clients, which gives them instant
                     thE ProduCEr                                 credibility and makes the investment in
                     Your licensed insurance agent, who may       promissory notes appear to be legitimate
                     have already sold you a life insurance       and sometimes the appearance of being
                     or annuity policy, now approaches            “secured.”
                     you with an interesting “investment
                     opportunity.” The agent tells you that a     Also, find out if the promissory notes are
                     “well-established” company is looking        being sold from a brokerage firm. If not,
                     to expand its business and needs to raise    don’t invest.

36
thE PrEvEntIon
You should also be aware of any
investment “guaranteed” by a bond
from an offshore bonding company.
Check with the Arizona Department
of Insurance (see Directory of
Important Phone Numbers) to
verify whether or not a bonding
company is licensed to do business
in Arizona.

Beware of any investment that
offers guaranteed above-market
returns with a maturity of less
than a year. Legitimate and low-
risk short-term investments do
not offer double-digit returns.
Be leery of any opportunity
that offers a “safe” nine-month
note from an obscure company
promising double-digit returns.

vErIFy bEForE you buy!
The Securities Division
has investigated and taken
enforcement action in a number
of cases involving fraudulent
promissory notes promoted by
unscrupulous, uninformed and
unregistered individuals. Visit




                                     pro missor y n otes
www.azinvestor.gov and click on
“Press Releases” or call the Duty
Officer at 602-542-0662.

Before investing in promissory
notes, investors should always
check with the Securities Division
of the Arizona Corporation
Commission to confirm that the
notes are either registered or
exempt from registration. If you
cannot verify that the notes are
registered or likely to be exempt
from registration, hold onto your
money.

                                     37
                            REAl ESTATE
                            Investments as Securities
                                    Your interest in a real estate investment
                                    opportunity may begin with a trusted
                                    family member, friend, neighbor or
                                    business associate who approaches you to
rea l estate inves tments




                                    talk about some impressive financial gains.
                                    An advertisement in a popular newspaper
                                    or online service catches your eye with a
                                    promise of guaranteed returns secured by
                                    an interest in a piece of real estate.

                                    What you may not realize is that some
                                    of these investment opportunities may
                                    be unregistered securities or worse yet –
                                    scams. Whether a real estate investment
                                    is a security or not is not always easy to
                                    determine and depends upon the unique
                                    facts and circumstances of the transaction
                                    and not on what a promoter calls the
                                    investment product.

                                    hoW do I KnoW IF What I aM
                                    buyInG Is a sECurIty?
                                    A general rule of thumb with which to



38
start is that if you as the investor are not   real property or loans on real property
in control of the real estate transaction      with service agreements – property
and are expecting a return on your             management, rent or debt collection,
money, the transaction probably involves       foreclosure services – that the promoter
a security. Because the investment may         will provide you. The promoter, not the
involve a chunk of your life savings,          investor, will make decisions regarding
consider consulting with an attorney           the management of the real estate or
knowledgeable in securities law to             the real estate loan. If you are buying a
provide a legal interpretation for you         “package” and you will not have active
and evaluate any exemptions claimed by         control over or management of the
the promoter. By law, the Commission’s         real property or the loan, then you are
Securities Division cannot provide legal       probably buying an “investment contract,”
advice to the public.                          which is a security.

undErstand thE InvEstMEnt                      Are you investing in a deed of trust?
The lure of large financial gains from a       Although commonly called the deed
real estate investment opportunity may         of trust investment, the product that
be enticing, but take your time, ask the       the promoter is selling is a promissory
right questions and verify before you          note secured by a deed of trust on real
buy. Most importantly, understand the          estate. The law exempts from registration
investment and what it entails. If you         requirements the sale of a note secured
don’t understand, don’t invest. Here are       by a mortgage or deed of trust on real
some important questions to consider           estate, but if the note and deed of trust
before signing on the dotted line:             are “packaged” with other services the




                                                                                            real estate in vestmen ts
                                               promoter will provide to you, then the
Are you buying an interest in real estate      “package” you are buying is likely an
or in an entity that is buying or financing    investment contract. The investment
real estate? A promoter may form a             contract would not be exempt from
corporation, a limited liability company       registration.
or a limited partnership that will purchase
real estate or make loans to other             WatCh For rEd FlaGs
purchasers of real estate. The promoter        oF Fraud
raises money for the entity to purchase        A real estate investment opportunity may
or finance the real estate by selling          only be as good as the person and the
equity interests in the entity. What the       company who are standing behind it. Here
promoter is selling are ownership interests    are some warning signs that the investment
in the entity. Those equity interests are      opportunity may not be legitimate:
securities. A promoter may also borrow
money from investors to raise capital             1. A salesperson without a securities
for the entity. In that case, the promoter           registration or valid exemption
is selling promissory notes, which are               from registration. Having a
securities.                                          real estate or insurance license
                                                     does not qualify an individual
Are you buying real estate that you can              to sell securities. Contact the
control? A promoter may “package”                    Commission’s Securities Division

                                                                                            39
                               to determine the licensure status        or the total amount of funds
                               of the promoter and product and          secured by the deeds of trust
                               if there is a disciplinary history       may far exceed the value of
                               – even if it is with someone you         the property. Remember, all
                               know and trust.                          investments involve some form
                                                                        of risk – the higher the rate of
                            2. A company without verifiable or          return, the higher the risk of
                               audited financial information.           financial loss. Only invest what
                               Beware if the company’s                  you can afford to lose.
                               representatives emphasize their
                               luxurious lifestyle and not           4. A limited time period to make
                               objective financial information          a decision. Scams are often
                               that has been audited according to                presented as a once-in-
                               acceptable accounting standards.                  a-lifetime opportunity
                               Request written information                       and promoters ususally
                               that fully explains the                           require an intestor to
                               investment, such as a                             make a quick decision
                               prospectus or offering                            before the opportunity
                               circular. The                                     is gone. When it comes
                               documentation                                        to your investment
                               should                                                  dollars, this high-
                               contain                                                   pressure sales
                               enough                                                    tactic is a warning
                               clear and                                               sign of a possible
rea l estate inves tments




                               accurate                                             scam. Having the
                               information to                                       appropriate amount of
                               allow you or                                         time is crucial for a
                               your financial                                       thorough background
                               adviser to                                           check on the promoter
                               evaluate the                                         and product. This
                               company’s                                            investigatie process
                               financial                                            is know as “due
                               health and the                                       dilligence.”
                               particulars of
                               the investment.                       5. An opportunity that sounds
                                                                        too good to be true. The lure of
                            3. A deal with guaranteed returns           wealth sometimes blinds potential
                               and little to no risk. Promoters         investors with greed. Vet the
                               may claim the investment has             investment opportunity with an
                               little risk since it is secured          objective third party such as an
                               by a deed of trust, but such             accountant, financial professional
                               investments are rarely without           or attorney, someone not
                               risk. For example, the promoters         associated with the transaction
                               may fail to record the deed of           and without a hefty commission
                               trust for the investors’ collateral      at stake.

40
VARIABlE
     Annuities
    What Is a varIablE annuIty?
    A variable annuity is a contract between you
    and an insurance company, under which the
    insurer agrees to make periodic payments
    to you, beginning either immediately or at
    some future date. You purchase a variable
    annuity contract by making a single
    payment or a series of payments.




                                                     var ia ble an nui ti es
    A variable annuity typically offers a range
    of investment options. The value of your
    investment will vary depending on the
    performance of the investment options you
    choose. Investment options for a variable
    annuity typically are mutual funds that invest
    in stocks, bonds, money market instruments,
    or some combination of the three.

    not sIMIlar to a
    Mutual Fund
    Although variable annuities typically
    invest in mutual funds, they differ from
    mutual funds in several important ways:



                                                     41
                         First, variable annuities let you receive          Third, variable annuities are tax-deferred.
                         periodic payments. These payments can be           That means you don’t pay taxes on the
                         for the rest of your life (or the life of your     income and investment gains from the
                         spouse or some other person you designate).        annuity until you withdraw the money.
                         This feature offers protection against the         You can also transfer money from one
                         possibility that you will outlive your assets.     investment option to another without
                                                                            paying taxes at the time of the transfer.
                         Second, variable annuities have a death            When you withdraw your money,
                         benefit. If you die before the insurer has         however, your annuity income will be
                         started making payments to you, your               taxed at ordinary income rates, rather
                         beneficiary is guaranteed to receive a specific    than (usually lower) capital gains rates.
                         amount—typically at least the amount               In general, the benefits of tax deferral
                         you paid to purchase the annuity. Your             will outweigh the costs of a variable
                         beneficiary will get a benefit from this feature   annuity only if you hold it as a long-term
                         if, at the time of your death, your account        investment to meet retirement and other
                         value is less than the death benefit amount.       long-range goals.

                         NOTE: Other investment vehicles, such as IRA, 401(k), and Keogh accounts, may provide simi-
                         lar tax-deferred income benefits, without some of the drawbacks of annuities.


                                      bE aWarE oF thE rIsKs…
                         Surrender charges                                  with “bonus credits” they claim will more
                         If you withdraw money from a variable              rapidly increase the value of your account.
                         annuity during a certain period after a            The problem is that these annuities
                         purchase payment (typically 6-8 years,             typically also include larger surrender
                         but in some cases 10 years or longer), the         charges and other charges, as well as
                         insurance company usually will assess              limitations on certain features, such as the
vari ab le a nnu ities




                         a “surrender” charge (typically some               death benefit, based on the time you may
                         percentage of your account value or of the         hold the annuity before your death.
                         amount withdrawn).
                                                                            Exchanges
                         Other charges                                      The Internal Revenue Code permits
                         The insurer may deduct charges for                 certain tax-free exchanges with respect to
                         mortality and expense risk (typically up           variable annuities. However, the annuity
                         to 2% a year), for administrative fees, for        you receive in exchange frequently has
                         underlying fund fees, and for other fees           limitations that may affect its value,
                         and expenses. You need to be aware of              particularly if you are not able to hold the
                         the amount of these fees, as they may              annuity for a long time.
                         adversely affect the value of your annuity
                         investment account.                                QuEstIons to ConsIdEr bEForE
                                                                            InvEstInG In a varIablE annuIty
                         Bonus Credits                                        •	 Will you use the variable annuity
                         Some companies will try to sell annuities               primarily to save for retirement or a

42
        long-term goal?                                    the investment funds.
   •	   Are you investing in the variable             •	   Other contract provisions, like
        annuity through a retirement plan or               surrender charges, eventually expire
        IRA (which would mean you are not                  with an existing contract. However,
        receiving any additional tax-deferral              new charges may be imposed with
        benefit from the variable annuity                  a new contract or may increase
        over some other investment)?                       the period of time for which the
   •	   Are you willing to take the risk that              surrender charge applies.
        your account value may decrease               •	   You may also have to pay higher
        if the underlying mutual fund                      charges, such as annual fees for the
        investment options perform badly?                  new contract.
   •	   Do you understand all the features of         •	   You may not need the costly new
        the variable annuity?                              features of the new contract.
   •	   Do you understand all the fees                •	   In many instances your broker is
        and expenses the variable annuity                  getting paid a higher commission
        charges and how they may affect                    for a variable annuity than he or
        your investment return?                            she would for the sale of another
   •	   Do you intend to remain in the                     securities product, such as a stock,
        variable annuity long enough to                    bond or mutual fund.
        avoid paying any surrender charges
        if you have to withdraw money?             You should specifically ask the person
   •	   If a variable annuity offers a bonus       recommending that you exchange your
        credit, will that bonus outweigh any       variable annuity the following:
        higher fees and charges the product           •	 What is the total cost to me of this
        may charge?                                      exchange?
   •	   Does the variable annuity have                •	 What does the change in the surrender
        features, such as long-term care                 period or other terms mean for me?
        insurance, that you could purchase            •	 What are the new features being
        separately for less money?                       offered? Why do I need or want




                                                                                                  var ia ble an nui ti es
   •	   Have you consulted with a tax advisor            those features?
        and considered all the tax consequences       •	 Are those features worth the
        of purchasing the variable annuity,              increased cost?
        including the effect of annuity payments      •	 Will you be paid a commission for the
        on your tax status in retirement?                exchange, and if so, how much is it?
   •	   If you are exchanging one annuity             •	 Is there a “free-look” period when
        for another, do the benefits of the              I can cancel the transaction and
        exchange outweigh the costs?                     receive a refund?

Generally, the exchange or replacement of          Avoid signing any exchange form or
insurance or annuity contracts is not a good       agreeing to exchange or purchase an
idea, for a variety of reasons:                    annuity until you study all of the options
   •	 “Bonus” or “premium” payments the            carefully, have all of your questions
       insurance company makes to you are          answered and are satisfied that the
       usually offset by other charges you         exchange is better than keeping your
       pay the insurance company out of            current contract.

                                                                                                  43
                                                      VIATICAl
viati ca l or life settlements as inv e s t me nt s




                                                          lIFE
                                                       oR Settlements
                                                                as Investments
                                                          What Is a vIatICal
                                                          or lIFE sEttlEMEnt?
                                                          Viatical settlements involve the purchase
                                                          of an interest in a life insurance policy of
                                                          a terminally-ill person. Life settlements
                                                          involve the purchase of an interest in
                                                          a life insurance of a person whose life
                                                          expectancy may be compromised by
                                                          serious health issues.

                                                          Individuals who sell their life insurance
                                                          policies in connection with viatical
                                                          settlements are called “viators.”
                                                          Individuals who sell their life insurance
                                                          policies in connection with life settlements
                                                          are called “insureds.”

                                                          Selling one’s insurance policy may be
                                                          a desirable option, particularly when a
                                                          policy does not have cash value and loan
                                                          provisions. Usually, private companies
                                                          and insurance companies buy the
                                                          future rights to the policy at a discount



44
and often fractionalize that interest to       Your investment may have tax
investors who receive a return on their        consequences. Funds invested in viatical
investment when the viator/insured dies        and life settlements may not be eligible
and the death benefit is paid.                 for an IRA, 401(k) or Keogh plan.
                                               Consult with your licensed financial,
Viatical and life settlements can be           tax and/or legal professional before




                                                                                              v iat ical or life settlements a s i nvestmen ts
legitimate investments and are often           investing.
promoted as a way for people to do a
“good deed” for humanity, providing            The life expectancy estimate may be
much-needed financial resources to a           inaccurate. Know who is estimating the
family drained from caring for an elderly      life expectancy of the viator/insured, and
or terminally-ill person.                      whether that person has the knowledge and
                                               experience to make a realistic estimate.
Know the Risks                                 It could be in-house staff, independent
Investing in viatical and life settlements,    physicians or a specialty firm that analyzes
however, is not like buying certificates of    medical and actuary data.
deposit. Viatical or life settlements are
high-risk investments. Before you buy,         annual vErsus FIXEd ratE
consider the following:                        oF rEturn
                                               Viatical and life settlement promoters
Viatical or Life Settlements are not           may advertise a return on investment
liquid investments. You receive a return       that seems enticing, but this percentage
only when the insured dies and the death       rate can be misleading. With viatical
benefit is paid. You may have to wait          and life settlements, an “annual” return
several years to realize a return on your      cannot be calculated until the policy
investment.                                    matures. This means that your return
                                               depends on when the viator/insured
The rate of return is not guaranteed.          dies, which promoters cannot precisely
The return depends on when the viator/         predict in advance. Thus, the advertised
insured dies, which is very unpredictable.     return is typically a “fixed” rate of
Medical advances can further complicate        return, which disregards an investment’s
the estimation of the viator/insured’s life    holding period.
expectancy.
                                               CasE study
The death benefit may not be paid. The         An investor purchases an interest in a
insurer may not pay the death benefit if the   viatical settlement contract for $7,500 on
policy was obtained fraudulently and the       a policy with a death benefit of $10,000.
contestability period has not expired. The     The XYZ Viatical Company advertises a
policy may lapse if the premiums are not       return of up to 33% on a viatical contract
maintained. If the premiums are prepaid        expected to mature in 12 months. The
in escrow for a certain period, know who       fine print indicates that if the viator
will pay the premiums if the viator/insured    lives past the estimated maturity date,
lives beyond his or her life expectancy. To    the investor is NOT responsible for
prevent a policy from lapsing, you as the      premiums. (NOTE: calculations are
investor may have to pay premiums.             based on simple interest, rounded).

                                                                                               45
                                                      Before investing, calculate the fixed rate of return:

                                                      Death Benefit – Purchase Price =        $10,000 - $7,500                        =      33%
                                                            Purchase Price                                              $7,500

                                                      SCENARIO 1
viati ca l or life settlements as inv e s t me nt s




                                                      The viator/insured expires exactly one year later.
                                                      (Death Benefit - Purchase Price) ÷ Purchase Price           =     .33           =      33%
                                                            Holding Period                                              1 year

                                                      SCENARIO 2
                                                      The viator/insured expires exactly two years later.
                                                      (Death Benefit – Purchase Price) ÷ Purchase Price           =     .33           =      17%
                                                            Holding Period                                              2 years

                                                      SCENARIO 3
                                                      The viator/insured expires exactly three years later.
                                                      (Death Benefit – Purchase Price) ÷ Purchase Price           =     .33           =      11%
                                                            Holding Period                                              3 years

                                                      In the first scenario, the fixed and annual     by viatical promoters. Investigations
                                                      returns are identical. The investor realizes    revealed salespeople telling investors that
                                                      a 33% annual return, but only because           their money was “safe and guaranteed”
                                                      the policy matured in the first year. In        as they glossed over or failed to disclose
                                                      the second and third scenarios, the annual      investment risks.
                                                      returns (17% and 11%) are each lower than
                                                      the advertised fixed return.                    Additionally, some insurance policies may
                                                                                                      be “clean sheeted,” meaning the insured
                                                      When comparing all three examples, note         misrepresented his or her health status
                                                      how the rate of return decreases as the         or medical history during the application
                                                      investment holding period increases. This       process. Life expectancies become grossly
                                                      means that the longer you have to wait for      and recklessly underestimated, thereby
                                                      the investment to “mature,” the lower your      inflating the potential return on investment.
                                                      rate of return will be. Keep in mind that       Moreover, some policies are manufactured
                                                      if you as the investor are responsible for      out of thin air, resulting in investors
                                                      paying insurance premiums, the overall          purchasing viatical and life settlement
                                                      return will be diminished further.              contracts that did not even exist!

                                                      vIatICals and Fraud                             Many of the salespeople in these cases
                                                      The Commission’s Securities Division            were insurance agents seduced by high
                                                      has investigated and taken enforcement          commissions and lulled into believing
                                                      action against a number of individuals          that viatical and life settlements were
                                                      and companies for promoting unregistered        not securities. In Arizona, viatical and
                                                      viatical settlement contracts in Arizona. In    life settlements are securities and sales
                                                      several cases, the Division alleged fraud       are governed by the Arizona Securities

46
Act. Any salesperson offering and selling               conversion,
more than three viatical contracts per year        •	   The contact information for the party
in Arizona must be registered with the                  responsible for renewing a term
Commission’s Securities Division.                       policy, if necessary,
                                                   •	   The amount of your investment that
KnoW your rIGhts                                        will be set aside to pay premiums,




                                                                                                v iat ical or life settlements a s i nvestmen ts
Arizona law further specifies that a viatical      •	   The contact information for the party
company should disclose:                                who will be the policy owner and the
   •	 Your right to cancel the investment               person who will be responsible for
      and receive a refund,                             paying premiums,
   •	 Contact information for the                  •	   The date when you may have to pay
      insurance company that issued the                 premiums, if necessary, and
      policy,                                      •	   The separate amounts of your
   •	 The policy number, issue date, and                investment that will be used pay the
      type,                                             seller’s commission, buy the policy
   •	 The policy premiums and terms of                  and pay administrative expenses
      policy payments,                                  along with other transaction costs.
   •	 The total value of the policy and
      your percentage of ownership,             vErIFy bEForE you buy!
   •	 Whether or not the policy is              The Arizona Corporation Commission’s
      contestable; if so, the risk that the     Securities Division warns investors to fully
      insurance company may cancel the          verify all of the above information with
      policy or refuse to pay claims made       the viatical company BEFORE they invest.
      during the contestable period,            The next important step is to contact the
   •	 The contact information for the           Division’s Duty Officer at 602-542-0662
      party responsible converting a            or toll free, 1-866-VERIFY-9, to verify
      group policy to an individual one,        registration status of the viatical contract,
      including the terms and costs for the     the company and the salesperson.




                                                                                                 47
                                  SMAll
                                BUSInESS
                                    Investments
small b usin ess i nvestments




                                    Small businesses may raise start-up and
                                    growth financing by selling stock or debt
                                    to the public. This type of financing often
                                    is considered public venture capital. In
                                    fact, many investors view such financing
                                    as an opportunity to get in on the ground
                                    floor of emerging businesses and to realize
                                    huge profits as the small businesses
                                    grow into large ones. BEWARE! Small
                                    business investments are associated with
                                    high risk. Purchasing the stock or the
                                    debt instruments of a small company
                                    is a highly speculative investment.
                                    Statistically, most new businesses fail
                                    within the first few years of operation.

                                    rEGIstratIon oF sMall
                                    busInEss sECurItIEs
                                    Arizona offers Uniform Limited Offering
                                    Registration (ULOR) to small businesses.
                                    ULOR is a simplified registration procedure
                                    to reduce the costs of a public offering.
                                    Lower costs make it financially feasible



48
for small businesses to sell their securities   dollars that would otherwise be spent on
to the public. Corporate officials describe     a consumer purchase, such as an extra
their business and their business proposals     vacation or a down payment on a boat or
on a Form U-7. The U-7 follows a question       recreational vehicle.
and answer format to elicit information very
similar to that found in a standard business    The ability of a new or small company
plan. Once the securities are registered        to provide a return on its debt offering
for sale by the Arizona Corporation             or appreciation on its stock offering
Commission, the Form U-7 becomes the            also is uncertain. Never let a securities
offering document for investors.                salesperson (who is paid by commission)
                                                convince you that the investment is without
Small businesses may also offer their           risk or that the Arizona Corporation
securities without registration if the          Commission endorses an investment
businesses follow the terms of specific         because it has been registered for sale.
exemptions from registration. The               Any such assurances are false, and you
businesses should still give an offering        should report the salesperson to the
document that describes the company and         Commission’s Securities Division. Also,
the offering to potential investors.            never let a securities salesperson rush you
                                                to make an investment decision. Always
Whether offered under an exemption              take the time to read and understand the
from registration or as a registered public     offering material.




                                                                                               small business in vestmen ts
offering, securities of small businesses
include investment risks you need to            Another uncertainty in venture investments
consider thoroughly before investing.           is that they are almost always highly
Read the following discussion closely to        illiquid. The securities technically may be
determine if an offering is within your         freely transferable, but the resale market
risk “comfort zone” and satisfies your          may be “thin” or nonexistent. Thus,
investment objective.                           not only is your potential for profit not
                                                guaranteed, but you may be unable to sell
What arE your                                   your securities.
InvEstMEnt rIsKs?
The overriding principle that should            KnoW your InvEstMEnt
control any decision to invest in a small       stratEGy
business is: Never make a venture               Typically, professional venture capitalists
investment that you cannot afford to lose       do not invest large portions of their funds
entirely.                                       in a single company. Instead, they spread
                                                their risk by investing in a large number of
KnoW thE rIsKs                                  companies and hoping that a few, highly
The ability of a small, vulnerable enterprise   successful investments will more than
to survive in a competitive business climate    offset the many unsuccessful ones. If you
is not known. Given this uncertainty, never     plan to invest large amounts of money in
use funds for a venture investment that         small businesses, you should carefully
might be needed for necessary expenses,         consider your strategy. Even when using
such as your children’s education or your       this strategy, do not invest funds you
own retirement. Instead, use discretionary      cannot afford to lose entirely.

                                                                                                49
                                hoW to analyzE your                             Industry
                                vEnturE InvEstMEnt                              Make sure that all of your questions and
                                Assuming that you have discretionary            concerns are addressed. In fact, you may
                                dollars to spend on a venture investment,       want to meet the management team about to
                                what factors should you consider when           have the use of your money. Remember to
                                making an investment decision? Although         focus on their prior business history and not
                                there is no set formula for making              on their rehearsed sales presentation.
                                successful investment decisions, certain
                                factors are often considered particularly       Always consider the company’s industry. A
                                important by professional venture investors.    growth industry is desirable, but you must
                                Some of these factors are discussed below.      pay careful attention to the ease of entry into
                                Carefully consider the factors below while      that industry or market and other competitive
                                reviewing the offering documents. If you        factors. The offering document to investors
                                have any questions, require management          often lacks much detailed information on the
                                to answer all questions to your satisfaction    company’s primary or related industry. You
                                before you invest.                              may wish to conduct your own industry
                                                                                investigation. Study research reports by
                                ManaGEMEnt                                      securities analysts and statistics in trade
                                Most professional venture investors single      journals to learn about growth trends and
                                out management quality as the most              the financial health of competitors. Articles
                                significant factor in the success of a small    in the business press also are helpful,
small b usin ess i nvestments




                                business. Inexperienced investors often give    but reflect only the subjective views of
                                too much weight to a glamorous product and      companies in the industry.
                                too little weight to management experience,
                                skill and integrity. Critical questions are:    Finally, when analyzing a new industry,
                                    •	 How much experience does                 do not confuse a “need” with a “market.”
                                        management have in the industry, in     Much advertising and other expensive and
                                        a small business and in financial and   time-consuming selling efforts may be
                                        marketing functions?                    required before customers actually purchase
                                    •	 How successful were the managers         products that meet their particular “needs.”
                                        in previous businesses?
                                    •	 Has management prepared                  MarKEtInG
                                        contingency plans for an unexpected     Do not overlook the cost of marketing
                                        death or resignation of a key           and the time it takes to enter a market. A
                                        executive or product developer?         classic analytical trap is to estimate the
                                    •	 What is management’s reputation in       total size of a market and then to assume
                                        the local business community?           that the company somehow will obtain a
                                    •	 What is management’s salary and          percentage of that market without actually
                                        benefits package? Is it appropriate     analyzing what is involved to achieve that
                                        given the company’s financial           level of penetration. This type of analysis
                                        condition?                              is simplistic and misleading. Consider it to
                                    •	 What position if any, is management      be a warning sign if encountered.
                                        retaining in the company’s
                                        ownership, i.e., what percentage of     An accurate marketing plan makes a step-
                                        stock will be held by management?       by-step analysis of the sales strategies, the

50
efforts, and the time required to penetrate a
particular market niche. Evaluate this plan
in terms of the company’s management
and financial resources to be expended on
marketing and the resources available to
the company’s competitors. This analysis
will provide a realistic assessment of the
company’s ability to capture market share.

FInanCIal CondItIon
Examine the financial statements
(including the footnotes). Look to the
cash and debt positions, among others, to
indicate performance potential and a solid
financial base.

If the corporation is new, it will have no
track record. Instead, you must base your
investment decision on assumptions of
future sales and expenses. Inquire about
the following:




                                                  small business in vestmen ts
    • Are the assumptions realistic?
    • Are the cost components and profit
       expectations within normal industry
       ranges?
    • What corrective actions will
       management take if projected results
       are not obtained?

A good business library should be able
to give you the information to confirm or
reject the financial conclusions made in the
offering document. Also, study again the
industry trade journals. Notice whether
the financial statements are reviewed or
audited. A review is substantially less
comprehensive than an audit.

While a review may bring to the
accountant’s attention significant matters
affecting the statements, there is no
assurance that there are not significant
adjustments that must be made in order to
fairly present the issuer’s financial position.
Read the accountant’s report carefully.

                                                   51
                                Finally, consideration of financial            If the company is not likely to develop a
                                projections will help to put a value on the    secondary market in its securities or is not
                                price of the issuer’s securities. Do not       likely to be sold within a reasonable time, it
                                overvalue the potential for profits and thus   may not be a good investment regardless of
                                pay too much for securities in a company       its prospects for success. Your dollars and
                                that lacks a history of operations. No         your percentage of the profits they helped to
                                matter how successful the company may          generate will be “trapped” in the company.
                                become, the investment is not good if the      Being a minority security holder in a small
                                price of the securities is too high.           company is generally not a happy prospect.
                                                                               Management may receive a good return
                                usE oF ProCEEds                                indefinitely through generous salaries and
                                How will your investment be used by the        bonuses, if the company is successful but
                                issuer? Purchases of equipment, facilities     remains illiquid. In this regard, be wary
                                or distribution routes are examples of         of family businesses. Review the various
                                investment in a company’s growth.              types of companies whose securities are
                                Expenditures on management salaries and        publicly traded. This should give you
                                other “overhead” or administrative items       insight as to whether the particular type of
                                may not contribute to the company’s            company under consideration will offer
                                profit. The “Use of Proceeds” is               investors an exit strategy.
                                discussed in the offering document. If
                                you are concerned or do not understand         usE your bEst JudGMEnt
small b usin ess i nvestments




                                the disclosure material, ask management        The sale of small business debt and stock
                                for an additional explanation.                 offerings enhances the state’s economy and
                                                                               provides additional jobs. A larger capital base
                                EXIt stratEGy                                  allows Arizona businesses the opportunity
                                Before you purchase any stock or debt          to grow. Likewise, opportunities to invest
                                instrument of a small business, consider       in small businesses give Arizona residents
                                how you will eventually sell your              new opportunities for investment success.
                                investment. The two standard methods           However, investors must balance the potential
                                are selling your investment in the public      for success against the inherently risky
                                securities markets or receiving cash           nature of small business investments. They
                                or some other form of compensation             should consider discussing any investment
                                resulting from a merger or an acquisition      opportunities with their attorneys, accountants
                                of the company.                                or other business advisors.

                                Remember, if you are cautious
                                and prudent in making investment
                                decisions, your chances of obtaining
                                a good return will be improved
                                significantly.
52
PREVEnTInG
& RESolVInG
   PRoBlEMS
          with licensed




                                                p reventing and resolvin g pro blems
 Financial Professionals
       Most brokerage firms and their
       salespeople deal honestly and fairly
       with their customers. Sometimes,
       however, difficulties and disputes can
       arise and, in some instances, fraud
       and theft may occur. The best defense
       against problems is to be in contact
       with your salesperson and make
       certain your investment objectives and
       risk tolerance are clear and then read
       your trade confirmations and monthly
       statements to check for problems.

       Because investing in securities
       always involves an element of
       risk and can be quite complex,
       selecting the right person to give
       you investing advice or manage
       your money is essential to achieving
       your investment goals. Consider the
       following steps before you select a
       financial professional and hand over
       your hard-earned money.



                                                 53
                                     stEP 1: rEsEarCh your                               Unlike con artists who utilize high-
                                     broKEr ChoICE                                       pressure sales tactics, legitimate financial
                                     The first step is to generate a candidate           professionals should take the time to ask a
                                     list of financial professionals from people         series of questions about your income and
                                     or professional associations you trust.             assets, your career and retirement plans
                                     Next, get the background facts about the            and the level of risk you are willing and
                                     individual and firm that will handle your           able to take in investing. This information
                                     investments. This is one of the most                is your financial	profile.
                                     important ways that the Securities Division
                                     can help you. Contact the offices and ask           stEP 3: KEEP aCCuratE and
                                     these questions:                                    CurrEnt rECords
                                         •	 Is the individual (broker or                 Your financial profile should be accurately
                                             salesperson) registered to sell             reflected on your new account form.
preventing a nd resolving problems




                                             securities in Arizona?                      Check the form and get a copy for your
                                         •	 Is the firm (brokerage or dealer)            records. If your investment strategy
                                             registered to sell securities in Arizona?   changes over the years, be sure that your
                                         •	 Does the broker or brokerage                 records accurately portray your revised
                                             firm have a history of regulatory           objectives.
                                             violations, disciplinary actions or
                                             investor complaints?                        This form prepared by your salesperson
                                                                                         contains your financial and investment
                                     You may ask: Does having a securities               objective information and is the basis
                                     license guarantee that person is honest?            for your salesperson’s securities
                                     The answer is “no,” but in verifying that           recommendations.
                                     your financial professional is licensed and
                                     without a disciplinary history, you have            Some important points to follow:
                                     decreased your chances of falling victim to           1. Fill out forms accurately and
                                     a con artist whose main objective is to steal            thoroughly. Do not sign documents
                                     your money and run from the law.                         to be filled out later by the financial
                                                                                              professional.
                                     After narrowing down a candidate list,                2. Know the terms of any agreement you
                                     schedule a face-to-face or telephone                     sign. If you do not understand the
                                     interview with each person to discuss                    terms, do not sign on the dotted line.
                                     how your investment account should be                 3. Never make checks payable to the
                                     managed.                                                 financial professional.
                                                                                           4. Require written documentation of all
                                     stEP 2: MatCh your rIsK                                  agreements and transactions.
                                     tolEranCE & InvEstMEnt                                5. Take notes on all telephone
                                     stratEGy                                                 conversations and file with your
                                     Before meeting a financial professional,                 records.
                                     think about your financial goals and
                                     objectives. Are you interested in primarily         stEP 4: taKE an aCtIvE rolE In
                                     income, capital appreciation or quick               ManaGInG your aCCount
                                     profits? Also, carefully evaluate how much          Keep on top of the activity and
                                     money you can afford or are willing to lose.        performance of your account and question

54
anything that does not seem right to you.       and keep asking until you get an answer
If you do not get a satisfactory answer         you understand. If not, obtain a second
from your salesperson, contact the              opinion from an objective third party
compliance department of the brokerage          you know, someone who is not earning a
firm or the securities regulators. No one       commission on the investment.
cares as much about your money as you do
– be ready to assume the responsibility of      If you’re pressured by a financial
watching over it.                               professional to make a hasty decision, just
                                                say “no.” After all, it’s your money and no
Do so even if you have a discretionary          one cares more about it than you do. Keep
account where the financial professional        in mind that in most situations, legitimate
buys and sells without your prior approval.     investment opportunities should still be
Since almost all transactions must have         available tomorrow.




                                                                                              p reventing and resolvin g pro blems
your approval prior to any orders being
entered, any trades or other activity entries   stEP 7: KEEP thorouGh
that you have not authorized should             transaCtIon rECords
be questioned with your salesperson.            You should save all of your transaction
Brokerage firms send trade confirmations        records and copies of correspondence
listing the quantity, description, and price    in case they are needed to support your
of every buy and sell transaction. Likewise,    version of facts in a dispute. Never send
monthly account statements recap all            the originals of your documents to your
activity—trades and other accounting            salesperson or brokerage firm. Retain the
entries—that have taken place in your           originals and send copies as requested.
account.
                                                If the salesperson is unable or unwilling
When you receive any mail from your             to resolve your concerns, send a written
brokerage firm, you should immediately          complaint to the manager of the branch
review it. A delay in notifying the             where your account is located or to the
brokerage firm of trade problems may            compliance department of the brokerage
result in a change in market value that         firm. The letter should include details
will discourage a voluntary correction or       of your concerns and copies of any
adjustment by the firm.                         documents that help illustrate the
                                                problem or error.
If there is an error, insist that it be
corrected and get a copy of a corrected         Saying your account is losing money
trade confirmation or other written             because of the recommendations made
acknowledgement of the correction. Take         by your salesperson does not give the
written notes of telephone conversations in     firm or a regulator any clue as to the
case you need them later.                       nature of the problem you are seeking
                                                to resolve. Refering to your notes,
stEP 6: vErIFy bEForE you buy                   be as specific as possible by giving a
Ask for written “disclosure” information.       chronology of conversations and other
Review it carefully and make sure that          events, identifying specific transactions
you understand all of the risks involved in     that are in questions and describing
the investment. If you have questions, ask      your concerns with the salesperson’s

                                                                                               55
                                     statements or actions related to the          business in securities. State securities
                                     transaction.                                  regulators can also work with other law
                                                                                   enforcement agencies in bringing criminal
                                     You may also want to send a copy of           charges. However, neither state nor
                                     that letter, along with a complaint, to the   federal securities regulators can represent
                                     Financial Industry Regulatory Authority.      or advise you in seeking monetary
                                     While state and federal regulators            settlement.
                                     cannot represent you in an attempt to get
                                     your money back, they can review the          lIMIts oF InsuranCE
                                     activity and practices of salespeople and     Don’t be misled by account insurance
                                     brokerage firms to determine if violations    provided by brokerage firms. Nearly
                                     of state or federal securities laws have      all brokerage firms are required
                                     occurred.                                     to contribute to an insurance fund
preventing a nd resolving problems




                                                                                   administered by the Security Investors
                                     These agencies can take various actions       Protection Corporation (SIPC), which
                                     that affect the license or registration of    covers customer account assets should
                                     the individual or the firm to conduct         the brokerage firm go out of business.




56
SIPC insurance does not protect an                house or private counsel in defending
investor from loss of market value or bad         arbitration claims.
advice (see page 61 of this booklet). No
one can predict exactly how a security            Arbitration procedures are designed to
will perform at a given time in the future.       streamline the process and be less costly
Losing money is not, in itself, a violation       to the parties. The parties also agree that
of securities laws. Actual recovery of lost       the arbitration decision is binding and
funds must be pursued directly by the             not subject to appeal (except on limited
customer through one of four ways:                procedural grounds).

1. File a complaint with the brokerage            4. Another option available through
firm and attempt to reach a voluntary             FINRA is mediation. Similar to
settlement.                                       arbitration, and often suggested after




                                                                                                    p reventing and resolvin g pro blems
                                                  an arbitration claim has been filed,
2. State securities laws provide for civil        mediation brings the parties together with
remedies for certain types of violations          a professional mediator who will not
such as unlicensed securities activity,           render any decision but who will act as
misrepresentation or fraud. State laws            a go-between to help the parties reach a
allow you to take your claim to court if it       mutually acceptable settlement.
is made within a prescribed period of time
defined in the law. You should consult with       This process is designed to be even less
an attorney about your ability to bring an        costly than either arbitration or court action.
action in state or federal court for securities   It does not necessarily require an attorney,
law violations.                                   and it involves the shortest time from claim
                                                  to resolution. If mediation fails to resolve
3. Many brokerage firms require                   the dispute, arbitration can still proceed.
customers to sign what is known as a
Predispute Arbitration Agreement that             Remember, your first attempt to resolve
may be part of a more all-encompassing            any problems or concerns with your
customer or margin agreement. These               account should be with the salesperson and
arbitration agreements bind the parties           the brokerage firm. However, do not wait
to resolve most disputes relating to the          for a matter to correct itself! If a resolution
customer’s account via the arbitration            is not forthcoming, do not hesitate to
process. Some agreements even specify             contact a regulatory authority or seek legal
in which forum the arbitration claim              advice.
must be filed.
                                                  stEP 8: WatCh For Fraud
Arbitration differs from court action in          and abusE
that the parties present their case to a          Although the vast majority of financial
panel made up of industry and public              professionals are honest, there are brokers
members who will hear the testimony               and advisers who engage in misconduct.
and then jointly make a decision. You             Here are some major types of problems:
are not required to have an attorney to
pursue arbitration but most brokerage             1. Unsuitable investments.
firms do utilize the services of in-              Brokers must follow what’s called the

                                                                                                     57
                                     “know your customer” rule. The rule                                   Remember, avoid responding to
                                     requires them to make certain that the                                solicitations over the telephone or the
                                     investments they recommend to you                                     Internet without thorough investigation.
                                     “match” your financial goals and the
                                     amount of risk appropriate for you.                                   IF a sErIous ProblEM arIsEs
                                                                                                           What if you suspect that there may be
                                     2. Unauthorized Trading.                                              a serious problem with the way your
                                     Your broker is required by law to get your                            financial professional has handled your
                                     permission prior to trading in your account.                          money?
                                     Trades carried out without your permission
                                     are “unauthorized,” unless you give                                   Immediately contact the financial
                                     him or her discretion over your account.                              professional’s manager and explain your
                                     Unauthorized trading is illegal and should                            view of the problem. Spell out what
preventing a nd resolving problems




                                     not be tolerated.                                                     resolution you expect within a specific
                                                                                                           period of time. If the communication is in
                                     3. Misrepresentation/omissions of                                     person or over the telephone, follow up in
                                     material facts.                                                       writing. Keep copies of all correspondence
                                     Let’s say that your broker tells you                                  for your records.
                                     that investing in a new issue of stock
                                     is as “safe as a CD.” This is an                                      If the situation has not been corrected in
                                     example of what regulators refer to as                                the specified time, contact the contact the
                                     a “misrepresentation.” Your broker is                                 compliance division of the brokerage.
                                     obligated to be truthful—and complete—                                Send a copy of this letter (and any
                                     in presenting an investment opportunity to                            subsequent letters) to the Securities
                                     you. Omission of material facts is also a                             Division.
                                     serious violation of securities laws.
                                                                                                           If you do not receive a satisfactory
                                     4. Churning/excessive trading.                                        resolution at this stage, you can hire a
                                     Most investment professionals earn                                    private securities attorney to represent
                                     commissions when they buy and sell                                    you as well as file a written complaint
                                     investments on behalf of their clients. If                            with the Securities Division (see page 63
                                     your broker trades excessively in your                                for specific instructions on how to file a
                                     account, you could have a valid claim                                 complaint).
                                     against that broker for “churning.”
                                                                                                           It is crucial that you don’t wait to act!
                                     5. Theft of Funds.                                                    State laws limit the amount of time you
                                     One of the most devastating situations a                              have to take action against a financial
                                     small investor can encounter is actual theft                          professional. Time could run out, making
                                     by a broker or financial professional. This                           it impossible for you to take steps to
                                     type of illegal behavior sometime occurs                              recover your losses.
                                     even if the financial professional works
                                     at brokerage firm with oversight by a
                                     compliance officer.
                                     This article is based in part on information provided by:
                                     national Association of Securities Administrators (nASAA) www.nasaa.org or call 202-737-0900
                                     Investor Protection Trust (IPT) www.investorprotection.org or call 202-775-2113


58
ARBITRATIon
                                  and You
    Virtually all brokerage houses require their
    customers to agree to arbitration instead
    of going to court. This requirement is
    usually contained in the agreement you
    sign when opening a new account.

    Where do you get started in the arbitration




                                                     arb itratio n a nd yo u
    process? First, consult your account
    form to identify the arbitration forum
    designated by the brokerage firm. Then,
    contact the appropriate forum and request
    a “demand for arbitration” packet.

    The packet will explain how to file an
    arbitration claim. If you have any questions
    about the information contained in the packet,
    contact the organization sponsoring the forum.

    FIlInG an arbItratIon
    Among the documents you will be asked
    to complete is a “statement of claim,”
    which sets forth the nature of the dispute,
    the amount of the claim involved, and the



                                                     59
                         damages that you are seeking.                                         investor arbitration panels consist of three
                                                                                               members: a chairperson, one panelist from
                         Your statement of claim should be focused                             outside the securities industry, and one
                         and 100 percent accurate. Exaggerated                                 panelist from within the industry.
                         claims or inaccuracies can destroy your
                         credibility and any chance of recovery.                               Prior to your hearing, you will be given an
                         The damages you seek should be                                        opportunity to object to potential arbitrators
                         reasonable and based on the actual losses                             if you have a legitimate reason for doing so.
                         attributable to the broker’s misconduct.
                                                                                               Once you have filed the necessary
                         should you GEt                                                        documents and fees, you (the claimant)
                         rEPrEsEntatIon?                                                       will be notified of any requests by the
                         Investors are not required to be represented                          respondent (the broker/brokerage firm) for
                         by legal counsel in arbitration. Those who                            additional information. You must respond
                         are unfamiliar with securities laws and                               in a timely manner to these requests.
                         the process of arbitration, however, often
                         choose to hire an attorney to represent them.                         You will be informed of the proposed date,
                                                                                               place and time of the hearing. Arbitration
                         If you intend to seek legal representation,                           hearings are not conducted in courtrooms, but
                         finding an attorney familiar with securities laws                     in conference rooms or hotel meeting facilities.
                         and how investor arbitration works is important.
                         Be sure to do your homework by thoroughly                             The hearing, while more informal than a
                         checking out attorneys who are unknown to                             courtroom proceeding, will follow guidelines
                         you. Determine the potential cost of legal                            for the presentation of evidence and testimony,
                         help and the fee options available to you.                            rebuttal, opening statements and closing
                                                                                               arguments. The arbitrators will make a
                         FIndInG a laWyEr                                                      decision based on the testimony and supporting
                         The Arizona State Bar Association or your                             evidence you and the respondent submit.
ar bi tration an d you




                         county bar association may be able to assist
                         you in finding a qualified lawyer. One national                       At the end of the hearing, all parties to the
                         organization, the Public Investors Arbitration                        claim will be excused while arbitrators
                         Bar Association, can identify lawyers in                              discuss their findings. You will be notified
                         Arizona with the appropriate background. For                          by mail of the decision of the arbitration
                         telephone numbers, see page 69 of this booklet.                       panel, normally within 30 days.

                         thE arbItratIon ProCEss                                               If the decision is in your favor, the notice
                         When you agree to the arbitration process, you                        you receive will specify the amount
                         agree to accept the outcome of the arbitration.                       awarded and the terms of payment. The
                         For this reason, it is important that you fully                       respondent will be required to pay your
                         understand how the arbitration process works.                         claim within a specific period of time, in
                                                                                               most cases within 30 days of the award.
                         The methods of selecting arbitrators                                  Awards not paid within the specified time
                         vary among organizations, but most                                    frame will bear interest charges.
                         This article is based in part on Information provided by:
                         national Association of Securities Administrators (nASAA) www.nasaa.org or call 202-737-0900
                         Investor Protection Trust (IPT) www.investorprotection.org or call 202-775-2113


60
                                                         s e curit ie s investor protecti on co rpor atio n
           SIPC
    Securities Investor
Protection Corporation
      What Is sIPC?
      The Securities Investor Protection Corpo-
      ration (SIPC) is a nonprofit, membership
      corporation, funded by its member securi-
      ties dealers. Although it is not a govern-
      mental agency or regulatory agency, SIPC
      has the ability to return funds and secu-
      rities to investor if the securities dealer
      become insolvent.

      Most all securities dealers registered with
      the Securities and Exchange Commis-
      sion (SEC) are members of SIPC, and are
      thereby required to display an official sign to
      notify investors of their membership. If a secu-
      rities dealer is not a member of SIPC, the firm
      must disclose this fact to investors. To verify
      if a firm is an official member, call the SIPC
      Membership Department at (202) 371-8300.

      sIPC CovEraGE
      The coverage provided by SIPC is some-
      times confused with that provided by the



                                                          61
                         Federal Depository Insurance Corporation         the firm and handle the liquidation and re-
                         (FDIC) since both provide insurance cov-         imbursement process for investors.
                         erage to protect investors. The FDIC guar-
                         antee only applies, within certain limits, to    SIPC coverage also includes protection
                         deposited funds in saving/checking ac-           against unauthorized trading in your secu-
                         counts, money markets and certificates of        rities account at the brokerage firm. This
                         deposits held in its member bank and thrift      protection can also apply to firms that are
                         institutions. Investments such as mutual         still financially solvent.
                         funds, individual stocks and bonds that you
                         may have purchased at an institution are         sIPC EXClusIons
                         not covered by the FDIC.                         It’s important to note that SIPC coverage
                                                                          does NOT include the following:
                         Though SIPC protection ends 180 days after           • Financial losses due to decreases in
                         the securities dealer loses its SEC registra-           your investment’s market value,
                         tion, it can be extended in some instances.          • Unsuitable recommendations made
                         If, for example, a member broker becomes                by your broker,
                         financially insolvent, SIPC can request that         • Cash on deposit not designated to
                         the federal courts appoint a trustee to liqui-          purchase securities, and
                         date the firm and return funds to investors.         • Many limited partnerships
                         When the case involves a small securities               and interests in precious metal
                         dealer, SIPC may take direct control over               commodities.
ar bi tration an d you




62
InVESToR
     Complaints
     The Securities Division of the Arizona
     Corporation Commission is responsible
     for regulating the securities industry in
     the state of Arizona. And one of its main
     functions is to oversee the firms and indi-
     viduals that engage in the offer and sale of
     securities to the public.




                                                    investor c ompla ints
     What thE sECurItIEs dIvIsIon
     Can do For you:
       • We will assign your complaint to an
         employee of the Securities Division
         for evaluation.
       • We may make inquiries and/
         or conduct an investigation to
         determine if a violation of the
         securities or investment management
         acts we regulate has occurred.

     What thE sECurItIEs dIvIsIon
     Cannot do For you:
       • The Securities Division cannot
         give you specific legal advice or



                                                    63
                             refer you to a particular attorney or      When filing notice of a complaint via
                             investment firm.                           email, keep in mind that a hard copy of
                           • The Securities Division cannot             your completed complaint form and sup-
                             directly recover money for you. You        porting documentation must still be pro-
                             may wish to employ an attorney to          vided to the Securities Division.
                             assist you in the recovery of your
                             investment.                                Keep originals in your files. The copies
                                                                        of the documents you should submit with
                        hoW to FIlE a CoMPlaInt                         your completed complaint form include:
                        The first step in the complaint process is
                        the completion of a complaint form. You            • All envelopes in which you received
                        can find the form online by visiting www.            information relating to your investment;
                        azinvestor.gov and clicking on Investor            • Letters;
                        Complaints or simply request one be sent           • Confirmations;
                        to you by dialing 602-542-4242 or toll free,       • E-mail correspondence;
                        1-866-VERIFY9 (837-4399).                          • Pamphlets;
                                                                           • Offering circulars;
                                                                           • Prospectuses or written offering
                        NOTE: The online complaint form is form              memoranda;
                        filler that can be filled out on the computer      • Purchase agreements;
                        and then printed and mailed to the Division.       • Stock certificates;
                        The Division continues to work toward              • Advertisements;
                        providing the public with the ability to           • Money order receipts or canceled
                        electronically submit complaints, but that           checks (copies of front and back) by
                        option is NOT yet available.                         which you made payments; and
                                                                           • Other written material that may
                                                                             support your complaint.
                        You can file a complaint with the Securities
in vestor co mpa ints




                        Division by U.S. mail, facsimile and email.     What should I say
                                                                        In My CoMPlaInt?
                        By Mail: Send the completed complaint           The more information you provide, the
                        form, together with copies of supporting        more likely we will be able to promptly
                        documents relating to your investment, to:      decide if any securities laws have been vio-
                        Securities Division—Complaints                  lated. The following information is critical
                        Arizona Corporation Commission                  to investigate the subject of your complaint:
                        1300 W. Washington Street, 3rd Floor
                        Phoenix, AZ 85007                                  • Names, addresses, telephone
                                                                             numbers and other identifying
                        By Fax: You may also fax your completed              information for any person or entity
                        complaint form and copies of supporting              you mention in your complaint.
                        documents to the Securities Division at            • Details of any transaction or activity
                        602-594-7470.                                        you think violates the Arizona
                                                                             Securities or Investment Management
                        By Email: Send notice of your complaint              Acts. Present the events in the order
                        to securitiesdiv@azcc.gov.                           in which they happened, using dates

64
     whenever possible.                         stEPs to taKE IF your
   • Copies of documents, listed above,         CoMPlaInt InvolvEs a dEalEr
     relating to the transaction that is the    or InvEstMEnt advIsEr
     subject of your complaint.                 Many disputes with securities dealers can
   • Signed declaration as to truth and         be directly resolved by you doing the steps
     accuracy of your complaint.                noted below.

What doEs thE sECurItIEs                        NOTE: In some cases, these recommendations
dIvIsIon do WIth My                             may be effective in resolving disputes with an
CoMPlaInt?                                      investment adviser. Unless an investment ad-
Upon receipt of your complaint, the Di-         viser is a member of FINRA, the arbitration
vision will consider making an inquiry          procedures discussed below may not be avail-
into the matter. You should be aware that       able. Additionally, smaller investment advis-
evaluation of your complaint might take         ers do not have the same kind of management
several weeks. It is the Division’s policy to   structure as dealers, including office managers
conduct inquiries on a confidential basis.      or compliance officers.
This is done to protect the integrity of the
investigation and to protect the personal       If you are unsatisfied with the response of
privacy of persons with respect to whom         an investment adviser representative, con-
unfounded charges may be made.                  tact the investment adviser firm’s manage-
                                                ment, but if there is none, contact the Com-
Remember, the Division does not have            mission’s Securities Division.
authority to provide legal or financial
advice to investors, or to represent them       notIFy your dEalEr and your
in connection with their personal rights.       dEalEr’s ManaGEr:
Any actions instituted by the Division            1. Talk to your salesperson about the
with respect to alleged or purported                 problem.




                                                                                                  investor c ompla ints
violations are limited to remedial and            2. Negotiate directly with your
enforcement actions seeking to prevent               salesperson to resolve the matter.
further violations.                                  Frequently, minor issues can be
                                                     settled informally at this point.
Thus, any action by the Division would not        3. If you feel the salesperson
necessarily result in any monetary benefit           has answered your questions
to you. If you have suffered monetary loss,          unsatisfactorily or is unwilling to
you should consider contacting a private             review your complaint, contact his
attorney to discuss your legal rights and            or her supervisor, as well as the
remedies under the Arizona Securities Act            office manager.
or other statutes.                                4. Write to the firm’s chief compliance
                                                     officer. This individual is located
If you do not have a private attorney,               at the firm’s home office address.
and need help finding one, the Maricopa              Request a response in writing from
County Bar Association’s Lawyer Referral             the compliance officer. (You can get
Service may be consulted at 602-257-4434             the name of the compliance officer
or you may wish to contact the local Legal           and the firm’s home address from
Aid Society for assistance.                          the salesperson’s office.)

                                                                                                  65
                           oIl AnD
                                      GAS
                          Investments and Fraud
                               What arE oIl and Gas
                               InvEstMEnts?
                               Oil and gas investments take many forms,
                               including limited partnership interests,
                               ownership of fractional undivided interests
                               in leases, and general partnerships. Tax
oi l & gas in vestments




                               consequences and investor liability vary
                               according to the type of program.

                               In a drilling limited partnership, an oil or gas
                               company sells partnership units to investors
                               and uses the money it raises to lease property
                               and drill wells. In return for managing the
                               project, the sponsor company usually takes an
                               upfront fee of one’s investment (commonly
                               referred to as tangible and intangible drilling
                               costs) and also shares in a percentage of any
                               revenue generated. Moreover, the promoter
                               often offers the investor the prospect of
                               a substantial first year tax write-off and
                               quarterly cash distributions from the sale
                               of any oil and gas the partnership finds
                               until the wells run dry.



66
Drilling partnerships have always been                    invested in the venture;
a gamble. This type of investment is
very speculative and is a highly illiquid              • The promoter has “hit” on every
investment with a long holding period.                   well drilled so far;

FraudulEnt salEs tEChnIQuEs                            • There has been a tremendous
Fraudulent oil and gas deals are frequently              “discovery” in an adjacent field;
structured with the limited partnership (or
other legal entity) in one state, the operation        • A large, reputable oil company is
and physical presence of the field in a second           operating or planning to operate in
state, and the offerings made to prospective             the area;
investors in states other than the initial two
states. Thus, there is less chance of an investor      • Only a few interests remain to be
dropping by a well site or a nonexistent                 sold. Send in your money now to
company headquarters. Such a structure also              reserve your interest;
makes it difficult for law enforcement officials
and victims to identify and expose the fraud.          • This is a special private deal
                                                         open only to a lucky, chosen few
boIlEr rooMs & IntErnEt PItChEs                          investors—like you!
One of the primary ways that unscrupulous
promoters attract potential investors is            InvEstor ChECKlIst: hoW to
by using the Internet and “boiler room”             avoId bEInG sWIndlEd
offices with banks of phones operated by            Investors wanting to make oil and gas
salespeople with little or no background            investments should consider oil exploration and
in energy exploration, but plenty of                producing companies that are well-established
experience in high-pressure sales.                  and listed on a major stock exchange.




                                                                                                      oil & gas i nvestments
Their techniques include repeated unsolicited       You can minimize the risk of being
phone calls to members of the public, hyping        swindled if you resist pressures to make
the profitability of the deal. Some swindlers       hurried, uninformed investment decisions.
use professionally designed brochures.              Here are five critical steps to take before
Beware of unsolicited oil and gas promotions        parting with your money.
on the Internet and through e-mail.
                                                       1. The Registration
Watch out for these claims:                               Ask if the offering is filed with the
                                                          Commission’s Securities Division or the
   • You will have an interest in a well                  state in which the promoters are located.
     that cannot miss;                                    If so, contact the Division for any
                                                          information it may be able to provide. If
   • The risks are minimal;                               the promoter is claiming an exemption
                                                          from registration, hire an attorney who
   • A geologist has given the                            can determine if the exemption is valid.
     salesperson a tip;
                                                       2. The Salesperson
   • The salesperson has personally                       Ask the name of the salesperson and

                                                                                                      67
                                   for whom he or she works. Ask about                                    fractional interest. Ask how much of
                                   the person’s background, particularly                                  the money will pay for advertising,
                                   in other oil or gas ventures. Inquire                                  salaries, sales commissions and any
                                   about sales commissions and/or                                         estimated profit to the company. Ask
                                   other compensation the salesperson                                     what type of conveyance document will
                                   will receive. Contact the Securities                                   be provided after any investment is made.
                                   Division to determine if the salesperson
                                   is registered or has been sanctioned.                                  If the well is completed, ask what
                                                                                                          the completion costs will be for
                              3. The Company                                                              each investor, including additional
                                 Ask for the names of the principals                                      commissions to be paid (the purpose
                                 or the general partners offering                                         and amount), and whether investors
                                 the security, their backgrounds                                          may be obligated to pay in more
                                 and experience in the oil and gas                                        money in the future. Ask what tax
                                 industry, and how long they have                                         incentive might be available if a dry-
                                 been associated with the company.                                        hole is encountered and for intangible
                                 Find out the history of the company,                                     drilling costs. Finally, evaluate the risk
                                 its capitalization, assets and retained                                  involved in making the investment. Is
                                 earnings. If you do not understand                                       the well to be drilled a wildcat (drilled
                                 accounting, hire a certified public                                      in territory not known to be productive)
                                 accountant to evaluate the overall                                       or is the drilling to be done in an area of
                                 financial health of the company.                                         proven oil reserves?

                                   Find out the company’s or general                                 5. The Lease
                                   partners’ history in drilling operations,                            Secure a legal description of the
                                   including its years in business, the                                 property on which the program is to
                                   number of wells drilled, the number of                               be drilled. Ask for a description of
oi l & gas in vestments




                                   wells completed as producing wells,                                  surrounding property, including local
                                   and whether the company retained                                     well completions and a geologist’s
                                   its interests in the wells it drilled.                               report on the area. You will want to
                                   All the above information should be                                  know if the lease is already in default
                                   contained in a prospectus or “offering                               and whether there is any overriding
                                   documents” that the promoter must                                    royalty or landowner’s royalty or
                                   furnish potential investors before they                              other leasehold burden being paid.
                                   commit their funds.
                                                                                                          Ask for a disclosure of the person(s)
                              4. The Investment                                                           selling the lease, the cost of the lease
                                 Make sure investor funds are kept in a                                   and any relationship between the
                                 separate escrow account until used and                                   lessor and the operator. Secure a
                                 that they won’t be commingled with                                       statement of the depth of the well to
                                 other funds. Also, be certain the funds                                  be drilled and an indication of when
                                 will not be used for purposes other                                      drilling is to begin. Insist on seeing
                                 than those specified. Ask how much                                       a copy of the operator’s contract
                                 money is to be raised and the cost per                                   with the promoter.
                          This article is based in part on information provided by:
                          national Association of Securities Administrators (nASAA) www.nasaa.org or call 202-737-0900


68
DIRECToRY oF IMPoRTAnT
tElEPhonE
nuMbErs
American Bar Association ........................................... (800) 285-2221
Arizona Attorney General
   Consumer Information ............................................ (602) 542-5763
   Investigations .......................................................... (602) 542-4853




                                                                                                important teleph one n umb er s
Arizona Corporation Commission ............................... (602) 542-3076
   Records-Corporate Status ....................................... (602) 542-3026
Bankruptcy Court ......................................................... (602) 682-4000
Better Business Bureau-Phoenix.................................. (602) 264-1721
Better Business Bureau-Tucson ................................... (520) 888-5353
Certified Financial Planners Board of Standards ......... (800) 487-1497
Commodity Futures Trading Commission ................... (202) 418-5000
Department of Economic Security ............................... (602) 542-4791
Department of Financial Institutions ........................... (602) 255-4421
Department of Insurance
   General Information ................................................ (602) 364-3100
   Licensing ................................................................. (602) 364-4457
Department of Mines & Mineral Resources ................ (602) 771-1600
Department of Real Estate ........................................... (602) 771-7799
Department of Revenue ............................................... (602) 716-6024
                                                                                                 69
                                DIRECToRY oF IMPoRTAnT
                                tElEPhonE
                                nuMbErs
                                Federal Bureau of Investigation-Phoenix .................... (602) 279-5511
                                Federal Trade Commission .......................................... (877) 382-4357
                                Financial Industry Regulatory Authority (FINRA)...... (202) 728-8000
                                Financial Planning Association .................................... (800) 282-7526
im por tant telephone numbers




                                Land Department ......................................................... (602) 542-4621
                                Maricopa County Attorney .......................................... (602) 506-3011
                                    General information ................................................ (602) 506-3411
                                    Investigations .......................................................... (602) 506-3844
                                Maricopa County Sheriff’s Office ............................... (602) 876-1000
                                Mine Inspector ............................................................. (602) 542-5971
                                National Futures Association ....................................... (800) 676-4632
                                Registrar of Contractors ............................................... (602) 542-1525
                                Secretary of State ......................................................... (602) 542-4285
                                State Bar Association ................................................... (602) 252-4804
                                U.S. Customs & Border Protection .............................. (520) 407-2300
                                U.S. Postal Inspection Service ..................................... (877) 876-2455
                                U.S. Securities & Exchange Commission
                                    Office of Investor Education & Assistance ............. (202) 942-8090


70
Chairman kristin k. Mayes
Commissioner Gary Pierce
Commissioner Paul newman
Commissioner Sandra D. kennedy
Commissioner Bob Stump
                                                             Funded by a grant from the
Arizona Corporation Commission   Investor Protection Trust – www.investorprotection.org

				
DOCUMENT INFO