When an unfamiliar company offers to fund a business idea, if it sounds too good to be true, it may be. Here's how to do the due diligence
I have very bad credit and no collateral, but I have a business idea. An agency I found on the Internet has offered me a deal with an angel investor, but they want me to send $250 to get started. They also want ownership of 23% of my company. They offer a money-back guarantee. Should I take the risk? —R.P., Ala.
Any time a company requests that you send them a sum of money up front, a red warning light should go on in your head, experts say. Think about how most large transactions are handled: A deposit or retainer is paid up front, with the balance due upon successful delivery of the products or services.
If a company requires you to wire money, making it impossible for you to stop payment or otherwise recover the funds, you should be extremely cautious. That's almost always a signal that a con artist is hoping to derail your good judgment (see BusinessWeek.com, 7/17/06, "Would I Lie to You? Five Cons Still Kicking").
GOOD BUSINESS PLAN. A few other things about this opportunity worry me as well. First, angel investors don't typically work through intermediaries. They evaluate business opportunities firsthand, and usually in person. Also, investors put money into promising companies—not into business ideas. Finally, if you have no capital of your own to invest, and no partners willing to put up money on your behalf, it's unlikely that you'll attract any outside funding unless it's in the form of loans (see BusinessWeek.com, 7/24/06, "A Rumor of Money for Entrepreneurs").
It may be that the online agency you've been communicating with wants the $250 to help you prepare a business plan, do a patent search, or submit an SBA loan application, says Steve Salter, vice-president of BBBOnline, an arm of the Better Business Bureau that is devoted to the Internet. In that case, the product they deliver might be useful, or it might not. Having a professional business plan is vital, but if your idea is not commercially viable, even the best business plan won't attract investors.
In terms of a loan application, if your credit is shot it will be very tough for you to get a loan, no matter how thoroughly you complete your application. At any rate, your banker or a counselor at a nonprofit small business agency, like the Small Business Development Centers, can advise you for free about how to apply for a loan.
HERE'S YOUR HOMEWORK. Before you send any money to this company, you must investigate it thoroughly and pin down exactly what it will provide for your $250, and whether it's worth it to go forward, or if you should back out before you lose the money.
While the Internet has allowed many fraudulent operations to proliferate, it also enables savvy entrepreneurs to avoid getting duped if they invest a little bit of time and effort on due diligence. First, check out the company through the Better Business Bureau, which issues "reliability reports" on close to 2.5 million companies in the U.S. "You can see how long the company has been in business, how many complaints we've received about them over what period of time, and whether they are a member of the BBB," Salter says.
While you can't always tell how legitimate a consumer complaint against a company is, you can probably get a general idea about the company just from the volume of complaints that have accumulated against it. "If you've got a two-person operation that's generated two dozen complaints in one year alone, that should tell you something's going wrong," Salter notes. "But it might be different if you had 100 complaints against a large corporation over a longer period of time."
GRADING SYSTEM. If the report on the company does list complaints, pay particular attention to the nature of the complaint (which is not always listed) and how the company responded. "If a company has a history of not responding to complaints, we consider that a serious thing. It's one thing to have a disagreement with a customer, that happens even to the most responsible companies. But if a company has complaints that they've ignored, and it seems to be a pattern, you want to pay attention to that," Salter says.
A few BBB offices around the country are piloting a rating system that will assign a letter grade to companies that indicates their overall performance based on their history of complaints from consumers, their track records, and other factors. Salter says the rating system is likely to be expanded in the near future.
LISTEN FOR SCREAMS. To turn up more information on an unfamiliar company, simply plug the company name and its founders' names into a search engine (surround the exact names in quotation marks). Devote some time to sifting through the results, particularly if the names are commonplace, and you'll likely turn up negative feedback on the company if it's a flat-out fraud. Look for complaints in consumer forums, on feedback sites, and in official documents.
Once a company or individual has perpetrated a scam, its victims usually scream loudly wherever they think they can be heard. This is where a few minutes of research can save you a lot of aggravation, not to mention money. Consumer protection advice for online transactions is also offered at bbbonline.org.
Karen E. Klein is a Los Angeles-based writer who covers entrepreneurship and small-business issues
