Beware of Penny Stock Schemes

Beware of Penny Stock Schemes

By David Merkel, CFA of Alephblog

Don’t buy what someone wants to sell you.  Buy what you have researched, and know that it is what you want to buy, because it is valuable.

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I have an irregular series on penny stocks, largely off of advertisements mailed to me, or things found on the web.  Every promoted penny stock I have run into has done badly.

Now for all of my prior penny stocks that I have been written about, all have done horribly.

Today’s gem is iTrackr [IRYS], which the advertiser says is the “Groupon Killer,” complete with a cover page that has a dinosaur labeled “Groupon,” being hit by meteors labeled “iTrackr” and “IRYS.”  Now, this time I got a full 16-page shiny brochure, which had quotes on iTrackr from two notable publications, but in 2006 & 2007, long before Groupon was prominent… and iTrackr did not gain in profitability since then, rather, it had larger and larger losses.

In five-point (or so) type, near the back of the brochure, there is the disclaimer.  I scan it with OCR so that you can read it at a normal size:


The xxx Newsletter and/or its publisher, Author Inc., dba did not receive any direct compensation (other than future subscription revenues, the amount of which is not known at this time) with respect to the publication of this Advertisement. Author Inc. has received ten thousand dollars in cash compensation to assist in the writing of this advertisement. BHB Marketing paid eight hundred thousand dollars to marketing vendors to pay for all the costs of creating and distributing this report, including printing and postage, in an effort to build investor awareness. BHB Marketing was paid by non- affiliate shareholders who intend to sell their shares.

 This publication does not provide an analysis of a company’s financial position. iTrackr Systems, Inc.’s financial position and all other information regarding iTrackr Systems, Inc. should be verified with the company. Information about many publicly traded companies and other investor resources can be found at the Securities and Exchange Commission’s website at Investing in securities is speculative and carries risk. It is recommended that any investment in any security should be made only after consulting with your investment advisor and only after reviewing all publicly available information, including the financial statements of the company. This mailing piece is not intended to be, nor should it be construed as, an offer to sell or a solicitation of an offer to buy securities, nor should it be construed as the provision of any investment-related advice or services tailored to any particular individual’s financial situation or investment objective(s). The xxx Newsletter is a bona fide publication of general and regular circulation offering impersonalized investment-related research to readers and/or prospective readers and is not an investment adviser. As such, it relies upon the “publisher’s exclusion” as provided under Section 202(a) (11) of the Investment Advisers Act of 1940 and corresponding state securities laws. The xxx Newsletter is not a registered broker dealer. Staff members of The xxx Newsletter and its affiliates may hold positions in investments mentioned herein, and may buy or sell their interests on the open market at anytime. The xxx Newsletter presents information in this report believed to be reliable, but its accuracy cannot be guaranteed. Additionally, it includes forward-looking statements and information within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including statements regarding expected growth of the featured company. Any statements that express or involve discussions with respect to predictions, expectation, beliefs, plans, projections, objectives, goods, assumptions or future events or performance may be forward-looking statements. The forward-looking statements contained herein (which include all statements other than historical information) involve significant uncertainties. Factors that could cause actual results to differ from the results or implied in forward-looking statements include the size and growth of the market for the Company’s products, the Company’s ability to fund its capital requirements in the near term and in the long term, pricing pressures for the Company’s products and services, the Company’s ability to obtain needed resources, and the local, regional and global markets. Forward-looking statements are based on expectations, estimates and projections at the time the statements are made that involve a number of risks and uncertainties that could cause actual results or events to differ materially from those presently anticipated. Past performance does not guarantee future results.

Emphasis mine. I wanted to split and highlight the juicy stuff.

Now, let’s think about the math of the scam: they pay the author $10,000 to sell his limited credibility to pump a penny stock.  They put $800,000 into the production and mailing of the glossy brochure.  But the market cap of the company is only $6.7 million.  They think the advertisement will create a lasting 12%+ rise in the stock that they can sell into.  Pump-and-dump.  Proclaim a biased story in big print; offer retractions in small print.

No surprise to me, this company has negative earnings (which are getting worse) and a growing negative tangible net worth.  For fun let’s look at the risk disclosures from the 10-K:

  • Because there is doubt about our ability to continue as a going concern, an investor may lose all of his investment in our company.  [Oh yeah, the auditors don’t believe in us.]
  • iTrackr has a history of losses and may not be able to generate sufficient net revenue from its business in the future to achieve or sustain profitability.
  • iTrackr’s cash on hand and anticipated near term sales may be insufficient to fund operations for the next 12 months.
  • If iTrackr is unable to fund its operations and capital expenditures, iTrackr may not be able to continue to develop and market its products and services which would have a material adverse effect on its business.
  • iTrackr is dependent upon key personnel whose loss may adversely impact iTrackr’s business.
  • iTrackr’s management systems and personnel may not be sufficient to effectively manage its growth.
  • If we are not competitive in the market for online sales, marketing and customer service solutions, or online consumer services our business could be harmed.
  • We are dependent on technology systems and third-party content that are beyond our control.
  • Our services are subject to payment-related risks.
  • We may be liable if third parties misappropriate personal information belonging to our clients’ Internet users.
  • Our products and services may infringe upon intellectual property rights of third parties and any infringement could require us to incur substantial costs and may distract our management.
  • Technological or other defects could disrupt or negatively impact our services, which could harm our business and reputation.
  • Our promotion and marketing of our websites may not result in generation of significant revenue which may cause our business to fail.
  • Unauthorized disclosure of sensitive or confidential client and customer data, whether through breach of our computer systems or otherwise, could expose us to protracted and costly litigation and cause us to lose clients which may result in our going out of business and for you to lose your investment.
  • Competition in the social networking, online marketing and e-commerce industry is intense and our competitors have greater financial resources and development capabilities than we have, and we may not have the resources necessary to successfully compete with them.
  • Our services may become obsolete and unmarketable if we are unable to respond adequately to rapidly changing technology and customer demands.
  • The loss of our executive officers or directors, could adversely affect our business.
  • Our Controls and Procedures may not prevent misstatements.
  • Our Financial Statements for the year ended December 31, 2009 and the quarterly periods ended March 31, 2010 and June 30, 2010 were Restated as a Result of a Re-Audit by our New Independent Accountant Which was Necessitated Due to Revocation of our Former Auditor’s Public Company Accounting Oversight Board (“PCAOB”) Registration.
  • There will be a substantial number of shares of iTrackr’s common stock available for sale in the future that may be dilutive to its current stockholders and may cause a decrease in the market price of its common stock.
  • Our common stock is considered “a penny stock” and may be difficult to sell.
  • iTrackr may be unable to receive a listing of its securities on NASDAQ or another national securities exchange, and this may make it more difficult for its stockholders to sell their securities.
  • One stockholder owns a majority of our common stock and may act, or prevent certain types of corporate actions, to the detriment of other stockholders.
  • If we issue additional shares of common stock in the future this may result in dilution to our existing stockholders.
  • There is currently no market for trading our common stock, and when such a market does develop, the trading price of our common stock may be volatile, with the result that an investor may not be able to sell any shares acquired at a price equal to or greater than the price paid by the investor.
  • The trading price of iTrackr’s common stock is likely to be volatile, and you might not be able to sell your shares at or above the public offering price.
  • The concentration of iTrackr’s capital stock ownership with insiders will likely limit your ability to influence corporate matters.
  • The Company does not expect to pay any cash dividends for the foreseeable future.

Not too optimistic, as you can see, and one looking through the financials would note that they are running out of cash.

Do the large holders think that they will dupe enough people to buy their shares from them, and at advantageous prices?  Hmm… maybe any price above zero is an advantageous price.  As with many promoted penny stocks, it usually looks like a future zero.

Even if the scam is legal, I don’t get how the math works.  They really think they will get a sustained 12%+ rise in the stock, adequate to turn over the entire capitalization of the company into the hand of suckers?

Which makes this double-dumb.  When even the scammers don’t make money, it is one really dumb scam.

Main lesson: don’t buy promoted stocks, and particularly not penny stocks.

PS — Why did the advisor decide to write this?  Was he that desperate for money?  If I were one who bought newsletters, I would not be impressed with the lousy analysis here.

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David J. Merkel, CFA, FSA — 2010-present, I am working on setting up my own equity asset management shop, tentatively called Aleph Investments. It is possible that I might do a joint venture with someone else if we can do more together than separately. From 2008-2010, I was the Chief Economist and Director of Research of Finacorp Securities. I did a many things for Finacorp, mainly research and analysis on a wide variety of fixed income and equity securities, and trading strategies. Until 2007, I was a senior investment analyst at Hovde Capital, responsible for analysis and valuation of investment opportunities for the FIP funds, particularly of companies in the insurance industry. I also managed the internal profit sharing and charitable endowment monies of the firm. From 2003-2007, I was a leading commentator at the investment website Back in 2003, after several years of correspondence, James Cramer invited me to write for the site, and I wrote for RealMoney on equity and bond portfolio management, macroeconomics, derivatives, quantitative strategies, insurance issues, corporate governance, etc. My specialty is looking at the interlinkages in the markets in order to understand individual markets better. I no longer contribute to RealMoney; I scaled it back because my work duties have gotten larger, and I began this blog to develop a distinct voice with a wider distribution. After three-plus year of operation, I believe I have achieved that. Prior to joining Hovde in 2003, I managed corporate bonds for Dwight Asset Management. In 1998, I joined the Mount Washington Investment Group as the Mortgage Bond and Asset Liability manager after working with Provident Mutual, AIG and Pacific Standard Life. My background as a life actuary has given me a different perspective on investing. How do you earn money without taking undue risk? How do you convey ideas about investing while showing a proper level of uncertainty on the likelihood of success? How do the various markets fit together, telling us us a broader story than any single piece? These are the themes that I will deal with in this blog. I hold bachelor’s and master’s degrees from Johns Hopkins University. In my spare time, I take care of our eight children with my wonderful wife Ruth.