The 21st century has witnessed a surge in startup culture worldwide. Words like venture capitalists, angel investors, equity structure and fundraising are shaping today’s organic business ecosystem. However, amid several success stories of how ambitious entrepreneurs raise money to build their enterprises, numerous cases accounting for the biggest startup frauds have left the business world reeling.
Fuelled by innovative ideas, every startup founder aims to make it big and create an unprecedented unicorn. For this, they secure funding through various channels like angel investors, shows like Shark Tank and grants. But certain jolting fraudulent instances have affected the startup world in such ways that entrepreneurs and investors have to be extra cautious to steer clear of such notorious scams.
Whether it is the rampant growth of shell companies, rising debt or poor management structure, the devastating magnitude of such events has dented the entrepreneurial world.
Some of the most astonishing startup scams
In November 2022, one of the world’s largest cryptocurrency exchange companies, FTX, was found to be a major startup fraud. It boomed into the finance sector as a prominent crypto exchange and aimed at providing seamless solutions in protecting, trading and regulating digital assets that form a hugely unregulated section of the market.
Owner and CEO Sam Bankman-Fried emerged to be the new face of digital currencies and soon gained popularity for his philanthropy and political connections. However, he was charged with wire fraud, money laundering and inflating company income. When FTX was bailing out other failing startups, USD 1 billion in customer funds was missing from its own accounts.
The company had its own crypto token FTT, which was used as collateral for another Bankman-Fried company called Alameda Research. A CoinDesk report highlighted key details of Alameda’s balance sheets, revealing that it held USD 14.6 billion in FTT. This was followed by Binance CEO Changpeng Zhao, selling his FTT coins, which led to their plummeting value. It offered to buy out FTX but after due diligence, walked out of the deal. Over the next 10 days, FTX filed for bankruptcy and Bankman-Fried was arrested in December 2022 with heavy fines.
With the allure to disrupt the healthcare industry, Theranos’ CEO Elizabeth Holmes claimed to invent a breakthrough device that would conduct blood tests with just a drop of the patient’s blood and accurately detect diseases at reduced cost and time.
As per reports, Theranos’ valuation was USD 1 billion, and it later secured USD 700 million in funding. Although Holmes and former COO Ramesh ‘Sunny’ Balwani were able to mislead investors, cracks were revealed in the fraud technology by 2015. The device proved incompetent in clinical trials, and the technology was exposed to be baseless. The founders had scammed investors of millions. These include Fortress Investment Group and BlueCross BlueShield Venture Partners.
However, they couldn’t escape legal action. A thorough investigation by the Securities and Exchange Commission banned Holmes from laboratory testing for years, and they were charged with wire fraud in 2018, post which they formally shut down. Holmes and Balwani were put on trial with multiple lawsuits in 2022 and were sentenced to imprisonment. On 30 May 2023, Holmes began her 11-year-long sentence in Texas.
Luckin Coffee, China
Once considered China’s befitting reply to Starbucks-like giants, Lucking Coffee was embroiled in a massive fraud in 2020, which surprised many when it dropped a handful of outlets in Singapore within the span of a year.
In 2019, when Luckin Coffee went public, its shares soared to USD 50 from USD 17 in just a year. However, the following year, internal auditors found that USD 310 million in sales were actually related to other businesses linked to the company chairman. Further, USD 140 million worth of raw materials were fraudulently purchased. Luckin Coffee was delisted from the Nasdaq stock market, and several senior officials lost their jobs.
However, a 2023 US News report states, the company is back in action with share prices going over USD 26. “Its most recent quarterly revenue jumped 52% year over year, with a full-year revenue gain of 67% in 2022,” states the report. In early 2023, the company began expansion and opened 500 new stores and has plans to spread its wings in Southeast Asia.
Outcome Health, USA
Founded by Rishi Shah, Shradha Agarwal and Brad Purdy in 2006 during their stint at Illinois’ Northwestern University, this healthcare information startup offered advertising scopes to pharmaceutical companies across the US. For this, they distributed televisions and tablets to over 40,000 clinical practitioners free of cost in the country. These devices also aired educational content to make the waiting time for the patients more fun.
However, it was revealed that Outcome Health used fraudulent methods to invoice their clients to show advertisements. According to a statement by the United States Department of Justice, “Shah, Agarwal, and Purdy sold advertising inventory the company did not have to Outcome’s clients, then under-delivered on its advertising campaigns. Despite these under-deliveries, the company still invoiced its clients as if it had delivered in full.” They inflated their figures and continued to raise money on false grounds.
It lasted until 2017. The three hid evidence and were booked for duping investors and clients for USD 1 billion in funds obtained as fraud.
Mozido was once a promising startup in the FinTech world which aimed at providing financial products to the developing markets where people had access to technology but not necessarily a proper bank account. The company came in as a mobile payment option and targeted the Indian, African and Southeast-Asian regions.
However, a 2018 press release by the US Securities and Exchange Commission charged Mozido founder Michael Liberty and co-defendant Paul Hess for scamming investors and raising money for his shell companies instead of Mozido. Liberty and his allies then used over USD 48 million for their extravagant lifestyle and lavish assets. They raised the said amount between 2010 and 2016.
In December 2022, the court ordered Hess to pay USD 2.97 million in disgorgement, prejudgment interest and penalties, while Liberty pleaded guilty and was booked.
World Startup Convention, India
Dubbed the world’s biggest funding festival, this March 2023 event held in Noida was slated to be a grand success, and thousands of founders had registered to pitch before renowned investors and industry experts.
They expected to rub shoulders with top honchos and leading banks, meet potential customers and raise investor money. The event was supposed to be graced by Union Transport Minister Nitin Gadkari, Health Minister Mansukh Mandaviya and state chief ministers. The event was well-promoted by prominent influencers such as Ankur Warikoo, Prafull Billore, Raj Shamani and Chetan Bhagat. In fact, the likes of Sundar Pichai, Elon Musk, Gautam Adani and the Crown Prince of Dubai, Sheikh Hamdan, were also named “noted invitees” of the event.
However, headwinds started pouring in right from the first day. Participating startups spent between INR 6,990 (nearly USD 85) to INR 25,000 (over USD 302) for admission passes and some, like Bambrew and Builder.ai, shelled out nearly USD 45,000 to sponsor the event. They alleged there were hardly any investors and VCs. Within hours, the World Startup Convention descended into chaos as founders claimed to be cheated.
Reportedly, 2,000 startups were scammed of hundreds of crores. Participants lodged a police complaint for breach of trust and false promises. They took over the event stage, as they called themselves the victims of India’s biggest startup scam.
Although Warikoo had given statements to news outlets for not knowing the background details of the event, organisers Luke Talwar and Arjun Chaudhary refuted all allegations and said the event was disrupted by anti-BJP protestors.
Overall, the World Startup Convention disaster grabbed headlines as one of the biggest startup frauds of the century, and shed light on a startup scam of recent times.
Other notable startup frauds
While the aforementioned cases are startup frauds in recent times, other examples of corporate scams include Satyam Computer Ltd, (India) where founder B Ramalinga Raju his brothers and seven others were convicted for seven years for fraud of over INR 7,000 crores (around USD 84.65 billion).
In the Enron (USA) case, the company was slammed with a lawsuit worth USD 40 billion. Meanwhile, WorldCom, Freddie Mac and Wirecard, too, are other such companies which were associated with big frauds worth billions of dollars that shook the business world globally.
(All conversions as of 31 May 2023)
(Hero and featured image: Courtesy Israel Andrade/ @israelandrxde/ Unsplash)
Frequently Asked Questions (FAQs)
Answer: The Ponzi scheme is one of the biggest forms of investment scams in which investors pay high rates of return to earlier backers. While they are promised good returns, it ends up being a trap, most often.
Answer: Recent times have seen a surge in startup scams whereby founders raise money fraudulently through shell companies and inflate their earnings. This, at times, result in big scams causing heavy losses. On the other hand, some investors and venture capitalists also promise to put in large amounts of money into a business to help it grow but are later revealed to be fraudsters.
Answer: The 2G spectrum scam, Commonwealth Games scam, Satyam Computers scam, Punjab National Bank fraud case, Kingfisher case and IPL fraud are some of the biggest money scams in India.
Answer: The Enron scam in the US is one of the biggest company scams of the 21st century.