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Leading Signs You May Be at Risk for an Oil and Gas Ponzi Scheme

posted 3 years ago

It’s been more than a century since Spindletop ushered in the great wave of petroleum exploration in the United States, but oil and gas extraction remains a tricky investment for even the most savvy of dealmakers. It’s not surprising that the promise of “black gold” has also attracted hucksters and charlatans, with numerous regulatory actions and indictments in the past few years relating to oil and gas Ponzi schemes. While the techniques of extraction have changed and the wells dug ever deeper to chase these needed resources, unscrupulous businessmen still use many of the same techniques to part investors from their money, as they did in the early 1900s.

Basics of Oil and Gas Investment

Diversifying risk is a cardinal principle in the oil and gas industry, as true of ExxonMobil as it is of small wildcatters. They will set up limited partnerships where everyone has a small share of the profit and a bit left over for the actual driller and site operators. Other options include general partnerships, lease agreements among many others.

The structure of these agreements can be complex and include conditions based on the amount of oil or gas received, when anything is discovered, etc. And, of course, there are various financial instruments that can be formed on top of these. For example, an issuer might offer an annuity with regular distributions of cash based on the initial investment. This would be similar to quarterly cash dividends made in a limited partnership.

However, speculation is real and so, too, are ways that shady individuals will try and make it hard to find out whether or not you are investing in legitimate products.

Common Signs of Oil and Gas Ponzi Schemes

“I’ve got a great way for you to get two to three times your investment back, with guaranteed returns after the first year,” you hear on the phone, having just received a call after dinner. The man on the other end of the line says that it’s an out-of-state site, about 400 miles away. You may be at risk from a predatory sales call.

When it comes to Ponzi schemes, confidence men are relying on our desire for investment returns obtained with relatively low risk. So they often set up shop several states away from where they will shop for investors. They’ll create a fake prospectus showing good results in neighboring areas, or leverage drilling names that are publicly known. If they then say that you have to invest within a certain time frame or otherwise try to make the offer a “once-in-a-lifetime” opportunity for a “select few”, alarm bells should start going off.

The market itself doesn’t help when it comes to knowing how risky a bet each oil and gas partnership might be. The relative volatility of production in the Bakken fields, hydraulic fracturing and shale oil have given many pause. Institutional investors often have deep concerns about the long-term viability of these sorts of projects because the profit is dependent on oil and gas prices remaining at a certain level or increasing over time. They add yet another layer of complexity and can be used to obscure potential issues with any scheme.

Recent Cases Involving Oil and Gas Ponzi Schemes

Thousands of investors have lost money in recent years because of oil and gas schemes. However, even as the schemers were brought to justice, investors saw meager recoveries of their investments. For example:

  • Michael Dannelly received a 17+-year sentence for pleading guilty to an $18 million oil and gas Ponzi scheme and ordered to pay restitution. It is unclear if any restitution was actually paid.
  • James VanBlaricum faced up to 20 years after stealing millions of dollars offering allegedly fraudulent “dividends” to older investors in 2016. The scheme lasted from 2006 to 2009. More than 50 victims were identified in the complaint.
  • In 2018, Robert Helms and Janniece Kaelin were sentenced to 78 months or a bit over six years in prison for stealing nearly $30 million from investors that they used on weddings, travel and luxury SUVs. Yet the total amount of restitution was unclear: the amount of reasonable losses had not been ascertained at the time of sentencing.
  • In 2019, investors lost roughly $4 million when William Milles Jr. and Donald Lutzko promised returns of more than 300 percent, according to an SEC complaint filed in Texas.

The key features of each of these cases is that they relied on returns to initial investors that made everything look on the up-and-up. Another unfortunate fact of each of these investments is that those who put their money in can only get pennies on the dollar once the scam is uncovered without assistance. It is too easy for accountants to hide losses in valid areas.

Steps You Can Take to Avoid Losing Your Investment

Unfortunately, the sophistication of oil and gas scams has only increased in recent years. Fraudulent proprietors may set up fancy and professional-looking websites, have associates act as references for the claim and even set up documentation that looks like it came from a state or local agency. The best ways to avoid losing your money is to consider the following:

  • Avoid guaranteed investments – Oil and gas exploration is a notoriously risky venture and there are few, if any, “sure things”. If someone is promising you a guaranteed return on investment, you are likely at risk.
  • Initial returns aren’t a guarantee of future returns – Most fraudsters are in it for the long haul and know that people often invest more money over time. So even if you see some money at the start, be wary.
  • Be able to discuss the projects with friends and family, and with professional advisers – The odds that an investment is so good that you have to sign quickly and under pressure are relatively small, close to hitting the lottery. So if you cannot talk about an investment, it’s a huge red flag.
  • Are the companies well-known to authorities? – The easiest way to verify an oil and gas investment is to see if companies or officials have already done work in the state where they plan to drill. In fact, even if it is a new venture, there should be *some* record of these people having done successful exploration in the past.
  • Why me? – There should be a good reason why you are being solicited for an investment. Have you bought shares in limited partnerships before? Do you have ties to the area or the company? If you don’t, it’s best to remember that there’s no such thing as a free lunch.

Alan Rosca is a securities lawyer with Goldman Scarlato & Penny, P.C. and an adjunct professor of securities regulation. He frequently represents institutional and individual investors in disputes with financial industry members arising out of investment fraud or misconduct.


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