If you think you’ve found the right oil or gas investment to “strike it rich,” consider this: it may be a scam. While some oil and gas investment opportunities are legitimate, many oil and gas ventures are frauds. Many of these schemes start in so-called “boiler rooms,” where skilled telemarketers use high-pressure sales tactics to convince you to hand over your hard-earned money.
Once they have your money, scam artists pay themselves first, often using funds to pay personal expenses. In the end, only some of your money may be invested in an actual oil or natural gas well, or none at all.
Original SEC Investor link
Common Red Flags and Steps You Can Take to Protect Yourself
If you are considering an oil and gas investment, look for these “red flag” warnings of fraud:
- Sales Pitches Focused on Highly Publicized News. Scam artists read the headlines, too. Often, they’ll use a highly publicized news item, like volatile gas prices, to lure potential investors and make their “opportunity” sound more legitimate.
- “Can’t-Miss” Wells. Every investment carries some degree of risk so you should be skeptical of any oil and gas investment opportunity pitched as completely safe. Fraudsters often spend a lot of time trying to convince you that extremely high returns are “guaranteed” or “can’t miss.” Don’t believe it.
- Unsolicited Materials. Be especially careful if you receive unsolicited materials about an investment. Simply ignoring investment-related “junk” faxes, emails, voice mail messages, and regular mail may be your best strategy. And don’t let a package full of colorful marketing materials impress you, even if it’s sent by certified or overnight mail. If you’re not going to research an opportunity fully, do yourself a favor and put any unsolicited materials in the recycle bin immediately. If someone calls to follow up regarding the materials, tell him or her “thanks, but no thanks” and hang up. [Hanging up is critical because scam artists often use scripted sale pitches to keep you on the phone.]
- Limited Opportunities. Scam artists often try to give you the impression that the “ opportunity” they are promoting is scarce, hoping you will hand over your money hastily before doing any due diligence. Resist the pressure to invest quickly, and take the time you need to investigate before sending money.
- High Rates of Return. Compare promised yields with current returns on well-known stock indexes. Any investment opportunity that claims you’ll get substantially more could be highly risky. And that means you might lose money.
- Tips or Secrets. A promoter may discourage you from talking about the opportunity with someone you trust, like a loved one, attorney or financial professional. If that happens, stop listening, and leave or hang up.
Steps You Can Take to Protect Yourself
Here are some steps you can take to avoid being scammed:
- Ask questions and check out the answers. Fraudsters rely on the sad truth that many people simply don’t bother to investigate before they invest. It’s not enough to ask a promoter for more information or for references – fraudsters have no incentive to set you straight. Savvy investors take the time to do their own independent research.
- Contact state oil and gas regulatory agencies. You may be able to verify information provided in offering materials by contacting the oil and gas regulatory agency in which the wells are allegedly being drilled. For example, these agencies generally have information about a company’s drilling history that could confirm claims of prior success.
Investor Tidbit:
You might be surprised to learn that the Railroad Commission of Texas oversees the Texas oil and gas industry. Unfortunately, state oil and gas regulatory agencies don’t have uniform names. If you’re having trouble finding the agency that regulates oil and gas in a particular state, enter the State’s name – followed by “oil and gas” – into your favorite Internet search engine. The appropriate agency should be listed near the top of your search results.
Research the company before you invest. You can contact the secretary of state where the company is incorporated to find out whether the company is a corporation in good standing. You also will want to understand the company’s business and its products or services before investing. Before buying any stock, check out the company’s financial statements on the SEC’s website, or contact your state securities regulator. All but the smallest public companies have to file financial statements with us. If the company doesn’t file with us, you’ll have to do a great deal of work on your own to make sure the company is legitimate and the investment appropriate for you. That’s because of the lack of reliable, readily available information about company finances can open the door to fraud. Remember that unsolicited materials should never be used as the sole basis for an investment decision.
What should I ask? (click for SEC Investor Alert link)
Analyzing an oil and gas investment may involve highly technical matters, such as geological findings and new drilling technologies, making it difficult for many individual investors to fully understand. Also, the only information that you have may be coming from the promoter. You may receive a private placement memorandum detailing the venture’s management, its drilling prospects and plans, the terms of the venture and investment, and basic financial statements for the usually new venture. As a start, if you aren’t given anything in writing, then you should be very skeptical.
You should ask questions until you are satisfied with the answers. Don’t just accept promises of low risk for high returns. Remember, it is your money and you shouldn’t let anyone pressure you into purchasing an investment that you don’t understand. Here are some things to ask about and consider if you’re thinking about investing in an oil and gas venture:
- Use of proceeds. What is my money going to be used for? Can you estimate how much of the money you raise will be used for each of your needs, such as drilling operations, administrative overhead and broker sales fees? If sales fees will be paid, how are those fees calculated? It is reasonable to expect the company raising the money to have plans for it, particularly if the persons involved have prior industry experience. Otherwise, why are they raising that specific offering amount? If broker sales fees are being paid, you should know that registered brokers are subject to rules and regulations including the amount of sales fees they can charge.
- Related parties. Are you hiring another company to drill or do any other work? Is there any relationship between these companies and the promoters and principals in the venture? How much is the promoter going to make even if we drill a dry hole? Remember that the persons involved in the offering can do quite well for themselves when the investment funds are used, for example, to pay themselves or to hire a company they own to do the drilling. They get paid even if the well is dry. Remember too that a promoter who makes his money on the front-end of a deal—that is, from selling the investment to you and benefiting from the proceeds—rather than on the fortunes of the venture—namely the actual production from the well—does not have the same interest as investors like you whose only hope to gain is from a successful well. You should be wary of any oil and gas investment where the promoter’s interests are not aligned with yours.
- Prior experience. What is your track record in the oil and gas industry? Have you had experience with this particular well location? In some cases brought by the SEC involving oil and gas offerings, the promoters have claimed extensive prior experience and success in the industry. These claims were made to stop investors like you from asking questions. Instead, you should try to independently verify any claims. Ask for references.
- Well history. Is there a prior history of drilling where you are drilling? If someone drilled there before, how much did they get out and what makes you think you can get any more out? If the area proved dry before or has not been drilled, why do you think there’s something there? A lot of new oil and gas is found in the United States today because of improved ways of drilling, such as hydraulic fracturing (i.e., fracking) and horizontal drilling. These improvements often require specialized expertise and may cost a lot.
- Third-party report. Did you get a third-party engineering report for the site? Can I see the report? Some operators may employ the expertise of independent third-party engineers and geologists to decide whether it makes sense to drill in an area. If the promoter says there is a report, but doesn’t allow you to see it, you may want to consider it a red flag. You should also consider whether the engineer or geologist is truly independent. Promoters sometimes use reports prepared by the same engineers that sold them the project or by engineers they employ or use repeatedly.
- Reserves. If the offering materials discuss reserves, what types of reserves are being estimated? Who determined these reserve estimates? Were they audited or reviewed by an independent third party? Can you review the audit? The use of terms such as “reserves” makes it sound like a sure thing. However, reserves in the oil and gas industry are not so certain and can vary a lot. Reserves can be “proved,” “probable” or “possible.” Proved reserves are relatively certain. Probable and possible reserves can mean, in short, a 50% to 10% chance of extracting the estimated amount. Though not required, some oil and gas ventures do have their reserve estimates audited.