The trial of former Commercial Mortgage & Finance CEO Anthony D’Agostino, who is charged with running a Ponzi scheme, started Monday.
The case illustrates a difficult problem for both businesses and prosecutors: what is the line between business failure and fraud? Bankruptcy frequently brings close scrutiny to the assets, liabilities, income and expenses of a troubled business, individual or family. Looking closely at the “snapshot” of any one debtor at any one moment in time may distort the real picture.
A Ponzi scheme is typically an investment scam where the person at the center of the scheme raises money for investments. Early investors are frequently promised, and given, huge returns on their investments. The problem is that frequently these returns are generated not by legitimate investment vehicles but by the infusion of cash from investors who come later. The investors frequently receive nothing while the earlier investors are paid.
Sometimes, a valid investment company will gradually, perhaps inperceptibly “break bad” and find itself behaving like a Ponzi scheme without even knowing it. This could happen if the manager combines investment money with income from operations in one bank account and uses this account to pay returns. If the operations are not profitable then the only money available to pay existing investors is really the money coming in from new investors. Gradually, the manager finds that the company still profits without actually investing in any legitimate business and the only money coming into the fund is money from the new investors. By this time, the manager has crossed the line into being a full fledged Ponzi scheme. However this may not happen overnight, or by design. More importantly, even if the commingling of funds violates securities laws, it may not have started out as criminal fraud.
D’Agostino’s defense says the company was like so many other financial firms that failed in the Great Recession. It invested too heavily in developers and mortgages and when the real estate bubble burst it suffered a fatal “run on the bank.” More than 1,400 investors suffered losses of about $62 million when Commercial Mortgage & Finance went bankrupt.
Do you think most Ponzi operators start dishonestly, or end up that way out of forces beyond their control? Please let me know in the comments section.
