Kiplinger's Personal Finance

Mesmerizing e-mail come-ons promise big returns for a few bucks

February, 2003
By David Landis

Dirt-cheap insurance. Discount Viagra. Debt doctors. Anna Kournikova nude. Just another day's spate of spam. But one email stands out: An analyst is recommending T&G2, a company that sells biometric time clocks that can identify workers by scanning their fingerprints. If T&G2 captures a mere 2% of of what the message says is a $7- billion potential market in the U.S. alone, annual sales would total $140 million. When the e-mail was sent, T&G2 shares were selling for 89 cents. The analyst's projected price: $9.

Worth a flier? If the stock hits the target, you could make more than 900%. And the risk? Less than a grand for 1,000 shares -- a small price for what could be a bonanza.

Not so fast. When it comes to e-mails bearing gifts, it's vital to read the fine print. A little investigation is likely to temper your temptation. Although the volume of such cyber pitches has fallen off since the heady days of the market bubble, the T&G2 promotion is hardly unique. Each week we still get as many as a dozen missives promoting low-priced stocks that trade on the OTC Bulletin Board, a quotation service populated primarily by companies that can't meet the financial minimums to make it onto the Nasdaq.

We studied a number of these pitches and found that New Jersey-based T&G2 is typical of the kind of company they promote. Start with the footnote in the recommendation. It contains a disclosure, required by law, that an unidentified third party paid Wall Street Stocks (the outfit that sent the e-mail) 5,000 shares of T&G2 stock to distribute the report.

The analyst who is recommending the stock? He isn't identified in the e-mail but an analyst prominently featured on T&G2's Web site -- Jeff Hellberg -- says very similar things about the company and has the same $9 target price. He is described as a newsletter editor and securities analyst and his report on the T&G2 site contains the tiny disclaimer, "This is an advertisement," and notes his firm was paid $3,750 for his article.

T&G2 CEO James Farinella defends promoting the company as a legitimate way to raise its profile. "You can have the greatest company in the world listed on the Bulletin Board exchange and no one will pay attention to you," he says. "I just want to build awareness for the company, so that as we perform, we'll have an audience."

That T&G2 isn't attracting much of an audience is hardly surprising. The company had no sales in the first half of 2002 -- for either its time clocks or its other product line, bingo machine -- and just $1,800 in revenues in the third quarter. And that $7- billion estimate for the potential size of its market is a tad optimistic. "Fingerscan" devices of the type T&G2 says it markets are a $144-million-a-year business today, projected to grow to $660 million by 2005, says Trevor Prout, director of marketing for the International Biometric Group, an independent consulting firm in New York City.

Given T&G2's finances, getting a share of even that modest-sized market will be a challenge. As of September 30, 2002, T&G2's liabilities exceeded its assets by nearly $600,000, and it had only about $50,000 in cash. The company lost almost $6.7 million in the first nine months of 2002, resulting from nearly $5 million in "organization costs." Farinella says he'll pump up to $300,000 into the company from his own pocket to fulfill orders. It will be the second cash infusion from Farinella; he loaned the company $200,000 last August.

But are there any orders for the biometric systems? Two clients identified in T&G2 press releases told Kiplinger's that they had not bought or leased biometric equipment from T&G2. A June 25, 2002, press release identified the Palos Verdes Inn, in Redondo Beach, Cal., as ordering a T&G2 biometric system. But Carol Sarra, the hotel's general manager, said there was no sale. "They tried," she says, "but we've got fewer than 30 employees, so that's a little high-tech for us." An August 26 press release said T&G2 had received an order from the Casino Apache, in New Mexico, but casino officials say they aren't using a biometric system.

Farinella insists that his equipment was at both sites for a short time but that the deals didn't work out. We did confirm one potential customer, the Fort McDowell Casino, in Arizona, which said it is negotiating to buy 36 bingo units from T&G2. Farinella also says he has a three-year contract to supply 50 bingo units to a U.S. military installation that he won't identify. As for the potential $140-million-a-year biometric-time-clock business, Farinella says" "That will take longer to build up and become the home run I think it is going to become."

Murky Waters

T&G2 falls into a murky sliver of the stock market in which oversight is often lacking. Despite periodic crackdowns by regulators and a toughening of financial-reporting standards, penny stocks remain vulnerable to manipulation because their shares trade infrequently and because so little is known about the companies.

Anyone investing in penny stocks "is essentially gambling," says Deborah Bortner, director of Washington State's securities division. "The market is moved by somebody getting in a chat room and saying, 'I heard these guys are going to do an initial public offering or are getting a big contract from a pharmaceutical company.'" Adds Andrew Berger, editor of Walker's Manual of Micro-Cap Stocks: "About 85% of these stocks are extremely low quality and have no business being public."

It's hard to believe that anyone would buy stocks based on anonymous e-mail recommendations. But mass e-mails are often just part of a coordinated effort that in some cases includes Internet chat-room posts, analyst reports distributed by paid promoters and a steady diet of press releases heralding new developments.

The drumbeat is designed to draw attention to stocks that might not otherwise merit a glance. Those who respond are often "the elderly or low-income people who don't have the money to buy high-priced stocks," says Richard Chen, an accounting professor at Eastern Kentucky University, who has studied penny stocks. "These folks think they can buy stuff for a few pennies and have a 1,000% or 2,000% return." Overseas investors are another favorite target because they are beyond the protection of U.S. law-enforcement agents, he says.

Losing bets

If the T&G2 publicity campaign was intended to increase the company's share price, it did a lousy job. From the time that we received the first e-mail about T&G2 early last August, the stock fell steadily. In mid December, the shares fetched 35 cents, a 60% decline from the price in August. At the same time, a new report from analyst Helleberg appeared on the T&G2 Web site, with a new "short-term target price": $1.

Kiplinger's tracked 20 other low-priced stocks that were featured in cyber campaigns in 2002. In 18 cases, the stocks were lower three months after we received the initial pitches, and 13 of them were off 50% or more. One stock was up a little and another was up more than 50%. (The market was down for much of this period, but nowhere near 50%.)

When the dust settled, who ended up holding the losing stocks? Why, the greater fools, of course.