A due diligence lacking diligence: A major investor duped out of fraudulent investments

In addition to the ongoing FTX fraud case involving a big investor firm, the business world has again been shaken by a startup fraud case involving a major investor: JPMorgan Chase (JPMC).

Frank, a startup, is being sued by JPMC for lying about the scale of its business. Frank is a financial planning application founded by a motivator and financial planner, Charlie Javice. The initial idea of this application was to simplify the process of applying for student financial aid.

Prior to attracting JPMC’s attention, the app had the backing of big, well-known investors, including Aleph, Chegg, Reach Capital, Gingerbread Capital, and SWAT Equity Partners. The acquisition of Frank itself is part of a series of acquisitions of fintech startups that JPMC has been aggressively carrying out since 2020.

False data findings

This alleged fraud case was only detected after JPMC acquired the startup for US$175 million. They later found that most of the customer data, which now belongs to them, is fraudulent.

Javice and the chief growth officer, Olivier Amar, deceived JPMC by claiming that their app had 4.3 million users, when in fact they had less than 300k users.

JPMC claimed to only discover the truth about the number of subscribers months after the acquisition. Suspicion arose when they sent a test marketing email to 400 thousand of users, and 70% of the emails ‘bounced’ or returned. This is due to incorrect or non-existent email addresses.

In the lawsuit, JPMC said that during the due diligence, they asked for proof of claims on the number of users, but Charlie and Olivier refused to provide user data because of privacy and security reasons.

After the company urged the two of them to provide the data, they allegedly asked a computer scientist to create synthetic data, including names, addresses, schools, and dates of birth, from existing data.

Incomplete due diligence

The loss incurred may not seem like much to large-scale investors like JPMC, but the fact that they were outright deceived raises questions in the public’s mind about its capability as the world’s largest bank in conducting due diligence.

Responding to the demands, Javice’s lawyer said that JPMC rushed to acquire its client’s startup without conducting proper due diligence.

Due diligence does not guarantee that a company will be completely risk-free, depending on what material is being verified. In this case, investors did get the customer’s database as proof of claims, but they failed to verify this evidence, which is a key component in acquisition decisions.

In addition, due diligence on mergers and acquisitions usually includes reputation due diligence. If the investor performed this due diligence properly, they would at least easily find the startup’s reputation track record online.

JPMC’s lawsuit is not the first legal case for Frank. In 2017, this startup was involved in a brand violation case in the form of cybersquatting. Then, in 2020, Frank received a warning from the Federal Trade Commission because the platform allegedly misled students (its consumers) about COVID-19 assistance.

Around the same time, an article written by an adviser to the New America Foundation alleged that Frank collected student data and sold it to third parties.

Such a track record should have been a finding that encouraged investors to conduct in-depth due diligence. No matter how aggressive the acquisition program is, it cannot be an excuse for an organization to skip proper due diligence.

Aside from being a mitigation tool, due diligence also serves as a compliance requirement. Many countries, such as the UK and the US, require companies to carry out due diligence to reduce the risk of financial crime.

If things go wrong after the decision is made and the company is found to have not conducted thorough due diligence beforehand, it is highly likely that the company will face legal liability.

Unfortunately, not all companies have the resources and special competencies to conduct due diligence on companies that are about to be acquired or merged. Therefore, the option of cooperating with a third-party company providing due diligence services needs to be considered.

Integrity Asia as a company engaged in corporate risk management with more than 20 years of experience, can be a point of reference. Supported by professional resources, Integrity Asia will comprehensively and independently provide the due diligence data that companies need.

Contact us for due diligence services.

Putri
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