FINRA Cautions Investors Regarding Dormant Shell Companies and “Pump and Dump” Schemes

FINRA recently issued an Investor Alert, “Dormant Shell Companies–How to Protect Your Portfolio from Fraud.” In the Alert, FINRA warns that some low-priced “penny” stocks being aggressively promoted may actually be stocks of dormant shell companies, which have little or no operations or non-cash assets for an extended period of time. Dormant shell companies which trade in the over-the-counter (OTC) market are susceptible to market manipulation, and in February 2014, the SEC suspended trading in 225 dormant shell companies.

FINRA warns that stock scams frequently use a “pump and dump” scheme. The scheme begins with “the pump,” in which the promoters aggressively market the business using optimistic statements, press releases, emails and other public relations tactics to create demand for stock shares. As soon as the share price and volume spikes, the promoters sell of their shares at a profit, and leave investors with worthless, or almost worthless, stock – “the dump.”

In the case of dormant shell companies, fraudsters may claim that the company has developed a “hot” new product, announce new management or corporate officers, or re-incorporate the company, perhaps under a new name. Such actions are designed to drive up the price of stock initially held by the fraudsters In addition, these machinations may occur in conjunction with a reverse stock split that increases the company’s share price. Such actions create buzz about once-dormant companies, which increases stock interest, trading, and prices.

In fact, the dormant shell company may be on the brink of insolvency or even bankrupt. Dormant shell companies also may not file periodic reports with the SEC, which would provide public information about their business and financial condition. In addition, dormant shell companies may not be in good standing in their state of incorporation, and frequently have no officers or management. As the name indicates, the company is simply a shell.

In its Investor Alert, FINRA offers the following tips to avoid stock schemes involving dormant shell companies:

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