A new report from the U.K.’s Imperial College and France’s Emlyon Business School has mapped out the ways Silicon Valley’s VC-backed founders commit fraud — and the role investors play.
For the report, published online in June, researchers built a database of tech founders and companies who faced civil and criminal securities fraud prosecutions from the SEC and DOJ between 2000 and 2023.
Some famous cases of tech founders being convicted of fraud over the past few years include Frank’s Charlie Javice, Kalder’s Gökçe Güven, Terraform Labs’ Do Kwon, and GameOn’s Alexander and Valerie Lau Beckman.
All over X, the tech industry’s social network of choice, the topic of fraud and its gentler word “scam” are discussed, as people debate the limits of ambition and success. “Fraud is much more common and normalized in the startup world than we are ready to admit and accept,” Tim Weiss, one of the authors of the report, told TechCrunch.
He pointed to another report from the University of Toronto (UT), also published in June, that looked at 654 fraud cases against U.S. VC-backed startups from 2000 to 2023. It found that fraud is rare overall but that companies with venture funding were more likely to face fraud charges compared to companies that didn’t take venture funding. It found that startups launched during overheated markets with weak oversight and investor due diligence are 19% more likely to later commit fraud.
“The problem here is not just the founders but also those that set and reinforce, at times unreasonable, expectations of high growth,” Weiss said. He added that the current frothy AI startup environment is exactly the kind of conditions that tempt founders into fraud.
Weiss’ paper, co-authored with Emlyon researcher Nevena Radoynovska, discusses what may happen when founders face a gap between how investors want their startups to perform and how they are actually performing. They may turn to “façading,” as the paper calls it, in three increasingly dishonest stages: surface, reinforced, and deep.
Surface façading is when founders lie about how successful the company is or is becoming. It’s common during the early stages of a company when it’s pitching its vision to investors. It’s a level of dishonesty higher than just pitching an aspirational vision or an astronomical total addressable market.
After the surface façade, the founder may move into “reinforced façading,” according to the paper, which involves creating fake evidence to back up the lies told.
The paper gave the example of a mobile testing app that created fake customer contracts and invoices, recorded fake revenue, and used those fake documents to convince VCs to back it at a unicorn valuation.
From there founders may enter “deep façading,” where they extend their lies to areas like making their tech seem more capable than it is, complete with fake demos. This involves entire “parallel realities” built on lies, Weiss said.
But investors aren’t always hapless victims, the researchers found. Beyond the outsized growth expectations that push founders toward fraud in the first place, some investors unwittingly “co-create fraud,” Weiss said, by continuing to back founders—sometimes the very same ones— who’ve previously been accused of fraud, thereby normalizing it to a certain extent.
In fact, the UT report found little evidence that alleged fraud prevents founders from raising funding for new startups, even when those fraud cases received major media attention.
“New investors and the broader VC market do not penalize past misconduct,” the UT report said, which is “also consistent with the Silicon Valley culture that embraces failure regardless of the cause.”
The study also found that startups whose boards were controlled by the founders were twice as likely to commit fraud compared to those with investor-controlled or shared-controlled boards.
Even more interesting, it reported that after VC-backed startups go public, they are more likely to face securities class-action lawsuits within two years compared with private equity-backed companies that go public.
The fact that companies are staying private longer also contributes. Public companies undergo more scrutiny than private ones. “Founders do not have a professional body or association that could govern or enforce rules of entrepreneurial and investor conduct on how to be a good founder and what reasonable growth expectations are,” Weiss said.
Weiss proposes that the SEC routinely investigate and conduct formal audits on startups after they hit a large “investment threshold.” Currently, the SEC typically waits for something like a whistleblower complaint or a lawsuit from investors or former employees to trigger an investigation.
Weiss’ paper also suggests that investors should take more accountability when pushing founders to hit extreme growth metrics.
“Investors should be held liable for corporate governance failures and violating their fiduciary duties,” he said. He wants to see more research into “entrepreneur-investor dynamics” that could help prevent fraud and also “balance the overemphasis on the entrepreneur as the sole perpetrator of wrongdoing.”
Fraud is rarely a solo act, in other words, and until investors are held to account for the pressure they exert, founders will likely keep facing the temptation to fake it until they make it.
This piece was updated.
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