THE BIZOP NEWS

Here is a puzzle, from the WSJ Law Blog,

Two Lawyers Convicted Alongside Conrad Black: "

As you all know by now, Conrad Black was found guilty Friday of stealing money from his former company and of obstruction of justice. (Here’s the WSJ story.) But we thought we’d remind you that of the three other former Hollinger executives also convicted of fraud charges, two of them are lawyers (bios courtesy of the Globe and Mail):

• Peter Atkinson: When Conrad Black began to empire-build in the 1970s, he retained Peter Atkinson, then a litigator at Toronto’s Aird & Berlis. Atkinson became Black’s right-hand man, and in 1996 he left private practice to become GC of Hollinger, later becoming an executive at Hollinger International. Atkinson is represented by Michael Schachter of Willkie Farr.


• Mark Kipnis: A lawyer and CPA, Kipnis previously worked at PriceWaterhouse and the now defunct Chicago law firm of Holleb & Coff. He joined Hollinger in 1998. Of the four defendants, Kipnis was the only one who didn’t receive money from the non-compete payments that were at the core of the criminal convictions. Kipnis is represented by Ronald Safer of Schiff Hardin.

As for Conrad Black, he continues an email correspondence with the Globe and Mail. Over the weekend he wrote: ‘We move on to the next phase in this long war. We got rid of most of [the charges], and expect to get rid of the rest on appeal.’

Also last week, Black continued to criticize the 513-page investigation of Hollinger by a special board committee headed by former SEC commissioner Richard Breeden that accused Black of heading a corporate ‘kleptocracy.’ Black wrote: ‘The Breeden ‘$500-million kleptocracy’ is now down to transactions totalling $2.9-million, which were in fact, approved and disclosed, while Breeden and his allies have milked the old Hollinger International for over $100-million [in legal fees]. The bunk about looting, racketeering, and personal extravagance has gone over the side.’

(Via WSJ.com: Law Blog - WSJ.com.)

Forget Conrad Black's attempt to picture stealing between $2 and $6 million from shareholders as some type of victory. The man is ill and has been for quite some time.

The puzzle for me is how Mark Kipnis, someone who received no monetary gain, got caught up in this net. Now, I don't believe that lawyers are some how by their profession less prone to being bullshitted than the ordinary individual. But these transactions were so offside -Black was a fiduciary who could not have competed against his own company and so could not claim any part of the non compete fees. Black could not have taken the opportunity to compete against the purchasers of his newspapers; as an officer with fiduciary duties, he has to turn down certain business opportunities.

So how did Mark Kipnis, who appears by all accounts to be a stand up guy, get caught up in papering what should be a clear no no? I would love to know and understand his thought process.

Posted by michael webster at 9:49 AM | Permalink | Comments (0) | TrackBacks (0)

During the Korean War, the Chinese Communists, in contrast with their North Korean Allies, were able to persuade more American POW's to engage in some sort of collaboration with the enemy. The most extreme of these collaborations involved statements from the soldiers denouncing the American involvement in the Korean war.

How did the Communists achieve this? The American soldier was well trained to give nothing more than their rank and serial number. But the Chinese realized that if they got the POW to commit to some mild statements, such as "America is not perfect", then it would be easier for the Chinese to obtain further commitments. Robert Cialdini, one of my favourite authors on influence, explains this in more detail.

What does this have to do with influencing people and making sales?

Cialdini also discusses the "quintessential American compliance setting", the Tupperware party. It is his view that there are four "weapons of influence" being used at the typical party demonstration. First, at the beginning of the party or demonstration, a number of silly games may be played and those persons not "winning" the game will be offered a loot bag -reciprocity. Second, is commitment: everyone is asked to declare how Tupperware will change their lives. Third, one the selling begins, and everyone at the party sees other people re-affirming their the value of the Tupperware product, social proof kicks in. All of these people cannot be wrong can they?

Finally, what Cialdini calls the "real power" of the party is that fact that the request to buy comes from a friend, whom you presumably like well enough to at least attend their party or demonstration. The sales pitch is not from a "professional" but an amateur neighbour. Even when you know that your friendship is being pitched for a sale, you comply. Interesting.

But Cialdini, who wrote this originally in 1984, has not kept up with evolution of the party or demonstration systems. He doesn't explain the further attraction of the network marketing aspect, at its worst the pyramid scheme illusion. Nor does his explanation resonate with why Tupperware has failed to keep sales consultants in their system in North America for the past seven years.

Any ideas as to why Tupperware or the party sales system is faltering in North America?

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A little over two years ago, Edward Teach wrote a nice little piece summarizing some of what we know about heuristics or rules of thumbs we use to make sense out of a confusing and contradictory world. Some of the experimental results appear to be quite odd.

For example, "Dan Ariely, professor of management science at MIT Sloan School of Management, conducted a mock auction with his MBA students. He asked students to write down the last two digits of their Social Security numbers, and then submit bids on such items as bottles of wine and chocolate. The half of the group with higher two-digit numbers bid "between 60 percent and 120 percent more" on the items, says Ariely." (my emphasis) Professor Ariely's webpage is here.

Anchoring on irrelevant or inaccurate data is prevalent. According to Ariely, "People don't know how much something is worth to them," he comments. An anchor helps them decide. Once a value is set, people are good at setting relative values, Ariely explains. But "it's very hard to figure out what the fundamental value of something is," he adds, whether it's an accounting system, a company's stock, or a CEO."

What does anchoring have to do with the new FTC Biz Op Rule?

Proposed section 437.4 c of the new FTC Biz Op Rule deals with the use of industry standards, such as the number of "vends per day". Business Opportunity sellers would not be able to use these statistics, unless the seller has "written substantiation that the industry standards are representative of the typical biz op purchaser." It is interesting that the FTC is alive to the abuse of this heuristic, but does not understand how the commitment heuristic will overwhelm the seven day cooling off period. We can only hope that the FTC will take the lead from California and publish the business opportunities disclosure documents.

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All of us have our price, or so we are told. In our defence, we would like to believe that our price, what we would trade our integrity for, is so high that our sell out would be understandable.

Few of us would accept that our integrity might be had for a few pence, or other cheap tricks.

But the famous social psychologist, Leon Festinger, showed over 50 years ago just how easily we can be bought.

In a remarkable experiment, Leon Festinger and James Carlsmith, concluded that

"In short, when an [participant] was induced, by offer of reward, to say something contrary to his private opinion, this private opinion tended to change so as to correspond more closely with what he had said. The greater the reward offered (beyond what was necessary to elicit the behavior) the smaller was the effect."

The full experiment can be read here, and the following is my summary.

1. A participant is asked to perform a boring job, as part of an experiment.
2. After the boring job is completed, the participant is hired at either $1 or $20 to explain the task to another participant.
3. In both cases, the participant is asked to describe the boring job as exciting to the next "participant", who is an actor.
4. The participant is then asked, after convincing the actor, how boring the job was, whether the experiment was scientifically useful, etc.
5. Those participants who were paid a $1 lied on the survey, describing the boring job as moderately interesting, an experiment of value; those who were bribed $20 felt no need to describe the boring jobs as anything other than dull, with no scientific value.

When I speculate on what I would have done in these circumstances, I find myself being bought for the $1 bribe, too. At the $1 hire, I can see myself lying, but not at the $20 hire. [Recall that this experiment was first done in 1959.] Social psychologists have found this to be a very robust result, having performed the experiment under numerous conditions.

The implications of Festinger and Carlsmith's work are relevant today. Pay for post would seem to entail massive hypocrisy, given the small amounts paid to individuals to blog about "wonderful" consumer goods. We might expect the project to collapse under its own weight, but Festinger and Carlsmith would have argued that the small payments would effectively bring about a change in the blogger's opinion.

Public consumer groups have worried about the use of "shills" by large consumer companies in either word of mouth or buzz marketing. One group, several years ago, contacted the FTC.

"We are asking the Federal Trade Commission to investigate that shills are not disclosing that they are shills," said Gary Ruskin, executive director of Commercial Alert. "We've done some deceptive advertising complaints with FTC, and have talked with many audiences over the years about the deception involved in buzz marketing."

But there would be no deception involved, at least from the participants point of view, if they are given small samples and asked to say something about them.

Here is a description of one the companies involved, from the Boston Globe, two years ago.

"Agents aren't paid for their work, but they can collect reward points by participating in campaigns, which are redeemable for goodies, such as an iPod. They're not obligated to be positive in what they say about a new coffee-maker or a business book, but they are expected to file a report with BzzAgent letting the firm know what they've been up to.

Bzzagent is still going strong, and we aren't going to see the end to word of mouth marketing anytime soon.

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We are a story telling people. Stories encapsulate a large amount of information and pass it on efficiently, more efficiently than mere logical or rational justification can. Our ancestors sitting around on the savanna plain did not have the luxury to engage in deep machinations of logic and so devised stories, parables or allegories as the method for passing on social wisdom. Rational decision making is incomplete because it ignores the power of stories, myths or parables as method of delivering important information.

In fact, one recent author, Christopher Booker, the Seven Basic Plots, claims that there are really only seven basic wisdom stories.

As neatly summarized over at onlyagame,

"Booker believes we tell stories as a mechanism of passing a model for life from generation to generation; that in essence, all stories are archetypal family dramas, and that their core message is that we must resist selfish evil (Booker doesn't use this term, preferring 'ego-centred', according to his Jungian framework). I find this a lovely belief system, although it will likely be quite unpalatable to those who idolise testability." (my emphasis)

Are the above paragraphs ture, just a story, false but important, or something else? I don't know. Did story telling develop in tandem with the ability to count in different ways? Did story telling evolve from stock stories to variants in which it wasn't possible to tell what the plot was before the final paragraphs ended? Is rational decision making just a hard skill to learn in the same way being a concert pianist is hard? Again, I don't know. I don't know because I have no idea what evidence would count against the hypothesis being true, stories being more efficient than rational decision making.

But I do know that there is a tremendous amount of poor reasoning about correlations because we don't employ on a regular basis a simple analysis, what academics would refer to as a two by two covariation table.

When we ask whether A's are related to B's there are two distinct questions that we could be asking. First, in a world full of A's, what is the ratio of B's to non B's? Second, in a world full of B's what is the ratio of A's to non A's? These are distinct questions.

Let's take a concrete example. Let A = statements I believe, and B = statements that are true. Consider only 20 statements. We can diagram the relation as follows:

Now, how do we tell if I am an oracle? The usual focus is on the first cell, how many of my beliefs are true. Surely if A is high, then I am an oracle. My beliefs are true. But that is not true. Suppose that C = 3, D = 5, while A = 7 and B = 5. Then in the world only of true statements, I believe A/A+C or 7/10 and incorrectly disbelieve 3/10. Similarly, in a world only of my beliefs, A/A+B or 7/12 of my beliefs are true, while 5/12 are false. So in this case, I am pretty good at detecting a true statement, but almost half of my beliefs are false. That is if something is true, there is a 70% chance I will believe it, but if I believe something, it only has about a 60% chance of being true.

We don't have to limit the table to belief versus truth. There are a number of other interesting dichotomies, attractiveness of belief versus truth, social consistency versus truth. Basically, we want to use these tables when we are dealing with the interaction between the way the world is reported and the way the world is.

Now what makes using these tables hard is that we don't focus on all four cells, and usually completely ignore D, something explored in great detail by Thomas Gilovich in "How We Know What Isn't So." In discussing why bad interpersonal strategies persist, Gilovich considers someone who thinks that is necessary to push at all costs. We have a table like the following, using the dichotomy be pushy versus personal gain.

It isn't that I hate stories; I read them to my three year children. As a result of reading the cat book, my young son now says he has three cats, black, pink and purple that he has to feed. But let's leave the stories to children and move on to evidence based business making decisions.

Posted by michael webster at 8:37 AM | Permalink | Comments (0) | TrackBacks (0)

At the Pink Truth, a Sales Director is Caught Begging for Sales to meet their self imposed deadline for being "a Pink Cadillac Unit".

The Pinktruth blog was previously known as "Mary Kay Sucks", a name which did not last long, for obvious reasons.

Many of the commentators are fierce in their denunciation of the Sales Director, correctly believing that it is deceptive for this sales director to issue a call for increased inventory.

However, only a few of the Mary Kay ladies, or ex-Mary Kay rather, see the psychological trap here for the Sales Director.

Here is one good post:

"You know------if her unit really wanted her to drive a FREE CAR, they'd just all cut a check for $600 and give her the cash!! Then it really would be free. Something to have in reality - free and clear. But no, she wants her unit to provide production so she'll be responsible for $900 + insurance every month and the ILLUSION of being an MK Super Star Director!! And we all know earning the car and keeping the car are two different things. When it takes 2-3 months to get to her, she'll undoubtedly have already lost it!! But Corporate already got their Moo-Lah so what do they care??!!"

The problem for this Sales Director is that the free car, like all items that appear to be something for nothing, is going to end up being quite expensive. She may end up either faking orders to maintain her production level, or worse.

Is there a logical reason that this illusion is so seductive? Or is the Sales Director just a "stupid pimp"?

The basis of this illusion is something I have wrote about before, the logical difference between diagnostic and causal inferences, in a different context.

In this case, we have two inferences:

C) If a Sales Director is successful, and achieves $16,000 per month in sales, then she will obtain the Pink Cadillac. This is a causal story, the success in sales brings about the reward.

D) If the Sales Director has obtained the Pink Cadillac, then she is successful. This is the diagnostic story; we infer from the presence of the car to the existence of genuine high sales.

But, critically, C) can be true, while D) is false. The causal story is easy to believe and justify, but the only evidence we have -unless we are the accountants of the sales director, requires D) also to be true, if we want to infer success from the only observable - that damned Pink Cadillac.

The nifty observation here is that the Sales Director knows if D) is true; but even if it is false, if she can get enough people to believe that D) is true, enough people will act as if it is true.

Posted by michael webster at 8:40 AM | Permalink | Comments (2) | TrackBacks (0)

Pink Truth: Facts, opinions, and the real story behind Mary Kay Cosmetics has a nice discussion about the Mary Kay scripts used. The whole post is worth reading, especially for the comments.

But I wanted to focus on single example, which I believe is not correctly understood.

After you have placed your order,

"She will now bag up your products, take your money, give you a receipt. If you don't buy, she will give you a bag with a book so you aren't embarrassed. Then she will ask you if you will assist her with her training." (my emphasis)

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In 1957, Leon Festinger constructed a number of brilliant experiments, sparking a revolution in social psychology. The centre piece of his thinking was that when our behaviour is not consistent with our beliefs about how we believe that we should act, we experience cognitive dissonance which we strive to minimize. The important observation was we could minimize dissonance by choosing to discount information which was inconsistent with our current behaviour.

But there is more to cognitive dissonance than this. As Cynthia Crossen writes about cognitive dissonance in the Wall Street Journal here is a typical Festinger observation.

"In the aftermath of a severe earthquake that shook India in 1934. People who lived in a region of the country that had felt the shock but were spared death and destruction began circulating rumors that other terrible disasters were about to befall them -- a cyclone, a flood, another earthquake or "unforeseeable calamities."

Why, Mr. Festinger wondered, would rumors arise that provoked rather than allayed anxiety, especially among people who hadn't suffered any immediate loss? And why were the rumors so widely accepted?

His conclusion derailed his analysis of rumors and put him on the track of a milestone in psychological theory: When feelings and facts are in opposition, people will find -- or invent -- a way to reconcile them. The people who had narrowly escaped the earthquake were scared, but their fear seemed largely unjustified. The rumors provided people with information that fit how they already felt, reducing what Mr. Festinger called their "cognitive dissonance."

Festinger was alive to various ways individuals acted to minimize dissonance, but unfortunately for the theory of cognitive dissonance the explanatory model assumed that "cognitions" could be counted and measured. This is a very strong measure theoretic condition; since it is hard to identify equivalent beliefs, it is not surprising that the mathematical models of cognitive dissonance did not prove as fruitful as some of the original intuitions, experiments and thought experiments.

One of the most typical cognitive dissonances I see in distributorships or franchisees is that when sales are not being made, the franchisee or distributor is told that they "aren't following the program". Alternatively, they are told that they aren't applying themselves, are lazy or some other flattering description.

The reason for poor sales never has anything do with a crappy franchise system or lousy distributor products. Why? Because to accept that would also be to reject the reason for being in the system. Even when you are in a crappy system.

Technorati Tags: cognitive dissonance, leon festinger, wall street journal, cynthia crossen

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By coincidence, I purchased 60 Minutes' book "Con Men" just a day before the tawdry ending of one of the largest pyramid U.S. based pyramid scheme International Heritage and Stan Van Etten.

As announced yesterday,

"United States Attorney George E. B. Holding announced that Stanley H. Van Etten, 45, of Windemere, Florida, has been sentenced to ten years in federal prison for bilking thousands of investors out of over $165 million dollars. On Tuesday, November 21, 2006, United States District Judge Terrence W. Boyle ordered Van Etten to serve two 60-month terms in prison and to make restitution in the amount of $14,339,820 to the victims of the now defunct Mayflower Venture Capital Fund III."

"The prosecution involved two schemes. The first scheme was the multi-level marketing company International Heritage (IHI), involving over 150,000 individuals and gross receipts of over $150,000,000 at its peak. The second scheme, Mayflower Fund III, a Raleigh-based capital venture fund was supposed to invest in the BuildNet IPO. It was discovered that 120 investors were defrauded of over $15,000,000 when Mayflower funds were used for other purposes without the investors knowledge. United States Attorney Holding said of the convictions, "Stanley Van Etten's Raleigh-based pyramid scheme, International Heritage, and his other frauds have finally come to an end with a 10-year sentence in federal prison. Federal regulators previously called International Heritage one of the biggest pyramid schemes they'd ever seen. Today's sentence is a just end for the man who, with the help of his co-conspirators, built his pyramid and investment schemes on the backs of over 150,000 victims."

Stan Van Etten was prominently covered in "Con Men", a term which should be replaced by "Con Criminal". I had planned on doing some research about him, just prior to reading the SEC's news release.

Although Van Etten had reached a settlement agreement in the civil action by the SEC, in which he was ordered, " barred from association with any broker or dealer" for two years, the criminal action dragged on for nearly ten years; here is the original SEC complaint against International Heritage and Stan Van Etten.

Now, why does a pyramid scheme attract participants? Evidence against the viability of this scheme seemed overwhelming, according to this list from the http://www.cageyconsumer.com/ihilinks.html. So how in the face of this overwhelming evidence, could Van Etten and his chums continue to recruit?

I believe that the answer lies in Leon Festinger's concept of cognitive dissonance. Roughly, we can expect social proof -usually in the form of cheering, emotional testimonial revivals - to overwhelm an individual's gut feeling of wrongness, when:

1. The individual has committed irrevocable actions consistent with his/her belief in the pyramid scheme. The more irrevocable, the deeper the commitment.
2. The individual perceives and is aware of real world events which disconfirm his/her belief. This induces uncertainty in the individual.
3. The individuals in the scheme deal with the dissonance produced by real world events by trying to rally more people to their side, since as Cialdini put it, "The principle of social proof says: The greater the number of people who find any idea correct, the more the idea will be correct." If the facts on the ground cannot be ignored, then look to facts in the air.

If Cialdini is correct, then we may be able to contain the viral outbreak of cancerous pyramid schemes, not by educating the irrational consumer, but by breaking down their irrevocable actions which lead to commitment. How can we do this?

Noah Goldstein, www.influenceatwork.com, has an intriguing observation. In discussing advertising, Noah notes that cigarette advertising was banned from the airwaves about 30 years ago, a ban enthusiastically supported by the cigarette companies. Why?

Prior to the ban, "The Federal Communications Commission had enacted the "fairness doctrine," which ordered radio stations and television networks that broadcasted controversial messages of public importance to also provide free air time to those with opposing views. Anti-tobacco groups capitalized on this ruling by initiating an ad campaign that provided viewers with effective counterarguments that refuted each purported benefit of cigarettes "demonstrated" in Big Tobacco's commercials. The anti-tobacco commercials' potency was further enhanced by the ads' inclusion of mnemonic links to easily recognizable characters, settings, themes, and narrations that were appearing in cigarette ads at the time. The counter-advertisements proved to be enormously successful; per capita cigarette consumption dropped almost 10 percent in the following three years, most of which has been attributed to the counter-ads."

One clever example cited is the counter ad in which, "one Marlboro Man-type saying to another, "Bob, I've got emphysema." The next time individuals see a real life ad for Marlboros, they are more likely to automatically conjure up the counterargument and therefore become more resistant to the cigarette ad's message."

To effectively combat pyramid schemes we need more "Poison Parasite" advertising. We do not need educate individuals about the mathematics of pyramid schemes because although the math is correct, math challenged consumers are not problem. Unchecked deceit is the problem.

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A constant theme here has been the clash between the techniques of compliance, which rely upon psychological mechanisms, and the law of due diligence, which regulates fraud relying upon the fictitious rational person. The statutory law of due diligence, as opposed to the common law on misrepresentation or deceit, has developed two techniques to deal with those who lie to the public for profit: the seller has not registered with the appropriate authorities, or the seller cannot use as a defence to its deceit to the public that the public did not rely upon what the seller said.

One good example of this clash was discovered by Daniel Kahneman, a Nobel Prize winner in Economics and the late Amos Tversky. In a very clever and compelling experiment, Kahneman and Tversky showed that individuals will treat irrelevant information as an important anchor. If we don't know anything about a subject, we will use even random information to "help" us make a decision.

What does anchoring have to do with business opportunities frauds or scams? How do scammers take advantage of anchoring? How does the law of due diligence deal with anchoring?

Here is a typical use of anchoring. This seller of a vending distributorships has an "earnings" estimate on their website. The ordinary purchaser has no idea whether 10 machines will sell 2 servings a day - but, it sounds reasonable.

So the purchaser anchors on 20 sales per day and so the representation that they will earn25% return on investment seems reasonable. But even if the purchaser typically decides to play it "safe" and reduces the 20 sales by 1/2 or a 1/3 -to a 12.5% or 8% return, it still sounds pretty reasonable.

But, the reality is that a purchaser is should equally subjectively indifferent to whether the sales are 20/day, 20/week, or 20/month. Do the math as if those three states of nature were of equal probability.

Unfortunately, the scammer knows that purchaser will anchor on the sales per day and make the decision accordingly. The law of due diligence requires earnings estimates to have a reasonable basis but in general the law has no requirements on how this information is presented to the public.

But, in an important change, the FTC has proposed to make this type of earnings estimate subject to the new Business Opportunity Rule and has proposed that a certain version of anchoring be deemed an deceptive marketing practice.

Technorati Tags: nobel prize winner, due diligence, daniel kahneman, deceit, rational person, clash, statutory law, amos tversky, common law, psychological mechanisms, misrepresentation, anchor

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It is common to believe that our generation, has a monopoly of all the wisdom that is worth acquiring. But one of the great advances in social networking is the potential for rapid delivery of wisdom lost, from previous generations. Thomas Bayes was a 18th century philosopher who published small mathematical treatise on conditional probability. The practical import of his theorem was divined earlier by David Hume, who realized that when we are presented with testimonials that seem extraordinary we should focus on the possibility that the person testifying to this rare event is mistaken. That is, we should compare in our minds the chances that a "miracle" happened with the chances that the person was honestly mistaken about what they saw or reported.

In the late 1970's Amos Tversky and Daniel Kahneman rediscovered various interesting failures of individuals to use Bayes theorem - which they called the "Base Rate" problem, which might be thought of as the unrecorded chances of a miracle happening.. Gigerenzer & Hoffrage, in the mid 90's, challenged Tversky and Kahneman's assertion that individuals did not pay attention to the base rate, by recasting some their experiments and coming to different conclusions.

Over at the Science and Law Blog, the importance of Bayes theorem is stated this way.

"The importance of understanding base rates and Bayes' Theorem cannot be overstressed, particularly in the case of many types of medical and scientific testimony. The importance of base rates is seen in the following problem: A disease occurs in 1% of the population, and a test has been developed which has an 80% accuracy rate (i.e., if you have the disease, there is a 80% chance the test will pick it up), and a 9.6% false positive rate (i.e., if you don't have the disease, there is a 9.6% chance of getting a positive result anyway). Sam tests positive for the disease. What is the probability that Sam has the disease?

The general inclination is perhaps to say 90.4%, because the false positive rate is 9.6%. This conclusion, however, is wrong because it does not account for the rarity of the disease in the general population. (As doctors are often trained to think, if you hear hoofbeats, think horses, not zebras.) Using Bayes' Theorem--and here I will spare the reader the mathematical details--one can show that the probability that Sam has the disease is 7.8%. Intuitively, this is because given the rarity of the disease, it is more likely that Sam is actually one of the false positives than one of the people with the disease. Short of being a math genius, however, crunching the numbers is extremely difficult to do intuitively, and merely plugging values into Bayes' formula has a certain mystical quality that might make jurors (or judges) skeptical.

Psychological research by Gigerenzer & Hoffrage, however, suggests that people find analyzing the problem from a frequentist perspective far easier than from the probabilistic perspective shown above. We can see this by transforming the example above to series of frequencies: A disease afflicts 10 out of 1000 people in the population. For people with the disease, 8 out of 10 will have positive test results. For people without the disease, the test will still (erroneously) yield a positive result 95 out of 990 times. Sam tests positive for the disease. What is the probability that Sam has the disease?

The answer follows far more simply. Out of a population of 1000 people, 8+95=103 people will test positive. And of these 103 people, only 8 actually have the disease, so the probability that Sam has the disease is 8/103 = 7.8%."

For the mathematically annoyed, it is helpful to look at the following chart.

There are 1000 people, which explains the lower right corner. Since only 1% of the population gets the disease, then the last column must be 10 and 990. Finally, since the test is only 80% accurate, then the left to right diagonal must be 80% of last column. So if the test is positive, column 1, we have 103 individuals of which only 8 have the disease, 7.8% -which is more than 1%, but considerably lower than 80%.

The moral of the story is this: if a rare event (10/1000) is reported by a very reliable witness (80/100), the chances that the rare event happened is closer to its base rate (10/1000) than the accuracy of the reliable witness (80/100).

Technorati Tags: bayes theorem, thomas bayes, daniel kahneman, conditional probability, david hume, wisdom, social networking, amos tversky, treatise, philosopher, monopoly, miracle

Posted by michael webster at 11:45 AM | Permalink | Comments (0) | TrackBacks (0)

Business Opportunities and Job Placement Scams and How they Work. A business opportunities criminal demands a large amount of capital, $19,900 is the new minimum number, up from $9,900 in the late 90's, for ATMs, vending machines, internet kiosks, or other self serve kiosks. The FTC notes that:

"The very amount of capital requested can bolster the illusion that the business opportunity is a legitimate investment. Victims of these scams often believe they are investing in highly developed businesses. In fact, scam artists take the consumers' investment as profits and commissions, and provide them unprofitable business plans in return. The injuries to consumers can be devastating, not only in terms of the dollars they lose, but also in the time they invest in unprofitable enterprises. For example, one victim in a recent FTC case estimates that he spent $75,000 in an attempt to make such a business opportunity profitable."

But, once you have decided, because of the money that you have previously spent, that this is a real business, you will continue to try to fool your gut by spending more money. The brain believes that the continued investment in the scam will soothe the rumblings in the gut - which by the way is screaming "run away, run away."

Technorati Tags: internet kiosks, ftc case, business opportunity, business opportunities, vending machines, scams, consumers, unprofitable business, business plans, scam artists, job placement, atms, bolster, illusion, legitimate, invest

Posted by michael webster at 9:22 AM | Permalink | Comments (0) | TrackBacks (0)

One of the major themes of this blawg can be described as yet another example of the law of unexpected consequences. According to the economic theories which our consumer protection laws are built upon, a more knowledgeable consumer will be better protected from fraud. Thus, for purchasers of business opportunities, franchises, and more passive investment vehicles we have disclosure laws which reverse the ordinary common law of "buyer beware". Individuals who purchase these type of investment earnings opportunities are required by law to be provided with more information than the market would usually provide.

Yet, as I have consistently argued, with example after example, the underlying economic rationale does not work for the sale of business opportunities. Providing better information, seven or ten days before the actual purchase, which contradicts or conflicts with the purchaser's pre-disclosure evaluation of the company will at best be downgraded and ignored, and at worst, propel the individual into make exactly the wrong decision, faster and quicker.

One part of the solution to this problem is to require that the disclosure documents for franchises, business opportunities, and network marketing opportunities be made public so that individuals could review them prior to contacting the company or opportunity. The other part of the solution is to allow private individuals to prosecute violations of the FTC Rule.

Now, are there other situations in which disclosure, which is designed to remedy or balance the "buyer beware" motif of the marketplace, does not work?

Continue reading "Strategic Responses to Disclosure Information" »

Posted by michael webster at 2:47 PM | Permalink | Comments (0) | TrackBacks (0)

Well, if you are James E. Upshaw Senior you can make $6 million over four years by stealing from your fellow African Christian Church members, and then end up with only $600 worth 7.5 years of prison time. The SEC announced that Mr Upshaw was ordered "to pay disgorgement in the amount of $2,189,183.37 plus prejudgment interest in the amount of $68,438.78, but waives payment of those amounts and does not impose a civil penalty against Upshaw based upon his Sworn Statement of Financial Condition and the fact that Upshaw is currently incarcerated. The Circuit Court of Cook County criminally convicted Upshaw for theft and securities fraud in December 2004 and sentenced Upshaw to seven and one-half years in prison. Upshaw is not scheduled to be released from prison until July 2013." (my emphasis)

When you read the SEC's complaint, what stands out for you?

Technorati Tags: securities fraud, sec, sworn statement, church members, informal style, cook county, breezy, allegation, half years, christian church, sentenced, stealing

Continue reading "How You too can make $6 Million." »

Posted by michael webster at 8:46 PM | Permalink | Comments (0) | TrackBacks (0)

One of the major themes on this site has been to trust your gut when it comes to business opportunity due diligence. The mind can too easily be swayed by con criminals waving the phantom dream which becomes more real than the actual coin of the realm. However, over at the Harvard Business School, Max Bazerman and Deepak Malhotra argue that when it comes to negotiating, we should not trust our intuition and rather rely on a rational checklist.

Their argument proceeds by analogy: just as visual illusions are compelling but wrong, so is relying on intuition when it comes to negotiation. The particular illusion they use is from Roger Sheppard's book Mind Sights: Original Visual Illusions, Ambiguities, and Other Anomalies (W. H. Freeman, 1990). (Roger Sheppard is also known for his auditory illusions: a rising pitch which seems to go up forever.) The seduction of these illusions are that even when you know the answer - for example, that the two tables are the same- it doesn't change your visual judgment that one table is bigger than the other. In terms of social influence, Cialdini calls this a click-whirr inference.

Cialdini and others point out that we need responses to our click-whirr inferences, especially when dealing with con criminals. But is the Bazerman/Malhotra approach correct for business opportunity due diligence? Do we need to be more rational? Or do we need quicker intuitive responses?

Technorati Tags: visual illusions, auditory illusions, harvard business school, due diligence, intuition, business opportunity, ambiguities, deepak, anomalies, analogy, seduction, criminals, negotiation, rational

Continue reading "When Not to Trust Your Gut." »

Posted by michael webster at 9:49 PM | Permalink | Comments (0) | TrackBacks (0)

The Florida Department of Agriculture announced that "Florida Commissioner of Agriculture and Consumer Services Commissioner Charles H. Bronson has won a $2.2 million dollar judgment and a civil fine of nearly $1 million dollars against Global Resources, Inc., a now defunct business opportunity seller. The Department also took action against the owner, Stewart Pope of Pinellas County."

Global Resources, a spinoff of Pantheon, was the typical new technology biz op scam - promises of locating or distributing internet kiosks. I have already explained before why there is no business of locating vending or internet kiosks.

Although, Commissioner Charles Bronson may be very happy with his paper judgment of $3.2 million dollars, those people who were robbed and waiting for real dollars are less than pleased. A number of them are trying to join together to try collect on these restitution orders.

But there was a simple due diligence test that would have alerted the potential investors that something was wrong. What was it?

Technorati Tags: internet kiosks, global resources, charles bronson, department of agriculture, florida department, business opportunity seller, defunct business, due diligence, judgment, pinellas county, biz op, restitution, pantheon, vending

Continue reading "Global Resources, A win for consumers?" »

Posted by michael webster at 9:15 PM | Permalink | Comments (0) | TrackBacks (0)

Approximately 10 years ago, Chuck Whitlock wrote up his experiences exposing scams, frauds and cons. There are two important stories that Whitlock wrote about which are pertinent to due diligence for business opportunities. First, he describes giving a lecture at a business opportunity trade show explaining how individuals could get material information from the local state authorities which regulate business opportunities. He states "some opportunities are only opportunities for con artists to rip you off." One audience member was very attentive and asked Whitlock a number of questions. After his talk, Whitlock donned a disguises and started hawking a franchise for Platinum 1000 - a light bulb that never burns out. Whitlock collected $14,000 in a few hours and that attentive member for the audience? Buyer..

The second story may surprise readers. Whitlock attended a seminar which was promoting an illegal pyramid scheme promoted by a company called "Gold Corp". A Linda Chapman was presenting this wonderful opportunity and Whitlock was appalled by how many people were falling for the pitch, since it was an obvious pyramid. (Whitlock had done some previous research on the company prior to attending the seminar.) Whitlock jumped to his feet and exposed the scam. The crowd went wild - but, they were angry with Whitlock! He had stolen the fig leaf off this fraud, but everyone desperaedly needed to believe that this was "the one for them". As Cialdini eloquently explained in his book, for these individuals the disclosure of true and material facts just made them act irrationally quicker!

What do these two examples show about the FTC's proposed Business Opportunities Rule?

Technorati Tags: illegal pyramid scheme, whitlock, audience member, business opportunities, due diligence, pertinent, business opportunity, light bulb, con artists, surprise readers, gold corp, opportunity trade, state authorities, disguises, frauds, hawking, scams, regulate, rip

Continue reading "The FTC's Proposed Business Opportunities Rule Part II" »

Posted by michael webster at 6:53 PM | Permalink | Comments (0) | TrackBacks (0)

I had previously written about the book Weapons of Fraud based upon the testimony of one of the authors, Anthony Pratkanis before the US Senate Special Committee on Aging. The book is free from the AARP and I can recommend it highly. The authors have taken considerable time and trouble to identify how we fall victim to fraud with reference to actual scripts of conversations confiscated from criminals convicted of fraud. The book also comes with a CD so that the actual conversations, some of which are chilling, can be heard.

The authors have made a serious effort to inform the public about how financial fraud is committed and emphasize that we are all possible targets for these con criminals, which is the authors' replacement term for "con artists". It amazes me that while everyone believes that they could be the target of a physical crime and will sometimes go to great lengths to protect their property, the same people believe that their own "common sense" will protect them from a financial or white collar swindle. Criminals take your money because they can and rationalize that if you cannot "keep" your money, then they deserve to take or have it.

The introductory chapters discuss how criminals obtain information, and profiles on their targets. They state that at the basis of every scam is the "phantom dream". "A phantom is something that a person desperately wants, but is normally completely unavailable - the hope of things unseen being real." (my emphasis). The criminal's pitch is he can make this phantom dream come true for you - you just need to believe, let him help, and you too will can join thousands or even millions already enjoying their dreams.

The concept of the phantom dream is a useful analytic device. But it is not just used by criminals, both franchises and business opportunities are often marketed as the opportunity to "be your own boss". For franchising, this is highly amusing given the highly restrictive adhesion contracts that franchisees sign.

But what is wrong with having a dream, even a phantom dream? Don't we want our reach to exceed our grasp? Isn't overreaching an admirable trait? What is wrong with desiring what is normally completely unavailable and shoot for the moon?

Technorati Tags: financial fraud, authors, us senate, target, aarp, senate special committee, criminals, conversations, con artists, chilling, common sense, emphasize, aging, targets, anthony, weapons, scripts

Continue reading "Weapons of Fraud II" »

Posted by michael webster at 7:24 AM | Permalink | Comments (0) | TrackBacks (1)

Scott Plous, in 1993, wrote an excellent text or compilation of the then current state of the art on the Psychology of Decision making, and included a number of test exercises at the beginning of the text. The tricks of the mind that psychologists have discovered are very ably covered by Plous. There is a general agreement amongst scientists is that there are heuristic tools that we use to break down a decision problem, which generally work well. But we overuse these heuristics and make predictable mistakes.

Here is an example about the use of testimonials to aid our decision making. If I am going to buy a new computer, I will generally read product reviews, especially from authorities. Some of these reviews provide important information. When the "discovery" of a Mac OSX virus was a hot topic, reading authoritative reviews helped my understand what the problem was and how to gain protection until Apple released its security update. In general, relying upon authorities is a good idea and trying to identify an authority is a worthwhile exercise.

Where is this a bad strategy is when the event you are seeking information about is highly unusual, rare, or wildly out of the norm. How important are authorities in these cases? Consider the following problem. You are a member of jury in personal injury lawsuit. The plaintiff has testified that the car that hit him was yellow. Let's make the plaintiff an "authority" on spotting cars: if a car is yellow, then the plaintiff will correctly identify it as yelllow 90s% of the time. Further suppose that there are only two colors of cars: yelllow and green. Our authority is just as good as spotting yellow cars as green cars. You also know the total number of cars is 200, and 180 are green. What are the chances that if the plaintiff says that the car was yellow, it was yellow, given that he is an authority. Well, let's count the cases.

From the population totals, we know that A + B + C + D = 200, and that A + B = 20, while C+ D = 180. We also know that our authority doesn't make mistakes very often, so that A/A+B = .9, or A= 18 and B =2. Similarily, we know that C/C+D = .9, so C = 162 and D =18. What is the universe or total collection of cars and identifications in which our authority says that the "car was yellow". It is the information state containing A and D, a total number of 36 different states. Only in half of those states, A, does our authority get it right despite his 90% ability. This is because the chances of getting a yellow car are small, 20/200. So when our expert identifies a yellow car, he has picked a relatively rare event to be right about. As David Hume said, and I paraphrase, when presented with testimony as to a very rare event, I have to judge whether the rare event happened or that testifier has made some mistake.

What does this have to do with magic gas pills?

Technorati Tags: hot topic, authoritative reviews, heuristic tools, test exercises, mac osx, gain protection, topic reading, psychologists, new computer, predictable, compilation, state of the art, scientists, psychology, testimonials, discovery, heuristics, product reviews, scott plous

Continue reading "Testimonials, Covariation Tables and Magic Pills" »

Posted by michael webster at 8:24 PM | Permalink | Comments (0) | TrackBacks (1)

 There is an interesting thread at scamdex about Bioperformance, and a link to a very interesting discussion by an engineer.  He raises the interesting question about statistical variation.  Consider the following graph, representing his gas mileage.  What is the relation between this graph, the testimonials from Bioperformance fans, and a well known scam involving "secret tips"?
 

Technorati Tags: email, gas mileage, graph, ibm stock, internet works, forecaster, credibility, betting, variation, brilliant, testimonials, secret tips

Continue reading "Testimonials" »

Posted by michael webster at 9:45 PM | Permalink | Comments (0) | TrackBacks (0)

People generally evaluate positive evidence for their favourite hypothesis favourably, and negative evidence is given less weight. But people tend to rational consistency, so that negative evidence tends to be scrutinized more in order to dispel it. This was illustrated by a study in which the effectiveness of capital punishment as a determent was given to people, who were known to be either supporters or opponents of capital punishment. For half the participants, they read studies showing the effectiveness of capital punishment within a particular state, while the opposing argument used statistics between states. For example, Study A would show that before capital punishment, State X would have a murder rate of Y, while after capital punishment the rate would drop to Z, less than Y. The opposing study B, would review an number of states to see whether Study A held up or not. That information was given to 1/2 of the participants. The other half would get similar information but with the roles of Study A and B reversed. "Thus, for both proponents and opponents of capital punishment, half of them had their expectations supported by one type of study and opposed by the other, and the other half were exposed to the opposite pattern of data."

What was the net result of exposing individuals to a balance of information? Gilovich reports that "exposure to a mixed body of evidence made both sides even more convinced of the fundamental soundness of their beliefs." Instead of simply ignoring unfavourable evidence, "participants cognitively transformed it into evidence that was consider relatively uniformative and could be assigned little weight." (my emphasis)

What does this have to do with gas pills?

Technorati Tags: capital punishment, negative evidence, charming book, state, murder rate, hypothesis, rational, bias, consistency

Continue reading "Capital Punishment and Gas Pills" »

Posted by michael webster at 2:57 PM | Permalink | Comments (2) | TrackBacks (0)

The Bioperformance drama is growing; a MLM competitor claims patent infringement. I wonder what the folllowing graph really means?

Technorati Tags: patent infringement, competitor, mlm, graph

Posted by michael webster at 9:26 PM | Permalink | Comments (0) | TrackBacks (0)

Mr. Midkiff has presented the SEC with a "foreign bill of exchange" which purportedly allows the SEC to draw up to $100,000,000.00 to settle the charges against him. Hmm, woudln't a certified cheque and plea bargain been a little easier?

Why is Midkiff engaging in this further chicanery?

Continue reading "Neulan D. Midkiff - Cooling off the Marks" »

Posted by michael webster at 9:38 AM | Permalink | Comments (0) | TrackBacks (0)

" Richard Balber was an AmeriP.O.S. salesman known as a "loader". His job was to entice existing distributors to purchase additional terminals. If another salesman successfully closed a business opportunity sale, Balber contacted the distributor within a few days or weeks for the purpose of soliciting an additional investment. Balber falsely claimed that another person had cancelled a large order of terminals for personal reasons and that, as a result, AmeriP.O.S. could offer additional terminals to the distributor for a substantially reduced rate. Balber pled guilty to conspiracy to commit an offense against the United States - mail fraud -in violation of 18 U.S.C. § 371, on April 6, 2005."

Why does loading work?

Continue reading "Business Opportunities Loader Convicted" »

Posted by michael webster at 6:53 PM | Permalink | Comments (0) | TrackBacks (0)

One of the elements on the FTC's checklist for business opportunities fraud was the presence of an 800 number. In particular, the FTC note