ATM funds deal with a higher volume of cash transactions that lend themselves to disreputable operators looking to take advantage of investors; therefore, the ATM fund industry has a history of more Ponzi schemes compared to other alternative assets.

Case in point: In one case in October 2009, the Southern District of New York indicted two ATM operators for an $80 million Ponzi scheme. The investors in the case weren’t purchasing ATM machines according to the terms of the deal. In fact, out of the 4,000 ATMs that were supposed to be in the fund, only 400 were actually in use and contributing to the fund’s revenue; the rest of the money was coming from new investors to pay old investors. It’s important to note that it’s not the ATM machine that stole the investors’ money. It was two bad operators. But sadly, cases like this give the entire industry a black mark.

Networking With Other Investors

In light of these vexing issues, I was particularly fortunate when Jeremy Roll, a highly regarded investor with more than a decade of ATM investing experience, agreed to participate in my book, The Alternative Investment Almanac: Expert Insights on Building Personal Wealth in Non-Traditional Ways. Jeremy is the co-founder of For Investors by Investors (FIBI), a non-profit organization created to facilitate the networking of investors, and he has a very loyal following of over 1,500 passive investors. Those who know Jeremy personally know that his ability to perform due diligence is second to no other investor. I once spoke to an operator, and the conversation drifted toward Jeremy. The word the operator used to describe Jeremy’s due diligence was “painful.” I never forget the moment I heard that term used; I immediately felt that should be a gold standard in our industry.

To be fair, an operator may not be willing to go through a “painful” due diligence process just for a minimum investment from a single investor, but somewhere in the middle of what Jeremy calls “proper due diligence” and just taking the operator’s word lies a happy medium (hopefully skewed toward Jeremy’s approach).

Jeremy would be the first to admit that proper due diligence requires an extensive knowledge of the asset class. If you are at the stage where you are still learning basic industry jargon, you should probably avoid attempts at performing a painful due diligence yourself, and instead focus your energy on networking with other investors and learning the asset class better. Increase the “pain” in proportion to your confidence that you know what you’re talking about.

The Six Steps to Performing Due Diligence on an ATM Fund Operator

In Jeremy’s career, he successfully identified three potential Ponzi schemes. In hindsight, they were very easy to spot, but doing so preemptively on three different occasions with three different operators is how you earn a stellar reputation like Jeremy’s. Let’s take a look at his due diligence workflow:

1) Make sure a prospective operator provides all of the proper investment documents at the time of the investor presentation. These include the offering (Private Placement Memorandum) and the operating agreement. It’s a huge red flag if the operator says anything along the lines of, “Our attorney is working on it, and we will get it over to you if you commit.”

2) Do a background check on all of the operators involved in a deal. Jeremy once found an operator that was convicted of credit card terminal fraud only to later try his hand at ATMs. You can imagine the result.

3) Verify the physical locations and functionality of the existing ATMs. Anybody can do this; it just takes work.

4) Perform a terminal log in to see the real-time ATM portfolio and its live transactions. This requires the operator to provide a look behind the scenes of their operations, and it can be a tough sell if you’re a small investor.

5) Ensure that the operators have proper IAD/ISO certification indicating that they are audited every one to two years by a third-party financial institution. The most important part of this step is ensuring that the operators are the ones complying with the audit directly, rather than being paired with someone else who is certified. No certification, no investment—period!

6) Perform a status check with a processing company, such as VISA. In conjunction with your findings in Step 3, you should be able to see that each specific ATM is listed on the processing company’s portal.

Sounds pretty grueling, right? The good news is that if you find an operator that passes all six steps on this due diligence checklist, you will have taken a significant step toward protecting yourself. Circling back to the Ponzi scheme mentioned in the earlier example, the operators wouldn’t have passed Step 3 if the investor had obtained a list of the ATMs and randomly selected a few to physically visit. Think of the odds: If the investor only visited one random ATM on the list, there is only a 10% chance that they would have found that unit there in working order and been able to match it to the transaction log (Step 4). Now if that same investor visited a second ATM machine, the chances of finding a properly placed and operating machine would go down to 1%. You can see what would happen if this investor chose ten random machines for inspection.

Our Investment

It was only after I felt comfortable with this due diligence process that I proceeded to invest in an ATM fund for SIH Capital Group’s core income fund.

We found that the ATM fund’s high cash flow business was a perfect complement to our other institutional-quality assets that needed more time to season, but with that said, we still anticipate the total percentage invested the ATM fund to make up a small percentage of the total assets in the fund. This is the strategy we employ: balancing risk and reward.

If you liked this article and wish to continue on your path in learning about alternative investments, please make sure to check out my other educational articles as well as my book, The Alternative Investment Almanac: Expert Insights on Building Personal Wealth in Non-Traditional Ways. 

Disclaimer: The information presented in this article is for informational purposes only and does not constitute professional financial or investment advice. The author does not make any guarantees or promises as to the results that may be obtained from it. You should never make any investment decision without first consulting with your own financial advisor and conducting your own research and due diligence. Even though, the author has made reasonable efforts to ensure that the contents of this article were correct at press time. The author disclaims all liability in the event that any information, commentary, analysis, opinions, advice and/or recommendations contained in this article results in any investment or other losses. Your use of the information in this article is at your own risk.