MerchantCircle, under heated criticism for telemarketing tactics, on Wednesday attracted $10 million in a second round of funding.

Los Altos, California-based MerchantCircle, which provides search engine marketing and optimization, allows businesses to aggregate reviews and directory listings from across the web in one place, pushing itself as a way to help small business owners “manage their online reputation.”

Unfortunate for MerchantCircle, its own online reputation may be the one in need of an overhaul.

MerchantCircle, analyst said, has resorted to misleading potential customers by using automated telephone calls suggesting their business had a bad online review. When business owners, prompted by the call, went to MerchantCircle to view the supposed bad review, they discovered they first had to register.

After realizing how difficult it is to penetrate the small business community, it “decided to scare them,” said Peter Krasilovsky, program director at Kelsey Group, a researcher that studies local business trends. “A bad review is a small business’s greatest fear.”

Mr. Krasilovsky was surprised MerchantCircle was able to survive due diligence, attract IAC, and retain its original investors.

New financing partners IAC and Square 1 Bank were joined by return backers Rustic Canyon Partners, Scale Venture Partners, and Steamboat Ventures (the venture capital arm of Walt Disney), bringing the ten-person startup’s total funding to about $14 million.

MerchantCircle representative Kevin Leu declined to comment on whether the startup was still engaged in the telemarketing campaign.

The startup said it would use the money to acquire local assets and properties that will bring more customers to local business owners. Chairman Ben Smith declined to specify what those assets would be.

Mr. Smith, however, said the company’s one goal is to “bring 5 million merchants online.” He believes small business owners are getting “screwed by the yellow pages” by sinking their budgets into ineffective and overpriced ads.

MerchantCircle aims to connect local businesses with consumers by providing businesses with search engine optimization and search engine marketing. Its free service allows merchants to create a customized page with photos, blogs, newsletters, and coupons. Much like a Facebook for small businesses, merchants can also link to other businesses, trade tips through a merchant forum, and sign up for a news feed to stay up-to-date on local site activity.

MerchantCircle claims to have attracted 250,000 local merchants in seventeen months, but Mr. Krasilovsky suspects many of those users were duped into registering.

Mr. Krasilovsky said that over fifty people have written him to complain about the misleading phone calls. Because MerchantCircle does not list a current phone number or email address on its site, people are looking for a place to vent, he said.

When asked to comment on the telemarketing backlash, Mr. Smith said that the online comments make him “feel more popular.” In their drive to bring merchants online, “We’ve had sixty-seven crazy ideas … and five that really work,” he said.

Mr. Krasilovsky and Smith agree on one thing: small businesses are vastly underserved online. Small businesses “don’t know how to get people to their web sites,” Mr. Krasilovsky said.

In addition to the yellow page directories—Yellowpages.com, SuperPages.com, Yellow Book—and newspapers, a variety of search engine optimization and search engine marketing specialists are going after a piece the $120 billion local ad business. ReachLocal, based in Woodland Hills, California, recently snagged over $50 million in funding.

MerchantCircle offers sponsor listings and sells two sets of monthly premium services to small businesses. The one package includes one ad per month on a major search engine such as Google or Yahoo. For a higher fee, businesses can create up to four rotating ads per month as well as pay for ads on major newspaper sites and 411 phone directory calls.

The ultimate question is whether MerchantCircle can overcome its own negative buzz.

“The first version of Windows was awful and people kept on using it,” Krasilovsky said.