Another $3 Billion Ponzi Scheme

by Chris Sturr | April 22, 2009

It’s getting hard to keep track these days. Was anybody making money honestly this past decade?

From the WSJ:

MINNEAPOLIS — Bernard Madoff bilked the public with fictitious securities transactions. Tom Petters, prosecutors allege, gulled his victims with nonexistent DVD players and flat-screen TVs.

Among the spate of alleged scams that have come to light in recent months, the $3.5 billion one that Mr. Petters is charged with is among the most unusual. The Minnesota businessman promised fat returns to investors who lent him money to buy surplus merchandise and resell it to famous retailers like Wal-Mart Stores Inc.

“In fact, there were no such purchases or resales,” says a federal indictment. It says both were faked. Mr. Petters denies the charges.

Two months before Mr. Madoff burst onto the public stage last year charged with a Ponzi scheme, authorities here accused Mr. Petters, a gregarious 51-year-old appliance wholesaler, of running a multibillion-dollar fraud of his own.

But Mr. Petters’s case broke in early October as the world was riveted by an unfolding financial crisis. So his story has gone largely unnoticed nationally, while Mr. Petters sits in a rural county jail — where, until recently, he couldn’t leave his cell without shackles.

Mr. Petters used the proceeds of his alleged scheme to fund an “extravagant lifestyle,” a Dec. 1 federal indictment says, as well as to acquire a host of other businesses — ranging from Polaroid Corp., Sun Country Airlines and part of Fingerhut Cos. — to stakes in private companies. He gave millions of dollars to colleges.

Now, cases against Mr. Petters and five others are playing out in five federal district or bankruptcy courtrooms in Minneapolis and St. Paul. Alleged victims range from hedge funds to universities to creditors of myriad related businesses that have been forced into receivership or bankruptcy. One religious foundation invested almost its entire $28 million nest egg with Mr. Petters.

The five other defendants — among them an employee who went to prosecutors with tales of wrongdoing last summer — have pleaded guilty to felonies, agreed to have their assets placed in a receivership and are awaiting sentencing. One of them, according to a Federal Bureau of Investigation affidavit filed in court, described the fraud as a Ponzi scheme, a deal in which returns to existing investors are paid with money from new investors. Their lawyers didn’t make them available for comment.

Mr. Petters “is going to fight” the charges, says his attorney, Jon Hopeman. He faces trial on 20 federal counts of fraud, money laundering and conspiracy in September. Through his lawyer, Mr. Petters declined to be interviewed.

An old friend, Jim McAlister, says Mr. Petters was optimistic and joking around when visited recently at the Sherburne County Jail in Elk River, Minn. “Look at me,” Mr. McAlister recalls Mr. Petters saying. “I lost 10 pounds. I’m in better shape than I’ve ever been in. My blood pressure’s down.”

Mr. Petters grew up the fifth of seven children in a devout Catholic family in St. Cloud, Minn., says one of his brothers, Jon. Their great-grandfather from Germany had opened a tailor shop in St. Cloud. It’s gone now, but a Petters Building still stands downtown.

While still in high school Mr. Petters started a business selling stereo equipment to students at St. Cloud State University, even leasing office space and hiring salespeople. His parents shut him down after learning he was skipping school. Mr. Petters later attended the college himself, but soon dropped out and went to work for an electronics retailer in Iowa and Colorado. He returned to Minnesota in 1988, so broke that he moved in with Jon, the brother says.

Tom Petters went through a divorce. His lawyer says he also had rehabilitation for cocaine addiction. Court records show Mr. Petters was involved in multiple breach-of-contract lawsuits with business partners — them suing him or vice versa.

Staked by a loan from Jon and a friend, Mr. Petters started a wholesale brokerage business that bought and resold surplus goods, later called Petters Co. By the mid-1990s, he had a small Minnesota retail chain that sold closeout and overstock apparel, furniture, toys and groceries. But he tired of retail and sold most of the stores. He preferred wholesaling and its constant middleman juggle of buying and reselling odd-lot shipments of televisions or frying pans or Coca-Cola.

Acquaintances say Mr. Petters was motivated less by money than the challenge of selling. “Wealth isn’t one of our objectives in life,” Jon Petters says of his family. “Tom said, ‘If you have it, you have to give it away.’ Tommy was always loaning money or giving money to people or co-signing for a house.”

Federal prosecutors say the alleged fraud began in Petters Co. about 14 years ago, and worked like this: Mr. Petters and an unindicted business broker solicited investors for loans to buy merchandise; the loans would pay double-digit interest rates and be secured by the merchandise or accounts receivable.

Some of the money raised went directly to two purported suppliers of goods: Nationwide International Resources Inc., of Los Angeles, and Enchanted Family Buying Co., of Excelsior, Minn. According to prosecutors, neither of them bought or sold any goods; they usually just paid themselves a commission and routed the rest of the money back to Petters Co.

Mr. Petters and associates allegedly created fake purchase orders, bills of sale, wire-transfer confirmations, shipping documents and statements purporting to show goods being bought and resold at a profit, to retailers such as Costco Wholesale Corp. and Wal-Mart’s Sam’s Club.

An order dated April 17, 2008, showed Enchanted selling 2,800 Hitachi projectors to Petters Co. for $5.26 million, according to an FBI affidavit filed in federal district court in Minneapolis. A purchase order dated 11 days later portrayed Sam’s Club as buying the projectors for $5.84 million and thus producing a profit of nearly $600,000.

A Wal-Mart official told the FBI the retailer doesn’t do business with vendors via paper records but on a special Internet site. He called the Sam’s Club purchase order fictitious.

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