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Corgentum Analyzes the Risks in the Allen Stanford Case and How They Could Have Been Detected

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Corgentum Analyzes the Risks in the Allen Stanford Case and How They Could Have Been Detected

  1. 1. In light of the recent guilty verdicts handed down in the trial of R. Allen Stanford case, it isworth revisiting the facts and circumstances that brought us to this point to see what lessons canbe learned.While Mr. Stanford was not a hedge fund manager, his case represents yet another example ofhow common sense due diligence can prevent investors from losing money. From an operationaldue diligence perspective there were likely many yellow flags that would have led to red flagsthat potential investors in the Standford funds and financial products could have detected.But it does little to take an “I told you so” attitude to due diligence without prescribing someforward looking advice as well. Said another way, perhaps it is more fruitful to focus on how toprevent the next Standford rather than simply chastise those that have been swindled.Below is a list of just some of the risks surrounding the Stanford organization and the duediligence steps investors could have taken to detect them:_________________________________________________________The RiskQuestionable auditorThe FactsStanford reportedly utilized a tiny Antigua-based auditor (C.A.S. Hewlitt) with an even smalleroffice in North London, that was in no way appropriate for the size of his organization. It wasalso alleged that after the firm’s CEO, Charlesworth Hewlett, died no one took over the auditingresponsibilities and all of his hard drives were deleted.What Investors Could Have Done To Detect ThemDuring the operational due diligence process investors should conduct an evaluation of allservice providers, including the auditors, to determine if they are of appropriate size andsophistication for the organization under review.© 2011 Corgentum Consulting, LLC
  2. 2. _________________________________________________________The RiskLack of transparencyThe FactsIt was reported that Stanford’s own employees didn’t know and weren’t given information aboutwhere his portfolio was supposedly invested.What Investors Could Have Done to Detect ThemInvestors should inquire not only as to what type of information they will receive from the fundbut what transparency a fund manager provides internally as well._________________________________________________________The RiskReputational risksThe Factspotential reputational risk existed concerning Stanford’s ostentatious lifestyle and close ties withAntiguan officials that raised many concerns related to bribery of local officials (something hewas eventually acquitted on). Stanford also had public verbal feuds with Baldwin Spencer, theprime minister of Antigua and Barbuda.What Investors Could Have Done to Detect ThemInvestors could perhaps have been aware of such risks through reference checks and speakingwith other investors© 2011 Corgentum Consulting, LLC
  3. 3. _________________________________________________________The RiskOutside business activitiesThe FactsStanford had a myriad of other business involvements including newspapers, sports teams andrestaurants at which he would often entertain his large banking clientsWhat Investors Could Have Done to Detect ThemInvestors should inquire directly with a manager first concerning outside business involvements.Additionally, media and other public records searches may have yielded indications ofinvolvement with other businesses. When a fund manager has extensive activities outside of theorganization it may produce a distraction from the business of fund management._________________________________________________________The RiskEmployment of relatives and employee romantic relationshipsThe FactsThere were reports that Stanford’s organization employed many individuals who were closelyrelated, either by blood or marriage.What Investors Could Have Done to Detect ThemInvestors could have asked if any relatives are employed at the firm. They could also havelooked at organization charts to see if any employees had the same last names. Additionally,James Davis (Stanford’s former finance chief who cooperated with the U.S. government andtestified against Stanford) testified that Mr. Davis also admitted that he was having an affair withanother Stanford employee Chief Investment Officer Laura Pendergest-Holt.The employment ofrelated individuals, particularly those who report to each other, can present a serious conflict ofinterest and one which investor should vet during the operational due diligence process.© 2011 Corgentum Consulting, LLC
  4. 4. _________________________________________________________The RiskOngoing litigationThe FactsStandford was involving in litigation with Stanford University. The university sued him claimingtrademark infringement based in part on a fabricated historical connection Stanford claimed tohave had with the founder of the university.What Investors Could Have Done to Detect ThemInvestors can work with third-party due diligence and background investigation firm’s to detecthistorical and on-going litigation._________________________________________________________The RiskStanford’s questionable backgroundThe FactsBefore forming his fraudulent Stanford Financial, Stanford had previous experience running afailed gym before finding success in real estate speculationWhat Investors Could Have Done to Detect ThemA background investigation or other similar review of Mr. Stanford’s background could havebrought his previous experience to light._________________________________________________________The RiskStanford Financial Group’s elaborate officesThe FactsStanford reportedly had extremely lavish offices. When too much money is spent on elaborateoffices, investors should ask questions. Perhaps the money could be better spent on improvingthe organization or hiring or retaining top notch employees.What Investors Could have Done to Detect ThemInvestors performing an on-site due diligence visit could evaluate whether an office is perhapstoo extravagant for a particular fund manager.© 2011 Corgentum Consulting, LLC
  5. 5. _________________________________________________________The RiskStanford’s volatile personalityThe FactsSohil Merchant (Stanford’s head of information technology) testified that he had to repeatedlyfly in new laptops for Stanford to replace the ones that he had smashed or dropped into water.What Investors Could Have Done to Detect ThemInvestors may not have known these intimate details of Mr. Stanford’s life but through on-sitedue diligence interviews there may have been either direct cues from Mr. Stanford himself orother indications of a volatile personality._________________________________________________________The RiskQuestionable performance claimsThe FactsIt was reported that Stanford presented hypothetical investment results as his actual perform inclient sale presentations. Additionally, Stanford also reportedly made statements that his CDswere safer than US government backed accounts.What Investors Could have Done to Detect ThemInvestors could have dug deeper into historical investment performance to determine if it wasaudited or was even indeed accurate. Furthermore, anytime a fund mentions statements concernscapital security or guarantees investors should raise concerns.© 2011 Corgentum Consulting, LLC
  6. 6. _________________________________________________________The RiskRumors of regulatory inquiriesThe FactsAfter the Stanford scheme was unveiled, it was revealed that regulatory authorities including theSecurities and Exchange Commission and FINRA had been conducting investigations ofStanford’s activities. It was also reported that the FBI had been conducting an investigation intoStanford since 2008 regarding allegations that he was laundering money from Mexican drugcartels.What Investors Could have Done to Detect ThemInvestors with a finger on the pulse of industry developments and perhaps even relationshipswith sources at regulators can sometimes be aware of rumors of such inquiries. Investors who donot have such networks themselves can perhaps leverage off of the services of a third-party duediligence specialist consultants who may have such networks._________________________________________________________The RiskHistorical tax liensThe FactsIt was reported that public records show Stanford had a history of tax problems including, federaltax liens in excess of $200 million before the fraud was even revealed.What Investors Could Have Done to Prevent ThemFirstly, investors could have inquired directly with Stanford to see if there was a history of anysuch. Additionally, a due diligence review of public records may have yielded indications of theliens._________________________________________________________In this case, one antidote to prevent future fraudsters like Stanford is clear: due diligence and lotsof it!For more information: Email: info@corgentum.com Tel: 201.360.2430© 2011 Corgentum Consulting, LLC

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