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1. Graphic Booklet
N.3 Petters
The
Importance
of Being
Diligent

2. Trust, but Verify
• We know the importance of being diligent, but there usually no
clear guidance as to how to be diligent.
• Even the professional lie-detectors – lawyers – can do no better
than “just look for something unusual.”
• However, detecting something as “unusual” requires experience,
which is more often than not subjective and not easily
transportable.
• Therefore, these case studies are my attempt at systematizing my
experience based on the following principles.
• As President Reagan said: Trust, but Verify.

3. N. 3: Petters

4. Profile
• Tom Petters set up Petters Group Worldwide,
LLC (“Petters”) in 1988
• Asset Based Lending/Purchase Order
Inventory Financing
• Petters and its feeder funds raised over $3.65
billion and lost $3 billion

5. Fraud Schemes
• Feeder Funds/Complex Scheme
• Fake Performance
• False Sense of Security

6. Feeder Funds
Fund Operators of Feeder Funds Principals Capital Raised
Lancelot Investment Management LLC Gregory M. Bell $2,000,000,000
Palm Beach Capital Management LP Bruce Prevost & David Harrold $1,000,000,000
Arrowhead Capital Management, LLC James Fry & Michelle Palm $600,000,000
Stewardship Investment Advisors LLC Marlon Quan $450,000,000
• Feeder funds are structured to purchase the notes from subsidiaries or
affiliates of Petters Co. In order to show legitimacy of the scheme, Petters
Co. established bank lock box accounts, or “Escrow” account, over
which Petters Co has no control.
• All payments from the Big Box retailers shall be paid into the accounts.
Each feeder fund had a slightly different scheme, but the fundamentals
are basically the same. The following diagram is the scheme used by
Stewardship.

7. Layers of Cover-ups
Source: Lancelot Bankruptcy Status Report

8. Fake Performance
Lancelot Investors Fund, LP August estimated net return rate: 1.16%, YTD: 9.65%
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec YTD CUM.
2001 2.54% 2.54% 2.54%
2002 2.42% 2.51% 2.60% 2.33% 2.24% 2.16% 1.98% 1.92% 2.22% 2.98% 2.14% 2.03% 31.28% 34.61%
2003 2.86% 2.15% 2.10% 2.02% 1.87% 1.72% 1.95% 1.86% 1.42% 1.40% 1.20% 1.26% 24.11% 67.07%
2004 1.19% 1.11% 1.10% 1.08% 1.10% 1.10% 1.30% 1.15% 1.17% 1.26% 1.08% 1.07% 14.60% 91.47%
2005 1.08% 1.16% 1.20% 1.27% 1.16% 1.15% 1.11% 1.16% 1.13% 1.20% 1.20% 1.14% 14.89% 119.98%
2006 1.09% 1.10% 1.09% 1.11% 1.03% 1.05% 1.05% 1.08% 1.06% 1.05% 1.08% 1.15% 13.74% 150.20%
2007 1.30% 1.31% 1.39% 1.16% 1.04% 1.09% 1.22% 1.18% 1.04% 1.07% 1.10% 1.09% 14.92% 187.53%
2008 1.19% 1.10% 1.05% 1.25% 1.34% 1.13% 1.05% 1.16% 9.65% 215.29%
Sharpe
ratio: 9.57
Lancelot’s track record shows no negative month over 81 months.
Source: Lancelot Bankruptcy Status Report

9. Promissory Note
In order to finance this 180-day
period (“purchase order inventory
financing”), Petters issued a short-
term (up to 180-day) promissory
note with a large coupon
payment (from 10 to 18% p.a.) to
at least 20 investors.
This $31 million promissory note
pays 80% p.a. interest (or at legal
max.) over 3 months (from Feb 1
to May 1, 2008), 100% secured by
the capital stock of Polaroid
Holding Company, LLC
Source: Lancelot Bankruptcy Status Report

10. False Sense of Security
A Bank Lock
Box gave
investors a
false sense
of security
Source: SEC v. Stewardship (2009)

11. Ineffective Administrator
Swiss Financial
Services could not
identify the fraud
Source: Lancelot Bankruptcy Status Report

12. Recommendations
• Conduct extensive background checks on all related
parties
• Confirmation on the Big Box retailers and their payments
to the lock box accounts
• Confirmation of registration as a Registered Investment
Advisor
To read the case study:
http://www.being-diligent.com/case-n-3-petters/

13. Summary
• There are many similarities among hedge fund fraud
cases (very stable and too good track records, promissory
notes, fake service providers, etc.)
• No matter how clever they are, fraudsters are still human
beings and prone to leave traces of their misconducts
• However, you really need to be diligent to find those
traces and make informed judgment

14. For More Information
The Importance of Being Diligent is a blog of
hedge fund case studies managed by Sus Volans.
Please visit our website and sign up for an e-mail
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http://www.being-diligent.com