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Tom Petters ran his $3.5 billion Ponzi scheme since the mid-1990s, siphoning money from failing business ventures to support an extravagant lifestyle that included homes in several states, expensive boats and luxury cars.

Oct. 23, 09 (Bloomberg) -- Petters Group Worldwide LLC founder Thomas Petters, charged with overseeing a $3.5 billion fraud, will hear testimony from former subordinates and a onetime mob informant when he goes on trial next week, court filings show.

Petters, 52, is accused of duping hedge funds into investing in phony deals for shipments of nonexistent electronic goods. Five of his ex-colleagues pleaded guilty to participating in the scheme and may testify against him. Petters countered in court papers that the fraud was carried out by others without his knowledge.

“This case is a Ponzi scheme and an out-and-out fraud,” Peter Henning, a professor at Wayne State University Law School who has been following the case, said in an interview. “It’s the Hail Mary defense. When you’ve got nothing else left, you say ‘I didn’t know anything.’”

Petters, whose bankrupt business empire once included Sun Country Airlines Inc. and Polaroid Corp., pleaded not guilty to a 20-count indictment accusing him of mail and wire fraud, money laundering and conspiracy.

“He’s innocent until proven guilty,” Petters’s brother Jon, 56, said yesterday in a phone interview. “We’re all waiting for the truth to come out at trial.”

Jury selection was slated to begin Oct. 26 and the trial in federal court in St. Paul, Minnesota, may last as long as six weeks, according to court filings. U.S. District Judge Richard Kyle late today delayed jury selection until Oct. 28, according to court filings.

20 Hedge Funds

Petters resigned from the company he founded after Federal Bureau of Investigation agents raided his headquarters in Minnetonka, Minnesota, in September 2008. Investigators said they received tips that at least 20 hedge funds invested in phantom bulk orders of electronics for retailers including Wal- Mart Stores Inc.’s Sam’s Club warehouse stores and Costco Wholesale Corp.

The funds included Minneapolis-based Interlachen Capital Group LP, Switzerland-based Gottex Fund Management Holdings Ltd., Dallas-based Apriven Partners LP and Ritchie Capital Management LLC in Lisle, Illinois, according to court filings in Petters Group’s bankruptcy case.

Petters, a Minnesota native with a penchant for buying troubled companies, has been jailed since his arrest last October. Prosecutors allege Petters and his team created fake documents about electronics purchases to lure hedge fund managers into financing the purported deals. He used money raised from later deals to pay returns to earlier investors, the government said.

Sun Country, Polaroid

Petters Group sought Chapter 11 bankruptcy protection on Oct. 11, 2008, after its assets were frozen in connection with the fraud probe. Sun Country Airlines and Polaroid blamed their subsequent bankruptcies on the fraud.

Petters acquired a stake in Fingerhut Cos. in 2002 and bought Polaroid in 2005 and Sun Country in 2006 using proceeds from the fraud, prosecutors said. “Virtually every company operated at a loss” and was subsidized by investor funds, prosecutors said.

“These companies provided Petters with the appearance of a corporate tycoon, which made it easier for him to lure in new investors,” prosecutors said in court papers.

Petters ran the Ponzi scheme since the mid-1990s, siphoning money from the business ventures to support an extravagant lifestyle that included homes in several states, expensive boats and luxury cars, prosecutors said.

Assistant’s Tip

FBI agents first learned about the purported fraud from Deanna Coleman, whom Petters hired as his assistant in 1993, according to court papers. Coleman approached the FBI in September 2008 with information about Petters’s dealings, the government said.

Coleman told prosecutors she helped Petters and Robert White, then the company’s chief financial officer, fabricate documents showing purchases of nonexistent televisions and DVDs, according to court filings.

Prosecutors said they have more than 2,000 e-mails between Petters and Coleman that contradict the entrepreneur’s claims he was unaware of the Ponzi scheme. The e-mails are evidence of Petters’s “knowledge and participation in the scheme,” prosecutors said in court filings.

Lawyers for Petters argue that guilty pleas by Coleman, White and Larry Reynolds, a Petters associate, can’t be used to prove their client’s guilt.

Mob Scheme

Reynolds, a disbarred attorney, is identified in a court document filed by Petters’s lawyers as having been in the government’s witness protection program.

The Star Tribune in Minneapolis reported on Sept. 15 that Reynolds had ties to New England mobsters. Reynolds, according to the newspaper, had testified about his role in a 1986 scheme to cash a bogus $2 million check drawn on the account of L. Ron Hubbard, the founder of the Church of Scientology who died that year.

Reynolds “wore a recording device to implicate a Mafia figure relating to the Scientology scheme,” according to court filings. Reynolds was admitted into the witness protection program after the Mafia figure received permission to execute him, according to the documents. The name of the mob figure was redacted from the documents.

Reynolds pleaded guilty last year to charges he conspired to commit money laundering by allegedly acting as one of Petters’s fake suppliers.

$12 Billion Transferred

Prosecutors contend Petters asked Reynolds in 2001 to let millions of dollars of wire transfers flow through his business accounts in exchange for a “commission,” according to court filings. More than $12 billion moved through those accounts from January 2003 to September 2008, the government said.

Petters’s lawyers countered that they can show Reynolds solicited Petters Group employees to do merchandise deals from 2004 to 2006. Reynolds’s criminal history bolsters Petters’s claim that he was an “unwitting victim,” his lawyers said in court filings.

Lawyers for Petters said in an Oct. 20 filing that they may present evidence of his charitable works, including contributions to the Juvenile Diabetes Research Foundation.

Jon Petters said media attention on the case has raised questions about whether his brother can get a fair trial.

“He’s already been tried by the media,” Jon Petters said. “They’ve taken things out of context and really painted him in a bad light.”

U.S. District Judge Richard Kyle said in an Oct. 16 order that 149 prospective jurors had filled out questionnaires related to the case. Only a “small number” of them “indicated that they had formed a firm opinion” about the entrepreneur’s guilt, Kyle said.

The case is U.S. v. Thomas Joseph Petters, 08-00364, U.S. District Court, District of Minnesota (Minneapolis).

By Sophia Pearson and Jef Feeley

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