Extreme prejudice

Number 205. That's what some of Texas billionaire Allen Stanford's colleagues and friends started calling him when he was named No. 205 on Forbes magazine's list of the 400 richest people in the world.

Soon after he was named to the list, he appeared on CNBC, the financial network, and was asked by anchor Carl Quintanilla, "Is it fun being a billionaire?" Stanford, 58, laughed and answered, "Well, uh, yes, yes. I have to say it is fun being a billionaire."

But it got a whole lot less fun on Feb. 17. That was when the Securities and Exchange Commission (SEC) said that Stanford and his accomplices had been operating a "massive Ponzi scheme," had misappropriated billions of investors' money, and had falsified the Stanford International Bank's records to hide their fraud. The SEC was blunt in its assessment: "Stanford International Bank's financial statements, including its investment income, are fictional." Also named in the complaint were Laura Pendergest-Holt, Stanford's Chief Investment Officer, and James Davis, Stanford's Chief Financial Officer.

So how did Allen Stanford go from being a student at Baylor University to one of the richest men in America to possibly one of the biggest frauds in the history of American finance? It is in some ways a classic Texas-sized story, with equal parts opportunism, hard work, and religion.

Stanford's father owned a small but profitable insurance agency, and when Allen graduated from Baylor he took a job in the family business. When the "oil bust" of the mid-1980s crushed the Houston real estate market, Stanford swooped in, buying up distressed properties, using money from his father and from friends.

By the mid-'90s, Stanford had made his first hundred million, as well as many millions more for friends who invested in Stanford's deals. Stanford himself began investing in real estate and other ventures in Antigua, a tax-haven, and he eventually moved there. His massive investments and civic involvement motivated the island nation's leaders to recommend Stanford for an honorary knighthood, which he received in 2006.

Perhaps because Stanford had made so many of his friends so much money in those early days in Texas, Antigua, and elsewhere, it was easy for Stanford to get them and others to invest in subsequent ventures.

It also helped that Stanford recruited his college roommate, James Davis, to be his CFO. Davis, from the small town of Baldwyn, Miss., had a reputation as a "straight arrow" with small-town values who often opened business meetings with prayer. Though Stanford was based in Houston, Davis decided to keep his office in Memphis, in part so he could remain active in nearby Baldwyn's civic life. "He had a love and a passion for the rural community," said Danny Horton, the mayor of Baldwyn.

Davis taught Sunday school at Baldwyn's First Baptist Church, and it was there that a teenager, Laura Pendergest (now Pendergest-Holt), came to his attention. Horton said she is "a fine young lady from a fine family" who went off to "The W," which is what locals call the Mississippi University for Women. She joined Stanford Financial Group and under Davis' mentorship rose quickly through the ranks. By the time she was 30, she had become the firm's Chief Investment Officer and occupied an office next to Davis' in Memphis.

But Pendergest-Holt's quick ascent-her salary at Stanford was as much as $1 million a year-was followed by an equally quick descent. On Feb. 27 she was arraigned on criminal charges of obstructing the government's investigation of Stanford. Prosecutors had asked for bail to be set at $1 million, but Pendergest-Holt's attorneys successfully argued that because her assets were frozen-as were the assets of thousands of Stanford investors-she could not make this bond. It was ultimately set at $300,000, of which she had to produce $30,000. She is currently not in custody, though she is required to wear an ankle monitor.

The fact that Pendergest-Holt and Davis first met in church was not that unusual for Stanford Financial Group. Religious faith, personal connections, and church ties were common at Stanford, which had a network of almost 30 offices, mostly in the Southeast, and more than 100 advisors. Many of the practice's leaders were outspoken Christians who recruited other "like-minded" financial advisors, according to Greg Leekley, who was a consultant to Stanford during the heyday of the recruiting process. "We weren't trying to set up a Christian financial planning practice," Leekley said. "And we weren't looking for just Christians. But when you know the same people and have the same beliefs, the trust comes more quickly."

David Baglia is chair of the department of accounting at Grove City College. He said that such affinities are not necessarily unusual, or improper, but they do sometimes lead to sloppiness in the due diligence process. "We're comfortable working with people we know and have an affinity with," Baglia said. "But that does not absolve us of the responsibility of due diligence. In auditing, we talk about the 'smell test.' If something doesn't smell right, that doesn't mean it's rotten, but it does mean you should do a bit more sniffing around."

Baglia also said that it was unusual for Pendergest-Holt to have such a senior position at such a large firm without having the normal professional designations. Pendergest-Holt was not a certified public accountant, nor did she hold the Chartered Financial Analyst, or CFA, designation. "The requirements for these are rigorous, but they're fairly common for this level of responsibility. The fact that the chief investment officer at such a large firm didn't have these designations, or other similar designations, is unusual."

In retrospect, Baglia said, all of these circumstances should have been warning signs. But he said that when you're on the "inside" and the money is flowing, human nature makes it tough to ask hard questions. "That's what happened in the Madoff scandal, as well," Baglia said, referring to Bernard Madoff, who used his ties to the Jewish community to create a Ponzi scheme that defrauded thousands of people out of at least $60 billion. "Our accounting society has a T-shirt that says, 'In God We Trust. All Others Subject To Audit.' That's good advice, even when you're dealing with Christians."

So what's next in the Stanford mess? A few insiders might end up bringing the entire Stanford empire down. According to the Feb. 17 civil complaint that first made the alleged fraud public, a tantalizing but so far incomplete story emerges. At a February meeting in an airport hangar in Miami, three Stanford employees who are now cooperating witnesses met with Pendergest-Holt, two unnamed Stanford executives, and an attorney. Pendergest-Holt revealed to these employees that assets in one portion of Stanford's portfolio had decreased in value from $850 million to just $350 million in about seven months.

At another meeting several days later, one of the cooperating witnesses "broke down crying because of the revelations" at the earlier meeting and threatened to go to authorities.

On the day the complaint containing this story was made public, Allen Stanford went missing. A nationwide search eventually found him in Fredericksburg, Va., three days later, where his attorneys said he had "relocated" with his girlfriend. (Stanford is not divorced from his wife Susan, whom he married in 1975 and with whom he has a grown daughter. However, they have been separated for more than a decade.)

Stanford has not, so far, been charged, but according to a press release from the Justice Department, the case is being investigated by the FBI's Houston Field Office, the Internal Revenue Service-Criminal Investigations, and the U.S. Postal Inspection Service. And it is being prosecuted by attorneys from the Washington, D.C., Criminal Division's Fraud Section.

James Davis, for his part, is remaining tight-lipped in apparent solidarity with his old Baylor roommate. He cited his Fifth Amendment right and refused "to testify or provide an accounting . . . or produce any documents related to the matters set forth in the Commission's complaint." But attorneys for Laura Pendergest-Holt announced in early March that their client is "fully cooperating" with authorities.

If that ends up being true, it's likely that Sir Allen Stanford, who just last year was No. 205 on the Forbes list of the richest people in the world, might be wearing a very different number on his chest for years to come.