Like Candy from a Baby

Kenneth Starr knew how to cultivate relationships with powerful people, and he did it in the most transparent way—by serial name-dropping. According to one occasional lunch companion, dining with Starr at the Four Seasons Grill Room in New York meant listening to him reel off names as fast as he guzzled Diet Cokes. Certain people would come up again and again. According to the lunch acquaintance, Starr would say he had lunch with Pete Peterson or that he and Pete were talking at the Council on Foreign Relations—long chaired by Peterson—or that he had done something with Pete.

Starr managed money for a living, and his relationship with Peterson, the co-founder of the private equity firm Blackstone Group (BX), was one of his key assets. Another asset was Rachel "Bunny" Mellon, the 99-year-old widow of the bank heir and philanthropist Paul Mellon, who started Starr on his path to wooing the rich.

His career famously came to an end last month when FBI agents arrived at his home on Manhattan's Upper East Side and found Starr hiding in a closet. His $7.5 million condominium, which he shared with his fourth wife, Diane Passage, a pole dancer, featured floor-to-ceiling windows, a granite lap pool, and a 1,500-square-foot garden, all allegedly financed with plundered cash. Ten days after his arrest, a grand jury indicted Starr for cheating 11 clients—Jim Wiatt, the former head of the William Morris Agency, and Uma Thurman among them—out of $59 million. Starr allegedly pocketed half that amount, while the other half was placed in investments in which he or his friends had a secret interest. Starr has denied wrongdoing and is being held at the Metropolitan Correctional Center in lower Manhattan.

The Securities & Exchange Commission brought its own civil fraud lawsuit against Starr and Passage, seeking the return of tens of millions of dollars. The two haven't yet responded to the SEC. A judge last week extended the freeze on the couple's assets at a hearing attended by Passage, who looked uncharacteristically demure in a pink Vivienne Westwood cardigan and a black skirt. She declined all reporters' questions except for one from Bloomberg Businessweek, about her age: "Thirty-four," she said. "You can take a couple of years off that if you want to."

The disintegration of Starr & Co., which once managed more than $700 million for about 175 wealthy individuals, exposes an uncomfortable truth about the elite crowd he preyed on—that these wealthy, supposedly sophisticated people could be such easy marks for fraud. The numbers involved are not on the scale of Bernie Madoff, but Starr shared Madoff's ability to create an aura of exclusivity around himself that appealed to the elite—which was augmented by Starr's attendance at prestigious business gatherings, such as Allen & Co. President Herbert Allen's annual media conference in Sun Valley, Idaho.

Still, there was no special trick to Starr's alleged con game. How is it so many people so willingly allowed their pockets to be picked?

"Everyone follows the herd," says Ken Springer, a former FBI agent and founder of New York-based investigative firm Corporate Resolutions. "Everyone says this guy is the best, and no one vets the people."

Starr's connections to Blackstone go back to the early 1990s when the firm was considerably smaller than it is now. According to a lawsuit filed in 2009 by the estate of former Starr client Joan Stanton, the investment firm received $90 million from clients of Starr & Co. The actor Wesley Snipes, for instance, put $1 million into Blackstone, according to testimony in the actor's 2008 tax-evasion trial.

Injecting himself as a middleman, Starr both charged clients for placing their money with the firm and pooled their investments in partnerships he controlled. The Stanton estate's suit decried "excessive fees," which came on top of Starr's regular ones, that rose from $120,000 a year when Stanton hired him in 1987 to $228,000 in 2004. The suit also accused Starr of using the partnerships to prevent Stanton from having direct communication with Blackstone.

Stanton committed $5.1 million to a fund called Blackstone Domestic Capital Partners II, which didn't go straight to that firm but joined other Starr clients in a $12.4 million pool he formed called Blackstone Partnership Investment Fund. Stanton's Blackstone returns were supposed to go to a trust whose assets would be distributed tax-free to heirs. Instead, the suit charged, the Blackstone returns went to purposes unknown.

By 1996, Starr and Peterson had grown close enough to create and co-invest in a tech venture fund called P.S. Capital Holdings. Two of the managers were Richard Kimball, then Peterson's son-in-law (he and Peterson's daughter Holly divorced in 2009), and Ronald Starr, a son from Ken Starr's first marriage. The fund's investment pool was $13 million.

As Internet fever spiked around the year 2000, P.S. Capital morphed into the more ambitious Millennium Technology Venture Fund, which raised $160 million of investor capital, yielded more than two dozen technology startups, and included "special limited advisory partners" Peterson and Starr. Dan Burstein, a veteran tech hand and Peterson protégé, was recruited from Blackstone to run Millennium.

Its location in the same office building as Starr & Co. enabled Starr to shuttle easily between the two offices, although personnel matters were apparently not his strength. A former Millennium secretary named Mystery Masiello filed a discrimination lawsuit against the company in 2003, alleging that when she told the firm's leaders she was pregnant in July 2001, Starr said, "Oh great, now Dan [Burstein] is going to have to get a new assistant." The case was settled on undisclosed terms in 2003.

The Millennium fund, launched just before the Internet bubble burst, proved to be a dud. Its few successes—such as the Internet security company Phobos, which was sold to SonicWALL in 2000—were overshadowed by big losses. About half of the original $160 million has been returned to investors, according to a person familiar with its finances, and Millennium is in the process of being wound down.

"They were caught up in the Oklahoma land rush" along with many other Internet investors, says Neil Livingstone, former chief executive officer of GlobalOptions Group (GLOI), a security company. GlobalOptions, which was the Millennium Fund's only nontech investment and its top-performing portfolio company after the bubble burst, went public in 2005. But it owed much of its success to business it received directly from Millennium. "We shut down a lot of their Silicon Valley companies," says Livingstone, who is now CEO of Washington security firm ExecutiveAction.

The firm was an early example of Starr's growing propensity to invest client funds "in questionable and suspicious investments, often with a direct benefit to himself, his wife," or friends, prosecutors said last month in Starr's criminal complaint. Starr also put his clients' money straight into GlobalOptions stock. In a February 2008 SEC filing by GlobalOptions, Thurman and playwright Neil Simon together were listed as owning nearly as many shares (422,127) as the company's CEO Harvey Schiller (426,801).

In 2004, Millennium was reinvented by Burstein as Millennium Technology Value Partners, a provider of liquidity for distressed tech companies in exchange for equity stakes. In its new incarnation it has had some success, investing in companies that were later bought by (AMZN), Microsoft (MSFT), and AT&T (T), and in April it closed a new $280 million fund to new investors. Starr was listed on the Millennium website as a "special limited advisory partner" until February 2008, but according to people familiar with the firm, he effectively ceased involvement when Burstein changed the concept. Peterson remains a special advisory partner.

Millennium distanced itself from Starr in a June 4 letter to investors, obtained by Bloomberg Businessweek: "He has not been actively involved in any operational or strategic decision-making capacity with the Fund for many years now," Burstein wrote. "We believe there has been no negative impact on the Fund or its investments to date as a result of Mr. Starr's alleged activities and we anticipate there will be no negative impact in the future."

Starr met Bunny Mellon when he was a young CPA with the Manhattan accounting firm Oppenheim, Appel, Dixon & Co. The Bronx-born graduate of Queens College and Brooklyn Law School loved the idea of handling taxes for one of America's richest families. He absorbed his clients' methods and desires, though he dressed inexpensively himself, inspired by Paul Mellon's maxim: "If you have a bigger yacht than your clients, they won't trust you."

The Mellons led Starr to another big-fish Oppenheim client, Arthur Stanton, who made his fortune as the first U.S. distributor of Volkswagen Beetles and who lived at one of Manhattan's finest addresses, 10 Gracie Square. Stanton's apartment served as a salon to many of the city's elite. Stanton's wife, Joan, was an actress who had played Lois Lane in The Adventures of Superman radio show, and their home was often filled with performing artists. When their daughter, Jane, turned 21, Leonard Bernstein led the singing of Happy Birthday. Arthur Stanton introduced Starr to his social circle and endorsed his accounting. Film director Mike Nichols and stage director Hal Prince became Starr clients.

Arthur Stanton died in 1987, leaving $60 million to his widow, and Starr pitched himself to manage it for her. A lawsuit brought against Starr by Joan Stanton's estate 22 years later, soon after her own passing at age 94 in May 2009, portrayed him as a predator who defrauded her of "tens of millions of dollars."

"Mrs. Stanton's lack of financial acumen was known to Mr. Starr," the complaint said. "Mr. Starr began to cultivate Mrs. Stanton as a client who would come to rely on his services exclusively." Starr left Oppenheim in 1987 to start his own firm, and the skills he'd honed on the Mellons and Stantons served him well in building a larger clientele. A person who has known him professionally for years says Starr was a master of ingratiating himself with people. He wasn't suave; he wasn't a Madoff in appearance and charm; he was rather abrupt. So what was the appeal? This person describes Starr as very bright and says he came across as sincere. He could sit down with a piece of paper and map out detailed investments.

Starr's reputation took its first public beating in 2002 when his client Sylvester Stallone sued him for keeping him invested in Planet Hollywood from 1997 to 2001, as the restaurant chain spiraled toward bankruptcy and the value of his 4 million shares withered. The actor accused Starr of putting his friendship with Keith Barish, a founder of Planet Hollywood, ahead of his fiduciary duty to clients, and sought at least $10 million in damages. The litigation, settled on undisclosed terms in 2003, was an example, prosecutors say, of Starr's habit of making investment decisions without his clients' approval.

In 2006, Starr formed Starr Investment Advisors; filings indicate he had 26 to 100 clients and 11 to 50 employees. Starr placed $6.5 million of Bunny Mellon's fortune into two investment funds from 2005 to 2007 without informing his longtime client that they were "highly speculative and risky," according to prosecutors. He also failed to "disclose certain conflicts of interest." Only in August 2009, when investigators asked Mellon's attorney about these illiquid investments, did her representative become aware of the funds. Starr returned $4.3 million to Mellon that month.

Starr's behavior outside the office also turned erratic, apparently coinciding with the start of his relationship with Diane Passage in 2005. Over the span of a few months in 2006 he bought more than $400,000 of jewelry from Jacob & Co., aka Jacob the Jeweler, according to the criminal complaint. In May 2007 he divorced Marisa Starr; according to her 2009 lawsuit, he did so by filing court documents without her knowledge that claimed she agreed to end 16 years of marriage. Starr's fourth wife was a flashy, jarring presence in Manhattan society—tattooed, provocatively dressed, and proud to be a pole dancer. Starr was proud of her, too, showing iPhone pictures of her gyrating on a pole to acquaintances.

Some clients were disturbed by Starr's spending on Passage. In early 2008 he recruited Jacob the Jeweler, whose real name is Jacob Arabo, as an investment client. His money was invested in "sure deals," according to the criminal complaint, that included Glassnote Entertainment Group, which gave Passage a $150,000-a-year job, and Martin Bregman Productions, a movie venture involving Marty Bregman, who was a Starr client and a veteran producer of films like Scarface. Passage wanted to make the film version of The Desert Rose, Larry McMurtry's novel about an aging Las Vegas showgirl. The two doomed ventures represented $1.4 million of the $13 million Arabo lost on Starr investments, according to prosecutors.

The same buzz network that made Starr quickly undid him, as stories of losses and strange behavior spread. Clients were leaving the firm, including Mike Nichols and his broadcaster wife, Diane Sawyer.

Joan Stanton died in May 2009 at age 94. Four months later her estate sued Starr for "gross abuse of trust and confidence" over 20 years. The Stanton complaint, combined with some individual complaints, spurred the Manhattan District Attorney's office and the SEC to start asking questions.

Starr settled with the Stanton estate for an undisclosed sum in January. He also reached a $4 million settlement that month with an unidentified playwright and screenwriter who complained of being fraudulently induced to invest in a failed restaurant chain, according to the lawsuit. Starr allegedly raided other clients' accounts to make the payment. In another winter development, a veteran account manager for Starr named Arnold Herrmann left for rival firm Citrin Cooperman & Co. and took some of his top clients, including Barbara Walters.

As his firm disintegrated, Starr tried to maintain appearances. At a Mar. 10 meeting with federal investigators, he said his firm had 200 clients. At its peak, that would've almost been true, but the list had dwindled to fewer than 40 by the time of his arrest. In April he bought the $7.5 million condominium, and this proved to be the final straw. On May 25, Alexander Forger, the lawyer for Bunny Mellon, Starr's first big client and one of his last, was looking through her financial statements. He saw a series of mid-April wire-transfers out of her Starr & Co. account, totaling $5.75 million. Starr had allegedly raided the account to close on his condominium. Forger called the authorities, and two days later federal agents were removing him from the closet.

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