Trustee`s Emergency Mtn to Amend Governing Documents & File

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David M. Bennett
Texas Bar No. 02139600
Richard Roper
Texas Bar No. 17233700
Katharine Clark
Texas Bar No. 24046712
THOMPSON & KNIGHT LLP
1722 Routh Street, Suite 1500
Dallas, Texas 75201
(214) 969-1700
(214) 969-1751 (Facsimile)
[email protected]
[email protected]
[email protected]
(PROPOSED) ATTORNEYS FOR THE
CHAPTER 11 TRUSTEE, H. THOMAS MORAN II
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE NORTHERN DISTRICT OF TEXAS
FORT WORTH DIVISION
IN RE:
LIFE PARTNERS HOLDINGS, INC.,
DEBTOR
§
§
§
§
§
CASE NO. 15-40289-RFN-11
CHAPTER 11
TRUSTEE'S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND TO FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR DEBTOR’S SUBSIDIARIES
TRUSTEE’S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR SUBSIDIARIES
522202 000002 14489653.12
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TABLE OF CONTENTS
I.
JURISDICTION AND VENUE ..........................................................................................1
II.
BACKGROUND .................................................................................................................2
III.
IV.
A.
Procedural Background ........................................................................................... 2
B.
Debtor’s Business ................................................................................................... 3
C.
The SEC Action ...................................................................................................... 5
D.
Significant Litigation Pending Against LPHI, LPI and/or LPIFS .......................... 6
ARGUMENT AND AUTHORITIES ..................................................................................7
A.
Amending the Governing Documents of LPI and LPIFS is Appropriate to
Allow the Trustee to Adequately Exercise his Powers ........................................... 8
B.
LPI and LPIFS Bankruptcy Cases Will Facilitate the Discharge of the
Trustee’s Fiduciary Responsibilities to All Stakeholders ....................................... 8
CONCLUSION ..................................................................................................................12
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TABLE OF AUTHORITIES
CASES
In re American Way Serv. Corp.,
229 B.R. 496 (Bankr. S.D. Fla. 1999) ....................................................................................... 9
In re Cano,
410 B.R. 506 (S.D. Tex. 2009) .................................................................................................. 8
In re Consolidated Auto Recyclers, Inc.,
123 B.R. 130 (Bankr. D. Maine 1991)........................................................................... 9, 10, 12
In re GGW Brands, LLC
(C.D. Cal. May 20, 2013) .......................................................................................................... 9
In re John Hicks Chrysler-Plymouth, Inc.,
152 B.R. 503 (Bankr. E.D. Tenn. 1992) .................................................................................... 9
In re Porter McLeod, Inc.,
231 B.R. 786 (D. Col. 1999) ...................................................................................................... 9
Matter of Mendoza,
111 F.3d 1264 (5th Cir. 1997) ................................................................................................... 7
Platinum Capital, Inc. v. Sylmar Plaza, L.P. (In re Sylmar Plaza, L.P.),
314 F.3d 1070 (9th Cir. 2002) ................................................................................................. 11
STATUTORY AUTHORITIES
11 U.S.C. § 105 ............................................................................................................................... 7
11 U.S.C. § 363 ....................................................................................................................... 1, 7, 9
11 U.S.C. § 1104 ............................................................................................................................. 2
11 U.S.C. § 1106 ......................................................................................................................... 1, 8
11 U.S.C. § 1108 ..................................................................................................................... 1, 8, 9
28 U.S.C. § 157 ............................................................................................................................... 1
28 U.S.C. § 1334 ............................................................................................................................. 1
28 U.S.C. § 1408 ............................................................................................................................. 1
28 U.S.C. § 1409. ............................................................................................................................ 1
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TO THE HONORABLE UNITED STATES BANKRUPTCY JUDGE:
COMES NOW, the Chapter 11 Trustee, H. Thomas Moran II, (the “Trustee”) for the
bankruptcy estate of Life Partners Holdings, Inc. (“LPHI” or the “Debtor”) and files this
Emergency Motion to Amend the Governing Documents and to File Voluntary Chapter 11
Petitions for Debtor’s Subsidiaries (the “Motion”), pursuant to which the Trustee respectfully
requests entry of an order authorizing him (i) to amend the governing documents of the Debtor’s
wholly owned operating subsidiary Life Partners, Inc. (“LPI”) and LPI’s wholly owned
subsidiary, LPI Financial Services, Inc. (“LPIFS”), and (ii) to file voluntary chapter 11
bankruptcy petitions for LPI and LPIFS. In support thereof the Trustee respectfully states the
following:
I.
1.
JURISDICTION AND VENUE
This Court has jurisdiction over the above-captioned chapter 11 bankruptcy case
(the “Bankruptcy Case”) of LPHI and this Motion pursuant to 28 U.S.C. §§ 157 and 1334.
Venue of the Bankruptcy Case in this district is proper pursuant to 28 U.S.C. §§ 1408 and 1409.
This Motion constitutes a core proceeding pursuant to 28 U.S.C. § 157(b)(2).
2.
The legal predicates for the relief sought herein are sections 1106, 1108, 363 and
105(a) of Title 11 of the United States Code, 11 U.S.C. §§ 101, et seq. (as amended, the
“Bankruptcy Code”). This Motion is also based on the exhibits attached thereto, the record in
this case, the arguments and representations of counsel, any other evidence that may be presented
at or prior to the hearing on Motion, and all other matters of which the Court may properly take
judicial notice.
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II.
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BACKGROUND
Procedural Background
3.
On January 20, 2015 (“Petition Date”), the Debtor filed with this Court its
voluntary petition for relief under chapter 11 of the Bankruptcy Code, thereby initiating its
Bankruptcy Case.
4.
Following the Petition Date, the Debtor remained in control of its business and
affairs as debtor-in-possession pursuant to Bankruptcy Code sections 1107 and 1108. However,
shortly after the Petition Date, the Securities and Exchange Commission filed its Motion Under
11 U.S.C. § 1104(a) for Appointment of a Chapter 11 Trustee. Dkt. No. 14. On January 26,
2015, the United States Trustee (the “UST”) filed the UST’s Motion for an Order Directing the
Appointment of a Chapter 11 Trustee. Dkt. No. 27. An Official Committee of Unsecured
Creditors (the “Committee”) was appointed on January 30, 2015, and the Committee joined the
motions of the SEC and UST to appoint a chapter 11 Trustee.
5.
The SEC brought its motion, in part, because of a judgment it had recently
obtained in the matter of SEC v. Life Partners Holdings, Inc., et al., pending in the federal
district court for the Western District of Texas, Case No. 12-cv-00033-JRN (the “SEC Action”)
against LPHI for violation of federal securities laws, and its concerns of continued wrongdoing
as a result of the same practices and mismanagement that had led to the entry of a judgment
against the company in the SEC Action. See, e.g., Dkt. No. 14, at p. 3–5 and Exhibit A to the
SEC Motion.
6.
On March 10, 2015, following six nonconsecutive days of hearings on the Trustee
motions,1 the Court entered its Order granting the SEC’s motion.2 Dkt. No. 186. On Friday,
1
The hearing began on February 6, 2015 and concluded on February 19, 2015.
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March 13, 2015, the UST gave notice of its appointment of Mr. Moran as the chapter 11 Trustee,
and this Court approved the UST’s application for appointment [Dkt No. 206] on Friday, March
20, 2015. Dkt. No. 229.
B.
Debtor’s Business
7.
Since the appointment of the Trustee, the Debtor’s business has continued to
operate under the direction of the Trustee.
The Debtor is a publically traded company
incorporated in Texas and its common stock is listed on the NASDAQ Global Select under the
trading symbol “LPHI.” See Form 10-K, LPHI (Feb. 28, 2014), attached hereto as Exhibit A.
LPHI is a holding company and is the parent company, by virtue of being the 100% stock owner,
of LPI, which is not in bankruptcy.
8.
LPI, among other things, is engaged in the secondary market for life insurance
known generally as “life settlements.” LPI was incorporated in 1991 and has conducted business
under the registered service mark “Life Partners” since 1992. See Exhibit A. LPI asserts that its
business is facilitating the sale and administration of life settlements. See Opposed Emergency
Motion by Defendant Life Partners Holdings, Inc. to Set Amount of Security and for Alternate
Security to Stay of Enforcement of Judgment Pending Appeal, Dkt. No. 319, SEC Action, at p.
17, attached hereto as Exhibit B. LPI employs more than 50 employees and conducts the day-today operations of the life settlement business. See Exhibit B, at p. 13 and Affidavit of Colette
Pieper to Exhibit B, at ¶ 7.
9.
LPI has asserted that its business model is to derive fees from facilitating
transactions whereby it identifies, examines, and purchases life insurance policies as agent for
third parties. According to LPI, the existing policyholder receives an immediate cash payment.
2
On March 10, 2015, the Court denied the UST’s motion to appoint a trustee as moot. Dkt. No. 188.
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LPI also asserts that, through such transactions, insureds are able to monetize their interests in
such policies, which may be spread into fractional ‘interests’ among purchasers (either individual
or institutional). Dkt. No. 6, at ¶ 8.
10.
Beginning in the third quarter of 2014, LPHI and LPI created a new subsidiary of
LPI, LPIFS, for the stated purpose of billing LPI’s life settlement customers for ministerial
services in order to recover the expenses of tracking, coordinating, and reconciling policy
premium payments and maturity payouts through the life settlement process. See Form 10-Q,
LPHI (Nov. 30, 2014), attached hereto as Exhibit C. LPIFS recorded payments of $4,399,591
during the Third Quarter for such ministerial fees. Id.
11.
LPHI, LPI, and LPIFS operate at the same address in Waco, Texas. See, e.g.,
Dkt. No. 14, at Exhibit T to the SEC Motion, at p. 4–5. In addition, LPI and LPHI file
consolidated financial statements, and LPHI reports on LPI’s litigation in its annual reports. Id.
at Exhibit T to the SEC Motion, at p. 4.
12.
The court in the SEC Action found: “LPI’s business is LPHI’s business, as well
as the source of its revenues.” Dkt. No. 14, at Exhibit T to the SEC Motion, at p. 5. In other
words, LPHI and its subsidiaries operate as a single business enterprise, with LPHI as the
holding company, LPI as LPHI’s operating subsidiary, and LPIFS as LPI’s subsidiary. In fact,
other than its ownership of all of LPI’s stock, LPHI has no ongoing business separate and apart
from the ongoing business of LPI and LPIFS. See Dkt Nos. 180, 190, 191, and 192.
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The SEC Action
13.
Prior to the Petition Date, the Debtor was involved in two years of litigation in the
SEC action, which the SEC brought against it and two3 of its officers, Brian Pardo4 and Scott
Peden, by the SEC alleging multiple counts of securities laws violations. See, e.g., Complaint,
Dkt No. 1, SEC Action, attached hereto as Exhibit D.
14.
In February 2014, a jury found in favor of the SEC on several of the counts, and
on December 2, 2014, the Honorable James R. Nowlin entered his Final Judgment Order
confirming certain of the findings of the jury. Dkt. No. 14, at Exhibit A to the SEC Motion.
15.
The Debtor was ordered to pay $15 million in disgorgement and $23.7 million in
civil penalties. Dkt No. 14, at p. 5. LPHI admitted in a press release that it filed for bankruptcy
protection as an end-run around the District Court’s jurisdiction to avoid the appointment of a
receiver, stating “[t]he Securities and Exchange Commission had filed a motion with the Federal
trial court to appoint a receiver for the Company. Faced with this possibility and having received
no other protection requested from the Federal trial court, the Company elected to seek
protection under Chapter 11 in order to avoid the appointment of a receiver.” Id. at p. 4 and
Exhibit G to the SEC Motion.
16.
Though the SEC judgment does not name LPI , Scott Peden, LPI’s current general
counsel, stated in a sworn affidavit filed in the SEC Action that “[t]he enterprise value of LPI
and LPIFS has the potential to generate revenue that could ultimately be used by LPHI (as LPI’s
parent company) to pay any final judgment in the future.” Exhibit B, at Affidavit of Scott Peden.
3
The SEC also brought claims against David Martin, the (former) Chief Financial Officer for LPHI. See Exhibit D.
David Martin consented to a Final Judgment prior to trial on January 9, 2014. See, Final Judgment as to Defendant
David M. Martin, Dkt. No. 201, SEC Action, attached hereto as Exhibit E.
4
Mr. Pardo, through Pardo Family Holdings Limited, also owns approximately 51% of the stock in LPHI. See Dkt.
No. 2; Dkt. No. 181, at p. 8–9.
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Moreover, even after the jury found that Mr. Pardo and Mr. Peden committed
fraud in violation of Section 17(a)(1) of the Securities Act of 1933 and Section 13(a) of the
Securities and Exchange Act of 1934, the boards of directors for LPHI and LPI retained Mr.
Pardo as a consultant and Mr. Peden as the LPI’s general counsel. See Dkt. No. 14, at Exhibit A
to the SEC Motion, at p. 1, 3.
Similarly, the boards of directors have not changed in
composition, despite the serious doubt of the court in the SEC Action of the credibility of the
board. Id. at Exhibit A to the SEC Motion, at p. 7 (“[Mr. Ballantyne] remains on the Board.
This is not altogether surprising. No one—not Pardo, not Peden, not the members of LPHI’s
Board—has been held responsible for the company’s failure to abide by the law and keep the
investing public fully informed.”).
D.
Significant Litigation Pending Against LPHI, LPI and/or LPIFS
18.
Currently, not including the Bankruptcy Case or the SEC Action, there are 11
open cases against LPHI and/or LPI in various federal courts. Since 2006, LPHI and/or LPI have
been parties to over 40 suits in federal court. In addition, there are 12 open cases involving LPHI
and LPI in state courts—seven in Texas, one in Illinois, three in California, and one in Florida.5
See, e.g., Dkt. No. 181.
19.
On information and belief, the expense of litigation is draining resources of LPI
(and, therefore, resources and value from the Debtor).
20.
Filing these additional bankruptcy cases and granting the other relief requested
herein is necessary given the integrated business model of LPHI, LPI, and LPIFS, the significant
amount of ongoing litigation outside of this Bankruptcy Case, and the continuing role played by
5
In addition to the district court cases, the SEC Action is currently pending before the Fifth Circuit, and the Texas
Supreme Court heard oral argument in January 2015 regarding judgments of the Fifth and Third Courts of Appeals
against LPHI and LPI.
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members of former management in operations of LPI and LPIFS. If that occurs, the Trustee will
be able more effectively to administer the Debtor’s bankruptcy estates and ensure that value of
the Debtor’s assets and business enterprise is preserved and maximized for the benefit of all
stakeholders.
21.
Though the Trustee has been appointed and begun to gather and secure the assets
of LPHI in furtherance of his duties as chapter 11 trustee, the Trustee is limited in what he can do
to manage and secure LPHI’s most valuable assets, LPI and LPIFS, because LPI is not in
bankruptcy. Similarly, LPIFS is a related operating entity whose resources should be managed
and protected in connection with the bankruptcy administration of the enterprise as a whole.
22.
The Trustee hereby asks this Court to enter an order authorizing him to cause the
Debtor, LPI, and LPIFS, as applicable, to (i) remove the current members of the boards of
directors of LPI and LPIFS, (ii) amend the governing documents of the Debtor’s wholly owned
operating subsidiaries, LPI and LPIFS, (iii) elect the Trustee as sole director of LPI and LPIFS,
and (iv) file voluntary chapter 11 bankruptcy petitions for LPI and LPIFS as he deems
appropriate, seeking joint administration with the estate of the Debtor.
III.
23.
ARGUMENT AND AUTHORITIES
Bankruptcy Code section 363(b) authorizes the Trustee to, after notice and a
hearing, “use, sell or lease, other than in the ordinary course of business, property of the estate.”
11 U.S.C. § 363(b). Bankruptcy Code section 105(a) authorizes the Court to “issue any order,
process, or judgment that is necessary to carry out the provisions of this title.” 11 U.S.C. §
105(a).
In so doing, the Court “should be afforded the latitude to fashion remedies [it]
consider[s] appropriate under the circumstances.” Matter of Mendoza, 111 F.3d 1264, 1270 (5th
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Cir. 1997); see also In re Cano, 410 B.R. 506, 533 (S.D. Tex. 2009) (finding that § 105 exists to
assist bankruptcy courts in fashioning equitable remedies to curb abuses).
24.
Pursuant to Bankruptcy Code sections 1106 and 1108, the Trustee is charged with
investigating “the operation of the debtor’s business” and operating the ongoing business of the
Debtor. See 11 U.S.C. §§ 1106, 1108.
25.
In this instance, the relief requested is necessary and appropriate to ensure the
ongoing viability of the Debtor, as well as to allow the Trustee to exercise his powers in order to
better manage the business, have the opportunity to preserve asset value, and consider the viable
reorganization options for the enterprise as a whole.
A.
Amending the Governing Documents of LPI and LPIFS is Appropriate to Allow the
Trustee to Adequately Exercise his Powers
26.
By this Motion, to the extent required and out of an abundance of caution, the
Trustee seeks Court authorization to cause the Debtor, LPI, and LPIFS, as applicable, to
(i) remove the current boards of directors of LPI and LPIFS, (ii) amend the governing documents
of LPI and LPIFS, as necessary, to reduce the size of the respective boards of directors of LPI
and LPIFS to one, and (iii) elect the Trustee as sole director of each of LPI and LPIFS for the
purpose of, among other things, the filing of voluntary bankruptcy petitions, as is expressly
authorized under Texas law.
B.
LPI and LPIFS Bankruptcy Cases Will Facilitate the Discharge of the Trustee’s
Fiduciary Responsibilities to All Stakeholders
27.
Once the Trustee has been elected as the sole director of LPI and LPIFS, he
further seeks authority to file voluntary chapter 11 petitions for LPI and LPIFS because inter alia
(i) LPI’s and LPIFS’s businesses will be an integral part of any reorganization of the Debtor,
(ii) such bankruptcy cases will facilitate the Trustee’s control over LPI and LPIFS in order to
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implement appropriate changes in management, increase operational efficiencies, and reduce
overhead, and (iii) the expense of myriad ongoing litigation is a drain on the business enterprise,
which will be alleviated by the imposition of the automatic stay for the benefit of LPI and
LPIFS.
28.
Pursuant to section 1108 of the Bankruptcy Code, the Trustee is authorized to
“operate [LPHI’s] business,” which is in large part conducted through its operating subsidiaries,
LPI and LPIFS. 11 U.S.C. § 1108. Furthermore, section 363(b) authorizes the Trustee to “use,
sell or lease . . . property of the estate” outside of the ordinary course of business. 11 U.S.C. §
363(b). In light of these provisions, courts permit chapter 11 trustees to file bankruptcy petitions
on behalf of subsidiaries of the debtor. See, e.g., Order Authorizing the Chapter 11 Trustee To
Revoke Cancellation and to File Voluntary Chapter 11 Petition for GGW Marketing LLC [Dkt.
No. 153], 2:13-bk-15130-S-K, In re GGW Brands, LLC (C.D. Cal. May 20, 2013); see also In re
Consolidated Auto Recyclers, Inc., 123 B.R. 130, 140-41 (Bankr. D. Maine 1991); see also In re
John Hicks Chrysler-Plymouth, Inc., 152 B.R. 503, 510 (Bankr. E.D. Tenn. 1992) (holding that
the bankruptcy trustee, who elected himself sole director of parent corporation, could vote parent
corporation’s stock in subsidiary to elect himself sole director of subsidiary without first giving
notice to pledgee, and as sole director of subsidiary, could place subsidiary in bankruptcy
without giving notice to pledgee); see also In re Porter McLeod, Inc., 231 B.R. 786, 800 (D. Col.
1999) (describing how chapter 7 trustee caused debtor’s four subsidiaries to file bankruptcy
petitions); see also In re American Way Serv. Corp., 229 B.R. 496, 501 n.7 (Bankr. S.D. Fla.
1999) (noting that chapter 11 trustee caused debtor’s wholly-owned subsidiary to file a chapter
11 petition).
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For instance, in In re Consolidated Auto Recyclers, the chapter 11 trustee took
action, without prior court approval, to cause the debtor’s subsidiary to file a chapter 11 petition,
including amending the subsidiary’s bylaws, removing all of the subsidiary’s directors, and
electing the trustee as the sole director. 123 B.R. at 136. The trustee then executed a unanimous
written consent of stockholders and directors that removed all of the subsidiary’s incumbent
officers and elected the trustee as president, treasurer, and secretary, and authorized the filing of
a petition.
Id.
When a creditor moved to dismiss the subsidiary’s bankruptcy case, the
bankruptcy court held that the trustee’s “actions as the individual with decision making capacity
for [the parent]” were “authorized under attendant principles of corporate governance.” Id. at
139. Although the court held that the trustee should have first obtained court authorization for
the filing, it nonetheless granted such authority nunc pro tunc because, inter alia, “the trustee’s
actions in initiating Chapter 11 proceedings for [the subsidiary] preserved the opportunity to
challenge [a creditor’s] security interest as a preference…and, therefore, stands to benefit the
estate.” Id. at 142.
30.
Here, the Trustee, among other things, seeks authority to file a voluntary chapter
11 petitions for LPI and LPIFS because LPI’s and LPIFS’s businesses are inextricably
intertwined with the Debtors’ business and will be an integral part of the administration of the
Debtors’ bankruptcy cases as well as any plan of reorganization. As a practical matter, as United
States District Judge James R. Nowlin stated in the SEC Action, “[g]iven that LPHI has no
income except that which comes from LPI’s business operations, the Court is at a loss to find a
single meaningful difference between LPHI’s business and LPI’s business. . . . Consequently, the
Court holds that while LPI may not be a named defendant in this action, its business conduct is
germane to the issue in this case.” Dkt. No. 14, at Exhibit T to the SEC Motion, at p. 5. Further,
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LPI and LPHI share physical offices, file consolidated financial statements, and LPHI reports on
LPI’s litigation in its annual reports. Id. at Exhibit T to the SEC Motion, at p. 4. As the primary
operating subsidiary, securing and preserving the assets of LPI is essential to the Debtor’s
reorganization effort.
31.
The Trustee needs control over LPI in order to, among other things, implement
appropriate changes in management, increase operational efficiencies, and reduce overhead.
During the pendency of the Bankruptcy Case (but prior to the Trustee’s appointment), the Board
retained Mr. Pardo as a consultant to LPI and Mr. Peden as LPI’s general counsel, even after the
jury found that Mr. Pardo and Mr. Peden committed fraud in violation of Section 17(a)(1) of the
Securities Act of 1933 and Section 13(a) of the Securities and Exchange Act of 1934. Dkt. No.
14, at Exhibit A to the SEC Motion, at p. 1, 3 (finding that although the defendants argue the
charges were minor, the “charges are not minor at all…[as] the jury judged that LPHI, Pardo,
and Peden deprived the investing public of the information it needed to make a fully informed
decision about whether to invest in Life Partners”). The Trustee needs control over LPI in order
to implement appropriate changes in management, including but not limited to certain executives
and the current board members.6 Additionally, since the time that the Trustee was appointed, he
has had the opportunity to review LPI’s operations.
32.
Mitigation of the cost of expensive, ongoing litigation against LPI and/or LPIFS
is among his chief reasons for seeking authority to file a voluntary chapter 11 petition for LPI. It
is well-settled that a party may file a bankruptcy petition for the purpose of availing itself of the
rights and protections the Bankruptcy Code affords. See, e.g., Platinum Capital, Inc. v. Sylmar
6
“[Mr. Ballantyne] remains on the Board. This is not altogether surprising. No one—not Pardo, not Peden, not the
members of LPHI’s Board—has been held responsible for the company’s failure to abide by the law and keep the
investing public fully informed.” Dkt. No. 14, at Exhibit A to the SEC Motion, at p. 7.
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Plaza, L.P. (In re Sylmar Plaza, L.P.), 314 F.3d 1070, 1075 (9th Cir. 2002) (“The fact that a
debtor proposes a plan in which it avails itself of an applicable Code provision does not
constitute evidence of bad faith.” (internal quotation marks and citation omitted)); In re
Consolidated, 123 B.R. at 142 (retroactively authorizing trustee to file petition on behalf of
debtor’s subsidiary where trustee stated that challenging preferential security interest in
subsidiary’s assets was among reasons for filing). Multiple suits are currently pending against
LPI which are intertwined with similar claims against the Debtor. Permitting such cases to
continue to be advanced will result in an unnecessary depletion of assets and the risk of
inconsistent results if the issues which are central to the administration of this Bankruptcy Case
ultimately are resolved in various forums outside of this Court.
33.
Upon filing of bankruptcy cases for LPI and LPIFS, the Trustee will seek
administrative consolidation of the cases which will help facilitate the efficient administration of
the debtors’ bankruptcy cases. In addition, the Trustee, in that circumstance, will have the power
to reduce waste and overhead, and maximize the debtors’ operational efficiencies for the benefit
of all stakeholders.
IV.
CONCLUSION
WHEREFORE, the Trustee respectfully requests that this Court enter an order granting
this Motion in its entirety and authorizing him to cause the Debtor, LPI, and LPIFS, as
applicable, to (i) remove the current members of the boards of directors of LPI and LPIFS,
(ii) amend the governing documents of LPI and LPIFS, entities wholly owned and managed by
LPHI, (iii) elect the Trustee as the sole director of each of LPI and LPIFS, (iv) take such actions
as are necessary to cause LPI and LPIFS to file voluntary chapter 11 bankruptcy petitions,
TRUSTEE’S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR SUBSIDIARIES
522202 000002 14489653.12
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seeking joint administration with the estate of the Debtor, and (v) granting such other and further
relief this Court deems just and proper.
DATED: March 25, 2015.
TRUSTEE’S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR SUBSIDIARIES
522202 000002 14489653.12
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Respectfully submitted,
THOMPSON & KNIGHT LLP
By:
/s/ Katharine Battaia Clark
David M. Bennett
Texas Bar No. 02139600
Richard B. Roper
Texas Bar No. 17233700
Katharine Battaia Clark
Texas Bar No. 24046712
1722 Routh Street, Suite 1500
Dallas, Texas 75201
Telephone: 214/969-1700
Facsimile: 214/969-1751
[email protected]
[email protected]
[email protected]
(PROPOSED) ATTORNEYS FOR CHAPTER 11
TRUSTEE H. THOMAS MORAN II
TRUSTEE’S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR SUBSIDIARIES
522202 000002 14489653.12
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CERTIFICATE OF CONFERENCE
I hereby certify that on March 25, 2015, the Trustee’s counsel conferred with, counsel for
the Official Unsecured Creditors Committee, and counsel for certain shareholders of the Debtor,
and they were not opposed to the relief requested in this Motion. The Trustee’s counsel also
conferred with counsel for the Ad Hoc Committee of Fractional Insurance Beneficiaries of Life
Partners, Inc., and with counsel for the United States Trustee, and neither took a position either
in favor of or opposition to the relief requested in this Motion.
/s/ Katharine Battaia Clark
Katharine Battaia Clark
CERTIFICATE OF SERVICE
I hereby certify that on March 25, 2015, a true and correct copy of the foregoing has been
served on all parties entitled to service via this Court’s ECF filing system and upon the parties
listed on the attached service list via First Class United States mail, postage prepaid. Further, the
Trustee will post notice of this Motion and any emergency hearing set on the Motion on the
Trustee’s website, http://lphitrustee.com/.
/s/ Katharine Battaia Clark
Katharine Battaia Clark
TRUSTEE’S EMERGENCY MOTION TO AMEND
THE GOVERNING DOCUMENTS AND FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR SUBSIDIARIES
522202 000002 14489653.12
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K

Annual Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 (the “Exchange Act”)
For the fiscal year ended: February 28, 2014
Commission File Number: 0-7900
LIFE PARTNERS HOLDINGS, INC.
(Name of registrant in its charter)
Texas
(State of incorporation)
204 Woodhew Drive
Waco, Texas
(Address of Principal Executive Offices)
74-2962475
(I.R.S. Employer ID no.)
76712
(Zip Code)
Registrant’s telephone number, including area code: 254-751-7797
Securities registered pursuant to Section 12(b) of the Exchange Act:
Common Stock (par value $0.01 per share)
(Title of Class)
NASDAQ Global Select
(Name of exchange on which registered)
Securities registered pursuant to Section 12(g) of the Exchange Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  No 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes  No 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past
12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for
at least the past 90 days. Yes  No 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File
required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes  No 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.
See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer 
Non-accelerated filer 
Accelerated filer 
Smaller reporting company 
Indicated by check mark whether the registrant is a shell company (as defined in Section 12b-2 of the Exchange Act). Yes  No 
The aggregate market value of the Common Stock held by non-affiliates of the Registrant as of August 30, 2013, was $18,859,415, based on the last
reported sale price of $2.06 on that date on the NASDAQ Global Select Market.
Shares of Common Stock, $.01 par value, outstanding as of May 1, 2014: 18,647,468 (18,750,000 issued and outstanding less 102,532 treasury
shares).
DOCUMENTS INCORPORATED BY REFERENCE
Our definitive proxy statement in connection with the Annual Meeting of Shareholders to be filed with the Commission pursuant to Regulation
14A, is incorporated by reference into Part III of this report.
EXHIBIT A
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2014 Form 10-K Annual Report
Table of Contents
Item
Page No.
Part I
Special Note Regarding Forward-Looking Statements
1
1.
Business
1
1A.
Risk Factors
7
1B.
Unresolved Staff Comments
10
2.
Properties
10
3.
Legal Proceedings
10
4.
Mine Safety Disclosures
15
Part II
5.
Market for Our Common Stock, Related Shareholder Matters and Our Purchases of Our Equity Securities
15
6.
Selected Financial Data
16
7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
17
7A.
Quantitative and Qualitative Disclosures about Market Risk
25
8.
Financial Statements and Supplementary Data
25
9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
26
9A.
Controls and Procedures
26
9B.
Other Information
29
Part III
10.
Directors, Executive Officers and Corporate Governance
29
11.
Executive Compensation
29
12.
Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters
29
13.
Certain Relationships and Related Transactions, and Director Independence
29
14.
Principal Accountant Fees and Services
29
Part IV
15.
Exhibits and Financial Statement Schedules
29
Signatures
30
Table of Contents to Consolidated Financial Statements and Notes
31
Exhibit Index
54
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PART I
Special Note Regarding Forward-Looking Statements
Certain statements in this Annual Report on Form 10-K for the fiscal year ended February 28, 2014 (“fiscal 2014”), concerning our
business prospects or future financial performance, anticipated revenues, expenses, profitability or other financial items, including the payment or
nonpayment of dividends, estimates as to size, growth in or projected revenues from the life settlement market, developments in industry
regulations and the application of such regulations, the outcomes and effects of pending litigation, and our strategies, plans and objectives,
together with other statements that are not historical facts, are “forward-looking statements” as that term is defined under the Federal securities
laws. All of these forward-looking statements are based on information available to us on the date hereof, and we assume no obligation to update
any such forward-looking statements. Forward-looking statements involve a number of risks, uncertainties, and other factors, which could cause
actual results to differ materially from those stated in such statements. Factors that could cause or contribute to such differences include, but are
not limited to, those discussed in this Annual Report on Form 10-K, particularly in the sections entitled “Item 1A – Risk Factors” and “Item 7 –
Management’s Discussion and Analysis of Financial Condition and Results of Operations”. We do not undertake any obligation to release publicly
any revisions to such forward-looking statements to reflect events or uncertainties after the date hereof or reflect the occurrence of unanticipated
events.
Item 1. Business
Life Partners
General. Life Partners Holdings, Inc. (“we” or “Life Partners”) is a specialty financial services company and the parent company of Life
Partners, Inc. (“LPI”). LPI is the oldest and one of the more active companies in the United States engaged in the secondary market for life
insurance known generally as “life settlements”. LPI facilitates the sale of life settlements between sellers and purchasers, but does not take
possession or control of the policies. The purchasers acquire the life insurance policies at a discount to their face value for investment purposes.
The Secondary Market for Life Insurance Policies. LPI was incorporated in 1991 and has conducted business under the registered service
mark “Life Partners” since 1992. Our operating revenues are derived from fees for facilitating life settlement transactions. Life settlement
transactions involve the sale of an existing life insurance policy or interest in the policy to another party. The seller may be either the insured under
the policy or a subsequent policyholder who purchased in a life settlement transaction. The policyholder receives an immediate cash payment. The
purchaser takes an ownership interest in the policy at a discount to its face value and receives the death benefit under the policy when the insured
dies.
We provide purchasing services for life settlements to our client base. We facilitate these transactions by identifying, examining, and
purchasing the policies as agent for the purchasers. To meet market demand and maximize our value to our clients, we have made significant
investments in proprietary software and processes that enable us to facilitate a higher volume of transactions while maintaining our quality
controls. Since our inception, we have facilitated over 156,000 purchaser transactions involving over 6,500 policies totaling over $3.2 billion in face
value. We believe our experience, infrastructure and intellectual capital provide us a unique market position within the life settlement market.
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As a purchasing agent, we identify, examine and purchase policies on behalf of our clients that match their buying parameters and return
expectations. Because we are obliged to work within these parameters, we must make offers that are competitive from the seller’s point of view, but
still fit within the buying parameters of our clients. We generally locate insureds who might sell through a network of life settlement brokers.
Brokers are typically compensated based on a percentage of the face value of the policy sold and this amount is negotiated between the
policyholder and the broker. This compensation is paid upon the closing of a settlement. We have long-term relationships with many of the
country’s life settlement brokers and, for those that we transact business with, we believe that these brokers adhere to applicable regulatory
requirements when conducting their business. Broker referrals accounted for 99% of our total business as measured by policy face value in fiscal
2012, 91% in fiscal 2013 and 98% in fiscal 2014. In fiscal 2014, five brokers made referrals whose policy face values represented over 10% of our total
business. Referrals from these five brokers accounted for 94.7% of our total business. In fiscal 2013, three brokers made referrals whose policy face
values represented over 10% of our total business. Referrals from these three brokers accounted for 54.7% of our total business. In fiscal 2012, we
had two brokers with 10% or more of our total business and they accounted for 24.3% of our total business. With the continued downturn in the
life settlement markets, and in our business specifically, we have experienced lower levels of broker competition and we may experience increases in
our supply concentration risk.
We categorize our purchasers of life settlements as either institutional or retail. Institutional purchasers are typically investment funds
designed to acquire and hold life settlements. We have not engaged in material sales to institutional purchasers since fiscal 2010. The majority of
our clients are high net worth individuals, which we refer to as retail purchasers. Our retail purchasers generally come to us through a network of
financial planners, whom we call licensees. We developed this network through referrals and have long-standing relationships with most of these
financial planners. We compensate most of the financial planners based on the amount invested. The compensation of financial planners is paid in
cash upon the closing date of the transaction.
To purchase a life settlement, a prospective retail purchaser typically submits a purchaser application containing personal information
such as the purchaser’s name and address as well as affirmative representations establishing the purchaser as financially sophisticated. A
purchaser will also submit an agency agreement and special power of attorney, which appoints us as a limited agent of the purchaser to act on his
or her behalf in purchasing a life settlement. Unless specifically waived by a purchaser, the agency agreement limits our authority to policies issued
by an insurance carrier having an A.M. Best Company rating of B+ or better and to policies beyond their contestable period (generally two years or
older). As we identify and qualify policies, we distribute insurance and current medical status information on these policies (with the insured’s
name and other identifying information redacted) throughout our financial planner network. We also make available to each purchaser, through their
financial planner, standard disclosures discussing the nature and risks of making a life settlement purchase. Purchasers can then, in consultation
with their financial planner or other professionals, select one or more policies, specify the portion of the policy or policies to be purchased and
submit a reservation electronically. To diversify their positions, retail purchasers generally buy fractional interests in one or more policies and not
an entire policy, while institutional purchasers tend to purchase entire policies. Before reserving an interest, purchasers mail or wire funds for
acquisition of the policies to an escrow agent and mail or deliver electronically a policy funding agreement to us. The policy funding agreement
identifies the policy or policies to be purchased, the acquisition price, the administrative services provided, and the escrow arrangements for receipt
and disbursement of funds.
For the protection of the seller’s ownership interest and the purchaser’s monetary interest, all transactions are closed through Advance
Trust & Life Escrow Services, L.T.A. (“Advance Trust”), a licensed Texas trust company, which serves as escrow agent. Advance Trust will close a
purchase when it receives from each purchaser executed policy funding agreements and the acquisition price for a policy, verifies that the policy is
in full force and effect and that no security interest has attached to the policy, and receives a transfer of policy ownership form acknowledged by
the insurance company. Advance Trust then pays the seller the offer price (net of fees and costs). We send confirmation of the transaction to the
purchaser as well as a copy of the assignment documents.
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After closing the transaction, we generally hold title to the policy as nominee for the purchaser. Responsibility for policy premium costs
passes to the purchaser, who typically funds the premium costs from the deposits with the escrow agent. We strictly maintain the confidentiality of
an insured’s personal information in accordance with regulations promulgated by the Texas Department of Insurance and other applicable state
laws. A purchaser will receive evidence of the transfer of ownership of the policy (which identifies the insured), but will not receive contact
information for the insured, which is available only to licensed life settlement companies like us. We perform certain ministerial functions, such as
monitoring the insured’s health status and notifying the escrow agent upon the insured’s death. We also notify purchasers in instances in which
the premium escrow account has been exhausted so that the purchaser can replenish the account to keep the policy from lapsing.
Pricing the Life Settlement. A purchaser’s investment return from a life settlement depends on three factors: the difference between the
policy face amount and purchaser’s cost basis (consisting of the acquisition cost and premiums paid to maintain the policy), the length of the
holding period, and the demise of the insured. We price settlements based on a combination of the policy face amount, profitability of the
transaction if the insured lives to age 94 or 95, competing bids for the policy, margin for covering transaction costs, and producing marketable
returns for our client base. To establish the escrow account for future premiums, we escrow an amount sufficient to pay premiums for three years in
all cases.
Resales of Life Settlements. As the life settlement industry matures, the secondary market is expanding to include resales of policies
acquired in life settlement transactions, which are also referred to as tertiary sales. We have sold many of the life settlements that we acquired as
investments or in regulatory settlements in tertiary sales. Tertiary sales were traditionally made in privately negotiated transactions. However,
growing interest in tertiary sales has given rise to at least one exchange, which posts information about life settlements available for resale on its
website. We believe our business model should accommodate resales, and we have created a tertiary market platform which allows owners of
policies or fractions thereof to independently list policies for sale and expose them to our client base. In tertiary sales that we facilitate through the
platform, we receive our standard fees from which we compensate the licensees associated with the purchasers. Our revenues from tertiary sales
grew from 12% of total revenues in fiscal 2013 to 45% of total revenues in fiscal 2014.
The Life Settlement Market and Competition. Life settlements provide a secondary market for existing life insurance policies that the
owner no longer needs or wants. The market for life settlements as an asset class has varied significantly in recent years. Based on our own
research from other providers, publicly reported data and estimates based on historical data, we believe that the total amount of face value of
transactions completed by the life settlement industry in 2013 was about $3.0 billion, which reflects an increase in market levels that we estimate
were $3.8 billion in 2011 and $2.0 billion in 2012. Life settlements offer a value added benefit to policyholders as well as an attractive alternative
investment due to the low correlation with equity markets and the potential to generate competitive returns. We believe that life settlements should
be appealing as an asset class, especially given expected continuation of low interest rates for fixed income investments and concern regarding
possible equity market volatility. During the coming year, our focus will be on increasing our share of the total market by offering competitive bids
and by capitalizing on the strength of our proprietary software and processes to provide a high level of responsiveness and service to those who
present policies to us.
We believe the supply of attractive policies will continue to satisfy our demand, primarily because policy holders desiring to monetize their
policies have few viable alternatives. The attractiveness of a life settlement for insureds is in the value that they can realize from life settlements,
which exceeds the cash surrender value that life insurance companies will pay and the avoided costs of letting policies lapse. We intend to
strengthen our awareness outreach among policy owners and their financial professionals and advisors to educate them on the value to be realized
from life settlements. We believe a growing awareness of these benefits coupled with a generally aging population should produce an ample supply
of attractive policies, especially policies with higher face values.
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We estimate that the number of active participants in the life settlement market has remained at approximately 20 companies compared to
last year. While precise industry and company-specific data are not readily available, we estimate that our largest industry competitor currently has
approximately 32% of the total market share based on the estimated face value of 2013 calendar year transactions, which is up from a 10% market
share in calendar year 2012. Another market participant appears to have had approximately 11.5% of the market in 2013, which is down from a 19%
market share in calendar year 2012. The third largest market participant had approximately an 8.7% market share. We estimate our market share was
approximately 3% in calendar 2013, which is down from our estimated market share of 5% in calendar 2012. In the remainder of the market, we
estimate all other market participants had less than 5% of the total market share for calendar 2013 with most having less than 2%.
Most industry participants use significant amounts of borrowing to acquire policies and/or rely on a single or preferred institutional client
model for purchasing. Of the larger industry participants, we are the only company that uses no leverage and relies on a broad retail purchasing
model. This approach worked well for us as the credit markets tightened in our fiscal 2009 and 2010.
Our fiscal 2011 started well, but in the fourth quarter of fiscal 2011, we announced that we were subject to an investigation by the
Securities and Exchange Commission (the “SEC”) and a national news publication ran a series of articles that were critical of our operations.
Following these events, we experienced a drop in purchaser demand through our licensee network. A number of private legal actions resulting from
these events soon followed. In the fourth quarter of fiscal 2012, the SEC filed an action against us and our officers, which we successfully defended
in 2014. See a more complete description below in Item 3. Legal Proceedings.
The disruption resulting from these legal developments hurt demand in our business during both fiscal 2013 and fiscal 2014. During fiscal
2014, we closed 26 transactions compared with 35 transactions in fiscal 2013, mostly due to lower purchaser interest. Despite this decrease in
demand, we continued to be selective about policies presented to our clients. During fiscal 2014, 181 policies per month on average were submitted
to us for review. Of this number, we made offers on an average 21 policies per month resulting in an average of two completed transactions per
month. The supply of attractive policies is supported by our average face value per policy, which remained consistent in fiscal 2014 at $3.2 million
versus $3.3 million for fiscal 2013. Average revenue per settlement was relatively stable at $540,138 in fiscal 2013 and $603,317 in fiscal 2014.
We expect demand to grow now that the SEC action has largely been resolved in our favor. In March 2014, the Federal court ruled that the
SEC failed to prove any of its fraud claims against us, our Chief Executive Officer, Brian Pardo, and our General Counsel, Scott Peden. The ruling
followed jury findings in February that neither Life Partners, Mr. Pardo nor Mr. Peden committed securities fraud under Rule 10b-5, and that Mr.
Pardo and Mr. Peden did not engage in insider trading.
As a result of this ruling, we, Mr. Pardo and Mr. Peden have been completely exonerated from any allegations of fraud alleged by the SEC.
Because of the ruling, we believe that many concerns raised by our licensees and clients have been resolved and we are now able to focus on
growing our business.
We have taken other steps to address licensee concerns and increase market demand. In fiscal 2012, we modified our procedures to
include two life expectancy opinions for each policy presented. In addition, we have modified our procedures to escrow premiums for three years in
all cases, irrespective of life expectancy opinions. We believe that, having prevailed against the SEC’s allegations and with these modifications to
our procedures, demand will grow within our licensee network and purchaser base.
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The following table shows the number of life settlement contracts (policies) we have transacted, the aggregate face values and purchase
prices of those contracts, and the revenues we derived for our last three fiscal years:
Number of settlements (policies)
Face value of policies
Average revenue per settlement
Fiscal 2014
26
$
81,901,521
$
603,317
Fiscal 2013
35
$
115,057,656
$
540,138
Fiscal 2012
62
$ 180,043,976
$
531,003
Total net revenues derived (1)
$
$
$
3,997,820
5,729,582
11,714,430
(1) The revenues derived are exclusive of brokerage and referral fees.
Industry Regulation and Taxation
General. When the life settlement market was first established, it was sparsely regulated. Due in part to well publicized abuses within the
industry, the Federal government and various states moved to regulate the market in the mid-1990s. These regulations generally took two forms.
One sought to apply consumer protection-type regulations to the market. This application was designed to protect policyholders and purchasers.
Another sought to apply securities regulations to the market, in an effort to protect purchasers. Various states have also used their insurance
regulations to guard against insurance fraud within the industry.
Consumer Protection Licensing. The consumer protection-type regulations arose largely from the draft of model laws and regulations
promulgated by the National Association of Insurance Commissioners (“NAIC”) and the National Conference of Insurance Legislators (“NCOIL”).
While five states and the District of Columbia have no regulation and three states regulate only viatical settlements, 45 states have now adopted
some version of these model laws or another form of regulation governing life settlement companies in some way. These laws generally require the
licensing of providers and brokers, require the filing and approval of settlement agreements and disclosure statements, describe the content of
disclosures that must be made to insureds and sellers, describe various periodic reporting requirements for settlement companies and prohibit
certain business practices deemed to be abusive. Some of these laws fix minimum payment levels that a purchaser must pay a selling insured based
on the insured’s life expectancy. The minimum payment requirements generally apply when the insured is terminally ill or has a short life expectancy
(typically 36 to 42 months or less). In our settlement transactions, we typically deal with policies having life expectancies of 48 months or longer
and thus these requirements do not usually affect our settlement transactions.
Licensing. We are licensed as a viatical and life settlement company by the Texas Department of Insurance. Under the Texas requirements,
we must file our transaction documents with the state for approval, make certain disclosures to insureds and sellers, offer a 15-day right of
rescission to the seller, file certain annual reports with the state, and abstain from unfair business practices. Information about us is available
through the Texas Department of Insurance or on its website at: https://apps.tdi.state.tx.us/ pcci/pcci_show_profile.jsp?tdiNum=8967842. Other
states have their own licensing requirements in order to purchase policies from policy owners in those states and we must comply with those
requirements as well. In addition to Texas, we are licensed to engage in life settlement transactions with policy owners residing in the following
states: Arkansas, Connecticut, Illinois, Maryland, Minnesota, Mississippi, Nevada, New Jersey, North Carolina, Oklahoma, Pennsylvania,
Tennessee and Virginia. We also purchase from policy owners in other states, which have available exemptions from licensing requirements. We are
not presently licensed in California or New York, where the SEC suit adversely affected our licensing applications.
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Securities Regulations. Part of our business model relies on retail sales of policies to financially sophisticated, high net worth individuals
through a network of licensees. We generally do not treat these sales as securities transactions. Under Federal securities laws, the Federal Circuit
Court of Appeals for the District of Columbia ruled in 1996 that our settlement transactions are not investment contracts under the Federal
securities laws. We have relied upon that decision with regard to the non-applicability of Federal securities laws to our transactions. In the SEC
enforcement action, however, the Federal District Court for Western District of Texas ruled in a preliminary motion that our life settlements were
securities under the Federal securities laws. This ruling was not a final adjudication and is not binding precedent. Many states treat life settlements
as securities under statutes, regulations or case law. To comply with these state securities laws, we often seek exceptions or registration exemptions
that enable our settlement transactions in those states despite their treatment as securities. We have not registered and typically cease sales if
required to register in a particular state due to the difficulty in conforming our business model to state registration requirements.
These developments argue for a change in our approach to securities regulation, and we may be required to change if two Texas court
rulings ultimately stand, in which case we will modify part of our business model. In Arnold v. Life Partners, Inc. and in State of Texas v. Life
Partners Holdings, Inc. (see Item 3. Legal Proceedings below), two Texas Courts of Appeals recently ruled that our life settlements are securities
under Texas law, reversing in each case a prior Texas District Court ruling in our favor. These decisions conflict with the previously referenced 1996
Federal Circuit Court’s ruling as well as decisions in a third Texas Court of Appeals and in the Texas District Court, Travis County, in each of which
LPI had prevailed and in which the courts had held that the life settlements were not securities. We have appealed both Court of Appeals decisions
and await the Texas Supreme Court’s decisions.
If our life settlements were to be regulated as securities under the Federal or Texas securities laws, it would require some changes in our
business model. Our retail based purchasing model relies on web-based portals, which are open to anyone who subscribes, and a large network of
licensees, who direct purchasers to us. The traditional prohibitions on the general solicitation of purchasers in non-public offering exemptions have
precluded us from using these exemptions. The 2012 Jumpstart Our Business Startups (JOBS) Act, however, requires the SEC to remove the general
solicitation prohibition from offerings made under Rule 506 of Regulation D only to accredited investors. The SEC’s rule eliminating the general
solicitation prohibition became final in September 2013.
If our life settlements become regulated as securities, we would adapt our business model to meet the broker-dealer requirements. If our life
settlements are treated as securities, our settlements must be sold through FINRA-registered broker-dealers and our licensees must register as
agents of the broker-dealer. We believe that a combination of consumer protection-type laws and existing insurance regulations provide an
appropriate framework for regulation of the industry. As a practical matter, the widespread application of securities laws, without viable registration
exemptions, would burden the industry and senior Americans attempting to sell their policies with little or no benefit to purchasers. Our purchasers
represent themselves to be financially sophisticated, high net worth individuals or institutions, and they have considerably less need for the
registration protocols of the securities laws. At this point, however, due to the two Texas Court of Appeals decisions, we are preparing for the
possibilities that our life settlements will be treated as securities and will adjust our business model to comply with the Federal and state securities
laws.
Insurance Regulation. As a life settlement company, we facilitate the transfer of ownership in life insurance policies, but do not participate
in the issuance of policies. Further, we do not issue any type of contemporaneous agreement to purchase a policy at the time the policy is issued.
As such, we are not required to be licensed as an insurance company or insurance broker. We do deal, however, with insurance companies and
professionals in our business and are affected indirectly by the regulations covering them. The insurance industry is highly regulated. We must
understand the regulations as they apply to policy terms and provisions and the entitlement to, and collectability of, policy benefits. We rely upon
the protections against fraudulent conduct that these regulations offer, and we rely upon the licensing of companies and individuals with whom we
do business.
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Taxation in Life Settlements. One of the attractions of life settlements for an insured is that the sales proceeds generally exceed the cash
surrender value of the policy. If an insured were to take the policy’s cash surrender value, he or she would realize ordinary income to the extent that
the cash surrender value exceeds the investment in the policy, which is generally the sum of premiums paid. If the insured were to sell his or her
whole life insurance policy in a life settlement, the amount realized would be taxed as a combination of ordinary income and capital gain. The total
gain would be the sales proceeds less an insured’s adjusted basis, which is the premiums paid less the cost of insurance. As in the cash surrender
case, an amount equal to the cash surrender value over the premiums paid would be ordinary income. After deducting the ordinary income amount
from the total gain, the balance is taxed as capital gains. Capital gains are currently taxed at a 20% Federal rate while the maximum Federal rate for
ordinary income is currently 39.6%. While most life settlements involve whole life policies, which typically have a cash surrender value, a life
settlement sale could cover a term policy, which has no cash surrender value. In that case, the insured’s total gain would be taxed as capital gain.
Taxation of purchasers of life settlements depends on whether the purchaser holds the policy until maturity. If the purchaser holds until
maturity, the excess of the proceeds received over the purchase price and premiums paid is taxed as ordinary income. Under Revenue Ruling 200913, the IRS ruled that the proceeds were not received in a “sale or exchange” of a capital asset qualifying for capital gains treatment. If the
purchaser resells the life settlement before maturity, a different result occurs. The purchaser’s gain will be taxed as capital gain. The purchaser is
presumed to have bought the policy with an expectation of profit and not to benefit from coverage, in which case the policy is held as a capital
asset.
Employees
As of February 28, 2014, we had 54 full-time employees and 2 part-time employees. None of our employees are represented by a labor
union. We continuously review benefits and other matters of interest to our employees and consider our employee relations to be good. As of
February 28, 2014, we also had 1,788 licensees, who have done business with us in the last three years. Licensees act as independent contractors
and refer clients to us for the purchase of life settlements.
More about Life Partners
Our executive offices are located at 204 Woodhew Drive, Waco, Texas 76712 and our telephone number is 254-751-7797. Our corporate
information website is www.lphi.com. We make available without charge our Annual Report on Form 10-K, our quarterly reports on Form 10-Q,
current reports on Form 8-K, and amendments to these reports shortly after we file these reports with the SEC. Our informational website for
potential life settlement sellers and purchasers is www.lifepartnersinc.com.
Item 1A. Risk Factors
In addition to other information in this Annual Report on Form 10-K, the following risk factors should be carefully considered in
evaluating us and our business. Such factors significantly affect or could significantly affect our business, operating results or financial condition.
This Annual Report on Form 10-K contains forward-looking statements that have been made pursuant to the provisions of the Private Securities
Litigation Reform Act of 1995. Actual results could differ materially from those projected in the forward-looking statements as a result of the risk
factors set forth below and elsewhere in this Annual Report on Form 10-K.
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Our life settlement transaction volumes and revenues and earnings have declined following adverse news articles about our business, the filing
of an SEC enforcement action and negative publicity much of which we believe was fomented by illegal short sellers of our stock. Whether and
when we might recover from these events is uncertain.
In the fourth quarter of fiscal 2011, we were hurt by news articles critical of our business and by the announcement of a pending SEC
investigation. Several putative securities class actions and shareholder derivative claims were subsequently filed against us and certain officers
and, in the fourth quarter of fiscal 2012, the SEC filed a civil enforcement action against us and certain officers. The SEC action was largely resolved
in our favor in March 2014, and we have had some success with the civil litigation as well. Despite our successes in the legal proceedings, our
business has not yet fully recovered from the damage done by these events. Our volume of life settlement transactions dropped, as did our
profitability. The events particularly affected our business in that we are the only publicly held company dedicated to life settlements and the only
prominent company with a broad, retail base within the life settlement industry. We are working to repair the damage caused by the SEC suit, restore
trust and confidence within our licensee network and purchaser base, and rebuild our reputation within the industry. We cannot say, however,
when or if we can accomplish these tasks and return to the levels of activity we previously enjoyed.
Our success depends on restoring trust within our referral networks.
We rely primarily upon brokers to refer potential sellers of policies to us and upon financial professionals, known as licensees, to refer
retail purchasers to us. These relationships are essential to our operations and we must maintain these relationships to be successful. We do not
have fixed contractual arrangements with life settlement brokers, and they are free to do business with our competitors. Our network of licensees is
much broader, but no less important. The announcements of the SEC investigation and subsequent enforcement action, other private litigation,
illegal short selling and critical news articles have damaged our reputation within the industry and have hurt our business. Our licensee network
was particularly hurt, which has reduced the supply of capital for the purchase of life settlements and our transaction volumes. The restoration of
the relationships with our licensees and brokers will depend upon our ability to rebut the adverse publicity and to restore trust in these
relationships.
If we fail to price policies to yield competitive returns, we may lose purchasers.
We price settlements based on a number of factors including the policy face amount, policy maintenance costs, achieving a competitive
return and maintaining a profitable transaction, even if the insured lives into their early to mid-nineties. If our pricing method indicates values that
are not competitive in the marketplace, we could lose purchasers and/or policy sellers, and those losses could have a material adverse effect on our
business, financial condition, and results of operations.
We rely on outside advisors for life expectancy estimates.
We have historically relied on an outside practicing oncologist, Dr. Donald T. Cassidy, of Reno, Nevada. In fiscal 2012, we implemented a
practice of obtaining a second life expectancy estimate from a leading industry provider, 21st Services, LLC, in addition to Dr. Cassidy’s estimate.
We believe a life expectancy estimate that accounts for individual circumstances is preferable to a probabilistic methodology that relies solely on
actuarial and statistical data. While their methodologies and data sourcing vary somewhat, each of the analyses done by Dr. Cassidy or 21st
Services adjusts the estimate from life expectancy tables to account for the insured’s medical conditions, family health history, and social/lifestyle
factors. If those estimates consistently tended to underestimate life expectancies, our business could be adversely affected.
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The expanding market for life settlement resales may divert purchasers from initial life settlement transactions.
As the life settlement industry matures, the secondary market for life insurance policies is expanding to include resales of life settlements.
Our business model accommodates the resales of life settlements. Our revenues from resales, also referred to as tertiary sales, grew from 12% of our
total revenues in fiscal 2013 to 45% of our total revenues in fiscal 2014. The growth in tertiary sales has to some extent offset a decline in our sales
of life settlements from insureds to an initial purchaser. Our initial sales declined from $16.6 million in fiscal 2013 to $8.6 million in fiscal 2014. Rather
than expanding the secondary life settlements market, it appears that tertiary sales are diverting purchasers from initial sales. While continuing to
accommodate tertiary sales, we are taking additional steps to interest more purchasers in secondary sales. Without a solid volume of initial sales,
the supply of policies for tertiary sales will eventually decline, which would result in further declines in our revenues.
We have an investment in a life settlement trust that is threatened with foreclosure. We may lose our investment.
Our balance sheet shows $6,648,478 as an “Investment in Life Settlements Trust”. The investment is in Life Assets Trust, S.A., an
unaffiliated Luxembourg joint stock company (the “Trust”), which was created for the acquisition of life settlements. As of February 28, 2014, we
owned approximately 19.9% of the Trust, which we believe then owned a portfolio of 228 life insurance settlements with a face value of $610.5
million, of which we supplied settlements with a face value of approximately $278 million. In May 2013, we assigned certain rights to receive future
distributions from the Trust for $5,650,000. We subsequently learned that a German bank, which had loaned the Trust funds for policy acquisitions,
would not renew its loan and was seeking repayment. The Trust was unsuccessful in its attempts to refinance the loan and to negotiate a settlement
with the bank. The bank has declared the loan in default and has instituted proceedings to foreclose its security interest in the Trust’s assets and
take the assets in satisfaction of the loan. We, along with the other limited partners and general partner of the Trust, have retained legal counsel to
represent our interests. While we currently believe we will fully realize the carrying balance of our investment, circumstances could change and we
may have a loss. See Footnote 10. Investment in Life Settlement Trust.
While we prevailed on the fraud and insider trading charges in the SEC enforcement action, we were found to have violated lesser charges. The
court has not determined the appropriate relief for these violations.
In its enforcement action against us, the SEC asserted multiple claims against us and certain of our executive officers, including fraud and
insider trading claims. The jury found in our favor on the majority of the claims, including all fraud and insider trading claims. However, the jury
found against us and our CEO, Brian Pardo, and General Counsel, Scott Peden, regarding violations relating to our revenue recognition policies and
a restatement of revenues. It also found against Mr. Pardo for having improperly certified our SEC reports. The SEC did not introduce any evidence
regarding these revenue recognition issues and in a subsequent ruling the court found there was no evidence of any fraud. The court has not
determined what relief it might award for the violations. In light of the rejection of the most serious charges, we do not anticipate that the court
would issue injunctive relief against us or our officers. However, the issuance of injunctive relief against us could prevent our use of certain
exemptions from securities registration that could be important to our operations.
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Government regulation could negatively impact our business.
We are licensed and regulated by the Texas Department of Insurance as a viatical and life settlement company and hold licenses as a life
settlement provider in other states as well. State laws requiring the licensing of life settlement providers govern many aspects of our conduct,
operations, advertising and disclosures and are designed to afford consumer-protection benefits. The laws vary from state to state, however, and
our activities and those of brokers with whom we do business can be affected by changes in these laws. Compliance with current laws regulating
life settlement companies and life settlement providers is costly and complex. Any changes in these laws or governmental regulation could have a
material adverse effect on our business.
Our Chairman and Chief Executive Officer beneficially owns 50% of our common stock and, as a result, can exercise significant influence over
us.
Under SEC regulations, Mr. Brian D. Pardo, our Chairman and Chief Executive Officer, is considered the beneficial owner of approximately
50% of our common stock, largely as the result of exercising voting power by proxy over shares held by The Pardo Family Trust. He could control
most matters requiring approval by our shareholders, including the election of directors and approval of significant corporate transactions.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
Our corporate offices are located at 204 Woodhew Drive in Waco, Texas. We own two buildings on adjacent lots at this location and our
offices occupy both buildings, which together total 24,000 square feet. One building was built in 1985 and the other in 1986.
Item 3. Legal Proceedings
On January 3, 2012, we and certain current directors and current and former officers were sued by the SEC in an action styled Securities
and Exchange Commission v. Life Partners Holdings, Inc., Brian D. Pardo, R. Scott Peden and David M. Martin, Civil Action No.: 6:12-CV-00002.
The suit was filed in the Federal District Court for the Western District of Texas (Austin Division) and alleged that we, our Chairman and CEO, Brian
Pardo, General Counsel, Scott Peden, and former Chief Financial Officer, David Martin, had knowledge of, but failed to disclose to our shareholders,
the alleged underestimation of the life expectancies of settlors of viatical and life settlement policies. The suit further claimed that we prematurely
recognized revenues from the sale of the settlements and that we understated the impairment of our investments in policies. The suit also claimed
that Mr. Pardo and Mr. Peden sold shares while possessing inside information (i.e., the alleged knowledge of the underestimation of life
expectancies and the purported impact on revenues from such practice). In addition, the suit alleged that the defendants misled the auditors about
our revenue recognition policy.
Trial before a jury was held in February 2014. The jury found that neither we, Mr. Pardo nor Mr. Peden committed securities fraud under
Section 10(b) of the Exchange Act and Rule 10b-5 and that Mr. Pardo and Mr. Peden did not engage in insider trading. In March 2014, the Federal
court ruled that the SEC failed to prove any of its fraud claims against us, Mr. Pardo and Mr. Peden under Section 17 of the Securities Act of 1933
(the “Securities Act”), finding that there was no evidence to support the allegations related to revenue recognition for the period of time in
question and ordered that judgment be entered in favor of us, Mr. Pardo and Mr. Peden on that issue. As a result of this ruling, the Company, Mr.
Pardo and Mr. Peden were completely exonerated from any allegations of fraud alleged by the SEC.
The Court let stand the jury's findings against us, Mr. Pardo and Mr. Peden for violations of various revenue recognition matters.
However, the court ultimately ruled there was no evidence of fraud.
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In February and March of 2011, six putative securities class action complaints were filed in the U.S. District Court for the Western District
of Texas, Waco Division. On July 5, 2011, these actions were consolidated into the case styled Selma Stone, et al. v. Life Partners Holdings, Inc.,
Brian D. Pardo, R. Scott Peden, and David M. Martin , Civil Action No. DR-11-CV-16-AM in the U.S. District Court for the Western District of
Texas, Del Rio Division. On February 10, 2012, plaintiffs filed their first amended complaint alleging the same claims that were asserted in the prior
complaint. In the amended complaint, plaintiffs assert substantially similar, and at times identical, facts and allegations to those asserted by the SEC
in its complaint. Plaintiffs seek damages and an award of costs on behalf of a class of shareholders who purchased or otherwise acquired our
common stock between May 26, 2006, and June 17, 2011. On March 26, 2012, defendants filed their motion to dismiss the amended complaint. The
court denied defendants’ motion to dismiss on March 15, 2014. With the ruling on the motion to dismiss, we anticipate that the parties will now
commence discovery. No trial date has been set.
We, our directors, and certain present and former officers were named as defendants in a shareholder derivative suit, which is based
generally on the same alleged facts as the putative class action suits. On June 1, 2011, Gregory Griswold filed, in the United States District Court for
the Western District of Texas, Waco Division, a shareholder derivative complaint styled Gregory Griswold, Derivatively on Behalf of Life Partners
Holdings, Inc. v. Brian D. Pardo, R. Scott Peden, David M. Martin, Tad M. Ballantyne, Fred Dewald, Harold E. Rafuse, & Nina Piper, and Life
Partners Holdings, Inc. as a Nominal Defendant, Case Number 6:11-CV-00145. On June 9, 2011, Harriet Goldstein filed a second derivative complaint
in the United States District Court for the Western District of Texas, Waco Division, styled Harriet Goldstein, Derivatively on Behalf of Life
Partners Holdings, Inc. v. Brian D. Pardo, R. Scott Peden, David M. Martin, Tad M. Ballantyne, Fred Dewald, Harold E. Rafuse, & Nina Piper,
and Life Partners Holdings, Inc. as a Nominal Defendant, Case Number 6:11-CV-00158. The Goldstein and Griswold and another similar case were all
consolidated in the Del Rio Division under Consolidated Case Number 2:11-CV-00043. On August 18, 2011, Griswold and another plaintiff, Steven
Zackian, filed a consolidated and amended complaint asserting claims of breach of fiduciary duty, gross mismanagement, and unjust enrichment.
This complaint dropped Goldstein as a plaintiff. The complaint alleges that the defendants breached their fiduciary duties to us (the company)
through the use of excessive life expectancies and incorrect accounting practices. The complaint also claimed that the defendants caused us to pay
“abnormally large dividends” for the benefit of Pardo; and the defendants subjected us to “adverse publicity” as well as lawsuits and regulatory
investigations. The complaint also claims that Pardo and Peden had “used their knowledge of Life Partners’ material, non-public information to sell
their personal holdings while [our] stock was artificially inflated,” and that the Audit Committee had failed to exercise proper oversight. On
December 20, 2011, the independent directors filed an amended motion to dismiss all claims in the complaint, based on the findings of their
investigation in response to plaintiffs’ demands. The plaintiffs have conducted limited discovery in response to the motion to dismiss and filed
their response on July 15, 2013. A hearing on the motion to dismiss was held in November 2013. On May 7, 2014, the court issued an order and
notice of conversion of the motion to dismiss to a motion for summary judgment and ordered the parties to submit additional materials and briefs in
support of or opposition to a motion for summary judgment. A hearing date for the motion for summary judgment has not been set.
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Six putative class action complaints were filed during 2011 on behalf of purchasers of life settlement interests through Life Partners, Inc.
All of these suits were consolidated on June 23, 2011, under the case styled Turnbow et al. v. Life Partners, Inc., Life Partners Holdings, Inc., Brian
D. Pardo, and R. Scott Peden, Civil Action No. 3:11-CV-1030-M. On August 25, 2011, the plaintiffs filed their consolidated class action complaint,
alleging claims of breach of fiduciary duty against LPI, aiding and abetting breach of fiduciary duty against us, Pardo and Peden, breach of contract
against LPI, and violation of California Unfair Competition Law by LPI, Pardo, and Peden. All of the plaintiffs’ claims arose out of the alleged
provision of underestimated life expectancies by Dr. Cassidy to LPI and LPI’s use thereof in the facilitation of life settlement transactions in which
the plaintiffs acquired interests in life insurance policies. On July 9, 2013, the Federal court issued an order denying class certification. On December
2, 2013, plaintiffs filed a motion for voluntary dismissal without prejudice and a general release by the plaintiffs releasing all defendants from all
claims brought in the action. On the same day, the Court issued an order dismissing the action. Copies of the dismissing documents can be found
at: http://www.lphi.com/doc/Release_20131203.pdf. Because this action was dismissed voluntarily by the plaintiffs, we consider this matter to be
concluded. On March 11, 2011, a purported class action suit was filed in the 191st Judicial District Court of Dallas County, Texas, styled Helen Z.
McDermott, Individually and on Behalf of all Others Similarly Situated v. Life Partners, Inc., Cause No. 11-02966. The original petition asserted
claims for breach of contract, breach of fiduciary duty, and unjust enrichment on behalf of a putative class of all persons residing in the United
States who purchased any portion of a life settlement that matured earlier than the estimated maximum life expectancy. Pursuant to three
amendments to the Petition, the plaintiff revised the putative class of persons on whose behalf the plaintiff seeks to represent to be limited to all
persons residing in the United States who purchased any portion of one particular life settlement. The plaintiff seeks as purported damages the
amount of funds placed in escrow for policy maintenance that was allegedly not needed or used for policy maintenance and was not returned or
paid to the plaintiff or the putative class members as well as attorneys’ fees and costs. The plaintiff also seeks certain equitable relief, including
injunctive relief, restitution, and disgorgement. Following briefing by the parties and a hearing before the court, the court certified a class
consisting of 38 persons residing in the United States that purchased any portion of a life settlement interest in the designated policy. On December
4, 2012, LPI filed a notice of appeal of the district court’s order certifying class with the Fifth District Court of Appeals, Dallas, Texas, which
automatically stayed the underlying case until resolution of the appeal. Appellate briefing has been completed by the parties and the Court has
heard oral arguments. The Court has not issued a ruling.
On March 14, 2011, a putative class action suit was filed in the 14t h Judicial District Court of Dallas County, Texas, styled Michael Arnold
and Janet Arnold v. Life Partners, Inc., Life Partners Holdings, Inc., and Abundant Income, Cause No. 11-02995. The plaintiffs ultimately amended
their petition several times, adding additional named plaintiffs, and dismissing us (but not LPI) with prejudice. The plaintiffs asserted two causes of
action. The first claim asserted that defendants violated the registration provisions of the Texas Securities Act because the life settlements
facilitated by LPI were securities and were not registered. The second claim asserted that defendants committed fraud under the Texas Securities
Act because they represented that the life settlements were not securities. LPI answered and filed counterclaims against the plaintiffs for the filing
of a frivolous lawsuit. On September 26, 2011, the Court entered an order granting LPI’s motion for partial summary judgment. The motion was
based on, among other arguments, the arguments that the life settlements had previously been held not to be securities under Federal and state law.
As a result of the court order, the plaintiffs’ claims against LPI were dismissed with prejudice. Plaintiffs appealed the Court’s decision dismissing
their claims to the Fifth District Court of Appeals, Dallas, Texas. On August 28, 2013, the Fifth District Court of Appeals, Dallas, Texas, in Arnold v.
Life Partners, Inc., 5th Dist. Texas Ct. of App., No. 05-12-00092-CV reversing the trial court’s order granting our motion for summary judgment and
held that LPI’s life settlements are securities under the Texas Securities Act. The Court of Appeals affirmed the trial court’s order granting
defendants’ motion for summary judgment on some, but not all, of the individual plaintiffs’ claims that were barred by the statute of limitations
under the Texas Securities Act. The ruling that the life settlements are securities conflicts with the decision by the Federal Circuit Court for the
District of Columbia which ruled in SEC v. Life Partners, Inc. that our transactions are not securities under Federal law, and conflicts with the 2004
Waco Court of Appeals decision in Griffitts v. Life Partners, Inc., that the settlements were not securities under Texas law. We strongly disagree
with the court’s analysis and conclusions and note that the decision conflicts with the above-referenced cases as well as a Travis County, Texas
District Court case, in each of which LPI had prevailed and in which the courts had held that the life settlements were not securities. On March 24,
2014, we appealed the decision to the Texas Supreme Court seeking a review and reversal of the Court of Appeal’s decision that LPI’s life
settlements are securities. We have asked that, if the prior decision is allowed to stand, the Court of Appeal’s decision be given prospective effect
only, rather than retroactive effect, which could allow plaintiffs, as well as other purchasers of life settlements through LPI, to seek rescission of
their purchases. Briefing for review before the Texas Supreme Court is ongoing. If the prior decision is upheld, it could result in a material adverse
effect on our operations and require substantial changes in our business model.
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On April 8, 2011, a putative class action complaint was filed in the 40t h Judicial District Court of Ellis County, Texas, styled John
Willingham, individually and on behalf of all other Texas citizens similarly situated, v. Life Partners, Inc., Cause No. 82640 (MR). On July 27, 2011,
by agreement of the parties, the Willingham case was transferred to the 101st Judicial District Court of Dallas County under Cause No. DC-1110639. All of the plaintiff’s claims are based upon the alleged overpayment of premiums to the insurance company, that is, the alleged failure to
engage in “premium optimization” on behalf of all Texas residents that purchased an interest in a life settlement facilitated by LPI. On March 15,
2013, the plaintiff filed his fourth amended petition in which eight new named-plaintiffs were added to the suit, and we, Brian D. Pardo, and R. Scott
Peden were added as defendants. In addition to the putative class claims concerning the alleged overpayment of premiums, the amended petition
asserts individual claims of breach of fiduciary duty against LPI arising from the alleged overpayment of premiums and the alleged use of
underestimated life expectancies provided by Dr. Donald Cassidy, as well as aiding and abetting claims against us, Pardo and Peden. On January 22,
2013, a petition was filed in the 162nd Judicial District Court, Dallas County, Texas, styled Stephen Eccles, et al vs. Life Partners, Inc., Life Partners
Holdings, Inc., Brian D. Pardo and R. Scott Peden on behalf of 23 individuals, all of whom were represented by the same counsel for the plaintiff in
the Willingham case. On March 20, 2013, the parties filed a joint motion to consolidate the Eccles case with the Willingham case, which was
granted on March 25, 2013. On April 15, 2013, the plaintiffs filed their fifth amended petition dropping all putative class claims and asserting
individual claims of breach of fiduciary duty, common law fraud, civil conspiracy, aiding and abetting breach of fiduciary duty and common law
fraud, and negligence against us, LPI, Pardo and Peden. The plaintiff seeks economic and exemplary damages, disgorgement and/or fee forfeiture,
attorneys’ fees and costs, and post and pre-judgment interest. On April 9, 2013, an original petition was filed in the 352nd Judicial District Court,
Tarrant County, Texas, styled Todd McClain, et al v. Life Partners, Inc., Life Partners Holdings, Inc., Brian D. Pardo, and R. Scott Peden. This suit
is virtually identical to the Willingham case. On May 15, 2013, the defendants filed a motion to transfer the McClain and Willingham cases to a
Multi-District Litigation Panel for the purposes of transferring and consolidating the Willingham case and the McClain case to a single forum for
pretrial purposes. On August 16, 2013, the Multidistrict Litigation Panel issued an opinion granting the motion to transfer, and on September 9,
2013, the Panel issued an Order transferring the McClain case to Judge Slaughter of the 191st District Court of Dallas County and consolidating the
McClain case (and any tag along cases subsequently filed) with the Willingham case. The consolidated MDL case is styled In re Life Partners,
Inc. Litigation (the “MDL Proceedings”). In the MDL Proceedings, all of plaintiffs’ claims are based upon the alleged failure to engage in “premium
optimization,” as well as the alleged provision of underestimated life expectancies by Dr. Donald Cassidy to LPI and LPI’s use in the facilitation of
life settlement transactions in which plaintiffs acquired interests in life insurance policies. Plaintiffs seek economic and exemplary damages,
disgorgement and/or fee forfeiture, attorneys’ fees and costs, and post and pre-judgment interest. On August 9, 2013, the Court entered a
scheduling order setting a bellwether trial consisting of ten plaintiffs, five selected by plaintiffs and five selected by defendants, with the remaining
plaintiffs trying their claims in groups of 16 approximately 90 days after the conclusion of each trial. The parties are currently engaged in discovery,
and the bellwether trial is set for September 29, 2014.
On November 8, 2011, a putative class action suit was filed, styled Marilyn Steuben, on behalf of herself and all other California citizens
similarly situated v. Life Partners, Inc., Superior Court of the State of California for the County of Los Angeles Court, Case No. BC472953. This suit
asserts claims of fiduciary duty, breach of contract, and violations of California’s Unfair Competition law based upon the alleged overpayment of
premiums to the insurance company, that is, the alleged failure to engage in “premium optimization. On December 3, 2012, the plaintiffs filed their
motion to intervene in the Turnbow case whereby the plaintiffs sought to join the putative Turnbow class and subclass and to create a new
subclass asserting claims for damages related to the defendants’ alleged overpayment of premiums. The Federal District Judge in the Turnbow case
denied the plaintiffs’ motion to intervene on February 5, 2013 and the Turnbow case was voluntarily dismissed in December 2013. On January 29,
2014, the parties filed a joint status report with the court, and on February 5, 2014, the court stayed the case pending resolution of the Willingham
suit, which is now set for trial in September 29, 2014. Another joint status update is due June 5, 2014.
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On August 16, 2012, a verified petition and application for temporary restraining order, temporary and permanent injunction, appointment
of receiver and other relief was filed in the 201st Judicial District Court of Travis County, Texas, styled The State of Texas v. Life Partners Holdings,
Inc., Life Partners, Inc., Brian Pardo, and R. Scott Peden, Defendants, and Advance Trust & Life Escrow Services, L.T.A., Purchase Escrow
Services, LLC, Pardo Family Holdings, Ltd., Dr. Donald T. Cassidy, and American Stock Transfer & Trust Company, Relief Defendants. The suit
sought a temporary restraining order preventing us and LPI from doing business and appointment of receiver based generally on allegations that
the life settlements facilitated by us are securities under Texas law and that we made various misrepresentations in the sale of the life settlements,
including misrepresentations about the life expectancies of the insureds. At the conclusion of the evidentiary hearing held September 24 and 25,
2012, the Court ruled that the life settlement transactions that we facilitate are not securities under Texas law. On January 8, 2013, the Court issued a
final judgment dismissing all of the plaintiff’s claims with prejudice. The Attorney General appealed the ruling to the Third Court of Appeals,
Austin, Texas. On February 25, 2014, the Third Court of Appeals issued a ruling that adopted the ruling by the Fifth Court of Appeals in the Arnold
case and held that our transactions are securities under Texas law. On March 24, 2014, we appealed this decision to the Texas Supreme Court and
have asked that the Supreme Court consolidate our appeal of this decision with our appeal of the decision in the Arnold case. As in the Arnold
case, we have asked that, if the prior decision is allowed to stand, the Court of Appeal’s decision be given prospective effect only, rather than
retroactive effect, which could allow plaintiffs, as well as other purchasers of life settlements though LPI, to seek rescission of their purchases.
Briefing for review before the Texas Supreme Court is ongoing. If the prior decision is upheld, it could result in a material adverse effect on our
operations and require substantial changes in our business model.
On March 31, 2014, a complaint was filed in the United States District Court for the Southern District of Florida, styled John Woelfel,
individually and F/B/O and In His Capacity as Owner and Beneficiary of the John Woelfe Self-Directed IRA v. Life Partners, Inc., Life Partners
Holdings, Inc., Brian D. Pardo, R. Scott Peden, and Pardo Family Holdings, Ltd. This suit asserts claims of breach of fiduciary duty, negligence,
common law fraud, civil conspiracy, constructive trust, fraudulent transfer, unjust enrichment, and violations of the Federal securities laws. Except
for the claims under the Federal securities laws, this suit is virtually identical to the MDL Proceedings. All of plaintiff’s claims are based upon the
alleged failure to engage in “premium optimization” and the alleged provision of underestimated life expectancies by Dr. Donald Cassidy to LPI and
LPI’s use in the facilitation of life settlement transactions in which plaintiff acquired interests in life insurance policies. With respect to the Federal
securities laws claims, plaintiff asserts that the life settlements purchased by plaintiff through LPI are securities that were required to be registered
under the Federal securities laws. Plaintiff seeks economic and exemplary damages, disgorgement and/or fee forfeiture, rescission, attorneys’ fees
and costs, and post and pre-judgment interest. On April 23, 2014, defendants filed a motion to dismiss on the grounds that the complaint fails to
satisfy the pleading requirements under the Federal Rules of Civil Procedure. On May 9, 2014, plaintiffs filed an amended complaint in an attempt to
address some of the issues raised in the motion to dismiss and adding new plaintiffs, Henry and Diana Funke, thereby mooting the motion.
Defendants intend to file an amended motion to dismiss as a result. No trial date has been set, and a scheduling conference is set for June 3, 2014.
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On April 15, 2014, we, along with seven shareholders filed an action against optionsXpress, Inc. and two of its former officers entitled Life
Partners Holdings, Inc. et al. v. optionsXpress, Inc., Jonathan I. Feldman and Thomas E. Stern, Case No. 14CH6428 Circuit Court of Cook County,
Illinois, County Department, Chancery Division. The action is for injunctive relief only and seeks an injunction restraining the unlawful issuance of
stock (counterfeiting) under Texas and Illinois law, the unlawful sale of unregistered securities under Texas and Illinois law, fraudulent practices of
defendants, unfair competition and deceptive practices of defendants and civil conspiracy among defendants. This action was filed after U.S. SEC
Chief Administrative Judge Brenda Murray issued a decision, In the Matter of optionsXpress, Inc. et al, finding and concluding that
optionsXpress, Inc., through its senior officers, Feldman and Stern and six of its biggest customers committed securities fraud by engaging in the
sales of hundreds of millions of dollars in counterfeit-phantom stock passed off as the genuine stock of 25 public companies, including almost $5.5
million of counterfeit-phantom stock of Life Partners Holdings, Inc. The case was removed from Illinois state court to Federal court. We will ask the
court to remand the case back to state court. This is an action to enjoin the defendants from continuing to create and sell counterfeit stock which
has not been authorized by us. It is not a suit for monetary damages and, depending on information gleaned through the discovery process, we
may or may not be able to formulate an action for damages.
Management believes, and we have been so advised by counsel handling the respective proceedings, that we have meritorious defenses
in all pending litigation to which we or our directors or officers are a party, as well as valid bases for appeal of potential adverse rulings that may be
rendered against us. We intend to defend all such proceedings vigorously and, to the extent available, will pursue all valid counterclaims.
Notwithstanding this fact, as with all litigation, the defense of such proceedings is subject to inherent uncertainties, and the actual costs will
depend upon numerous factors, many of which are as yet unknown and unascertainable. Likewise, the outcome of any litigation is necessarily
uncertain. We may be forced to continue to expend considerable funds in connection with attorneys’ fees, costs, and litigation-related expenses
associated with the defense of these proceedings, and management’s time and attention will also be taxed during the pendency of these
proceedings. We may enter into settlement discussions in particular proceedings if we believe it is in the best interests of our shareholders to do
so.
We are subject to other legal proceedings in the ordinary course of business. When we determine that an unfavorable outcome is
probable, and the amount of the loss can be reasonably estimated, we reserve for such losses. Except as discussed above: (i) management has not
concluded that it is probable that a loss has been incurred in any of our pending litigation; (ii) management is unable to estimate the possible loss
or range of loss that could result from an unfavorable outcome of any pending litigation; and (iii) accordingly, management has not provided any
amounts in the Consolidated Financial Statements for unfavorable outcomes, if any.
Item 4. Mine Safety Disclosures
None.
PART II
Item 5. Market for Our Common Stock, Related Shareholder Matters and Our Purchases of Our Equity Securities
Market Information
Our common stock is traded on the NASDAQ Global Select Market under the symbol LPHI. On April 30, 2014, there were 93 shareholders
of record of our Common Stock. Most of our common stock is held beneficially in “street name” through various securities brokers, dealers and
registered clearing agencies. We believe that there are approximately 6,300 beneficial owners of shares of our common stock who hold in street
name. We have 18,647,468 shares of common stock outstanding.
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The following table reflects the high and low sales prices of our common stock for each quarterly period during fiscal 2014 and 2013:
High
Fiscal 2013
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Fiscal 2014
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Cash
Dividends
Low
$
$
$
$
4.75
2.50
4.12
4.04
$
$
$
$
2.12
1.08
1.37
2.39
$
$
$
$
.10
.10
.10
.10
$
$
$
$
4.47
3.86
2.28
3.19
$
$
$
$
2.94
2.05
1.75
1.52
$
$
$
$
.10
.05
.05
.05
On May 1, 2014, the last reported sale price of our common stock on The NASDAQ Global Select Market was $2.74 per share. Our total
share volume for April 2014 was 333,931 shares compared to 1,322,900 shares traded in April 2013.
Dividends
Our Board of Directors determines the amount of and whether to declare dividends. We declared common stock dividends of $0.20 per
share in fiscal 2014 and $0.40 per share in fiscal 2013, and have paid dividends of at least $0.05 per share in each quarter since March 1, 2005.
Whether we will continue to pay dividends at the rate we have previously will depend on the Board’s determinations, taking into account our
working capital, results of operations and other relevant factors.
Recent Sales of Unregistered Securities
None.
Securities Authorized for Issuance under Equity Compensation Plans
We have no outstanding options or shares subject to options or other purchase rights authorized, but not outstanding.
Our Purchases of Our Equity Securities
We made no purchases of our equity securities during fiscal 2014.
Item 6. Selected Financial Data
The following table sets forth certain information concerning our consolidated financial condition, operating results, and key operating
ratios for the dates and periods indicated. This information does not purport to be complete and should be read in conjunction with
“Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our Consolidated Financial Statements and Notes
thereto.
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$
$
$
$
15.7
(9.1)
(3.6)
(2.5)
$
$
$
$
18.9
(8.2)
(4.1)
(2.9)
Per Share Data(1)
Earnings (Loss) Per Share
Dividends Per Share
Financial Ratios
Current Ratio
Quick Ratio
$
$
$
$
$
$
$
$
$
$
$
$
32.9
(5.7)
(4.6)
(3.1)
$
$
$
$
2010
101.6
35.1
36.2
23.4
$
$
$
$
Year Ended February 28/29,
(millions, except per share information)
2013
2012
2011
2014
Balance Sheet Data
Current Assets
Current Liabilities
Working Capital
Total Assets
Total Liabilities
Shareholders’ Equity
Return on Assets
Return on Equity
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Year Ended February 28/29,
(millions, except per share information)
2013
2012
2011
2014
Operating Results
Revenues
Income (Loss) from Operations
Pre-tax (Loss) Income
Net Income (Loss)
Entered 03/25/15 17:25:46
9.8
2.9
6.9
29.5
6.8
22.7
(7.5)%
(9.5)%
(0.13)
0.20
$
$
$
$
$
$
15.7
4.4
11.3
36.1
7.3
28.8
(7.1)%
(8.5)%
$
$
(0.15)
0.40
3.4 : 1
3.4 : 1
$
$
$
$
$
$
$
$
3.6 : 1
3.6 : 1
18.5
4.0
14.5
45.8
6.6
39.2
(5.6)%
(6.6)%
(0.17)
0.70
4.6 : 1
4.6 : 1
108.8
43.4
43.3
26.1
2010
$
$
$
$
$
$
35.4
7.4
28.0
65.8
10.5
55.3
36.8%
44.4%
$
$
$
$
$
$
31.9
7.8
24.1
61.2
11.1
50.1
48.6%
59.5%
$
$
1.26
1.04
$
$
1.40
0.86
4.8 : 1
4.8 : 1
4.1 : 1
4.1 : 1
(1) Earnings per share data restated for the fiscal 2011 stock split.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Special Note: Certain statements set forth below under this caption constitute “forward-looking statements” within the meaning of the
Private Securities Litigation Reform Act of 1995. See Special Note Regarding Forward-Looking Statements for additional factors relating to such
statements.
We provide the following discussion to assist in understanding our financial position as of February 28, 2014 (“fiscal 2014”), and results
of operations for the year then ended, and as of and for the years ended February 28, 2013 (“fiscal 2013”), and February 29, 2012 (“fiscal 2012”).
As you read this discussion, refer to our Consolidated Financial Statements and Notes thereto. We analyze and explain the differences between
periods in the material line items of these statements.
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Critical Accounting Estimates, Assumptions and Policies
Our discussion and analysis of financial condition and results of operations are based on our Consolidated Financial Statements that were
prepared in accordance with accounting principles generally accepted in the United States of America. To guide our preparation, we follow
accounting policies, some of which represent critical accounting policies as defined by the SEC. The SEC defines critical accounting policies as
those that are both most important to the portrayal of a company’s financial condition and results and require management’s most difficult,
subjective, or complex judgment, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may
change in subsequent periods. Certain accounting estimates involve significant judgments, assumptions and estimates by management that may
have a material impact on the carrying value of certain assets and liabilities, disclosures of contingent liabilities, and the reported amounts of
income and expenses during the reporting period that management considers to be critical accounting estimates. The judgments, assumptions and
estimates used by management are based on historical experience, management’s experience, knowledge of the accounts and other factors that are
believed to be reasonable. Because of the nature of the judgments and assumptions made by management, actual results may differ materially from
these judgments and estimates, which could have a material impact on the carrying values of our assets and liabilities and the results of our
operations. Areas affected by our estimates and assumptions are identified below.
We recognize revenue at the time a settlement closes and defer a portion of the revenue in anticipation of policy monitoring services. We
amortize the costs of these services over the anticipated life expectancy of the insureds.
We sometimes make short-term advances to facilitate life settlement transactions. These amounts are included in “Accounts receivable –
trade” and are collected as the life settlement transactions close. All amounts are considered collectible as we are repaid the advance before any
other parties involved in the transaction receive funds.
We follow the guidance contained in Financial Accounting Standards Board Accounting Standards Codification “FASB ASC” 325-30,
Investments in Insurance Contracts, to account for our investments in life settlement contracts. ASC 325-30 states that a purchaser may elect to
account for its investments in life settlement contracts using either the investment method or the fair value method. The election is made on an
instrument by instrument basis and is irrevocable. Under the investment method, a purchaser recognizes the initial investment at the purchase price
plus all initial direct costs. Continuing costs (e.g., policy premiums and direct external costs, if any) to keep the policy in force are capitalized. Under
the fair value method, a purchaser recognizes the initial investment at the purchase price. In subsequent periods, the purchaser re-measures the
investment at fair value in its entirety at each reporting period and recognizes changes in fair value earnings (or other performance indicators for
entities that do not report earnings) in the period in which the changes occur. We elected to value our investments in life settlement contracts using
the investment method. The current portion of our investments in policies was carried at $1,075,205 and $2,329,005 at February 28, 2014 and 2013,
respectively. The long-term portion of our investments in policies was carried at $1,165,941 and $0 at February 28, 2014 and 2013, respectively.
We review the carrying value of our investments in policies for impairment whenever events and circumstances indicate that we might not
recover the carrying value of the policies from future maturities. In cases where undiscounted expected proceeds from future maturities are less
than the carrying value, we recognize an impairment loss equal to an amount by which the carrying value (including expected future costs to
maintain the policies) exceeds the expected proceeds. Based on this assessment, we recorded impairment costs for our investments in policies of
$297,610, $745,402, and $906,451 during fiscal 2014, 2013 and 2012, respectively.
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We establish litigation and policy analysis loss accruals based on our best estimates as to the ultimate outcome of contingent liabilities.
This loss analysis is necessary to properly match current expenses to currently recognized revenues and to recognize that there is a certain amount
of liability associated with litigation and policy losses. Through these accruals, we recognize the estimated cost to settle pending litigation as an
expense. These estimates are reviewed on a quarterly basis and adjusted to management’s best estimate of the anticipated liability on a case-bycase basis. A high degree of judgment is required in determining these estimated accrual amounts since the outcomes are affected by numerous
factors, many of which are beyond our control. As a result, there is a risk that the estimates of future litigation and policy analysis loss costs could
differ from our currently estimated amounts. Any difference between estimates and actual final outcomes could have a material impact on our
financial statements.
We must make estimates of the collectability of accounts and notes receivable and premium advances. The accounts associated with these
areas are critical to recognizing the correct amount of revenue and expenses in the proper period. Our historical success of collecting premium
advances has enabled us to build a body of evidence by which we can demonstrate full collectability of the remaining balance of advanced
premiums.
We review the carrying value of our property and equipment for impairment whenever events and circumstances indicate that the carrying
value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual disposition. In cases
where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to an amount by which the
carrying value exceeds the fair value of assets. The factors considered by management in performing this assessment includes current operating
results, trends and prospects, the manner in which the property is used, and the effects of obsolescence, demand, competition and other economic
factors. Based on this assessment, there was no impairment for property and equipment during fiscal 2014, 2013 and 2012.
We must evaluate the carrying value of our investment in life settlements trust for impairment whenever events and circumstances indicate
that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual
disposition. We have an investment in a financial instrument held by a third party. We do not have direct ownership of the individual policies but
have a derivative right to share in income generated from the policies. Impairment testing entails evaluating our indirect investment in the policies,
based on insurance carriers, legal environment, political environment and a basis using the entity’s financial statements. Based on this assessment,
we believe that there was no impairment for our investment during fiscal 2014, 2013 and 2012.
We must evaluate the useful lives of our property and equipment to assure that an adequate amount of depreciation is being charged to
operations. Useful lives are based generally on specific knowledge of life for specific types of assets.
We are required to estimate our income taxes. This process involves estimating our current tax exposure together with assessing
temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets
and liabilities. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income, and, to the extent we
believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase this
allowance in a period, we must include a tax provision or reduce our tax benefit in the statements of operations. We use our judgment to determine
our provision or benefit for income taxes, deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax
assets.
We cannot predict what future laws and regulations might be passed that could have a material effect on our results of operations. We
assess the impact of significant changes in laws and regulations on a regular basis and update the assumptions and estimates used to prepare our
financial statements when we deem it necessary.
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New Accounting Pronouncements
For a discussion of recent accounting pronouncements, refer to Note 3 of our Consolidated Financial Statements. New pronouncements
issued but not effective for us until after February 28, 2014, are not expected to have a material impact on our financial position, results of
operations or liquidity.
Life Partners
We are the world’s oldest and only publicly traded company operating exclusively in the life settlement industry. Our revenues are
primarily derived from fees associated with facilitating life settlement transactions.
Comparison of Fiscal 2014, 2013 and 2012
We had a net loss of $2,454,105 for fiscal 2014, compared to net losses of $2,877,025 for fiscal 2013 and $3,123,478 for fiscal 2012. The net
loss in fiscal 2014, with a 17.0% decrease in gross revenues and a 30.2% decline in revenues, net of brokerage fees, was due to primarily the damage
to our licensee network and purchaser base resulting from the SEC investigation and subsequent lawsuit, the filing of multiple private suits, and the
publication of news articles criticizing our operations. We have made significant reductions in legal and professional fees, premium advances and
impairment expenses which were positive influences in fiscal 2014 when compared to fiscal 2013. The 42.6% decrease in gross revenue and 51.1%
decrease in revenues, net of brokerage fees, in fiscal 2013 was primarily the result of the aforementioned news articles and disclosure of the SEC
investigation, which occurred in the fourth quarter of fiscal 2011. In fiscal 2012, the aforementioned news articles and disclosure of the SEC
investigation resulted in a 67.6% decrease in gross revenues and a 78.8% decrease in revenues, net of brokerage and licensee fees. The decrease in
revenues, net of brokerage and licensee fees, together with a large increase in legal and professional fees and impairment expense, offset by
significant reduction in settlement costs, resulted in a loss from operations of $5,736,639. Legal and professional costs were $3,211,799, $3,713,536,
and $6,522,221 in fiscal 2014, 2013 and 2012, respectively, and were the largest single general and administrative expense. The legal and professional
costs were attributable primarily to legal costs associated with the SEC investigation and lawsuit, related private litigation, and our audit fees. See
Item 3, Legal Proceedings.
Revenues – Revenues decreased by $3,218,598, or 17.0%, from $18,904,837 in fiscal 2013 to $15,686,239 in fiscal 2014. This decrease was
due primarily to the decreased number of settlements, from 35 in fiscal 2013 to 26 in fiscal 2014, along with lower revenues, net of brokerage fees, as
a percentage of gross revenue. Revenues decreased by $14,017,352, or 42.6%, from $32,922,189 in fiscal 2012 to $18,904,837 in fiscal 2013. This
decrease was due primarily to the decreased number of settlements, from 62 in fiscal 2012 to 35 in fiscal 2013, along with lower revenues, net of
brokerage fees, as a percentage of gross revenue. Revenues, net of brokerage fees, were $3,997,820 in fiscal 2014 or 25.5% of gross revenue in fiscal
2014, versus $5,729,582 or 30.3% of gross revenue in fiscal 2013 and $11,714,430 or 35.6% of gross revenue in fiscal 2012, as we increased
promotional bonuses and lowered our fees to obtain business. Average revenue per settlement, net of brokerage fees, increased 11.7%, or $63,179
to $603,317 in fiscal 2014 compared to $540,138 in fiscal 2013 and $531,003 in fiscal 2012.
Revenues from initial settlement transactions were $8,572,203 for fiscal 2014 compared to $16,573,473 for fiscal 2013. The drop in revenues
from initial sales was largely offset by commissions and fees from resales or tertiary sales, which increased $4,782,672 from $2,331,364 in fiscal 2013
to $7,114,036 in fiscal 2014. This year’s increase in tertiary sale revenue included fee income from resales of abandoned interests of $2,314,888,
which was not in place in fiscal 2013.
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Since the filing of a civil action by the SEC in January 2012 and related private litigation, demand for our services has been negatively
impacted. Since that time, we have devoted substantial resources and the personal time of our senior management to improve licensee relations,
develop new clients and work to rebuild confidence in our company. During the 2013 calendar year, over 2,800 of our clients were paid more than
$74 million in proceeds from their life settlement transactions. We believe these payouts will result in an increased demand for our services and will
enable us to gradually rebuild our markets and expand our client base. We have observed an increase in new clients and deposits into escrow and
greater interest in our services. We intend to continue devoting resources to rebuild our client base and increase demand for our services in fiscal
2015. However, restoration of demand approaching levels we recorded in fiscal 2012 may not occur, until and unless we are able to repair the
damage caused by the SEC suit, restore trust and confidence within our licensee network and purchaser base, and rebuild our reputation within the
industry.
Brokerage and Referral Fees – Brokerage and referral fees decreased 11.3%, or $1,486,836 from $13,175,255 in fiscal 2013 to $11,688,419 in
fiscal 2014. Brokerage and referral fees decreased 37.9%, or $8,032,504 from $21,207,759 in fiscal 2012 to $13,175,255 in fiscal 2013. Brokerage and
referral fees constituted 74.5%, 69.7%, and 64.4% of revenues in fiscal 2014, 2013 and 2012, respectively. In fiscal 2014, broker referrals accounted
for 98% of the total face value of policies transacted. In fiscal 2013, broker referral accounted for 91% of the total face value of policies transacted,
and in fiscal 2012, 99%. Policies presented from five brokers each represented more than 10% of all completed transactions in fiscal 2014 and
represented 94.7% in total. Policies presented from three brokers each represented more than 10% of all completed transactions in fiscal 2013 and
represented 54.7% in total. Policies presented from two brokers each represented more than 10% of all completed transaction in fiscal 2012 and
represented 24.3% in total.
Brokerage and referral fees generally increase or decrease with revenues, face value of policies transacted and the volume of transactions,
although the exact ratio may vary according to a number of factors. Brokers may adjust their fees with the individual policyholders whom they
represent. In some instances, several brokers may compete for representation of the same seller, which will result in lower broker fees. Referral fees
also vary depending on factors such as varying contractual obligations, market demand for a particular kind of policy or life expectancy category
and individual agreements between clients and their referring financial planners. To counter declining revenues and to stimulate transaction
interest, we have implemented licensee-directed, promotional programs, which have increased referral fees as a percentage of revenues. We also
have reduced our fees on select brokerage transactions to remain competitive in the marketplace. The effect of the growing concentration is also
reflected in the increase of broker fees as a percentage of revenues.
Operating Expense – General and administrative expenses increased by 8.5% to $8,477,444 in fiscal 2014 versus $7,813,970 in fiscal 2013.
General and administrative expenses were $7,778,958 in fiscal 2012. The increase in fiscal 2014 was primarily due to an increase in personnel costs.
Legal and professional expenses decreased by 13.5% to $3,211,799 in fiscal 2014 versus $3,713,536 in fiscal 2013. These expenses are
primarily associated with the SEC lawsuit, the private litigation that followed disclosure of the SEC investigation, and auditing fees. Legal and
professional expenses in fiscal 2012 were $6,522,221.
Impairment expense for fiscal 2014 declined $447,792 to $297,610. Many of the remaining older viatical policies that were fully impaired in
previous periods were sold in fiscal 2013. We decreased impairment expense for our investments in policies from $906,451 in fiscal 2012 to $745,402
in fiscal 2013 again because many of the older viatical policies that we owned were fully impaired in previous periods and were sold. General and
administrative expenses increased 8.5% or $663,474 from $7,813,970 in fiscal 2013 to $8,477,444 in fiscal 2014. Increases of $763,672 in personnel
expenses and $83,006 in postage expenses were mitigated by decreases of $134,330 in charitable contributions, and $233,726 in other outside
services.
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Employee bonuses increased $232,110 in fiscal 2014, due in part to $150,000 in executive bonuses paid in the fourth quarter as recognition
for efforts in anticipation of the SEC trial scheduled for January 2014 and $137,307 in executive bonuses paid in the second quarter after positive
first quarter results. Officer salaries also increased $304,975 in fiscal 2014 to partially offset the compensation declines from earlier years with the
absence of profit-based bonuses. Employee bonuses increased $126,064 in fiscal 2013, due in part to $81,708 in executive bonuses paid in the
second quarter after positive first quarter results.
We paid $12,511 of settlement expenses for various legal action or claims in fiscal 2014. In fiscal 2013 we recovered non-recurring
settlement expenses of $104,453. Settlement expenses in fiscal 2012 were $613,374.
Premium advances, net of reimbursements, in fiscal 2014, 2013 and 2012 were $931,304, $1,526,547, and $1,363,915 respectively. For
business goodwill, we may make advances on policy premiums to maintain certain policies. In the typical life settlement, policy premiums for the
insured’s projected life expectancy or a fixed period are added to the purchase price and those future premium amounts are set aside in an escrow
account to pay future premiums. When the future premium amounts are exhausted, purchasers are contractually obligated to pay the additional
policy premiums. We have several ways to proceed if a purchaser fails to pay premiums. In the past, we have negotiated a repurchase of the policy.
In other instances, we have advanced the premiums to maintain the policies. With some advances, we historically allowed the purchaser to retain
the policy as an accommodation and based our assumptions that we will ultimately recoup the advances upon the insured’s death. More recently,
we have acquired and resold defaulted positions, as provided in the policy funding agreements with clients. We resell the abandoned policies at a
fixed percentage of the policy face plus the amount of the premiums advanced. The resale of these policies has improved our cash flow and lowered
premium advances.
We must make estimates of the collectability of these premium advances. We record an allowance against the premium advances at the
time of the advance as needed and treat reimbursements as a reduction of the allowance if previously reserved. Our historical success of collecting
premium advances has enabled us to build a body of evidence by which we can demonstrate full collectability of the remaining balance of
advanced premiums.
Interest and Other Income – Interest and other income decreased $103,075 to $83,961 in fiscal 2014 from $187,036 in fiscal 2013. Interest
and other income decreased $349,329 from $536,365 in fiscal 2012 to $187,036 in fiscal 2013. The decreases in interest and other income in fiscal 2014
and fiscal 2013 were due to a lower amount of cash available for investment.
Investment and Assignment of Interest in Life Settlement Trust - We have an investment in a life settlement trust, which we believe owns a
portfolio of 228 life insurance settlements with a face value of $610.5 million. Our investment was recorded at $6,648,478 as of February 28, 2014. Our
earnings from the trust were $114,886, $458,377 and $28,807 in fiscal 2014, 2013 and 2012, respectively. In fiscal 2014, we assigned our distribution
rights, subject to a reversionary interest, to unaffiliated third parties, in exchange for net proceeds of $5,254,500. Until and unless the reversionary
interest arises, we will not receive further distributions from the trust. The trust has defaulted on certain secured borrowings and the lender has
instituted proceedings to foreclose its security interest in the trust’s assets and take the assets in satisfaction of the loan. We, along with the other
limited partners and general partner of the trust, have retained legal counsel to represent our interests. We believe the carrying value we have
recorded will be fully realized in the future. See Footnote 10 to the Consolidated Financial Statements.
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Income from Investments in Policies - Income from investments in policies decreased $3,621,490 from $3,716,225 in fiscal 2013 to $94,735 in
fiscal 2014. Income in fiscal 2012 was $809,218. This income in all three years was from sales and maturities in which we owned an interest. The
decline in fiscal 2014 income reflects the lower quality of policies that we had in inventory following the sales in fiscal 2013. The current carrying
value of all policies we own, net of impairment, was $2,241,146 as of February 28, 2014. We have classified one policy interest valued at $1,075,205,
net of impairment, as a current asset, as we anticipate selling this policy interest within the next twelve months. We believe the remainder are not
currently marketable and have classified those interests as held for long term. See Footnote 9 to the Consolidated Financial Statements.
Loss on Settlement of Note Receivable – Loss on settlement of note receivable of $231,096 in fiscal 2013 is the net amount from the
proceeds received of $350,000 versus amount of note receivable on the consolidated balance sheet at February 29, 2012, which was $581,096. See
Footnote 7 to the Consolidated Financial Statements.
Realized Gain/Loss on Investment Securities – We realized a gain on sales of investment securities of $22 in fiscal 2013 and a loss of
$185,456 in fiscal 2012. We had no gain or loss in fiscal 2014.
Income Taxes – The income tax benefits were $1,142,312 in fiscal 2014, $1,212,363 in fiscal 2013, and $1,429,921 in fiscal 2012, which arose
from negative pretax earnings in each fiscal year. Income tax expense is in direct correlation to pretax earnings, taxed at 35% at the Federal level.
Fiscal 2014’s income tax benefit of $1,142,312 is comprised of current Federal expense benefit of $(79), current state tax expense of $63,659, and
deferred tax benefit of $1,205,892. Fiscal 2014 tax expense includes an accrual of Texas margin tax in the amount of $72,428 that was paid with the
filing of the 2014 annual return on May 15, 2014. Income tax expense was also affected by the establishment of a $611,298 valuation allowance
within the deferred income tax asset account in 2011. This allowance was established to recognize the uncertainty of netting future capital gains
against a current capital loss. We have net capital losses from prior years of $91,729. This increased the valuation allowance to $643,403 at February
29, 2012 and February 28, 2013 and other adjustments increased the valuation allowance to $672,115 at February 28, 2014.
Liquidity and Capital Resources
Operating Activities – Net cash flows used in operating activities in fiscal 2014 were $2,343,287. Uses of cash flow resulted primarily from
a net loss of $2,454,105, income from assignment of income stream of $5,254,500 and a decrease in accounts payable of $682,432. Cash flows
provided by operating activities were from an increase in income taxes receivable of $3,445,564, a decrease in net premium advances of $1,907,054
and an increase in deferred policy monitoring costs of $1,245,032. Net cash flows used in operating activities decreased by 59.0%, decreasing
$3,367,556 from $5,710,843 in fiscal 2013 to $2,343,287 in fiscal 2014. Net cash flows used in operating activities in fiscal 2013 decreased by 10.6%,
decreasing by $676,851 from $6,387,694 in fiscal 2012 to $5,710,843 in fiscal 2013. Fiscal 2013’s uses of cash flow were primarily from a net loss of
$2,877,025, an increase of income taxes receivable of $1,659,388, net premium advances of $2,591,934, gain on sales of investments in policies of
$3,716,225, and the gain on investment in life settlements trust of $458,377, offset by an increase in accounts payable of $881,247 and an increase in
deferred policy monitoring costs of $363,289. Fiscal 2012’s uses of cash flow were primarily from a net loss of $3,123,478 and a decrease in income
taxes payable, a decrease in accounts payable and a gain on sales of investments in policies, while impairment of policies and deferred income taxes
had a positive impact.
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Investing and Financing Activities – Our investing activities provided cash of $5,564,339 in fiscal 2014, primarily from the proceeds of
$5,254,500 from the assignment of future income from our life settlement trust investment, proceeds from investments in certificates of deposits of
$500,728, proceeds from the life settlements trust of $227,508, and proceeds from sales of investments in policies of $146,530, less $47,695 return of
investment in life settlements trust, $250,000 investment in certificate of deposit and $298,844 purchase of investment in policies for investment
purposes. Net cash flow provided by investing activities in fiscal 2013 of $9,387,419 consisted of $9,817,929 proceeds from sales of investments in
policies, $400,000 proceeds from sales of investments in securities, $691,682 proceeds from our investment in the life settlement trust, offset by
$369,611 purchases of policies for investment purposes and $609,371 investment in life settlement trust.
We used $4,661,900 in financing activities in fiscal 2014 versus $7,463,685 in fiscal 2013 and $14,920,716 in fiscal 2012. Financing activities
in all three years were solely for dividends.
Working Capital and Capital Availability – As of February 28, 2014, we had cash and cash equivalents of $6,134,731 and working capital
of $6,897,415, compared to working capital of $11,381,163 as of February 28, 2013. Our cash during fiscal 2014 decreased by $1,440,848, compared to
a decrease of $3,787,109 in fiscal 2013 and a decrease of $16,247,876 in fiscal 2012.
We believe our existing working capital and future cash flows from operating activities will allow us to fund our current operations through
fiscal 2015. Our recurring operations are not currently generating sufficient cash to support operations. To fund our short and long-term operations
and to pay dividends, we have liquidated much of our investment portfolio, including most of our investments in policies and our investments in
securities. We have monetized our investment in the life settlement trust by assigning our current rights to future income. During the fourth quarter
of fiscal 2014 we received a Federal income tax refund of $3,507,242, which aided our cash available. Except for our cash and cash equivalents, we
have few sources of additional liquidity. As a result, we may not be able to continue to pay dividends at the historical rate and may reduce or
eliminate dividends to conserve working capital until we can realize improved operating results.
Outlook
We have confronted a decline in our life settlement markets and the fallout of the SEC action and the resulting private litigation. We
believe the market has begun recover. We expect the supply of qualified life settlements to remain strong and believe the low correlation of life
settlements returns to fixed-income and equity securities and their competitive rates offer an attractive alternative investment.
While we were exonerated by the outcome of the SEC suit, it is clear that the suit did damage to our reputation and our relationships within
our licensee network and client base. We are working to rebuild confidence among our licensees and clients and to expand our client base. We
continue to invest significantly in programs to develop and strengthen our relationships with new and inactive licensees. We have increased our
communication with our client base, emphasizing the inherent benefits of life settlements as an asset class and the particular advantages of our
settlements, which have no annual management fees and do not cap investor returns as do many of the settlements offered in the industry. We
believe we have made substantial progress in restoring the confidence and interest of our clients. We are exploring alternatives for expanding our
client base, including the marketing of life settlements as securities. Quarterly revenues have increased in the third and fourth quarters of fiscal
2014, reversing a downward trend that began with announcement of the SEC investigation in the fourth quarter of fiscal 2011. Over the past two
calendar years, there have been over $112 million in payouts from our life settlement transactions.
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While these positive developments are encouraging, we must do more. The large drops in revenues, the significant legal and professional
fees, and operating losses we have experienced during fiscal 2014 have eroded the strength of our financial condition. We believe we have
sufficient currently available working capital to fund our current operations through fiscal 2015. Our recurring operations are not currently
generating sufficient cash to support operations. To supplement recurring operations, we have sold most of the settlements we held for investment
and have monetized our investment in the life settlement trust. While we believe we could further support our working capital through other
possible asset dispositions, borrowings or equity sales, our opportunities for generating significant cash apart from continuing operations are
narrowing. We believe we must generate approximately $30 million in annual revenues to cash flow our operations and pay dividends, and we are
working toward that end. In the meanwhile, we are conserving our cash. We have decreased our cash dividends and may reduce or eliminate the
dividends for fiscal 2015 and 2016 to conserve working capital until we can realize improved operating results.
Off-Balance Sheet Arrangements
We do not engage in any off-balance sheet arrangements or transactions.
Contractual Obligations and Commitments
Our outstanding contractual obligations and commitments as of February 28, 2014 were:
Operating leases
Total obligations
$
$
Total
47,314
47,314
Due in less
than 1 year
$
32,688
$
32,688
Due after
Due in
Due in
5 years
4 to 5 years
1 to 3 years
$
14,626 $
- $
$
14,626 $
- $
-
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
None.
Item 8. Financial Statements and Supplementary Data
Our audited Consolidated Financial Statements, together with the report of auditors and the notes to the Consolidated Financial
Statements, are included in this Annual Report beginning on page 33.
The following tables set forth our unaudited consolidated financial data regarding operations for each quarter of fiscal 2014, 2013 and
2012. This information, in the opinion of management, includes all adjustments necessary, consisting only of normal and recurring adjustments, to
state fairly the information set forth therein.
Revenues
Loss from Operations
Pre-tax Income (Loss)
Net Income (Loss)
Net Income (Loss) Per Share
Revenues
Loss from Operations
Pre-tax Income (Loss)
Net Income (Loss)
Net Income (Loss) Per Share
$
$
$
$
$
1st Quarter
4,263,841
(2,804,190)
2,608,839
1,679,178
0.09
$
$
$
$
$
1st Quarter
5,739,557
(1,709,960)
1,635,963
1,037,031
0.05
$
$
$
$
$
Fiscal 2014
2nd Quarter
3rd Quarter
2,837,243 $
4,485,284
(2,773,050) $
(1,454,819)
(2,743,073) $
(1,422,925)
(1,793,303) $
(938,766)
(0.10) $
(0.05)
$
$
$
$
$
4th Quarter
4,099,871
(2,112,363)
(2,039,258)
(1,401,214)
(0.08)
$
$
$
$
$
Fiscal 2013
2nd Quarter
3rd Quarter
3,062,587 $
4,776,403
(2,628,930) $
(1,797,558)
(2,534,850) $
(1,139,622)
(1,849,325) $
(753,649)
(0.10) $
(0.04)
$
$
$
$
$
4th Quarter
5,326,290
(2,082,162)
(2,050,879)
(1,311,082)
(0.07)
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Revenues
Loss from Operations
Pre-tax Loss
Net Loss
Net Loss Per Share
$
$
$
$
$
1st Quarter
9,833,395
(1,433,512)
(1,290,866)
(874,144)
(0.05)
Entered 03/25/15 17:25:46
Fiscal 2012
2nd Quarter
3rd Quarter
10,811,349 $
6,666,795
(509,014) $
(2,162,342)
(405,540) $
(1,475,900)
(323,183) $
(1,082,848)
(0.02) $
(0.06)
$
$
$
$
$
$
$
$
$
$
Page 28 of
4th Quarter
5,610,650
(1,631,771)
(1,381,093)
(843,303)
(0.05)
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A. Controls and Procedures
Attached as exhibits to this Annual Report are certifications of the CEO and the CFO, which are required in accordance with Rule 13a-14 of
the Securities Exchange Act of 1934, as amended (the “Exchange Act”). This Controls and Procedures section includes the information concerning
the controls evaluation referred to in the certifications, and it should be read in conjunction with the certifications for a more complete
understanding of the topics presented.
Evaluation of Disclosure Controls and Procedures. We maintain disclosure controls and procedures that are designed to provide
reasonable assurance that information required to be disclosed in our Exchange Act reports, such as this Annual Report on Form 10-K, is recorded,
processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and
communicated to our management, including our President and Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure. These controls and procedures are based closely on the definition of “disclosure controls and
procedures” in Rule 13a-15(e) promulgated under the Exchange Act. Rules adopted by the SEC require that we present the conclusions of the Chief
Executive Officer and Chief Financial Officer about the effectiveness of our disclosure controls and procedures as of the end of the period covered
by this annual report.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our
disclosure controls and procedures (as defined under Rules 13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934, as
amended) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer
have concluded that our disclosure controls and procedures were effective as of February 28, 2014.
Management’s Report on Internal Control over Financial Reporting. Management is responsible for establishing and maintaining
adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Internal control over
financial reporting is a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer, and affected by our
Board, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of
Consolidated Financial Statements for external purposes in accordance with generally accepted accounting principles.
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Internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance
that transactions are recorded as necessary to permit preparation of consolidated financial statements in accordance with generally accepted
accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and
directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our
assets that could have a material effect on our Consolidated Financial Statements. Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
We assessed the effectiveness of our internal control over financial reporting as of February 28, 2014, under the supervision and with
participation of our management, including our Chief Executive Officer and Chief Financial Officer. In making this assessment, management used the
criteria set forth in Internal Control—Integrated Framework (1992) issued by COSO. Based on our assessment, which was conducted according to
the COSO criteria, we have concluded that our internal control over financial reporting was effective in achieving its objectives as of February 28,
2014.
The effectiveness of our internal control over financial reporting as of February 28, 2014, has been audited by Whitley Penn LLP, an
independent registered public accounting firm, as stated in their report which is included herein.
Changes in Internal Control over Financial Reporting During the Fiscal Quarter Ended February 28, 2014
There were no changes in our internal control over financial reporting that occurred during our last fiscal quarter that have materially
affected, or are reasonable likely to materially affect, our internal control over financial reporting.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
Life Partners Holdings, Inc.
We have audited Life Partners Holdings, Inc. and subsidiaries’ (the “Company”) internal control over financial reporting as of February 28, 2014,
based on criteria established in Internal Control—Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the
Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal
Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on
our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was
maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal
control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances.
We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A
company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance
that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors
of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of
the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of February 28, 2014, based on
criteria established in Internal Control—Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated
balance sheets and the related consolidated statements of operations, shareholders’ equity, and cash flows of the Company, and our report dated
May 28, 2014, expressed an unqualified opinion on those consolidated financial statements.
/s/ Whitley Penn LLP
Dallas, Texas
May 28, 2014
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Item 9B. Other Information
None.
PART III
Item 10. Directors and Executive Officers; Corporate Governance
The information required in response to this Item is incorporated herein by reference to our proxy statement to be filed with the SEC
pursuant to Regulation 14A, not later than 120 days after the end of the fiscal year covered by this report.
Item 11. Executive Compensation
The information required in response to this Item is incorporated herein by reference to our proxy statement to be filed with the SEC
pursuant to Regulation 14A, not later than 120 days after the end of the fiscal year covered by this report.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters
The information required in response to this Item is incorporated herein by reference to our proxy statement to be filed with the SEC
pursuant to Regulation 14A, not later than 120 days after the end of the fiscal year covered by this report.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required in response to this Item is incorporated herein by reference to our proxy statement to be filed with the SEC
pursuant to Regulation 14A, not later than 120 days after the end of the fiscal year covered by this report.
Item 14. Principal Accountant Fees and Services
The information required in response to this Item is incorporated herein by reference to our proxy statement to be filed with the SEC
pursuant to Regulation 14A, not later than 120 days after the end of the fiscal year covered by this report.
PART IV
Item 15. Exhibits and Financial Statement Schedules
Financial Statements. The Consolidated Financial Statements for the fiscal 2014, 2013 and 2012, are included in this Annual Report
beginning on page 33.
Financial Statement Schedules. All schedules have been omitted because the information is not required, not applicable, not present in
amounts sufficient to require submission of the schedule, or is included in the financial statements or notes thereto.
Exhibits. The exhibit list and accompanying footnote disclosures in the Index to Exhibits immediately following the Notes to our
Consolidated Financial Statements are incorporated herein by reference in response to the requirements of this part of the Annual Report.
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SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
May 28, 2014
Life Partners Holdings, Inc.
By: /s/ Brian Pardo
Brian D. Pardo
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
Name
Title
Date
/s/ Brian Pardo
Brian D. Pardo
President, Principal Executive
Officer, and Director
May 28, 2014
/s/ Colette Pieper
Colette Pieper
Chief Financial Officer and
Principal Financial and Accounting Officer
May 28, 2014
/s/ R. Scott Peden
R. Scott Peden
Secretary, Director
May 28, 2014
/s/ Tad Ballantyne
Tad Ballantyne
Director
May 28, 2014
/s/ Harold Rafuse
Harold Rafuse
Director
May 28, 2014
/s/ Fred Dewald
Fred Dewald
Director
May 28, 2014
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED FINANCIAL STATEMENTS
FEBRUARY 28/29, 2014, 2013 AND 2012
Contents
Report of Independent Registered Public Accounting Firm
32
Audited Consolidated Financial Statements:
Consolidated Balance Sheets
33
Consolidated Statements of Operations
35
Consolidated Statements of Shareholders’ Equity
36
Consolidated Statements of Cash Flows
37
Notes to Consolidated Financial Statements
38
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Life Partners Holdings, Inc.
We have audited the accompanying consolidated balance sheets of Life Partners Holdings, Inc. and subsidiaries (the “Company”), as of February
28, 2014 and 2013, and the related statements of operations, shareholders’ equity, and cash flows for each of the years in the three-year period
ended February 28, 2014. The Company’s management is responsible for these financial statements. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.
An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company,
as of February 28, 2014 and 2013, and the results of their operations and their cash flows for each of the years in the three-year period ended
February 28, 2014, in conformity with accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s
internal control over financial reporting as of February 28, 2014, based on criteria established in Internal Control—Integrated Framework (1992)
issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated May 28, 2014 expressed an unqualified
opinion.
/s/ Whitley Penn LLP
Dallas, Texas
May 28, 2014
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
FEBRUARY 28, 2014 AND 2013
Page 1 of 2
ASSETS
Feb. 28, 2014
Feb. 28, 2013
CURRENT ASSETS:
Cash and cash equivalents
Certificates of deposit
Accounts receivable – trade
Accounts receivable – other
Note receivable
Current portion of investments in policies
Income tax overpayment
Deferred income taxes
Prepaid expenses
Total current assets
$
6,134,731
351,588
17,480
20,750
8,912
1,075,205
1,947,743
224,233
9,780,642
$
7,575,579
602,316
78,757
13,571
10,000
2,329,005
3,457,093
1,444,709
227,753
15,738,783
PROPERTY AND EQUIPMENT:
Land and building
Proprietary software
Furniture, fixtures and equipment
Transportation equipment
Accumulated depreciation
OTHER ASSETS:
Premium advances, net of allowance of $4,661,953 in 2014 and $4,315,633 in 2013
Long term portion of investments in policies
Investment in life settlements trust
Artifacts and other
Deferred income tax asset
Total other assets
Total assets
$
2,316,202
554,211
1,536,390
9,800
4,416,603
(2,502,647)
1,913,956
2,316,202
554,211
1,564,135
9,800
4,444,348
(2,323,506)
2,120,842
7,043,680
1,165,941
6,648,478
837,850
2,080,048
17,775,997
29,470,595
9,297,054
6,713,405
834,700
1,377,190
18,222,349
36,081,974
$
See the accompanying Summary of Accounting Policies and Notes to the Consolidated Financial Statements.
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
FEBRUARY 28, 2014 AND 2013
Page 2 of 2
LIABILITIES AND SHAREHOLDERS' EQUITY
Feb. 28, 2014
Feb. 28, 2013
CURRENT LIABILITIES:
Accounts payable
Accrued liabilities
Dividends payable
Accrued settlement expense
Deferred policy monitoring costs - current
Total current liabilities
$
908,963
353,604
936,788
45,499
638,373
2,883,227
$
1,591,395
371,426
1,869,195
74,122
451,482
4,357,620
LONG-TERM LIABILITIES:
Long-term portion of deferred policy monitoring costs
Income taxes payable
3,892,130
56,726
2,833,989
68,255
Total long-term liabilities
3,948,856
2,902,244
Total liabilities
6,832,083
7,259,864
SHAREHOLDERS’ EQUITY:
Common stock, $0.01 par value; 18,750,000 shares authorized; 18,647,468 shares issued and outstanding
Additional paid-in capital
Retained earnings
Less: Treasury stock – 102,532 shares as of February 28, 2014 and February 28, 2013
Total shareholders’ equity
Total liabilities and shareholders’ equity
$
187,500
11,423,054
11,413,022
(385,064)
22,638,512
29,470,595 $
See the accompanying Summary of Accounting Policies and Notes to the Consolidated Financial Statements.
34
187,500
11,423,054
17,596,620
(385,064)
28,822,110
36,081,974
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED FEBRUARY 28/29, 2014, 2013 AND 2012
REVENUES
BROKERAGE FEES
REVENUES, NET OF BROKERAGE FEES
OPERATING AND ADMINISTRATIVE EXPENSES:
$
General and administrative
Legal and professional fees
Premium advances, net
Impairment of investments in policies
Settlement costs
Depreciation
LOSS FROM OPERATIONS
Interest and other income
Interest expense
Income from assignment of income stream
Earnings from life settlement trust
Income from investments in policies
Loss on settlement of note receivable
Realized gain (loss) on investment securities
Total other income
LOSS BEFORE INCOME TAXES
INCOME TAX BENEFIT
NET LOSS
Loss per share Basic and Diluted
AVERAGE COMMON AND COMMON EQUIVALENT SHARES
OUTSTANDING:
Basic
Diluted
$
$
2014
15,686,239
11,688,419
3,997,820
$
2013
18,904,837
13,175,255
5,729,582
$
2012
32,922,189
21,207,759
11,714,430
8,477,444
3,211,799
931,304
297,610
12,511
211,574
13,142,242
(9,144,422)
7,813,970
3,713,536
1,526,547
745,402
(104,453)
253,190
13,948,192
(8,218,610)
7,778,958
6,522,221
1,363,915
906,451
613,374
266,150
17,451,069
(5,736,639)
83,961
(77)
5,254,500
114,886
94,735
5,548,005
(3,596,417)
(1,142,312)
(2,454,105) $
(0.13) $
187,036
(1,342)
458,377
3,716,225
(231,096)
22
4,129,222
(4,089,388)
(1,212,363)
(2,877,025) $
(0.15) $
536,365
(5,694)
28,807
809,218
(185,456)
1,183,240
(4,553,399)
(1,429,921)
(3,123,478)
(0.17)
18,647,468
18,647,468
18,647,468
18,647,468
18,647,468
18,647,468
(2,454,105) $
(2,454,105) $
0.20 $
(2,877,025) $
(2,877,025) $
0.40 $
(3,123,478)
89,912
(3,033,566)
THE COMPONENTS OF COMPREHENSIVE INCOME:
Net loss
Gain on investment securities, net of taxes
COMPREHENSIVE LOSS
Common share dividends declared
$
$
$
See the accompanying Summary of Accounting Policies and Notes to the Consolidated Financial Statements.
35
0.70
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED FEBRUARY 28/29, 2014, 2013 AND 2012
Balance, February 28, 2011
Dividends declared
Change in unrealized gains on
investment securities
Net loss
Balance, February 29, 2012
Dividends declared
Net loss
Balance, February 28, 2013
Dividends declared
Net loss
Balance, February 28, 2014
Number o f
Common
Shares
18,750,000
-
Common
Stock
$
187,500
-
Additional
Paid-In
Capital
$
11,423,054
-
18,750,000
18,750,000
-
187,500
187,500
-
11,423,054
11,423,054
-
18,750,000
$
187,500
$
Retained Earnings
$
44,114,389
(13,056,785)
11,423,054
Accumulated
Other
Comprehensive
Gain (Loss)
$
(89,912)
-
(3,123,478)
27,934,126
(7,460,481)
(2,877,025)
17,596,620
(3,729,493)
(2,454,105)
$
11,413,022
$
Number
of
Shares
102,532
-
89,912
-
102,532
102,532
-
-
102,532
Treasury Stock
$
(385,064)
-
$
(385,064)
(385,064)
(385,064)
See the accompanying Summary of Accounting Policies and Notes to the Consolidated Financial Statements.
36
Total
Shareholders’
Equity
$ 55,249,967
(13,056,785)
89,912
(3,123,478)
39,159,616
(7,460,481)
(2,877,025)
28,822,110
(3,729,493)
(2,454,105)
$
22,638,512
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LIFE PARTNERS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED FEBRUARY 28/29, 2014, 2013 AND 2012
2014
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss
Adjustments to reconcile net loss to operating activities:
$
Depreciation
Loss on disposal of property & equipment
Realized loss (gain) on investment securities
Impairment of investments in policies
Income from investments in policies
Earnings from life settlements trust
Deferred income taxes
Increase in allowance for premium advances
Income from assignment of income stream
Loss on settlement of note receivable
2013
2012
(2,454,105) $
(2,877,025) $
(3,123,478)
211,574
998
297,610
(94,735)
(114,886)
(1,205,892)
346,320
(5,254,500)
-
253,190
(22)
745,402
(3,716,225)
(458,377)
2,557,055
511,414
231,096
266,150
185,456
906,451
(809,218)
(28,807)
753,317
575,025
-
54,098
1,088
3,445,564
3,520
(3,150)
1,907,054
41,394
340,000
(1,659,388)
247,084
(2,591,934)
433,738
(2,767,111)
(378,174)
(1,287,358)
(682,432)
(17,822)
(28,623)
1,245,032
(2,343,287)
881,247
(233,873)
(345,170)
363,289
(5,710,843)
(1,455,319)
400,398
137,821
(196,585)
(6,387,694)
(250,000)
500,728
(5,686)
227,508
5,254,500
(47,695)
146,530
37,298
(298,844)
5,564,339
(501,468)
400,022
(93,798)
691,682
(609,371)
9,817,929
52,034
(369,611)
9,387,419
(111)
4,663,547
(47,291)
84,443
(190,782)
1,027,018
293,545
(769,835)
5,060,534
(Increase) decrease in operating assets:
Accounts receivable
Note receivable
Income taxes receivable (payable)
Prepaid expenses
Artifacts & other
Premium advances, net
Increase (decrease) in operating liabilities:
Accounts payable
Accrued liabilities
Accrued settlement expense
Deferred policy monitoring costs
Net cash used in operating activities
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment in certificates of deposit
Proceeds from certificates of deposit
Proceeds from sales of marketable securities
Purchases of property and equipment
Proceeds from life settlements trust
Proceeds from assignment of income stream
Investment in life settlements trust
Proceeds from sales of investments in policies
Maturities of investments in policies
Purchases of investments in policies and capitalized premiums
Net cash provided by investing activities
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends paid
Net cash used in financing activities
NET DECREASE IN CASH AND CASH EQUIVALENTS
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR
CASH AND CASH EQUIVALENTS, END OF YEAR
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid
Income taxes paid
$
(4,661,900)
(4,661,900)
(1,440,848)
7,575,579
6,134,731 $
(7,463,685)
(7,463,685)
(3,787,109)
11,362,688
7,575,579 $
$
$
77
54,319
1,342
366,620
$
$
See accompanying Summary of Accounting Policies and Notes to Consolidated Financial Statements.
37
$
$
(14,920,716)
(14,920,716)
(16,247,876)
27,610,564
11,362,688
5,694
634,866
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LIFE PARTNERS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
February 28, 2014 and 2013
(1) DESCRIPTION OF BUSINESS
Life Partners Holdings, Inc. (“we” or “Life Partners”) is a specialty financial services company and the parent company of Life Partners,
Inc. (“LPI”). LPI is the oldest and one of the most active companies in the United States engaged in the secondary market for life insurance known
generally as “life settlements”. LPI facilitates the sale of life insurance policies between the sellers and purchasers, but does not take possession or
control of the policies. The purchasers acquire the life insurance policies at a discount to their face value for investment purposes.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation. The accompanying Consolidated Financial Statements include the accounts of Life Partners and its wholly owned
subsidiary, LPI. All significant intercompany balances and transactions have been eliminated in consolidation. The Consolidated Financial
Statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). The preparation of
financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reported period in the normal course of business. Actual results inevitably will differ from those estimates and such differences
may be material to the financial statements.
Reclassifications. Certain reclassifications have been made to prior period amounts in order to conform to the current year presentation.
Property and Equipment. Our property and equipment are depreciated over their estimated useful lives using the straight-line method.
Depreciation expense for fiscal 2014, 2013 and 2012, was $211,574, $253,190 and $266,150, respectively. The useful lives of property and equipment
for purposes of computing depreciation are:
Building and components
Machinery and equipment
Software
Transportation equipment
7 to 39 years
5 to 7 years
3 to 7 years
5 years
Artifacts and Other. The artifacts and other assets are stated at cost. We have evaluated these assets and believe there is no impairment in
their value as of February 28, 2014 and 2013.
Impairment of Long-Lived Assets. We account for the impairment and disposition of long-lived assets in accordance with ASC 360-10,
Accounting for the Impairment or Disposal of Long-Lived Assets. We review the carrying value for impairment whenever events and circumstances
indicate that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual
disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss would be recognized
equal to an amount by which the carrying value exceeds the fair value of assets. The factors considered by management in performing this
assessment include current operating results, trends and prospects, the manner in which the property is used, and the effects of obsolescence,
demand, competition and other economic factors. Based on our analysis, Investments in Policies is the only balance sheet item that has been
impaired. During fiscal 2014, 2013 and 2012, we recorded impairments of $297,610, $745,402 and $906,451, respectively.
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Revenue Recognition. We recognize revenue at the time a settlement closes. We defer a portion of the revenue in recognition of minor
policy monitoring services provided after the settlement date, the costs of which are amortized over the anticipated life expectancy of the insureds.
This amount is shown as Deferred Policy Monitoring Costs within current and long-term liabilities on the balance sheet.
Income Taxes. We recognize deferred tax assets and liabilities for the expected future tax consequences of transactions and events. Under
this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Timing differences between the reporting of
income and expenses for financial statement and income tax reporting purposes are reported as deferred tax assets, net of valuation allowances, or
as deferred tax liabilities depending on the cumulative effect of all timing differences, recorded at amounts expected to be more likely than not
recoverable.
Earnings Per Share. Basic earnings per share computations are calculated on the weighted-average of common shares and common share
equivalents outstanding during the year, reduced by the treasury stock. Common stock options and warrants are considered to be common share
equivalents and are used to calculate diluted earnings per common and common share equivalents except when they are anti-dilutive.
Concentrations of Credit Risk and Major Customers. In fiscal 2014, 2013 and 2012, there was no compensation to a single licensee that
represented more than 10% of all brokerage and referral fees. In fiscal 2014, five brokers made referrals whose policy face values represented over
10% of our total business. Referrals from these five brokers accounted for 94.7% of our total business. In fiscal 2013, we had three brokers with 10%
or more of our total business, and who accounted for 54.7% of our total business. In fiscal 2012, we had two brokers with 10% or more of our total
business and they accounted for 24.3% of our total business.
(3) NEW ACCOUNTING PRONOUNCEMENTS
In July 2013, the FASB issued ASU 2013-11, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a
Similar Tax Loss, or a Tax Credit Carryforward Exists. The amendments in ASU 2013-11 provide guidance on the financial statement presentation
of unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. ASU 2013-11 is effective for
fiscal years beginning after December 15, 2013. We shall reflect the impact of these amendments beginning in the first quarter of fiscal 2015. We do
not anticipate a material impact on our Consolidated Financial Statements.
(4) CASH AND CASH EQUIVALENTS
For purposes of the consolidated balance sheets and statements of cash flows, we consider all highly liquid investments available for
current use with an original maturity of three months or less to be cash equivalents. The average balance of our operating checking account
balance is generally in excess of $250,000. The Federal Deposit Insurance Corporation (“FDIC”) currently insures all bank accounts up to $250,000.
Amounts in interest-bearing accounts in excess of $250,000, with the exception of amounts in FDIC sweep accounts, are at risk to the extent that
their balances exceed FDIC coverage. Money market investments generally do not have FDIC protection. We believe we have mitigated our
exposure to loss with deposits in a combination of five smaller, community banks and four of the largest national financial institutions.
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(5) CERTIFICATES OF DEPOSIT
Two certificates of deposit with an original maturity of greater than three months, but less than a year, are held in separate banking
institutions at February 28, 2014. One of these certificates of deposits matured in February 2014. It was replaced by a new certificate of deposit at
this same banking institution and it has an original maturity of greater than three months, but less than a year. A second certificate of deposit with
an original maturity of greater than three months, but less than a year, was held in a separate banking institution at February 28, 2014. Both
certificates of deposit are within the FDIC insurance limit at February 28, 2014.
(6) ACCOUNTS RECEIVABLE – TRADE
The amounts shown on the consolidated balance sheets termed Accounts Receivable – Trade are amounts representing non-interest
bearing advances to facilitate a settlement transaction. We collect the advances generally within 30 days after the transactions close, and we
receive payment before any of the parties involved in the transaction receive funds. Our business model does not use leverage, which minimizes
issues of collectability or adverse effects due to the credit environment. The receivable amounts at February 28, 2014 and 2013 were $17,480 and
$78,757, respectively.
(7) NOTE RECEIVABLE
The amounts of $8,912 and $10,000 shown on the consolidated balance sheets at February 28, 2014 and 2013, respectively, termed Note
Receivable represent a note from a non-related person dated January 28, 2013, due April 28, 2013, at 5% annual interest. The note is currently past
due and unpaid, with the exception of one partial payment made through collection efforts. We continue to try to collect on this note. During fiscal
2013, we settled a judgment on a note for $350,000 resulting in a loss of $231,096. The loss is shown on the consolidated statement of operations for
the period.
(8) PREMIUM ADVANCES
We occasionally make advances on policy premiums to maintain certain policies. In the life settlements we broker, estimated future
premium amounts are escrowed with a trust company. When the future premium amounts in escrow are exhausted, purchasers are contractually
obligated to pay the additional policy premiums. Most purchasers pay the premiums. In some instances, purchasers have failed to pay the
premiums and we have acquired the policy or advanced the premiums to maintain the policies. While we have no contractual or other legal
obligation to do so, and do not do so in every instance, we have made premium advances as an accommodation and to preserve business goodwill.
In these instances, we pay the premiums to the trust company. By making the advance, we have a contractual right to reimbursement from policy
proceeds before the proceeds are distributed to the purchaser. Although we expect ultimate repayment, we make estimates of the collectability of
these premium advances.
The table below shows the changes in the premium advances account.
Total premium advance balance at February 29, 2012
Advances
Reimbursements and adjustments
Total premium advance balance at February 28, 2013
Advances
Reimbursements and adjustments
Total premium advance balance at February 28, 2014
Allowance for doubtful accounts
Net premium advance balance at February 28, 2014
$
$
40
11,020,753
5,643,983
(3,052,049)
13,612,687
4,331,344
(6,238,398)
11,705,633
(4,661,953)
7,043,680
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(9) INVESTMENTS IN POLICIES
From time to time, we acquire interests in policies to hold for investment purposes. ASC 325-30, Investments in Insurance Contracts,
provides that a purchaser may elect to account for its investments in life settlement contracts based on the initial investment at the purchase price
plus all initial direct costs. Continuing costs (e.g., policy premiums, statutory interest and direct external costs, if any) to keep the policy in force are
capitalized. We have historically elected to use the investment method and refer to the recorded amount as the carrying value of the policies.
The table below describes the Investments in Policies account at February 28, 2014.
Number of Interests
in Life
Settlement Contracts
1 $
18
1
7
5
178
210 $
Policies With Remaining
Life Expectancy
(in years)
0-1
1-2
2-3
3-4
4-5
Thereafter
Total of all policies
Carrying
Value
3,506
300,866
12,590
303,684
1,102,156
518,344
2,241,146
Face
Value
$
$
18,182
1,030,059
103,345
690,786
2,078,086
2,923,413
6,843,871
Before fiscal 2004, our business model focused on viatical settlements, in which the insured is terminally ill. At that time, most viaticals
involved insureds with HIV. Subsequent advances in medical science and health care greatly extended the life expectancies of these insureds, and
we and the industry switched to life settlements. In fiscal 2004, we began facilitating the purchase of life settlements for our clients and by fiscal
2006, life settlements constituted the majority of transactions we facilitated. The bulk of policies we own that have exceeded life expectancy are
viaticals. Actual maturity dates in any category may vary significantly (either earlier or later) from the remaining life expectancies reported above.
We evaluate the carrying value of our investments in policies on a regular basis and adjust our total basis in the policies using new or
updated information that affects our assumptions about remaining life expectancy, credit worthiness of the policy issuer, funds needed to maintain
the asset until maturity, discount rates and potential return. We recognize impairment on individual policies if the expected undiscounted cash flows
are less than the carrying amount of the investment, plus anticipated undiscounted future premiums and capitalizable direct external costs, if any.
Impairment of policies is generally caused by the insured significantly exceeding the estimate of the original life expectancy, which causes the
original policy costs and projected future premiums to exceed the estimated maturity value. We recorded $297,610, $745,402 and $906,451 of
impairment for fiscal 2014, 2013 and 2012, respectively. The fair value of the impaired policies at February 28, 2014 and 2013, was $752,713 and
$46,110, respectively.
Estimated premiums to be paid for each of the five succeeding fiscal years to keep the policies in force as of February 28, 2014, are as
follows:
Year 1
Year 2
Year 3
Year 4
Year 5
Thereafter
Total estimated premiums
$
$
41
247,152
328,994
278,148
237,983
216,352
1,623,554
2,932,183
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The majority of our Investments in Policies were acquired as part of regulatory settlement agreements and purchases from existing clients,
which we refer to as tertiary purchases. We do not currently have a strategy of buying large amounts of policies for investment purposes. Since the
purchases for our own account are motivated generally by settlements and tertiary purchases, our purchases do not materially affect the supply of
available policies in the secondary market. The risks that we might experience as a result of investing in policies are an unknown remaining life
expectancy, a change in credit worthiness of the policy issuer, funds needed to maintain the asset until maturity, and changes in discount rates.
We sold a portion of our Investments in Policies (viaticals) to an unrelated party in fiscal 2013 for $3,829,849. Also in fiscal 2013, we sold a
portion of our Investments in Policies (life settlements) to various unrelated buyers for $5,988,080. A portion of the remainder of the carrying value
of the investments, $1,075,205, net of impairment, is classified as a current asset, as we anticipate selling this policy interest within the next twelve
months. The remainder is classified as held for long term.
(10) INVESTMENT IN LIFE SETTLEMENTS TRUST
The amount shown on the balance sheet termed “Investment in Life Settlements Trust” is an investment in an unaffiliated corporation, Life
Assets Trust, S.A., a Luxembourg joint stock company (the “Trust”), which was created for the acquisition of life settlements. As of February 28,
2014 and 2013, we owned approximately 19.9% of the Trust, carried at $6.6 million and $6.7 million, respectively, and accounted for on the equity
method of accounting. At February 28, 2014, we believe the Trust owned a portfolio of 228 life insurance settlements with a face value of $610.5
million, of which LPI supplied settlements with a face value of approximately $278 million. During fiscal 2014, 2013 and 2012, the Trust distributed to
us $229,508, $691,682, and $84,443, respectively.
In May 2013, we entered into Assignments of Right to Receive Future Payments (the “Assignments”) with four unaffiliated, accredited
investors (the “Assignees”), in which we assigned our right to receive distributions from the Trust, subject to a retained reversionary interests, in
exchange for $5,650,000. Our reversionary interest is triggered when the Assignees receive cumulative payments of $9,411,667, if the payments have
provided an annually compounded rate of return of 12% or more. If the Assignees have not received the required return, they will continue to
receive payments until they receive the 12% return. The Assignees are each private investors, who have purchased life settlements from us
previously. Apart from these purchases, they have no affiliation with us or our directors or officers. A referral fee of $395,000 was paid to an
unaffiliated individual in connection with the Assignments.
We subsequently learned that a German bank, which had loaned the Trust funds for policy acquisitions, would not renew its loan and was
seeking repayment. The Trust was unsuccessful in its attempts to refinance the loan and to negotiate a settlement with the bank. The bank has
declared the loan in default and has instituted proceedings to foreclose its security interest in the Trust’s assets and take the assets in satisfaction
of the loan. We, along with the other limited partners and general partners of the Trust, have retained legal counsel to represent our interests. We
believe the Trust will be successful in retaining its ownership of the Trust’s assets, and that the carrying balance and our investment will be fully
realized. We have considered the potential impairment of the investment and believe no impairment to the investment value is warranted because
we do not currently believe a loss is probable.
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(11) LEASES
We lease office equipment under non-cancelable operating leases expiring in various years through 2016.
Minimum future rental payments under non-cancelable operating leases having remaining terms in excess of one year as of February 28,
2014, for each of the next five years and in the aggregate are as follows:
2014
2015
2016
Thereafter
Total minimum future rental payments
$
32,688
13,116
1,510
47,314
$
Rental expense was $84,766, $90,226 and $97,158 for fiscal 2014, 2013 and 2012, respectively.
Certain operating leases provide for renewal and/or purchase options. Generally, purchase options are at prices representing the expected
market value of the property at the expiration of the lease term. Renewal options are for periods of one year at the rental rate specified in the lease.
(12) INCOME TAXES
Total income tax benefit was allocated for the fiscal 2014, 2013 and 2012, as follows:
Income tax benefit
$
2014
(1,142,312) $
2013
(1,212,363) $
2012
(1,429,921)
Income tax benefit was made up of the following components at the year end of fiscal 2014, 2013 and 2012:
2014
Current tax (benefit) expense
Deferred tax expense (benefit)
Total income tax benefit
$
63,580 $
(1,205,892)
(1,142,312) $
$
2013
(3,769,418) $
2,557,055
(1,212,363) $
2012
(2,183,238)
753,317
(1,429,921)
Income tax expense differed from amounts computed by applying the Federal income tax rate to pre-tax earnings for fiscal 2014, 2013 and
2012, as a result of the following:
2014
United States statutory rate
State income taxes
Permanent differences
Valuation allowance
Combined effective tax rate
2013
35.0%
(1.0)%
(1.5)%
(0.8)%
31.7%
2012
35.0%
(1.1)%
(4.2)%
29.7%
35.0%
(1.1)%
(2.5)%
31.4%
The tax effects of temporary differences that gave rise to significant portions of the deferred tax assets and deferred tax liabilities were as
follows:
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Feb. 28, 2014
Deferred tax assets:
Impairment of investments in policies
Premium advances allowance
Deferred policy monitoring costs
Capital loss carryover
Net operating loss
Charitable contributions
Contingency costs
Compensated absences
State taxes
$
Feb. 28, 2013
Valuation allowance
Net deferred tax assets
388,676 $
1,631,684
1,585,675
672,115
335,930
353,380
15,924
35,842
672
5,019,898
(672,115)
4,347,783
305,251
1,510,472
1,128,832
672,115
283,730
25,942
26,066
23,889
3,976,297
(643,403)
3,332,894
Deferred tax liabilities:
Settlement costs
Depreciation
Prepaid expenses
Unrealized revenues and brokerage fees
Loss on investment in trust
Net deferred tax liabilities
Total deferred tax asset, net
(46,169)
(61,879)
(43,750)
(154,854)
(13,340)
(319,992)
4,027,791 $
(53,867)
(90,327)
(43,750)
(309,711)
(13,340)
(510,995)
2,821,899
1,947,743
2,080,048
4,027,791
1,444,709
1,377,190
2,821,899
$
Summary of deferred tax assets:
Current
Non-current
Total deferred tax asset, net
$
$
$
$
Income Tax Overpayment. As a result of our operating loss for fiscal 2013, we recorded an income tax receivable for overpayment of
Federal income taxes in prior year. We received a Federal income tax refund of $3,507,242 in the Fourth Quarter of this year resulting from the
operating loss for fiscal 2013.
Valuation Allowance. At February 28, 2014 and 2013, we had a valuation allowance of $672,115, and $643,403, respectfully, for capital
losses resulting from other-than-temporary impairments. This amount represents capital losses that we will not be able to deduct until we have
corresponding capital gains to apply the losses against.
Accounting for Uncertainty in Income Taxes. In determining our tax positions, we follow the FASB’s ASC 740. Under the FASB’s ASC 740,
evaluation of a tax position is a two-step process. The first step is to determine whether it is more likely than not that a tax position will be sustained
upon examination, including the resolution of any related appeals or litigation based on the technical merits of that position. The second step is to
measure a tax position that meets the more-likely-than-not threshold to determine the amount of benefit to be recognized in the financial statements.
A tax position is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement.
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Tax Examination. The Internal Revenue Service is currently examining our Federal income tax returns for fiscal 2010, 2011, 2012 and 2013
and our Form 1042 for calendar year 2010. We currently believe that our tax positions taken in these returns will be sustained and the benefits
recognized in all material respects. With few exceptions, we are no longer subject to Federal, state or local examinations by tax authorities for fiscal
2009 and earlier.
(13) COMPREHENSIVE INCOME, SHAREHOLDERS’ EQUITY, STOCK TRANSACTIONS AND COMMON STOCK OPTIONS
Comprehensive loss for fiscal 2014, 2013 and 2012, was $(2,454,105) $(2,877,025), and $(3,033,566), respectively. Basic and diluted loss per
share for comprehensive loss for fiscal 2014, 2013 and 2012, net of tax, were $(0.13), $(0.15), and $(0.16), respectively.
Dividends. There are no formal restrictions that materially limit, or are reasonably expected to materially limit, our ability to pay dividends.
We declared and paid dividends on a quarterly basis and in the amounts as set forth in the following table:
Date Declared
01/06/11
01/21/11
05/04/11
08/11/11
11/23/11
02/27/12
03/23/12
08/08/12
12/03/12
02/25/13
06/04/13
09/06/13
12/17/13
03/04/14
Date Paid
02/15/11
03/15/11
06/15/11
09/15/11
12/15/11
03/15/12
06/15/12
09/26/12
12/17/12
03/15/13
06/15/13
09/17/13
01/03/14
03/18/14
Dividend Amount
$
$
$
$
$
$
$
$
$
$
$
$
$
$
0.04
0.20
0.20
0.20
0.20
0.10
0.10
0.10
0.10
0.10
0.05
0.05
0.05
0.05
We had no share based awards that were granted, modified or outstanding for fiscal 2014, 2013 and 2012, and as a result, we had no share
based compensation expense in any year.
Treasury Stock. We have 102,532 shares that are held in treasury. No treasury share purchases were made in fiscal 2014, 2013 or 2012. The
treasury shares are excluded from all calculations of shares outstanding, including the Statements of Shareholders’ Equity and the non-affiliated
market value calculation.
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(14) FAIR VALUE MEASUREMENTS
ASC 820, Fair Value Measurements and Disclosures, addresses how companies should measure fair value when they are required to use a
fair value measure for recognition or disclosure purposes under GAAP. ASC 820 defines fair value, establishes a framework for measuring fair value
and expands disclosures about fair value measurements.
We determined the fair values of our financial instruments based on the fair value hierarchy established in ASC 820, which requires an
entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard defines fair
value, describes three levels of inputs that may be used to measure fair value, and expands disclosures about fair value measurements.
The term inputs refers to the assumptions that market participants use in pricing the asset or liability. ASC 820 distinguishes between
observable inputs and unobservable inputs. Observable inputs reflect the assumptions market participants would use in pricing the asset or
liability based on market data obtained from independent sources. Unobservable inputs reflect an entity’s own assumptions about the assumptions
market participants would use in pricing the asset or liability. ASC 820 indicates that valuation techniques should maximize the use of observable
inputs and minimize the use of unobservable inputs. ASC 820 establishes a fair value hierarchy that prioritizes the inputs used in valuation
techniques and creates the following three broad levels, with Level 1 being the highest priority:

Level 1 inputs: Level 1 inputs are quoted market prices in active markets for identical assets or liabilities that are accessible at the
measurement date (e.g., equity securities traded on the New York Stock Exchange).

Level 2 inputs: Level 2 inputs are from other-than-quoted market prices included in Level 1 that are observable for the asset or liability,
either directly or indirectly (e.g., quoted market prices of similar assets or liabilities in active markets, or quoted market prices for identical
or similar assets or liabilities in markets that are not active).

Level 3 inputs: Level 3 inputs are unobservable (e.g., a company’s own data) and should be used to measure fair value to the extent that
observable inputs are not available.
Our financial assets and liabilities are certificates of deposit, accounts receivable, note receivable, investments in policies, investment in
life settlements trust, accounts payable and accrued liabilities. The recorded values of certificates of deposit, accounts receivable, accounts
payable, and accrued liabilities approximate their fair values based on their short-term nature and are discussed in Notes 5 through 7. The recorded
value of the note receivable is the original note amount plus accrued interest. The investment in the Trust is accounted for using the equity method
of accounting and is recorded at our investment account balance. The investment’s fair value is not readily determinable; it is discussed in Note 10.
The carrying value of our investments in policies totaled $2,241,146, which includes $563,898 of capitalized premiums, and has an estimated
fair value, net of the present value of estimated premiums, of $1,737,197. Fair value of the investments in policies was determined using
unobservable Level 3 inputs and was calculated by performing a net present value calculation of the face amount of the life policies less premiums
for the total portfolio. The unobservable Level 3 inputs use new or updated information that affects our assumptions about remaining life
expectancy, credit worthiness of the policy issuer, funds needed to maintain the asset until maturity, and discount rates. The investments in policies
are discussed more fully in Note 9. A progression of the Level 3 inputs is shown in the table below:
Balance at February 28, 2013
Purchases of policies
Maturities of policies
Sales of policies
Change in valuation
Estimated Fair Value at February 28, 2014
$
$
46
1,184,346
(8,574)
(15,016)
(24,686)
601,127
1,737,197
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(15) RELATED PARTY TRANSACTIONS
We currently operate under an agreement with ESP Communications, Inc. (“ESP”), which is owned by the spouse of our Chairman and
CEO. Under the agreement, ESP performs certain post-settlement services for us, which include periodic contact with insureds and their health care
providers, monthly record checks to determine an insured’s status, and working with the outside escrow agent in the filing of death claims. Either
party may cancel the agreement with a 30-day written notice. We currently pay ESP $7,500 on a semi-monthly basis for its services. We recorded
management services expense concerning this agreement with ESP of $180,000 in each of fiscal 2014, 2013 and 2012.
We periodically use an aircraft owned by our Chairman and CEO and reimburse him for the incremental costs of our use, as described in
applicable Federal Aviation Administration regulations (FAA Part 91, subpart F). We believe the reimbursed cost is well below the fair rental value
for such use. In fiscal 2014, 2013 and 2012, we reimbursed costs of $509,962, $452,424, and $422,057, respectively, for such use. We also periodically
used a motoryacht owned by our Chairman and CEO and reimbursed him for the direct costs of our use. We believe the reimbursed cost was well
below the fair rental value for such use. This yacht was sold in the Fourth Quarter of fiscal 2013, so we have had no reimbursed costs in fiscal 2014.
In fiscal 2013 and 2012, we reimbursed costs of $29,709, and $136,497, respectively, for such use. There was an accounts payable due to the
Chairman and CEO of $125,876 as of February 28, 2013, which arose from the aircraft use. Nothing was owed to him as of February 28, 2014.
During the second half of fiscal 2014, we began acquiring and reselling defaulted positions, as provided in the policy funding agreement.
A portion of these policies was resold to Paget Holdings Limited, which is affiliated with the Pardo Family Trust, of which Deborah Carr, our Vice
President of Administration, is the beneficiary. Deborah Carr is the daughter of Brian Pardo, our Chairman and CEO. In fiscal 2014, we received
$642,651 of recovered premiums and $1,276,752 of fee income in sales to Paget. Paget paid the same fixed percentage paid by other third parties. In
fiscal 2014, the aggregate above mentioned sales generated fee income of $2,314,888, net of premium reimbursements, and premium reimbursements
of $950,109.
(16) CONTINGENCIES
On January 3, 2012, we and certain current directors and current and former officers were sued by the SEC in an action styled Securities
and Exchange Commission v. Life Partners Holdings, Inc., Brian D. Pardo, R. Scott Peden and David M. Martin, Civil Action No.: 6:12-CV-00002.
The suit was filed in the Federal District Court for the Western District of Texas (Austin Division) and alleged that we, our Chairman and CEO, Brian
Pardo, General Counsel, Scott Peden, and former Chief Financial Officer, David Martin, had knowledge of, but failed to disclose to our shareholders,
the alleged underestimation of the life expectancies of settlors of viatical and life settlement policies. The suit further claimed that we prematurely
recognized revenues from the sale of the settlements and that we understated the impairment of our investments in policies. The suit also claimed
that Mr. Pardo and Mr. Peden sold shares while possessing inside information (i.e., the alleged knowledge of the underestimation of life
expectancies and the purported impact on revenues from such practice). In addition, the suit alleged that the defendants misled the auditors about
our revenue recognition policy.
Trial before a jury was held in February 2014. The jury found that neither we, Mr. Pardo nor Mr. Peden committed securities fraud under
Section 10(b) of the Exchange Act and Rule 10b-5 and that Mr. Pardo and Mr. Peden did not engage in insider trading. In March 2014, the Federal
court ruled that the SEC failed to prove any of its fraud claims against us, Mr. Pardo and Mr. Peden under Section 17 of the Securities Act of 1933
(the “Securities Act”), finding that there was no evidence to support the allegations related to revenue recognition for the period of time in
question and ordered that judgment be entered in favor of us, Mr. Pardo and Mr. Peden on that issue. As a result of this ruling, the Company, Mr.
Pardo and Mr. Peden were completely exonerated from any allegations of fraud alleged by the SEC.
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The Court let stand the jury's findings against us, Mr. Pardo and Mr. Peden for violations of various revenue recognition matters.
However, the court ultimately ruled there was no evidence of fraud.
In February and March of 2011, six putative securities class action complaints were filed in the U.S. District Court for the Western District
of Texas, Waco Division. On July 5, 2011, these actions were consolidated into the case styled Selma Stone, et al. v. Life Partners Holdings, Inc.,
Brian D. Pardo, R. Scott Peden, and David M. Martin , Civil Action No. DR-11-CV-16-AM in the U.S. District Court for the Western District of
Texas, Del Rio Division. On February 10, 2012, plaintiffs filed their first amended complaint alleging the same claims that were asserted in the prior
complaint. In the amended complaint, plaintiffs assert substantially similar, and at times identical, facts and allegations to those asserted by the SEC
in its complaint. Plaintiffs seek damages and an award of costs on behalf of a class of shareholders who purchased or otherwise acquired our
common stock between May 26, 2006, and June 17, 2011. On March 26, 2012, defendants filed their motion to dismiss the amended complaint. The
court denied defendants’ motion to dismiss on March 15, 2014. With the ruling on the motion to dismiss, we anticipate that the parties will now
commence discovery. No trial date has been set.
We, our directors, and certain present and former officers were named as defendants in a shareholder derivative suit, which is based
generally on the same alleged facts as the putative class action suits. On June 1, 2011, Gregory Griswold filed, in the United States District Court for
the Western District of Texas, Waco Division, a shareholder derivative complaint styled Gregory Griswold, Derivatively on Behalf of Life Partners
Holdings, Inc. v. Brian D. Pardo, R. Scott Peden, David M. Martin, Tad M. Ballantyne, Fred Dewald, Harold E. Rafuse, & Nina Piper, and Life
Partners Holdings, Inc. as a Nominal Defendant, Case Number 6:11-CV-00145. On June 9, 2011, Harriet Goldstein filed a second derivative complaint
in the United States District Court for the Western District of Texas, Waco Division, styled Harriet Goldstein, Derivatively on Behalf of Life
Partners Holdings, Inc. v. Brian D. Pardo, R. Scott Peden, David M. Martin, Tad M. Ballantyne, Fred Dewald, Harold E. Rafuse, & Nina Piper,
and Life Partners Holdings, Inc. as a Nominal Defendant, Case Number 6:11-CV-00158. The Goldstein and Griswold and another similar case were all
consolidated in the Del Rio Division under Consolidated Case Number 2:11-CV-00043. On August 18, 2011, Griswold and another plaintiff, Steven
Zackian, filed a consolidated and amended complaint asserting claims of breach of fiduciary duty, gross mismanagement, and unjust enrichment.
This complaint dropped Goldstein as a plaintiff. The complaint alleges that the defendants breached their fiduciary duties to us (the company)
through the use of excessive life expectancies and incorrect accounting practices. The complaint also claimed that the defendants caused us to pay
“abnormally large dividends” for the benefit of Pardo; and the defendants subjected us to “adverse publicity” as well as lawsuits and regulatory
investigations. The complaint also claims that Pardo and Peden had “used their knowledge of Life Partners’ material, non-public information to sell
their personal holdings while [our] stock was artificially inflated,” and that the Audit Committee had failed to exercise proper oversight. On
December 20, 2011, the independent directors filed an amended motion to dismiss all claims in the complaint, based on the findings of their
investigation in response to plaintiffs’ demands. The plaintiffs have conducted limited discovery in response to the motion to dismiss and filed
their response on July 15, 2013. A hearing on the motion to dismiss was held in November 2013. On May 7, 2014, the court issued an order and
notice of conversion of the motion to dismiss to a motion for summary judgment and ordered the parties to submit additional materials and briefs in
support of or opposition to a motion for summary judgment. A hearing date for the motion for summary judgment has not been set.
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Six putative class action complaints were filed during 2011 on behalf of purchasers of life settlement interests through Life Partners, Inc.
All of these suits were consolidated on June 23, 2011, under the case styled Turnbow et al. v. Life Partners, Inc., Life Partners Holdings, Inc., Brian
D. Pardo, and R. Scott Peden, Civil Action No. 3:11-CV-1030-M. On August 25, 2011, the plaintiffs filed their consolidated class action complaint,
alleging claims of breach of fiduciary duty against LPI, aiding and abetting breach of fiduciary duty against us, Pardo and Peden, breach of contract
against LPI, and violation of California Unfair Competition Law by LPI, Pardo, and Peden. All of the plaintiffs’ claims arose out of the alleged
provision of underestimated life expectancies by Dr. Cassidy to LPI and LPI’s use thereof in the facilitation of life settlement transactions in which
the plaintiffs acquired interests in life insurance policies. On July 9, 2013, the Federal court issued an order denying class certification. On December
2, 2013, plaintiffs filed a motion for voluntary dismissal without prejudice and a general release by the plaintiffs releasing all defendants from all
claims brought in the action. On the same day, the Court issued an order dismissing the action. Copies of the dismissing documents can be found
at: http://www.lphi.com/doc/Release_20131203.pdf. Because this action was dismissed voluntarily by the plaintiffs, we consider this matter to be
concluded. On March 11, 2011, a purported class action suit was filed in the 191st Judicial District Court of Dallas County, Texas, styled Helen Z.
McDermott, Individually and on Behalf of all Others Similarly Situated v. Life Partners, Inc., Cause No. 11-02966. The original petition asserted
claims for breach of contract, breach of fiduciary duty, and unjust enrichment on behalf of a putative class of all persons residing in the United
States who purchased any portion of a life settlement that matured earlier than the estimated maximum life expectancy. Pursuant to three
amendments to the Petition, the plaintiff revised the putative class of persons on whose behalf the plaintiff seeks to represent to be limited to all
persons residing in the United States who purchased any portion of one particular life settlement. The plaintiff seeks as purported damages the
amount of funds placed in escrow for policy maintenance that was allegedly not needed or used for policy maintenance and was not returned or
paid to the plaintiff or the putative class members as well as attorneys’ fees and costs. The plaintiff also seeks certain equitable relief, including
injunctive relief, restitution, and disgorgement. Following briefing by the parties and a hearing before the court, the court certified a class
consisting of 38 persons residing in the United States that purchased any portion of a life settlement interest in the designated policy. On December
4, 2012, LPI filed a notice of appeal of the district court’s order certifying class with the Fifth District Court of Appeals, Dallas, Texas, which
automatically stayed the underlying case until resolution of the appeal. Appellate briefing has been completed by the parties and the Court has
heard oral arguments. The Court has not issued a ruling.
On March 14, 2011, a putative class action suit was filed in the 14t h Judicial District Court of Dallas County, Texas, styled Michael Arnold
and Janet Arnold v. Life Partners, Inc., Life Partners Holdings, Inc., and Abundant Income, Cause No. 11-02995. The plaintiffs ultimately amended
their petition several times, adding additional named plaintiffs, and dismissing us (but not LPI) with prejudice. The plaintiffs asserted two causes of
action. The first claim asserted that defendants violated the registration provisions of the Texas Securities Act because the life settlements
facilitated by LPI were securities and were not registered. The second claim asserted that defendants committed fraud under the Texas Securities
Act because they represented that the life settlements were not securities. LPI answered and filed counterclaims against the plaintiffs for the filing
of a frivolous lawsuit. On September 26, 2011, the Court entered an order granting LPI’s motion for partial summary judgment. The motion was
based on, among other arguments, the arguments that the life settlements had previously been held not to be securities under Federal and state law.
As a result of the court order, the plaintiffs’ claims against LPI were dismissed with prejudice. Plaintiffs appealed the Court’s decision dismissing
their claims to the Fifth District Court of Appeals, Dallas, Texas. On August 28, 2013, the Fifth District Court of Appeals, Dallas, Texas, in Arnold v.
Life Partners, Inc., 5th Dist. Texas Ct. of App., No. 05-12-00092-CV reversing the trial court’s order granting our motion for summary judgment and
held that LPI’s life settlements are securities under the Texas Securities Act. The Court of Appeals affirmed the trial court’s order granting
defendants’ motion for summary judgment on some, but not all, of the individual plaintiffs’ claims that were barred by the statute of limitations
under the Texas Securities Act. The ruling that the life settlements are securities conflicts with the decision by the Federal Circuit Court for the
District of Columbia which ruled in SEC v. Life Partners, Inc. that our transactions are not securities under Federal law, and conflicts with the 2004
Waco Court of Appeals decision in Griffitts v. Life Partners, Inc., that the settlements were not securities under Texas law. We strongly disagree
with the court’s analysis and conclusions and note that the decision conflicts with the above-referenced cases as well as a Travis County, Texas
District Court case, in each of which LPI had prevailed and in which the courts had held that the life settlements were not securities. On March 24,
2014, we appealed the decision to the Texas Supreme Court seeking a review and reversal of the Court of Appeal’s decision that LPI’s life
settlements are securities. We have asked that, if the prior decision is allowed to stand, the Court of Appeal’s decision be given prospective effect
only, rather than retroactive effect, which could allow plaintiffs, as well as other purchasers of life settlements through LPI, to seek rescission of
their purchases. Briefing for review before the Texas Supreme Court is ongoing. If the prior decision is upheld, it could result in a material adverse
effect on our operations and require substantial changes in our business model.
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On April 8, 2011, a putative class action complaint was filed in the 40t h Judicial District Court of Ellis County, Texas, styled John
Willingham, individually and on behalf of all other Texas citizens similarly situated, v. Life Partners, Inc., Cause No. 82640 (MR). On July 27, 2011,
by agreement of the parties, the Willingham case was transferred to the 101st Judicial District Court of Dallas County under Cause No. DC-1110639. On January 22, 2013, a petition was filed in the 162nd Judicial District Court, Dallas County, Texas, styled Stephen Eccles, et al vs. Life
Partners, Inc., Life Partners Holdings, Inc., Brian D. Pardo and R. Scott Peden on behalf of 23 individuals, all of whom were represented by the
same counsel for the plaintiff in the Willingham case. On March 20, 2013, the parties filed a joint motion to consolidate the Eccles case with the
Willingham case, which was granted on March 25, 2013. In the current pleadings, plaintiffs assert individual claims of breach of fiduciary duty,
common law fraud, civil conspiracy, aiding and abetting breach of fiduciary duty and common law fraud, and negligence against us, LPI, Pardo and
Peden. The plaintiff seeks economic and exemplary damages, disgorgement and/or fee forfeiture, attorneys’ fees and costs, and post and prejudgment interest. On April 9, 2013, an original petition was filed in the 352nd Judicial District Court, Tarrant County, Texas, styled Todd McClain, et
al v. Life Partners, Inc., Life Partners Holdings, Inc., Brian D. Pardo, and R. Scott Peden. This suit is virtually identical to the Willingham case. On
May 15, 2013, the defendants filed a motion to transfer the McClain and Willingham cases to a Multi-District Litigation Panel for the purposes of
transferring and consolidating the Willingham case and the McClain case to a single forum for pretrial purposes. On August 16, 2013, the
Multidistrict Litigation Panel issued an opinion granting the motion to transfer, and on September 9, 2013, the Panel issued an Order transferring the
McClain case to Judge Slaughter of the 191st District Court of Dallas County and consolidating the McClain case (and any tag along cases
subsequently filed) with the Willingham case. The consolidated MDL case is styled In re Life Partners, Inc. Litigation (the “MDL Proceedings”).
In the MDL Proceedings, all of plaintiffs’ claims are based upon the alleged failure to engage in “premium optimization,” as well as the alleged
provision of underestimated life expectancies by Dr. Donald Cassidy to LPI and LPI’s use in the facilitation of life settlement transactions in which
plaintiffs acquired interests in life insurance policies. Plaintiffs seek economic and exemplary damages, disgorgement and/or fee forfeiture,
attorneys’ fees and costs, and post and pre-judgment interest. On August 9, 2013, the Court entered a scheduling order setting a bellwether trial
consisting of ten plaintiffs, five selected by plaintiffs and five selected by defendants, with the remaining plaintiffs trying their claims in groups of
16 approximately 90 days after the conclusion of each trial. The parties are currently engaged in discovery and the bellwether trial is set for
September 29, 2014.
On November 8, 2011, a putative class action suit was filed, styled Marilyn Steuben, on behalf of herself and all other California citizens
similarly situated v. Life Partners, Inc., Superior Court of the State of California for the County of Los Angeles Court, Case No. BC472953. This suit
asserts claims of fiduciary duty, breach of contract, and violations of California’s Unfair Competition law based upon the alleged overpayment of
premiums to the insurance company, that is, the alleged failure to engage in “premium optimization. On December 3, 2012, the plaintiffs filed their
motion to intervene in the Turnbow case whereby the plaintiffs sought to join the putative Turnbow class and subclass and to create a new
subclass asserting claims for damages related to the defendants’ alleged overpayment of premiums. The Federal District Judge in the Turnbow case
denied the plaintiffs’ motion to intervene on February 5, 2013 and Turnbow was voluntarily dismissed in December 2013. On January 29, 2014, the
parties filed a joint status report with the court, and on February 5, 2014, the court stayed the case pending resolution of the Willingham suit, which
is now set for trial in September 29, 2014. Another joint status update is due June 5, 2014.
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On August 16, 2012, a verified petition and application for temporary restraining order, temporary and permanent injunction, appointment
of receiver and other relief was filed in the 201st Judicial District Court of Travis County, Texas, styled The State of Texas v. Life Partners Holdings,
Inc., Life Partners, Inc., Brian Pardo, and R. Scott Peden, Defendants, and Advance Trust & Life Escrow Services, L.T.A., Purchase Escrow
Services, LLC, Pardo Family Holdings, Ltd., Dr. Donald T. Cassidy, and American Stock Transfer & Trust Company, Relief Defendants. The suit
sought a temporary restraining order preventing us and LPI from doing business and appointment of receiver based generally on allegations that
the life settlements facilitated by us are securities under Texas law and that we made various misrepresentations in the sale of the life settlements,
including misrepresentations about the life expectancies of the insureds. At the conclusion of the evidentiary hearing held September 24 and 25,
2012, the Court ruled that the life settlement transactions that we facilitate are not securities under Texas law. On January 8, 2013, the Court issued a
final judgment dismissing all of the plaintiff’s claims with prejudice. The Attorney General appealed the ruling to the Third Court of Appeals,
Austin, Texas. On February 25, 2014, the Third Court of Appeals issued a ruling that adopted the ruling by the Fifth Court of Appeals in the Arnold
case and held that our transactions are securities under Texas law. On March 24, 2014, we appealed this decision to the Texas Supreme Court and
have asked that the Supreme Court consolidate our appeal of this decision with our appeal of the decision in the Arnold case. As in the Arnold
case, we have asked that, if the prior decision is allowed to stand, the Court of Appeal’s decision be given prospective effect only, rather than
retroactive effect, which could allow plaintiffs, as well as other purchasers of life settlements though LPI, to seek rescission of their purchases.
Briefing for review before the Texas Supreme Court is ongoing. If the prior decision is upheld, it could result in a material adverse effect on our
operations and require substantial changes in our business model.
On March 31, 2014, a complaint was filed in the United States District Court for the Southern District of Florida, styled John Woelfel, et al.
v. Life Partners, Inc., Life Partners Holdings, Inc., Brian D. Pardo, R. Scott Peden, and Pardo Family Holdings, Ltd. This suit asserts claims of
breach of fiduciary duty, negligence, common law fraud, civil conspiracy, constructive trust, fraudulent transfer, unjust enrichment, and violations
of the Federal securities laws. Except for the claims under the Federal securities laws, this suit is virtually identical to the MDL Proceedings. All of
plaintiff’s claims are based upon the alleged failure to engage in “premium optimization” and the alleged provision of underestimated life
expectancies by Dr. Donald Cassidy to LPI and LPI’s use in the facilitation of life settlement transactions in which plaintiff acquired interests in life
insurance policies. With respect to the Federal securities laws claims, plaintiff asserts that the life settlements purchased by plaintiff through LPI are
securities that were required to be registered under the Federal securities laws. Plaintiff seeks economic and exemplary damages, disgorgement
and/or fee forfeiture, rescission, attorneys’ fees and costs, and post and pre-judgment interest. On April 23, 2014, defendants filed a motion to
dismiss on the grounds that the complaint fails to satisfy the pleading requirements under the Federal Rules of Civil Procedure. On May 9, 2014,
plaintiffs filed an amended complaint attempting to address some of the issues raised in the motion to dismiss and adding new plaintiffs, thereby
mooting the motion. Defendants intend to file an amended motion to dismiss as a result. No trial date has been set, and a scheduling conference is
set for June 3, 2014.
Management believes, and we have been so advised by counsel handling the respective proceedings, that we have meritorious defenses
in all pending litigation to which we or our directors or officers are a party, as well as valid bases for appeal of potential adverse rulings that may be
rendered against us. We intend to defend all such proceedings vigorously and, to the extent available, will pursue all valid counterclaims.
Notwithstanding this fact, as with all litigation, the defense of such proceedings is subject to inherent uncertainties, and the actual costs will
depend upon numerous factors, many of which are as yet unknown and unascertainable. Likewise, the outcome of any litigation is necessarily
uncertain. We may be forced to continue to expend considerable funds in connection with attorneys’ fees, costs, and litigation-related expenses
associated with the defense of these proceedings, and management’s time and attention will also be taxed during the pendency of these
proceedings. We may enter into settlement discussions in particular proceedings if we believe it is in the best interests of our shareholders to do
so.
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We are subject to other legal proceedings in the ordinary course of business. When we determine that an unfavorable outcome is
probable, and the amount of the loss can be reasonably estimated, we reserve for such losses. Except as discussed above: (i) management has not
concluded that it is probable that a loss has been incurred in any of our pending litigation; (ii) management is unable to estimate the possible loss
or range of loss that could result from an unfavorable outcome of any pending litigation; and (iii) accordingly, management has not provided any
amounts in the Consolidated Financial Statements for unfavorable outcomes, if any.
(17) DEFINED CONTRIBUTION PLAN
All employees are eligible to participate in our 401(k) retirement plan once they have met specified employment and age requirements. The
401(k) has a matching feature whereby we will make an annual matching contribution to each participant’s plan account equal to 100% of the lesser
of the participant’s contribution to the plan for the year or 4% of the participant’s eligible compensation for that year. The contribution expense for
our matching contributions to the 401(k) plan for fiscal 2014, 2013 and 2012 were $93,854, $89,026, and $78,431, respectively.
(18) QUARTERLY FINANCIAL DATA
The following tables set forth our unaudited consolidated financial data regarding operations for each quarter of fiscal 2014, 2013 and
2012. This information, in the opinion of management, includes all adjustments necessary, consisting only of normal and recurring adjustments, to
state fairly the information set forth therein.
Revenues
Loss from Operations
Pre-tax Income (Loss)
Net Income (Loss)
Net Income (Loss) Per Share
Revenues
Loss from Operations
Pre-tax Income (Loss)
Net Income (Loss)
Net Income (Loss) Per Share
$
$
$
$
$
1st Quarter
4,263,841
(2,804,190)
2,608,839
1,679,178
0.09
$
$
$
$
$
1st Quarter
5,739,557
(1,709,960)
1,635,963
1,037,031
0.05
52
$
$
$
$
$
Fiscal 2014
2nd Quarter
3rd Quarter
2,837,243 $
4,485,284
(2,773,050) $
(1,454,819)
(2,743,073) $
(1,422,925)
(1,793,303) $
(938,766)
(0.10) $
(0.05)
$
$
$
$
$
4th Quarter
4,099,871
(2,112,363)
(2,039,258)
(1,401,214)
(0.08)
$
$
$
$
$
Fiscal 2013
2nd Quarter
3rd Quarter
3,062,587 $
4,776,403
(2,628,930) $
(1,797,558)
(2,534,850) $
(1,139,622)
(1,849,325) $
(753,649)
(0.10) $
(0.04)
$
$
$
$
$
4th Quarter
5,326,290
(2,082,162)
(2,050,879)
(1,311,082)
(0.07)
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Revenues
Loss from Operations
Pre-tax Loss
Net Loss
Net Loss Per Share
$
$
$
$
$
1st Quarter
9,833,395
(1,433,512)
(1,290,866)
(874,144)
(0.05)
53
Entered 03/25/15 17:25:46
$
$
$
$
$
Fiscal 2012
2nd Quarter
3rd Quarter
10,811,349 $
6,666,795
(509,014) $
(2,162,342)
(405,540) $
(1,475,900)
(323,183) $
(1,082,848)
(0.02) $
(0.06)
Page 55 of
$
$
$
$
$
4th Quarter
5,610,650
(1,631,771)
(1,381,093)
(843,303)
(0.05)
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EXHIBIT INDEX
DESCRIPTION OF EXHIBIT
Number
3.1
Description
Amended and Restated Certificate of Formation, dated August 8, 2013(1)
3.2
Amended and Restated Bylaws, dated April 2, 2013(2)
4.1
Form of stock certificate for our common stock(3)
10.1
Assignment of Right to Receive Future Payments dated May 24, 2014(4)
10.2
10.3
10.4
10.5
10.6
10.7
14
Change in control agreement with Brian Pardo
Change in control agreement with Scott Peden
Change in control agreement with Mark Embry
Change in control agreement with Deborah Carr
Change in control agreement with Kurt Carr
Severance agreement with Colette Pieper
Code of Ethics for Directors and Executive Officers(5)
21 Subsidiaries of the Registrant
31 Rule 13a-14(a) Certifications
32 Section 1350 Certification
_______________________
(1) This exhibit was filed with a Form 10-Q/A dated October 12, 2013, and is incorporated by reference herein
(2) This exhibit was filed with a Form 8-K dated April 5, 2013, and is incorporated by reference herein.
(3) This exhibit was filed with our Annual Report on Form 10-K for the year ended February 28, 2010, and is incorporated by
reference herein.
(4) This exhibit was filed with a Form 8-K dated May 29, 2013, and is incorporated by reference herein.
(5) This exhibit was filed with our Annual Report on Form 10-KSB for the year ended February 29, 2004, and is incorporated by
reference herein.
Our exhibits to this Annual Report on Form 10-K for the year ended February 28, 2014, as filed with the SEC, are available on our website at
www.lphi.com under “Investor Relations/Filings”. They are also available to any shareholder, upon request, by calling 800-368-5569 or writing to
Mr. R. Scott Peden, General Counsel, Life Partners Holdings, Inc., 204 Woodhew Drive, Waco, Texas 76712. Shareholders requesting exhibits to the
Form 10-K will be provided the same upon payment of reproduction expenses.
54
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UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TEXAS
AUSTIN DIVISION
__________________________________________
SECURITIES AND EXCHANGE COMMISSION, §
§
Plaintiff,
§
§
v.
§
§
LIFE PARTNERS HOLDINGS, INC., BRIAN
§
PARDO, AND R. SCOTT PEDEN
§
§
Defendants.
§
__________________________________________§
Civil Action No.: 1-12-cv-00033
OPPOSED EMERGENCY MOTION BY DEFENDANT LIFE PARTNERS HOLDINGS, INC.
TO SET AMOUNT OF SECURITY AND FOR ALTERNATE SECURITY
TO STAY OF ENFORCEMENT OF JUDGMENT PENDING APPEAL
(Redacted Public Version)
EXHIBIT B
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TABLE OF CONTENTS
Table of Authorities ...................................................................................................................... iii
Introduction.................................................................................................................................... 1
Nature of the Proceedings.............................................................................................................. 2
Summary of the Argument............................................................................................................. 2
Request for Expedited Consideration ............................................................................................ 3
Statement of the Issue .................................................................................................................... 4
Argument and Authorities.............................................................................................................. 4
A.
LPHI’s financial situation is poor. ..................................................................................... 5
B.
LPHI cannot obtain a supersedeas bond in the full amount of the judgment (or in
any amount), and requiring LPHI to do so would impose an undue financial
burden on LPHI.................................................................................................................. 6
1.
2.
LPHI cannot obtain full bond—or a bond in any amount—from the surety
bond market. .......................................................................................................... 7
a.
Sureties are unwilling to issue a bond for LPHI in the full amount
of the judgment—or for any amount. ........................................................ 8
b.
Surety companies would require LPHI to post equivalent collateral
to obtain a supersedeas bond in the full judgment amount, and
LPHI does not have and cannot obtain this collateral................................ 9
c.
The maximum that LPHI can offer as security is $250,000 in cash
and a pledge of unencumbered real estate. .............................................. 10
Requiring greater security will severely and negatively impact LPHI’s
ability to operate its business. .............................................................................. 12
a.
If greater security is required, LPHI will not be able to conduct its
normal business operations, and any attempt by the SEC to execute
the judgment will severely disrupt LPHI’s business operations.............. 12
b.
If greater security is required, LPHI and its operating subsidiaries
will be at grave risk of bankruptcy. ......................................................... 14
c.
The impact of shutting LPHI’s doors—and thus LPI’s doors—
would also result in the loss of more than $2.5 billion in death
benefits to private investors who paid nearly $1.4 billion to acquire
those interests........................................................................................... 17
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3.
(i)
Independent escrow companies are dependent on
information from LPI. .................................................................. 17
(ii)
If LPI is shut down, private investors will lose billions. .............. 18
If necessary to obtain approval of the reduced security to suspend
enforcement of the judgment pending appeal, LPHI is willing to accept
reasonable financial restrictions. .......................................................................... 20
C.
Regardless of the amount of security required, LPHI requests a stay of
enforcement to give it sufficient time to respond to the Court’s order and possibly
seek review in the Fifth Circuit........................................................................................ 21
D.
In compliance with the local rules of the Western District of Texas, LPHI requests
that specific required language be included in the order permitting LPHI to post a
cash deposit ...................................................................................................................... 21
SEC Opposes the Relief Sought by this Motion
Conclusion and Prayer ................................................................................................................. 23
Certificate of Conference ............................................................................................................. 25
Certificate of Service ................................................................................................................... 25
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TABLE OF AUTHORITIES
Cases
ASARCO LLC v. Americas Mining Corp.,
419 B.R. 737 (S.D. Tex. 2009) ................................................................................7, 12, 14, 15
Dillon v. City of Chicago,
866 F.2d 902 (7th Cir. 1988) ...............................................................................................4, 15
Fed. Prescription Serv., Inc. v. Am. Pharm. Ass’n,
636 F.2d 755 (D.C. Cir. 1980) ...................................................................................................4
HCB Contractors v. Rouse & Assocs.,
168 F.R.D. 508 (E.D. Pa. 1995) ...........................................................................................8, 14
Miami Int’l Realty Co. v. Paynter,
807 F.2d 871 (10th Cir. 1986) .............................................................................................7, 20
MM Steel, LP v. JSW Steel (USA) Inc.,
771 F.3d 301 (5th Cir. 2014) ...................................................................................................16
Olympia Equip. Leasing Co. v. Union Tel. Co.,
786 F.2d 794 (7th Cir. 1986) ...................................................................................7, 12, 14, 15
Poplar Grove Planting & Refining Co. v. Bache Halsey Stuart, Inc.,
600 F.2d 1189 (5th Cir. 1979) ...............................................................................................4, 7
Texaco Inc. v. Pennzoil Co.,
784 F.2d 1133 (2d Cir. 1986), rev’d on other grounds, 481 U.S. 1 (1987) .................12, 14, 15
Trans World Airlines, Inc. v. Hughes,
314 F. Supp. 94 (S.D.N.Y. 1970) ....................................................................................4, 7, 11
Umbrella Bank, FSB v. Jamison,
341 B.R. 835 (W.D. Tex. 2006)...............................................................................................16
Waffenschmidt v. MacKay,
763 F.2d 711 (5th Cir. 1985) .................................................................................................6, 7
Rules
FED. R. APP. P. 8(a)(2)(A)(ii) .........................................................................................................21
FED. R. CIV. P. 62(d) ........................................................................................................................4
W.D. TEX. LOC. R. CV-7(e)-(f) ........................................................................................................3
W.D. TEX. LOC. R. CV-67(b) .........................................................................................................21
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Defendant, Life Partners Holdings, Inc. (LPHI), files this Opposed Sealed Emergency
Motion to Set Amount of Security and for Alternate Security to Stay Enforcement of Judgment
Pending Appeal. Defendant LPHI respectfully show the Court as follows:
INTRODUCTION
On December 2, 2014, the Court entered judgment [Dkt No. 304] against Defendant LPHI
for $38.7 million and in favor of Plaintiff, the Securities and Exchange Commission (SEC). On
December 10, 2014, the Court, pursuant to FED. R. CIV. P. 62(b), entered an order [Dkt. No. 307]
extending the 14-day automatic stay through December 30, 2014, the date that post-judgment
motions are due, to permit LPHI and the other Defendants time to prepare motions to set the
amount of security required to suspend execution of the judgment pending appeal. Because
Defendant LPHI cannot post a full supersedeas bond or a bond in any amount, LPHI requests that
the amount of security required be lessened and that alternate forms of security be permitted. If
the amount of security that LPHI must post to stay enforcement pending appeal is not reduced and
the alternate forms proposed in this motion accepted, it will impose undue financial burden on
LPHI and potentially force LPHI into bankruptcy. Any attempt by the SEC to execute the
judgment will have devastating financial consequences far beyond the impact to LPHI, Life
Partners, Inc., their officers and employees: shutting LPHI’s doors will result in the loss to private
investors of $1.4 billion they paid to acquire those investments and more than $2.5 billion in death
benefits on those investments. LPHI therefore requests that the Court approve alternate security
in the form of $250,000 cash in lieu of a bond and a pledge of LPHI’s unencumbered real estate
with a current book value before depreciation of $2,316,202.
To prevent a lapse in the current stay of enforcement that expires at the end of December
30, 2014, by separate motion filed contemporaneously LPHI is requesting that the Court further
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extend the stay to permit time to consider this Motion to set security and to allow for some time
after the Court’s ruling on this motion so that LPHI can take appropriate steps in response to the
Court’s ruling. LPHI is also requesting expedited consideration of this Motion to prevent any
lapse in the stay of enforcement.
NATURE OF THE PROCEEDINGS
In this securities action, this Court entered a judgment against LPHI for $23.7 million in
disgorgement and $15 million in civil penalties. [Dkt. No. 304]. The judgment also awarded the
SEC civil penalties against Defendant Brian Pardo of $6 million and against R. Scott Peden of $2
million. Id. The full amount of the judgment against LPHI is $38.7 million, an amount far in
excess of its ability to secure pending appeal. LPHI now files this Motion under Rule 62(d) to ask
the Court to approve alternate security in the form of $250,000 cash in lieu of a bond and a pledge
of LPHI’s unencumbered real estate.
SUMMARY OF THE ARGUMENT
A district court can order that security pending appeal be in a form other than a supersedeas
bond and that the amount of security required to obtain a stay pending appeal be less than the full
amount of the judgment. Here, it would be impossible for LPHI to obtain a full bond in the amount
of $38.7 million due to LPHI’s insufficient financial capacity.
LPHI has sought bonding
arrangements from two of the primary surety companies in the United States that issue supersedeas
bonds, and both have confirmed that they are unwilling to issue a bond to LPHI in the full amount
of the judgment against LPHI—or in any amount. In order to obtain any bond, LPHI would have
to post collateral equal to the bond amount in cash, cash equivalents, or irrevocable letters of credit.
Under these circumstances, LPHI is not able to post any supersedeas bond.
2
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A full bond, even if it were possible to secure, also would impose an undue financial burden
on LPHI. Requiring a full bond would leave LPHI unable to post a bond and subject to execution,
could make it impossible for LPHI and its operating subsidiaries to continue their normal business
operations, and put LPHI and its subsidiaries at grave risk of bankruptcy, given their current
financial condition. If LPHI and its subsidiaries are forced to shuts their doors, because escrow
companies who manage the life insurance policy investments are completely dependent on LPI to
provide them with crucial information concerning payment of premiums, the policies will begin
to lapse, resulting in the loss to private investors of $1.4 billion they paid to acquire those
investments and more than $2.5 billion in death benefits on those investments.
The SEC is not entitled to more than LPHI can pay, and requiring LPHI to post a
supersedeas bond or other security worth more than it can post will leave LPHI unprotected with
the attendant adverse financial consequences to LPHI and its other creditors, subsidiaries,
employees, and investors during the appeal. The Court should accordingly allow LPHI to suspend
execution of the judgment with alternate security in the form of $250,000 cash in lieu of a bond
and a pledge of LPHI’s unencumbered real estate.
REQUEST FOR EXPEDITED CONSIDERATION
LPHI requests that the Court expedite consideration of this motion. Under the regular
schedule provided by Local Rules, this Court ordinarily would not consider this motion until after
January 5, 2015, at the earliest. See W.D. TEX. LOC. R. CV-7(e)-(f) (non-dispositive motions may
be granted as unopposed if no response is filed within 7 days after the filing of the motion; the
court need not await the filing of a reply before ruling on a motion). By order entered December
10, 2014 [Dkt. No. 307], this Court, under Federal Rule of Procedure 62(b), stayed enforcement
of the judgment through the end of December 30, 2014, the date when post-judgment motions are
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due. Consequently, it is likely that the current stay through December 30th will expire before this
Court would consider this motion in the normal course.
STATEMENT OF THE ISSUE
Will the Court permit LPHI to supersede the judgment with alternate security worth less
than the full amount of the judgment, given the impossibility and financial hardship to LPHI and
its investors and the fact that LPHI cannot obtain a bond in any amount?
ARGUMENT AND AUTHORITIES
Rule 62(d) permits LPHI to stay enforcement of the judgment by posting a supersedeas
bond. FED. R. CIV. P. 62(d). But this Court has discretion to permit security in an alternate form.
Poplar Grove Planting & Refining Co. v. Bache Halsey Stuart, Inc., 600 F.2d 1189, 1191 (5th Cir.
1979). And this Court has discretion under Rule 62(d) to stay enforcement of the judgment upon
the posting of less than the full amount of security normally required. See, e.g., id.; see also Dillon
v. City of Chicago, 866 F.2d 902, 904 (7th Cir. 1988); Fed. Prescription Serv., Inc. v. Am. Pharm.
Ass’n, 636 F.2d 755, 760 (D.C. Cir. 1980). As one court explained, a district court “has inherent
power . . . to provide for the form and amount of security pending appeal, based on the conditions
it finds to exist in a particular case.” Trans World Airlines, Inc. v. Hughes, 314 F. Supp. 94, 96
(S.D.N.Y. 1970).
The Court’s exercise of discretion in both of these ways is warranted to provide a means
for LPHI to suspend enforcement of the judgment pending appeal to permit it to pursue a
meaningful appeal. Specifically, LPHI requests that the Court approve alternate security in the
form of $250,000 cash in lieu of a bond and a pledge of LPHI’s unencumbered real estate.
Together, they represent the maximum amount of security that LPHI is able to post.
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A.
LPHI’s financial situation is poor.
Even before entry of judgment, LPHI’s financial condition was of concern. LPHI’s audited
financial statements 1 show accumulated net losses totaling $8,364,696 over the three-year period
from 2012-2014. 2 For the fiscal year that ended February 28, 2014, LPHI and its operating
subsidiary (Life Partners, Inc. (LPI)) suffered a net loss of $2,454,105, and the net loss in 2013
was $2,877,025. LPHI’s and its subsidiaries’ 3 losses have continued following the end of that
fiscal year, totaling another $8,947,151 in net losses for the six months that ended August 31,
2014. 4 “These losses, resulting from a decline in revenue, along with significant legal and
professional fees incurred in defense of this litigation, have eroded the strength of the financial
condition” of LPHI and its subsidiaries. 5
On February 28, 2014, LPHI and its operating subsidiary (LPI) had total assets of
$29,470,595 and total liabilities of $6,832,083, for a total net worth of approximately
$22,638,512. 6 But, as of August 31, 2014, net worth had declined significantly: LPHI and LPI
had total assets of $19,820,443 and total liabilities of $7,993,827, for a total net worth (total assets
1
“Consistent with GAAP and [LPHI’s] SEC filings,” “LPHI files consolidated financial statements,
including annual and quarterly financial reports pursuant to the Securities and Exchange Act of 1934.”
Affidavit of Colette Pieper, dated December 26, 2014 (“Pieper Aff.”) ¶ 4, attached to this Motion as Exhibit
B. Those consolidated financial statements, nor anything in Ms. Pieper’s Declaration, “do not in any way
constitute an admission of substantive consolidation of the separate corporate entities.” Pieper Aff. ¶ 4.
2
Pieper Aff. ¶ 8.
3
Beginning in the Third Quarter of this year, LPHI has a second subsidiary: LPI Financial Services, Inc.
(LPIFS). Pieper Aff. ¶¶ 9, 7.
4
Pieper Aff. ¶ 8.
5
Pieper Aff. ¶ 8 (explaining that decline in revenue is resulting from “a general decline in the life settlement
market” (“LPI recognizes revenue at the time a life settlement closes”) and from “the fallout of the SEC
action and the resulting private litigation”).
6
Pieper Aff. ¶ 5.
5
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less total liabilities) of approximately $11,826,616. 7 (None of these figures takes into account
LPHI’s liability under this Court’s December 2, 2014 judgment.)
But, when considering the “current assets,” which are a subset of total assets and are either
cash, cash equivalents, or items which can be converted into cash within one year,” 8 the “[c]urrent
assets for LPHI and its operating subsidiary LPI as of August 31, 2014 were only $5,219,001,
comprised of cash and cash equivalents of $3,058,878; certificates of deposit $351,804;
accounts/notes receivable $334,664; current portion of investments in policies $598,288; deferred
income taxes $655,157; and prepaid expenses $220,210.” 9 As of November 30, 2014, the total
cash and cash equivalents per the books and records of LPHI and its subsidiaries were
10
But those figures from the consolidated financials for LPHI and its operating
subsidiaries do not shed light on the specific financial picture of LPHI alone.
Because the judgment is against LPHI, and not against LPI or LPIFS, the breakdown is
critical. As of November 30, 2014, “Cash and cash equivalents for LPHI and each subsidiary were
11
as follow:
B.
LPHI cannot obtain a supersedeas bond in the full amount of the judgment (or in any
amount), and requiring LPHI to do so would impose an undue financial burden on
LPHI.
The Fifth Circuit has recognized that reduced security pending appeal is justified when
“the judgment debtor demonstrates that his financial condition is such that a posting of a full bond
would impose an undue financial burden . . . .” Waffenschmidt v. MacKay, 763 F.2d 711, 727 (5th
7
Pieper Aff. ¶ 6.
8
Pieper Aff. ¶ 6.
9
Pieper Aff. ¶ 6.
10
Pieper Aff. ¶ 7.
11
Pieper Aff. ¶ 7.
6
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Cir. 1985) (internal quotation and alteration omitted); see also Poplar Grove Planting & Refining
Co. v. Bache Halsey Stuart, Inc., 600 F.2d 1189, 1191 (5th Cir. 1979) (stating that a judgment
debtor need not post a full supersedeas bond if it establishes that its “present financial condition is
such that the posting of a full bond would impose an undue financial burden”); ASARCO LLC v.
Americas Mining Corp., 419 B.R. 737, 741-42 (S.D. Tex. 2009) (same).
Numerous courts have either approved reduced supersedeas bonds or ordered alterative
security when the judgment debtor established that requiring full security would impose an undue
financial burden. E.g., Olympia Equip. Leasing Co. v. Union Tel. Co., 786 F.2d 794, 798 (7th Cir.
1986) (allowing $36 million judgment to be secured by pledging $10 million in cash and $10
million in accounts receivable and granting a security interest in $70 million of assets); Trans
World Airlines, 314 F. Supp. at 96 (permitting $145 million judgment to be superseded by posting
a $75 million bond and maintaining a net worth equal to three times the balance of the judgment);
see also Waffenschmidt, 763 F.2d at 727 (judgment debtor allowed to pledge $31,000 in personal
property in lieu of filing $106,000 bond); Trans World Airlines, 314 F. Supp. at 96 (“If the
appellant has unencumbered assets, liens may be offered as a substitute for a cash bond.”).
1.
LPHI cannot obtain full bond—or a bond in any amount—from the surety
bond market.
LPHI has sought a bond from two of the largest writers of surety bonds in the United States
in order to obtain a supersedeas bond for the full amount of the judgment against LPHI in this case,
and found that it will be impossible for LPHI to obtain such a bond. Undue burden exists when
the judgment debtor cannot obtain a bond at all. See Olympia Equip. Leasing Co., 786 F.2d at 798
(noting that the judgment debtor could not supersede the $36 million judgment because the bond
market required the bond to be collateralized, and banks would not issue a letter of credit necessary
to do so); Miami Int’l Realty Co. v. Paynter, 807 F.2d 871, 874 (10th Cir. 1986) (approving reduced
7
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security because it was impossible for the judgment debtor to post a full supersedeas bond); HCB
Contractors v. Rouse & Assocs., 168 F.R.D. 508, 512-13 (E.D. Pa. 1995) (waiving supersedeas
bond and imposing alternative conditions, since judgment debtor had no liquid assets and was
unable to obtain a bond).
a.
Sureties are unwilling to issue a bond for LPHI in the full amount of
the judgment—or for any amount.
LPHI contacted the bond brokers at McQueary Henry Bowles Troy (MHBT) to conduct a
search of the bonding market to obtain a supersedeas bond for the full judgment against LPHI in
this case. 12 MHBT is an insurance firm that provides, among other things, insurance-brokerage
services, including obtaining supersedeas bonds with sureties such as Travelers and Hartford. 13
As a result of these efforts, and in consultation with the brokers at MHBT, LPHI has
determined that it cannot obtain bonding for the full judgment amount against LPHI of $38.7
million. MHBT contacted two surety companies for consideration of the supersedeas bond for
LPHI in this case: Travelers Casualty and Surety Company of America and Hartford Fire
Insurance Company, two of the largest writers of surety bonds in the United States. 14 Both
Travelers and Hartford confirmed to MHBT that they are unwilling to issue a bond to LPHI in the
full amount of the $38.7 million judgment against it. 15 When MHBT asked Travelers and Hartford
“[w]hat size of bond they would be comfortable providing without 100% collateral[,] the answer
from both was -0-.” 16
12
Declaration of Charles T. Frazier, Jr. dated December 26, 2014 (“Frazier Decl.”) ¶ 4, attached to this
Motion as Exhibit A.
13
Frazier Decl. ¶ 4.
14
Frazier Decl. at 3 (attached Letter from Donnie Doan of MHBT).
15
Frazier Decl. at 3-4 (attached Letter from Donnie Doan of MHBT).
16
Frazier Decl. at 3 (attached Letter from Donnie Doan of MHBT).
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b.
Surety companies would require LPHI to post equivalent collateral to
obtain a supersedeas bond in the full judgment amount, and LPHI does
not have and cannot obtain this collateral.
LPHI would be required by surety companies to post collateral securing their indemnity
obligations in support of supersedeas bonds. 17 This collateral must have a value equal to the face
amount of those bonds: Both Travelers and Hartford informed MHBT “that they would only
consider writing a bond to secure the Final Judgment Order against Life Partners Holdings, Inc.
with 100% collateral in the form of a Bank Irrevocable Letter of Credit.” 18 In confirming to the
bond brokers at MHBT that they would not provide a bond of any amount to LPHI without 100%
collateral, Travelers and Hartford’s revealed their analysis to MHBT: “if the final judgment
amount against Life Partners Holdings, Inc. of approximately $38.7 million stands, then there is
no apparent way for Life Partners Holdings, Inc. to pay most of the judgment, thus leaving the risk
of total loss on a bond of any dollar amount very high for the surety without taking 100% collateral
in the form of a Bank Irrevocable Letter of Credit.” 19 These two sureties were unwilling to accept
as collateral even cash or highly liquid assets such as certificates of deposit, 20 explaining:
Cash or Certificates of Deposit pose an issue to take as collateral when the amount
of the judgment far exceeds available liquid assets which could be used to satisfy
said judgment, as the priority of creditors can come into question. Courts in the
past have ordered sureties to return Cash, CD’s or other similar assets taken for
collateral as a condition to issue a Supersedeas Bond, as the judgment creditor
would have priority over the surety for those sums. 21
17
See Frazier Decl. at 3-4 (attached Letter from Donnie Doan of MHBT).
18
Frazier Decl. at 3 (attached Letter from Donnie Doan of MHBT).
19
Frazier Decl. at 3-4 (attached Letter from Donnie Doan of MHBT).
20
See Frazier Decl. at 3-4 (attached Letter from Donnie Doan of MHBT).
21
Frazier Decl. at 4 (attached Letter from Donnie Doan of MHBT).
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For that reason, neither Travelers nor Hartford would agree to a bond of any amount for
LPHI without 100% collateral specifically in the form of a Bank Irrevocable Letter of Credit. 22
The net worth of LPHI and its operating subsidiaries (approximately $11.8 million as of
$XJ. 3, 201423) is dwarfed by the $38.7 million judgment against LPHI. And, as of November
. 24 But to obtain a supersedeas bond
30, 2014,
for the full amount of the judgment against it, LPHI would have to post collateral in the full amount
of the judgment in the form of an irrevocable letter of credit. LPHI cannot provide this collateral.
Neither can its subsidiaries. Even considering LPHI’s and its subsidiaries (LPI and LPIFS)
all combined, they lack the financial resources to obtain an irrevocable letter of credit in the amount
of a $38.7 million bond—which is more than three times their combined total net worth as of
$XJXVW 3, 2014 (pre-judgment). The $38.7 million in required collateralization is also more
than
. 25
Thus, it is impossible for LPHI to provide the required collateral to obtain a bond for $38.7
million. It is not only an undue burden, but it is also impossible for LPHI to post a full bond.
c.
The maximum that LPHI can offer as security is $250,000 in cash and
a pledge of unencumbered real estate.
As explained above, LPHI does not have the available cash, cash equivalents, or the
financial condition to support the issuance of a letter of credit to post a bond in any significant
amount. However, LPHI is offering to post (1) a cash deposit in lieu of bond of $250,000; and (2)
22
Frazier Decl. at 4 (attached Letter from Donnie Doan of MHBT).
23
Pieper Aff. ¶ 6.
24
Pieper Aff. ¶ 7.
25
Pieper Aff. ¶ 7 (“Cash and cash equivalents for LPHI and each subsidiary were as follow:
).
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pledge its commercial real estate (“the real estate”) with a current book value before depreciation
of $2,316,202, as security to stay enforcement of the judgment against LPHI pending appeal. Even
then, this amount of security is possible only through accessing the cash of LPHI’s subsidiaries. 26
The $250,000 is the “maximum amount of a cash deposit that LPHI could afford to post.” 27
As LPHI’s CFO explains, “Because of the unpredictability of future revenue due to the
ramifications of the pending judgment against LPHI, it is my opinion, after review of the prior six
months of operating expenses, the maximum amount of a cash deposit that LPHI could afford to
post is $250,000. This takes into account the suspension of any future dividend payments to the
LPHI shareholders.” 28
The commercial real estate being pledged is totally unencumbered. 29 Unencumbered
assets are an appropriate form of alternate security. Trans World Airlines, 314 F. Supp. at 96 (“If
the appellant has unencumbered assets, liens may be offered as a substitute for a cash bond.”). In
pledging the real estate, LPHI is willing to place the SEC in the position of being the only, and
thus first in priority, secured creditor on the real estate (contingent upon the final judgment against
LPHI being affirmed on appeal). 30 This first-priority security position would make the SEC more
secure in the event of a bankruptcy than it would otherwise be as a judgment creditor. 31
26
See Pieper Aff. ¶ 7
.
27
See Pieper Aff. ¶ 11
).
28
See Pieper Aff. ¶ 11.
29
See Pieper Aff. ¶ 11 (
30
See Pieper Aff. ¶ 11.
31
See Pieper Aff. ¶ 11.
).
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2.
Requiring greater security will severely and negatively impact LPHI’s ability
to operate its business.
Requiring security greater than the $250,000 cash deposit in lieu of bond and the pledge of
commercial real estate will severely impair LPHI’s ability to operate its business, possibly even to
the point of requiring LPHI to declare bankruptcy. Further, any attempt by the SEC to execute on
the judgment will severely disrupt LPHI’s business operations.
a.
If greater security is required, LPHI will not be able to conduct its
normal business operations, and any attempt by the SEC to execute the
judgment will severely disrupt LPHI’s business operations.
Several courts have recognized that security should not be set in an amount that would
render continuing operations of the judgment debtor “extremely difficult, if not impossible.”
ASARCO, 419 B.R. at 742; see also Texaco Inc. v. Pennzoil Co., 784 F.2d 1133, 1152-53 (2d Cir.
1986), rev’d on other grounds, 481 U.S. 1 (1987) (holding that the financial crisis that struck
Texaco following the verdict was a basis for reducing the supersedeas bond); Olympia Equip., 786
F.2d at 796 (reduced bond allowed so that judgment debtor could continue operations, avoid
prejudicing other creditors, and stave off bankruptcy). When evaluating whether a particular
amount of security pending appeal would impose an undue burden, courts consider impairment of
the judgment debtor’s ability to conduct ordinary business—for example, lenders not willing to
lend on the same terms, joint venturers ceasing business with the judgment debt, and suppliers no
longer extending credit—as well as the looming threat of bankruptcy. See Texaco, 784 F.2d at
1154-55.
LPHI and its operating subsidiaries must have the ability to pay their ordinary business
creditors and its employees, or LPHI and its operating subsidiaries will not be able to continue
operations.
To merely continue operations, the projected basic overhead costs (excluding
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. 32 Many of
discretionary expenses) is approximately
the same overhead costs will still have to be incurred if oversight of the operations is forced to go
to a receiver or trustee in the event the security pending appeal is set for the amount of the judgment
or any other amount that LPHI does not have the financial resources to post. 33
But with declining revenue, LPHI and its operating subsidiaries have experienced net
losses the past few years. 34 Raiding all cash and cash equivalents from LPHI and its operating
subsidiaries 35 will eliminate the cushion they need to continue business operations to service their
more than 20,000 clients. 36 The operating subsidiaries use their cash to fund their day-to-day
operations. These two operating subsidiaries have 59 employees and perform a variety of duties
detailed in the Affidavit of LPHI’s Chief Financial Officer and in the Declaration of LPI’s
President. 37
Again, just the overhead costs associated with performing these services is
. 38
approximately
That figure excludes
discretionary expenses. 39
Additionally, the Chief Financial Officer of LPHI provides lengthy and detailed
information about the additional financial commitments of LPHI and its subsidiaries, including
32
See Pieper Aff. ¶¶ 7, 10.
33
See Pieper Aff. ¶ 10.
34
See Pieper Aff. ¶ 8.
35
See Pieper Aff. ¶ 7 (“Cash and cash equivalents for LPHI and each subsidiary were as follow:
”).
36
See Pieper Aff. ¶¶ 9, 11; Peden Decl. ¶ 8.
37
Pieper Aff. ¶¶ 7, 9; Peden Decl. ¶¶ 8-9.
38
Pieper Aff. ¶ 7.
39
Pieper Aff. ¶ 7.
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the periodic payments for everything from escrow, auditing, and underwriting services to paying
leases on office equipment. 40
Requiring security in an amount greater than the $250,000 cash and the pledged real estate
will have a devastating effect on the ongoing operations of LPHI and its operating subsidiaries.41
For these reasons, the Court should permit enforcement of the judgment to be stayed pending
appeal upon LPHI’s posting of the $250,000 cash deposit and pledge of commercial real estate.
b.
If greater security is required, LPHI and its operating subsidiaries will
be at grave risk of bankruptcy.
Bankruptcy will cause irreversible damage to LPHI and its operating subsidiaries, and
effectively deprive LPHI of due process of an effective appeal. Courts should not require security
in an amount so large that it creates a serious risk of bankruptcy, particularly while appeal is
pending, because the judgment creditor’s claim may not survive the appeal process. See Olympia
Equip., 786 F.2d at 798 (“[I]t would be a painful irony for us to impair and perhaps even destroy
the [judgment debtor’s] other creditors’ claims merely to remove every element of hazard from a
claim that may not survive the process of appeal.”); see also HCB Contractors, 168 F.R.D. at 513
(“Allowing HCB to proceed with execution process at this time . . . would likely prompt
foreclosures by the lienholders . . . and move the debtor into bankruptcy. Clearly, if an appellate
court overturns the judgments against the Owners, the harm that would result from the completed
execution process would be irreparable.”); cf. ASARCO, 419 B.R. at 742 (permitting the judgment
debtor to post alternative security where a supersedeas bond would imperil an already-pending
bankruptcy). Due process requires that a judgment debtor must be given “a fair opportunity to
40
See Pieper Aff. ¶ 12 (of note, LPHI also owes the law firm of Baker McKenzie, LLP, more than $1.1 million in
outstanding invoices, which it is paying down over time, although LPHI has had to cut its weekly payments to that
firm in half recently in order to monitor cash flow). Id.
41
See Pieper Aff. ¶ 11.
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obtain an adjudication on the merits of his appeal.” Texaco, 784 F.2d at 1154 (internal quotation
marks omitted).
Forcing LPHI into bankruptcy also would impose an undue burden on LPHI that would be
“immeasurable, irrevocable, and irremediable by reversal of the judgment on the merits.” Id. at
1154 (internal quotation marks omitted); see also Olympia Equip., 786 F.2d at 799 (“Apart from
the impact that a declaration of bankruptcy might have on other creditors of [the judgment debtor],
there are considerable deadweight losses which bankruptcy creates. The bigger the bankruptcy …
the bigger those costs.” (internal citation omitted)). A bankruptcy would adversely affect the 59
employees of LPHI and its operating subsidiaries, its creditors (including the SEC), as well as the
more than $1.4 billion spent by investors.
Moreover, requiring greater security will not increase the likelihood of the SEC’s being
paid the full amount of its judgment against LPHI; if anything, inflicting such hardship on LPHI
will negatively affect the SEC’s ability to collect the judgment. See Olympia Equip., 786 F.2d at
797 (recognizing that, if the judgment debtor declares bankruptcy, the judgment creditor may not
recover its punitive-damages award). As the Olympia Equipment court explained, if the judgment
creditor’s enforcement of the judgment causes the judgment debtor to declare bankruptcy, the
judgment creditor would become just another unsecured creditor, and “[u]nsecured creditors
usually fare poorly in bankruptcies.” Id. at 799.
Also, requiring LPHI to post greater security than it needs to avoid filing for bankruptcy
would impermissibly elevate the SEC above LPHI’s other creditors. See id. at 798-99. Courts
have excused the posting of a full supersedeas bond when, among other things, “the defendant is
in such a precarious financial situation that the requirement to post a bond would place other
creditors of the defendant in an insecure position.” ASARCO, 419 B.R. at 742-43; see also Dillon
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v. City of Chicago, 866 F.2d 902, 904 (7th Cir. 1988); Olympia Equip., 786 F.2d at 798 (“[A]n
inflexible requirement of a [supersedeas] bond would be inappropriate” “where the requirement
would put the defendant’s other creditors in undue jeopardy.”). That is certainly the case here. As
LPHI’s CFO details, LPHI has several creditors other than the judgment creditor here. 42
By contrast, an order approving alternate security that LPHI can afford that does not impose
an undue financial hardship would be of benefit to all of LPHI’s creditors, including the SEC. By
lowering the amount of security required to suspend enforcement of the judgment pending appeal
would permit LPHI (and LPI, LPIFS) to continue their normal course of business, produce the
cash flow from the operations, and put it in a better position to eventually perform any judgment
affirmed on appeal. 43 But requiring full security would produce the opposite result.
LPHI’s other creditors, each of whom has precedence over the SEC, also should not be
placed at risk by requiring LPHI to supersede the civil-penalty portion of the judgment ($15
million). [Dkt. No. 304]. Such penalties are considered to be in the nature of a windfall to the
plaintiff. See Umbrella Bank, FSB v. Jamison, 341 B.R. 835, 842-43 (W.D. Tex. 2006) (finding
that “usury penalties are in the nature of a windfall to [the judgment creditors].
Unlike
compensatory damages, these penalties are intended, principally, to punish and deter creditor
violators rather than to compensate victims”), abrogated on other grounds, MM Steel, LP v. JSW
Steel (USA) Inc., 771 F.3d 301, 305 (5th Cir. 2014).
42
Pieper Aff. ¶ 12.
43
Peden Decl. ¶ 14; see also Pieper Aff. ¶ 8 (explaining that decline in revenue is resulting from “a general decline
in the life settlement market” and from “the fallout of the SEC action and the resulting private litigation”).
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c.
The impact of shutting LPHI’s doors—and thus LPI’s doors—would
also result in the loss of more than $2.5 billion in death benefits to
private investors who paid nearly $1.4 billion to acquire those interests.
If the amount of security required from LPHI is not reduced (and also if alternate security
is not permitted), LPHI will have to shut its doors, and those of its principal operating subsidiary,
LPI. The collateral damage of that result extends far beyond the doors of LPHI and LPI: because
the safekeeping of the life-settlement investments is primarily handled by two escrow companies
who are completely dependent on LPI’s ministerial and administrative services and on LPI’s
advanced software to administer those policies and the benefits, the impact of LPI shutting its
doors would result in the loss of more than $2.5 billion in death benefits to private investors, who
paid nearly $1.4 billion to acquire those interests
(i)
Independent escrow companies are dependent on information
from LPI.
LPI is the principal operating subsidiary of LPHI. 44 The business of LPI is facilitating the
sale and administration of life settlements. 45 The existing policies have a face value of more than
$2.5 billion dollars. 46 There are over 22,000 investors, 47 and many of those investments are held
by retirement accounts. 48
LPI contracts the administration of funds with two escrow companies: Advance Trust &
Life Escrow Services (ATLES) and Purchase Escrow Services LLC (PES). 49 Both companies are
44
Declaration of R. Scott Peden dated December 29, 2014 (“Peden Decl.”) ¶ 5, attached to this Motion as Exhibit C.
45
Peden Decl. ¶ 6.
46
Peden Decl. ¶ 8.
47
Peden Decl. ¶ 8.
48
Declaration of Sabrina Braus dated December 24, 2014 (“Braus Decl.”) ¶ 19, attached to this Motion as Exhibit E.
49
Peden Decl. ¶ 8; Braus Decl. ¶ 6; Declaration of Dennis Gilliam dated December 24, 2014 (“Gilliam Decl.”) ¶ 6,
attached to this Motion as Exhibit D.
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independent from LPI. 50
ATLES is chartered and examined by the Texas Department of
Banking. 51 ATLES and PES are responsible for holding and disbursing funds to acquire policies,
pay premiums, and disburse policy proceeds. 52 ATLES and PES currently hold over $68 million
in escrow funds for policy purchase and premium payment. 53
The escrow companies rely on LPI to provide daily communication and instruction for the
administration of the policies and the funds. 54 ATLES and PES do not make discretionary
decisions, and all of their core actions require information and specific direction from LPI (or the
policyholder through a power of attorney). 55 For example, ATLES and PES can only make
premium payments after specific instruction from LPI as to timing and amount. 56 ATLES and
PES cannot communicate directly with the insurance companies involved, and have no means to
systematically communicate with policyholders without LPI. 57
(ii)
If LPI is shut down, private investors will lose billions.
Any interruption of this continuous information and direction from LPI to ATLES and PES
would be disastrous for policyholders. 58 For example, if LPI does not tell ATLES and PES when
and what premium payments to make, those payments will not be made, and policies will
50
Peden Decl. ¶ 11.
51
Gilliam Decl. ¶ 7.
52
Gilliam Decl. ¶¶ 8, 10-11; Braus Decl. ¶ 8, 10, 18.
53
Gilliam Decl. ¶ 10.
54
Braus Decl. ¶ 15; Gilliam Decl. ¶ 15.
55
Gilliam Decl. ¶ 12; Braus Decl. ¶ 12; Peden Decl. ¶ 11-12.
56
Gilliam Decl. ¶ 10; Braus Decl. ¶ 10.
57
Gilliam Decl. ¶ 16; Braus Decl. ¶ 16.
58
Braus Decl. ¶¶ 15-20; Gilliam Decl. ¶¶ 15-20.
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immediately begin to lapse. 59 Similarly, ATLES and PES are the named beneficiaries as escrow
agent for the actual policyholders, but they only apply for the death proceeds once instructed and
given the proper application information from LPI. Thus if LPI does not provide this information,
the death proceeds will go uncollected. 60 In this way, PES is financially dependent upon LPI;
interruption in funding will cause LPI’s operations to cease. 61
The experience, infrastructure and intellectual capital of LPI and its subsidiary cannot be
easily or quickly duplicated without substantial risk of disruption to and loss of asset value by its
clients. 62 If the SEC seizes the assets of LPHI and, consequently, takes control of LPHI’s operating
subsidiaries, it is highly unlikely that either the SEC or any third party retained by the federal
agency would have the knowledge, skills, or expertise to continue the operations and services LPI
and LPIFS provide to their clients. 63
If the analytical and financial support to ATLES and PES from LPI stops, even for a short
period of time, the resulting losses would be huge. ATLES currently administers almost $1.8
billion dollars in policy face value, 64 and PES administers almost $700 million dollars in policy
face value. 65 A significant portion of these investments managed by PES are held in IRAs. 66
ATLES disbursed almost $52 million in death proceeds to policyholders last year, 67 and PES
59
Braus Decl. ¶ 19; Gilliam Decl. ¶ 18; see Peden Decl. ¶¶ 11-13.
60
Braus Decl. ¶¶ 19-21; Gilliam Decl. ¶¶ 19-21; Peden Decl. ¶ 11-12.
61
Braus Decl. ¶¶ 11-13, 15-21; Gilliam Decl. ¶¶ 13, 15-21; Peden Decl. ¶ 11.
62
Peden Decl. ¶ 11.
63
Peden Decl. ¶ 11.
64
Gilliam Decl. ¶ 20.
65
Braus Decl. ¶ 13.
66
Braus Decl. ¶ 19.
67
Gilliam Decl. ¶ 19.
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distributed more than $41 million.68 PES anticipates distributing at least that amount in 2015,69
and ATLES projects distributing almost $120 million in 2015—nearly double the 2014 amounts.70
LPI must remain a functioning entity providing this continuous information, support, and
direction in order for ATLES and PES to meet their contractual obligations; otherwise, the
resulting damage to policyholder will be extreme. 71 Nearly $1.4 billion in investment dollars of
private investors and IRAs are at risk of being completely lost. 72 If LPHI and LPI’s doors are shut,
$2.7 billion dollars in death benefits to investors will be lost. 73
3.
If necessary to obtain approval of the reduced security to suspend enforcement
of the judgment pending appeal, LPHI is willing to accept reasonable financial
restrictions.
LPHI is also willing, should the Court require it, to comply with reasonable restrictions on
its business activities to further protect the SEC’s interest in the judgment it obtained against LPHI.
LPHI is willing to comply with the following restrictions that would sufficiently protect the SEC
while the appeal is pending: (1) LPHI will not transfer assets greater than $500,000 except in the
ordinary course of business; and (2) LPHI will not make dividends or distributions that would
decrease the equities in the current balance sheet. See, e.g., Miami Int’l Realty, 807 F.2d at 87274 (where individual debtor did not have any significant assets with which to pay a full supersedeas
bond on a $2.1 million award, a $500,000 liability insurance payment was escrowed in an interestbearing account, and debtor was enjoined from any transfers of assets not reasonable necessary for
cost of living or occupation).
68
Braus Decl. ¶ 20.
69
Braus Decl. ¶ 20.
70
Gilliam Decl. ¶ 19.
Braus Decl. ¶¶ 19-21; Gilliam Decl. ¶¶ 19-21.
71
72
Gilliam Decl. ¶ 13 (investors paid $988 million to acquire investment); Braus Decl. ¶ 13 (same, but $401 million).
73
Gilliam Decl. ¶ 21($2 billion); Braus Decl. para. 21 ($700 million).
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In addition, this Court is authorized, under section 52.006(e) of the Texas Civil Practice
and Remedies Code to enjoin LPHI from dissipating or transferring assets to avoid satisfaction of
the judgment, although under that section no order may interfere with LPHI’s use, transfer,
conveyance, or dissipation of assets in the normal course of business.
C.
Regardless of the amount of security required, LPHI requests a stay of enforcement
to give it sufficient time to respond to the Court’s order and possibly seek review in
the Fifth Circuit.
Even for the reduced security requested herein, LPHI will need some additional time to
negotiate with the SEC about the form of the pledge of the commercial real estate offered in this
motion as alternate security. 74
Further LPHI seeks additional time to seek relief from the Fifth Circuit, if necessary, from
this Court’s ruling on this motion. Accordingly, LPHI also requests that the Court order that the
stay of enforcement be extended until 14 days after the Fifth Circuit rules on the relief sought in
this motion, if LPHI seeks Fifth Circuit review. See FED. R. APP. P. 8(a)(2)(A)(ii). LPHI would
seek Fifth Circuit review promptly and on an expedited schedule.
LPHI also is contemporaneously filing a motion to extend the current stay order [Dkt. No.
307] while the Court considers this Motion.
D.
In compliance with the local rules of the Western District of Texas, LPHI requests
that specific required language be included in the order permitting LPHI to post a
cash deposit
A proposed form of order is attached, which includes language in compliance with this
District’s Registry Funds Information setting out standards for cash deposits in the Court’s
74
LPHI has not been idle since the Court’s December 2nd judgment, but has been diligently exploring what forms of
security it can afford to offer alternate security without undue financial hardship. LPHI has been somewhat hindered
in compiling the proof necessary for this motion due to the Christmas holidays.
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registry, 75 which Defendant LPHI requests be included in such order. In particular, Defendant
LPHI requests that the court’s order granting this motion provide:
(a) that the funds are deposited into the Court registry account for the purpose of
suspending execution of judgment pending appeal, as permitted under Federal Rule of Civil
Procedure 62(d);
(b) that the Clerk of the Court is subject to liability for all damages and costs that may be
awarded in favor of the Plaintiff the Securities and Exchange Commission and against
Defendant LPHI—up to the amount of the cash deposited by him into the Court’s registry
account pursuant to this Order—if: (1) LPHI does not perfect an appeal or his appeal is
dismissed, and LPHI does not perform the Court’s judgment; or (2) LPHI does not perform
an adverse judgment final on appeal;
(c) that the Clerk will, as soon as the business of his office allows, deposit the funds into
an interest-bearing account earning the highest rate of interest at a banking institution
approved by the Clerk, and that the Clerk is to receive an indicia of ownership payable to:
United States District Court
For the Western District of Texas
Clerk of Court, Trustee
Civil Action Number: 1:-12-cv-00033
Tax I.D. 74-6252093
(d) since there is no maturity for cash deposited into the Court’s registry, no roll-over
provision is required;
(e) that the Clerk will deduct a registry fee authorized by the Judicial Conference Schedule
of Fees implemented by the Administrative Office of the United States Courts effective
February 3, 1992 for the handling and servicing of interest-bearing accounts deposited to
financial institutions pursuant to 28 U.S.C. § 2041 and Rule 67 of the Federal Rules of
Civil Procedure. The amount of the fee shall be equal to ten percent (10%) of all income
earned during the first five years, seven and a half percent (7.5%) of all income earned
during years six through ten, five percent (5%) of all income earned during years eleven
through fifteen, and two and a half percent (2.5%) of all income earned after fifteen years
while funds are held in the Court’s registry; and
(f) that the financial institution, without further order of the Court, shall issue a check
payable to the CLERK, U.S. DISTRICT COURT for the percentage of income earned as
set forth above at the end of each five year period or when the account is closed, whichever
75
Local Rule CV-67 provides: “The motion and proposed order shall set out with particularity the information found
on the court’s ‘website, www.txwd.uscourts.gov, in the drop-down menu ‘For Attorneys’ under ‘Registry Funds
Information.’” W.D. TEX. LOC. R. CV-67(b).
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occurs sooner, as requested by the Clerk. All remaining sums shall continue to be
reinvested as previously outlined until further order of the Court.
SEC OPPOSES THE RELIEF SOUGHT BY THIS MOTION
In compliance with Local Rule 7(i), counsel for LPHI has conferred with the SEC’s lawyers
in this case in a good-faith attempt to resolve the matter by agreement. No agreement could be
made about the relief sought by this Motion because the SEC believes that the proposed security
is insufficient to protect its interest in the judgment against LPHI.
CONCLUSION AND PRAYER
For these reasons, Defendant LPHI requests that the Court (1) expedite its consideration of
this Motion; and (2) enter an order providing that, upon Defendant LPHI’s depositing of $250,000
cash into the Court’s registry, the judgment against it is stayed pending appeal. The proffered
security is affordable to LPHI without undue hardship and justifiable under the law and the
circumstances.
LPHI further requests that the Court stay enforcement of the judgment against LPHI until
14 days after the Court rules on this motion, to permit LPHI to effectuate its pledge of its
unencumbered real estate and post its $250,000 cash deposit in the Court’s registry, and that the
Court order a further stay of enforcement pending completion of Fifth Circuit review, if any.
Defendant LPHI requests other and further relief to which it is entitled.
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Respectfully submitted,
J. Pete Laney
E-Mail: [email protected]
LAW OFFICES OF J. PETE LANEY
1122 Colorado Street, Suite 111
Austin, Texas 78701-2159
Tel.: (512) 473-0404
Fax: (512) 672-6123
/s/ Charles T. Frazier, Jr.
Charles T. Frazier, Jr.
E-Mail: [email protected]
ALEXANDER DUBOSE JEFFERSON &
TOWNSEND LLP
4925 Greenville Avenue, Suite 510
Dallas, TX 75206-4026
Tel: (214) 369-2358
Fax: (214) 369-2359
Dana Livingston
E-Mail: [email protected]
ALEXANDER DUBOSE JEFFERSON &
TOWNSEND LLP
515 Congress Avenue, Suite 2350
Austin, Texas 78701
Tel.: (512) 482-9304
Fax: (512) 482-9303
Attorneys for Defendant Life
Partners Holdings, Inc.
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CERTIFICATE OF CONFERENCE
I hereby certify that counsel for Defendant LPHI conferred with Jessica Magee and Matt Gulde,
counsel for Plaintiff, the Securities and Exchange Commission, in a good-faith attempt to resolve
the matter by agreement. Counsel for Defendants certifies that the specific reason that no
agreement could be made is that the SEC believes that the proposed security is insufficient to
protect its interest in the judgment against LPHI..
/s/ Charles T. Frazier, Jr.
CERTIFICATE OF SERVICE
On December 29, 2014, I electronically filed the foregoing document with the Clerk of the
Court using the CM/ECF system, which will send notification of such filing to the following:
B. David Fraser
Email: [email protected]
U.S. Securities and Exchange Commission
801 Cherry St., Suite 1900
Fort Worth, TX 76102-6882
Jessica Bogan Magee
Email: [email protected]
U.S. Securities and Exchange Commission
801 Cherry St., Suite 1900, Unit 18
Fort Worth, TX 76102
Matthew J. Gulde
Email: [email protected]
U.S. Securities and Exchange Commission
801 Cherry St., Suite 1900, Unit 18, Burnett Plaza
Fort Worth, TX 76102
Attorneys for Plaintiff
Securities and Exchange Commission
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S. Cass Weiland
E-mail: [email protected]
Robert A. Hawkins
E-mail: [email protected]
PATTON BOGGS LLP
2000 McKinney Avenue, Suite 1700
Dallas, Texas 75201
Tel.: (214) 578-1500
Fax: (214) 578-1550
Attorneys for Defendant
Scott Peden
Jay Ethington
E-mail: [email protected]
THE LAW FIRM OF JAY ETHINGTON
3131 McKinney Avenue, Suite 800
Dallas, TX 75204
Tel.: (214)740-9955
Fax: (214) 749-9912
Attorney for Defendant
Brian D. Pardo
/s/ Charles T. Frazier, Jr.
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UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TEXAS
AUSTIN DIVISION
__________________________________________
SECURITIES AND EXCHANGE COMMISSION, :
:
Plaintiff,
:
:
v.
:
:
LIFE PARTNERS HOLDINGS, INC., BRIAN
:
PARDO, AND R. SCOTT PEDEN
:
:
Defendants.
:
__________________________________________:
Civil Action No.: 1-12-cv-00033
DECLARATION OF CHARLES T. FRAZIER, JR.
STATE OF TEXAS
COUNTY OF DALLAS
§
§
§
1.
My name is Charles T. Frazier, Jr. I am over the age of 21 years, of sound mind,
capable of making this declaration, and fully competent to testify to the matters stated
herein. I have personal knowledge of each of the matters stated herein.
2.
I am licensed by the State Bar of Texas to practice law. I have been continuously
licensed since May 1986, and have continuously been, and currently am, in good
standing with the State Bar of Texas. I am admitted to practice before the United States
District Court for the Western District of Texas.
3.
I am a partner in the law firm of Alexander Dubose Jefferson & Townsend, LLP
(“ADJT”). I am one of the attorneys of record for Life Partners Holdings, Inc.
(“LPHI”) in the above-referenced suit (“this suit”).
4.
In an effort to assist LPHI to obtain a supersedeas bond to stay enforcement of the
December 2, 2014, judgment in this suit, I contacted the bond brokers at McQueary
Henry Bowles Troy (“MHBT”), at their Dallas, Texas, office. MHBT is an insurance
firm that provides, among other things, insurance-brokerage services, including
obtaining supersedeas bonds with sureties such as Travelers and Hartford. I have
worked with MHBT, particularly with one of their now-deceased brokers, for many
years in assisting my clients in obtaining supersedeas bonds to stay enforcement of
civil judgments in Texas.
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5.
I first contacted Kristi Meeks, Bond Account Manager, at MHBT on December 8,
2014, and since then have provided her with the judgment and other information to
assist MHBT in its effort to obtain a supersedeas bond for LPHI. I have also
communicated with Donnie Doan, Vice President, Bond Department, at MHBT.
6.
Attached hereto is a true and correct copy of a letter sent to me from Mr. Doan, dated
December 22, 2014 (“the Doan letter”). The Doan letter explains MHBT’s efforts to
obtain a supersedeas bond for LPHI, including what sureties require to provide a
supersedeas bond.
7.
I am one of the custodians of records for ADJT. I have personal knowledge of the
documents that ADJT keeps in the regular course of its business in representing LPHI
in this suit. The attached Doan letter is kept by ADJT in the regular course of business.
It was the regular course of business of ADJT for an employee or representative with
knowledge of the Doan letter to include it in the business records of ADJT. The record
was made at or near the time or reasonably soon thereafter by me, and the record of
the Doan letter is the original or exact duplicate of the original.
I declare under penalty of perjury that the foregoing is true and correct.
Executed on December 26, 2014.
_/s/ Charles T. Frazier, Jr.
Charles T. Frazier, Jr.
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UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TEXAS
AUSTIN DIVISION
__________________________________________
SECURITIES AND EXCHANGE COMMISSION, :
:
Plaintiff,
:
:
v.
:
:
LIFE PARTNERS HOLDINGS, INC., BRIAN
:
PARDO, AND R. SCOTT PEDEN
:
:
Defendants.
:
__________________________________________:
Civil Action No.: 1-12-cv-00033
AFFIDAVIT OF COLETTE PIEPER
STATE OF TEXAS
COUNTY OF McLENNAN
§
§
§
BEFORE ME, the undersigned authority, on this date personally appeared the undersigned
affiant, who swore on oath that the following facts are true and correct:
1.
My name is Colette Pieper. I am over the age of 21 years, of sound mind, capable of
making this affidavit, and fully competent to testify to the matters stated herein. I
have personal knowledge of each of the matters stated herein.
2.
I am licensed by the State of Texas as a Certified Public Accountant and by the
American Institute of CPAs as a Chartered Global Management Accountant.
3.
I am the Chief Financial Officer (“CFO”) for Life Partners Holdings, Inc. (“LPHI”).
As the CFO, I am the principal financial and accounting officer of LPHI. I have
served as the CFO of LPHI since 2012.
4.
As a publicly-traded company, LPHI files consolidated financial statements,
including annual and quarterly financial reports pursuant to the Securities Exchange
Act of 1934. As CFO, I am personally involved with preparation of LPHI’s annual
and quarterly reports. LPHI’s latest Form 10-K (annual report for period ending
02/28/2104) and Form 10-Q (quarterly report for period ending 08/31/2014) filings,
which I signed as the certifying financial and accounting officer are referenced in
paragraphs 5 and 6 below. Consistent with GAAP and our SEC filings, these
consolidated financial reports are referenced in this Affidavit and do not in any way
constitute an admission of substantive consolidation of the separate corporate
entities.
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5.
The
annual
report
that
is
posted
on
line
at
http://ir.lphi.com/secfiling.cfm?filingID=1144204-14-33901 was audited by Whitley
Penn LLP, independent certified public accountants. LPHI’s audited Consolidated
Financial Statements, together with the report of auditors and the notes to the
Consolidated Financial Statements, are included in this annual report beginning on
page 33. As reflected therein, as of February 28, 2014, LPHI and its operating
subsidiary had total assets of $29,470,595 and total liabilities of $6,832,083. During
the fiscal year ended February 28, 2014, LPHI and its operating subsidiary Life
Partners, Inc. (“LPI”) suffered a net loss of ($2,454,105).
6.
As
reflected
in
the
quarterly
report
posted
online
at
http://ir.lphi.com/secfiling.cfm?filingID=1144204-14-61250, as of August 31, 2014
(such report was unaudited but reviewed by Whitley Penn LLP), LPHI and its
operating subsidiary LPI had total assets of $19,820,443 and total liabilities of
$7,993,827. During the quarter ended August 31, 2014, LPHI and its operating
subsidiary LPI suffered a net loss of ($7,209,990). Revenues, net of brokerage fees,
for LPHI and its operating subsidiary were $2,364,392 for the quarter ended August
31, 2014.
The total net worth for LPHI and its operating subsidiary LPI as of August 31, 2014
was $11,826,616: common stock $187,500; additional paid-in capital $11,423,054;
retained earnings $601,126; and treasury stock ($385,064).
Current assets are items on an entity’s balance sheet that are either cash, cash
equivalent, or items which can be converted into cash within one year. Current
assets are a subset of total assets. Current assets for LPHI and its operating
subsidiary LPI as of August 31, 2014 were $5,219,001, comprised of cash and cash
equivalents of $3,058,878; certificates of deposit $351,804; accounts/notes
receivable $334,664; current portion of investments in policies $598,288; deferred
income taxes $655,157; and prepaid expenses $220,210.
7.
As of November 30, 2014, the total cash and cash equivalents per the books and
records of LPHI and its subsidiaries were
. Cash and cash equivalents for
LPHI and each subsidiary were as follow:
The cash and cash equivalents of the
subsidiaries, LPI and LPIFS, fund the day-to-day operations of these two operating
companies (LPI and LPIFS), currently comprised of 59 employees, equating to
of overhead costs (excluding discretionary
expenses) in the performance of the following duties:
x
x
Facilitating the sales of life insurance policies between the sellers and
purchasers;
Providing ministerial services to monitor the investments of over 22,000
clients with over 100,000 life settlement positions–
o Billing for and coordinating with the escrow companies to remit
premium payments to the insurance companies;
o Tracking the status of the insureds;
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x
x
8.
o Coordinating and reconciling payout amounts with the escrow
companies regarding proper allocation and payment of maturity
proceeds to the investor clients in accordance with their
respective fractional interests;
o Providing dedicated on-shore customer service;
Developing and maintaining customized software to provide information
to each investor about his/her investment; and
Developing and maintaining a web-based portal to allow investors to
privately list policy interests for sale to other LPI clients.
LPI recognizes revenue at the time a life settlement closes. Unfortunately, LPI is
confronting a general decline in the life settlement markets and the fallout of the
SEC action and the resulting private litigation. Revenues, net of brokerage fees
(“net revenue”), and net losses for LPHI and its subsidiary LPI for the last three
fiscal years ending February 28/29 2012, 2013, and 2014, and the six months ended
August 31, 2014, are listed below:
x
x
x
x
FYE 2/29/2012: Net revenue $11,714,430; Loss ($3,033,566)
FYE 2/28/2013: Net revenue $ 5,729,582; Loss ($2,877,025)
FYE 2/28/2014: Net revenue $ 3,997,820; Loss ($2,454,105)
Six Months Ended 8/31/2014: Net revenue $ 3,491,577; Loss ($8,947,151)
These losses, resulting from a decline in revenue, along with significant legal and
professional fees incurred in defense of the SEC action and resulting private
litigation, have eroded the strength of LPI’s financial condition.
9.
Beginning in the Third Quarter of this year, a new subsidiary, LPIFS, billed the life
settlement investors for policy monitoring costs in order to recover the expenses of
tracking, coordinating, and reconciling policy premium payments and maturity
payouts through the life settlement process. The billing was for services performed
for the prior twelve months. Because the billing was in arrears, the next annual
billing is scheduled for September 2015. Consequently, LPIFS must conserve its
cash in order to continue to service its 22,247 clients. The face value of the policies
held in escrow on behalf of these clients is over $2.7 billion.
10.
By reviewing the operating expenses over the last six months, the projected basic
overhead costs (excluding discretionary expenses) to merely continue operations are
approximately
. It should be noted that many of the same
overhead costs will still have to be incurred if oversight of the operations is forced to
go to a receiver or trustee in the event the bond is set for the amount of the Judgment
or any other amount that the Company does not have the financial resources to post.
11.
Because the disgorgement order ($15,000,000) and civil penalty ($23,700,000)
assessed against LPHI in the Judgment in this case total an amount in excess of
twice the Company’s consolidated net worth, immediate execution on the judgment
by the SEC will have a devastating effect on the ongoing operations of LPHI and its
subsidiaries. LPHI does not have the ability to obtain or post a supersedeas bond in
the amount of the Judgment entered in this case. I have also been advised that
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commercial sureties are not willing to provide LPHI a bond for any amount. In order
to keep the operations going to service its 22,247 customers, LPHI is willing to, in
lieu of a supersedeas bond: (1) post a cash deposit of $250,000 and (2) pledge its
commercial real estate (“the real estate”), with a current book value before
depreciation of $2,316,202 as security to stay execution of the judgment in this case.
Because of the unpredictability of future revenue due to the ramifications of the
pending judgment against LPHI, it is my opinion, after review of the prior six
months of operating expenses, the maximum amount of a cash deposit that LPHI
could afford to post is $250,000. This takes into account the suspension of any future
dividend payments to the LPHI shareholders. The current book value before
depreciation of the real estate, which is totally unencumbered, is $2,316,202. In
pledging the real estate, LPHI is willing to place the SEC in the position of being the
only, and thus first in priority, secured creditor on the real estate (contingent upon
the Final Judgment being affirmed on appeal), so that the SEC would be more secure
in the event of a bankruptcy than it would otherwise be as a judgment creditor.
12.
As of November 30, 2014, the total Aged Accounts Payable per the books and
records of LPHI and its subsidiaries was
. The largest creditor of LPHI
was Baker & McKenzie, LLP whose outstanding balance was
. This
balance included invoices totaling
for legal services performed for
defense of the Willingham Lawsuit (Texas MDL No. 13-0357). Weekly payments
of
have been made in order to monitor cash flow.
Additional financial commitments of LPHI and its subsidiaries are listed below:
x
x
x
x
x
AFCO Credit Corporation:
$240,713.34
Monthly payments
$34,387.62. Final payment due July 1, 2015. Financed insurance
premiums with Illinois National Insurance Co. (Directors & Officers
Insurance) and Indian Harbor Insurance Co. (Errors and Omissions
Insurance)
ESP Communications, Inc. Agreement to perform certain post-settlement
services for LPI which include periodic contact with insureds and their
health care providers, monthly record checks to determine an insured’s
status, and working with the outside escrow agent in the filing of death
claims. Semi-monthly payments of $7,500, termination upon 30-days’
prior written notice to the other party.
Purchase Escrow Services: Cost Reimbursement Agreement dated July
28, 2011, for reimbursement of operating expenses for ongoing clerical
functions related to previously transacted life settlements.
Whitley Penn LLP Engagement to perform audit and tax services for
fiscal year ending February 28, 2015 and interim reviews for quarters
ended May 31, 2014; August 31, 2014; and November 30, 2014. Fees
for audit services estimated at $310,000; interim quarterly reviews
approximate $26,000 per quarter; tax services estimated at $41,500.
Engagement letter dated July 1, 2014.
Lynn Investments, LLC Consulting Contract for professional services for
LPI regarding its leveraged marketing program. Monthly payments of
$8,125, termination upon 30-days’ prior written notice to the other party.
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DECLARATION OF SABRINA BRAUS
1.
My name is Sabrina Braus. I am the President of Purchase Escrow Services LLC
(“PES”). I am over the age of eighteen years, am of sound mind, have never been convicted of a
felony or a crime of moral turpitude, and am competent in all regards to make this declaration. I have
personal knowledge of the facts herein set forth. I am making this declaration based upon facts known
to me and they are true and correct.
2.
Life Partners, Inc. (“LPI) is a wholly owned subsidiary of Life Partners Holdings, Inc.
(“LPHI”).
3.
LPI is primarily in the business of facilitating “life settlement” transactions. In general
terms, LPI acts as the agent for buyers of life settlements, similar to the agent for a buyer in a real
estate transaction.
4.
Life settlements afford life-insurance policy holders and their families the option to
sell their policies early at a discount, rather than having to wait until the insured dies to receive face
value.
5.
LPI is a licensed Life Settlement Provider in the State of Texas. A “Provider”
represents the buyer in a life settlement transaction. A “Broker”, which can also be licensed in Texas,
represents the seller in a life settlement transaction.
6.
LPI began using the services of Sterling Trust Company in the 1990s for life settlement
transactions and escrow. Sterling was bought by Equity Trust Company and the Escrow Department,
which administered the LPI business, changed its name to United Western (“UW”). Following the
2008 economic downturn, UW encountered financial difficulties and ceased operations on LPI escrow
accounts. At that time, PES was formed and took over all LPI escrow accounts from UW. PES
obtained license to the UW software and equipment, and hired the UW escrow staff to facilitate
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continuity of operations. As successor to Sterling and UW, PES has continued to manage, under
contract with LPI, all accounts for transactions originally closed prior to March 2008.
7.
Although Texas law requires that, if an escrow agent is used in a life settlement
transaction, that escrow agent must either be a trust company, attorney or certified public accountant,
that only applies to the portion of the transaction related to the payment to the seller. Because the
remainder of the transaction after the seller is paid is not regulated under Texas law, and because PES
does not handle transactions involving original policy owners, it is not a trust company.
8.
PES handles all cash within a life settlement transactions facilitated by LPI. The LPI
client is the actual buyer, with LPI serving as agent, and PES is named the beneficiary as escrow agent
for the buyer.
9.
Because the life settlements purchased are often for large amounts, buyers will acquire
a direct fractional interest in the policy. It is therefore common for a buyer to own multiple fractional
interests (i.e. policy positions) in multiple life settlements, and it is common for a policy to have over
100 fractional owners. At present, PES oversees transacted life settlements for 11,802 buyers in 2,989
policies in 36,806 policy positions.
10.
While the policy is in effect, PES pays the premiums from a pooled buyer’s premium
escrow account, the timing and amounts are directed by LPI. If a pooled buyer’s premium escrow
account is depleted and a premium payment is due, LPI bills the buyer, and the buyer pays the amount
billed to PES to replenish their pooled premium escrow account.
11.
LPI monitors to learn of the death the insured. PES then files the claim for the policy
proceeds and is paid by the insurance company. PES then distributes the policy proceeds directly to
the buyers according to their fractional interests. Any balance in the buyer’s premium escrow account
is also refunded to that buyer. This process is dependent upon information from LPI. Prior to PES,
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Sterling and UW distributed approximately $264,232,360.40 in policy proceeds. To date, PES has
distributed $149,116,048.06 in policy proceeds back to buyers, including $41,767,212.79 in 2014.
12.
PES responsibilities are non-discretionary and PES is contractually obligated to do and
only does clerical functions as directed by LPI. PES does not generate sufficient fees to operate
independently of LPI. Per the contract between LPI and PES, and in order to continue operations,
PES sends invoices for expected expenses to LPI. The invoices include, but are not limited to payment
of employee salary, payment of the rent and utilities, as well as all continued maintenance contracts
for the PES operating system and image depot.
13.
At the present, PES serves as beneficiary as escrow agent for 2,989 policies with a face
value of $680,682,025.00. Buyers paid $401,876,583.89 in acquisition costs for their interests in these
policies. PES is dependent on constant information, direction and funds from LPI, without this, PES
cannot perform its contractual responsibilities and the above policies are subject to lapse.
14.
PES books and keeps track of account changes, for example transfers due to the death
or divorce of buyers. PES also handles re-sales of policy positions by buyers, and keeps track of
abandonments when a buyer refuses to pay premiums due. .
15.
PES is completely reliant on information and direction from LPI to conduct these
essential tasks. PES receives information and instruction from LPI no less than twenty times each day,
to conduct the following tasks: (1) making premium payments; (2) confirming and monitoring escrow
deposits; (3) opening new accounts; (4) handling and booking account changes; (5) keeping track of
policyholders; (6) filing death claims, (7) processing maturity payouts; (8) processing purchaser
refunds; (9) processing re-sales.
16.
LPI is responsible for all communications with the buyers and licensees (usually the
financial advisor of the buyer), without the assistance of LPI, PES cannot communicate with the
11,802 buyers who have escrow funds and policy positions.
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17.
Currently, PES holds 11,802 customer accounts, and LPI communicates with each
individual who owns an account. PES relies on LPI to answer questions from purchasers regarding
their life settlement portfolios. Without contact information or a customer account database, PES
lacks the ability to communicate with each individual purchaser.
18.
As escrow agent, PES reviews LPI’s payment of parties, but PES does not have the
means to marshal the policies or structure the transactions. PES cannot handle and disburse funds,
pay premiums, bill the buyers for premiums due, or process maturities without the information
provided by LPI.
19.
LPI is responsible for all premium billing. LPI determines how much to bill for, and
when payments are due. If billing comes to a halt, the premium reserves will run out, and the policies
will begin to lapse, leading to detrimental consequences for purchasers. LPI’s records reflect
ownership of 2,989 life insurance policies, with a total death benefit of $680,682,025.00. The
purchasers who acquired ownership of the policies paid a total of $401,876,583.89 for their
interests in the policies. These purchasers would face overwhelming losses if the policies
lapsed. More than 25,700 of these investments are owned by IRAs.
20.
PES has processed and distributed almost $42 million in death benefits in 2014. PES
knows of no reason to believe this number will be lower in 2015. All such transactions rely on
information from LPI and LPI’s advanced software.
21.
The impact of the Judgment against LPHI creates considerable problems for PES.
PES is critically concerned about the future of LPI. The information that LPI provides is the backbone
of the entire life settlement operation. Should PES lose the information and analysis provided by LPI,
the consequences would be extensive and devastating for investors and policyholders alike. Almost
Seven Hundred Million ($700,000,000.00) dollars in death benefits will be lost.
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Case Case
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EXHIBIT E
Case Case
15-40289-rfn11
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UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TEXAS
AUSTIN DIVISION
__________________________________________
SECURITIES AND EXCHANGE COMMISSION, §
§
Plaintiff,
§
§
v.
§
§
LIFE PARTNERS HOLDINGS, INC., BRIAN
§
PARDO, AND R. SCOTT PEDEN
§
§
Defendants.
§
__________________________________________§
Civil Action No.: 1-12-cv-00033
ORDER SETTING AMOUNT AND TYPE OF SECURITY
PENDING APPEAL FOR LIFE PARTNERS HOLDINGS, INC.
BEFORE THE COURT is Defendant Life Partners Holdings Inc.’s Opposed Sealed
Emergency Motion to Set Amount of Security and for Alternative Security to Stay Enforcement
of Judgment Pending Appeal. The Court is of the opinion that the Motion should be GRANTED.
It is hereby ORDERED that Defendant Life Partners Holdings, Inc. may post security in
the form of a cash deposit in lieu of supersedeas bond in the amount of $__________. Once
deposited in the registry of the court, such deposit shall stay enforcement of the judgment entered
December 2, 2014 (Doc. 304) pending appeal.
In accordance with W.D. Tex. Loc. R. 67:
(a) the funds and deed are deposited into the Court registry account for the purpose of
suspending execution of judgment pending appeal, as permitted under Federal Rule of Civil
Procedure 62(d);
(b) the Clerk of the Court is subject to liability for all damages and costs that may be
awarded in favor of the Plaintiff the Securities and Exchange Commission and against
Defendant Life Partners Holdings, Inc.—up to the amount of the cash deposited by Life
Partners Holdings, Inc. into the Court’s registry account, pursuant to this Order—if: (1)
Life Partners Holdings, Inc. does not perfect an appeal or its appeal is dismissed, and Life
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Partners Holdings, Inc. does not perform the Court’s judgment; or (2) Life Partners
Holdings, Inc. does not perform an adverse judgment final on appeal;
(c) the Clerk will, as soon as the business of his office allows, deposit the cash funds into
an interest-bearing account earning the highest rate of interest at a banking institution
approved by the Clerk, and that the Clerk is to receive an indicia of ownership payable to:
United States District Court
For the Western District of Texas
Clerk of Court, Trustee
Civil Action Number: 1-12-cv-00033
Tax I.D. 74-6252093
(d) since there is no maturity for the cash deposited into the Court’s registry, no roll-over
provision is required;
(e) the Clerk will deduct a registry fee from the deposited cash funds authorized by the
Judicial Conference Schedule of Fees implemented by the Administrative Office of the
United States Courts effective February 3, 1992 for the handling and servicing of interestbearing accounts deposited to financial institutions pursuant to 28 U.S.C. § 2041 and Rule
67 of the Federal Rules of Civil Procedure. The amount of the fee shall be equal to ten
percent (10%) of all income earned during the first five years, seven and a half percent
(7.5%) of all income earned during years six through ten, five percent (5%) of all income
earned during years eleven through fifteen, and two and a half percent (2.5%) of all income
earned after fifteen years while funds are held in the Court’s registry;
(f) the financial institution, without further order of the Court, shall issue a check payable
to the CLERK, U.S. DISTRICT COURT for the percentage of income earned on the cash
funds as set forth above at the end of each five year period or when the account is closed,
whichever occurs sooner, as requested by the Clerk. All remaining sums shall continue to
be reinvested as previously outlined until further order of the Court.
IT IS SO ORDERED.
SIGNED this ____ day of ___________________, 2014.
____________________________________
JAMES R. NOWLIN
UNITED STATES DISTRICT JUDGE
2
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Case 15-40289-rfn11
Doc 240-1 Filed 03/25/15
Entered
03/25/15
17:25:46
Page
Case 1:12-cv-00033-JRN-AWA
Document
1 Filed
01/03/12
Page 1 of
56 145 of
208
UNITED STATES DISTRICT COURT
FOR THE WESTERN DISTRICT OF TEXAS
WACO DIVISION
_____________________________________________
SECURITIES AND EXCHANGE COMMISSION, :
:
Plaintiff,
:
Civil Action No.: 6: 12-cv-00002
:
v.
:
COMPLAINT
:
LIFE PARTNERS HOLDINGS, INC., BRIAN D. :
PARDO, R. SCOTT PEDEN, AND
:
DAVID M. MARTIN,
:
:
Defendants.
:
:
Plaintiff Securities and Exchange Commission (the “Commission”) alleges as follows:
SUMMARY
1.
Since 2006, Defendants Life Partners Holdings, Inc. (referred to jointly with its
wholly-owned subsidiary, Life Partners, Inc. as “Life Partners” or the “Company”)—through
senior officers Brian D. Pardo (“Pardo”), R. Scott Peden (“Peden”), and, since 2008, David
Martin (“Martin”)—engaged in a disclosure and accounting fraud that misled the Company’s
shareholders about the sustainability of Life Partners’ revenues and profit margins, consumer
demand for the life settlement investments that the Company brokers, and, since at least fiscal
year 2007, the Company’s net income. Pardo and Peden profited from the fraud by trading on
inside information that Life Partners systematically uses life expectancy estimates that the
Company knows to be materially short in brokering life settlements. Life Partners engaged in
this practice to artificially inflate the Company’s revenues and profit margins. Pardo and Peden
knew the Company engaged in this practice, which Defendants concealed from shareholders, and
took advantage of the non-public information to sell shares of Life Partners common stock at
artificially inflated prices.
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2.
Life Partners is a public company that trades on the NASDAQ under the ticker
symbol “LPHI.” The Company is in the business of brokering life settlements. In a life
settlement transaction, a life insurance policy owner sells the policy to a purchaser, and the
purchaser becomes an “investor” in the sense that the purchaser receives the death benefit when
the policy matures (i.e., the insured dies).
The purchaser makes a lump-sum payment in
exchange for the policy, and assumes responsibility for paying premiums on the policy until
maturity.
3.
Life Partners derives revenue from the life settlement transactions it brokers by
keeping the difference between what investors pay to acquire a policy and what the policy owner
receives from the sale. In a typical life settlement transaction, Life Partners identifies a number
of investors who purchase fractional interests in a given policy. Included in the purchase price
that investors pay are funds sufficient to cover future premium payments necessary to maintain
the policy during the insured’s estimated life expectancy, which funds Life Partners places in
escrow. Life Partners captures as revenue the difference between the purchase and sale prices,
minus the escrowed funds and certain transaction costs. If the insured under the policy outlives
the life expectancy estimate that Life Partners assigns to the policy, investors have a continuing
obligation to pay premiums after the escrowed funds are depleted. Otherwise, the policy would
lapse, and investors would lose their entire investment.
4.
In a life settlement transaction, the estimate of an insured’s life expectancy (“LE”)
is a critical factor in determining the purchase price that investors are willing to pay. Investors
will pay more to acquire life settlements that have shorter LEs, as they receive their fractional
interest in the death benefit sooner, and the anticipated period of time during which they have to
make premium payments to maintain the policy is shorter. Accordingly, because Life Partners’
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revenue model is predicated on capturing the spread between the price investors are willing to
pay for a life settlement and the amount paid to the policy seller, the LEs that Life Partners uses
to broker life settlements are critical to the Company’s revenues and profit margins. The shorter
the LE, the greater the spread between the purchase and sale prices. Thus, LEs are not only
critically important to investors in life settlement policies, but also to Life Partners and its
shareholders.
5.
Despite the importance of reliable LEs to both investors and shareholders, Life
Partners has, since at least 1999, systematically used materially underestimated LEs in order to
inflate its revenues. Prior to 1999, Life Partners obtained the LEs that it used to broker life
settlements from Dr. Jack Kelly (“Kelly”)—a Reno, Nevada-based doctor that, as a founder and
part owner of the Company, had a financial interest in Life Partners, Inc. Following Kelly’s
unexpected death in 1999—Pardo immediately hired Kelly’s officemate, Dr. Donald Cassidy
(“Cassidy”), to render Life Partners’ LEs.
6.
Prior to hiring Cassidy, Life Partners and Pardo did not conduct any meaningful
due diligence on Cassidy’s qualifications to act as a life expectancy underwriter. In fact, during
their only conversation (at Kelly’s funeral), Pardo instructed Cassidy to review Kelly’s life
expectancy assessments to determine “how they were doing it.” Within a few days of Kelly’s
funeral, Life Partners began sending all of its retail life expectancy work to Cassidy, paying him
$500 for each policy Life Partners successfully brokered using the LEs that Cassidy provided. In
February 2008, Life Partners began paying Cassidy an additional $15,000 per month.
7.
Prior to being hired by Life Partners, Cassidy had no experience rendering LEs.
He had no actuarial training.
As of February 8, 2011, Cassidy had never researched the
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methodology used by life settlement underwriters. In fact, in the ten-plus years he has worked
for Life Partners, Cassidy never modified his methodology or evaluated his track record on LEs.
8.
By at least fiscal year 2006, it was obvious to Life Partners, Pardo, and Peden the
extent to which Cassidy, utilizing the Kelly methodology, had delivered to Life Partners
systematically and materially underestimated LEs. Specifically, as of February 28, 2006, Pardo
and Peden knew or were reckless in not knowing that 88% of the relevant policies brokered by
Life Partners had exceeded their Cassidy–rendered LE. By February 28, 2009, Life Partners,
Pardo, Peden and Martin knew or were reckless in not knowing that 90% of the relevant policies
brokered by the Company had exceeded their Cassidy-rendered LE.
9.
In fact, in 2007, the Colorado Securities Commission sued Life Partners, Pardo,
and Peden for, among other things, failing to disclose to investors the “high frequency rate” at
which insureds outlive the LEs that Life Partners assigns to the policies underlying its life
settlement transactions. Life Partners paid $12.8 million to settle the Colorado action. The
settlement required the Company, at the option of investors, to acquire the interests the Company
had brokered to them and refund the purchase price.
10.
Despite their awareness of Life Partners’ practice of systematically using
materially short LEs to broker life settlements, Defendants misrepresented in the Company’s
public filings with the Commission between 2006 and 2011 that the underestimation of LEs was
a contingent risk. Defendants’ misrepresentation of an existing reality—systematically and
materially underestimated LEs—as a contingent risk left shareholders with the false and
misleading impression that the Company could continue to capture the profit margins that it had
historically realized. In the same public filings, Life Partners also failed to disclose that the
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underestimated LEs constituted a material trend impacting the Company’s revenues, as required
by the federal securities laws.
11.
Pardo, Peden and Martin’s awareness of the LE fraud is evidenced by, among
other things, their efforts to conceal it. During quarterly conference calls with shareholders and
investors in 2007 and 2008, Pardo lied about Life Partners’ track record as delivering “doubledigit” returns to investors. When Pardo touted these returns, he knew that the purported “doubledigit” returns did not include approximately 2,900 life settlements for which the insured had
already outlived Life Partners’ LE. In fact, Pardo knew that the double-digit returns were
impossible to achieve even under a “best case scenario”—i.e., were all the insureds who had
reached their life expectancy estimate to die as of the dates of his statements during the
conference calls.
12.
Peden further concealed Life Partners’ LE fraud by misrepresenting that
Cassidy’s methodology was consistent with industry practices. In particular, in October and
November 2008, Peden misrepresented to an investor, as well as a member of the network of
independent buyers’ agents that Life Partners uses to identify investors, that Cassidy used the
2008 Valuation Basic Table (“VBT”) in rendering LEs for use by Life Partners. When he made
these false statements, Peden knew that Cassidy used a census table, not the VBT. And, unlike
the VBT, the census table that Cassidy used to estimate LEs contains data that was not limited to
persons who had been underwritten for life insurance, but rather included the entire U.S.
population. Cassidy’s use of the census table deviated from industry practices for life settlement
underwriting.
13.
Finally, in August 2010, Peden and Martin, in an effort to cover up the LE fraud
and convince Life Partners’ auditor that Cassidy’s LEs were reliable, provided the auditor with a
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spreadsheet of the 300 “most recent” maturities. Notably, the spreadsheet included both viatical
and life settlement policies dating back to fiscal year 2000, but it excluded 1,230 policies for
which insureds had outlived Cassidy LEs. Peden and Martin knew that consideration of these
1,230 policies by the auditor would have been essential to an accurate assessment of Cassidy’s
track record, and they intentionally excluded these policies to mislead the auditor.
14.
Between February 2007 and January 2009, Pardo and Peden sold approximately
$11.5 million and $300,000, respectively, of Life Partners common stock based on material, nonpublic information that the Company’s stock price was dependant on its practice of
systematically using materially short LEs to generate revenues.
15.
During the same time period that the Defendants were misleading shareholders
about risks to Life Partners’ business and investor returns, they also engaged in an accounting
fraud. From at least fiscal year 2007 through the third quarter of fiscal year 2011, Life Partners
materially misstated its net income by prematurely recognizing revenue from life settlement
transactions that had not yet been completed. Additionally, Pardo, Peden and Martin knew or
were reckless in not knowing that it was Life Partners’ practice to conceal improper revenue
recognition practices from it the Company’s auditor by backdating transactional documents for
the life settlements the Company brokered.
16.
From at least fiscal year 2009, Defendants also misstated net income by failing to
appropriately impair life settlement policies owned by Life Partners. Despite their awareness
that the Company’s LEs were materially short, Defendants continued to use those LEs to value
policies that the Company held on its own books, thereby artificially inflating the value of the
policies in Life Partners’ financial statements.
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17.
As a result of Life Partners’ practice of prematurely recognizing revenue and
failing to appropriately impair its own investments in life settlements, Defendants materially
misstated net income from at least fiscal year 2007 through the third quarter of fiscal year 2011.
On November 22, 2011, Life Partners restated its financial results for fiscal years 2007 through
2010, and for the first three quarters of fiscal year 2011, to correct errors related to revenue
recognition, impairment of investments in owned policies, accrued liabilities, and the related tax
impact, which the Company admitted had been previously “incorrectly accounted for under
[GAAP].”
18.
The Commission, in the interest of protecting the public from such fraudulent
activities, brings this civil securities law enforcement action seeking a permanent injunction
against Life Partners, Pardo, Peden, and Martin, enjoining them from committing or aiding and
abetting further violations of the federal securities laws. The Commission also seeks an order
barring the individual Defendants from serving as officers or directors of a public Company, and
imposing disgorgement of ill-gotten gains, plus prejudgment interest, and civil monetary
penalties as allowed by law. The Commission further seeks an order requiring Pardo and Martin
to reimburse Life Partners for bonuses and profits realized from sales of Life Partners securities
during time periods for which the Company had materially misstated its financial results.
JURISDICTION AND VENUE
19.
This Court has jurisdiction over this action under Sections 20(b), and 22(a) of the
Securities Act of 1933 (“Securities Act”) [15 U.S.C. §77u(a)] and Section 27 of the Securities
Exchange Act of 1934 (“Exchange Act”) [15 U.S.C. §§78u(e) and 78aa].
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20.
Defendants have, directly and indirectly, made use of the means or
instrumentalities of interstate commerce and/or the mails in connection with the transactions
described in this Complaint.
21.
Venue is proper in this Court under Section 22(a) of the Securities Act [15 U.S.C.
§77u(a)] and Section 27 of the Exchange Act [15 U.S.C. §§78u(e) and 78aa] because certain of
the acts and transactions described herein took place in Waco, Texas, where the Company is
headquartered.
DEFENDANTS
22.
Life Partners Holdings, Inc. is a Texas corporation headquartered in Waco, Texas.
The Company operates through a wholly-owned subsidiary, Life Partners, Inc. Life Partners’
common stock is registered with the Commission pursuant to Section 12(b) of the Exchange Act,
and the Company is subject to the reporting requirements of the Exchange Act. Since 2000, Life
Partners common stock has traded on the NASDAQ exchange under the ticker symbol “LPHI.”
Life Partners’ fiscal year ends on the last day of February.
23.
Brian D. Pardo, age 69, is Director, President and CEO of Life Partners Holdings,
Inc. and the founder and CEO of Life Partners, Inc. According to a Schedule 14A Proxy
Statement filed by the Company on June 25, 2010, Pardo directly and indirectly owns 50.3% of
Life Partners Holdings, Inc. In July 1989, the Commission filed a complaint against Pardo and
his company, ASK Corp. of Waco, Texas, alleging that they materially overstated the company’s
revenues and profits in public filings. Pardo resolved the enforcement action by consenting to
the entry of a permanent injunction enjoining him from future violations of Exchange Act antifraud provisions and from aiding and abetting Exchange Act reporting violations.
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24.
R. Scott Peden, age 47, has served as Director, General Counsel, Secretary and
President of Life Partners Holdings, Inc. since 2000. Since its incorporation in 1991, Peden has
served as Vice President and General Counsel of Life Partners, Inc. Peden is an attorney and has
been licensed to practice in Texas since 1990.
25.
David M. Martin, age 53, has served as the Chief Financial Officer for Life
Partners Holdings, Inc. since February 2008. Martin is a Certified Public Accountant, licensed in
Texas since 1984.
FACTS
FRAUDULENT AND MISLEADING REPRESENTATIONS TO SHAREHOLDERS
A. Life Partners’ Business Model
26.
Life Partners, through its wholly-owned operating subsidiary, brokers the sale of
life insurance policies by policy owners (typically the insureds under the policies) to investors in
the secondary market, a transaction referred to as a “life settlement.” In general, Life Partners
purports to distinguish between “viaticals” and “senior life settlements” based on whether or not
the insured covered under the policy is terminally ill or elderly. In the former case, it categorizes
the policies as viaticals, and, in the latter, as senior life settlements. Life Partners refers to senior
life settlements and viaticals collectively as “life settlements.”
27.
The Company’s revenue model is designed to capture the residual monies in the
life settlement transactions it brokers (i.e., the difference between the buy and sale prices of the
insurance policy, minus transactional costs).
28.
Life Partners facilitates sales of fractionalized interests in a single policy to
multiple investors, a structure the Company refers to as “direct fractional ownership.” At the
date investors purchase an interest in a policy, they also contribute funds to escrow for future
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premium payments on the policy for the term of the life expectancy estimate provided by Life
Partners. The escrowed amount, as well as a 12% commission paid to the investor’s broker and
medical review fees, are funded from the amount paid by the investors for the policies. When an
insured dies, investors in that policy collect their pro rata share of the policy’s death benefit.
B. Life Partners’ Profits Depend on Short LEs
29.
According to the Company’s Forms 10-K and 10-KSB filed with the Commission
for fiscal years 2008 through 2010, Life Partners prices life settlements “based on the policy face
amount, the anticipated life expectancy of an insured and policy maintenance costs.” The policy
face amount and policy maintenance costs are ostensibly fixed. But the LE is variable in that it
is set by an LE underwriter that analyzes the age and health of the insured. Accordingly, the LE
is a significant factor impacting both the price investors pay for policies and the revenues and
profit margins that Life Partners extracts from the transactions that it brokers.
30.
Since 1999, the Company has relied exclusively on Cassidy, a Reno, Nevada-
based internist, to provide LEs for the policies it brokers. Prior to 1999, Life Partners obtained
the LEs it used to broker life settlements from Kelly, a founder and part owner of Life Partners,
Inc. Kelly died unexpectedly in 1999. Before his death, he and Cassidy shared office space in
Reno, but maintained separate medical practices.
31.
Pardo met Cassidy at Kelly’s funeral, and hired him to fill Kelly’s role in
furnishing LEs to Life Partners. Pardo had never met Cassidy before, and, according to Pardo,
never spoke to him again after their conversation at the funeral. At Kelly’s funeral, Pardo
directed Cassidy to review Kelly’s life expectancy assessments to determine “how they were
doing it.” Cassidy agreed to do so, and, within days of meeting Pardo at Kelly’s funeral, he was
rendering LEs for Life Partners.
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32.
Pardo hired Cassidy without conducting any meaningful due diligence on
Cassidy’s qualifications to serve as a life expectancy underwriter. At the time Pardo hired him,
Cassidy had no experience rendering LEs. Cassidy has never had any actuarial training, and, as
of February 8, 2011, had never taken any courses or received any professional guidance or
instruction on life expectancy analysis. He had never attended a life settlement conference or
researched the methodology used by other underwriters in the life settlement industry.
33.
Initially, Life Partners paid Cassidy $500 for each policy Life Partners
successfully brokered using Cassidy’s LE. In or around February 2008, Life Partners began
paying Cassidy a $15,000 per month retainer on top of the $500 fee he received for every policy
Life Partners brokered using his LE. Since Kelly’s funeral in 1999, Life Partners has sent all of
its retail life expectancy work to Cassidy. In the ten-plus years he has worked for Life Partners,
Cassidy has never evaluated his track record on LEs or the reliability of his methodology, which
he has never modified.
C. Cassidy’s Methodology Results in Short Life Expectancy Estimates
34.
Cassidy described his methodology in letters to the Company dated March 2002
(“2002 Letter”) and May 2009 (“2009 Letter”) (collectively, the “Letters”). The purpose of the
Letters was to provide information to Life Partners’ auditor about Cassidy’s methodology.
35.
According to the 2009 letter, Cassidy was rendering LEs using a census table
published by the U.S. Department of Health and Human Services (“HHS”). The HHS table is a
census table that addresses life expectancies for the entire U.S. population. In contrast, mortality
tables used by actuaries in the life settlement industry address mortality rates for a select portion
of the population who have been underwritten for insurance. LE estimates based on data
provided in the HHS table are typically shorter than LE estimates based on data in tables tailored
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to insured populations. Cassidy’s practice of using a census table to assess life expectancy
deviates from the standard practice in the life settlement industry.
36.
Cassidy also deviated from standard practices in the life settlement industry by
rendering LEs based on outdated mortality data instead of the most recent data, e.g., using 1999
data when 2005 data was available.
37.
Cassidy has purportedly reviewed tens of thousands of policies during his decade-
plus tenure underwriting LEs for Life Partners, but before they received inquiries from the
Commission’s staff in 2010, neither Cassidy nor the Company ever assessed the accuracy of his
LE track record. Nor did they otherwise attempt to inform future LE estimates based on other
historical experiences, such as changes in medical treatments or mortality tables. Cassidy’s
failure to factor in historical experience in his LE underwriting methodology deviates from
standard practice in the life settlement industry.
38.
The Letters also indicate that Cassidy’s methodology for generating LEs on
viaticals and senior life settlements is substantially the same. According to Life Partners, it
brokered primarily viatical policies until fiscal year 2008.
39.
As a result of these deficiencies in Cassidy’s methodology, his LEs are materially
short, and the number of policies brokered by Life Partners for which the insured has exceeded
Cassidy’s LE has increased over time. The actual number of maturities on policies underwritten
by Life Partners is significantly lower than the expected number of maturities (based on
Cassidy’s LEs) for those same policies, for both viaticals and life settlements.
40.
For example, the average LE generated by Cassidy for all policies from 2000-
2005 was 3.8 years, and his average LE for life settlements from 2000-2010 was 4.6 years. Had
the LEs been appropriately developed based on sound actuarial practices, including factoring in
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historical experience, Cassidy’s average LE for all policies (including viaticals) funded from
2000 through 2005 should have been at least 8 years longer. Cassidy’s average LE for life
settlements funded from 2000 through 2010 should have been at least 9 years longer than
estimated.
41.
Cassidy’s success rate in accurately estimating LEs was abysmal. The following
chart shows, for the universe of policies from which his success rate is measurable, the
percentage of policies that have exceeded Cassidy’s LEs since Life Partners started brokering
policies based on those LEs:
Fiscal Year
2006
2007
2008
2009
2010
42.
Policies Exceeding LE
88%
88%
89%
90%
91%
In an effort to conceal Life Partners’ practice of using Cassidy’s flawed
methodology to systematically underestimate LEs, and the accompanying risk that Life Partner’s
reliance on underestimated LEs posed to the Company’s business, Peden misrepresented that
Cassidy’s methodology was consistent with industry practices.
Peden misrepresented that
Cassidy’s LEs were based on the 2008 VBT, a table published by the Society of Actuaries that is
widely used in the life settlement industry.
43.
In October 2008, Peden misrepresented to an investor that “the average LE is
based on how old the insured is right now and what the 2008 VBT tables say your LE [is].”
When he made this statement, Peden knew that Cassidy used a census table that included all
persons, not a table, like the VBT, that includes data only for persons underwritten for life
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insurance. In fact, contrary to these statements, Life Partners made no use of the 2008 VBT table
in its LE estimates.
44.
Similarly, in November 2008, Peden told a member of the network of independent
buyers’ agents that Life Partners uses to identify investors (“Licensees”) that Cassidy “uses the
same mortality table that 21st Services uses.” At the time that Peden made this representation, he
knew that 21st Services, a well known life expectancy provider, was using the 2008 VBT Table,
and that Cassidy was using the HHS table.
D. Using Short Life Expectancy Estimates to Broker Life Settlements Enabled Life
Partners to Inflate Its Revenues
45.
Using Cassidy’s materially short LEs enabled Life Partners to artificially inflate
its revenues, as the Company extracted significantly more money from investors than it would
have had it priced life settlements based on appropriately developed LEs. During fiscal years
2006 through 2011, Life Partners extracted more than $400 million of revenue from the life
settlement transactions it brokered.
46.
In September 2010, Peden provided to Life Partners’ auditor, E&Y, a “pricing
illustration” that demonstrates the importance of LEs to Life Partners’ business model. Peden
based his pricing illustration on a policy that Life Partners brokered in 2010. Under the terms of
that life settlement transaction, the policy owner agreed to sell a policy with a face amount of $5
million for $1 million. Using a 4-year LE, Life Partners marketed the policy to investors at a
price of $3 million. At the time of the closing, Life Partners deposited $800,000 of the $3
million purchase price in escrow for the purpose of funding future premium payments on the
policy for the life expectancy of the insured. In addition, Life Partners paid, from the $3 million
purchase price, the investor’s broker $360,000 (a 12% commission) and medical review fees to
Cassidy.
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47.
According to the pricing illustration, netting fees, expenses and escrowed
premiums, Life Partners realized residual, net revenue of approximately $859,000 from the sale
of the policy. Using the same policy, if the LE were increased by just two years, to a 6-year life
expectancy estimate, the transaction would have been unprofitable to Life Partners. With a 6year LE, Life Partners would have to market the same policy, if priced to achieve the same 13%
investment return, at a purchase price of approximately $2.3 million. From the $2.3 million
purchase price, Life Partners would have been required to escrow $1.2 million, pay the investors’
broker $279,000 (the 12% commission), and pay the policy seller $1 million. Accordingly, with
a 6-year LE, there would be no residual income from the sale for Life Partners to capture as
revenue, and the transaction would have been unprofitable to the Company.
48.
From January 2000 through December 2010, Life Partners brokered
approximately 2,260 life settlement transactions based on LEs provided by Cassidy. Using
appropriately developed LEs, the average projected ROI for investors in these policies would be
approximately 0.4%. Assuming that investors would have been willing to buy interests in life
settlements with a 0.4% projected ROI at all, the price they would have been willing to pay for
such a small return on their investment would have been substantially less. For example,
investors paid approximately $594 million for policies brokered by Life Partners using the
Cassidy LE in 2009 and 2010. Assuming a 10% return to investors and appropriately developed
LEs, these policies were actually worth approximately $39 million. Thus, by overvaluing its
policies using materially short LEs, Defendants were able to extract from investors, during 2009
and 2010 alone, approximately $555 million more than they could have reasonably expected to
earn using appropriately developed LEs.
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E. Defendants Knew that Cassidy’s LEs Were Materially Short
49.
Beginning at least as early as 2003, it was apparent to Life Partners’ Audit
Committee and Board of Directors that the LEs used by the Company to broker life settlement
transactions were materially short.
In February 2003, Life Partners’ auditor and Audit
Committee expressed concern that that the number of maturities on the policies that the
Company brokered was less than expected based on the LEs that Life Partners assigned to those
policies.
In pertinent part, the Audit Committee’s February 2003 quarterly report to Life
Partners’ Board of Directors stated:
[D]iscussion was held regarding the small number of policies paying off
during the nine months ended November 30, 2002. Based on these
discussions, the Committee recommended discussions with management
about obtaining an independent review of this issue to determine whether
adjustments are necessary to the Company’s underwriting criteria.
Both Pardo and Peden were members of Life Partners’ Board of Directors in February 2003.
50.
Despite the Audit Committee’s concerns, Pardo and Peden did not attempt to
review or adjust the Company’s underwriting criteria or determine why Life Partners was not
seeing the expected number of maturities based on Cassidy’s LEs. Indeed, neither Pardo nor
Peden followed the audit committee’s recommendation to conduct an independent review of Life
Partners’ underwriting criteria even though, according to them, they had not spoken to Life
Partners’ sole underwriter—Cassidy—for almost four years.
51.
In 2003, Life Partners began including data in its annual filings with the Texas
Department of Insurance (“TDI”) reflecting, for matured policies, the difference between
Cassidy’s LEs and when insureds actually died. The reports filed by Life Partners for 2003
through 2009 reveal that insureds underlying approximately 80% of matured policies that the
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Company brokered had outlived Cassidy’s LEs.
The annual reports filed with TDI were
prepared by the Company’s legal department, which Peden oversaw.
52.
Life Partners disclosed in its periodic filings with the Commission that it
advanced money to make premium payments on brokered policies when the amounts escrowed
for premiums was depleted—i.e., when insureds outlived their LEs, and additional premium
payments came due. The amount of premiums advanced by Life Partners increased steadily
from $827,583 in fiscal year 2005 to $2,518,316 in fiscal year 2010. During this period, Life
Partners paid a total of $8,881,035 in premium advances. Defendants knew that Cassidy’s
flawed methodology for estimating LEs would result in an increasing rate of escrow depletion
over time, as more escrow advances became necessary to address the rising incidence of insureds
outliving Cassidy’s LEs, and their knowledge of the result is manifest from Defendants’ filings
with the Commission.
53.
In 2006, questions and concerns about the reliability of Life Partners’ LEs were
raised again, when an investment firm considered a potential investment in a pool of life
settlements brokered by Life Partners. The Company authorized the investment firm to conduct
due diligence on Life Partners’ operations. The firm retained a due diligence consultant who
concluded, in February 2006, that Life Partners had failed to analyze the accuracy of Cassidy’s
LEs, and that Life Partners provided no feedback to Cassidy on his track record or methodology.
The consultant’s report included a recommendation to Pardo and Peden that Life Partners “track,
analyze, and validate” Cassidy’s LEs.
Again, Pardo and Peden did not follow the
recommendation to analyze Cassidy’s LEs.
54.
Moreover, data available to Defendants from the Company’s internal policy
tracking system showed that, by at least fiscal year 2006, the LEs that Life Partners used to
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broker life settlement interests were systematically and materially underestimated.
As of
February 2006, tracking data revealed that, of the policies brokered by Life Partners for which
the accuracy of Cassidy’s LEs is measurable (“measureable policies”), insureds underlying 88%
of those policies had outlived their LEs. By February 2009, the tracking data showed that
insureds under 90% of measurable policies had outlived their LEs.
55.
In 2007, the Colorado Securities Commission confronted Life Partners and its
management, including Pardo and Peden, about the unreliability of Cassidy’s LEs.
The
Colorado Securities Commission filed an action against Life Partners, Pardo, Peden, and others
alleging, among other things, that the Company’s failed to disclose material facts to investors in
its life settlement transactions, including “the high frequency rate in which the viators outlived
life expectancies predicted by Life Partners.” Life Partners settled the suit by agreeing, with
respect to investments in 524 policies, to refund the investors’ money and take back their policy
interests. Company paid $10.1 million to do so, along with statutory interest of $2.7 million.
F. Defendants Misled Shareholders About the Impact of Short Life Expectancy Estimates
on Life Partners’ Business
56.
Notwithstanding the significance of LEs to Life Partners’ profit margins, revenue,
and investor demand for the Company’s products, Life Partners misrepresented, as a contingent
risk, the adverse impact of underestimated LEs on the Company’s business. In the Risk Factors
section of each of its Forms 10-K and 10-KSB for fiscal years 2006 through 2011, the Company
included the following disclosures:
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Fiscal Year End
Forms 10-K
2006
Disclosure
If we underestimate the average life expectancies, our purchasers will not
realize the returns they seek, demand will fall, and purchasers will invest
their funds elsewhere . . . . We cannot assure you that, despite our
experience in settlement pricing, we will not err by underestimating or
overestimating average life expectancies or miscalculating reserve amounts
for future premiums. If we do so, we could lose purchasers or viators and
life settlors, and those losses could have a material adverse effect on our
business, financial condition, and results of operations. (Emphasis added.)
2007-2008
If we underestimate the average life expectancies and price our
transactions too high, our purchasers will not realize the returns they
seek, demand may fall, and purchasers may invest their funds
elsewhere . . . .We cannot assure you that, despite our experience in
settlement pricing, we will not err by underestimating or overestimating
average life expectancies or miscalculating reserve amounts for future
premiums. If we do so, we could lose purchasers or policy sellers, and
those losses could have a material adverse effect on our business,
financial condition, and results of operations. (Emphasis added.)
2009-2010
If we underestimate the average life expectancies and price our
transactions too high, our purchasers will realize smaller returns,
demand may fall, and purchasers may invest their funds elsewhere. . . .
We cannot assure you that, despite our experience in settlement pricing,
we will not err by underestimating or overestimating average life
expectancies or miscalculating reserve amounts for future premiums. If
we do so, we could lose purchasers or policy sellers, and those losses
could have a material adverse effect on our business, financial
condition, and results of operations. (Emphasis added.)
2011
If we underestimate the average life expectancies and price our
transactions too high, our purchasers will realize smaller returns,
demand may fall, and purchasers may invest their funds elsewhere. . . .
To support our pricing systems, we use life expectancy estimates from
an outside practicing physician and a leading industry provider. We
cannot assure purchasers that, despite our experience in settlement
pricing, we will not err by underestimating or overestimating average
life expectancies or miscalculating reserve amounts for future
premiums. If we do so, we could lose purchasers or policy sellers, and
those losses could have a material adverse effect on our business,
financial condition, and results of operations. (Emphasis added.)
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57.
Contrary to Life Partners’ misleading disclosures, Defendants knew, or were
reckless in not knowing, that the Company’s use of materially short LEs was not a mere
possibility but an existing reality. In connection with these misleading disclosures, Defendants
acknowledged the material adverse impact that underestimated LEs posed to Life Partners’
business, and particularly that investor demand for the Company’s life settlements could drop
off, making the business unsustainable. Yet Defendants chose to misrepresent this known and
existing risk to shareholders as a mere contingency.
58.
In late 2010 and early 2011, press articles regarding Life Partners’ business
practices and use of underestimated LEs had a significant, negative impact on the Company’s
share price.
On December 16, 2010, following an article in The Life Settlements Report
highlighting problems with Cassidy’s method for estimating LEs and the fact that his practices
may be inconsistent with other LE underwriters, the Company’s share price dropped by over 8%.
Similarly, a January 19, 2011, article in The Wall Street Journal, which made public the
Commission staff’s investigation of Life Partners and raised questions about the accuracy of the
Company’s LEs, resulted in a 17% decline in the Company’s share price. As these significant
declines in the Company’s share prices suggest, the accuracy of the LEs that Life Partners uses is
material to the Company’s shareholders.
59.
In addition, Life Partners was required by Item 303 of Regulation S-K to identify
in the Management Discussion and Analysis section (“MD&A”) of its Forms 10-K and 10-KSB
any known trends that would result in, or that were reasonably likely to result in, a material
favorable or unfavorable impact on the Company’s net revenue from continuing operations.
Despite the known risk that underestimated LEs posed to Life Partners’ business, Defendants
never disclosed the known trend of materially short LEs.
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60.
Pardo and Peden reviewed and signed Life Partners’ Forms 10-K and 10-KSB for
fiscal years 2006 through 2010. Martin reviewed and signed each of Life Partners’ Forms 10-K
for fiscal years 2008 through 2010.
H.
Pardo Misrepresented Investor Returns During Conference Calls with Analysts and
Shareholders
61.
In at least two quarterly conference calls following earnings announcements by
the Company, analysts inquired about the average ROI for investors in Life Partners’ life
settlements. In an October 2007 conference call, Pardo misrepresented that:
Most of our clients are looking for IRRs in the 12 to 14 % range, and this
is quite common. Some will pay a little less, some a little more. But I
would say that’s a fair assessment of what they are looking for and also
somewhat on the conservative side of what we think they are going to
actually get.
In an October 2008 conference call, Pardo misrepresented that “I think if [clients] are expecting
[11-12% returns], they will not be disappointed.”
62.
Contrary to Pardo’s representations, as of the 2007 and 2008 conference calls, the
average or mean ROI for investors since the Company started brokering life settlements was
nowhere near the “conservative” 11% to 14% returns touted by Pardo.
63.
As alleged above, Pardo was fully aware of the known practice and undisclosed
trend of the Company’s use of materially short LEs.
Pardo later acknowledged that the
information Life Partners conveyed about historic ROI for its investors did not take into account
policies that remained active beyond their LE. He also acknowledged that, for such policies,
investor returns could only decline, and more so with each passing day that the policy remained
active.
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THE ACCOUNTING FRAUD
64.
In fiscal year 2003, Life Partners instituted a revenue recognition practice that
was inappropriate under Generally Accepted Accounting Principles (“GAAP”). The Company’s
practice was improper because Life Partners prematurely recognized revenue from the life
settlement transactions it brokered. In 2004, Life Partners misled its auditor about the criteria the
Company used to recognize revenue, and continued to improperly recognize revenue based on
ill-gotten guidance from the auditor, even though the Company knew that the guidance was
based on incomplete and misleading information.
65.
Life Partners also backdated certain transactional documents to hide the
Company’s premature revenue recognition from its auditors, and lied to shareholders about its
revenue recognition practices in various, inconsistent disclosures in public filings. Life Partners
adhered to its inappropriate practice of prematurely recognizing revenue from fiscal year 2003
through the third quarter of fiscal year 2011 (i.e., period ended November 30, 2010).
66.
In addition to prematurely recognizing revenue from life settlement transactions,
Life Partners also made it a policy for certain life settlements to recognize revenue in a given
quarter based on events occurring after the quarter ended, which also failed to comply with
GAAP. As a result of the Company’s improper revenue recognition policies, Life Partners
misstated net income in its financial statements.
67.
In addition, in analyzing the carrying value of life settlements owned by Life
Partners – which, in most cases, became Company-owned because Life Partners elected to
acquire them to settle disputes with investors – Life Partners’ used the same LEs it assigned to
the policies when it originally brokered the interests, which LEs the Company knew to be
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flawed. Through its use of the same flawed and materially short LEs to assess the value policy
interests on its books, the Company materially understated impairment of its assets.
68.
On November 22, 2011, the Company announced in its Form 10-K for fiscal year
2011 that it was restating financial results for fiscal years 2007 through 2010 and the first three
quarters of 2011 to correct these and other accounting errors (the “Restatement”).
The
Restatement addresses, among other things, errors related to revenue recognition, impairment of
investments in Company-owned policies, accrued liabilities, and the related tax impact, all of
which Life Partners admitted had been previously “incorrectly accounted for under [GAAP].”
A. The Company’s Life Settlement Transaction Cycle and Timely Revenue Recognition
Under That Cycle
69.
In a typical life settlement transaction brokered by the Company, Life Partners
first identifies policy owners interested in selling their policies, and negotiates a potential
purchase of the policies through “Seller Agreements” between the policy owners and the
Company. Upon reaching an agreement for a potential sale by the policy owners, Life Partners
forwards them assignment documents covering the policies, to be returned to the Company along
with executed copies of the Seller Agreement. Peden was one of three executives who reviewed
and signed Seller Agreements on behalf of the Company.
70.
Prior to the “Closing Date,” Seller Agreements are non-binding and
unenforceable against the policy owner. The Seller Agreements define “Closing Date” as “the
date upon which the consideration for the transaction described herein is transferred from the
Escrow Agent to the Seller.” Prior to the Closing Date, neither the policy owner nor Life
Partners are contractually obligated to proceed with the sale, as each may rescind the agreement
at any time and for any reason without incurring a penalty. In fact, for a 15-day period following
the Closing Date (the “Rescission Period”), the policy owner has the option to rescind his or her
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agreement to sell the policy for any reason. Moreover, death of the insured covered by the
policy prior to or during the Rescission Period triggers an automatic rescission under the Seller
Agreement.
71.
While it processes the Seller Agreement, Life Partners sends the medical file for
the insured underlying the policy to Cassidy for his review and analysis.
Once Cassidy
completes his analysis, Life Partners prepares a confidential case history for each insured, which
contains Cassidy’s LE.
Licensees submit reservations on behalf of interested investors to
purchase specified interests in a particular policy or policies.
To secure their reservation,
investors mail or wire money to the escrow agent to be used to purchase life settlements at
closing, and they deliver signed, but undated, “Policy Funding Agreements” to the Company.
The Policy Funding Agreement specifies the policy or policies to be purchased, the acquisition
price, and the escrow arrangements for receipt and disbursement of funds.
72.
After receipt of the Policy Funding Agreement, the Seller Agreement, and the
accompanying assignment documents, Life Partners forwards to the escrow agent the documents
necessary for closing. A Life Partners employee responsible for coordinating funding sends the
escrow agent a closing letter that provides instructions regarding the payment of funds at closing,
including the amount to be paid to the seller, the amount to be placed into escrow for future
premiums, and the residual amount to be sent to the Company. The closing of a life settlement
transaction occurs when the seller gets paid – i.e., on the Closing Date, as defined in the Seller
Agreement.
73.
At all times relevant to the Commission’s claims, Pardo, Peden, and Martin
participated in and/or monitored the process by which the Company processed and recorded
revenue from life settlement transactions.
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Department, was responsible for reviewing and approving the quarter-end accrual journal entry
reflecting revenues, including the journal entries necessary to reflect policies that were only
partially funded – i.e., polices as which the Company had secured commitments from investors
sufficient to purchase some, but not all, fractional interests in the policy. Pardo and Peden
monitored daily, monthly, quarterly, and annual contract activity, including contract funding
status, through an internal, electronic database that holds all information related to a particular
policy.
B. Life Partners Prematurely and Improperly Recognized Revenue
74.
Prior to fiscal year 2003, Life Partners recognized revenue as of the Closing Date.
In fiscal year 2003, Life Partners began recognizing revenue prior to the Closing Date and, in so
doing, began recognizing revenue from life settlement transactions in a manner inconsistent with
GAAP.
75.
Specifically, the Company changed its policy to recognize revenue based on: (i)
the receipt date of an executed Seller Agreement; (ii) the receipt date of documents from the
seller authorizing assignment of the insurance policy; and (iii) the date of the Policy Funding
Agreement from an investor committed to purchasing an interest in the policy. Upon the
occurrence of the last of these three dates for a given policy, the Company recognized, for the
reporting period in which the last date fell, a pro rata portion of the total revenue it expected to
earn when it completed the sale of 100% of the interests in that policy. For example, if the
Company had received a signed Seller Agreement and assignment documents, along with Policy
Funding Agreements from purchasers to acquire 2% of a policy, the Company would recognize,
in that reporting period, 2% of the total revenue anticipated from that life settlement transaction.
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76.
Under GAAP, revenue can be recognized only when it is both (i) realized or
realizable and (ii) earned. Revenue is “realized or realizable” when products or services (in this
case, life settlements) are exchanged or readily convertible to known amounts of cash or claims
to cash. Revenues are “earned” when “the entity has substantially accomplished what it must do
to be entitled to the benefits represented by the revenues.” Financial Accounting Standards
Board (“FASB”) Accounting Standards Codification (“ASC”) 605-10-25, Revenue Recognition
(also contained in FASB Statement of Financial Accounting Concepts No. 5, Recognition and
Measurement in Financial Statements of Business Enterprises, paragraphs 83(a) and 83(b)).
77.
Life Partners’ post-2003 revenue recognition policy is contrary to GAAP because
the Company recognizes revenues prior to the Closing Date, a point before revenue becomes
either (i) realized or realizable or (ii) earned.
78.
Revenue is not realized or realizable before the Closing Date because Life
Partners receives no cash, and has no claim to cash, until a life settlement is purchased by
investors and the policy owner/seller is paid by the escrow agent. The policy/owner seller does
not get paid until, at the earliest, the Closing Date. Moreover, Life Partners cannot readily
convert an investor’s commitment to purchase a life settlement interest into cash or a claim to
cash prior to delivering the corresponding interests in the underlying policy, which it cannot
possibly do prior to the Closing Date. Accordingly, prior to the Closing Date, Life Partners’
revenues are neither realized nor realizable.
79.
Revenue is not earned before the Closing Date because the policy owner is not
obligated to sell the policy to Life Partners prior to the Closing Date. Life Partners’ revenues do
not qualify as “earned” until such time as it fully brokers the sale of 100% of a policy. Policy
owners sell their policies in a single transaction under the Seller Agreement, not on a prorated
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basis, as Life Partners identifies investors interested in purchasing fractional interests in the
policy. Consequently, after the Company identifies one or more interested investors in a given
policy, Life Partners still has substantial continuing obligations to identify investors sufficient to
purchase all the unsold interests in the policy before it becomes entitled to any portion of the
proceeds from the sale. Life Partners is not entitled to any proceeds from the sale until investors
purchase 100% of a policy, which does not happen until the Closing Date, at the earliest.
80.
In short, Life Partners could not properly recognize revenue prior to closing on a
life settlement transaction (i.e., prior to the policy owner/seller being paid) because the Seller
Agreement allowed the policy owner and Life Partners to walk away from the deal at any time
for any reason prior to closing.
C. Life Partners’ Disclosures to its Auditors Regarding Revenue Recognition Were
Misleading
81.
In 2004, Pardo and Peden asked Life Partners’ outside auditor if the Company
could recognize revenue under a hypothetical scenario based on four assumptions. For its
review, Pardo and Peden asked the auditor to assume that: (i) the policy owner has signed a
Seller Agreement, (ii) “[n]o additional action of any kind is required on the part of either the
seller, the purchasers, or Life Partners to finalize [the] transaction,” (iii) investors have signed
purchase documents and “funded in full the purchase price for the policies” as wells as amounts
required to be escrowed for future premium payments, and (iv) the escrow agent has taken steps
necessary to ensure that the insurance carrier is legally obligated to transfer ownership of the
policy.
82.
Despite their knowledge of the policy owner’s rescission rights under the Seller
Agreement, Pardo and Peden omitted those known contingencies from the hypothetical scenario
they asked the auditor to consider. Due to the omission, the hypothetical was incomplete, and
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therefore misleading. Based on the incomplete and misleading hypothetical, the auditor advised
the Company in January 2004 that it could recognize revenue under the circumstances presented.
83.
Moreover, the auditor’s 2004 guidance was based on unfounded assumptions.
Pardo and Peden asked the auditor to assume that investors “had funded in full the purchase price
for the policies” and that “[n]o additional action of any kind is required on the part of either the
seller, the purchasers, or Life Partners to finalize [the] transaction.”
These assumptions
presuppose that Life Partners had identified a sufficient number of investors to purchase 100% of
the interests in a given policy. As adopted by Pardo and Peden, and implemented by Martin, the
Company’s revenue recognition policy was inconsistent with the 2004 guidance in that Life
Partners recognized revenue after identifying investors sufficient to purchase as little as 2% of a
given policy, a point after which substantial additional steps were required to finalize the
transaction. Namely, finding enough investors to purchase the remaining 98% of the policy.
84.
In an April 2010 memorandum addressed to Martin and others, Pardo and Peden
memorialized Life Partners’ improper revenue recognition policy, described in paragraphs 76
and 82 above. Pardo and Peden sent the memo to Martin, the Company’s CFO, to codify
policies and procedures that, according to Pardo and Peden, Life Partners had “regularly
utilized” since they obtained the January 2004 guidance from the Company’s auditor. The
memorandum also contemplated that the Accounting Department, which Martin oversaw, “may
audit and test” revenue recognition qualifications for a given reporting period by verifying the
receipt of Seller Agreements and assignment forms, and the dates of the Policy Funding
Agreements.
85.
For fiscal year end 2010 through the third quarter of 2011, Pardo, Peden, and
Martin signed management representation letters to the Company’s auditor dated May 12, 2010,
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July 8, 2010, August 31, 2010, and January 10, 2011, falsely stating that Life Partners had
adequately disclosed a description of the revenue recognition policies that the Company applied
to major revenue-generating products, which products include life settlements.
86.
These management representation letters also stated:
All revenue recognized as of the balance sheet date has been
realized and earned. Revenue has not been recognized before (1)
persuasive evidence of an arrangement exists, (2) goods have been
delivered or services rendered, (3) consideration to be received is
fixed or determinable and (4) collectability is reasonably assured.
The representation that all revenue recognized has been realized and earned is false for the
reasons stated in paragraph 75 through 80 above. Additionally, the lack of an obligation on the
policy owner’s behalf to sell the policy prior to the Closing Date indicates an absence of
persuasive evidence that an arrangement exists. Finally, prior to the Closing Date, the Company
has not delivered policy interests to investors, and collectability of the Company’s receivables is
not reasonably assured. Collectability cannot be assured until such time as the seller has been
paid and the policy interests are delivered to the investors, which cannot occur prior to closing.
D. In Public Filings, Life Partners Misrepresented the Company’s Revenue Recognition
Policies and Practices
87.
In Life Partners’ experience, policy owners periodically cancelled the Seller
Agreement prior to closing. Additionally, insureds occasionally died within the Rescission
Period, triggering automatic rescissions of Seller Agreements.
Life Partners’ practice of
prematurely recognizing revenue caused Life Partners to reverse in subsequent quarters revenues
reported in previous quarters. There were 18 such reversals affecting 20 of the 27 quarters
during the period from fiscal year 2005 through the third quarter of fiscal year 2011. Five of
these reversals took place during Martin’s tenure as CFO.
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88.
Pardo, Peden, and Martin were aware of periodic cancellations and rescissions of
Seller Agreements, which exposed the impropriety of Life Partners’ revenue recognition
practices. Pardo, Peden, and Martin knew, or should have known, that it was improper for the
Company to recognize revenue prior to the Closing Date.
89.
Life Partners’ revenue recognition practices, which Pardo and Peden established,
and Martin implemented after he became CFO, were inconsistent with the Company’s
disclosures to shareholders in public filings signed by Pardo, Peden, and Martin.
90.
The Company’s Forms 10-K and 10-KSB for fiscal years 2006 through 2010
contain two essentially identical descriptions of the Company’s revenue recognition policy, both
of which were false. In these disclosures, the Company stated that it recognizes revenue “at the
time a settlement closes [has been closed] and the purchaser has obligated itself to make the
purchase.” (Emphasis added.) The Company’s Forms 10-Q for fiscal years 2009 and 2010 also
contain this false description.
91.
Contrary to these disclosures, Life Partners routinely recognized revenue from a
particular life settlement transaction before the transaction closed. While the Seller Agreement
(Life Partners’ own document) defines the “Closing Date” as the date upon which
“consideration for the transaction described herein is transferred from the Escrow Agent to
Seller,” it was Life Partners’ practice to recognize revenue well before that point.
92.
Life Partners’ Forms 10-Q and 10-QSB for fiscal years 2007 and 2008 contain
another false description of the Company’s revenue recognition policy. In that description, the
Company recognizes income from life settlement transactions “at the time a purchaser has
accepted a tendered settlement and is contractually obligated to make payment.” (Emphasis
added.) These disclosures to shareholder are false because the Company’s revenue recognition
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policy allowed it to recognize revenue before the purchaser becomes contractually obligated to
make a payment. That obligation can arise only after closing for a particular transaction.
93.
Specifically, investors are not obligated to make a payment from escrow to
purchase a fractional interest in a particular policy until the policy owner is obligated to sell the
policy. Under the terms of the Seller Agreement, the policy owner is not obligated to sell the
policy until closing.
Prior to that date, there is nothing for the investor to purchase.
Consequently, investors are not obligated (contractually or otherwise) to purchase the policy
until closing.
Because the Company’s revenue recognition policy allowed it to recognize
revenue prior to closing – before investors become contractually obligated to make payments –
the disclosures in the Company’s Forms 10-Q and 10-QSB for fiscal years 2007 and 2008 were
false.
94.
The Company’s Forms 10-Q for fiscal year 2011 state a fourth false description of
its revenue recognition policy. The Forms 10-Q state that the Company recognizes revenue from
life settlement transactions “upon the receipt of executed contracts and assignment document,
and when the sellers have obligated themselves to transfer title of policies.” This description is
false because the seller is not obligated to sell a policy and, therefore, transfer title, until the
closing, but it was the Company’s practice to recognize revenue before closing.
95.
On November 22, 2011, in the Restatement, the Company announced that it was
changing the date of revenue recognition from the date that purchasers commit to buy policies to
the date that policy closings are funded (i.e., the Closing Date).
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E. Life Partners Backdated Certain Transactional Documents to the Month the Company
Received the Seller Agreement
96.
In an effort to conceal its improper revenue recognition practices from its auditor,
Life Partners routinely backdated certain transactional documents underlying the Company’s life
settlements. Unbeknownst to the Company’s auditor, the Company’s practice was to backdate
closing letters, which instructed the escrow agent to execute a closing, to coincide with the
month the Company received an executed Seller Agreement from the policy owner. In many
instances, the Company received executed Seller Agreements from policy owners weeks or
months before the actual Closing Date for a particular transaction. By backdating closing letters,
which cued the Closing Date, the Company made it appear as though, for certain transactions,
the Company’s criteria for revenue recognition had been met around the time of the actual
closing, which was not the case.
97.
Life Partners’ practice of backdating closing letters hindered the Company’s
auditor’s ability to evaluate when the closing for a particular transaction actually occurred versus
when the Company recognized revenue from that transaction.
Through the practice, Life
Partners concealed from its auditor repeated instances in which the Company’s revenue
recognition policy, as applied by the Company, was inconsistent with GAAP.
Closing letters
containing accurate dates would have alerted the auditor that adherence to the Company’s
revenue recognition policy permitted the Company to recognize revenue prematurely, for
transactions that did not close until months or weeks after the Company’s criteria had been met.
98.
The Company also routinely backdated Policy Funding Agreements to coincide
with the month that the Company received an executed Seller Agreement.
As alleged in
paragraph 71 above, investors purchased life settlement interests under the terms set forth in the
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Company’s Policy Funding Agreements. The agreements consist of two pages, with the date and
purchase terms printed on the first page and the investor signature on the second page.
99.
At all times relevant to the Commission’s claims, it was Life Partners’ practice to
collect and maintain executed, but undated, signature pages for Policy Funding Agreements in a
filing cabinet. The Company received, through its Licensees, signature pages from investors
before such time as the investors had made a decision as to which or how much of a policy the
investors wanted to buy.
When the investors made these decisions, the Company would
complete the first page of the Policy Funding Agreement, which set forth purchase terms based
on which and how much of the policy the investor had elected to purchase. At the same time, the
Company stapled the investor’s undated signature pages to the first page of the Policy Funding
Agreement, and inserted a date in the first page that coincided with the month it had received the
executed Seller Agreement for the interests the investor had elected to purchase.
100.
As a result of this practice, and despite the fact that the date of the Policy Funding
Agreement constituted one of the Company’s three criteria for revenue recognition, the date
reflected on the Policy Funding Agreement was not the date the investor “signed” the agreement
or reserved an interest in a given policy. Rather, the date Life Partners selected for the Policy
Funding Agreement – a date in the month that the Company received an executed copy of the
corresponding Seller Agreement – could have been and, in some instances was, weeks or months
prior to either of these events.
101.
The Company’s practice of backdating Policy Funding Agreements hindered its
auditor’s ability to evaluate whether the Company followed its own revenue recognition policy.
By backdating Policy Funding Agreements to a date in the month it received Seller Agreements
from the owner of the policy that investors had agreed to buy, the Company made it appear as
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though all three of its internal criteria for revenue recognition occurred in or around the same
month, and that that point in time coincided with the date the Company recognized revenue from
a particular transaction. In reality, the Company was recognizing revenue before the final
criteria of its stated policy had been met – i.e., before the date of the Policy Funding Agreement
from an investor committed to purchasing a life settlement interest.
102.
The Company’s practice of backdating Policy Funding Agreements also
interfered with its auditor’s ability to determine whether the Company’s revenue recognition
policy was consistent with GAAP.
Had Policy Funding Agreements reflected their true
execution dates, the Company’s auditors would have seen that, in many instances, the Company
recognized revenue before such time as investors had committed to purchase any interest, much
less the totality of the interests, in a policy. Revenue from life settlement transactions was
neither realized nor realizable nor earned before such time.
103.
In a December 2006 email, the Company employee responsible for coordinating
the funding of policies explained to a Licensee the reason Life Partners backdated Policy
Funding Agreements. The Funding Coordinator’s email explained that she had finished the
paperwork for a particular policy, including “changing the dates on the [funding status report] –
you know for those who predated their [Policy Funding Agreements]. Everything has to match
for the auditors.” (Emphasis added.)
104.
Defendants have admitted to the Commission that the dates on the Policy Funding
Agreements did not reflect the dates that the agreements were signed by investors (unless the
investor manually signed a date next to his signature).
105.
Defendants have also admitted that certain employees “had the ability to change
the automatically generated [Policy Funding Agreement] date to match the month in which the
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policy originated, and not the date of reservation.
Consequently, the [Policy Funding
Agreement] date utilized by the accounting department may have reflected a date as of quarterend even if the corresponding reservations did not occur until after the 15 business-day period
after quarter end.”
106.
In July 2011, Peden sent an email to Martin and others, copying Pardo, in which
he explained that the Company had adopted a new document dating policy under which Policy
Funding Agreements would be generated automatically to reflect the date on which an investor’s
reservation to purchase an interest in a policy was accepted by Life Partners and the funds on
deposit had been allocated to a particular policy. Importantly, Peden’s new policy stated that
“[t]hese dates cannot be edited.”
107.
Finally, despite the July 2011 policy changes, Pardo, Peden and Martin failed to
disclose Life Partners’ backdating practices to the Company’s current auditor until October
2011, over 40 days after Life Partners admitted the Company’s document backdating history to
the Commission. The Company’s backdating practices evidence Defendants’ knowledge that
Life Partners’ revenue recognition practices were improper.
C. Improper Recognition of Revenues from Transactions Occurring After Period End
108.
Apart from prematurely recognizing revenue as a matter of course, Pardo and
Peden developed, and Martin implemented, a policy that authorized the Company to recognize in
a given quarter revenue from events that occurred as many as 15 business days following quarter
end (the “15-business-day Policy”).
109.
According to an April 2010 internal accounting policy memorandum from Pardo
and Peden to Martin (the “Cutoff Memo”), the Company had a policy of “clos[ing] the books
and records for a quarter on or about 15 business days after the end of the quarter.” The
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Company made it a practice to keep the books and records open for purposes of recording
revenues since at least fiscal year 2004. The Cutoff Memo set a uniform period of time during
which the Company kept its books and records open for revenue recognition purposes at 15
business days. The Cutoff Memo rationalized the practice on the ground that it “allowed time
for transactions conducted in the latter part of the quarter to clear and to receive bills for goods
and services rendered in the latter part of the quarter.”
110.
Under the 15-business-day Policy, Defendants recognized revenue from a life
settlement transaction, whether that revenue was recognizable under GAAP or not, in the quarter
immediately prior to the quarter in which the events on which the Company based its decision to
recognize revenue had occurred.
111.
For example, if an investor committed in a Policy Funding Agreement to purchase
an interest in a policy after quarter end, but prior to 15 business days into the current quarter,
Life Partners recognized the pro rata revenues and costs associated with the transaction in the
previous quarter. This practice is contrary to Pardo and Peden’s stated rationale for the policy,
which suggested that the policy was intended only to allow the paperwork for a transaction
occurring in the previous quarter to be returned to Life Partners before being recorded in the
previous quarter.
112.
Through its adherence to the 15-business-day policy, Life Partners recorded
revenue in a particular quarter based on events that occurred in a future quarter, which is
contrary to GAAP.
113.
After the Commission’s staff began its investigation of the claims underlying this
lawsuit, Defendants informed the Commission’s staff that the Company had decided to
discontinue its practice of recognizing revenue under the 15-business-day Policy.
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D. The Company’s Auditors Withdraw Their Audit Reports
114.
In June 2011, E&Y sent Life Partners a letter terminating its engagement as the
Company’s auditor. E&Y had served as the Company’s auditor since March 2, 2010. In
addition to terminating its auditor engagement, E&Y withdrew its audit report for the Company’s
2010 financial statements.
115.
E&Y’s letter states that, “upon a re-examination of the Company’s revenue
recognition policy, we have determined that the Company should revise its revenue recognition
policy. The Company should be recording revenue at the time of the final closing of escrowed
funds with the seller, unless a rescission occurs, rather than at an earlier date reflecting the
purchaser’s obligation to make an investment.”
116.
E&Y’s letter further states that, as a result of Life Partners’ revenue recognition
policies, “a material weakness exists relating to the recording of revenue in the proper period.”
E&Y’s letter continues, “[u]ntil this deficiency is remediated, there is a more than remote
likelihood that a material misstatement to the annual or interim consolidated financial statements
could occur and not be prevented or detected by the Company’s controls in a timely manner.”
117.
According to E&Y, it resigned as Life Partner’s auditor due to a threat Pardo
made against E&Y in a June 2011 memorandum to certain Licensees. In the memorandum,
Pardo threatened to “take action” against E&Y unless it signed off on the Company’s 2011
financial statements “as is.”
As a result of Pardo’s threat, along with other “recent
developments,” E&Y concluded that it was no longer able to rely on representations from Life
Partners’ management, and that it was unwilling to be associated with the Company’s financial
statements.
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118.
In a letter to the Company dated June 2011, Eide Bailly LLP (“Eide Bailly”), Life
Partners’ auditor from August 2008 until it resigned in January 2010, withdrew its audit report
on the Company’s 2009 financial statements and internal control over financial reporting. In its
letter, Eide Bailly stated that, based on the disclosures in E&Y’s June 2011 letter to the
Company, Eide Bailly believed “there is a possibility that the Company’s consolidated financial
statements as of and for the year ended February 28, 2009, may have material misstatements
related to improper revenue recognition.”
E. Life Partners Understated Impairment of Investments in Policies
119.
As of November 30, 2010, Life Partners has spent in excess of $18.6 million to
purchase more than one thousand life settlement interests that it had previously brokered to
investors. Life Partners acquired the majority of these interests to settle disputes with investors.
For example, Life Partners acquired over half ($12.8 million) of its investments in policies to
settle a lawsuit that the Colorado Securities Commissioner brought against the Company in 2007
for violations of the Colorado Securities Act. Despite their awareness that these policies may
have been impaired when acquired, Defendants failed to properly evaluate potential impairment.
As a consequence, by understating the dollar amount by which its investments in policies should
have been impaired, Life Partners has overstated those investments in financial statements filed
with the Commission since fiscal year 2009.
120.
Under the FASB’s ASC 360-10, (formerly Statement of Financial Accounting
Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets), a longlived asset shall be tested for recoverability whenever events or changes in circumstances
indicate that its carrying amount may not be recoverable. Life Partners’ investments in policies
are “long-lived” because Life Partners expects to hold these assets for longer than one year. The
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“carrying amount” for Life Partners’ investments in policies is equal to the amount reported on
its balance sheet, which represents historical cost less any previously recorded amounts of
impairment.
121.
Under ASC 360-10, an impairment loss shall be recognized if the carrying
amount is not recoverable and exceeds its fair value. The carrying amount is not recoverable if it
exceeds the sum of the undiscounted cash flows expected to result from the use and eventual
disposition of the asset. ASC 360-10 states that an impairment loss shall be measured as the
amount by which the carrying amount exceeds fair value. Fair value is the price that would be
received to sell an asset in an orderly liquidation. For long-lived assets having uncertainties in
both in timing and amounts, such as life settlements, ASC 360-10 states that “an expected
present value technique will often be the appropriate technique with which to estimate fair
value.”
122.
Since fiscal year 2007 through at least fiscal year 2009, Life Partners has reported
its investments in policies at the lesser of cost – i.e., the dollar amount it spent to purchase the
policies – or 75% of the face value of the policy. Life Partners recorded the difference between
cost and 75% of the face value of the policies as settlement expense. Life Partners’ practice of
recording the difference as settlement expense is not consistent with either evaluation of
recoverability or determination of fair value under ASC 360-10. The practice of recording
policy value at the lesser of cost or 75% of face value also evidences Defendants’ awareness that
Life Partners’ investments in policies acquired to settle disputes may have been impaired when
acquired.
123.
Life Partners disclosed in its filings with the Commission that it evaluated the
carrying value of its investments in policies on a regular basis “using new or updated information
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that affects our assumptions about remaining life expectancy, credit worthiness of the policy
issuer, funds needed to maintain the asset until maturity, capitalization rates and potential
return.” Life Partners disclosed that it would recognize an impairment of individual policies “if
the expected undiscounted cash flows are less than the carrying amount of the investment, plus
anticipated undiscounted future premiums and capitalizable direct external costs, if any.” For the
fiscal years ended February 28, 2010 and 2009, Life Partners reported impairments of
investments in policies of $281,882 and $151,810, respectively. For the nine months ended
November 30, 2010, Life Partners reported impairments of investments in polices of $111,333.
124.
From fiscal year 2009 through the period ended November 30, 2010, contrary to
these disclosures, Defendants failed to appropriately evaluate and reduce the carrying value of
the Company’s investments in policies to fair value. In its filings with the Commission, Life
Partners disclosed that impairment is “generally caused by the insured significantly exceeding
the estimate of the original life expectancy, which causes the original policy costs and projected
future premiums to exceed the estimated maturity value.” Yet, when Defendants evaluated Life
Partners’ investments in policies for potential impairment, Defendants relied on the LEs Cassidy
provided when the Company originally brokered interests in the policies, which Defendants
knew to be materially short. As the number and percentage of insureds outliving Cassidy’s LEs
increased over time, this event or change of circumstances, known to Defendants, necessitated an
evaluation and assessment of the reliability of Cassidy’s LEs – a critical assumption in the
Company’s impairment analysis. Instead, the Company used the same LEs Cassidy provided at
the time Life Partners originated the interests, which Defendants knew to be underestimated. As
a result, the Company misled investors by materially understating impairment for its investments
in life settlement policies.
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125.
Despite their improper reliance on Cassidy’s flawed LEs, Pardo, Peden, and
Martin informed the Company’s auditor at fiscal year-end 2009 of their belief that “[w]e have
reviewed long-lived assets and investments in life insurance policies and tested for impairment
whenever events or changes in circumstances have indicated that the carrying amount of assets
might not be recoverable and have appropriately recorded the adjustment, if any.”
126.
This representation was false. Pardo, Peden, and Martin understood that the
Company’s impairment calculations depended on the validity of Cassidy’s LEs. They also
knew, before year-end 2009, that the LEs were unreliable, and, in fact, systematically and
materially underestimated
127.
In July or August 2010, E&Y requested data from Life Partners to support the
LEs underlying the Company’s investments in policies, and the Company’s related impairment
analysis. In response, Peden and Martin submitted a chart with information on the most recent
300 maturities of viatical and life settlement policies sold by Life Partners. According to the
chart, which covered a ten-year period, the ratio of policies that matured before, versus after, the
date projected by Cassidy’s LEs was roughly 50%/50%. But Peden and Martin failed to alert
E&Y that, of the more than 4,000 total outstanding policies brokered by the Company that had
yet to reach maturity, insureds underlying approximately 1,200 of those policies had outlived
Cassidy’s LE, and those policies thus failed to mature by the dates Cassidy projected.
128.
In a letter to the Company’s audit committee dated May 2010, E&Y reported that
it had noted control deficiencies and other matters. E&Y considered the Company’s internal
control in order to design audit procedures in connection with its engagement to express an
opinion on the Company’s fiscal year 2010 financial statements.
E&Y reported that the
Company did not have a formal process in place to assess actual-to-expected LEs.
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recommended that “[a] formal analysis, prepared quarterly, would provide management with an
after the fact assessment of how accurate its initial LEs were and if any adjustments need to be
made to its underwriting process.”
F. Additional Management Representation Letters to Auditors
129.
Pardo, Peden, and, for certain periods after February 2008, Martin signed
management representation letters to Life Partners’ auditors containing materially misleading
statements and omissions.
130.
From at least fiscal year 2007 through the third quarter of fiscal year 2011, Pardo
and Peden signed quarterly management representation letters to the Company’s auditors dated
January 15, 2007; May 25, 2007; July 16, 2007; October 12, 2007; January 14, 2008; May 14,
2008; July 9, 2008; October 9, 2008; January 9, 2009; May 29, 2009; July 10, 2009; October 9,
2009; January 11, 2010; May 12, 2010; July 8, 2010; October 8, 2010; and January 10, 2011
stating that the Company’s financial statements were fairly presented in conformity with GAAP;
that there were no material transactions that had not been properly recorded; and that they had no
knowledge of fraud or suspected fraud involving management.
131.
Martin signed management representation letters dated May 14, 2008; July 9,
2008; October 9, 2008; January 9, 2009; May 29, 2009; July 10, 2009; October 9, 2009; January
11, 2010; May 12, 2010; July 8, 2010; October 8, 2010; and January 10, 2011, containing these
representations with respect to financial statements starting at fiscal year-end 2008 through the
third quarter of 2011.
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G. Restatement and Net Effect
132.
As described above, on November 22, 2011, Life Partners announced, in Form
10-K for fiscal year 2011, a Restatement that addresses, among other items, errors related to
revenue recognition and impairment expense for investments in Company-owned policies.
133.
The Company’s Form 10-K also reported that it had “improved” the method by
which it calculated impairment on investments in policies by, among other things, increasing
“the amount of actuarial data to improve our methodology for estimating life expectancy.” The
Company reported that, rather than relying solely on Cassidy, the Company had obtained a
second LE for each insured from an industry provider, typically 21st Services, LLC. Not
surprisingly, the addition of a second, well-known LE provider resulted in increased LEs for
insureds underlying life settlements brokered by the Company, and increased impairment
expense in prior periods.
134.
The Restatement, as it relates to impairment of investments in policies, however,
does not exclusively result from a refinement of the Company’s estimation process, which, under
GAAP, should be reported prospectively. To the contrary, the Restatement, as it relates to
impairment of investments in policies, is due to misuse or oversight of facts that existed at the
time the previously-issued financial statements were prepared. In particular, Defendants’ misuse
or oversight of facts indicating that Cassidy’s LEs were materially short is what caused the
Company to understate impairment of investments in policies.
135.
According to the Company’s Form 10-K for fiscal year 2011, the Company also
corrected errors related to deferred policy monitoring costs, accrued liabilities, certain other
items, and the related tax impact.
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136.
Life Partners’ 2011 Form 10-K also reports Pardo and Martin’s conclusion that
the Company did not maintain effective internal control over financial reporting as of the start of
the end of fiscal year 2011, including effective controls to ensure the existence, completeness,
accuracy, valuation, and presentation of activities related to, inter alia, revenue recognition and
impairment of investment in policies. These internal control deficiencies, according to the
Company, resulted in the aforementioned misstatements of revenue and investments in policies.
137.
The table below is based upon the Restatement and indicates that Life Partners’
misstatements of net income range from negative 29% to positive 11% for fiscal years 2007,
2008, 2009, and 2010. Similarly, the Company misstated net income for the first, second, and
third quarters of fiscal year 2011 by 7%, 2%, and (78)% respectively. The misstatements of net
income resulting from prematurely recognizing revenue prior to the Closing Date and inadequate
impairment of investments in policies are material to Life Partners consolidated financial
statements for fiscal years 2007, 2008, 2009, 2010 and for the first, second, and third quarters of
fiscal year 2011.
Nature of Restatement Adjustment
1. Revenue based on closing date
2. Impairment
3. Deferred policy monitoring costs
4. Other2
Subtotal, pretax
Federal and state taxes
Misstatement, after tax
Reported net income
Restated net income
% Misstatement,
under (over) stated
1
11%
(29)%
(6)%
(13)%
The Company’s restatement of prior year financial statements includes correction of errors related to the
timing of expensing executive bonuses, impairment of investments in securities, and certain other items.
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Year Ended
2/28/07
$ 0.4
-N/A
(0.2)
0.2
0.2
0.4
3.4
$ 3.8
Increase (Decrease) Net Income
(Dollars in millions)
Year Ended Year Ended Year Ended
2/29/08
2/28/09
2/28/10
$ (3.8)
$ 0.1
$ (2.1)
(0.2)
(2.2)
(1.8)
(1.9)
(0.7)
(0.4)
(0.3)
0.6
(0.1)
(6.2)
(2.2)
(4.4)
2.0
0.6
1.1
(4.2)
(1.6)
(3.3)
18.8
27.1
29.4
$ 14.6
$ 25.5
$ 26.1
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INSIDER TRADING
138.
As set forth above, by at least fiscal year end 2006, Pardo and Peden knew, but
failed to disclose to shareholders, that Life Partners systematically underestimated LEs in pricing
the life settlements interests it brokered. This was material, non-public information because, as
Pardo and Peden knew, the revenues and profit margins that Life Partners reported depended on
underestimated LEs. Life Partners could not sustain revenues and profit margins at the levels it
reported without the continued use of underestimated LEs. And Life Partners could not continue
to use underestimated LEs to prop up its business had it disclosed its practice of doing so, as
investor demand for the life settlement interests that the Company brokers would have greatly
diminished if not vanished entirely had this information been public.
139.
Based on this material, non-public information, Pardo (through an entity under his
control) and Peden sold approximately $11.5 million and $300,000 of Life Partners common
stock, respectively. Pardo Family Holdings, Ltd., a wholly-owned subsidiary of the Pardo
Family Trust (“Pardo Trust”), sold Life Partners stock for Pardo, the beneficial owner of the
Pardo Trust, as follows:
Date
2/12/2007
5/18/2007
6/25/2007
10/17/2007
10/18/2007
7/25/2008
8/11/2008
8/12/2008
9/22/2008
10/14/2008
10/30/2008
10/31/2008
Price
$10.00
$17.90
$34.10
$39.00
$39.00
$26.24
$27.64
$28.31
$35.32
$35.15
$40.71
$40.01
SEC v. Life Partners Holding, Inc., et al.
Complaint
# Shares Sold
96,155
150,000
100,358
5,800
11,200
5,723
6.661
3,339
15,000
15,000
15,135
9,865
Stock Sale Proceeds
$961,550.00
$2,685,000.00
$3,422.207.80
$226,200.00
$436,800.00
$150,171.52
$184,110.04
$94,527.09
$529,800.00
$527,250.00
$616,145.85
$394,698.65
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11/3/2008
1/7/2009
1/8/2009
1/9/2009
Total:
$36.67
$42.95
$43.50
$43.43
2,866
10,000
10,000
14,400
$105,096.22
$429,500.00
$435,000.00
$622,082.25
$11,528,839.42
On June 18, 2007, Peden sold approximately $300,000 of Life Partners stock held in his name.
140.
Life Partners’ systematic use of materially underestimated LEs to price the life
settlement interests it brokered inflated the Company’s financial condition, and, consequently, its
stock price. Pardo and Peden took advantage of this material non-public information to sell Life
Partners’ stock at the inflated prices.
141.
Pardo authorized and set the terms of the sale of Life Partners stock.
142.
As officers and directors of Life Partners, Pardo and Peden owed fiduciary duties,
including duties of trust and confidence, to Life Partners and its shareholders.
143.
Pardo and Peden knew or were severely reckless in not knowing that the
information in their possession was material and nonpublic and that their trading on the basis of
the information was in breach of their duties to the Company and its shareholders.
E. Salaries and Bonuses Paid to Pardo, Peden and Martin
144.
During some of the 12-month periods following Life Partners’ filing of its
fraudulent Forms 10-K and 10-KSB for fiscal years 2007 through 2010, Pardo and Martin
received from Life Partners the following ill-gotten gains in the form of salaries and bonuses:
Year
Pardo
Salary
Bonus
Salary
2007
$450,000 $15,031
$143,113
2008
$ 24,843 $
Martin
Salary
Bonus
--
$
--
$468,173 $246,123 $159,456
$ 246,123 $ 8,462
$
--
2009
$574,838 $383,440 $158,062
$ 383,907 $112,444
$27,429
2010
$512,710 $473,566 $158,954
$473,099 $143,096
$ 7,532
SEC v. Life Partners Holding, Inc., et al.
Complaint
Peden
Bonus
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145.
Pardo and Martin have never reimbursed Life Partners for any portion of their
bonuses and other incentive-based and equity-based compensation.
FIRST CLAIM FOR RELIEF
Violations of the Antifraud Provisions of the Securities Act
(Section 17(a) [15 U.S.C. § 77q(a)])
[against Defendants Life Partners, Pardo and Peden]
146.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
147.
Defendants Life Partners, Pardo and Peden, in public filings with the Commission
in January and February 2007, misrepresented, failed to disclose, and/or made misleading
omissions regarding the Company’s revenue recognition policies.
148.
By engaging in the foregoing misconduct, Defendants Life Partners, Pardo, and
Peden, directly or indirectly, by use of the means or instruments of interstate commerce or of the
mails, in connection with the offer or sale of securities, knowingly or with severe recklessness,
employed devices, schemes, or artifices to defraud.
149.
By engaging in the foregoing misconduct, Defendants Life Partners, Pardo and
Peden also, directly or indirectly, by use of the means or instruments of interstate commerce or
of the mails, in connection with the offer or sale of securities, and with negligence: (i) obtained
money or property by means of untrue statements of material facts and omitted to state material
facts necessary in order to make the statements made, in light of the circumstances under which
they were made, not misleading; and (ii) engaged in transactions, practices, and/or courses of
business which operate as a fraud or deceit upon purchasers, prospective purchasers, and other
persons.
150.
By reason of the foregoing, Life Partners, Pardo and Peden violated, and unless
enjoined, will continue to violate Section 17(a) of the Securities Act [15 U.S.C. § 77q].
SEC v. Life Partners Holding, Inc., et al.
Complaint
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SECOND CLAIM FOR RELIEF
Violations of Antifraud Provisions of the Exchange Act
(Section 10(b) [15 U.S.C. § 78j(b)] and Rule 10b-5 [17 C.F.R. § 240.10b-5])
[against Defendants Life Partners, Pardo, Peden and Martin]
151.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
152.
Defendants Life Partners, Pardo, Peden, and Martin, in public filings with the
Commission from January 2007 through November 2011, knowingly or with severe
recklessness, misrepresented, failed to disclose, and/or made misleading omissions regarding: (i)
a material risk to the Company’s business, (ii) a material trend impacting the Company’s
revenues, (iii) the Company’s revenue recognition policies and (iv) the Company’s net income.
153.
Defendants Life Partners and Pardo misrepresented historical returns to investors
in life settlement interests brokered by Life Partners, and made projections about future returns
that they knew to be false and/or made without having any reasonable basis on which to base the
projections.
154.
Pardo (through Pardo Family Holdings) and Peden sold, for their personal benefit,
approximately $11.5 million and $300,000, respectively, of Life Partners securities while in
possession of material nonpublic information, namely that it was Life Partners’ practice to
systematically use materially short life expectancy estimates to broker life settlements, and that
this practice had the effects of artificially inflating the Company’s revenues and profit margins,
and creating investor demand for the life settlement interests that Life Partners brokered that
would not exist but for the Company’s practice of doing so.
155.
As officers and directors of Life Partners, Defendants Pardo and Peden owed
fiduciary duties to Life Partners and its shareholders. As a result, they each had a duty of trust
SEC v. Life Partners Holding, Inc., et al.
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and confidence to not trade in Life Partners securities on the basis of material nonpublic
information. Pardo and Peden traded in the securities of Life Partners in breach of these duties.
156.
Defendants Pardo and Peden knew, or were severely reckless in not knowing, that
the information in their possession was material and nonpublic and that their trading on the basis
of the information was in breach of their duties.
157.
By engaging in the foregoing misconduct, Defendants Life Partners, Pardo,
Peden, and Martin, in connection with the purchase or sale of securities, by the use of means or
instrumentalities of interstate commerce or of the mails, or of any facility of any national
securities exchange, directly or indirectly: (i) employed devices, schemes or artifices to defraud;
(ii) made untrue statements of material facts and omitted to state material facts necessary in order
to make the statements made, in light of the circumstances under which they were made, not
misleading; and (iii) engaged in acts, practices and courses of business which operate as a fraud
or deceit upon persons, including purchasers and sellers of securities.
158.
By reason of the foregoing, Life Partners, Pardo, Peden, and Martin violated, and
unless enjoined, will continue to violate, Exchange Act Section 10(b) [15 U.S.C. § 78j(b)] and
Exchange Act Rule 10b-5 [17 C.F.R. § 240.10b-5].
159.
Pardo, Peden and Martin knowingly or with severe recklessness provided
substantial assistance to Life Partners’ violations of Section 10(b) of the Exchange Act [15
U.S.C. § 78j(b)] and Rule 10b-5 thereunder [17 C.F.R. § 240.10b-5].
160.
By reason of the foregoing, Pardo, Peden and Martin aided and abetted Life
Partners’ violations, and unless restrained and enjoined will continue to aid and abet such
violations, of Section 10(b) of the Exchange Act [15 U.S.C. § 78j(b)] and Rule 10b-5 thereunder
[17 C.F.R. § 240.10b-5].
SEC v. Life Partners Holding, Inc., et al.
Complaint
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THIRD CLAIM FOR RELIEF
Violations of the Reporting Provisions of the Exchange Act
(Section 13(a) and Rules 12b-20, 13a-1 and 13a-13)
[15 U.S.C. § 78m(a) and 17 C.F.R. §§ 240.12b-20, 240.13a-1, and 240.12a-13]
[against Defendant Life Partners]
161.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
162.
Defendants Life Partners, Pardo, Peden and Martin, in public filings with the
Commission from January 2007 through November 2011, misrepresented, failed to disclose,
and/or made misleading omissions regarding: (i) a material risk to the Company’s business, (ii) a
material trend impacting the Company’s revenues, (iii) the Company’s revenue recognition
policies, and (iv) the Company’s net income.
163.
By engaging in the foregoing misconduct, Life Partners, whose securities are
registered pursuant to Section 12 of the Exchange Act [15 U.S.C. § 78]), failed to file annual and
quarterly reports (on Forms 10-K, 10-KSB, 10-Q and 10-QSB) with the Commission that were
true and correct, and failed to include material information in its required statements and reports
as was necessary to make the statements made, in light of the circumstances under which they
were made, not misleading.
164.
By reason of the foregoing, Life Partners violated, and unless enjoined, will
continue to violate, Section 13(a) of the Exchange Act and Exchange Act Rules 12b-20, 13a-1
and 13a-13 [17 C.F.R. §§ 240.12b-20, 240.13a-1, and 240.13a-13].
165.
Pardo, Peden and Martin knowingly or with severe recklessness gave substantial
assistance to Life Partners in its violations of Section 13(a) of the Exchange Act and Exchange
Act Rules 12b-20, 13a-1 and 13a-13 [17 C.F.R. §§ 240.12b-20, 240.13a-1, and 240.13a-13].
SEC v. Life Partners Holding, Inc., et al.
Complaint
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166.
By reason of the foregoing, Pardo, Peden and Martin aided and abetted Life
Partners’ violations, and unless restrained and enjoined will continue to aid and abet such
violations, of Section 13(a) of the Exchange Act [15 U.S.C. § 78m(a)], and Rules 12b-20, 13a-1,
and 13a-13 [17 C.F.R. §§ 240.12b-20, 240.13a-1, and 240.13a-13].
FOURTH CLAIM FOR RELIEF
Violation of the Books and Records and Internal Control Provisions of the Exchange Act
(Sections 13(b)(2)(A) and 13(b)(2)(B))
[15 U.S.C. §§ 78m(b)(2)(A) and 78m(b)(2)(B)]
[against Defendant Life Partners]
167.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
168.
By engaging in the foregoing misconduct, from January 2007 through November
2011, Life Partners, whose securities are registered pursuant to Section 12 of the Exchange Act
[15 U.S.C. § 78l]:
x Failed to make and keep books, records, and accounts, which, in reasonable detail,
accurately and fairly reflected the transactions and dispositions of its assets; and
x Failed to devise and maintain a system of internal controls sufficient to provide
reasonable assurances that: (i) transactions were recorded as necessary to permit
preparation of financial statements in conformity with GAAP or any other criteria
applicable to such statements, and (ii) to maintain accountability of assets.
169.
By engaging in the foregoing misconduct, Life Partners violated, and unless
enjoined, will continue to violate, Sections 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act [15
U.S.C. §§ 78m(b)(2)(A) and 78m(b)(2)(B)].
170.
Pardo, Peden, and Martin knowingly or with severe recklessness provided
substantial assistance to Life Partners in its failure to make and keep books, records, and
accounts, which, in reasonable detail, accurately and fairly reflected the transactions and
dispositions of the assets of Life Partners.
SEC v. Life Partners Holding, Inc., et al.
Complaint
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171.
By reason of the foregoing, Pardo, Peden and Martin aided and abetted Life
Partners’ violations, and unless restrained and enjoined will continue to aid and abet such
violations, of Section 13(b)(2)(A) of the Exchange Act [15 U.S.C. §§ 78m(b)(2)(A)].
172.
Pardo and Martin knowingly or with severe recklessness provided substantial
assistance to Life Partners in its failure to devise and maintain a sufficient system of internal
accounting controls.
173.
By reason of the foregoing, Pardo and Martin aided and abetted Life Partners’
violations, and unless restrained and enjoined will continue to aid and abet such violations, of
Section 13(b)(2)(B) of the Exchange Act [15 U.S.C. §78(m)(b)(2)(B)].
FIFTH CLAIM FOR RELIEF
Circumventing or Failing to Implement Internal Controls
(Exchange Act Section 13(b)(5) and Rule 13b2-1)
[15 U.S.C. § 78m(b)(5) and 17 C.F.R. §§ 240.13b2-1]
[against Defendants Pardo, Peden and Martin]
174.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
175.
By engaging in the foregoing misconduct, from January 2007 through November
2011, Defendants Pardo, Peden, and Martin violated, and unless enjoined will continue to
violate, Section 13(b)(5) of the Exchange Act [15 U.S.C. § 78m(b)(5)] by knowingly
circumventing or knowingly failing to implement a system of internal accounting controls at Life
Partners, or by knowingly falsifying Life Partners’ books, records, or accounts subject to Section
13(b)(2)(A) of the Exchange Act.
176.
By engaging in the foregoing misconduct, Pardo, Peden, and Martin violated
Exchange Act Rule 13b2-1 [17 C.F.R. §§ 240.13b2-1] by, directly or indirectly, falsifying or
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causing to be falsified, the books, records or accounts of Life Partners subject to Section
13(b)(2)(A) of the Exchange Act [15 U.S.C. § 78m(b)(2)(A)].
SIXTH CLAIM FOR RELIEF
Misrepresentations and Misconduct in Connection
with the Preparation of Required Reports
(Exchange Act Rules 13b2-2(a) and 13b2-2(b))
[17 C.F.R. §§ 240.13b2-2(a) and 240.13b2-2(b)]
[against Defendants Pardo, Peden and/or Martin]
177.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
178.
By engaging in the foregoing misconduct during the period January 2007 through
November 2011, Pardo, Peden, and Martin violated Exchange Act Rule 13b2-2(a) [17 C.F.R. §§
240.13b2-2a] by, directly or indirectly, making, or causing to be made, materially false or
misleading statements, or omitting to state, or causing another person to omit to state, material
facts necessary in order to make statements made, in light of the circumstances under which such
statements were made, not misleading, to an accountant in connection with (i) an audit, review or
examination of the financial statements of Life Partners required to be made pursuant to
Commission rules, or (ii) the preparation or filing of documents or reports required to be filed
with the Commission.
179.
By engaging in the foregoing misconduct, in June 2011, Pardo violated Exchange
Act Rule 13b2-2(b) [17 C.F.R. §§ 240.13b2-2(b)] by directly or indirectly taking action, or
directing another to take action, to coerce, manipulate, mislead, or fraudulently influence an
independent public or certified public accountant engaged in the performance of an audit or
review of the financial statements of Life Partners required to be filed with the Commission
while he knew or should have known that such action(s), if successful, could result in rendering
Life Partners’ financial statements materially misleading.
SEC v. Life Partners Holding, Inc., et al.
Complaint
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SEVENTH CLAIM FOR RELIEF
Violations of Certifications Rules of the Exchange Act
(Exchange Act Rule 13a-14 [17 C.F.R. § 240.13a-14(a)])
[against Defendants Pardo and Martin]
180.
The Commission realleges and incorporates by reference Paragraphs 1
through 145.
181.
On the following dates, acting under Section 302 of the Sarbanes-Oxley Act of
2002 and Exchange Act Rule 13a-14, Pardo and Martin certified Forms 10-K, 10-KSB, 10-Q,
and 10-QSB on behalf of Life Partners: May 16, 2008; July 9, 2008; October 10, 2008; January
9, 2009; May 29, 2009; July 10, 2009; October 9, 2009; January 11, 2010; May 12, 2010; July 9,
2010; October 8, 2010; and January, 10, 2011.
182.
Further, on January 16, 2007; May 29, 2007; July 16, 2007; October 15, 2007;
and January 14, 2008; acting under Section 302 of the Sarbanes-Oxley Act of 2002 and
Exchange Act Rule 13a-14, Pardo certified Forms 10-K, 10-KSB, 10-Q, and 10-QSB on behalf
of Life Partners.
183.
Specifically, Pardo and Martin certified that they had reviewed these reports and
that, based on their respective knowledge, the reports did not contain any untrue statements of a
material fact or omit to state a material fact necessary to make the statements made, in light of
the circumstances under which they were made, not misleading; and, based on their knowledge,
the financial statements and other financial information included in the reports, fairly presented
in all material respects the financial condition, results of operation and cash flows of Life
Partners of, and for, the periods presented on the reports.
184.
At the time Pardo and Martin issued these certifications they knew or were
severely reckless in not knowing that the reports they certified contained untrue statements of
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material facts and/or omitted to state material facts necessary to make the statements made
therein, in light of the circumstances under which they were made, not misleading.
185.
By reason of the foregoing, Pardo and Martin violated and unless enjoined will
continue to violate, Exchange Act Rule 13a-14 [17 C.F.R. § 240.13a-14(a)] promulgate under
Section 302 of the Sarbanes-Oxley Act of 2002.
REQUEST FOR RELIEF
For these reasons, the Commission respectfully requests that the Court enter a final judgment:
a) permanently enjoining Life Partners from violating Section 17(a) of the Securities Act
and Sections 10(b), 13(a), 13(b)(2)(A), and 13(b)(2)(B) of the Exchange Act and Rules
10b-5, 12b-20, 13a-1, and 13a-13 thereunder;
b) permanently enjoin Pardo from violating Section 17(a) of the Securities Act and Sections
10(b) and 13(b)(5) of the Exchange Act and Rules 10b-5, 13a-14, 13b2-1, and 13b2-2
thereunder, and from aiding and abetting Life Partners’ violations Sections 10(b), 13(a),
13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act, and Rules 10b-5, 12b-20, 13a-1, and
13a-13 thereunder;
c) permanently enjoin Peden from violating Section 17(a) of the Securities Act and Sections
10(b) and 13(b)(5) of the Exchange Act and Rules 10b-5, 13b2-1, and 13b2-2 thereunder,
and from aiding and abetting Life Partners’ violations Sections 10(b), 13(a), 13(b)(2)(A)
of the Exchange Act and Rules 10b-5, 12b-20, 13a-1, and 13a-13 thereunder;
d) permanently enjoin Martin from violating Sections 10(b) and 13(b)(5) of the Exchange
Act and Rules 10b-5, 13a-14, 13b2-1, and 13b2-2 thereunder, and from aiding and
abetting Life Partners’ violations Sections 10(b), 13(a), 13(b)(2)(A), and 13(b)(2)(B) of
the Exchange Act, and Rules 10b-5, 12b-20, 13a-1, and 13a-13 thereunder;
SEC v. Life Partners Holding, Inc., et al.
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e) ordering Defendants to disgorge all ill-gotten gains, with prejudgment interest;
f) ordering Defendants to pay civil penalties under Section 20(d) of the Securities Act [15
U.S.C. § 77t(d)] and Sections 21(d)(3) and 21A of the Exchange Act [15 U.S.C. §§
78u(d)(3) and 78uA];
g) prohibiting each Defendant, under Section 20(e) of the Securities Act [15 U.S.C. §
77t(d)(4)] and Section 21(d)(2) of the Exchange Act [15 U.S.C. §78], from acting as an
officer or director of any issuer that has a class of securities registered under Section 12
of the Exchange Act [15 U.S.C. § 78l] or that is required to file reports under Section
15(d) of the Exchange Act [15 U.S.C. §78o(d)]; and
h) in a form consistent with Fed. R. Civ. P. 65(d), ordering Pardo and Martin to reimburse
Life Partners for bonuses and profits they received from Life Partners stock sales,
pursuant to Section 304 of the Sarbanes-Oxley Act of 2002 [15 U.S.C. § 7243].
i) granting such other relief as the Court may deem just and appropriate.
Dated this 3rd day of January 2012
Respectfully submitted,
/s/ Jason C. Rodgers
Jason C. Rodgers
Texas Bar No. 24005540
Toby M. Galloway
Texas Bar No. 00790733
Michael D. King
Texas Bar No. 24032634
Attorneys for Plaintiff
SECURITIES AND EXCHANGE
COMMISSION
801 Cherry Street, 19th Floor
Fort Worth, TX 76102
Phone: (817) 978-3821
Fax: (817) 978-2700
SEC v. Life Partners Holding, Inc., et al.
Complaint
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IN THE UNITED STATES BANKRUPTCY COURT
FOR THE NORTHERN DISTRICT OF TEXAS
FORT WORTH DIVISION
IN RE:
LIFE PARTNERS HOLDINGS, INC.,
DEBTOR
§
§
§
§
§
CASE NO. 15-40289-RFN-11
CHAPTER 11
ORDER AUTHORIZING THE TRUSTEE TO AMEND
THE GOVERNING DOCUMENTS AND TO FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR DEBTOR’S SUBSIDIARIES
CAME ON FOR CONSIDERATION, the Emergency Motion to Amend the Governing
Documents and to File Voluntary Chapter 11 Petitions for Debtor’s Subsidiaries [Docket No.
___] (the “Motion”) of H. Thomas Moran II, the chapter 11 trustee (the “Trustee”) of Life
Partners Holdings, Inc. (“LPHI” or the “Debtor”). A hearing on the Motion was held on
__________ ___, 2015 (the “Hearing”). Appearances at the Hearing are reflected in the record.
For the reasons set forth on the record at the Hearing,
IT IS HEREBY ORDERED THAT:
1.
The Motion is GRANTED in its entirety.
ORDER AUTHORIZING THE TRUSTEE TO AMEND
THE GOVERNING DOCUMENTS AND TO FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR DEBTOR’S SUBSIDIARIES
522202 000002 14504590.3
PAGE 1
Case 15-40289-rfn11 Doc 240-2 Filed 03/25/15
2.
Entered 03/25/15 17:25:46
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The Trustee is authorized, pursuant to sections 105(a) and 363 of title 11 of the
United States Code (the “Bankruptcy Code”), to take such actions as are necessary to amend the
governing documents of Life Partners, Inc. (“LPI”) and LPI Financial Services, Inc. (“LPIFS”)
to elect the Trustee as the sole director of each of LPI and LPIFS;
3.
The Trustee is authorized, pursuant to sections 105(a) and 363 of the Bankruptcy
Code, to take such actions as are necessary to cause LPI and LPIFS to file voluntary chapter 11
bankruptcy petitions;
4.
Any objections filed have been resolved by agreement of the related parties,
withdrawn, or overruled;
5.
This Court shall retain jurisdiction to resolve any disputes arising or related to this
order and to interpret, implement, and enforce the provisions of this order.
# end of order #
ORDER AUTHORIZING THE TRUSTEE TO AMEND
THE GOVERNING DOCUMENTS AND TO FILE VOLUNTARY
CHAPTER 11 PETITIONS FOR DEBTOR’S SUBSIDIARIES
522202 000002 14504590.3
PAGE 2