Reflections on the Life Partners Holding Inc. Bankruptcy

Case Review

The bankruptcy case centered around Life Partners Inc. (LPI), a Waco, TX-based company founded by Brian Pardo. LPI rose to become one of the most active companies in the world engaged in the secondary market for life insurance policies. The company would purchase life insurance policies — now known as life settlement transactions — from policy holders, and provide them with an immediate cash payment. LPI then assumed responsibility for paying the premiums on those policies, and collected the death benefit when the insured passed away (to be distributed to the policy's investors).

Indeed, life settlements are now commonly accepted as an alternative asset class that present a good option for policyholders who no longer need or want their life insurance coverage, and an attractive return for institutional investors. Unfortunately, that was not the LPI business model.

Instead, Mr. Pardo and his colleagues sold partial (fractionalized) interests in life insurance policies to retail investors, not necessarily accredited, either individually or through their Individual Retirement Accounts (IRAs). Many investors were elderly retirees who invested large chunks — in some cases, every nickel — of their life savings with LPI. Over time, LPI, through the use of a multi-level marketing work force, sold interests in the life insurance policies they purchased, to more than 22,000 mostly individual investors.

In January 2012, the U.S. Securities and Exchange Commission (SEC) charged LPI, Mr. Pardo and two other LPI executives for their involvement in a fraudulent disclosure and accounting scheme. The SEC alleged, among other things, that LPI misled shareholders by failing to disclose that the company was underestimating the life expectancy estimates it used to price transactions, and for LPI's involvement in improper accounting used to overvalue assets held on the company's books.

In December 2014, the SEC secured judgment against LPI of more than $46.8 million for engaging in “serious violations” of the securities laws that “deprived the investing public of the information it needed to make a fully informed decision about whether to invest in Life Partners.” In the aftermath of that judgment, the company's former management voluntarily filed for Chapter 11 bankruptcy in the Northern District of Texas (Fort Worth Division, Case No. 15-40289-RFN-11).

The SEC and the U.S. Trustee's Office each requested the appointment of a Trustee who would be totally independent of prior management. In March 2015, the U.S. Trustee appointed me to that role, charging me with the fiduciary duty of stepping in to assume temporary control over the assets and business operations of the company, and to develop a plan of reorganization.

Navigating the Bankruptcy

There were a number of interesting nuances that we had to navigate in the LPI bankruptcy. My first move was to assemble a strong team of professionals who could help form the brain trust needed to manage the case, including: David Bennett, partner at Thompson & Knight, to serve as lead bankruptcy counsel; Asset Servicing Group to assist with the portfolio of policies, operations and investor communications; and BridgePoint Consulting as my financial adviser.

For starters, there were a variety of legal issues within the bankruptcy case itself. We had to work through an extremely controversial issue related to the question of who were deemed to be the legal owners of the life insurance policy interests. LPI was the record owner of the policies, but there was considerable uncertainty regarding whether the individual investors had a direct “equitable” ownership interest. Ultimately, a complex settlement of a class action lawsuit was required to resolve that issue. There were also significant questions regarding whether these investments were in fact securities, an issue that was finally resolved a few months into the case when the Texas Supreme Court ruled that they were in fact securities.

As the proceedings progressed, it became obvious that controversy surrounded virtually every issue in the case. With more than 22,000 different investors, there were competing and contradictory interests and needs. Some wanted to maintain “ownership” of the policies in which they had invested, while others, such as those on fixed incomes, simply could no longer afford to pay premiums and fees associated with policy ownership. This tension was further complicated by the fact that some investors were represented by independent counsel, but many others were not. I personally spent a great deal of time talking to as many investors as possible, many of whom were confused, elderly or ailing.

Meanwhile, we had to work our way through the very difficult challenge of maintaining the operations of the business throughout the bankruptcy proceedings. The primary asset of LPI was the $2.4 billion portfolio of life insurance policies and they came with very stringent premium payment requirements to prevent policy lapses. Of most immediate concern was the greater than $500 million in distressed policies for which there was no source of funding to pay premiums. Roughly $100 million was required in the first year alone to pay premiums and maintain the portfolio. To make matters worse, when I assumed my duties as Chapter 11 trustee, LPI's working capital was essentially depleted. The pressure was significant and constant.

In addition to the lack of working capital, one of my most pressing issues was to gain the trust of the investors for whom I was responsible, despite the peculiar “cult of personality” associated with Mr. Pardo. This may seem strange on the surface — some of the investors whom he had exploited and misled were actually defending him, even to the last stages of the case. Experts advised us that this phenomenon is not all that different from “Stockholm Syndrome,” in that defrauded investors are often afflicted an almost impenetrable veil of denial. Many of these individuals simply could not accept that they had been victimized and their initial support for Mr. Pardo and his regime was an outgrowth of that denial.

Ultimately, we were able to work our way through each of those challenges, and presented to investors the Joint Plan of Reorganization sponsored by myself, as Trustee, and the Official Unsecured Creditors' Committee (which was comprised of three representative investors). In an effort to meet investors' varying needs, the Joint Plan allowed them to select among various options for the recovery of their capital. Notably, the plan also created a new Trust, headed by Eduardo S. Espinosa of Dykema Cox Smith in Dallas. The Trust is responsible for overseeing the liquidation of the policy portfolio and distribution of the net proceeds to investors.

Judge Nelms confirmed the plan, and it became effective on Dec. 9, 2016. As a result, Life Partners emerged from bankruptcy as a reorganized enterprise designed to maximize recovery for investors. Distributions of more than $100 million collected from matured policies during the bankruptcy proceedings began within weeks of confirmation and we were able to project that investors could receive up to 90% of their invested capital over time — depending on the option they selected for themselves.

Lessons Learned

With the benefit of hindsight, there were four key lessons that can be drawn from our experience managing the LPI bankruptcy proceedings.

1. Asset Protection

One of the key lessons from the LPI bankruptcy is that it's critical for the trustee, his or her team and other case fiduciaries to gain an in-depth knowledge of the business and asset base as quickly as possible. In my case, I think the U.S. Trustee chose me not based on bankruptcy experience (I had extensive receivership experience, but no prior experience in Chapter 11), but based on my experience in the insurance industry and with life settlements.

We set out on Day One to preserve every potential asset, especially the life insurance policies owned in the LPI portfolio, from which the investors recoveries would be derived. We discovered that several of these policies had lapsed, and many more were on the brink of lapse, which would have been a huge blow to the value of the assets and ultimately investor returns, so we moved quickly to keep them in force, generating cash from various LPI assets in order to fund the necessary premium payments. Without a swift and intense due diligence effort on our part, significant value, which ultimately could have been lost, will be returned to the victimized investors.

2. Relentless Fiduciary

I learned the importance of fighting for the investors' best interests … even if they don't understand or agree. Judge Nelms even suggested to an investor at one point to “be careful what you ask for,” because he knew that we were pursuing a restructuring that was in that investor's best interests, regardless of whether the investor understood it in that moment.

All trustees have the responsibility to act in a fiduciary capacity, but it's critical to be absolutely relentless about this obligation no matter what comes your way during a case of this nature and magnitude. Don't trade that big-picture commitment for a short-term fix.

3. Managing Business Operations Alongside Bankruptcy Rules

Another key lesson we learned is the importance of balancing day-to-day business operations while under the bankruptcy umbrella, especially in a case like this where the primary assets (the life insurance policies) must be maintained within very strict timelines and funding requirements. Without the life insurance policies, the return to the investors would have been substantially depleted.

The need to balance the operational demands and Chapter 11 rules was always present, but managing both effectively was critical as we progressed down a path toward confirming a plan of reorganization while maximizing returns. I found that at times the wisest and most expedient go-forward business model collided with the restrictions of a Chapter 11 trustee and the need to win investor approval of any restructuring solution.

4. Simple Investor Communications

An important lesson that we learned was the importance of preparing communications at a level that the investors (claimants) can understand. It is better to resolve doubts than to worry about over-communicating with investors. In this case, many of the investors did not understand bankruptcy terminology or “legalese” so we tasked ourselves with development content written at a very basic level. It's crucial to develop communications that help all claimants understand the often complex issues that affect them.

In any case of this nature, emotions run high. This was not just another investment to many of our investors; often it represented a large part of, or even their entire, retirement savings. Making it even more upsetting was the fact that someone they knew and trusted may have promoted the investment, often making promises and representations that turned out to be false.

From the outset, we made a concerted effort to develop appropriate resources to help the individual investors better understand their LPI claim, how decisions in the bankruptcy would affect them, and what the ultimate outcome may look like. At the same time, Chapter 11 rules required that the information we provided to the investors be consistent with the information detailed in the court-approved Disclosure Statement that accompanied our plan of reorganization.

Conclusion

The LPI bankruptcy case appears to have lived up to Judge Nelms' description: I'm told there has ever been another one quite like it. It was very challenging to serve as the trustee in this massive case, which forced me and my team, working under enormous pressure and with limited capital, to navigate a number of complex business and legal issues to reach a restructuring solution which was ultimately supported by the vast majority of investors and approved by the bankruptcy court.

In the end, though, it's very gratifying to know that LPI has now exited bankruptcy and is already beginning to return proceeds to investors. The trusts created by our plan of reorganization are set on a course to potentially return 80%-100% of the investors' original capital, as opposed to the 10 cents on the dollar that many feared (and even predicted) during the bankruptcy proceedings. In fact, the case has received national attention as a singular restructuring achievement and has been selected as “Turnaround of the Year” by two different national restructuring organizations.

Perhaps others can learn from some of our mistakes and some of our successes in order to work their way through the next case that is one of a kind.

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H. Thomas Moran, II, is the president and CEO of Asset Servicing Group, LLC, which was recently named as an approved bankruptcy notice provider by the U.S. Bankruptcy Court. For more information, please visit www.asgllc.us.