Monday, February 10, 2014

No. 29: A Federal Jury Finds Life Partners Holdings, Pardo, and Peden Guilty of Some and Not Guilty of Other Civil Securities Violations

Life Partners, Inc. (Waco, TX) is an intermediary in the secondary market for life insurance policies and the operating subsidiary of Life Partners Holdings, Inc. (NASDAQ:LPHI). On January 3, 2012, the Securities and Exchange Commission (SEC) filed a civil complaint in federal court alleging violations of federal securities laws. The defendants were LPHI and three top officers: Brian D. Pardo, chairman and chief executive officer; R. Scott Peden, general counsel; and David M. Martin, chief financial officer. On February 8, 2013, the SEC filed an amended complaint against the same defendants. On January 8, 2014, the SEC permanently dismissed the charges against Martin. On February 3, 2014, the jury found the remaining three defendants guilty of some and not guilty of other civil violations of federal securities laws and regulations.

Location of the Case
Initially the case was filed in the Waco Division of the Western District of Texas and assigned to U.S. District Judge Walter S. Smith, Jr., the only district judge in Waco. On January 11, 2012, Judge Smith recused himself because Pardo "has been a close personal friend of the undersigned for several years," and transferred the case to Senior U.S. District Judge James R. Nowlin in the Austin Division. (SEC v. LPHI, U.S. District Court, Western District of Texas, Case No. 1:12-cv-33.)

Trial and Verdict
On January 27, 2014, the four-day trial began. The SEC's witnesses were Akita Adkins, Kurt Carr (vice president of Life Partners and son-in-law of Pardo), Mark Embry (chief operations officer of Life Partners), Peden, Pardo, Nina Piper, Dr. Donald Cassidy (Reno physician and former provider of life expectancy estimates to Life Partners), Larry Rubin, and James Sundelius. The defendants' witnesses were LaDonna Johnson, Peden, Tim Harper, Harold E. Rafuse (member of LPHI board), and Tad M. Ballantyne (member of LPHI board).

On January 30, Judge Nowlin charged the jury with detailed instructions concerning the alleged violations of the Securities Exchange Act of 1934 and the Securities Act of 1933. The jury then deliberated for two days. On February 3, the jury made its findings by responding to 12 questions on the verdict form:

  1. Section 10(b) and Rule 10b-5 (securities fraud): LPHI, Pardo, and Peden not guilty. 
  2. Aiding and Abetting Violations of Section 10(b) and Rule 10b-5: Not answered because of not guilty finding on (1).
  3. Section 10(b) and Rule 10b-5 (insider trading): Pardo and Peden not guilty.
  4. Section 17(a) (securities fraud): LPHI, Pardo, and Peden guilty.
  5. Section 13(a) and Rules 12b-20, 13a-1, and 13a-13 (public filing violations): LPHI guilty.
  6. Aiding and Abetting Violations of Section 13(a) and Rules 12b-20, 13a-1, and 13a-13: Pardo and Peden guilty.
  7. Sections 13(b)(2)(A) and 13(b)(2)(B) (falsification of books and records): LPHI not guilty.
  8. Aiding and Abetting Violations of 13(b)(2)(A) and 13(b)(2)(B): Not answered because of not guilty finding on (7).
  9. Section 13(b)(5) and Rule 13b2-1 (falsification of books and records): Pardo and Peden not guilty.
  10. Rule 13b2-1 (falsification of books and records): Pardo and Peden not guilty.
  11. Rule 13b2-2 (misleading auditors): Pardo and Peden not guilty.
  12. Rule 13a-14 (false certifications): Pardo guilty. 

SEC Statement
On February 4, Andrew Ceresney, director of the SEC's division of enforcement, issued a statement on the verdict. He said:
We're very pleased the jury found Life Partners and its executives liable for knowingly or recklessly defrauding shareholders and filing false SEC filings. We're also pleased the jury found Pardo, Life Partners' CEO, responsible for falsely certifying that the company's public filings were accurate when they were not.
LPHI 8-K and Press Release
On February 4, LPHI filed an 8-K (material event) report with the SEC. The two-sentence text said nothing about the results of the trial. Instead, the 8-K merely referred to LPHI's press release, which was attached as an exhibit.

The press release was entitled "Life Partners Prevails in SEC Lawsuit." The body of the press release consisted of five paragraphs. The lead paragraph said "a federal jury has found that Life Partners did not commit fraud and its officers did not engage in insider trading." The fourth paragraph said the "jury did find for the SEC regarding its claim that Life Partners had misstated its revenue recognition policy." The fifth paragraph quoted Pardo as saying:
We are extremely pleased that the jury has exonerated our company, our business practices and the life settlement asset class itself. As we demonstrated to the jury, life settlements as transacted through Life Partners provide a valuable service to senior Americans who want to sell their unwanted life insurance policies and are a tremendous alternative asset class for accredited investors seeking to avoid the volatility of the stock market. We provide a win-win transaction for everyone involved and, when put to the test, the jury could see the SEC's allegations were not true.
Article in The Wall Street Journal
On February 5, The Wall Street Journal carried a 15-paragraph, 536-word article entitled "Mixed Verdict in Case Against Life Partners," by Mark Maremont. The lead paragraph said:
Both sides declared victory after jurors delivered a mixed verdict on a civil lawsuit brought by the Securities and Exchange Commission against Life Partners Holdings Inc., a Texas seller of life insurance investments.
The article quoted Thomas A. Gorman, a securities attorney at Dorsey & Whitney LLP in Washington, who was not involved in the case, as saying: "When you look at the crux of this case, the SEC took another loss." It also quoted Jay Ethington, an attorney for Pardo, as saying that the jurors "in effect endorsed the business model of Life Partners," and that the verdicts against his client were for "inadvertent technical violations." The article also quoted Mr. Ceresney of the SEC as saying: "We're proud of our record of success at trial and will continue to bring aggressive cases to protect investors and hold wrongdoers accountable."

An earlier online version of the article quoted Elizabeth Yingling, an attorney for LPHI, as saying: "It was a definite win for our client." It also quoted S. Cass Weiland, an attorney for Peden, as saying the verdict was a "resounding win for the company and the individuals." It also quoted a government attorney as saying that "we won on most of the claims," and that the civil fraud revenue recognition claim on which the jury found in the SEC's favor was a "lead claim" in the case.

Stock Prices
The prices of LPHI shares reflect many problems faced by the firm in recent years. From $16.63 per share on January 4, 2010, the price declined to $3.43 by June 30, 2011. The plunge was caused by a combination of critical articles in The Wall Street Journal, class action lawsuits against the company, resignation of the company's independent auditor, decertification of an earlier financial report by the company's previous independent auditor, lengthy delays in filing the company's financial reports with the SEC, the possibility of the delisting of the company's shares by NASDAQ, an investigation by the Texas securities commissioner, and the threat of civil action by the SEC. The price recovered somewhat when the company hired a new independent auditor, filed its overdue financial reports, and avoided the delisting of its shares by NASDAQ.

Just before the SEC filed its complaint in January 2012, the price of LPHI shares was $6.37. In the first week after the complaint, the price declined to $4.00 and continued to drift downward. The closing price on December 31, 2013, was $1.78. Recently the price rose slowly to $2.56 on February 3, 2014. The next day, when the jury verdict was announced, the price rose to $2.98 in the heaviest trading of the year. By February 7, the price was back down to $2.61.

General Observations
The trial transcript will become freely available to the public on April 30, 2014. I hope to review it and try to improve my understanding of what happened at the trial.

It remains to be seen what motions will now be submitted by the parties, and what appeals will be filed. Meanwhile, it seems that LPHI has won the public relations battle through the widespread circulation of its cleverly and falsely titled press release.