Life Partners (LPHI) Update: Short Term Squeeze Alert

LPHI continue to be an interesting “story-stock.”  Remember, this stock has broke down after creating a topping pattern, then very near the breakdown, Citron makes heavy claims against the company.  Add Cramer’s bearish comments on Thursday to add to the panic sell, and we have LPHI at oversold levels.

I definitely would not short here.  I’m actually looking for a possible squeeze in this stock since its a money making company that should do well in recessions.  Therefore, what I’m looking for are any meaningful rebuttals against the claims and red-flags that were hastily raised on this stock.  I almost feel like this stock was bullied on.

• Here is something from Motley Fool’s Caps Community covering Andrew Left of Citron (remember StockLemoncom?).
• One other thing to note about LPHI’s selloff…  Andrew Left’s successful taking down of ArthroCare (ARTC) recently is VERY FRESH in investor’s minds.   It took him almost two years for ARTC to finally collapse.  I think no matter who Andrew Left picked on, people were going to sell that stock.
• Cramer actually liked LPHI before.  Now he is suddenly bearish?  Cramer is definitely riding the Investors.com and Citron call on this one.  He knows NOTHING about technical analysis.

Here is a Q&A response to Citron’s Research and Cramer.  It is only fair that we hear LPHI’s side of the story. This is from their website. LPHI’s PR has been trying to contact me after blogging about LPHI last week.  Basically, they have provided me with the same info.  It’s an interesting Q&A but you can decide if it’s powerful enough:

Background:

On February 11, 2009, an online blog entitled “Citron Research” issued a negative report about Life Partners Holdings, Inc. The author of this report, Mr. Andrew Left, is well known as purveyor of negative information in order to successfully short trade the stocks on which he reports. Consequently, on the day that the Citron Research web posting was made, LPHI’s stock traded 1.2 million shares or just under 10x its average daily trading volume. We would hasten to point out that unlike legitimate stock research firms; the opinion posted to the Citron Research site was written and posted without the benefit of any contact with Life Partners or a history of covering the life settlement industry. Consequently, the author’s research and conclusions are incorrect because the report is based on faulty assumptions, misinformation or statements not borne out by fact.

NOTE: We believe that the ability to short is a legitimate option for investors and provides a useful function in our capital markets generally, but that the practice is also open to abuse when deliberate misinformation is propagated for the benefit of few and at the expense of other shareholders.

Questions/Answers:

Q. What is Citron Research?

A. Citron Research positions itself as a legitimate stock research house, but is actually just a Web site run by Andrew Left, a well known short seller who actively targets small-cap stocks. A 2008 review proudly claims that “8 of the 11 stocks Citron covered performed worse than even the adverse market of 2008. Only 1 of the 11 is trading moderately higher than when we first reported it (HEV), and we do not believe that will be for much longer.”

Q. Where did Andrew Left get his data for the Life Partners report?

A. This report was written and issued without the benefit of any contact with Life Partners or a history of covering the life settlement industry. The author’s research and conclusions are inaccurate because the report is based on faulty assumptions and misinformation not borne out by fact. (attack on the attacker)

Q. One of Mr. Left’s major points is about LPHI’s fees being higher than other life settlements companies? Is this true?

A. LPHI is the only publicly traded life settlement companies operating today. As a result, Mr. Left used a single line in our own public filing to propagate a complete fabrication. As disclosed in our last 10Q, our net revenues for the 9 months (exclusive of cost of revenue) were $39,919,000 on face value of $564,630,481. This equals fees of 7% of face. Hardly what most would consider egregious and well in line for companies with specialized knowledge that are paid on a success fee basis.

You can do the math yourself using information from our 10Q for the 9 months ended November 30, 2008 at page 16:

The following table shows the number of settlement contracts we have transacted, the aggregate face values of those contracts, and the revenues we derived, for the periods ended November 30, 2008 and 2007:

	Periods Ended November 30, 2008		Periods Ended November 30, 2007
	Three Months	Nine Months	Three Months	Nine Months
Number of settlements	56	154	52	153
Face value of policies	$195,459,950	$564,630,481	$125,897,330	$293,303,574
Average revenue per settlement	$501,856	$502,148	$371,129	$356,365
Net revenues derived*	$14,246,000	$39,919,000	$9,874,000	$27,372,000
*    The revenues derived are exlusive of brokerage and referral fees.

As you can see, $40MM / $564 MM = 7%, not 14%. Of course, market forces may permit us to increase our margins somewhat, but there is no question that 7% is sustainable and the continued growth in the market means that we should continue to experience sustainable growth as we have previously said.

Also, it’s only because of LPHI’s extraordinary transparency that these fees are made public. We’d like to know the sources that Mr. Left used to cite “industry norm” fees of 6 percent. No other life settlement company publishes audited fee structures.

Unlike mutual funds, hedge funds or other derivatives, LPHI’s business model is the most cost effective way for accredited investors to own life settlements. LPHI does not charge any annual management fees or share in the profits of investors. As noted by Conning Research & Consulting, Inc. “This approach . . lowers their investment costs because they do not pay management fees to a portfolio manager.” Life Settlement Market: Increasing Capital and Investor Demand 2007 p. 56.

In addition, because its retail clients have direct fractional ownership of policies, they are insulated from any fund management risk. In other words, hedge funds are a “black box” while LPHI’s transactions are a “glass box.”

Q. Is LPHI’s business model sustainable?

A. Not only is the business model sustainable, LPHI is poised for significant growth across the next 10 years. A 2007 Conning Research & Co. predicted that gross market size of the life settlement industry will grow to $150 billion by 2016, from an estimated $7 billion that year. The company fundamentals behind LPHI have not changed in any way and earnings continue to be on course to meet expectations.

Q. Citron calls out the accounting firm that provides auditing services to LPHI as being a small and inexperienced working with publicly traded companies. What company currently serves is LPHI’s auditor and is it reliable?

A. Citron is in error about the company’s auditors. As of August 1, 2008, the firm it discusses merged with Eide Bailey who now serves as the company’s auditors. Eide Bailey is one of the top 25 accounting firms in the nation with over 39,000 clients and 20 offices in 9 states.

Q. Are life insurance companies currently in danger of bankruptcy?

A. Life insurance companies are among the most heavily regulated companies with regard to solvency. Like most financial institutions worldwide, insurers have recently suffered unrealized losses on their balance sheets and their earnings have suffered in the wake of the financial crisis. However, most experts agree that insurance companies do not have the liquidity issues that banks have. LPHI only acquires policies from insurers that have an A- or better rating, per A.M. Best & Co.

Even during the Great Depression of the early 1930s, life insurance companies continued to pay its policy obligations and there is no credible evidence to suggest otherwise today.

Q. Is LPHI under attack from state and federal regulators?

A. Mr. Left cites excerpts from allegations by Colorado regulators to support a “doom and gloom” conclusion for the company. However, had Mr. Left been intellectually honest he would have reported that this action has been resolved as reported in the company’s last 10-Q and that despite the initial claims of the Commissioner’s complaint, there was no finding of fraud in the Court’s order. Also, that the Colorado Securities Commissioner acknowledged and stipulated to the court that “no investor has alleged or asserted any impropriety against LPI with respect to their investment and all purchasers represented themselves to be accredited investors prior to investing.”

Because life settlements are a relatively new class of asset, there are complex and sometimes contradictory regulations between states and the federal government. LPHI has been working with state and federal regulatory agencies throughout its existence to develop rules which make it easier for senior Americans to unlock the hidden value in the insurance policies.

For example, the company filed a case in federal court to clarify whether it was constitutional for Florida state regulators to limit Florida residents’ ability to go outside the state and sell their policies to Life Partners in order to get the greatest value.

In every case brought against LPHI, these actions have been resolved, without any findings of fraud or other improprieties. These previous actions were brought due to a limited public understanding of a completely new asset class and as education continues these actions will diminish drastically. LPHI has been operating successfully for almost 20 years.

Q. What about the questions about LPHI’s CEO, Mr. Pardo? Was he sanctioned by the SEC in a previous company?

In a case relating to a revenue recognition reporting issue which arose based on the advice of accountants, Mr. Pardo entered into a consent decree with the SEC. In that order, there were no fines, penalties or other sanction imposed and Mr. Pardo entered the agreement in order to resolve the issue amicably.

No such accounting issues exist with LPHI or any other member of its senior management team, and Mr. Left does not assert that one exists. LPHI has operated successfully for nearly 20 years and in full compliance with both industry and securities regulations.

Q. Why don’t more analyst firms cover LPHI?

A. It is well known that the vast majority of small and medium capitalization companies have no analyst coverage whatsoever. This situation is driven more by shrinking research departments and the names they cover than with the individual merits of a company such as ours. But Citron’s information is wrong on this point. Life Partners recently announced that subscriber-based Singular Research also covers the company.

Q. Why aren’t there more companies doing life settlement? Should the lack of competition raise red flags for investors?

A. As discussed recently during one of our shareholders conference calls, competition for policies has decreased due to the fact that many of LPHI’s competitors utilized leveraged strategies. With the credit crisis that started in 2008, many of these companies simply ran out of money to purchase policies. This speaks more to the vindication of the company’s operating strategy and prudence, something left out of Mr. Left’s opinion piece.

Q. Why has the mainstream business media picked up the “Citron Research” report and cited it as a legitimate news source?

A. Several news organizations have mentioned the Citron piece as a credible news source in reporting LPHI’s turbulent trading. We are baffled by this development and feel that had the media done any research into Mr. Left’s organizations, they would have been more careful about reporting his Web site as a legitimate news source. Other, more prudent news organizations have acknowledged that Citron Research offers no evidence of anything more than one individual’s opinion.  (attack on the attacker)

Of particular interest is CNBC’s Jim Cramer who, on September 4, 2007, proclaimed LPHI to be a: ‘Miraculous company. … They’ve created a secondary market in life insurance. It’s a brilliant business model. I liked it before, and I like it again.’
http://www.cnbc.com/id/20585596/
http://seekingalpha.com/article/46399-jim-cramer-s-mad-money-lightning-round-picks-9-4-07

Above the comments:

LPHI is a momentum stock that has turned into a “story-stock.”  I’m sad to say, that straight up trend up LPHI enjoyed throughout 2008 like a bullet-proof stock, is done.  The easy trend is done.  Therefore, I would treat this as a “story-stock.” That means, you want to trade the imbalance, the rebuttals, and the panic (either panic selling or buying).  I think it’s very dangerous to short LPHI here.  I’m looking for a bounce soon, however, that doesn’t mean I will buy this stock in the same way I would if it were 2008.  Remember, broken momentum stocks almost never get back to their peaks.  Also, be careful about going long… we don’t know the bottom, so just wait for an intraday reversal if you’re unsure.

So, read the story and the debate.  Enjoy Citron, Cramer and Mr. Left try to tear LPHI up, but don’t fall in love with this stock long or short.  We play this until the hype is over.  I still think LPHI business model is a money-making machine.  It’s not vulture investing at the strictest definition; but I think it opens the way for our growing baby-boomer population to tap into future assets… and now more than ever do they need that money after many baby-boomers saw their retirement funds get wiped out in 2008.  In a sense, LPHI likes to “buy the panic” too.

Let’s see if LPHI can cheat death.

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