As of December 31, 2017, there were 158,495,399 and 157,887,399 shares of common stock issued and outstanding, respectively, and 608,000 shares of treasury stock.
Incorporated in Florida, Emergent Capital owns a portfolio of 608 life insurance policies, also referred to as life settlements, with a fair value of $567.5 million and an aggregate death benefit of approximately $2.9 billion at December 31, 2017. The Company primarily earns income on these policies from changes in their fair value and through death benefits.
Historically, the Company had incurred substantial losses and reported negative cash flows from operating activities of $34.9 million for the year ended December 31, 2017 and $45.6 million for the year ended December 31, 2016. As of December 31, 2017, we had approximately $31.3 million of cash and cash equivalents and certificates of deposit of $1.0 million; of this amount, approximately $18.1 million is available to pay premiums on the two unencumbered policies and other overhead expenses, with approximately $13.1 million being restricted by the White Eagle Revolving Credit Facility.
The Company’s ability to continue as a going concern is dependent on its ability to meet its liquidity needs through a combination of the receipt of death benefits from life insurance policy maturities, borrowings under the White Eagle Revolving Credit Facility, strategic capital market raises, policy sales (subject to certain asset sale restrictions) and cash on hand. During the year ended December 31, 2017, the Company entered into certain agreements for the purpose of recapitalizing the Company (as described below), and on July 28, 2017 and August 11, 2017, the Company consummated the Transactions (as described below). See Note 10, "8.5% Senior Unsecured Convertible Notes", Note 11 "5.0% Senior Unsecured Convertible Notes", Note 12, "15% Senior Secured Notes", Note 13, "8.5% Senior Secured Notes" and Note 18, "Stockholders' Equity" for further information. In considering the cash on hand at December 31, 2017 and management's projections for receipts of death benefits from policy maturities, we estimate that our liquidity and capital resources are sufficient for our current and projected financial needs for the next twelve months, at a minimum, from the date of filing this Form 10-K.
On June 19, 2017, the Company entered into a series of amendments to the Master Transaction Agreements, as amended (the "Additional MTA Amendments"), which amended each Master Transaction Agreement made as of March 15, 2017 and May 12, 2017. The purpose of the Additional MTA Amendments was to modify the definition of "Investor" and amend the form of warrant attached as Exhibit E to the Master Transaction Agreements (the "Warrant") to, among other things, contemplate vesting of the Warrant to holders on a pro rata basis. The Additional MTA Amendments also extended the period by which Consenting Convertible Note Holders could tender into the Convertible Note Exchange Offer.
On May 15, 2017, the Company entered into a $1.5 million Promissory Note with PJC (the "Bridge Note"), to provide financing to fund the Company's continued operations with a maturity date of July 3, 2017. The Bridge Note was amended on June 28, 2017 (the "Amended and Restated Bridge Note") to (i) increase the principal amount thereunder to $3.3 million and (ii) extend the maturity date from July 3, 2017 to the earlier of (a) July 28, 2017 and (b) the date on which the Master Transaction Agreements are consummated. Approximately $2.8 million was drawn on the Amended and Restated Bridge Note during the year ended December 31, 2017, respectively. All outstanding principal and interest amounts due under the Amended and Restated Bridge Note were repaid on July 28, 2017 in connection with the consummation of the recapitalization transactions as described below.
On July 28, 2017, the Company consummated a series of integrated transactions to effect a recapitalization of the Company (the "Transaction Closing") pursuant to the Master Transaction Agreements.
On July 26, 2017, the Company’s Convertible Note Exchange Offer to exchange its outstanding $74.2 million aggregate principal amount of Convertible Notes for its New Convertible Notes expired. At least 98% of the outstanding
Amended and Restated Senior Secured Note Indenture and 8.5% Senior Secured Notes
In connection with the Transaction Closing, the Company and Wilmington Trust, National Association, as indenture trustee (the "Senior Secured Note Trustee") entered into an Amended and Restated Senior Secured Note Indenture (the "Amended and Restated Senior Secured Indenture") to amend and restate the Indenture dated as of March 11, 2016 (as amended and supplemented or otherwise modified from time to time, the "Senior Secured Indenture") between the Company and the Senior Secured Note Trustee following the Company’s receipt of requisite consents of the holders of the 15.0% Senior Secured Notes. Pursuant to the terms of the Amended and Restated Senior Secured Indenture, the Company caused the cancellation of all outstanding 15.0% Senior Secured Notes and the issuance of 8.5% Senior Secured Notes due 2021 (the "8.5% Senior Secured Notes") in an aggregate amount of $30.0 million. The Amended and Restated Senior Secured Indenture provides, among other things, that the 8.5% Senior Secured Notes will be secured senior obligations of the Company and will mature on July 15, 2021. The 8.5% Senior Secured Notes will bear interest at a rate of 8.5% per annum, payable quarterly on March 15, June 15, September 15 and December 15 of each year, beginning on September 15, 2017.
See Note 21, "Income Tax", to the accompanying consolidated financial statements for further information.
During the year ended December 31, 2017, 13 life insurance policies with face amounts totaling $67.2 million matured. The net gain on these maturities was $35.9 million. The gains related to maturities are included in income from changes in fair value of life settlement in the consolidated statement of operations for the year ended December 31, 2017. All 13 policies had served as collateral under the White Eagle Revolving Credit Facility. Proceeds from maturities totaling $42.1 million were received during the year ended December 31, 2017. Of this amount, approximately $37.1 million, inclusive of approximately $2.5 million collected during the year ended December 31, 2016, were utilized to repay borrowings, interest and expenses under the White Eagle Revolving Credit Facility during the year ended December 31, 2017, with approximately $7.8 million on account for White Eagle awaiting distribution through the waterfall. We continue to believe that there are accretive opportunities to grow our existing portfolio of life settlements and intend, subject to our liquidity needs and available cash, to selectively deploy capital in both the secondary and tertiary life settlement markets. Assuming we recognize no policy maturities, our estimated premiums for 2018 would be $94.4 million. White Eagle would be eligible to borrow approximately $94.2 million of this amount under the White Eagle Revolving Credit Facility to pay premiums on policies secured by the White Eagle Revolving Credit Facility to the extent that is does not exceed the facility limit of $370.0 million. Approximately $141,000 in estimated premiums required to maintain the policies not pledged as collateral under the White Eagle Revolving Credit Facility as of December 31, 2017.
The preparation of the financial statements requires us to make judgments, estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. We base our judgments, estimates and assumptions on historical experience and on various other factors that are believed to be reasonable under the circumstances. Actual results could differ materially from these estimates under different assumptions and conditions. We evaluate our judgments, estimates and assumptions on a regular basis and make changes accordingly. We believe that the judgments, estimates and assumptions involved in the accounting for income taxes, the valuation of life settlements, the valuation of the debt owing under the White Eagle Revolving Credit Facility and the valuation of our conversion derivative liability formerly embedded within the Convertible Notes have the greatest potential impact on our financial statements and accordingly believe these to be our critical accounting estimates.
Deferred debt costs include costs incurred in connection with acquiring and maintaining debt arrangements. These costs are directly deducted from the carrying amount of the liability in the consolidated balance sheets, are amortized over the life of the related debt using the effective interest method and are classified as interest expense in the accompanying consolidated statement of operations. These deferred costs are related to the Company's 8.5% Convertible Notes, 5% Convertible Notes and 8.5% Senior Secured Notes. The Company did not recognize any deferred debt costs on the Revolving Credit Facilities given all costs were expensed due to electing the fair value option in valuing the Revolving Credit Facilities.
Our provision for income taxes results in an annual effective tax rate of 0% in 2017 compared to 0% in 2016. The accounting for uncertain tax positions guidance under ASC 740 requires that we recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. We recognize interest and penalties (if any) on uncertain tax positions as a component of income tax expense.
The Company recorded a liability for the conversion derivative liability attributed to the issuance of the Convertible Notes, a deferred tax asset of $6.5 million for the conversion derivative liability and a deferred tax liability of $6.5 million for the corresponding debt discount. As the changes in the fair value of the conversion derivative liability were included in earnings, the Company recorded additions to the deferred tax asset. At June 5, 2014, when the Company received shareholder approval to issue shares of common stock upon conversion of the Convertible Notes, the deferred tax asset attributed to the conversion derivative liability (net of allocated unamortized transaction costs) was $8.8 million. In accordance with ASC 815, the Company reclassified the deferred tax asset attributed to the conversion derivative liability (net of allocated unamortized transaction costs) to shareholders’ equity. See Note 10, "8.50% Senior Unsecured Convertible Notes" to the accompanying consolidated financial statements.
Net loss from continuing operations for the year ended December 31, 2017 was $3.2 million as compared to a loss of $49.4 million for the year ended December 31, 2016. There was no tax benefit for the year ended December 31, 2017. The following is our analysis of net loss for the year (in thousands).
Our income for the year ended December 31, 2016 was significantly impacted by the adoption of the 2015 VBT, which resulted in a reduction in fair value of life settlements of approximately $17.6 million.
Total expenses from continuing operations for the year ended December 31, 2017 were mainly comprised of interest expense of $16.8 million on the White Eagle Revolving Credit Facility; $9.2 million on the 8.5% Convertible Notes; $2.1 million on the 5% Convertible Notes; $2.8 million on the 15% Senior Secured Notes; $1.4 million on the 8.5% Senior Secured Notes, $2.0 million loss on extinguishment of debt, and a change in the fair value of the White Eagle Revolving Credit Facility of $4.5 million.
Total expenses for the year ended December 31, 2016 were also significantly impacted by a $15.7 million gain for the change in fair value of the Revolving Credit Facilities which is associated with the adoption of the 2015 VBT.
During the year ended December 31, 2016, the Company changed its valuation technique when it decided to adopt the 2015 VBT, smoker and gender distinct tables, to determine the value of the policies. The resulting impact was a reduction in the fair value of the life settlements of approximately $17.6 million for the year ended December 31, 2016.
The Company re-evaluates its discount rates at the end of each reporting period in order to reflect the estimated discount rates that could reasonably be used in a market transaction involving the Company's portfolio of life settlements. In doing so, consideration is given to the various factors influencing the rates, including credit exposure of the insurance company that issued the life insurance policy, and the estimated risk premium an investor in the policy would require, among other factors. At December 31, 2017, the Company determined that the weighted average discount rate calculated based on death benefit was 15.95% compared to 16.37% at December 31, 2016. This resulted in a positive impact for the change in fair value of our life settlement for the year ended December 31, 2017.
Outstanding debt for the year ended December 31, 2017 included $329.0 million of outstanding principal on the White Eagle Revolving Credit Facility, $1.2 million of 8.5% Convertible Notes, $75.8 million of 5% Convertible Notes and $35.0 million of 8.5% Senior Secured Notes.
Of the interest expense of $29.4 million for the year ended December 31, 2016, approximately $11.4 million represents interest paid on the White Eagle Revolving Credit Facility and approximately $4.3 million was attributable to the Red Falcon Revolving Credit Facility. Interest included $388,000 and $297,000 of debt issuance costs for the White Eagle Revolving Credit Facility and the Red Falcon Revolving Credit Facility, respectively, which were not capitalized as a result of electing the fair value option for valuing these debt facilities, and $11.0 million and $4.0 million related to interest payments paid during the year ended December 31, 2016, respectively. The Red Falcon Revolving Credit Facility was fully repaid on December 29, 2016.
Interest expense on the Convertible Notes totaled $9.7 million of interest expense on the Convertible Notes, including $6.0 million, $3.2 million and $480,000 from interest, amortizing debt discounts and origination costs, respectively.
During the year ended December 31, 2016, the Company terminated the Red Falcon Revolving Credit Facility. The outstanding principal balance and unpaid interest due was paid upon termination of the facility on December 29, 2016 was $65.1 million. Approximately $554,000 was recorded as a loss on extinguishment of debt related to the early repayment of the facility. This includes the debt valuation allowance of $239,000 and costs incurred related to the facility termination of $315,000 at December 31, 2016.
See Notes 9 "Red Falcon Revolving Credit Facility," and 12 "15% Senior Secured Notes" of the accompanying consolidated financial statements.
At December 31, 2017, the White Eagle Revolving Credit Facility shows a loss of approximately $4.5 million compared to a gain of $1.4 million or the year ended December 31, 2016. This loss in 2017 is attributable to a combination of offsetting factors as discussed below:
Our expenses from continuing operations for the year ended December 31, 2015 were significantly higher than 2016 due to legal expenses of $20.7 million compared to $6.4 million, change in fair value of the Revolving Credit Facilities of $12.2 million compared to a gain of $1.9 million and a loss on extinguishment of Secured Notes of $8.8 million compared to a loss on extinguishment of the Red Falcon Revolving Credit Facility of $554,000 for the years ended December 31, 2015 and December 31, 2016, respectively. Legal expenses for the year ended December 31, 2015 included approximately $6.5 million in payments relating to the Company's indemnification obligations for the conclusion of the USAO Investigation.
There was no income tax benefit recognized during the year ended December 31, 2016.
During the year ended December 31, 2016, 12 life insurance policies with face amounts totaling $37.5 million matured, compared to 17 policies with face amounts of $67.4 million for the same period in 2015. The net gain of these maturities was $17.9 million and $47.9 million for 2016 and 2015, respectively, and is recorded as a change in fair value of life settlements in the consolidated statements of operations for the years ended December 31, 2016 and 2015. Of these maturities, four served as collateral under the Red Falcon Revolving Credit Facility and eight served as collateral under the White Eagle Revolving Credit Facility. Proceeds from maturities totaling $50.5 million were received during the year ended December 31, 2016. Of this amount, approximately $40.5 million and $7.6 million were utilized to repay borrowings, interest and credit facility expenses under the White Eagle Revolving Credit Facility and the Red Falcon Revolving Credit facility, respectively, during the year ended December 31, 2016, and $2.5 million was used to repay interest and credit facility expenses under the White Eagle Revolving Credit Facility during 2017. Approximately $5.0 million in policy proceeds received at the end of 2015 were used to repay borrowings, interest, and expenses for White Eagle during 2016. The Company also recorded a $5.0 million receivable for maturity of life settlements at December 31, 2016 relating to a policy pledged to the White Eagle Revolving Credit Facility.
There were no policy sales during the year ended December 31, 2016. The loss in 2015 is related to one policy sale on net proceeds of $2.2 million.
Interest expense on the Convertible Notes totaled $9.7 million, including $6.0 million, $3.2 million and $480,000 representing interest, amortization of debt discount and issuance costs, respectively. We recorded $4.0 million of interest expense on the 15% Senior Secured Notes, including $3.7 million and $356,000 from interest and amortizing debt discounts, respectively, during the year ended December 31, 2016.
Of the interest expense of $27.3 million for year ended December 31, 2015, approximately $9.2 million represents interest paid on the White Eagle Revolving Credit Facility, which included $6.7 million withheld from borrowings by the lender and $2.5 million paid by White Eagle. Approximately $4.9 million represents interest expense attributable to the Red Falcon Revolving Credit Facility, which includes approximately $3.3 million attributable to debt issuance costs not capitalized as a result of electing the fair value option for valuating this debt and an additional$1.6 million related to interest payments paid during the year ended December 31, 2015.
During the second quarter ended June 30, 2016, the Company changed its valuation technique by adopting the 2015 VBT, smoker and gender distinct tables, to determine the value of the life insurance policies pledged as collateral in the facilities. The resulting impact was a positive change in the cash flows which drives the change in fair value of the White Eagle Revolving Credit Facility of approximately $14.7 million.
The decrease in SG&A expense was primarily the result of a decrease in legal expense of $14.3 million, a decrease in insurance costs of $440,000and a decrease in personnel costs of $314,000.
Investigation, IRS Investigation and related matters for the year ended December 31, 2016, compared to $17.0 million for the year ended December 31, 2015. Amounts for 2015 mainly relate to the USAO Investigation, which was concluded at December 31, 2015.
See Note 17, "Commitments and Contingencies," to the accompanying consolidated financial statements.
Total expenses from our discontinued structured settlement operations were $304,000 for the year ended December 31, 2017 compared to $272,000 incurred during the same period in 2016. This increase was attributable to a $138,000 increase in other SG&A, offset by a $93,000 decrease in legal fees.
During the year ended December 31, 2015, our discontinued structured settlement operations sold 43 structured settlements for a loss of approximately $32,000 and received proceeds of approximately $920,000. There were no structured settlement sales during the year ended December 31, 2016.
For the year ended December 31, 2017, we paid $84.7 million in premiums to maintain our policies in force. Of this amount, $84.6 million was paid by White Eagle through its borrowings. While the liquidity risk associated with the policies that have been pledged as collateral under the White Eagle Revolving Credit Facility has been mitigated, any distributions from available proceeds under the White Eagle Revolving Credit Facility will vary based on the respective, then current loan to value ratio. Accordingly, there can be no assurance as to when the proceeds from maturities of the policies pledged as collateral under the White Eagle Revolving Credit Facility will be distributed to the Company. Additionally, White Eagle cannot borrow under the facility to pay interest. To the extent there are insufficient collections from policy proceeds to cover these amounts, these required payments will stress our available cash. Assuming no policy maturities, as of December 31, 2017, we expect to pay $141,000 in premiums during 2018 on the two policies that have not been pledged under the White Eagle Revolving Credit Facility; however, any future cost of insurance increases may cause our projected premium payments to significantly increase and adversely affect the loan to value ratios under the White Eagle Revolving Credit Facility. Additionally, at December 31, 2017, we had $75.8 million, $35.0 million and $1.2 million and in aggregate principal amount of outstanding 5% Convertible Notes, 8.5% Senior Secured Notes and 8.5% Convertible Notes, which accrue interest at 5.0%, 8.5%, and 8.5%, respectively. Interest on the 5.0% Convertible Notes and the 8.5% Convertible Notes are due semi-annually while interest on the 8.5% Senior Secured Notes is due quarterly.
The Company’s ability to continue as a going concern is dependent on its ability to meet its liquidity needs through a combination of the receipt of death benefits from life insurance policy maturities, borrowings under the White Eagle Revolving Credit Facility, strategic capital market raises, policy sales (subject to certain asset sale restrictions) and cash on hand. During the year ended December 31, 2017, the Company entered into certain agreements for the purpose of recapitalizing the Company (as described below), and on July 28, 2017 and August 11, 2017, the Company consummated the Transactions. See Note 10, "8.5% Senior Unsecured Convertible Notes", Note 11 "5.0% Senior Unsecured Convertible Notes", Note 12, "15% Senior Secured Notes", Note 13, "8.5% Senior Secured Notes" and Note 18, "Stockholders' Equity" for further information. In considering the cash on hand at December 31, 2017 and management's projections for receipts of death benefits from policy maturities, we estimate that our liquidity and capital resources are sufficient for our current and projected financial needs for the next twelve months, at a minimum, from the date of filing this Form 10-K.
White Eagle is the borrower under a $370.0 million revolving credit facility, with Imperial Finance and Trading, LLC, as the initial servicer, the initial portfolio manager and guarantor, Lamington Road Bermuda Ltd., as portfolio manager, LNV Corporation, as initial lender, the other financial institutions party thereto as lenders, and CLMG Corp., as administrative agent for the lenders.
Borrowing availability under the White Eagle Revolving Credit Facility is subject to a borrowing base, which, among other items, is capped at 75% of the valuation of the policies pledged as collateral. This loan to value calculation is determined by the lenders with a high degree of discretion. At December 31, 2017, $41.0 million was undrawn and $4.1 million was available to borrow under the White Eagle Revolving Credit Facility. For a description of the facility see Note 8, "White Eagle Revolving Credit Facility - Borrowing Base & Availability," of the notes to Consolidated Financial Statements.
On October 4, 2017, White Eagle Asset Portfolio, LP entered into an amendment to the Second Amended and Restated Loan and Security Agreement. The amendment changed the provisions over how participation of the proceeds from the maturity of the policies pledged as collateral under the White Eagle Revolving Credit Facility are distributed pursuant to a waterfall. The amendment included an exclusion from the Cash Interest Coverage Ratio of at least 2.0:1 for the period of July 1, 2017 through July 28th, 2017. The amendment allowed for the Company to participate in the waterfall distribution scheduled during October 2017. Approximately $570,000 was received by the Company from the waterfall distribution during the year ended December 31, 2017.
Based on the loan agreement, the LIBOR portion of the interest rate will re-adjust annually once the floor has exceeded 1.5%. The applicable rate will be dependent on the rate at the last business day of the preceding calendar year. Future increase in LIBOR could have a material adverse effect on the Company’s financial position and results of operations. At December 31, 2017, LIBOR was increased to 2.11%.
For a description of the White Eagle Revolving Credit Facility, Note 8, "White Eagle Revolving Credit Facility," of the notes to Consolidated Financial Statements.
On March 15, 2017 and May 12, 2017, the Company entered into the Master Transaction Agreements regarding a series of integrated transactions with the intent to effect a recapitalization of the Company (the "Transaction") which included, among other transactions, a Convertible Note Exchange Offer and a New Convertible Note Indenture providing for the issuance of New Convertible Notes to be delivered in connection with the Transaction (each as defined in the Master Transaction Agreements).
At September 30, 2017, the outstanding principal of the 8.5% Senior Secured Notes is 35.0 million with a carrying value of $33.9 million, net of unamortized debt issuance cost of $1.1 million.
On May 15, 2017, the Company entered into a $1.5 million Promissory Note with PJC Investments, LLC (the "Bridge Note"), to provide financing to fund the Company's continued operations with maturity date of July 3, 2017. The Bridge Note was amended on June 28, 2017, (the "Amended and Restated Bridge Note") to (i) increase the principal amount under the Bridge Note to $3.3 million and (ii) extend the maturity date from July 3, 2017 to the earlier of (a) July 28, 2017 or (b) the date on which the Master Transaction Agreements are consummated. For a description of the Amended and Restated Bridge Note, see Note 14, "15% Promissory Notes," of the accompanying consolidated financial statements for further information.
All outstanding principal and interest amounts due under the Amended and Restated Bridge Note were repaid on July 28, 2017 in connection with the consummation of the Transaction Closing.
During the year ended December 31, 2017, operating activities used cash of $34.9 million. Our net loss of $3.5 million was adjusted for the following: White Eagle Revolving Credit Facility financing costs and fees of $931,000, which represent fees associated with the White Eagle Revolving Credit Facility withheld by the lender and added to the outstanding loan balance, debt modification costs for the 8.5% Convertible Notes of $2.5 million, amortization of discount and deferred cost for the 8.5% Convertible Notes of $2.4 million, change in fair value of life settlement gains of $51.6 million that is mainly attributable to maturities of 13 policies; change in fair value of Revolving Credit Facility loss of $4.5 million that is mainly attributable to increased borrowings, the lengthening of life expectancies of certain insureds underlying policies pledged as collateral in the facility and an increase in the discount rates, and a net positive change in the components of operating assets and liabilities of $310,000. This $310,000 change in operating assets and liabilities is partially attributable to a $2.2 million decrease in interest payable on the 8.5% Convertible Notes, and a $213,000 decrease in interest payable on the 15.0% Senior Secured Notes, offset by a $1.4 million increase in interest payable on the 5.0% Convertible Notes.
At December 31, 2017, there were no off-balance sheet arrangements between us and any other entity that have, or are reasonably likely to have, a current or future effect on our financial condition, changes in financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to shareholders.