GWG Holdings, Inc.
Q2 2016 Earnings Call Transcript

Published: 16 Aug 2016

[Operator:]

Welcome to the GWG Holdings’ Second Quarter 2016 Earnings Conference Call. Today’s call is being recorded and will be available for replay beginning at 9

[Rose Reifsnyder:]

Thank you, Jonathan, and good afternoon. Welcome to GWG Holdings’ second quarter earnings call. On the call with me today are Jon Sabes, CEO; Bill Acheson, CFO; and Michael Freedman, President. Following their remarks, there will be a question-and-answer session. Some statements made on the call today along with any projected financial results include forward-looking statements subject to certain risks and uncertainties. Any forward-looking statements made on this call are based on assumptions as of today and we undertake no obligation to update these statements as a result of new information or future events. A sample list of factors and risks that could cause actual results to be materially different from forward-looking statements can be found in our earnings release and in our most recent 10-K and 10-Q reports. During the call, you will hear references to various non-GAAP financial measures, which we believe enhance the understanding of our performance. Reconciliation of the non-GAAP numbers to the respective GAAP numbers can be found in the press release available on our website. Please note that today’s conference call is being recorded and will be available through next Tuesday, August 23. Replay details are available on our website at gwglife.com. And now, I will turn it over to Mr. Jon Sabes, CEO of GWG Holdings.

[Jon Sabes:]

Thanks, Rose, and thank you, everyone, for joining our second quarter earnings call. I hope everyone is enjoying this summer and the Olympics on television. Again, like our last call, I want to start today by reminding our audience that this year marks our 10th year of being a finance year in the life insurance secondary market. The point here being, we’re not newcomers to the business. Today, our team is made up of an experienced group of professionals covering structured finance, insurance regulatory, IT, and marketing, all of whom have a deep understanding and appreciation of where this market come from and where it has the potential to go? In this quarter, which is a continuation of last quarter, we’re just beginning to see the benefits of years of hard work and investment in what we believe is an unprecedented opportunity in the financial services sector, namely reinventing what it means to sell and own life insurance. We’re accomplishing this by pursuing our definite chief aim of creating a vibrant life insurance secondary market for the economic benefit of seniors, owning life insurance who need post-retirement financial solutions for investors seeking yield for non-correlated assets. For financial advisors being value-added products and services to offer their clients and build their businesses with and for GWG’s stakeholders who seek to economically gain from the creation and realization of this market. Our second quarter results recognize the continued momentum as a result of a growing receptivity by consumers, investors, and financial advisors. We’re willing to maintain an open mind about what the life insurances secondary market is and what it is not. As we continue to just dispel myths and hearsay that surround our industry. We have a growing awareness of how we operate in a highly regulated market, and how that highly regulated market has eliminated many fringe players who helped to create a poor perception of our industry. And we have a growing appreciation of the tangible benefits our services bring, as we seek to reinvent the overall value proposition of life insurance. Specifically, our momentum this quarter carry through to record growth in our portfolio of life insurance, as we were able to put the capital we raised to work. Record growth in where those policies came from, as our direct origination machine becomes operational and record growth in capital raise as our distribution points continue to expand. And this momentum carries through with announcements and steps being taken by our management team to solidify our capital structure in order to firmly establish GWG’s leading position in what promises to become a great growth opportunity for our shareholders. I’m now going to turn the call over to our Chief Financial Officer, Bill Acheson, for a more detailed review of our key metrics and financial results for the quarter. Bill?

[William Acheson:]

Thanks, Jon, and good afternoon, everyone. The second quarter was another good quarter for GWG. And as was the case last quarter, we made significant progress against our key operating and financial metrics. We are very happy with our results through the first-half of 2016 and are optimistic about the remainder of the year. Before I walk through our key financial operating metrics, I would like to update you on important changes that we have made to L Bond investment product and that Jon just referred to. Recently, we announced changes to our L Bond investment product, which has been a primary means of funding our portfolio of life insurance. These changes included discontinuing the sale of our short-term L Bonds those with maturities of less than two years and reducing the interest rates offered on or mid and long-term bonds. The resulting lower cost of funds and improved asset liability profile of our balance sheet creates immediate value and reduces risk for all of our investors. These changes represent an important step in strengthening of our balance sheet to accommodate our future growth plans and opportunities. And now as I do each quarter, I will provide you a quick update on our key operating and financial metrics. Number one, our financial advisors. A key part of our strategy is growing and serving our nationwide network of independent financial advisors. And we have increased the number of advisors approved to sell the company’s investment products to approximately 4,000 as of the August 9, 2016. Metric number two is our investment product sales, the ability to consistently raise capital is critical to reaching our primary goal of originating a large and actuary diverse portfolio of life insurance policies. During the second quarter, we raised a total of $48 million in capital from the combined sale of our $1 billion L Bond and our $100 million redeemable preferred stock offerings. This was a record result for both investment product offerings. Metric number three, pertains to portfolio growth. And as our portfolio grows its ability to produce consistent cash flows and earnings improves. And so this remains a key objective for us. The company’s portfolio of life insurance stood at $1.15 billion in face amount of benefits at the end of the quarter, consisting of 547 policies, covering 493 unique lives. This represents sequential growth net of policy benefits realized of $127 million as compared to the first quarter of 2016, which itself was a record quarter for portfolio growth. Metric number four regards where we get our policies, our life insurance policy origination channels. We continue to leverage our unique financial services distribution platform by enabling financial professionals to directly source life insurance policies for us. We have expanded the number of financial advisors that are enrolled in our proprietary Appointed Agent program and currently have over 2,875 independent financial advisors that are able to directly source life insurance policies for us in addition to selling the company’s investment products. Our President, Michael Freedman will discuss this further in his remarks. Our fifth metric is portfolio cash flows and is also one of our key metrics. During t he second quarter of 2016, we recognized $9.8 million in policy benefits from six policies, as compared to $0.75 million from one policy in the same period one-year ago. We are encouraged by the performance of our portfolio in the first-half of 2016, as we have recognized policy benefits in seven consecutive months through July, which is a record for the company and we believe evidence of the maturation of our portfolio. We remain optimistic regarding future cash flows from the portfolio, as at quarter end, approximately one-third or $378 million of face amount of policy benefits was associated with insurers aged 85 years and greater. Number six, our GAAP results. For the second quarter ended June 30, 2016, total revenue was $20.8 million, up nearly 2.5 times from the same period one-year ago. Net income attributable to common shareholders was $2.3 million, or $0.32 and $0.29 per basic and fully diluted share, respectively. This compares to a net loss attributable to common shareholders of $1.9 million, or $0.38 per basic and fully diluted share for the same period one-year ago. The increase for the second quarter of 2016 was driven by several factors. Number one, higher realized gains from the recognition of policy benefits. Number two, higher unrealized gains from new policy purchases, which were at record levels during the quarter. And number three, an increase in unrealized gain due to the adoption of new actuarial tables during the quarter. These items were partially offset by higher interest costs due to higher debt balances outstanding and higher operating costs as we continue to experience record volumes of investment product sales and life insurance policy purchases. Now to our non-GAAP measurements. We use non-GAAP financial measures to plan for and manage our business, as well as for maintaining compliance with covenants contained in our borrowing agreements. We believe that our non-GAAP financial measures permit us and investors to better focus on the long-term earnings potential of our business without regard to the volatility in GAAP financial results that can and indeed have occurred while we’re in our current phase of growth. So metric number seven is our non-GAAP net asset value. The spread between the expected yield on our portfolio and our cost of financing is a key driver of shareholder value. One way to measure this expected yield spread is to calculate the net asset value of the company by discounting the cash flows from our portfolio of life insurance at a weighted average interest rate that we pay on our interest-bearing debt, which was 6.91% at quarter end, and then adding to that our short-term assets and deducting all of our interest-bearing debt and preferred stock. At quarter end, our non-GAAP net asset value was approximately $112 million, or $18.72 per basic share outstanding, comparing favorably to our closing stock price yesterday of $7.50. Finally, our last metric regarding adjusted non-GAAP income. We calculate income on a non-GAAP – adjusted non-GAAP basis. We do this to measure the economic value of the policy over time, which generally increases as time passes. We calculate this by recognizing the actuarial gain accruing within our life insurance policies at the expected internal rate of return using our full cost basis without regard to GAAP treatment of current period revenue and expenses. We net this gain against our adjusted costs during the same period to calculate our adjusted non-GAAP income. Our adjusted non-GAAP income for the second quarter of 2016 was $6.4 million, or $1.07 per basic share outstanding. As I mentioned earlier, we have made significant progress against our key operating and financial metrics in the second quarter of 2016 and indeed for the first-half of the year. We are confident in our ability to execute against our key strategies and to create long-term value for all of our stakeholders. I will now turn the call over to our President, Mr. Michael Freedman for his remarks.

[Michael Freedman:]

Great. Thank you, Bill, and thank you, Jon. As I done each quarter for the past several quarters, I will first give a brief market update and then we’ll discuss GWG’s performance toward achievement of our objectives. The growth and the strength of the secondary market for life insurance continues to advance. We have to look no further than our own company in support of this proposition, as we have continued to raise record amounts of capital in each of the past several quarters and our purchasing record numbers in total net debt benefits of policies. In addition, capital fundraising by other secondary market participants from private equity and institutional investors has also been robust with recent reports for new funds and follow-on funds in the secondary market. As would be expected with a success in capital raising, there’s also been significant growth in purchasing a policy. Throughout the year so far, both large and small portfolios of policies are being sold on what is referred to as the tertiary market. More than billion dollars in face amount of policy benefits have been sold in the first two quarters, and there are several very large blocks of policies that are – will be coming on the market soon. The good news is that, most all of these policies are in these – that are in these portfolios will originate it through the secondary market. The volume of new policies come into the secondary market has also remained strong with a number of case submissions from settlement brokers being up in the first – from the first quarter and submissions are of higher quality than ever before, meaning that they will most likely price and be purchased by GWG or a competitor. We’re also seeing the further development of lead generation and advertising activities throughout the market. These activities include business-to-business marketing to producers and financial advisors and attorneys and CPAs, as well we’re seeing business to consumer activities, B2C activities, including web-based initiatives and some direct consumer advertising, including on television. The increased public awareness has been part of the resurgence. There have been a number of high-profile articles about the secondary market, as well as numerous spotlights on how life insurance companies are failing their customers through premium increases that target seniors and family failing to pay claims to widows and orphans. Most of these articles and the slew of other articles I refer to in both major trade and general publications are now pointing to the option of selling a policy as a valuable alternative to lapse or surrender. This has also led to more public policy activity, including the passage of the anti-retaliation law in Georgia that I referenced in Q1, as well as Medicaid life settlement legislation pending in Massachusetts and New Jersey and several other states. We believe that there’ll be more legislative and regulatory activity in 2017 that promotes the sale of a life insurance policy and protects advisors who help seniors in this transaction. Relatedly, next week I will be testifying at the National Association of Insurance Commissioners Summer Meeting in San Diego. My testimony is to be focused on how the sale of a policy can be an important tool for seniors in need of long-term care. Selling a policy and help seniors and their families pay for long-term care and in selling the policy of having to drain the long-held family assets in order to pay for long-term care services, or having to dispose of their wealth in order to qualify for Medicaid. Moving on to GWG and our successful quarter, driven by and concomitant with our company’s record-setting capital raise in Q2, GWG’s policy origination and acquisition activities also achieved record-setting levels. Our ability to directly source and purchase policies in a cost and time-effective manner have been the major factor driving this growth. On all fronts, we have seen increased policy origination and purchasing activity from Q1 to Q2. Policy submissions from all sources increased by volume and face amount of policy benefits from 806 policies submitted, totaling $1.48 billion in net debt benefits in the first quarter and 979 policies submitted, totaling $1.79 billion in net benefit this quarter – second quarter. Likewise, where we purchased 70 policies totaling $102 million in policy benefits in Q1, we purchased 88 policies, totaling $1.36, or almost 1. – or $137 million in Q2. GWG purchased more policies totaling more policy benefits in the first-half of 2016 than in all of 2015. Year-to-date, including purchases made so far this quarter, we have purchased more than 200 policies, and we continue to increase the diversification of our portfolio as more than one-third of all the policies we owned have been purchased this year. And as is our goal and as we have been reporting, the drivers of our success have been GWG’s own direct origination and acquisition platforms. Sourcing and processing the purchase of policies directly into GWG has been a differentiator for the company over the past year, and it continues to show signs of improvement and value for our company. For this second quarter, a full 30% of policies in our pipeline and 32% of the policies purchased are being directly originated from GWG’s own efforts. These figures are up from 23% of all policies in GWG’s pipeline and 13% of policies purchased in Q1. This is a trend we’re determined and on track to continue to increase. Greater acceptance of life settlements and the partnership with GWG have been keys to the success of GWG’s Appointed Agent program. That is our proprietary network of insurance and financial advisors who source life insurance policies for GWG. The Appointed Agent program has two main fronts. First, we continue to expand the Appointed Agent program among our growing network of broker dealers and registered investment advisors that sell GWG’s securities. As of quarter end, almost three quarters or 71% of the financial advisors in the GWG selling syndicate are approved or authorized to source policies directly to GWG. Our partnership with these financial advisors includes direct submission of policies as well as submission of policies from other insurance and financial professionals that were referred from our Appointed Agents. So our network is blossoming. We also continue our outreach to main street insurance producers, independent insurance agents with years of experience and an aging client base who are most affected by bad UL policies, anti senior insurance carrier practices, and the need for sources in retirement. Through our outreach and the design and support of the Appointed Agent program, these insurance agents are comfortable in sourcing policies directly to GWG. For the most part, these main street producers have been overlooked in the secondary market, as market brokers have focused on high net worth producers, and our program offers strong marketing and compliance support. It is noteworthy that the average face amount for policy benefits on policies we source directly is just over $575,000, while the average size of policies originated by settlement brokers is just over $2 million, that was for this last quarter. Based on our experience to-date, we expect this stratification between the two primary sources to remain about where it is. And finally, we have a great progress in the operations and efficiency of our policy acquisition machine. Through our GWG West service center, we are now pushing all direct originations into an assembly line like process that handles leads from prequalification to qualification, all the way through to making offers on policies and to closing the policies. We have assigned our first ever dedicated case managers. We’re now handling increasingly larger caseloads and decreasing the amount of time it takes to close a case. Finally the GWG West also now handling certain portfolio servicing functions, which will also expand over time. GWG West is a unique and unprecedented resources, excuse me, is a unique and unprecedented resource that we’re making the most of as we expand our policy origination and acquisition efforts. We look forward to a great quarter and the remainder of the year. I’m going to turn it now back over to the operator who is going to initiate questions.

[Operator:]

Certainly. [Operator Instructions] Our first question comes from the line of Ian Corydon from B. Riley and Company. Your question please.

[Ian Corydon:]

Thanks. Thanks, guys. I’m curious where you think your direct origination percentage mix on acquisitions can get to by the end of this year? And then if you have kind of a more intermediate term goal?

[Michael Freedman:]

This is Michael Freedman. We continue to see a growth trend in the pipeline and then ultimately in the purchasing. So we’ve gone up from 23% to 30%. I’d like to think that we can get to 50% by the end of the year. We have ambitious goals for our overall purchasing that’s concomitant with our capital raise. So it’s going to be a challenge. But we’re seeing real acceptance of our market from the main street producers from the insurance agents who have not participated in the secondary market before. And obviously, our selling group continues to expand with our business development team. We’re going to see more financial advisors who are going to be accessing our Appointed Agent program, and we’ve got regeneration activities that are starting to really percolate. So, I’m optimistic that we’ll hit that goal, but I think that’s about right.

[Ian Corydon:]

Got it. And on policy acquisitions, are you still targeting IRR’s and sort of the low teens?

[Michael Freedman:]

With direct origination and even with the broker cases, we’re – we target between, say, low teens, low to mid-teens and we’re experiencing a slight pickup in our direct originations, which were – which is part of our plan.

[Ian Corydon:]

Got it. Thanks. That’s all I have.

[Operator:]

Thank you. Our next question comes from the line of William Gibson from ROTH Capital Partners. Your question please.

[William Gibson:]

First, I’d like to verify a number, I think, I heard from your direct originations or from your – was the number 75,000, was that the average face value?

[William Acheson:]

No, 575,000.

[William Gibson:]

575, okay good. And then that 32% number, does that include the life insurance agents in the program?

[William Acheson:]

It refers to our direct originations, which includes all the Appointed Agents, which are our financial advisor and our insurance producers, yes.

[William Gibson:]

Okay. And if we look at that number is, save the life insurance side, agent side more than 20%?

[William Acheson:]

I don’t know the answer and I don’t want to take a guess. So I have to – we also get back to you on that.

[William Gibson:]

Okay. It just seems like there’s a lot of potential leverage there and actually on both sides…

[Jon Sabes:]

Bill, this is Jon Sabes, yes, I’d say it’s a minority of the overall direct origination, but it’s growing as a percentage. We – we’ve been really focused on getting that machine up and running over this last quarter and it’s just taking hold. We think that is highly leverageable and we’ll be able to report some more detail metrics on the progress of that in Q3 and Q4 throughout the rest of the year.

[William Gibson:]

Good. While we’re in the dog days of summer, but it almost sounds like, we’re heading towards a record third quarter. Is that possible in the slow summer season?

[Jon Sabes:]

Well, we’ll take your word for it. We’re going to just keep our heads down and work in here.

[William Gibson:]

And just one last question. I think, I heard something about a new actuarial table. When did that take effect and actually how long is that in effect for?

[William Acheson:]

Yes, Bill. Hi, this is Bill Acheson. Yes, the – so we implemented what’s called the Society of Actuaries variable basic table for 2015, and it’s an updated table based on significantly larger – three or four times larger sample size than the table we were using, which is called the VBT, variable basic table 2008. And these tables are only updated very and frequently every three, five, seven years. And so we implemented that table this quarter once it was approved and issued by the Society of Actuaries. And so now it becomes the table that we will use for the foreseeable future to value the life insurance that’s in our portfolio.

[William Gibson:]

Okay, good. Thank you.

[William Acheson:]

You’re welcome. Thanks for the question.

[Operator:]

[Operator Instructions] Our next question comes from the line of David Yu from DTY Wealth Planning. Your question please.

[David Yu:]

Hi, good afternoon, gentlemen. My name is David Yu, up down here in South Florida in Fort Lauderdale, very new to the platform as my current broker dealer is hopefully about to sign the selling agreement. There I have already distributed, I should say, as we’re looking through this and I’ve had some friends look at the subscription agreement then they did a little quick research on GWG and found out the – a couple of the legal legalities and lawsuits in relations to that. Can you just give a quick update in regards to that, and I’m really impressed with the overall financial picture of GWG?

[Jon Sabes:]

Thanks, David. This is Jon Sabes. How are you?

[David Yu:]

Hi, Jon.

[Jon Sabes:]

Hi. Yes, a great question. We’ve been publicly reporting since 2012 10-Ks and 10-Qs when we first bought our first publicly registered non-traded debt offering to the marketplace. And through the course of that offering, we experienced a – basically a regulatory suite on – through our sales and distribution. And through that there – that regulatory suite did uncover some activities by certain financial advisors that resulted in some suspensions or activity – regulatory actions taken against them. That’s really the summing substance of that. And from there some of the torque lawyers pick up on various regulatory filings and or actions and then we’ll produce a lot of noise and news around those. So that’s really what that stems from in large part and unfortunately, that’s the Internet and someone can make a lot of noise with – on a little thing. I will mention that that a regulatory suite was about a year-and-a-half in duration. And at the end of the day, GWG as well as the vast majority of its selling group and advisors came through that in very, very good speed. And I think it all as a reminder for regulatory compliance and adherence to those practice – those best practices that keep ourselves safe and make sure our investors have fully informed in proper information. So that’s the – I’m happy to a direct call with you on that if you have more questions, but I’ll take later on that.

[David Yu:]

Okay. I appreciate the 30,000 put view on this. And I thank you for the explanation I just needed to get back to them in regards to this. That’s all.

[Operator:]

Thank you. [Operator Instructions] And this does conclude the question-and-answer session of today’s program. I’d like to hand the program back to Jon Sabes, CEO for any further remarks.

[Jon Sabes:]

Great. Thank you, everyone. In summary, we’re well-positioned to make further progress on our goal towards becoming the leader in the life insurance secondary market. I want to continue to thank all of the members of the extended GWG family who have worked diligently to help get us where we are today, and who will take us forward in the reinvention of the life insurance industry itself. This fall and throughout the balance of the year, we’ll be in attendance of numerous investor and financial advisor conferences. We look forward to meeting with many of you then and/or if you have a specific question or would like to schedule a meeting, please call us directly. That’s all for now. I hope you all have a – enjoy the balance of this summer, and if you’re like me, enjoy the return of Adam School in the Minnesota State Fair. So good evening, everyone, and go team U.S. Take care.

[Operator:]

Thank you, ladies and gentlemen, for your participation in today’s conference. This does conclude the program. You may now disconnect. Good day.