You may purchase debentures in the minimum principal amount of $25,000, and in whole increments of $1,000 above $25,000. You will determine the original principal amount of each debenture you purchase when you subscribe. You may not cumulate purchases of multiple debentures with principal amounts less than $25,000 to satisfy the minimum requirement. In our discretion, we may waive the $25,000 minimum purchase requirement for any investor.
You will select the term of each debenture you purchase when you subscribe. You may purchase multiple debentures with different terms by filling in investment amounts for more than one term on your Subscription Agreement. However, during this offering we may not always offer debentures with each of the terms outlined above.
The actual maturity date will be on the last day of the month in which the debenture matures (i.e., the month in which the debenture’s term ends). For example, if you select a one-year term and your debenture becomes effective on January 15, 2014, the actual maturity date will be January 31, 2015. After actual maturity, we will pay all outstanding principal and accrued but unpaid interest on the debenture on or prior to the 15th day of the calendar month next following its maturity (or the first business day following the 15th day of such month). So, in the case of a debenture with a maturity date of January 31, 2015, actual payment will be made on or prior to February 15, 2015 (unless such date is not a business day, in which case actual payment will be made on the next business day).
Should the original debenture holder (x) no longer be the holder of the debenture or (y) be unavailable, or a change in payee be necessary, such as in the case of a surviving estate, we may require a copy of the executed assignment agreement between the original debenture holder and any transferee along with our consent to such transfer, or an order from a court or probate commission, as the case may be, in order that we know the principal is returned to the rightful party.
The rate of interest we will offer to pay on debentures at any particular time will vary based upon market conditions, and will be determined by the term to maturity of the debentures, our capital requirements and other factors described below. The interest rate on a particular debenture will be determined at the time of subscription or renewal and then remain fixed for the original or renewal term of the debenture. We will establish and may change the interest rates payable for debentures of various terms and at various investment levels in an interest rate supplement to this prospectus.
We may offer debentures that earn incrementally higher interest rates when, at the time they are purchased or renewed, the aggregate principal amount of the debenture portfolio of the holder increases. If applicable, the interest rates payable at each level of investment will be set forth in an interest rate supplement to this prospectus. We may change the interest rate for any or all maturities to reflect market conditions at any time by supplementing this prospectus. If we change the interest rates, the interest rate on debentures issued before the date of the change will not be affected.
Investors will have the opportunity to select whether interest on their debentures will be paid monthly or annually. This selection opportunity will be presented in the Subscription Agreement.
Interest will accrue on the debentures at the stated rate from and including the effective date of the debenture until maturity. The effective date of a debenture will be: (a) if the debenture is paid for via wire transfer directly to us, the business day on which we receive the wire; (b) if the debenture is paid for by bank draft, the business day after we receive the draft; and (c) if by personal check, five business days after we receive the check. For purposes of the foregoing, the date we receive the bank draft or personal check means the date on which GWG Holdings actually receives such draft or check either directly from an investor or from a broker-dealer. We will receive all Subscription Agreements, bank drafts and personal checks, and will deposit the drafts and checks, together with information specifying the effective date, provided that no debentures will be issued or dated prior to our receipt and acceptance of a completed and executed related Subscription Agreement. The debentures generally do not earn interest after the maturity date or any date set for prepayment.
Interest payments on debentures will be paid on the 15th day immediately following the last day of the month. Interest will be paid without any compounding. The first payment of interest will include interest for the partial month in which the purchase occurred. The indenture provides that all interest will be calculated based on a year with twelve 30-day months.
We will pay the principal of, and interest on, debentures by direct deposit to the account you specify in your Subscription Agreement. We will not accept subscriptions from investors who are not willing to receive their interest payments via direct deposit. If the foregoing payment method is not available, principal and interest payments on the debentures will be payable at our principal executive office or at such other place as we may designate for payment purposes.
We will withhold 28% of any interest payable to any investor who has not provided us with a social security number, employer identification number, or other satisfactory equivalent in the Subscription Agreement (or another document) or where the IRS has notified us that backup withholding is otherwise required. Please see “Material Federal Income Tax Considerations—Backup Withholding and Information Reporting.”
The debentures will generally be issued in book-entry form, which means that no physical debenture is created. Evidence of your ownership is provided by written confirmation. Except under limited circumstances described below, holders will not receive or be entitled to receive any physical delivery of a certificated security or negotiable instrument that evidences their debentures. The issuance and transfer of debentures will be accomplished exclusively through the crediting and debiting of the appropriate accounts in our book-entry registration and transfer system.
The holders of the accounts established upon the purchase or transfer of debentures will be deemed to be the owners of the debentures under the indenture. The holder of the debentures must rely upon the procedures established by the trustee to exercise any rights of a holder of debentures under the indenture. We will regularly provide the trustee with information regarding the establishment of new accounts and the transfer of existing accounts.
On or prior to any interest payment date or upon redemption, we will also provide the trustee with information regarding the total amount of any principal and interest due to holders of debentures. On each interest payment date, we will credit interest due on each account and direct payments to the holders. We will determine the interest payments to be made to the book-entry accounts and maintain, supervise and review any records relating to book-entry beneficial interests in the debentures.
Book-entry notations in the accounts evidencing ownership of the debentures are exchangeable for certificated debentures in principal denominations of $1,000 and any amount in excess of $25,000 and fully registered in those names as we direct only if: (i) the debenture is purchased through, held in, or transferred to a custodial account; (ii) we, at our option, advise the trustee in writing of our election to terminate the book-entry system; or (iii) after the occurrence of an event of default under the indenture, holders of more than 50% of the aggregate outstanding principal amount of the debentures advise the trustee in writing that the continuation of a book-entry system is no longer in the best interests of the holders of debentures and the trustee notifies all registered holders of the occurrence of any such event and the availability of certificated securities that evidence the debentures. Subject to these limited exceptions, the book-entry interests in these securities will not be exchangeable for fully registered certificated debentures.
If your Subscription Agreement is accepted at a time when we have determined that a post-effective amendment to the registration statement of which this prospectus is a part must be filed with the SEC, but such post-effective amendment has not yet been declared effective, we will send to you at your registered address a notice and a copy of the related prospectus once it has been declared effective. You will thereupon have the right to rescind your investment upon written request within five business days from the postmark date of the notice we send to you that the post-effective amendment has been declared effective (and containing the related prospectus). We will promptly return any funds sent with a Subscription Agreement that is properly rescinded without penalty, although any interest previously paid on a rescinded debenture will be deducted from the funds returned to you upon rescission. A written request for rescission, except in the case of a mailed rescission, must be postmarked on or before the fifth business day after our notice to (described above). If you notify us other than by mail, we must actually receive your rescission request on or before the fifth business day after our notice to you.
At least 30 days prior to the maturity of your debenture, we will provide you with a notice indicating that your debenture is about to mature and whether we will allow automatic renewal of your debenture. If we allow you to renew your debenture, we will also provide to you the then-current form of prospectus, which will include an interest rate or prospectus supplement and any other updates to the information contained in this prospectus. The interest rate or prospectus supplement will set forth the interest rates then in effect. The notice will recommend that you review the then-current prospectus, including any interest rate or prospectus supplement, prior to exercising one of the below options. If we do not provide you a new prospectus because the prospectus has not changed since the delivery of this prospectus in connection with your original subscription or any prior renewal, we will nonetheless send you a new copy of the prospectus upon your request. Unless the election period is extended as described below, you will have until 15 days prior to the maturity date to exercise one of the following options:
The foregoing options will be available to holders unless and until terminated under the indenture. Interest will accrue from the first day of each renewed term. Each renewed debenture will retain all its original provisions, including provisions relating to payment, except that the interest rate payable during any renewal term will be the interest rate that is being offered at that time to other holders with similar aggregate debenture portfolios for debentures of the same term as set forth in the interest rate supplement delivered with the maturity notice. If similar debentures are not then being offered, the interest rate upon renewal will be the rate specified by us on or before the maturity date, or the rate of the existing debenture if no such rate is specified.
If we notify the holder of our intention to repay a debenture at maturity, or if the holder timely requests repayment, we will pay the principal and all accrued but unpaid interest on the debenture on or prior to the 15th day of the calendar month after the maturity date (or the first business day following the 15th day of such month). Thus, in the case of a debenture with a maturity date of January 31, 2015, actual payment will be made on or prior to February 15, 2015 (unless such date is not a business day, in which case actual payment will be made on the next business day). No interest will accrue after the maturity date. You should be aware that because payment is made by ACH transfer, funds may not be received in the holder’s account for two to three business days.
We will be required from time to time to file post-effective amendments to the registration statement of which this prospectus is a part to update the information it contains. If you would otherwise be required to elect to have your debentures renewed or repaid following their stated maturity at a time when we have determined that a post-effective amendment must be filed with the SEC, but such post-effective amendment has not yet been declared effective, the period during which you can elect renewal or repayment will be automatically extended until ten days following the postmark date of our notice to you that the post-effective amendment has been declared effective, which notice shall contain a copy of the related prospectus. All other provisions relating to the renewal or redemption of debentures upon their stated maturity described above shall remain unchanged.
For any debentures offered hereby that mature on or after January 31, 2014, we expect that the renewal of such debentures will require us to file a new registration statement. In such a case, the new registration statement must be declared effective before we can renew your debenture. In this event, if the new registration statement has not yet been filed or become effective, we will extend your election period until ten days following the date of our notice to you that the new registration statement has become effective, which notice will include a new prospectus. In addition, we will be required to renew or extend our applications for effectiveness in one or more states from time to time.
We may call and redeem the entire (but not less than the entire) principal amount and accrued but unpaid interest on any debentures prior to their stated maturity only as set forth in the indenture and described below. The holder has no right to put or otherwise require us to redeem any debenture prior to its maturity date (as originally stated or as it may be extended), except as indicated in the indenture and described below.
We have the right to redeem any debenture, in whole but not in part, at any time prior to its stated maturity upon 30 days written notice to the holder of the debenture. The holder of the debenture being redeemed will be paid a redemption price equal to the outstanding principal amount thereof plus accrued but unpaid interest up to but not including the date of redemption without any penalty or premium. We may use any criteria we choose to determine which debentures we will redeem if we choose to do so. We are not required to redeem debentures on a pro rata basis.
Debentures may be redeemed prior to maturity at the election of a holder who is a natural person (including debentures held in an individual retirement account), by giving us written notice within 45 days following the holder’s total permanent disability or bankruptcy, as established to our satisfaction, or at the election of the holder’s estate, by giving written notice within 45 days following the death of the holder. Subject to the limitations described below, we will redeem the debentures on the 15th day of the month next following the month in which we establish to our satisfaction the holder’s death, bankruptcy or total permanent disability. In the event that the 15th day of the month next following the month in which we so establish such facts is not a business day, we will redeem the debentures on the next business day. The redemption price, in the event of such a death, bankruptcy or total permanent disability, will be the entire principal amount of the debentures, plus interest accrued but unpaid interest thereon up to and through the last day of the calendar month preceding the redemption date.
If spouses are joint registered holders of a debenture, the right to elect to have us redeem debentures will apply when either registered holder dies, files bankruptcy or suffers a total permanent disability. If the debenture is held jointly by two or more persons who are not legally married, none of these persons will have the right to request that we redeem the debentures unless all joint holders have either died, filed bankruptcy or suffered a total permanent disability. If the debenture is held by a trust, partnership, corporation or other similar entity, the right to request redemption upon death or total permanent disability does not apply.
We have no obligation to redeem any debentures other than upon maturity, or upon the death, bankruptcy or total permanent disability of a natural person holder. Nevertheless, at our sole discretion we may agree from time to time, at the written request of a holder, to redeem a debenture, subject, however, to a redemption fee of 6.0% of the principal amount of such debenture. If we so redeem any debenture prior to maturity, we will redeem the entire principal amount of such debenture together with accrued but unpaid interest thereon, The redemption fee will be subtracted from the amount paid to you.
The debentures are not negotiable debt instruments and, subject to certain exceptions (see “—Book-Entry Registration and Exchange” above), will generally be issued only in book-entry form. The purchase confirmation issued upon our acceptance of a subscription is not a certificated security or negotiable instrument, and no rights of record ownership can be transferred without our prior written consent. Ownership of debentures may be transferred on the debenture register only as follows:
Upon transfer of a debenture, we will provide the new holder of the debenture with a purchase confirmation that will evidence the transfer of the account on our records. If applicable (e.g., if transferred to a custodial account), a new certificate will be issued. We may charge a reasonable service charge in connection with the transfer of any debenture.
We will provide holders of the debentures with quarterly statements, which will indicate, among other things, the account balance at the end of the quarter, interest credited, redemptions made, if any, and the interest rate paid during the quarter. These statements will be sent electronically on or prior to the 32nd day after the end of each calendar quarter. If a holder is unwilling or unable to receive quarterly statements electronically, we will mail the statements to the address of record on or prior to the 32nd day after the end of each calendar quarter. In such a case, we may charge such holders a reasonable fee to cover our expenses incurred in mailing the statements.
The debentures will constitute secured debt of GWG Holdings. The payment of principal and interest on the debentures will be:
“Pari passu” means that claims for payment and entitlement to security among the holders of debentures, on the one hand, and secured debt previously issued by GWG Life, on the other hand, will be treated equally and without preference. Although we have no present intention of causing GWG Life to issue additional secured debt in the future, any such debt issued on a pari passu basis in the future would also be treated equally and without preference in respect of the debentures. Thus, in the event of any default on the debentures (or any other debt securities pari passu with the debentures) resulting in claims for payment or collateral security, the holders of the debentures and all such other debt securities pari passu with the debentures would share in payment or collateral security in proportion to the amount of principal and interest owed on each such debt instrument.
The payment of principal and interest on the debentures is fully and unconditionally guaranteed by GWG Life. This guarantee, together with (i) the accompanying grant of a security interest in all of the assets of GWG Life, including GWG Life’s entire ownership interest in DLP Funding II, (ii) the pledge of ownership interests in GWG Holdings, Inc. by our principal stockholders, and (iii) an intercreditor agreement between the trustee and Lord Securities Corporation (collateral trustee for our Series I Secured notes), makes the debentures pari passu with respect to payment and the collateral securing the Series I Secured notes previously issued by GWG Life. For an explanation of the term “pari passu,” see “—Ranking” above. There was approximately $29.7 million in principal amount of Series I Secured notes outstanding as of December 31, 2013.
The debentures are secured by the assets of GWG Holdings, Inc. We will grant a security interest in all of the assets of GWG Holdings to the indenture trustee for the benefit of the debenture holders. The assets of GWG Holdings consist, and are expected to consist, primarily of (i) any cash proceeds received from its subsidiaries as distributions derived from life insurance policy assets of subsidiaries, (ii) all other cash and investments held in various accounts, (iii) the equity ownership interests in subsidiaries of GWG Holdings, including the equity ownership interest in GWG Life, together with (iv) all proceeds from the foregoing. This collateral security granted by us is referred to as the “GWG Holdings Assets Collateral.”
As indicated above, our direct and wholly owned subsidiary, GWG Life, will fully and unconditionally guarantee our obligations under the debentures. This guarantee will be supported by GWG Life’s grant of a security interest in all of its assets. The assets of GWG Life consist, and are expected to consist, primarily of (i) certain life insurance policy assets, (ii) any cash proceeds received from life insurance policy assets owned by GWG Life or received from its direct subsidiary DLP Funding II as distributions derived from life insurance policies owned by that subsidiary, (iii) all other cash and investments held by GWG Life in its various accounts, (iv) GWG Life’s equity ownership interest in its direct subsidiary DLP Funding II, together with (v) all proceeds from the foregoing. The collateral security granted by GWG Life pursuant to its guarantee of our obligations under the debentures is referred to as the “GWG Life Assets Collateral.”
In addition, Messrs. Jon R. Sabes and Steven F. Sabes, our principal stockholders beneficially holding approximately 86.1% of the outstanding shares of our common stock, have pledged all of the shares they beneficially own in GWG Holdings to further secure our obligations under the debentures. This collateral security granted by Messrs. Jon R. Sabes and Steven F. Sabes is referred to as the “GWG Holdings Equity Collateral.”
Together, the GWG Holdings Assets Collateral, GWG Life Assets Collateral and GWG Holdings Equity Collateral comprise all of the collateral security for our obligations under the debentures. To the extent that we subsequently establish one or more wholly owned subsidiaries of GWG Holdings or GWG Life, the debentures will have a security interest in the equity ownership interests of those subsidiaries if and to the extent owned by GWG Holdings or GWG Life.
The guarantee by GWG Life is contained in the indenture, and the grant of security interests in the GWG Holdings Assets Collateral, GWG Life Assets Collateral and GWG Holdings Equity Collateral is effected through a “Pledge and Security Agreement” that is an exhibit to the indenture. The grant of collateral security comprising the GWG Life Assets Collateral and GWG Holdings Equity Collateral is designed to afford the holders of debentures with rights to the same payment and collateral as that granted to holders of our Series I Secured notes on a pari passu basis. To effect this arrangement, the trustee under the indenture, Bank of Utah (to whom the security grant is made under the Pledge and Security Agreement), has entered into an “Intercreditor Agreement” with GWG Holdings, GWG Life, and Lord Securities Corporation, the trustee for our Series I Secured notes. This Intercreditor Agreement is an exhibit to the indenture.
Our obligations under the debentures will be subordinate to all our senior debt. For this purpose, “our senior debt” presently includes all indebtedness of our subsidiaries with respect to which the debentures are not pari passu with respect to payment and collateral (i.e., other than our Series I Secured notes). In this regard, our subsidiary DLP Funding II has, as of December 31, 2013, approximately $71 million of debt outstanding under our revolving credit facility. With respect to pari passu indebtedness, as of December 31, 2013 our subsidiary GWG Life has approximately $29.7 million of debt outstanding under our Series I Secured notes.
The maximum amount of debt, including the debentures, we may issue is limited by the indenture. In particular, the indenture prohibits us from issuing debt in an amount such that our “debt coverage ratio” would exceed 90%. The indenture defines the debt coverage ratio as a percentage calculated by the ratio of (A) obligations owing by us and our subsidiaries on all outstanding debt for borrowed money (including the debentures), over (B) the net present asset value of all life insurance policy assets we own, directly or indirectly, plus any cash held in our accounts. For this purpose, the net present asset value of our life insurance assets is equal to the present value of the cash flows derived from the face value of policy benefit assets we own, discounted at a rate equal to the weighted average cost of capital for all our indebtedness for the prior month.
The indenture provides that for the first four years after our initial sale of debentures, our subordination ratio may not exceed 50%. The indenture defines the subordination ratio as a percentage calculated as a ratio of (A) the principal amount owing by us or any of our subsidiaries that is either senior in rank to the debentures or secured by the life insurance policy assets owned by us or our subsidiaries, over (B) the net present asset value of all life insurance policy assets we own, directly or indirectly, plus any cash held in our accounts. For this purpose, the net present asset value of our life insurance assets is equal to the present value of the cash flows derived from the face value of policy benefit assets we own, discounted at a rate equal to the weighted-average cost of capital for all our indebtedness for the prior month.
We are required to notify the indenture trustee in the event that we violate one of these restrictive covenants. An “event of default” will exist under the indenture if a violation persists for a period of 30 consecutive calendar days after our initial notice to the trustee.
The debentures are guaranteed by GWG Life but otherwise are not guaranteed by any of our subsidiaries, affiliates or control persons. The indenture does not prevent holders of debt issued by our subsidiaries from disposing of, or exercising any other rights with respect to, any or all of the collateral securing that debt. Accordingly, in the event of a liquidation or dissolution of one of our subsidiaries (other than GWG Life), creditors of that subsidiary that are senior in rank will be paid in full, or provision for such payment will be made, from the assets of that subsidiary prior to distributing any remaining assets to us as an equity owner of that subsidiary.
The indenture also contains specific subordination provisions, benefitting lenders under senior credit facilities to our operating subsidiaries, restricting the right of debenture holders to enforce certain of their rights in certain circumstances, including:
We will not make any payment, direct or indirect (whether for interest, principal, as a result of any redemption or repayment at maturity, on default, or otherwise), on the debentures and any other indebtedness, and neither the holders of the debentures nor the trustee will have the right, directly or indirectly, to sue to enforce the indenture or the debentures, if a default or event of default under any senior credit facility has occurred and is continuing, or if any default or event of default under any senior credit facility would result from such payment, in each case unless and until:
Notwithstanding the foregoing, if any of the blockage events described above have occurred and 179 days have passed since the indenture trustee’s receipt of the notice of default without the occurrence of the cure, waiver, termination, or extension of all blockage periods described above, the trustee may thereafter sue on and enforce the indenture and our obligations thereunder and under the debentures as long as any funds paid as a result of any such suit or enforcement action shall be paid toward the senior credit facility until it is indefeasibly paid in full before being applied to the debentures. The indenture contains provisions whereby each investor in the debentures consents to the subordination provisions contained in the indenture and related agreements governing collateral security.
If the 180-day standstill period noted above or any other limitation on the rights of the trustee or debenture holders to assert their rights to payment of principal or interest under the indenture or debentures is ultimately determined to conflict with provisions of the Trust Indenture Act of 1939 (most notably sections 316(b) and 317(a) of that Act), then the trustee, as well as any holder who shall not have earlier consented to such subordination provisions, shall (notwithstanding such provision contained in the indenture) be authorized to institute a lawsuit for the enforcement of any payment of principal or interest after their respective due dates.
The debentures are not associated with any sinking fund. A sinking fund is generally any account to which contributions will be made, from which payments of principal or interest owed on the debentures will be made. See “Risk Factors,” page 21.
The indenture contains covenants that restrict us from certain actions as described below. In particular, the indenture provides that:
The indenture defines the debt coverage ratio as a percentage calculated by the ratio of (A) obligations owing on all outstanding debt for borrowed money (including the debentures), over (B) the net present asset value of all life insurance policy assets we own, plus any cash held in our accounts. For this purpose, the net present asset value of our life insurance assets is equal to the present value of the face value of policy benefit assets we own, discounted at a rate equal to the weighted average cost of capital for all our indebtedness for the prior month. The indenture defines the subordination ratio as a percentage calculated as a ratio of (1) the principal amount owing by us or any of our subsidiaries that is either senior in rank to the debentures or secured by the life insurance policy assets owned by us or our subsidiaries, over (2) the principal amount of outstanding debentures and Series I Secured notes.
Importantly, we are not restricted from entering into qualified sale and financing transactions or incurring additional indebtedness, including additional senior debt.
Consolidation, Mergers or Sales
The indenture generally permits a consolidation or merger between us and another entity. It also permits the sale or transfer by us of all or substantially all of our property and assets. These transactions are permitted if:
| · | the resulting or acquiring entity, if other than us, is a United States corporation, limited liability company or limited partnership and assumes all of our responsibilities and liabilities under the indenture, including the payment of all amounts due on the notes and performance of the covenants in the indenture; and |
| · | immediately after the transaction, and after giving effect to the transaction, no event of default shall exist under the indenture. |
If we consolidate or merge with or into any other entity or sell or lease all or substantially all of our assets, according to the terms and conditions of the indenture, the resulting or acquiring entity will be substituted for us in the indenture with the same effect as if it had been an original party to the indenture. As a result, the successor entity may exercise our rights and powers under the indenture in our name, and we (as an entity) will be released from all our liabilities and obligations under the indenture and under the debentures. Nevertheless, no such transaction will by itself eliminate or modify the collateral that we have provided as security for our obligations under the indenture.
Events of Default and Remedies
The indenture provides that each of the following constitutes an event of default:
| · | the failure to pay interest or principal on any debenture for a period of 30 days after it becomes due and payable; |
| · | a failure to observe or perform any material covenant, condition or agreement in the indenture, but only after notice of failure to the indenture trustee and such failure is not cured within 60 days; |
| · | our debt coverage ratio exceeds 90% for a period of 30 consecutive calendar days; |
| · | the subordination ratio exceeds 50% for a period of 30 consecutive calendar days during the four-year period after the commencement of the offering of the debentures; |
| · | certain events of bankruptcy, insolvency or reorganization with respect to us; or |
| · | the cessation of our business. |
In addition, the indenture provides that for so long as any Series I Secured notes remain outstanding, an event of default under the borrowing agreements relating to the Series I Secured notes (as the same may from time to time be amended) will constitute an event of default under the indenture. In this regard, a default under the Series I Secured note borrowing agreements includes a default under our revolving credit facility. As explained in other parts of this prospectus, our revolving credit facility is currently provided by Autobahn Funding Company, LLC, as lender, and DZ Bank AG Deutsche Zentral-Genossenschaftsbank, as agent, pursuant to a Credit and Security Agreement dated July 15, 2008, which was amended and restated effective as of January 29, 2013. DLP Funding II is the borrower under the line of credit, and GWG Holdings is a party to the facility as performance guarantor (primarily for the obligations of GWG Life, as the servicer of policy assets).
The maximum line of credit is $100 million subject to a borrowing base, which permits us to borrow up to 70% of the amount of eligible policies purchased and held in our portfolio. As of December 31, 2013, approximately $71 million was outstanding under the line of credit. Proceeds of the line of credit may be used to purchase policies and loans. The credit facility matures in December 2014. Advances under the line of credit bear interest based either at the commercial paper rates available to the lender at the time of funding or at the lender's cost of borrowing plus an applicable margin.
The line of credit is secured by a pledge of substantially all of each borrower’s assets and requires GWG Holdings to provide certain indemnities to the lender. In addition, the borrowers are required to maintain a reserve account for the benefit of the lenders. If at any time the ratio of outstanding borrowings under the line of credit, together with accrued and unpaid interest and fees, exceeds 50% of the borrower’s net eligible receivables balance (as defined in the loan agreement), collections from the maturity of life insurance policies are required to be deposited in the reserve account.
The line of credit is subject to customary affirmative and negative covenants. In addition, we must maintain certain financial covenants, including a positive consolidated net income measured annually and, at all times, a tangible net worth in excess of $15,000,000 (calculated on a prescribed non-GAAP basis). In addition, the line of credit requires us to maintain a reserve for certain projected expenditures (including anticipated premium payments required to service our life insurance portfolio) that increases, from an initial amount equal to six months of such expenditures, to an amount equal to 12 months of such expenditures beginning as of September 1, 2013.
Finally, the line of credit is subject to certain customary events of default (e.g., payment defaults, covenant defaults, cross-defaults, material adverse change, changes in control and changes in management) and certain events of default specifically relating to our business, including but not limited to (i) portfolio defaults in excess of 10% on an annualized basis, (ii) failure to obtain an unqualified opinion on our annual consolidated financial statements, (iii) failure to maintain certain hedge transactions or replace hedge counterparties under any certain hedging transactions required under the credit agreement, (iv) any governmental authority directs that the purchase and/or servicing of loans be terminated or any law, rule or regulation makes it unlawful to originate, purchase and/or service loans, (v) the performance guaranty of GWG Holdings shall cease to be in full force and effect (vi) a deficiency in the borrowing base, as calculated under the credit agreement, or (vii) any default in the payment when due of other indebtedness in excess of $100,000.
The indenture requires that we give immediate notice to the indenture trustee upon the occurrence of an event of default, unless it has been cured or waived. The indenture trustee may then provide notice to the debenture holders or withhold the notice if the indenture trustee determines in good faith that withholding the notice is in your best interest, unless the default is a failure to pay principal or interest on any debenture.
If an event of default occurs, the indenture trustee or the holders of at least 25% in principal amount of the outstanding debentures, may by written notice to us declare the unpaid principal and all accrued but unpaid interest on the debentures to be immediately due and payable. Notwithstanding the foregoing, the indenture limits the ability of the debenture holders to enforce certain rights under the indenture in certain circumstances. These limitations are required subordination provisions under our revolving credit facility and are summarized above under “—Subordination; Other Indebtedness.” The Pledge and Security Agreement permits the trustee to exercise on behalf of the holders of debentures all rights and remedies as are available to a secured creditor under applicable law, subject to any limitations in the indenture, that agreement or the Intercreditor Agreement. In this regard, the trustee is not authorized under the Pledge and Security Agreement to distribute in kind any collateral in its possession to the holders of debentures.
Amendment, Supplement and Waiver
Except as provided in this prospectus or the indenture, the terms of the indenture or the debentures then outstanding may be amended, supplemented or waived with the consent of the holders of at least a majority in principal amount of the debentures then outstanding (which consent will be presumed if a holder does not object within 30 days of a request for consent), and any existing default or compliance with any provision of the indenture or the debentures may be waived with the affirmative consent of the holders of a majority in principal amount of the then outstanding debentures.
Notwithstanding the foregoing, an amendment or waiver will not be effective with respect to the debentures held by a holder who him, her or itself has not consented if such amendment or waiver:
| · | reduces the principal of or changes the fixed maturity of any debenture or alters the redemption provisions or the price at which we may redeem the debenture (other than as permitted under the indenture and described in the following paragraph); |
| · | reduces the rate of or changes the time for payment of interest, including default interest, on any debenture; |
| · | waives a default or event of default in the payment of principal or interest on the debentures, except for a rescission or withdrawal of acceleration of the debentures made by the holders of at least a majority in aggregate principal amount of the then-outstanding debentures and a waiver of the payment default that resulted from such acceleration; |
| · | makes any debenture payable in money other than that stated in this prospectus; |
| · | makes any change in the provisions of the indenture relating to waivers of past defaults or the rights of holders of debentures to receive payments of principal of or interest on the debentures; or |
| · | makes any change to the subordination provisions of the indenture that has a material adverse effect on holders of debentures. |
Notwithstanding the foregoing, the following kinds of amendments or supplements to the indenture may be effected by us and the trustee without any consent of any holder of the debentures:
| · | to cure any ambiguity, defect or inconsistency; |
| · | to provide for assumption of our obligations to holders of the debentures in the case of a merger, consolidation or sale of all or substantially all of our assets; |
| · | to provide for additional uncertificated or certificated debentures; |
| · | to make any change that does not materially and adversely affect the legal rights under the indenture of any holder of debentures, including but not limited to an increase in the aggregate dollar amount of debentures which may be outstanding under the indenture; |
| · | to modify or eliminate our policy regarding redemptions elected by a holder of debentures prior to maturity, including our obligation to redeem debentures upon the death, bankruptcy or total permanent disability of any holder of the debentures, but only so long as such modifications do not materially and adversely affect any then-outstanding debentures; or |
| · | to comply with requirements of the SEC in order to effect or maintain the qualification of the indenture under the Trust Indenture Act of 1939, or to comply with other applicable federal or state laws or regulations. |
Rights of Debenture Holders
As a debenture holder, you have limited rights to vote on our actions as they are limited by the indenture. In general, you will have the right to vote on whether or not to approve some amendments to the indenture. For a description of these rights, see “—Amendment, Supplement and Waiver” above. You will also have the right to direct some actions that the trustee takes if there is an event of default with respect to the debentures. For a description of these rights, see above under the caption “—Events of Default.” For a complete description of your rights as a debenture holder, we encourage you to read a copy of the indenture, which is filed as an exhibit to the registration statement of which this prospectus is a part. We will also provide you with a copy of the indenture upon your request.
The trustee and the debenture holders will have the right to direct the time, method and place of conducting any proceeding for some of the remedies available, except as otherwise provided in the indenture. The trustee may require reasonable indemnity, satisfactory to the trustee, from debenture holders before acting at their direction. You will not have any right to pursue any remedy with respect to the indenture or the debentures unless you satisfy the conditions contained in the indenture.
The Indenture Trustee
General
Bank of Utah has agreed to be the trustee under the indenture. The indenture contains certain limitations on the rights of the trustee, should it become one of our creditors, to obtain payment of claims in certain cases, or to realize on certain property received in respect of any claim as security or otherwise. The trustee will be permitted to engage in other transactions with us.
Subject to certain exceptions, the holders of a majority in principal amount of the then-outstanding debentures will have the right to direct the time, method and place of conducting any proceeding for exercising any remedy available to the trustee. The indenture provides that if an event of default specified in the indenture shall occur and not be cured, the trustee will be required, in the exercise of its power, to use the degree of care of a reasonable person in the conduct of his own affairs. Subject to such provisions, the trustee will be under no obligation to exercise any of its rights or powers under the indenture at the request of any holder of debentures, unless the holder shall have offered to the trustee security and indemnity satisfactory to it against any loss, liability or expense.
Resignation or Removal of the Trustee
The trustee may resign at any time, or may be removed by the holders of a majority of the aggregate principal amount of the outstanding debentures. In addition, we may remove the trustee for certain failures in its duties, including the insolvency of the trustee or the trustee’s ineligibility to serve as trustee under the Trust Indenture Act of 1939. However, no resignation or removal of the trustee may become effective until a successor trustee has accepted the appointment as provided in the indenture.
Reports to Trustee
We will provide the trustee with (i) a calculation date report by the 15th day of each month containing a calculation of the debt coverage ratio that includes a summary of all cash, life insurance policy investments serving as collateral, as well as our total outstanding indebtedness including outstanding principal balances, interest credited and paid, transfers made, any redemption or repayment and interest rate paid; (ii) copies of our audited annual financials, no earlier than when the same become a matter of public record; and (iii) any additional information reasonably requested by the trustee.
Certain Charges
We and our servicing agents, if any, may assess service charges for changing the registration of any debenture to reflect a change in name of the holder, multiple changes in interest payment dates or transfers (whether by operation of law or otherwise) of a debenture by the holder to another person. The indenture permits us to set off, against amounts otherwise payable to you under the debentures, the amount of these charges.
Variations in Terms and Conditions
We may from time to time vary the terms and conditions of the debentures offered, including but not limited to minimum initial principal investment amount requirements, maximum aggregate principal amount limits, interest rates, minimum denominations, service and other fees and charges, and redemption provisions. Terms and conditions may be varied by state, locality, principal amount, type of investor (for example, new or current investor) or as otherwise permitted under the indenture governing the securities offered by this prospectus. No change in terms, however, will apply to any debentures already issued and outstanding at the time of such change.
Satisfaction and Discharge of Indenture
The indenture shall cease to be of further effect upon the payment in full of all of the outstanding debentures and the delivery of an officer’s certificate to the trustee stating that we do not intend to issue additional debentures under the indenture or, with certain limitations, upon deposit with the trustee of funds sufficient for the payment in full of all of the outstanding debentures.
Reports
We will publish annual reports containing financial statements and quarterly reports containing financial information for the first three quarters of each fiscal year. We will send copies of these reports, at no charge, to any holder of debentures who sends us a written request.
We are offering up to $250,000,000 in principal amount of debentures on a continuous basis. The debentures will be sold at their face value and in amounts of $25,000 or more in principal. There is no minimum amount of debentures that must be sold before we access and use the proceeds. The proceeds of new sales of debentures will be paid directly to us promptly following each sale and will not be placed in an escrow account. Even if we sell less than the entire $250,000,000 in debentures being offered, the debentures that we sell will be issued, and the proceeds of those debenture sales will be invested, as described in this prospectus.
The debentures will be offered and sold on a best efforts basis by Arque Capital, Ltd. (our “dealer manager”) and any participating broker-dealers it engages for this purpose (together the “selling group��). Arque Capital will be an underwriter of the debentures for purposes of the Securities Act of 1933. We may also directly offer and sell debentures apart from the selling group. We and the selling group will offer the debentures to the public on the terms set forth in this prospectus and any prospectus supplements we may file from time to time. Both we and the selling group plan to market the debentures directly to the public primarily through presentations, the Internet, and personal contacts made by us and through the selling group. We may also sell debentures to registered investment advisors. Neither our dealer manager nor any other broker-dealer participating in our selling group will have any obligation to take or purchase any debentures. Our dealer manager and each broker-dealer member of our selling group is expected to assist in the offering by: (1) conducting informational meetings for subscribers and other qualified potential purchasers; (2) keeping records of all subscriptions; and (3) training and educating employees regarding the mechanics and regulatory requirements of the offering process.
Members of the selling group will receive sales commissions of up to 5.00% of the gross offering proceeds depending upon the maturity of the debenture sold. In addition, members of our selling group may receive up to 3.00% of the gross offering proceeds as additional underwriting compensation consisting of (i) an accountable and non-accountable expense allowance, (ii) a dealer manager fee (payable only to Arque Capital) for managing and coordinating the offering, and (iii) a wholesaling fee (payable only to wholesaling dealers), in each case depending upon the maturity of the debenture sold. We will not pay referral or similar fees to any accountants, attorneys or other persons in connection with the distribution of the debentures.
Our dealer manager will enter into participating dealer agreements with certain other broker-dealers that are members of FINRA, referred to as selling group members, to authorize such broker-dealers to sell our debentures. Upon the sale of debentures by such broker-dealers, the broker-dealer effecting the sale will receive selling commissions and additional underwriting compensation in connection therewith.
As part of the accountable expense allowance, the dealer manager and members of the selling group are expected to be reimbursed for accountable due diligence expenses incurred by them. Expenses eligible for reimbursement may include travel, lodging, meals and other reasonable out-of-pocket expenses incurred by participating broker-dealers and their personnel when visiting our office to verify information relating to us and this offering, and reimbursement of actual costs of third-party professionals retained to provide due diligence services to our dealer manager and selling group members. In no event will the total selling commissions, additional underwriting compensation and accountable due diligence expenses exceed 8.00% of the aggregate principal amount of debentures sold.
Our debentures will also be distributed through registered investment advisors who are generally compensated on a fee-for-service basis by the investor. In the event of the sale of debentures in our primary offering through an investment advisor compensated on a fee-for-service basis by the investor, our selling group member will waive its right to a commission.
In addition to the sales commissions, fees, allowances and expenses described above, we expect to pay approximately $1,500,000 in offering and related costs and expenses in connection with this offering. These kinds of expenses include all expenses to be paid by us in connection with the offering (other than sales commissions, additional underwriting compensation, and expense allowances and reimbursement to our selling group members), including but not limited to legal, accounting, printing and mailing expenses, registration, qualification and associated securities filing fees and other costs and expenses.
The table below sets forth the maximum amount of sales commissions and additional underwriting compensation (consisting of accountable and non-accountable expense allowances, a dealer manager fee (payable only to Arque Capital), and a wholesaling fee (payable only to wholesaling dealers), and more fully described in fn. 1 to the table below) we may pay in connection with this offering.
| Debenture Term | | Sales Commission | | | Additional Underwriting Compensation (1) | | | Total | |
6 Month | | | .50% | | | | 2.00% | | | | 2.50% | |
| One Year | | | 1.00% | | | | 3.00% | | | | 4.00% | |
| Two Year | | | 3.25% | | | | 3.00% | | | | 6.25% | |
| Three Year | | | 4.25% | | | | 3.00% | | | | 7.25% | |
| Four Year | | | 4.75% | | | | 3.00% | | | | 7.75% | |
| Five Year | | | 4.90% | | | | 3.00% | | | | 7.90% | |
| Seven Year | | | 5.00% | | | | 3.00% | | | | 8.00% | |
| (1) | As described above, additional underwriting compensation includes (i) a non-accountable allowance expense of 0.50% of gross offering proceeds for a debenture with a term of six months and 1.00% for all other debenture maturities; (ii) an accountable allowance expense of up to 0.70% of gross offering proceeds for all debenture maturities; (iii) a dealer manager fee of 0.50% of gross offering proceeds for all debenture maturities; and (iv) if applicable, a wholesaling fee of up to 0.80% of gross offering proceeds for all debenture maturities. |
The line items reflected in the table below are our current estimates of average sales commissions and additional underwriting compensation (including accountable due diligence expenses) that we will pay. Specifically, we estimate that the average sales commission will be 4.25%, or $10,625,000 based on $250,000,000 in principal amount of debentures sold, and the average additional underwriting compensation will be 3.00%, or $7,500,000 based on $250,000,000 in principal amount of debentures sold. The components of “additional underwriting compensation” are detailed in fn. 1 to the table below. Actual costs may differ from the percentages and amounts shown in the table below, subject, however, to the limitations noted above.
Debentures Sold | | | Sales Commission | | | Additional Underwriting Compensation (1) | | | Total | |
| $ | 75,000,000 | | | $ | 3,187,500 | | | $ | 2,225,000 | | | | 7.25% | |
| | 125,000,000 | | | | 5,312,500 | | | | 3,750,000 | | | | 7.25% | |
| | 250,000,000 | | | | 10,625,000 | | | | 7,500,000 | | | | 7.25% | |
| (1) | Additional underwriting compensation consists of all selling compensation (other than sales commissions) paid in the form of an accountable and non-accountable expense allowance, a dealer manager fee, and wholesale commissions. We have assumed the maximum accountable and non-accountable allowance expense of 1.70% or $4,250,000 of gross offering proceeds (assuming $250,000,000 in principal amount of debentures sold), dealer manager fees of 0.50% or $1,250,000 of gross offering proceeds (assuming $250,000,000 in principal amount of debentures sold), and wholesale commissions of 0.80% or $200,000,000 of gross offering proceeds (assuming $250,000,000 in principal amount of debentures sold) will be paid by us in connection with the offering. |
Our dealer manager holds the FINRA licenses for wholesalers employed by us, who attend local, regional and national conferences of the participating broker-dealers and who contact participating broker-dealers and their registered representatives to make presentations concerning us and this offering and to encourage them to sell our debentures. The wholesalers receive base salaries and bonuses as compensation for their efforts. We host training and education meetings for broker-dealers and their representatives. The costs of the training and education meetings will be borne by us.
In accordance with FINRA rules, in no event will our total underwriting compensation to FINRA members, including but not limited to sales commissions, the dealer manager fee and accountable and non-accountable expense reimbursements to our dealer manager and selling group broker-dealers, exceed 8.00% of our gross offering proceeds, in the aggregate.
We will indemnify the participating broker-dealers and our dealer manager against some civil liabilities, including certain liabilities under the Securities Act of 1933 and liabilities arising from breaches of our representations and warranties contained in the Third Amended and Restated Managing Broker-Dealer Agreement, as amended. If we are unable to provide this indemnification, we may contribute to payments the indemnified parties may be required to make in respect of those liabilities.
The foregoing is a summary of the material terms relating to the plan of distribution of the debentures contained in the Third Amended and Restated Managing Broker-Dealer Agreement, as amended. Any amendment to the Third Amended and Restated Managing Broker-Dealer Agreement will be filed as an exhibit to an amendment to the registration statement of which this prospectus is a part.
The following is a general discussion of the material United States (“U.S.”) federal income tax considerations relating to the initial purchase, ownership and disposition of the debentures by U.S. and non-U.S. holders. This discussion is a summary only and is not a complete analysis of all the potential tax considerations relating to the purchase, ownership and disposition of the debentures. We have based this summary on current provisions of the Code of 1986, as amended (the “Code”), applicable U.S. Treasury Regulations promulgated thereunder, judicial opinions, and published rulings of the Internal Revenue Service (the “IRS”), all as in effect on the date of this prospectus. However, these laws and other guidance are subject to differing interpretations or change, possibly with retroactive effect. In addition, we have not sought, and will not seek, a ruling from the U.S. Internal Revenue Service (“IRS”) or an opinion of counsel with respect to any tax consequences of purchasing, owning or disposing of debentures. Thus, the IRS could challenge one or more of the tax consequences or matters described in this prospectus; and there can be no assurance that any position taken by the IRS would not be sustained.
This discussion is limited to purchasers of debentures who acquire the debentures from us in this offering and hold the debentures as capital assets for federal income tax purposes. This discussion does not address all possible tax consequences that may be applicable to you in light of your specific circumstances. For instance, this discussion does not address the alternative minimum tax provisions of the Code, or special rules applicable to some categories of investors such as financial institutions, insurance companies, tax-exempt organizations, dealers in securities, real estate investment trusts, regulated investment companies, or persons who hold debentures as part of a hedge, conversion or constructive sale transaction, straddle or other risk reduction transaction that may be subject to special rules. This discussion also does not address the tax consequences arising under the laws of any foreign, state or local jurisdiction; or any U.S. estate or gift tax laws.
If you are considering the purchase of a debenture, you should consult your own tax advisors as to the particular tax consequences to you of acquiring, holding or otherwise disposing of the debentures, including the effect and applicability of state, local or foreign tax laws, or any U.S. estate and gift tax laws.
As used in this discussion, the term “U.S. holder” means a holder of a debenture that is:
| (i) | for United States federal income tax purposes, a citizen or resident of the United States; |
| (ii) | a corporation, partnership or other entity created or organized in or under the laws of the United States or of any political subdivision thereof or other entity characterized as a corporation or partnership for federal income tax purposes; |
| (iii) | an estate, the income of which is subject to United States federal income taxation regardless of its source; or |
| (iv) | a trust, the administration of which is subject to the primary supervision of a court within the United States and which has one or more United States persons with authority to control all substantial decisions, or if the trust was in existence on August 20, 1996, and has elected to continue to be treated as a United States trust. |
For the purposes of this discussion, a “non-U.S. holder” means any holder of debentures other than a U.S. holder. Any debenture purchaser who is not a U.S. citizen will be required to furnish documentation, on IRS Form W-8BEN, that clearly states whether it is subject to U.S. withholding taxes, in accordance with applicable requirements of the United States taxing authority.
Characterization of the Debentures
The federal income tax consequences of owning debentures depend on characterization of the debentures as debt for federal income tax purposes, rather than as equity interests or a partnership among the holders of the debentures. We believe that the debentures have been structured in a manner that will allow the debentures to be characterized as debt for federal income tax purposes. However, this is only our belief; and no ruling from the IRS or an opinion of counsel has been sought in this regard. Thus, the IRS could successfully challenge this characterization.
If the debentures were treated as equity interests, there could be adverse effects on some holders. For example, payments on the debentures could (1) if paid to non-U.S. holders, be subject to federal income tax withholding; (2) constitute unrelated business taxable income to some tax-exempt entities, including pension funds and some retirement accounts (if the relationship were characterized as a partnership for tax purposes); and (3) cause the timing and amount of income that accrues to holders of debentures to be different from that described below.
Because of these potential adverse effects, you are urged to consult your own tax advisors as to the tax consequences that may apply to your particular situation in the event the debentures are re-characterized as equity interests; and as to the likelihood that the debentures could be so re-characterized. The remainder of this discussion assumes that the debentures are characterized as debt.
Taxation of U.S. Holders
Stated Interest
Under general federal income tax principles, you must include stated interest in income in accordance with the method of accounting you use for federal income tax purposes. Accordingly, if you are using the accrual method of tax accounting, you must include stated interest in income as it accrues. If you are using the cash method of tax accounting, you must include stated interest in income as it is actually or constructively received. Payments of interest to taxable holders of debentures will constitute portfolio income, and not passive activity income, for the purposes of the passive loss limitations of the Code. Accordingly, income arising from payments on the debentures will not be subject to reduction by losses from passive activities of a holder.
Income attributable to interest payments on the debentures may be offset by investment expense deductions, subject to the limitation that individual investors may only deduct miscellaneous itemized deductions, including investment expenses other than interest, to the extent these deductions exceed 2% of the investor’s adjusted gross income.
If a partnership (or other entity or arrangement treated as a partnership for U.S. federal income tax purposes) holds debentures, the tax treatment of a partner generally will depend upon the status of the partner and the activities of the partnership. If you are a partner in a partnership purchasing debentures, we urge you to consult your tax advisor.
Disposition of Debentures
In general, a U.S. holder will recognize gain or loss upon the sale, exchange or other taxable disposition of a debenture measured by the difference between (1) the sum of the cash and the fair market value of all other property received on such disposition, excluding any portion of the payment that is attributable to accrued interest on the debentures; and (2) your adjusted tax basis in the debenture. A U.S. holder’s adjusted tax basis in a debenture generally will be equal to the price the U.S. holder paid for the debenture. Any of this gain or loss generally will be long-term capital gain or loss if, at the time of any such taxable disposition, the debenture was a capital asset in the hands of the holder and was held for more than one year. Under current law, net long-term capital gain recognized by individual U.S. holders in tax years beginning before January 1, 2013, is eligible for a reduced rate of taxation. The deductibility of capital losses is subject to annual limitations.
The terms of the debentures may be modified upon the consent of a specified percentage of holders and, in some cases, without consent of the holders. In addition, the debentures may be assumed upon the occurrence of specific transactions. The modification or assumption of a debenture could, in some instances, give rise to a deemed exchange of a debenture for a new debt instrument for federal income tax purposes. If an exchange is deemed to occur by reason of a modification or assumption, you could realize gain or loss without receiving any cash.
Additional Tax on Net Investment Income
For taxable years beginning after December 31, 2012, if you are a U.S. holder other than a corporation, you generally will be subject to a 3.8% additional tax (the “Medicare tax”) on the lesser of (1) your “net investment income” for the taxable year, and (2) the excess of your modified adjusted gross income for the taxable year over a certain threshold. Your net investment income generally will include any income or gain recognized by you with respect to our debentures, unless such income or gain is derived in the ordinary course of the conduct of your trade or business (other than a trade or business that consists of certain passive or trading activities).
Considerations for Tax-Exempt Holders of Debentures
Tax-exempt entities, including charitable corporations, pension plans, profit sharing or stock bonus plans, individual retirement accounts and some other employee benefit plans are subject to federal income tax on unrelated business taxable income. For example, net income derived from the conduct of a trade or business regularly carried on by a tax-exempt entity or by a partnership in which it is a partner is treated as unrelated business taxable income.
A $1,000 special deduction is allowed in determining the amount of unrelated business taxable income subject to tax. Tax-exempt entities taxed on their unrelated business taxable income are also subject to the alternative minimum tax for items of tax preference which enter into the computation of unrelated business taxable income.
In general, interest income does not constitute unrelated business taxable income. However, under the debt-financed property rules, if tax-exempt holders of debentures finance the acquisition or holding of debentures with debt, interest on the debentures will be taxable as unrelated business taxable income. The debentures will be treated as debt-financed property if the debt was incurred to acquire the debentures or was incurred after the acquisition of the debentures, so long as the debt would not have been incurred but for the acquisition and, at the time of the acquisition, the incurrence of the debt has already occurred or was foreseeable.
Non-U.S. Holders
The following discussion is a summary of the principal U.S. federal income consequences resulting from the ownership of the debentures by non-U.S. holders. However, application of the U.S. federal income tax rules associated with non-U.S. holders is complex and factually sensitive. Thus, if you could be considered to be a non-U.S. holder, you are urged to consult your own tax advisors with respect to the application of the federal income tax rules for your particular situation.
Payments of Interest to Non-U.S. Holders
Subject to the discussion below under “Backup Withholding and Information Reporting,” payments of interest received by a non-U.S. holder generally will not be subject to U.S. federal withholding tax, provided (1) that (a) the non-U.S. holder does not own, actually or constructively, 10% or more of the total combined voting power of all classes of our stock entitled to vote; (b) the non-U.S. holder is not a controlled foreign corporation, actually or constructively, through stock ownership; and (c) the beneficial owner of the debenture complies with the certification requirements, including delivery of a statement, signed by the holder under penalties of perjury, certifying that the holder is a foreign person and provides its name and address; or (2) that the non-U.S. holder is entitled to the benefits of an income tax treaty under which the interest is exempt from U.S. withholding tax and the non-U.S. holder complies with the reporting requirements. If a debenture is held through a securities clearing organization or other specified financial institutions (an “Intermediary”), the Intermediary may provide the relevant signed statement and, unless the Intermediary is a “qualified” intermediary as defined under the Code, the signed statement provided by the Intermediary must be accompanied by a copy of a valid Form W-8BEN provided by the non-U.S. beneficial holder of the debenture.
Payments of interest not exempt from United States federal withholding tax as described above will be subject to a withholding tax at the rate of 30%, subject to reduction under an applicable income tax treaty. Payments of interest on a debenture to a non-U.S. holder generally will not be subject to U.S. federal income tax, as opposed to withholding tax, unless the income is effectively connected with the conduct by the non-U.S. holder of a trade or business in the United States. To claim the benefit of a lower treaty withholding rate, a non-U.S. holder must provide a properly executed IRS Form W-8BEN to us or our paying agent before the payment of stated interest; and may be required to obtain a U.S. taxpayer identification number and provide documentary evidence issued by foreign governmental authorities to prove residence in the foreign country. You should consult your own tax advisor to determine the effects of the application of the U.S. federal withholding tax to your particular situation.
Disposition of the Debentures by Non-U.S. Holders
Subject to the discussion below under “Backup Withholding and Information Reporting,” a non-U.S. holder generally will not be subject to United States federal income tax, and generally no tax will be withheld with respect to gains realized on the disposition of a debenture, unless (a) the gain is effectively connected with a United States trade or business conducted by the non-U.S. holder or (b) the non-U.S. holder is an individual who is present in the United States for 183 or more days during the taxable year of the disposition and other requirements are satisfied.
Non-U.S. Holders Subject to U.S. Income Taxation
If interest and other payments received by a non-U.S. holder with respect to the debentures, including proceeds from the disposition of the debentures, are effectively connected with the conduct by the non-U.S. holder of a trade or business within the United States, or the non-U.S. holder is otherwise subject to United States federal income taxation on a net basis with respect to the holder’s ownership of the debentures, or are individuals that have by operation of law become residents in the United States for federal income tax purposes, the non-U.S. holder generally will be subject to the rules described above applicable to U.S. holders of debentures, subject to any modification provided under an applicable income tax treaty. If any of these non-U.S. holders is a corporation, it may also be subject to a U.S. “branch profits tax” at a 30% rate.
Backup Withholding and Information Reporting
Non-corporate U.S. holders may be subject to backup withholding at a rate of 31% on payments of principal, premium, and interest on, and the proceeds of the disposition of, the debentures. In general, backup withholding will be imposed only if the U.S. holder (1) fails to furnish its taxpayer identification number (“TIN”), which for an individual would be his or her Social Security number; (2) furnishes an incorrect TIN; (3) is notified by the IRS that it has failed to report payments of interest or dividends; or (4) under some circumstances, fails to certify under penalty of perjury that it has furnished a correct TIN and has been notified by the IRS that it is subject to backup withholding tax for failure to report interest or dividend payments. In addition, the payments of principal and interest to U.S. holders generally will be subject to information reporting. You should consult your tax advisors regarding your qualification for exemption from backup withholding and the procedure for obtaining an exemption, if applicable.
Backup withholding generally will not apply to payments made to a non-U.S. holder of a debenture who provides the certification that it is a non-U.S. holder, and the payor does not have actual knowledge that a certificate is false, or otherwise establishes an exemption from backup withholding. Payments by United States office of a broker of the proceeds of a disposition of the debentures generally will be subject to backup withholding at a rate of 31% unless the non-U.S. holder certifies it is a non-U.S. holder under penalties of perjury or otherwise establishes an exemption. In addition, if a foreign office of a foreign custodian, foreign nominee or other foreign agent of the beneficial owner, or if a foreign office of a foreign “broker” pays the proceeds of the sale of a debenture to the seller, backup withholding and information reporting will not apply; provided that the nominee, custodian, agent or broker is not a “United States related person,” or a person which derives more than 50% of its gross income for some periods from the conduct of a trade or business in the United States or is a controlled foreign corporation. The payment by a foreign office of a broker that is a United States person or a United States related person of the proceeds of the sale of debentures will not be subject to backup withholding, but will be subject to information reporting unless the broker has documentary evidence in its records that the beneficial owner is not a United States person for purposes of the backup withholding and information reporting requirements and other conditions are met, or the beneficial owner otherwise establishes an exemption.
The amount of any backup withholding imposed on a payment to a holder of a debenture will be allowed as a credit against the holder’s United States federal income tax liability and may entitle the holder to a refund; provided that the required information is furnished to the IRS.
We make no representations regarding the tax consequences of the purchase, ownership or disposition of the debentures under the tax laws of any state, locality or foreign country. You should consult your own tax advisors regarding these state and foreign tax consequences.
General
Title I of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), and Section 4975 of the Code impose restrictions on employee benefit plans that are subject to ERISA, or plans or arrangements that are subject to Code Section 4975, and on persons who are parties in interest or disqualified persons with respect to those plans or arrangements. Some employee benefit plans, like governmental plans and church plans (if no election has been made under Section 410(d) of the Code), are not subject to the restrictions of Title I of ERISA or Code Section 4975, and assets of these plans may be invested in the debentures without regard to the ERISA considerations described below, subject to the Code and other applicable federal and state laws affecting tax-exempt organizations generally. Any plan fiduciary that proposes to cause a plan to acquire any of the debentures should consult with its counsel with respect to the potential consequences under ERISA and the Code of the plan’s acquisition and ownership of the debentures. Investments by plans are also subject to ERISA’s and the Code’s general fiduciary requirements, including the requirement of investment prudence and diversification and the requirement that a plan’s investments be made in accordance with the documents governing the plan.
Prohibited Transactions
General
Section 406 of ERISA and Section 4975 of the Code prohibits certain “parties in interest” and “disqualified persons” with respect to a plan from engaging in select transactions involving a plan and its assets unless a statutory, regulatory or administrative exemption applies to the transaction. Section 4975 of the Code imposes excise taxes, or in some cases a civil penalty may be assessed under Section 502(i) of ERISA, on parties in interest that engage in non-exempt “prohibited transactions.” Section 502(i) of ERISA requires the Secretary of the U.S. Department of Labor (“Labor”) to assess a civil penalty against a fiduciary who breaches any fiduciary responsibility under, or commits any other violation of, part 4 of Title I of ERISA, or any other person who knowingly participates in a breach or violation.
Plan Asset Regulations
Labor has issued regulations concerning the definition of what constitutes the assets of a plan for purposes of ERISA and the prohibited transaction provisions of the Code. The plan asset regulations describe the circumstances where the assets of an entity in which a plan invests will be considered to be “plan assets,” so that any person who exercises control over the assets would be subject to ERISA’s fiduciary standards. Generally, under the plan asset regulation, when a plan invests in another entity, the plan’s assets do not include, solely by reason of the investment, any of the underlying assets of the entity. However, the plain asset regulation provides that, if a plan acquires an “equity interest” in an entity that is neither a “publicly-offered security” nor a security issued by an investment company registered under the Investment Company Act of 1940 the assets of the entity will be treated as assets of the plan investor unless exceptions apply.
Under the plan asset regulations the term “equity interest” is defined as any interest in an entity other than an instrument that is treated as indebtedness under “applicable local law” and that has no “substantial equity features.” Although the plan asset regulation is silent with respect to the question of which law constitutes “applicable local law” for this purpose, Labor has stated that these determinations should be made under the state law governing interpretation of the instrument in question. In the preamble to the plan asset regulation, Labor declined to provide a precise definition of what features are equity features or the circumstances under which the features would be considered “substantial,” noting that the question of whether a plan’s interest has substantial equity features is an inherently factual one, but that in making that determination it would be appropriate to take into account whether the equity features are such that a plan’s investment would be a practical vehicle for the indirect provision of investment management services. We believe that the debentures will be classified as indebtedness without substantial equity features for ERISA purposes.
Under the plan asset regulations the term “publicly-offered security” is defined as a security that is (i) freely transferable, (ii) part of a class of securities that is widely held, and (iii) either (A) part of a class of securities registered under section 12(b) or 12(g) of the Securities Exchange Act of 1934 or (B) sold to the plan as part of an offering of securities to the public pursuant to an effective registration statement under the Securities Act of 1933 and the class of securities of which such security is a part is registered under the Securities Exchange Act of 1934 within 120 days after the end of the fiscal year of the issuer during which the offering of such securities to the public occurred. For purposes of the above, a class of securities is considered to be “widely held” if it is owned by 100 or more investors independent of the issuer and of one another. In the case of this offering, while the offer and sale of the debentures have been registered under the Securities Act of 1933, the debentures themselves have not been registered under the Securities Exchange Act of 1934. For this reason, we believe that the debentures will not likely meet the definition for “publicly-offered security” under the plan asset regulations.
In light of the foregoing, if the debentures were deemed to be equity interests for this purpose and no statutory, regulatory, or administrative exception applies, we could be considered to hold plan assets by reason of a plan’s investment in the debentures. These plan assets would include an undivided interest in all of our assets. In this case, we may be considered a fiduciary with respect to the investing plans. We would be subject to the fiduciary responsibility provisions of Title I of ERISA, including the prohibited transaction provisions of Section 406 of ERISA and Section 4975 of the Code, and to Section 4975 of the Code with respect to transactions involving any of our assets. The ERISA fiduciary standards could affect the way we conduct the business, which would have consequences for all investors, not just those that are employee benefit plans.
Depending on the relevant facts and circumstances, prohibited transaction exemptions may apply to the purchase or holding of the debentures. See, for example, Prohibited Transaction Class Exemption (“PTE”) 96-23, which exempts some transactions effected on behalf of a plan or by an “in-house asset manager;” PTE 95-60, which exempts some transactions between insurance company general accounts and parties in interest; PTE 91-38, which exempts some transactions between bank collective investment funds and parties in interest; PTE 90-1, which exempts some transactions between insurance company pooled separate accounts and parties in interest; or PTE 84-14, which exempts some transactions effected on behalf of a plan by a “qualified professional asset manager.” However, there can be no assurance that any of these exemptions will apply with respect to any plan’s investment in the debentures, or that the exemption, if it did apply, would apply to all prohibited transactions that may occur in connection with the investment.
Any plan fiduciary considering whether to purchase debentures on behalf of a plan should consult with its counsel regarding the applicability of the fiduciary responsibility and prohibited transaction provisions of ERISA and the Code. Before purchasing any debentures, a fiduciary of a plan should make its own determination as to (1) whether GWG Holdings, as issuer of and borrower under the debentures, is a “party in interest” under ERISA or a “disqualified person” under the Code with respect to the plan; (2) the availability of the relief provided in the plan asset regulation and (3) the availability of any other prohibited transaction exemptions. In addition, purchasers that are insurance companies should consult their own ERISA counsel with respect to their fiduciary responsibilities associated with their purchase and ownership of the debentures, including any responsibility under the Supreme Court case John Hancock Mutual Life Insurance Co. v. Harris Trust and Savings Bank.
Certain legal matters in connection with the debentures will be passed upon for us by Maslon Edelman Borman & Brand, LLP, of Minneapolis, Minnesota.
The consolidated financial statements of GWG Holdings, Inc. and its subsidiaries as of and for the year ended December 31, 2013, included in this prospectus and in the related registration statement, have been audited by Baker Tilly Virchow Krause, LLP, an independent registered public accounting firm. The consolidated financial statements of GWG Holdings, Inc. and its subsidiaries as of and for the year ended December 31, 2012, included in this prospectus and in the related registration statement, have been audited by Mayer Hoffman McCann P.C., an independent registered public accounting firm. As indicated in their reports with respect thereto, these consolidated financial statements are included in this prospectus in reliance upon the authority of such firms as experts in auditing and accounting, with respect to each such respective report.
We have filed with the SEC a registration statement on Form S-1 under the Securities Act with respect to the debentures to be offered and sold pursuant to the prospectus which is a part of that registration statement. This prospectus does not contain all the information contained in the registration statement. For further information with respect to us and the debentures to be sold in this offering, we refer you to the registration statement, including the agreements, other documents and schedules filed as exhibits to the registration statement.
We file annual, quarterly and current reports, and other information with the SEC. We intend to make these filings available on our website at www.gwglife.com. Information on our website is not incorporated by reference in this prospectus. We maintain an office at 220 South Sixth Street, Suite 1200, Minneapolis, MN 55402 where all records concerning the debentures are to be retained. Debenture holders and their representatives can request information regarding the debentures by contacting our office by mail at our address or by telephone at (612) 746-1944 or by fax at (612) 746-0445. Upon request, we will provide copies of our filings with the SEC free of charge to our investors. Our SEC filings, including the registration statement of which this prospectus is a part, will also be available on the SEC’s Internet site at http://www.sec.gov. You may read and copy all or any portion of the registration statement or any reports, statements or other information we file at the SEC’s public reference room at 100 F Street, N.E., Washington, D.C. 20549. In addition, you may call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference room. You may receive copies of these documents upon payment of a duplicating fee by writing to the SEC.
Table of Contents
| | Page |
| Reports of Independent Registered Public Accounting Firms | F-2 |
| Consolidated Balance Sheets as of December 31, 2013 and December 31, 2012 | F-4 |
| Consolidated Statements of Operations for the years ended December 31, 2013 and December 31, 2012 | F-5 |
| Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 2013 and December 31, 2012 | F-6 |
| Consolidated Statements of Cash Flows for the years ended December 31, 2013 and December 31, 2012 | F-7 |
| Notes to Consolidated Financial Statements | F-8 |
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders, Audit Committee and Board of Directors
GWG Holdings, Inc.
Minneapolis, MN
We have audited the accompanying consolidated balance sheet of GWG Holdings, Inc. as of December 31, 2013, and the related consolidated statements of operations, changes in stockholders' equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of its internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management as well as evaluating the overall consolidated financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of GWG Holdings, Inc. as of December 31, 2013 and the results of their operations and their cash flows for the year then ended, in conformity with U.S. generally accepted accounting principles.
/s/ Baker Tilly Virchow Krause, LLP
Minneapolis, Minnesota
March 19, 2014
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors
GWG HOLDINGS, INC. AND SUBSIDIARIES
We have audited the accompanying consolidated balance sheet of GWG Holdings, Inc. and Subsidiaries (Company) as of December 31, 2012, and the related consolidated statements of operations, changes in stockholders' equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of GWG Holdings, Inc. and Subsidiaries as of December 31, 2012, and the results of their operations and their cash flows for the year then ended, in conformity with U.S. generally accepted accounting principles.
/s/ Mayer Hoffman McCann P.C.
Minneapolis, MN
March 30, 2013
GWG HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
| | | December 31, 2013 | | | December 31, 2012 | |
| A S S E T S | |
| Cash and cash equivalents | | $ | 33,449,793 | | | $ | 27,497,044 | |
| Restricted cash | | | 5,832,970 | | | | 2,093,092 | |
| Due from related parties | | | - | | | | 8,613 | |
| Investment in life settlements, at fair value | | | 234,672,794 | | | | 164,317,183 | |
| Deferred financing costs, net | | | 357,901 | | | | 97,040 | |
| Death benefits receivable | | | - | | | | 2,850,000 | |
| Other assets | | | 1,067,018 | | | | 1,085,063 | |
| TOTAL ASSETS | | $ | 275,380,476 | | | $ | 197,948,035 | |
| | | | | | | | | |
| L I A B I L I T I E S & S T O C K H O L D E R S’ E Q U I T Y (DEFICIT) | |
| LIABILITIES | | | | | | | | |
| Revolving credit facility | | $ | 79,000,000 | | | $ | 71,000,000 | |
| Series I Secured notes payable | | | 29,275,202 | | | | 37,844,711 | |
| Renewable Secured Debentures | | | 131,646,062 | | | | 55,718,950 | |
| Accounts payable | | | 839,869 | | | | 470,059 | |
| Interest payable | | | 7,209,408 | | | | 3,477,320 | |
| Other accrued expenses | | | 504,083 | | | | 1,291,499 | |
| Deferred taxes, net | | | 7,675,174 | | | | 5,501,407 | |
| TOTAL LIABILITIES | | | 256,149,798 | | | | 175,303,946 | |
| | | | | | | | | |
| COMMITMENTS AND CONTINGENCIES (NOTES 14 AND 15) | | | | | | | | |
| | | | | | | | | |
| CONVERTIBLE, REDEEMABLE PREFERRED STOCK | | | | | | | | |
| (par value $0.001; shares authorized 40,000,000; shares issued and outstanding 3,368,109 and 3,361,076; liquidation preference of $25,261,000 and $25,208,000 on December 31, 2013 and 2012, respectively) | | | 24,722,693 | | | | 23,905,878 | |
| | | | | | | | | |
| STOCKHOLDERS’ EQUITY (DEFICIT) | | | | | | | | |
| Common stock (par value $0.001: shares authorized 210,000,000; shares issued and outstanding 9,124,000 and 9,989,000 on December 31, 2013 and 2012) | | | 9,124 | | | | 9,989 | |
| Additional paid-in capital | | | 2,937,438 | | | | 6,971,844 | |
| Accumulated deficit | | | (8,438,577 | ) | | | (8,243,622 | ) |
| TOTAL STOCKHOLDERS’ EQUITY (DEFICIT) | | | (5,492,015 | ) | | | (1,261,789 | ) |
| | | | | | | | | |
| TOTAL LIABILITIES & EQUITY (DEFICIT) | | $ | 275,380,476 | | | $ | 197,948,035 | |
The accompanying notes are an integral part of these Consolidated Financial Statements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
| | | Year Ended | |
| | | December 31, 2013 | | | December 31, 2012 | |
| REVENUE | | | | | | |
| Gain on life settlements, net | | $ | 29,513,642 | | | $ | 17,436,743 | |
| Gain upon termination of agreement with Athena Securities Ltd. | | | 3,252,400 | | | | - | |
| Interest and other income | | | 298,732 | | | | 89,055 | |
| TOTAL REVENUE | | | 33,064,774 | | | | 17,525,798 | |
| | | | | | | | | |
| EXPENSES | | | | | | | | |
| Interest expense | | | 20,762,644 | | | | 10,878,627 | |
| Employee compensation and benefits | | | 5,043,848 | | | | 2,903,373 | |
| Legal and professional fees | | | 1,754,209 | | | | 1,076,694 | |
| Other expenses | | | 3,525,261 | | | | 2,486,813 | |
| TOTAL EXPENSES | | | 31,085,962 | | | | 17,345,507 | |
| | | | | | | | | |
| INCOME BEFORE INCOME TAXES | | | 1,978,812 | | | | 180,291 | |
| INCOME TAX EXPENSE | | | 2,173,767 | | | | 1,193,190 | |
| | | | | | | | | |
| NET LOSS | | | (194,955 | ) | | | (1,012,899 | ) |
| Accretion of preferred stock to liquidation value | | | (806,624 | ) | | | (1,578,405 | ) |
| LOSS ATTRIBUTABE TO COMMON SHAREHOLDERS | | $ | (1,001,579 | ) | | $ | (2,591,304 | ) |
| | | | | | | | | |
NET LOSS PER COMMON SHARE (BASIC AND DILUTED) | | | | | | | | |
| Net loss | | $ | (0.02 | ) | | $ | (0.10 | ) |
| Accretion of preferred stock to liquidation value | | $ | (0.09 | ) | | $ | (0.16 | ) |
| Net loss per share attributable to common shareholders | | $ | (0.11 | ) | | $ | (0.26 | ) |
| | | | | | | | | |
| WEIGHTED AVERAGE SHARES OUTSTANDING | | | | | | | | |
| Basic and diluted | | | 9,517,397 | | | | 9,989,000 | |
The accompanying notes are an integral part of these Consolidated Financial Statements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
| | | Common | | | Common Stock | | | Additional Paid-in | | | Accumulated | | | Total | |
| | | Shares | | | (par) | | | Capital | | | Deficit | | | Equity | |
| | | | | | | | | | | | | | | | |
| Balance, December 31, 2011 | | | 9,989,000 | | | $ | 9,989 | | | $ | 8,169,303 | | | $ | (7,230,723 | ) | | $ | 948,569 | |
| | | | | | | | | | | | | | | | | | | | | |
| Net loss | | | - | | | | - | | | | - | | | | (1,012,899 | ) | | | (1,012,899 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Issuance of warrants to purchase common stock | | | - | | | | - | | | | 380,946 | | | | - | | | | 380,946 | |
| | | | | | | | | | | | | | | | | | | | | |
| Accretion of preferred stock to liquidation value | | | - | | | | - | | | | (1,578,405 | ) | | | - | | | | (1,578,405 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Balance, December 31, 2012 | | | 9,989,000 | | | | 9,989 | | | | 6,971,844 | | | | (8,243,622 | ) | | | (1,261,789 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Net income | | | | | | | | | | | | | | | (194,955 | ) | | | (194,955 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Repurchase of common stock | | | (865,000 | ) | | | (865 | ) | | | (3,251,535 | ) | | | - | | | | (3,252,400 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Stock-based compensation | | | | | | | | | | | 23,753 | | | | - | | | | 23,753 | |
| | | | | | | | | | | | | | | | | | | | | |
| Accretion of preferred stock to liquidation value | | | | | | | | | | | (806,624 | ) | | | - | | | | (806,624 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| Balance, December 31, 2013 | | | 9,124,000 | | | $ | 9,124 | | | $ | 2,937,438 | | | $ | (8,438,577 | ) | | $ | (5,492,015 | ) |
The accompanying notes are an integral part of these Consolidated Financial Statements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
| | | Year Ended | |
| | | December 31, 2013 | | | December 31, 2012 | |
| CASH FLOWS FROM OPERATING ACTIVITIES | | | | | | |
| Net loss | | $ | (194,955 | ) | | $ | (1,012,899 | ) |
Adjustments to reconcile net loss to net cash flows used in operating activities: | | | | | | | | |
| Gain on life settlements | | | (39,337,542 | ) | | | (27,856,374 | ) |
| Amortization of deferred financing and issuance costs | | | 2,470,390 | | | | 1,908,930 | |
| Deferred income taxes | | | 2,173,767 | | | | 1,193,190 | |
| Convertible, redeemable preferred stock issued in lieu of cash dividends | | | 623,899 | | | | 567,478 | |
| Convertible, redeemable preferred stock dividends payable | | | 255 | | | | 338,695 | |
| Gain upon termination of agreement with Athena Securities Ltd. | | | (3,252,400 | ) | | | - | |
| (Increase) decrease in operating assets: | | | | | | | | |
| Due from related parties | | | 8,613 | | | | (6,348 | ) |
| Death benefits receivable | | | 2,850,000 | | | | (2,850,000 | ) |
| Other assets | | | (566,418 | ) | | | (869,165 | ) |
| Increase (decrease) in operating liabilities: | | | | | | | | |
| Accounts payable | | | 369,809 | | | | (257,708 | ) |
| Interest payable | | | 3,418,432 | | | | 1,744,599 | |
| Other accrued expenses | | | 50,642 | | | | (69,292 | ) |
| | | | | | | | | |
| NET CASH FLOWS USED IN OPERATING ACTIVITIES | | | (31,385,508 | ) | | | (27,168,894 | ) |
| | | | | | | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES | | | | | | | | |
| Investment in life settlements | | | (34,997,500 | ) | | | (15,067,495 | ) |
| Proceeds from settlement of life settlements | | | 4,563,896 | | | | 1,067,210 | |
| NET CASH FLOWS USED IN INVESTING ACTIVITIES | | | (30,433,604 | ) | | | (14,000,285 | ) |
| | | | | | | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES | | | | | | | | |
| Net proceeds from revolving credit facility | | | 8,000,000 | | | | 11,000,000 | |
| Payments for redemption of Series I Secured notes payable | | | (8,671,624 | ) | | | (7,477,197 | ) |
| Proceeds from issuance of Renewable Secured Debentures | | | 85,260,976 | | | | 58,553,280 | |
| Payment of deferred issuance costs for Renewable Secured Debentures | | | (4,320,542 | ) | | | (3,024,545 | |
| Payments for redemption of Renewable Secured Debentures | | | (8,143,363 | ) | | | (112,500 | ) |
| Proceeds from (uses of) restricted cash | | | (3,739,878 | ) | | | 2,701,210 | |
| Issuance (redemption) of convertible, redeemable preferred stock | | | (613,708 | ) | | | 6,414,273 | |
| Payments of issuance cost for convertible, redeemable preferred stock | | | - | | | | (1,266,647 | ) |
| NET CASH FLOWS PROVIDED BY FINANCING ACTIVITIES | | | 67,771,861 | | | | 66,787,874 | |
| | | | | | | | | |
| NET INCREASE IN CASH AND CASH EQUIVALENTS | | | 5,952,749 | | | | 25,618,695 | |
| | | | | | | | | |
| CASH AND CASH EQUIVALENTS | | | | | | | | |
| BEGINNING OF PERIOD | | | 27,497,044 | | | | 1,878,349 | |
| END OF PERIOD | | $ | 33,449,793 | | | $ | 27,497,044 | |
The accompanying notes are an integral part of these Consolidated Financial Statements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS – CONTINUED
| | | Year Ended | |
| | | December 31, 2013 | | | December 31, 2012 | |
| SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION | | | | | | |
| Interest and preferred dividends paid | | $ | 13,627,000 | | | $ | 6,280,000 | |
| | | | | | | | | |
| NON-CASH INVESTING AND FINANCING ACTIVITIES | | | | | | | | |
| Non-cash conversion of Series I Secured notes | | $ | 912,000 | | | $ | 4,220,000 | |
| Non-cash conversion of accrued interest payable on Series I Secured notes | | $ | - | | | $ | 6,000 | |
| Warrants issued to purchase common stock | | $ | - | | | $ | 381,000 | |
| Options issued to purchase common stock | | $ | 24,000 | | | $ | - | |
| Accrued interest payable on Series I Secured notes added to principal | | $ | 185,000 | | | $ | 142,000 | |
| Accrued interest payable on Renewable Secured Debentures added to principal | | $ | 141,000 | | | $ | 13,000 | |
| Unsettled life settlements included in accounts payable | | $ | - | | | $ | 292,000 | |
The accompanying notes are an integral part of these Consolidated Financial Statements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
( 1 ) Nature of business and summary of significant accounting policies
Nature of business - GWG Holdings, Inc. and subsidiaries, located in Minneapolis, Minnesota, facilitates the purchase of life insurance policies for its own investment portfolio through its wholly owned subsidiary, GWG Life Settlements, LLC (GWG Life), and its subsidiaries, GWG Trust (Trust), GWG DLP Funding II, LLC (DLP II) and its wholly owned subsidiary, GWG DLP Master Trust II (the Trust II). Our wholly owned subsidiary, GWG Broker Services, LLC (Broker Services), was formed to earn fees for brokering policy transactions between market participants. Our wholly owned subsidiary United Lending, LLC (United Lending) and its wholly owned subsidiary United Lending SPV, LLC (United Lending SPV) were formed to finance life settlement premiums and policy loans. All of these entities are legally organized in Delaware. Unless the context otherwise requires or we specifically so indicate, all references in this report to "we", "us", "our", "our Company", "GWG", or the "Company" refer to these entities collectively. GWG Member, LLC, a wholly owned subsidiary formed November 2010 to facilitate the acquisition of policies, has not commenced operations as of December 31, 2013. The entities were legally organized in Delaware and are collectively referred herein to as GWG, or the Company.
Use of estimates - The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. The Company regularly evaluates estimates and assumptions. The Company bases its estimates and assumptions on current facts, historical experience, and various other factors that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the accrual of costs and expenses that are not readily apparent from other sources. The actual results experienced by the Company may differ materially and adversely from the Company’s estimates. To the extent there are material differences between the estimates and the actual results, future results of operations will be affected. The most significant estimates with regard to these consolidated financial statements relates to (1) the determination of the assumptions used in estimating the fair value of the investment in life insurance policies, and (2) the value of deferred tax assets and liabilities.
Cash and cash equivalents - The Company considers cash in demand deposit accounts and temporary investments purchased with an original maturity of three months or less to be cash equivalents. The Company maintains its cash and cash equivalents with highly rated financial institutions. From time to time, the Company’s balances in its bank accounts exceed Federal Deposit Insurance Corporation limits. The Company periodically evaluates the risk of exceeding insured levels and may transfer funds as it deems appropriate. The Company has not experienced any losses with regards to balances in excess of insured limits or as a result of other concentrations of credit risk.
Life settlements - ASC 325-30, Investments in Insurance Contracts, allows a reporting entity the election to account for its investments in life settlements using either the investment method or the fair value method. The election shall be made on an instrument-by-instrument basis and is irrevocable. Under the investment method, an investor shall recognize the initial investment at the purchase price plus all initial direct costs. Continuing costs (policy premiums and direct external costs, if any) to keep the policy in force shall be capitalized. Under the fair value method, an investor shall recognize the initial investment at the purchase price. In subsequent periods, the investor shall re-measure the investment at fair value in its entirety at each reporting period and shall recognize the change in fair value in current period income net of premiums paid. The Company uses the fair value method to account for all life settlements.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company recognizes realized gains (revenue) from life settlement contracts upon one of the two following events:
1) Receipt of death notice or verified obituary of insured
2) Sale of policy and filing of change of ownership forms and receipt of payment
The Company recognizes the difference between the death benefits and carrying values of the policy when an insured event has occurred and the Company determines that settlement and ultimate collection of the death benefits is realizable and reasonably assured. Revenue from a transaction must meet both criteria in order to be recognized. In an event of a sale of a policy the Company recognizes gain or loss as the difference between the sale price and the carrying value of the policy on the date of the receipt of payment on such sale.
Deposits and initial direct costs advanced on unsettled policy acquisitions are recorded as other assets until policy ownership has been transferred to the Company. Such deposits and direct cost advances were $201,000 and $785,000 at December 31, 2013 and 2012 respectively.
Deferred financing and issuance costs – Costs incurred to obtain financing under the revolving credit facility, as described in note 6, have been capitalized and are amortized using the straight-line method over the term of the revolving credit facility. Amortization of deferred financing costs was $455,000 and $233,000 for the years ended December 31, 2013 and 2012, respectively. The future amortization is expected to be $358,000 for the year ending December 31, 2014. The Series I Secured notes payable, as described in note 7, are reported net of issuance costs, sales commissions and other direct expenses, which are amortized using the interest method over the term of each respective borrowing. The Renewable Secured debentures, as described in note 8, are reported net of issuance costs, sales commissions and other direct expenses, which are amortized using the interest method over the term of each respective borrowing. The Series A preferred stock, as described in note 9, is reported net of issuance costs, sales commissions, including the fair value of warrants issued, and other direct expenses, which are amortized using the interest method as interest expense over the three-year redemption period.
Earnings (loss) per share - Basic per share earnings (loss) attributable to non-redeemable interests is calculated using the weighted-average number of shares outstanding during the period. Diluted earnings per share is calculated based on the potential dilutive impact, if any, of the Company’s convertible, redeemable preferred stock, and outstanding warrants, and stock options.
Subsequent events - Subsequent events are events or transactions that occur after the balance sheet date but before consolidated financial statements are issued. The Company recognizes in the consolidated financial statements the effects of all subsequent events that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing the consolidated financial statements. The Company’s consolidated financial statements do not recognize subsequent events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after the balance sheet date and before the consolidated financial statements are available to be issued. The Company evaluates subsequent events and transactions that occur after the balance sheet date up to the date that the consolidated financial statements are filed for potential recognition or disclosure.
Recently adopted pronouncements - Pronouncements issued by the FASB or other authoritative accounting standards groups with future effective dates are either not applicable or are not expected to be significant to the Company.
( 2 ) Restrictions on cash
The Company is required by its lenders to maintain collection and escrow accounts. These accounts are used to fund the acquisition, pay annual premiums of insurance policies, pay interest and other charges under the revolving credit facility, and collect policy benefits. DZ Bank AG, as agent for Autobahn Funding Company, LLC, the lender for the revolving credit facility as described in note 6, authorizes the disbursements from these accounts. At December 31, 2013 and 2012 there was a balance of $5,833,000, and $2,093,000, respectively, maintained in these restricted cash accounts.
( 3 ) Investment in life insurance policies
The life insurance policies (Level 3 fair value measurements) are valued based on unobservable inputs that are significant to the overall fair value measurement. Changes in the fair value of these instruments are recorded in gain or loss on life insurance policies in the consolidated statements of operations (net of the cash premiums paid on the policies). The fair value is determined on a discounted cash flow basis that incorporates life expectancy assumptions. Life expectancy reports have been obtained from widely accepted life expectancy providers. The discount rate incorporates current information about market interest rates, the credit exposure to the insurance company that issued the life insurance policy and our estimate of the risk premium an investor in the policy would require. As a result of management’s analysis, discount rates of 11.69% and 12.08% were applied to the portfolio as of December 31, 2013 and 2012, respectively.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A summary of the Company’s life insurance policies accounted for under the fair value method and their estimated maturity dates, based on remaining life expectancy is as follows:
| | | As of December 31, 2013 | | | As of December 31, 2012 | |
| Years Ending December 31, | | Number of Contracts | | | Estimated Fair Value | | | Face Value | | | Number of Contracts | | | Estimated Fair Value | | | Face Value | |
| 2014 | | | - | | | $ | - | | | $ | - | | | | - | | | $ | - | | | $ | - | |
| 2015 | | | 4 | | | | 5,065,000 | | | | 6,750,000 | | | | - | | | | - | | | | - | |
| 2016 | | | 8 | | | | 8,174,000 | | | | 13,750,000 | | | | 2 | | | | 1,163,000 | | | | 2,000,000 | |
| 2017 | | | 25 | | | | 33,345,000 | | | | 63,916,000 | | | | 13 | | | | 11,608,000 | | | | 22,229,000 | |
| 2018 | | | 33 | | | | 37,243,000 | | | | 80,318,000 | | | | 17 | | | | 21,155,000 | | | | 53,439,000 | |
| 2019 | | | 34 | | | | 32,844,000 | | | | 89,295,000 | | | | 31 | | | | 28,252,000 | | | | 75,668,000 | |
| 2020 | | | 34 | | | | 27,741,000 | | | | 75,644,000 | | | | 35 | | | | 26,947,000 | | | | 84,579,000 | |
| Thereafter | | | 125 | | | | 90,261,000 | | | | 410,975,000 | | | | 113 | | | | 75,192,000 | | | | 334,331,000 | |
| Totals | | | 263 | | | $ | 234,673,000 | | | $ | 740,648,000 | | | | 211 | | | $ | 164,317,000 | | | $ | 572,246,000 | |
The Company recognized death benefits of $16,600,000 and $7,350,000 during 2013 and 2012, respectively, related to policies with a carrying value of $4,564,000 and $1,067,000, respectively. The Company recorded realized gains of $12,036,000 and $6,283,000 on such policies.
Reconciliation of gain on life settlements:
| | | 2013 | | | 2012 | |
| Change in fair value | | $ | 39,338,000 | | | $ | 27,856,000 | |
| Premiums and other annual fees | | | (21,860,000 | ) | | | (16,702,000 | ) |
| Policy maturities | | | 12,036,000 | | | | 6,283,000 | |
| Gain on life settlements, net | | $ | 29,514,000 | | | $ | 17,437,000 | |
The estimated expected premium payments to maintain the above life insurance policies in force for the next five years, assuming no mortalities, are as follows:
| Years Ending December 31, | | | |
| 2014 | | $ | 22,739,000 | |
| 2015 | | | 25,056,000 | |
| 2016 | | | 27,508,000 | |
| 2017 | | | 30,653,000 | |
| 2018 | | | 33,509,000 | |
| | | $ | 139,465,000 | |
Management anticipates funding the estimated premium payments as noted above with proceeds from the DZ Bank revolving credit facility and through additional debt and equity financing as well as from cash proceeds from maturities of life insurance policies. The proceeds of these capital sources are also intended to be used for the purchase, financing, and maintenance of additional life insurance policies.
( 4 ) Fair value definition and hierarchy
ASC 820 establishes a hierarchical disclosure framework which prioritizes and ranks the level of market price observability used in measuring assets and liabilities at fair value. Market price observability is affected by a number of factors, including the type of investment, the characteristics specific to the investment and the state of the marketplace including the existence and transparency of transactions between market participants. Assets and liabilities with readily available active quoted prices or for which fair value can be measured from actively quoted prices in an orderly market generally will have a higher degree of market price observability and a lesser degree of judgment used in measuring fair value. ASC 820 establishes a three-level valuation hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The hierarchy is broken down into three levels based on the observability of inputs as follows:
| ● | Level 1 - Valuations based on quoted prices in active markets for identical assets or liabilities that the Company has the ability to access. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment. |
| ● | Level 2 - Valuations based on one or more quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly. |
| ● | Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement. |
The availability of observable inputs can vary by types of assets and liabilities and is affected by a wide variety of factors, including, for example, whether an instrument is established in the marketplace, the liquidity of markets and other characteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by management in determining fair value is greatest for assets and liabilities categorized in Level 3.
Level 3 Valuation Process
The estimated fair value of the Company’s portfolio of life settlements is determined on a quarterly basis by the Company’s portfolio management committee, taking into consideration changes in discount rate assumptions, estimated premium payments and life expectancy estimate assumptions, as well as any changes in economic and other relevant conditions. These inputs are then used to estimate the discounted cash flows using the Model Actuarial Pricing System (MAPS), probabilistic portfolio pricing model, which estimates the cash flows using various probabilities and scenarios. The valuation process includes a review by senior management as of each valuation date. Management has also engaged a third party expert to independently test the accuracy of the valuations using the inputs provided by management on a quarterly basis.
Life insurance policies, as well as the portfolio taken as a whole, represent financial instruments recorded at fair value on a recurring basis. The following table reconciles the beginning and ending fair value of the Company’s Level 3 investments in its portfolio of life insurance policies for the years ending December 31, as follows:
| | | | 2013 | | | | 2012 | |
| Beginning balance | | $ | 164,317,000 | | | $ | 122,169,000 | |
| Purchases | | | 35,582,000 | | | | 15,359,000 | |
| Maturities (acquisition cost) | | | (4,564,000 | ) | | | (1,067,000 | ) |
| Gross unrealized gains | | | 39,338,000 | | | | 28,055,000 | |
| Gross unrealized losses | | | - | | | | (199,000 | ) |
| Ending balance | | $ | 234,673,000 | | | $ | 164,317,000 | |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The fair value of a portfolio of life insurance policies is based on information available to the Company at the reporting date. Fair value is based upon a discounted cash flow model that incorporates life expectancy estimate assumptions. Life expectancy estimates are obtained from independent, third-party widely accepted life expectancy estimate providers at policy acquisition. The life expectancy values of each insured, as determined at policy acquisition, are rolled down monthly for the passage of time by the MAPS actuarial software the Company uses for ongoing valuation of its portfolio of life insurance policies. The discount rate incorporates current information about discount rates applied by other reporting companies owning portfolios of life insurance policies, discount rates observed in the life insurance secondary market, market interest rates, the credit exposure to the insurance company that issued the life insurance policy and management’s estimate of the risk premium a purchaser would require to receive the future cash flows derived from our portfolio of life insurance policies.
On January 22, 2013, one of the independent medical actuarial underwriting firms we utilize, 21st Services, announced advancements in its underwriting methodology, resulting in revised estimated life expectancy mortality tables for life settlement transactions. We have been advised by 21st Services that the changes are very granular and relate to both specific medical conditions and lifestyles of insureds. These changes are the result of the application of additional medical information that has been gathered by 21st Services over a period of time, and which has now been applied to the inputs and methodologies used to develop the actuarial life expectancies. While we do not believe these revised methodologies indicate the previous estimated life expectancies were inaccurate, we believe the revised methodologies provide additional information that should be considered in updating our estimate of the life expectancies of the insureds within our portfolio of life settlement contracts as of December 31, 2012. Based upon our evaluation and analysis of data made available by 21st Services, as well as information regarding the insureds within our portfolio, we have estimated the impact of the changes in 21st Services’ methodologies for determining life expectancies on a policy-by-policy basis within our portfolio as of December 31, 2012 and applied such changes to the life expectancy inputs used to estimate fair value. We have adjusted the original life expectancies provided by 21st Services based on four factors, the impact of each analyzed individually for each insured in the GWG portfolio. The four factors are gender, anti-selection, age, and primary impairment. GWG applied this set of adjustments to all 21st Services LEs used in valuation of the portfolio as of December 31, 2012. At that time, the portfolio contained 211 policies on 194 insured lives. Of those 211 policies, 199 were valued using a 21st Services LE as part of the pricing LE calculation. While the analysis and adjustments were applied on an individual policy basis, the result was an average overall increase in the original life expectancy estimates of 8.67%. We have a standard practice of obtaining two third-party life expectancy estimates for each policy in our portfolio. As a result, the effective change in life expectancy on the portfolio was an average of approximately 4.33%, which resulted in an aggregate decrease in the fair value of our life settlements portfolio of $12.4 million. Life expectancy reports by their very nature are estimates.
The fair value of life insurance policies is estimated using present value calculations of estimated cash flows based on the data specific to each individual life insurance policy. Estimated future policy premium payments are calculated based on the terms of the policy and the premium payment history. The following summarizes the unobservable inputs utilized in estimating the fair value of the portfolio of life insurance policies:
| | | As of December 31, | | | As of December 31, | |
| | | 2013 | | | 2012 | |
| Weighted average age of insured | | | 82.1 | | | | 81.3 | |
| Weighted average life expectancy, months* | | | 87.0 | | | | 91.6 | |
| Average face amount per policy | | $ | 2,816,000 | | | $ | 2,712,064 | |
| Discount rate | | | 11.69 | % | | | 12.08 | % |
* Standard life expectancy as adjusted for insured’s specific circumstances.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
These assumptions are, by their nature, inherently uncertain and the effect of changes in estimates may be significant. The techniques used in estimating the present value of estimated cash flows are derived from valuation techniques generally used in the industry that include inputs for the asset that are not based on observable market data. The extent to which the fair value could reasonably vary in the near term has been quantified by evaluating the effect of changes in significant underlying assumptions used to estimate the fair value. If the life expectancy estimates were increased or decreased by four and eight months on each outstanding policy and the discount factors were increased or decreased by 1% and 2%, while all other variables are held constant, the fair value of the investment in life insurance policies would increase or (decrease) by the amounts summarized below:
| | | Change in life expectancy | |
| | | plus 8 months | | | minus 8 months | | plus 4 months | | minus 4 months | |
| Investment in life policies | | | | | | | | | | | | | | |
| December 31, 2013 | | $ | (34,382,000 | ) | | $ | 36,152,000 | | $ | (17,417,000 | ) | $ | 17,865,000 | |
| | | | | | | | | | | | | | | |
| December 31, 2012 | | $ | (24,072,000 | ) | | $ | 25,268,000 | | $ | (12,185,000 | ) | $ | 12,484,000 | |
| | | | | | | | | | | | | | | |
| | | Change in discount rate | |
| | | plus 2% | | | minus 2% | | plus 1% | | minus 1% | |
| Investment in life policies | | | | | | | | | | | | | | |
| December 31, 2013 | | $ | (22,944,000 | ) | | $ | 27,063,000 | | $ | (11,933,000 | ) | $ | 12,959,000 | |
| | | | | | | | | | | | | | | |
| December 31, 2012 | | $ | (16,811,000 | ) | | $ | 19,978,000 | | $ | (8,759,000 | ) | $ | 9,547,000 | |
Other Fair Value Considerations
Carrying value of receivables, prepaid expenses, accounts payable and accrued expenses approximate fair value due to their short-term maturities and low credit risk. The estimated fair value of the Company’s Series I Secured notes payable is approximately $33,067,000 based on a weighted-average market interest rate of 7.51% based on an income approach. The Company began issuing Renewable Secured Debentures in the first quarter of 2012. The current interest rates on the Renewable Secured Debentures approximate market rates. The carrying value of the Renewable Secured Debentures approximates fair value. The carrying value of the revolving credit facility reflects interest charged at the commercial paper rate plus an applicable margin. The margin represents our credit risk, and the strength of the portfolio of life insurance policies collateralizing the debt. The overall rate reflects market, and the carrying value of the revolver approximates fair value. All of the financial instruments are level 3 fair value measurements.
The Company has issued warrants to purchase common stock in connection with the issuance of its convertible, redeemable preferred stock. Warrants were determined by the Company as permanent equity. The fair value measurements associated with the warrants, measured at issuance represent level 3 instruments.
As of December 31, 2013:
| Month issued | | Warrants issued | | | Fair value per share | | | Risk free rate | | | Volatility | | Term |
| December 2011 | | | 137,874 | | | $ | 0.11 | | | | 0.42 | % | | | 25.25 | % | 3 years |
| March 2012 | | | 76,260 | | | $ | 0.26 | | | | 0.38 | % | | | 36.20 | % | 3 years |
| June 2012 | | | 323,681 | | | $ | 0.58 | | | | 0.41 | % | | | 47.36 | % | 3 years |
| July 2012 | | | 289,093 | | | $ | 0.58 | | | | 0.41 | % | | | 47.36 | % | 3 years |
| September 2012 | | | 5,000 | | | $ | 0.36 | | | | 0.31 | % | | | 40.49 | % | 3 years |
| | | | 831,908 | | | | | | | | | | | | | | |
Volatility is based upon the weekly percentage change in the stock price of selected comparable insurance companies. In June 2012, we evaluated the comparable companies used, and made certain changes to those used. The percentage change is calculated on the average price of those selected stocks at the weekly close of business for the year preceding the balance sheet date. We compare annual volatility based on this weekly information.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
( 5 ) Notes receivable from related parties
As of December 31, 2013 and December 31, 2012, the Company had receivables totaling $5,000,000 due from an affiliate, Opportunity Finance, LLC, which were fully reserved. Opportunity Finance ceased operations in 2008.
( 6 ) Credit facilities
Revolving credit facility – Autobahn Funding Company LLC
On July 15, 2008, DLP II and United Lending entered into a revolving credit facility pursuant to a Credit and Security Agreement (Agreement) with Autobahn Funding Company LLC (Autobahn), providing the Company with a maximum borrowing amount of $100,000,000. Autobahn is a commercial paper conduit that issues commercial paper to investors to provide funding to DLP II and United Lending. DZ Bank AG acts as the agent for Autobahn. The original Agreement was to expire on July 15, 2013. On January 29, 2013, Holdings, together with GWG Life and DLP II, entered into an Amended and Restated Credit and Security Agreement with Autobahn, extending the facility expiration date to December 31, 2014, and removing United Lending as a party to the amended and restated Agreement. The amount outstanding under this facility as of December 31, 2013 and 2012, was $79,000,000 and $71,000,000, respectively.
The Agreement requires DLP II to pay, on a monthly basis, interest at the commercial paper rate plus an applicable margin, as defined in the Agreement. The effective rate was 6.19% and 2.02% at December 31, 2013 and December 31, 2012, respectively. The weighted average effective interest rate (excluding the unused line fee) was 6.14% and 2.14% for the years ended December 31, 2013 and 2012, respectively. The Agreement also requires payment of an unused line fee of 0.30% on the unfunded amount under the revolving credit facility. The note is secured by substantially all of DLP II assets which consist primarily of life settlement policies.
The Agreement has certain financial and nonfinancial covenants. The Company was in compliance with these covenants at December 31, 2013 and 2012. The Agreement generally prohibits the Company from:
| ● | changing its corporate name, offices, and jurisdiction of incorporation |
| ● | changing any deposit accounts or payment instructions to insurers; |
| ● | changing any operating policies and practices such that it would be reasonably likely to adversely affect the collectability of any asset in any material respect; |
| ● | merging or consolidating with, or selling all or substantially all of its assets to, any third party; |
| ● | selling any collateral or creating or permitting to exist any adverse claim upon any collateral; |
| ● | engaging in any other business or activity than that contemplated by the Agreement; |
| ● | incurring or guaranteeing any debt for borrowed money; |
| ● | amending the Company’s certificate of incorporation or bylaws, making any loans or advances to, investments in, or paying any dividends to, any person unless both before and after any such loan, advance, investment or dividend there exists no actual event of default, potential event of default or termination event; |
| ● | removing an independent director on the board of directors except for cause or with the consent of the lender; or |
| ● | making payment on or issuing any subsidiary secured notes or debentures, or amending any agreements respecting such notes or debentures, if an event of default, potential event of default or termination event exists or would arise from any such action. |
In addition, the Company has agreed to maintain (i) a positive consolidated net income (as defined and calculated under the Agreement) for each complete fiscal year and (ii) a tangible net worth (again, as defined and calculated under the Agreement) of not less than $15 million, and (iii) maintain a borrowing base surplus or cash cushion sufficient to pay three to twelve months (increasing throughout 2013) of premiums and facility fees.
Consolidated net income and tangible net worth as of and for the year ended December 31, 2013, as calculated under the agreement, was $20,916,000 and $54,286,000 respectively.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Advances under the Agreement are subject to a borrowing base formula, which limits the availability of advances on the borrowing base calculation based on attributes of policies pledged to the facility. Over-concentration of policies by insurance carrier, over-concentration of policies by insurance carriers with ratings below a AA- rating, and the premiums and facility fees reserve are the three primary factors with the potential of limiting availability of funds on the facility. Total funds available for additional borrowings under the borrowing base formula criteria at December 31, 2013 and 2012, were $3,937,000 and $15,043,000 respectively.
On July 15, 2008, Holdings delivered a performance guaranty in favor of Autobahn pursuant to which it guaranteed the obligations of GWG Life, in its capacity as the seller and master servicer, under the Credit and Security Agreement and related documents. On January 29, 2013 and in connection with the Amended and Restated Credit and Security Agreement, Holdings delivered a reaffirmation of its performance guaranty. The obligations of Holdings under the performance guaranty and subsequent reaffirmation do not extend to the principal and interest owed by DLP II as the borrower under the credit facility.
( 7 ) Series I Secured notes payable
Series I Secured notes payable have been issued in conjunction with the GWG Series I Secured notes private placement memorandum dated August 25, 2009 (last revised November 15, 2010). On June 14, 2011 the Company closed the offering to additional investors, however, existing investors may elect to continue advancing amounts outstanding upon maturity subject to the Company’s option. Series I Secured notes have maturity dates ranging from six months to seven years with fixed interest rates varying from 5.65% to 9.55% depending on the term of the note. Interest is payable monthly, quarterly, annually or at maturity depending on the terms of the note. At December 31, 2013 and 2012 the weighted average interest rates of Series I Secured notes were 8.35% and 8.22%, respectively. The notes are secured by assets of GWG Life. The principal amount outstanding under these Series I Secured notes was $29,744,000 and $38,570,000 at December 31, 2013, and December 31, 2012, respectively. The difference between the amount outstanding on the Series I Secured notes and the carrying amount on the consolidated balance sheet is due to netting of unamortized deferred issuance costs. Overall, interest expense includes amortization of deferred financing and issuance costs of $606,000 and $1,170,000 in 2013 and 2012, respectively. Future expected amortization of deferred financing costs is $468,000 over the next six years.
On November 15, 2010, Jon Sabes and Steve Sabes pledged their ownership interests in the Company to the Series I Trust as security for advances under the Series I Trust arrangement.
The use of proceeds from the issuances of Series I Secured notes was limited to the following: (1) payment of commissions of Series I Secured note sales, (2) purchase life insurance policies, (3) pay premiums of life insurance policies, (4) pay principal and interest to Senior Liquidity Provider (DZ Bank), (5) pay portfolio or note operating fees or costs, (6) pay trustee (Wells Fargo Bank, N.A.), (7) pay servicer and collateral fees, (8) pay principal and interest on Series I Secured notes, (9) make distributions to equity holders for tax liability related to portfolio, (10) purchase interest rate caps, swaps, or hedging instruments, (11) pay GWG Series I Trustee fees, and (12) pay offering expenses.
On November 1, 2011, GWG entered into a Third Amended and Restated Note Issuance and Security Agreement with Lord Securities Corporation after receiving majority approval from the holders of Series I Secured notes. Among other things, the amended and restated agreement modified the use of proceeds and certain provisions relating to the distribution of collections and subordination of cash flow. Under the amended and restated agreement, GWG is no longer restricted as to its use of proceeds or subject to restrictions on certain distributions of collections and subordination of cash flows. Under the amended and restated agreement, GWG may extend the maturity of Series I Secured notes of a six month term for up to two additional six month terms, and Series I Secured notes of a one year term for up to six months.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Future contractual maturities of Series I Secured notes payable at December 31, 2013 are as follows:
| Years Ending December 31, | | | |
| 2014 | | $ | 16,111,000 | |
| 2015 | | | 6,700,000 | |
| 2016 | | | 2,030,000 | |
| 2017 | | | 4,085,000 | |
| 2018 | | | 754,000 | |
| Thereafter | | | 64,000 | |
| | | $ | 29,744,000 | |
( 8 ) Renewable Secured Debentures
The Company has registered with the Securities and Exchange Commission, effective January 2012, the offer and sale of $250,000,000 of secured debentures. Renewable Secured Debentures have maturity dates ranging from six months to seven years with fixed interest rates varying from 4.75% to 9.50% depending on the term of the note. Interest is payable monthly, annually or at maturity depending on the terms of the debenture. At December 31, 2013 and 2012, the weighted average interest rate of Renewable Secured Debentures was 7.53% and 7.65%, respectively. The debentures are secured by assets of GWG Life and GWG Holdings. The amount outstanding under these Renewable Secured Debentures was $134,891,000 and $57,609,000 at December 31, 2013 and 2012, respectively. The difference between the amount outstanding on the Renewable Secured Debentures and the carrying amount on the consolidated balance sheet is due to netting of unamortized deferred issuance costs and cash receipts for new issuances in process at December 31, 2013 and 2012. Amortization of deferred issuance costs was $1,843,000 and $506,000 in 2013 and 2012, respectively. Future expected amortization of deferred financing costs is $5,147,000. Subsequent to December 31, 2013, the Company has issued approximately an additional $17,715,000 in principal amount of these Renewable Secured Debentures.
The use of proceeds from the issuances of Renewable Secured Debentures is limited to the following: (1) payment of commissions on sales of Renewable Secured Debentures, (2) payment of offering expenses, (3) purchase of life insurance policies, (4) Payment of premiums on life insurance policies, (5) payment of principal and interest on Renewable Secured Debentures, (6) payment of portfolio operations expenses, and (7) for general working capital.
Future contractual maturities of Renewable Secured Debentures at December 31, 2013 are as follows:
| Years Ending December 31, | | | |
| 2013 | | $ | 34,258,000 | |
| 2014 | | | 41,509,000 | |
| 2015 | | | 29,152,000 | |
| 2016 | | | 7,667,000 | |
| 2017 | | | 5,381,000 | |
| Thereafter | | | 16,924,000 | |
| | | $ | 134,891,000 | |
The Company entered into an Indenture effective October 19, 2011 with Holdings as obligor, GWG Life as guarantor, and Bank of Utah as trustee for the benefit of the debenture holders. The Indenture has certain financial and nonfinancial covenants. The Company was in compliance with these covenants at December 31, 2013 and 2012.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
( 9 ) Convertible, redeemable preferred stock
The Company began offering 3,333,333 shares of convertible redeemable preferred stock (Series A preferred stock) for sale to accredited investors in a private placement on July 31, 2011. The offering of Series A preferred stock concluded on September 2, 2012 and resulted in 3,278,000 shares being issued for gross consideration of $24,582,000. As of December 31, 2013, 166,000 shares have been issued as a result of conversion of $1,163,000 in dividends into shares of Series A preferred stock. The Series A preferred stock was sold at an offering price of $7.50 per share. Series A preferred stock has a preferred dividend yield of 10% per annum, and each share has the right to convert into 1.5 shares of the Company’s common stock. The Company may elect to automatically convert the Series A preferred stock to common stock as described below. Series A preferred shareholders also received three-year warrants to purchase, at an exercise price per share of $6.25, one share of common stock for every 20 shares of Series A preferred stock purchased. The warrants are exercisable immediately. In the Certificate of Designations for the Series A preferred stock dated July 31, 2011, the Company agreed to permit preferred shareholders to sell their shares back to the Company for the stated value of $7.50 per share, plus accrued dividends, according to the following schedule:
| ● | Up to 33% of the holder’s unredeemed shares one year after issuance: |
| ● | Up to 66% of the holder’s unredeemed shares two years after issuance; and |
| ● | Up to 100% of the holder’s unredeemed shares three years after issuance. |
The Company’s obligation to redeem Series A preferred shares will terminate upon the Company completing a registration of its common stock with the SEC. The Company may redeem the Series A preferred shares at a price equal to 110% of their liquidation preference ($7.50 per share) at any time after December 15, 2012.
At the election of the Company, the Series A preferred shares may be automatically converted into the common stock of the Company in the event of either (1) a registered offering of the Company’s common stock with the SEC aggregating gross proceeds of at least $5.0 million at a price equal to or greater than $5.50 per share of common stock, or (2) the consent of shareholders holding at least a majority of the then-outstanding shares of Series A preferred stock. As of December 31, 2013, the Company had issued 3,450,000 preferred shares resulting in gross consideration of $25,799,000 (including cash proceeds, conversion of Series I Secured notes and accrued interest on Series I notes, and conversion of preferred dividends payable). In 2013, the Company redeemed 82,000 shares valued at $614,000 resulting in 3,368,000 shares outstanding with the gross value of $25,176,000. The Company incurred Series A preferred stock issuance costs of $2,838,000, of which $2,385,000 was amortized to additional paid in capital as of December 31, 2013, resulting in a carrying amount of $24,723,000.
The Company determined that the grant date fair value of the outstanding warrants attached to the Series A preferred stock was $395,000 for warrants issued through December 31, 2013. The Company may redeem outstanding warrants prior to their expiration, at a price of $0.01 per share upon 30 days written notice to the investors at any time after (i) the Company has completed a registration of its common stock with the SEC and (ii) the weighted-average sale price per share of common stock equals or exceeds $7.00 per share for ten consecutive trading days ending on the third business day prior to proper notice of such redemption. Total warrants outstanding as of December 31, 2013, were 831,909 with a weighted-average remaining life of 1.34 years. Total warrants outstanding at December 31, 2012, were 831,909 with a weighted-average remaining life of 2.34 years.
Dividends on the Series A preferred stock may be paid in either cash or additional shares of Series A preferred stock at the election of the holder and approval of the Company. The dividends are reported as an expense and included in the caption interest expense in the consolidated statements of operations.
The Company declared and accrued dividends of $2,528,000 and $2,227,000 in 2013 and 2012, respectively, pursuant to a board resolution declaring the dividend. 89,000 and 81,000 shares of Series A preferred stock were issued in lieu of cash dividends in 2013 and 2012. The shares issued in lieu of cash dividends were issued at $7.00 per share. As of December 31, 2013, Holdings has $629,000 of accrued preferred dividends which were paid or converted to shares of Series A preferred stock on January 15, 2014.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(10) Income taxes
The Company did not have any current income taxes for the years ended December 31, 2013 or 2012. The components of deferred income tax expense for the years ended December 31, 2013 and 2012, respectively, consisted of the following:
| Income tax provision: | | 2013 | | | 2012 | |
| Deferred: | | | | | | |
| Federal | | $ | 1,826,000 | | | $ | 1,002,000 | |
| State | | | 348,000 | | | | 191,000 | |
| Total income tax expense | | $ | 2,174,000 | | | $ | 1,193,000 | |
The following table provides a reconciliation of our income tax expense at the statutory federal tax rate to our actual income tax expense:
| | | 2013 | | | 2012 | |
| Statutory federal income tax | | $ | 673,000 | | 34.0 | % | | $ | 61,000 | | 34.0 | % |
| State income taxes, net of federal benefit | | | 298,000 | | 15.1 | % | | | 165,000 | | 91.2 | % |
| Series A preferred stock dividends | | | 860,000 | | 43.4 | % | | | 757,000 | | 420.1 | % |
| Other permanent differences | | | 343,000 | | 17.3 | % | | | 210,000 | | 116.5 | % |
| Total income tax expense | | $ | 2,174,000 | | 109.8 | % | | $ | 1,193,000 | | 661.8 | % |
The most significant temporary differences between GAAP net income and taxable net income are the treatment of interest costs with respect to the acquisition of the life insurance policies and revenue recognition with respect to the mark-to-market of life insurance portfolio.
The tax effects of temporary differences that give rise to deferred income taxes were as follows:
| | | 2013 | | | 2012 | |
| Deferred tax assets : | | | | | | |
| | | | | | | |
| Athena Securities Group, LTD, advisory services | | $ | - | | | $ | 1,455,000 | |
| Note receivable from related party | | | 2,023,000 | | | | 2,023,000 | |
| Net operating loss carryforwards | | | 2,596,000 | | | | 1,671,000 | |
| Other assets | | | 164,000 | | | | 20,000 | |
| Subtotal | | | 4,783,000 | | | | 5,169,000 | |
| Valuation allowance | | | (2,164,000 | ) | | | (2,023,000 | ) |
| Net deferred tax asset | | | 2,619,000 | | | | 3,146,000 | |
| | | | | | | | | |
| Deferred tax liabilities: | | | | | | | | |
| Investment in life settlements | | | (10,294,000 | ) | | | (8,647,000 | ) |
| Net deferred tax assets | | $ | (7,675,000 | ) | | $ | (5,501,000 | ) |
At December 31, 2013 and 2012, the Company had federal net operating loss (NOL) carryforwards of $4,182,000 and $4,129,000, respectively, which will begin to expire in 2031. Future utilization of NOL carryforwards is subject to limitation under Section 382 of the Internal Revenue Code. This section generally relates to a more than 50 percent change in ownership over a three-year period. We currently do not believe that any issuance of common stock has resulted in an ownership change under Section 382.
The Company provides for a valuation allowance when it is not considered more likely than not that our deferred tax assets will be realized. At December 31, 2013 and 2012, based upon all available evidence, the Company has provided a valuation allowance of $2,164,000, and 2,023,000, respectively, against deferred tax assets related to the likelihood of recovering the tax benefit of a capital loss on a note receivable from a related entity. The change was $141,000 and $0 for the years ended December 31, 2013 and 2012, respectively. Management believes all other deferred tax assets are recoverable.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
ASC 740, Income Taxes, requires the reporting of certain tax positions which do not meet a threshold of "more-likely-than-not" to be recorded as uncertain tax benefits. It is management's responsibility to determine whether it is "more-likely-than-not" that a tax position will be sustained upon examination, including resolution of any related appeals or litigation, based upon the technical merits of the position. Management has reviewed all income tax positions taken or expected to be taken for all open years and determined that the income tax positions are appropriately stated and supported. The Company does not anticipate that the total unrecognized tax benefits will significantly change prior to December 31, 2014.
Under the Company’s accounting policies, interest and penalties on unrecognized tax benefits, as well as interest received from favorable tax settlements are recognized as components of income tax expense. At December 31, 2013 and 2012, the Company has recorded no accrued interest or penalties related to uncertain tax positions.
The Company’s income tax returns for tax years ended December, 31 2013, 2012 and 2011 remain open to examination by the Internal Revenue Service and various state taxing jurisdictions.
(11) Common Stock
On July 11, 2011, the Company entered into a Purchase and Sale Agreement with Athena Securities Group, LTD and Athena Structured Funds PLC. Under this agreement, Holdings issued to Athena Securities Group, LTD (Athena) 989,000 shares of common stock, which was equal to 9.9% of the outstanding shares in the Company, in exchange for shares equal to 9.9% of the outstanding shares in Athena Structured Funds, PLC (Athena Funds) and cash of $5,000. In accordance with Accounting Standards Codification (ASC) 505-50, the Company recorded the share-based payment transaction with Athena at the fair value of the Company’s 989,000 shares of common stock issued as it was the most reliable measurable form of consideration in this exchange the total value ascribed to the common stock issued to Athena was $3.6 million. The $5,000 cash paid by Athena, which represents the fair value of the shares of Athena Funds, is included in financing activities of the Consolidated Statement of Cash Flows.
On June 28, 2013, GWG Holdings, Inc. entered into a new Purchase and Sale Agreement with Athena Securities Limited and Athena Securities Group Limited. The June 28, 2013 agreement terminated the parties’ original Purchase and Sale Agreement dated July 11, 2011. Under the new agreement, Holdings appointed Athena Securities Group Limited (i) as Holdings’ exclusive representative for the offer and sale of Holdings’ Renewable Secured Debentures in Ireland, and (ii) as a distributor for the offer and sale of those debentures in Europe and the Middle East, in each case until May 8, 2014. Any compensation payable to Athena Securities Group Limited will be in accordance with the compensation disclosures set forth in Holdings’ prospectus for the offering filed with the SEC on dated June 4, 2013, as the same may be supplemented or amended from time to time. In addition, the new agreement effected the sale by Athena Securities Limited to Holdings of 865,000 shares of Holdings’ common stock, and Holdings’ sale back to Athena Securities Group Limited of certain shares of GWG Securities International Public Limited Company (formerly known as Athena Structured Funds PLC) originally transacted under the original July 11, 2011 agreement. The Company recorded a non-cash gain on the transaction of $3,252,000.
(12) Stock Incentive Plan
The Company adopted the GWG Holdings, Inc. 2013 Stock Incentive Plan on March 27, 2013. The plan shall be administered by Compensation Committee of the Board of Directors of the Company. The Company’s Chief Executive Officer may, on a discretionary basis and without committee review or approval, grant incentives to new employees of the Company who are not Officers of the Company. Incentives under the plan may be granted in one or a combination of the following forms: (a) incentive stock options and non-statutory stock options; (b) stock appreciation rights; (c) stock awards; (d) restricted stock; (e) restricted stock units; and (f) performance shares. Eligible participants include officers and employees of the company, members of the Board of Directors, and consultants or other independent contractors. 2,000,000 shares are issuable under the plan. No person shall receive grants of stock options and SARs under the plan that exceed, in the aggregate 400,000 shares of common stock in any one year. The term of each stock option shall be determined by the committee but shall not exceed ten years. Vested stock options may be exercised in whole or part by the holder giving notice to the Company. The holder of the option may provide payment for the exercise price or surrender shares equal to the exercise price.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company issued stock options for 830,000 shares of common stock to employees, officers, and directors of the Company in 2013. Options for 403,000 shares vested immediately, and the remaining options vested over three years. The shares were issued with an exercise price of $3.76, which is equal to the estimated market price of the shares on the date of grant valued using Black-Scholes Binomial option pricing model. The expected volatility used in the Black-Scholes model valuation of options issued during the year was 19.73% annualized. The annual volatility rate is based on the standard deviation of the average continuously compounded rate of return of five selected comparable companies over the previous 52 weeks. Forfeiture rate of 15% is based on historical company information and expected future trend. In 2013 stock options for 106,500 shares were forfeited.
Stock options granted during the year ended December 31, 2013:
| | | Exercise | | | | | | | Binomial | | | Forfeiture | | | Compensation | |
| Grant Date | | Price | | | Shares | | Vesting | | Value | | | Factor | | | Expense | |
| 9/5/2013 | | $ | 3.76 | | | | 335,000 | | Immediate | | | 0.18 | | | | 0.8700 | | | $ | 52,461 | * |
| 9/5/2013 | | $ | 3.76 | | | | 94,333 | | 1 year | | | 0.18 | | | | 0.8500 | | | $ | 14,433 | |
| 9/5/2013 | | $ | 3.76 | | | | 94,333 | | 2 years | | | 0.30 | | | | 0.7225 | | | $ | 20,447 | |
| 9/5/2013 | | $ | 3.76 | | | | 94,334 | | 3 years | | | 0.41 | | | | 0.6141 | | | $ | 23,752 | |
| 9/30/2013 | | $ | 3.76 | | | | 8,000 | | Immediate | | | 0.33 | | | | 0.8700 | | | $ | 2,297 | * |
| 10/28/2013 | | $ | 3.76 | | | | 34,000 | | 1 year | | | 0.33 | | | | 0.8500 | | | $ | 3,927 | |
| 10/28/2013 | | $ | 3.76 | | | | 34,000 | | 2 years | | | 0.46 | | | | 0.7225 | | | $ | 4,653 | |
| 10/28/2013 | | $ | 3.76 | | | | 34,000 | | 3 years | | | 0.57 | | | | 0.6141 | | | $ | 4,901 | |
| 11/12/2013 | | $ | 3.76 | | | | 14,000 | | 1 year | | | 0.33 | | | | 0.8500 | | | $ | 9,537 | |
| 11/12/2013 | | $ | 3.76 | | | | 14,000 | | 2 years | | | 0.46 | | | | 0.7225 | | | $ | 11,300 | |
| 11/12/2013 | | $ | 3.76 | | | | 14,000 | | 3 years | | | 0.57 | | | | 0.6141 | | | $ | 11,901 | |
| 12/12/2013 | | $ | 3.76 | | | | 60,000 | | Immediate | | | 0.33 | | | | 0.8700 | | | $ | 17,226 | * |
| | | | | | | | 830,000 | | | | | | | | | | | | | | |
* Amounts reflected in current period earnings.
Outstanding stock options:
| | | Vested | | | Un-vested | | | Total | |
| Balance as of December 31, 2012 | | | - | | | | - | | | | - | |
| Granted during the year | | | 403,000 | | | | 427,000 | | | | 830,000 | |
| Exercised during the year | | | - | | | | - | | | | - | |
| Forfeited during the year | | | (27,500 | ) | | | (28,500 | ) | | | (56,000 | ) |
| Expired during the year | | | - | | | | - | | | | - | |
| Balance as of December 31, 2013 | | | 375,500 | | | | 398,500 | | | | 774,000 | |
Compensation expense related to un-vested options not yet recognized is $104,851. We expect to recognize this compensation expense over the next 2.7 years.
( 13 ) Net loss per common share
The Company began issuing Series A preferred stock September, 1, 2011, as described in note 9. The Series A preferred stock is anti-dilutive to the net loss per common share calculation at December 31, 2013 and 2012. The Company has also issued warrants to purchase common stock in conjunction with the sale of convertible preferred stock, as discussed in note 9. The warrants are anti-dilutive at December 31, 2013 and 2012 and have not been included in the fully diluted net loss per common share calculation.
| | | December 31, 2013 | | | December 31, 2012 | |
| NET LOSS | | $ | (194,955 | ) | | $ | (1,012,899 | ) |
| Accretion of preferred stock to liquidation value | | | (806,624 | ) | | | (1,578,405 | ) |
| LOSS ATTRIBUTABE TO COMMON SHAREHOLDERS | | $ | (1,001,579 | ) | | $ | (2,591,304 | ) |
| | | | | | | | | |
| Basic and diluted weighted average shares outstanding | | | 9,517,397 | | | | 9,989,000 | |
| NET LOSS PER COMMON SHARE (BASIC AND DILUTED) | | | | | | | | |
| Net loss | | $ | (0.02 | ) | | $ | (0.10 | ) |
| Accretion of value to preferred stock | | $ | (0.09 | ) | | $ | (0.16 | ) |
| Net loss attributable to common shareholders | | $ | (0.11 | ) | | $ | (0.26 | ) |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
( 14 ) Commitments
The Company entered into an office lease with U.S. Bank National Association as the landlord. The lease was effective April 22, 2012 with a term through August 31, 2015. The lease is for 11,695 square feet of office space located at 220 South Sixth Street, Minneapolis, Minnesota. The Company is obligated to pay base rent plus common area maintenance and a share of the building operating costs. Rent expenses under this and previous agreements were $200,000 and $162,000 in years ended December 31, 2013 and 2012, respectively. Minimum lease payments under the lease agreement effective April 22, 2012 are as follows:
| 2014 | | | 104,000 | |
| 2015 | | | 70,000 | |
| Total | | $ | 174,000 | |
( 15 ) Contingencies
Litigation - In the normal course of business, the Company is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the Company’s financial position, results of operations or cash flows.
Opportunity Finance, LLC, owned by Jon Sabes and Steven Sabes, is subject to litigation clawback claims by the bankruptcy trustee for third-party matters for payments that may have been deemed preference payments. In addition, Jon Sabes and Steven Sabes are subject to litigation clawback claims by the bankruptcy trustee for third-party matters for payments received from Opportunity Finance that may have been deemed preference payments. If the parties are unsuccessful in defending against these claims, their equity ownership in the Company may be sold or transferred to other parties to satisfy such claims. In addition, the Company loaned $1,000,000 to Opportunity Finance, LLC, and was repaid in full plus interest of $177,000. This investment amount may also be subject to clawback claims by the bankruptcy court.
( 16 ) Guarantees of secured debentures
Holdings has registered with the SEC the offer and sale $250,000,000 of secured debentures as described in note 8. The secured debentures are secured by the assets of Holdings as described in note 8 and a pledge of all the common stock by the largest shareholders. Obligations under the debentures are guaranteed by GWG Life. This guarantee involves the grant of a security interest in all the assets of GWG Life. The payment of principal and interest on the secured debentures is fully and unconditionally guaranteed by GWG Life. Substantially all of the Company’s life insurance policies are held by DLP II and the Trust. The policies held by DLP II are not collateral for the debenture obligations as such policies are collateral for the credit facility.
The consolidating financial statements are presented in lieu of separate financial statements and other related disclosures of the subsidiary guarantors and issuer because management does not believe that separate financial statements and related disclosures would be material to investors. There are currently no significant restrictions on the ability of Holdings or GWG Life, the guarantor subsidiary, to obtain funds from its subsidiaries by dividend or loan, except as follows. DLP II is a borrower under a credit agreement with Autobahn, with DZ Bank AG as agent, as described in note 6. The significant majority of insurance policies owned by the Company are subject to a collateral arrangement with DZ Bank AG described in notes 3 and 6. Under this arrangement, collection and escrow accounts are used to fund premiums of the insurance policies and to pay interest and other charges under the revolving credit facility. DZ Bank AG and Autobahn must authorize all disbursements from these accounts, including any distributions to GWG Life. Distributions are limited to an amount that would result in the borrowers (DLP II, GWG Life and Holdings) realizing an annualized rate of return on the equity funded amount for such assets of not more than 18%, as determined by DZ Bank AG. After such amount is reached, the credit agreement requires that excess funds be used for repayments of borrowings before any additional distributions may be made.
The following represents consolidating financial information as of December 31, 2013 and 2012, with respect to the financial position, and for the years ended December 31, 2013 and 2012 with respect to results of operations and cash flows of Holdings and its subsidiaries. The parent column presents the financial information of Holdings, the primary obligor of the secured debentures. The guarantor subsidiary column presents the financial information of GWG Life, the guarantor subsidiary of the secured debentures, presenting its investment in DLP II and Trust under the equity method. The non-guarantor subsidiaries column presents the financial information of all non-guarantor subsidiaries including DLP II, United Lending, GWG Broker Services and the Trust.
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidating Balance Sheets
| | | | | | Non-Guarantor Subsidiaries | | | | | |
| | | | | | | | | | | | |
| A S S E T S | |
| | | | | | | | | | | | |
| Cash and cash equivalents | | $ | 32,711,636 | | $ | 738,157 | | $ | - | | $ | - | | $ | 33,449,793 | |
| Restricted cash | | | - | | | 1,420,000 | | | 4,412,970 | | | - | | | 5,832,970 | |
| Investment in life settlements, at fair value | | | - | | | - | | | 234,672,794 | | | - | | | 234,672,794 | |
| Deferred financing costs, net | | | - | | | - | | | 357,901 | | | - | | | 357,901 | |
| Other assets | | | 381,883 | | | 484,510 | | | 200,625 | | | - | | | 1,067,018 | |
| Investment in subsidiaries | | | 129,839,241 | | | 159,798,490 | | | - | | | (289,637,731 | ) | | - | |
| | | | | | | | | | | | | | | | | |
| TOTAL ASSETS | | $ | 162,932,760 | | $ | 162,441,157 | | $ | 239,644,290 | | $ | (289,637,731 | ) | $ | 275,380,476 | |
| | | | | | | | | | | | | | | | | |
| L I A B I L I T I E S & S T O C K H O L D E R S' E Q U I T Y (D E F I C I T) | |
| | | | | | | | | | | | | | | | | |
| LIABILITIES | | | | | | | | | | | | | | | | |
| Revolving credit facility | | $ | - | | $ | - | | $ | 79,000,000 | | $ | - | | $ | 79,000,000 | |
| Series I Secured notes payable | | | - | | | 29,275,202 | | | - | | | - | | | 29,275,202 | |
| Renewable Secured Debentures | | | 131,646,062 | | | - | | | - | | | - | | | 131,646,062 | |
| Accounts payable | | | 233,214 | | | 106,655 | | | 500,000 | | | - | | | 839,869 | |
| Interest payable | | | 3,806,820 | | | 3,065,465 | | | 337,123 | | | - | | | 7,209,408 | |
| Other accrued expenses | | | 340,812 | | | 154,594 | | | 8,677 | | | - | | | 504,083 | |
| Deferred taxes | | | 7,675,174 | | | - | | | - | | | - | | | 7,675,174 | |
| TOTAL LIABILITIES | | | 143,702,082 | | | 32,601,916 | | | 79,845,800 | | | - | | | 256,149,798 | |
| | | | | | | | | | | | | | | | | |
| CONVERTIBLE, REDEEMABLE PREFERRED STOCK | | | 24,722,693 | | | - | | | - | | | - | | | 24,722,693 | |
| | | | | | | | | | | | | | | | | |
| STOCKHOLDERS’ EQUITY (DEFICIT) | | | | | | | | | | | | | | | | |
| Member capital | | | - | | | 129,839,241 | | | 159,798,490 | | | (289,637,731 | ) | | - | |
| Common stock | | | 9,124 | | | - | | | - | | | - | | | 9,124 | |
| Additional paid-in capital | | | 2,937,438 | | | - | | | - | | | - | | | 2,937,438 | |
| Accumulated deficit | | | (8,438,577 | ) | | - | | | - | | | - | | | (8,438,577 | ) |
| TOTAL STOCKHOLDERS’ EQUITY (DEFICIT) | | | (5,492,015 | ) | | 129,839,241 | | | 159,798,490 | | | (289,637,731 | ) | | (5,492,015 | ) |
| | | | | | | | | | | | | | | | | |
| TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY (DEFICIT) | | $ | 162,932,760 | | $ | 162,441,157 | | $ | 239,644,290 | | $ | (289,637,731 | ) | $ | 275,380,476 | |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidating Balance Sheets (continued)
| | | | | | Non-Guarantor Subsidiaries | | | | | |
| | | | | | | | | | | | |
| A S S E T S | |
| | | | | | | | | | | | |
| Cash and cash equivalents | | $ | 25,035,579 | | $ | 2,461,465 | | $ | - | | $ | - | | $ | 27,497,044 | |
| Restricted cash | | | - | | | 1,748,700 | | | 344,392 | | | - | | | 2,093,092 | |
| Due from related parties | | | - | | | 8,613 | | | - | | | - | | | 8,613 | |
| Investment in life settlements, at fair value | | | - | | | - | | | 164,317,183 | | | - | | | 164,317,183 | |
| Deferred financing costs, net | | | - | | | - | | | 97,040 | | | - | | | 97,040 | |
| Death benefits receivable | | | - | | | - | | | 2,850,000 | | | - | | | 2,850,000 | |
| Other assets | | | 96,994 | | | 202,979 | | | 785,090 | | | - | | | 1,085,063 | |
| Investment in subsidiaries | | | 60,608,585 | | | 96,914,613 | | | - | | | (157,523,198 | ) | | - | |
| | | | | | | | | | | | | | | | | |
| TOTAL ASSETS | | $ | 85,741,158 | | $ | 101,336,370 | | $ | 168,393,705 | | $ | (157,523,198 | ) | $ | 197,948,035 | |
| | | | | | | | | | | | | | | | | |
| L I A B I L I T I E S & S T O C K H O L D E R S' E Q U I T Y (D E F I C I T) | |
| | | | | | | | | | | | | | | | | |
| LIABILITIES | | | | | | | | | | | | | | | | |
| Revolving credit facility | | $ | - | | $ | - | | $ | 71,000,000 | | $ | - | | $ | 71,000,000 | |
| Series I Secured notes payable | | | - | | | 37,844,711 | | | - | | | - | | | 37,844,711 | |
| Renewable Secured Debentures | | | 55,718,950 | | | - | | | - | | | - | | | 55,718,950 | |
| Accounts payable | | | 73,084 | | | 104,975 | | | 292,000 | | | - | | | 470,059 | |
| Interest payable | | | 905,017 | | | 2,444,097 | | | 128,206 | | | - | | | 3,477,320 | |
| Other accrued expenses | | | 898,611 | | | 382,522 | | | 10,366 | | | - | | | 1,291,499 | |
| Deferred taxes | | | 5,501,407 | | | - | | | - | | | - | | | 5,501,407 | |
| TOTAL LIABILITIES | | | 63,097,069 | | | 40,776,305 | | | 71,430,572 | | | - | | | 175,303,946 | |
| | | | | | | | | | | | | | | | | |
| CONVERTIBLE, REDEEMABLE PREFERRED STOCK | | | 23,905,878 | | | - | | | - | | | - | | | 23,905,878 | |
| | | | | | | | | | | | | | | | | |
| STOCKHOLDERS’ EQUITY (DEFICIT) | | | | | | | | | | | | | | | | |
| Member capital | | | - | | | 60,560,065 | | | 96,963,133 | | | (157,523,198 | ) | | - | |
| Common stock | | | 9,989 | | | - | | | - | | | - | | | 9,989 | |
| Additional paid-in capital | | | 6,971,844 | | | - | | | - | | | - | | | 6,971,844 | |
| Accumulated deficit | | | (8,243,622 | ) | | - | | | - | | | - | | | (8,243,622 | ) |
| TOTAL STOCKHOLDERS’ EQUITY (DEFICIT) | | | (1,261,789 | ) | | 60,560,065 | | | 96,963,133 | | | (157,523,198 | ) | | (1,261,789 | ) |
| | | | | | | | | | | | | | | | | |
| TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY (DEFICIT) | | $ | 85,741,158 | | $ | 101,336,370 | | $ | 168,393,705 | | $ | (157,523,198 | ) | $ | 197,948,035 | |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidating Statements of Operations
| For the year ended December 31, 2013 | | Parent | | | Guarantor Subsidiary | | | Non-Guarantor Subsidiaries | | | Eliminations | | | Consolidated | |
| REVENUE | | | | | | | | | | | | | | | |
| Contract servicing fees | | $ | - | | | $ | 3,710,737 | | | $ | - | | | $ | (3,710,737 | ) | | $ | - | |
| Gain on life settlements, net | | | - | | | | - | | | | 29,513,642 | | | | - | | | | 29,513,642 | |
| Gain upon termination of agreement with Athena Securities Ltd. | | | 3,252,400 | | | | - | | | | - | | | | - | | | | 3,252,400 | |
| Interest and other income | | | 81,931 | | | | 2,612,420 | | | | 79,767 | | | | (2,475,386 | ) | | | 298,732 | |
| TOTAL REVENUE | | | 3,334,331 | | | | 6,323,157 | | | | 29,593,409 | | | | (6,186,123 | ) | | | 33,064,774 | |
| | | | | | | | | | | | | | | | | | | | | |
| EXPENSES | | | | | | | | | | | | | | | | | | | | |
| Origination and servicing fees | | | - | | | | - | | | | 3,710,737 | | | | (3,710,737 | ) | | | - | |
| Interest expense | | | 11,800,718 | | | | 3,684,811 | | | | 5,277,115 | | | | - | | | | 20,762,644 | |
| Employee compensation and benefits | | | 3,424,383 | | | | 1,619,465 | | | | - | | | | - | | | | 5,043,848 | |
| Legal and professional fees | | | 1,206,520 | | | | 514,728 | | | | 32,961 | | | | - | | | | 1,754,209 | |
| Other expenses | | | 2,004,636 | | | | 1,463,084 | | | | 2,532,927 | | | | (2,475,386 | ) | | | 3,525,261 | |
| TOTAL EXPENSES | | | 18,436,257 | | | | 7,282,088 | | | | 11,553,740 | | | | (6,186,123 | ) | | | 31,085,962 | |
| | | | | | | | | | | | | | | | | | | | | |
| INCOME (LOSS) BEFORE EQUITY IN | | | | | | | | | | | | | | | | | | | | |
| INCOME OF SUBSIDIARIES | | | (15,101,926 | ) | | | (958,931 | ) | | | 18,039,669 | | | | - | | | | 1,978,812 | |
| | | | | | | | | | | | | | | | | | | | | |
| EQUITY IN INCOME OF SUBSIDIARIES | | | 17,080,738 | | | | 18,088,189 | | | | - | | | | (35,168,927 | ) | | | - | |
| | | | | | | | | | | | | | | | | | | | | |
| NET INCOME BEFORE INCOME TAXES | | | 1,978,812 | | | | 17,129,258 | | | | 18,039,669 | | | | (35,168,927 | ) | | | 1,978,812 | |
| | | | | | | | | | | | | | | | | | | | | |
| INCOME TAX EXPENSE | | | 2,173,767 | | | | - | | | | - | | | | - | | | | 2,173,767 | |
| NET INCOME (LOSS) | | | (194,955 | ) | | | 17,129,258 | | | | 18,039,669 | | | | (35,168,927 | ) | | | (194,955 | ) |
| Accretion of preferred stock to liquidation value | | | (806,624 | ) | | | - | | | | - | | | | - | | | | (806,624 | ) |
| LOSS ATTRIBUTABLE TO COMMON SHAREHOLDERS | | $ | (1,001,579 | ) | | $ | 17,129,258 | | | $ | 18,039,669 | | | $ | (35,168,927 | ) | | $ | (1,001,579 | ) |
| For the year ended December 31, 2012 | | Parent | | | Guarantor Subsidiary | | | Non-Guarantor Subsidiaries | | | Eliminations | | | Consolidated | |
| REVENUE | | | | | | | | | | | | | | | |
| Contract servicing fees | | $ | - | | | $ | 2,539,437 | | | $ | - | | | $ | (2,539,437 | ) | | $ | - | |
| Gain on life settlements, net | | | - | | | | - | | | | 17,436,743 | | | | - | | | | 17,436,743 | |
| Interest and other income | | | 42,668 | | | | 223,311 | | | | 42,747 | | | | (219,671 | ) | | | 89,055 | |
| TOTAL REVENUE | | | 42,668 | | | | 2,762,748 | | | | 17,479,490 | | | | (2,759,108 | ) | | | 17,525,798 | |
| | | | | | | | | | | | | | | | | | | | | |
| EXPENSES | | | | | | | | | | | | | | | | | | | | |
| Origination and servicing fees | | | - | | | | - | | | | 2,539,437 | | | | (2,539,437 | ) | | | - | |
| Interest expense | | | 4,311,719 | | | | 4,833,058 | | | | 1,953,521 | | | | (219,671 | ) | | | 10,878,627 | |
| Employee compensation and benefits | | | - | | | | 2,903,373 | | | | - | | | | - | | | | 2,903,373 | |
| Legal and professional fees | | | 899,588 | | | | 162,323 | | | | 14,783 | | | | - | | | | 1,076,694 | |
| Other expenses | | | 937,562 | | | | 1,496,752 | | | | 52,499 | | | | - | | | | 2,486,813 | |
| TOTAL EXPENSES | | | 6,148,869 | | | | 9,395,506 | | | | 4,560,240 | | | | (2,759,108 | ) | | | 17,345,507 | |
| | | | | | | | | | | | | | | | | | | | | |
| INCOME (LOSS) BEFORE EQUITY IN | | | | | | | | | | | | | | | | | | | | |
| INCOME OF SUBSIDIARIES | | | (6,106,201 | ) | | | (6,632,758 | ) | | | 12,919,250 | | | | - | | | | 180,291 | |
| | | | | | | | | | | | | | | | | | | | | |
| EQUITY IN INCOME OF SUBSIDIARIES | | | 6,286,492 | | | | 13,035,698 | | | | - | | | | (19,322,190 | ) | | | - | |
| | | | | | | | | | | | | | | | | | | | | |
| NET INCOME BEFORE INCOME TAXES | | | 180,291 | | | | 6,402,940 | | | | 12,919,250 | | | | (19,322,190 | ) | | | 180,291 | |
| | | | | | | | | | | | | | | | | | | | | |
| INCOME TAX EXPENSE | | | 1,193,190 | | | | - | | | | - | | | | - | | | | 1,193,190 | |
| NET INCOME (LOSS) | | | (1,012,899 | ) | | | 6,402,940 | | | | 12,919,250 | | | | (19,322,190 | ) | | | (1,012,899 | ) |
| Accretion of preferred stock to liquidation value | | | (1,578,405 | ) | | | - | | | | - | | | | - | | | | (1,578,405 | ) |
| LOSS ATTRIBUTABLE TO COMMON SHAREHOLDERS | | $ | (2,591,304 | ) | | $ | 6,402,940 | | | $ | 12,919,250 | | | $ | (19,322,190 | ) | | $ | (2,591,304 | ) |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidating Statements of Cash Flows
| For the year ended December 31, 2013 | | Parent | | | Guarantor Subsidiary | | | Non-Guarantor Subsidiaries | | | Eliminations | | | Consolidated | |
| | | | | | | | | | | | | | | | |
| CASH FLOWS FROM OPERATING ACTIVITIES | | | | | | | | | | | | | | | |
| Net income (loss) | | $ | (194,955 | ) | | $ | 17,129,258 | | | $ | 18,039,669 | | | $ | (35,168,927 | ) | | $ | (194,955 | ) |
| Adjustments to reconcile net income (loss) to cash flows from operating activities: | | | | | | | | | | | | | | | | | | | | |
| Equity of subsidiaries | | | (17,080,738 | ) | | | (18,088,189 | ) | | | - | | | | 35,168,927 | | | | - | |
| Gain on life settlements | | | - | | | | - | | | | (39,337,542 | ) | | | - | | | | (39,337,542 | ) |
| Amortization of deferred financing and issuance costs | | | 1,908,248 | | | | 823,004 | | | | (260,861 | ) | | | - | | | | 2,470,391 | |
| Deferred income taxes | | | 2,173,767 | | | | - | | | | - | | | | - | | | | 2,173,767 | |
| Preferred stock issued for dividends | | | 623,899 | | | | - | | | | - | | | | - | | | | 623,899 | |
| Convertible, redeemable preferred stock dividends payable | | | 255 | | | | - | | | | - | | | | - | | | | 255 | |
Gain upon termination of agreement with Athena Securities Ltd. | | | (3,252,400 | ) | | | | | | | | | | | | | | | (3,252,400 | ) |
| (Increase) decrease in operating assets: | | | | | | | | | | | | | | | | | | | | |
| Due from related parties | | | - | | | | 8,613 | | | | - | | | | - | | | | 8,613 | |
| Death benefits receivable | | | - | | | | - | | | | 2,850,000 | | | | - | | | | 2,850,000 | |
| Other assets | | | (51,522,808 | ) | | | (45,077,218 | ) | | | - | | | | 96,033,606 | | | | (566,420 | ) |
| Increase (decrease) in operating liabilities: | | | | | | | | | | | | | | | | | | | | |
| Accounts payable | | | 160,130 | | | | 1,680 | | | | 208,000 | | | | - | | | | 369,810 | |
| Interest payable | | | 2,399,975 | | | | 809,540 | | | | 208,918 | | | | - | | | | 3,418,433 | |
| Other accrued expenses | | | 277,321 | | | | (224,990 | ) | | | (1,690 | ) | | | - | | | | 50,641 | |
| NET CASH FLOWS USED IN OPERATING ACTIVITIES | | | (64,507,306 | ) | | | (44,618,302 | ) | | | (18,293,506 | ) | | | 96,033,606 | | | | (31,385,508 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES | | | | | | | | | | | | | | | | | | | | |
| Investment in life settlements | | | - | | | | - | | | | (34,997,500 | ) | | | - | | | | (34,997,500 | ) |
| Proceeds from settlement of life settlements | | | - | | | | - | | | | 4,563,896 | | | | - | | | | 4,563,896 | |
| NET CASH FLOWS USED IN INVESTING ACTIVITIES | | | - | | | | - | | | | (30,433,604 | ) | | | - | | | | (30,433,604 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES | | | | | | | | | | | | | | | | | | | | |
| Net proceeds from revolving credit facility | | | - | | | | - | | | | 8,000,000 | | | | - | | | | 8,000,000 | |
| Payments for redemption of Series I Secured notes payable | | | - | | | | (8,671,624 | ) | | | - | | | | - | | | | (8,671,624 | ) |
| Proceeds from issuance of debentures | | | 85,260,976 | | | | - | | | | - | | | | - | | | | 85,260,976 | |
| Payments for issuance of debentures | | | (4,320,542 | ) | | | - | | | | - | | | | - | | | | (4,320,542 | ) |
| Payments for redemption of debentures | | | (8,143,363 | ) | | | - | | | | - | | | | - | | | | (8,143,363 | ) |
| Proceeds (payments) from restricted cash | | | - | | | | 328,700 | | | | (4,068,578 | ) | | | - | | | | (3,739,878 | ) |
| Issuance of member capital | | | - | | | | 51,237,918 | | | | 44,795,688 | | | | (96,033,606 | ) | | | - | |
| Payments for redemption of preferred stock | | | (613,708 | ) | | | - | | | | - | | | | - | | | | (613,708 | ) |
| NET CASH FLOWS PROVIDED BY FINANCING ACTIVITIES | | | 72,183,363 | | | | 42,894,994 | | | | 48,727,110 | | | | (96,033,606 | ) | | | 67,771,861 | |
| | | | | | | | | | | | | | | | | | | | | |
| NET INCREASE IN CASH AND CASH EQUIVALENTS | | | 7,676,057 | | | | (1,723,308 | ) | | | - | | | | - | | | | 5,952,749 | |
| | | | | | | | | | | | | | | | | | | | | |
| CASH AND CASH EQUIVALENTS | | | | | | | | | | | | | | | | | | | | |
| BEGINNING OF THE YEAR | | | 25,035,579 | | | | 2,461,465 | | | | - | | | | - | | | | 27,497,044 | |
| | | | | | | | | | | | | | | | | | | | | |
| END OF THE YEAR | | $ | 32,711,636 | | | $ | 738,157 | | | $ | - | | | $ | - | | | $ | 33,449,793 | |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidating Statements of Cash Flows (continued)
| For the year ended December 31, 2012 | | Parent | | | Guarantor Subsidiary | | | Non-Guarantor Subsidiaries | | | Eliminations | | | Consolidated | |
| | | | | | | | | | | | | | | | |
| CASH FLOWS FROM OPERATING ACTIVITIES | | | | | | | | | | | | | | | |
| Net income (loss) | | $ | (1,012,899 | ) | | $ | 6,402,940 | | | $ | 12,919,250 | | | $ | (19,322,190 | ) | | $ | (1,012,899 | ) |
| Adjustments to reconcile net income (loss) to cash flows from operating activities: | | | | | | | | | | | | | | | | | | | | |
| Equity of subsidiaries | | | (6,286,492 | ) | | | (13,035,698 | ) | | | - | | | | 19,322,190 | | | | - | |
| Gain on life settlements | | | - | | | | - | | | | (27,856,374 | ) | | | - | | | | (27,856,374 | ) |
| Amortization of deferred financing and issuance costs | | | 506,279 | | | | 1,169,755 | | | | 232,896 | | | | - | | | | 1,908,930 | |
| Deferred income taxes | | | 1,193,190 | | | | - | | | | - | | | | - | | | | 1,193,190 | |
| Preferred stock issued for dividends | | | 567,478 | | | | - | | | | - | | | | - | | | | 567,478 | |
| Convertible, redeemable preferred stock dividends payable | | | 338,695 | | | | - | | | | - | | | | - | | | | 338,695 | |
| (Increase) decrease in operating assets: | | | | | | | | | | | | | | | | | | | | |
| Due from related parties | | | - | | | | (6,348 | ) | | | - | | | | - | | | | (6,348 | ) |
| Death benefits receivable | | | - | | | | - | | | | (2,850,000 | ) | | | - | | | | (2,850,000 | ) |
| Other assets | | | (33,137,100 | ) | | | (22,587,090 | ) | | | (772,090 | ) | | | 55,627,115 | | | | (869,165 | ) |
| Increase (decrease) in operating liabilities: | | | | | | | | | | | | | | | | | | | | |
| Accounts payable | | | (306,373 | ) | | | 48,665 | | | | - | | | | - | | | | (257,708 | ) |
| Interest payable | | | 918,374 | | | | 806,058 | | | | 20,167 | | | | - | | | | 1,744,599 | |
| Other accrued expenses | | | (55,890 | ) | | | (16,352 | ) | | | 2,950 | | | | - | | | | (69,292 | ) |
| NET CASH FLOWS USED IN OPERATING ACTIVITIES | | | (37,274,738 | ) | | | (27,218,070 | ) | | | (18,303,201 | ) | | | 55,627,115 | | | | (27,168,894 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES | | | | | | | | | | | | | | | | | | | | |
| Investment in life settlements | | | - | | | | - | | | | (15,067,495 | ) | | | - | | | | (15,067,495 | ) |
| Proceeds from settlement of life settlements | | | - | | | | - | | | | 1,067,210 | | | | - | | | | 1,067,210 | |
| NET CASH FLOWS USED IN INVESTING ACTIVITIES | | | - | | | | - | | | | (14,000,285 | ) | | | - | | | | (14,000,285 | ) |
| | | | | | | | | | | | | | | | | | | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES | | | | | | | | | | | | | | | | | | | | |
| Net proceeds from revolving credit facility | | | - | | | | - | | | | 11,000,000 | | | | - | | | | 11,000,000 | |
| Payments for redemption of Series I Secured notes payable | | | - | | | | (7,477,197 | ) | | | - | | | | - | | | | (7,477,197 | ) |
| Proceeds from issuance of debentures | | | 58,553,280 | | | | - | | | | - | | | | - | | | | 58,553,280 | |
| Payments for issuance of debentures | | | (3,024,545 | ) | | | - | | | | - | | | | - | | | | (3,024,545 | ) |
| Payments for redemption of debentures | | | (112,500 | ) | | | - | | | | - | | | | - | | | | (112,500 | ) |
| Proceeds (payments) from restricted cash | | | - | | | | (926,473 | ) | | | 3,627,683 | | | | - | | | | 2,701,210 | |
| Issuance of member capital | | | - | | | | 37,951,312 | | | | 17,675,803 | | | | (55,627,115 | ) | | | - | |
| Issuance of preferred stock | | | 6,414,273 | | | | - | | | | - | | | | - | | | | 6,414,273 | |
| Payments for issuance of preferred stock | | | (1,266,647 | ) | | | - | | | | - | | | | - | | | | (1,266,647 | ) |
| NET CASH FLOWS PROVIDED BY FINANCING ACTIVITIES | | | 60,563,861 | | | | 29,547,642 | | | | 32,303,486 | | | | (55,627,115 | ) | | | 66,787,874 | |
| | | | | | | | | | | | | | | | | | | | | |
| NET INCREASE IN CASH AND CASH EQUIVALENTS | | | 23,289,123 | | | | 2,329,572 | | | | - | | | | - | | | | 25,618,695 | |
| | | | | | | | | | | | | | | | | | | | | |
| CASH AND CASH EQUIVALENTS | | | | | | | | | | | | | | | | | | | | |
| BEGINNING OF THE YEAR | | | 1,746,456 | | | | 131,893 | | | | - | | | | - | | | | 1,878,349 | |
| | | | | | | | | | | | | | | | | | | | | |
| END OF THE YEAR | | $ | 25,035,579 | | | $ | 2,461,465 | | | $ | - | | | $ | - | | | $ | 27,497,044 | |
GWG HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
( 17 ) Concentration
GWG purchases life insurance policies written by life insurance companies having investment grade ratings by independent rating agencies. As a result there may be certain concentrations of contracts with life insurance companies. The following summarizes the face value of insurance contracts with specific life insurance companies exceeding 10% of the total face value held by the Company.
| | | December 31, | | | December 31, | |
| | | 2013 | | | 2012 | |
| Life insurance company | | % | | | % | |
| | | | | | | |
| Company A | | | 16.58 | | | | 16.96 | |
| Company B | | | 11.34 | | | | 13.80 | |
| Company C | | | * | | | | 11.36 | |
* - percentage does not exceed 10% of the total face value.
The following summarizes the number of insurance contracts held in specific states exceeding 10% of the total face value held by the Company:
| | | December 31, | | | December 31, | |
| | | 2013 | | | 2012 | |
| State of residence | | % | | | % | |
| | | | | | | |
| California | | | 28.14 | | | | 28.44 | |
| Florida | | | 15.59 | | | | 13.27 | |
| New York | | | 10.65 | | | | 11.85 | |
$250,000,000
GWG HOLDINGS, INC.
Renewable Secured Debentures
PROSPECTUS
, 2014
