EEA Life Settlements Fund PCC Limited. Annual Report and Audited Consolidated Financial Statements for the year ended 31 December 2011

Transcription

1 Annual Report and Audited Consolidated Financial Statements for the year ended 31 December 2011

2 Directory Directors M A Colton (Chairman) C Daly A J Simpson S A Shaw (appointed 13 March 2012) The address for each of the directors is that of the registered office Registered Office Regency Court Glategny Esplanade St Peter Port Guernsey Manager EEA Fund Management (Guernsey) Limited PO Box 282 Regency Court Glategny Esplanade St Peter Port Guernsey GY1 3RH Administrator, Secretary and Registrar International Administration Group (Guernsey) Limited PO Box 282 Regency Court Glategny Esplanade St Peter Port Guernsey GY1 3RH Investment Adviser ViaSource Funding Group LLC 106 Allen Road Bernards Township New Jersey USA Legal Advisers to the Fund Ogier Ogier House St Julian s Avenue St Peter Port Guernsey GY1 1WA Custodian BNP Paribas Securities Services SCA, Guernsey Branch (formerly BNP Paribas Trust Company (Guernsey) Limited) BNP Paribas House St Julian s Avenue St Peter Port Guernsey GY1 1WA Sub Custodian The Bank of New York Mellon (until 4 April 2011) 101 Barclay Street 21W New York NY10286 USA RBS Citizens N.A. (from 4 April 2011) One Citizens Plaza RC0310 Providence R USA Sponsor Ogier Corporate Finance Limited Whiteley Chambers Don Street St Helier Jersey JE4 9WG Auditors Ernst & Young LLP PO Box 9 Royal Chambers St Julian s Avenue St Peter Port Guernsey GY1 4AF Page 1

3 Investment adviser s report ViaSource Funding Group, LLC ( ViaSource ) is the investment adviser to EEA Life Settlements Fund PCC Limited (the Fund ), selecting and managing a pool of policies that meet the purchasing criteria outlined in the prospectus. The purchasing criteria were designed to provide a pool of policies that are diversified among insurers, insureds and illnesses, from creditworthy insurance companies and are accurately underwritten for life expectancy. The policies are purchased utilising a financial model where each policy is reviewed individually for internal rates of return and life expectancy. ViaSource has employed its normal procedures to select the appropriate life insurance policies for purchase for the Fund. In addition, ViaSource s team of medical professionals tracks the progress of the insureds. Prior to purchase all policies are certified by Mills, Potoczak and Company, who act as servicing agent, as to meeting the purchasing criteria. The cash reserves and policies purchased are held in the Trust Department of RBS Citizens N.A. and therefore are not part of the assets of the bank. The Fund has purchased a total of 926 policies from 108 different insurers and 729 separate insureds. The weighted average current insureds were 84 years old at year end. 250 of the policies with a combined Death Benefit of US$341.9 million have matured since inception. The policies that matured did so at 58% of their projected life expectancy and represented 18% of the total Net Death Benefit of policies purchased and 27% of the number of policies purchased. 172 of the policies with a combined Death Benefit of $217.6 million were past their projected life expectancy and 87 of the policies with a combined Death Benefit of $99.3 million were more than 12 months past their projected life expectancy. These represent 138 and 70 separate insureds and 14.3% and 6.5% of the total Net Death Benefit of policies purchased, respectively. The 674 policies outstanding as of 31 December 2011 had an average Face Value of US$2.3 million and an average life expectancy of 45.0 months. Policies are issued by 86 insurance companies with a weighted average rating of A+. Current Market Overview The insurance market in the United States is estimated by several research groups to be in excess of US$21 trillion with over US$1 trillion of policies lapsing without value to the policyholders annually. The policies purchased by the life settlement industry are estimated to be approximately US$10 billion annually. The market for selling policies to third parties is relatively new in the United States with most individuals not aware of the ability to sell their policy. Therefore, the potential growth for the market is tremendous as more individuals become aware of the product. In addition, independent studies have concluded that Life Settlements provide a valuable benefit to individuals and should be an integral part of their financial planning in the future. Currently, financial institutions including security firms, banks and hedge funds are purchasing policies in the market with life expectancies greater than 4 years and varying other criteria including minimum age of insureds. Most firms utilise actuarial models where policies purchased are evaluated on a pool basis with actuarial and probability assumptions allied to the policies to determine the projected return and cash flows from the pools. ViaSource believes that as the Life Settlement market matures and more firms enter the market this will increase the awareness of the market and availability of policies to be purchased. In addition, ViaSource believes that adherence to its strict underwriting procedures will allow it to continue to meet the objectives of the fund. ViaSource Funding Group LLC June 2013 Page 2

4 Directors Report The Directors present their annual report and the audited consolidated financial statements of the Group for the year ended 31 December Business activities The Company was registered in Guernsey on 20 June The Group s investment objective is to acquire and trade the property interest in a diversified portfolio of outstanding life insurance policies issued primarily in the United States. Authorisation The Company has been authorised by the Guernsey Financial Services Commission ( the Commission ) under The Protection of Investors (Bailiwick of Guernsey) Law, 1987, as amended, as a Class B Scheme as defined in The Collective Investment Schemes (Class B) Rules Each of the Company s active Cells was listed on the Channel Islands Stock Exchange. The listing was suspended on 30 November Group reorganisation Until 28 February 2010, the Cells invested in the life policies through the Company s wholly owned subsidiary, EEA Life Settlements Master Fund Limited (the Master Fund ). On 1 March 2010, the Group restructured its operations with the result that the Group s investments in life policies are now held by EEA Life Settlements Inc, a corporation registered in Delaware, which is a wholly owned subsidiary of EEA Life Settlements Master Fund II Limited ( Master Fund II ), a company registered in Guernsey. On 1 April 2010, the Master Fund and Master Fund II became wholly owned subsidiaries of EEA Life Settlement Holdings Limited, a company registered in Guernsey. The Cells invest in EEA Life Settlement Holdings Limited. Results and dividends The results for the year are set out in the Consolidated Statement of Comprehensive Income on page 10. Distributions paid by the Company during the year are disclosed in note 7. Directors The Directors of the Company who served during the year and to date are as stated on page 1. Directors interests The Directors, except Alison Simpson, have no disclosable interests in the shares of the Company. Alison Simpson and related parties hold an interest of 726 (2010: 1,337) shares in the Company s Sterling Acc Cell at 31 December Alison Simpson is a Director of the Administrator, Secretary and Registrar of the Company, International Administration Group (Guernsey) Limited, and, until 22 October 2010, the Company s Manager, EEA Fund Management (Guernsey) Limited (the Manager ). Chris Daly is Managing Director of ViaSource Funding Group LLC, which is the Investment Adviser. Simon Shaw is the Chairman and principal shareholder of EEA Fund Management Limited and a director of EEA Fund Management (Guernsey) Limited. Dealing suspension and going concern Following a meeting on 30 November 2011 the Board declared an immediate suspension of the valuation of the net asset value of all classes of participating shares in each cell of the Fund and of the issue, sale, purchase, redemption or conversion of shares of each class. This followed the issue of the UK Financial Services Authority (FSA) draft guidance on Traded Life Policy Investments on 28 November which led to cancelled subscriptions and above normal redemption levels. The liquidity levels of the Fund were insufficient to satisfy the redemption requests in full. Page 3

5 Directors Report (continued) The Fund continues to be suspended and is likely to remain so until a restructuring is completed. The Board are considering options for restructuring the Fund. These are expected to include (i) a continuation fund with additional dealing restrictions, (ii) a run-off vehicle with periodic distributions as policies mature and proceeds are received. The continuation fund will continue to invest in the Fund s current portfolio of assets and investments and also any future investments made by the Fund using the pro rata share of proceeds received on maturities/realisations attributable to continuing shares, such future investments to be made via the Fund investing in units issued by a newly established Irish unit trust fund. For option (ii) shares will be re-designated on a one-for-one basis for participating redeemable preference shares in a newly created run-off cell. Cash distributions will be made from that run-off cell s pro rata share of the proceeds received on maturities/realisations of investments. It is intended, that in the future there will be an opportunity where new investors are sourced who are willing to purchase shares from run-off investors at a discount to net asset value. New investors will then have an option to acquire shares in a cell of the continuation fund. The Fund has sufficient available cash to meet premium and other obligations for the foreseeable future. In addition the proposed lock in and redemption gate provisions within the proposed restructuring arrangements are sufficient to ensure the Fund s continued ability to do so in the event the restructuring proceeds as planned. The Board has a reasonable expectation that the restructuring will be successful and the Fund has sufficient resources to continue in operation for the foreseeable future. The Fund therefore continues to adopt the going concern basis in preparing the consolidated financial statements. As a consequence of the suspension it is no longer possible to redeem or subscribe for shares at the dealing price and accordingly the valuation of the each cell s investment in EEA Life Settlement Holdings Limited is based on its proportionate share of the IFRS adjusted value of EEA Life Settlement Holdings Limited rather than, as in prior periods, the dealing price. The difference between the IFRS NAV and the dealing NAV is explained in more detail in the investment adviser s report and in note 18. Format of report and audited consolidated financial statements These financial statements show the results and state of affairs of the Group as a whole which includes the Cells, the Master Fund, Master Fund II, EEA Life Settlement Holdings Limited and EEA Life Settlements Inc. The financial statements of the individual cells are available on request from International Administration Group (Guernsey) Limited. Directors responsibilities The Directors are responsible for preparing consolidated financial statements for each accounting period which show a true and fair view of the state of affairs of the Group and its results of operations for the year. In preparing these consolidated financial statements the Directors are required to: - select suitable accounting policies and then apply them consistently; - make judgements and estimates that are reasonable and prudent; - state whether applicable accounting standards have been followed subject to any material departures as disclosed in the consolidated financial statements; and - prepare the consolidated financial statements on the going concern basis unless it is inappropriate to presume that the Company will continue in business. Page 4

6 Directors Report (continued) The Directors are responsible for keeping proper accounting records which disclose with reasonable accuracy at any time the financial position of the Group and to enable them to ensure that the consolidated financial statements comply with The Companies (Guernsey) Law, 2008, and The Collective Investment Schemes (Class B) Rules They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud, error and non compliance with law or regulation. Auditors So far as each of the directors is aware, there is no relevant audit information of which the Company s auditor is unaware, and each has taken all the steps he/she ought to have taken as a director to make himself/herself aware of any relevant audit information and to establish that the Company s auditor is aware of that information. Mark Colton Director 26 June 2013 Page 5

7 Independent Auditor s Report To the Members of EEA Life Settlements Fund PCC Limited We were engaged to audit the financial statements of EEA Life Settlements Fund PCC Limited for the year ended 31 December 2011 which comprise the Consolidated Statement of Comprehensive Income, Consolidated Statement of Changes in Net Assets Attributable to Holders of Participating Shares, Consolidated Statement of Financial Position, Consolidated Statement of Cash Flows and the related notes 1 to 21. The financial reporting framework that has been applied in their preparation is applicable law and International Financial Reporting Standards. This report is made solely to the company s members, as a body, in accordance with Section 262 of The Companies (Guernsey) Law, 2008 and Paragraph 4.02(3) of The Collective Investment Schemes (Class B) Rules Our audit work has been undertaken so that we might state to the company s members those matters we are required to state to them in an auditors report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company s members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditors As explained more fully in the Directors Responsibilities Statement set out on pages 4 to 5, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board s Ethical Standards for Auditors. However, because of the matters described in the Basis for Disclaimer of Opinion paragraph we were not able to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion. Scope of the audit of the financial statements An audit involves obtaining evidence about the amounts and disclosures in the financial statements, sufficient to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting policies are appropriate to the Group s circumstances and have been consistently applied and adequately disclosed; the reasonableness of significant accounting estimates made by the directors; and the overall presentation of the financial statements. In addition, we read all the financial and non-financial information in the annual report to identify material inconsistencies with the audited financial statements. If we become aware of any apparent material misstatements or inconsistencies we consider the implications for our report. Basis for disclaimer of opinion on financial statements In seeking to form an opinion on the financial statements, we (a) disagreed with the directors valuation of investments in life policies and (b) considered that the audit evidence available to us with respect to pricing was limited, both as described below. A. Disagreement with respect to valuation of investments in life policies Investments in life policies are included in the financial statements at a fair value of $871m. Determining an appropriate fair value, in accordance with IFRS, for investments in life policies is, subject to the application of significant judgement and is particularly so in the case of those in which the Group invests because of the high degree of medical impairment of the underlying lives, for which specific statistical and actuarial evidence is limited. Note 1 describes the method used by the Group to calculate the IFRS fair value of investments in life policies at 31 December 2011, being a credibility-weighted average of two calculations. Page 6

8 Independent Auditor s Report (continued) We consider that the discount rate used at the valuation date in the zero credibility value is appropriate and the credibility factor used at that date is within a reasonable range. However we disagree that the value recorded in the financial statements is a reasonable fair value for a number of reasons, principally as follows: The expectation of life in the zero credibility value has not been updated since the purchase of the life policies for most of the portfolio. Therefore we have concluded that the expectation of life is likely to be understated for the remaining lives The discount rate of 10% in the full credibility value is, in our view, significantly lower than would be used by market participants in an arm s-length transaction to purchase the assets of the fund The deterministic methodology that underpins the zero credibility calculation is, in our opinion, inappropriate, particularly given that the expectation of life in this component of the valuation has not been updated for the majority of lives within the portfolio The Group has suffered adverse mortality experience during Whilst a range of values could be regarded as acceptable in accordance with IFRS, in our opinion, the maximum reasonable value that could be attributed to the investments in life policies at 31 December 2011 is approximately $100m less than the value recorded in the financial statements based on the available evidence at the year end without taking account of the further adverse mortality experience described in note 21. In addition, consequential adjustments need to be made to the financial instrument disclosures in notes 9 and 18. This adjustment would give rise to a reduction in the Group s deferred tax liability of approximately $35m and, accordingly, we consider that profit and net assets are overstated by at least $65m. B. Limitation of scope with respect to pricing The company issues and redeems shares using the methodology defined in the applicable Prospectus at the time of a share transaction as described in note 18 on pages 31 and 32. In addition it pays management fees and performance fees based on the net asset value determined using this methodology. The most significant component of this calculation is the valuation of investments in life policies ( the Policy NAV ). As explained in note 18 the expected profit for each policy is amortised over its expected remaining life, which is calculated by averaging two projections of remaining life obtained at acquisition of the policy from medical professionals to determine a life expectancy ( LE ) and adding thereto an additional period ( the Buffer ), currently 12 months as set out in the Prospectus. When policies are 6 months past their LE, their value is written down to reflect an additional 12 months of premiums and expected reduction in profit. We have tested whether the Policy NAV calculations (and the management fee and performance fee calculations) have been performed in accordance with the Prospectus using the company s assumption that a Buffer of 12 months is appropriate and we did not identify any material errors. Selection of the appropriate Buffer requires judgement. According to the Prospectus and the company s Articles, the directors, in consultation with the Investment Adviser, may alter the Buffer to reflect changing circumstances and may adjust the value of an investment in a life policy after assessing the latest health condition of an insured. The directors made changes to the Policy NAV calculation during the year to allow for additional premium costs and a revised assessment of the Group s tax exposures. Page 7

9 Independent Auditor s Report (continued) During the year new evidence emerged of lives extending beyond LE. In addition, our estimate of the maximum reasonable value for the investments in life policies (as summarised in paragraph A above) differs significantly from the Policy NAV value of $915m. These two factors, amongst others, indicate a possibility that the directors should, in addition to the changes described above, have changed either the Buffer or other judgemental inputs to the Policy NAV calculation or the valuation methodology itself. The directors maintain that the evidence available to them during the year did not indicate a need to amend the Buffer or otherwise change the Policy NAV valuation methodology, except as described above. We note that further evidence of lives extending beyond LE has emerged after the year end as described in note 21. We have not been able to obtain sufficient, appropriate audit evidence as to whether or at what point during the year, the Directors should have exercised their judgement to amend the Buffer, or change the Policy NAV valuation methodology and accordingly our audit scope has been limited. Consequently, we are unable to form an opinion as to whether the directors exercised appropriate judgement in calculating the Policy NAV and hence whether they issued and redeemed shares at appropriate NAVs. We are, therefore unable to form an opinion as to whether NAV based fees, including management fees and performance fees, were calculated properly because such calculations are based on Policy NAV. We have not, therefore, been able to satisfy ourselves as to whether additional assets or liabilities or contingencies should have been recorded in the financial statements to reflect any adjustments that would arise from using a different Policy NAV. Disclaimer of opinion on financial statements Because of the significance of the matters described in the Basis for disclaimer of opinion on financial statements we have been unable to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion. Accordingly, we do not express an opinion on the financial statements or their compliance with the requirements of The Companies (Guernsey) Law, 2008, The Collective Investment Schemes (Class B) Rules 1990 or the principal documents. Matters on which we are required to report by exception Arising from the limitation of scope of our work referred to above: we have not obtained all the information and explanations that we considered necessary for the purpose of our audit; and with respect only to any adjustments that might have been needed to reflect the consequences of changes to Policy NAV, we were unable to determine whether adequate accounting records have been kept. We have nothing to report in respect of the following matter where The Companies (Guernsey) Law, 2008 requires us to report to you if, in our opinion: the financial statements are not in agreement with the accounting records. Ernst & Young LLP Guernsey 27 June 2013 Notes: 1. The maintenance and integrity of the EEA Life Settlements Fund PCC Limited/EEA Fund Management (Guernsey) Limited web site is the responsibility of the directors; the work carried out by the auditors does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred to the financial statements since they were initially presented on the web site. 2. Legislation in Guernsey governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. Page 8

10 Report of the Custodian To the Members of EEA Life Settlements Fund PCC Limited We state that in our opinion, EEA Fund Management (Guernsey) Limited (the Manager ), has managed EEA Life Settlements Fund PCC Limited (the Company ): a) in accordance with the limitations imposed on the investment and borrowing powers of the Company by the principal documents, by the scheme particulars and by the Protection of Investors (Bailiwick of Guernsey) Law,1987; and b) in accordance with the provisions of the principal documents and the Collective Investment Schemes (Class B) Rules We note the points raised by the Independent Auditor's Report, including the disagreement with the directors' valuation of investments in life policies. As set out in the Prospectus (Offering Memorandum) to the Company, the Custodian has "no responsibility for selecting or valuing the investments of the Fund", and has neither the responsibility, nor the expertise required, to pass comment on the approach taken to the valuation of the Company's investments. BNP Paribas Securities Services SCA, Guernsey Branch 27 June 2013 Page 9

11 Consolidated Statement of Comprehensive Income for the year ended 31 December Note US$000 US$000 Income Net gains on investments 4 142, ,775 Total income 142, ,113 Other losses 5 (110) (24,375) Expenses 6 (55,405) (38,900) Net income before distributions 87,075 50,838 Finance costs: distributions 7 (6,273) (9,701) Net income after distributions 80,802 41,137 Taxation 8 (12,878) (8,390) Profit from operating activities and change in net assets attributable to holders of participating shares 67,924 32,747 Other comprehensive income movement in currency translation reserve Total comprehensive income 67,969 33,263 The above results relate to the continuing operations of the Group. Consolidated Statement of Changes in Net Assets Attributable to Holders of Participating Shares for the year ended 31 December Note US$000 US$000 Net assets attributable to holders of participating shares at beginning of the year 919,588 _ 679,416 _ Amounts receivable on issues 229, ,298 Amounts payable on redemptions (312,262) _ (226,389) _ (82,597) 206,909 Other comprehensive income - movement in currency translation reserve Profit from operating activities and change in net assets attributable to holders of participating shares 67,924 _ 32,747 _ Net assets attributable to holders of participating shares at end of the year , ,588 The notes on pages 13 to 38 form an integral part of these financial statements. Page 10

12 Consolidated Statement of Financial Position as at 31 December 2011 Assets Note US$000 US$000 Non-current assets Investments at fair value through profit or loss 9 871, ,855 Current assets Debtors 10 20,816 3,457 Derivative financial instruments at fair value 17 5,224 1,282 Cash and cash equivalents 16 56,350 _ 218,338 _ Total assets 953, ,932 Liabilities Current liabilities Taxation 8 (10,605) (19,885) Deferred taxation 8 (3,891) (1,208) Creditors 11 (23,454) (33,808) Derivative financial instruments at fair value 17 - (443) (37,950) (55,344) Non-current liabilities Deferred taxation 8 (10,975) - Net assets attributable to holders of management and participating shares 904, ,588 Attributable to holders of; Management shares Participating shares , ,588 The financial statements on pages 10 to 38 were approved by the Board of Directors on 26 June 2013 and signed on its behalf by: Mark Colton Director The notes on pages 13 to 38 form an integral part of these financial statements. Page 11

13 Consolidated Statement of Cash Flows for the year ended 31 December Note US$000 US$000 Operating activities Bank interest received Expenses paid (36,938) _ (42,509) _ Net cash outflow from operating activities 15 (36,551) _ (42,166) _ Investing activities Purchase of investments (162,469) (222,154) Proceeds from maturity/disposal of investments 139,418 84,954 Net payments on forward foreign currency contracts (4,495) _ (38,903) _ Net cash outflow from investing activities (27,546) _ (176,103) _ Financing activities Issue of participating shares 229, ,347 Redemption of participating shares (312,533) (225,399) Distributions paid (6,273) _ (9,701) _ Net cash (outflow)/inflow from financing activities (89,436) _ 198,247 _ Tax paid (8,500) _ - _ Decrease in cash and cash equivalents (162,033) (20,022) Reconciliation of net cash flow to movements in cash and cash equivalents Cash and cash equivalents at start of year 218, ,509 Decrease in cash and cash equivalents (162,033) (20,022) Currency translation differences 45 _ (149) _ Cash and cash equivalents at end of year 16 56, ,338 The notes on pages 13 to 38 form an integral part of these financial statements. Page 12

14 1. Organisation and Principal Accounting Policies Introduction The Company was incorporated on 20 June 2005 in Guernsey and authorised under The Collective Investment Schemes (Class B) Rules The Company issued its first shares on 10 November 2005 and commenced active operations on that day. The investment objective of the Company is described in note 18. The Company has no employees. On 14 December 2006, Dollar X Cell, Dollar Dist Cell, Sterling X Cell, Sterling Dist Cell, Euro X Cell and Euro Dist Cell were listed on the Channel Islands Stock Exchange. Subsequent cells were listed as follows: Sterling Acc Cell 20 February 2007 Meteor Cell 3 March 2008 Meteor II Cell 1 October 2008 Dollar Acc Cell 15 December 2009 Dollar I Cell 25 November 2009 WAY Cell 25 November 2009 Euro Acc Cell 7 April 2011 SEK X Cell 7 April 2011 Euro Y Cell 8 November 2011 The Company is divided into fifteen active cells: the Dollar X Cell, the Dollar Dist Cell, the Dollar I Cell, the Dollar Acc Cell, the Euro X Cell, the Euro Dist Cell, the Euro Acc Cell, the Euro Y Cell, the SEK X Cell, the Sterling X Cell, the Sterling Dist Cell, the Sterling Acc Cell, the Meteor Cell, the Meteor II Cell and the WAY Cell. Group reorganisation Until 28 February 2010, the Cells invested in the life policies through the Company s wholly owned subsidiary, EEA Life Settlements Master Fund Limited (the Master Fund ). On 1 March 2010, the Group restructured its operations with the effect that the Group s investments in life policies are now held by EEA Life Settlements Inc, a corporation registered in Delaware, which is a wholly owned subsidiary of EEA Life Settlements Master Fund II Limited ( Master Fund II ), a company registered in Guernsey. On 1 April 2010, the Master Fund and Master Fund II became wholly owned subsidiaries of EEA Life Settlement Holdings Limited, a company registered in Guernsey. The Cells invest in EEA Life Settlement Holdings Limited. Dealing suspension and going concern Following a meeting on 30 November 2011 the Board declared an immediate suspension of the valuation of the net asset value of all classes of participating shares in each cell of the Fund and of the issue, sale, purchase, redemption or conversion of shares of each class. This followed the issue of the UK Financial Services Authority (FSA) draft guidance on Traded Life Policy Investments on 28 November which led to cancelled subscriptions and above normal redemption levels. The liquidity levels of the Fund were insufficient to satisfy the redemption requests in full. The Fund continues to be suspended and is likely to remain so until a restructuring is completed. The Board are considering options for restructuring the Fund. These are expected to include (i) a continuation fund with additional dealing restrictions, and (ii) a run-off vehicle with periodic distributions as policies mature and proceeds are received. The continuation fund will continue to invest in the Fund s current portfolio of assets and investments and also any future investments made by the Fund using the pro rata share of proceeds received on maturities/realisations attributable to continuing shares, such future investments to be made via the Fund investing in units issued by a newly established Irish unit trust fund. For option (ii) shares will be re-designated on a one-for-one basis for participating redeemable preference shares in a newly created run-off cell. Cash distributions will be made from that run-off cell s pro rata share of the proceeds received on maturities/realisations of investments. It is intended, that in the future, an opportunity where new investors are sourced who are willing to purchase shares Page 13

15 1. Organisation and Principal Accounting Policies (continued) from run-off investors at a discount to net asset value. New investors will then have an option to acquire shares in a cell of the continuation fund. The Fund has sufficient available cash to meet premium and other obligations for the foreseeable future. In addition the proposed lock in and redemption gate provisions within the proposed restructuring arrangements are sufficient to ensure the Fund s continued ability to do so in the event the restructuring proceeds as planned. The Fund has sufficient resources to continue in operation for the foreseeable future. The Fund therefore continues to adopt the going concern basis in preparing the consolidated financial statements. Basis of accounting The consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) and interpretations issued by the International Accounting Standards Board (IASB). IFRS requires management to make judgements, estimates and assumptions that affect the application of policies and the reported amounts of assets and liabilities, income and expenses. The estimates and associated assumptions are based on experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of making judgements about the carrying values of assets that are not apparent from other sources. Actual results may differ from these estimates. The consolidated financial statements are presented in United States Dollars and are rounded to the nearest US$000 unless otherwise indicated. Basis of preparation The consolidated financial statements have been prepared under the historical cost convention except for the measurement of investments which are designated as fair value through profit or loss and derivative financial instruments. The financial statements are presented in US Dollars and not Sterling, the local currency of Guernsey, since the majority of the Company s assets are denominated in US Dollars. IASB and IFRIC have issued the following standards and interpretations which are not yet effective and have not been adopted: Effective date IFRS 9 Financial Instruments: Classification and Measurement 1 January 2015 IFRS 7 Disclosures transfers of financial assets (amendment) 1 July 2011 IFRS 7 Disclosures 1 January 2013 IFRS 10 Consolidated financial statements 1 January 2013 IFRS 11 Joint arrangements 1 January 2013 IFRS 12 Disclosure of interest in other entities 1 January 2013 IFRS 13 Fair value measurement 1 January 2013 IAS 32 Financial instruments presentation 1 January 2014 No formal analysis has been completed on the impact of the adoption of any of the standards and interpretations on the Group s financial statements in the period of initial application. Basis of consolidation The consolidated financial statements include the results of the Company and its wholly owned subsidiaries, the Master Fund, Master Fund II, EEA Life Settlements Holdings Limited and EEA Life Settlements Inc. The financial statements of the Group represent the aggregation of the results and financial position of each of the individual cells and subsidiaries adjusted for the elimination of the investments in the subsidiaries. The aggregated financial position of the Company also includes the non-cellular assets and share capital of 100. Page 14

16 1. Organisation and Principal Accounting Policies (continued) Foreign exchange Foreign currency assets and liabilities for each cell are translated into the functional currency, which may differ from cell to cell, being the currency in which the shares in each cell are issued, at the rate of exchange ruling at the balance sheet date. Transactions in foreign currencies are translated at the rate of exchange ruling at the date of the transaction. Gains and losses arising on revaluation of foreign currency assets and liabilities are recorded in the Consolidated Statement of Comprehensive Income. For the purpose of the Group financial statements, cellular assets and liabilities are translated into the presentation currency (US Dollars) at the rate of exchange ruling at the balance sheet date. Exchange differences arising on preparation of the Group s financial statements from the financial statements of Cells maintained in currencies other than US Dollars are recognised in other comprehensive income and are taken to the currency translation reserve. These exchange differences do not affect the value of each Cell. Income recognition Bank interest is accounted for on an accruals basis. Expenditure Expenses are accounted for on an accruals basis. Investments in life policies Investments are classified as fair value through profit or loss. These financial assets are so designated on the basis that they are part of a group of financial assets which are managed and have their performance evaluated on a fair value basis. Investments are initially recognised at the fair value of the consideration given excluding transaction costs. The Directors this year changed the methodology for valuation of the life insurance policies to reflect partly the emerging experience in the fund but to recognise that the experience is not yet fully credible. Life expectancy estimates ( LEs ) have been obtained from two medical underwriting firms at the time of purchase. These LEs are blended by calculating the simple average. This blended LE is considered the expected date of death. These LEs have not subsequently been updated but the Directors ask the nurses employed by ViaSource (the investment manager) to determine an updated Life Expectancy estimate ( updated LE ) when a life passes its assumed date of death implied by the blended LE. Two values are calculated for the policies: 1 Zero credibility valuation A valuation based on discounted cashflows whereby the blended LE was assumed to be the precise date of death. Within this valuation, a discount rate consistent with those observed in the secondary and tertiary market for trading life insurance policies was used to discount the cashflows. For policies which have passed their date of death implied by the LE estimate, the calculation uses the updated LE determined by ViaSource nurses. Page 15

17 1. Organisation and Principal Accounting Policies (continued) 2 Full credibility valuation A valuation based on an industry standard actuarial methodology where the blended LE was considered to be the mean date of death and a distribution of deaths was implied by this blended LE. Within the actuarial methodology, the LEs were systematically updated for all policies to allow for the emerging experience within the fund i.e. they were updated to reset the ratio of actual deaths observed to expected deaths (based on the actuarial methodology) to 100%. Within this valuation, a lower discount rate was used based on the discount rates used in the high yield bond market. The Directors then attributed a relative credibility to each valuation determined by reference to industry guidance and practice on credibility as applied to the circumstances of the Fund. Realised gains and losses on the disposal or maturity of investments are calculated by reference to the net proceeds received on disposal or maturity and the actual cost attributable to those investments. Profits and losses on investments are included in the Consolidated Statement of Comprehensive Income. Fair value hierarchy of financial instruments The financial assets measured at fair value are disclosed using a fair value hierarchy that reflects the significance of the inputs used in making the fair value measurements, as follows:- Level 1 Quoted prices in active markets for identical assets or liabilities. Level 2 Those involving inputs other than quoted prices included in level 1 that are observable for the asset or liability, either directly (as prices) or indirectly (derived from prices). Level 3 Those inputs for the asset or liability that are not based on observable market data (unobservable inputs). Use of judgements and estimates In the process of applying the Group s accounting policies, the Directors are required to make certain judgements and estimates to arrive at fair value for its assets and liabilities. Significant areas requiring the Directors judgement include taxation (see note 8) and the fair value of investments. In calculating the fair value of investments, key estimates include the life expectancy of insureds, the discount rate applied to future cash flows and the degree of credibility applied to mortality experience. In light of the judgements applied, disclosures are provided in note 18 which show the impact on the value of investments using different assumptions for life expectancy, discount rates and credibility. Recognition The Group recognises financial assets on the trade date, being the date it commits to purchase the assets. Derecognition The Group recognises the disposal of financial assets on the date of sale or the date the investments reach maturity, at which point the profit or loss is recorded in the Statement of Comprehensive Income. Page 16

18 1. Organisation and Principal Accounting Policies (continued) Forward foreign currency exchange contracts The Cells use derivative financial instruments in the form of forward foreign exchange contracts to hedge their risks associated with foreign currency fluctuations. The Cells may enter into forward foreign currency exchange contracts for the purchase or sale of a specific foreign currency at a fixed price on a future date. These forward foreign currency exchange contracts do not qualify for hedge accounting. Hence any gains or losses arising from changes in fair value are included in net income for the year. The Cells do not use forward foreign currency exchange contracts for trading purposes. These contracts are accounted for when any contract becomes binding and are valued in the Statement of Financial Position at the period end forward rate for a contract with the same settlement date. Realised and unrealised gains and losses are included in the Consolidated Statement of Comprehensive Income. Formation and Reorganisation expenses Expenses incurred in the formation of the Company and the restructurings of the Group on 1 September 2006 and 1 March 2010 have been taken to the Consolidated Statement of Comprehensive Income as incurred. For the purposes of the calculation of the Dealing Price the formation and restructuring expenses are amortised over five years. Deferred tax Deferred tax is the tax expected to be payable or recoverable on differences between the carrying amounts of assets and liabilities in the financial statements and the corresponding tax bases used in computation of taxable profit. Deferred tax liabilities are generally recognised for all taxable temporary differences and deferred tax assets are recognised to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilised. Deferred tax is charged or credited in the income statement. Participating shares A financial instrument that provides for redemption on a specific date or at the option of the holder meets the definition of a financial liability if the issuer has an obligation to transfer financial assets to the holder of the share. Accordingly the participating shares have been classified as financial liabilities in accordance with IAS 39. Cash and cash equivalents Cash and cash equivalents are defined as cash in hand, demand deposits and highly liquid investments readily convertible within three months or less to known amounts of cash and subject to insignificant risk of changes in value. Distributions to shareholders Distributions to shareholders are recognised in the Consolidated Statement of Comprehensive Income as finance costs because the participating shares are classified as financial liabilities. 2. Material Agreements a) Management fee The Manager is entitled to receive a fee from the Cells at the rate of 1.5% per annum (Way Cell %, Dollar I Cell - 1%) of the Net Asset Value of the Cells, calculated in line with the method set out in the prospectus. The fee is calculated at the end of each month and is payable quarterly in arrears. Page 17

19 2. Material Agreements (continued) b) Performance fee The Manager and the Investment Adviser are entitled to receive a performance fee at the end of each performance period (a Performance Period ) where the performance during the period exceeds the hurdle (the Hurdle ). The excess of the Cell s performance over the Hurdle is payable 37.5% to the Manager and 37.5% to the Investment Adviser (Dollar I Cell - 20% of net increase in the Dealing NAV adjusted for subscriptions and redemptions). A Performance Period is the six month period ending on 30 June or 31 December and the Hurdle is 8% per annum for all Cells. c) Acquisition fee The Investment Adviser is entitled to receive an acquisition fee of 1% of the purchase price in the case of life policies purchased. d) Custodian fee The Custodian receives 7,000 per Cell, subject to a minimum of 70,000 per annum payable quarterly in arrears. In addition, the Custodian is entitled to be reimbursed for any out of pocket expenses together with any sub-custodian fees. e) Administration fee The Administrator is entitled to receive fees at a rate of 0.15% per annum of the Net Asset Value of the Master Fund II up to US$50 million and 0.1% per annum of its Net Asset Value thereafter. The fee is subject to a minimum of 1,000 per month per funded Cell. The Administrator is also entitled to be reimbursed for all out-of-pocket expenses in connection with the carrying out of its duties. For acting as registrar, the Administrator receives fees from each Cell based on the number of investor transactions and the number of registered shareholders. f) Sub-Custodian fee The Sub-Custodian was entitled to charge EEA Life Settlements Inc an annual fee of US$50,000 payable in advance on the anniversary of the date of the agreement. The Sub-Custodian was also entitled to charge a fee of approximately US$425 for each escrow account established and transaction fees on disbursements. From 4 April 2011, the Sub-Custodian is entitled to a fixed annual fee of US$75,000 payable monthly in arrears and the reimbursement of all out-of-pocket expenses. g) Servicing Agent fee The Servicing Agent is entitled to charge a one time review fee of US$450 per policy. In addition, there is an annual fee of US$300 per policy, payable quarterly in advance, subject to a minimum of US$1,500 per month. In addition, as a calculation agent, the Servicing Agent will charge an annual fee of US$450 per policy. h) Distribution fee/marketing expense The Manager is entitled to receive a distribution fee of up to 5% from the Dollar X, Euro X, Sterling X and SEK X Cells of the total amount subscribed by an investor and may rebate any part of the fee back to the investor for further subscriptions into the relevant Cell. During the year the total fee rebated in the Dollar X Cell was US$298,000 (2010: US$378,000), in the Euro X Cell was 91,000 (2010: 187,000, in the Sterling X Cell was 424,000 (2010: 913,000) and in the SEK X Cell was SEK72,000 (2010: Nil). Distribution fees (marketing expenses per note 6) are accounted for on an accruals basis net of rebates. Page 18

20 2. Material Agreements (continued) i) Investment Advisory fee The investment adviser is entitled to receive US$100 per month per policy held payable by the EEA Life Settlements Inc Fund monthly in arrears. 3. Income US$000 US$000 Bank interest income Net gains on investments US$000 US$000 Proceeds from maturity of investments 156,434 91,461 Cost of investments matured (89,356) (56,807) Realised gains on investments 67,078 34,654 Movement in unrealised gains and losses on revaluation of investments 75,125 79,121 Net gains on investments during the year 142, , Other losses US$000 US$000 Net realised foreign exchange losses on currency contracts (4,495) (38,903) Unrealised gains on currency contracts 4,545 14,528 Currency translation adjustment (160) - (110) (24,375) Page 19

21 6. Expenses US$000 US$000 Performance fee (note 2b) 33,264 13,013 Management fee (note 2a) 14,640 12,694 Marketing expenses (note 2h) 2,952 6,728 Administration fee (note 2e) 1,578 1,440 Acquisition expenses 1,050 2,708 Investment advisory fee (note 2i) Restructuring expenses General expenses Sub Custodian fee Audit fee Servicing agent fee Custodian fee Directors fees (note 19) Preliminary expenses Distributions 55,405 38,900 The Dollar Dist Cell paid distributions of US$617,000 (2010: US$428,000) during the year, which comprised an interim dividend of US$4.30 per share payable to shareholders of record on 31 December 2010 payable on 1 February 2011 and an interim dividend of US$4.44 per share payable to shareholders of record on 30 June 2011 payable on 1 August The Euro Dist Cell paid distributions of 276,000 (2010: 56,000) during the year, which comprised an interim dividend of 4.06 per share payable to shareholders of record on 31 December 2010 payable 1 February 2011 and a dividend of 4.43 per share payable to shareholders of record on 30 June 2011 payable on 1 August The Sterling Dist Cell paid distributions of 3,287,000 (2010: 5,951,000) during the year, which comprised an interim dividend of 4.11 per share payable to shareholders of record on 31 December 2010 payable 1 February 2011 and a dividend of 4.24 per share payable to shareholders of record on 30 June 2011 payable on 1 August Whilst the Fund is suspended, no distributions have been paid. 8. Taxation The Company has obtained exemption from Guernsey Income Tax under The Income Tax (Exempt Bodies) (Guernsey) Ordinance, 1989 and accordingly is subject to an annual fee of 600. In April 2009 the US Inland Revenue Service ( IRS ) published a ruling (Revenue Ruling ) relating to the taxation of maturity benefits on traded life insurance policies. Under this ruling non-us secondary market purchases of traded life insurance policies may be subject to a 30% withholding tax on maturity benefits net of acquisition cost and subsequent premiums paid. Following the ruling, the Board determined that full provision should be made for withholding tax on all maturities prior to implementation of the new structure, as described in note 1. Page 20