Pre-Paid Legal Services: SEC Won't Find Any Wrongdoing

Last week Pre-Paid Legal (PPD) received a SEC subpoena for certain documents related to their treasury stock purchases that caused investors to panic and sell their shares. We at Mycroft Research believe that there is nothing behind this event and that once the SEC goes through the company’s documents, they should find nothing wrong. Having said that, I wish to now back up that statement with proofs from our own research.

In the chart below you will find the free cash flow per share numbers that the company has put up since the year 2000. With such strong results you can see that the company was easily able to afford their share repurchases. The SEC requested documents related to these share repurchases but never accused the company or its management of any wrongdoing.

Since we have shown that the company had the ability to easily afford to repurchase their shares, let us now show its ten year track record of doing so. As you can see from the chart below, these repurchases were not one time events but proof of an ongoing decade long corporate policy.

Now that we have proved that, let us now investigate how Pre-Paid Legal’s management was able to afford to do so. As you can see from the chart below that the company had some amazing free cash flow returns on its invested capital (FROIC). These FROIC numbers are some of the best results that you will find anywhere on Wall Street and proves that for every dollar of invested capital that the company employed, it returned substantial amounts of free cash flow

In conclusion, we should assume that the SEC requested these documents because it couldn’t believe that the company could retire 50%+ of their shares outstanding in a decade, without doing something wrong. We are not privy to any of the company’s internal documents, but logic clearly shows that if you have the ability to buy back your treasury stock with ease, then why would you do anything illegal?

Disclosure: Long PPD

Comments

[PDT:]

For some reason, your charts are not showing up for me right now.

Oct 13 10:49 AM

[PDT:]

As for the analysis, pyramid and ponzi schemes look very profitable... until the inevitable collapse. If you are selling business opportunities that cause people to lose money after their expenses, and selling insurance policies that are virtually worthless for $300/year, of course it looks like a cash cow. But take a deeper look.

If the product is so good, and the business opportunity so lucrative, why do so many associates bail out in under a year? What percentage of associates make a single sale? What percentage make 10 or more sales? How long do you expect these associates to keep paying money to PPD for their own memberships, associate fees, etc. without generating income for themselves?

Do a little homework on the way they sell the business opportunity. Notice anything fishy? It sounds great. But when you factor in the number of associates that have already tried it, and quit, along with the ones currently in the pyramid, they are quickly running out of new suckers. That's a problem, considering what a massive percentage of their revenues come from the associates.

Check out the retention rates for the members canceling/renewing their policies.

Look back at the history of accounting issues, sanctions and restatements.

Finally, take a look at what the insiders have been doing with their PPD shares in the midst of these treasury buybacks.

Really, I highly recommend you read through their last annual report/10-K (www.annualreports.com/...). Make sure to read the notes, especially the Risk Factors, Legal Proceedings and Critical Accounting Policies.

There are good reasons so many former associates, former members, former provider law firms and state attorney generals have gone after Prepaid Legal in court.

Oct 13 11:30 AM

[Reggie Midd...:]

Well put PDT. In addition, PPD's performance metrics are actually on a steady decline, in direct contravention to the author's proclamations. New membership and new associate revenue are on the decline from an organic perspective, and PPD juices it by raising associate fees which makes it even harder for associates to make money.

Management has also been selling directly into the corporate buy back program, which has to smell fishy to somebody. No management buys, always management sells.
I suggest anyone interested in this company read the links in my article on the topic: boombustblog.com/Reggi...

Oct 13 11:59 AM

[PizzaMan:]

You also leave out the SEC part of the equation in you analysis.

Take a look at the recent scandals that have gone on right under their noses. They won't find anything, their deaf, dumb, and blind.

Read the excerpts from the Rakoff ruling in SEC v Bank of America. Even if they find something, they have to be forced to prosecute.

The SEC are in charge of enforcing wall street regulations, and these cops are keystone.

Oct 13 01:11 PM

[Graham and ...:]

Given PPD, there might be more than "nothing" behind the SEC's investigation.

But given the SEC, they won't find "it," whatever it is.

Oct 13 01:14 PM

[Peter Mycro...:]

I find it interesting that no one has talked about the free cash flow numbers that PPD's management has put up consistently over the last decade, which can not be denied. The worst case scenario that will come out of this is that PPD will pay a small fine.

In the latest report from the company, management has stated that droves of people are signing up to sell their products. Some people will work out and some won't, it's just the nature of sales. Also try to get the services of a lawyer for $350 and see how far you get. Most lawyers charge $250 per hour and not $350 for 40. Many use PPD's service for making a will, real estate closings etc. and they cancel after doing so because they no longer need the services of a lawyer. But all that is incorporated in the business model of the company and has been that way for decades.

PPD has one of the best free cash flow return on invested capital of the 35,000 I have screened globally. That is sells at 7 times its free cash flow just creates more opportunity for those looking for a unique bargain. The short sellers have made their money, but I would hate to be in their shoes after the next conference call and earnings report. What has happened to the stock is madness from a quantitative point of view and should soon be made right.

Oct 13 09:27 PM

[PDT:]

Sorry - thought I did respond to the free cash flow point. At the risk of sounding blunt, every ponzi/pyramid scheme gives the illusion of high FCF until the scam collapses.

PPD's revenue growth has been trending down for years, and has been negative for 3 straight quarters now. (This is how ponzi's die and the FCF disappears.)

Per their '08 annual, 7.5% of their estimated market has already tried their service... and 80% of those have dumped them.

In '08, almost 81% of Prepaid associates made zero sales. Of the 19% who did, 53% of those were making their first sale.

The company admits that they have been experiencing declines in new membership sales and associate recruitment since '04. That is a problem, because Prepaid estimates the average active sales period for new associates to be five months. They crank through these associates so fast, and have been doing so for many years. Realistically, how many more suckers do you think they can bring into a "business opportunity" where the average weekly income is under $6, but the associate must pay to the company for the privilege are several times greater? (And keep in mind that over 80% never sell a single policy, so they earn nothing.) Pyramid scams implode when they are unable to maintain the initial exponential growth, and that process is well underway.

Here's another item that won't show up in a stock screen: PPD estimates that about 10% of total revenue is unrecoverable. This is because there is a large cash deficit created by each sale in the first month because of the advanced commissions PPD pays out to the associate and his/her upline. The advance can be for one or three years of potential premiums paid... but when the policy is canceled early (50% do in the first year, 84% by year two), those advance commissions are usually not paid back.

Finally, they only have $500,000 reserved to cover the liabilities for all their pending civil suits, claims and potential regulatory sanctions. This is a joke, considering what the plaintiffs are asking for and what the judgments against PPD have been in the past.

There's nothing wrong with looking for companies that produce FCF, have good looking ROE, ROIC, etc. But if you don't try and understand the business itself, you risk being long Enron right before everyone figured it out. Their metrics looked good too... until they didn't.

PPD management is quite proud of their stock buyback strategy, but when you think about it, that isn't much of a business model. I’ve read some amateurs talking about how buying back stock isn’t illegal. What these folks haven’t learned is, the company management has a fiduciary duty to the PPD shareholders. And these insiders are going to look pretty silly trying to explain how borrowing (via the Wells Fargo revolver) to buy back shares is good for the common shareholders, even as the insiders dump the stock as fast as they can.


On Oct 13 09:27 PM Mycroft Research wrote:

> I find it interesting that no one has talked about the free cash
> flow numbers that PPD's management has put up consistently over the
> last decade, which can not be denied. The worst case scenario that
> will come out of this is that PPD will pay a small fine.
>
> In the latest report from the company, management has stated that
> droves of people are signing up to sell their products. Some people
> will work out and some won't, it's just the nature of sales. Also
> try to get the services of a lawyer for $350 and see how far you
> get. Most lawyers charge $250 per hour and not $350 for 40. Many
> use PPD's service for making a will, real estate closings etc. and
> they cancel after doing so because they no longer need the services
> of a lawyer. But all that is incorporated in the business model of
> the company and has been that way for decades.
>
> PPD has one of the best free cash flow return on invested capital
> of the 35,000 I have screened globally. That is sells at 7 times
> its free cash flow just creates more opportunity for those looking
> for a unique bargain. The short sellers have made their money, but
> I would hate to be in their shoes after the next conference call
> and earnings report. What has happened to the stock is madness from
> a quantitative point of view and should soon be made right.

Oct 14 03:23 PM

[Home Biz Ta...:]

I would like to start off by saying, clearly you are all much smarter then me, I am no analyst. Also my wife & I are PPD associates. Most of what I read in the comments pertain, I believe to how our company chooses to market it legal service plans and of course the "value" of these plans.

Since the company doesn't pay me to dispute these claims, i won't-"a person convinced against there will, is of the same opinion still." And quite frankly, I would be ill prepared to enter into a battle of wits with intelligent people, such as yourselves; I fear I would not escape unscathed.

That being the case, I would simply like to say that my wife & I have represented PPD since April 17, 2001
We have sold in excess of 1000 memberships & have as of this writing a 92% retention for our tenure with the company. We market primarily to businesses as an employee benefit-which is the way the plans were marketed prior to 1984. BTW, they were also a publically traded company prior to adding the network marketing component in' 84.

I bought our membership in November of 1999 two years before we became associates. That little $131.00 membership (we live in NJ) saved our 6-figure printing company $19,000.00. I was wondering how many people go to real estate school, get their licenses & never sell a home-does that make weichart or century 21 a ponzi? Look at it-a broker gets a percentage of the agents' commission. What about automobile dealerships? I believe insurance brokers & agents are paid similarly & have the same type of turnover...all I can say is we've been here longer then a year, made more then $6 and 92% of the strangers we've sold memberships to still have them 8 almost 9 years later. According to your expert analytics we don't exist.

Maybe one of you can get Forbes to print a retraction:
The 200 Best Small Companies
www.forbes.com/lists/2...

Oct 16 01:53 AM

[Peter Mycro...:]

Thanks Home Biz

I was hoping that someone who works for the company would come forward and comment on the Main Street side of PPD. I know management cannot as they will straighten all this out in the next conference call. I was just wondering is your situation unique, in your 92% retention rate or are the other associates that you know personally having similar retention results?

You made my whole weekend with your comments, thanks for posting.

Oct 16 05:22 PM

[SA Capitalist:]

I am 38 and have been a PPL Independent Associate for a little over 2 months now, and there is one thing I have learned. Pre-Paid Legal is a business opportunity not a job. It takes training, courage and perseverance to succeed in this business just as it does in any business opportunity. I understand that most people who begin their business will not stay in long enough or work it the way the successful associates recommend. But should Pre-Paid Legal be to blame? I don't think so. I have personally sponsored 10 people into the business and 9 out of 10 have yet to do what I have recommended they do in order to succeed. Is that my fault? I am not the one to blame for their inaction. At the same time I continue to recruit people that I will help succeed and I also continue to sell memberships. I plan on being one of the 10% to succeed, and my reward will be that I won't have to join the masses who have a job that pays less than they deserve. I also don't plan on relying on Social Security for my retirement or spend 30 years of my life with a company for a retirement that may or may not be there for me. I am making a choice now that I bet a whole lot of GM retirees wish they would have made at my age. I have tried to make it work in the corporate world. I was with Worldcom for 3 years and watched that ship sink. I've been in the Auto business and have seen how salespeople come and go on a regular basis. I have served my country in the military and I am now taking advantage of the freedom I and others like me have fought for. Capitalism is purely an opportunity to succeed not a guarantee, you have to work it and will yourself to keep going when others will quit. Talk to me in 10 years and we'll see where I am compared to the average worker who settles for a job and lets someone else determine their worth.

Oct 18 06:31 PM

[Peter Mycro...:]

Thank you for sharing your experience as an Independent associate. Sales is not an easy job but if you work hard and keep at it you will achieve your goals and then some. I welcome you to read my comment on an article I read this evening from an author who feels that the great depression is coming soon;

seekingalpha.com/autho...

You thoughts on Capitalism are very similar to my own and I thank you for posting tonight. Best of Luck in achieving your goals and of course thank you for your military service to our country and allowing us to be free.


On Oct 18 06:31 PM SA Capitalist wrote:

> I am 38 and have been a PPL Independent Associate for a little over
> 2 months now, and there is one thing I have learned. Pre-Paid Legal
> is a business opportunity not a job. It takes training, courage and
> perseverance to succeed in this business just as it does in any business
> opportunity. I understand that most people who begin their business
> will not stay in long enough or work it the way the successful associates
> recommend. But should Pre-Paid Legal be to blame? I don't think so.
> I have personally sponsored 10 people into the business and 9 out
> of 10 have yet to do what I have recommended they do in order to
> succeed. Is that my fault? I am not the one to blame for their inaction.
> At the same time I continue to recruit people that I will help succeed
> and I also continue to sell memberships. I plan on being one of the
> 10% to succeed, and my reward will be that I won't have to join the
> masses who have a job that pays less than they deserve. I also don't
> plan on relying on Social Security for my retirement or spend 30
> years of my life with a company for a retirement that may or may
> not be there for me. I am making a choice now that I bet a whole
> lot of GM retirees wish they would have made at my age. I have tried
> to make it work in the corporate world. I was with Worldcom for 3
> years and watched that ship sink. I've been in the Auto business
> and have seen how salespeople come and go on a regular basis. I have
> served my country in the military and I am now taking advantage of
> the freedom I and others like me have fought for. Capitalism is purely
> an opportunity to succeed not a guarantee, you have to work it and
> will yourself to keep going when others will quit. Talk to me in
> 10 years and we'll see where I am compared to the average worker
> who settles for a job and lets someone else determine their worth.

Oct 18 11:58 PM

[Larry Williams:]

I have been an Independent Associate for just about two months and have made a whopping two sales. The two people in my network have made no sales to date. But like any small business just starting out, I have to give my business some time to grow; two months just isn't enough to determine its future. I'll give it a year and then evaluate my position.

Oct 19 01:41 PM

[Mr_GoodKat:]

2009 Forbes List of 'America's 200 Best Small Companies'

www.forbes.com/lists/2...

Oct 20 02:08 PM

[mike mc:]

Are you saying that 9 out of 10 have not succeeded or actually failed because they haven't done what you told them to do? Is that all 9 peoples fault or is it poor leadership. What are you asking them to do? Something unethical or something they don't have the desire for?
I am in a MLM and I take personal responsiblity for everyone I recruit. I offer to buy back after 1 year and give many incentives just for activity and not for results. Any of my sponsored recruits will get a free 5 night cruise if they average 5 face to face meetings per week for a 6 month period regardless of the number of sales. I feel it is my responsibility to ensure they succeed and through proper mentoring and their activity they will more than pay for the cruise themselves with overrides and residuals that filter to me.
In essence I guarantee their success and they guarantee mine. Sounds like the best WIN-WIN situation I can think of.


On Oct 18 06:31 PM SA Capitalist wrote:

> I am 38 and have been a PPL Independent Associate for a little over
> 2 months now, and there is one thing I have learned. Pre-Paid Legal
> is a business opportunity not a job. It takes training, courage and
> perseverance to succeed in this business just as it does in any business
> opportunity. I understand that most people who begin their business
> will not stay in long enough or work it the way the successful associates
> recommend. But should Pre-Paid Legal be to blame? I don't think so.
> I have personally sponsored 10 people into the business and 9 out
> of 10 have yet to do what I have recommended they do in order to
> succeed. Is that my fault? I am not the one to blame for their inaction.
> At the same time I continue to recruit people that I will help succeed
> and I also continue to sell memberships. I plan on being one of the
> 10% to succeed, and my reward will be that I won't have to join the
> masses who have a job that pays less than they deserve. I also don't
> plan on relying on Social Security for my retirement or spend 30
> years of my life with a company for a retirement that may or may
> not be there for me. I am making a choice now that I bet a whole
> lot of GM retirees wish they would have made at my age. I have tried
> to make it work in the corporate world. I was with Worldcom for 3
> years and watched that ship sink. I've been in the Auto business
> and have seen how salespeople come and go on a regular basis. I have
> served my country in the military and I am now taking advantage of
> the freedom I and others like me have fought for. Capitalism is purely
> an opportunity to succeed not a guarantee, you have to work it and
> will yourself to keep going when others will quit. Talk to me in
> 10 years and we'll see where I am compared to the average worker
> who settles for a job and lets someone else determine their worth.

Oct 30 06:25 PM

[mike mc:]

The direct selling association is against fees to be a rep for a company. Upline compensation should be made from overrides and residuals of their downline and not from fees just to be able to sell a product.


On Oct 13 11:59 AM Reggie Middleton wrote:

> Well put PDT. In addition, PPD's performance metrics are actually
> on a steady decline, in direct contravention to the author's proclamations.
> New membership and new associate revenue are on the decline from
> an organic perspective, and PPD juices it by raising associate fees
> which makes it even harder for associates to make money.
>
> Management has also been selling directly into the corporate buy
> back program, which has to smell fishy to somebody. No management
> buys, always management sells.
> I suggest anyone interested in this company read the links in my
> article on the topic: boombustblog.com/Reggi...

Oct 30 06:29 PM

[PDT:]

I still don't get your basis for saying the SEC "won't find any wrongdoing." Why not? And should we presume you have a similar hunch about the FTC? Because that situation is looking pretty grim for PPD too.

Buddy, I don't know how you can rationalize in your mind that looking for semi-anonymous anecdotal reports from PPD associates is in any way a legitimate reason to ignore the stuff pointed out from the company's own SEC filings.

- Average life of an associate? 5 months
- One year policy cancellation rate? 50+%
- Associates never making even one sale? 80+%
- Associates who do not sell 10 or more policies? 98+%
- Average WEEKLY income for associates BEFORE expenses? $6

This info is the actual data, from the last 30+ years.

Nov 20 03:18 PM

[Bonhomme:]

PDT,

With great hesitation do I reply to your comment. Also, with great sincerity do I ask for you to earnestly explain how you determine/identify a ponzi scheme. In using the M-W definition (below) as a sort of base line, I am in no way attempting to be pedantic. Words and phrases are used in different ways...just trying to make sure I understand your meaning.

Main Entry: Pon·zi scheme
Pronunciation: \ˈpän-zē-\
Function: noun
Etymology: Charles Ponzi †1949 American (Ital.-born) swindler
Date: 1973
: an investment swindle in which some early investors are paid off with money put up by later ones in order to encourage more and bigger risks


On Oct 14 03:23 PM PDT wrote:

> Sorry - thought I did respond to the free cash flow point. At the
> risk of sounding blunt, every ponzi/pyramid scheme gives the illusion
> of high FCF until the scam collapses.
>
> PPD's revenue growth...

Nov 22 09:15 PM

[PDT:]

Hi Bonhomme -

No problem - that's a fair question. I find this company interesting as a case study because in my opinion, it is BOTH a pyramid scam and a ponzi scheme.

The pyramid is the business opportunity, which relies on "endless chain" (a mathematical impossibility) recruiting to entice naive people into paying to join the "business opportunity." (As a general rule, if they start talking about "downline" and "upline" commissions, it is a scam.)

The ponzi (again, in my opinion) is the actual stock, the company buyback program, and the insider dumping. In a recent press release, company management brags that they have spent more than 100% of the company's net earnings over the last 10 years buying back more than half of the float. Those net earnings really belong to the shareholders, but instead of paying a dividend, that capital was largely transferred to a small group of insiders who sold their shares aggressively into the repurchase program.

Does that help/answer your question?

On Nov 22 09:15 PM Bonhomme wrote:

> PDT,
>
> With great hesitation do I reply to your comment. Also, with great
> sincerity do I ask for you to earnestly explain how you determine/identify
> a ponzi scheme. In using the M-W definition (below) as a sort of
> base line, I am in no way attempting to be pedantic. Words and phrases
> are used in different ways...just trying to make sure I understand
> your meaning.
>
> Main Entry: Pon·zi scheme
> Pronunciation: \ˈpän-zē-\
> Function: noun
> Etymology: Charles Ponzi †1949 American (Ital.-born) swindler
> Date: 1973
> : an investment swindle in which some early investors are paid off
> with money put up by later ones in order to encourage more and bigger
> risks

Nov 25 02:01 PM