Forensic Accounting Confirmed By Discovery

| About: Fannie Mae (FNMA)

Summary

Government deference can only go so far and plaintiffs David Jacobs and Gary Hindes just dropped 80% of their Causes of Action Counts To Get Around MDL.

Much like in sailing, throwing the unnecessary stuff overboard to weather a storm, the Delaware case has made itself impossible to consolidate into an MDL.

Forensic Accounting Evidence continues to hit pay dirt in documents released to the public. The idea here would be for an accounting restatement resulting in $100B+ back to the GSEs.

Fannie Mae (OTCQB:FNMA) and Freddie Mac (OTCQB:FMCC) are two companies that produce by some estimates around $15B of profit per annum that become government revenue on a quarterly basis under The Housing and Economic Recovery Act of 2008 ((HERA)). The Federal Housing Finance Agency (FHFA) has entered into agreements and amendments on behalf of the companies Fannie and Freddie that will leave them without capital. The plaintiffs are arguing that the FHFA did not follow the law. Take a look at the actual law for yourself and consider whether or not an agreement that sweeps the net worth of the enterprises is consistent with the powers given to FHFA as conservator by the statute:

Click to enlarge

Investment Opportunity: Fannie Mae and Freddie Mac were both Fortune 50 companies with multi-billion dollar market capitalizations years before the government started taking all of their money under the guise of conservatorship. In the event that they are able to exit conservatorship and keep part of the money that they make, shareholders stand to gain from the current multi-bagger potential. On the upside, FHFA continues to remain in charge and continues to take all of the money away from shareholders. As such, to protect myself, I mostly own preferred shares. That said, if part of the legal outcome is that FHFA decides to follow the spirit of the law, maybe I should have been in commons.

MDL Circumstances And Threading The Eye Of The Needle

Thursday, oral arguments were heard with respect to whether or not several plaintiff lawsuits will be consolidated. To completely avoid the risk of being consolidated, the Jacobs/Hindes Delaware lawsuit has now dropped 80% of their counts. Instead of 10, now they are looking to follow through with just two:

Click to enlarge

They're dropping all claims that could be considered similar to the other lawsuits and only focusing on Delaware corporate law. Much like in a game of poker, the government has bluffed and gotten Jacobs/Hindes to fold this round simply out of the desire to limit any risk to some sort of Lamberth style decision in the MDL arena. Smart play.

My research suggests that dropping 8 of the counts probably wasn't necessary but certainly falls under the umbrella of playing it safe in a situation where the government is taking full advantage of their difference and are trying to leverage Judge Lamberth's initial dismissal. Therefore, I am positioned and I am betting with exceedingly high confidence the MDL consolidation fails.

Further, this shows how strongly Delaware plaintiffs feel with regard to their key arguments if they're willing to bet their entire case on them and them alone.

Judge Sweeney Wants To See What Government Is Hiding

Judge Sweeney most recently chided the government when she released documents for the Perry Capital Appeal Oral Arguments. Lawyers representing the plaintiffs were on a call recently that mentioned Investors Unite set up a repository for newly released documents fanniefreddiesecrets.org. On the call, lawyers stated that we should expect a ruling on the Perry Appeal sometime late June or early July. That's around the time we should expect a ruling from Kentucky on the motion to dismiss assuming the MDL folds as I expect it will.

Judge Sweeney isn't providing the government with much wiggle room:

The government's motion was denied in part as they are being forced to produce for Judge Sweeney, and soon. It will be interesting to see how they attempt to hide these documents from the public going forward and who all is going to sign affidavits especially when the veil of secrecy is already failing.

Forensic Accounting Confirmed By Discovery

One of the common themes across the more recent lawsuits is specific concerns related to FHFA's accounting policies surrounding the GSE conservatorships:

Wall Street On Parade seemed to miss the point that the accounting fraud that we are talking about is the one of FHFA writing down assets in order to cause Treasury draws in order to make Fannie Mae and Freddie Mac insolvent in order to justify the takeover and conservatorship.

There are now lawsuits against Deloitte and PwC with respect to their work done on the GSEs while the GSEs were being run by FHFA. Recently released and soon to be released evidence confirming these forensic accounting accusations can be found on http://fanniefreddiesecrets.org/. I say soon to be released purely in anticipation of a positive ruling on the Plaintiff's motion to compel resulting in the end of the most breathtaking assertion of privilege any lawyer has dreamed of. I figure we are within a month of having a mountain of evidence but the reality is that we already have more than we need. The cash doesn't lie. Just look at the cash transfers since conservatorship has begun and tell me about how that can be justified given the conservatorship guidelines outlined above by law under "Powers as Conservator."

Summary and Conclusion

Under normal circumstances, Fannie Mae and Freddie Mac, which are private companies according to the White House, would retain a portion of their earnings less taxes. These are not ordinary circumstances and recently a slew of documents have been released to the public demonstrably proving a handful of people have been hard at work covering up the reclassification of GSE profits as government revenue. The fact is that internal discussions forecasting the GSE golden years started a chain reaction of events that led to public statements about how bad the GSEs are and the taking of their profits by securing the net worth of the twins for FHFA's sister agency US Treasury.

If you figure that the Treasury takes 80% of the companies and they recapitalize over time, common shares could reach as high as $20 according to Richard X. Bove and William Ackman at this level of G-Fees.

In the next week or so, we'll learn whether or not FHFA's tactic to consolidate the cases was successful or an epic failure as I believe it will be. Then again, they were able to use it to postpone, so maybe it's a success by their definition if they see the net worth sweep imploding anyway.

I have 4050 shares of FMCCH, 9340 shares of FMCCP, 4442 shares of FMCCT, 5000 shares of FMCKP, 34461 shares of FNMFN, 5 shares of FNMFO and 25092 shares of FNMA. I own these shares because I believe that America is founded on the principle that you can fight the government to get back what they've taken from you just like we as Americans fought to take our freedom, cease to be a British colony and gradually become the United States of America that we are today. Happy Memorial Day Weekend.

Disclosure: I am/we are long FNMA,FMCCH,FMCCP,FMCCT,FMCKO,FMCKP,FNMFN,FNMFO.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.