ST. LOUIS (CN) - The latest lawsuit in the US Fidelis bankruptcy saga claims that the company's largest creditor, Mepco Finance, provided the financial resources that allowed Fidelis to sell more than 650,000 vehicle-service contracts, and that Mepco knew the tottering structure had all the "elements of a Ponzi scheme."
The Official Committee of Unsecured Creditors for US Fidelis sued Mepco Finance Corp. in Federal Bankruptcy Court.
Mepco may receive most of US Fidelis' $25 million estate, but the creditors say Mepco was more of an enabler than a victim in US Fidelis' collapse. The creditors say Mepco provided the financial grease that made US Fidelis possible.
If successful, the creditors' complaint could free up millions from the US Fidelis estate to go to unsecured creditors.
"Two simple and undisputed facts illustrate the mutual dependence between Mepco and US Fidelis," according to the 64-page complaint. "First, after January of 2007, Mepco's only business was purchasing payment plans for VSC's [vehicle-service contracts] and automobile related product warranties. Mepco did nothing else. Second, US Fidelis was the largest single customer for Mepco. No other company was even close. By the end of 2009, Mepco had a total of $406.3 million of payment plans on its books, and it had purchased $206.1 million of them from US Fidelis. In sum, US Fidelis was over one-half of Mepco's entire business.
"Likewise, Mepco was overwhelmingly important to US Fidelis. According to US
Fidelis' records, the company sold 656,842 VSCs (this includes product warranties) during its existence. Mepco was the financing organization on 607,940 of them, or 92.5 percent. Moreover, in 2008 and 2009, the last two years of US Fidelis' existence, Mepco financed 95.38 percent of all US Fidelis deals."
The creditors committee claims Mepco knew what US Fidelis was doing.
"Mepco had further insight into the inner workings of US Fidelis because it received insider information about US Fidelis from a highly placed US Fidelis executive, Fred Kolb, who was the chief financial officer," the complaint states. "For example, on October 9, 2007, Fred Kolb, US Fidelis' Chief Financial Officer, using his own personal email account, sent Scott McMillan of Mepco an email informing him that Darain [Fidelis founder Darain Atkinson] had caused some contracts to be financed with Warranty Financing LLC, a small startup financing company that had just been established by a former Mepco employee. The email also provided Mepco with Darain's thinking on a proposed $100 per contract holdback, and mentioned an upcoming in person meeting in Chicago."
The plaintiff claims Mepco was undeterred even when the noose started to tighten around US Fidelis' neck for its business practices.
"Despite the attorney general lawsuits and investigations, Mepco only increased its business with US Fidelis throughout 2008," the complaint states. "Perhaps more remarkably, Mepco increased its business with US Fidelis 30 percent over the prior year even though US Fidelis attempted to defraud Mepco itself in February. Mepco could not pull the plug on US Fidelis because it [sic] the volume of the cancellation liability on old deals was so large that Mepco's only hope of collecting it from US Fidelis was to fund more new deals, which would themselves overwhelmingly be canceled. It was like the governor on the motor powering the Merry-Go-Round had broken and the Merry-Go-Round was turning too fast for Mepco to get off."
Mepco, as US Fidelis' only secured creditor, wants to be first in line when the US Fidelis estate is paid out; it claims it was left with $57 million in bad debt.
The plaintiff committee asks the judge to invalidate Mepco's lien against U.S. Fidelis' estate, due to the nature of its relationship with U.S. Fidelis.
"Mepco's lending relationship with US Fidelis, over time, came to embody some of the same elements of a Ponzi scheme in that its ability to be paid by US Fidelis for cancellations on yesterday's sales was largely dependent on fundings from tomorrow's sales," the complaint states. "As has been shown several times above, US Fidelis was able to stay relatively current on its dealer profit refund obligations to Mepco only because Mepco netted that amount against fundings on new deals. Mepco knew that each new deal that paid yesterday's cancel liability was itself likely to be canceled at some point in the future. In a rising sale (and therefore rising cancellation) environment like that experienced in 2008 and 2009, the only way for this practice to continue was for US Fidelis to continue to sell more and more contracts."
US Fidelis was the nation's largest seller of vehicle-service contracts before it collapsed in December 2009. It founders, Darain and Cory Atkinson, were indicted in June on federal charges of consumer fraud, stealing and illegally selling insurance.
The plaintiff Committee of Unsecured Creditors is represented in bankruptcy court by David Warfield, with Thompson Coburn.
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