Insolvent insurer is focus of state inquiry: AJC Exclusive [The Atlanta Journal-Constitution]

Feb. 21--Southeastern U.S. Insurance Inc. had all the trappings of a thriving little Georgia company: millions in business, fancy Atlanta offices, a star-studded advisory board and its own quail-hunting plantation.

M. Clark Fain III, the company's owner and chief executive, even had a private plane to travel to South Georgia hunts in style.

But by the end of 2008, the fast-growing workers' compensation insurer was in trouble.

As company sales tanked with the recession, Insurance Commissioner John W. Oxendine audited the company and won a court order last year declaring it insolvent. The state shut the company down and took possession of everything Fain had proudly used to conduct business -- even the hunting dogs and plantation tractors. Oxendine in January announced a criminal investigation of Fain that is still underway.

Oxendine, a Republican candidate for governor, is investigating whether Fain hid the extent of the company's problems on its financial reports by using fraudulent, Enron-style accounting.

"We believe this was intentional," Oxendine said, "and that's a crime."

Fain said Oxendine's characterizations of the company are wildly inaccurate.

"To compare us to Enron is ridiculous," Fain said in an exclusive interview with The Atlanta Journal-Constitution.

Fain said the company suffered primarily from a recession-driven cash flow problem that could have been solved with more time.

Oxendine's drastic actions didn't protect the public, Fain said; rather, people were hurt. Fain said his company was current on all its payments until Oxendine forced a liquidation. That action ended benefits desperately needed by injured workers, Fain said, and may leave some small businesses and local governments and school boards on the hook for expenses the company will no longer cover.

"Look at all the people who have suffered," said Fain, 67.

In the beginning

Oxendine awarded Fain a license to open Southeastern U.S. Insurance -- SEUS -- in 2001. The company sold only workers' compensation coverage, required for businesses to pay medical bills and income of workers who get hurt on the job.

Fain, a South Georgia native, created SEUS after a major carrier he'd sold insurance for across the Southeast pulled out of the workers' comp market.

Fain established SEUS as a "captive" insurer, legally limited to covering the employees of one company or members of an association. SEUS was dedicated to an association serving the temp worker and employee leasing industries. But the company soon started selling to others: local governments, school boards and a range of small businesses.

The Association County Commissioners of Georgia, the Georgia Municipal Association and the Georgia School Boards Association -- all of whom run their own nonprofit insurance programs -- complained to Oxendine. The groups said SEUS was breaking the law by branching out.

Executives at the associations said elected officials buying from SEUS probably didn't understand the risks, particularly of getting stuck with claims if the insurer failed. Policy holders of captive companies didn't then have access to the state's safety net for customers of failed insurance companies.

"This danger is immediate, substantial and requires your intervention," said Jim E. Higdon, the municipal association's director, in a letter to Oxendine.

Oxendine questioned whether SEUS was breaking the law. But he pressured the company to convert from a captive to a regular insurer, which it did in 2006.

At the time, Fain said, "things were going well and we expected that to continue."

Premiums collected by the company grew from $17.7 million in 2003 to $37.7 million in 2005. In 2006, SEUS paid Fain a $1.2 million salary, according to public documents.

The company also took care of Fain's friends who served on its star-studded advisory board, including U.S. Rep. Lynn Westmoreland (R-Ga.), former University of Georgia football coach Ray Goff, and former majority leader of the Georgia House Larry Walker, a friend and ex-business partner of Fain's. They were paid up to $1,500 a meeting and some took company business trips to Ireland, Italy and Bermuda and the company's quail plantation.

Oxendine has characterized the case as an example of corporate greed. "There is nothing wrong with a company, per se, having a lavish lifestyle," he said. "The problem is when your lavish lifestyle cannot be supported by your profits."

Fain said the trips and the board payments occurred only when the company was thriving and all served a business purpose.

The company's hunting plantation was a place to entertain insurance agents and prospective customers, he said. It was also an investment. The SEUS subsidiary that owned the quail operation gradually bought more than 2,000 acres and leased another 4,000.

Fain's vision was to develop and sell the hunting operation at a profit, while using it to increase the SEUS customer base. "There are many ways people entertain to grow their businesses," Fain said. "Hunting is one of them."

Paper profit

Late in 2008, Fain sought Oxendine's approval for a $10.2 million loan from SEUS to Fain, so he could buy the SEUS subsidiary that owned the quail-hunting plantation.

Fain was the sole owner of SEUS and its subsidiary. But the transaction would have allowed SEUS to report a rosier financial portrait. The plantation was valued on company books at about $8.5 million; the appraised value for the purpose of the sale was $10.2 million.

"He was trying to create a paper profit of $2 million," Oxendine said. "The natural question was -- why does he want to do this?"

This is what prompted Oxendine to order an audit.

Fain said his motive was neither disguised nor improper: He wanted to represent the plantation's actual value on the books at the time when the company needed more assets.

But when Oxendine's staff started digging into the company's books, he said, they discovered vast under-reporting of the costs of potential payouts.

Oxendine described a typical scenario: Instead of reserving millions needed to cover a worker with catastrophic injuries over many years, SEUS would estimate the claim would be quickly closed for a fraction of what the case would truly cost over time.

"It's exactly the kind of stuff Enron was doing," said Oxendine, referring to the 2001 accounting scandal of the failed energy-trading company.

Fain scoffs at the comparison. "We didn't cook the books," he said.

He said he advised his claims adjusters to accurately estimate long-term costs. And he said a staff medical director reviewed cases frequently to make sure projections were accurate.

Not enough in reserve

SEUS suffered another blow when its own actuary, the professional who projects risks for insurers, revised his opinion of the company's financial state after Oxendine opened the investigation.

Terry Godbold, president and senior actuary at Godbold, Malpere & Co., said he reviewed six serious cases and issued a revised opinion that company reserves were at least $15 million lower than the absolute minimum required.

SEUS had determined the six cases would cost hundreds of thousands of dollars. "Those six cases are worth in excess of $20 million, probably," Godbold said.

It was the first time in 25 years of issuing opinions he had encountered a difference of that magnitude, he said.

Fain said he was "absolutely flabbergasted" that Godbold planned to change his assessment. "Nothing was hidden," from Godbold the first time, he said.

Fain said Godbold criticized only six of 27,000 claims handled by the company.

"In my opinion, [the claims] were not undervalued," he said.

When a Georgia insurer goes out of business or is declared insolvent, as SEUS was, there is a backstop: The Georgia Insurers Insolvency Pool pays outstanding claims. But there are limits.

The pool didn't cover failed captive insurers until 2008 when the law was changed. So workers injured before SEUS converted from its captive status in 2006 are excluded, as are employers with a net worth over $25 million. That rule may prevent coverage for employees of local governments and school systems. The pool is awaiting a court ruling on the matter.

The insolvency pool has so far received records of 778 injured workers who were covered by SEUS, said Mike Marchman, the pool's executive director. That doesn't include 88 workers injured while SEUS was still a captive, according to Oxendine.

As claims for coverage came in, Oxendine's office sold off the plantation's hunting dogs and farm equipment. It is looking for buyers for the plantation and the company's Atlanta office building.

The proceeds will help pay outstanding claims. Oxendine estimates SEUS had about $50 million in claims liabilities.

Meanwhile, Oxendine's office is continuing the investigation which began last year.

"When we started the case, we were looking at, OK, Clark really did some incompetent things," Oxendine said. "As we got further, we said we believe this is beyond incompetence and mismanagement."

If the investigation strongly documents criminal intent, he said, "We hope to see handcuffs on Mr. Fain someday."

It would be the state's first prosecution under a post-Enron law that makes it a crime to intentionally misstate information on insurance reports.

Even the suggestion of criminal activity bewilders Fain. He said his actions clearly do not justify such an investigation. And he says that Oxendine's liquidation of his company was more drastic than needed and was destructive not just for him, but also for the injured workers and the employers relying on the coverage.

"It's been an absolute nightmare," Fain said, "to see everything I've worked for and my reputation be destroyed."

How we got the story

The Atlanta Journal-Constitution examined reports filed by Southeastern U.S. Insurance with the Georgia Department of Insurance. The newspaper also conducted extensive interviews with company owner M. Clark Fain III, Insurance Commissioner John W. Oxendine, as well as insurance experts and others involved in the story.

To see more of The Atlanta Journal-Constitution, or to subscribe to the newspaper, go to http://www.ajc.com.

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