Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Special Note: Certain statements set forth below under this caption constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. See Special Note Regarding Forward-Looking Statements for additional factors relating to such statements. We have restated our Consolidated Financial Statements for fiscal 2010. The nature of the restatement is discussed more fully below.

We provide the following discussion to assist in understanding our financial position as of February 29, 2012 ("fiscal 2012"), and results of operations for the years ended February 29, 2012, and February 28, 2011 ("fiscal 2011") and 2010 ("fiscal 2010"). As you read this discussion, refer to our Consolidated Financial Statements and Notes thereto. We analyze and explain the differences between periods in the material line items of these statements.

Critical Accounting Estimates, Assumptions and Policies

Our discussion and analysis of financial condition and results of operations are based on our Consolidated Financial Statements that were prepared in accordance with accounting principles generally accepted in the United States of America. To guide our preparation, we follow accounting policies, some of which represent critical accounting policies as defined by the SEC. The SEC defines critical accounting policies as those that are both most important to the portrayal of a company's financial condition and results and require management's most difficult, subjective, or complex judgment, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. Certain accounting estimates involve significant judgments, assumptions and estimates by management that may have a material impact on the carrying value of certain assets and liabilities, disclosures of contingent liabilities, and the reported amounts of income and expenses during the reporting period that management considers to be critical accounting estimates. The judgments, assumptions and estimates used by management are based on historical experience, management's experience, knowledge of the accounts and other factors that are believed to be reasonable. Because of the nature of the judgments and assumptions made by management, actual results may differ materially from these judgments and estimates, which could have a material impact on the carrying values of our assets and liabilities and the results of our operations. Areas affected by our estimates and assumptions are identified below.

We recognize revenue at the time a settlement closes and defer costs for anticipated policy monitoring costs. We amortize this deferred cost over the anticipated life expectancy of the insureds.

We sometimes make short-term advances to facilitate a life settlement transaction. These amounts are included in "Accounts receivable - trade" and are collected as the life settlement transactions close. All amounts are considered collectible as we are repaid the advance before any of the other parties involved in the transaction receive funds.

We follow the guidance contained in Financial Accounting Standards Board Accounting Standards Codification "FASB ASC" 325-30, Investments in Insurance Contracts, to account for our investments in life settlement contracts. ASC 325-30 states that a purchaser may elect to account for its investments in life settlement contracts using either the investment method or the fair value method. The election is made on an instrument-by instrument basis and is irrevocable. Under the investment method, a purchaser recognizes the initial investment at the purchase price plus all initial direct costs. Continuing costs (e.g., policy premiums and direct external costs, if any) to keep the policy in force are capitalized. Under the fair value method, a purchaser recognizes the initial investment at the purchase price. In subsequent periods, the purchaser re-measures the investment at fair value in its entirety at each reporting period and recognizes changes in fair value earnings (or other performance indicators for entities that do not report earnings) in the period in which the changes occur. We elected to value our investments in life settlement contracts using the investment method. Investment in life settlements held for our own account were carried at $8,858,534 and $9,506,495 at February 29, 2012 and February 28, 2011, respectively.

We review the carrying value of our investments in policies for impairment whenever events and circumstances indicate that we might not recover the carrying value of the policies from future maturities. In cases where undiscounted expected proceeds from future maturities are less than the carrying value, we recognize an impairment loss equal to an amount by which the carrying value (including expected future costs to maintain the policies) exceeds the expected proceeds. Based on this assessment, we recorded impairment costs for investments in policies of $906,451, $6,212,150 and $2,139,183 during fiscal 2012, 2011 and 2010, respectively.

We establish litigation and policy analysis loss accruals based on our best estimates as to the ultimate outcome of contingent liabilities. This loss analysis is necessary to properly match current expenses to currently recognized revenues and to recognize that there is a certain amount of liability associated with litigation and policy losses. Through these accruals, we recognize the estimated cost to settle pending litigation as an expense. These estimates are reviewed on a quarterly basis and adjusted to management's best estimate of the anticipated liability on a case-by-case basis. A high degree of judgment is required in determining these estimated accrual amounts since the outcomes are affected by numerous factors, many of which are beyond our control. As a result, there is a risk that the estimates of future litigation and policy analysis loss costs could differ from our currently estimated amounts. Any difference between estimates and actual final outcomes could have a material impact on our financial statements.

We must make estimates of the collectability of accounts and notes receivable and premium advances. The accounts associated with these areas are critical to recognizing the correct amount of revenue and expenses in the proper period. Within the last quarter of fiscal 2010, issues were resolved which have enabled us to better estimate the collectability of premium advances. The agreement with the State of Texas allowed us to specifically identify a class of investors for whom we made premium advances and which, under the terms of the agreement, will be uncollectible. Our historical success of collecting premium advances enabled us to build a body of evidence by which we can demonstrate full collectability of the remaining balance of advanced premiums. As a result of the resolution of the suit, the reserve for uncollectible premium advances is based on our best estimate and historical data and premium advances are no longer fully reserved.

We review the carrying value of our property and equipment for impairment whenever events and circumstances indicate that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to an amount by which the carrying value exceeds the fair value of assets. The factors considered by management in performing this assessment includes current operating results, trends and prospects, the manner in which the property is used, and the effects of obsolescence, demand, competition and other economic factors. Based on this assessment, there was no impairment for property and equipment during fiscal 2012, 2011 and 2010.

We must evaluate the useful lives of our property and equipment to assure that an adequate amount of depreciation is being charged to operations. Useful lives are based generally on specific knowledge of life for specific types of assets.

We are required to estimate our income taxes. This process involves estimating our current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income, and, to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we must include a tax provision or reduce our tax benefit in the statements of operations. We use our judgment to determine our provision or benefit for income taxes, deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets.

We cannot predict what future laws and regulations might be passed that could have a material effect on our results of operations. We assess the impact of significant changes in laws and regulations on a regular basis and update the assumptions and estimates used to prepare our financial statements when we deem it necessary.

New Accounting Pronouncements

Recent accounting pronouncements have been issued including ASU 2011-04, 2011-05, 2011-06 and 2011-12. For a discussion of these pronouncements, refer to Note 3 of our Consolidated Financial Statements.

Life Partners

We are the world's oldest and only publicly traded company operating exclusively in the life settlement industry. Our revenues are primarily derived from fees associated with facilitating life settlement transactions.

Comparison of Years Ended February 28/29, 2012, 2011 and 2010

We had a net loss of $3,123,478 for fiscal 2012, compared to net income of $23,425,749 for fiscal 2011 and $26,077,214 for fiscal 2010. The net loss in fiscal 2012, with a 67.6% decrease in gross revenues and a 78.8% decline in revenues, net of brokerage fees, was due to three factors. First, our licensee network and purchaser base were damaged by the SEC investigation and subsequent lawsuit, the filing of multiple private suits, and publication of news articles criticizing our operations. A second contributing factor was the substantial decline in the life settlement market, which dropped from an estimated $8 billion in face value transactions in calendar 2009 to approximately $4 billion in each of calendar 2010 and 2011. The third factor was our large increase in legal and professional expense. Large reductions in impairment expense and bonuses were positive influences on fiscal 2012. The 6.6% decrease in revenue in fiscal 2011 was primarily the result of the aforementioned general market decline, the news articles and disclosure of the SEC investigation, which occurred in the fourth quarter of fiscal 2011. In fiscal 2010, our ability to increase our operating margins by remaining highly selective in our purchasing strategies resulted in a 10.6% increase in revenues net of brokerage and licensee fees. The increase in revenues, net of brokerage fees, together with the large decrease in the allowance account for premium advances, resulted in an increase in income from operations of 15.7%. Legal and professional costs were $6,522,221, $1,986,648 and $1,311,637 in fiscal 2012, 2011 and 2010, respectively, and were the largest single general and administrative expense. The legal and professional costs were attributable primarily to legal costs associated with the SEC investigation and lawsuit, litigation, and our audit fees. See Item 3, Legal Proceedings.

Revenues - Revenues decreased by $68,657,024, or 67.6%, from $101,579,213 in fiscal 2011 to $32,922,189 in fiscal 2012. This decrease was due primarily to the decreased number of settlements, from 166 in fiscal 2011 to 62 in fiscal 2012, along with lower revenues, net of brokerage fees, as a percentage of gross revenue. Revenues, net of brokerage fees, was 35.6% of gross revenue in fiscal 2012, vs. 54.3% in fiscal 2011 and 54.7% in fiscal 2010, as we increased promotional bonuses and lowered our fees to obtain business. Average revenue per settlement also declined 13.2%, from $611,923 in fiscal 2011 to $531,003 in fiscal 2012. Revenues decreased $7,213,346 in fiscal 2011, from $108,792,559 in fiscal 2010 to $101,579,213 in fiscal 2011. This decrease was due primarily to the decreased number of settlements from 186 in fiscal 2010 to 166 in fiscal 2011 and a decrease in the total face value of policies from $541,755,547 in fiscal 2010 to $515,109,503 in fiscal 2011. Average revenue per settlement increased in both fiscal 2010 and 2011. The average revenue per settlement increased 4.6% from $584,906 in fiscal 2010 to $611,923 in fiscal 2011.

The global economic recession in fiscal 2009 and its aftermath resulted in declines in the estimated life settlements market. The well-regarded Conning reports for 2010 and 2011 indicated that the life settlement industry completed $11.8 billion in face value of transactions in calendar 2008, but dropped to $7.6 billion in 2009 and to $3.8 billion in 2010. Despite these industry trends, in fiscal 2010, demand for our services remained strong. The number of policies that met our purchasing qualifications remained constant, and we continued to see a supply of policies with higher face values. The demand side also showed promise in fiscal 2010 with increases in average revenue per settlement and in total revenues derived from settlements. We believe this demand resulted from our broad-based, retail oriented purchasing model and referrals from a large licensee network, in contrast to many of our competitors, which rely on the credit markets or a single institutional provider of investment capital.

In fiscal 2011, we believe the life settlements market suffered even further declines. The 2011 Conning report indicated a market drop from approximately $7.6 billion in face amount transacted in 2009 to approximately $3.8 billion in 2010. While our fiscal 2011 results did not reflect the size of drop suggested in the Conning report for calendar 2010, our fiscal 2011 results were generally weaker than in fiscal 2010. Our fiscal 2011 was also adversely affected in the fourth quarter by a series of news articles critical of our operations and our disclosure of an SEC investigation. These latter events especially affected our licensee network and purchaser base and resulted in significant revenue declines in the fourth quarter of fiscal 2011 and throughout all of fiscal 2012. In the first two quarters of fiscal 2011, our results of operations had held up relatively well despite the industry downturn. Our revenues and net income were relatively stable and the metrics that we use to measure performance, such as average policy face value and revenues per settlement, were also stable. In the third and fourth quarter of fiscal 2011, however, our quarterly revenues fell to $20,159,650 and $17,031,006, respectively, and the quarterly revenues for fiscal 2012 were $9,833,395, $10,811,349, $6,666,795 and $5,610,650, respectively. Net income fell to $3,960,688 in the third quarter and to $3,029,818 in the fourth quarter of fiscal 2011 and we operated with a net loss throughout fiscal 2012. Our number of settlements fell to 37 in the third quarter and 30 in the fourth quarter of fiscal 2011 and totaled 62 for all of fiscal 2012.

Demand for life settlements generally is supported by a desire to diversify investment portfolios and avoid economically sensitive investments. Returns on life settlements are linked to the lives of the insureds. As such, settlements function independently from, and are not correlated to, traditional equity and debt markets and commodity investments. The industry benefits from the investment community searching for returns higher than what is currently available in the traditional marketplace. The financial markets have remained somewhat unsteady following the 2008 financial crisis. While this would appear to benefit the life settlement market, the life settlement market declines in 2009 and 2010 suggest retreating investor capital and a lack of confidence in the industry.

Demand for our services was especially hurt by the critical news articles and the uncertainty related to the SEC investigation and lawsuit, which affected our licensee network and purchaser base. Our business model is somewhat unique in the industry in that we are the only publicly held, life settlement company and the only prominent company with a broad, retail base. We believe the adverse publicity affected our client base more acutely than the publicity might have affected a company with an institutional-oriented base. We believe the news articles portrayed us in a false light, and we have worked with our licensees and clients to restore lost confidence and rebut the charges in the articles. Our ability to return to fiscal 2009 or 2010 levels will not occur until and unless we can resolve the SEC suit satisfactorily. Until the SEC suit is resolved, we anticipate that our operating results in fiscal 2013 will be no better than fiscal 2012 and could decline further.

Brokerage and Referral Fees - Brokerage and referral fees decreased 54.3%, or $25,240,789 from $46,448,548 in fiscal 2011 to $21,207,759 in fiscal 2012. Brokerage and referral fees decreased 5.7%, or $2,803,237, from $49,251,785 in fiscal 2010 to $46,448,548 in fiscal 2011. Brokerage and referral fees constituted 64.4%, 45.7% and 45.3%, of revenues in fiscal 2012, 2011 and 2010, respectively. In fiscal 2012, 2011 and 2010, broker referrals accounted for 99% of the total face value of policies transacted. Policies presented from two brokers each represented more than 10% of all completed transactions in fiscal 2012 and represented 24.3% in total. Policies presented from two brokers each represented more than 10% of all completed transaction in fiscal 2011 and represented 26.9% in total. Policies presented from one broker represented more than 10% of all completed transactions in fiscal 2010 at 15%.

Brokerage and referral fees generally increase or decrease with revenues, face value of policies transacted and the volume of transactions, although the exact ratio may vary according to a number of factors. Brokers may adjust their fees with the individual policyholders whom they represent. In some instances, several brokers may compete for representation of the same seller, which will result in lower broker fees. Referral fees also vary depending on factors such as varying contractual obligations, market demand for a particular kind of policy or life expectancy category and individual agreements between clients and their referring financial planners. Referral fees have increased as a percentage of revenues due to added promotional programs to stimulate transaction interest. We also have reduced our fees on select brokerage transactions to remain competitive in the marketplace. No broker fees are paid when a policy owner is not represented by a broker and presents a policy to us directly.

Many states now license life settlement brokerage activity, which may result in the capping of fees or the increased disclosure of fees. Industry analysts have suggested that these regulations could tend to lower the fees, although we have yet to see such a result directly from regulation.

Operating Expense- General and administrative expenses decreased 20.9%, or $2,049,717, from $9,828,675 in fiscal 2011 to $7,778,958 in fiscal 2012. General and administrative expenses decreased 5.9%, or $618,584, from $10,447,259 in fiscal 2010 to $9,928,675 in fiscal 2011.

The decrease in fiscal 2012 was due primarily to executive bonuses. Bonuses decreased $2,044,135 in fiscal 2012 as there were no executive bonuses. Executive and employee bonuses decreased $615,716 in fiscal 2011 as earnings decreased. Increased payments in 2010 and decreased payments in 2011 and 2012 are a direct result of our increasing and decreasing profitability, which is linked to executive compensation plans and bonuses given to all employees.

Legal and professional expenses were higher in fiscal 2012; $6,522,221 compared to $1,986,648 in fiscal 2011. These expenses are primarily associated with the SEC investigation and lawsuit, the private litigation that followed disclosure of the SEC investigation, and auditing fees. Legal and professional expenses in fiscal 2010 were $1,311,637.

The increase in legal and professional fees in fiscal 2012 was partially offset by lower impairment expense. Impairment expense for fiscal 2012 declined $5,305,699 to $906,451, as many of the older viatical policies that we own were fully impaired in previous periods. We increased impairment expense for our investment in policies from $2,139,183 in fiscal 2010 to $6,212,150 in fiscal 2011 due primarily to longer projected life expectancies within the investment portfolio.

For various legal actions or claims in which we believe we might incur liability, we paid non-recurring settlement expenses of $613,374 in fiscal 2012 and $789,622 in fiscal 2011, compared to $3,615,726 in fiscal 2010. The settlement expense in fiscal 2010 included settlements with Maxim for $1,250,000 of treasury stock, the State of Florida for $770,000, and a $500,000 reimbursement to purchasers for prepaid premiums.

Premium advances, net of reimbursements, in fiscal 2012, 2011 and 2010 were $1,363,915, $882,920 and a negative $1,715,265, respectively. In fiscal 2010, the allowance account for net premium advances was reduced. For business goodwill, we make advances on policy premiums to maintain certain policies. In the typical life settlement, policy premiums for the insured's projected life expectancy are added to the purchase price and those future premium amounts are set aside in an escrow account to pay future premiums. When the future premium amounts are exhausted, purchasers are contractually obligated to pay the additional policy premiums. In some instances, purchasers have failed to pay the premiums and we have repurchased the policy or advanced the premiums to maintain the policies. While we have no contractual or other legal obligation to do so, and do not do so in every instance, we have made premium advances or purchased the policies as an accommodation to certain purchasers based on our assumptions that we will ultimately recoup the advances and upon our desire to preserve business goodwill. While some purchasers repay the advances directly, reimbursements of these premiums will come most likely as a priority payment from the policy proceeds when an insured dies.

We must make estimates of the collectability of these premium advances. We recorded an allowance against the premium advances at the time of the advance and treated reimbursements as a reduction of the allowance. Until fiscal 2010, due to the uncertainty of the outcome of a court case with the State of Texas, we were unable to estimate the amount of any future advances we may elect to make or the timing of the amount of reimbursements we were likely to receive. Within fiscal 2010, issues were resolved that enabled us to better estimate the collectability of premium advances. The agreement with the State of Texas allowed us to specifically identify a class of investors for whom we made premium advances and which, under the terms of the agreement, will be uncollectible. Our historical success of collecting premium advances has enabled us to build a body of evidence by which we can demonstrate full collectability of the remaining balance of advanced premiums. To date, we have ultimately been fully reimbursed when we have made an advance and the policy has matured. As a result, we eliminated $6.4 million of the allowance on the advanced premiums account in the fourth quarter of fiscal 2010.

Interest Income and Expense - Interest and other income increased $540,340 from $834,050 in fiscal 2011 to $1,374,390 in fiscal 2012. Interest and other income decreased $659,414, from $1,493,464 in fiscal 2010 to $834,050 in fiscal 2011. The increase in interest and other income in fiscal 2012 was primarily a result of $809,218 of gains on sales of Investments in Policies. These gains were offset by a slight decrease in interest income as there was a lower amount of cash available for investment. Interest and other income in fiscal 2011 corresponded to lower interest rates on lower amounts of cash available for investment, as well as reduced gains from maturities on owned policies. Interest expense was $5,694, $1,505 and $46,988 in fiscal 2012, 2011 and 2010, respectively. Interest expense in fiscal 2010 related primarily to the long-term debt financing on our property, which was retired on April 28, 2009. There were gains from our investment in the life settlements trust in fiscal 2011 and 2010, resulting in gains of $143,554 and $222,186, respectively.

Realized Loss on Investments - We realized a loss on sales of investment securities of $185,456 in fiscal 2012, a gain of $88,492 in fiscal 2011 and a loss of $1,823,364 in fiscal 2010.

Income Taxes- The income tax benefit was $1,429,921 in fiscal 2012 as we had negative pretax earnings. Income tax expense decreased by $4,410,635, or 25.6%, from $17,197,268 in fiscal 2010 to $12,786,633 in fiscal 2011. Income tax expense is in direct correlation to pretax earnings, taxed at 35% at the Federal level. In fiscal 2010, we had an additional accrual of $831,233 of Texas Margin Tax; $402,104 for an estimated assessment due to non-deductibility of certain payments in past and current periods included in our calculation of the Texas Margin, and $429,129 for the current year taxes due in May 2011. Income tax expense was also affected by the impact of establishing a $611,298 valuation allowance within the deferred income tax asset account. This allowance was established to recognize the uncertainty of netting future capital gains against a current capital loss.

Liquidity and Capital Resources

Operating Activities - Net cash flows used by operating activities in fiscal 2012 were $5,730,997, primarily as a result of a net loss of $3,123,478, a decrease in income taxes payable, a decrease in accounts payable and a gain on sales of investments in policies, while impairment of policies and deferred income taxes had a positive impact. Net cash flows provided by operating activities decreased by 118.7%, decreasing $36,464,220 from $30,733,223 in fiscal 2011 to $(5,730,997) in fiscal 2012. Net cash flows provided by operating activities decreased $468,653 from $31,201,876 in fiscal 2010 to $30,733,223 in fiscal 2011. Fiscal 2011's cash flow was primarily from net income of $23,425,749 and increased by impairment of owned policies and an increase in accounts payable. Fiscal 2010's cash flow was primarily from net income of $26,077,214 increased by impairment of owned policies, impairment of investment in securities, an increase in accrued liabilities and a decrease in accounts receivable.

Investing and Financing Activities - Our investing activities provided cash of $4,403,837 in fiscal 2012, primarily from $4,663,547 of proceeds from sales of securities and $1,027,018 of proceeds from sales of investments in policies, less $769,835 used for purchases of investments in policies and $712,333 of net premium advances. In contrast, we used cash of $3,615,737 in investing activities in fiscal 2011 versus $12,590,680 in fiscal 2010. We used available cash to purchase policy interests for our own account. We purchased policies of $3,654,183 in fiscal 2011 and $7,863,520 in fiscal 2010. Of the policies purchased in fiscal 2010, $6,441,625 represented policies that we acquired in connection with a settlement with the state of Colorado. We have continued to acquire policy interests on a discretionary basis as those opportunities are presented to us by existing clients and on terms that are agreeable to both parties. We believe that we will profit from the investment in these policies when they mature. We also used cash to make net premium advances, which were $712,333, $2,954,289 and $3,549,912 in fiscal 2012, 2011 and 2010, respectively. In fiscal 2010, we invested $1,227,484 in a life settlements trust, which acquired life settlement interests. In addition to investing, we acted as a non-exclusive purchasing agent for the trust and its predecessor partnership. The trust is no longer acquiring life settlements and we do not anticipate further investments. The trust owns a portfolio of life insurance settlements with an initial face value of $706 million, which we anticipate will mature over the next few years. The trust experienced some maturities during fiscal 2012, 2011 and 2010, which paid us $84,443, $464,796 and $420,743, respectively.

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