Spongetech Delivery Systems, Inc. (fka SPNGQ)

[loanranger]

OBJECTIONS OF KENNETH P. SILVERMAN TO THE DICON TRUSTEE’S MOTION FOR ENTRY OF AN ORDER AUTHORIZING THE
TRUSTEE TO SELL SUBSTANTIALLY ALL OF DICON’S OPERATING ASSETS

I STILL don't know how to link or post a copy of a pacer document to zoho, etc. and I don't know whether Ihub has constraints on the size of a post, but here are the OBJECTIONS...sorry if it doesn't copy and paste well esthetically:

EMF/610017.2/059228
UNITED STATES BANKRUPTCY COURT
SOUTHERN DISTRICT OF GEORGIA
SAVANNAH DIVISION
In re: ) Chapter 11
)
DICON TECHNOLOGIES, LLC,1 ) Case No. 10-41275 LWD
)
Debtor. )
)
OBJECTIONS OF KENNETH P. SILVERMAN,
THE CHAPTER 11 TRUSTEE OF SPONGETECH
DELIVERY SYSTEMS, INC.,2 TO THE DICON TRUSTEE’S MOTION,
PURSUANT TO SECTIONS 105(a), 363 AND 365 OF THE BANKRUPTCY
CODE AND RULES 2002, 6004, 6006, AND 9019 OF THE FEDERAL RULES OF
BANKRUPTCY PROCEDURE FOR ENTRY OF AN ORDER AUTHORIZING THE
TRUSTEE TO SELL SUBSTANTIALLY ALL OF DICON’S OPERATING ASSETS
Kenneth P. Silverman, the chapter 11 Trustee (the “SpongeTech Trustee”) of
SpongeTech Delivery Systems, Inc. (“SpongeTech”),3 by his attorneys, SilvermanAcampora
LLP, respectfully submits these objections to the Amended Motion dated August 31, 2010 (the
“Motion”) of Lloyd T. Whitaker, the chapter 11 Trustee (the “Dicon Trustee”) of Dicon
Technologies, LLC (“Dicon”), and represents as follows:
1. Underlying the seemingly garden-variety Motion, which seeks authority to sell
substantially all of the assets used in Dicon’s business, is (i) a massive fraud perpetrated on
public holders of SpongeTech stock, (ii) the highly suspicious sale of Dicon’s membership
interests to SpongeTech by Wayne Celia (“Celia”), a principal of Diversified Technologies,
Inc. and JKA, Inc., the current, putative purchaser of Dicon’s assets (collectively, the
“Bidder”), (iii) the apparent breach by Celia of his prior employment contract with Dicon, and
1 Dicon’s principal business address is 100 Dicon Drive, Black Creek, Georgia 31308. The last four digits
of Dicon’s taxpayer number are 7889.
2 In re SpongeTech Delivery Systems, Inc. is a chapter 11 case pending in the United States Bankruptcy
Court for the Southern District of New York (the “SpongeTech Court”), case no. 10-13647.
3 As explained below, SpongeTech is the 100% owner of the equity interests in Dicon.
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(iv) what appears to be the engineering by Celia of the rapid demise of Dicon for the sole
purpose of repurchasing the company’s assets at a fire sale.
2. Notwithstanding the extraordinary background to the Dicon and SpongeTech
cases and the offer to purchase from the Bidder, the Motion provides scant detail and absolutely
none of the essential information necessary for creditors, the SpongeTech Trustee,
shareholders4 of SpongeTech or the Court to assess whether the proposed sale represents the
highest available value for the assets being sold or is in the best interests of Dicon’s estate
and/or SpongeTech’s estate and their creditors and shareholders.
3. Moreover, because the Dicon Trustee has failed to file a fully executed Asset
Purchase Agreement, as was promised in the Motion, and because of onerous terms in the
(non-binding) Term Sheet attached to the Motion (the “Term Sheet”), the proposed sale
excludes meaningful competitive bidding and is a de facto lock-up transaction in favor of an
insider of Dicon.
4. Finally, because of the deep involvement of at least one of the Bidder’s
principals, who is subject to a contractual non-compete agreement in favor of SpongeTech, in
the management of Dicon, the licensing of critical technology and intellectual property and the
rapid demise of Dicon after its acquisition by SpongeTech, this proposed sale to an affiliate of
an insider should be deeply scrutinized and should not be approved, if at all, until after a
substantially greater investigation than has been performed to date.
5. Similarly, numerous unanswered questions should be addressed, in depth,
before the proposed sale is approved by the Court. Little over one year ago Celia and his
partners sold their membership interests in Dicon to SpongeTech for approximately $4.8 million
based on express representations and warranties made by Celia as to the business and sales
4 Allegedly, there are some 3 billion shares of SpongeTech stock issued and outstanding. The
SpongeTech Trustee has received numerous calls and written transmissions from scores of SpongeTech
shareholders expressing grave concern over the effect of the proposed sale on their efforts to continue
the SpongeTech consolidated businesses.
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of Dicon, both historic and projected, and Celia’s express, contractual commitment to a noncompete
period. Until he was replaced by SpongeTech management, following the sale of
Dicon to SpongeTech, Celia managed the business of Dicon pursuant to a written contract
among Celia, SpongeTech and Dicon. As discussed below, Dicon was apparently used as an
instrumentality of fraud by SpongeTech principals during the period that Celia was running
Dicon, and thereafter. The extent to which Celia was aware of the fraud and the co-mingling of
assets between SpongeTech and Dicon is unknown. The extent to which Celia was responsible
for precipitous decline in Dicon’s business, included the purported termination of its exclusive
license rights, is unknown. What is known is that Celia and the Bidder are in willful breach of
Celia’s contractual obligation not to compete with SpongeTech by their submission of the offer
to purchase Dicon assets.
6. Because there is no indication that Dicon’s assets are wasting, and every
indication that the proposed sale does not maximize value for the Dicon or SpongeTech estates,
there should be no pressing urgency to avoid these important and critical issues prior to the sale
of these assets.
BACKGROUND
The SpongeTech Bankruptcy Filing
7. At all times relevant, SpongeTech was a publicly held Delaware corporation with
offices at 10 W. 33rd Street, New York, New York.
8. On July 9, 2010, SpongeTech filed a voluntary bankruptcy petition for relief in
accordance with chapter 11 of the Bankruptcy Code.
9. By Order of the Court dated July 19, 2010, and Notice of Appointment dated July
20, 2010, S. Gregory Hays (”Hays”) was appointed as the chapter 11 operating trustee of the
SpongeTech estate. On August 3, 2010, by Notice of Withdrawal, Hays resigned his position as
trustee in the SpongeTech case.
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10. In accordance with an Order of the SpongeTech Court dated August 4, 2010,
Hays was discharged of his duties, and Kenneth P. Silverman, Esq., was appointed as the
Successor Operating Trustee.
SpongeTech’s Acquisition of Dicon
11. In or about July 2009, SpongeTech acquired all of the membership interests in
Dicon, and at all times relevant SpongeTech was and is the sole equity holder of Dicon. One of
the selling members of Dicon was Celia, who had acted as Dicon’s President prior to the sale.
The consideration paid by SpongeTech to Celia and his partners for their interests was $4.8
million.
12. The sale included a required employment agreement for Celia (and others) and,
up to approximately March 2010, Celia served as President of Dicon and effectively ran the
Dicon operations on a day-to-day basis. Thereafter, it appears that SpongeTech and Dicon
were managed and controlled completely by Chief Executive Officer and President Michael
Metter (“Metter”), Chief Operating Officer and Chief Financial Officer Steven Moskowitz
(“Moskowitz”), and Executive Vice President Barry Kolevzon (“Kolevzon”).
13. Prior to the July 9, 2010, SpongeTech and Dicon were purportedly engaged in
the manufacture and distribution of hydrophilic foam sponge products designed for, among
other things, cosmetics, the home, automobiles, watercraft, and pets.
14. As part of the manufacturing and distribution process, SpongeTech products
were manufactured in the Dicon plant in Black Creek, Georgia, and inventory was held on-site
and at the Oneida warehouse in Black Creek. It is this manufacturing facility that is the subject
of the Motion
The Criminal and Civil Actions by the United States
Against SpongeTech and Its Officers and Directors
15. In May 2010, the United States of America filed a criminal complaint in the United
States District Court for the Eastern District of New York charging Moskowitz and Metter with
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conspiracy to commit fraud and obstruction of justice. Moskowitz and Metter were arrested by
the Federal Bureau of Investigation (“FBI”) for their alleged criminal activity, which raided
SpongeTech’s premises and removed most of SpongeTech’s invoices, books and records, bank
statements, and computers. Metter resigned from his position with SpongeTech on June 8,
2010.
16. At the same time, the Securities and Exchange Commission filed a civil
complaint against Metter, Moskowitz and several others, alleging, inter alia, that they were
involved in a massive “pump and dump” scheme dating back to 2007, whereby, as part of their
scheme, they allegedly deceived the investors through false statements about non-existent
SpongeTech customers, fake sales orders, and phony revenue. According to the SEC
Complaint, the defendants then dumped the fraudulently inflated shares by illegally selling them
to the public through affiliated entities in unregistered transactions.
17. SpongeTech has not complied with any of its SEC filing requirements since at
least February 2009.
ARGUMENT
18. The SpongeTech Trustee objects to approval of the proposed sale of Dicon
assets because of, among other things, (i) the inadequate marketing efforts by the Dicon
Trustee, (ii) inadequacies and deficiencies in the Term Sheet and the bidding “process,” (iii) the
chilling effect that the lack of an effective auction process has had on competitive bidding, and
(iv) the numerous unanswered questions surrounding Celia’s involvement with Dicon and the
Bidder, and his obligations to the SpongeTech estate under the 2009 Agreement and the Celia
Employment Agreement. Finally, the proposed sale should not be approved until adjudication of
the issues raised by the SpongeTech Trustee’s substantive consolidation complaint.
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A. Any Sale at This Time Is Premature Until the
Numerous Questions Surrounding Celia, the Bidder and
H.H. Brown Shoe Technologies, Inc., Are Resolved;
The Bidder’s Principal, Celia, and H.H. Brown Are the Subjects of
Potential Claims by the SpongeTech Trustee
And, Therefore, the Bidder Is Hopelessly Conflicted
And Not an Arms’ Length Purchaser of Dicon’s Assets
19. One of the principals of the Bidder is Celia. Under the Term Sheet, and
presumably the unfiled Asset Purchase Agreement, one of the conditions to the Bidder’s
obligations to close is a general release from the Dicon Trustee in favor of the Bidder, Celia,
other principals of the Bidder and H.H. Brown Shoe Technologies, Inc (“H.H. Brown”), a former
owner of Dicon. It is easy to see why Celia and H.H. Brown are desperate to obtain such a
release.
20. H.H. Brown, the purported owner and licensor of technology and intellectual
property critical to the business of both Dicon and Spongetech (the “Sponge Technology”), was
the owner of Dicon prior to Celia’s ownership of Dicon. H.H. Brown spun Dicon off in a sale to
Celia and his partners, which included the exclusive right to use the Sponge Technology. For
some years, Celia and his partners apparently operated Dicon profitably. Celia had been an
employee and/or officer of H.H. Brown prior to the spin-off Dicon to Celia and his partners. In
2009, Dicon was once again sold in a transaction in which Celia was a critical and active
principal.
21. Celia was a principal seller of the membership interests in Dicon to SpongeTech
in July 2009. He is a party to the Membership Interest Purchase Agreement by and among
SpongeTech Delivery Systems, Inc., Dicon Technologies, LLC, Wayne M. Celia, Sam Ginsburg,
Clyde Williams, Roy Geronemus and John Schelb, dated as of July 9, 2009 (the “2009
Agreement”). Celia is also a party to an employment agreement by and among SpongeTech,
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Dicon and Celia, dated July 7, 2009 (the “Celia Employment Agreement”).5 Copies of the 2009
Agreement and the Celia Employment Agreement are annexed hereto as Exhibit 1 and Exhibit
2, respectively.
22. Although Celia’s employment was terminated earlier this year by SpongeTech
management in accordance with the Celia Employment Agreement, certain provisions of the
agreement are still applicable. Specifically, pursuant to paragraphs 7 and 8 of the Celia
Employment Agreement, Celia is prohibited from (a) interfering with the “relationship between
[Dicon], SpongeTech or its affiliates, divisions and related companies or any person or business
that was a customer, supplier, licensor, contractor or employee …,” (b) “solicit[ing] or attempt to
solicit any employee of the Company or SpongeTech to terminate his or her employment …” or
to assist another in employing such employees, and (c) “engage[ing] in, with or for any
enterprise, institution, …, business, or company, competitive with the “Business” of the
Company or SpongeTech ….”
23. The SpongeTech Trustee is informed that, following the acquisition of Dicon by
SpongeTech, and while Celia was still employed by SpongeTech, Dicon suffered a decline in
business and fell dramatically short of the financial projections made by Celia upon which
SpongeTech relied in purchasing Dicon.6
24. Following the termination of Celia’s employment by SpongeTech, H.H. Brown
purportedly terminated Dicon and SpongeTech’s exclusive right to use the Sponge Technology.
The SpongeTech Trustee, and apparently the Dicon Trustee as well (see the Motion, paragraph
19), believes that H.H. Brown’s termination of Dicon’s and SpongeTech’s right to use the
5 It is not known whether other principals of the Bidder may also be subject to non-compete covenants in
favor of the SpongeTech Trustee because there is no disclosure in the Motion concerning the principals
of the Bidder.
6 SpongeTech’s books and records are disorganized and completely unreliable. The SpongeTech
Trustee has attempted to obtain documents and information from the Dicon Trustee concerning Dicon
and SpongeTech and agreed to the terms of a proposed nondisclosure agreement with counsel for the
Dicon Trustee. However, the SpongeTech Trustee has not been given access to any of the information
or documents that he requested. Accordingly, the SpongeTech Trustee has been force to proceed so far
based on anecdotal information.
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Sponge Technology may have been improper and wrongful. Moreover, upon information and
belief, Celia was instrumental in provoking H.H. Brown’s wrongful termination of Dicon’s and
SpongeTech’s right to the exclusive use of the Sponge Technology.
25. The SpongeTech Trustee intends to commence an adversary proceeding or
proceedings against Celia, H.H. Brown and the Bidder, and perhaps others, to enforce his rights
under the Celia Employment Agreement and to challenge the wrongful termination of the
exclusive right to use the Sponge Technology. The SpongeTech Trustee also intends to
investigate Celia’s role in the precipitous demise of the business of Dicon and whether his
wrongful conduct was related to his bid to re-purchase Dicon’s business at a substantial
discount to value.
26. At a minimum, the SpongeTech Trustee has property rights in the covenants
contained in both the 2009 Agreement and the Celia Employment Agreement that are
exclusively subject to the jurisdiction of the SpongeTech Court. See 28 U.S.C. 1334(e). To the
extent that the releases proposed to be given by the Dicon Trustee in favor of the Bidder, Celia,
H.H. Brown, or any other party, purport to affect any claims that the SpongeTech Trustee may
have against the Bidder, H.H. Brown and/or Celia, or any other person, this Court may not enter
an order affecting any right of SpongeTech arising from the 2009 Agreement, the Celia
Employment Agreement or the acts of any party affecting the rights of SpongeTech or the
SpongeTech Trustee.
27. As demonstrated above, Celia as been a seller of Dicon’s assets and is the buyer
favored by the Dicon Trustee. As further demonstrated above, despite the existence of noncompete
and non-solicitation provisions in favor of the SpongeTech estate in the Celia
Employment Agreement, the Dicon Trustee has agreed to grant full general releases to the
Bidder, Celia and all of the Bidder’s other principals—who may include other parties who are
bound by covenants in favor of the SpongeTech estate.
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28. Given Celia’s history, the allegations made by SpongeTech shareholders that
Celia was dismissed for cause, see Objection filed by numerous SpongeTech shareholders,
Docket No. 145, and the patently inadequate consideration offered by the Bidder, the sale
should, at a minimum, be postponed until all questions are adequately answered.
29. Alternatively, the Bidder, who is not arms’-length, should be denied “good faith”
status and any release granted should expressly exclude any and all claims of the SpongeTech
Trustee and all other third parties against the Bidder, Celia or any other party.
B. The Bidder Is Not Entitled to Good Faith Status under Section 363(m)
30. Because of Celia’s breach of the Celia Employment Agreement, because of the
Celia’s involvement with the Bidder as a principal since his termination by SpongeTech, see
Motion, paragraph 7, and because of the potential claims against Celia and the Bidder, see
Motion, paragraph 19, by both the Dicon Trustee and the SpongeTech Trustee, the Bidder is
precluded from being designated a ‘good faith” purchaser under Section 363(m) of the
Bankruptcy Code.
C. There Are No Exigent Circumstances
That Justify an Expedited Sale of Assets
31. Rather than utilizing a customary two-step sale process, where bidding
procedures and standards for qualification of bidders are first approved by the Court on notice to
parties in interest, the Dicon Trustee has chosen to proceed via a single motion for approval of
the sale, without approval of bidding procedures, bid qualification standards, or the proposed
expense reimbursement cap. Moreover, the proposed sale of assets has been presented to the
Court a very short time after the commencement of the Dicon bankruptcy case. Simply stated,
no exigent circumstances exist that warrant this extraordinary and expedited process.
32. The assets proposed to be sold consist principally of accounts receivable, nonperishable
inventory, and fixed assets. See Dicon Trustee’s Operating Report for June 29,
2010 to July 31, 2010 (“July Operating Report”), and Balance Sheet as of July 31, 2010 (the
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“July Balance Sheet”), collectively annexed hereto as Exhibit 3. There are no representations
made in the Motion that there are any perishable goods among Dicon’s assets. The sole
justification for the expedited process proposed by the Dicon Trustee is the prospect of further
losses to the estate. However, the July Operating Report also shows that, during the period
from June 29, to July 21, 2010, Dicon had net ordinary income of $682,280.25 and cash
receipts in excess of disbursements of more than $34,000.00. Dicon’s business is not a moneylosing
enterprise sapping the estate of large volumes of cash, nor are there wasting assets that
must be preserved by an expedited sale.
33. There are, however, very significant assets listed in the Dicon Trustee’s July
Operating Report, all of which appear to be among the assets being sold, that are not
mentioned, discussed or evaluated in the Motion. The Court, the creditors, the SpongeTech
Trustee and the shareholders deserve and require detailed information and disclosure
concerning all assets being sold before the Motion can be approved.
D. The Financial Affairs and Assets of SpongeTech and
Dicon Are So Intertwined as to Require Substantive
Consolidation and a Sale of the Consolidated Entities’ Assets
34. On September 15, 2010, the SpongeTech Trustee filed an adversary proceeding
in the SpongeTech Court seeking the substantive consolidation of the SpongeTech and Dicon
estates. A copy of the adversary complaint for substantive consolidation is annexed hereto as
Exhibit 4.
35. As detailed in the adversary complaint for substantive consolidation,
SpongeTech and Dicon shared corporate headquarters, shared management and shared
employees. SpongeTech and Dicon funds were comingled and used interchangeably, with the
result that intercompany claims between SpongeTech and Dicon are incapable of being
separated. It appears from the SpongeTech Trustee’s investigation that SpongeTech
accounted for and reported, for tax purposes and otherwise, the assets and finances of
SpongeTech and Dicon on a consolidated basis.
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36. It further appears that SpongeTech carries an approximately $1.0 million
receivable due from Dicon that is, in reality, sales of SpongeTech products to vendors utilizing
Dicon’s vendor code. Upon information and belief, the proceeds of the sale of SpongeTech
products were retained and utilized by Dicon in the conduct of its business.
37. On the basis of the facts discovered to date, the SpongeTech Trustee is
confident that he will prevail in his adversary proceeding.
38. As alleged in the objections filed by Christine Brenner, Docket No. 144, there is
substantial reason to believe that much of the Dicon inventory may be property of the
SpongeTech estate. Indeed, because Dicon appears to have retained the sale proceeds of
SpongeTech products, it is impossible to distinguish between SpongeTech and Dicon inventory.
39. For all of the forgoing reasons, approval of the proposed sale of Dicon’s assets is
neither warranted by the “facts” set forth in the Motion nor timely given the substantial questions
about the adequacy of marketing efforts and the reasonableness of the Bidder’s offer.
40. The Court should also afford comity to the SpongeTech Court and defer from
approving the sale until the SpongeTech Trustee’s substantive consolidation adversary
proceeding has been adjudicated.
E. The Dicon Trustee Has Failed to
Adequately Market, Describe or Value Dicon’s Assets
41. A bankruptcy trustee selling a debtor’s assets under section 363 of the
Bankruptcy Code must strive to maximize the value of the assets being sold. See In re
Integrated Resources, Inc., 135 B.R. 746, 750 (Bankr. S.D.N.Y.), aff’d 147 B.R. 650 (S.D.N.Y.
1992). Indeed, in affirming the bankruptcy court in Integrated Resources, the District Court
noted that “the management of a bankrupt company [in this case, the Dicon Trustee] must
‘further the diverse interests of the debtor, creditor and equity holders, alike.’” 147 B.R. at 658,
quoting In re Lionel Corp., 722 F.2d 1063, 1071 (2d Cir. 1983) (emphasis added). “It is a wellestablished
principle of bankruptcy law that the objective of bankruptcy sales and the trustee's
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duty with respect to such sales is to obtain the highest price or greatest overall benefit possible
for the estate. In re Blue Coal Corporation, 59 B.R. 157, 162 (Bankr.M.D.Pa.1986). See also In
re Robison, 74 B.R. 646 (E.D.Mo.1987) (holding that in order to maximize the sale price of the
property of the bankruptcy estate, the trustee has the exclusive right, power and authority to sell
such property); Zaccaro v. Bowery Savings Bank (In re Jewel Terrace Corp.), 10 B.R. 1008
(E.D.N.Y.1981) (recognizing that the trustee has a fiduciary duty to protect the interests of the
debtor's shareholders and creditors, so that the trustee properly sought approval of the more
advantageous contract for the sale of the debtor's assets).
42. The Dicon Trustee represents that he has undertaken a full marketing effort of
the Dicon assets. Significantly, the Motion concedes that Celia approached the Dicon Trustee
shortly after his appointment as the chapter 11 trustee. However, the motion is silent on why
the sale of assets valued on the July Balance Sheet in excess of $3,000,000.00, for a purchase
price of $625,000.00, is warranted at this time. The Motion is eerily silent as to exactly whom
the Dicon Trustee has marketed the assets, other than the Bidder, a deeply conflicted insider,
that is subject to breach of the Celia Employment Agreement’s non-compete covenant. Nor is
there any evidence that the Dicon Trustee utilized the services of a professional broker,
auctioneer or investment banker to market Dicon’s business and assets.
43. During the past two months, the SpongeTech Trustee has been approached by
numerous SpongeTech public shareholders who have expressed a strong interest in submitting
a bid for the consolidated assets of Dicon/SpongeTech. See Separate letters from SpongeTech
shareholders, filed with the Court as Docket Nos. 133-135, 139-141, 144-145 and 147-149. The
shareholders have indicated to the SpongeTech Trustee a strong interest, subject to due
diligence, to consider a significant purchase price for the consolidated assets of Dicon and
SpongeTech. The SpongeTech shareholders have expressed frustration to the SpongeTech
Trustee over not having received notice of the marketing efforts and over the disdain shown by
the Dicon Trustee to a substantive consolidation of the SpongeTech and Dicon estates. The
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SpongeTech Trustee believes that, with an adjournment and the provision of information to a
wider group of potential purchasers, including SpongeTech shareholders, an offer substantially
in excess of that of the Bidder can be elicited.
44. There is no valuation provided for any of the assets being sold other than the
inventory. Indeed, there is a startling failure to describe in narrative format the assets being
offered for sale. Therefore, there is inadequate information provided by the Dicon Trustee for
any party to conclude that the estates are receiving any value for the valuable releases that the
Dicon Trustee proposes to give
45. In the motion, the Dicon Trustee represents that the Dicon business has
effectively ceased. Moreover, the purchase price of $625,000.00 offered by the Bidder is less
than the cost of Dicon’s inventory. It is clear that the Bidder’s offer allocates no value to the
releases received from the Dicon Trustee or the going concern business of Dicon. However, it
appears from (i) the Motion, (ii) the July Operating Report, and (iii) the Term Sheet with Respect
to Proposed Assumption and Assignment of Lease by and between the Development Authority
of Bryan County and Dicon Technologies, LLC dated August 1, 2008 (the “Lease Assignment
Term Sheet”), that Dicon’s fixed assets being leased from Bryan County may have very
substantial value that is not reflected at all in the Bidder’s offer.
46. For example, the July Operating Report values Dicon’s Building, Land and
Property, Plant and Equipment at $3,184,988.61, net of depreciation (the land is valued at
$207,550.00). The Lease Assignment Term Sheet provides that the Bidder pay a cure amount
of $100,000 to the Development Authority of Bryan County, plus the lease payments of $16,000
per month, and has the obligation to purchase the Dicon Black Creek facility for $10.00. Given
the value of Dicon’s Building, Plant and Equipment, as reported in the July Operating Report,
the proposed sale to the Bidder appears to be a patent give-away to the Bidder, with the Dicon
estate receiving nothing at all for Dicon’s apparently valuable facility.
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47. Finally, the Bidder makes no commitment to hire employees. Accordingly, the
Bidder’s (non-binding) offer that is before the Court offers no value for any assets other than the
inventory of Dicon, including the fixed assets, good will and going concern value, if any, and
provides no assurances that any employees of Dicon will be retained by the Bidder.
48. Under these circumstances, there is no reason to proceed with the haste that is
proposed by the Dicon Trustee and every reason to adjourn the proposed sale while a search
for a higher and better offer is conducted and the issue of substantive consolidation is properly
determined by the SpongeTech Court.
F. The Motion Fails to Provide Any Basis to Conclude
That the Settlement of Claims of the Dicon Estate
Against Celia and H.H. Brown Is Fair and Reasonable
49. As detailed above and in Paragraph 19 of the Motion, the Dicon estate has
substantial claims against Celia, the Bidder, its principals and H.H. Brown. The proposed sale
implicitly settles all claims against these parties by granting them blanket general releases.
50. However, the Motion never allocates a portion of the proposed purchase price to
the settlement and makes no effort to show that the proposed settlement amount, whatever it
may be, is fair and reasonable as required by Rule 9019 of the Federal Rules of Bankruptcy
Procedure.
G. The Term Sheet Is Grossly Inadequate, Non-Binding
And, Coupled with a Lack of Sound Bidding Process,
Is an Effective Lock-up that Chills Competitive Bidding
51. The Bidder’s “offer” is neither firm nor binding. See Term Sheet, attached to the
Motion. As of September 15, 2010, the day by which all competing bids must be filed, the
Court’s docket reflects that there is no signed (or even unsigned) Asset Purchase
Agreement (“APA”) between the Dicon Trustee and the Bidder to be considered by the
creditors and the Court, or for other bidders to mark up and execute. Because the unapproved
bidding procedures unilaterally established by the Dicon Trustee require any “qualified bidder” to
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submit an executed mark-up of the APA, it is impossible for other bidders to qualify for the
“auction” being conducted by the Dicon Trustee.
52. Despite the fact that there are no wasting assets involved in the proposed sale,
the Dicon Trustee (i) did not seek approval of the bidding procedures, which, especially in light
of the Dicon Trustee’s failure to file the promised Asset Purchase Agreement, are nothing more
than a disguised lock-up in favor of the Bidder, and (ii) provided insufficient time for competing
bidders to enter the process.
53. Although to be “qualified,” bidders must certify that there has been no collusion,
the Bidder, who is both an insider of Dicon and who, together with its principals, are the subject
of very real claims of the SpongeTech Trustee, have apparently not been required to so
certify—presumably because, as the facts set forth herein show, the Bidder cannot.
54. The Motion and the Term Sheet attached to the Motion as Exhibit 1 also fail to
adequately describe:
a. The principals of the Bidder, and their relationships to
Dicon, SpongeTech and H.H. Brown Shoe Technologies,
Inc. (“H.H. Brown”), the licensor of technology critical to
Dicon’s business and also the subject of potential claims
by the SpongeTech Trustee;
b. The Bryan County Lease, which is critical to Dicon’s
business, the terms of the assumption of the lease and any
prospective cures;
c. Potential WARN Act liability that the Dicon estate may face
as a result of the proposed sale;
d. The liabilities that the Dicon estate will be left with after the
proposed sale closes;
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e. The transfer taxes and amounts that each party will pay
upon the closing of the proposed sale;
f. The deposit, if any, tendered by the Bidder, the Dicon
Trustee’s investigation of, and the substance behind, the
financial wherewithal of the Bidder to close the proposed
sale and to provide adequate assurances of future
performance of any leases to be assumed;
g. Precisely which leases and executory contracts the Bidder
wishes to assume, potential costs to cure any assumed
contracts or leases and which party will be responsible for
cure amounts;
h. The nature and background of potential claims against
Celia and the Bidder, and the reasons for Celia’s
termination by Dicon in the first place; and
i. The grounds for H.H. Brown’s alleged termination of
Dicon’s license rights and why affirmation of the
termination is in the best interests of the Dicon estate.
55. The combination of inadequate disclosure, the pendency of a non-binding offer
and the failure to file any APA as the bidding deadline is at hand combine to create an uneven
playing field and a severe chill on competitive bidding that require a postponement of the sale
until the Dicon Trustee can satisfy minimal and fair disclosure, and provide a meaningful bidding
process that encourages—not discourages—competitive bidding.
H. The Expense Reimbursement Cap Is Grossly Excessive
56. The Term Sheet requires an expense reimbursement payment to the Bidder if it
is not the winning bidder in an amount up to $75,000 (the “Break-up Fee”), or more than 13% of
the proposed purchase price. When compared to break-up fees approved by bankruptcy
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courts, a 13% fee is grossly excessive. The court is “charged with the duty of reviewing the
agreement to determine that it is reasonable in relation to the bidder’s efforts and the magnitude
and significance of the transaction, and will enhance rather than detract from the bidding
process.” In re Integrated Resources, 135 B.R. at 753 (citations omitted).
57. In In re Metaldyne Corp., 409 B.R. 661 (Bankr. S.D.N.Y. 2009), the Court posed
the Integrated standard for evaluating break-up fees as a 3 part test: 1) is the relationship of the
parties who negotiated the break-up fee tainted by self-dealing or manipulation; 2) does the fee
hamper rather than encourage, bidding; and 3) is the amount of the fee unreasonable as related
to the proposed purchase price? The Metaldyne Court held that the less than 3% break-up fee
and expense reimbursement amount was not unreasonable as it fell within the range of what
courts in this jurisdiction have found to be acceptable. Here, the proposed Break-up Fee chills,
rather than encourages, bidding and, at 13% of the proposed purchase price, is grossly
excessive.
58. In In re America West Airlines, Inc., 166 B.R. 908 (Bankr.D. Arizona 1994), the
Court rejected the notion that the business judgment rule is the appropriate standard by which
to determine whether a break-up fee should be upheld. Rather, the Court emphasized the
distinction between the non-bankruptcy context (wherein the business judgment rule controls)
and bankruptcy context wherein “the standard is not whether the break-up fee is in the best
interests of the debtor, but whether the transaction will further the diverse interests of the debtor,
creditors and equity holders alike.” 166 B.R. at 912 (internal quotations omitted). In addition, the
Court stated that the “proposed break-up fee must be carefully scrutinized to insure that the
Debtor’s estate is not unduly burdened and that the relative rights of the parties in interest are
protected.” Id citing In re Hupp Industries, Inc., 140 B.R. 191, 196 (Bankr.N.D.Ohio 1992).
59. Expense reimbursement provisions in bankruptcy sales are claims for
administrative expenses that are subject to approval under section 503(b) of the Bankruptcy
Code. In In re Obrien Environmental Energy, Inc., 181 F.3d 527, 535 (3d Cir. 1999)), the Third
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Circuit employed the following standard: “whether break-up fees or expenses are allowable
under §503(b) must be made in reference to general administrative expenses jurisprudence.” At
535. The O’Brien Court stated that the “allowability of break-up fees,… depends upon the
requesting party’s ability to show that the fees were actually necessary to preserve the value of
the estate.” The Third Circuit denied the request for break-up fees as the requesting party was
not able to show that its due diligence data had helped establish information on which other
bidders could rely, thus their research efforts were not necessary to preserve the value of the
Debtor’s assets. Here, the Bidder has made no effort to present justification for the proposed
Break-up Fee and as the Term Sheet makes clear, the Motion is seeking approval of the Breakup
Fee with further application to this Court to review the necessity and reasonableness on any
claim for expenses. See In re Dorado Marine, Inc., 332 B.R. 637 (Bankr. M.D.Fla. 2005).
60. Moreover, in stark departure from the customary practice of obtaining court
approval of break-up fees before a sale or auction, the Dicon Trustee did not seek approval of
this Court. Instead, the Dicon Trustee and the Bidder made the Break-up an effective part of
the overbid procedure by requiring other bidders to bid $625,000, plus $10,000, plus $75,000.
Thus, any initial overbid must be at least $710,000, or approximately 13% higher than the
Bidder’s non-binding offer. The so-called “expense reimbursement cap” is, in reality an
exorbitant over-bid designed to chill the bidding in favor of the Bidder. Furthermore, because
there is no evidence of the Bidder’s expenses, there is no way for the Court, the creditors or the
SpongeTech Trustee to assess the relationship between the Break-up fee and the actual costs
and expenses of the Bidder.
61. Because the Dicon Trustee has not, as of the day that competing bids are due,
produced a binding APA signed by the Bidder, any claim that the Break-up Fee is warranted
because the Bidder has “committed” to a purchase that might induce others to bid, rings
decidedly hollow.
I. The Sale Should be Postponed Until Determination
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Of the Substantive Consolidation Adversary Proceeding
62. It may well be that the best interests of the creditors of both Dicon and
SpongeTech, and the defrauded public shareholders of SpongeTech, will best be served by a
sale of the consolidated assets of SpongeTech and Dicon. That determination, however, is
premature and must await the determination of the SpongeTech Trustee’s substantive
consolidation adversary proceeding.
63. The July Operating Report establishes that there is a business to operate and
that the dire consequences that Dicon Trustee fears are not likely to come to fruition. The facts
shown herein further demonstrate that prudence, restraint, and further inquiry is warranted,
including inquiry into the extent of the comingling of the assets, finances and business of Dicon
and SpongeTech. Such an inquiry can only be accomplished in the context of the adversary
complaint filed by the SpongeTech Trustee.
64. As a matter of comity, the Court should adjourn the sale hearing until the
substantive consolidation proceeding is decided by the SpongeTech Court.
CONCLUSION
65. For all the forgoing reasons, approval of the sale to the Bidder is not appropriate
or warranted at this time. The Court should enter an Order denying the Motion, without
prejudice to renewal when the SpongeTech Trustee’s substantive consolidation proceeding has
been fully adjudicated, when the issues clouding the status of and claims against the Bidder and
Celia have been resolved and when the Dicon Trustee has disclosed all relevant information
about the assets being sold, their nature, their value and the bona fides of the proposed
purchaser.
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WHEREFORE, the SpongeTech Trustee respectfully requests entry of an Order denying
the Motion, without prejudice.
Dated: Jericho, New York SILVERMANAcampora LLP
September 16, 2010 Counsel for Kenneth P. Silverman, as
Chapter 11 Trustee for SpongeTech
Delivery Systems, Inc.
By: s/Edward M. Flint
Edward M. Flint, Esq. (Admission Pro Hac
Vice Pending)
100 Jericho Quadrangle, Suite 300
Jericho, New York 11753
[phone]
McCALLAR LAW FIRM
/s/ Tiffany E. Caron
C. James McCallar, Jr.
State Bar No. 481400
Tiffany E. Caron
State Bar No. 745089
Attorney for Kenneth P. Silverman,
As Chapter 11 Trustee for
SpongeTech Delivery Systems, Inc.
McCallar Law Firm
115 West Oglethorpe Avenue
P. O. Box 9026
Savannah, GA 31412
[phone]
[e-mail]
The signatures represented by /s/ on this document conform to original signatures on the paper version of
this document maintained by the filing user.
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IN THE UNITED STATES BANKRUPTCY COURT
FOR THE SOUTHERN DISTRICT OF GEORGIA
SAVANNAH DIVISION
In re: )
) Chapter 11
DICON TECHNOLOGIES, LLC, )
) Case No. 10-41275-LWD
)
Debtor. )
CERTIFICATE OF SERVICE
This is to certify that I have this day served a copy of the foregoing Objection to Sale
upon the parties listed below via E-mail through the Court’s ECF System or by regular U.S.
Mail:
Debtor
Dicon Technologies, LLC
Attn: Rosalind Nathaniel, Registered Ag
100 Dicon Drive
Black Creek, GA 31308
Chapter 11 Trustee
Lloyd T. Whitaker
Newleaf Corporation
2810 Spring Road - Suite 106
Atlanta, GA 30339
Attorneys for the Trustee
Katie Z. Merrell
William S. Sugden
Alston & Bird LLP
1201 West Peachtree Street
Atlanta, GA 30309
L. Stephen O'Hearn
Mark Bulovic
Bulovic Law Firm, LLC
1020 Bryan Woods Loop, Suite 5
Savannah, GA 31410
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Office of the United States Trustee
U. S. Trustee
Office of the U. S. Trustee
Attn: Joel Paschke
222 West Oglethorpe Ave., Ste. 302
Savannah, GA 31401
Official Committee of Unsecured Creditors
Frank J Perch, Ill
Hunter Maclean Exley & Dunn PC
200 East Saint Julian Street
P 0 Box 9848
Savannah, GA 31412
Global Alliance Logistics(NYC), Inc.
133-33 Brookville Blvd., Ste. 228
Rosedale, NY 11422
Holland, Henry & Bromley LLP
Attn: Jack Richard Henry, Jr.
P 0 Box 8878
Savannah, GA 31412
Product Development & Packaging, Inc.
11 Prospect Street
Morristown, NJ 07960
Entities Having Filed Notices of Appearance
Darryl S. Laddin
Michael F. Holbein
Amall Golden Gregory LLP
171 17th Street NW, Suite 2100
Atlanta, Georgia 30363-1031
Anthony Acampora
Kenneth P. Silverman
SilvermanAcampora LLP
100 Jericho Quadrangle, Suite 300
Jericho, NY 11753
Michael Holbein
Arnall Golden Gregory LLP
171 17th St, NW, Ste 2100
Atlanta, GA 30363-1031
Diversified, Cooley LLP
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Attn: Brent Weisenberg
114 Avenue of the Americas
New York, NY 10036
This 16th day of September, 2010.
McCALLAR LAW FIRM
/s/ Tiffany E. Caron
C. James McCallar, Jr.
State Bar No. 481400
Tiffany E. Caron
State Bar No. 745089
Attorney for Kenneth P. Silverman,
As Chapter 11 Trustee for
SpongeTech Delivery Systems, Inc.
McCallar Law Firm
115 West Oglethorpe Avenue
P. O. Box 9026
Savannah, GA 31412
[phone]
[e-mail]
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