Tucson, Arizona 85701-1611 Telephone: (520) 622-2090 Robert M. Charles, Jr., State Bar No. 007359 Direct Dial: (520) 629-4427 Direct Fax: (520) 879-4705 EMail: RCharles@LRLaw.com Jeffrey L. Sklar Email: JSklar@lrlaw.com Attorneys for Gemini Master Fund, Ltd. UNITED STATES BANKRUPTCY COURT DISTRICT OF ARIZONA In re: Case No. 4:12-BK-02402-JMM CDEX INC., Chapter: 11 Debtor. Response to Debtor’s Emergency Motion for Authority to Obtain Interim and Long-Term Debtor in Possession Financing Date: March 22, 2012 Time: 1:30 p.m. Creditor Gemini Master Fund, Ltd. (“Gemini”) opposes Debtor’s Emergency Motion for Authority to Obtain Interim and Long-Term Debtor in Possession Financing (“Motion”) (Dkt. #26). Introduction On just two days notice, Debtor is seeking the Court’s approval to encumber all of its assets with a post-petition senior lien for up to $1 million.1 The Motion offers no explanation of its failure to comply with Rule 4001(c)(3), which requires a debtor to provide 14 days notice before obtaining credit, except in emergency situations. Nor has it explained why this case presents an emergency. 1 An affidavit from Debtor’s CEO filed late on March 21 suggests that the lien may actually be for $1.5 million. See Dkt. #31, ¶ 6.a. Of course, whether the lien is for $1 million or $1.5 million is a question that should be answered prior to the day before the hearing. Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 2782410.1Desc Main Document Page 1 of 6 More importantly, the Motion leaves numerous questions unanswered about the use of the funds that are being requested, the structure of the financing, Debtor’s profitability, and whether Debtor has complied with the applicable securities laws. Given that the proposed senior lien could eviscerate any recovery by unsecured creditors if the reorganization is unsuccessful, Debtor’s failure to provide this information is especially prejudicial to the creditors. To be clear, Gemini is not categorically opposed to Debtor obtaining financing. But before it can determine whether to support or oppose this particular financing request, Debtor should be required to provide more information about how the financing will be used. At a minimum, the Court should reset the hearing for sometime after the 14-day notice period in Rule 4001. Facts Debtor filed its Chapter 11 petition more than a month ago, on February 10, 2012. Its schedules indicate that it has about $425,000 in assets and more than $2.8 million in liabilities. Dkt. #1 at 8. The assets are primarily in the form of intellectual property, equipment, and inventory. Id. at 13. The liabilities are all unsecured, and Gemini is the largest creditor, with a claim Debtor has valued at about $927,000. Id. at 22. Until now, Debtor has not asked the Court to approve any interim or long-term financing. Debtor has not yet filed an operating report. Nevertheless, without warning, Debtor filed this Motion on March 20 and asked for a hearing just two days later. The Motion provides virtually no detail about the financing. It simply claims that unnamed “qualified investors may loan debtor monies in a series of transactions totaling up to one million dollars.” Motion at 4. It also states that the investors — whoever they are — will “require that they be granted a senior lien against the assets owned by Debtor,” which would be capped at $1 million. Id. Because Debtor has claimed that its assets total only about $425,000, this would be a lien against every asset currently held by Debtor for 2 2782410.1 Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 Desc Main Document Page 2 of 6 more than double their value. The Motion fails to acknowledge this, let alone explain why it is necessary. In fact, the Motion fails to explain how the financing will be used. It simply asserts that it will help prepare Debtor’s product, and it makes the unsupported claim that Debtor has received a large number of requests for that product. Id. at 3. But it provides no detail about precisely how the product will be prepared, how many requests have been received, and how much money is necessary to bring the product to market. Moreover, although an affidavit from Debtor’s CEO filed late on March 21 suggests that the funds will be used to pay routine expenses such as payroll, it does not explain how much money is actually necessary to keep Debtor functioning. Dkt. #31 ¶ 11. Nor does the Motion explain whether the financing will be sufficient to make Debtor profitable, which is the only way the unsecured creditors’ interests could be protected against a senior lien on all Debtor’s assets. It simply makes the bald assertion that if the Motion is granted, “the interests of all unsecured creditors would remain more than adequately protected by the development of its products.” Motion at 5. The motion leaves numerous other basic questions unanswered as well. For example, while it claims that the financing would be in the form of debt that would be convertible to equity, it provides virtually no detail about this transaction. It simply attaches a promissory note with numerous blanks remaining, along with a similarly blank financing agreement, subscription agreement, and other documents. The promissory note states that if Debtor exits bankruptcy, the debt will be convertible to equity at $0.05 per share. The Motion fails to explain whether or how this offering would comply with the federal and state securities laws. Argument As Debtor’s Motion acknowledges, the Court cannot authorize lending in exchange for a superpriority lien under Section 364(d) unless the debtor has proven that no other financing was available and has demonstrated the existence of adequate protection. In re 3 2782410.1 Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 Desc Main Document Page 3 of 6 Plabell Rubber Products, Inc., 137 B.R. 897, 901 (Bankr. N.D. Ohio 1992). Debtor has failed to prove anything, let alone meet these requirements. Debtor simply asserts that it could not obtain financing without providing a senior lien. And the CEO’s affidavit states that Debtor unsuccessfully sought financing from lending institutions and private individuals. Dkt. #31 ¶¶ 13-14. But his say-so is no substitute for actual evidence. See In re 495 Cent. Park Ave. Corp., 136 B.R. 626, 630-31 (Bankr. S.D.N.Y. 1992) (“[T]he debtor must make an effort to obtain credit without priming a senior lien.”). Before the Court can find that either of Section 364(d)’s requirements have been satisfied, it should require Debtor to demonstrate at least: (1) who the investors are and their ability to provide the financing; (2) other efforts Debtor made to secure financing; (3) Debtor’s current profitability; (4) Debtor’s expected profitability after obtaining the financing; (5) who has expressed interest in Debtor’s product; (6) how the creditors will be adequately protected; (7) what the funds will be used for; (8) what the terms of the financing are; and (9) whether the financing arrangement complies with the applicable securities laws. Such evidence is especially important because the senior lien Debtor seeks would cover all its assets and could wipe out the unsecured creditors if Debtor’s reorganization efforts are unsuccessful. At a minimum, Debtor should be required to provide the 14-day notice required under Fed. R. Bankr. P. 4001(c)(3) to obtain credit. This is especially true because nothing in Debtor’s Motion demonstrates that the estate will suffer “immediate and irreparable harm” if the financing is not authorized sooner. See Fed. R. Bankr. P. 4001(c)(3). Conclusion To be clear, Gemini is not categorically opposed to Debtor obtaining financing. But this request fails to include a great deal of important information. The Court should require that this information be provided. At a minimum, it should require that the hearing be reset for sometime after the 14-day notice period set forth in Rule 4001. 4 2782410.1 Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 Desc Main Document Page 4 of 6 DATED this 21st day of March, 2012. LEWIS AND ROCA LLP By /s/ Jeffrey L. SklarRobert M. Charles, Jr. Jeffrey L. Sklar Gemini Master Fund, Ltd. 5 2782410.1 Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 Desc Main Document Page 5 of 6 Proof of Service COPY of the foregoing served via the Court’s ECF system and by email on March 21, 2012 to each of the parties listed below, and via first class mail, postage prepaid, addressed as follows where no email address is listed: Eric Slocum Sparks Eric@ericslocumsparkspc.com Law Offices of Eric Slocum Sparks, P.C. 110 South Church Avenue, #2270 Tucson, AZ 85701 Attorney for Debtor Elizabeth C. Amorosi Elizabeth.C.Amorosi@usdoj.gov Assistant United States Trustee 230 North First Avenue, Suite 204 Phoenix, AZ 85003-1706 Brian A. Laird Heurlin Sherlock Laird 1636 North Swan Road, Suite 200 Tucson, AZ 85712-4096 blaird@hslazlaw.com /s/ Renee L. Creswell Renee L. Creswell Lewis and Roca LLP 6 2782410.1 Case 4:12-bk-02402-JMM Doc 32 Filed 03/21/12 Entered 03/21/12 17:23:28 Desc Main Document Page 6 of 6