The opinion of the court was delivered by: Denise Cote, District Judge
Plaintiffs Roswell Capital Partners, LLC ("Roswell"), as "Collateral Agent," BridgePointe Master Fund Ltd. ("BridgePointe"), CAMHZN Master LDC ("CAMHZN"), and CAMOFI Master LDC ("CAMOFI") (collectively, "Plaintiffs") bring this action to foreclose upon their security interests in Defendants' collateral and for breach of various loan and related agreements. Roswell is a Georgia company acting as Collateral Agent for BridgePointe, CAMHZN, and CAMOFI (the "Lenders"), three Cayman Islands companies. BridgePointe is an investment fund established and managed by Roswell. Counterparties to the transactions at issue are defendants Alternative Construction Technologies Inc., a Florida corporation (ACT), and twelve of its wholly or primarily owned subsidiaries, all incorporated in Florida, with two exceptions (collectively, "Defendants")*fn1 . The remaining defendants, John Doe 1-10, are individuals or entitles who may assert interests in the collateral at issue subordinate to Plaintiffs' security interests.
ACT and its subsidiaries manufacture "green" construction materials, specifically, interlocking panels consisting of plastic foam encased in coated steel. ACT was founded by Michael Hawkins, who served as CEO from January 2005 until September 2008. Hawkins remains a significant shareholder and a member of the Board of Directors. Defendants entered into the agreements giving rise to this lawsuit in 2007 and 2008 to obtain funding. In return, among other obligations, the agreements required ACT to make monthly repayments of the principal owed, with interest, and to direct its customers to make payments owed to ACT to a "lockbox account." Despite receiving over $6 million from Plaintiffs, ACT's balance sheet has dwindled, and it now possesses nothing more than "a manufacturing plant located in Tennessee and the land on which it sits, several patents, good will [sic], and some accounts receivable."
Plaintiffs filed this action for breach of contract and foreclosure and brought an application for an Order to Show Cause with Temporary Restraining Order ("TRO") on December 9, 2008. Later that day, a hearing with both parties was held, the TRO was entered, and a preliminary injunction hearing was set for January 29, 2009.
In late December 2008, a dispute arose regarding whether the TRO permitted Defendants to pay rent, salaries, legal fees, and other business expenses. Following two conferences with the parties, a Supplemental Order in Furtherance of Temporary Restraining Order was entered on January 5, 2009 (the "Supplemental Order"). The Supplemental Order allowed Defendants to pay rent, electricity and utilities, legal fees, office supplies costing less than $1,000, internet fees, and other expenses of under $250, provided that they notified Plaintiffs within two days of making such payments. It required that Defendants provide Plaintiffs with notice of proposed payments concerning eight other categories of payments, including payroll, taxes, and business travel, before making the payments. Plaintiffs, in turn, were required to approve or prohibit each proposed expenditure within two days. Despite the order, Defendants conceded in a conference on January 22 that they had made payroll expenditures without Plaintiffs' express consent, believing that giving Plaintiffs access to their books and records satisfied the terms of the Supplemental Order. A customer also paid $12,500 owed to ACT to an ACT materials supplier following the Supplemental Order. ACT did not attempt to obtain Plaintiffs' consent for this transaction.
On January 20, 2009, Plaintiffs requested consolidation of the preliminary injunction hearing with a trial on the merits pursuant to Rule 65(a)(2), Fed. R. Civ. P. Following a conference with both parties on January 23 and a January 26 submission from Defendants opposing consolidation, an Order of January 26 consolidated the preliminary injunction hearing with a trial on the merits for the issue of breach of contract only. While Defendants' affirmative defenses and counterclaim will necessarily be considered when deciding whether Plaintiffs have established entitlement to a preliminary injunction, a separate trial on the merits will determine whether Defendants will prevail on their defenses and counterclaim and whether permanent relief is warranted in this matter.
Defendants have conceded default on payments owed to the Plaintiffs and have admitted that they directed payments not to the lockbox, but their affirmative defenses and counterclaim allege that Plaintiffs have unclean hands, frustrated Defendants' performance under the agreements, are demanding usurious payments, and breached the implied covenant of good faith and fair dealing. Among other accusations, they claim that Plaintiffs drove down ACT's stock price through short-selling, prevented them from securing additional capital, and concealed conflicts of interest.
The parties made their pre-hearing submissions on January 23 and filed memoranda in response to each other's submissions on January 27. With the consent of the parties, the direct testimony of the witnesses was submitted by affidavit on January 23, and the witnesses were cross-examined at the preliminary injunction hearing. The Plaintiffs' witnesses are P. Bradford Hathorn, in-house counsel to Roswell; and Thomas Dawe, a Senior Investment Officer with Roswell until October 2008 and a member of ACT's Board of Directors from June until September 2008. In addition to the declarations of their witnesses, Plaintiffs also offer as evidence seventy-five documentary exhibits and excerpts from the depositions of four individuals: Thomas Amon, a Director and corporate counsel for ACT; Bruce Harmon, an employee of ACT from January 2005 and May 2008, who, among other positions, was CFO from September 2006 until December 2007; Michael Hawkins, the founder of ACT and former Chair of its Board of Directors who served as CEO from April 2005 until September 2008 and CFO from September 2008 until January 2009; and Dennis Towell, the manager of Nelson LC, a construction company and customer of ACT and its subsidiaries. The Defendants' witnesses are Hawkins and Anthony J. Francel, the current Chairman and CEO of ACT. The Defendants submitted no evidence apart from a brief declaration by each of their two witnesses.
Through a Securities Purchase Agreement dated June 30, 2007 (the "2007 Purchase Agreement"), the Lenders agreed to purchase from ACT a total of $4 million in senior secured convertible debentures (the "Debentures") and received warrants to purchase ACT common stock (the "2007 Warrants"). The Debentures specified that payment of the principal, plus 10% interest per year, was due by June 30, 2009. The Lenders also had the right to convert the Debentures into ACT common stock at a price of $4.00 per share. Repayment of the principal with interest was to occur in monthly installments, with payments of 1/24 of the principal and one month's interest beginning on July 1, 2008. Other provisions of the 2007 Purchase Agreement at issue include Section 3(g), a representation that ACT had timely made its required SEC filings, and Section 3(n), which includes a representation that ACT had disclosed all material events to the Lenders. Section 4(d) places restrictions on ACT's use of proceeds from the funding, such as a restriction against using any of the proceeds to "repay any of its corporate debt" or "any debt or obligation to any officer, director or manager," and a requirement that $250,000 of the proceeds be segregated into a bank account dedicated for investor relations. Further, ACT was to devote $150,000 per year to investor relations purposes. The restrictions on the use of proceeds were designed to ensure that the Funding would be used to provide working capital to allow ACT to operate going forward. ACT also acknowledged that a breach of its obligations under the 2007 Purchase Agreement would "cause irreparable harm."
The Debentures provide instructions upon default under the agreements comprising the 2007 Funding. Section 7 of the Debentures lists the events considered to be "Events of Default." Such events include, inter alia, failure to make payments, breach of covenants or representations, including those made in the 2007 Purchase Agreement, and default under the 2007 Purchase Agreement. Should there be an Event of Default, Section 8(a) of the Debentures entitles the Lenders to deliver a Default Notice making the entire amount of the debenture payable within ten business days. If ACT fails to pay the full amount, interest will accrue at 18% or at the maximum amount allowed by law. The Debentures also provide that, in the event of an Event of Default, Defendants may not raise in a lawsuit a "defense" or "justification" that the Lenders have "been engaged in any violation of law" without posting a surety bond in the amount of the obligation owed under the Debentures and Warrants. Section 11(a)(v) of the 2007 Warrants provides that a default under the Debentures constitutes an Event of Default under the 2007 Warrants. Section 6 of the 2007 Security Agreement also contains a cross-default provision, providing that a default under the Debentures is an Event of Default under the 2007 Security Agreement.
To secure the Lenders' loans, ACT and four of its subsidiaries --- Prosteel Builders Corporation, Universal Safe Structures, Inc., Alternative Construction Techologies Corporation, and Future of Building Institute, Inc. (the "Guarantors") -- simultaneously entered into a Security Agreement (the "2007 Security Agreement"). In the 2007 Security Agreement, ACT and its four subsidiaries granted the Lenders "a continuing and perfected security interest in and to, a lien upon and right of set-off against all of their respective right, title and interest of whatsoever kind and nature in and to, the Collateral." The "Collateral" was defined to include "all goods," including machinery, equipment, vehicles, and "documents of title" to the same; "all contract rights and other general intangibles," including stock, distribution agreements, software, and intellectual property; "all accounts . . . all documents of title representing any of the foregoing, all rights in any merchandising, goods, equipment," and the "security and guarantees with respect to each account"; "all documents"; "all commercial tort claims"; "all deposit accounts and all cash"; "all investment property," including "shares of capital stock and other equity interests" in ACT and its subsidiaries; "all files, records, books of account, business papers, and computer programs"; and the "products and proceeds" of items designated as Collateral. Should an Event of Default occur, the 2007 Security Agreement gives the Lenders the rights and remedies of a secured party under the Uniform Commercial Code ("UCC"). Rights and remedies in the event of a default under the 2007 Security Agreement include the rights to 1) "take possession of the Collateral"; 2) "operate the business of each Debtor using the Collateral"*fn2 ; 3) "assign, sell, lease or otherwise dispose of and deliver all or any part of the Collateral"; 4) notify any debtors and obligors to "make payments directly to the [Lenders] and to enforce the Debtors' rights against" such debtors and obligors ; 5) "direct any financial intermediary or any other person or entity holding any investment property to transfer the same" to the Lenders; and 6) "transfer any or all Intellectual Property registered in the name of any Debtor at the United States Patent and Trademark Office and/or Copyright Office" into the name of the Lenders or any purchaser of the Collateral.
Pursuant to the 2007 Security Agreement's grant of interest in its intellectual property as part of the Collateral, ACT also entered into a Patent Security Agreement with BridgePointe on June 30, 2007, granting BridgePointe an interest in ACT's three patents. Additionally, the four ACT subsidiaries who signed the 2007 Security Agreement signed a Security Guarantee, also dated June 30, 2007, in which they guaranteed the "prompt and complete" performance of ACT's obligations under the Debentures, the 2007 Purchase Agreement, the 2007 Security Agreement, the warrants, and other "future agreement or obligations undertaken" by ACT.
ACT procured more funding from BridgePointe and CAMOFI on May 8, 2008, executing a Line of Credit Agreement. BridgePointe and CAMOFI each agreed to provide up to $1.5 million in credit to ACT. In exchange for the value received, ACT issued Senior Secured Grid Notes (the "Notes"), one payable to BridgePointe and the other to CAMOFI, in the amount advanced to ACT under the Line of Credit Agreement. The Notes constituted the senior debt of ACT, and all future debt issued by the Company was to be subordinate to them. They required monthly interest payments at the rate of 13% per year. BridgePointe and CAMOFI each advanced ACT $1,007,246. Section 7(n) of the Notes declares that a default by ACT on "any indebtedness, individually or in the aggregate, in excess of $175,000" is an Event of Default under the Notes. Breaching any term of the Note or any transaction document involved in the 2008 Funding also creates an Event of Default under Section 7(c) of the Notes. In the event of an Event of Default, BridgePointe and CAMOFI are entitled to demand the immediate payment of 120% of the unpaid principal, plus interest.
On May 8, ACT, BridgePointe, CAMOFI, and Roswell also entered into an Agreement Re Blocked Deposit Accounts (the "Lockbox Agreement"). The Lockbox Agreement was provided to protect BridgePointe and CAMOFI by providing for continuous repayment of principal with interest borrowed by ACT under the Line of Credit Agreement. The Lockbox Agreement provides that "Eligible Clients," defined as a client listed in a schedule to the Line of Credit Agreement, would be sent instructions by ACT "requiring that payments on the Eligible Contract be remitted directly to the Lockbox Account."*fn3 ACT granted "the Lenders," CAMOFI and BridgePointe, a lien on the Lockbox Account. Section 6(c) of the Lockbox Agreement, entitled "Sweep of Funds from Lockbox," provided that 100% of the funds out of the Lockbox Account shall be disbursed to the Lenders (pro rata to each Lender, based upon the amount of each Lender's Note then outstanding), and such funds shall be applied first toward interest due on the Notes, next toward reduction of the principal amount of the Notes, until paid in full, and any remaining amounts shall be disbursed to the Company [ACT].
Roswell, acting as Collateral Agent for CAMOFI and BridgePointe, was to control disbursements from the Lockbox Account, was authorized to issue instructions with respect to the account, and would receive account statements and other information concerning the account.*fn4 Section 1 of the Lockbox Agreement provides that Eligible Clients would be instructed "to remit i) all envelopes containing Items . . . to be processed through the Lockbox and ii) all electronic funds transfer payments to the appropriate address." In addition to promising to deliver lockbox payment instructions to applicable customers, ACT agreed to provide the instructions and lockbox payment invoices to CAMOFI and BridgePointe. Before the close of the 2008 Funding, Dawe explained the functioning of the lockbox to Hawkins.
As in 2007, a Security Agreement (the "2008 Security Agreement") and an Intellectual Property Security Agreement, both dated May 8, 2008, each secured ACT's obligations under the Notes. An Event of Default under the Notes constitutes an Event of Default under the 2008 Security Agreement. In the 2008 Security Agreement, ACT and each of its subsidiaries "unconditionally and irrevocably" granted BridgePointe and CAMOFI a "security interest in and to, a lien upon and a right of set-off against all of their respective rights, title, and interest . . . [in] the Collateral." The "Collateral" in the 2008 Security Agreement includes the same items defined as "Collateral" in the 2007 Security Agreement, with the addition of ACT's real property. With regard to the real property, Section 3(b) of the Security Agreement required Defendants to deliver Deeds of Trust granting CAMOFI and BridgePointe a lien on their real property for recording in the appropriate governmental office. The Intellectual Property Security Agreement recognizes that the Security Agreement grants BridgePointe an interest in ACT's patents and trademarks.
Upon the occurrence of an Event of Default under the 2008 Security Agreement, BridgePointe and CAMOFI have certain rights, including the rights and remedies of a secured party under the UCC. The 2008 Security Agreement and the Agency Agreement give Roswell the following rights as Collateral Agent for BridgePointe and CAMOFI: "the right to take possession of the Collateral" and "exercise all rights with respect to the Collateral as it were the sole and absolute owner thereof"; "the right to operate the business of each [of the Defendants] using the Collateral"; the right to "assign, sell, lease or otherwise dispose of and deliver all or any part of the Collateral,"; "the right to notify any account debtors and obligors . . . to make payments directly to the Agent"*fn5 ; and the right to "transfer any or all Intellectual Property registered in the name of any Debtor with the United States Patent and Trademark Office and/or Copyright Office into the name of the Secured Parties [BridgePointe and CAMOFI]."
ACT also issued warrants to BridgePointe and CAMOFI to purchase 900,000 shares of its stock each (the "2008 Warrants").*fn6
Each ACT subsidiary defendant entered a Subsidiary Guarantee on May 8 guaranteeing ACT's obligations under the Notes, the Line of Credit Agreement, the 2008 Security Agreement, the 2008 Warrants, and future obligations undertaken by ACT to BridgePointe and CAMOFI.
Pursuant to agreements comprising parts of both the 2007 and 2008 Funding, Plaintiffs may also seek injunctive relief, damages, fees, and costs. For example, Section 10(b)(ix) of the Line of Credit Agreement acknowledges that a breach of the transaction documents would "cause irreparable harm." These remedies are in addition to Plaintiffs' right to foreclose upon the Collateral. The 2007 Purchase Agreement and the Debentures acknowledge the same.
Following the close of the 2008 Funding, in June 2008, Dawe joined ACT's Board of Directors as the Lenders' nominee. Dawe, who was at that time Senior Investment Office with Roswell, explained in highly credible testimony that his affiliation with Plaintiffs was no secret. That affiliation was limited to his employment and his nomination by Plaintiffs. He did not have any investments of his own in Plaintiffs' funds.
3. Performance of 2007 Funding Agreements
ACT breached Section 4(d) of the 2007 Purchase Agreement, which restricts the use of investment proceeds, as soon as it received the $4 million investment from the Plaintiffs. On May 29, 2007, ACT had issued a press release announcing the retirement of 4,020,000 shares of Preferred Class B stock. Hawkins and/or GAMI and Avante, two entities he controlled, owned these shares. In early July 2007, within weeks of the closing of the 2007 Funding, ACT paid Avante $800,000 in cash, and Hawkins or entities controlled by him also received $1.2 million in houses owned by ACT and other non-cash compensation in return for the stock. The schedule listing ACT's indebtedness that was attached to the 2007 Purchase Agreement did not disclose any debt owed to Avante or Hawkins as a result of the retirement of Class B Preferred Stock. ACT did not submit an 8-K filing to the SEC reflecting a change in its capital structure at the time of the retirement. The Plaintiffs did not discover that the proceeds from the 2007 Funding had been used to make the $800,000 cash payment to Avante until Harmon informed Dawe in mid-2008 that it had occurred.
Another breach occurred when, as acknowledged in its August 19, 2008 10-Q filing, ACT was unable to make its required payment of $90,579.51 to BridgePointe, representing the payment against the principal amount of the Debenture due on July 1, 2008, as required by Section 9(a) of the Debentures. ACT also failed to make the required interest payment of $17,867.78 to BridgePointe, also due on July 1. Neither did ACT make the required principal and interest payments to CAMOFI and CAMHZN, which were due on the same date. A July 29, 2008 letter from Hawkins to ACT Board of Directors admitted that over $259,000 was past due on the Debentures. On July 31, BridgePointe delivered a notice of default, stating that ACT had defaulted under the Debenture and defaulted under the 2007 Warrants, pursuant to a cross-default provision, and giving ACT five days to cure its breach. CAMOFI and CAMHZN submitted a Default Notice to ACT on October 21, 2008, which stated that ACT had failed to make the required ...