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LG Capital Funding, LLC v. One World Holdings, Inc.

United States District Court, E.D. New York

June 22, 2018

LG CAPITAL FUNDING, LLC, Plaintiff,
v.
ONE WORLD HOLDING, INC., Defendant.

          GARSON, SEGAL, STEINMETZ, FLADGATE LLP Michael Steinmetz Attorney for Plaintiff.

          MARC JONAS BLOCK Attorney for Defendant.

          MEMORANDUM AND ORDER

          JOHNSON, SENIOR DISTRICT JUDGE.

         Plaintiff LG Capital Funding, Inc. ("Plaintiff or "LG") brings this diversity action against defendant One World Holdings, Inc. ("Defendant," sometimes referred to by its former ticker symbol, "OWOO"), principally alleging that Defendant breached its obligations under three convertible promissory notes by, inter alia, failing to convert part of the principal of, and interest from, one of the notes into 3, 707, 681 shares of Defendant's Common Stock and failing to redeem the notes on the "Maturity Date" specified therein. After Plaintiff successfully moved for preliminary injunctive relief, and after Defendant failed to answer or move to dismiss Plaintiffs complaint (the "Complaint"), Plaintiff moved for a default judgment, a permanent injunction, and contempt sanctions on the ground that Defendant had failed to place the 3, 707, 681 shares in escrow as ordered by the Court. These motions were respectfully referred to Magistrate Judge Orenstein for a report and recommendation.

         On August 6, 2015, Judge Orenstein issued his report and recommendation (the "R&R"), which recommended granting a default judgment with respect to Plaintiffs breach of contract claim and awarding money damages totaling $284, 500.97. With respect to one of the Notes, the R&R recommended enforcing a liquidated damages clause which provided that upon certain breaches of Defendant's obligation to convert principal and interest into shares, Defendant would pay Plaintiff a "Default Sum" (essentially the outstanding principal and accrued interest, plus "Default Interest") multiplied by two (the "2.0 Multiplier"). The R&R also recommended denying the permanent injunction on the ground that Plaintiff had not establish that it had complied with certain conditions precedent to converting principal and interest into shares, and denying the contempt motion because it sought the same kind of injunctive relief. Both Plaintiff and Defendant timely objected to the R&R, with Plaintiff principally challenging the recommendation regarding injunctive relief and Defendant arguing that the 2.0 Multiplier was usurious and against public policy. For the reasons set forth below, the R&R is adopted except with respect to that portion which recommended the denial of permanent injunctive relief.

         BACKGROUND

         A. The Notes

         This case involves three convertible promissory notes issued by Defendant to Plaintiff (the "Notes"), which are attached to the Complaint as Exhibits A-C.[1]Defendant issued the first of the three (the "First Note") on or about July 23, 2013, upon its receipt of $62, 000. See Complaint, ¶ 5 & Ex. A, p. 1. It issued a nearly identical instrument (the "Second Note") on or about October 25, 2013, upon its receipt of $52, 000. See id., ¶ 6 & Ex. B, p. 1.

         The last of the Notes (the "Third Note") is a restatement of a note which was originally issued to non-parties, who assigned it to Plaintiff on October 25, 2013. When it was restated, the principal on the Third Note was $50, 000. At only 10 pages long, the Third Note is about half the length of the other two, but contains some of the same contractual provisions. All three Notes expressly provide that they "shall be governed by and construed in accordance with the laws of the State of New York ...." First & Second Notes, § 4.6; Third Note, § 3.6.

         1. The Conversion Right

         In each of the three Notes, Defendant promises to repay a principal amount, plus interest calculated at the rate of 8% per annum, nine months after the "Issue Date" -the date on which the note was issued (or restated, in the case of the Third Note). However, each note provides that during a specified period, Plaintiff has the right to convert any or all of the outstanding principal and accrued, unpaid interest into shares of Defendant's Common Stock. If Plaintiff exercises this "conversion right," Plaintiff receives the shares at ¶ 50% discount.

         The duration of the conversion right varies depending on the note. The First and Second Notes provide that Plaintiff can exercise the conversion right "at any time commencing one hundred eighty (180) days from the Issue Date ...." First & Second Notes, §1.1. The Third Note provides that the conversion right can be exercised beginning on the Issue Date. See Third Note, §1.1. However, all three Notes provide that the right does not end until "the later of: (i) the Maturity Date and (ii) the date of payment of the Default Amount (as defined in [the Note])." All Notes, § 1.1.

         All three notes contain in Section 1.4(a) a provision entitled "Mechanics of Conversion," which specifies the manner in which a Holder can exercise the conversion right. This section provides, in pertinent part: "[T]his Note may be converted by the Holder ... by ... submitting to the Borrower a Notice of Conversion ...." All Notes define the term "Notice of Conversion" to mean a notice "in the form attached [to the Note] as Exhibit A," id., § 1.1, and the term "Borrower" to mean Defendant One World Holdings, Inc., id., p. 1. In addition, all Notes provide that all notices required or permitted to be sent to Defendant, whether by facsimile or otherwise, must be addressed to the attention of its Chief Executive Officer. First & Second Notes, § 4.2; Third Note, § 3.2.

         All three Notes make clear that Defendant's conversion obligation is conditioned on Plaintiffs compliance with the provisions of Section 1.4(a). The Notes provide:

Upon receipt by the Borrower from the Holder of a facsimile transmission (or other reasonable means of communication) of a Notice of Conversion meeting the requirements for conversion as provided in ... Section 1.4, the Borrower shall issue and deliver or cause to be issued and delivered to ... the Holder certificates for the Common Stock issuable upon such conversion within three (3) business days after such receipt....

         First & Second Notes, § 1.4(d); Third Note, § 1.4(c). The Notes further provide:

Upon receipt by the Borrower of a Notice of Conversion, the Holder shall be deemed to be the holder of record of the Common Stock issuable upon such conversion, the outstanding principal amount and the amount of accrued and unpaid interest on this Note shall be reduced to reflect such conversion, and, unless the Borrower defaults on its obligations under this Article I, all rights with respect to the portion of this Note being so converted shall forthwith terminate except the right to receive the Common Stock or other securities, cash or other assets, as herein provided, on such conversion. If the Holder shall have given a Notice of Conversion as provided herein, the Borrower's obligation to issue and deliver the certificates for Common Stock shall be absolute and unconditional ....

First & Second Notes, § 1.4(e); Third Note, § 1.4 (d).

         In order to ensure the availability of enough Common Shares to enable Defendant to honor its conversion obligations, all three Notes contain reserve requirements. The First and Second Notes both require Defendant "at all times to have authorized and reserved four times the number of shares that is actually issuable upon full conversion of the Note ...." First & Second Notes, § 1.3. These two notes specifically provide that "if the Borrower shall... make any change to its capital structure which would change the number of shares of Common Stock into which the Notes shall be convertible at the then current Conversion Price, the Borrower shall at the same time make proper provision so that thereafter there shall be a sufficient number of shares of Common Stock authorized and reserved ... for conversion of the outstanding Notes." Id. The Third Note does not contain either of these provisions, but requires the Borrower to "covenant[ ] that during the period the conversion right exists, the Borrower will reserve from its authorized and unissued Common Stock a sufficient number of shares ... to provide for the issuance of Common Stock upon the full conversion of this Note ...." Third Note, §1.3.

         2. The Events of Default

         Although all of the Notes list over a dozen "Events of Default," only a few such events are relevant here. First, the Notes provide that Defendant's failure "to pay the principal hereof or interest thereon when due" under the terms of the Note constitutes an "Event of Default." First & Second Notes, § 3.1; Third Note, § 2.1. Second, Defendant is in default if it "fails to issue shares of Common Stock to the Holder (or announces or threatens ... that it will not honor its obligation to do so) upon exercise by the Holder of the conversion rights of the Holder in accordance with the terms of this Note ...." First & Second Notes, § 3.2; Third Note, § 2.2. Third, it is an "Event of Default" if Defendant "breaches any material covenant or other material term or condition contained in this Note ... and such breach continues for a period often (10) days after written notice thereof to the Borrower from the Holder." First & Second Notes, § 3.3; Third Note, § 2.3.

         A fourth relevant Event of Default is listed in the First & Second Notes, but not in the Third Note. These two notes provide that it is an Event of Default if "[t]he Borrower effectuates a reverse split of its Common Stock without twenty (20) days prior written notice to the Holder." First & Second Notes, § 3.14. In addition, only the First and Second Notes contain a "Cross-Default" provision which states that a default under one of the Notes will constitute a default under all of the Notes. First & Second Notes, § 3.16.

         3. The Damages Provisions

         The methods for calculating damages vary depending on the note and the Event of Default. All three Notes provide that if Defendant fails to pay the principal and interest thereon at the Maturity Date, the Defendant "shall pay to the Holder ... an amount equal to the Default Sum ...." First & Second Notes, Art. Ill; Third Note, Art. II. A "Default Sum" is defined in the First and Second Notes as consisting of the outstanding principal owed on the Note, the accrued and unpaid interest on that amount, the "Default Interest," and "any amounts owed to the Holder pursuant to Sections 1.3 and 1.4(g)" of the Note. First & Second Notes, Art. III. "Default Interest" is calculated at the rate of 22% per annum and is to be paid on the principal and interest "from the date due ... until the same is paid." Id., P. 1.

         In all three Notes, the damages for a breach of Defendant's conversion obligations depend on the cause of the breach. If the breach is not due to a failure to maintain the reserves required in section 1.3 of all three Notes, and the Defendant fails to deliver the shares within three days after the Deadline, Defendant "shall pay to the Holder $2, 000 per day in cash, for each day beyond the Deadline that [it] fails to deliver such Common Stock." First & Second Notes, § 1.4(g); Third Note, § 1.4(f). Conversely, if the breach is due to a failure to maintain the reserves required in section 1.3, the First and Second Notes provide that Defendant "shall pay to the Holder ... an amount equal to ... the Default Sum ... multiplied by ... two ...." First & Second Notes, § 1.3 & Article III. This provision does not appear in the Third Note.

         In the case of all other Events of Default, the First and Second Notes require Defendant to pay "150% times" the Default Sum or the "parity value" of that amount, whichever is greater.[2] First & Second Notes, Art. III. The Third Note requires the Defendant to pay "150% times" the "Default Amount," which is calculated in the same manner as the Default Sum is calculated under the First and Second Notes. Third Note, Art. II. The Third Note does not mention "parity value," but provides that "[i]f the Borrower fails to pay the Default Amount within five (5) business days of written notice that such amount is due and payable," the Holder has the option to require the Borrower, upon written notice, to immediately convert the Default Amount into shares of Common Stock. Id.

         B. The Complaint in this Case

         In February 2015, Plaintiff commenced this action, alleging that Defendant breached its obligations under the Notes in various respects. First, the Complaint alleges that Defendant violated Section 3.2 of the First Note by refusing to deliver shares of Common Stock after Plaintiff exercised its conversion right in accordance with the terms of Section 1.1 of the Note. Specifically, Plaintiff alleges that on November 11, 2014, Plaintiff "duly submitted a Notice of Conversion to OWOO," seeking to convert $6, 800 of the principal and $1, 233.21 of unpaid, accrued interest into 3, 707, 681 shares of Defendant's Common Stock. Complaint, ¶ 17. A day later, "Gayle Terry, an employee of... OWOO's transfer agent, informed LG, via email, that OWOO did not 'have enough available shares to process [LG's] conversion.'" Id., ¶ 19 (quoting an email from Gayle Terry, employee of Colonial Stock Transfer, to Nochum Greenberg of LG, dated Nov. 12, 2014, at 6:23 p.m. (included in Ex. E to the Complaint)). However, the Complaint implies that Terry's explanation is untrue, noting that the Form 10-Q which Defendant filed with the SEC for the quarter ending September 30, 2014 (attached to the Complaint as Exhibit G), states that "there were 48, 869, 166 outstanding shares of OWOO's Common Stock" on November 12, 2014-enough "to provide LG the conversion it sought." Id., ¶ 36.

         Second, the Complaint alleges that Defendant never provided it with written notice of the reverse stock split which allegedly caused the shortfall in reserves. Id., ¶ 33(c). Plaintiff alleges that it first became aware of the 1:750 reverse split one year after it occurred, when Terry informed LG that its 15 million share reserve had been reduced to 20, 000 shares. Id. (citing email from Gayle Terry to Nochum Greenberg of LG, dated Nov. 12, 2014, at 6:50 p.m. (included in Ex. E to the Complaint)). Although the Complaint claims that this was a "[b]reach of ยง 3.15," the Court notes that Defendant's ...


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