Digital Domain lawsuits: Three suits accuse Digital Domain of lying about financial status

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Posted: 10/05/2012

By: Alexi Howk, Scripps Treasure Coast Newspapers

PORT ST. LUCIE, Fla. -- Digital Domain Media Group executives of lying about the company's shaky financial condition at the time of its initial public stock offering.

Court papers allege in multiple counts against company officials and public offering underwriters that they misrepresented and omitted important information shareholders relied upon to purchase stock during an initial public offering held Nov. 18, 2011.

Plaintiff Frank Cacella heads a class of shareholders suing John Textor, former Digital Domain CEO and board chairman; Jonathan Teaford, former president, CFO and Digital Domain Institute CEO; Roth Capital Partners, the lead underwriter; and Morgan Joseph Triartisan, managing underwriter. In separate suits, plaintiffs Nathan Wilson and Mark St. Cyr each head a class of shareholders suing Textor, Teaford, Roth, Morgan and CFO John Nichols.

All the key players either declined to comment on the details of the suit or could not be reached for comment Thursday.

"It is unfortunate that lawsuits can be filed based on erroneous reports and speculation," Textor said when reached Thursday. "We know the truthfulness of our public statements will be proven in time. We really believed we were building something special in the community. My focus now is on doing everything we can to reestablish what we started."

The court documents detail Digital Domain's demise before the initial public offering and through the bankruptcy filing. Throughout that period, Textor misrepresented the company's financial health in news releases and investor conferences, the suits say. During a Dec. 20, 2011, conference call, Textor reassured investors the company was not threatened by an excessive burn rate, court documents say.

In a Dec. 20, 2011, company news release, Textor said the company's revenue backlog of 2012-13 film projects, combined with the company's recently announced strategic and technology-based initiatives, provide the company with "a positive outlook and strong visibility well into 2013."

"While our growth appetite is aggressive, we have mitigated the financial risk of such growth through a unique funding model that relies on public and private partnerships," Textor wrote. "We have also mitigated the risk of execution by choosing great partners, such as Reliance Media in India, Galloping Horse in China and the Florida State University."

On May 16, 2012, Textor again touted the company's first quarter results in a news release, reporting the company had "beat revenue and earnings estimates" and further stated, "We have also used substantial grant funding from government relationships to mitigate risk of our business expansion and associated launch expanses."

On Aug. 1, Digital Domain issued a news release announcing the company planned to re-evaluate a broad range of strategic and financial alternatives to support the company's growth initiatives and its efforts to maximize shareholder value. That same day, the company's shares closed down 2.3 percent to close at $4.14 per share.

In an Aug. 14 SEC filing, Digital Domain reported a deficit in working capital of $42.8 million but stated revenues from the company's visual effects and animation services contracts, refinancing of debt and co-production arrangements for animation feature film projects would allow the company to "have sufficient sources of cash to support our operations in 2012."

In a Sept. 4 SEC filing, Digital Domain disclosed the company had violated a loan covenant requiring the company to maintain certain minimum levels of cash and was in crisis and had significant liquidity issues, which threatened its ability to continue. Digital Domain sold 4.92 million shares of its common stock at the initial public offering price of $8.50 per share. The gross proceeds received in the offering totaled $41.8 million. Digital Domain raised about $38.4 million in net proceeds after deducting underwriting discounts and commissions of about $2.9 million then unpaid offering expenses of about half a million, according to the suits. When Digital Domain closed Tradition Studios Sept. 7, its shares fell 38 percent to close at 6 cents per share on heavy volume.

All three lawsuits, filed in federal court in the U.S. Southern District of Florida, are seeking class action status, which a judge must approve. The suits, which could represent thousands of shareholders, seek monetary and recissiory damages; the latter could include awarding the plaintiffs the monetary value of the stock purchased by shareholders.

Teaford and Nichols could not be reached for comment.

Attorneys for Cacella and Wilson also could not be reached for comment Thursday. A spokesman for St. Cyr's attorney said he declined to comment.

Digital Domain received government incentives totaling $135 million from the state, Port St. Lucie and West Palm Beach.

THE ALLEGATIONS

All three lawsuits allege much of the same wrongdoing leading up to the initial public offering, including:

Initial public offering

documents filed with the Securities and Exchange Commission concealed a $10 million loan from private equity firm Palm Beach Capital, Digital Domain's largest shareholder. "The loan was secured by Textor's common shares and by his personal properties." According to court papers, Textor filed a form on Nov. 22, 2011, with the SEC disclosing that he had purchased 1,176,471 shares of Digital Domain common stock in the initial public offering on Nov. 18, 2011, at $8.50 per share for approximately $10 million.

"Unbeknownst to the public, on Nov. 22, 2011, Textor had entered into a loan agreement to raise funds to make his $10 million purchase in the IPO," the suit states. Textor didn't disclose the loan to the SEC until nearly a year later on Aug. 29, 2012.

The offering documents, SEC filings and other public statements issued between Nov. 18, 2011, and Sept. 6, the day before Digital Domain shuttered its Port St. Lucie movie animation and digital effects studio, made "material misrepresentations and omissions concerning the company's ability to raise capital and fund its operations. While the company was faced with a substantial 'burn rate,' which threatened (Digital Domain's) ability to continue as a going concern, the company's senior officers falsely reassured shareholders that it would be able to meet its operating expenses." A going concern is the idea that a company is not on the verge of going out of business.

According to a Sept. 18 news article, Digital Domain had a long history of difficulties meeting payroll dating back to 2010 and an email to an investor in early 2010 in which Textor "predicted a 'train wreck.' "

The offering documents also failed to disclose that Textor had served as chairman and CEO of BabyUniverse Inc., an Internet retailer that filed for bankruptcy in 2008. Teaford also served as vice president of BabyUniverse before its bankruptcy. Media reports that Textor sold BabyUniverse to eToys Direct in October 2007 but remained non-executive board chairman. The Parent Company, as it was renamed, filed for bankruptcy in December 2008.

Digital Domain didn't reveal its true financial condition until it filed for Chapter 11 bankruptcy on Sept. 11, less than 10 months after its initial public offering, rendering the stock nearly worthless.

Roth Capital Partners and Morgan Joseph Triartisan were responsible for ensuring the truthfulness and accuracy of the various statements contained in the offering materials.

When Digital Domain filed its initial registration statement with the SEC on May 16, 2011, it identified Barclays Capital and Janney Montgomery Scott as the underwriters of the initial public offering. On Sept. 20, 2011, Digital Domain filed a fourth amendment to its registration statement with the SEC. Barclays and Janney "subsequently withdrew" as underwriters. A message was left for Janney Montgomery Scott. A press spokesman for Barclays said the company doesn't comment on clients.

On Nov. 4, 2011, Digital Domain filed a fifth amendment to its registration statement with the SEC and named Roth Capital and Morgan Joseph as the underwriters of the initial public offering.