Free Order on Motion for Judgment - District Court of Arizona - Arizona

IN THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF ARIZONA

BILTMORE ASSOCIATES, L.L.C., as ) Trustee for the Visitalk Creditors' ) Trust, ) ) Plaintiff, ) ) vs. ) ) PETER THIMMESCH, et al., ) ) Defendants. ) ____________________________________) O R D E R

No. 2:02-cv-2405-HRH

Motion for Determination of Amount of Damages and for Entry of Judgment against Peter Thimmesch Plaintiff moves for determination of the amount of damages and for entry of judgment against defendant Thimmesch.1 Pursuant to

the court's notice to Mr. Thimmesch on May 6, 2008,2 the court solicited input from Mr. Thimmesch regarding the foregoing motion. Mr. Thimmesch's response was due on or before May 27, 2008, and although Mr. Thimmesch contacted court staff with respect to filing a response, no response has been received.
1

Docket No. 511. Docket No. 512. - 1 -

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By order of October 15, 2007,3 the court granted plaintiff's motion for summary judgment as to Mr. Thimmesch as to liability on Counts I, II, V, VII, XI, XII, XIV, and XXI. The court denied

plaintiff's summary judgment motion as to damages, indicating that the latter would be taken up once the court had entered its findings of fact and conclusions of law as a result of the trial of plaintiff's claims against defendant Snell & Wilmer. That trial

was commenced in March of 2008; and, after nine days of bench trial, the case as to Snell & Wilmer was concluded by a settlement. All claims against Snell & Wilmer were dismissed with prejudice, with no recovery in plaintiff's favor and with an apology from the plaintiff. That disposition occurred toward the end of plaintiff's case. There is a high probability that had such a settlement not

been reached, a Rule 50 motion at the end of plaintiff's case on the part of Snell & Wilmer would have led to the same result. Simply put, plaintiff's evidence up to the point of settlement had left the court with the clear impression that plaintiff's claims were based upon theories which the evidence did not support. Visitalk was a "dot com" start-up company. It was incorporated in September of 1998 by Mr. Thimmesch and others to develop and market a voice-over-internet concept. The company was funded by

initial, high risk, stock offerings to knowledgeable investors. Undeniably, the organizers of Visitalk made some mistakes early on in their dealings with investors; but as a consequence of the efforts of Snell & Wilmer, Visitalk's dealings with its Series A,
3

Docket No. 407. - 2 -

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B, and C shareholders were regularized.

The centerpiece of

plaintiff's claims was the issuance of founders' warrants to Thimmesch and others. Plaintiff contended that those documents At trial, there The

were fraudulent -- that some had been backdated.

was virtually no evidence to support any such contention.

founders' warrants paperwork was badly handled by prior Visitalk attorneys, but there was no fraud proven. As a start-up company, Visitalk was dependent upon risk capital for research and development. As a result of evidence

taken at trial, the court finds that Visitalk had a viable product and, with the assistance of Goldman Saks, Visitalk probably would have attracted substantial, additional venture capital but for the "dot com" crisis. At the point where Visitalk commenced bankruptcy proceedings, it was no doubt in a position where bankruptcy relief was both appropriate and necessary. By some measure the company may have

been insolvent, but the insolvency was not occasioned by any stock fraud. The preferred shareholders took risks which they knew were

high, and lost all when the stream of investment capital dried up. But, as discussed further below, these investors were equity holders in Visitalk, not creditors. None of these preferred

shareholders ever filed a fraud or like claim against Visitalk in the bankruptcy proceeding. It is in the foregoing context that the court now takes up plaintiff's motion for a determination of damages. Plaintiff's

presentation parallels the settlements reached by plaintiff with - 3 -

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many of the individuals who were a part of the Visitalk.com, Inc., organization (herein Visitalk). Those settlements were for huge amounts of money. They uniformly called for plaintiff to eschew Rather, it

any attempt to collect from the individual defendants.

appears that these settlements were designed to set up claims against insurers of Visitalk who had issued directors and officers insurance policies.4 Based upon the court's determination of liability on eight counts in plaintiff's favor and against Mr. Thimmesch, plaintiff seeks damages, undifferentiated as between counts, in a gross amount of either $33 million or $42 million, "depending on the methodology for calculating deepening insolvency damages the Court decides to be most appropriate."5 The court has heretofore

expressed its misgivings about the deepening insolvency theories pursued by plaintiff.6 Now that the court has heard the testimony

of witnesses offered by plaintiff as to most of the transactions giving rise to plaintiff's claims, the court rejects this

"deepening insolvency" theory of proof for purposes of this case. Some jurisdictions recognize "'deepening insolvency' as a cause of action against a party who creates the false appearance of

The papers concluding this action against the Gaston defendants are an example. See Exhibit A to the Declaration of Renee Jenkins at 37-55 (Declaration appended as Exhibit 1 to Motion for Determination of Amount of Damages [etc.]), Docket No. 511-2. Motion for Determination of Amount of Damages [etc.] (Memorandum of Points and Authorities) at 2-3, Docket No. 511.
6 5

4

Order re Motions in Limine at 25, Docket No. 405. - 4 -

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solvency in an insurance company or other financial institution." Florida Dept. of Insurance v. Chase Bank of Texas, 274 F.3d 924, 935 (5th Cir. 2001). Others, and plaintiff's arguments fall into

this category, appear to treat "deepening insolvency" as a damage computation methodology. Plaintiff's complaint against Thimmesch

sets forth eight state law causes of action that are in federal court because these proceedings are an outgrowth of federal

bankruptcy proceedings instituted by plaintiff's predecessor in interest, Visitalk. State law governs plaintiff's claims, and

Arizona law has not recognized deepening insolvency as either a cause of action or a methodology for assessing damages.

Nevertheless, the court assumes for purposes of this case that Arizona might recognize deepening insolvency as a theory of damages in a case such as this. The court rejects the deepening insolvency theory of proof advanced by plaintiff on the facts of this case. The instant

motion for default judgment is supported by a declaration of Renee M. Jenkins, a forensic accountant, which is in turn founded upon her two expert reports.7 Her final conclusion was that plaintiff's

loss should be measured by her "insolvency (damages) calculation [which] was based on the actual investment of the Series A, B, and C investors as the only logical measure of the amount of damages."8 Exhibits A and B to Declaration of Renee Jenkins at 9-18, appended to Exhibit 1 to Motion for Determination of Amount of Damages, Docket No. 511-2. Jenkins Rebuttal and Supplemental Report at 4 (dated June 4, 2007), attached as Exhibit C to Plaintiff's Response to Defendant (continued...) - 5 8 7

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As discussed in greater detail hereinafter, Ms. Jenkins equating the preferred shareholders' investments to liabilities or claims for purposes of determining insolvency of Visitalk is not supported by the evidence in the case. deepening assumption insolvency that the Her calculation of damages employing fails with the failure of her were

analysis preferred

shareholders'

investments

liabilities. Visitalk.

Those investments were in fact bona fide equity in

Ms. Jenkins was requested to calculate the solvency (or insolvency) of Visitalk at various times during its pre-bankruptcy existence. Ms. Jenkins was also asked to express her opinion of

whether Visitalk should be characterized as a Ponzi scheme. Ms. Jenkins summarizes her analysis and concludes that: A substantial and material breach in fiduciary duty and breach of stock purchase agreements occurred at the time of the creation and backdating of the "founders warrants" by Peter Thimmesch and Michael O'Donnell. This act gave rise to the claims of Series A investors, and later, Series B and C investors. Effective releases were never obtained and full, complete, and accurate information and disclosure of these claims and Visitalk.com, Inc.'s serious securities law problems was never made to any investors in July of 1999, December of 1999, or any subsequent date. (Note: See Exhibits D, E, F, and G for detailed information.)[9]

(...continued) Snell & Wilmer, LLP's, Motion in Limine to Exclude Testimony of Renee Jenkins [etc.], Docket No. 377-3. Exhibits A and B to Declaration of Renee Jenkins at 17, appended to Exhibit 1 to Motion for Determination of Amount of Damages, Docket No. 511-2. - 6 9

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Ms.

Jenkins

opines

that

the

Series be

A,

B,

and as

C

preferred unrecorded

shareholders'

investments

should

reflected

liabilities for purposes of an insolvency calculation such that damages are calculated by her at $25,439,000.00. Underlying the

foregoing, but not incorporated into the conclusion of the report, Ms. Jenkins opines that Visitalk "should be characterized as the unconsummated first round of a Ponzi scheme that would have come to fruition only after the planned Initial Public Offering (IPO) had taken place."10 At one point, Ms. Jenkins states in discussing the purported claims of Series A and Series B preferred shareholders that, "[o]nce these unrecorded liabilities are taken into consideration in the calculation of insolvency a 'snowball' effect occurs for all subsequent investments by Series A, Series B and Series C investors or MP3.com.11 From the court's perspective, a "house of cards"

analogy might have been more apt, for if the assumptions about "the creation and backdating of the 'Founders Warrants'" made by

Ms. Jenkins fail, then the house of cards (or if you will, the snowball) falls apart. The evidence reviewed by Ms. Jenkins caused her to believe that the issuance of founders' warrants to Thimmesch and others was a fraud, and in particular that critical documents were backdated. As a consequence of evidence taken at the Snell & Wilmer trial, it should be as clear to plaintiff as it is to the court that
10

Id. at 16. Id. at 14. - 7 -

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Ms. Jenkins' assumptions about the issuance of the founders' warrants were erroneous. Not only were the founders' warrants

papers not backdated, but the releases obtained from the Series A preferred shareholders were, based upon the evidence of the Snell & Wilmer trial, valid. identified by Snell & Moreover, additional securities problems Wilmer were made the subject of full

disclosures to all of the Series A, Series B, and Series C preferred shareholders. None of those shareholders ever asserted

a claim against Visitalk in connection with their acquisition of Series A, B, or C preferred stock in the bankruptcy proceeding or anywhere else that has been brought to the court's attention. The

court concludes that Ms. Jenkins erred in concluding that Series A, B, or C preferred shareholders had claims that should be reflected as unrecorded liabilities for purposes of determining solvency. Visitalk probably was quite insolvent when its bankruptcy

proceedings were instituted, but the cause was not securities problems with the founders' warrants or the Series A, B, or C preferred stock issues. Based upon the foregoing, the court

rejects the opinions of Ms. Jenkins. There is a second reason why the court has serious misgivings about Ms. Jenkins' expert opinion. So far as the court is aware,

neither Ms. Jenkins nor anyone else undertook any formal analysis of the commercial viability of the technology that Visitalk was undertaking to develop. So far as the court is aware, she was

provided with no information about the potential viability of an initial public stock offering. The testimony taken at the Snell & - 8 -

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Wilmer trial convinced the court that Visitalk had a viable product -- one that was perhaps a bit ahead of its time, but potentially very valuable. But for the bursting of the "dot com" bubble at a

critical stage for Visitalk, the court finds that it was more probable than not that there would have been a successful initial public offering. Because of these circumstances and because of the court's finding that there was no fraud involved in the founders' warrants or Series A, B, or C preferred stock issues, the court rejects the conclusion that the Visitalk enterprise was a Ponzi scheme. In her declaration in support of plaintiff's motion for entry of judgment against Mr. Thimmesch, Ms. Jenkins refers the court to Visitalk's second joint plan of reorganization12 and the Section 5.9 implementation agreements agreement.13 to be The that point the with respect to these of

appears

preferred

shareholders

Visitalk are treated for purposes of the Visitalk second joint plan of reorganization as persons having claims against Visitalk, in exchange for which they were to receive certain warrants to purchase new stock. The foregoing does not alter the court's view

that the preferred shareholders' investments should not be treated as Visitalk liabilities. The preferred shareholders held equity

interests in Visitalk, which equity interests were being wiped out by the plan.
12

Neither the plan nor the implementation agreement

Exhibit C, Filed as Docket No. 513-2.

Exhibit D, filed as Docket No. 513-3. The reference to Section 5.9 is to Section 5.9 of the Second Joint Plan of Reorganization. - 9 -

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give any suggestion whatever that the preferred shareholders should be treated as creditors of the bankrupt Visitalk, or that they had claims other than those reflecting their interests as equity investors of Visitalk. The court does not doubt that those

investors lost something on the order of $22 million when Visitalk failed; but based upon the evidence taken at the Snell & Wilmer trial, the court finds that those investors were wealthy,

sophisticated, and well-informed as to the significant risks that were attendant to their investments in Visitalk. Visitalk was not

misrepresented to those investors as regards risks; and other securities problems urged by plaintiff were cured. Again, the

preferred shareholders' bankruptcy claims were not liabilities of Visitalk. Although the court has made liability findings in favor of plaintiff and against Mr. Thimmesch in granting plaintiff's motion for summary judgment, the facts produced at the Snell & Wilmer trial made it very clear that Visitalk suffered no damage that can be attributed to the issuance of the founders' warrants or the Series A, B, or C preferred stock, which was the principal In

assumption and foundation of Ms. Jenkins' damages evaluation.

consideration of the foregoing, the court declines to impose damages upon Mr. Thimmesch based upon a deepening insolvency theory of damages. As set out above, the court has found liability in favor of plaintiff and against defendant Thimmesch on eight counts set forth in plaintiff's second amended complaint. - 10 Count I is based upon

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theories of breach of fiduciary and statutory duties.

Plaintiff

alleges that Mr. Thimmesch, while chief executive officer and director of Visitalk: misappropriat[ed] funds, using corporate funds and credit cards, without authorization, to enrich himself and for his own personal benefit and to pay for personal expenses, including club entertainment, lavish trips and gifts and by incurring expenses without any or grossly inadequate business support.[14] Plaintiff alleged that this self-dealing cost Visitalk $235,000.00. The materials submitted by plaintiff in support of its motion for determination of damages and entry of judgment, and in particular the declaration of Ms. Jenkins, contains no support whatever for a determination of damages based upon the allegations in Count I. Count II of plaintiff's second amended complaint is based upon a theory of fraudulent transfers. $235,000.00, contending that Plaintiff seeks the same received less than

"Plaintiff

reasonably equivalent consideration in exchange for ... transfers to ... Mr. Thimmesch...."15 Count II continues with allegations of

insolvency at the time of the transfers in question and the incurring of debt beyond the ability of Visitalk to pay those debts as they matured. basis for Counts Thus it appears that the losses which form the I and II were likely incorporated into

Ms. Jenkins' deepening insolvency analysis; but again, there is no independent evidence in support of a claim for $235,000.00 apart

14

Second Amended Complaint at 14, ¶ 105, Docket No. 289. Id. at 15, ¶ 113. - 11 -

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from Ms. Jenkins' deepening insolvency presentation, which the court rejects as stated above. Count V of plaintiff's second amended complaint is based upon theories of breach of fiduciary and statutory duties and disclosure of false and misleading information. This count has to do with

plaintiff's contentions that there were securities laws violations in connection with the Series A preferred stock offering and what the parties refer to as the "MP3" transaction. Although Count V

includes a long litany of alleged breaches,16 the issuance of founders' warrants to Thimmesch and others immediately after the formation of Visitalk as a corporate entity appears to be the focal point of Count V. Plaintiff believed that Thimmesch and others had backdated records having to do with the issuance of founders' warrants. certainly While evidence taken at the Snell & Wilmer trial disclosed the existence of securities problems at

Visitalk arising prior to entry of Snell & Wilmer as counsel for Visitalk, the Snell & Wilmer trial evidence clearly established, and plaintiff ultimately conceded, that its beliefs about

backdating of the founders' warrants, etc., were wrong. the Snell & Wilmer trial evidence convinced the

Moreover, (and

court

evidently convinced plaintiff also, since the case was voluntarily settled) that Snell & Wilmer successfully assisted Visitalk in working through and past several important errors that took place regarding the issuance of Series A, B, and C preferred stock by Visitalk. As a consequence of evidence taken at the Snell & Wilmer
16

See id. at 19-21, ¶ 141. - 12 -

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trial, the court became convinced that Ms. Jenkins' assumption that the Series A, B, and C preferred shareholders had viable claims against Visitalk was baseless. Those shareholders may have had

claims that might have been asserted at various brief times during the early days of Visitalk; but, as already stated, the faults in the issuance of those shares were cured. Releases were executed,

and no claims by Visitalk preferred shareholders based upon faulty disclosures, securities violations, or any other fraud theory were ever asserted so far as the court is aware. As already mentioned,

the discussion in the Visitalk Chapter 11 plan of claims on the part of preferred shareholders had to do with the fact that they had enjoyed equity interests in the company which were being wiped out by the plan. In place of their equity interests, the preferred shareholders became entitled to certain warrants, but that is a very different thing from the kind of fraud claim that Ms. Jenkins postulated as the basis for her deepening insolvency analysis. Plaintiff's proof in support of its motion for determination of the amount of damages and entry of judgment fails to convince the court that any amount of damages has been established or is recoverable because of the alleged breaches of fiduciary duties or disclosure of false and/or misleading information. The court has

not mentioned the MP3 transaction in connection with this count. The MP3 situation will be addressed hereinafter. Count VII of plaintiff's second amended complaint is based upon theories of breach of fiduciary and statutory duties with reference to founders' warrants and the "Cardwell settlement." - 13 To

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the extent that this count has to do with founders' warrants, the court's view of plaintiff's claim for damages against Mr. Thimmesch is set out above. complicated set The settlement with Mr. Cardwell was a rather of transactions flowing from the fact that

Mr. Cardwell was an early holder of Visitalk stock, was an early employee of the company, and was departing under strained

circumstances.

Plaintiff contends in Count VII that the Cardwell Evidence taken

settlement caused Visitalk $1 million in damages.

at the Snell & Wilmer trial demonstrated that Visitalk suffered no such loss as a result of the settlement with Mr. Cardwell.

Somewhat oversimplified, the Cardwell settlement involved the sale to a third party of a portion of Cardwell's Visitalk stock, which sale netted both Mr. Cardwell and Visitalk considerable sums of money. It is the court's recollection that by agreeing to unwind

the affairs between Visitalk and Cardwell, Visitalk not only resolved its differences with Mr. Cardwell, but also received a large cash payment from the sale of the Cardwell stock. The

transaction appeared to the court to be a properly documented exercise in prudent business judgment on the part of Visitalk generally and Thimmesch in particular. The materials submitted by

plaintiff in support of its motion for a determination of damages and entry of judgment are insufficient to put a dollar value on any loss to Visitalk attributable to either the founders' warrants or the Cardwell settlement. Count XI of plaintiff's second amended complaint alleges a breach of fiduciary and statutory - 14 duties with reference to

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Visitalk's acquisition of Portal billing software.

Plaintiff

contends that Visitalk had no need for this software or for the services of Ernst & Young, LLP, for consulting services relating to that software. The court supposes that the damages sought in

connection with this count are folded into Ms. Jenkins' computation of the alleged deepening insolvency of Visitalk. The materials

presented by plaintiff in support of its motion for damages and entry of judgment contain no separate analysis of any loss to Visitalk attributable to either the Portal billing software or the retention of Ernst & Young. Count XII is based upon a theory of breach of fiduciary and statutory duties and has to do with the acquisition of Oracle accounting software by Visitalk. Again, plaintiff's complaint

alleges that Visitalk retained the services of Ernst & Young in connection with this software, and that neither the software nor the consulting services of Ernst & Young were needed by Visitalk. This count and plaintiff's claim based upon it is in exactly the same posture as Count XI. Count fiduciary XIV and of plaintiff's duties complaint as to alleges the MP3 a breach of

statutory

transaction.

Plaintiff contends here that Visitalk entered into a Marketing and Promotion Agreement with MP3, whereby Visitalk became obligated to pay not less than $60 million to MP3 for marketing services, and simultaneously MP3 agreed to purchase 1,875,000 shares of

plaintiff's Series E preferred stock in exchange for a payment of $15 million to Visitalk. It is clear from Ms. Jenkins' declaration - 15 -

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that the MP3 transactions are folded into her deepening insolvency analysis.17 The court is unable to ascertain with sufficient

precision what sum, if any, Visitalk actually lost as a result of the combined marketing commitment and stock sale. It strikes the

court that if Visitalk was able to avoid the marketing agreement in the Chapter 11 proceedings and if it collected the $15 million from MP3, there may not have been any dollar loss to Visitalk. Finally, plaintiff's second amended complaint, Count XXI, alleges a conspiracy to commit tortious acts. This count is

plainly an alternative theory to plaintiff's other claims herein discussed. Neither plaintiff's complaint nor the materials

submitted in support of plaintiff's motion for determination of damages and for entry of judgment suggest that any additional losses not covered by the other counts have been incorporated into Count XXI. Conclusion For the reasons stated above, the court declines to employ a deepening insolvency theory for the computation of damages against Mr. Thimmesch. Because the materials submitted by plaintiff in

support of its motion for a determination of the amount of damages and for entry of judgment contained no separate analysis or proof,

In her declaration in support of plaintiff's motion for determination of damages and entry of judgment, Ms. Jenkins puts a $5.3 million value on Visitalk's loss in the MP3 transaction. Ms. Jenkins plainly did not have personal knowledge of that transaction. The court learned virtually nothing about the MP3 transaction from the Snell & Wilmer trial and plaintiff's presentation includes no showing by someone with personal knowledge of how the $5.3 million claim was computed. - 16 -

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by

affidavit

or

otherwise,

of

discrete

losses

by

Visitalk

attributable to conduct on the part of Mr. Thimmesch, the court is unable to ascertain what amount of damages, if any, plaintiff should recover because of Mr. Thimmesch's conduct. The motion for

determination of the amount of damages and for entry of judgment against Peter Thimmesch is denied. DATED at Anchorage, Alaska, this 20th day of June, 2008.

/s/ H. Russel Holland United States District Judge

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