Digital Domain Heads for Auction amid Lawsuit, Grave Concerns

The city of West Palm Beach slammed Digital Domain Media Group in bankruptcy court, according to a report by the Palm Beach Post [1], and a shareholder suit accused former Chairman and Chief Executive John Textor of fraud and “materially false and misleading statements.”

In bankruptcy court in Delaware, the city of Port St. Lucie expressed “grave concerns” about Textor taking job incentives earlier this year even as his visual effects company teetered on the brink of failure. Port St. Lucie issued bonds totaling $40 million and cash incentives of $7.75 million, including a $2.25 million payment in February.

“Simply stated, Port St. Lucie finds it difficult to believe that the debtors’ prior management was unaware of its financial condition when it accepted the February incentive payment, or that prior management had not considered that it would close the doors to the Port St. Lucie operations at that time,” the city said in a court filing.

Port St. Lucie filed an objection to the scheduled bankruptcy auction of Digital Domain’s studios in Venice, CA, and Vancouver on Friday. Meanwhile, the company’s chief restructuring officer said he parachuted into an organization that, despite receiving millions in state and city money, was “insanely cash-flow negative.”

In the federal civil suit, investor Mark St. Cyr accused Textor and others of leading him to believe Digital Domain would survive its cash crunch.

“The company did not have the ability to raise capital and fund its operations and was facing a substantial ‘burn rate’ which threatened the DDMG’s ability to continue as a going concern,” said the suit, filed Thursday in U.S. District Court for the Southern District of Florida.

Textor didn’t respond specifically to the allegations in the suit, but Friday he issued his first public statement in two weeks.

“We all did our best to build a business that was both good both for shareholders and good for our community,” he said in an e-mail to the Palm Beach Post. “When all of the facts become known, this will become evident. I had the privilege of seeing so many talented young people develop into highly trained digital artists. I am heartbroken over the course of events that impacted so many of these people. For now, I am entirely focused on doing whatever I can to help our community recover and to see the goodness of these dreams come to fruition.”

In addition to Textor, the suit names as defendants Jonathan Teaford, the company’s former president and chief financial officer; John Nichols, also a former chief financial officer of the company; Roth Capital Partners, lead underwriter of Digital Domain’s initial public offering; and Morgan Joseph TriArtisan, managing underwriter of the IPO.

Visual effects company Digital Domain Media Group went public in November at $8.50 a share and was traded on the New York Stock Exchange until this month, when it filed for Chapter 11 bankruptcy protection. Shares topped $9 in May but had plunged to less than $1 when the New York Stock Exchange delisted shares last week.

Among the statements cited in the suit was a line from the company’s March 31 annual report: “… we have sufficient sources of cash to support our operations in 2012.”

The 52-page suit notes the risky nature of loans from Palm Beach Capital, the largest Digital Domain shareholder, to Textor, the second-largest shareholder. Textor disclosed last month that he borrowed $10 million from Palm Beach Capital to buy shares in the IPO and that the loans were backed by Textor’s shares in the company and by houses he owns in Stuart and Mountain Village, Colo.

“Textor was motivated to artificially inflate DDMG shares during the class period because a falling stock price would place not only his homes in jeopardy, but could result in him losing his entire equity stake in the company,” the suit said.

The suit was filed by Palm Beach Gardens law firm Berman DeValerio.

Textor negotiated $135 million in public incentives for his company to build an animation studio in Port St. Lucie and a film school in West Palm Beach. Textor resigned this month, and the company closed the studio and the school, marking the largest-ever failure in Florida’s two-decade cash-for-jobs program.

Digital Domain last month hired Michael Katzenstein of West Palm Beach-based FTI Consulting to take over operations. According to a bankruptcy document filed this week, Katzenstein found a company in a “liquidity crisis.”

“The company was insanely cash-flow negative,” Katzenstein said. “… it was … every business day burning about $460,000 in employee costs that it couldn’t pay, and roughly $250,000 a day of other costs it couldn’t pay.”

The company asked the bankruptcy court to set aside $350,000 in a “key employee incentive plan” that would provide a bonus pool for a successful sale of Digital Domain’s assets. The document identifying the recipients of the money was sealed.