Opinion
20-CV-2375 (LGS) (RWL)
06-13-2022
PARALLAX HEALTH SCIENCES, INC., Plaintiff, v. EMA FINANCIAL, LLC, Defendant.
REPORT AND RECOMMENDATION TO LORNA G. SCHOFIELD: DAMAGES INQUEST
ROBERT W. LEHRBURGER, UNITED STATES MAGISTRATE JUDGE
This Report and Recommendation (“R&R”) sets forth the amount of damages to which Defendant EMA Financial, LLC (“EMA”) is entitled following entry of default by Plaintiff Parallax Health Sciences, Inc. (“Parallax”) and denial of Parallax's eleventh-hour motion to vacate the default. The factual and procedural background of the case have been set forth extensively in this Court's February 24, 2022 R&R recommending denial of Parallax's motion to vacate (the “Default R&R”). The Court incorporates the entirety of that background below and supplements it with additional procedural events occurring after the Default R&R was issued.
The factual background is drawn from several sources, including: Parallax's initial Complaint (Dkt. 1) (“Compl.”); its Amended Complaint (Dkt. 19) (“Amended Compl.”); the Declaration of Paul Arena, Parallax's former chief executive officer, dated March 17, 2020 and filed in support of Parallax's failed motion for preliminary injunctive relief (Dkt. 14-4) (“Arena Decl.”); the Declaration of Paul Arena, dated January 12, 2022, in support of Parallax's motion to vacate (Dkt. 111-1) (“Second Arena Decl.”); the Declaration of Sonia Choi (Parallax's current chief executive officer) (Dkt. 111-2) (“Choi Decl.”); EMA's Counterclaims (Dkt. 23 at ¶¶ 149-237); the Declaration of Felicia Preston, an EMA director, dated December 24, 2020 (Dkt. 80) (“First Preston Decl.”); the Supplemental Declaration of Felicia Preston, dated May 16, 2022 (Dkt. 122) (“Supp. Preston Decl.”); the second Supplemental Declaration of Felicia Preston, date May 31, 2022) (Dkt. 124) (“Preston Decl.”); the Declaration of Jeffrey Fleischmann, EMA's counsel of record, dated December 24, 2020 (Dkt. 81) (“Fleischman Decl.”), a supplemental Declaration from Mr. Fleischmann dated September 20, 2021 (Dkt. 91) (“Second Fleischman Decl.”), and the Declaration of Jeffrey Fleischman, dated January 26, 2022, in opposition to the motion to vacate (Dkt. 112) (“Third Fleishman Decl.”); the transcript of the inquest hearing held on December 7, 2021 (Dkt. 106) (“Hearing Tr.”); and the supplemental submission filed by EMA on December 21, 2021, providing answers and support for questions raised at the hearing (Dkt. 108) (“Supplemental Filing”).
A. The Parties And Their Agreements
Parallax is a publicly listed telehealth company, whose stock is sold at penny-stock prices. (Arena Decl. ¶¶ 3, 36.) It is a Nevada corporation, which, at the time the case was filed, purported to be headquartered in New York City and to have an office in Santa Monica, California. (Compl. ¶ 4.) EMA is a private investment firm formed under Delaware law and headquartered in New York City. (Compl. ¶¶ 5, 13.) In 2018, Parallax sought an infusion of funds and negotiated a deal with EMA. (Arena Decl. ¶ 4.) As a result, Parallax and EMA entered into two sets of loan agreements that are now at issue.
On February 27, 2019, the parties executed, and EMA funded, a Securities Purchase Agreement (“First SPA”) providing for EMA's purchase of a nine-month convertible redeemable promissory note from Parallax in the amount of $111,000 (“First Note”) along with a warrant agreement for 300,000 shares of Parallax stock at a strike price of $0.15 (“First Warrant”). (Preston Decl. ¶¶ 2-4 and Ex. A-C.) The parties entered into a similar set of agreements - the Second SPA, Second Note, and Second Warrant -on April 8, 2019 for the same note amount of $111,000 and warrant for an additional 300,000 shares. (Preston Decl. ¶¶ 6-8 and Ex. D-F.) Each Note carries an interest rate of 12%. (Preston Ex. A at 1 and Ex. D at 1.)
Where a citation follows more than one sentence, the citation applies to all factual assertions made prior to the last citation.
Each Note also provides EMA with an absolute and unconditional right to convert the debt owed by Parallax into stock at a substantial discount price; Parallax is obligated to deliver the converted stock within three business days of receiving a notice of conversion from EMA. (Preston Decl. ¶¶ 9, 15-16.) Each Note also requires Parallax to hold a reserve of shares equal to five times the number of shares issuable upon conversion of each Note and to issue irrevocable instructions to its transfer agent setting the shares aside for that purpose. (Preston Decl. ¶ 14.) Parallax entered into agreements with its transfer agent to reserve shares of stock for conversion and expressly made EMA a third-party beneficiary. (Preston Decl. ¶¶ 11-13.)
The Notes also set forth events and consequences of breach and default. Those events include, for instance, Parallax's failure to issue shares upon EMA's exercise of its conversion rights; breach of any material covenant or term that continues for seven days after written notice from EMA; false or misleading representations or warranties; and Parallax's failing to comply with reporting requirements under the securities laws. (Preston Decl. ¶¶18-21.) In the event of default, the Notes and SPAs provide EMA with the right to recover 200% - i.e., double - a “Default Sum,” comprised of four components: (i) the outstanding principal, plus (ii) accrued and unpaid interest (accruing at 12%) on the unpaid principal amount to the date of payment, plus (iii) “Default Interest,” plus (iv) any amounts owed pursuant to Section 1.4(g). (Preston Decl. ¶ 22, Ex. A at Art. 3.16, Ex. D at Art. 3.18.)
The Notes define Default Interest as 24% per annum interest on any amounts of principal or interest on the Note that is not paid when due. (Preston Decl. Ex. A at 1, Ex. D at 1.) Section 1.4(g) of Article I imposes specified damages in the event that Parallax fails to deliver converted stock; the liquidated amount is $250 for each day that passes without Parallax honoring the conversion. The four components of the Default Sum, which are to be doubled, thus are (i) outstanding principal, plus (ii) 12% accrued interest on principal, plus (iii) 24% interest on any principal or interest until payment is made, plus (iv) liquidated damages of $250 per day for failure to deliver converted shares. (Preston Decl. Ex. A at Art. 3.16, Ex. D at Art. 3.18.)
Each Note also includes a “Cross-Default” provision by which a default under any of one of the transaction documents is considered a default under the others. (Preston Decl. ¶ 59 and Ex. A at 3.16, Ex. D at 3.16.) With respect to the Warrants in particular, and in the event that the shares underlying the Warrants “are not registered for resale with the Securities and Exchange Commission under an effective registration statement with a current prospectus,” then the Warrants “may be exercised by means of a ‘cashless exercise'” that entitles EMA to a certificate for shares equal to a specific formula (the “Cashless Exercise Formula”). (Preston Decl. ¶ 60 and Ex. C at Sec. 2(d), Ex. F at Sec. 2(d).) For the relevant time frame, Parallax stock shares were not registered for resale. (Hearing Tr. at 14.)
The loan agreements expressly are to be “governed and construed in accordance with Nevada law [where Parallax is incorporated], without regard to conflicts of laws principles that would result in the application of the substantive laws of another jurisdiction.” (Preston Decl. Ex. A at Art. 4.6, Ex. D at Art. 4.6.)
B. Parallax's Breaches And Defaults
On August 15, 2019, Parallax became delinquent on its securities filings. Parallax also failed to abide by its obligation to set aside sufficient shares in reserve for EMA and to honor EMA's notices of conversion.
The First Preston Declaration erroneously identified the date of delinquency as June 30, 2019. (First Preston Decl. ¶ 24.) EMA provided corrected information in its Supplemental Filing. In short, Parallax's June 30, 2019 SEC Form 10-Q was due on August 14, 2019 but was not filed until October 23, 2019. (Dkt. 108 at 2 and Ex. B.)
Parallax initially honored notices of conversion on the First Note submitted by EMA on January 2, 2020, January 24, 2020, February 5, 2020, and February 14, 2020. (Preston Decl. ¶¶ 35-40.) By virtue of those transactions, EMA obtained 2.2 million converted shares at a total share discount of 50%, which progressively reduced the principal owed by Parallax on the First Note from $111,000 to $69,420. (Preston Decl. ¶¶ 35, 36, 38-40, 43 and Ex. N.)
Parallax contends that EMA did not properly credit it for five payments made that should have reduced the amount owed. (Dkt. 117 at 2-4.) That is not correct. Four of those payments are reductions of principal resulting from the four completed conversions. (Second Arena Decl. ¶¶ 63-64.) EMA did in fact account for reductions in principal due to the conversions. (Preston Decl. ¶¶ 35, 38, 39, 40 and Ex. N.) The remaining payment is an amount of $77,700. EMA does not dispute that Parallax made that payment but does dispute the purpose for which it was made and the resulting effect on outstanding principal. According to Parallax's former CEO, Paul Arena, Parallax pre-paid $77,700 of principal due on the First Note in exchange for EMA's agreement not to convert any shares until January 30, 2020. (Second Arena Decl. ¶ 46.) According to EMA, those funds were separate consideration provided in exchange for EMA's forbearing exercise of its conversion rights until after December 15, 2019. (Preston Decl. ¶¶ 29-34.) Although initial communications and preliminary drafts of amendments to the Notes indicate the parties were contemplating amending the Notes in line with Parallax's contention, the complete paper trail supports EMA's explanation. The parties' final communications demonstrate by a preponderance of the evidence that Parallax paid the $77,700 as consideration for EMA's forbearance until December 15, 2019, not as funds reducing principal in exchange for forbearance until January 30, 2020. (See Preston Decl. Ex. J (last email in relevant sequence in which EMA states to Parallax CEO Arena: “EMA is willing to revise their amendments to reflect no conversions until December 15, 2019 in exchange for the $77,700 extension payment; Ex. K (Parallax CEO's ensuing signed authorization for release of $77,700 to EMA).) Arena's course of conduct following payment of the funds further confirms the point. In particular, as discussed above, Arena honored several EMA conversion notices prior to January 30, 2020. If Parallax's contention were correct, then EMA's conversions would not have been permitted at that time.
At least as of February 28, 2020, Parallax defaulted on each Note and SPA by failing to maintain a sufficient reserve of stock for the benefit of EMA as required by Article 1.3 of each Note. (Preston Decl. ¶ 42 and Ex. A at Art. 1.3, Ex. D at Art. 1.3).)
As proof of Parallax's failure to maintain a reserve of stock for the benefit of EMA, the First Preston Declaration cited to Exhibit V, which is one page of an email chain that makes no mention to the sufficiency of any reserve. EMA provided a corrected exhibit in its Supplemental Filing. (Dkt. 108 at 3 and Ex. C.)
On or about March 31, 2020, EMA submitted additional notices of conversion with respect to both the First and Second Notes (the “Conversion Notices”). The First Note Conversion Notice sought to convert $83,208.26 under the First Note into 5,833,328 shares of Parallax stock at a conversion price of $.01435 (a discount of 65%), which, if honored, would have reduced the amount of principal and original 12% interest then owed under the First Note to $0.00. (Ex AA.) The Second Note Conversion Notice sought to convert $80,621.67 under the Second Note into 5,653,078 shares of Parallax stock at the same conversion price of $.01435, which, if honored, would have reduced the amount then owed under the Second Note to $42.275.10. (Preston Decl. ¶ 51 and Ex. AA.) Unlike the earlier notices of conversion, Parallax did not honor the March 31, 2020 Conversion Notices. (Preston Decl. ¶ 52.)
Preston explains derivation of the $.01435 conversion price as follows: “On March 19, 2020, [Parallax's] stock traded at $.041, which was the lowest price in the prior twenty trading days in accordance with Section 1.2(a) [of the Note]. . Under 1.2(a) of the Note, EMA was entitled to a 30% discount off that price, which increased to 35% under the most favored nation clause in Section 4(m) of the SPA and an additional 15% discount under Section 1.2(a) of the Note because [Parallax] became delinquent in their SEC filings on June 30, 2019, and [pursuant to Section 12(a) of the Note] an additional discount of 15% because the price of the stock fell under $0.0275 on February 25, 2020 ... yielding a total discount of 65%. Thus, $0.041*.35 = $0.01435.” (Preston Decl. ¶ 50.)
The Preston Declaration identifies the amount owed under the First Note as of March 31, 2020 to be $753.16. (Preston Decl. ¶ 49.) That calculation, however, includes Default Interest for the period of February 28, 2020 (date of default) to March 31, 2020 (date of breach of conversion notice). (See Preston Decl. Ex. AA.) As explained below, the Court addresses, and accounts for, the 24% Default Interest rate in the context of pre-judgment interest.
The Preston Declaration identifies the amount owed under the Second Note as of March 31, 2020 to be $44,683.65. (Preston Decl. ¶ 51 and Ex. AA.) That calculation, however, includes Default Interest for the period of February 28, 2020 (date of default) to March 31, 2020 (date of breach of conversion notice). (See Ex. AA.) As explained below, the Court addresses, and accounts for, the 24% Default Interest rate in the context of pre-judgment interest.
PROCEDURAL HISTORY
Parallax commenced this action on March 18, 2020. Parallax claimed that the Notes and related agreements are unconscionable and unenforceable because they effectively require Parallax to pay approximately 75% usurious interest on each Note. (Compl. ¶ 1.) Parallax also alleged that EMA violated the federal securities and exchange laws by failing to register as a broker-dealer and by illegally manipulating the price of Parallax stock through acquiring large quantities of converted shares at a discounted price and selling those shares into the market. (Compl. ¶ 3.) Parallax sought a declaration invalidating the parties' agreements, an injunction against EMA's enforcement of the agreements, return of Parallax shares and warrants, damages, and attorneys' fees. (Compl. at ECF pp. 18-19.)
The same day it commenced the action, Parallax moved by order to show cause for preliminary relief enjoining EMA from enforcing the loan documents, and for entry of partial summary judgment. (Dkt. 4.) Following opposition from EMA and a telephonic hearing, the Court denied Parallax's application in its entirety on March 25, 2020. (Dkt.13.)
Parallax filed a First Amended Complaint on April 10, 2020 (Dkt. 19), which is now the operative complaint. EMA filed an answer on May 7, 2020 denying Parallax's claims, asserting affirmative defenses, and advancing counterclaims seeking to enforce the loan documents and, among other relief, an award of damages, interest, attorneys' fees, and costs. (Dkt. 23.) On July 20, 2020, Parallax filed its answer to EMA's counterclaims. (Dkt. 38.) The parties then commenced discovery.
On October 7, 2020, however, Parallax's counsel moved to withdraw as counsel. (Dkt. 62.) Parallax did not object, nor did EMA, and the Court granted the motion to withdraw on October 23, 2020. (Dkt. 65.) In its order, the Court warned Parallax that, as a corporate entity, it is “not permitted to appear pro se” and that if it failed to appear by counsel within 30 days “the case will be subject to dismissal for failure to prosecute.”(Dkt. 65.)
See Rowland v. California Men's Colony, Unit II Men's Advisory Council, 506 U.S. 194, 201-02, 113 S.Ct. 716, 721 (1993) (“It has been the law for the better part of two centuries, for example, that a corporation may appear in the federal courts only through licensed counsel”); Grace v. Bank Leumi Trust Company of New York, 443 F.3d 180, 192 (2d Cir. 2006) (“a corporation may not appear in a lawsuit against it except through an attorney, and [ ] where a corporation repeatedly fails to appear by counsel, a default judgment may be entered against it pursuant to Rule 55”) (internal citations omitted).
Parallax did not appear by counsel. On November 24, 2020 EMA moved for leave to file for default. (Dkt. 67.) Rather than grant permission at that juncture, the Court gave Parallax a final opportunity to appear by counsel and avoid default. Specifically, the Court directed that Parallax would have “until December 1, 2020 to appear by counsel and file a response to EMA's letter requesting permission to move for Parallax's default on EMA's counterclaims and dismissal of Parallax's claims for failure to prosecute.” The Court warned that if Parallax failed to appear by counsel by December 1, 2020, then EMA could “proceed with filing the appropriate default and dismissal papers.” (Dkt. 68.)
Still no counsel appeared on behalf of Parallax. On December 24, 2020, EMA filed for default. (Dkts. 71-75, refiled on Dec. 28, 2020, Dkt. 76-77, 79-82.) The Clerk Of Court issued a certificate of default against Parallax on December 28, 2020. (Dkt. 78.) The following day, the Court issued an order for Parallax to show cause at a hearing on January 28, 2021 why default judgment should not be granted against it on EMA's counterclaims and dismissing Parallax's claims. (Dkt. 85.) Parallax did not appear for the hearing and submitted no response. On August 10, 2021, the Court entered an order that default judgment shall be entered in favor of EMA on its counterclaims and also dismissed Parallax's claims with prejudice. (Dkt. 87.) The Court then referred the matter for an inquest on damages. (Dkt. 88.)
On August 11, 2021, the Court issued a scheduling order for the inquest. (Dkt. 89.) By letter dated September 20, 2021, EMA indicated that it would rely on the papers previously submitted in support of its motion for default judgment along with a supplementary declaration addressing upDated:torneys' fees. (Dkt. 90.) Although given an opportunity to respond, Parallax did not. On November 15, 2021, the Court scheduled the inquest Hearing for December 7, 2021. (Dkt. 95.)
The next day, November 16, 2021, the Court received a letter from an attorney, Lisbeth Merrill, stating that she was in the process of being engaged by Parallax and requesting that the Hearing be vacated or continued. (Dkt. 96.) EMA opposed. (Dkt. 98.) On November 30, 2021, the Court issued an order stating that the inquest Hearing remained scheduled as is and observing that neither Ms. Merrill nor any other attorney had put in an appearance for Parallax. The Court noted, however, that if counsel put in an appearance on behalf of Parallax prior to the Hearing, the Court would hear counsel for Parallax at that time. (Dkt. 99.)
Ms. Merrill did not put in a formal appearance until the early morning hours of the day of the Hearing, December 7, 2021. (Dkt. 100.) Ms. Merrill participated in the Hearing by telephone. At the Hearing, and in correspondence received that same day, Ms. Merrill asked that Parallax be granted leave to move to vacate the default judgment. The Court set a briefing schedule for the motion to vacate but also proceeded with the inquest Hearing to obtain from EMA more information relevant to damages. (Dkt. 105.) On December 21, 2021, EMA submitted its Supplemental Filing answering some of the questions that it was not able to answer at the Hearing. (Dkt. 108.)
Parallax filed its motion to vacate on January 12, 2022. EMA filed opposing papers on January 26, 2022, and Parallax replied on February 16, 2022, at which point the motion was fully briefed. On February 24, 2022, this Court issued the Default R&R recommending denial of Parallax's motion to vacate. (Dkt. 115.) Among other things, the Default R&R found that Parallax's proffered defenses had no merit and that, under applicable Nevada law, the loan terms were neither usurious nor unconscionable. (Default R&R at 24-29.) See also EMA Financial LLC v. NFusz, 444 F.Supp.3d 530,539-40 (S.D.N.Y. 2020) (finding similar set of agreements non-usurious under Nevada law).
On March 23, 2022, the Court issued a brief order modifying the Default R&R to withdraw dictum in light of a newly issued decision from the Second Circuit Court of Appeals. (Dkt. 116.) The parties did not file any objections to the Default R&R as modified, and Judge Schofield adopted the Default R&R as modified in full on April 7, 2022. (Dkt. 118.)
Although the Default R&R recommended denying the motion to vacate, it also recommended that Parallax be given an opportunity to contest the amount of damages sought by EMA. The Court set a schedule for briefing. Parallax filed its “Brief Addressing The Damages Claimed By EMA” on March 23, 2022 (Dkt. 117); EMA responded on April 7, 2022 (Dkt. 119). The parties did not submit any additional factual evidence. On May 9, 2022, the Court issued an order directing EMA to file a supplemental declaration from Felicia Preston with certain recalculated numbers. (Dkt. 120). EMA timely filed the declaration on May 16, 2022. (Dkt. 122.) On May 23, 2022, the Court held a conference to address a few remaining questions from the Court and issued an order requesting clarifying information. (Dkt. 123.) Parallax timely filed the clarifying information on May 31, 2022. (Dkt. 124.) Parallax was provided with an opportunity to respond, but did not do so. (See Dkt. 123.)
LEGAL STANDARDS
When a party defaults, all well-pleaded facts alleged in the pleading against it, except those relating to the amount of damages, must be accepted as true. City of New York v. Mickalis Pawn Shop, LLC, 645 F.3d 114, 137 (2d Cir. 2011) (“It is an ancient common law axiom that a defendant who defaults thereby admits all well-pleaded factual allegations contained in the complaint”) (internal quotations marks omitted); Finkel v. Romanowicz, 577 F.3d 79, 84 (2d Cir. 2009) (trial court is required to “accept all of [the claimant's] factual allegations as true and draw all reasonable inferences in its favor”). “This principle applies regardless of whether default is entered as a discovery sanction or for failure to defend.” Walpert v. Jaffrey, 127 F.Supp.3d 105, 129 (S.D.N.Y. 2015) (internal quotation marks omitted). The court may also rely on factual allegations pertaining to liability contained in affidavits and declarations submitted by the nondefaulting party. See, e.g., Tamarin v. Adam Caterers, Inc., 13 F.3d 51, 54 (2d Cir. 1993); Fustok v. ContiCommodity Services, Inc., 873 F.2d 38, 40 (2d Cir. 1989). Nonetheless, the court “must still satisfy itself that the [claimant] has established a sound legal basis upon which liability may be imposed.” Shld, LLC v. Hall, No. 15-CV-6225, 2017 WL 1428864, at *3 (S.D.N.Y. April 20, 2017) (internal quotation marks omitted); see Finkel, 577 F.3d at 84.
Once liability has been established, the non-defaulting party must provide admissible evidence establishing the amount of damages with reasonable certainty. Transatlantic Marine Claims Agency, Inc. v. Ace Shipping Corp., Division of Ace Young Inc., 109 F.3d 105, 111 (2d Cir. 1997); see also Lenard v. Design Studio, 889 F.Supp.2d 518, 527 (S.D.N.Y. 2012) (in an inquest following a default, “[a] plaintiff must ... substantiate a claim with evidence to prove the extent of damages”).
To assess whether the non-defaulting party has established a sufficient basis for damages, a court has the discretion, but is not required, to hold a hearing. See Fed.R.Civ.P. 55(b)(2); Fustok, 873 F.2d at 40. An inquest into damages may be conducted on the papers, without an evidentiary hearing, where there is a sufficient basis on which to make a calculation. See Bricklayers & Allied Craftworkers Local 2, Albany, New York Pension Fund v. Moulton Masonry & Construction, LLC, 779 F.3d 182, 189 (2d Cir. 2015); Tamarin v. Adam Caterers, Inc., 13 F.3d 51, 53-54 (2d Cir. 1993); Maldonado v. La Nueva Rampa, Inc., No. 10-CV-8195, 2012 WL 1669341, at *2 (S.D.N.Y. May 14, 2012). Although EMA took the position that no hearing was necessary, the Court sought clarification and explanation of several damages-related issues. Accordingly, the Court held a hearing as explained above and, after issuing the Default R&R, received briefing from both Parallax and EMA.
LIABILITY
In determining whether EMA has a “sound legal basis” to hold Parallax liable, the Court considers both EMA's prima facie case, which is readily established, as well as Parallax's defenses.
A. Applicable Law
The parties initially disagreed about whether Nevada Law or New York law governed the parties' agreements. EMA correctly invoked Nevada law, on the basis that the loan agreements expressly state that they are governed by Nevada law. (See Preston Decl. Ex. A at Art. 4.6, Ex. D at Art. 4.6.) When addressing the merits, Parallax sought to apply New York law, which is less forgiving of usury. In the wake of the Default R&R, which found that Nevada law applies, Parallax now acknowledges in its damages submission that Nevada law applies. (Dkt. 117 at 4-5.)
B. Parallax's Liability For Breach Of Contract
Accepting the well-plead allegations of EMA's counterclaims as true, supplemented by the declarations of record, the Court finds that EMA has established Parallax's liability for breach of contract. Under Nevada law, “a plaintiff alleges a breach of contract by pleading four elements: (1) formation of a valid contract; (2) performance or excuse of performance by the plaintiff; (3) material breach by the defendant; and (4) damages.” Negri v. Friedman, No. 14-CV-10233, 2017 WL 2389697, at *7 (S.D.N.Y. May 31, 2017) (citing Johnston v. International Mixed Martial Arts Federation, No. 2:14-CV-941, 2015 WL 273619, at *3 (D. Nev. Jan. 22, 2015) (citing Bernard v. Rockhill Development Co., 103 Nev. 132, 134, 734 P.2d 1238, 1240 (1987)). Each of those elements exist here.
The parties entered into binding contracts by which EMA provided Parallax with $222,000 in funding. In exchange, EMA received rights to payment of its principal, with 12% interest; to convert any portion of the debt into Parallax stock at a discounted price; and to exercise warrants to purchase Parallax stock at a discounted price. Parallax agreed to set aside stock in reserve for the benefit of EMA and made a variety of representations and warranties including that it would timely file its regulatory filings. Parallax also agreed that in the event it defaulted, it would be obligated to pay double what it owed in principal and interest, default interest of 24%, and liquidated damages for failure to honor conversion requests. On multiple occasions, Parallax materially breached and defaulted on its obligations, first by failing to timely file regulatory submissions in 2019, then by failing to reserve stock for EMA's conversions in February 2020, and then failing to honor the March 20, 2020 Conversion Notices. EMA incurred financial injury and is now entitled to its contractual remedies. See EMA Financial, LLC v. AIM Exploration, Inc., No. 18-CV-145, 2019 WL 689237, at *11 (S.D.N.Y. Feb. 19, 2019) (granting summary judgment to EMA on breach of contract for borrower's breaches and default on loan agreements similar to those at issue here).
This scenario has played out a number of times with companies willing to accept funding in exchange for considerable interest, conversion and other rights, and steep consequences for default. After the lender's exercise of multiple conversions at discounted rates, the funded company finds itself in an untenable predicament and defaults on the most recent conversion demands, leaving the lender with substantial claims. Despite the borrowers' attempts to fend off those claims and evade the consequences of their default, courts regularly hold the borrower liable for breach of and default under the loan agreements. See, e.g., Alpha Capital Anstalt v. ShiftPixy, Inc., 432 F.Supp. 326, 331, 336-37 (S.D.N.Y. 2020); AIM Exploration, 2019 WL 689237 at *11; Adar Bays, LLC v. GeneSYS ID, Inc., 341 F.Supp.3d 339, 348 (S.D.N.Y. 2018), reversed on other grounds, 28 F.4th 379 (2d Cir. 2022).
This pattern is sometimes referred to as “death spiral” or “toxic” financing in which a lender provides an early-stage company with capital in exchange for debt that can be converted to stock in the company. The economics can cause the price of the company issuing the stock to plunge to nearly zero when the lender exercises multiple rounds of conversion and sale of the stock on the open market at successively lower prices. See Crown Bridge Partners, LLC v. Sunstock, Inc., No. 18 Civ. 7632, 2019 WL 2498370, at *1 (S.D.N.Y. June 3, 2019) (describing death spiral financing). As one publisher of financial information explains: “A company that seeks death spiral financing basically has no other option to raise money to survive. ... The only hope for the company to break the death spiral is to improve its operational results.” Investopia, https://www.investopedia.com/terms/d/deathspiral.asp (last visited on June 8, 2022).
C. Parallax Has No Defense On The Merits
Before it defaulted in the litigation, and in moving to vacate, Parallax argued that the agreements with EMA were void because, taking into account the combination of regular interest, conversion rights, liquidated damages, and warrant rights, EMA effectively charged Parallax an unconscionable and usurious 75% interest on the loans that is against public policy and violates New York law. (Dkt. 14-1 at 8-15.) The Court already has found that defense, and others, to have no merit. (See Default R&R at 2032.)
In its Damages Brief, Parallax contends that EMA is not due any damages with respect to the Conversion Notices because EMA “has not established in these proceedings that it met” a condition precedent. (Dkt. 117 at 2.) Specifically, Parallax argues that to exercise its conversion rights, EMA was required, pursuant to Notes Articles 1.2(a) and 1.5, to provide an opinion of counsel confirming the right of the holder (EMA) pursuant to Rule 144 to sell or transfer what would otherwise be restricted securities. See 17 C.F.R. § 230.144.
That argument is not tenable. First, neither Note provision cited by Parallax requires an opinion of counsel as a condition to Parallax's obligation to honor Conversion Notices. Rather, Article 1.2(a) sets forth EMA's right to conversion, while Article 1.5 addresses restricted securities. Article 1.5 does include a requirement for EMA to provide an opinion of counsel in order for Parallax to deliver common stock without restrictions on EMA's ability to sell or transfer the stock. But that is a separate issue from Parallax's obligation to deliver converted shares, whether restricted or not. The form Notice of Conversion attached to the Notes confirms as much. (See Preston Decl. Ex. A at Exhibit A, Ex. D at Exhibit A (“If shares of Common Stock are to be issued in the name of a person other than [EMA], [EMA] will pay all transfer taxes payable with respect thereto and is delivering herewith such certificates and opinions as reasonably requested by Parallax in accordance therewith”).)
Second, nothing in the record indicates that Parallax ever gave failure to provide an opinion of counsel as a reason why it would not honor the Conversion Notices. Third, EMA's counterclaim asserts that it complied with all notices and prerequisites to suit, and performed all of its obligations under the agreements. (Dkt. 23 ¶¶ 207, 214, 222.) Because of Parallax's default, those allegations are accepted as true for purposes of liability. Parallax's “condition precedent” argument is unavailing.
Parallax makes a similar faulty argument with respect to EMA's right to damages on the Warrants. According to Parallax, EMA failed to deliver a Notice of Exercise to Parallax or make any other attempt to exercise either Warrant. (Dkt. 117 at 7.) But that argument ignores a critical provision of the Notes: their cross-default provisions. Pursuant to the Notes' cross-default provisions, Parallax's default under the Notes triggered EMA's right to damages under the Warrants. (Preston Decl. ¶ 59 and Ex. A at 3.16, Ex. D at 3.16.) There being a default, as declared by EMA, the delivery of a Notice of Exercise of the Warrants was irrelevant.
Parallax's liability has been established. All that remains is to determine damages and other monetary relief.
DAMAGES
As Parallax's liability has been established, the Court turns to evaluating damages, pre-judgment interest, attorneys' fees, and costs.
A. Breach of Contract Damages
Under Nevada law, “[d]amages for a breach of contract claim are limited to those specifically outlined in the contract, if any, and those expectation damages sufficient to put the non-breaching party in the position it would have been in had the breach not occurred.” Shaw v. CitiMortgage, Inc., 201 F.Supp.3d 1222, 1249 (D. Nev. 2016). “Nevada courts calculate expectancy damages pursuant to section 347 of the Restatement (Second) of Contracts,” which provides that “the injured party has a right to damages based on his expectation interest as measured by (a) the loss in the value to him of the other party's performance caused by its failure or deficiency, plus (b) any other loss, including incidental or consequential loss, caused by the breach, less (c) any cost or other loss that he has avoided by not having to perform.” Nalder v. United Automobile Insurance Co., 824 F.3d 854, 857-58 (9th Cir. 2016). Stated differently, “[c]ompensatory damages are awarded to make the aggrieved party whole and, where contracts are involved, these damages should place the plaintiff in the position he would have been in had the contract not been breached.” Hornwood v. Smith's Food King No. 1, 107 Nev. 80, 84, 807 P.2d 208, 211 (1991). EMA seeks an award of damages under both Notes and both Warrants.
In lieu of actual damages, parties may contract for payment of liquidated damages. Liquidated damages “are appropriate as an amount of fixed damages when ‘contractual damages are uncertain or immeasurable.'” Genufood Energy Enzymes Corp. v. Taiwan Cell Energy Enzymes Corp., No. 2:13-CV-00435, 2014 WL 643789, at *3 (D. Nev. Feb. 14, 2014) (quoting Khan v. Bakhsh, 129 Nev. 554, 558, 306 P.3d 411, 414 (2013)). “Liquidated damages are the sum which a party agrees to pay if it fails to perform, and which, having been arrived at by a good faith effort to estimate the actual damages that will probably ensue from a breach, is recoverable as agreed-upon damages should a breach occur.” Mason v. Fakhimi, 109 Nev. 1153, 1156, 865 P.2d 333, 335 (1993).
Under Nevada law, liquidated damages provisions are “generally prima facie valid.” Id. (citing Haromy v. Sawyer, 98 Nev. 544, 546, 654 P.2d 1022, 1023 (1982)). Liquidated damages provisions will not be enforced, however, if they amount to a penalty. “In order to prove that [a liquidated damages] provision constitutes a penalty, the challenging party must persuade the court that the liquidated damages are disproportionate to the actual damages sustained by the injured party.” Mason v. Fakhimi, 109 Nev. at 1156, 865 P.2d at 335 (citing Haromy v. Sawyer, 98 Nev. at 547, 654 P.2d at 1023)).
The Nevada Supreme Court has articulated the distinction between enforceable liquidated damages and an unenforceable penalty as the difference between compensation for non-performance and punishment to secure performance:
As distinguished from liquidated damages, the term “penalty,” as used in contract law, is a sum inserted in a contract, not as the measure of compensation for its breach, but rather as a punishment for default, or by way of security for actual damages which may be sustained by reason of non-performance, and it involves the idea of punishment .... [The] distinction between a penalty and liquidated damages is that a penalty is for the purpose of securing performance, while liquidated damages is the sum to be paid in the event of nonperformance.Id. (quoting 22 Am.Jur.2d Damages § 684 (1980)).
With these principles in mind, the Court next discusses separately EMA's damages related to the Notes and the Warrants.
1. Damages Related To The
Before calculating EMA's damages for Parallax's default on the Notes, the Court first discusses the Default Sum formula and the extent to which it is an enforceable liquidated damages provision or an unenforceable penalty.
a. Parts Of The Default Sum Formula Are An Unenforceable Penalty
As set forth above, the Default Sum formula adds four components together and multiplies that entire sum by two. In the event of default, Parallax is required to pay twice the sum of: outstanding principal, plus 12% accrued interest on that principal, plus 24% interest until payment of the principal and interest not paid, plus liquidated damages of $250 per day for failure to deliver converted shares. (Preston Decl. Ex. A at Art. 3.16, Ex. D at Art. 3.18.)
Two aspects of the Default Sum formula are arbitrary and result in a grossly disproportionate amount of damages: the $250 daily liquidated amount for failure to deliver converted shares, and the 200% multiplier factor. In its filings prior to defaulting in this action, Parallax specifically called out the $250 daily liquidated damages for nonconversion as an unenforceable penalty. (Dkt. 14-1 at 15-17.) Courts have invalidated similar liquidated damages provisions imposing a daily payment where the lender did not offer any explanation for how the daily payment was “even conceivably linked” to damages from the borrower's failure to honor conversion rights. Union Capital v. Vape Holdings, Inc., No. 16-CV-1343, 2017 WL 1406278, at *7 (S.D.N.Y. March 31, 2017); see also Adar Bays, 341 F.Supp. at 349; LG Capital Funding, LLC v. 5Barz International, Inc., 307 F.Supp.3d 84, 101 (E.D.N.Y. 2018). EMA offered no such explanation here. The issue is moot, however, as EMA does not seek to enforce that component of the Default Sum and instead seeks actual damages for Parallax's failure to honor EMA's conversion rights. (Hearing Tr. 28.)
The Court also finds that doubling of the Default Sum in its entirety is an unenforceable penalty under Nevada law. Courts have reached different outcomes on whether such a provision is enforceable, at least in the context of applying similar New York law. Compare LG Capital Funding, LLC v. One World Holding, Inc., No. 15-CV-698, 2018 WL 3135848, at *14 (E.D.N.Y. June 27, 2018), adopting in relevant part, 2015 WL 13748548 (E.D.N.Y. Aug. 6, 2015) (upholding 200% multiplier) with EMA Financial, LLC v. Joey New York, Inc., No. 17-CV-9706, 2022 WL 292920, at *15 (S.D.N.Y. Feb. 1, 2022) (determining that multiplier of 150% was unenforceable liquidated damages, and calculating actual damages instead); cf. EMA Financial v. AIM Exploration, 2019 WL 689237 at *9 (noting that EMA “has not sought to enforce any claimed entitlement to the ‘default sum' ... - a decision likely for the best, as courts in this District have struck down similar provisions as unenforceable”).
Parallax's papers in support of preliminary injunctive relief did not appear to specifically challenge the two-times component of the Default Sum. Parallax does challenge it, however, in their more recent damages submission. (Dkt. 117 at 6.)
New York's law regarding liquidated damages terms and their enforceability is similar to that under Nevada law. Thus, as in Nevada, “[i]f . the amount fixed [as liquidated damages] is plainly or grossly disproportionate to the probable losee, the provision is a penalty clause and will not be enforced.” LG Capital v. One World Holding, 2018 WL 3135848 at *14 (internal quotation marks and citations omitted).
The different outcomes in One World Holding and Joey New York can be explained at least in part by the rationale - or lack of rationale - for the multiplier. In Joey New York, the court declined to enforce the multiplier because actual damages were not hard to calculate and because the multiplier provision was “grossly disproportionate, adding nearly $121,000 to the principal amount owed to Plaintiff for the express purpose of coercing contract performance from Defendants and penalizing them.” 2022 WL 292920 at *15 (internal quotation marks and citation omitted). The court in One World Holding, in contrast, found that the 200% multiplier was “not plainly or grossly disproportionate to the probable loss.” 2018 WL 3135848 at *14. The court reasoned that, absent the breach for failing to deliver converted shares, the lender would have been entitled to recover shares worth twice the amount of principal and interest, “since the Notes all provide that the Conversion Price will be 50% of the Market Price.” Id. As a result, “[t]heoretically, Plaintiff could immediately sell those shares and double its principal and interest. Accordingly, the 2.0 Multiplier is not a penalty, but essential in order to make Plaintiff whole.” Id.
Here, as in LG Capital v. One World Holding, the lender's conversion rights permitted conversion at ¶ 50% discount, as exemplified by the several conversions that Parallax initially honored. The effective discount grew even more to 65% for the March 31, 2020 Conversion Notices, which Parallax did not honor. Arguably, the same rationale applied in LG Capital v. One World Holding, would apply, to the extent EMA theoretically could have turned around and sold the converted shared so as to more than double its principal and interest.
Derivation of the 65% discount is explained in note 6 above.
But two problems remain. First, damages for failure to deliver the converted shares are calculated in the following section based on damages calculations provided by EMA. There is no rationale for doubling the principal and interest prior to that. Any default apart from failing to deliver converted shares (such as Parallax's failure to maintain sufficient reserves or timely file SEC reports) made outstanding principal and interest immediately due. Doubling that figure independent of calculation of damages attributed to failure to deliver converted stock would serve no purpose other than as a penalty to “coerc[e] contract performance.” EMA Financial v. Joey New York, 2022 WL 292920 at *15.
The second problem with the 200% multiplier is that the Default Sum formula in the Notes requires that the multiplier be applied not just to the outstanding principal and interest but also the 24% Default Interest (and the unenforceable daily liquidated damages component). As discussed below, Default Interest is essentially pre-judgment interest. There is no justification for doubling that component of the Default Sum. Although the same formula was present in LG Capital v. One World Holding, 2018 WL 3135848 at *3, the Court did not address any rationale to support application of the 2.0 multiplier to the Default Interest component. EMA has not provided any here, and the Court cannot divine any. Perhaps due to that gap in support, EMA's proposed calculation of damages, submitted before the Court directed EMA to submit damages calculations omitting the 200% multiplier altogether, did not apply the 200% multiplier to the Default Interest component. (See First Preston Decl. ¶ 57.)
The First Preston Declaration applied the 200% multiplier to the principal component of the Default Sum. For the reasons described above, the Court has determined the multiplier should not be applied. Accordingly, the Court requested revised damages calculations without application of the multiplier. (Compare First Preston Decl. ¶¶ 46-47 with Supp. Preston Decl. ¶¶ 46-47 and Preston Decl. ¶¶ 46-47.)
b. Calculation Of Damages For Default On The
For purposes of damages, the first date of default claimed by EMA is February 28, 2020, when Parallax failed to maintain sufficient stock reserves to cover EMA conversions. (Preston Decl. ¶ 42; Supplemental Filing at 5.) Prior to that time, the Notes earned ordinary interest at 12%. As of February 28, 2020, the total amount of principal plus interest due under the First Note was $82,445.10, consisting of $69,420 in principal and $13,035.10 in accrued interest (from the date of issue of February 27, 2019), and the total amount due under the Second Note was $122,896.77, consisting of $110,000 in principal (as there had been no conversions or pre-payment) and $11,896.77 in accrued interest (from the date of issue of April 8, 2019). (Preston Decl. ¶¶ 43-44.)
The Notes require EMA to provide Parallax by email with three-days written notice of an alleged breach of “any material covenant or other material term or condition contained in [the Notes] and any collateral documents.” An event of default occurs if Parallax does not cure the breach within those three days. (Notes Article 3.3.) EMA provided Parallax with notice as early as February 26, 2020, when it requested by email that Parallax raise its reserves and cautioned that failure to do so would result in default. (Supplemental Filing Ex. C at ECF pp. 2-4; see also Notes Article 4.2 (permitting notice by several alternative methods, including email).)
Those total figures are then used to determine the Default Sum described above. Pursuant to the first and second components of the Default Sum, the outstanding principal amount plus interest owed as of February 28, 2020 was $82,455.10 on the First Note and $122,896.77 on the Second Note. (Preston Decl. ¶¶ 43-44 and 45 (quoting from Article 3.16 of the Notes at Exs. A & D).) As explained earlier, however, had the Conversion Notices been honored, the outstanding principal-plus-interest amounts due would have been reduced to $0.00 on the First Note, and $42,275.10 on the Second Note. (Preston Decl. Ex. AA.) Those two figures are the damages due for non-payment of principal and interest then-accrued on the First and Second Note respectively.
2. Damages Related To The Conversion Notices
EMA is also entitled to damages for Parallax's failure to honor the Conversion Notices as required by the Notes. That determination is made by multiplying the number of convertible shares by the price per share three days from Parallax's receipt of the Conversion Notices. (Preston Decl. Ex. A at Art. 1.4(d), Ex. D at Art. 1.4.) The average weighted volume share price on April 3, 2020, being three days after the date of receipt, was $.0497. (Preston Decl. ¶ 53 and Ex. Z.) Accordingly, the market value of the shares EMA sought to convert under the First Note Conversion Notice was $289,916.40 (the product of 5,833,328 shares x .0497 price per share), and the market value of the shares EMA sought to convert under the Second Note Conversion Notice was $280,957.98 (the product of 5,653,078 shares x .0497 price per share). (Preston Decl. ¶¶ 54-55.)
3. Damages Related To The Warrants
Pursuant to the Notes' cross-default provisions, Parallax's default under the Note triggered EMA's right to damages under the Warrants. (Preston Decl. ¶ 59 and Ex. A at 3.16, Ex. D at 3.16.) As set forth above, an event of default occurred on February 28, 2020, when Parallax failed to maintain a sufficient reserve of stock for EMA. The relevant date for determining damages under the Warrants is thus February 28, 2020. Because Parallax stock was not registered for resale at the time, the Cashless Exercise Formula is used to calculate damages for default on the Warrants.
Parallax asserts that EMA “arbitrarily sets a date of February 28, 2020 to calculate market price” of the Warrants. (Dkt. 117 at 8.) That assertion overlooks the fact that February 28, 2020 is an established date of default.
The Cashless Exercise Formula, however, should not be applied as written in the Warrants. In EMA's case against NFusz, which EMA has cited in support of its inquest briefing, Judge Buchwald determined that EMA's Cashless Exercise Formula should not be enforced as written as doing so would be contrary to the purpose of the cashless exercise, at odds with other provisions in the warrants, and deliver a windfall to EMA. NFusz, 444 F.Supp.3d at 547-50. Without reformation, the formula would lead to an “absurd result,” providing EMA with a “windfall,” because the formula, as written, yields an “exponentially greater number of common stock shares when payment is made on a cashless basis than when payment is made with cash” and also “entitles EMA to an increasingly greater number of common stock shares as the market price for [the] common stock increases, without regard to proportionality of ownership.” Id. at 547, 548. Judge Buchwald reformed the formula to replace the exercise price with the market price in the denominator. Judge Buchwald concluded that “the formula cannot reasonably be interpreted in any other manner” and, as a matter of law, must be enforced consistent with that understanding. Id. at 550.
During the Hearing, this Court asked EMA why the Cashless Exercise Formula should not be reformed in the instant case just as it was in Nfusz. (Hearing Tr. 34.) EMA responded to that question in its post-Hearing Supplemental Filing, thus having had substantial time to consider the inquiry. EMA offered no material distinction between the formulas and facts of the instant case and those in Nfusz. Nor did EMA assert any fault in Judge Buchwald's reasoning or otherwise attempt to defend the Formula on the merits.
Instead, EMA argued that this Court should not reform the Cashless Exercise Formula because Parallax has defaulted and did not assert reformation as an affirmative defense, whereas in Nfusz, the defendant affirmatively sought reformation and EMA sought a declaration from the court that the Formula should be applied as written. EMA cites case law to the effect that the court should not “ordinarily” raise sua sponte a defense for a defaulting party. But that is not what this Court seeks to do.
EMA misapprehends this Court's obligation, which is to evaluate the propriety and reasonable certitude of EMA's alleged damages. Transatlantic,109 F.3d at 111 (“[T]he District Court ... could not just accept [plaintiff's] statement of the damages. This did not satisfy the court's obligation to ensure that the damages were appropriate.”). An inquest court should not be in the business of approving damages claims that provide windfalls to the non-defaulting party and lead to “absurd” results. Nfusz, 444 F.Supp.3d at 547; see also Coach. Inc. v. O'Brien, No. 10-CV-6071, 2012 WL 1255276 at *3-4 (S.D.N.Y. Apr. 13, 2012) (awarding damages “far below what [plaintiff] has requested” and “below the maximum allowable under the statute” as not doing so would enable plaintiff to “reap a windfall”); Kenneth Jay Lane, Inc. v. Heavenly Apparel, Inc., No. 03-CV-2132, 2006 WL 728407, at *6 (S.D.N.Y. Mar. 21, 2006) (denying plaintiff's requested statutory damages amount because the Court lacked information to conclude that the award would be “reasonable, appropriate and just”). Accordingly, although EMA is entitled to receive damages in connection with both Warrants, the Cashless Exercise Formula should be applied in the same manner as it was in Nfusz.
When properly implemented, the Cashless Exercise Formula yields 1,932,432 shares with a market value of $91,017.55 at the time of default for the First Note Warrant, and 1,788,655 shares with a market value of $84,245.65 for the Second Note Warrant.(Dkt. 110, Ex. A.)
In contrast, applying the Formula as written yields 9,401,022 shares with a market value of $442,788.14 at the time of default for the First Note Warrant, and $318,312.02 for the Second Note Warrant. (Preston Decl. ¶¶ 60-71.)
B. Prejudgment Interest (A.K.A. The Default Interest Rate)
Plaintiff requests an award of “24% default interest as set forth on Page 1 of each Note” for the Notes, Conversion Notices, and Warrants through the date of entry of a final judgment. (Preston Decl. ¶ 56.) That is effectively a request for contractual prejudgment interest and presents two issues: is the 24% default interest rate enforceable, and, if so, does it apply to all three instruments (i.e., the Notes, Conversion Notices, and Warrants)?
1. The 24% Default Interest Rate Is Enforceable
Pursuant to New York law, prejudgment interest “shall be recovered upon a sum awarded because of a breach of performance of a contract.” N.Y. C.P.L.R. § 5001(a). Although a rate of prejudgment interest of nine percent is prescribed by statute, “it is well-established that when a contract provides for interest to be paid at a specified rate until the principal is paid, the contract rate of interest, rather than the legal rate set forth in CPLR 5004, governs until payment of the principal or until the contract is merged in a judgment.” NML Capital v. Republic of Argentina, 621 F.3d 230, 240 (2d Cir. 2010) (quoting NYCTL 1998-2 Trust v. Wagner, 61 A.D.3d 728, 729, 876 N.Y.S.2d 522, 523 (2nd Dep't 2009)) (internal quotation marks omitted).
A party's right to recover pre-judgment interest for breach of contract is the same in Nevada as it is the same as in New York. See Nev. Rev. Stat. Ann. § 99.040(1) (party that succeeds on breach of contract claim is entitled to prejudgment interest); Schoepe v. Pac. Silver Corp., 111 Nev. 563, 893 P.2d 388, 390 (1995) (“interest is recoverable as a matter of right upon money due from contracts”).
Again, the same principle applies under Nevada law. See Nev. Rev. Stat. Ann. § 99.040 (prescribing specific prejudgment interest rate “[w]hen there is no express contract in writing fixing a different rate of interest”).
That said, the parties' right to set a contractual rate of interest is “subject to state usury laws.” C.A., Inc. v. Network Solutions Provider, Inc., No. 17-CV-3623, 2018 WL 6834472, at *2 n.2 (E.D.N.Y. Dec. 28, 2018). As discussed in the Default R&R, Nevada law does not bar usury. But even if New York law applied, the 24% default rate of interest would be enforceable. New York has two usury statutes, one civil and one criminal. Under the civil usury statute, N.Y. Gen. Oblig. Law § 5-501, a rate of interest exceeding 16% per annum is usurious. Corporations, however, may not assert civil usury as a defense in litigation. AIM Exploration, 2019 WL 689237, at *6 (citing N.Y. Gen. Oblig. Law § 5-521(1)). In contrast, a corporation may assert as an affirmative defense criminal usury, which prohibits interest rates knowingly charged at a rate of 25% or more per annum. Id. (citing N.Y. Penal Law § 190.40, and N.Y. Gen. Oblig. Law § 5-521(3)).
The default interest rate of 24% that EMA seeks to enforce is below New York's usurious limit and is enforceable. See AIM Exploration, 2019 WL 689237 at *6, 12 (enforcing 24% default interest rate in accordance with terms of notes on which defendants defaulted). Moreover, “the majority of district courts in this Circuit to have considered the issue have held that New York's usury laws do not apply to default interest rates.” Blue Citi, LLC v. 5Barz International Inc., 338 F.Supp.3d 326, 336 (S.D.N.Y. 2018); see also AIM Exploration, 2019 WL 689237 at *10 (citing cases and similarly holding that borrower could not maintain a usury defense based on Note's default interest rate).
Th The 24% Default Interest Rate Applies To The Notes And Conversion Notices But NotThe Warrants
EMA contends that the 24% default interest rate applies to not only default under the Notes and their conversion rights, but also to the Warrants, which are separate instruments. The Court disagrees. The 24% default interest rate appears only in the Notes. The Warrants contain no default-interest provisions. A breach of those agreements thus would be subject to the statutory rate of pre-judgment interest, not the contractual rate of default interest applicable to the Notes.
As support for application of a contractual 24% rate of interest to the Warrants, EMA merely invokes the Notes' cross-default provisions, which make a default under any one of the loan transactions a default under all of the other loan transactions. (Supplemental Filing at 7 (question 16).) More specifically, the Notes' cross-default provisions entitle EMA to “apply all rights and remedies of [EMA] under the terms of this Note and the Other Agreements by reason of a default under said Other Agreement and hereunder.” (Preston Decl. Ex. A at Art. 3.16, Ex. D at Art. 3.16.) Parallax's default under the Notes (by failing to maintain reserves and honor EMA's conversion rights), thus constitutes default under the Warrants and entitles EMA to all rights and remedies under any of the agreements. The 24% default interest rate is one of EMA's rights and remedies under the Notes and thus, as the argument goes, applies to EMA's Warrant-related damages.
That argument, however, cannot be squared with the language of the Notes concerning the 24% default interest rate. Under the Notes, the 24% default interest rate applies to “any principal or interest on this Note which is not paid when due.” (Preston Decl. Ex. A at 1, Ex. D at 1.) The Notes specifically and only apply the 24% default interest rate to principal or interest on the Notes. Neither the Notes nor the Warrants refer to or incorporate the 24% default interest rate with respect to the Warrants. In effect, EMA seeks to apply to the Warrants a remedy specific to the Notes' “principal or interest.” That is nonsensical as the Warrants are neither principal nor interest on the Notes.
In short, the parties did not agree to a contractual rate of interest for Parallax's default under the Warrants. The Court thus must look to the statutory rate of pre-judgment interest. Pre-judgment interest is a matter of substantive law. Adrian v. Town of Yorktown, 620 F.3d 104, 107 (2d Cir. 2010). As a result, the Court applies the prejudgment interest rate under Nevada law, which is the substantive law applicable to the agreements as discussed above. See id. (“Because that claim was brought under New York State law, and because prejudgment interest is a matter of substantive law, the New York interest rate applies to the interest sought”); Certain Underwriters at Lloyds of London v. Illinois National Insurance Company, No. 09-CV-4418, 2016 WL 6876497, at *6 (“New Jersey law applies to the calculation of prejudgment interest on [Defendant]'s liability for compensatory damages because it was New Jersey law that established the liability in question”).
Whereas New York prescribes a fixed statutory rate of 9%, N.Y. C.P.L.R. § 5004, Nevada calls for a variable rate defined as follows: “a rate equal to the prime rate at the largest bank in Nevada, as ascertained by the Commissioner of Financial Institutions, on January 1 or July 1, as the case may be, immediately preceding the date of the transaction, plus 2 percent, upon all money from the time it becomes due. ... The rate must be adjusted accordingly on each January 1 and July 1 thereafter until the judgment is satisfied.” Nev. Rev. Stat. Ann. § 99.040(1).
3. Calculation Of Pre-Judgment Interest
The date for the default interest runs from February 28, 2020 with respect to damages incurred under the Notes and Warrants, and from March 31, 2020 with respect to damages incurred under the Conversion Notices. EMA has provided a calculation of the 24% default interest per annum on each Note and Conversion Notice through November 24, 2020, as well as the per diem amount accumulating from that date to the date of judgment for the Notes and Conversion Notices. (Preston Decl. ¶ 56 and Ex. AA.) EMA also has provided a calculation pre-judgment interest under Nevada law for the Warrants through November 24, 2020. Accordingly, EMA is entitled to recover prejudgment interest as follows. (See Preston Decl. Ex. AA.)
With respect to the Warrants, EMA initially submitted a spreadsheet using the unreformed cashless exercise Formula and the 24% default interest rate applicable to the Notes. (Supplemental Filing Ex. F.) The Court asked EMA to provide a similar spreadsheet using the reformed Formula and the Nevada rate of pre-judgment interest, which EMA provided on January 5, 2022. (Dkt. 110.) While EMA provided a per diem default interest calculation for the Warrants ($25.21), it did so from January 4, 2022 forward, having calculated accumulated default interest for prior to that period. (Dkt. 110 Ex. A.) To keep the time periods consistent in the summary chart provided above, the Court has entered for the Warrants the percentage interest rate in place of a per diem amount for the post-November 25, 2020 period.
Instrument
Damages
Default Interest Through Nov. 24, 2020
Interest From Nov. 25, 2020 to Judgment
First Note
$0.00
$0.00
$0.00 per day
Second Note
$42,275.10
$7,162.55
$19.97 per day
First Note Conversion Notice
$289,916.40
$44,607.41
$190.63 per day
Second Note Conversion Notice
$280,957.98
$43,229.04
$184.74 per day
First Note Warrant
$91,017.55
$3,994.80
5.25%
Second Note Warrant
$84,245.65
$3,697.58
5.25%
C. Attorneys' Fees
Plaintiff seeks compensation for $42,409.95 in fees and costs, consisting of $41,692.21 in attorneys' fees and $717.74 in costs. (Dkt. 90.) New York law does not permit recovery of attorneys' fees for breach of contract absent a contractual provision stating otherwise. Oscar Gruss & Son, Inc. v. Hollander, 337 F.3d 186, 199 (2d Cir. 2003) (“Under the general rule in New York, attorneys' fees are the ordinary incidents of litigation and may not be awarded to the prevailing party unless authorized by agreement between the parties, statute, or court rule”); Congel v. Malfitano, 31 N.Y.3d 272, 291, 76 N.Y.S.3d 873, 884 (2018) (“Attorneys' fees are treated as incidents of litigation rather than damages”) (internal quotation marks and citation omitted).
EMA does not separately identify what amounts of the fees sought constitute attorneys' fees and which comprise costs. The Court has distinguished the two amounts based on review of the billing records submitted by counsel.
Here, there is just such a contractual provision; the Notes explicitly provide that upon default, EMA is entitled to recover the costs of collection, including attorneys' fees. (Preston Decl. Ex. A at Arts. 3.16, 4.5, Ex. D at Arts. 3.16, 4.5.) See AIM Exploration, 2019 WL 689237 at *13 (granting summary judgment to EMA for reasonable attorneys' fees and expenses under Note and SPA provisions similar to those at issue here); LG Capital Funding, LLC v. MineralRite Corp., No. 16-CV-6158, 2017 WL 9250297, at *14 (E.D.N.Y. Dec 1, 2017) (report and recommendation finding Note provisions similar to those here to require payment of reasonable attorneys' fees). Parallax has not challenged either EMA's right to recover fees and costs, or the amount sought. (See generally Dkt. 117.) The Court nevertheless may award only reasonable attorneys' fees and expenses, and therefore conducts the requisite analysis.
The traditional approach to determining a fee award is the “lodestar” calculation, which is the number of hours expended multiplied by a reasonable hourly rate. See Healey v. Leavitt, 485 F.3d 63, 71 (2d Cir. 2007). The Second Circuit has held that “the lodestar ... creates a ‘presumptively reasonable fee.'” Millea v. Metro-North Railroad Co., 658 F.3d 154, 166 (2d Cir. 2011) (quoting Arbor Hill Concerned Citizens Neighborhood Association v. County of Albany, 522 F.3d 182, 183 (2d Cir. 2008); and then citing Perdue v. Kenny A. ex rel. Winn, 559 U.S. 542, 552, 130 S.Ct. 1662, 1673 (2010)); see also Stanczyk v. City of New York, 752 F.3d 273, 284-85 (2d Cir. 2014) (reaffirming Millea). To arrive at a lodestar calculation, “[t]he party seeking an award of [attorneys'] fees should submit evidence supporting the hours worked and rates claimed.” Hensley v. Eckerhart, 461 U.S. 424, 433, 103 S.Ct. 1933, 1939 (1983). EMA has submitted such evidence here, including a declaration from counsel and copies of contemporaneous records of time expended by specific attorneys and paralegals. (Fleischmann Decl. Ex. 4; Fleischmann Supp. Decl. Ex. 1.)
Hourly Rates: Courts assess the reasonableness of a proposed hourly rate by considering the prevailing market rate for lawyers in the district in which the ruling court sits. Polk v. New York State Department of Correctional Services, 722 F.2d 23, 25 (2d Cir. 1983). “The rates used by the court should be current rather than historic hourly rates.” Reiter v. Metropolitan Transportation Authority of New York, 457 F.3d 224, 232 (2d Cir. 2006) (internal quotation marks omitted). “[C]ourts may conduct an empirical inquiry based on the parties' evidence or may rely on the court's own familiarity with the rates if no such evidence is submitted.” Wong v. Hunda Glass Corp., No. 09-CV-4402, 2010 WL 3452417, at *2 (S.D.N.Y. Sept. 1, 2010) (internal quotation marks omitted). Additionally, “the range of rates that a plaintiff's counsel actually charges their clients ... is obviously strong evidence of what the market will bear.” Rozell v. Ross-Holst, 576 F.Supp.2d 527, 544 (S.D.N.Y. 2008); see also Lilly v. County of Orange, 910 F.Supp. 945, 949 (S.D.N.Y. 1996) (“The actual rate that counsel can command in the marketplace is evidence of the prevailing market rate”).
EMA is represented in this action by the law firm of Jeffrey Fleischmann, P.C. (the “Fleischmann Firm”) and seeks reimbursement of fees for the work of three attorneys and one paralegal. The three attorneys are Mr. Fleischmann, who has 12 years of experience, Jonathan Weg with six years of experience, and Gary Heller with 27 years of experience. Each attorney was billed at the same hourly rate of $400. The billing rate charged for paralegal work was $150 per hour. (Fleischmann Decl. ¶ 49 and Ex. 4, Fleischmann Supp. Decl. ¶¶ 2-4 and Ex. 1.)
The Court recommends approval of the requested rates as they fall within or below the reasonable range of rates for attorneys with comparable experience performing similar work previously approved by courts in this District. See, e.g., Tabatznik v. Turner, No. 14-CV-8135, 2016 WL 1267792, at *11-12 (S.D.N.Y. Mar. 30, 2016) (approving partner rate of $650 per hour and associate rate of $425 per hour, in action to enforce a promissory note); Rubenstein v. Advanced Equities, Inc., No. 13-CV-1502, 2015 WL 585561, at *6-7 (S.D.N.Y. Feb. 10, 2015) (finding that hourly rate of $525 was reasonable for partners with between 20 and 30 years' experience and that “blended” rate of $350 was reasonable for associates with experience ranging from one to nine years); Weiwei Gao v. Sidhu, No. 11-CV-2711, 2013 WL 2896995, at *6 (S.D.N.Y. June 13, 2013) (finding rate of $550 per hour was reasonable for a breach-of-contract commercial litigation case where the attorney had primary responsibility for the matter).
The Court also has reviewed the qualifications of the relevant attorneys, as well as the roles played by each in this case (based on review of the billing records), and finds the rates charged appropriate for attorneys of their experience and generally for the tasks they performed. Accordingly, the Court finds the rates requested for Plaintiff's attorneys to be reasonable.
Hours Worked: To determine the compensable hours, “the Court must examine the hours expended by counsel and the value of the work product of the particular expenditures to the client's case.” Tlacoapa v. Carregal, 386 F.Supp.2d 362, 371 (S.D.N.Y. 2005) (citing Gierlinger v. Gleason, 160 F.3d 858, 876 (2d Cir. 1998)). “In making this examination, the district court does not play the role of an uninformed arbiter but may look to its own familiarity with the case and its experience generally as well as to the evidentiary submissions and arguments of the parties.” Gierlinger, 160 F.3d at 876 (internal quotation marks omitted). “The relevant issue ... is not whether hindsight vindicates an attorney's time expenditures, but whether, at the time the work was performed, a reasonable attorney would have engaged in similar time expenditures.” Grant v. Martinez, 973 F.2d 96, 99 (2d Cir. 1992); see also Mugavero v. Arms Acres, Inc., No. 03-CV-5724, 2010 WL 451045, at *6 (S.D.N.Y. Feb. 9, 2010) (same). A court thus should exclude from the lodestar calculation “excessive, redundant or otherwise unnecessary hours.” Quaratino v. Tiffany & Co., 166 F.3d 422, 425 (2d Cir. 1999); see also Luciano v. Olsten Corp., 109 F.3d 111, 116 (2d Cir. 1997) (“If the district court concludes that any expenditure of time was unreasonable, it should exclude these hours from the lodestar calculation”).
The Court has reviewed the records and finds the time spent to be reasonable. The work performed was related to responding to the lawsuit filed by Parallax and enforcing EMA's rights under the Notes, Warrants, and related agreements. The hours spent, broken down by each individual and supported by contemporaneous documentation, were all reasonably necessary for the litigation of EMA's claims. Having determined that the fees sought are reasonable, the Court finds that EMA should be awarded attorneys' fees of $41,692.21.
D. Costs
Plaintiff seeks $717.74 in costs for telephonic hearing transcripts, use of PACER, and postage. Those expenses are routinely recoverable. See, e.g., Malletier v. Artex Creative International Corp., 687 F.Supp.2d 347, 365 (S.D.N.Y. 2010) (costs such as filing fees, shipping costs, and research fees are “typically awarded when a defendant defaults”) (citing Arbor Hill, 369 F.3d at 98); Tips Exports, Inc. v. Music Mahal, Inc., No. 01-CV-5412, 2007 WL 952036, at *11 (E.D.N.Y. Mar. 27, 2007) (reimbursing plaintiff for process servers and postage); Shannon v. Fireman's Fund Insurance Co., 156 F.Supp.2d 279, 305 (S.D.N.Y. 2001) (reimbursing plaintiff for filing fees and shipping costs). Costs associated with copying, docket fees, and other miscellaneous fees may also be recovered pursuant to Local Civil Rule 54.1. The Court has reviewed the relevant invoices and finds the costs set forth are recoverable. Accordingly, EMA should be awarded $717.74 in costs.
CONCLUSION
For the foregoing reasons, I recommend awarding Defendant EMA:
1) Damages on the Notes in the amount of $42,275.10 (= $0.00 for First Note + $42,275.10 for Second Note).
2) With respect to damages on the Notes, prejudgment interest at a rate of 24% per annum running from February 28, 2020 to the date of judgment.
3) Damages on the Conversion Notices in the amount of $570,874.38 (=$289,916.40 (for First Note Conversion Notice) + $280,957.98 (for Second Note Conversion Notice).
4) With respect to damages incurred under the Conversion Notices, prejudgment interest at a rate of 24% per annum running from March 31, 2020 to the date of judgment.
5) Damages with respect to the Warrants in the amount of $175,263.20 (= $91,017.55 for the First Warrant + $84,245.65 for the Second Warrant).
6) With respect to damages incurred under the Warrants, prejudgment interest at the rate provided by Nev. Rev. Stat. Ann § 99.040(1) .
According to information provided by EMA, the Nevada statutory pre-judgment interest rate for relevant time periods is as follows: 6.75% as of Jan. 1, 2000; 5.25% as of July 1, 2020; 5.25% as of Jan. 1, 2021; 5.25% as of July 1, 2001; 5.25% as of Jan. 1, 2022 (unofficially). (Dkt. 110 Ex. A.)
7) $41,692.21 in attorneys' fees;
8) $717.74 in costs.
OBJECTIONS AND APPEAL
Pursuant to 28 U.S.C. § 636(b)(1) and Rules 72, 6(a), and 6(d) of the Federal Rules of Civil Procedure, the parties shall have fourteen (14) days to file written objections to this Report And Recommendation. Such objections shall be filed with the Clerk of the Court, with extra copies delivered to the Chambers of the Honorable Lorna G. Schofield, United States Courthouse, 40 Foley Square, New York, New York 10007, and to the Chambers of the undersigned, United States Courthouse, 500 Pearl Street, New York, New York 10007. Failure to file timely objections will result in a waiver of objections and will preclude appellate review.