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Relativity: Neal Moritz Lawyers Accuse Hedge Funds of Propping Up Massive ‘Sham’

Filmmakers who would like to make the submarine action thriller “Hunter Killer,” attempting to extricate their film project from bankrupt Relativity Studios, accused the company and its founder Ryan Kavanaugh of operating a massive “sham,” which hedge funds continue to prop up to avoid booking the huge losses they have suffered as Relativity investors.

The accusation was made Thursday in a scathing legal filing in U.S. Bankruptcy Court in New York by lawyers for producer Neal Moritz and the writers attempting to make the film, with Gerard Butler previously set to star as a submarine captain trying to save the world from the threat of a renegade Russian military leader.

The motion asks Judge Michael Wiles to reject Relativity’s motion to maintain its exclusive contract to help produce and distribute “Hunter Killer.” The papers say that the project will die if the producers must wait until Kavanaugh’s company is done completing a plan for reorganization before it can fund the project. But the withering legal document goes much farther than that, arguing that Kavanaugh has been guilty of fraud in the past and should be supplanted atop the company, a trustee appointed to replace him and Relativity potentially pedaled via a Chapter 7 liquidation.

The claims by the Moritz group redouble and expand on those they made in September, when they said Relativity had fraudulently lured them into a deal, making the false representation that the Beverly Hills-based company had the wherewithal to complete the film project. In fact, the company was “nothing more than a house of cards,” the earlier filing contended.

Thursday’s allegations went further by declaring that the bankrupt company has been able to perpetuate itself with the cooperation of hedge fund investors determined not to report the true magnitude of funds previously invested and lost with the multimedia concern. The investors behind a debtor-in-possession loan and “others” want to issue new debt and securities in Relativity in order to “mark to market” their “zero value” investments in Relativity, the filing contends.

A Relativity spokesman released a statement Thursday night, rejecting the allegations. “This is nothing more than a desperate producer’s attempt to use the media to pressure Relativity Studios into giving up its lawful rights to Hunter Killer,” said the statement. “These claims, as we stated in September, are baseless and entirely without merit.”

 

The investors who conducted an auction of Relativity are Anchorage Capital, Luxor Capital and Falcon Investment Advisors, though none of those were mentioned in the Moritz filing. An affiliate of another giant hedge fund, Elliott Associates, has taken over the debtor-in-possession (DIP) loan that has kept Relativity running during bankruptcy. None of those firms was immediately available to comment.

The “Hunter Killer” lawyers, led by Michael S. Elkin of Winston & Strawn, said unnamed investors are propping up Relativity to create “vapor paper,” which the filing described. “Vapor paper involves a lender obtaining debt and equity securities that have no support in terms of any genuine enterprise value whatsoever, but, based on the kind of inflated value that Relativity is so apt to represent, the lender can mark to market above the otherwise worthless position on the hedge fund manager’s books.”

This strategy creates public policy problems, according to Elkin’s filing, that could encourage false and misleading valuations in public disclosures and “lure in yet another unsuspecting investor(s)” while using “Hunter Killer” and other projects that have been in limbo “as window dressing for a defunct film studio operation.”

Many of the creditors against Relativity have taken a much more agreeable tact in bankruptcy. Even those who stand to gain little or no recovery from the company– whose $1.2 billion in liabilities are more than double its assets–have not subjected Kavanaugh and his company to intense criticism.

Moritz’s filmmaking group and, previously, the distribution financier RKA Film Financing, have been more aggressive. RKA said in a separate legal filing outside the bankruptcy that Kavanaugh had committed fraud and was a “con man” who had misspent the company’s money to operate Relativity, rather than paying to release specific film releases, as promised. Kavanaugh sharply denied those charges, saying RKA was only trying to take advantage of his company because of its financial distress.

Moritz’s lawyers said they want to conduct discovery to demonstrate through witnesses “that Ryan Kavanaugh has defrauded banks, creditors, equity investors and others for years,” according to their filing. They argue that “to allow him to continue to lead the Debtors or the successor thereof cannot possibly be in the interest of public policy, much less creditors.” They suggest that Kavanaugh should not be allowed to remain atop the company and that a trustee should be appointed to oversee Relativity.

They also argue that it is not realistic, given the company’s track record, to expect that it will be able to obtain the financing to continue as a going concern that will be able to avoid another Chapter 11 filing. “Relativity’s track record is one of consistent failure, and this will not only chill investor interest in the company, but it will also dissuade key talent agencies and credible film makers from wanting to do business with them,” the 11-page motion says. “The impact of this will be, even if Relativity could secure production and distribution financing, that only projects that other studios have passed on will be presented to Relativity—adverse selection of the kind that led to Relativity’s consistent failure at the box office in the three years leading up to the commencement of this Chapter 11 case.”

Relativity will need $150 to $200 million to jump start its dormant film operation and can’t expect such investment given its track record, the papers state, adding: “The principal reason that Relativity has been able to attract that kind of capital in the past is fraud.”

The lawyers for “Hunter Killer” say that the film and its producer are “being held hostage, while (i) Relativity is incapable of financing the production of
or distribution of feature films, and (ii) Ryan Kavanaugh, with the tacit support of the hedge funds that now control the senior secured debt, tries to lure an unsuspecting investor to fund his failed business model.”

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