How are creditors supposed to figure out where they stand? Well. IBM indicates it and Novell are getting placed in a disadvantaged position by SCO's latest plan:
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF DELAWARE
|
In re:
The SCO GROUP, INC., et al.,
Debtors.
|
Chapter 11
Case No. 07-11337 (KG)
(Jointly Administered)
Hearing Date: February 25, 2009 at 11:00 a.m.
prevailing Eastern Time
Objection Deadline: February 18, 2009 at 4:00 p.m.
prevailing Eastern Time
Related Docket Nos.: 655, 662, 694
|
OBJECTION OF INTERNATIONAL BUSINESS MACHINES
CORPORATION
TO DEBTORS' MOTION TO APPROVE DISCLOSURE STATEMENT
International Business Machines Corporation ("IBM"), a
creditor and equity security holder in these Chapter 11 cases,
objects to the "Debtors' Revised Motion for an Order (I) Scheduling
Confirmation Hearing; (II) Approving Form and Content of
Solicitation Package; (III) Approving Form and Manner of Notice of
Confirmation Hearing; (IV) Establishing Record Date and Approving
Procedures for Distribution of Solicitation Packages; (V) Approving
Forms of Ballot; (VI) Establishing Voting Deadline for Receipt of
Ballots; (VII) Approving Procedures for Vote Tabulations; (VIII)
Establishing Deadline and Procedures for Filing Objections to
Confirmation of the Plan; and (IX) Granting Related Relief", filed
with this Court by the debtors and debtors in possession, The SCO
Group, Inc. ("SCO Group") and SCO Operations, Inc.
("Operations", and, collectively with SCO Group,
"SCO" or the "Debtors"), on February 4, 2009 (the
"Motion") seeking, among other things,
(1)
approval of the Disclosure Statement filed January 8, 2009 (the
"Disclosure Statement") [Docket No. 655].
Preliminary Statement1
1. The Motion seeks approval of a Disclosure Statement for the
Debtors' Amended Joint Plan of Reorganization, filed January 8,
2009 (the "Amended Plan") [Docket No. 654], that lacks
substantial and necessary information: (1) an accurate and adequate
summary of the Amended Plan and sufficient information describing
its proposed execution; (2) adequate information about reorganized
SCO's business plan as a going-concern; (3) adequate information
about financial projections; (4) adequate information about certain
pending intellectual property litigation; (5) a complete and
accurate description and valuation of the Debtors' assets and
sufficient detail with respect to the condition of the Debtors
during the pendency of these Chapter 11 cases; (6) any information
regarding the potential business risks posed if reorganized SCO
proceeds under the Amended Plan; and (7) adequate information with
respect to the potential Federal tax consequences under the Amended
Plan.
2. Because all of this information is required to enable
creditors and equity security holders to make an informed judgment
about whether to accept or reject the Amended Plan, the Disclosure
Statement does not meet the requirements of section 1125 that a
disclosure statement contain "adequate information". For these
reasons, as explained more fully below, this Court should deny the
Motion.
(2)
Background Facts
A. SCO's Litigation against IBM and Novell
3. In early 2003, SCO attempted to profit from the increasing
popularity of the Linux operating system by, among other things,
embarking on a far-reaching publicity campaign to create the false
and unsubstantiated impression that SCO had rights to the Linux
operating system that it does not have and by bringing baseless
legal claims against IBM, Novell, Inc. ("Novell") and
others.
4. SCO sued both IBM and Novell in separate actions in Utah,
where SCO has its principal place of business (such cases,
respectively, the "IBM Case" and the "Novell Case").
In response, IBM and Novell asserted several counterclaims against
SCO. The parties have been litigating separate cases in Utah before
the same U.S. District Judge (Dale A. Kimball) and the same U.S.
Magistrate Judge (Brooke C. Wells) (the "Utah Court") for
more than five years.
5. SCO's cases against IBM and Novell concern a host of complex
intellectual property and other issues relating to SCO's UNIX
business, including, but not limited to: who owns the copyrights to
the UNIX operating system; whether SCO has the right to control
hundreds of millions of lines of computer source code created and
owned by IBM; whether SCO has the right to foreclose the use by
others of the publicly-available Linux operating system, which
includes hundreds of thousands of lines of IBM copyrighted code;
and whether IBM has a perpetual and irrevocable license relating to
UNIX.
6. In a series of decisions, the Utah Court called into question
the veracity of SCO's statements about its claims and rights and,
at least in the IBM Case, materially limited SCO's case. More
importantly, the Utah court entered an order in the Novell Case,
rejecting two keystones of SCO's litigation campaign. The court
ruled that
(3)
Novell, not SCO, owns the core UNIX copyrights and that Novell
has the right, which it has exercised on IBM's behalf, to waive
SCO's purported claims against IBM (the "Novell Summary Judgment
Ruling"). Although this Chapter 11 case stayed further
proceedings in that litigation, following a motion filed by Novell
to lift the automatic stay and permit the trial to proceed, this
Court modified the stay to permit Novell to pursue the Novell Case
except with respect to determination of the imposition of a
constructive trust, an issue over which this Court has retained
jurisdiction (see Memorandum Opinion (filed herein November 27,
2007); Order Granting Novell's Motion for Relief From the Automatic
Stay to Proceed with the Lawsuit (filed herein, November 27, 2007))
[Docket Nos. 232, 233]. On November 20, 2008, a Final Judgment was
entered in the Novell Case and on November 25, 2008, SCO filed a
notice of appeal.
7. While the Utah Court has not yet ruled on IBM's summary
judgment motions (which concern all of SCO's claims), that court
has stated that the Novell Summary Judgment Ruling "significantly
impacts" the IBM Case. The parties disagree as to the full effect
of the Novell decision on the IBM Case, but SCO concedes that the
ruling forecloses six of SCO's nine claims against IBM. SCO filed
its petition for relief under the Bankruptcy Code on the eve of the
trial to determine SCO's damages to Novell — shortly before
the Utah Court was expected to rule on the pending motions.
8. The Utah litigations' cost, coupled with declining revenues,
led SCO to file this Chapter 11 case on September 14, 2007.
B. SCO's Amended Plan and Disclosure Statement
9. SCO filed the Disclosure Statement and the Amended Plan with
the Court on January 8, 2009, and the Motion on February 4,
2009.
(4)
10. The Disclosure Statement summarizes the Amended Plan as
follows:
"(i) sale by public auction of the Mobility and
OpenServer Businesses, with proceeds of such sale being used to pay
Allowed Claims in full on the Effective Date; and/or in
addition, if the sale does not generate an amount deemed
sufficient by the Debtors, in their sole discretion, to pay all
Allowed Claims other than the Allowed Claims subject of the Pending
Litigation in full on the Effective Date, (ii) the Debtors will
pursue a go-forward business model of, among other things: (a)
launching two products; (b) implementing an improved pricing and
discount strategy; (c) continuing a 'true-up' licensing program;
(d) working with customers to deliver feature enhancements to
customers through a non-recurring engineering revenue model; and
(e) reducing operating expenses by approximately 20-30% (comparing
FY 2008 with projected operating expenses for FY
2009[)]."
(D.S. at 21 (emphasis added); Amended Plan at 11.)
11. The Amended Plan contemplates, among other things: (1)
paying holders of all allowed priority claims and allowed secured
claims, which are designated to be in Class 1, Class 1A, Class 2
and Class 2A, 100% of the principal amount of such claims with
interest if applicable, on the Effective Date or as soon thereafter
as practicable; (2) paying unsecured claims against SCO other than
claims that are the subject of litigation, including the IBM Case
and the Novell Case (such litigation, the "Pending
Litigation"), which are designated to be in Class 3 and Class
3A, 100% of the principal amount of such claims, with interest if
applicable, in either one or two installments (depending on whether
the Debtors deem, in their sole discretion, the proceeds of the
sale by auction of the Mobility and OpenServer Businesses (the
"Asset Sale") sufficient to pay such claims in full), with
the
(5)
first distribution to occur on the later of the date the Amended
Plan becomes effective (the "Effective Date") or the date
each such claim becomes an allowed claim and the second
distribution, if applicable, to occur on October 31 of the calendar
year following the first distribution or as soon thereafter as
practicable; and (3) paying unsecured claims held in respect of
Pending Litigation, including IBM's and Novell's counterclaims,
which are designated to be in Class 4, 100% of the principal amount
of such claims, with interest if applicable, in either (i) five
equal installments, with the first distribution to occur on the
later of the Effective Date or the date such claim becomes an
allowed claim and four annual distributions to occur on October 31
of each calendar year following the first distribution or as soon
thereafter as practicable or (ii) if the allowed claim exceeds an
amount that the reorganized Debtors can pay in full with interest
over five years following the date such claim becomes allowed, new
shares of reorganized SCO Group which will be interpled to this
Court and cancellation of all SCO Group's existing shares. The
existing common equity interests in SCO Group, which are designated
to be in Class 5, are to remain unaffected except to the extent the
treatment of the Class 4 claims may trigger the extinguishment and
cancellation of such common equity interests. The existing common
equity interests in Operations, which are in Class 5A, are to
remain unaffected and be retained by reorganized SCO Group.
(See D.S. at 25-29; Amended Plan at 8-11.)
12. The Amended Plan also provides that as of the Effective Date
the reorganized Debtors will modify their 2004 Omnibus Stock
Incentive Plan and the terms of options issued thereunder, (a) to
reduce the exercise prices of outstanding stock options to a price
equal to $0.02 per share above the fair market value of the common
stock of SCO
(6)
Group on the Effective Date, and (b) to extend the period in
which the outstanding stock options may be exercised for up to 18
months. (Id. at 29; 11.)
* * *
13. IBM objects to the Motion on the ground that the Disclosure
Statement as currently written lacks adequate information about the
Amended Plan, as required by section 1125(b) of the Bankruptcy
Code.
Argument
I. THE MOTION SHOULD BE DENIED BECAUSE THE DISCLOSURE
STATEMENT LACKS ADEQUATE INFORMATION.
A. A Disclosure Statement Must Contain "Adequate
Information"
14. Section 1125(b) of the Bankruptcy Code prohibits SCO from
soliciting acceptances of the Amended Plan until this Court
approves the Disclosure Statement as containing "adequate
information". Section 1125(a) defines "adequate information"
as:
information of a kind, and in sufficient detail, as far
as is reasonably practicable in light of the nature and history of
the debtor and the condition of the debtor's books and records,
including a discussion of the potential material Federal tax
consequences of the plan to the debtor, any successor to the
debtor, and a hypothetical investor typical of the holders of
claims or interest in the case, that would enable such a
hypothetical investor of the relevant class to make an informed
judgment about the plan. ..." 11 U.S.C. §
1125(a)(1).
The express statutory obligation to provide adequate information in
a disclosure statement is a "pivotal concept in reorganization
procedure under the Code".
Oneida Motor Freight, Inc. v. United
Jersey Bank, 848 F.2d 414, 417 (3d Cir. 1998);
see also
Krystal Cadillac-Oldsmobile GMC Truck, Inc. v. General Motors
Corp., 337 F.3d 314, 322 (3d Cir. 2003) ("The importance of
full disclosure is underlaid by the reliance placed upon the
disclosure
(7)
statement by the creditors and the court. Given this reliance,
we cannot overemphasize the debtor's obligation to provide
sufficient data to satisfy the Code standard of adequate
information.") (quotations and citations omitted); Ryan
Operations G.P. v. Santiam-Midwest Lumber Co., 81 F.3d 355, 358
(3d Cir. 1996) ("Because creditors and the bankruptcy court rely
heavily on the debtor's disclosure statement in determining whether
to approve a proposed reorganization plan, the importance of full
and honest disclosure cannot be overstated.") (citations
omitted).
15. To satisfy section 1125(a)'s standard, a disclosure
statement must contain, "at a minimum", adequate information
concerning "all those factors presently known to the plan proponent
that bear upon the success or failure of the proposals contained in
the plan." In re Beltrami Enters., 191 B.R. 303, 304 (Bankr.
D. Pa. 1995) (quotations and citations omitted); see also
In re Ligon, 50 B.R. 127, 130 (Bankr. D. Tenn. 1985); In
re Stanley Hotel, Inc., 13 B.R. 926, 929 (Bankr. D. Colo.
1981). "Conclusory allegations or opinions without supporting
facts" concerning these factors "are generally not acceptable".
In re Beltrami Enters., 191 B.R. 303, 304 (Bankr. D. Pa.
1995) (citations omitted).
16. These factors include, among others: a summary of the plan
of reorganization and information as to how the plan is to be
executed; a description of the reorganized debtor's business;
projections of future operations that would be relevant to
creditors' and equity security holders' determinations of whether
to accept or reject the plan; information regarding current
litigation against the debtor or litigation likely to arise in a
non-bankruptcy context; an accurate description of the debtor's
available assets and their value; the condition and performance of
the debtor while in Chapter 11; information relevant to the risks
posed to creditors and equity security holders under the plan; and
the tax
(8)
consequences of the plan. See In re Microwave Products
of America, Inc., 100 B.R. 376, 378 (Bankr. D. Tenn. 1989);
In re Scioto Valley Mortg. Co., 88 B.R. 168, 170 (Bankr. D.
Ohio 1988).
17. SCO fails to satisfy the statutory standards of disclosure
as required under section 1125(a) of the Bankruptcy Code because
its Disclosure Statement lacks (1) an accurate and adequate summary
of the Amended Plan and sufficient information describing its
proposed execution; (2) adequate information about reorganized
SCO's business plan as a going-concern; (3) adequate information
about financial projections; (4) adequate information about the
Pending Litigation; (5) a complete and accurate description and
valuation of the Debtors' assets and sufficient detail with respect
to the condition of the Debtors during and pendency of these
Chapter 11 cases; (6) any information regarding the potential
business risks posed if the reorganized Debtors proceed under the
Amended Plan; or (7) adequate information with respect to the
potential Federal tax consequences under the Amended Plan. Although
the description of the Disclosure Statement's deficiencies below
identify many of the numerous questions that the Disclosure
Statement raises but does not answer, the list of questions cannot
address all of the deficiencies and is not intended to be limiting.
IBM therefore reserves its right to review and object to the
revised Disclosure Statement once SCO provides additional
information and parties in interest have a more complete proposed
Disclosure Statement as a proper starting point for review and
analysis.
B. The Disclosure Statement Does Not Contain Adequate
Information
1. The Disclosure Statement Lacks an Accurate or Adequate
Summary of the Amended Plan and Sufficient Information Describing
its Proposed Execution
18. A disclosure statement must provide "adequate information",
which must be accurate and free from substantial deficiencies,
regarding the terms of the Chapter 11
(9)
plan and the means of its implementation, especially where, as
here, the Amended Plan contemplates continuing deferred payment
obligations and the possible issuance of equity securities.
19. The Disclosure Statement's shortcomings are evident even in
its first sentence, which provides, in relevant part, that "the
[Debtors] ... provide this [Disclosure Statement] to the Holders of
Claims against SCO Group classified in Classes 3, 3A, and 4 and to
the shareholders of SCO Group (Class 5) in order to permit such
creditors and shareholders to make an informed decision in voting
to accept or reject the [Amended Plan]." (D.S. at 1.) While the
average reader might realize that the reference to "Holders of
Claims against SCO Group" should properly refer to Holders of
Claims against the Debtors (which would include Operations),
the Disclosure Statement contains many similar deficiencies
(numerous references to the undefined entity "SCO" (See D.S.
at, inter alia, 5-8, 10, 11); incorrect statements that the
Debtors' various products and services are delivered by SCO Group
rather than by Operations (See D.S. at 4-10); etc.) that
collectively result in a Disclosure Statement that, judged on the
basis of such deficiencies alone, is at times slipshod and careless
and, all too often, winds up misleading and inadequate.
20. This lack of precision and carelessness permeates the
Disclosure Statement, including when the Debtors attempt to
summarize the terms of the Amended Plan:
"... the [Amended] Plan provides for the following: (i) sale by
public auction of the Mobility and OpenServer businesses, with
proceeds of such sale being used to pay Allowed Claims in full on
the Effective Date; and/or in addition, if the sale does not
generate an amount deemed sufficient by the Debtors, in their sole
discretion, to pay all Allowed Claims other than the
(10)
Allowed Claims subject of the Pending Litigation in full on the
Effective Date, (ii) the Debtors will pursue a go-forward business
model of, among other things: (a) launching two products; (b)
implementing an improved pricing and discount strategy; (c)
continuing a 'true-up' licensing program; (d) working with
customers to deliver feature enhancements to customers through a
non-recurring engineering revenue model; and (e) reducing operating
expenses by approximately 20-30% (comparing FY 2008 with projected
operating expenses for FY 2009[)]."
(Id. at 21.) Read literally, this suggests that whether
the "go-forward business model" described in clause (ii) of the
above summary of the Amended Plan would ever be implemented is
subject to the Debtors' determination, in their sole discretion,
that the Asset Sale proceeds are not sufficient "to pay all Allowed
Claims other than the Allowed Claims subject of the Pending
Litigation". That is, if the Debtors decide that the Asset Sale has
generated enough revenue to pay all Allowed Claims other than the
Allowed Claims subject of the Pending Litigation, the Amended Plan
would not include the "go-forward business model" of clause (ii) at
all, implying, as certainly cannot be the case, that in such
circumstances the reorganized Debtors would have no further
obligations under the Amended Plan following the Asset Sale and
that the "go-forward business model" of clause (ii) would be
rendered a nullity.
-
The Plan summary and description should clarify the relationship
between the Asset Sale and the go-forward business model, providing
information, among other things, as to what factors would cause the
Debtors to adopt one or the other.
21.Additionally, clause (ii)'s "go-forward business model"
contemplates two product launches, one of which we are informed
will be the core product of the Debtors' mobile business — a
cloud server-based product (known as "SCO Cloud Server"). Indeed,
it
(11)
repeatedly stresses SCO Cloud Server's importance to reorganized
SCO's future, with proclamations including, "Just as SCO UNIX has
been the backbone for thousands of customers over the last 30
years, the SCO Cloud Server platform strategy is designed to become
the foundation of the reorganized SCO for the next 30 years." (D.S.
at 24.) However, without any further explanation, SCO Cloud Server
is also included in the Asset Sale as part of the Mobility business
for only $1,000,000, hardly an amount that reflects SCO Cloud
Server's supposed centrality not only to the reorganized Debtors'
business but to the industry as a whole. (Id. at 22)
-
The Disclosure Statement should clarify the role of each of the
Debtors' businesses and products, including SCO Cloud Server, in
the go-forward business model and in the Asset Sale, with
explanations as to the Debtors' reasoning for its choices and
valuations.
22. Turning to the Asset Sale in particular, the Disclosure
Statement does not provide adequate information regarding how and
when the Asset Sale is to be conducted.
-
The Disclosure Statement should be updated to describe the
order, if any, that the Court grants on the Debtors' Motion, filed
February 5, 2009, to approve asset sale procedures.
23. The Disclosure Statement provides only a list of suggested
minimum bids for each component business proposed to be sold,
without ever suggesting how the Debtors picked the minimum bids.
(See D.S. at 21-22.) Simply listing each component
business's trade name alongside a suggested minimum bid is not
"adequate information". Creditors and equity security holders are
not able to make an informed judgment about
(12)
whether to accept or reject the Amended Plan, as section 1125
requires, without basic, standard information, including:
-
The portion of the current workforce, division by division,
location by location, that the Debtors expect to go with the sale
of each component business2;
-
The portion of the Debtors' current total revenues that each of
these component businesses account for3; and
-
The manner in which proceeds of any successful Asset Sale are to
be allocated between paying claims and any alternative uses,
including in business operations and for payment of the Allowed
Claims subject of the Pending Litigation.4
24. The Disclosure Statement must clearly and succinctly inform
the creditors and equity security holders what they are going to
get, when they are going to get it, and what contingencies there
are to getting it. The Disclosure Statement fails to provide
sufficient clarity with respect to treatment of Allowed Claims
subject of the Pending Litigation. Class 4's creditors are informed
that there are two payment alternatives; the first
(13)
contemplates payment of the claims (plus applicable interest) in
cash in five equal annual installments; the seconds, which is
triggered presumably at the discretion of the Debtors, contemplates
that reorganized SCO "will cancel its existing shares and issue new
shares which will be interpled to [this Court] for the benefit of
those holders of [allowed claims subject of the Pending
Litigation]." (D.S. at 28; Amended Plan at 10.) The Disclosure
Statement provides no additional information. Accordingly, the
holders of Allowed Claims subject of the Pending Litigation are not
informed of what they should expect to receive under the Amended
Plan and when they may expect to receive it.
-
The Disclosure Statement should describe when, how and on what
basis the payment alternative determination is to be made.
-
The Disclosure Statement should describe the details of the
corporate or legal mechanisms by which "existing shares" of
reorganized SCO Group may be cancelled and new shares then issued
and interpled to this Court for distribution in payment of the
claims.
2. The Disclosure Statement Lacks Adequate Information About
Reorganized SCO's Business Plan as a Going-Concern
25. The Disclosure Statement should provide an understandable
and sufficiently detailed description of reorganized SCO's business
plan as a going-concern that adequately discloses information that
would be necessary for creditors and equity security holders to
judge the likelihood of success of the business plan. Such
disclosure is particularly important here, where the Amended Plan
provides for the treatment of certain claims and interests not
funded by Asset Sale proceeds to be paid by the reorganized
Debtors. Such treatment may include, for Allowed Claims subject of
the Pending Litigation, deferred
(14)
payments over five years after the Effective Date or,
alternatively, issuance of common stock in SCO Group.
26. The need for "adequate information" about reorganized SCO's
go-forward business model is especially acute because the Amended
Plan does not seem even to address any of the factors that drove
SCO into bankruptcy. SCO filed for Chapter 11 because of, among
other things, a significant "decline in revenue" in UNIX-based
products and services over the past several years due to increased
competition. (D.S. at 10-11.) The Disclosure Statement does not
suggest that this problem has gone away and simply offers up an
Asset Sale that would involve selling all or some portion of the
Mobility and OpenServer Businesses, which appear to include every
single viable non-UNIX business the Debtors own. In effect, the
Disclosure Statement informs creditors and equity security holders
that if the Asset Sale is consummated, the result would divest SCO
of its entire mobile business, the very same mobile business that
the Debtors devote numerous Disclosure Statement pages to
describing as representative of the next-generation of the
reorganized Debtors' products and services; the very same mobile
business that the Debtors adorn with expectations of explosive
growth in emerging markets and the very same mobile business for
which the Disclosure Statements makes inflated promises, including,
notably, the SCO Cloud Server initiative, which "is designed to
become the foundation of the reorganized SCO [sic] for the next 30
years." (D.S. at 24,
See also,
Id. at 6-9, 22-24 (for
various descriptions of the Debtors' mobile products and
services).) Yet the Disclosure Statement provides only vague,
general statements about the remaining UNIX-based business.
(15)
27. Because the Amended Plan contemplates continuing deferred
payment obligations and the possible issuance of equity securities,
sufficient disclosure for go-forward operations, products and
services of the reorganized Debtors are paramount to its creditors'
and equity security holders' ability to judge the likelihood of
success of reorganized SCO's business plan, especially how the
go-forward business model could reasonably be expected to achieve
the results projected by the Debtors. Instead of specifics, the
Disclosure Statement provides vague promises and "plans" for the
future:
While SCO Group has a long history of providing customers
virtualization products, it plans to offer a new service
where customers, particularly legacy customers, gain access to the
technology they need to run their applications in a virtual
environment.
SCO Group plans to continue to focus its UNIX development
resources on current UNIX products and plans to support
requirements for modern hardware and applications software. In
addition, SCO Group intends to focus other engineering,
research and development resources on mobility products and
services for personal and professional productivity. The Debtors
expect that these mobility products and services will enable
easy, secure, real-time mobile access to all kinds of information
stored in enterprise and web-based systems without the need for
direct connection between end-point devices and those systems.
(D.S. at 5 (emphasis added).)
-
The Disclosure Statement should provide specific details about
new products and services, including how much has already been
invested to develop these products and services; the cost of the
UNIX development resources the Developers intend allocate to
current UNIX products; the
(16)
current stage of development and anticipated time of market
entry; sales and marketing information; and estimated annual
revenue.
28. The Disclosure Statement further provides, "SCO [sic]
will introduce annual maintenance subscriptions for its SCO
UNIX offerings that will include maintenance updates and
value-added technology ...". (D.S. at 6, emphasis added) and, in
describing the rising use of mobile technology in emerging markets,
"SCO [sic] will continue to deliver and innovate mobile
solutions to best exploit the growth in these markets" (D.S. at 7,
emphasis added). While the Disclosure Statement is replete with
similarly enticing promises of initiatives and new products and
services that always seem to be just around the next corner, the
details of such plans are obscure or missing. Such statements
service only to create more questions than they purport to answer
and cannot be deemed "adequate information" such that the Debtors'
creditors and equity security holders may properly evaluate the
Amended Plan.
-
The Disclosure Statement should describe, among other things,
how much additional revenue the Debtors expect to raise from such
annual subscriptions and how much the subscriptions will cost to
implement.
-
The Disclosure Statement should describe specifically, among
other things, how the Debtors intend to exploit growth in emerging
markets, whether that will require added sales and marketing
personnel, how much the Debtors expect to spend to take advantage
of the opportunities in the emerging markets and whether the
analysis changes if the Asset Sale is consummated in whole or in
part and some or all of the mobile
(17)
products and services of the Debtors is transferred to a
third-party purchaser.
3. The Disclosure Statement Lacks Adequate Information About
Financial Projections5
29. A disclosure statement must provide adequate disclosure of
financial projections, especially here, where the Amended Plan
contemplates continuing deferred payment obligations and the
possible issuance of equity securities. Disclosure with respect to
financial projections prepared on a reasonable basis in good faith
and not replete with inconsistencies is necessary to allow
creditors and equity security holders to assess the risks that the
reorganized Debtors might not be able to meet the Amended Plan's
payment provisions and the risks to the Debtors' earning capacity
and financial viability. Otherwise the financial projections would
be little more than glowing opinions having little or no basis in
fact.
30. The Disclosure Statement summarizes the past, present and
future of UNIX-based application platforms:
If one were to think about the landscape of UNIX-based
application platforms, SCO [sic] would be the clear leader in the
first wave with 43% market share in the 1990's. The second wave
would see Linux at the forefront being led by IBM. SCO [sic] has
been building the requisite technologies and is now going to market
with the goal of becoming the leader of the third wave of business
application platforms with its SCO Cloud Server and [virtualization
technology called "SCO UNIX Virtual"] products.
(D.S. at 24.) The statement about the first wave is questionable at
best, and there is no supporting evidence or explanation. The
statement about the second wave is similarly
(18)
without supporting evidence and worse, is either misleading,
inaccurate or both. Most troubling, however, is whether the final
sentence's assertion that SCO "is now going to market with the goal
of becoming the leader of the third wave of business application
platforms with its SCO Cloud Server and SCO UNIX Virtualization
products ..." can be justified at all or whether it is so
unsupported and self-serving that it tests the limits of good
faith. The absence of concrete factual support for the statement
could render it misleading, as this claim is made despite the
disclosures that there is a total of only 66 employees employed by
the Debtors "and their foreign subsidiaries and affiliates ..."
(D.S. at 3); that SCO incurred only "$3,684,000 in research and
development expense during the fiscal year ending October 31, 2008
..." (D.S. at 9); that the minimum bid the Debtors propose to
accept for their entire mobility business is only $2,000,000 and
that the SCO UNIX Virtual line of products and services have not
yet been released. (See D.S. at 21.)
-
The Disclosure Statement should support or eliminate the
questionable statement about SCO's role in the "first wave" of
UNIX-based platforms.
-
The Disclosure Statement should support or eliminate the
misleading or incorrect statement about the so-called "second
wave", about IBM, about the phrase "UNIX-based application
platform" and about the relationship implied between UNIX and
Linux.
-
The Disclosure Statement should reconcile the facts presented in
the Disclosure Statement with the claim that SCO will become "the
leader of the third wave of business application platforms".
(19)
31. The descriptions of the assumptions for projected revenue
growth attributable to the Debtors' primary UNIX-based products
"UnixWare" and "OpenServer", say that "revenue projections for the
traditional UnixWare and OpenServer products are estimated to
decline at 20% rate ...". However, the accompanying table of
projected revenues for UnixWare and OpenServer products shows an
increase in estimated revenue from Q1-2009 to Q2-2009 and no
decrease in estimated revenue between Q2-2009 and Q3-2009 or
between Q3-2009 and Q4-2009.
32. The assumptions for projected revenue growth attributable to
the SCO UNIX Virtual line of products and services are facially
deficient and irreconcilable. The Disclosure Statement says that
SCO UNIX Virtual will become available in Q3 FY, but fails to
include the year. (D.S. at 41.) The description of the assumptions
says that "SCO UNIX Virtual projected revenues are $3.0 million in
FY 2009 ..." while the accompanying SCO UNIX Virtual projected
revenue table shows projected revenues of $1,500,000 in FY 2009.
(Id. at 41-42.) Finally, the description of the assumptions
says that there are "2.5 million UNIX installed servers which
include a significant number of active and potential candidates for
virtualization"; that "SCO UNIX Virtual is priced at a one-time
license upgrade of approximately $500 per server" and that "SCO
UNIX Virtual penetration on servers is projected at 1% in FY 2009
and ramping to 23.5% in FY 2011". (Id. at 41.) Based on the
foregoing assumptions (i) the projected revenues for FY 2009 should
be calculated as 1% of 2,500,000 servers at $500 per server, or
$12,500,000 and (ii) the projected combined revenues for FY 2009,
FY 2010, and FY 2011 should be calculated as 23.5% of 2,500,000
(20)
servers at $500, or $293,750,000. Inexplicably, the accompanying
chart of projected revenues for SCO UNIX Virtual provides projected
revenues of $1,500,000 in FY 2009, $13,500,000 in FY 2010, and
$18,000,000 in FY 2011, which results in projected combined
revenues for FY 2009, FY 2010, and FY 2011 of $33,000,000, which is
an order of magnitude less.
33. Additionally, the descriptions and financial projections of
certain of the go-forward business model's elements, not including
the as yet unreleased SCO UNIX Virtual line of products and
services, often appear to be based on factually unsupported
assumptions as to projected revenue growth. While debtors may be
entitled to a certain degree of optimism and the view that their
operations may improve, the Debtors here cannot reasonably
represent that their operations will improve if all historical
facts and their own admissions suggest the contrary, including the
disclosure that SCO filed for Chapter 11 because of, among other
things, a significant "decline in revenue" in UNIX-based products
and services over the past several years due to increased
competition. (See, D.S. at 10-11.) The Disclosure Statement
nowhere suggests that this problem has gone away.
34. The Disclosure Statement provides no financial projections
estimating the potential effect on revenue of an improved pricing
and discount strategy nor any information as to the time for
implementing the strategy. The only business for which the
Disclosure Statement provides the pricing change effective date is
"FCmobilelife", but any change for FCmobilelife is likely to be
inconsequential for reorganized SCO as a going-concern because it
is part of the mobility business contemplated to be sold in the
Asset Sale.
(21)
35. The Disclosure Statement says that "SCO [sic] will put a
dedicated team on this initiative to true-up license revenue where
applicable" but does not provide any information as to the
anticipated cost to enforce such a program. (D.S. at 25.)
Additionally, the assumptions for projected revenue growth
attributable to the true-up license program illustrate a jump in
estimated revenue from $1,500,000 in FY 2009 to $9,925,000 in FY
2010 (an increase of over 500%) and a jump in estimated revenue
from $9,925,000 in FY 2010 to $15,138,000 in FY 2011 (an increase
of over 50%), in each case, without any factual basis or
explanation for the tremendous projected revenue increases.
36. The Disclosure Statement says:
SCO [sic] will preserve the core engineering and sales
teams but will also increase external partnerships with third-party
development organizations in the U.S. and around the world to
increase its ability to deliver the next-generation UNIX operating
system and cloud-based platform solutions. SCO [sic] will leverage
the power of the Internet for the distribution of its cloud-based
applications through portals such as Apple's App
Store.
(D.S. at 25.) Such information, without more, is inadequate to
provide creditors and equity security holders with the ability to
make an informed judgment about this element of the Amended Plan.
(22)
-
The Disclosure Statement should provide further details,
including (i) how and at what anticipated cost the Debtors expect
to increase external partnerships with third-party development
organizations in the U.S. and around the world and (ii) how,
specifically, the Debtors intend to "leverage the power of the
Internet". (Id. at 25.)
37. The assumptions for projected expense reductions
attributable to the Restructured Operations show an annual decrease
of over $4,000,000 in each of FY 2009, FY 2010, and FY 2011, in
each case, without any explanation.
-
The Disclosure Statement should reconcile such substantial cost
reductions in general and administrative expenses with the
tremendous revenue increases projected due to the SCO UNIX Virtual
line of products and services, the revised pricing model and the
true-up license program (which revenue increases would typically
require a corresponding increase in general and administrative
expenses such as IT infrastructure expenses, corporate office
facility expenses telecommunications expenses.)
38. Finally, the financial information provided as exhibits to
the Disclosure Statement and determined on the basis of the
foregoing assumptions, in particular Exhibit 2 (Liquidation
Analysis) and Exhibit 3 (Asset Sale Projection), contain
deficiencies both in form and in substance.
(23)
-
Additionally, the Notes preceding each of Exhibit 2 and Exhibit
3 indicate cash and cash equivalents on hand at October 31, 2008
and restricted cash at October 31, 2008 that are facially
inconsistent with the cash amount reported on the Monthly Operating
Report for Operations filed for such time period [Docket No. 665]
but should be updated in any event to the most recent financial
information available before the February 25, 2009 hearing
date.
39. With respect to Schedule D of Exhibit 2 in particular, the
Disclosure Statement sets forth a wind-down budget which
anticipates either a 3-month wind-down period or a 6-month
wind-down period for liquidation. In neither case is any
information provided to justify the expectation of a delayed
wind-down period in connection with a liquidation.
40. In addition, Exhibit 3 provides an Asset Sale analysis in
connection with a confirmed Chapter 11 plan. Schedule B of Exhibit
3 provides the distribution analysis in connection with such an
Asset Sale. It includes a calculation of the distribution of
reorganized SCO's assets, calculated in the same manner as one
would conduct a liquidation analysis, which is inexplicable where
the assets of reorganized SCO as a going-concern would not be
liquidated. Furthermore, Schedule C to Exhibit 3 includes, without
explanation, a trustee fee calculation which would not be paid if
the Amended Plan is confirmed.
(24)
4. The Disclosure Statement Lacks Adequate Information About
the Pending Litigation
41. Although the Disclosure Statement provides a lengthy
discussion of the Pending Litigation, it fails to describe the
litigation in a way that would allow creditors and equity security
holders to make an informed judgment about the Amended Plan. (D.S.
at 11-17.) The Disclosure Statement provides a general summary of
each law suit comprising the Pending Litigation and concludes each
summary with a description of the basis for SCO's belief that it
will prevail on its remaining claims or appeals. Although it notes
that the other party "has and will dispute all of the above" (which
may be obvious, else there would not be litigation), it omits any
disclosure of each counterparty's position. Furthermore, including
a statement that "the Causes of Action have been described and
identified with as much particularity as is practicable and
appropriate at this time ..." is not meaningful disclosure without
providing the basis for such conclusion. (D.S. at 20.) "Adequate
information" under Section 1125 requires more.
-
The Disclosure Statement should describe both sides of the
issues in the Pending Litigation, including the possibility that
the counterparty may have a stronger basis for its claims or
appeals on the merits (not just that each is a "large and
financially potent adversary") than SCO has against such
counterparty, so that creditors and equity security holders may
evaluate the potential rewards and risks of the Pending Litigation
and its affect on the Amended Plan.
(25)
5. The Disclosure Statement Lacks a Complete Or Accurate
Description Or Valuation of The Debtors' Assets and Sufficient
Detail Regarding the Condition of The Debtors During The Pendency
of These Chapter 11 Cases
42. A disclosure statement must provide a complete and accurate
description and valuation of the Debtors' assets and business
operations and sufficient detail with respect to the condition and
performance of Debtors during their Chapter 11 cases, especially
here, where the Amended Plan contemplates the continuation to some
unspecified degree of the Debtors' current business, as well as
continuing deferred payment obligations and the possible issuance
of equity securities.
43. The Disclosure Statement characterizes SCO as an "important
industry player" for the past 30 years, with a business strategy
that "contributed significantly to the growth of the computer
industry ...". (D.S. at 22.) This characterization appears
inconsistent with other statements about SCO's history, for
example, the description of the history of SCO's acquisition of
intellectual property rights related to its business:
SCO Group acquired certain rights relating to the UNIX
(including UnixWare) source code and derivative works and other
intellectual property rights when it purchased substantially all of
the assets and operations of the server and professional services
groups of The Santa Cruz Operation, Inc. in May 2001. The Santa
Cruz Operation had previously acquired such UNIX source code and
other intellectual property rights from [Novell] in 1995. Novell
had acquired its rights from UNIX System Laboratories, a subsidiary
of AT&T.
(
Id. at 9.)
-
The Disclosure Statement should, at a minimum, provide
information to substantiate its misleading claim to 30-year
continuity as an "important industry player", including the extent
to which employees of SCO Group or its predecessors followed the
chain of ownership from AT&T
(26)
to UNIX System Laboratories to Novell to The Santa Cruz
Operation, Inc. and finally to SCO Group, as as to reconcile SCO's
assertion of its ostensible 30-year history with the acquisition
timeline provided in the Disclosure Statement.
44. The Disclosure Statement provides a list of domestic and
foreign subsidiaries of the SCO Group (D.S. at 3.), followed by a
statement that, "[a]s of January 6, 2009, the Debtors and their
foreign subsidiaries and affiliates had a total of 66 full and
part-time equivalent employees employed in various capacities
including, but not limited to, finance, human resources, executive
management and information systems ...". (Id. at 3.) The
disclosure is incomplete and confusing.
45. The Disclosure Statement informs creditors and equity
security holders that its "Americas team has field sales and
support personnel located around the United States, Latin American
and Canada ..." and further states that "[t]he Debtors, through
their non-debtor affiliates and subsidiaries, have resources,
employees and/or contractors in the United Kingdom, Germany,
France, Italy, China, Korea, Netherlands, Eastern Europe,
India,
(27)
and Japan". (D.S. at 8.) Such disclosure is inadequate to
provide the creditors and equity security holders with sufficient
background and insight into the Debtors' business.
-
The Disclosure Statement should provide creditors and equity
security holders with (i) details as to the total number and
location of the Debtors' field sales and support personnel; (ii)
additional information as to the types of "resources" and number of
contractors in each of the countries listed; and (iii) an
explanation as to why Taiwan, Israel and Australia were included
among the countries listed in the original disclosure statement
filed February 29, 2008 [Docket No. 369] and have not been included
in the Disclosure Statement.
46. When describing the Debtors' UNIX business, the Disclosure
Statement says in part, "SCO Group's largest source of revenue for
its core UNIX business is derived from its worldwide, indirect,
leveraged channel of distributors and independent solution
providers ("resellers"). The Debtors have employees or
contractors in a number of countries that provide support and
services to customers and resellers ..." and that "[i]n addition,
SCO Group sells its UNIX products to original equipment
manufacturers ...". (Id. at 4-5.)
-
The Disclosure Statement should provide additional information
about "resellers" if they are SCO's largest source of revenue for
its UNIX business;
-
The Disclosure Statement should provide information about
"employees or contractors" providing support to the "resellers" as
well as the
(28)
original equipment manufacturers to whom SCO sells its UNIX
products; and
-
The Disclosure Statement should also provide information about
the identities (if material) and number of "resellers" and original
equipment manufacturers and the number of "employees or
contractors"; whether there is any concentration risk, such as a
single "reseller" or a group of "resellers" or a single original
equipment manufacturer or group of original equipment manufacturers
that accounts for a disproportionate share of the total revenue;
and whether there have been any changes in revenue over the course
of these Chapter 11 cases attributable to a reduction in resellers,
original equipment manufacturers or employees or contractors
entering into transactions with the Debtors.
47. The Disclosure Statement says, "SCO Group has business
relationships with a number of key global industry enterprises.
These relationships encompass product integration, two-way
technology transfers, product certification, channel partnerships
and revenue generating initiatives in areas of product bundling,
OEM agreements and training and education" and continues, "[m]ost
of SCO Group's small business customers that cannot afford high-end
solutions or an information technology staff rely on one of SCO
Group's channel partners for these services. Maintaining these
strategic alliances is critical to the success of SCO Group's
UNIX business." (D.S. at 7-8 (emphasis added).)
-
Because the Disclosure Statement says it is "critical to the
success of SCO Group's UNIX business" that strategic alliances be
maintained,
(29)
the Disclosure Statement should provide additional information
about such business partners and the specific nature of such
relationships; in particular, the extent to which such
relationships may be in danger of termination and the effect, if
any, of these Chapter 11 cases or the Debtors' recent business
performance on such relationships.
48. The Disclosure Statement says, "SCO Group has taken steps to
improve its UNIX software products to maintain system reliability,
maintain backward compatibility, increase application support,
provide broad hardware support, better integrate widely used
internet applications, improve usability, and increase system
performance." (D.S. at 9.) Such a statement with respect to actions
taken by the Debtors, without more, does not constitute "adequate
information".
-
At a minimum, the Disclosure Statement should provide additional
information about when such steps were taken, the respective costs
and levels of investment involved, the effect of such steps on
reliability, compatibility, support, integration, usability, and
performance and the current or expected increase in revenues
attributable to such improvements.
49. The Disclosure Statement says:
"[t]he success of SCO Group's mobility products and
services offerings will depend, in part, on the outcome of the
Pending Litigation, the level of commitment and resources the
Debtors are able to devote to these offerings, the business
relationships SCO Group is able to establish, its ability to
attract and retain new customers and providers, and the strength of
their mobility offerings...."
(30)
(D.S. at 10, 11.) This statement demands clarification,
especially given the assertion that the mobility products and
services, which constitute a significant and substantial portion of
the assets proposed to be sold in the Asset Sale, will depend for
their success upon, in part, the outcome of the Pending Litigation.
If such claim is correct, the implication is that the uncertainty
relating to the Pending Litigation reduces the marketability and
potential purchase price available for the mobility products and
services.
-
The Disclosure Statement should provide additional information
to explain whether the saleability of the mobility businesses may,
in fact, be dependent on the outcome of the Pending Litigation.
-
The Disclosure Statement must also provide further detail as to
the business relationships that SCO is seeking to establish.
50. The Disclosure Statement indicates that no provision is made
in the Amended Plan to deal with intercompany debts, despite that
such information is included in SCO Group's bankruptcy schedules.
(See D.S. at 19.) The reason provided for not providing for
intercompany debts is simply that "[w]hen the Debtors' consolidated
financial statements [were] prepaired, intercompany transactions
and/or balances [were] removed." Such an explanation is
insufficient.
-
Because the Disclosure Statement currently provides only an
accounting-based explanation for the election to disregard
intercompany debts, which is insufficient as a legal matter to
explain the elimination of intercompany claims, further information
must be provided to justify the apparent discrepancy between the
actual bankruptcy schedules and the proposed treatment of
intercompany debts.
(31)
51. The Disclosure Statement provides categorically that
"[p]ursuant to the terms of the Asset Purchase Agreement between
[York Capital Management ("York")] and the Debtors, SCO [sic]
agreed to pay York up to $150,000 as an expense reimbursement if
the transaction did not close." (D.S. at 20.) Based upon the
history of these Chapter 11 cases, that statement is inaccurate or
misleading. While the questions of whether such a sale agreement
was executed or even fully negotiated remains unanswered, it is
clear that Debtors' attempt to sell substantially all their assets
to York was rejected by this Court because of, among other things,
the Debtors' inadequate disclosure of what the transaction
comprised. (See Transcript of November 16, 2007 hearing
(filed November 27, 2007) at 38:1-39:15; Opinion 11 &
n.7.)6 A
"moral obligation" to provide an expense reimbursement should not
be sufficient to support an obligation to provide York with an
expense reimbursement.
52. The Disclosure Statement describes in detail the proposed
modification of the 2004 Omnibus Stock Incentive Plan under the
Amended Plan but fails to disclose the total number of stock
options currently outstanding. (D.S. at 29; Amended Plan at
11-12.)
(32)
6. The Disclosure Statement Lacks Information Regarding The
Potential Business Risks Posed If The Reorganized Debtors Proceed
Under The Amended Plan
53. Where a Chapter 11 plan provides for major continuing
payment obligations and the potential issuance of equity
securities, as is the case here, the Disclosure Statement must
describe the potential risks to the reorganized debtor's earning
capacity and financial viability and to the reorganized debtor's
ability to meet the plan's payment provisions. Although the
Disclosure Statement dedicates an entire Article to "Risk Factors",
the three risk factors described relate only to confirmation of the
Amended Plan and to the outcome of the Pending Litigation.
Conspicuously absent is any disclosure at all of the potential
business risks posed to creditors and equity security holders if
the reorganized Debtors proceed under the Amended Plan.
7. The Disclosure Statement Lacks Adequate Information
Regarding The Potential Federal Tax Consequences Under The Amended
Plan
54. While the Disclosure Statement provides a lengthy
description of the Federal tax consequences to the Debtors, it
provides far less meaningful disclosure with respect to the Federal
tax consequences to creditors and equity security holders. (D.S. at
46-52.) The Debtors attempt to solve the lack of detail by
including a disclaimer that provides that the holders of any claim
"should consult with their own tax advisors regarding the U.S.
federal income tax consequences resulting to them" from payment of
the claims or confirmation of the Amended Plan. (Id. at
46-52.) Such a disclaimer is not sufficient to cure
(33)
inadequate disclosure about the material Federal tax
consequences to creditors and equity security holders.
(34)
Conclusion
For the foregoing reasons, IBM respectfully requests that this
Court deny the Motion unless SCO supplements the Disclosure
Statement to provide adequate information about the matters set
forth above.
Dated: February 18, 2009
POTTER ANDERSON & CORROON LLP
By: (signature)
Laurie Selber Silverstein (No. 2396)
Gabriel R. MacConaill (No. 4734)
[address]
[phone]
[fax]
- and -
CRAVATH, SWAINE & MOORE LLP
Richard Levin
David R. Marriott
[address]
[phone]
[fax]
Of Counsel:
INTERNATIONAL BUSINESS MACHINES CORPORATION:
Alec S. Berman
[address]
[phone]
Attorneys for Creditor
International Business Machines Corporation
(35)
|
References to the Disclosure Statement, filed January 8, 2009,
are given as "D.S. at ___." |
|
This is especially significant given that, as discussed infra
at ¶ 44, the Disclosure Statement states that there is a total
of only 66 employees employed by the Debtors "and their foreign
subsidiaries and affiliates." (D.S. at 3.) |
|
The projections provided with respect to the go-forward
business model in the D.S. at 40-43 suggest that the revenue
estimated to be generated by the "Mobility" portion of the Mobility
and OpenServer Businesses in the first quarter of 2009 is zero and
that the revenue expected to be generated by the "OpenServer"
portion of the Mobility and OpenServer Businesses to be sold is not
separately disclosed. Instead the "OpenServer" estimated revenues
are indivisibly pooled together with the Legacy UnixWare estimated
revenues and are, in the aggregate, expected to decline. In neither
case are separate current revenue figures provided. |
|
The Disclosure Statement touches this issue only briefly when
it states that the payment of general unsecured claims (other than
Allowed Claims subject of the Pending Litigation) shall be either
in one installment or two installments, depending on whether "the
proceeds of the Asset Sale(s) are insufficient, in the Debtors'
business judgment, to fully pay the Allowed Claims ...."
(See D.S. at 27, 28). No information is provided about what
will inform "business judgment". |
|
References to any fiscal year of SCO are given as "FY ____" and
references to any fiscal quarter of SCO are given as "Q_-____",
in each case in conformity with usage in the Disclosure
Statement. |
|
Because the Debtors were unable to get approval of the
transaction without making the key documents available, the Debtors
withdrew their sale motion altogether on November 20, 2007. [Docket
No. 225.] |
