I just received a copy of the following letter written Babish's lawyer outlining his complaint against the company. I got this from a source close to the company.
Robin
HECHT & STECKMAN, P.C.
Attorneys at Law
60 East 42nd Street, Suite 5101
New York, N.Y. 10165-5101
CHARLES J. HECHT Tel: (212) 490-3232
LAWRENCE A. STECKMAN Fax: (212) 490-3263
E-Mail: h-s@ix.netCom.Com
LlNDA MANDEL GATES
(also admitted in New Jersey)
ROSS ROSEN
(also admitted in New Jersey)
April 15, l997
via Facsimile and USPS
(607) 257-2734 (415) 325-4042
Keith A. Rhodes Jack O'Reilly
Paracelsian, Inc. 4040 Campbell Avenue
222 Langmuir Laboratories Suite 2140
95 Brown Road Menlo Park, CA 94205
Ithaca, NY l4850
(716) 427-8744 86 10 6522 7675
James Nichols William J. Warwick
The Nicols Team AT&T China
75 Highpower Road CVIK Place
Rochester, NY 14623-3435 No. 22 Jain Guo Menwai Avenue
Beijing, 100004 PRC
(212) 602-4511 (908) 221-3247
Theodore P. Nikolis William J. Warwick
NatWest Markets AT&T
Corp. Banking & 295 N. Maple Avenue
Specialized Finance Room 4211G3
175 Water Street Basking Ridge, NJ 07920
New York, NY l0038-4924
Re: Paracelsian, Inc.
Dear Sirs:
We represent two former members of the Board of Directors of Paracelsian, Inc. ("Paracelsian" or "the Company") and other shareholders, who collectively own or control in excess of 30 percent of the Company's outstanding Common Stock. Our clients advise that two current members of the Board of Directors, Messrs. Rhodes and O'Rei11y, have engaged in self-dealing transactions, wasted corporate assets, mismanaged the Company and violated the federal securities laws. Other members of the existing Board may have known about these (or some of these) improper activities at the time they occurred and/or ratified these (or some of these) improper acts thereafter.
These actions have damaged the Company and resulted in a steep decline in shareholder value. At one time, Paracelsian's stock was trading at $8 per share. It currently trades at less than $1 per share. Finally, concerns about potential liability arising from the misconduct of Messrs. Rhodes and O'Reilly has led to the resignation of the entire senior management team for technology and the director who is necessary to ensure a current and future supply of Chinese
herbal compounds. Paracelsian needs these compounds to produce its proposed product line. In addition to the resignation of Drs. Babish and Campbell, Mr. Hawley and Dr. Gallo also resigned
as directors.
This letter contains: (1) a nonexhaustive list of instances of corporate misconduct, as recounted to us by our clients, and (2) a summary of our clients' demands for specific action to be taken by the Board and its members as a result of the foregoing.
1. Ultra Vires Payment Without Proper
Authorization by the Board of Directors.
According to Paracelsian's 1995 Annual Report, in the fourth quarter of Paracelsian's 1995 fiscal year, 200,000 shares of Paracelsian's Common Stock was issued and delivered to a foreign resident. These shares were improperly issued without the Board's authorization. The
first time Directors Campbell and Babish, and very probably Gallo, knew these shares were issued was when Paracelsian's 1995 Annual Report was made available.
The 1995 Annual Report, at page 25, stated that:
In the second quarter of fiscal 1995, the Company commenced research into Indian sourced herbs and their medicinal benefits with an object of supplementing the extracts from China. During the fourth quarter of fiscal 1995, the Company completed this
research. The Company -issued 200,000 shares of its common stock as full payment to consultants in connection with this research and recognized a fourth quarter, non-cash research expense of $375,000. This expense is not expected to recur after fiscal 1995 since this research was completed without discovering any compounds with promising therapeutic effects.
Dr. Babish, the Board's Secretary, took notes of the Board's special meeting following issuance of the 1995 Annual Report. George Lander, Mr. Morse's law partner, also attended and apparently took notes. At that meeting, Dr. Gallo stated he was unaware that this purported
study had been conducted. He moved that an outside accountant be retained to investigate and substantiate these payments. Dr. Colin Campbell seconded his motion. He and Dr. Campbell instructed Paracelsian's General Counsel Howard Morse, at that meeting, to
memorialize this demand for substantiation in the Board minutes. No director objected. Dr. Babish drafted the meeting minutes to include Dr. Gallo's motion. Dr. Babish later compared his meeting notes with the draft minutes prepared by George Lander. Mr. Lander's draft minutes differed from the notes taken by Dr. Babish. Dr. Gallo's demand for an accounting regarding payment of 200,000 shares of the Company's Common Stock for the purported study for East Indian herbs was not mentioned in the draft minutes prepared by Mr. Lander. Dr. Babish corrected the draft minutes prepared by Mr. Lander and faxed a copy to the Company's General Counsel. Neither Dr. Campbell nor Dr. Babish saw the final minutes of this meeting Dr. Gallo resigned as a director shortly after that meeting. The Company took no action in response to Dr. Gallo's demand.
On December 4, 1996, Keith Rhodes admitted in writing to Dr. Campbell that there was no completed research study for Indian-sourced herbs. Neither were there protocols for the collection, screening and reporting of the data regarding the Indian herb extracts that were to
have been studied. Mr. Rhodes would not disclose the name and address of the entity which supposedly conducted this study. The Board never authorized any agreement for this study and the nonexistent written report was not invoiced. There was no screening and there were no
results. Mr. Rhodes further admitted to Drs. Campbell and Babish and Mr. Koch that there was no evidence any Board member approved his issuing the 200,000 shares of Paracelsian's Common Stock. According to Paracelsian's December 11, 1996 press release, Keith Rhodes submitted his resignation as an officer and director of Paracelsian.
Prior to Mr. Rhodes making these admissions, Dr. Campbell wrote three letters requesting that Mr. Rhodes ensure that Paracelsian investigate the purported Indian herb study, as previously demanded by at least two Board members. Paracelsian's 1995 Annual Report's second full paragraph on page 25 appears to be false. At all times, Mr. Rhodes knew it was false.
Our clients advise us that Afsaruddin Kahn, a Pakistani resident, received these 200,000 shares of Paracelsian's Common Stock with a value of $375,000. Our clients further advise that this stock was sold shortly thereafter pursuant to the purported exemption afforded by Regulation S under the Securities Act of 1933, as amended (the "Securities Act") . One of our clients understands, based on Mr. Rhodes' statements, that all, or substantially all, of the sale
proceeds from these shares were remitted to a U.S. stock promoter. Based on the Company's prior dealings, our clients believe these persons are Jason Meyers and/or an associate of Mr. Meyers, Frank Turzo.
If the facts are as described in the preceding paragraph, the recipient of this Regulation S stock was not the true, beneficial owner. The Company will have violated the Securities Act's
registration provisions, because the exemption afforded by Regulation S would not be available. The 1995 Annual Report does not disclose any of these events. It appears none of these events have been disclosed to appropriate authorities.
Mr. Rhodes acts, as set forth above, were ultra vires, and a waste of corporate assets.
The stock issuance also appears to violate at least three separate provisions of the Delaware
General Corporation Law (GCL):
1. Delaware GCL 151 requires the Board approve the issuance of stock through a resolution. The Board did not authorize the issuance of these 200,000 shares.
2. Under GCL 152, the purchaser or recipient of stock must provide consideration adequate under the circumstances in the form of "cash, services rendered, personal property, real property, leases of real property or a combination thereof . . . " Paracelsian issued 200,000 shares of its stock in exchange for nonexistent work or "work" with a value of far less than $375,000. The Company, therefore, did not receive legally adequate consideration under GCL 152.
3. Finally, because the Company did not receive any value in return for the issuance of these 200,000 shares, such an issuance amounts to a gift to the person or entity who received the stock. GCL 122(9) controls a corporation's ability to make gifts or donations. It provides that a corporation may "make donations for the public welfare or for charitable, scientific or educational purposes, and in time of war or other national emergency in aid thereof." The 200,000 shares were not a donation for a permissible use within the meaning of GCL 122(9).
Our clients make the following demands. Keith Rhodes' resignation, which was submitted to the Board on or before December 11, 1996, should be accepted immediately. If the existing directors have rejected that resignation, as suggested by Internet press release dated April 10, 1997, then Mr. Rhodes should immediately resubmit his written resignation, as both an Officer and Director, and the Board should immediately accept that resignation. If Mr. Rhodes does not submit his written resignation within the next five days, then, pursuant to GCL 141, the issue of his removal as an Officer and Director for cause must be placed before the shareholders. Upon his resignation, Mr. Rhodes should immediately deliver to Paracelsian all Company records in his possession or control, and he should be barred from Company premises to prevent further damage to Paracelsian.
Because Mr. Rhodes performed the above-described acts without Board approval and without any knowledge of at least three Board members, he should be required to pay the Company $375,000 within the next 30 days. If he is financially unable to pay this amount to the Company, at this time, then, in lieu of the payment of $375,000 within the next 30 days, Mr. Rhodes should tender to the Company that number of shares of Paracelsian's Common Stock, that he now owns to enable the Company to recoup its loss of $375,000. The number of shares of Common Stock will be based on the average bid price of Paracelsian's Common Stock for the next twenty trading days.
To the extent any existing Directors had knowledge of the above-described payment of 200,000 shares for the purported research study prior to receipt of the 1995 Annual Report, that Director should immediately resign. If any existing Directors ratified payment of the 200,000 shares or distribution of those shares to a foreign national or entity which was not the beneficial owner of such shares or participated in these transactions before the Board meeting, that Director should immediately resign.
4. Improper Payments to an Entity Controlled by a Board Member - Self-Dealing with Catalyx and Jack O'Reilly.
Under Delaware law, directors act as company fiduciaries, subject to fiduciary duties of loyalty and disinterestedness to the Company. Directors cannot stand on both sides of transactions and may not derive any personal benefit through self-dealing. That has been the
clear and unambiguous Delaware law for almost 60 years. Guth v. Loft Inc., 23 Del. Ch. 255, 5 A.2d 503 (1939). The director's duty of loyalty requires "an undivided and unselfish loyalty to the corporation" and that "there shall be no conflict between duty and self-interest." Weinberger v. UOP, Inc., 457 A.2d 701, 709 (1983) When directors of a Delaware corporation "stand on both sides of the transaction, they bear the burden of establishing its entire fairness." Sterling v. Mayflower Hotel Corp., 33 Del.Ch. 20, 93 A.2d 107. See also Gottlieb v. Heyden Chemical Corp., Del. Supr., 33 Del. Ch. 177, 91 A.2d 57, 57-58 (1952); David -J. Greene & Co. v.
Dunhill International, De1.Ch. 249 A.2d 427 (1968) .
Our clients advise us that more than $72,000 in payments have been made to Catalyx Group, Inc. ("Catalyx") . Jack O'Reilly, a Board member, owns and controls Catalyx. With the possible exception of a $15,000 payment, the Board did not approve any payments to Catalyx.
Paracelsian, for example, paid Catalyx $15,000 to conduct a search to fill a Board vacancy. Catalyx recommended that its own President and controlling shareholder, Jack O'Reilly, fill that vacancy. That was per se unfair to Paracelsian and a waste of corporate assets.
The Company disbursed $8,000 to Catalyx in satisfaction of Catalyx invoices which contain no description of services. Paracelsian paid Catalyx $20,000 to perform a validation review of the Company's research and product development activities. Drs. Babish and Campbell advise us that the individual retained by Catalyx who conducted the validation review, had no significant experience in signal transduction. He was, therefore, not qualified to opine as to the efficacy of the Company's technology or its proposed utilization of that technology, but was hired through Catalyx and paid anyway.
Paracelsian has entered into an agreement with Catalyx under which Catalyx is to be paid $2,000 per day (or any part thereof) for purported consulting services to address "issues that may arise from events that may prevent it [sic. Paracelsian] from pursuing its preferred strategy and product launch timetable." The Company has also apparently agreed to pay to Catalyx a 3% Transaction Fee for any transaction introduced to Paracelsian by Catalyx. ""Transaction" is not defined in that document.
My clients demand an accounting within the next 20 days of the remaining more than $29,000 which remains unaccounted for, plus any and all other payment(s) received by Catalyx or Mr. O'Reilly. In that regard, please advise us, in writing, if Catalyx or another company in
which Mr. O'Reilly has an interest in the executive search firm referred to in Item 3 of the April 10, 1997 Internet press release.
The above-described three improper payments, aggregating $43,000, are each a waste of corporate assets. Mr. clients demand that Mr. O'Reilly resign as a director immediately. Paracelsian must immediately sever any and all existing contractual arrangements with Mr. O'Reilly, Catalyx or any other entity directly or indirectly controlled by him or affiliated with him. Because all or all but one of these transactions were made without Board approval and
without the knowledge of at least two Board members Rd Campbell and Dr. Babish, Mr. Rhodes should be removed for cause as an officer. He must also resign immediately as a director. If any other existing director knew of any of these transactions before they occurred,
authorized any of these transactions or ratified any transactions between Paracelsian and Catalyx, such director should consider immediate resignation. Catalyx and/or Mr. O'Reilly should reimburse Paracelsian $43,000 within the next 30 days. If Catalyx or Mr. O'Reilly cannot furnish documentation to satisfy their burden under the foregoing fairness standard, the additional monies received by Catalyx, et al. must be returned within 30 days.
5. Excessive Payments in Private Placement.
According to the 1995 Annual Report, after fiscal year 1995, Paracelsian offered securities through a private placement. Although gross proceeds from the offering were approximately $7,000,000, net proceeds were $5,732,000. Expenses and closing costs were in excess of $1,250,000 -- at least 23.33% of the Company's net proceeds, far above normal expenses and closing costs for a private placement of this size, for a reporting public company.
My clients seek an accounting within 10 days of the gross receipts, including all disbursements, exclusive of the net proceeds of $5,732,000, made in connection with this private placement, and will require that any closing statement(s) detailing receipts and all
disbursements be made available. If there were any "pass through" payments to persons not disclosed on the closing statement, the details of such pass-through payments, , including the names and addresses of such payees, should be furnished immediately.
6. Stock Buy Back Program Without Board Authorization.
In 1995, Paracelsian sold convertible preferred stock which lacked a redemption floor or fixed conversion price. This offering had a negative impact on the price of the Company's outstanding common stock. To cover up management's errors in determining the terms of this sale of preferred stock, Mr. Rhodes initiated a Company stock buy-back program without Board authorization. Since July 1996,
the stock has plummeted from $4 to $1. We understand that, as a result of Mr. Rhodes' decision to cause the Company to engage in this stock repurchase program, the Company has spent in excess of $1,343,000 repurchasing its own securities. At least 96,450 shares of the Company's stock at a cost of $559,460 were purchased before the Board authorized the Company to purchase any marketable securities on November 15, 1995. There apparently was no specific discussion at the Board meeting that the Company had engaged in and would further engage in a substantial stock repurchase program. Arrangements should be made requiring Mr. Rhodes to repay to the Company the amounts Paracelsian improperly expended in this stock repurchase program. Please advise us within the next ten (10) days of the exact
amount the Company expended in this stock buy-back program and all such purchases with a trade date prior to November 15, 1995.
7. Failure to Call an Annual Meeting.
Article 7 of Paracelsian's By-laws requires that an annual meeting "shall be held on the date within thirteen months after the date of the preceding annual meeting." The last annual meeting was April 14, 1996. Under the By-Laws the 1997 meeting must be held on or before May 14, 1997. No such meeting has yet been called for 1997. The written notice provisions of Article 7 of the By-Laws require that one of the items on the agenda be election of directors. Because Mr. Rhodes and Mr. O'Reilly should resign as directors, and to the extent other directors elect to resign as a result of their direct or indirect participation in the wrongful conduct set forth above, or if they wish to resign for any other reason, there may not be the requisite minimum number of directors. Drs. Campbell and Babish have advised this firm that they would each be willing to serve as interim directors until the next annual shareholders meeting. If everyone resigns, then Drs. Campbell and Babish will designate a third interim director.
Our clients demand compliance with the annual meeting provisions of the By-Laws. Paracelsian shareholders should be given sufficient time to elect members to the Board who will faithfully serve the Company. Such election should only take place after the shareholders
are apprised of the facts discussed above concerning present management and each of the current directors.
Our clients, directly or indirectly, control in excess of 30% of Paracelsian issued and outstanding capital stock entitled to vote. They are ready, willing and able to take appropriate action by way of both a derivative suit to recoup to the corporation monies and assets that have been wrongfully expended and/or conduct a proxy fight with the appropriate filings under the Securities Exchange Act of 1934, as amended.
Please advise us in writing within 10 days of what actions each of you as directors, and, where applicable, Mr. Rhodes as an officer, intend to take to remedy each of the foregoing improprieties. If we receive no meaningful written response within 10 days, we will assume that you will take no action. Our clients have advised us that they will take all necessary and appropriate steps to protect Paracelsian's interests.
Very truly yours
Charles J. Hecht
cc: Dr. John Babish
Dr. Colin Campbell |
