DoJ file objection in TelexFree bankruptcy application
Yesterday saw the continuation of the first day hearings in TelexFree’s bankruptcy application. Barring any additional information being made public, it looks like the hearing saw three significant events take place:
- The DoJ have formally objected to KCC’s fees and compensation
- Some of KCC’s actions have been “troubling” to the Judge presiding over the application
- A “final hearing” date has been set for May 2nd, with no relief being granted in the interim
As demand for reliable updates on the case surges, below you’ll find my break down of the April 21st bankruptcy hearing and what’s next in the road ahead.
The objection to KCC’s fees and compensation
Revealed in documents filed by the Department of Justice is that Kurtzman Carson Consultants LLC (KCC), the firm handling TelexFree’s bankruptcy application, were paid a $350,000 retainer.
That payment, along with the application that the employment of KCC by TelexFree (which has to be acknowledged by the court first), is now being contested by the DoJ.
The objection is rooted not so much in that TelexFree shouldn’t be able to employ KCC to represent them in the application, but rather the manner in which they are going about it. Specifically, the DoJ have taken objection to the ‘terms and conditions set forth in the engagement agreement‘ between TelexFree and KCC.
On April 18, 2014, Debtors filed an Amended Declaration of Evan J. Gershbein that attached KCC’s fee structure.
Portions of the copy of the Engagement Agreement that was filed with the Gershbein Declaration and Amended Gershbein Declaration are illegible, including the section concerning limitations on the liability of and indemnification of KCC.
Quoting the declaration, this is the paragraph the DoJ have taken objection to:
Debtor (TelexFree) respectfully submits that KCC’s rates for its services in connection with the notice, claims processing, and solicitation services are competitive and comparable to the rates charged by their competitors for similar services.
In addition to the $350,000 retainer paid to KCC, the DoJ object to the nature of the relationship between KCC and TelexFree, as described in the declaration. One would assume it to be a contractor and/or employee/employer relationship, but that is not the case:
The Engagement Agreement also provides that KCC and the Debtors’ are independent contractors of each and that no employment relationship exists because of the Engagement Agreement.
Independent contractors of each other? Uh, what?
I can understand KCC being a contractor of TelexFree, but how is the same true in reverse?
The Engagement Agreement provides that KCC may open accounts as an agent
for the Debtors:
“At the Company’s request, KCC shall be authorized to establish accounts with financial institutions in the name of and as agent for the Company.”
Wait, hold up! So TelexFree go and pay KCC a huge-ass retainer, and then are trying to get an agreement passed in bankruptcy court that would permit KCC to open bank accounts for them?
Just how dodgy can these get?! And keep in mind all of this was filed on April 18th, just two days after a Judge in Massachusetts granted the SEC a temporary restraining order freezing TelexFree’s assets.
“Oh I know, we’ll just get our bankruptcy application guys to open new accounts for us, sweet!”
Expanding the scope of the agreement, should any further action be taken against TelexFree, the objection goes on to stipulate
The Application provides that Debtors and KCC may agree to expand the scope of KCC’s services with a corresponding increase in fees. The Application does not provide for Court approval of any change to the scope of KCC’s services.
So basically, it’s an open-ended agreement that seeks to enable TelexFree management to run the financials of the company through KCC as a proxy. Oh and nothing suss, but the money TelexFree pay KCC under this agreement should also be hush-hush and of no concern to the court:
The Debtors (TelexFree) respectfully submit that the fees and expenses that would be incurred by KCC under the Engagement Agreement would be
administrative in nature and, therefore, should not be subject to standard fee application procedures of professionals
TelexFree basically want to use KCC as an unregulated bank to circumvent the restrictions on the business as a result of the SEC complaint against them. That’s how TelexFree are “contractors” of KCC.
At this point you’re probably wondering why KCC would put themselves in such a position. Here’s the apparent answer:
The Engagement Agreement also provides that KCC shall be entitled to attorney’s fees, court costs and other expenses if it prevails in any legal action to enforce the Engagement Agreement.
In a nutshell, there’s an open check waiting for KCC should any of this nonsense actually get approved by the court.
The arguments the DoJ present are largely based on what first day orders in bankruptcy cases are supposed to be restricted to:
First, the requested relief should be limited to that which is minimally necessary to maintain the existence of the debtor, until such time as the debtor can affect appropriate notice to creditors and parties in interest. In particular, a first day order should avoid substantive rulings that irrevocably determine the rights of parties.
Second, first day orders must maintain a level of clarity and simplicity sufficient to allow reasonable confidence that an order will effect no unanticipated or untoward consequences.
Third, first day orders are not a device to change the procedural and substantive rights that the Bankruptcy Code and Rules have established.
Fourth, no first day order should violate or disregard the substantive rights of parties, in ways not expressly authorized by the Bankruptcy Code.
Points one and two are of particular interest here, as KCC being used as an unregulated proxy bank by TelexFree is obviously beyond the scope of what is “minimally necessary to maintain the existence of the debtor”, and the open-ended nature of the agreement between the two companies will undoubtedly have “unanticipated or untoward consequences” later on down the track.
The DoJ close out their objection by requesting that the bankruptcy court formally “take notice” of the SEC complaint recently lodged against TelexFree.
Because Application seeks Court approval to employ KCC pursuant to, inter alia, the terms of the Engagement Agreement, the Application should not be approved until Debtors file a legible copy of the Engagement Agreement.
Although the Application asserts that the KCC’s Fee Structure is competitive and comparable to the rates charged by their competitors for similar services, neither of the Gershbein declarations provide evidence to support this assertion.
The Application, including the Fee Structure, should not be approved until Debtors provide evidence that the proposed Fee Structure is competitive and comparable to the rates charged by KCC’s competitors for similar services.
In addition, the Application provides that Debtors and KCC may agree to expand the scope of KCC’s services with a corresponding increase in fees. However, neither the Application, supporting declarations, Engagement Agreement or Fee Structure provide an explanation of how the Fee Structure will increase if KCC’s scope of services are expanded.
The Application should not be approved until Debtors provide this information.
The list of objections goes on, primarily focusing on ensuring that KCC are only paid for their services in facilitating TelexFree’s bankruptcy application, and ensuring that they can’t do a runner from the case (meaning they will require court approval to withdraw as TelexFree’s agent in the matter).
Otherwise you have the prospect of TelexFree dumping large amounts of money with KCC (say the $300 million nobody seems to know the whereabouts of), KCC depositing this into secret bank accounts they set up for TelexFree, handing the keys to the bank accounts over to TelexFree and then withdrawing from the case.
To that end,
Emergency motions allowing the Debtors to make payments or utilize funds were continued by the Court and/or made subject to any temporary restraining order currently enjoining Debtors in other actions, including the S.E.C. Action.
The Application should be denied because it allows Debtors to use KCC as an agent to establish financial accounts for the Debtors.
Seeking to cover its bases, the DoJ also offers up proposed compromises should TelexFree’s application be miraculously granted:
The Application seeks permission for the Debtors to compensate KCC on a monthly basis without KCC being subject to the standard fee application procedures of professionals. However, the Court has already expressed both a concern regarding actions KCC has taken in these cases and a desire to review KCC’s fees.
Accordingly, if the Court grants the Application, KCC should be required to provide interim invoices to any official committee appointed in these cases and to the United States Trustee, to file a final application for approval of fees, and hold in trust twenty percent of its fees so that any fees ordered by the Court to be
disgorged are readily available.
In the event that KCC must seek employment under 11 U.S.C. § 327 for duties outside the context of 28 U.S.C. § 156(c), Section XI of the Engagement Agreement, which provides that KCC is an independent contractor that is not employed by the Debtors, will be inconsistent with KCC’s fiduciary duties as a retained professional.
Therefore Section XI should be removed from the Engagement Agreement or the Application should make clear that this section of the Engagement Agreement shall not apply if KCC ultimately must be employed pursuant to 11 U.S.C. § 327.
The retainer amount obtained by KCC should be drawn down and not be held as an evergreen retainer.
An “evergreen retainer” is an initial retainer ($350,000 in this case), that is replenished by the client. Basically the concern here is that TelexFree could use the retainer to launder/hide money to secret bank accounts KCC set up for them. KCC deposit money in the retainer into the accounts, TelexFree top up the account, KCC deposit that money, TelexFree top it up again etc., etc.
And to that end:
The section of the Engagement Agreement that grants KCC attorney’s fees and costs should be stricken. KCC’s compensation should be limited to the reasonable fees and costs for the services it performs.
Judge finds KCC’s actions “troubling”
Despite the nonsensical claims about five judges agreeing TelexFree was not a pyramid scheme (among other things), and that everything favourable towards TelexFree during last Thursday’s initial first day orders hearing, the reality differs significantly.
In addition to no relief being granted at this point in time, the declaration of Edward McDonald (DoJ trial attorney), filed on April 21st, notes
Certain (parts) of the First Day Motions were continued to May 2nd 2014, without any relief being granted, including
-the motion to honor credit card transactions
-the motion concerning adequate protection to utilities and
-the motion concerning the Debtor’s cash management system
In addition the court authorized but did not direct the Debtors (TelexFree) to pay certain taxes and wages subject to all other orders related to the assets of the Debtors, including, without limitation, a temporary restraining order in pending proceedings filed by the SEC.
That pending temporary restraining order has of course since been granted.
Used in support of the DoJ’s argument’s against KCC’s proposed fees and compensation, McDonald goes on to share an excerpt from the Judge discussing some of KCC’s actions thus far:
KCC jumped the gun a little here counsel. They set up a website and issued a press-release as if I had already entered an order authorizing them to do so. That’s troubling to me.
And I will tell you now just for the sake of making it clear for later, to the extent that those actions were taken before they were authorized to do so, if they seek compensation, that will be an issue for them at the time.
I’m not entirely sure what specific compensation the Judge is referring to, but it’s clear the shenanigans KCC have pulled are going to potentially come back to bite them in the ass.
And rightly so, that KCC press-release spawned a bunch of garbage YouTube videos and Portuguese/Spanish blog posts declaring victory in bankruptcy court, before the First Day hearings had even taken place.
Final hearing set for May 2nd
Looking forward, McDonald’s declaration observes that
A final hearing on the motion for joint administration is set for May 2nd, 2014.
In addition to this, as part of the ongoing SEC complaint, a permanent injunction against TelexFree is also expected to be granted on Thursday the 24th.
May 2nd gives all parties involved in the case twelve days to put forth their arguments. On TelexFree’s side that’s likely to involve a lot of backpedaling and explanation, and on the DoJ side of things I expect we’ll see more dodginess exposed and brought to light.
Boxes of evidence have been collected from TelexFree’s office following a raid, with regulators likely to have a field day in court come May 2nd.
I’m of course not an attorney, bankruptcy or otherwise, but I can’t see this application being granted. At the very least it’s an abuse of process in an attempt to use the bankruptcy court to negate Ponzi ROI liabilities incurred via the running of a Ponzi scheme for nearly two years.
At worst, well in addition to the DoJ’s detailing of the extreme shiftiness between KCC and TelexFree’s proposed agreement, there’s all the other crap the company has pulled over the last week.
That $37 million Joseph Craft was caught trying to smuggle out of TelexFree’s office, what’s the bet that was destined for secret offshore bank accounts set up by KCC?
The press-release put out by TelexFree LLC accusing the SEC and Homeland Security of lying? How’s that going to play out in court?
A hint of what’s to come and the court’s non-tolerance of it is evident in the Judge’s remarks about KCC’s premature press-release above. I’ll leave you for now by suggesting to expect more of that come May the 2nd.
Alot more. Piece by piece, this next part of the saga is where get to watch TelexFree’s intricate web of lies, deceit and attempts at judicial and financial manipulation come undone.
Footnote: Whilst I appreciate a lot of investors have lost money in TelexFree and are now panicking, BehindMLM is not the place to ask for investment advice – including how to go about recovering invested funds, how much might recovered and/or requests for individual financial advice.
Until a court sets up a mechanism for TelexFree investors to submit claims for their investments, we know as much as you do. As such, any comments asking about money being returned or how to go about getting a refund will be marked as spam.
Variations of this question and general investor concerns have already been addressed numerous times in previous articles, so I’d advise reading the comments on some of the more recent BehindMLM TelexFree articles for (preliminary and unofficial) answers.
Ponzi Tracker also has some additional information up which investors might find useful.