As we’ve written before, the recent slate deal trend among Hollywood financiers can be very tricky, even for the savviest of investors. The latest and probably best-known victim is Aramid Entertainment, a sophisticated hedge fund with a Cayman Islands address. In a lawsuit filed last year, Aramid claims it was ensnared in “one of the greatest heist stories ever told in the movie business.”
The story begins with Relativity Media, founded in 2004 by the controversial Ryan Kavanaugh. Relativity bills itself as a full-scale movie studio, responsible for producing over 200 movies and grossing over $17 billion in worldwide box office returns over the past eight years. Kavanaugh’s claim to fame is his proprietary “Monte Carlo” algorithm, which Relativity utilizes to predict the success of proposed projects. Unfortunately, for Kavanaugh’s investors, the system hasn’t seemed to really work, and for the past several years Relativity has been on the brink of a monumental financial collapse. After the loss of its principal financial backer, the defection of numerous senior executives, multiple ill-advised acquisitions leading to unsustainable overhead, and management conflicts, by 2011 Relativity was in dire straits.
Back in 2007, however, Relativity had embarked on a slate deal with Sony Pictures Entertainment that was intended to be a “watershed event in the evolution of slate financing,” a $1 billion fund. It was the largest fund ever attempted in the film finance arena. Relativity created the slate entity, Beverly Blvd LLC, and unable to provide the $500 million on its own, enlisted Citibank to guarantee its position in the deal. The agreement was simple: each side invests $500 million, the money is used to cover production costs of forty-five of Sony’s movies over the course of five years, and Relativity uses its special secret formula to pick only the blockbusters. Everyone wins.
With a guarantee from the bank, Sony agreed to move forward and finalized the deal. Over a year later, however, Citibank hadn’t found any outside investors and decided to put up the money itself. Citibank then approached our victim, Aramid, to solicit investment in the Beverly fund. Aramid had allegedly turned down the opportunity to invest in Beverly several times before, but this time Citibank promised a large return for a “mezzanine level” investment, and Aramid agreed to participate. The class of shares that Aramid purchased (for $22 million) offered a high rate of return, but having been placed in second position, Aramid would only get paid after the Class A investors received their returns. A fateful decision.
In the meantime, Fortress Investment Group, LLC approached Aramid, expressing an interest in acquiring some of Aramid’s assets. After executing a non-disclosure agreement, Aramid handed over the books to Fortress for due diligence review. Fortress took a particular interest in the Beverly deal, which Aramid was happy to discuss in detail, but ultimately walked away without making an offer.
Enter the Lehman collapse in 2008 and subsequent recession. Citibank fell on some difficult times and began looking to sell its position in Beverly. Aramid offered to help, but it seemed that Citibank had already secured a buyer… (drum roll, please)… Fortress Investment Group. Fortress struck a deal with Citibank and took over its position in Beverly for 50 cents on the dollar. Then, looking to make a quick buck, Fortress approached Sony offering to discount amounts due and to relinquish all the rights to residual and ancillary revenues, in exchange for Sony’s agreement to wind up the Beverly fund early. Sony immediately agreed. Fortress then approached the now flailing Relativity, offering it nearly $15 million as compensation for approval of the new agreement to shut down the fund. Relativity agreed as well. Fortress then drained the fund, leaving nothing for second- and third-position investors, namely Aramid. The suit alleges that Beverly was “ultimately hi-jacked, forcibly dismantled and ruthlessly plundered in order to line the pockets of [Fortress] and to knowingly deprive [Aramid] of their rights…. [H]aving masterminded the break-in and switcheroo, [Fortress] booked a minimum gross profit of approximately $96.1 million [minus the $14.5 million it paid to Relativity].”
Aramid claims that Fortress used the confidential information it obtained from the alleged due diligence to strike the deal with Sony, which virtually destroyed Aramid’s investment. According to estimates, Aramid’s shares in 2011 were worth $44 million; after Fortress got involved, they became worthless. Aramid claims that Fortress intentionally and maliciously interfered with its contractual relations when it induced Sony and Relativity to terminate the Beverly fund early.
The lawsuit, which was initiated in February of last year, is ongoing, but before you waste any time pitying the victim, note that Aramid itself is no stranger to litigation. The LA Times reported in 2010 that Aramid was sued by its own investors for fraud and misappropriation. That lawsuit alleged that Aramid management used the fund as a “personal piggybank” and concealed Aramid’s financial woes from auditors, taking out more than $60 million from the fund to pay fees to himself and his associates. “The ‘looting’ left the fund in such dire shape that it was delisted from the Cayman Islands Stock Exchange.”
Terrible injustice or just desserts, you decide.