1Gryphon’s preliminary injunction application is before the

court under the procedure permitted by Fed. R. Civ. P. 43(e) and is

being decided on the papers, without an evidentiary hearing. See,

e.g., Jones v. Bush, 122 F.Supp.2d 713, 715 (N.D. Tex.) (Fitzwater,

J.), aff’d, 244 F.3d 134 (5th Cir. 2000) (per curiam) (unpublished

table decision).

2

As permitted by Rule 52(a), the court sets out its findings

of fact and conclusions of law in this memorandum opinion.

IN THE UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF TEXAS

DALLAS DIVISION

GRYPHON MASTER FUND, L.P., §

et al., §

 §

Plaintiffs, §

 § Civil Action No. 3:06-CV-0107-D

VS. §

 §

PATH 1 NETWORK TECHNOLOGIES, §

INC., §

 §

Defendant. §

MEMORANDUM OPINION

Plaintiffs Gryphon Master Fund, L.P. and GSSF Master Fund, LP

(collectively, “Gryphon”) apply for a preliminary injunction to

prohibit defendant Path 1 Network Technologies, Inc. (“Path 1”)

from transferring any of its assets to a third party. For the

reasons that follow,1 the court grants the application.2 

I

In early 2005, Gryphon and Path 1 entered into a Securities

Purchase Agreement (“Agreement”) under which Gryphon acquired

461,538 shares of preferred Path 1 Stock. The Certificate of

Designations (“Certificate”) that governs Path 1’s preferred shares

imposes the following restriction on borrowing in ¶ 10(iii):

 

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So long as any [designated shares] remain

outstanding, [Path 1] shall not, without the

vote or written consent by the holders of at

least 51% of the then outstanding shares of

the [designated shares], voting together as a

single class . . . [a]uthorize or issue, or

obligate itself to authorize or issue, any

debt security, or otherwise incur indebtedness

for borrowed money[.]

Ps. App. 73. Gryphon’s 416,538 shares of preferred stock amount to

53.4% of the total designated shares. Accordingly, ¶ 10(iii)

requires Path 1 to obtain Gryphon’s consent before it may incur

indebtedness.

Paragraph 10(iii) carves out three exceptions to the general

prohibition against borrowing without consent. Under ¶ 10(iii),

Path 1 may incur liability for borrowed money, without Gryphon’s

consent,

(A) to a strategic investor in connection with

a strategic commercial agreement or

transaction as determined by the Independent

Directors,

(B) pursuant to a commercial borrowing,

secured lending or lease financing transaction

approved by the Independent Directors, or

(C) pursuant to the acquisition of another

corporation or entity by [Path 1] by

consolidation, merger, purchase of all or

substantially all of the assets, or other

reorganization.

P. App. 73 (emphasis added). Paragraph 10(iii)(B) is the exception

at issue in this case. 

In December 2005 Path 1 entered into a debt financing

agreement with Laurus Master Fund Ltd. (“Laurus”), under which Path

 

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1 issued to Laurus a secured convertible term note and a common

stock purchase warrant. Although Path 1 initially sought Gryphon’s

consent to the transaction, Path 1 eventually closed it without

Gryphon’s approval. After learning of the transaction, Gryphon

notified Path 1 that it had violated Gryphon’s consent rights under

¶ 10(iii) of the Certificate, and it filed this lawsuit.

During the pendency of this suit, Path 1 entered into a second

transaction with Laurus, incurring an additional $1 million in

debt. Once again, Path 1 did not seek or obtain Gryphon’s consent

before consummating the transaction. Together, the transactions

with Laurus have resulted in $3.1 million in debt obligations that

Path 1 has secured with substantially all of its assets.

Gryphon alleges that the preferred shareholders, including

Gryphon, have a liquidation preference of $3 million. If Path 1 is

liquidated, however, Laurus, as a secured debt holder, would be

paid before preferred shareholders receive their $3 million

liquidation preference. 

Since January 1, 2007 Path 1 has been in default on its debt

obligations to Laurus. Path 1 is currently almost two months late

in filing its Form 10-K for 2006. In April it issued a

“Notification of Late Filing,” citing as the reason for its

inability to file “a lack of current funds to pay the necessary

legal, accounting and other fees and expenses associated with the

preparation and filing of the Form 10-K.” Ps. App. 278. Because

 

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3

This motion supplemented Gryphon’s April 2, 2007 application

for a TRO and temporary injunction, which the court denied on April

9, 2007. The circumstances that resulted in the court’s earlier

orders denying Gryphon’s TRO applications have materially changed.

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of its failure to remain current with its regulatory filings, Path

1 was recently delisted from the OTC Bulletin Board. 

On May 8, 2007 Path 1 filed a Form 8-K, announcing that it had

entered into an agreement with Laurus and IP Video Networks, Inc.

(“IPVN”), a company created on April 19, 2007 and owned by two Path

1 employees. Under the terms of the transaction, Laurus will

acquire Path 1’s assets and convey them to IPVN in exchange for a

27% interest in IPVN. Gryphon maintains that the recently-formed

IPVN will essentially operate as Path 1 without the burden of Path

1’s contractual obligations in this lawsuit.

On May 11, 2007 Gryphon filed a supplemental application for

a temporary restraining order (“TRO”),3

 seeking a TRO prohibiting

Path 1 from entering into any agreement with Laurus or any other

entity for the transfer of substantially all of its assets. The

court granted a TRO on May 16, 2007 and subsequently extended the

TRO through June 14, 2007. Gryphon applies for a preliminary

injunction prohibiting Path 1 from transferring any of its assets

to any third party.

II

“A preliminary injunction ‘is an extraordinary and drastic

remedy, not to be granted routinely, but only when the movant, by

 

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a clear showing, carries the burden of persuasion.’” Jones v.

Bush, 122 F.Supp.2d 713, 718 (N.D. Tex.) (Fitzwater, J.) (quoting

White v. Carlucci, 862 F.2d 1209, 1211 (5th Cir. 1989)), aff’d, 948

F.2d 1286 (5th Cir. 1991) (per curiam) (unpublished table

decision)), aff'd, 244 F.3d 134 (5th Cir. 2000) (per curiam)

(unpublished table decision). “The decision to grant a preliminary

injunction is to be treated as the exception rather than the rule.”

Miss. Power & Light Co. v. United Gas Pipe Line Co., 760 F.2d 618,

621 (5th Cir. 1985) (stating that movant must “clearly carr[y] the

burden of persuasion”). To obtain a preliminary injunction,

Gryphon must establish (1) a substantial likelihood that it will

prevail on the merits, (2) a substantial threat that it will suffer

irreparable injury if the injunction is not granted, (3) that the

threatened injury to it outweighs the threatened harm the

injunction may do to defendant, and (4) that granting the

preliminary injunction will not disserve the public interest. See

Jones, 122 F.Supp.2d at 718. 

III

The court considers first whether Gryphon has established a

substantial likelihood that it will prevail on the merits of its

breach of contract claim. 

A

Gryphon contends that Path 1’s transactions with Laurus

violate ¶ 10(iii) of the Certificate, as interpreted under Delaware

 

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law. It argues that ¶ 10(iii) requires Gryphon’s consent for Path

1 to issue any debt security or incur indebtedness, except as

allowed by carve-outs (A) through (C). Gryphon posits that carveouts (A) and (C) are facially inapplicable to the Laurus

transactions. Thus for the Laurus transactions to be permissible,

carve-out (B) must apply. 

Carve-out (B) provides that Path 1 may incur debt without the

consent of Gryphon “pursuant to a commercial borrowing, secured

lending or lease financing transaction approved by the Independent

Directors.” Ps. App. 73. Gryphon argues that carve-out (B) does

not apply to the Laurus transactions because the industry meaning

of “commercial” is a transaction with a traditional bank or

financial institution. In the Laurus transactions, Laurus gained

a secured lending position and acquired equity opportunities

through the conversion of its notes and exercise of its warrants.

Gryphon argues that this type of federally-regulated securities

transaction bears a greater resemblance to investment banking than

to commercial lending. Thus it posits that because Laurus is not

a bank, and because the transactions with Laurus were hybrid

debt/equity transactions that bear no resemblance to the typical

commercial debt transaction, the Laurus transactions do not fall

within the scope of carve-out (B). 

Gryphon next argues that Path 1’s interpretation of carve-out

(B)——that the term “commercial” modifies only “borrowing” and not

 

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“secured lending” and “lease financing transaction”——renders the

prohibition against borrowing meaningless and fails to give effect

to all provisions in the Certificate. It maintains that if

“commercial” does not modify “secured lending,” carve-out (B) would

authorize any secured lending transaction, permitting Path 1 to

incur any debt so long as it is “secured” by Path 1’s assets.

Gryphon reasons that it makes no sense for ¶ 10(iii) to prohibit

borrowing generally, but then to allow any borrowing that is

secured by Path 1’s assets. It posits that only the interpretation

that the word “commercial” modifies (1) borrowing, (2) secured

lending, and (3) lease financing is likely to prevail, because this

is the only construction that does not render meaningless the

general prohibition on non-consensual borrowing. And Gryphon

posits that its interpretation makes sense because it would

prohibit hybrid debt/equity transactions, like the ones Path 1

entered into with Laurus, that tend to be burdensome and costly to

the borrower and that present the potential for dilution of the

preferred shareholders’ holdings. Gryphon maintains that these

reasons caused it to include in the Certificate provisions that

protect it against Laurus-type transactions, while still allowing

less burdensome loans by traditional banks. 

Path 1 responds that the word “commercial” does not modify

“secured lending” or “lease financing transaction.” It reasons

that because the transactions with Laurus should be categorized as

 

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secured lending, there was no need to obtain Gryphon’s consent

under ¶ 10(iii)(B). Path 1 points to various emails and

conversations in which it made its position clear that it did not

need Gryphon’s consent to close the first Laurus transaction. It

maintains that Gryphon was aware that the contractual language was

ambiguous, because Gryphon modified language similar to that at

issue in ¶ 10(iii) when it entered into similar contracts with

other companies.

B

The court concludes that Gryphon has met its burden of

establishing a substantial likelihood of success on the merits of

its claim. 

“Under general principles of [Delaware] contract law, a

contract should be interpreted in such a way as to not render any

of its provisions illusory or meaningless.” Sonitrol Holding Co.

v. Marceau Investissements, 607 A.2d 1177, 1183 (Del. 1992) (citing

Seabreak Homeowners Ass’n, Inc. v. Gresser, 517 A.2d 263, 269 (Del.

Ch. 1986), aff’d 538 A.2d 1113 (Del. Supr. 1988)). Furthermore,

exceptions should not be construed so broadly that the rule is

swallowed by the exception. GTE Corp. v. Allendale Mut. Ins. Co.,

372 F.3d 598, 614 (3d Cir. 2004) (“the ‘exception to [the] . . .

exclusion cannot be construed so broadly that the rule (the

exclusion) is swallowed by the exception.’” (quoting Swire Pac.

Holdings, Inc. v. Zurich Ins. Co., 139 F.Supp.2d 1374, 1381 (S.D.

 

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Fla. 2001))). Path 1’s interpretation of ¶ 10(iii)(B)

significantly undermines, if it does not swallow up, the general

prohibition on borrowing found in ¶ 10(iii). Paragraph 10(iii)

broadly prohibits Path 1 from borrowing without shareholder

consent. Paragraph 10(iii)(B) contains three categories of

exceptions to the prohibition. If the word “commercial” in

¶ 10(iii)(B) is interpreted to modify only the term

“borrowing”——meaning that Path 1 did not need shareholder consent

to obtain a secured loan——the general prohibition on non-commercial

borrowing found in ¶ 10(iii) would be inapplicable to all secured

loans, not merely to non-commercial secured loans. While such a

restriction on borrowing would indirectly benefit non-commercial

lenders by forcing Path 1 to obtain secured financing if it wanted

to do so without shareholder approval, it would not conform to the

objectively discernible intent of ¶ 10(iii) of protecting

shareholders such as Gryphon from vetoing loans of a type (hybrid

debt/equity transactions) that could dilute their ownership

interest in Path 1. Allowing non-commercial secured lending would

largely swallow up the general prohibition against unapproved

borrowing.

When the term “commercial” in ¶ 10(iii)(B) is interpreted to

apply to a secured loan with, say, a traditional bank, the

exception on borrowing found in ¶ 10(iii)(B) does not effectively

swallow the prohibition found in ¶ 10(iii). It simply means that

 

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although borrowing without shareholder approval is generally

prohibited, certain types of borrowing, including secured loans

from a traditional bank that do not normally come with terms that

can dilute shareholder equity, do not need approval. 

Gryphon has met its burden of establishing a substantial

likelihood that it will succeed on the merits of its breach of

contract claim because its interpretation of ¶ 10(iii)(B) is

correct, and that Path 1 was obligated to obtain Gryphon’s consent

before consummating the transactions with Laurus. 

IV

The court must decide next whether Gryphon has established

that there is a substantial threat that it will suffer irreparable

injury if the injunction is not granted. 

Gryphon has demonstrated that Path 1 has defaulted on its

obligations to Laurus, and that its $3.1 million indebtedness to

Laurus is secured by substantially all of its assets. If the court

does not enjoin Path 1 from transferring its assets, Gryphon will

have no chance of collecting a judgment from Path 1, because Path

1 intends to convey all of its assets to Laurus in satisfaction of

its debt obligations. 

Gryphon has met its burden of establishing a substantial

threat that it will suffer irreparable injury if the injunction is

 

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4

Both parties cite Texas law in addressing the question of

substantial threat of irreparable injury. The court need not

decide at this time whether Delaware law——which is cited for

principles of contract interpretation——controls this question

instead of Texas law.

- 11 -

not granted.4 In Lometa Bancshares, Inc. v. Potts, 952 S.W.2d 631

(Tex. App. 1997, no pet.), a Texas court of appeals upheld an

injunction requiring the defendant to deposit into the court

registry the proceeds from a contested sale of company stock, so

that the funds would be available to satisfy the judgment if

plaintiffs were successful at trial. Id. at 632-33. The court

explained that the “adequacy of an available legal remedy must be

judged in the circumstances of the particular case,” and it stated

that “any legal remedy by way of a judgment for money damages is

properly viewed as inadequate on the ground that the funds may be

reduced pending final hearing and thus be unavailable in their

entirety for the purpose for which they were delivered to

[defendant] in the first place.” Id. at 633. The Texas Supreme

Court has noted that “circumstances can arise in which a temporary

injunction is appropriate to preserve the status quo pending an

award of damages at trial.” Walling v. Metcalfe, 863 S.W.2d 56, 58

(Tex. 1993) (per curiam). In Walling the court cited Roland

Machinery Co. v. Dresser Industries, Inc., 749 F.2d 380, 386 (7th

Cir. 1984), for examples of situations in which damages alone do

not provide an adequate remedy at law. Walling, 863 S.W.2d at 58.

 

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In Roland the Seventh Circuit stated that there can be an absence

of an adequate remedy at law when “[d]amages may be unobtainable

from the defendant because he may become insolvent before a final

judgment can be entered and collected.” Roland, 749 F.2d at 386.

The Lometa Bancshares court cited several cases to support the

premise that the circumstances of that case showed that “any legal

remedy by way of a judgment for money damages is properly viewed as

inadequate on the ground that the funds may be reduced pending

final hearing and thus be unavailable in their entirety for the

purpose for which they were delivered to [defendant] in the first

place.” Lometa Bancshares, 952 S.W.2d at 633; see Minexa Ariz.,

Inc. v. Staubach, 667 S.W.2d 563, 567-68 (Tex. App. 1984, no writ)

(upholding grant of preliminary injunction to prevent defendants

from improperly dissipating specific funds that would otherwise be

available to pay a judgment); Sonics Int’l, Inc. v. Dorchester

Enters., Inc., 593 S.W.2d 390, 393 (Tex. Civ. App. 1980, no writ)

(upholding grant of temporary injunction that would restrain

defendant from entering into contract that would obligate defendant

to pay out more than $50,000 in fees because of effect that payment

of fees was likely to have on financial stability of defendant);

Baucum v. Texam Oil Corp., 423 S.W.2d 434, 442 (Tex. Civ. App.

1967, writ ref’d n.r.e.) (upholding temporary injunction

restraining defendant from disposing of a number of different kinds

of assets and properties in order to maintain status quo, and

 

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explaining that “the mere fact that there exists a remedy at law is

not conclusive, but the remedy at law must be complete, practical

and efficient, and subject to prompt administration. This means,

of course, that equity will step in with its injunctive processes

where the remedy at law may not be sufficient or effective”).

In its response, Path 1 points to Lane v. Baker, 601 S.W.2d

143, 145 (Tex. Civ. App. 1980, no writ), arguing that Texas courts

have refused to uphold injunctions that prevent the sale of assets

when the injunction does not preserve the status quo of the subject

matter. In Lane the same court of appeals that later decided

Lometa Bancshares held that because the plaintiff’s cause of action

was independent of, and had no relation to, either defendant’s

assets (five as-yet-unsold condominium units), to enjoin the sale

of the assets would be analogous to a prejudgment attachment. Id.

at 145. In the instant case, unlike in Lane, the transaction

plaintiffs are seeking to enjoin is directly related to the

transaction that is the basis of the lawsuit. Gryphon alleges that

Path 1 breached the Certificate by incurring debt to Laurus, and

that the damages it has suffered arise from the priority that

Laurus now enjoys with regard to Path 1’s assets. The sale of

assets to Laurus and consummation of the Laurus-IPVN transaction

will relieve Path 1 of the debt it incurred through the putative

breach of its contract with Gryphon. Thus, unlike Lane, where

plaintiffs sought to enjoin the sale of unrelated assets, here, the

 

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proposed transaction with Laurus is intimately related to Gryphon’s

cause of action. 

Gryphon has met its burden of establishing that absent a

preliminary injunction, there is a substantial threat that it will

suffer irreparable injury. 

V

The court now examines whether Gryphon has shown that the

threatened injury to it outweighs the threatened harm the

injunction may do to Path 1. 

Gryphon argues that Path 1 will not be harmed at all by the

preliminary injunction. Path 1 has publicly declared that it is

going out of business, it is over two months late in filing its

Form 10-K, and its stock is barely trading on the Pink Sheets.

Gryphon thus argues that, because Path 1 has nothing left to

salvage, it cannot possibly be harmed by a preliminary injunction.

Path 1 responds that it will lose the benefit of a peaceful

possession with Laurus if the court grants the injunction. It

points out that Gryphon is seeking to enjoin not only Path 1, but

also a third party (Laurus) from obtaining any benefit from an

asset sale transaction, and that Gryphon is seeking to prevent

anyone except itself from obtaining a benefit. Path 1 maintains

that even if the injunction is granted, Laurus could still seize

Path 1’s assets by judicially foreclosing without Path 1’s

cooperation, but Path 1 would be denied the benefit of the

 

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negotiated peaceful possession and asset sale deal with Laurus,

including forgiveness of approximately $3.4 million in debt and a

release of approximately $1.5 million in unsecured liabilities.

Path 1 contends that if the preliminary injunction application is

denied and the IPVN deal is consummated, the Path 1 corporate shell

will retain value because of the possibility of selling the shell

to a third party who desires to go public via a reverse triangular

merger. Path 1 asserts that the value of a clean shell has been

estimated to be from $500,000 to $800,000 or an equity share in the

new assets, as long as the company continues to trade on the

Bulletin Board, and between $175,000 and $300,000 if the company

falls from the Bulletin Board to the Pink Sheets. Path 1 posits

that, either way, the value or proceeds of the shell will redound

to the shareholders, including Gryphon.

Gryphon has shown that the threatened injury to it outweighs

the threatened harm the injunction may do to Path 1. If the court

denies the preliminary injunction, it is a virtual certainty that

Gryphon will not be able to recover any of its damages. Although

denying the injunction will enable Path 1 to consummate the

transaction with Laurus and wipe out its indebtedness to Laurus,

Path 1 is likely to be liable to Gryphon for at least $1.5 million.

Even under Path 1’s most optimistic assessment of the value of Path

1 as a shell corporation, its liability to Gryphon would still

exceed its worth as a shell. 

 

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5

Path 1 asserted in opposition to Gryphon’s TRO application

that granting a TRO would disserve the public interest because it

would not prevent Laurus from foreclosing on Path 1’s assets, and

granting an injunction would allow Gryphon to create the rule that

an injunction can be obtained merely where a party cannot collect

a future, uncertain judgment. The court rejects these grounds to

the extent Path 1 intends that they apply to Gryphon’s preliminary

injunction application.

- 16 -

If the court grants the preliminary injunction, however,

Gryphon will have a chance of recovering from Path 1. While Path

1 will not be able to wipe out its debt to Laurus, it will be

insolvent even absent an injunction. In other words, Path 1’s

insolvent financial condition will exist under either scenario, but

if the court grants an injunction, Gryphon has a chance of

recovering on its claim. Gryphon has therefore shown that the

threatened injury to Gryphon of not granting a preliminary

injunction outweighs the threatened harm that the injunction may do

to Path 1. 

VI

Neither party argues that the preliminary injunction will

disserve the public interest,5 and the court finds that it will

not.

VII

Path 1 maintains that if the court grants a preliminary

injunction, it should increase the bond from the present amount

($50,000 at the time the TRO was entered) to $3.4 million. Path 1

argues that it faces potential harm that includes the loss of debt

 

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- 17 -

forgiveness of approximately $3.4 million and a release of

approximately $1.5 million in unsecured liabilities, as well as the

value of the Path 1 shell (without liabilities and lawsuit) of

between $500,000 and $800,000.

Fed. R. Civ. P. 65(c) provides that “[n]o . . . preliminary

injunction shall issue except upon the giving of security by the

applicant, in such sum as the court deems proper, for the payment

of such costs and damages as may be incurred or suffered by any

party who is found to have been wrongfully enjoined or restrained.”

“[T]he amount of security required pursuant to Rule 65(c) ‘is a

matter for the discretion of the trial court.” Kaepa, Inc. v.

Achilles Corp., 76 F.3d 624, 628 (5th Cir. 1996) (quoting Corrigan

Dispatch Co. v. Casa Guzman, 569 F.2d 300, 303 (5th Cir. 1978)). 

Because Path 1 would be insolvent under either scenario, the

court is not persuaded on the present record that the damages it

might incur or suffer if wrongfully enjoined are equal to $3.4

million. In other words, if it would be insolvent and unable to

respond in damages either way, the fact that it would be insolvent

to a lesser degree if allowed to consummate the Laurus-IPVN

transaction cannot be quantified as $3.4 million damages. The

party who apparently would be harmed by the preliminary injunction

is Laurus, who stands to recover some of its indebtedness and to

obtain an equity position in IPVN. But Laurus is not being

enjoined and is not entitled to security under Rule 65(c).

 

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The court will therefore leave in place the bond of $50,000

that Gryphon posted to obtain the TRO. If Path 1 can show that the

bond should be increased to some amount less than $3.4 million, it

may move separately for that relief. See Olan Mills, Inc. v.

Eckerd Drug of Tex., Inc., 1988 WL 161314, at *3 (N.D. Tex. Dec.

14, 1988) (Fitzwater, J.) (“Either party may move the court in

writing to increase or decrease the bond for good cause shown.”).

* * *

For the foregoing reasons, the court grants Gryphon’s

application for a preliminary injunction. A preliminary injunction

order is being filed today.

June 14, 2007.

_________________________________

SIDNEY A. FITZWATER

UNITED STATES DISTRICT JUDGE

 

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