Description

Ambase provides an uncorrelated, attractive risk/reward litigation stub investment.  Seven years after the company filed its initial lawsuit against the Developers of 111 West 57th Street in NYC, there is finally visibility on the timing of the expected summary judgment motions and, potentially, a trial to address undisputed material contract breaches by the Developers.  If Ambase is unable to prove certain key claims, however, this investment is likely worth $0.

Why invest in Ambase now?

1. The current market cap of Ambase is $6M ($0.15 per share) against a potential aggregate claim of $150M+ based on its contractual Equity Put Right (this amount is subject to reduction as shown below in Valuation section)

2. Even assuming dilutive litigation funding, heretofore undisputed breaches of contract and Developers’ seemingly unsupportable position as to the appropriate baseline budget for the Put Right calculation increase the probability of meaningful net recovery to ABCP shareholders.

3. Judge Joel M. Cohen recently indicated he wants document discovery completed by 12/31/23, which should lead to motions for summary judgment by Fall 2024 based on dueling proposed schedule orders from Ambase and the Developers.   A hearing is scheduled before Judge Cohen on 11/16/23 after which we expect he will order a tight schedule.

4. There has been a consistent seller over the past few quarters making an illiquid security somewhat more liquid.

5. CEO and 40% owner, Richard A. Bianco, has been funding legal expenses and operations in advance of an anticipated litigation funding agreement of some kind.  His advances are expected to roll into a litigation funding agreement if/when finalized.  He also purchased stock in the open market earlier this year.  Bianco’s previous litigation funding mechanism has a litigation recovery tail which is reflected in the valuation below.

Overview

A search of the commercial division dockets of the NY County court system shows multiple entries for Ambase’s former partner and now defendant, JDS Construction.  As a judge once quipped, JDS is a frequent user of the court system.  

We have reviewed many of the JDS Construction cases and we note some common themes.  What is unique about Ambase v. JDS, however, is Ambase’s Equity Put Right.  While Ambase likely regrets its decision to partner with JDS to construct 111 West 57th Street, negotiating the Equity Put Right may ultimately enable Ambase to generate a return on an investment that was otherwise lost to foreclosure due to undisputed budget overruns.

The Equity Put Right (“the Put Right”, as described in the Amended JV Agreement section 11.5), allows Ambase to “put” its interest in the project back to the Developers (via “Sponsor”) in exchange for price equivalent to a 20% internal rate of return on Ambase’s invested capital under certain budget conditions.  Ambase values the Put in court filings at $150M.

As Ambase’s filings in this litigation make clear, and as we detail below, the Developers withheld required budget updates and then, when updates were belatedly provided, Developers engaged in myriad budget gymnastics for which no innocent explanation has been offered.  These actions give every appearance of a deliberate effort to frustrate Ambase’s proper exercise of the Put Right.  Deprived of this right, negotiated expressly to permit Ambase to exit an over-budget situation, Ambase has suffered damages:  losing its entire investment to a foreclosure precipitated by undisputed budget overruns.   If the court agrees, Ambase should be entitled to the value of its exercised Put.  

Valuation

Here is our view of the value in Ambase today.  The probabilities we assign to various recoveries are shown below.  

In addition to the recovery probabilities, we estimate the cost of the expected litigation funding agreement.  For purposes of our valuation, we have assumed $10M of funding at a cost similar to that of Burford Capital (Thanks, Ares.  We added 400bps to 2021 pfd return rate), namely a 16% preferred return on the investment amount plus 20% of net proceeds.  Each additional $1M of litigation funding reduces the present value by roughly $0.01 per share in our model.

The Equity Put Right is valued at $150M according to certain Ambase filings which approximates a 20% compound annual return on Ambase’s roughly $70M investment in the project from 2013 thru 2017.

Ambase’s federal NOLs of $128M (@ 12/31/23) will likely cover gains in most scenarios.  In the grand slam case of pre-judgment interest, which for conservatism we estimate at 0% probability, the amounts in the first column above would likely have to be reduced by some amount for taxes. Ambase’s NOLs begin to expire in 2026.

Litigation Background

Ambase was the largest equity investor in a joint venture to develop a now-completed super-tall condominium building at 111 West 57th Street in Manhattan.  Given Ambase had no construction experience, the 2013 joint venture agreement gave operational control to its developer partners, JDS Development (Michael Stern) and Property Markets Group (Kevin Maloney), but Ambase retained certain Major Decision rights and the Put Right.

After the project belatedly secured construction funding from Apollo and AIG in June 2015, Ambase grew concerned about certain aspects of the project and initiated a lawsuit against the Developers in April 2016.  As part of the discovery related to this lawsuit, Ambase received a draft budget (dated August 2016) which indisputably triggered its Put Right because the “hard costs” in the August 2016 draft budget had grown by more than 10% from the “prior approved” budget.  Accordingly, Ambase amended its complaint to include claims related to the Equity Put Right.  

In a January 2018 decision on Developers’ Motion to Dismiss the Second Amended Complaint, Justice Bransten of the NY Supreme Court ruled that the Developers had not “proposed” the August 2016 budget to Ambase since Ambase obtained it via discovery, and therefore Ambase “cannot invoke the equity put right provision [of the amended JV Agreement].”  However, she did maintain Ambase’s claim that the Developers had “frustrated” Ambase’s exercise of the Put Right in violation of the covenant of good faith and fair dealing.

Following the Bransten decision, Ambase filed a Third Amended Complaint, adding RICO charges and the case was removed to Federal Court.  After more than one year and significant legal expense, the court dismissed the RICO claims and remanded the remaining claims to NY state court.  Ambase amended its complaint again, filing its Fourth Amended Complaint (“FAC”) on 7/29/21.  The Developers moved to dismiss certain claims in the FAC, and Judge Cohen, the third judge presiding over this action after the two earlier judges (Bransten and Sherwood) each retired, decided the motion on 5/10/22, dismissing certain claims and maintaining others.  The FAC, as adjusted for Cohen’s decision, is the operative complaint.  Ambase has appealed Judge Cohen’s decision to dismiss certain claims in the FAC and the Appellate Division, First Department, may decide the appeal before year end.

Discovery, which has been limited since 2017 due to Judge Cohen’s interpretation of Judge Sherwood’s “stay” and defendants’ delay tactics, is poised to restart soon on a tight timeline.   Judge Cohen indicated in a recent hearing that he wants document discovery completed by 12/31/23.  He also noted that he bears some responsibility for the slow pace of this case and he intends to speed it up.

The Strict Foreclosure

Ambase’s entire equity investment in the project was lost in a strict foreclosure in 2017 catalyzed by significant budget overruns, many of which Ambase asserts were Manager Overruns, as defined in the JVA.  The circumstances surrounding the foreclosure, including Ambase’s allegation that the Developers were bribed with a promise of carried over equity - there is an email from a JDS employee stating explicitly that the “Ambase equity is not being carried over” -  and development fees to not object to the Strict Foreclosure proposed by new Jr. Mezzanine investor, Spruce Capital (“Spruce”), is the subject of certain claims in the FAC as well as a separate lawsuit against Spruce (Index: 655031/2017, the “Lender” matter) which is also being litigated before Judge Cohen.

The focus of this write up is on the FAC, also referred to as the Sponsor matter, and claims against the Developers.  Success in the Lender matter would be in addition to the potential recoveries discussed in this writeup.

Ambase’s Claims versus Sponsor/Developers

In our view, the value of an investment in Ambase turns on the following claims in the FAC, none of which the Defendants moved to dismiss:

The FAC contains many allegations that, if proven, indicate that the Sponsor/Developers materially breached contractual obligations in the amended JVA and manipulated the budget to avoid triggering the Put Right.  

Below, we analyze certain allegations set forth in the FAC augmented with information from other lawsuits related to the 111 W57th project to demonstrate why we believe Ambase has a strong case that the Put Right was properly exercised, should be honored, and Stern and Maloney should indemnify “Investment and Ambase” pursuant to Section 8.7(b) of the Joint Venture Agreement due to material breaches of contract.  

Before we dive into the numbers, consider the following FAC allegations (with FAC paragraph number).  You can read Sponsor/Defendants’ Answer here:

1. Sponsor did not provide budget updates required by the JV agreement:

   1. FAC paragraph 196. “Indeed, even though the budget overruns necessitated a new project budget under Section 8.2(b) of the Joint Venture Agreement, at no point between June 2015 and December 2016 did Sponsor propose a Budget for Investment’s approval.

   2. “197. Even after the turn of the fiscal year, when Sponsor was contractually required to provide a budget revision or update under Section 8.2(b) of the Joint Venture Agreement, it failed to do so.”

2. During the period (2016) when Sponsor was required to provide budget updates to Ambase, it was providing them to Lenders only, without notifying Ambase.

   1. “192. In June 2016, without notifying Investment or obtaining its approval as required under Section 7.2 of the Joint Venture Agreement, Defendant Stern proposed a revised budget to the lenders. [APOLLO0000185]”

3. All of the budgets provided exclusively to the Lenders in 2016 (prior to December 2016) triggered the Put Right.  (Note that one of these was likely the budget Ambase obtained via discovery which formed the basis for its Second Amended Complaint Put Right claim dismissed by Judge Bransten.  In moving to dismiss this claim at the time, Developers never disputed that the budget received in discovery was accurate or that it triggered the Put Right.  Rather, they argued it was not “proposed” and Bransten agreed.)

   1. “200. Most importantly, every budget Defendants proposed to the lenders after disclosing the budget overruns and before December 2016 would have triggered Plaintiffs’ Equity Put Right. [APOLLO0000186, APOLLO0000235, APOLLO0000214, APOLLO0000216]”

   2. “201. Upon information and belief, Sponsor avoided producing a budget in order to deprive Investment of its rights under Section 11.5 [Equity Put Right] of the Joint Venture Agreement. Had Sponsor provided a proposed budget in a timely manner pursuant to the Joint Venture Agreement, Investment would have exercised its Equity Put Right in light of the harm to the Project caused by Defendants’ actions.

4. When Sponsor finally proposed a budget to Ambase (the December 2016 Proposed Budget), Ambase alleges it had been manipulated to avoid triggering the Put Right:

   1. “210. Properly calculated, the December Proposed Budget included hard costs in excess of 110% of the hard costs reflected in the “prior approved budget,” Joint Venture Agreement § 11.5, which was the budget approved in connection with the Construction Loan in June 2015.

   2. “211. Sponsor, however, represented that hard costs had increased by only 9.54%. Sponsor could make this false representation only by manipulating the budget and once again misrepresenting the costs of completing construction.”

   3. “217. Hard costs in the December Proposed Budget are also lower than in any of the other budgets submitted during 2016 for the lenders’ review. [APOLLO0000186, APOLLO0000235, APOLLO0000214, APOLLO0000216]

Analysis of December 2016 Proposed Budget 

Disputed Construction Contingency Amount

Key document links:

• Link to Sponsor’s December 2016 Proposed Budget 

  • (As filed in related case: 653251/2018 AmBase Corporation et al - v. - ACREFI Mortgage Lending, LLC et al)

• Link to “Construction Budget” in June 2015 Building Loan Agreement 

  • (As filed in related case: 655031/2017 111 West 57th Investment LLC, on behalf of itself and derivatively on behalf of 111 West 57th Partners LLC and 111 West 57th Mezz 1 LLC v. 111 W57 Mezz Investor LLC et al)

The FAC sets forth many line items in the December 2016 and June 2015 budgets that Ambase disputes (see comparison below).  It is hard to assess each of Ambase’s claims based solely on the publicly filed documents, but a fundamental analysis can be done based on public documents in the Sponsor matter and certain related lawsuits.

Let’s first analyze Paragraph 212 in the FAC (my emphasis):

“First, despite repeatedly representing to Plaintiffs that a lower, reallocated budget finalized at the closing of the Construction Loan was the operative budget for the Project, Sponsor represented in the December Proposed Budget document that an earlier, draft budget was the “Last Approved Budget.” Had the accurate “prior approved budget” been used as the baseline, the hard cost increases in the December Proposed Budget would have triggered Investment’s Equity Put Right, even accepting all of Sponsor’s other manipulations.”

As shown in red, Ambase alleges Sponsor uses an improper baseline budget against which to calculate the percentage increase in “hard costs” from budget to budget.  Recall that a 10% or greater increase in hard costs triggers Ambase’s put right.  In proposing the December 2016 Budget, Sponsor is claiming a 9.54% increase in hard costs, budget to budget (per FAC paragraph 211).

We know the hard costs proposed in Developers’ December 2016 Proposed Budget, so what does the purported 9.54% increase tell us about the allegedly improper baseline budget Sponsor is using?

The budget in the June 2015 Building Loan Agreement is as follows:

Based on the above, and taking the Construction Contingency line item as shown - despite the important note that it is “subject to change at closing” - we get the following:

This percentage change ties with Ambase’s allegation in FAC paragraph 211, thus, it appears that Sponsor is asserting the Construction Contingency line item in the Building Loan Agreement was not changed at closing.  Is this true?

We think not.  

Apollo Confirms Ambase’s Numbers

In a document from a related, dismissed lawsuit (Index: 653251/2018; AmBase Corporation et al - v. - ACREFI Mortgage Lending, LLC et al), Apollo confirms the operative Construction Contingency agreed to at the June 2015 closing.  This excerpt is from Doc #14 in that matter, Apollo’s 1/25/17 Borrower’s Shortfall Contribution Demand Notice sent to Sponsor: 

As shown above, Apollo sets forth its view of the appropriate Construction Contingency value as of 6/30/15, the date the construction loans closed: it is $28,219,120, not $33,887,860 as shown in the loan document.  It is worth noting that Apollo puts the $28.2M value under a column with the header, “Borrower.”  This confirms, in our view, that Apollo is stating that “Borrower” (read: Developers/Sponsor) also agreed to the $28.2M amount at closing.  When Apollo wants to present its view, it does so under the column header “Lender/IVI.”

Plugging in the “Borrower” June 2015 Construction Contingency value triggers the Put Right:

Apollo confirms this math in a footnote on page 15 of its Defendants’ Memorandum of Law in Support of Motion to Dismiss Complaint.  As shown below, Apollo refers to the “prior approved” June 2015 budget;  this is Ambase’s language from FAC para. 212, while Sponsor apparently refers to the “Last Approved Budget”.  Most significantly, Apollo confirms the December 2016 Proposed Budget triggers the Put Right (the green underlined clause, my emphasis).

According to other documents in that lawsuit, Sponsor objected to Apollo’s 1/25/17 notice for dubious reasons and Apollo re-issued its shortfall notice on 2/1/17, using a different format that was silent as to the June 2015 Construction Contingency amount.  Ambase noted how strange this re-issue was and we struggle to find an explanation for it other than Apollo trying to mask its view of the agreed to June 2015 Construction Contingency amount, at Sponsor’s request.  More detail can be found on the Index: 653251/2018 docket.

Given Apollo and Ambase’s concurrence on the value of the Construction Contingency agreed by the parties in June 2015, Defendants will have to argue that the largest equity investor and largest lender to the project are mistaken about the budget agreed to at closing.  If the court agrees with Apollo and Ambase, then the Developers’ December 2016 Proposed Budget triggered the Put Right even before considering the many other manipulations and understatements that Ambase cites in the FAC, several of which we address below.

Other Budget Line Items versus Advance Request Amounts

In mid-2020, Ambase filed a Proposed Fourth Amended Complaint (the “PFAC”).  While this filing was superseded by the somewhat skinnied-down Fourth Amended Complaint (the FAC we have been referring to), the PFAC included additional detail to help assess the budget manipulations Ambase alleges in the FAC. 

In particular, the PFAC included references to certain Advance Requests, which apparently are monthly(?) certified requests from the Developers to project lender Apollo for funding under the loan agreements.  

The following allegations from the PFAC are notable in the context of the Construction Contingency discussion (above) and other hard cost line items.  Emphasis added.

• “Four days prior to sending the December [2016] Proposed Budget [Construction Contingency Amount: $8M], Stern and Maloney certified to Apollo in the December 5, 2016 Advance Request that the construction contingency amount was $12,059.943. Less than a month after sending the December Proposed Budget, Stern and Maloney certified to Apollo in the January 5, 2017 Advance Request that the construction contingency amount was $11,154,458. (PFAC paragraph 344 (a))”

• “Structural Damper: The amount budgeted for this hard cost line item dropped to $3 million in the December [2016] Proposed Budget from $4.5 million in the June 2015 Budget. There was a corresponding increase in the associated soft cost line item, "Structural/Wind Engineer." Upon information and belief, Defendants simply reallocated costs from the hard cost line item to the soft cost line item in order to create an illusion of a savings on hard costs. Four days earlier Stern and Maloney had certified to Apollo in the December 5, 2016 Advance Request that the Revised Schedule Value budget for Structural Dampers was $4.5 million. On January 5, 2017, less than a month after submitting the December Proposed Budget, they again certified to Apollo that the Structural Damper budget was $4.5 million in their Advance Request and continued to do so on each of the Advance Requests they certified through July 2017. (PFAC paragraph 344 (c)).”

• Temp Protection: The amount budgeted for this hard cost line item dropped to $3 million from $3.25 million despite the fact that, upon information and belief, the Joint Venture incurred at least $1 million in additional overhead protection costs in the interim due to a settlement with a neighboring condominium building. Defendants hid these hard cost overruns by accounting for them in the soft cost "Legal and Accounting" line item. Four days earlier Stern and Maloney had certified to Apollo in the December 5, 2016 Advance Request that the Revised Schedule Value budget for Temp Protection was $3.25 million. On January 5, 2017, less than a month after submitting the December Proposed Budget, they again certified to Apollo that the Temp Protection budget was $3.25 million in their Advance Request and continued to do so on each of the Advance Requests they certified through July 2017. (PFAC paragraph 344 (d)).”

The discrepancy between the amounts in the December 2016 Proposed Budget and those in the Advance requests that bookend the Proposed Budget by only days is significant.  Recall that the Developers’ December 2016 Proposed Budget is just $1.36M short of triggering the Put Right using the Defendants’ improper baseline, June 2015, construction contingency number:

The delta between the December 2016 Proposed Budget and the Advance Request budget line item amounts set forth above are as follows:

Parkside Construction Budget Amounts and Change Order

Documents from another matter being litigated in NY courts shed light on additional unusual budget activity on this project. 

Due to extensive issues with the project’s now-defunct concrete subcontractor, Parkside Construction, the Developers filed suit against Parkside and its surety in 2018 - Index: 655477/2018; JDS DEVELOPMENT LLC d/b/a JDS DEVELOPMENT GROUP et al - v. - PARKSIDE CONSTRUCTION BUILDERS CORP. et al.

Of note in this lawsuit as it relates to Ambase’s litigation are the following Concrete line item budget items

• An affidavit (Doc: 554) from the President of Parkside, Francesco Pugliese, asserts that in October 2017, just weeks after Ambase lost its equity in the building due to the Strict Foreclosure, JDS Construction/Michael Stern provided Parkside with a written change order for a contract adjustment that had the effect of retroactively increasing the budget for work Parkside had already completed.  The overall change order amount was $19.3M on an original contract amount of roughly $40M

• While this new amount of $59M was, on its face, consistent with the December 2016 Proposed Budget concrete line item amount, Pugliese also referred to an additional $991K of “prior” change orders.  We know from above that using the Defendants own numbers, there was only $1.36M of space in the December 2016 Proposed budget before the Put Right was triggered.  If we add the $991K of “prior” concrete change orders, the budget space before trigger falls to roughly $366K.

• According to the Developers’ answer, the huge change order was not signed and was therefore not valid, even though they did not dispute that they paid against the revised schedule of values.   

• In another deposition in this matter a further increase in the cost of concrete was mentioned thereby calling into question whether the December 2016 value of $59M still understated the expected/actual concrete costs.

Sales Center Lease

Yet another litigation informs our view of budgeting in this project.  In the matter of 693 FIFTH OWNER LLC v. 111 WEST 57TH PARTNERS LLC et al (Index : 155493/2020), the owners of the building the Developers leased for the project’s sales center sued the Developers for unpaid rent and the cost to undo modifications to the leased space.

Of note in this litigation as it relates to Ambase’s claims is the disclosure that the Developers signed a lease for the space in January 2015.  In April 2015, the Developers issued a capital call to investors in the project, including Ambase, and one of the budget line items against which the Developers were calling capital was the Sales Center/Mock-ups line item.  In the capital call, the budgeted amount for the Sales Center/mock-ups line item was $3M despite the fact that the sales center lease signed just three months before had an aggregate obligation of at least $4.4M.  In other words, the budget presented in the capital call understated the necessary amount by at least $1.4M.  

Clearly this line item per se is not a huge amount, but we call it out to demonstrate yet another issue with the budgeting for this entire project, and in particular, Developers willingness to operate the project outside of budgets that are clearly no longer accurate despite a contractual obligation to seek Ambase’s approval for budget changes.

June 2015 Budget (in Loan Agreement) vs. Dec. 2016 Proposed Budget

For context, here is a comparison of the June 2015 Budget shown in the Loan Agreement, i.e. before the apparent closing adjustment to the Construction Contingency, and the Developers’ December 2016 Proposed Budget:

Other Notes

• Discovery is not complete, so Ambase may develop additional evidence to support its claims.

• Apollo (Ticker: ARI) refinanced the Senior loan in the project which was originally held by AIG.  In addition, Apollo recently wrote down its most junior debt tranche - see ARI’s public filings. A 10/26/23 press report indicates that M&T Bank recently provided a $30M “substitute mortgage loan” to the project.

• We estimate that 25 of the 60 units in the building have sold, i.e. closed, based on media reports and ARI earnings calls.  There may be additional units under contract at this time.

• Ambase is appealing Judge Cohen’s dismissal of veil piercing and fraud claims in the FAC.  We think there is a (small?) chance the First Department will reverse Cohen on the fraud claims as we believe Ambase’s claims with respect to Defendants’ misrepresentations of on-the-ground facts extrinsic to the parties’ agreement—namely facts about actual expenses, current construction cost projections, and that the project was being operated in accordance with the last approved budget—represent fraud.  See FAC paragraphs 332-345.

• Ambase has told the court that they may seek pre-judgment attachment to keep certain condo sales proceeds in the company to help pay a potential judgment in Ambase’s favor.  Motions to this effect have not yet been made, but Ambase is acutely aware of the risk of condo sales proceeds being distributed before a decision by the court on the Put Right and other claims.

Risks

• If Ambase is unable to prove certain key claims, this investment is likely worth $0.

• The expected Litigation Funding arrangement is either not found, or is significantly more expensive than modeled above.

• The counterparty for the Equity Put Right is “Sponsor” as defined.  It will be important to get the court to enforce the contractual indemnification provision of the JVA (Section 8.7(b)).  As set forth above, we believe there have been “material breaches”.

• Continued slow sales at the property will impact Stern and Maloney’s net worth.  However, the contractual value of the Put Right is not a function of the building’s economic success or failure.

• Even with a positive judgment for Ambase from the lower court, there will likely be appeals which risk reversal and will extend the timeline for payment.

• The stock is illiquid

Catalyst

• Case management order expected soon, with (relatively) short timeline to complete discovery and get to motions for summary judgment.