SCIENCE / TECHNOLOGY : Gradco Systems Inc. Explains Deal That Provoked Legal Fight

Gradco Systems Inc., an Irvine maker of office equipment products, has offered its explanation of a controversial financial transaction that has provoked a legal fight and proxy battle with its biggest shareholder, Plenum Publishing Corp. in New York.

The transaction involves the Gradco board’s decision to give Chairman Keith B. Stewart and top company executives warrants to buy stock in the company’s Japanese subsidiary at a below-market price. In a lawsuit filed in Orange County Superior Court, Plenum alleges that the warrant issuance could net Gradco executives a windfall of more than $12 million.

But Stewart defended the transaction in a letter sent to shareholders last week. He said the investment by Gradco management in the Japanese subsidiary was vital in securing $26.5 million in funding from a group of Japanese investors led by Japan Associated Finance Co. Ltd.

Shinichi Fuki, a Jafco officer, confirmed that his company recommended that Gradco management invest in Gradco Japan. But he added that Jafco made no recommendations about the issuance of warrants or the price that Gradco management should pay for its stock in Gradco Japan.

Stewart said management’s price of $1.77 a share, which contrasts with the Jafco price of $6.51 a share, was considered fair because the resale of management’s shares is severely restricted. The stock could not be resold until after Gradco Japan’s expected public offering.

But Plenum officials and some investors scoff at that explanation. They point out that the warrants were optional and there was no requirement in the investment contract that indicated Jafco would withdraw its investment if Gradco management did not exercise the warrants.

Fuki confirmed that Jafco did not require Gradco management to purchase the warrants. But he said Jafco would have been unlikely to invest in the Irvine company without some participation by Gradco management.

The Gradco Japan board, which is controlled by Stewart, has the authority to change the restrictions on the resale of shares at any time. By doing this, Plenum and other critics contend, the board could make the warrants as valuable as the shares purchased by Jafco.

The company said the Japanese investment was critical because the company “desperately needed capital” at the time. Plenum officials note that, in making that admission, Gradco opened itself up to more criticism because it had never disclosed to shareholders that it was in a liquidity crisis before.