Note 8. Commitments and Contingencies

Settlement of Consolidated Securities Class Action

As previously disclosed, on April 29, 2020, a securities class action case was filed in the United States District Court for the Southern District of New York against us and our former CEO. The action is captioned Daniel Yannes, individually and on behalf of all others similarly situated vs. SCWorx Corp. and Marc S. Schessel,. Subsequently, two additional class actions were filed in the same court (Leeburn v. SCWorx, et ano. and Leonard v. SCWorx et ano.) and thereafter, the three class actions were consolidated (the “Consolidated Class Action”). The Consolidated Class Action alleged that our company and our former CEO misled investors in connection with our April 13, 2020 press release with respect to the sale of COVID-19 rapid test kits.

As previously disclosed, on February 11, 2022, the parties entered into a Stipulation of Settlement (subject to Court approval) to settle the Consolidated Class Action. The settlement resolves all claims asserted against SCWorx and the other named defendant without any admission, concession or finding of any fault, liability or wrongdoing by the Company or any defendant. Under the terms of this agreement, (i) the insurers for the Company and Marc Schessel (former CEO) will make a cash payment to the class plaintiffs (ii) the former CEO will transfer 100,000 shares of company common stock to the class plaintiffs, and (iii) the Company will issue $600,000 worth of common stock to the class plaintiffs, in exchange for which all parties will be released from all claims related to the securities class action litigation. After giving effect to the share issuance by the Company, the Company believes that it will have satisfied the accrued retention liability of $700,000.

Settlement of Consolidated Derivative Action

As previously disclosed, on June 15, 2020, a shareholder derivative claim was filed in the United States District Court for the Southern District of New York against Steven Wallitt (current director), and Marc S. Schessel, Robert Christie and Charles Miller (former directors) (“Director Defendants”). The action is captioned Lozano, derivatively on behalf of SCWorx Corp. v. Marc S. Schessel, Charles K. Miller, Steven Wallitt, Defendants, and SCWorx Corp., Nominal Defendant. The Lozano lawsuit was consolidated with another shareholder derivative lawsuit, Richter, v. Marc S. Schessel, Charles K. Miller, Steven Wallitt, Defendants, and SCWorx Corp., Nominal Defendant. (the “Consolidated Derivative Action”).

The Consolidated Derivative Action alleged that the Director Defendants breached their fiduciary duties to the Company, including by misleading investors in connection with our April 13, 2020 press release with respect to the sale of COVID-19 rapid test kits, failing to correct false and misleading statements and failing to implement proper disclosure and internal controls.

In addition, on October 29, 2020, Hemrita Zarins filed a shareholder derivative action in the Chancery Court in the State of Delaware against Steven Wallitt (current director) and Marc S. Schessel and Charles Miller (former directors). The action is captioned Hemrita Zarins, v. Marc S. Schessel, Robert Christie, Steven Wallitt and SCWorx, Nominal Defendant. The Zarins action contains substantially similar allegations as in the Consolidated Derivative Action.

On February 15, 2022, the Company and the Director Defendants (Marc Schessel, Steven Wallitt, Charles Miller and Robert Christie) entered into a stipulation of settlement (subject to Court approval) with the shareholder derivative plaintiffs to settle the Consolidated Derivative Action as well as the Zarins action. Under the terms of the settlement, (i) the insurers for the Director Defendants will make a cash payment to legal counsel for the shareholder derivative Plaintiffs to cover their legal fees and (ii) the Company will adopt certain corporate governance reforms within 60 days of court approval of the settlement, in exchange for which all parties will be released from all claims related to the derivative class action litigation. The settlement resolves all claims asserted against the defendants without any admission, concession or finding of any fault, liability or wrongdoing by the Company or any defendant.

Other Investigations

In addition, as previously disclosed, following the April 13, 2020 press release and related disclosures (related to COVID-19 rapid test kits), the Securities and Exchange Commission made an inquiry regarding the disclosures we made in relation to the transaction involving COVID-19 test kits. The Company is continuing to cooperate with the SEC regarding its investigation arising out of the April 13, 2020 press release and the events thereafter.  The Company received a Wells notice on December 8, 2021 and an amended Wells notice on December 10, 2021. The Wells Notice states that the staff of the Securities and Exchange Commission has made a preliminary determination to recommend that the Commission file an enforcement action against the Company which would allege violations of Sections 17(a)(1), 17(a)(2), and 17(a)(3) of the Securities Act of 1933 (the “Securities Act”), Section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”), and Rules 10b-5(a), 10b-5(b), and 10b-5(c) thereunder. The Wells Notice also indicates that the staff would seek fines and disgorgement, including pre and post judgment interest in such enforcement proceeding. The Company did not make a Wells submission to the Commission in response to the Wells Notice. The Company has since been actively engaged in discussions with the Staff to settle the claims set forth in the Wells Notice. 

In April 2020, we received related inquiries from The Nasdaq Stock Market and the Financial Industry Regulatory Authority (FINRA). We cooperated fully with these agencies, providing information and documents, as requested. We have not had any requests from these agencies since January 2021.

Also in April 2020, as previously disclosed, we were contacted by the U.S. Attorney’s Office for the District of New Jersey, which was seeking information and documents from our officers and directors relating primarily to the April 13, 2020 press release concerning COVID-19 rapid test kits. We have cooperated fully with the U.S. Attorney’s Office in its investigation. 

In connection with these actions and investigations, the Company is obligated to indemnify its officers and directors for costs incurred in defending against these claims and investigations. Because the Company currently does not have the resources to pay for these costs, its directors and officers liability insurance carrier has agreed to indemnify these persons. Upon consummation of the settlement of the Consolidated Class Action, the Company believes it will have satisfied its accrued retention obligations with respect to the insurance coverage.

David Klarman v. SCWorx Corp. f/k/a Alliance MMA, Inc., Index No. 619536/2019 (N.Y. State Sup. Ct., Suffolk County)

On October 3, 2019, David Klarman, a former employee of Alliance, served a complaint against SCWorx seeking $400,000.00 for a breach of his employment agreement with Alliance. Klarman claims that Alliance ceased paying him his salary in March 2018 as well as other alleged contractual benefits. This action was settled on or about December 16, 2021 by the parties without any admission of liability or wrongdoing. In exchange for a release, the Company agreed to settle with Mr. Klarman with $100,000 of SCWorx shares calculated over a period of 4 months pursuant to an agreed upon schedule with respect to amounts, dates and a restriction on sales of SCWorx stock to no more than 4,000 shares per trading day. To date, all shares have been issued pursuant to this agreement.