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Securities and Exchange Commission v. Kingdom Legacy General Partner, LLC

United States District Court, M.D. Florida, Fort Myers Division

January 31, 2017


          OPINION AND ORDER [1]


         This matter comes before the Court on review of Defendants, Kingdom Legacy General Partners, LLC (“KLGP”) and Mark C. Northrup's Motion to Dismiss (Doc. #16) filed on August 5, 2016. Plaintiff, Securities and Exchange Commission (“SEC”) responded in opposition on August 29, 2016. The matter is ripe for review.


         This case involves allegations of widespread securities fraud. The SEC is the federal agency responsible for enforcing federal securities laws. The SEC alleges that Northrup is a licensed CPA, the owner and CEO of Kingdom Legacy Fund, LLC (“KLF”), and the controlling alter-ego of KLGP. (Doc. #1 at 3-4). KLGP is a fund management entity that controls the selection and overall allocation of KLF's assets. (Doc. #1 at 3). KLF is a hedge fund with a portfolio of different investment funds. (Doc. #1 at 1-5). According to the Complaint, from December 2010 to September 2015, the Defendants raised at least $10, 000, 000.00 from at least 40 investors for the KLF fund. (Doc. #1 at 1). Through KLF, Defendants allegedly siphoned at least $3, 000, 000.00 in undisclosed fees from investors. (Doc. #1 at 1).

         Specifically, the Complaint alleges that through various avenues including the internet, through the mail, and in person at church gatherings, Defendants employed a number of misstatements and omissions to entice individuals into investing in KLF. (Doc. #1 at 5-9). Through its website, KLF made false representations regarding the profitability of the fund and the extent of involvement by Northrup's family. It stated that “[m]ost people invested in the stock market need the market to go up for them to make money. With us . . . Bull or Bear . . Who Cares? It doesn't matter the direction of the stock market . . . or what the economy does.” (Doc. #1 at 5). It further stated that “[o]ur fund is one big pool of money. If the fund makes 2% for the month, we all make 2% for the month. If the fund loses 1% for the month, we all lose 1% for the month.” (Doc. #1 at 7). Finally, the website stated that “[Northrup's] family is the largest investor in the fund, which means nobody is going to watch your money any closer than we do.” (Doc. #1 at 9) (capitalization omitted). The Complaint alleges these representations are false, that Defendants profited when the fund lost money, and that the Northrup family was never the largest investor in KLF. (Doc. #1 at 7, 9).

         Moreover, a brochure that KLF distributed stated that each of KLF's principles and employees had personal investments in the fund, and that they “only ma[d]e money when [the investors] ma[d]e money.” (Doc. #1 at 7). The Complaint alleges this statement is false, as there were occasions where investors lost money and Defendants still managed to profit for themselves. (Doc. #1 at 7).

         Usually at the time of investment, either in person or by mail, the investors were also provided with a Private Placement Memorandum (“PPM”). (Doc. #1 at 5). The PPM detailed the investment the individuals had undertaken, and the types of KLF share classes, including KLF Conservative Series A (“KLF Conservative”) and KLF Aggressive Series B (“KLF Aggressive”).[2] (Doc. #1 at 5). The PPM also claimed that investors in KLF shares received advantages over others, such as diversification, experienced management, investor limited liability and administrative convenience. (Doc. #1 at 6). The PPM continued by claiming that the trade size and volume of trading “may enable [KLF] to obtain lower commission rates than would otherwise be available to smaller portfolios invested independently in the strategies applied by [KLF].” (Doc. #1 at 6). Importantly, the Complaint alleges that the PPM also contained misrepresentations and omissions on administrative fees. (Doc. #1 at 6). The PPM explicitly stated that investments in KLF funds were only subject to a 2% annual asset management fee on any profits made. (Doc. #1 at 6). The Complaint alleges this representation was false, and in actuality, Defendants charged investors 40% or 50% in administrative fees on monthly trading profits. (Doc. #1 at 6-7).

         Finally, the Complaint alleges that a letter was received by at least one investor claiming that Northrup was a “mathematical guru” and that he had “increased each investor's account by double digit returns every year since he started managing hedge funds in 2000.” (Doc. #1 at 8). These promotions failed, however, to mention Northrop was forced to dissolve a previous hedge fund in 2008 because of tremendous losses, and that in 2009, Northrop and his previous hedge fund management company were sued under the Kansas Uniform Securities Act and a default judgment was entered against them. (Doc. #1 at 8).

         Because of all of the above and with knowledge of an ongoing SEC investigation, the Complaint alleges that Northrop sent letters to all KLF investors in September 2015. (Doc. #1 at 9). These letters urged all KLF investors to sign an enclosed addendum “to try and eliminate any confusion any of our investors may have” concerning KLF's fee structure, and that he “should have made clear these returns to you, the investor, are after all fees.” (Doc. #1 at 9) (capitalization omitted). With that, the addendum also disclosed the 50% fees for KLF Conservative and 40% fees for KLF Aggressive. (Doc. #1 at 9-10).


         A. RULE 12(b)(6)

         Under Federal Rule of Civil Procedure 12(b)(6), a court may dismiss a Complaint for failure to state a claim upon which relief can be granted. In deciding a Rule 12(b)(6) motion to dismiss, the Court limits its consideration to well-pleaded factual allegations, documents central to, or referenced in, the complaint, and matters judicially noticed. La Grasta v. First Union Sec., Inc., 358 F.3d 840, 845 (11th Cir. 2004). The Court must accept all factual allegations in a plaintiff's complaint as true and take them in the light most favorable to the plaintiff. Pielage v. McConnell, 516 F.3d 1282, 1284 (11th Cir. 2008). Conclusory allegations, however, are not entitled to a presumption of truth. Ashcroft v. Iqbal, 556 U.S. 662 (2009); Marsh v. Butler County, Ala., 268 F.3d 1014, 1036 n. 16 (11th Cir. 2001).

         The Court employs the Twombly-Iqbal plausibility standard when reviewing a complaint subject to a motion to dismiss. Randall v. Scott, 610 F.3d 701, 708 n.2 (11th Cir. 2010). A claim is plausible if the plaintiff alleges facts that “allow[ ] the court to draw the reasonable inference that the defendant is liable for the misconduct alleged.” Iqbal, 556 U.S. at 678. The plausibility standard requires that a plaintiff allege sufficient facts “to raise a reasonable expectation that discovery will reveal evidence” that supports the plaintiff's claim. Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 556 (2007); Marsh, 268 F.3d at 1036 n.16. Thus, “the-defendant-unlawfully harmed me accusation” is insufficient. Iqbal, 556 U.S. at 677. “Nor does a complaint suffice if it tenders naked assertions devoid of further factual enhancement.” Id. (internal modifications omitted). Further, courts are not “bound to accept as true a legal conclusion couched as a factual allegation.” Papasan v. Allain, 478 U.S. 265, 286 (1986).

         B. RULE 12(b)(1)

         Under Federal Rule of Civil Procedure 12(b)(1), a district court may dismiss a case if subject matter jurisdiction is not present. Fed. R. Civ. P. 12(b)(1). Motions to dismiss for lack of subject matter jurisdiction attack jurisdiction facially and/or factually. See Carmichael v. Kellogg, Brown & Root Servs., Inc., 572 F.3d 1271, 1279 (11th Cir.2009); Morrison v. Amway Corp., 323 F.3d 920, 925 n. 5 (11th Cir.2003). Where, as here, a defendant raises a factual attack on subject matter jurisdiction, irrespective of the sufficiency of the pleadings, the district court may look outside the four corners of the complaint to determine if jurisdiction exists. See Eaton v. Dorchester Dev., Inc., 692 F.2d 727, 732 (11th Cir.1982); Garcia v. Copenhaver, Bell & Assocs., M.D.'s, P.A., 104 F.3d 1256, 1261 (11th Cir. 1997). In factual attacks, the presumption of truthfulness afforded to a plaintiff under Rule 12(b)(6) does not attach. See Scarfo v. Ginsberg, 175 F.3d 957, 960 (11th Cir.1999) (citing Lawrence v. Dunbar, 919 F.2d 1525, 1529 (11th Cir.1990)). Since the Court's power to hear the case is at issue in a Rule 12(b)(1) motion, courts are free to weigh evidence outside the complaint (e.g., affidavits, declarations, and deposition testimony). See Carmichael, 572 F.3d at 1279; Eaton, 692 F.2d at 732.


         Defendants' Motion to Dismiss is multifaceted. First, they argue that the Complaint should be dismissed because it does not meet the particularity threshold of Rule 9(b). Second, Defendants present evidence and an alternative theory they claim undermines the Complaint's securities fraud allegations. Third, Defendants argue that the Complaint fails to sufficiently support the statutory elements of securities fraud in Counts II, III, IV, V, VI, VII, VIII, IX, X and XI. Fourth, Defendants argue the relief sought in the Complaint is prohibited. Fifth, they argue that the Court lacks subject matter jurisdiction over the claims in the Complaint because they do not involve interstate commerce. Last, Defendants argue that some of the actions contemplated by the Complaint are time-barred. The Court will address each argument below.


         Defendants first aver the Complaint should be dismissed because it does not meet the pleading threshold imposed on fraud claims by the Federal Rules of Civil Procedure. Securities fraud allegations are subject to the heightened pleading standards of Federal Rule of Civil Procedure 9(b), which requires that a party “state with particularity the circumstances constituting fraud.” Normally, Rule 9(b) is satisfied where the complaint details:

(1) precisely what statements were made in what documents or oral representations or what omissions were made, and
(2) the time and place of each such statement and the person responsible for making (or, in the case of omissions, not making) same, and
(3) the content of such statements and the manner in which they misled the plaintiff, and
(4) what the defendants obtained as a consequence of the fraud.

         Brooks v. Blue Cross & Blue Shield of Florida, Inc., 116 F.3d 1364, 1371 (11th Cir. 1997) (internal quotations omitted). But, while details must be alleged with particularity, allegations related to mindset are subject to a lower standard. In that regard, the Rule allows that “[m]alice, intent, knowledge, and other conditions of a person's mind may be alleged generally.” Id.

         Rule 9(b) “serves an important purpose in fraud actions by alerting defendants to the precise misconduct with which they are charged and protecting defendants against spurious charges of immoral and fraudulent behavior.” Id. at 1370-71 (internal quotations omitted). However, while the Rule imposes a heightened pleading standard, the Eleventh Circuit has cautioned that “Rule 9(b) must not be read to abrogate [R]ule 8 . . . and a court considering a motion to dismiss for failure to plead fraud with particularity should always be careful to harmonize the directives of [R]ule 9(b) with the broader policy of notice pleading.” Friedlander v. Nims, 755 F.2d 810, 813 (11th Cir. 1985). In furtherance of this objective, requisite particularity has been found in a pleading that did not deal in exact specifics but still presented enough description to sufficiently apprise a defendants of the allegations against it. See Seville Indus. Mach. Corp. v. Southmost Mach. Corp., 742 F.2d 786, 791 (3d Cir. 1984) (list containing fraud allegations as well as nature and subject of statements found to meet the Rule 9(b) threshold, even though precise words were not alleged); see also Brooks, 116 F.3d at 1371 (“alternative means are also available to satisfy the rule.”). While “[i]t is certainly true that allegations of date, place or time [are traditional indicia of particularity] . . . nothing in the rule requires them.” Seville Indus. Mach. Corp., 742 F.2d at 791.

         Against this backdrop, Defendants make two arguments claiming the Complaint is not pled with particularity: first, that the SEC has not included the requisite detail regarding the alleged actions at the heart of their claims, and second that the Complaint is nothing more than a puzzle pleading. As to the first inquiry, the Complaint alleges that the Defendants made numerous false statements and omissions in the PPM, on their website, through letters, in brochures, and in person regarding excessive and undisclosed fees, allocation of profits, the history and past performance of the fund principals, and the extent of the Northrup family's investments. Defendants argue this effort is not enough. They contend that the interests of particularity are not satisfied because the Complaint does not state who saw the website, received the letter and brochure, when they did so, or whether they relied on the individual source of information.

         To be sure, the Complaint does not list with exact temporal specificity the moment that each misrepresentation or omission was made. Even so, when the allegations are taken as true, it is clear the misrepresentations and omissions were made to potential and actual investors through a number of different channels, and that they were made on an ongoing basis from December 2010 to September 2015. It is well established that “[b]ecause this is a civil enforcement action brought by the SEC, reliance, damages, and loss causation are not required elements [when alleging a securities fraud claim].” See SEC v. Morgan Keegan & Co., 678 F.3d 1233, 1244 (11th Cir. 2012). The Court finds the Complaint adequately describes the nature and subject of the alleged misrepresentations and omissions, and has thereby alerted the Defendants to the “precise misconduct with which they are charged.” Brooks, 116 F.3d at 1370.

         Second, Defendants argue that the Complaint is not pled with particularity because it is a puzzle pleading, and therefore should be dismissed. To support their argument, Defendants point to a case from the District of Arizona that states that puzzle pleadings are those that “require the defendant and the court to match the statements up with the reasons they are false or misleading.” SEC. v. Fraser, No. CV-09-00443-PHX-GMSC, 2009 WL 2450508, at *14 (D. Ariz. Aug. 11, 2009). This concept is similar to that of a shotgun pleading.

         It appears that while the Eleventh Circuit has never taken a position on so-called puzzle pleadings, it has weighed in regarding shotgun pleadings. In Frantz v. Walled, 513 F.App'x 815, 820 (11th Cir. 2013), the court largely echoed Fraser's logic, holding that “[a] shotgun pleading incorporates every antecedent allegation by reference into each subsequent claim for relief or affirmative defense. This Court has repeatedly condemned shotgun pleadings. This is because, from a shotgun pleading, it is virtually impossible to know which allegations of fact are intended to support which claim(s) for relief.” The Complaint here is not a shotgun pleading. It is clear that every antecedent allegation is not incorporated into each subsequent claim. To the extent that the Complaint incorporates factual allegations into its claims, each of the allegations within the specified paragraph range relate to each securities fraud count. Taking these factors into account, the Court has no trouble discerning the allegations intended to support each claim.

         The Complaint similarly cannot be characterized as a puzzle pleading. The nature of the allegations within the Complaint are such that the alleged misstatements and omissions are listed under separate headings with the reasons they are false or misleading. It is plainly evident the Complaint contains sufficiently particularized counts allowing a reader to match up alleged misstatements and omissions with their explanatory counterparts. Though Rule 9(b) must elicit the specificity to provide notice, it is not designed to mandate volume. Defendants need not reproduce each allegation for each count, it is enough that falsity is alleged once and then incorporated.


         Defendants next dispute the factual allegations of the Complaint by individual pages of the PPM and a single page of KLF's Operating Agreement. They argue the documents show that each of the fees assessed by the Defendants through KLF were explicitly disclosed to investors prior to utilization. They argue the Complaint should be dismissed because the contents of the documents render the Complaint's allegations “confusing at best.” To the extent the Court elects to review the documents, it is unpersuaded.

         If a court considers matters that are outside a pleading on a motion to dismiss for failure to state a claim, the motion must be treated and disposed of as if it were a motion for summary judgment under Rule 56. See Fed. R. Civ. P. 12(d). “A document attached to a motion to dismiss may be considered by the court without converting the motion into one for summary judgment only if the attached document is: (1) central to the plaintiff's claim; and (2) undisputed.” Slakman v. Admin. Comm. of Delta Air Lines, Inc., No. 16-10572, 2016 WL 4978353, at *1 (11th Cir. Sept. 19, 2016).

         Here, because the Complaint explicitly alleges that the PPM contained both misstatements and omissions, the individual pages of the PPM are central to the Complaint. The SEC has not disputed the document's content. The Court may properly consider the PPM pages when deciding on the merits of Defendants' Motion. The review, however, yields no fruit. While the Defendants argue that the PPM informed investors that KLF would take deductions for administrative expenses, they fail ...

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