Sec. & Exch. Comm'n v. Kinetic Inv. Grp.

1

SECURITIES AND EXCHANGE COMMISSION, Plaintiff, v. KINETIC INVESTMENT GROUP, LLC, and MICHAEL SCOTT WILLIAMS, Defendants, and KINETIC FUNDS I, LLC, KCL SERVICES, LLC d/b/a LENDACY, SCIPIO, LLC, LF42, LLC, EL MORRO FINANCIAL GROUP, LLC, and KIH, INC. f/k/a KINETIC INTERNATIONAL, LLC, Relief Defendants.

No. 8:20-cv-394-MSS-SPF

United States District Court, M.D. Florida, Tampa Division

November 22, 2024

ORDER

MARY S. SCRIVEN UNITED STATES DISTRICT JUDGE

THIS CAUSE comes before the Court for consideration of Defendant Michael Scott Williams' Motion for Judgment on the Pleadings, (Dkt. 201), the response in opposition thereto, (Dkt. 208), Plaintiff's Motion for Summary Judgment against Defendant Michael Scott Williams, (Dkt 200), the response in opposition thereto, (Dkt. 221), and Plaintiff's Reply in Support of Motion for Summary Judgment. (Dkt. 227) The Court has also considered Defendant Michael Scott Williams' Motion for Summary Judgment, (Dkt. 202), the response in opposition thereto, (Dkt. 219), and Defendant's Reply in Support of his Motion for Summary Judgment. (Dkt. 228)

Upon consideration of all relevant filings, case law, and being otherwise fully advised, the Court GRANTS Plaintiff's Motion for Summary Judgment against Defendant Michael Scott Williams, DENIES Defendant Michael Scott Williams' Motion for Summary Judgment against Plaintiff, and DENIES AS MOOT Defendant Michael Scott Williams' Motion for Judgment on the Pleadings.

I. BACKGROUND

On February 2, 2020, Plaintiff Securities Exchange Commission (“SEC”) initiated this action against Defendants and Relief Defendants for violations of Section 10(b) and Rules 10b-5(a)-(c) of the Securities Exchange Act of 1934 (“Exchange Act”) [15 U.S.C. § 78j(b) and 17 C.F.R. §§ 240.10b-5(a)-(c)] and Section 17(a)(1)-(3) of the Securities Act of 1933 (“Securities Act”) [15 U.S.C. §§ 77q(a)(1)-(3)] (collectively, the “Antifraud Provisions”). The SEC also alleges that the Defendants violated Sections 206(1), (2), and (4) of the Investment Advisers Act of 1940 (“Advisers Act”) [15 U.S.C. § 80b-6(1)-(2) (4)] and Rule 206(4)-8 thereunder [17 C.F.R. 275.206(4)-8], and that Defendant Michael Scott Williams (“Williams”), in the alternative, aided and abetted violations of the Advisers Act under Section 209(d), 15 U.S.C. § 80b-9(d).

The SEC contends that since at least 2013, Defendant Williams and Defendant Kinetic Investment Group, LLC (“Kinetic Group”) (collectively, the “Defendants”) have raised at least $39 million from approximately 30 investors in an unregistered securities offering. (Dkt. 200 at 8) According to the SEC, Defendants solicited investors to invest in Relief Defendant Kinetic Funds I, LLC (“Kinetic Funds”), a purported hedge fund managed by Defendants. (Id.) The SEC claims that Defendants steered them toward Kinetic Funds' largest sub-fund, Kinetic Funds Yield (“KFYield”). (Id.) Defendants informed investors that their entire capital would be invested in income-producing U.S. listed financial products and that their principal would be secure because the KFYield portfolio would be hedged^[1] with listed options. (Id.)

The SEC contends that contrary to this representation, Defendants diverted a substantial portion of KFYield investor capital to Relief Defendant KCL Services, LLC d/b/a Lendacy (“Lendacy”), a private start-up company owned by Williams. (Id.) Lendacy, however, was neither listed on a U.S. exchange nor capable of being hedged with listed options. (Id.) The SEC asserts that Williams then directed Lendacy to make purported loans using KFYield assets to himself, entities under his control, and others. (Id.) Those other entities under his control included Relief Defendants Scipio, LLC (“Scipio”), LF42, LLC (“LF42”), El Morro Financial Group, LLC (“El Morro”), and KIH, Inc. f/k/a/ Kinetic International, LLC (“KIH”). (Dkt. 1 at ¶ 5)

Since at least 2015, the SEC claims that Williams, through his ownership, control, and ultimate authority over Defendant Kinetic Group and the Relief Defendants, misappropriated at least $6.3 million of Kinetic Funds' assets, i.e., investor capital, to fund other business ventures and to pay for personal expenses. (Id.)

a. The Offering Materials and Securities Transactions

Beginning in 2012, Williams, through Kinetic Group, offered Kinetic Funds as an investment opportunity for potential investors. (Dkt. 200 at ¶ 9) In 2016, Williams' operation expanded from Florida to Puerto Rico, where a second office was opened, and investors in Puerto Rico were then solicited to invest in Kinetic Funds. (Dkt. 200 at ¶ 20)

Kinetic Funds employs four investment strategies through sub-funds characterized as yield, gold, growth, and inflation. (Id.; Dkt. 200-1 at ¶ 8) The yield strategy, known as KFYield, has accounted for most (if not 98%) of Kinetic Funds' equity investments since Kinetic Funds was formed in 2012, and it is the subject of this lawsuit. (Dkt. 200-1 at ¶ 8; Dkt. 200 at ¶ 9)

Williams initially offered Kinetic Funds to his friends, partners, and associates. (Dkt. 200 at ¶ 10) However, over time, Williams began to solicit additional investors by using marketing brochures, websites, and referrals. (Id.) Williams did not utilize a private placement memorandum to provide disclosures to potential investors. (Dkt. 220 at ¶ 4)^[2] Instead, to understand how Kinetic Funds operated, investors received (1) a copy of the Kinetic Funds Subscription Agreement (“Subscription Agreement”), (2) either Exhibit “B-1” or “C-1” to the Kinetic Funds Operating Agreement (“Operating Agreement”), which investors used to design the particular strategy they wanted to invest in, (3) the Kinetic Funds Offering Questionnaire (“Offering Questionnaire”), and (4) Kinetic Funds marketing brochures. (Dkt. 200 at ¶ 11; Dkt. 200-6) Some, if not all, investors received a copy of the Operating Agreement. (Dkt. 200 at ¶ 12; Dkt. 20015 at 78:22-25)^[3]

Investors were classified as either Class B or Class C Members. (Dkt. 200-6 at 5-14) Class B Members signed Exhibit B-1 of Kinetic Funds' Operating Agreement, which was used prior to the creation of Exhibit C-1. (Dkt. 221-2 at ¶ 70; Dkt. 200-15 at 138:25) Class C Members signed Exhibit C-1 (Dkt. 221-2 at ¶ 71), which was created for and executed by investors who had or would have a relationship with Lendacy, Williams' entity, in the future. (Dkt. 200-15 at 139:10-15) Some Class B Members may have had a relationship with Lendacy but did not sign Exhibit C-1 because that relationship would have preexisted the creation of Exhibit C-1. (Id. at 138:25-139:1-2) Once Exhibit C-1 was created, however, investors who did not have a relationship with Lendacy would exclusively sign Exhibit B-1. (Id. at 139:16-19)

As explained above, Lendacy provided lines of credit, i.e., loans, to accredited investors. Williams claims that “as a service and benefit to Kinetic Funds' investors,” Kinetic Funds “worked with Lendacy to offer Kinetic Funds' investors the ability to borrow up to 70% of the value of their investment in Kinetic Funds at substantially reduced interest rates to use however the investors might wish - e.g., to buy a home, to invest in a business, to pay a debt, etc.” (Dkt. 221-2 at ¶ 136)

Exhibit C-1 to the Operating Agreement provides the following: “All Funds may include a ‘Preferred Return' investment. This investment is in a private sector funding company that offers fixed[-]rate preferred interest returns ....” (Dkt. 220 at ¶ 5) Exhibit C-1 does not identify the “preferred return investment” or the “private sector funding company.” (Id. at ¶ 6) Exhibit C-1 does not identify Williams as the majority owner of Lendacy and does not disclose that Williams or his entitles would receive purported loans from Lendacy. (Id. at ¶¶ 7-8) Exhibit B-1 omits the Preferred Return Provision entirely. (Id. at ¶ 9)

Exhibits B-1 and C-1 also provide that KFYield focuses on “income generation,” that investors can make principal withdrawal requests under certain conditions, and that an annual 1% management fee will be charged to the funds of both Class B and Class C members. (Dkt. 200-6 at 6-8, 11-13)

Typically, when investing in Kinetic Funds, investors were required to complete the Offering Questionnaire and sign both the Subscription Agreement and either Exhibit B-1 or C-1 to the Operating Agreement. (Dkt. 200 at ¶ 16) The Subscription Agreement provides that an investor “irrevocably subscribes for a membership interest” in Kinetic Funds. (Id. at ¶ 17) Exhibits B-1 and C-1 state that an investor agrees to invest in at least one of the Kinetic Funds investment strategies and that the Class A Member “will have full and complete discretion to make any and all trading decisions and affect any strategies as the Class A Member shall determine, in its sole and absolute discretion, in order to manage the Funds.” (Id.) The Class A Member is defined as Kinetic Partners, LLC, of which Williams is the managing member. (Dkt. 200-6 at 6, 11; Dkt. 200 at 9) Kinetic Partners, LLC was also a managing member of Kinetic Funds. (Dkt. 200-13)

b. Williams' Alleged Misappropriation of Investor Funds, Misrepresentations and Omissions, Schemes to Defraud, and Conflicts of Interest

Kinetic Funds' BMO Harris Bank N.A. bank account held all the investor capital. (Dkt. 200 at ¶ 38) The Commission claims that the account exclusively held investor capital, (Dkt. 200 at ¶ 38), which Williams denies. (Dkt. 221 at 15) Williams admits, however, that he kept a portion of investor capital in the Kinetic Funds' bank account and transferred the remainder to KFYield's Interactive Brokers LLC (“IB”) (“Brokerage Account”). (Dkt. 220 at ¶ 18)

Securities for KFYield were then purchased with a combination of investor capital and margin, i.e., funds borrowed from its...