Securities and Exchange Commission v. Krimm et al
Filing
15
MEMORANDUM OPINION. Signed by Judge Robert D. Mariani on 5/28/19. (Malave, Judith)
THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF DELAWARE
SECURITIES AND EXCHANGE
COMMISSION,
Plaintiff,
v.
1:17-CV-464
(JUDGE MARIANI)
MATTHEW A. KRIMM, et al.,
Defendants.
MEMORANDUM OPINION
I.
INTRODUCTION
Presently before the Court is Plaintiff Securities and Exchange Commission's
("SEC's") Motion for Entry of Default Judgment (Doc. 9). For the reasons discussed below,
the Court will grant the SEC's motion.
II.
PROCEDURAL HISTORY AND FACTUAL BACKGROUND
On April 25, 2017, the SEC filed a Complaint against Defendants Matthew A. Krimm
("Krimm") and his company; Krimm Financial Services, LLC ("KFS") (collectively,
"Defendants"), seeking injunctive relief, disgorgement of ill-gotten gains, an award of
prejudgment interest, and civil penalties for an alleged mortgage business investment scam.
(Doc. 1). Defendants waived service of the Complaint. (Doc. 3, Doc. 4). Defendants never
responded to the Complaint, and the SEC moved on September 7, 2017 for the Clerk of
Court's entry of default, which was entered that same day. (Doc. 5, Doc. 6). The case was
later assigned to this Court, and the SEC moved for entry of default judgment on June 8,
2018. (Doc. 9). On February 14, 2019, the SEC informed the Court that Krimm pied guilty
in November 2018 to securities fraud and theft in a related criminal matter brought against
him by the Delaware Department of Justice and that he is expected to be sentenced in the
spring of 2019. (Doc. 14).
The SEC's allegations in the Complaint, which the Court accepts as true in the
absence of any response from Defendants, include the following:
During the relevant period, Krimm owned, operated, and controlled KFS.
From at least May 2012 through January 2014, Krimm and KFS fraudulently
induced more than 25 investors, located in multiple states, including
Delaware, Maryland, and Pennsylvania, to purchase at least $1.69 million in
unregistered securities by falsely promising to use investor funds for KFS's
purported mortgage business, and by making numerous other material
misstatements and omissions.
Krimm marketed the securities in telephone calls, electronic mail, and face-toface meetings with prospective investors, targeting customers of licensed
mortgage lenders that had employed Krimm, including Lender 1 [a licensed
mortgage lender based in Maryland at which Krimm worked as a loan officer
from March 2012 until April 2013]. Many of the investors were financially
unsophisticated with limited investment experience. Investors did not have
access to the kind of information and level of detail that would be in a
registration statement.
The securities that Krimm sold to investors took the form of "promissory
notes," in which Krimm and/or KFS promised investors that they would
receive interest payments as well as the return of their principal. Although the
notes varied in form, they were substantially similar, and all of the investors
were told that investor funds would be used for the purpose of expanding
KFS's purported business.
Krimm solicited investors to purchase the securities using several different
sets of written offering documents that he authored. The offering documents
referred to the promissory notes as an "investment opportunity," and
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described KFS's purported mortgage business and the proposed terms of the
offering.
Krimm and KFS stated in the offering documents that investors would receive
interest, and, in some cases, also "profit sharing" or "additional bonus"
payments. These payments varied based upon the length or amount of the
investment.
Investors made payments of money to Krimm and/or KFS and, in exchange,
received a promissory note signed by Krimm on behalf of himself, and/or
KFS. Regardless of whether the promissory notes were issued solely in
Krimm's name or in the name of KFS, Krimm told investors that investor funds
would be used to finance KFS's purported mortgage business.
Krimm and KFS made material misrepresentations and omissions to investors
relating to KFS's business operations, income, revenue, and profitability, as
well as the use of investor funds and the source of payments to investors.
In written offering documents distributed to prospective investors to induce
them to invest, Defendants falsely stated that:
a. KFS was licensed to lend in multiple states, ranging in
number from nine to 42 states;
b. KFS owned and/or operated mortgage net branch offices in
multiple states, including Delaware and Pennsylvania, and,
in some offering documents, also claimed that KFS had
offices in Texas, Maryland and/or New Jersey; and
c. KFS's net branch offices generated at least $10 million in
mortgage loans per month, with some offering documents
claiming a monthly mortgage loan production of at least $20
million.
Krimm and KFS also provided prospective investors with false and
contradictory income statements.
Krimm and KFS provided prospective investors with false and unreasonable
revenue and profit projections.
3
Krimm claimed in written offering documents that investor funds would be
used for "expansion" of KFS's business with new office locations, to "recruit
top level industry veterans" for KFS's offices, and to expand KFS's "reverse
mortgage lending" business.
Krimm also made oral representations to investors and prospective investors
that investor funds would be used to open new KFS offices, to pay recruiting
bonuses for new mortgage loan officers, and to expand KFS's business with
respect to reverse mortgage loans.
Contrary to what investors were told in writing and orally, Krimm used over
75% of investor funds in ways not disclosed to investors.
For instance, without disclosing it to investors, Krimm misappropriated over
$500,000 of investor funds to benefit himself and his family.
Krimm used investor funds to pay his personal expenses, including, among
other things, the rent on his home, personal automobile loan payments, rental
car expenses, childcare expenses, household expenses, and frequent
purchases at restaurants, and grocery, convenience and department stores.
Krimm spent over $800,000 to make purported interest, profit sharing,
additional bonus payments, and principal payments to prior investors. These
payments were made to further the fraud by maintaining the appearance that
the business was performing as represented.
Krimm did not disclose to investors that he planned to, or did, in fact, use
investor money for Krimm's personal benefit, or that he used money from new
investors to repay earlier investors.
Krimm and KFS offered to sell and sold the promissory notes when no
registration statement was filed with the Commission or in effect as to the
promissory notes.
In connection with these sales or offers to sell, Krimm and KFS made use of
means or instruments of interstate transportation or communication in
interstate commerce or of the mails, including using the internet, interstate
phone calls, and the United States mail.
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During the period from May 2012 through January 2014, Krimm and KFS
continuously sold the promissory notes, and there was no period of six
months or more between the promissory sales.
The promissory notes were offered and sold to investors in multiple states,
and the offering exceeded $1 million.
The promissory notes were sold to more than 25 unaccredited investors.
Krimm and KFS did not distribute audited financial statements to investors
prior to the sale of promissory notes.
In connection with the conduct described herein, Defendants acted knowingly,
recklessly, or negligently. Among other things, Defendants knew, were
reckless, or should have known that they were making material
misrepresentations and omitting to state material facts necessary to make
certain statements not misleading under the circumstances in connection with
the sale or offer of the promissory notes.
Krimm and KFS were the makers of the false and misleading statements
made in writing and orally regarding KFS. Krimm signed all of the promissory
notes sold to investors, and he prepared the offering documents, income
statements, and revenue and profit projections provided to investors on behalf
of KFS.
Through their material misrepresentations and omissions, Defendants
obtained money or property from investors. Defendants obtained over $1.69
million from investors, of which Krimm misappropriated over $500,000 for
himself.
(Doc. 1
,m 20-24, 28, 31-32, 38, 44, 50-57, 59, 61-65, 67-69). The SEC alleges that
Defendants violated Sections 5(a) and 5(c) of the Securities Act of 1933 ("Securities
Act") ("First Claim"), 15 U.S.C. §§ 77e(a), 77e(c); Section 17(a) of the Securities Act
("Second Claim"), 15 U.S.C. § 77q(a); and Section 10(b) of the Securities Exchange
Act of 1934 ("Exchange Act"), 15 U.S.C. § 78j(b), and the related Rule 10b-5 ("Third
Claim"), 17 C.F.R. § 240.10b-5. (Doc.
1~~71-81).
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The SEC also alleges that the
Court has jurisdiction over this action under the federal securities laws and that
venue is proper. (Id.
,m 8-9).
Ill. STANDARD OF REVIEW
Pursuant to the Federal Rules of Civil Procedure, "[w]hen a party against whom a
judgment for affirmative relief is sought has failed to plead or otherwise defend, and that
failure is shown by affidavit or otherwise, the clerk must enter the party's default". Fed. R.
Civ. P. 55(a). Upon the party's request, the clerk of court may then enter default judgment,
but only if the claim is for a sum certain or one that can be made certain by computation, the
defendant has made no appearance, and the defendant is not a minor or incompetent. Id.
at 55(b)(1 ). In all other cases, the party seeking a default judgment must make an
application to the court. Id. at 55(b)(2).
Although the entry of default judgment is "left primarily to the discretion of the district
court", the discretion is not limitless given that cases should "be disposed of on the merits
whenever practicable." Hritz v. Woma Corp., 732 F.2d 1178, 1180-1181 (3d Cir. 1984).
"Where a court enters a default judgment, 'the factual allegations of the complaint, except
those relating to the amount of damages, will be taken as true."' DIRECTV, Inc. v. Pepe, 431
F.3d 162, 165 n. 6 (quoting Comdyne I, Inc. v. Corbin, 908 F.2d 1142, 1149 (3d Cir. 1990)).
"The court's initial inquiry is 'whether the unchallenged facts constitute a legitimate cause of
action."' Joe Hand Promotions, Inc. v. Yakubets, 3 F. Supp. 3d 261, 270 (E.D. Pa. 2014)
(quoting 10A Charles Alan Wright, Arthur R. Miller, et al., Federal Practice and Procedure§
6
2688 (3d ed. 2013)); accord Pope v. United States, 323 U.S. 1, 12 (1944). Further, in
determining whether to grant a motion for default judgment, a Court must also consider three
factors: "( 1) prejudice to the plaintiff if default is denied, (2) whether the defendant appears to
have a litigable defense, and (3) whether defendant's delay is due to culpable conduct."
Chamberlain v. Giampapa, 210 F.3d 154, 164 (3d Cir. 2000) (citing United States v.
$55,518.05 in U.S. Currency, 728 F.2d 192, 195 (3d Cir. 1984)).
IV. ANALYSIS
A. THE ENTRY OF DEFAULT JUDGMENT IS PROPER.
The Court has reviewed the Complaint (Doc. 1) and the SE C's brief in support of its
motion for entry of default judgment (Doc. 10) and supporting declarations (Doc. 11, Doc.
12) and finds that the entry of default judgment against Defendants is warranted, as the
SEC has sufficiently shown that Defendants have violated federal securities laws and each
of the Chamberlain factors, Chamberlain, 210 F.3d at 164, is satisfied. Further, in making
this determination, the Court finds that the declaration of Jacquelyn D. King, Staff
Accountant in the Division of Enforcement in the Philadelphia Regional office of the SEC
(Doc. 11 ), together with the declaration's supporting attachments, presents competent,
complete, credible and substantial evidence to support this Court's entry of judgment by
default against Defendants as well as the specific remedies sought by the SEC and granted
by this Court.
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The SEC has established that the Court has jurisdiction over this matter and that
Defendants violated federal securities laws. Specifically, the SEC's Complaint alleges that
Defendants conducted unlawful sales of unregistered securities because the promissory
notes Defendants sold or offered for sale were required to be registered with the SEC and
Defendants made material misrepresentations or omissions to potential investors or
otherwise defrauded them in violation of the Securities Act and the Exchange Act and the
associated Rule 1Ob-5.
The SEC's First Claim is that Defendants violated Sections 5(a) and 5(c) of the
Securities Act. These legal provisions prohibit the offering for sale or sale of unregistered
securities that are required to be registered with the SEC. 15 U.S.C. §§ 77e(a), 77e(c).
Promissory notes are typically considered securities and must be registered with the SEC.
15 U.S.C. § 77b(a)(1); 15 U.S.C. § 78c(a)(10); see also Reves v. Ernst & Young, 494 U.S.
56, 60-61, 64-65 (1990) (noting broad definition of "security" in the Securities Act and
Exchange Act and that notes are presumed to be securities); SEC v. Infinity Grp. Co., 212
F.3d 180, 187 (3d Cir. 2000) (investment contracts in a common enterprise seeking profits
solely from the effort of others are securities) (citing SEC v. W.J. Howey Co., 328 U.S. 293,
298-99 (1944)). The Complaint alleges that the promissory notes sold or offered for sale by
Defendants are securities that required registration statements from the SEC, the
promissory notes were not registered with the SEC, and the promissory notes were not
otherwise exempt from registration. (Doc. 1 ~~ 20-24, 28, 59, 71-75).
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The SEC's Second and Third Claims are that Defendants violated Section 17(a) of
the Securities Act, 15 U.S.C. § 77q(a), and Section 10(b) of the Exchange Act, 15 U.S.C. §
78j(b), and the associated Rule 10b-5, 17 C.F.R. § 240.10b-5. As the SEC correctly details
in its brief in support of its motion for default judgment, establishing violations of these laws
requires a showing that Defendants:
(1) made a material misrepresentation or omission or used a fraudulent
device; (2) in the offer and sale of any securities (Section 17(a)) or in
connection with the purchase and sale of a security (Section 10(b) and Rule
10b-5); (3) with the requisite mental state. SEC v. U.S. Funding Corp., No.
02-cv-2089, 2006 WL 995499, at *4 (D.N.J. Apr. 11, 2006); SEC v. Hughes
Capital Corp., 124 F.3d 449, 453 (3d Cir. 1997); In re Burlington Coat Factory
Sec. Litig., 114F.3d1410, 1417 (3d Cir.1997). For claims under Section
17(a)(1) and Rule 10b-5, the mental state element requires a showing of
scienter; for claims under Section 17(a)(2) and (a)(3), either scienter or
negligence will suffice. Aaron v. SEC, 446 U.S. 680, 702 (1980).
(Doc. 10 at 11-12). The Complaint contains a litany of specific allegations that Defendants
made false statements to prospective investors in enticing them to buy promissory notes,
including that KFS was licensed to lend in multiple states and that KFS operated "mortgage
net branch offices" in multiple states and that these offices generated specified amounts in
mortgage loans per month. (Doc. 1 ~~ 32-37). The Complaint also alleges that Defendants
provided "false and contradictory income statements" for KFS, made "false and
unreasonable revenue and profit projections," and made false representations or material
omissions regarding the use of investor funds. (Id.
~~
38-56). The Complaint alleges that
Defendants knowingly, recklessly, or negligently made these unlawful representations. (Id.
~~ 67-68,
76-81).
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Turning next to the Chamberlain factors, the first factor regarding prejudice to the
SEC if default is denied weighs in favor of the SEC. Absent the default judgment, the SEC
will be faced with an indefinite, and possibly permanent, delay in the adjudication of its
claims and is left with no alternative means to vindicate its claims against the defaulting
parties, including obtaining the monetary relief it alleges it is owed.
As to whether Defendants appear to have a litigable defense, this factor also weighs
in favor of the SEC. "The showing of a meritorious defense is accomplished when
'allegations of defendant's answer, if established on trial, would constitute a complete
defense to the action."' $55,518.05 in U.S. Currency, 728 F.2d at 195 (citing Tozer v.
Charles A Krause Milling Co., 189 F.2d 242, 244 (3d Cir. 1951); Farnese v. Bagnasco, 687
F.2d 761, 764 (3d Cir. 1982)). In the present action, no Defendant has filed an answer or
performed any other action to defend the case or set forth any meritorious defenses.
Finally, the third factor, whether Defendants' delay is due to culpable conduct, also
weighs in favor of the FTC. "In this context culpable conduct means action taken willfully or
in bad faith." Gross v. Stereo Component Sys., Inc., 700 F.2d 120, 123-24 (3d Cir. 1983).
Defendants have been on notice of this action since, at the very latest, June 14, 2017, when
they signed waivers of the service of summons. (See Doc. 3, Doc. 4). Thus, the
defendants have failed to respond or take any other action to defend this lawsuit for close to
two years. At minimum, this lack of action amounts to deliberate and willful conduct.
8.
THE PROPOSED INJUNCTIVE AND MONETARY RELIEF SHALL BE GRANTED.
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The SEC seeks entry of final judgments against Defendants imposing permanent
injunctions prohibiting the kinds of violations of the federal securities laws challenged in the
Complaint and ordering that Defendants are jointly-and-severally liable for disgorgement of
ill-gotten gains along with prejudgment interest and a civil penalty equal to the amount of
disgorgement. (Doc. 9-2, Doc. 9-3). Pursuant to the Federal Rules of Civil Procedure, a
Court "may conduct hearings or make referrals ... when, to enter or effectuate judgment, it
needs to: (A) conduct an accounting; (B) determine the amount of damages; (C) establish
the truth of any allegation by evidence; or (D) investigate any other matter." Fed. R. Civ. P.
55(b)(2). The Court is satisfied that the briefing and supporting declarations submitted by
the SEC in support of its motion for entry of default judgment, in addition to the
uncontroverted factual allegations in the Complaint, obviate the need for a hearing or
referral and demonstrate the propriety of the SEC's proposed final judgments.
The Securities Act, 15 U.S.C. § 77t(b), and the Exchange Act, 15 U.S.C. § 78u(d),
authorize the SEC to seek and obtain permanent injunctions in federal court for violations of
those laws. A court considers whether, absent a permanent injunction, a defendant will
reengage in illegal conduct. SEC v. Bonastia, 614 F.2d 908, 912 (3d Cir. 1980). In making
this determination, "courts have looked to, among other things, the degree of scienter
involved on the part of the defendant, the isolated or recurrent nature of the infraction, the
defendant's recognition of the wrongful nature of his conduct, the sincerity of his assurances
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against future violations, and the likelihood, because of defendant's professional
occupation, that future violations might occur." Id.
The SEC's case against Defendants outlines what was essentially a Ponzi scheme
operated from at least May 2012 through January 2014 that resulted in hundreds of
thousands of dollars in losses to unsophisticated investors and that was perpetrated through
numerous and serious false representations intended to convince prospective investors that
a sham mortgage business was a legitimate investment opportunity. Krimm himself took
$500,000 from investor funds to line his own pockets. (Doc. 1 ~~ 53-54, Doc. 11 ~ 135).
Defendants have not responded to the Complaint and have made no representations to the
Court that indicate that future violations of the law are unlikely. In these circumstances, the
Court finds it appropriate to issue permanent injunctive relief enjoining Defendants from
violating the Securities Act and the Exchange Act in the future, which is proper in cases of
this nature. See, e.g., SEC v. Infinity Grp. Co., 212 F.3d 180, 184 (3d Cir. 2000) (affirming
permanent injunction prohibiting future violations of federal securities laws in a Ponzi
scheme case); SEC v. Stinson, No. 10-cv-3130, 2011 WL 2462038, at *6 (E.D. Pa. June 20,
2011) (imposing permanent injunction in Ponzi scheme case).
The SEC's requested amount of joint-and-several monetary relief against
Defendants in the form of disgorgement, prejudgment interest, and civil penalties is also
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appropriate.1 Disgorgement of ill-gotten gains, with the purpose of preventing unjust
enrichment and deterring others from violating the law, is an available remedy in SEC
enforcement actions. SEC v. Teo, 746 F.3d 90, 105 (3d Cir. 2014). Disgorgement is
calculated by determining the total proceeds retained by Defendants that must be supported
by an evidentiary showing from the SEC and is subject to rebuttal by Defendants. Id. Here,
the SEC has provided a detailed declaration of an SEC staff accountant who examined
Defendants' financial records and who states that Defendants took in $1, 702, 950 from
investors and repaid $789,413 to those investors, resulting in a net investor loss of
$913,537. (Doc. 11
~
134). In the absence of any rebuttal from Defendants, the Court will
accept this figure as the amount of disgorgement that should be awarded to the SEC.
Likewise, the Court will accept the SEC's calculation of prejudgment interest of
$161,277, which is within the Court's discretion to award. Teo, 746 F.3d at 109-110
(explaining that award of prejudgment interest in an SEC federal court action was
appropriate and "consistent with [the SEC's] own regulation" regarding such an award in an
SEC administrative action, 17 C.F.R. § 201.600); (Doc.
11~139
(explaining calculation of
prejudgment interest by applying IRS underpayment rate on an individual investor basis)).
1 Joint-and-several
liability for monetary relief is appropriate here because the SEC has sufficiently shown
that KFS was controlled and operated only through Krimm. (Doc. 11Mf 11-12, 18-19, 57, 68); SEC v.
Hughes Capital Corp., 124 F.3d 449, 455 (3d Cir. 1997) ("[J]oint-and-several liability is appropriate in
securities cases when two or more individuals or entities collaborate or have close relationships engaging
in the illegal conduct.").
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Finally, the Court will order Defendants to pay the SEC's requested civil penalty in
the amount of disgorgement, $913,537. As set forth by the SEC in its brief in support of its
motion for entry of default judgment, the Securities Act, 15 U.S.C. § 77t(d)(2)(C), and the
Exchange Act, 15 U.S.C. § 78u(d)(3)(B), provide for the awarding of civil penalties in certain
cases. (Doc. 10at18). The highest level of civil penalties, "third tier" civil penalties, are
available when the unlawful conduct (1) "involved fraud, deceit, manipulation, or deliberate
or reckless disregard of a regulatory requirement; and [(2)] such violation directly or
indirectly resulted in substantial losses or created a significant risk of substantial losses to
other persons." 15 U.S.C. § 77t(d)(2)(C); 15 U.S.C. § 78u(d)(3)(B). Third tier civil penalties
can be awarded in an amount equal to the amount of disgorgement, and is proper in cases
when it may be difficult to determine the exact number of violations. SEC v. Graulich, No.
09-cv-4355, 2013 WL 3146862, at *7 (D.N.J. June 19, 2013). The Court finds such an
award is warranted here, given the egregious nature of Defendants' scam and the amount
of harm caused to investors.
V.
CONCLUSION
For the foregoing reasons, the Court will grant the SEC's motion for entry of default
judgment (Doc. 9) and enter default judgment in the amount of $913,537 in disgorgement,
$161,277 in prejudgment interest, and a civil penalty in the amount of $913,537.
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A separate Order and final judgments against Defendants . follow .
....,
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