Opinion ID: 437476
Heading Depth: 1
Heading Rank: 3

Heading: The Securities Acts as Interpreted by the Supreme Court

Text: 17 If Congress or the Supreme Court has mandated these results, then, regardless of their deficiencies in logic, we would be bound to apply them. We turn, therefore, to the language, history, structure, and policies of the 1933 and 1934 Acts. Then we consider the impact of recent Supreme Court decisions.
Statutory Language, Structure, and History
18 Section 2(1) of the 1933 Act as amended provides that the term security 19 means any note, stock, treasury stock, bond, debenture, ... investment contract, ... or, in general, any interest or instrument commonly known as a security.... 20 15 U.S.C. Sec. 77b(1) (1982). The legislative history to section 2(1) indicates that Congress cast the definition of security in sufficiently broad and general terms so as to include within that definition the many types of instruments that in our commercial world fall within the ordinary concept of a security. H.R.Rep. No. 85, 73d Cong., 1st Sess. 11 (1933). 21 Although Congress intended that the term security embrace those instruments that fall within the ordinary concept of a security, several important qualifications limit this definition. Preceding all of the definitions in the 1933 Act is the clause unless the context otherwise requires. The significance of the so-called context clause is addressed in Part III A 3 infra. 22 In addition, section 3 of the 1933 Act defines a number of important exempted securities. Among the defined exemptions in the 1933 Act is an exception for short-term notes. Section 3(a) provides that the Act shall not apply to: 23 Any note, draft, bill of exchange, or banker's acceptance which arises out of a current transaction ... and which has a maturity at the time of issuance of not exceeding nine months.... 24 15 U.S.C. Sec. 77c(a)(3) (1982). As one commentator has observed, Congress intended the short-term note exemption to free from the Act's registration requirements prime quality commercial paper sold to knowledgeable investors. The necessity for disclosure in a registration statement to these investors was less vital than for sales of other, more speculative paper to other, less knowledgeable buyers. 21 Congress did not, however, include the commercial paper exception in the antifraud provisions of the 1933 Act. See 15 U.S.C. Sec. 77q(c) (1982). 25 The 1933 Act also empowers the Commission to grant additional exemptions. Section 3(b) of the Act as amended provides that: 26 The Commission may from time to time by its rules and regulations, and subject to such terms and conditions as may be prescribed therein, add any class of securities to the securities exempted as provided in this section, if it finds that the enforcement of this subchapter with respect to such securities is not necessary in the public interest and for the protection of investors by reason of the small amount involved or the limited character of the public offering; but no issue of securities shall be exempted under this subsection where the aggregate amount at which such issue is offered to the public exceeds $5,000,000 [then $100,000]. 27 15 U.S.C. Sec. 77c(b) (1982). Congress envisioned that the Commission's exemption power would be reserved for needless registration of issues of such an insignificant character as not to call for regulation. H.R.Rep. No. 85, supra, at 15. According to the House Report, however, the Commission's exemption power was carefully limited by the prohibition on exemptions for issues larger than $100,000 (now $5,000,000), thus safeguard[ing] against any untoward pressure to exempt issues whose distribution may carry all the unfortunate consequences that the act is designed to prevent. Id. 28 The definition of security under the 1934 Act parallels that under the 1933 Act. Section 3(a)(10) of the 1934 Act provides that  'security' means any note, stock, treasury stock, bond, debenture, ... investment contract, ... or in general, any instrument commonly known as a 'security.'  15 U.S.C. Sec. 78c(a)(10) (1982). 22 One important distinction between the 1933 and 1934 Act definitions pertains to short-term notes: generally speaking, short-term notes that would be exempt from the registration provisions of the 1933 Act are exempted from the antifraud provisions of the 1934 Act. 23 And like the 1933 Act, section 3(a)(12) of the 1934 Act authorizes the SEC to grant additional exemptions for classes of securities either unconditionally or upon specialized terms and conditions. 24 15 U.S.C. Sec. 78c(a)(12) (1982). 29 Nowhere in these provisions is there an exemption for the sale of a controlling share of corporate stock. This conspicuous omission is significant for two reasons. First, Congress took pains to exempt certain commercial paper from the class of notes covered by the registration provisions of the 1933 Act and the antifraud provisions of the 1934 Act. When Congress wished to exempt a class of instruments from some or all of the Acts' provisions, it had little trouble in doing so expressly. 25 And while it might be argued that purchasers of large blocks of stock, often in face-to-face transactions, are more knowledgeable than the average investor--and therefore often less in need of protection--the same argument applies to the commercial paper exception. Congress exempted certain commercial paper in part because it is high-grade and purchased by knowledgeable investors; accordingly, the SEC approves for exemption only that commercial that is prime quality and of a type not ordinarily purchased by the general public. See note 15 supra. These arguments persuaded Congress to exempt prime quality commercial paper expressly. Congress did not, however, exempt particular stock transactions. Moreover, while Congress may not have considered the sale of all or part of a business by means of a stock purchase under the 1933 Act--the Act is, of course, primarily addressed to public offerings, see 15 U.S.C. Sec. 77d(2) (1982) (private offering exemption), and the sale of a business is frequently not effectuated by a public offering--the same cannot be said of the 1934 Act. It was always clear that the 1934 Act would, by its terms, apply to stock purchases comprising controlling corporate shares. Nor can it be said that Congress did not envisage face-to-face transactions; it has always been clear that the Act applies to face-to-face sales of stock as well as to transactions in the recognized markets. See Marine Bank v. Weaver, 455 U.S. 551, 556, 102 S.Ct. 1220, 1223, 71 L.Ed.2d 409 (1982); Superintendent of Insurance v. Bankers Life & Casualty Co., 404 U.S. 6, 10, 12, 92 S.Ct. 165, 167, 169, 30 L.Ed.2d 128 (1971) (Congress meant to bar deceptive devices and contrivances in the purchase or sale of securities whether conducted in the organized markets or face to face). 26 30 Second, Congress vested in the SEC the responsibility for identifying certain securities for exemption. In addition, Congress empowered the SEC to attach conditions to any exemptions granted in order to protect the investing public. These decisions suggest that in the judgment of Congress the Commission, and not the courts, has the expertise and practical experience required to ensure that exemptions to the Act are prudently chosen, and that appropriate conditions are attached to any exemptions granted. Needless to say, the SEC has never exempted the purchase or sale of a controlling share of corporate stock from the definition of security. Thus we look on the plea that this court do so with some skepticism. 31
32 The definition of security under both Acts begins with an enumeration of specific terms--note, stock, bond, debenture--and then proceeds to more general phrases, including investment contract. This procession from the specific to the general did not escape the Supreme Court's attention on its first occasion to consider the definition of security. In SEC v. C.M. Joiner Corp., 320 U.S. 344, 64 S.Ct. 120, 88 L.Ed. 88 (1943), the Court observed: 33 In the Securities Act the term security was defined to include by name or description many documents in which there is common trading for speculation or investment. Some, such as notes, bonds, and stocks, are pretty much standardized and the name alone carries well-settled meaning. Others are of more variable character and were necessarily designated by more descriptive terms, such as transferable share, investment contract, and in general any interest or instrument commonly known as a security. We cannot read out of the statute these general descriptive designations merely because more specific ones have been used to reach some kinds of documents. Instruments may be included within any of these definitions, as a matter of law, if on their face they answer to the name or description. However, the reach of the Act does not stop with the obvious and commonplace. Novel, uncommon, or irregular devices, whatever they appear to be, are also reached if it be proved as [a] matter of fact that they were widely offered or dealt in under terms or courses of dealing which established their character as investment contracts, or as any interest or instrument commonly known as a 'security.'  34 320 U.S. at 351, 64 S.Ct. at 123 (emphasis added). Thus, the Supreme Court recognized that instruments like stock, bonds, and notes answer on their face ... to the name or description. The Acts' latter phrases, intended to supplement these common instruments, were devised to capture [n]ovel, uncommon, or irregular devices that were not so readily classified. This construction is consistent with the fact that the terms stock, bond, and note had well-defined meanings under state corporate law that Congress obviously had incorporated by reference, and that Congress did not intend the reach of the Act to stop with these well-defined terms alone. 35 The Court's next bout with the definition of security confirmed that the phrase investment contract also drew on state law for its content. In SEC v. W.J. Howey Co., 328 U.S. 293, 66 S.Ct. 1100, 90 L.Ed. 1244 (1946), the Supreme Court held that in the words investment contract Congress had employed a term common in many state 'blue sky' laws. Id. at 298, 66 S.Ct. at 1102. Despite Justice Frankfurter's position in dissent that the phrase  'investment contract' is not a term of art, id. at 301, 66 S.Ct. at 1104 (Frankfurter, J., dissenting), the Court held that by including an investment contract within the scope of [the Act], Congress was using a term the meaning of which had been crystallized by [state] judicial interpretation[s]. Id. at 298, 66 S.Ct. at 1102. These state definitions, the Court held, had been broadly construed by state courts so as to afford the investing public a full measure of protection. Id. 36 Thus, by 1946 it was plain that the definitions in the 1933 and 1934 Act drew on state law for their content, and that in order to embrace novel or unusual investment schemes within the salutary provisions of the Acts, Congress supplemented standard state-law definitions of stock, note, etc., with more general phrases, including investment contract, drawn from state law. Joiner and Howey make plain that Congress did not intend to circumscribe the scope of the standard terms--stock, note, debenture--to that of the more generous phrases. To the contrary, that construction would turn the history of the Acts and the state-law definitions on their heads. Congress never intended that stock that did not also satisfy the definition of investment contract would not be within the Acts' terms. Rather, Congress intended that investment contracts that did not also satisfy the definition of stock would be within the Acts' terms. See Tcherepnin v. Knight, 389 U.S. 332, 343, 88 S.Ct. 548, 556, 19 L.Ed.2d 564 (1967) (Joiner rejected the respondents' invitation to 'constrict the more general terms substantially to the specific terms which they follow' ). 37 The language of the definition itself makes this consideration clear. As the Second Circuit recently noted, there would have been little reason for the drafters to have employed words like stock, bond, and note--which had clear definitions under state law--if their intention had been to include only those instruments that satisfied an economic reality test appropriate to the latter terms. If an economic reality test appropriate to these subsequent terms were intended, a substantial portion of each class of instrument would, in fact, not be within the definition. Golden v. Garafalo, 678 F.2d 1139, 1144 (2d Cir.1982). 38 To be sure, the Howey Court also admonished that [f]orm was [to be] disregarded for substance and that emphasis was [to be] placed upon economic reality. 328 U.S. at 298, 66 S.Ct. at 1102. Those words were written, however, in the context of disregarding the absence of a label like stock or note when novel schemes nonetheless constitute investments earning profits from the labor of others. They did not direct us to ignore the presence of an instrument that, as a matter of economic reality, is stock simply because it is not purchased by one who also entered into an investment contract. 39 In summary, neither the language, the history, the structure, nor the Acts' early interpretations suggest that the transfer of stock to effectuate the sale of all or part of a business is not the purchase or sale of a security. And several considerations--particularly Congress' express treatment of notes and its conferral on the SEC of the power to specify exempt securities--suggest the contrary. We now consider the impact of the context clauses on our analysis. 40
41 Each of the definitional sections of the 1933 and 1934 Acts begins with the words, When used in this [sub]chapter, unless the context otherwise requires--. 15 U.S.C. Secs. 77b, 78c(a) (1982). These clauses, the defendants maintain, authorize us to narrow the definition of stock as the economic realities require. In considering this position, we turn to the history and function of the clauses. 42 Perhaps the most notable feature about the context clauses is that they do not appear in the paragraphs defining security at all. Instead, these clauses precede all fifteen definitions in the 1933 Act and all forty definitions in the 1934 Act. Plainly, the context clauses were not directed particularly at the definition of security. This lack of particular application is underscored by the legislative history of the definitions of security. In neither the House nor the Senate reports, for example, did the drafters allude to the clauses or indicate that particular kinds of stock, notes, or debentures are embraced by the Act only when the context requires. If the drafters had indeed intended that the context clause exempted certain named securities from coverage, they certainly made no mention of it. 43 The legislative evolution of the 1933 Act suggests even more strongly that the context clauses had no such purport. Section 2 of the Senate version of the 1933 Act provided, When used in this Act the following terms shall, unless the text otherwise indicates, include the following respective meanings. H.R. 5480, 73d Cong., 1st Sess. 39 (1933) (emphasis added) (as enacted by the Senate on May 10, 1933); S. 875, 73d Cong., 1st Sess. 1 (1933). This Senate bill tracked the language of an early House bill, H.R. 4314, which had also opened with the phrase unless the text otherwise indicates. H.R. 4314, 73 Cong., 1st Sess. 2 (1933). Early in the legislative process, however, the House Committee on Interstate and Foreign Commerce substituted the language unless the context otherwise requires for the phrase unless the text otherwise indicates. See H.R. 5480, 73d Cong., 1st Sess. 1 (1933) (as enacted by the House on May 5, 1933). Ultimately the Conference Committee adopted the House version. Although the Conference Committee Report discusses a number of significant distinctions between the House and Senate definitions, the Report makes no mention of the difference between these prefatory clauses. See H.Conf.Rep. No. 152, 73d Cong., 1st Sess. 24-25 (1933). 44 It seems evident that the drafters did not attribute particular significance to the distinction between these House and Senate phrases. The text to which the Senate had adverted was obviously the text of the statute itself. Similarly, the context to which the House referred was obviously the context in which the defined words appear in the statute itself. Both the House and Senate provisions were intended to direct that the ensuing definitions were to be used throughout the statute unless the text of the Act expressly, or another section of the statute implicitly, made them inapplicable to that section. 27 45 The defendants, however, would have us attribute a very different meaning to the context language. That language, they assert, refers not only to the statutory context but to the context of the underlying factual transaction. 28 Thus, they argue, the House and Senate versions of the 1933 Act had very different meanings. The Senate version, of course, would not have admitted of the defendants' interpretation, for it would have authorized exceptions as the text otherwise indicates, not as the factual circumstances seem to warrant. The House version, in contrast, as the defendants construe it, sanctioned a wide-ranging exemption power varying with the facts and circumstances. It strikes us that if the conferees had observed so considerable a distinction between the House and Senate bills and had selected the broader, House version, they would at least have remarked upon so important a subject. Moreover, a wide-ranging exemption power is inconsistent with the Act's conferral of exemption power on the SEC. Because the Act conferred a narrowly tailored exemption power on the Commission, it seems extraordinary that the conferees should not have remarked upon a decision to confer a potentially broader power through the context clause. 46 These considerations lead us to conclude that the context clauses themselves do not authorize judicial exclusions of securities from the scope of the Act when the factual circumstances seem to warrant it. Of course, we do not thereby adopt a wooden approach to statutory construction. The Supreme Court has often admonished that a thing may be within the letter of the statute and yet not within the statute. United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 849, 95 S.Ct. 2051, 2059, 44 L.Ed.2d 621 (1975) (quoting Church of the Holy Trinity v. United States, 143 U.S. 457, 459, 12 S.Ct. 511, 512, 36 L.Ed. 226 (1892)). We simply observe that Congress did not intend the context clause as a font of authority to narrow the compass of the term stock when the underlying facts may seem to warrant. If that result is to obtain, it must devolve from some other indication in the language, structure, or legislative history of the Acts. The context clause alone is no such authority. 29 As Judge Friendly has written, [s]o long as the statutes remain as they have been for over forty years, courts had better not depart from their words without strong support for the conviction that, under the authority vested in them by the 'context' clause, they are doing what Congress wanted when they refuse to do what it said. Exchange National Bank, 544 F.2d at 1138.