Historical Orders and Policies
[Repealed eff. 4-23-96.]
Effective October 27, 1981, all new agent registrations, transfers and terminations for Indiana by NASD Members will be handled entirely through the Central Registration Depository ("CRD").
To expedite conversion into the CRD system, Indiana will not process any new agent applications received from NASD member firms after the close of business on October 9, 1981. All new agent applications received after that date will be returned and must then be filed with CRD.
Transfer applications on Form U-4 and termination notices on Form U-5 of NASD members will be accepted until the close of business on Friday, October 9, 1981.
Please remember that in order for your applications to be processed before the cut-off, they should be mailed no later than October 7, 1981. Any applications received after October 9, 1981 will be returned for processing through the CRD.
To avoid any deficiencies in filing U-4 or U-5's remember to use the revised forms, completing all questions, photographs, original signatures, notary and fingerprints.
All filings must be sent to the:
NASAA/NASD Central Registration Depository P.O. Box 37441 Washington, D.C. 20013
All checks forwarded to the CRD in payment for the Indiana applicant ($25.00 per U-4) must be made payable to the "National Association of Securities Dealers" and must be drawn on the account of the applicant employer. Personal checks and money orders will not be accepted.
CRD administrative rules have been adopted governing the registration process with the CRD System. All NASD members are encouraged to review those rules (NASD Notice to Members 81-7) to eliminate filing deficiencies.
All non-NASD members will continue filing applications in the regular manner. Renewal forms will be sent in late October, with renewal day falling on January 1 of each year instead of March 1, 1982 as your agent license now read.
NASD members will be sent renewal forms as usual, to be filed in our office with the $125.00 B/D renewal fee. All agent renewals will be processed through the CRD, with the $25.00 fee for each agent paid to the NASD.
Any questions regarding the new procedures should be directed to [see "Finding Lists" division ¶6001 for address and telephone number.--CCH.]
September 1, 1981, Stephen M. Coons, Indiana Securities Commissioner
[Repealed and superseded by Statement of Policy regarding merit review of securities offerings.]
I. Examination Procedures
Effective May 1, 1987, the Indiana Restricted Agent Examination will no longer be administered by the Securities Division. Issuer agents will be required to complete the uniform securities agent state law examination (NASD Series 63). To schedule a series 63 examination, a prospective agent must first obtain Form U-10 from the National Association of Securities Dealers, Inc. Form U-10 should be completed with the box for the series 63 examination checked, and the form returned to the NASD along with the examination fee of $50 per agent. The NASD will inform the prospective agent of scheduling for the examination which may be taken at any of several test center locations around the country. There are test centers located at Indianapolis, Indiana; Louisville, Kentucky; Chicago and Bensenville, Illinois; and Cincinnati, Columbus, and Toledo, Ohio. Addresses and phone numbers for each center will be included with the Scheduling notice.
Once the examination schedule has been received from the NASD, the prospective agent must make an appointment at the desired test center location. A thirty dollar ($30) cancellation fee will be charged if the prospective agent fails to appear for an appointment, if a scheduled appointment is not cancelled by noon of the second business day preceding the appointment, or if the prospective agent arrives at the test center after the appointment time. The NASD will mail written confirmation of the test results to the prospective agent. A copy of the confirmation should be filed with the Division along with the agent's application and registration fee.
II. Application Procedures
Under IC 23-2-1-9, agent applications become effective thirty (30) days after filing, unless the Commissioner orders an earlier date. The Commissioner will follow a policy of ordering effectiveness immediately after an application has been reviewed and cleared and test results have been received. AGENT REGISTRATIONS DO NOT BECOME EFFECTIVE UPON FILING.
Agents may begin to transact business upon oral advice from the Division to the Issuer that the agent's registration is effective. Issuers may inquire regarding the status of any application by telephone, provided the application has been on file for five (5) business days, and the agent has successfully completed the required examination.
AGENT AND ISSUERS SHOULD NEVER ASSUME THAT AN APPLICATION IS EFFECTIVE WITHOUT CONFIRMATION BY THE DIVISION. Registration certificates will be mailed to the Issuers in due course. The effective date on the certificate will be the date review has been completed and test results received.
Policy Memorandum, Anne Nobles, Indiana Securities Commissioner, 3-26-87.
[Repealed eff. 2-22-95.]
It is apparent that many persons offering investment advisory services as a component of other financial services fail to realize that they may be required to register as investment advisers. To provide uniform interpretation of federal and state adviser laws, the staff of the United States Securities and Exchange Commission, Division of Investment Management, and the North American Securities Administrators Association, Inc., have developed the following release [Release No. IA-1092, CCH Federal Securities Law Reports ¶56,156E]. The release expresses the view and policy of the Indiana Securities Division on the investment adviser provisions of the Indiana Securities Act, which are taken verbatim from the federal Investment Advisers Act of 1940. Financial planners, attorneys, accountants, and others who may provide investment advisory services as a component of other financial services are urged to consider this release.
Comments or questions on the release should be addressed to Anne Nobles, Indiana Securities Division, One North Capitol Avenue, Suite 560, Indianapolis, Indiana 46204, prior to May 1, 1988.
Policy Memorandum, Anne Nobles, Securities Commissioner, 3-7-88.
It will be the policy of the Division to waive examination requirements for restricted agents of church bond issuers if:
(1) The offering is supervised by a registered broker-dealer who files an undertaking with the Division agreeing to supervise the restricted agents of the issuer; or
(2) The offering is restricted to persons reasonably believed by the issuer to be a member of the issuer's congregation. Reasonable belief may be established by receipt of a written representation from the purchaser verifying membership in the congregation.
In all other circumstances, restricted agents of church bond issuers will be required to complete the Series 63 examination.
Memorandum, Anne Nobles, Securities Commissioner, 3-26-87.
Beginning with registrations effective August 1, 1987, this office will no longer issue formal orders of effectiveness of registrations of securities and franchises. Instead, applicants will be advised of effective dates by letter.
The notice letter will also replace notices of effectiveness sent by collect telegram. The notice letter system will speed receipt by applicants of written confirmation of effectiveness and reduce the applicant's costs.
Policy Memorandum, Anne Nobles, Securities Commissioner, 5-29-87.
IC 23-2-1-2(b)(10)(C)(ii) requires that private offering documents bear a legend disclosing that the securities offered are not registered and are subject to restrictions on transferability. It will be the policy of the Indiana Securities Division not to object to a private offering document which, in lieu of a specific Indiana legend, bears the legend prescribed in Section II.B. of the North American Securities Administrators Association Uniform Disclosure Guidelines--Legends.
Policy Memorandum, Anne Nobles, Securities Commissioner, 2-18-88.
[Repealed and superseded by Statement of Policy regarding merit review of securities offerings.]
[Repealed and superseded by Statement of Policy regarding exemptions claimed pursuant to IC 23-2-1-2 and 710 IAC 1-13-6.]
It has come to the attention of the Indiana Securities Division that certain broker-dealers are attempting to classify their registered agents as "independent contractors," and that these broker-dealers are failing to properly designate certain offices as branch offices and offices of supervisory jurisdiction ("OSJ's"). The Securities Division is also concerned that these broker-dealers may believe that the normal supervisory duties and liabilities do not apply to their "independent contractors." In an effort to forestall regulatory proceedings concerning this subject, the Securities Division is issuing this statement of policy concerning "independent contractors."
IC 23-2-1-8 provides that it is unlawful for any person to transact business in this state as a broker-dealer or agent unless he is registered under the Indiana Securities Act ("the Act"). "Broker-dealer" is defined in IC 23-2-1-1(c) as a person engaged in the business of effecting transactions in securities for the account of others or for his own account. Certain exceptions are then set forth, none of which include "independent contractor." "Agent" is defined in IC 23-2-1-1(b) as an individual other than a broker-dealer who represents a broker-dealer or issuer in effecting or attempting to effect purchases or sales of securities. This definition is also followed by certain exceptions which do not include "independent contractor."
Broker-dealers and agents are the only persons who may legally purchase or sell securities for other persons. Nowhere in the Act is there a definition of the term "independent contractor" or an exception provided for such. Therefore, any person who sells or purchases securities for another person, unless he or she is a broker-dealer or falls within an exception to IC 23-2-1-1(b), must be registered as an agent.
Since by definition an agent represents a broker-dealer in effecting securities transactions, any attempt to classify an agent as an "independent contractor" is without effect under the Act unless the "independent contractor" is registered as a broker-dealer. By sponsoring an agent and signing the agent's Form U-4, a broker-dealer agrees to be responsible for any acts of the agent in connection with the offer, purchase or sale of securities, including acts which the broker-dealer considers to be outside the scope of the agent's employment. The broker-dealer also agrees to comply with Indiana law regarding designation of branch offices and OSJ's. IC 23-2-1-10(f), regarding annual compliance reports, must also be followed for all branch offices.
Therefore, it is the position of the Indiana Securities Division that the relationship of "independent contractor" between a broker-dealer and an agent is not recognized under the Indiana Securities Act. Any person sponsored by a broker-dealer as an agent is a representative of the broker-dealer in the offer, sale or purchase of securities for civil, criminal and regulatory purposes, regardless of any agreement between the broker-dealer and the agent purporting to limit the liability of the broker-dealer and classify the agent as an "independent contractor." Unless an agent is separately registered as a broker-dealer, he or she will be considered to be an employee of and acting on behalf of the broker-dealer with which he is registered in the offer, sale or purchase of securities. If the broker-dealer is unwilling to assume the supervisory duties and accompanying liabilities inherent in the relationship of broker-dealer and agent, each agent designated as an "independent contractor" should become registered as a broker-dealer.
Policy Statement, Joseph H. Hogsett, Secretary of State, Miriam Smulevitz Dant, Indiana Securities Commissioner, 11-25-91.
Effective February 5, 1993, the Securities Division will utilize the criteria contained in the North American Securities Administrators Association ("NASAA") Omnibus Guidelines adopted by NASAA on March 29, 1992. The Guidelines will be applied to registration statements and private placement memoranda filed with the Securities Division for which no other NASAA Guideline or Statement of Policy applies.
In addition, the NASAA Guidelines adopted under 710 IAC 1-12-8 include subsequent amendments adopted by NASAA unless (1) the Division makes an affirmative statement to the contrary; or (2) the amendment relates to a section of the Guidelines which the Securities Division previously indicated it would not apply.
Policy Statement, Joseph H. Hogsett, Secretary of State, Miriam Smulevitz Dant, Securities Commissioner, 2-5-93.
I. Introduction. The Indiana Securities Act, I.C. sec. 23-2-1 et seq. (the "Act"), defines the term "security" by listing various types of instruments typically thought of as securities, including investment contracts, and then by reference to a catchall provision for any "interest or instrument commonly known as a `security'." I.C. sec. 23-2-1-1(k). Neither the Act nor the Administrative Rules promulgated thereunder define investment contract. This statement of policy clarifies the position of the Indiana Securities Division, which is supported by the weight of authority, regarding the meaning of the term "investment contract" under the Act.
II. Discussion. "Investment Contract" as used in the Act includes, but is not limited to, either or both of the following:
i.) Any investment in a common enterprise with the expectation of a profit to be derived substantially through the managerial efforts of someone other than the investor; or
ii.) Any investment of money or money's worth in the risk capital of a venture with the expectation of some benefit to the investor where the investor has no direct control over the investment or policy decisions of the venture.
The first test above derives from the Supreme Court's holding in SEC v. W.J. Howey, 328 U.S. 293 (1946), and is commonly referred to as the "Howey test." The second test is commonly referred to as the "risk capital test." This statement of policy briefly describes the Indiana Securities Division's interpretation of each of the foregoing tests and concludes with a general discussion of how it applies them.
A. The Howey Test. Under the Howey test, an investment contract "exists where there is (1) an investment, (2) in a common venture, (3) premised upon a reasonable expectation of profits, (4) to be derived from the managerial efforts of others." Sheets v. Dziabis, 738 F.Supp. 307, 311 (N.D. Ind. 1990). See also United Housing Found., Inc. v. Forman, 421 U.S. 837, 852 (1975); American Fletcher Mortgage Company, Inc. v. U.S. Steel Credit Corp., 635 F.2d 1247, 1253-54 (7th Cir. 1980).
1. Investment. The requisite investment does not have to be in the form of money, but can be in the form of any bargained-for consideration. See, e.g., Pratt v. Kross, 276 Or. 483, 555 P.2d 765 (1976); Murphy v. Dare to Be Great, [1971-1978 Transfer Binder] Blue Sky L. Rep. (CCH) ¶71,053 (D.C. Super. 1972) (an investment can be "anything of value or any consideration (including any benefit to the promisor or detriment to the promisee)." Id.). Thus, an in-kind contribution of valuable goods or services can give rise to an investment contract under the Howey test so long as the other three elements also exist. See, e.g., Hector v. Wiens, 533 F.2d 429 (9th Cir. 1976) (lending of credit to an enterprise is an investment sufficient to give rise to a security).
2. Common Enterprise. The common enterprise element of the Howey test may be satisfied in at least two different ways. First, a common enterprise can exist where "multiple investors . . . pool their investments and receive pro rata profits." Stenger v. R.H. Love Galleries, Inc., 741 F.2d 144, 146 (7th Cir. 1984). See also Milnarik v. M-S Commodities, Inc., 457 F.2d 274 (7th Cir.), cert. denied, 409 U.S. 887 (1972). This type of common enterprise is referred to as "horizontal commonality." Horizontal commonality requires more than one investor each of whom places its investment in a common pool established to achieve a particular goal.
The second way a common enterprise can exist under the Act's definition of investment contract is where "the fortunes of the investor are interwoven and dependent upon the efforts and success of those seeking the investment of third parties." 474 F.2d 476, 482 n. 7 (9th Cir. 1973). See also Vairo v. Clayden, 734 P.2d 110 (Ariz. App. 1987); Howell v. Ballard, 801 P.2d 127 (1990). This test, referred to as "vertical commonality," does not require the existence of multiple investors who pool their funds or resources, and looks instead at the relationship between the individual investor and the promotor [sic] or some other third-party who manages and operates the enterprise.
Vertical commonality between the investor and the promotor (or third-party manager) can exist when the investor and the promotor (or third-party manager) share in the profits of their common enterprise. See, e.g., Lopez v. Dean Witter Reynolds, Inc., 805 F.2d 880 (9th Cir. 1986). Vertical commonality does not have to be so limited, however. The necessary interdependence can also exist when the investor relies on the promotor's (or third-party's) expertise even where the promotor (or third-party) receives a flat fee or commission rather than a share of the venture's profits. Long v. Schultz Cattle Co., 881 F.2d 129, 140-141 (5th Cir. 1989). See also Crowley v. Montgomery Ward & Co., 570 F.2d 877 (10th Cir. 1975).
3. Profit Expectation. The Howey test requires that the investor anticipate a profit. The expected profit is not limited to dividends, interest or capital appreciation; rather it is broadly defined to include any economic benefit. See, e.g., Troy v. Lumbermen's Clinic, 186 Wash. 384, 394, 58 P.2d 812, 816 (1936) ("A saving of expense which would otherwise necessarily be incurred is also a profit to the person benefitted." Id.). But see United Housing Found., 421 U.S. at 837. However, if the primary benefit anticipated is that the investor will be able to consume or live in the product of his investment, the investment will likely not be a security. See, e.g., Howey, 328 U.S. at 300. In addition, the profit expectation does not have to be the only factor that motivates the investment; the profit expectation prong of the Howey test is satisfied as long as profit expectation is the
primary motivation. See, e.g., Lowery v. Ford Hill Investment Co., 192 Colo. 125, 556 P.2d 1201 (1976). Finally, it should be noted that the focus of the Indiana Securities Division's analysis is on the investor's reasonable expectation of a profit and not on whether the investment actually generates a return.
4. Efforts of Others. The final prong of the Howey test requires that the anticipated profit be derived from the efforts of others. The Indiana Securities Division analyzes "whether the efforts made by those other than the investor are undeniably significant ones, those essential management efforts which affect the failure or success of the enterprise." Glenn Turner, 474 F.2d at 476. Thus, the Indiana Securities Division requires only that the anticipated profits be derived substantially from the efforts of others, not solely from the efforts of others as the language in some cases suggests. See, e.g., Kim v. Cochenour, 687 F.2d 210, 213 n.7 (7th Cir. 1982); American Fletcher Mortgage, Co., Inc., 635 F.2d at 1247; Le Chateau Royal Corp. v. Pantaleo, 370 So.2d 1155 (Fla. App. 1979) ("[T]he efforts made by those other than the investor must be significant ones in comparison to those made by the investor." Id. at 1157). Moreover, the analysis focuses on the managerial efforts which directly affect the outcome of the venture as opposed to physical efforts. See, e.g., Glenn Turner, 474 F.2d at 476; United Housing Found., Inc. v. Forman, 421 U.S. at 852; Sheets v. Dziabis, 738 F.Supp at 311. Thus, the unscrupulous promotor [sic] cannot avoid classification of an investment scheme as an investment contract simply by requiring the investor to furnish a modicum of physical labor.
B. The Risk Capital Test. The risk capital test was developed in Hawaii v. Hawaii Market Center, 52 Haw. 642, 485 P.2d 105 (1971). See also Silver Hills Country Club v. Sobieski, 55 Cal.2d 811, 361 P.2d 906, 12 Cal.Rptr. 186 (1961). Since that time, several courts have applied it to determine whether a particular economic arrangement fell within the scope of the securities acts. See, e.g., SEC v. Aqua-Sonic Products Corp., 524 F.Supp. 866 (S.D.N.Y. 1981), cert. denied, 459 U.S. 1086 (1982); Ballard & Cordell Corp. v. Zoller & Danneberg Exploration, Ltd., 544 F.2d 1059 (10th Cir. 1976); Healy v. Consumer Business System, Inc., 5 Or. App. 19, 482 P.2d 549 (1971). Moreover, many states have adopted the test as part of their securities statutes, see, e.g., Ga. Code Ann., sec. 10-5-2(26) (Harrison 1990 & Supp. 1993); Okla. Stat. tit. 71, sec. 20(5)p (West Supp. 1993); Alaska Stat. sec. 45.55.130(12) (1962 & 1993 Supp.); N.D. Cent. Code sec. 20-04-02(12) (Supp. 1993), or regulations, see, e.g., Idaho Blue Sky Regs, Rule 30c; Ill. Admin. Code tit. 14, sec. 130.201, N.C. Admin. Code tit. 18, r .06.1104(g); Wis. Admin. Code [comm'r of sec.] 1.02(6), Wyo. Sec. of St., Ch. II, sec. 4.
The Indiana Securities Division applies the risk capital test as an alternative definition of investment contract. It applies the test to both start-up ventures seeking initial capital and to existing businesses seeking additional financing. See, e.g., Alaska Dep't of Commerce v. Spa Athletic Club [1971-1978 Transfer Binder] Blue Sky L. Rep. (CCH) para. 71,136 (Alaska Sec. Div. 1974); Alaska Sec. Div. Interpretive Op. 1 Blue Sky L. Rep. (CCH) para. 8552 (June 13, 1979). As applied by the Indiana Securities Division, the risk capital test defines investment contract as (1) any investment of money or money's worth (2) in the risk capital of a venture (3) with the expectation of some benefit to the investor (4) where the investor has no direct control over the investment or policy decisions of the venture.
III. Conclusion. Whether a particular transaction or arrangement is an investment contract as described above depends on the economic substance of the transaction, not on its form. See, e.g., Tcherepnin v. Knight, 389 U.S. 293 (1967) ("[I]n searching for the meaning and scope of the word `security' . . . form should be disregarded for substance, and emphasis should be on economic reality." Id. at 336); United Housing Found., Inc. v. Foreman, 421 U.S. at 838; Sheets v. Dziabis, 738 F.Supp. at 311; Holloway v. Thompson, 112 Ind. App. 229, 42 N.E.2d 421 (1942). Thus, in determining whether a particular economic arrangement is an investment contract, the Indiana Securities Division analyzes all of the relevant facts and circumstances.
Moreover, the Indiana Securities Act requires that its provisions be "liberally construed to the end that . . . [t]he practice or commission of fraud may be prohibited and prevented [and] . . . [d]isclosure of sufficient and reliable information in order to afford reasonable opportunity for the exercise of independent judgement of the persons involved may be assured." I.C. sec. 23-2-1-15(g); see also Howey, 328 U.S. at 299 (the definition of security "embodies a flexible rather than a static principle, one that is capable of adaptation to meet the countless and variable schemes devised by those who seek to use money of others on the promise of profits." Id.); Glenn Turner, 474 F.2d at 480 ("It is a familiar cannon of legislative construction that remedial legislation is to be interpreted broadly. . . ." Id.). Consistent with this express legislative mandate, the Indiana Securities Division interprets the term "investment contract" broadly, but in a manner consistent with and in furtherance of the purpose of the Indiana Securities Act.
Policy Statement, Joseph H. Hogsett, Secretary of State, Stephan Hodge, Securities Commissioner, 9-20-93.
I. Introduction. On May 13, 1993, the Indiana General Assembly adopted the Indiana Business Flexibility Act, Pub. L. No., 8-1993, 1993 Ind. Acts 1694 (1993) (codified principally at I.C. sec. 23-18-1-1 et seq.). The legislation, which became effective on July 1, 1993, authorizes the creation of limited liability companies ("LLCs") in Indiana. LLCs are a new form of business entity that combines some of the advantages of partnerships and S corporations. Neither the Business Flexibility Act (the "LLC Act") nor the Indiana Securities Act, I.C. sec. 23-2-1-1 et seq. (the "Securities Act") addresses the issue of whether, or under what circumstances, ownership interests in an LLC are securities under the Securities Act. This policy statement sets forth the position of the Indiana Securities Division with respect to that issue. Practitioners should note that if interests in an LLC, referred to as memberships, are securities under the guidelines set forth below, those membership interests will be subject to the provisions of the Securities Act, including the requirement that the offer and sale thereof be registered with the Indiana Securities Division unless an exemption applies. I.C. sec. 23-2-1-3.
The Securities Act defines the term "security" by listing various types of instruments typically thought of as securities, including investment contracts, and then by reference to a catchall provision for any "interest or instrument commonly known as a `security'." See I.C. sec. 23-2-1-1(k). To determine whether an instrument that is not otherwise specifically listed or commonly known as a security should be included in the definition of security, the analysis developed for investment contracts has been applied. Accordingly, the Indiana Securities Division applies an investment contract analysis (discussed below) to determine whether a particular LLC membership interest is a security under the Securities Act.
II. Discussion. A. Generally. "Investment contract" as used in the Securities Act includes, but is not limited to, either or both of the following:
i.) Any investment in a common enterprise with the expectation of a profit to be derived substantially through the managerial efforts of someone other than the investor; or
ii.) Any investment of money or money's worth in the risk capital of a venture with the expectation of some benefit to the investor where the investor has no direct control over the investment policy or decisions of the venture.
In the case of most LLC memberships, there will be little or no question that there has been an investment in a common enterprise or venture with the expectation of a profit or benefit to the investor. Thus, in most cases under either of the alternative investment contract definitions specified above, the Indiana Securities Division's analysis will focus on the nature of the LLC members' right to participate in the management and operation of the venture.
In this regard, the question of whether a membership in an LLC is a security is analogous to the same question with respect to general partnership interests. In the case of most general partnerships there is no question that there has been an investment in a joint undertaking motivated by the expectation of a profit. Thus, in the case of general partnership interests, the investment contract analysis generally focuses on the nature of the general partners' right to participate in the management of the enterprise.
B. Partnership authorities. The leading case on the partnership issue is Williamson v. Tucker, 645 F.2d 404, 422-423 (5th Cir. 1981). See also L & B Hospital Ventures, Inc. v. Healthcare International, Inc., 894 F.2d 150 (5th Cir. 1990). Williamson recognizes that, despite the legal right of general partners to participate in the management of their partnership, a general partnership interest may be a security in two ways. The first way is if the general partner, by the terms of the partnership agreement or otherwise, relinquishes its statutory management rights. That might occur, for example, if the general partners appoint a managing partner or designate a third-party, such as the promoter, to manage the partnership's affairs. Williamson 645 F.2d at 423 ("a general partnership in which some agreement among the partners places the controlling power in the hands of certain managing partners may be an investment contract with respect to the other partners. In such a case the agreement allocates partnership power as in a limited partnership which has long been held to be an investment contract." Id. (citations omitted)); see also Casablanca Products v. Pace International Research, Inc., 697 F.Supp. 1563 (D. Or. 1988); Pfohl v. Pelican Landing, 567 F.Supp. 134 (N.D. Ill. 1983); Pawquin v. Silverstein, 265 F.Supp. 134 (N.D. Ill. 1983). In that case, the general partnership interests may be securities under an investment contract analysis.
The second situation in which a general partnership interest may be a security, even if the general partners retain their management authority, is if the general partners as a practical matter have no realistic opportunity to exercise that authority in a meaningful way. Williamson, 645 F.2d at 423; see also SEC v. Professional Assocs., 731 F.2d 349 (6th Cir. 1984); Gordon v. Terry, 684 F.2d 736 (11th Cir. 1982); In re Clayden, [1984-1985 Transfer Binder] Blue Sky L. Rep. para. 72,165 (Arizona Corporation Commission 1985). That situation most commonly arises if the partnership is involved in a business enterprise which requires a special business expertise which the general partner lacks. In that situation, the general partner must rely on the expertise of some third-party, often the promotor, [sic] to manage and operate the business to the same extent that the general partner relies on a third party when the partner relinquishes its management authority.
Likewise, partnership interests widely sold to the public in large numbers would deprive the partners of any real or meaningful role in management. "[A]t some point there would be so many partners that a partnership vote would be more a corporate vote, each partner's role having been diluted to the level of a single shareholder in a corporation. Such an arrangement might well constitute an investment contract." Williamson, 645 F.2d at 423.
C. Limited liability company analysis. The management rights of LLC members are very similar to those of general partners. Specifically, under the LLC Act, LLC members have the right to participate in the operation and management of an LLC unless they relinquish that right by appointing a manager under the LLC's articles of organization. I.C. sec. 23-18-3-1. Thus, the Indiana Securities Division relies on the foregoing partnership authorities in its investment contract analysis of LLC membership interests. Under those authorities, the Indiana Securities Division's analysis focuses on two issues: (1) whether the members of the LLC have the right to participate significantly in management, and (2) if they do, whether they have the ability, knowledge and skill necessary to exercise that authority in a meaningful way. If the answer to either of those questions is no, the LLC membership interests will be securities (assuming that the other elements of an investment contract are present).
The first issue focuses on the bare legal right of LLC members to manage their LLC. If the members of an LLC give up their management rights and appoint a manager (or management committee) they generally will not be considered to have the right to participate significantly in management. However, if the LLC members retain the right to override the initial decisions of the manager, they may be considered to have meaningful management rights for purposes of this analysis. See, e.g., Goodwin v. Elkins, 730 F.2d 99 (3d Cir. 1984) (right to participate significantly in management of a partnership found where full membership retained the right to override the initial decisions of the management committee); also compare Long v. Schultz Cattle Co., 881 F.2d 129 (5th Cir. 1989) (purchase of property coupled with a management contract held to be an investment contract where the investor did not, as a practical matter, retain final decision making authority) with Commander's Palace Park Assoc. v. Girard Pastel Corp., 572 F.2d 1084 (5th Cir. 1978) (purchase of property coupled with a management contract held not to be an investment contract where the investor retained final decision making authority).
If, pursuant to the foregoing, the LLC members have the legal right to participate significantly in management, the second issue listed above focuses on the substance of that right. Even if the members of an LLC retain their statutory management authority, their LLC interests will still be securities if, based on all of the relevant facts and circumstances, it appears that they do not possess the ability, knowledge and skill necessary to exercise that authority in a meaningful way. The investor must possess the type of ability, knowledge and skill that will permit him or her to exercise his or her management rights without significant reliance on others. In most cases, general business knowledge and experience will not be sufficient to satisfy that requirement; rather the investor should possess ability, knowledge and skill regarding the particular business in which the LLC will engage.
For example, assume an LLC engages in a highly technical and specialized business in which the LLC investor has no particular expertise and that the investor retains full statutory management rights. In that case, although the investor has the legal right to participate in the management of the LLC, the investor lacks the ability, knowledge and skill necessary to exercise that right in a meaningful way. Under that scenario, and assuming that the other elements of an investment contract are present, the Indiana Securities Division would likely consider the investor's LLC interest an investment contract. In a case such as this, the Indiana Securities Division would find particularly relevant representations to the investor that the promotor [sic] or some third party associated with the promotor [sic] possesses some special expertise that is necessary to the success of the venture.
III. Conclusion. Persons forming or seeking investors in LLCs in Indiana should consider, on the basis of the foregoing guidelines, whether the membership interests in their LLCs are subject to the provisions of the Securities Act.
Policy Statement, Joseph H. Hogsett, Secretary of State, Stephan Hodge, Securities Division, 9-20-93.
[Repealed eff. 4-23-96.]
Interpretive letter--Shelf registration policy.
Indiana will permit registration by coordination of offerings made pursuant to the SEC's shelf registration rule, Rule 415. It will be necessary for the applicant to file all prospectus supplements and any posteffective amendments with the Indiana Securities Division promptly after filing with the SEC.
Sales pursuant to such a registration may be made in Indiana at any time sales may be made under the Securities Act of 1933, provided the original application has been on file with the Commissioner for a minimum of ten business days and has not been denied by the Commissioner.
The Commissioner reserves the right to suspend any effective registration after review of prospectus supplements of posteffective amendments, although sales may be made before the filing of such documents.
[Letter from Chief Deputy Securities Commissioner to CCH, 10-25-82.]
Sale to existing shareholders of a mutual fund.
The Petitioner has requested that the Commissioner issue an interpretative opinion regarding the application of IC 23-2-1-2(b)(11), to sales of securities by open-end management companies ("mutual funds") to their existing security holders. The Commissioner is granted authority by IC 23-2-1-2(c), to ". . . render an opinion letter . . . as to the meaning or interpretation of any section or provision of . . . (the Securities Act)."
The Petitioner's request assumes that each mutual fund in question will have on file with the Commissioner a currently effective registration statement relating to its securities; that the original purchase of securities by shareholders of the mutual fund will be subject to the effective registration statement; that the Commissioner will be notified of the offering to existing shareholders by the filing of this registration statement; that no offers or sales will be made to existing shareholders for five (5) business days after filing of the registration statement; and that no commission or other remuneration (other than a standby commission) will be paid to any person for soliciting the existing shareholders.1
Since the original purchase by the existing shareholder would be made pursuant to an effective registration statement, and each purchaser would have had access to the information provided by this registration statement, the practical effect of the requested exemption would be to reduce the amount of securities required to be registered by mutual funds and, ipso facto, the registration fees required by IC 23-2-1-6(b)(1) [23-2-1-6(b)], which provides that:
"Every person filing an application for registration shall pay a filing fee of 1/20th of one percent of the maximum aggregate offering price at which the registered securities are to be offered in this state but the fee shall in no case be less than two hundred and fifty dollars ($250) and in no case be more than one thousand dollars ($1000). However, if the application for registration relates to securities issued by an open-end management company [CCH Federal Securities Law Reporter ¶47,410] or to securities issued by a face-amount certificate company [CCH Federal Securities Law Reporter ¶47,393], as defined by the Investment Company Act of 1940 (15 U.S.C. 80a-1 through 15 U.S.C. 80a-52) there is no maximum fee . . ." (Emphasis added.)
Since enactment of the Securities Act in 1961, it has been the continuous practice of this Division to require that the fee paid by mutual funds be based on the amount of gross sales made in Indiana without regard to whether the securities were sold to existing security holders or were later redeemed by the issuer. As a result of this policy, and the absence of a maximum fee for mutual funds, the Petitioner alleges that mutual funds have paid registration fees which both constitute the bulk of the revenues of the Securities Division and exceed the Division's annual budget.
In support of its Request for an Interpretative Opinion, the Petitioner advances arguments questioning the constitutionality of Indiana's fee structure. The Petitioner first argues that these charges are "fees" rather than "taxes" and must, therefore, be reasonably related to the benefit gained by the payor.2 However, Petitioner does admit that this characterization is not beyond question. See, eg. State v. Siosi Oil Corp., 209 Ind. 394, 199 N.E. 232 (1936) (foreign corporation "admission fee" held to be a "tax"), and Jackson v. Pittsburgh, Fort Wayne and Chicago Railway Company, 193 Ind. 157, 139 N.E. 320 (1923) (domestic railroad "incorporation fee" held to be a "tax"). The state may also exercise its police (license fee) and revenue (tax) powers concurrently. Besozzi v. Ind. Employment Security Board, 237 Ind. 341, 146 N.E. 2d 100 (1957). Whether the charges are characterized as "fees" or "taxes", Petitioner goes on to argue that they are so excessive as to constitute a taking of property without due process and to place an undue burden on interstate commerce.
As previously indicated, the Commissioner does have authority to issue opinions interpreting a section or provision of the Indiana Securities Act. However, such an opinion letter is not an official statement and is not binding on any court in any type of judicial proceeding. IC 23-2-1-2(c), supra. This treatment of such opinions is consistent with a general proposition of administrative law that an administrative agency, in the exercise of its legitimate quasi-judicial functions, may determine facts, but ultimate legal questions must be left to the court. Warren v. Indiana Telephone Company, 217 Ind. 93, 26 N.E. 2d 399 (1940); Indiana University v. Hartwell, 174 Ind. App. 325, 367 N.E. 2d 1090 (1977). In a case which the only dispute was a matter of constitutional law the Indiana Supreme Court has said:
"In the present case, the question presented is of constitutional character. With all due respect, we think resolution of such a purely legal issue is beyond the expertise of the (Employment Security) Division's administrative channels and is thus a subject more appropriate for a judicial consideration." Wilson v. Board of the Indiana Employment Security Division, 385 N.E. 2d 438 (Ind. 1979), 441 cert. den. 444 U.S. 874, 100 S. Ct. 155, 62 L. Ed. 2d 101.
The United States Supreme Court has also noted that constitutional questions are not appropriate issues for administrative determination: "Constitutional questions obviously are unsuited to resolution in administrative hearing procedures . . ." Califano v. Sanders, 430 U.S. 99, 109, 97 S. Ct. 980, 51 L. Ed. 2d 192 (1977). It is simply not the place of an administrative agency to question the constitutionality of its governing statutes. This is a matter for the courts to decide. The role of the administrative agency is to carry out the statute, Indiana University v. Hartwell, supra, and the agency is justified in enforcing any statute until it is declared unconstitutional by a court. Ulrich v. Beatty, 139 Ind. App. 174, 216 N.E. 2d 737 (1966), reh. den. 139 Ind. App. 174, 217 N.E. 2d 858.
The exemptions provided by IC 23-2-1-2(a) and (b) eliminate the necessity for registration of securities or transactions which are either 1) "gilt-edged", People v. Dempster, 396 Mich. 700, 242 N.W. 2d 381 (1976), and, therefore, a safer investment than the ordinary security, or 2) for which the information which would have been provided in a registration statement is already available to the investor. The "(2)(b)(11)" exemption here involved is of the latter category. The Petitioner contends that an existing shareholder of a mutual fund who made his original purchase pursuant to an effective registration, and received a prospectus at that time, is more knowledgeable than the ordinary purchaser of securities in regard to the securities of the mutual fund of which he is an existing shareholder. Further, as an existing shareholder the investor will have received, pursuant to the rules of the Securities Division, periodic reports on the status of the issuer. This contention, that the purpose of the exemption is satisfied in the proposed transactions, is not without some force.
However, IC 23-2-1-3 makes it unlawful for an offer or sale to be made without either registration or exemption pursuant to IC 23-2-1-2. Although the sale proposed to be made by the Petitioner would be made to existing shareholders, there is some question as to when the offer in question is made, and whether the investor is an existing shareholder at the time of such offer. The only reasonable position which does not allow the wholesale avoidance of the legally prescribed registration fees, and does not allow unregistered offers, is that all offers be deemed to be made at the time of the initial offer pursuant ot the registration statement. At the time a prospective investor receives a prospectus for a mutual fund, he is made aware that he may in the future purchase additional shares as well as redeem the shares at any time. Since IC 23-2-1-3, requires that all offers be registered when made, it follows that all sales stemming from such offers must be registered (and the registration fees paid). In the Matter of Gradison Cash Reserves Trust, et al. Commissioner's Order Number 82-0331 SO (Indiana).
This interpretation is consistent with the doctrine commonly known as "integration." This concept has been developed by the Securities and Exchange Commission to deal with transactions that, while technically separate under state law, are part of a single financing program. The factors to be considered in determining if offers should be integrated are:
". . . (1) Are the offerings part of a single plan of financing; (2) Do the offerings involve issuance of the same class of security; (3) Are the offerings made at or about the same time; (4) Is the same type of consideration to be received; and, (5) Are the offerings made for the same general purpose." Securities Act Release No. 4434 (Dec. 1961).
By analogy, each of these factors would be present in the transactions proposed by the Petitioner. The Securities and Exchange Commission has further clarified the reasoning of integration:
"What may appear to be a separate offering to a properly limited group will not be so considered if it is one of a related series of offerings. A person may not separate parts of a series of related transactions, the sum total of which is really one offering, and claim that a particular part is a non-public transaction." Securities Act Release No. 4552 (Nov. 1962).
It was necessary to develop the integration doctrine to prevent avoidance of registration of public offerings which in form consisted of a series of related offerings each of which, when viewed in isolation, would be technically exempt from the registration requirements.
The doctrine applies equally well to the instant situation. At the time of the original offer the investor is made aware that he may purchase the additional securities later on, in virtually unlimited amounts, that he may redeem the securities at any time, and that the investment will in each case be used for the general investment purpose of the mutual fund. The offerings are made at the same time, for the same general purpose.
Still another alternative to lessen the impact of the fee structure is advanced by the Petitioner which invites an interpretation of the word "aggregate" in IC 23-2-1-6(b)(1) [23-2-1-6(b)], supra, to allow credits for redemptions of securities by mutual fund. This has the advantage of not being applicable to other types of issuers who do not redeem securities. While no particular violence is done to the plain meaning of the word "aggregate" (mathematically speaking one may "aggregate" negatives with positives), such an interpretation would fly in the face of twenty-two (22) years of administrative interpretation.
The present policy of the Securities Division has been enforced since the Securities Act was enacted in 1961. The legislature, despite considering the fee structure explicitly at least twice (Acts 1975, P.L. 261, Sec. 4, applying maximum fees to non-mutual fund issuers, and Acts 1981, P.L. 214, Sec. 4, raising the minimum and maximum fees), has chosen not to alter the interpretation consistently applied by previous Commissioners. Legislative acquiescence in longstanding administrative interpretations should not be lightly cast aside. Indiana Dept. of Revenue v. Colpaert Realty Corp., 231 Ind. 463, 109 N.E. 2d 415 (1952), Bender v. State ex rel. Wareham, 388 N.E. 2d 578 (Ind. App. 1979).
In the final analysis the Petitioner's contention is that the General Assembly should have placed a "cap" or maximum on the fees paid by mutual funds when it did so for other issuers in 1975. Addressed to a legislative forum, the petitioner's arguments may well have sufficient force to effect such a change. However, for the reasons set forth herein the commissioner has no such authority and, accordingly, is of the opinion that the exemption afforded by IC 23-2-1-2(b)(11), supra, is not applicable to sales of securities by mutual funds to their existing shareholders.
March 11, 1983, O. Wayne Davis, Indiana Securities Commissioner.
-- Footnotes --
1 IC 23-2-1-2(b)(11), reads as follows: "Any offer or sale of security holders of the issuer, including persons who at the time of the transaction are holders of convertible securities, nontransferable warrants, or transferable warrants, exercisable within not more than ninety (90) days of their issuance if no commission or other remuneration (other than a standby commission) is paid or given for soliciting any security holder in this state and the issuer first files a notice specifying the terms of the offer and the commissioner does not by order disallow the exemption within the next five (5) full business days."
2 While it may be true, as a general principle, that regulatory fees must bear some reasonable relationship to the cost of regulation, fees in excess of the direct cost are not necessarily invalid. See, e.g., Town of Sellersburg v. Stanforth, 209 Ind. 229, 198 N.E. 437 (1935), and Tomlinson v. City of Indianapolis, 144 Ind. 142, 43 N.E. 9 (1896). Further, the Petitioner may be casting the "cost of regulation" too narrowly by focusing only upon the Division's budget. For example, the Attorney General and Prosecuting Attorneys, among others, have duties under the Securities Act.
Attorney and accountant liability for securities violations: Due diligence requirements.
This article is intended as a "word of caution," particularly to lawyers and accountants who do not have a regular securities practice. Professionals who participate in preparation of a securities offering are exposed to liability from two sides--the client in a malpractice action, and investors making securities law claims.1
Space does not permit a detailed analysis, but a few issues deserve special mention. First, and most obvious, an attorney or accountant who intentionally or knowingly participates in a fraudulent transaction will be liable to investors under Section 17 of the Securities Act of 1933, (" '33 Act") 15 U.S.C. §77q, and Section 10 of the Securities Exchange Act of 1934 (" '34 Act") 15 U.S.C. §78j, Ernst & Ernst v. Hochfelder, 425 U.S. 185. Similarly, liability arises under IC 23-2-1-12 and 19 of the Indiana Securities Act.
A more difficult but more significant problem for the honest practitioner is potential liability for negligence in the preparation of documents intended to be used in a securities offering. Traditionally, common law required privity between the professional and the party seeking redress for negligence. Justice Cardozo, in the landmark case Ultramares v. Touche, 174 NE.E. 441 (New York 1931), found that professionals (accountants, in that case) have no duty to the public at large. However, recent cases appear to be moving away from the privity requirement. In April, 1984, the Illinois Appellate Court held that a professional owed a duty of due care to those persons whose reliance on the professional's representations is foreseeable--in this case purchasers of securities in an offering for which a financial statement was prepared, Brumley v. Touche, Ross & Company -- N.E. 2d --, (Ill. App. Ct., April 24, 1984).
With respect to registered offerings, the federal securities laws create specific liability for accountants, in Section 11 of the '33 Act.2 The accountant can escape liability for material, misleading statements in a financial statement in a registered offering only by proving he has used reasonable diligence in preparing the statement.3 While attorneys are not specifically mentioned in Section 11, an attorney providing his opinion of the legality of an offering may well be covered as an "expert."
Section 12 of the '33 Act 4 provides for liability for offerings not registered with the SEC. Although the section limits liability to the "seller" of the securities, attorneys who actively participate in preparing documents and negotiating transactions have been found to be so involved in causing the transaction and the damages to the plaintiff, as to be deemed "sellers," Junker v. Crory, 650 F.2d 1349 (5th Cir. 1981), SEC v. Seaboard Corp., 677 F.2d 1289 (9th Cir. 1982).
Neither Section 11 nor Section 12 of the '33 Act requires that the plaintiff prove more than use of misleading information or omission of material information. The burden is on the defendant professional to show he was not negligent.
Where the professional cannot be found to be a "seller," liability under the federal law may be found under Section 17 of the '33 Act and Section 10 of the '34 Act. Plaintiffs relying on these sections must show scienter on the part of the professional, Ernst & Ernst v. Hochfelder, supra. "Scienter" probably includes recklessness In re North American Acceptance Corp., 513 F.Supp. 608, (N.D. Ga. 1981).
Hence, a professional who doesn't employ minimal standards of conduct will risk liability even if only peripherally involved in a securities transaction.
Every professional who participates in a securities transaction must take care both to verify information supplied by an issuer, seller, or broker, and to make a record of the steps taken to verify information. An accountant should take care to follow generally accepted auditing procedures when preparing financial statements for use in an offering. Lawyers--particularly those issuing opinions on securities law issues--dare not act as mere filing services.
The applications of the securities laws are broad indeed. Lawyers and accountants are well advised to take extraordinary precautions when dealing with securities transactions. Otherwise, they may get caught in a crossfire.
1 Brennan v. Reed, Smith, Shaw, and McCloy, 450 A.2d 740 (Pa. Super Ct. 1982). Investors, of course, sue only when the deal goes bad and the issuer has no money. They tend to look for a lawyer or accountant with a deep pocket.
2 15 U.S.C. §77k
3 Section 11(b)(3)(B)
4 15 U.S.C. §77j
[Indiana Securities Bulletin, July 1984, Regulatory Notes by Philip L. McCool, Chief Deputy Securities Commissioner.]
NASAA/CRD Temporary Agent Transfer Program.
Comes now O. Wayne Davis, Indiana Securities Commissioner, pursuant to IC 23-2-1-9(c), and finding that adoption of the North American Securities Administrators Association/Central Registration Depository Temporary Agent Transfer Program is in the public interest, hereby ORDERS that
Effective July 2, 1984, effectiveness of applications for registration of agents transferring registration from one broker-dealer to another, shall be determined in accordance with the NASAA/CRD Temporary Agent Transfer Program.
Considered and ordered this 2nd day of July, 1984, Edwin J. Simcox, Secretary of State, O. Wayne Davis, Indiana Securities Commissioner, Order No. 84-0067AO.
.01 Temporary Agent Transfer Program. The Commissioner has issued Administrative Order Number 84-0067 AO, approving Indiana's participation in the NASAA/CRD Temporary Agent Transfer Program. * * *
The program is designed to reduce delays in the effectiveness of applications of agents transferring registration from one broker-dealer to another. Only agents with no disciplinary history are eligible for accelerated effectiveness under the program.
Indiana Securities Bulletin, July 1984.
Sales promotions involving zero coupon U.S. Treasury Bonds.
The Petitioner has requested that the Commissioner issue an interpretive opinion regarding the definitions of "broker-dealer" and "agent," IC 23-2-1-1(b) and (c), and their application to Petitioner's proposed sales campaign. The Commissioner is granted authority by IC 23-2-1-2(c) to ". . . render an opinion . . . as to the meaning or interpretation of any section or provision of . . . (the Securities Act)."
The Petitioner's request recites the following facts. The Petitioner is a not-for-profit corporation of which the members are local automobile dealers. The Petitioner acts primarily as an advertising agency for the automobile dealers.
The Petitioner and its members propose a sales campaign, involving the distribution of United States Treasury Bonds, so called "Zero Coupon Bonds" to purchasers of automobiles. When an automobile is sold, the automobile dealer will notify the Petitioner who in turn will purchase in its name a Zero Coupon Bond from a registered broker-dealer. The Petitioner will notify the broker-dealer of the name of the automobile purchaser and the broker-dealer will transfer the bond to the purchaser.
All television commercials and advertising brochures to be used in the sales promotion will be reviewed and approved for use by the registered broker-dealer.
The issue presented by the Petitioner's request is whether the Petitioner, the automobile dealers, and the automobile salesmen would, by their participation in this sales campaign, be transacting business as broker-dealers and agents.
The bonds offered are securities within the meaning of IC 23-2-1-1(k). The transfer of the bonds to purchasers of automobiles is clearly a sale of the bonds to the automobile purchasers. The definition of "offer" and "sale," IC 23-2-1-1(i), reads in part:
"(5) Any security given or delivered with, or as a bonus on account of, any purchase of securities or any other thing is considered to constitute part of the subject of the purchase and to have been offered and sold for value."
"Agent" and "broker-dealer" are defined at IC 23-2-1-1(b) and (c):
"(b) `Agent' means any individual, other than a broker-dealer who represents a broker-dealer or issuer in effecting or attempting to effect purchases or sales of securities. A partner, officer, or director of a broker-dealer or issuer or a person occupying a similar status or performing similar functions is an agent only if he effects or attempts to effect a purchase or sale of securities in Indiana. `Agent' does not include an individual who represents an issuer in:
(1) effecting transactions in a security exempted by clause (1), (2), (3), (7), (8), or (11) of section 2(a) of this chapter,
(2) effecting transactions exempted by section 2(b) of this chapter; or
(3) effecting transactions with existing employees, partners, or directors of the issuer if no commission or other remuneration is paid or given directly or indirectly for soliciting any person in this state."
"(c) `Broker-dealer' means any person engaged in the business of effecting offers, sales or purchases of securities for the account of others or for his own account. `Broker-dealer' does not include:
(1) an agent;
(2) an issuer with respect to the offer or sale of its own securities;
(3) a bank, savings institution, or trust company; or
(4) a person who has no place of business in this state if he effects transactions in this state exclusively with:
(i) the issuers of the securities involved in the transactions;
(ii) other broker-dealers; or
(iii) banks, savings institutions, trust companies, insurance companies, investment companies as defined in the Investment Company Act of 1940 [CCH Federal Securities Law Reporter ¶47,307], pension or profit-sharing trusts, or other financial institutions or institutional buyers, whether acting for themselves or as trustees, whether or not the offeror or any of the offerees is then present in this state."
As we find no Indiana cases construing these definitions, we look to persuasive precedents from other jurisdictions. In the Petitioner's proposed sales campaign, all of the direct contacts with the purchaser of the security will be made by the automobile dealers and their salesmen. The automobile dealers and their salesmen intend to realize a profit from the sale of the securities by means of increased sales of automobiles, or sales of automobiles at higher than usual prices, or both. While the primary business of the automobile dealers and their salesmen is the sale of automobiles, it is not necessary for a person to be primarily engaged in effecting transactions in securities in order to fall within the definition of "broker-dealer." "Engaged in the business" denotes merely a regular course of conduct, UFITEC, S.A. v. Carter (1977) 142 Cal. Rptr. 279, as the automobile dealers here will be regularly engaged in effecting the sale of the bonds to purchasers of automobiles. A person who directly initiates all transactions and makes all direct contacts with purchasers of securities is an "agent," Commonwealth v. David (1974) 309 N.E. 2d 484, 365 Mass. 47.
The Securities and Exchange Commission refused to issue a no action letter to a promoter of a sales campaign dealing with United States Savings Bonds, Find, Inc., '76-'77 Transfer Binder CCH Fed. Sec. Law Rptr., ¶80,955. In that proposed program, a purchaser of goods from merchants participating in the program, would receive credit towards purchase of a savings bond and once sufficient credits had been accumulated would receive a savings bond. The SEC advised that it could not confirm that it would not take action if the promoter was not registered as a broker-dealer.
Registration of agents with the Securities Commissioner is intended to assure the public that qualified persons will be engaged in the securities business. While registration does not of itself prevent misrepresentations, it deters such conduct by alerting the public, through the Division's public records, who is authorized to engage in the securities business. Further, the examination requirements of the Securities Act and the rules thereunder assure that persons engaged in the securities business will be qualified. Broker-dealers are held to a standard of due diligence and responsibility for the supervision of their agents, 710 IAC 1-4-16(n). These requirements further the intent of the legislature that public confidence in the securities markets be maintained by insuring that persons engaged in the business are qualified. See IC 23-2-1-15(g).
The paragraph above answers the question of how the proposed program differs from a sales promotion involving a giveaway of toasters or any other item. The legislature has placed greater burdens of disclosure and responsible conduct on persons selling securities than on persons selling most types of tangible goods. These burdens are intended to prevent fraud which may be attendant to sales of securities by unqualified persons.
The proposed promotion involves so called "Zero Coupon Bonds" which pay no interest but are sold at a substantial discount from the maturity value of the bond. Typically, the bonds are sold for one-tenth (1/10) or less their maturity value. We note that other promoters, both in Indiana and elsewhere, have recently engaged in similar programs. These programs have often involved misrepresentations or failure to disclose material facts regarding these "Zero Coupon Bonds," including:
1. Failure to disclose the market value of the bonds;
2. Representation that the bonds' value presently is equal to the maturity value;
3. Failure to disclose, with respect to U.S. Treasury Zero Coupon Bonds, that the purchaser of the bond will be required to pay income tax on interest which he will not receive;
4. Failure to disclose that the taxpayers basis in the primary item purchased will be equal to the purchase price less the present market value of the bond.
We do not believe that the involvement of a registered broker-dealer, as proposed by the Petitioner, adequately addresses the problem of sales by unregistered persons. While the registered broker-dealer involved will review television commercials and advertising brochures to be used, we do not believe that broker-dealer will be able to carry out his responsibility of due diligence and supervision of agents with respect to the program. Indeed, the broker-dealer might not even be responsible for the conduct of the automobile dealers and their salesmen.
The securities proposed to be distributed by the Petitioner are exempted from registration under IC 23-2-1-2-(a)(1). They are exempted, because as obligations of a government agency, they are both safer and less susceptible to fraud than other types of securities. However, the type of security alone does not affect the analysis of the broker-dealer and agent registration problem. We believe that allowing the sale of these exempt securities through unregistered agents would create a precedent by which registered securities, requiring greater diligence in disclosure, could also be sold by unregistered agents.
I conclude, therefore, that the Petitioner, its members, and their salesmen, would be transacting business as broker-dealers and agents in Indiana if the proposed sales promotion involving distribution of Zero Coupon Bonds is implemented. Registration of the Petitioner, its members, and their salesmen, is required prior to engaging in the proposed program.
O. Wayne Davis, Indiana Securities Commissioner, 11-20-84.
Definition of "institutional buyer" and its application to Rule 144A of the Securities Act of 1933.
The Petitioner has requested that the Commissioner issue an interpretive opinion regarding the definition of "institutional buyer," IC 23-2-1-2(b)(8), and its application to Rule 144A of the Securities Act of 1933, as amended. IC 23-2-1-2(c) grants authority to the Commissioner to ". . . render an opinion . . . as to the meaning or interpretation of any section or provision of . . . (the Securities Act)."
Petitioner states that, as a result of the adoption of Rule 144A to the Securities Act of 1933, it has instituted the PORTAL Market. The PORTAL Market provides a mechanism for the initial distribution and secondary trading of qualified 144A securities by institutional buyers that are qualified for the system.
SEC Rule 144A (55 FR 17933) defines a "qualified institutional buyer." (See Attachment 1 to the Petitioner's letter.)
The issue is whether the definition of "qualified institutional buyer" under SEC Rule 144A is an institutional buyer under IC 23-2-1-2(b)(8).
IC 23-2-1-2(b)(8) provides a transactional exemption from registration under the Indiana Securities law for
(8) An offer or sale to a bank, a savings institution, a trust company, an insurance company, an investment company (as defined in the Investment Company Act of 1940 (15 U.S.C. 80a-1 through 80a-52), a pension or profit-sharing trust, or other financial institution or institutional buyer, or to a broker-dealer, whether the purchaser is acting for itself or in a fiduciary capacity.
The purpose behind the subdivision is to provide an exemption from registration for financial institutions, broker dealers and other sophisticated institutional investors that regularly buy and sell securities in sufficient quantities and/or are in the business of buying and selling securities. These financial institutions, broker dealers and institutional investors are knowledgeable about financial markets.
Under (i) of the Rule 144A definition, each entity owns and invests on a discretionary basis at least $100 million in securities of issuers that are not affiliated with the entity. Therefore, each entity is regularly in the market with a substantial quantity of investments.
In addition, each entity is either exempt under the IC 23-2-2-2(b)(8) or is named an institutional investor by the North American Securities Administrators Association in its 1990 Statement of Policy Regarding Promotional Shares and 1990 Statement of Policy Regarding Options and Warrants. The list of institutional investors includes:
1. An unaffiliated investment company registered under the Investment Company Act of 1940;
2. An unaffiliated business development company as defined in Section 2(a)(48) of the Investment Company Act of 1940;
3. A private business development company as defined in Section 202(a)22 of the Investment Advisors Act of 1940, or a comparable business entity which is engaged, as a substantial part of its business, in the purchase and sale of securities and which owns less than twenty percent (20%) of the Issuer's securities that are to be outstanding at the completion of this proposed public offering.
IC 23-2-1-2(b)(8) specifically exempts an offer or sale to dealers, investment companies, banks and savings institutions. Therefore, those entities, including savings and loan associations, foreign banks or equivalent institutions, fall within the exception. [Rule 144A(ii), (iii), (iv) and (vi).]
It therefore follows that any entity in which all equity owners are qualified institutional buyers is a qualified institutional buyer. [Rule 144A(v).]
I conclude, therefore, that the definitions of qualified institutional buyers under SEC Rule 144A fall within the transactional exemption for institutional buyers of IC 23-2-1-2(b)(8).
Joan Moore Mernitz, Indiana Securities Commissioner, 12-19-90.
Comes now Bradley W. Skolnik, Indiana Securities Commissioner, and pursuant to the authority granted by IC 23-2-1-15(f), ORDERS:
1. that Administrative Order Number 84-0009 regarding Notice of Sales, issued on January 1, 1984 by O. Wayne Davis, then Indiana Securities Commissioner, is hereby repealed; and
2. that the notice of sales required by IC 23-2-1-2(b)(10)(H) and 710 IAC 1-13-6 shall be filed on Form D as provided by 17 CFR 239.500;
This administrative order shall be effective as of this date and shall remain in effect until such time as it is modified by the Commissioner.
Administrative Order, Bradley W. Skolnik, Indiana Securities Commissioner, 4-16-96.
Statement of Policy regarding exemptions claimed pursuant to IC 23-2-1-2 and 710 IAC 1-13-6.
The following exemptions from the registration requirements of the Indiana Securities Act claimed pursuant to IC 23-2-1-2(a) and (b) are not self-executing and require filing of a notice with the Indiana Securities Division:
1. An exemption from registration of securities claimed pursuant to IC 23-2-1-2(a)(7) requires the filing of a notice specifying the terms of the plan before any offer or sale is made. This notice requirement may be satisfied by filing with the Division a copy of the proposed benefit plan. The Division then has five full business days following the filing to determine whether the exemption should be disallowed. This requirement does not apply to plans that qualify under Section 401 of the Internal Revenue Code or do not provide for contribution by employees. This filing should be accompanied by a filing fee of one hundred dollars ($100). In addition, the issuer should submit a cover letter indicating the specific exemption claimed.
2. An exemption from registration of a securities transaction claimed pursuant to IC 23-2-1-2(b)(10)(D) requires the filing with the Division of an offering memorandum setting forth all material facts with respect to the securities. The issuer should submit a cover letter indicating the specific statutory section under which exemption is claimed. A form U-2 and a fee of one hundred dollars ($100) should accompany the filing. The notice of sale required by this section may be filed using the Federal Form D. In addition, the issuer should submit any documents required by the applicable NASAA Guidelines for the security being offered.
3. An exemption claimed pursuant to IC 23-2-1-2(b)(10)(E) requires the filing of all written materials that will be provided by the issuer to any offeree. The name, address and form of organization of the issuer and any affiliate, the nature of the principle businesses of the issuer and any affiliate should also be provided either within the aforementioned materials or in a separate written statement. In addition, the written materials or separate statement should provide the information regarding the issuer, officers, directors, beneficial owners and promoters required by IC 23-2-1-2(b)(10)(B), (C), (D) and (E). The submitted materials should also disclose the information required by IC 23-2-1-2(b)(5)(H) regarding the securities, commissions, expenses, and distribution plan. The issuer must file a form U-2 with this filing. The notice of sale required by this section may be filed using the Federal Form D. This filing should be accompanied by a filing fee of one hundred dollars ($100). A cover letter indicating the specific exemption claimed should accompany the filing. The Division has ten full business days following the filing of these documents to determine if the exemption will be allowed.
4. An exemption from registration of a securities transaction claimed pursuant to IC 23-2-1-2(b)(11) requires the filing with the Division of a notice specifying the terms of the offer. The filing of a copy of the offering materials to be used in the offer is sufficient to satisfy the notice requirement of this section. This filing should be accompanied by a filing fee of one hundred dollars ($100). In addition, the issuer should submit a cover letter indicating the specific exemption claimed. The Division then has five full business days following the filing to determine if the exemption should be disallowed.
5. An exemption from registration of a securities transaction claimed pursuant to IC 23-2-1-2(b)(15) requires the filing with the Division of a notice specifying the terms of the transaction. The filing of a copy of the offering materials to be used in the offer is sufficient to satisfy the notice requirement of this section. This filing should be accompanied by a filing fee of one hundred dollars ($100). In addition, the issuer should submit a cover letter indicating the specific exemption claimed. The Division then has five full business days following the filing to determine if the exemption should be disallowed.
All other exemptions claimed pursuant to IC 23-2-1-2(a) and (b), including those claimed pursuant to IC 23-2-1-2(b)(10)(G), are self-executing and do not require notice filing.
Effective March 21, 1996, Indiana adopted the Indiana Uniform Limited Offering Exemption (IULOE); the text of this exemption may be found at 710 IAC 1-13-6. IULOE is applicable to offerings which comply with the provisions of 17 CFR 230.504, 17 CFR 230.505 or 17 CFR 230.506. An exemption claimed pursuant to this regulation requires the filing of all written materials that will be provided by the issuer to any offeree. The issuer must file Federal Form D and a form U-2 with this filing. There is no filing fee required for this exemption. Notice must be filed with the Indiana Securities Division 10 days prior to the receipt of consideration or the delivery of a subscription agreement by an investor in this state which results from an offer being made in reliance upon this exemption.
Policy Statement, Bradley W. Skolnik, Indiana Securities Commissioner, 4-23-96.
Statement of Policy regarding the merger of mutual funds.
The Division issues the following statement in order to clarify the filing requirements with regard to the merger of two or more mutual funds into one surviving fund:
A notice of exemption claimed pursuant to IC 23-2-1-2(b)(15) is required only in instances where the surviving mutual fund is not registered to offer shares in the state of Indiana. Under the circumstances described above, the non-registered mutual fund may opt to file a registration statement with the state at the time of the merger and would not then be required to file a notice of exemption in addition to that registration.
Policy Statement, Bradley W. Skolnik, Indiana Securities Commissioner, 4-23-96.
Tips for using Indiana's limited offering exemptions.
When Bradley W. Skolnik was appointed Securities Commissioner by Secretary of State Sue Anne Gilroy, one of the concerns most frequently mentioned to him by securities law practitioners was the difficulty of using Indiana's statutory limited offering exemption (Section 2(b)(10) of the Indiana Securities Act). In response, the Securities Division adopted the Indiana Uniform Limited Offering Exemption ("ULOE"), 710 IAC 1-13-6. The Indiana ULOE is patterned after the model adopted by the North American Securities Administrators Association (NASAA). Compared with Section 2(b)(10), ULOE provides practitioners with a simplified filing procedure and closer coordination with SEC Regulation D.
After reviewing the exemptions, attorneys frequently call the Securities Division to ask whether in light of ULOE there is any reason ever to use Section 2(b)(10). The only offerings for which Section 2(b)(10) allows simpler compliance than ULOE are those that fall within Section 2(b)(10)(G). That section provides three self executing exemptions for certain very small offerings. In order to qualify for a self-executing exemption, the offering need only fall under one of the three sub-parts of Section 2(b)(10)(G), not all three. If an offering does not fall within Section 2(b)(10)(G) and a filing must be made with the Division, there is almost never any reason to file under Section 2(b)(10). All Regulation D filings coordinate with ULOE, and ULOE's filing requirements are less burdensome than those of Section 2(b)(10) if doing a 1933 Act Section 4(2) exemption which does not fall within the Regulation D safe harbor.
There are a couple of unique features of Indiana ULOE about which practitioners frequently ask. One is that there is no filing fee. Another is that the Indiana ULOE incorporates SEC Rule 504 offerings. Thus, the exemption can be used for deals up to $1 million which are not strictly private placements.
Since its adoption, we have found that ULOE has been easily administered by the Securities Division staff and has expedited compliance for issuers and their counsel.
Interpretive Opinion,James Andrew Klimek, Chief Counsel to the Securities Commissioner, Indiana Securities Division, 9-30-96.
The Indiana Securities Commissioner is authorized by IC 23-2-1-7 to deny registration to offerings which, among other things, involve unreasonable promoter's profits, unreasonable brokerage compensation, or would tend to work a fraud on the investor. Pursuant to that statutory authority, the Securities Division adopted the regulations found at 710 IAC 1-12-1 through 710 IAC 1-12-7. These regulations govern brokerage compensation for and the merits of stock and debt security offerings. In addition, the staff refers to the North American Securities Administrators Association Guidelines and Statements of Policy for additional merit standards with regard to various types of offerings. In utilizing this merit review policy, it is the intent of the Division to maintain a balance between the goal of preventing offerings which might tend to work a fraud on the citizens of the state of Indiana and the goal of facilitating business capital formation. The Commissioner retains the option to permit deviation from the merit standards, depending on the individual circumstances presented by a particular offering. Issuers wishing to deviate from a given standard should be prepared to present justification for the requested deviation.
The Division will apply merit review standards to all securities registered by qualification filed pursuant to IC 23-2-1-5 and to securities registered by coordination filed pursuant to IC 23-1-2-4.
The Commissioner is granted authority by IC 23-2-1-2(d) to deny exemptions under IC 23-2-1-2(a)(6), (7) and (8), as well as IC 23-2-1-2(b), to offerings which would not qualify for registration due to merit deficiencies. Pursuant to this authority, the staff may, if deemed necessary to further the intent of the Indiana Securities Act, apply merit standards to offerings which are exempt under IC 23-2-1-2(b)(10)(D), IC 23-2-1-2(b)(10)(E), or 710 IAC 1-13-6. However, as a general policy, the Securities Division will not apply merit standards to these types of exempt offerings. Thus, the Division will allow an exemption where the offering materials contain full disclosure regarding each material aspect of the offering. Offerings will be required to comply with the anti-fraud provisions of IC 23-2-1-12 and meet the suitability requirements of 710 IAC 1-13-6(d)(4).
In determining whether a particular private placement meets the suitability requirements of IC 23-2-1-2(b)(10)(D)(ii), the following standard, as found in the NASAA Uniform Limited Offering Exemption and at 710 IAC 1-13-6(d)(4), will be applied:
The investment must be suitable for the purchaser based upon the facts disclosed by the purchaser as to the purchaser's other security holdings, financial situation and needs. It may be presumed that if the investment does not exceed 10% of the investor's net worth, it is suitable; or
The offering must require that a non-accredited investor either alone or with a purchaser representative have the knowledge and experience in financial and business matters to the extent that the purchaser is capable of evaluating the merits and risks of the prospective investment.
The Securities Commissioner may otherwise deny or revoke an exemption, or require compliance with additional conditions, if doing so would further the intent of the Indiana Securities Act.
Policy Statement, Bradley W. Skolnik, Indiana Securities Commissioner, 4-23-96.