The Sale-of-business Doctrine
| Publication year | 1985 |
| Pages | 1787 |
1985, October, Pg. 1787. The Sale-of-Business Doctrine
For several years, courts have reached differing conclusions on whether the sale of 100 percent of the stock of a corporation was really the sale of a business or the sale of a security for purposes of the federal securities laws. The U.S. Supreme Court has finally turned out the lights on the sale-of-business doctrine, a victory for the literalists over the realists of statutory construction. A pair of companion cases recently decided by the Supreme Court, Landreth Timber Co. v. Landreth and Gould v. Ruefenacht(fn1) clearly and overwhelmingly reject the practical reasoning in favor of a literal reading of the statutory definition of a "security" under the Securities Act of 1933 and the Securities Exchange Act of 1934 ("Acts").(fn2)
This article briefly reviews the development of the sale-of-business controversy, its rejection in Landreth and Ruefenacht and the ramifications of its rejection for practitioners involved in the preparation of business purchase agreements.
The sale-of-business doctrine has developed over the past ten years as a judicial limitation on the application of the anti-fraud provisions of the Acts(fn3) to certain stock-based sale-of-business transactions. The logic of the doctrine was that not all stock sales warranted the protection of the federal securities laws, even though "stock" is one of the terms contained in the statutory definition of a "security."(fn4)
The U.S. Supreme Court initially addressed the definitional issue pertaining to "stock" as a security in 1975 in United States Housing Foundation, Inc. v. Forman.(fn5) The Court held in this case that so-called "stock," entitling the purchaser to lease an apartment in a housing cooperative, was not a "security" for purposes of the federal securities laws. In reaching its decision, the Court first concluded that the stock at issue did not come within the statutory definition of a "security" because it did not possess the characteristics typically associated with that type of instrument. The Court then utilized the "investment contract" test to determine if, nonetheless, a security was involved.
The Forman decision was not clearly interpreted by the federal circuit courts. Based upon Forman, a litany of decisions developed that bypassed or ignored the overriding importance of the statutory definition analysis, which was the threshold test considered in Forman. Instead, about one-half of the federal circuits adopted the investment contract and economic substance analysis (sale-of-business doctrine), an analysis which Forman resorted to only as a secondary inquiry.
The investment contract analysis had been considered in SEC v. W. J. Howey Co.,(fn7) where the instrument at issue (a land sales contract, warranty deed and service contract) was not expressly described in the laundry list of instruments defined as a "security" in the definitional sections of the Acts. In Howey, the Supreme
Corporation, Banking and Business Law Section
The Antitrust and Trade Regulation Subsection conducts reviews of proposed legislation in the antitrust and trade regulation area, presents periodic topical luncheons relating to antitrust and trade regulation issues, and acts as a liaison among antitrust practitioners to address current developments. The subsection focuses its efforts upon a continuing legal education presentation in the antitrust and trade regulation area which is presented during each fall at the Colorado Bar Association convention. Information concerning this subsection can be obtained from Larry Theis at 322-2015.
This newsletter is prepared by the Corporation, Banking and Business Law Section of the Colorado Bar Association to apprise members of the Bar of current information concerning substantive areas of business law. This month's column was written by Stuart W. McKinlay, Colorado Springs,...
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