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Realigning Federal and State Roles in Securities Regulation Through the Definition of a Security

Courts that base their decision on economic realities in holding that shares of common stock in profit-making corporations do not constitute “stock” within the meaning of the federal securities statutes misinterpret the congressional intent evidenced in the statutory structure. The results are without logical foundation either in the language of the statutes themselves or in the Supreme Court holdings on which the cases purport to rely. If the purpose of the trend, although still unstated, is to remove closely held corporations from regulation under federal securities law, that goal has not been achieved in a significant number of cases. In other cases, identical reasoning would preclude federal regulation even where several hundred shareholders might be involved. The cases introduce into the analysis an asymmetry that is discomfiting at best and almost certain to introduce significant procedural complications as the case law develops. The uncertainties involved in the sale of business doctrine make planning of transactions in stock of closely held businesses more complicated and costly, and is unlikely to achieve an appropriate balance of state and federal regulation in the securities are. Rather, this doctrine is likely to result in the exclusion of transfers of control of close corporations from the procedural and substantive advances in antifraud protection that have developed under both federal and state securities laws. Administrative or statutory rulemaking offer an alternative means of realigning federal and state securities roles. The Securities and Exchange Commission has discretionary power to restrict application of rule 10b-5’s antifraud claims to certain classes of business enterprises, and Congress also possesses authority to legislate such a limitation, yet neither has done so yet, and the courts have acted in their stead. Even if the courts are correct that federal regulation in this area needs to be curtailed, it is more appropriate to rely on Congress or its designated administrative agency to effect the many technical changes that are necessary, which would leave the courts in their traditional role of interpreting in the interstices of the statutes.