Brief Fact Summary. Â Charles Edwards’s (Defendant) corporation sold payphones to the public at a guaranteed rate of return. The SEC (Plaintiff) brought a civil enforcement action against Edwards claiming he violated both registration requirements and antifraud provisions of the federal securities laws.
Synopsis of Rule of Law. Investment arrangements that promise a fixed rate of return can be considered an investment contract and therefore a security subject to the federal securities laws.
Issue. Is an investment scheme guaranteeing a fixed return rate subject to federal securities laws as an investment contract?
Held. (O’Conner, J.) Yes. An investment scheme promising a fixed rate of return can be an investment contract and therefore considered a security that is susceptible to the federal securities laws. As defined by Â§ 2(a)(1) of the 1933 Act and Â§ 3(a)(10) of the 1934 Act, a â€œsecurityâ€ includes the term â€œinvestment contractâ€ but fails to define the latter. The Court has determined the test for deciding whether a certain scheme falls under an investment contract is â€œwhether the scheme involves an investment of money in a common enterprise profiting in its entirety from others effortsâ€.Â â€œProfitsâ€, dividends, increased investment value or periodic payments to name a few, are profits investors seek on their investment, not the profits of the investment scheme itself.Â This type of arrangement is desirable to the investing public by depictions of investment income. Individuals attracted to low risk investments, like those promising a fixed return, are generally more vulnerable to investment fraud. Following the reading furthered by Edwards, just by promising a rate of return, corrupt investment promoters were able to evade the securities laws. Edwards was erroneous in claiming that including a fixed return investment strategy with investment contracts conflicts with the precedent. The SEC regularlyupheld that a guarantee of a fixed return does not impede a scheme from being an investment contract. The court of appeals’ obligatory alternative holding of Edwards scheme failing to meet the criteria for an investment contract due to clients having are contractually due a fixed return isnot in accordance with this Court’s precedent. Reversed and remanded.
Discussion. Here, the Court utilized the landmark case that defined an â€œinvestment contractâ€, SEC v. W.J. Howey Co., 328 U.S 293 (1946).Â The court of appeals interpreted the landmark case to exclude contracts with guaranteed returns. Concerned that marketers could avoid federal regulations by merely promising a fixed return to inexperienced investors, consumer groups filed amicus briefs in the case. It is obvious that the Court heeded the groups’ apprehensions, which specificallymentioned how impactful upholding the court of appeals interpretation is on inexperienced investors.