Petitioners Brief — Rubin v. United States

In THE

Supreme Court of the United States

Octoser Term, 1980

No. 79-1013

WILLIAM RUBIN,

Petitioner,

UNITED STATES OF AMERICA,

Respondent.

On Writ of Certiorari to the United States Court of Appeals

for the Second Circuit

BRIEF FOR PETITIONER, WILLIAM RUBIN

Louis BENDER,

Attorney for Petitioner,

225 Broadway,

New York, New York 10007

Benver & FRANKEL,

Sanpor FRANKEL,

Of Cownsel.

———_

Adams Press Corp., 130 Cedar Street, N. Y¥. 10006—(212) 233-1050.

“os,

IN THE

Supreme Court of the United States

Octoser Term, 1980

No. 79-1013

»™

> a

WILLIAM RUBIN,

Petitioner,

UNITED STATES OF AMERICA,

Respondent.

On Writ of Certiorari to the United States Court of Appeals

for the Second Circuit

» =

a

BRIEF FOR PETITIONER, WILLIAM RUBIN

Question Presented

Whether a pledge of stock to a bank as collateral for a

loan is a “sale” of a security under § 77q(a), Title 15,

U.S.C. (Securities Act of 1933).

[i]

TABLE OF CONTENTS

PAGE

I Or ID ns iiciarvioennsneepmeorntciieniqubanceninanntiiceny i

er TOW Sacto 1

JURISDICTION ........ ad cosieabsestlaiaadiamuinesaeseans 1

STATUTORY PROVISIONS .......-.--c-ccscccecceecseeceeese 1

STATEMENT OF THE CASE ...... 3

SUMMARY OF ARGUMENT ..........-- 10

Pornt I—The pledge of securities as collateral for a

loan is neither a “sale” nor a “purchase” for the

purpose of invoking the anti-fraud provisions of

Se NII RINE 2 neuitintcnsscconlencteunesiaoridibsetnemnboiosenien 12

Point IJ—Sound policy reasons indicate that Con-

gress never intended to extend the anti-fraud pro-

visions to pledge transactions ...................:----+ 20

LTT an 27

Cases Cited

Aaron v. SEC, No. 79-66, 48 U.S.L.W. 4609 ................ 10, 24

Affiliated Ute Citizens v. United States, 406 U.S.

128, 92 S.Ct. 1456, 31 L.Ed.2d 741 (1972) .............. 20

Blue Chip Stamps v. Manor Drug Stores, 421 U.S.

pp OBS & aL: ft) 10, 11, 15, 25, 26

Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct.

I I Cio icir ca ned onbieaubanntiniansbeniiahiandie 9, 10, 15

Fox v. Glickman Corp., 253 F.Supp. 1005 (S.D.N-Y.

aN EAL EAL DIE AR SRO Enea A Ah RR Or 23

il TABLE OF CONTENTS

PAGE

Investment Properties Intl. Ltd. v. 1.0.8. Ltd. [1970-

1971], F.See.L.Rep. (CCH), par. 93,011 (S.D.N.Y.

BURLY. civics i 23

J. I. Case Co. v. Borak, 377 U.S, 426, 84 S.Ct. 1555,

21 L.Ed.2d 423 (1964) ............... es 20

Lincoln National Bank v. Herber, 604 F.2d 1038 (7th

ee. RIED cls tceeictaais ..11, 16, 18, 22, 25, 26

Mallis v. Federal Deposit Insurance Corp., 568 F.2d

824 (2d Cir. 1977), cert. granted, 431 U.S. 928, 97

S.Ct. 2630, 53 L.Ed.2d 248, cert. dismissed, sub

nom Bankers Trust Co. v. Mallis, 485 U.S. 381, 98

S.Ct. 1117, 55 L.Ed 357 (1978) ncceccccencvccccress 11-14, 21

Mansbach v. Prescott, Ball & Turben, 598 F.2d 1017

COG GAG, SFOS saccade 11, 12, 14, 15

McClure v. First National Bank, 497 F.2d 490 (5th

Cir. 1974), cert. den. 420 U.S. 9380 (1975) -............. 13, 23

National Bank of Commerce of Dallas v. All Ameri-

ean Assurance Company, et al., 583 F.2d 1295 (5th

CR. SPD ccnerreneiesendninceicdein 11, 14, 17, 18, 20-22, 25

Pauly v. State Loan & Trust Co., 165 U.S. 606, 17

rt, Ge CED eirencenins 17

SEC v. Fifth Ave. Coach Lines, 289 F.Supp. 3, 38

(S.D.N.Y. 70), aff’d, 435 F.2d 510 (2d Cir. 1970) .. 17

SEC v. Guild Films Co., 279 F.2d 485 (2d Cir. 1960),

ooxt. den. G8 UB. SED CIGD scovacecu nes 23

Superintendent of Insurance v, Bankers Life & Cas-

ualty Co., 404 U.S. 6, 92 S.Ct. 165, 30 L.Ed.2d 128

(T5Tk) 20

Tscherepnin v. Knight, 389 U.S. 332, 88 S.Ct. 548,

19 L.Ed.2d 564 (1967) ............. t 14, 19

TABLE OF CONTENTS lii

PAGE

United Housing Foundation, Inc. v. Forman, 421 U.S.

837, 95 S.Ct. 2051, 44 L.Ed.2d 621 (1975) -........2...... 19, 22

United States v. Gentile, 530 F.2d 461 (2d Cir. 1976),

cert. den., 426 U.S. 936 (1976) ............ 11-15, 18, 20, 21, 24

Statutes Cited

Title 15, United States Code:

See. 77(b) (3) 12,13

See. 77q(a) i, 1, 3, 12, 14, 23-26

See. 78¢(13), (14) 14

aac cccscteee 2, 15, 25

See. 791(d) 15

Title 18, United States Code:

See. 371 a". =

See. 1014 2, 25

Title 28 United States Code:

See. 1254(1) 1

Securities Act of 1933:

Ee Piedleicinencion 1,13

Ceci ces cc cemnvencsccercceccesceceoee 3

Securities Exchange Act of 1934:

ca ccnacsnees 13

See. 10(b) 13, 21, 23-26

Rule 10b-5 2,13

Public Utility Holding Company Act of 1935 ........... 15, 25

lv TABLE OF CONTENTS

PAGE

Regulation Cited

L. Loss, Securities Reg.:

645 (2d od. 1901) ........... ~ ae

649 (2d ed. 1961) ........ aa 21

Rule Cited

Federal Rules of Appellate Procedure:

SOU BEERS | cccccvictcnaintonialssaseenibaeecmaaaaaiiaanitis 1

Other Authorities Cited

L. Jones, Collateral Securities and Pledges, Sec. 1

(3d ed. 1952) 0... ion ee |

Restatement of Security See. 1 (1941) i

Opinion Below

The opinion of the Court of Appeals is officially re-

ported at 609 F.2d 51 (1979).

Jurisdiction

The Court of Appeals in a split decision affirmed the

conviction. Timely petitions for rehearing and a sug-

gestion for a hearing en banc were denied on November

20, 1979. By Order of the Court of Appeals previously

issued on October 10, 1979, the Court of Appeals stayed

the issuance of the mandate pursuant to Rule 41(a) of

the Federal Rules of Appellate Procedure pending ap-

plication to this Court for a writ of certiorari. The peti-

tion for a writ of certiorari was filed on December 19,

1979 and was granted on April 14, 1980. Jurisdiction of

this Court rests on 28 U.S.C. § 1254(1).

Statutory Provisions

§ 2(3), Securities Act of 1938, § 3(a)(13), (14), Seeuri-

ties Exchange Act of 1934, §§ 77q(a), 77x, Title 15, U.S.C.,

§ 371, Title 18, U.S.C., have been set forth in the petition

for the writ of certiorari at pages 3-4.

Title 15, United States Code

See. 79b(a) (23)

“ Sale’ or ‘sell’ includes any sale, disposition by

lease, exchange or pledge, or other disposition.”

Title 18, United States Code

See. 1014

“Whoever knowingly makes any false statement

or report, ...for the purpose of influencing in any

way the action of . .. any bank the deposits of

which are insured by the Federal Deposit Insurance

Corporation, . . . upon any application, advance,

discount, purchase, purchase agreement, repurchase

agreement, commitment, or loan, or any change or

extension of any of the same, by renewal, defer-

ment of action or otherwise, or the acceptance, re-

lease, or substitution of security therefor, shall be

fined not more than $5,000 or imprisoned not more

than two years, or both.”

Securities Exchange Act of 1934

See. 10(b)

“To use or employ, in connection with the pur-

chase or sale of any security registered on a na-

tional securities exchange or any security not so

registered, any manipulative or deceptive device

or contrivance in contravention of such rules and

regulations as the Commission may prescribe as

necessary or appropriate in the public interest or

for the protection of investors.”

Code of Federal Regulations, Vol. 17, § 240.10b-5

Rule 10b-5

“It shall be unlawful for any person, directly or

indirectly, by the use of any means or instrumental-

ity of interstate commerce, or of the mails or of any

facility of any national securities exchange,

“(a) To employ any device, scheme, or artifice to

defraud,

“(b) to make any untrue statement of a material

fact or to omit to state a material fact necessary in

order to make the statements made, in the light of

the circumstances under which they were made,

not misleading, or

“(c) To engage in any act, practice, or course of

business which operates or would operate as a fraud

or deceit upon any person,

“in connection with the purchase or sale of any

security.”

Statement of the Case

Petitioner was indicted on January 27, 1978 in three

counts. Count 1 charged a conspiracy under Section 371

of Title 18, U.S.C., to violate (a) Section 17(a) of the

Securities Act of 1933 (77q(a) and 77x of Title 15, U.S.C.),

(b) Section 77e of Title 15, U.S.C., (¢) Sections 1014 and

2 of Title 18, U.S.C., and (d) Sections 1341 and 1348 of

Title 18, U.S.C. Counts 2 and 3 charged violations of

Sections 1014 and 2 of Title 18, U.S.C., and violations of

Sections 77q(a) and 77x of Title 15, U.S.C., respectively.

The part of the conspiracy which is at issue here is

that which charged a violation of Sections (17(a), 77q(a)

and 77x, Title 15, U.S.C.). As part of the objects and means

whereby that part of the conspiracy was committed, the

indictment charged that the fraud in obtaining loans from

the Bankers Trust Company occurred by pledging as

collateral to said bank common stock of All-State In-

surance Company, Satellite Systems Corp., General In-

vestment Corp. and Marlin International Company.

Rubin is 48 years old, having been born in New York.

He graduated from New York University in 1951. He at-

4

tended the New York Law School at night and graduated

in 1960. Rubin was neither admitted to the Bar nor did

he practice law. In 1956 he became a CPA. Rubin formed

his own accounting firm in 1975 and has conducted it since

then as a senior partner of W. R. Rubin & Co. (R.* 1638-

1639). Between 1961 and 1970 Rubin was with the ac-

counting firm of Fred Landau & Co. (R. 1776). He left

Landau & Co. and the accounting business in 1970 to

form his own firm specializing in mergers and acquisi-

tions (R. 1777, 1781-1752). In September or October, 1971,

he aecepted employment with North American Planning

Corp., a public brokerage company in which he was a

business consultant and a member of the board of direc-

tors (R. 1787).

When North American began to have financial difficulty,

he sought additional financial help from others which led

him to co-defendant Leonard James, who was a former

Internal Revenue agent and who Rubin knew had been

previously employed by Dugan’s Bakery, a former client

of Landau & Company (R. 1798). Through James some

financial help was obtained (R. 1799) as weil as an intro-

duction to co-defendant Deaton with whom James was

then in the coal and energy business as Tri-State Energy

Company (R. 1803). To Rubin, Deaton alleged himself to

be an expert on coal and gas, a forecaster of the shortage

of energy, a man who had apparently been in the pipeline

business for many years, and a bright, articulate, and

charming individual (R. 1803-1804).

When North American was taken over by a trustee in

August or September of 1972 on application of the SEC,

Rubin left the company to go with Tri-State Energy.

* The letter “R” followed by a number designates page refer-

ences to the trial transcript.

Deaton and James had told Rubin that Tri-State’s pros-

pects were tremendous and the profits dealing in coal and

gas substantial (R. 1836-1837). While he was told Tri-

State had a cash flow problem, he was further told dis-

cussions with others were being had which would bring in

millions to Tri-State (R. 1837-1838). Although Rubin was

told he would make money with them, Deaton refused to

give him a steek interest in the business which was owned,

he said, 50-50 by James and him (JA178*; R. 1838). Rubin

agreed to go with the company and as compensation to re-

ceive $2,000 a month, a $10,000 Christmas bonus (R. 1837),

and 20% of the profits (R. 1838, 1841).

Because Tri-State needed capital Rubin approached the

Bankers Trust Company with whom he had had excellent

relations while with Landau & Co. and with whom he had

negotiated loans in behalf of clients of Landau. Rubin had

met Raymond Ludwig of that bank and sought from him

on October 19, 1972 for Tri-State a $5,000,000 loan which

the company needed to operate the mine (R. 1855). Lud-

wig declined the loan of that size (R. 1855). Instead Lud-

wig said:

“T am going to put you on for $50,000 for 30 days.

At the end of the 30 days, if you can produce an

up-to-date financial, we... will see your track rec-

ord.” (R. 1859)

Ludwig introduced petitioner and Deaton to his assistant

John Keating on that day. Keating was a prosecution wit-

ness. He was told the bank was making a loan to Tri-

State Energy which was in the coal business with mines

in Kentueky and which needed the loan for pavyrell at the

mine (JA6; R. 222, 224). Keating was further instructed

-

* The letters “JA” followed by 2 number designates page refer-

ence to the joint appendix.

6

by Ludwig to open checking accounts and process the loan

as he would do normally with any new account (R. 222).

The documents obtained were the execution of a promis-

sory note for $50,000 (JA6-7, 122), a Tri-State corporate

resolution authorizing the execution of the promissory

note, the opening of a bank account, the execution of the

signature cards, the right to borsow money, and the in-

dividual guarantees of the loan by Rubin and co-defend-

ants Deaton and James (JA6-7; R. 227). None of the

documents executed by the borrower on that day or any

subsequent day specifically dealt with collateralizing the

loan. Keating said Ludwig told him on October 19, 1972

that “we would be receiving collateral on the loan” (JAS).

A certificate for 400,000 shares of American Leisure Cor-

poration common stock bearing a legend that the stock

was restricted was received at the bank from the bor-

rower on October 20, 1972 (id). A financial statement of

the borrower containing a balance sheet dated October 20,

1972 (JA39-40; GX 49, B-2c) was subsequently given to

Keating on October 27, 1972 (JA40-41). The statement

reflected the borrower’s net worth as $7,100,000. Besides

the financial statement the bank received in late October

or early November, 1972 a written three month projection

of the borrower’s prospective income (JA40-41; GX 49,

A-19). The projection plotted gross income of $540,000

based on purported spot sales of coal to Continental Coal

Corporation and Repoca Resources, as well as a long term

contract with Roland Werkstatten, a German company

(JA42). The bank considered this projection the single

most “significant document” it received from the borrower

because it was from this information that the bank could

determine how the loan repayments were to be made:

“A. [Keating] Document A-19 is a projection that

was prepared by Mr. Rubin and delivered to me by

Mr. Rubin.

7

Q. About when did he deliver it to you?

A. It was sometime after the initial loan was

made, October, late October, early November 1972.

Q. Did you have any discussions with him con-

cerning it?

A. Yes. This was the—as far as I was concerned,

this was one of the most important documents that

I had received from the company. What it did is

it gave me an analysis of when the company was

going to generate cash from the sale of cecal and

how much was going to be generated and when the—

what the cash would be used for and what the net

figure or net cash flow of the company was so that

that could be used to retire any bank loans that

had been made.

Now, the document indicates that sales would be

made of $120,000 in December 1972, 240 in Janu-

ary of 1973, and 180 in February of 1973.

Now, the sales that are associated with this were

$300,000 from a Continental Coal Corporation and

$240,000 from Repoca Resources.” (JA42)

An additional three months loan of $50,000 was made

on November 20, 1972 (JA15, 128). The original one

month loan of $50,000 was extended for three months on

November 22, 1972 (JA16, 130). A further loan of $100,000

was made on November 30, 1972 (JA18, 132) and on

December 6, 1972 a further loan was made of $275,000

(JA20, 134). The total lent was the sum of $475,000.

Additional collateral was received by the bank after Octo-

ber 20, 1972. 2,000 shares of All-State Life Insurance

Company was received by the bank on November 10, 1972

(JA66, 168). 100,000 shares of Management Dynamics,

Ine. was received December 6, 1972, but was returned by

the bank to the borrower for 175,000 shares of General

8

Investment stock and received by the bank on December

19, 1972, 50,000 shares of stock of Satellite Systems Corp-

oration was received on January 19, 1973, and 20,000

shares of Marlin Investment stock was received on Janu-

ary 30, 1973 (JA66, 168). The additional loans by the

bank between November 20 and December 6 were made

after the borrower’s three month gross income projection

was received by the bank, said Keating, and it was that

projection which was “taken into account in making these

further loans” (JA71).

In describing the nature of these loans Keating re-

ferred to a bank record, that is, an “offering ticket”

(JA9) which reflected interest on the loan, the type of

loan, and a notation “lien stock 400,000 shares American

Leisure Corp.” which he said was given as collateral

for the loan (JA10). Lien stock, Keating stated, is in

bank jargon “side collateral”. “Side collateral” was de-

fined in the following colloquy between Keating and the

prosecutor

“Q. Now, when you said ‘side collateral,’ can

you tell us what you mean by that?

A. Well, when the loan was made initially, the

loan was envisioned that it would be repaid from

the ongoing operations of the corporation, namely

from the sale of coal or natural gas. The eolla-

teral was taken as a secondary source of repay-

ment in the event that the primary source, the

ongoing operations of the corporation didn’t ma-

terialize.” (JA10-11)

On February 26, 1973 despite the fact that the loans

totalling $475,000 had matured and had not been paid,

the bank, believing the loans would nevertheless be paid,

requested the borrower to execute a demand note for

9

$475,000 covering the previous loans made between Octo-

ber 20 and December 6 (JA58, 139). Although the stock

collateral was still held by the bank the demand note

executed by the borrower, said Keating, was “a yellow

form associated with an unsecured loan, although this

particular loan was not. The reason that that note

was utilized rather than a secured note form was be-

cause we believed the primary source of repayment was

going to come from the operations of the coal mine

and the gas fields and the collateral that was taken

at that time was in what we eall side collateral or

lien collateral, and that was basically under a security

agreement which was given to us in connection with

the loans.” (JA67).

Two days later after receiving an inquiry from the

Justice Department about the borrower (JA59-60), the

bank on March 5, 1973 demanded payment of the loan

(JA60). The loan was not paid. The bank did not

foreclose or attempt to sell the collateral. Instead it

instituted a suit in the Supreme Court, County and

State of New York (JAS88, 175). Petitioner signed

a confession of judgment for over half a million dol-

lars with interest and attorneys fees added (JA120,

175).

Summary of Argument

To construe the definitional terms of “sale” and “pur-

chase” in the anti-fraud provisions of the Securities Acts

of 1933 and 1934 as including a pledge of stock as col-

lateral for a commercial loan “would add a gloss to the

operative language of the statute quite different from

its commonly accepted meaning”, as this Court noted in

Ernst & Ernst v. Hochfelder, 425 U.S. 185, 199, 96 S.Ct.

10

1375, 1883 (1976). “Sale” and “purchase” are ordinary,

commonly understood words which involve a transfer

of title or ownership from one person to another. A

pledge as collateral for a loan is a deposit of personal

property as security with an implied or express power

of sale upon default. The legislative history of the anti-

trust provisions of the Securitie, Acts of 1933 and 1934

defining “sale” and “purchase” reveals no trace of any

Congressional intent to regulate transactions involving

a pledge of securities. As this Court has often stated:

“When Congress wished to provide a remedy to

those who neither purchased nor sold securities it

had little trouble in doing so expressly.” Blue Chip

Stamps v. Manor Drug Stores, 421 U.S. 7238, 734,

95 §.Ct. 1917, 1925 (1975).

Because one of the remedial purposes of the Securities

Acts was to protect investors from the type of fraudulent

eonduct that may have existed in the instant case does

not justify extending the scope of the anti-fraud pro-

visions of the Securities Acts beyond Congressional in-

tent and beyond the common meaning of the terms “sale”

and “purchase”. This Court as late as the end of this

Term said in Aaron v. SEC, No. 79-66, 48 U.S.L.W. 4609,

4613 (decided June 2, 1980):

“Though cognizant that ‘Congress intended securi-

ties legislation enacted for the purpose of avoid-

ing frauds to be construed “not technically and

restrictively, but flexibly to effectuate its remedial

purposes,” ’ Affiliated Ute Citizens v. United States,

supra, at 151, quoting, SEC v. Capital Gains Re-

search Bureau, supra, at 195, the Court has also

noted that ‘generalized references to the “remedial

purposes”’ of the securities laws ‘will not justify

11

reading a provision “more broadly than its lan-

guage and statutory scheme reasonably permit.”’

Touche Ross & Co. v. Redington, 442 U.S. 560, 578,

quoting, SEC vy. Sloan, 486 U.S. 103, 116. Thus,

if the language of a provision of the securities

laws is sufficiently clear in its context and not at

odds with the legislative history, it is unnecessary

‘to examine the additional considerations of “policy”

. . that may have influenced the lawmakers in

their formulation of the statute. Ernst & Ernst

v. Hochfelder, supra, at 214, n. 33.”

The interests and liabilities created by pledge transac-

tions involving ordinary commercial loans are regulated

by state law. Adequate remedy exists under said laws

to protect those interests without burdening the federal

courts with unnecessary and unwarranted criminal or

civil actions. Blue Chip Stamps v. Manor Drug Stores,

421 U.S. supra at 741.

For these reasons the decisions of the Fifth and Seventh

Cireuits in National Bank of Commerce of Dallas v. All

American Assurance Company, et al., 583 F.2d 1295, 1298

(5th Cir. 1978), and Lincoln National Bank v. Herber, 604

F.2d 1038, 1040 (7th Cir. 1979), that a mere pledge of

stock for an ordinary commercial loan is not a “sale”

or “purchase” within the anti-fraud provisions of the

1933 and 1934 Acts are a proper reflection of this Court’s

opinions and the Congressional intention. The opinions

of the Courts of Appeals for the Second and Sixth Cir-

cuits in United States v. Gentile, 530 F.2d 461 (2d Cir.

1976), cert. den., 426 U.S. 936 (1976), Mallis v. Federal

Deposit Insurance Corp., 568 F.2d 824 (2d Cir. 1977)

cert. granted, 431 U.S. 928, 97 S.Ct. 2630, 53 L.Ed.2d 243,

cert, dismissed, sub nom Bankers Trust Co. v. Mallis, 435

U.S. 381, 98 S.Ct. 1117, 55 L.Ed.2d 357 (1978), and Mans-

12

bach v. Prescott, Ball & Turben, 598 F.2d 1017 (6th Cir.

1979), which are to the contrary, should not be supported.

For these reasons the judgment of the Court of Ap-

peals should be reversed.

POINT I

The pledge of securities as collateral for a loan is

neither a “sale” nor a “purchase” for the purpose of

invoking the anti-fraud provisions of the Securities

Acts.

The Court of Appeals below held without addressing

the issue before this Court that

“We have examined each of the other points raised

by Rubin and find them to be without merit.” 609

F.2d supra, at 66

Presumably that conclusion was based upon the Court of

Appeals prior decision in United States v. Gentile, 530

F.2d 461 (2d Cir. 1976), cert. den., 426 U.S. 936 (1976),

a decision relied upon by the District Court in its holding

that a pledge of securities by Tri-State Energy, Inc. for

the loan from the Bankers Trust Company was as a matter

of law a “sale” within the meaning of § 77q(a), Title

15, U.S.C. (R. 2669). Gentile was a decision urged by

the prosecutor as having “plainly reached the correct

result ...”, and, the prosecutor added, was equally sup-

ported by the Court of Appeals decision in Mallis (Gov’t

brief in the Court of Appeals, pp. 79-80).

In Gentile, the Court of Appeals held that a pledge

was within the literal definition of a “sale” under § 2(3),

15 U.S.C. § 77(b)(8) of the Securities Act of 1933, and

that there is no requirement that title pass to con-

13

stitute a “sale” within the meaning of the statute. 530 F.2d

supra at 466. In Mallis, a civil action for fraud under

Section 10(b) and Rule 10b-5 of the Securities Exchange

Act of 1934, the Court of Appeals held:

“We believe that the rationale underlying our

holding in Gentile with respect to Sections 2(3) and

17(a) of the 1933 Act is persuasive authority for

holding that a pledge constitutes a ‘contract to sell

or otherwise dispose of’ a security within the mean-

ing of Section 3(14) of the 1934 Act. Accordingly,

on the facts of this ease, we hold that both a ‘sale’

and a ‘purchase’ may be cognizable under Section

10(b) of the 1934 Act. Appellants were purchasers

by virtue of their acceptance of the pledge by

Arnold and Fowler; and Bankers Trust was a seller

by virtue of its release of the Kateses’ pledge.” 568

F.2d supra at 820.

Gentile expressly rejected the Court of Appeals’ deci-

sion in McClure v. First National Bank, 497 F.2d 490 (5th

Cir. 1974), cert. den. 420 U.S. 9380 (1975) which had held:

“Mere acceptance of a stock pledge as collateral

in a privately negotiated transaction between bor-

rower and lender does not, of itself, bring within

the scope of the federal securities acts a_ trans-

action otherwise outside their purview.”

The term “sale” is defined in the Securities Act of 1933,

7 2(3), 15 U.S.C. § 77b(3), to include “every contract of

sale or disposition of a security or interest in a security,

for value.” The 1934 Act defines a “sale” to include “any

contract to sell or otherwise dispose of”, and defines the

words “buy” or “purchase” to include “any contract to

buy, purchase, or otherwise acquire.” ${§ 3(a) (13) and (14),

I _,

14

15 USC § 78e(13) and (14). While the issue in this case

involves a charge of conspiracy to violate, among other

objects, § 77q(a), Title 15, U.S.C. (1933 Act) in commit-

ting a fraud in the “sale” of a security, it does not ap-

pear that Congress in enacting a similar anti-fraud pro-

vision under the 1934 Securities Act intended to alter the

1933 Act definition of “sale” even though there does exist

a slight difference in wording. As the Court of Appeals

noted in National Bank of Commerce of Dallas v. All

American Assurance Company, et al., 583 F.2d 1295, 1298

(Sth Cir. 1978):

“Although there are slight differences in wording

between the 1933 Securities Act and the 1934 Securi-

ties Exchange Act, the definitions of these terms

are functionally equivalent and are for the pur-

poses of this ease so treated. [Cases cited].”

Neither the Securities and Exchange Commission nor

the other courts of appeals who are in conflict on whether

a pledge is a “sale” or a “purchase” under the anti-fraud

provisions of the Securities Acts of 1933 or 1934 take is-

sue with that conclusion of the Court of Appeals in Na-

tional Bank of Commerce of Dallas vy. All American As-

surance Company, supra. See, for example, brief of the

Commission, amicus curiae, on the merits (pp. 12-13) sub-

mitted in Bankers Trust Company v. Mallis, 431 U.S. 928,

97 S.Ct. 2630, 53 L.Ed.2d 243, dismissed 435 U.S. 381, 98

S.Ct. 1117, 55 L.Ed.2d 357 (1978). We believe this propo-

sition has further support in the fact that the 1933 and

1934 Acts were passed by the same Congress and should

be considered together as this Court noted in 7'scherepnin

v. Knight, 389 U.S. 332, 342, 88 S.Ct. 548, 19 L.Md.2d 564

(1967).

We further submit that the holdings in Gentile and

Mallis, and later in Mansbach v. Prescott, Ball & Turben,

15

incorrectly construe the definitions of “sale” and “pur-

chase” in the 1983 and 1934 Acts to include a pledge of

stock as collateral for a loan.

The legislative history of the provisions defining “sale”

and “purchase” reveals no trace of any Congressional in-

tent to regulate transactions involving a pledge of seeuri-

ties as collateral for a commercial loan from a bank. As

this Court stated in Blue Chip Stamps v. Manor Drug

Stores, 421 U.S. 723, 734, 95 S.Ct. 1917, 1925, 44 L.Ed.2d

539:

“When Congress wished to provide a remedy to

those who neither purchased nor sold securities, it

had little trouble in doing so expressly.”

Congress could obviously have said so, as it did in the

Public Utility Holding Company Act of 1935. There Con-

gress provided that “ ‘sale’ or ‘sell’ includes any sale, dis-

position by lease, exchange or pledge, or other disposi-

tion.” § 79b(a) (23), Title 15, U.S.C. That Act like the

Securities Acts of 1933 and 1934 contained anti-fraud pro-

visions. § 79l/(d), Title 15, U.S.C.

The meaning of the words “sale” and “purchase” under

the Securities Acts of 1935 and 1934 held in Gentile and

Mallis to include a pledge of stock as collateral for a com-

mercial loan, we submit, “would add a gloss to the opera-

tive language of the statute quite different from its com-

monly accepted meaning.” ELrnust & Ernst v. Iochfelder,

supra. In Blue Chip Stamps v. Manor Drug Stores, supra,

this Court also stated that an act cf Congress which de-

fines a word of long usage should be interpreted to have

intended its “long established legal meaning” in the ab-

sence of “unmistakeable support in the history and struc-

ture of the legislation.” 421 U.S. supra at 756, 95 S.Ct.

supra at 1917 (Con. Op. of Mr. Justice Powell). “Sale”

and “purcha

16

se” are well-defined words of legal and com-

monly accepted meaning.

SALE:

PURCHASE:

PLEDGE:

“Contract whereby the absolute, or general,

ownership of property is transferred from

one person to another for a price, or sum of

money, or, loosely, for any consideration.”

Webster’s Third New International Diction-

ary (1964).

(1) ... (2) Acquisition ...; the acquiring

of title to or property in anything for a

price: a buying for money or its equivalent

(the number of shares in a business).” Web-

ster’s Third New International Dictionary

(1964).

1. ... b: a chattel or object of personal

property delivered by a debtor or obligor to

a creditor or obligee to be kept by the latter

until the debt or obligation is satisfied: an

object given as security by pledge e¢ (1) a

bailment or a chattel or object of personal

property as security for the satisfaction of a

debt or other obligation...” Webster’s Third

New International Dictionary (1964).

“Sale” and “purchase” in both common and ordinary

understanding mean the acquisition and disposition of

ownership.

“At common law a pledge would be readily dis-

tinguishable from a sale since a pledge involves a

transfer of possession only, not of title.” Lincoln

National Bank v. Herber, 604 F.2d 1038, 1040 (7th

Cir. 1979).

17

See, Pauly v. Siaie Loan & Trust Co., 165 U.S. 606, 17

S.Ct. 465 (1897) (State Loan & Trust Co. pledgee of stock

of California Nat'l Bank held as collateral for a loan, is

not an owner of the pldeged stock liable under a federal

statute holding a shareholder cf California Nat’l Bank

responsible for its debts).

It is equally well-established that a pledge of stock as

collateral for a loan is not a “sale” or “purchase”. Owner-

ship rights remain with the pledgor while the interest the

pledgee obtains is merely the security interest that entitles

the pledgee to sell the stock on default. To characterize

the pledgor as a “seller” and the pledgee as a “purchaser”

of the pledged security is, we submit, to pervert the ordin-

ary and commonly understood relationship between the

two. A pledge is a “deposit of personal property as se-

curity with an implied power of sale upon default.” L.

Jones, Collateral Securities and Pledges, § 1 (8d ed. 1912);

Restatement of Security, § 1 (1941)

“One does not normally speak of the ‘purchase’

or ‘sale’ of a loan... .” SEC v. Fifth Ave.

Coach Lines, 289 F.Supp. 3, 38 (S.D.N.Y. 1970),

aff'd, 485 F.2d 510 (2d Cir. 1970).

The differences between these terms were appropri-

ately described in National Bank of Commerce of Dallas

v. All American Assurance Company, supra:

“The rights and privileges of the parties are

not affected by a pledge in the same manner as

by a ‘sale’ or ‘purchase.’ The pledgor generally

(1) has the right to sell the stock subject to the

security interest, (a) is entitled to vote the stock,

(3) has the right to receive all dividends, and

(4) continues to be liable for ad valorem taxes.

18

See generally, L. Jones, Collateral Securities and

Pledges §§ 1, 17Ga, 441, 602 (8d ed. 1912).

“The pledgee, on the other hand, has ‘no general

property right in the thing pledged, but only a right

upon default, to sell in satisfaction of the pledgor’s

obligation.’ Pauly v. State Loan & Trust Co., 165

U.S. 606, 622, 17 S.Ct. 465, 471, 41 L.Ed. 844 (1897).

The pledgee does not participate in any apprecia-

tion of the stock, has none of the rights normally

accorded shareholders, and has no right to sell the

collateral for its own account. Indeed, its rela-

tionship is of a fiduciary character, Easton v. Ger-

man-American Bank, 127 U.S. 532, 487, 8 S.Ct.

1297, 32 L.Ed. 210 (1888), and it must account

for all proceeds in excess of the debt and profits

accruing as a result of possession of the colla-

teral. Restatement of Security § 27 (1941).” (583

F.2d supra at 1300).

Both Courts of Appeals in National Bank of Com-

merce of Dallas v. All American Assurance Company,

supra, and Lincoln National Bank v. Herber, supra, re-

cognized that the statutory definition of “sale” which

under the 1933 Act includes “every . . . disposition of

a security or interest in a security, for value” avd the

or “otherwise dispose” or “otherwise acquire” of the lan-

guage of the 1934 Act was broad enough to include a

pledge transaction. However, both Courts of Appeals,

correctly we submit, rejected such a “literal approach”

to the definitions in the Acts as was done in Gentile and

Mallis because such a “literal approach” was contrary

to the ordinary and common understanding of a pledge

of stock given as collateral for a loan. Both Courts

of Appeals adopted and followed the reasoning of this

Court in rejecting a “literal” application of the securi-

19

ties laws in favor of an analysis looking to underlying

economic realities. See Uniked Housing Foundation, Inc.

vy. Forman, 421 U.S. 837, 849, 95 S.Ct. 2051, 44 L.Ed.2d

621 (1975) (“Because securities transactions are economic

in character Congress intended the application of these

statutes to turn on the economic realities underlying a

transaction ...”); T'scherepnin v. Knight, 389 U.S. 332,

88 S.Ct. 548, 553 (1967) (“[I]n searching for the mean-

ing and scope of the word ‘security’ in the Act[s], form

should be disregarded for substance and the emphasis

should be on economic reality.”).

Bankers Trust Company lent $450,000 to Tri-State upon

promissory notes collateralized by a pledge of stock cer-

tificates at the time the loans were issued. There can

be no suggestion that the form of this transaction be-

tween Bankers Trust Company and Tri-State Energy, Ine.

did not represent the substance of the matter. Indeed,

the “reality” of the instant transaction is that the Bankers

Trust Company simply lent money to Tri-State Energy

primarily because of its belief in the solvency of that

company and the ability of that company to generate

sufficient income to repay the loan on maturity. The

pledge of the stock as collateral was merely a second-

ary souree for the bank in the event there was a de-

fault of the loan. This is abundantly clear from the

testimony of Keating from the Bankers Trust Company

who said:

“TW hen the loan was made initially, the loan was

envisioned that it would be repaid from the on-

going operations of the corporation, namely from

the sale of coal or natural gas. The collateral

was taken as a secondary source of repayment in

the event that the primary source, the ongoing op-

erations of the corporation didn’t materialize.”

(JA10-11).

20

In sum, the pledge of stock as security for the loan

with the Bankers Trust Company was in fact and com-

mon usage a garden variety pledge and not a “sale” or

“purchase”. Common accepted meaning and long-estab-

lished legal definition, as well as established canons of

statutory construction, support the correctness of the

views of the Courts of Appeals in National Bank of

Commerce of Dallas and Lincolx National Bank that a

mere pledge of stock as security for a loan is not within

the definitions of “sale” or “purchase” under the 1933

and 1934 Securities Acts.

POINT II

Sound policy reasons indicate that Congress never

intended to extend the anti-fraud provisions to pledge

transactions.

This Court has frequently had occasion to note that

the fundamental purpose of the Securities Acts was to

protect investors against false and deceptive practices

that might injure them. Affiliated Ute Citizens v. United

States, 406 U.S. 128, 151, 92 S.Ct. 1456, 1470, 31 L.Ed.2d

741, 760 (1972); Superintendent of Insurance v. Bankers

Life & Casualty Co., 404 U.S. 6, 11-12, 92 S.Ct. 165, 168, 30

L.Ed.2d 128, 1384 (1971); J. I. Case Co. v. Borak, 377

U.S. 426, 482-433, 84 S.Ct. 1555, 1559-1560, 12 L.Eid.2d

423, 427-428 (1964). Bankers Trust Company by virtue

of its acceptance of the pledge of certificates of stock

from Tri-State Energy neither made an investment in

the pledged securities nor did the bank by its mere ac-

ceptance of the pledge affect the securities industry as

suggested in Gentile. Bankers Trust Company looked to

the pledged collateral as a “secondary source of repay-

21

ment in the event that the primary source, the ongoing

cperations of the corporation, did not materialize.” (JA10-

11). Bankers Trust Company did not accept the pledged

stock for distribution or for any other purpose except

the traditional purpose of securing the loan.

As Professor Loss has stated:

“Federal legislation was hardly needed for privately

negotiated pledge transactions between borrowers

and lenders.” (L. Loss, Securities Reg. 649 (2d

ed. 1961)).

Gentile, we submit, expanded the meaning of “sale”

beyond what Congress intended and what was necessary

to effect the remedial purposes of the 1933 Act. Malis,

we submit, did the same thing with respect to Section

10(b) of the 1934 Act. As the Court of Appeals noted

in National Bank of Commerce of Dallas, Gentile predi-

cated its holding upon its statement:

“The pledgee takes a legally enforceable interest in

the pledged securities which he assumes will com-

pensate for any default on the underlying loan.

The pledgee thereby decreases the risk that he

will suffer loss due to nonpayment of the loan.

In effect, the pledgee assumes a very real invest-

ment risk that the pledged securities will have

eontinuing value, a risk that is identical in nature

to the risk taken by investors which serves as the

ind:sputable basis for statutory regulation of securi-

ties transactions.” (530 F.2d supra at 467).

The Court of Appeals in National Bank of Commerce

of Dallas correctly responded that:

“This rationale might be a persuasive argument

that the federal securities laws ought to encom-

22

pass pledges, as well as purchases and sales. It

does little to support a decision that they in fact

do cover pledges. Congress can be presumed to

know the difference between a collateral pledge

transaction and a sale and purchase. If it had

intended to cover both, it could have easily done

so by words traditionally used to differentiate be-

tween the two.” (583 F.2d swpra at 13800).

Further criticism of this statement in Gentile was

noted in Lincoln National Bank v. Herber, 604 F.2d supra

at 1043:

“T[Wle disagree with this analysis. Risk there is,

but the risk is not an investment risk. It is the

ordinary commercial risk taken by any secured lend-

er. The risk that the pledgor does not own the

collateral he purports to own exists no matter what

the nature of the collateral.”

Bankers Trust Company did not make an investment in

Tri-State stock. The bank did not accept the collateral

for profit it might make on the stock pledged at the time

the loans were made as it would if it was an investor.

Cf. United Housing Foundation v. Forman, 421 U.S. supra

at 851:

“Common sense suggests that people who intend to

acquire only a residential apartment in a state-

subsidized cooperative, for their personal use, are

not likely to believe that in reality they are pur-

chasing investment securities simply because the

transaction is evidenced by something called a share

of stock. * * * In short, the inducement to pur-

chase was solely to acquire subsidized low-cost liv-

ing space; it was not to invest for profit.”

23

Similarly, the acceptance by the Bank of the pledged

collateral was to secure the loan in the event of default;

“it was not to invest for profit.”

“A commercial bank’s business is lending money, not

trading in securities.” J/cClure vy. First National Bank,

497 F.2d supra at 495.

The absence of any Congressional intent to include a

pledge transaction as a “sale” or “purchase” in the 1933

and 1934 Acts is further reflected in the fact that before

the decision in SEC v. Guild Films Co., 279 F.2d 485 (2d

Cir. 1960), cert. den. 364 U.S. 819 (1960), on which the hold-

ings in Gentile and Mallis are based, or at least shortly be-

fore the SEC’s submission in Guild Films, the SEC did not

publicly contend that a pledge of stock as collateral for

a commercial loan was a “sale” or a “purchase” under

the 1933 and 1934 Securities Acts (L. Loss, Securities Reg.

645 (2d ed. 1961)). The uncertain scope of the decision

in Guild Films was so severely questioned that Judges

in the District Court in the Southern District of New

York declined to apply federal jurisdiction to such pledge

transactions under the anti-fraud provisions of the Securi-

ties Acts. Fox v. Glickman Corp., 253 F.Supp. 1005, 1011-

1012 (S.D.N.Y. 1966); Investment Properties Intl. Ltd.

v. 1.0.8. Ltd. [1970-1971], F.See.L.Rep. (CCH) par. 93,011

(S.D.N.Y. 1971). Indeed, at the time of the instant

loans from Bankers Trust Company in 1972, Rubin’s

conduct, even assuming it was fraudulent for purposes

of this appeal, was not considered violative of Section

77q(a), Title 15, U.S.C., or Section 10(b) of the 1934

Act, eriminally or civilly, because a pledge of stock as

collateral for a loan had been held in the Southern Dis-

trict of New York not to be a “sale” or a “purchase”

under the Securities Acts.

24

What Gentile suggests, we submit, is that the fraud

in that case in which the banks made loans on pledged

embezzled stock certificates warranted an extension of

the statutory definitions of “sale” and “purchase” to em-

brace a pledged transaction. Merely because one of the

remedial purposes of the Securities Acts was to protect

investors from such type of fraudulent behavior as in

Gentile, or as may have existed in the instant case, does

not mean that the anti-fraud provisions should be stretched

beyond what Congress intended and contrary to the com-

mon meaning of the words “sale” and “purchase” in order

to cover such type of conduct. Indeed, in Aaron v. SEC,

supra, this Court recently stated:

“Though cognizant that ‘Congress intended securi-

ties legislation enacted for the purpose of avoiding

frauds to be construed “not technically and restric-

tively, but flexibly to effectuate its remedial pur-

poses,”’ Affiliated Ute Citizens v. United States,

supra, at 151, quoting, SEC v. Cajyital Gains Re-

search Bureau, supra, at 195, the Court has als»

noted that ‘generalized references to the “remedial

purposes”’ of the securities laws ‘will not justify

reading a provision “more broadly than its language

and statutory scheme reasonably permit.”’ Touche

Ross & Co. v. Redington, 442 U.S. 560, 578, quot-

ing, SEC v. Sloan, 4386 U.S. 103, 116.” (48 U.S.L.W.

supra at 4613)

Simply put, fraudulent representations as to the nature

and value of the securities pledged for ordinary commer-

cial loans are neither within Section 77q(a) of Title 15

U.S.C. (1933 Act) nor within Section 10(b) of the 1934

Act since a pledge of stock dces not constitute a “sale” or

a “purchase” of a security within the meaning of those

statutes. When Congress needed to impose special defini-

25

tions upon common words in order to effectuate the re-

medial purposes of an act it had little trouble doing so.

Blue Chip Stamps v. Manor Drug Stores, 421 U.S. supra

at 734, 95 S.Ct. supra at 1925; Public Utility Holding

Company Act of 1935; Section 79b(a) (23), Title 15, U.S.C.

There was, we submit, no need for Congress to extend

Section 77q(a) of Title 15, U.S.C. (1933 Act) or Section

10(b) of Title 15, U.S.C. (19384 Act) to pledges in order

to effectuate its anti-fraud purposes.* The parties to 2

pledge transaction are situated quite differently from pur-

chasers and sellers of securities in terms of legal recourse

under state law. The pledgee, unlike a securities pur-

chaser, has a remedy on a promissory note against the

maker and any guarantor. National Bank of Commerce

of Dallas vy. All American Assurance Company, 583 F.2d

1295, 1800 (5th Cir. 1978). Indeed, that is exactly what

Bankers Trust Company did in the instant ease. It sued

the borrower and the guarantors on the promissory notes

in the Supreme Court, County and State of New York,

and obtained a confession of judgment from the petitioner

(JAS8, 175).

The Court of Appeals in Lincoln National Bank vy. Her-

ber, supra, appropriately stated:

* Significantly, the securities fraud which was charged as an

object of the conspiracy under § 77q(a), Title 15, U.S.C., together

with the violation of § 1014, Title 18, U.S.C., was unnecessary since

the fraudulent representation as to the pledged collateral was also

considered by the prosecutor as part of the violation under § 1014.

The prosecutor so advised the District Court as follows:

“Ms. Neugarten: Count 2 subsumes all false statements

as to collateral, not just Marlin but the five other securities,

since 1014 specifically includes false statements as to col-

lateral and substitution of collateral.” (R. 2309)

26

“The final consideration counselling against ex-

tension of the antifraud provisions of the 1933 and

1934 Acts to the situation where securities are

fraudulently pledged as collateral for a bank loan

is that state law already extensively occupies the

field. This would be a further indication that Con-

gress never intended to extend the antifraud pro-

visions to pledge transactions as well as a sound

policy reason not to extend the federal securities

laws into this area, as there is no apparent need.”

(604 F.2d supra at 1044).

And further,

“State regulation of a field and the availability of

remedies under state law have both been considered

by the Supreme Court in a number of recent deci-

sions declining to imply a private right of action

under various sections of the securities laws. See,

e.g., Santa Fe Industries, Inc. v. Green, 430 U.S.

462, 97 S.Ct. 1292, 51 L.id.2d 480 (1977); Piper v.

Chris-Craft Industries, Inc., 4830 U.S. 1, 97 S.Ct.

926, 51 L.Ed.2d 124 (1977); Cort v. Ash, 422 USS.

66, 95 S.Ct. 2080, 45 L.Ed.2d 26 (1975).” (604 F.2d

supra at 1044).

Relegating such conduct involved in a pledge trans-

action to the state courts is where such transactions be-

long since such security interests are adequately regu-

lated by state laws. The inevitable consequences of ex-

tending the scope of Sections 77q(a) and 10(b) to pledge

transactions would be to increase litigation in the federal

courts without any increased protection to the parties. See

Blue Chip Stamps v. Manor Drug Stores, 421 U.S. supra

at 741.

27

CONCLUSION

The judgment of the Court of Appeals should be

reversed.

Respectfully submitted,

Lovis BENDER,

Attorney for Petitioner.

Benpver & FRANKEL,

Sanpor FRANKEL,

Of Counsel.