Clayton Brokerage Co. of St. Louis, Inc. v. Mouer, 12198

• Decision Date: 26 February 1975
• Docket Number: No. 12198,12198
• Citation: 520 S.W.2d 802
• Parties: Blue Sky L. Rep. P 71,191, Fed. Sec. L. Rep. P 95,006 CLAYTON BROKERAGE COMPANY OF ST. LOUIS, INC., Appellant, v. Roy W. MOUER, Securities Commissioner of Texas, Appellee.
• Court: Texas Court of Appeals

Page 802

520 S.W.2d 802

Blue Sky L. Rep. P 71,191, Fed. Sec. L. Rep. P 95,006

CLAYTON BROKERAGE COMPANY OF ST. LOUIS, INC., Appellant, v. Roy W. MOUER, Securities Commissioner of Texas, Appellee.

No. 12198.

Court of Civil Appeals of Texas Austin.

Feb. 26, 1975.

Rehearing Denied March 19, 1975.

Robert C. Cheek, Tobolowsky, Schlinger & Blalock, Dallas, for appellant.

John L. Hill, Atty. Gen., David W. Pace, Asst. Atty. Gen., Austin, for appellee.

PHILLIPS, Chief Justice.

The basic issue in this case is whether the trial court erred in holding that London options, as brokered by appellant, Clayton Brokerage Company of St. Louis Inc., are securities. We think not, consequently, we affirm its judgment.

The trial below was to the court sitting without a jury and was an appeal from a ruling of the Securities Commissioner of the State of Texas that a London opion as hereinafter described is a security. It is appellant's basic contention that there is no evidence, therefore insufficient evidence, that a London option is a security, and that, in fact the evidence shows that a London option is not a security. The trial court below correctly held that the Securities Commissioner had the burden of proof to prove by a preponderance of the evidence that a London option is a security. There is no presumption in favor of the Commissioner's findings and the test is not whether the Commissioner's findings are supported by substantial evidence.

I.

A London option is a right, for a price, to purchase or sell a commodity futures contract for a specified term at a specified price . Thus it is simply an extension of a commodity futures contract and is traded on the same London commodity exchanges as the underlying futures contract. Appellant deals in both London commodity options and London commodity futures contracts in the world commodities which include sugar, cocoa, coffee, rubber, silver and copper.

For a basic understanding of the facts of this case we must first define 'futures contracts.' These contracts are so named because they require delivery of a commodity in a stated month in the future--if not liquidated before the contract reaches maturity. ¹ A futures contract is a present right to receive at a future date a specific quantity of a given commodity for a fixed price. Futures markets do not involve face-to-face negotiations between the buyer and seller of the futures contract. Instead, brokers act somewhat as agents, meeting on the floor of a recognized commodity exchange or in some other manner where the terms, such as price, are negotiated. Months of delivery are standardized by the particular exchange on which the futures contracts are traded.

Appellant, a Missouri corporation with principal offices in Clayton, Missouri, has been engaged in the commodities brokerage business since 1953. Its operations are currently conducted through a network of twenty-nine retail branch offices located throughout the United States. In Texas it has branch offices in Dallas, Houston, San Antonio and Austin.

Appellant is a mumber of principal commodity exchanges in the United States, including the Chicago Board of Trade, chicago Mercantile Exchange, and deals in commodity futures contracts in the so-called 'regulated commodities' (commodities regulated under Section 2(a) of the Commodity Exchange Act, 7 U.S.C.A. § 2) on these exchanges. There are numerous 'nonregulated' commodities, commonly referred to as 'world commodities,' that are extensively traded over which Congress chose not to exercise any regulatory restraints (7 U.S.C.A. § 2). The London options at issue in this case involve the world commodities traded n the London futures markets, such as sugar, coffee, cocoa, rubber and most of the metals. Appellant is also a member of principal commodity exchanges in London. Drexel-Burnham & Co., Inc., is one of appellant's brokers that executes the orders of appellant's customers for London options and futures contracts on the London commodity exchanges.

Futures markets operate in the commodity exchanges through 'certificateless trading.' Unlike transactions on security exchanges, where the buyer receives evidence of his transaction in the form of a stock certificate, a transaction on a commodities exchange does not culminate in the purchaser receiving a 'certificate' for his futures contract. He receives only evidence of his purchase, a confirmation of the transaction and an invoice calling for payment. There is room in the commodity market not only for a person who uses the futures market for the purpose of obtaining a kind of economic insurance in business operations by actually knowing the price he will have to pay for his raw material, but also for the speculator who trades in the market for profit and not with a view for the use of the commodity in his business.

The rules of the London commodities exchanges require that the grantor of an option have sufficient funds so that the purchaser or taker is assured, should be decide to exercise his option, the grantor will deliver to him the futures contract underlying the option. For the purpose of this opinion it is assumed that the customer purchased a call option, i.e., an option to buy a futures contract. The customer exercises the option if it is desirable for him to do so, that is, if the price of the underlying commodities futures contract rises appreciably above the specified price. He takes his profit by first taking an offsetting position. He does this by selling a futures contract for the same commodity for the same delivery month at a higher current price. Then he exercises his option and thereby holds the futures contract from the grantor at the lower specified price agreed to when the option was purchased . As a result of holding two offsetting positions, the respective clearing house automatically closes both positions and a profit results. The profit is the difference between the specified price or 'striking price' and the higher market price minus commissions. If the market price of the underlying futures contract does not rise above the specified price, the customer does not exercise his option, and his loss is the price of the option plus commission. Thus it is a conservative method of speculating in the commodity futures market because the customer does not have the potential liability he would have if he purchased a futures contract.

Appellant is also in the business of selling 'put options' and 'double options' which, for the purposes of this opinion need not be described.

II.

Pursuant to a hearing held before the Securities Commissioner on November 1, 1973, the Commissioner held that the options described by appellant at the hearing are securities within the meaning of Section 4.A ² of the Securities Act, Article 581, Vernon's Ann.Civil Statutes, in that they constitute 'investment contracts,' 'evidence of indebtedness' and 'certificates or instruments representing an interest in the capital, property and assets of the grantor of the option, and of any guarantor of the option.'

As stated above, the decision of the Commissioner was appealed to the Travis County district court where after a trial De novo, the court held that the London options were securities under the Securities Act. The court filed findings of fact and conclusions of law to which appellant has taken exception and form the basis of twenty-eight points of error now before us.

III.

The Securities Commissioner found that the enterprise entered into between appellant and the purchaser of the so-called London option is an 'investment contract' within the meaning of Sec. 4 subd. A of Article 581, V.C.S.

In S.E.C. v. W. J. Howey Company, 328 U.S. 293, 66 S.Ct. 1100, 90 L.Ed. 1244 (1946) the Supreme Court of the United States defined an investment contract for the purpose of the Federal Securities Act ³ to be a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter, or a third party, it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise.

Appellant contends that there is no evidence before the Court, consequently, insufficient evidence of the elements that would constitute an 'investment contract.'

Applying the Howey test for an investment contract we must first ascertain whether appellant's scheme involves a 'common enterprise.' Appellant maintains that there is no common enterprise as each customer chooses his own commodity, the amount of premiums he is willing to pay to purchase the option, the striking price (the price at which he can purchase the underlying futures contract), the length of time the option is to run and the delivery month of the underlying futures contract. It maintains that every time a customer in, let us say, Dallas, purchases a London option through appellant, this offer is relayed to London through appellant's broker Drexel-Burnham. The actual purchase of the option is through the services of the London commodity exchanges by a representative of Drexel-Burnham. When a customer asks appellant to act as a broker in the purchase of a London option, a specific London option is purchased through the services of one of the various commodity exchanges in London. This option gives the customer the right to exercise the option and thereby buy a specific commodity futures contract at a specific price from the grantor of the option during the term of the option.

Appellant insists that just as in the case of futures contracts, which have never been held to be securities, Sinva v. Merrill Lynch, Pierce, Fenner & Smith, 253 F.Supp. 359 (S.D.N.Y.1966), each of appellant's customers purchases his option separately from other customers; he is not investing in appellant and the success of his purchase is not related to appellant's success; neither is his...