King v. Pope
| Decision Date | 19 December 2002 |
| Parties | John T. KING v. Anne B. POPE. |
| Court | Tennessee Supreme Court |
Paul G. Summers, Attorney General and Reporter; Michael E. Moore, Solicitor General; and Janet M. Kleinfelter, Senior Counsel, Nashville, Tennessee, for Appellant, Anne B. Pope, Commissioner of the
Tennessee Department of Commerce and Insurance.
R. Louis Crossley, Jr., Knoxville, Tennessee, and W. Davidson Broemel, Nashville, Tennessee, for Appellee, John T. King.
FRANK F. DROWOTA, III, C. J., delivered the opinion of the court, in which E. RILEY ANDERSON, ADOLPHO A. BIRCH, JR., JANICE M. HOLDER, and WILLIAM M. BARKER, JJ. joined.
In this case, we must decide whether a pay telephone sale-leaseback program marketed and sold by the plaintiff constitutes an investment contract, and thus a security under the Tennessee Securities Act of 1980. In finding that the program was a security, the trial court applied the definition of "investment contract" adopted by the Court of Criminal Appeals in State v. Brewer, 932 S.W.2d 1 (Tenn.Crim.App.), perm. app. denied (Tenn.1996). Under this test, an investment contract exists where
(1) An offeree furnishes initial value to an offeror, and (2) a portion of this initial value is subjected to the risks of the enterprise, and (3) the furnishing of the initial value is induced by the offeror's promises or representations which give rise to a reasonable understanding that a valuable benefit of some kind, over and above the initial value, will accrue to the offeree as a result of the operation of the enterprise, and (4) the offeree does not receive the right to exercise practical and actual control over the managerial decisions of the enterprise.
Brewer, 932 S.W.2d at 11 (quoting State v. Hawaii Market, 52 Haw. 642, 485 P.2d 105, 109 (1971)).
The Court of Appeals rejected the Brewer test and instead adopted the federal test for determining whether a particular transaction is an investment contract. See United Hous. Found., Inc. v. Forman, 421 U.S. 837, 95 S.Ct. 2051, 44 L.Ed.2d 621 (1975); SEC v. W.J. Howey Co., 328 U.S. 293, 66 S.Ct. 1100, 90 L.Ed. 1244 (1946). Applying this test, the Court of Appeals held that the pay telephone sale-leaseback program at issue in this case is not a security. After careful consideration, we agree with the trial court's finding that the appropriate test for determining the presence of an investment contract is set forth in Brewer. Applying this test, we agree with the trial court that the plaintiffs pay-phone sale-leaseback program is an investment contract and that the plaintiff was thus marketing and selling unregistered securities in violation of Tennessee law.
In February 1994, the plaintiff, John King, a registered securities agent and president of Capital Investments, Inc. ("CII"), began offering and selling to Tennessee residents a pay telephone sale-leaseback program for Quarter Call, Inc. ("QCI"), a company that provided discount pay telephone long distance service to all fifty states, at the rate of twenty-five cents per minute. The program was comprised of three documents, all of which were executed by participants simultaneously: a purchase agreement, a telephone lease-agreement, and an option to sell agreement. Participants first signed the purchase agreement to buy a minimum of three pay telephones from QCI, at a price of $4,995 per phone, with 3495 of that amount applied toward the purchase of a performance bond from American Diversified Insurance Company ("ADIC"). The purchase agreement provided that the telephones would be delivered to QCI's home office in Bethesda, Maryland.
Participants next executed a telephone lease-agreement whereby they leased the pay telephones back to QCI for a term of sixty months. QCI agreed to pay participants $75 per month per telephone for the term. Participants did not receive any right under the lease agreement to any percentage of the revenues or profits generated through operation of the pay telephones. In addition, participants did not share in the losses. QCI agreed to pay all costs associated with using the telephones, including expenses of repair, taxes, and insurance. QCI further agreed to indemnify the participants against any and all loss, damage, liability, and expense associated with the pay telephones. While the lease agreement provided that "the equipment shall at all times be under the sole and absolute control of QCI," participants were entitled to notification of their telephones' exact location within ten business days of the time the telephones had been installed. The lease agreement afforded participants the right to terminate the lease upon sixty days notice and payment of a termination fee. However, QCI was not required to accept more than 100 early terminations during any sixty-day period.
The final document participants executed was an option to sell agreement whereby they were given the option to sell the pay telephones back to QCI at any time so long as specified notice was given: To sell at the end of the lease term, 180 days notice was required. To sell prior to the lease's expiration, sixty days notice was required. Upon receiving the appropriate notice, QCI agreed to purchase participants' pay telephones for $4500 each, less any applicable early termination fee.
QCI and King used promotional literature, containing a number of representations, to market and advertise the program to the general public. Promotional literature indicated that QCI chose the locations for the pay telephones and supplied advertising and marketing of the payphone service to the general public. Materials included a letter from QCI President Glenn Kendall, stating the following:
I assume you are interested because you are fed up with 3% or 4% returns on your savings; or, maybe you are uncomfortable with risking your money in the stock market?
Whatever the reasons for your interest, you are about to learn how, by buying and leasing pay telephones, you can receive (4)27
• An 18% net, fixed annual return on your money.
• Fully guaranteed income. Your returns are insured through a faithful performance bond from American Diversified Insurance Company.
• Monthly returns. You receive a check every month for 60 consecutive months.
• A high degree of liquidity. You may withdraw all or part of your money prior to the full term!
• Substantially tax sheltered income (IRS Section 179). See your tax advisor.
• Security. You actually hold title to a valuable asset and always know where it is located.
• Insurance. Your equipment is insured at 100% of its value.
• A successful, growing company. QCI has grown tremendously due to increasing consumer demand for the QCI discount payphones which enable callers to call all 50 states (including Alaska and Hawaii) for just 25 [cents] per minute.
Admin. R. at 64 (emphasis in original). Additionally, QCI described the nature of the sale-leaseback program as "a very common and legal method by which corporations may quickly raise money for capital expenditures and expansion, without sacrificing equity in the company."
On March 22, 1994, less than two months after King began advertising and marketing this program, the Commissioner of the Department of Commerce and Insurance ("Commissioner") issued a cease and desist order against King and CII, on the basis that the QCI sale-leaseback program was a security as defined in the Tennessee Securities Act of 1980 ("the Act"), that the program had not been registered as a security, and therefore, that King and CII had violated the Act by selling this unregistered security. Thereafter, the Securities Division of the Department of Commerce and Insurance filed a complaint seeking to revoke King's registration as a securities agent for violating the Act. King's response denied all allegations and requested a contested case hearing under the Uniform Administrative Procedures Act. Following a pre-trial conference, the parties stipulated as to the facts and submitted briefs on the issue of whether the QCI sale-leaseback program was a security under Tennessee law. The Administrative Law Judge, applying the test adopted in State v. Brewer, 932 S.W.2d 1 (Tenn.Crim.App.), perm. app. denied (Tenn.1996), concluded that the sale-leaseback program was a security. The Commissioner issued a final order adopting the findings and conclusions of the Administrative Law Judge and directing that King's license be revoked.
King filed a petition for judicial review in the Chancery Court of Davidson County. See Tenn.Code Ann. § 4-5-322 (1999). The chancery court held that the Hawaii Market test adopted in Brewer is the appropriate test to apply to determine if the sale-leaseback transaction was an investment contract. Applying this test, the Chancellor upheld the Commissioner's decision revoking King's license for selling unregistered securities in violation of state law.
King appealed, and the Court of Appeals reversed. In so doing, the intermediate court rejected the test adopted in Brewer and held that the federal Howey-Forman definition for "investment contract" is the appropriate test to apply in Tennessee when determining whether a transaction constitutes an investment contract. The Court of Appeals found that the QCI sale-leaseback program was not an investment contract because it lacked the "common enterprise" element. Therefore, the Court of Appeals held that King's license should not be revoked for selling unregistered securities.
We granted the Commissioner's application for permission to appeal and now reverse the judgment of the Court of Appeals.
Resolution of the issues before this Court hinges on the interpretation of Tennessee Code Annotated section 48-2-102(12) and the application of that law to the facts of the case. "Construction of a statute and its application to the facts of a case are issues of law." Patterson v. Tennessee Dept. of Labor and Workforce Dev., ...
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