U.S. Supreme Court SEC v. NATIONAL SECURITIES, INC., 393 U.S. 453 (1969) 393 U.S. 453

SECURITIES AND EXCHANGE COMMISSION v. NATIONAL SECURITIES, INC., ET AL. CERTIORARI TO THE UNITED STATES COURT OF APPEALS FOR THE NINTH CIRCUIT. No. 41. Argued November 18-19, 1968. Decided January 27, 1969.

The Securities and Exchange Commission (SEC) brought suit against respondent National Securities and persons associated with it, alleging violations of 10 (b) of the Securities Exchange Act and of SEC's Rule 10b-5, arising out of misrepresentations and omissions of material facts in communications sent to shareholders of Producers Life Insurance Co., in an attempt to secure approval of a merger between that company and an insurance firm controlled by National Securities. SEC's request for temporary relief was denied and thereafter Producers' stockholders approved the merger and the Arizona Director of Insurance found the merger not "[i]nequitable to the stockholders of any domestic insurer," and not otherwise "contrary to law," as he was required to do under the state insurance laws. The merger was consummated and the SEC then amended its complaint to seek additional relief, including unwinding the merger. The trial court dismissed the complaint, and the Court of Appeals affirmed on the basis that 2 (b) of the McCarran-Ferguson Act barred relief. That section provides that "[n]o Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance . . . unless such Act specifically relates to the business of insurance . . . ." Held:

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two companies were formally consolidated into National Producers Life Insurance Co. on July 9, 1965. Thereafter, the Commission amended its complaint to seek additional relief; the previously sought injunction forbidding further violations of Rule 10b-5 was to be supplemented by court orders unwinding the merger and returning the situation to the status quo ante, requiring respondents to make an accounting of their unlawful gains, and readjusting the equities of the various respondents in whatever companies survived the decree. The Commission also requested whatever further relief the court might deem just, equitable, and necessary. Respondents moved for judgment on the pleadings, and the trial court dismissed the complaint for failure to state a claim upon which relief could be granted. The court ruled that the relief requested was either barred by 2 (b) of the McCarran-Ferguson Act, 59 Stat. 34 (1945), as amended, 15 U.S.C. 1012 (b),[Footnote 1] or was beyond the scope of 21 (e) of the Securities Exchange Act. 252 F. Supp. 623 (1966). The Ninth Circuit affirmed, relying on the McCarran-Ferguson Act. 387 F.2d 25 (1967). Upon application by the Commission, we granted certiorari because of the importance of the questions raised to the administration of the securities laws. 390 U.S. 1023 (1968).

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I. Insofar as it is relevant to this case, 2 (b) of the McCarran-Ferguson Act provides that "[n]o Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance . . . unless such Act specifically relates to the business of insurance . . . ." Respondents contend that this Act bars the present suit since the Arizona Director of Insurance found that the merger was not "[i]nequitable to the stockholders of any domestic insurer" and not otherwise "contrary to law," as he was required to do under the state insurance laws. Ariz. Rev. Stat. Ann. 20-731 (Supp. 1969). If the Securities Exchange Act were applied, respondents argue, these laws would be "superseded." The SEC sees no conflict between state and federal law; it contends that the applicable Arizona statutes did not give the State Insurance Director the power to determine whether respondents had made full disclosure in connection with the solicitation of proxies.[Footnote 2] Although respondents disagree, we do not find it necessary to inquire into this state-law dispute. The first question posed by this case is whether the relevant Arizona statute is a "law enacted . . . for the purpose of regulating the business of insurance" within the meaning of the McCarran-Ferguson Act. Even accepting respondents' view of Arizona law, we do not believe that a state statute aimed at protecting the interests of those who own stock in insurance companies comes within the sweep of the McCarran-Ferguson Act. Such a statute is not a state attempt to regulate "the business of insurance," as that phrase was used in the Act.

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The McCarran-Ferguson Act was passed in reaction to this Court's decision in United States v. South-Eastern Underwriters Assn., 322 U.S. 533 (1944). Prior to that decision, it had been assumed, in the language of the leading case, that "[i]ssuing a policy of insurance is not a transaction of commerce." Paul v. Virginia, 8 Wall. 168, 183 (1869). Consequently, regulation of insurance transactions was though to rest exclusively with the States. In South-Eastern Underwriters, this Court held that insurance transactions were subject to federal regulation under the Commerce Clause, and that the antitrust laws, in particular, were applicable to them. Congress reacted quickly. Even before the opinion was announced, the House had passed a bill exempting the insurance industry from the antitrust laws. 90 Cong. Rec. 6565 (1944). Objection in the Senate killed the bill, 90 Cong. Rec. 8054 (1944), but Congress clearly remained concerned about the inroads the Court's decision might make on the tradition of state regulation of insurance. The McCarran-Ferguson Act was the product of this concern. Its purpose was stated quite clearly in its first section; Congress declared that "the continued regulation and taxation by the several States of the business of insurance is in the public interest." 59 Stat. 33 (1945), 15 U.S.C. 1011. As this Court said shortly afterward, "[o]bviously Congress' purpose was broadly to give support to the existing and future state systems for regulating and taxing the business of insurance." Prudential Insurance Co. v. Benjamin, 328 U.S. 408, 429 (1946).

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insurance ratemaking and the antitrust laws, and with the power of the States to tax insurance companies. See, e. g., 91 Cong. Rec. 1087-1088 (remarks of Congressmen Hancock and Celler). The debates centered on these issues, and the Committee reports shed little light on the meaning of the words "business of insurance." See S. Rep. No. 20, 79th Cong., 1st Sess. (1945); H. R. Rep. No. 143, 79th Cong., 1st Sess. (1945). In context, however, it is relatively clear what problems Congress was dealing with. Under the regime of Paul v. Virginia, supra, States had a free hand in regulating the dealings between insurers and their policyholders. Their negotiations, and the contract which resulted, were not considered commerce and were, therefore, left to state regulation. The South-Eastern Underwriters decision threatened the continued supremacy of the States in this area. The McCarran-Ferguson Act was an attempt to turn back the clock, to assure that the activities of insurance companies in dealing with their policyholders would remain subject to state regulation. As the House Report makes clear, "[i]t [was] not the intention of Congress in the enactment of this legislation to clothe the States with any power to regulate or tax the business of insurance beyond that which they had been held to possess prior to the decision of the United States Supreme Court in the Southeastern Underwriters Association case." H. R. Rep. No. 143, 79th Cong., 1st Sess., 3 (1945).

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This reading of the Act is implicit in this Court's past decisions. Less than two years ago the Court approved the application of the registration requirements of the Securities Act of 1933, 5, 48 Stat. 77, 15 U.S.C. 77e, to certain annuity contracts issued by insurance companies. SEC v. United Benefit Life Insurance Co., 387 U.S. 202 (1967). The Court explicitly rejected arguments based on the McCarran-Ferguson Act in a similar case of slightly earlier vintage. SEC v. Variable Annuity Life Insurance Co., 359 U.S. 65, 67-68 (1959). Although the securities laws contain a number of exemptions relating to insurance and insurance companies,[Footnote 3] the Commission has traditionally regulated a number of activities related to insurance securities.[Footnote 4] Of course, under the securities laws state regulation may co-exist with that offered under the federal securities laws. See, e. g., Securities Act of 1933, 18, 48 Stat. 85, 15 U.S.C. 77r; Securities Exchange Act of 1934, 28 (a), 48 Stat. 903, 15 U.S.C. 78bb (a). But it has never been held that state regulation of insurance securities pre-empts federal regulation, on the theory that the federal securities laws would be "superseding" state laws regulating the "business of insurance." The fact that Arizona purports to protect the interests of insurance company stockholders does not, therefore, by itself render the federal securities laws inapplicable. II. The fact remains, however, that the State of Arizona has approved a merger between two insurance companies

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which, as a matter of remedies, the Securities and Exchange Commission seeks to unwind. Moreover, Arizona has approved the merger not only under its laws relating to insurance securities but also in its capacity as licensor of insurers within the State. The applicable statute requires the State Director of Insurance to find that the proposed merger would not "substantially reduce the security of and service to be rendered to policyholders" before he gives his approval. Ariz. Rev. Stat. Ann. 20-731B 3 (Supp. 1969). This section of the statute clearly relates to the "business of insurance." The question is, then, whether the McCarran-Ferguson Act bars a federal remedy which affects a matter subject to state insurance regulation. In the circumstances of this particular case, we do not think it does; without intimating any opinion about what remedies would be appropriate should a violation be found after a trial on the merits, we hold that the McCarran-Ferguson Act furnishes no reason for refusing the remedies the Commission is seeking.[Footnote 5]

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the trial court may order a return to the status quo ante if it finds that course of action desirable, necessary, and otherwise lawful. III. Respondents argue that there are alternative grounds on which the lower courts' action in granting judgment on the pleadings can be sustained. They contend that the complaint fails to allege a "purchase or sale" of securities within the meaning of 10 (b) and the Commission's Rule 10b-5, and that in any case Rule 10b-5 does not apply to misrepresentations in connection with the solicitation of proxies.[Footnote 6] Since this case is here in the context of an appeal from the pretrial dismissal of a complaint, a simple remand would leave the lower

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courts with nothing more on which to base a decision than the record presently before this Court. In addition, further delays in resolving this controversy might increase the difficulty of fashioning effective relief. Accordingly, we think it desirable to dispose of these two issues before remanding the case so that the trial court may go forward with further proceedings without undue delay.

Although 10 (b) and Rule 10b-5 may well be the most litigated provisions in the federal securities laws, this is the first time this Court has found it necessary to interpret them. We enter this virgin territory cautiously. The questions presented are narrow ones. They arise in an area where glib generalizations and unthinking abstractions are major occupational hazards. Accordingly, in deciding this particular case, remembering what is not involved is as important as determining what is. With this in mind, we turn to respondents' particular contentions.

Respondents argue that the complaint fails to allege any misstatements "in connection with the purchase or sale of any security," as is required by both the statute and the rule. They rely upon the so-called "no-sale doctrine" presently set forth in the Commission's Rule 133 under the Securities Act of 1933, 17 CFR 230.133 (1968).[Footnote 7] That rule, promulgated under the Commission's authority to define "accounting, technical, and trade terms" used in the 1933 Act, 19 (a), 48 Stat. 85, as amended, 15 U.S.C. 77s, sets forth various situations involving statutory mergers and other types of corporate reorganizations, and declares that no "sale" or "offer" shall be deemed to be involved. But whatever may be the validity or effect of this rule - and we intimate

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U.S.C. 78c (a) (13), (14).[Footnote 8] Consequently, we must ask whether respondents' alleged conduct is the type of fraudulent behavior which was meant to be forbidden by the statute and the rule.

According to the amended complaint, Producers' shareholders were misled in various material respects prior to their approval of a merger. The deception furthered a scheme which resulted in their losing their status as shareholders in Producers and becoming shareholders in a new company. Moreover, by voting in favor of the merger, each approving shareholder individually lost any right under Arizona law to obtain an appraisal of his stock and payment for it in cash. Ariz. Rev. Stat. Ann. 10-347 (1956). Whatever the terms "purchase" and "sale" may mean in other contexts, here an alleged deception has affected individual shareholders' decisions in a way not at all unlike that involved in a typical cash sale or share exchange. The broad antifraud purposes of the statute and the rule would clearly be furthered by their application to this type of situation. Therefore we conclude that Producers' shareholders "purchased" shares in the new company by exchanging them for their old stock.[Footnote 9] As the Court of Appeals for the Seventh Circuit has said, "This view does no violence to the statutory language, and is the

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may well have concluded that the Commission's general antifraud powers over purchases and sales of securities should continue to apply to insurance securities, even though the more detailed regulation of proxy solicitations - which may often be conducted in connection with the managerial activities of insurance companies - was left to the States. Accordingly, we find no bar to the application of Rule 10b-5 to respondents' misstatements in their proxy materials.

Since the McCarran-Ferguson Act does not prohibit the relief sought, and since neither of the alternative grounds for dismissal which have been raised here is meritorious, we reverse the judgment of the Court of Appeals and remand the case to the District Court for further proceedings consistent with this opinion.

It is so ordered.

MR. JUSTICE BLACK, believing that the United States Court of Appeals for the Ninth Circuit correctly analyzed the issues in this case and that its judgment is right, dissents from this Court's reversal of the judgment.

FootnotesFootnote 1 "No Act of Congress shall be construed to invalidate, impair, or supersede any law enacted by any State for the purpose of regulating the business of insurance, or which imposes a fee or tax upon such business, unless such Act specifically relates to the business of insurance: Provided, That after June 30, 1948, the Act of July 2, 1890, as amended, known as the Sherman Act, and the Act of October 15, 1914, as amended, known as the Clayton Act, and the Act of September 26, 1914, known as the Federal Trade Commission Act, as amended, shall be applicable to the business of insurance to the extent that such business is not regulated by State law."

Footnote 2 In 1966 Arizona law was amended to give him this power. See Ariz. Rev. Stat. Ann. 20-143 (Supp. 1969). This statute was passed in response to the 1964 amendments to the Securities Exchange Act. Pub. L. 88-467, 78 Stat. 565.

Footnote 3 E. g., Securities Act of 1933, 3 (a) (8), 48 Stat. 76, 15 U.S.C. 77c (a) (8); Securities Exchange Act of 1934, 12 (g) (2) (G), added by Pub. L. 88-467, 78 Stat. 567 (1964), 15 U.S.C. 78l (g) (2) (G).

Footnote 4 The Commission lists a large number of examples of its activities in its brief. Brief for Petitioner 16-17.

Footnote 5 Although the District Court held that some of the relief requested was beyond that properly allowable under 21 (e) of the 1934 Act, 48 Stat. 900, as amended, 15 U.S.C. 78u (e), no such question has been argued by either party here. Accordingly, we express no opinion about the proper construction of that section. See Note, Ancillary Relief in SEC Injunction Suits for Violation of Rule 10b-5, 79 Harv. L. Rev. 656 (1966).

Footnote 6 Section 10 (b) of the Securities Exchange Act of 1934, 48 Stat. 891, 15 U.S.C. 78j (b), provides:

"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or of the mails, or of any facility of any national securities exchange -

. . . . .

"(b) To use or employ, in connection with the purchase or sale of any security registered on a national 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."

Rule 10b-5, 17 CFR 240.10b-5 (1968), provides:

"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality 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."

Footnote 7 For the history of this doctrine, see 1 L. Loss, Securities Regulation 518-542 (1961).

Footnote 8 These sections do indicate the breadth of the statutory terms by using the definitional word "include" and by including within the definitions contracts "to buy, purchase, or otherwise acquire" and "to sell or otherwise dispose of" securities.

Footnote 9 This case presents none of the complications which may arise in determining who, if anyone, may bring private actions under 10 (b) and Rule 10b-5. Cf. J. I. Case Co. v. Borak, (1964). This is a suit brought by the Commission; the terms "purchase" and "sale" are relevant only to the question of statutory coverage. Therefore there are no "standing" problems lurking in the case. Cf. Lowenfels, The Demise of the Birnbaum Doctrine: A New Era for Rule 10b-5, 54 Va. L. Rev. 268 (1968).

MR. JUSTICE HARLAN, whom MR. JUSTICE STEWART joins, concurring in part and dissenting in part.

I concur entirely in Parts I and II of the Court's opinion construing the McCarran-Ferguson Act. But I am at a loss to understand why the Court finds it necessary to go further and construe Rule 10b-5 promulgated under 10 (b) of the Securities Exchange Act of 1934. The Court of Appeals did not reach this question since it believed that the McCarran-Ferguson Act entirely exempted the transaction involved here from the commands of the federal securities laws. The Government's petition for certiorari is similarly limited. The only issue it raises is "[w]hether the McCarran-Ferguson Act . . . precludes the application of the anti-fraud provisions of

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I am unwilling to decide these fundamental matters without full-dress argument. Indeed, if the courts of appeals are not to be permitted to develop the law in this area on a case-by-case basis, I think it much wiser for us to consider the basic issues in a case which squarely raises them rather than in one which is of marginal importance.

[Footnote 1] Fischman v. Raytheon Manufacturing Co., 188 F.2d 783 (1951).

[Footnote 2] 3 Securities Regulation 1787-1791 (1961).

[Footnote 3] "Truth in Securities" Revisited, 79 Harv. L. Rev. 1340, 1370 n. 89 (1966).

[Footnote 4] Both O'Neill and Birnbaum were of course private actions, and I do not mean to suggest that my Brother MARSHALL is flatly inconsistent in now ruling that the "purchase" and "sale" requirement has been met in this case involving the SEC's request for an injunction. Nevertheless, both private and public actions arise under the same Rule, and the legal problems involved in the two situations, while not identical, are closely related.

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