(D.C. Civil Action No. 1439-71). APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF NEW JERSEY.
Hunter and Weis, Circuit Judges, and Newcomer, District Judge.
This case involves the interpretation of the federal securities laws to determine whether there is federal jurisdiction to hear John Lino's complaint.
Lino purchased two "Franchise Sales Center Licensing Agreements" from Franchise International ("FI"), a wholly-owned subsidiary of City Investing. Payment was made with cash and several promissory notes. He now contends that he was induced to purchase these agreements by certain material misstatements of City Investing which violated the following provisions of the federal securities laws: 15 U.S.C. §§ 77(1)(2), 77q(a), 78j(b) and 17 C.F.R. § 240.10b-5.
City Investing moved to dismiss the complaint for lack of federal subject matter jurisdiction. It argued that none of the instruments involved in the transaction were "securities" as defined in 15 U.S.C. §§ 77b(1) and 78c (a) (10). It also denied there was a "purchase" of a security within the meaning of 15 U.S.C. § 78j(b).
The district court held that the "Franchise Sales Center Licensing Agreements" purchased by Lino were not securities; but it determined that Lino's promissory notes were "securities" and that the transaction involved a "purchase" of them by FI. It therefore denied City Investing's motion to dismiss. This court granted City Investing leave to appeal the order of the district court pursuant to 28 U.S.C. § 1292(b). To avoid a fragmented appeal, we allowed Lino to appeal the holding that the licensing agreements were not securities. These appeals are now before us.
The factual landscape of this suit is relatively uncluttered. FI's "better mousetrap" apparently is a system of finding franchisees for franchisors seeking to market their products. FI and the franchisor contract with each other; FI then refers the franchisor's program to a "Franchise Sales Center Licensee"; the licensee must find an "area distributor" to represent each particular franchisor; the "area distributor" then finds various sub-franchisees*fn1 who actually sell the products of the franchisor.
A franchise sales center licensee has exclusive rights to market FI approved franchise programs within certain areas. To become a licensee, a person must pay a certain fee to FI. To become an area distributor, one must also pay a certain fee to FI. To become a sub-franchisee, a person must again pay a certain fee.
Lino contracted with FI to become a licensee in two areas. Payment was by cash and by promissory notes. According to the agreements he signed and the accompanying brochure, Lino was to receive 37 1/2% of the fees paid by the area distributors recruited by him. He was also to receive 12 1/2% of any fees paid by the sub franchisees within his area. FI also agreed to train the licensee in the techniques of establishing and operating one of its sales centers. It then was to provide him with whatever franchising programs it contracted to market and to advertise and promote the general concept of its Franchise Market Centers.
Lino, in turn, was obligated "to devote full time and best efforts" or to cause someone employed by him "to devote full time and best efforts" to the proper conduct of his sales center. According to the brochures incorporated into the agreement by reference, Lino also was required to find area distributors for each particular franchise program provided by FI and to train those distributors accepted by FI. All profit that Lino was to receive would come directly or indirectly from his recruiting and training of the area distributors.
In his complaint, Lino alleged that he was induced to purchase his agreements by certain misrepresentations of City Investing and its subsidiary, FI. The district court succinctly summarized Lino's allegation: "Specifically, FI allegedly stated that it would continue to be wholly owned by defendant and thus supported by its prestige and resources while, at the same time, it was aware of the existence of a lawsuit instituted by defendant seeking to rescind the agreement by which FI became defendant's subsidiary. Without defendant's support, plaintiff concludes, the franchises are worthless." Lino claims that the licensing agreements which he purchased are "securities" within the definition of 15 U.S.C. § 77b(1)*fn2 and 78c(a)(10).*fn3 Additionally, he claims ...