No specific proposal is made in our reports with respect to this question. One of the reasons given in the report is that the matter is presently the subject of a suit in a Federal district court in California. As to whether or not securities issued in corporate mergers, consolidations, and reorganizations are sales, and therefore within the act, we felt it appropriate to draw the problem to the attention of the committee in the course of our report, and for that reason and to that end we outlined briefly what the problem was in our report. It is an important problem, and while the committee is considering amendments to the Securities Act we feel that it should have that problem in mind.

In order again, however, to conserve the time of the committee, the Commission has prepared a short statement of the problem and its views and its history, which I submit for the record. I understand that Mr. Page as the representative of the securities industry group has a similar statement, and I further understand that representatives of the National Association of Manufacturers are desirous of merely submitting a report on the subject at this time in order to save time. The CHAIRMAN. Very well.

Commissioner PURCELL. If that is satisfactory to the committee, we can all do that.

The CHAIRMAN. Very well. The reports will go into the record. (The papers referred to are as follows:)

OUTLINE OF COMMISSION'S STATEMENT WITH RESPECT TO THE NO-SALE DOCTRINE

There is one aspect of the Securities Act of 1933 which the Commission believes should be presented to this committee, but as to which no proposal for amendment is presented at the present time. I refer to the application of the registration provisions of the act to corporate mergers, consolidations, and reorganizations which are not carried through under the supervision of a court. Under an interpretation of the Commission which is spelled out in the instructions of the Commission for the use of Form E-1, the form prescribed for use in registering an exchange of securities for other securities, such mergers, consolidations, and reorganizations are, generaly speaking, not required to be registered. The correctness of this interpretation is now being tested in a Federal district court in California in a civil action to which the Commission is not a party. If the interpretation is rejected, many transactions which have heretofore been considered as not requiring registration will hereafter be subject to the registration requirements. If the interpretation is upheld, the question will still exist as to whether exempting such transactions from registration is consistent with the proper protection of investors.

Under most State statutes mergers, consolidations, or reorganizations are required to be submitted to stockholders for approval. Some statutes may be complied with by obtaining a mere majority in approval, while others require the approval of two-thirds or threefourths of the security holders. When a plan has been approved by the stockholders, the transaction is usually completed by filing a copy of the plan with the proper State authorities and then substituting new stock certificates for those outstanding. Dissenting security holders are given a privilege under most statutes to receive the appraised or

fair value of their holdings, but in the absence of affirmative action on their part they automatically become holders of the new security. In essence, therefore, mergers, consolidations, and reorganizations constitute sales of new securities to the old security holders in exchange for their old securities. However, the sale is effected through the vote of a majority (or two-thirds or three-fourths, as the case may be), rather than through each individual purchasing for his own account.

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Even before the Securities and Exchange Coinmission was estab lished the question was raised before the Federal Trade Commission as to whether registration was necessary for mergers, consolidations, and reorganizations. The definition of "sale" contained in section 2 (3) of the Securities Act includes "every contract or disposition of * a security or interest in a security, for value." The value involved in a merger transaction is, of course, the surrender of the security. Moreover, by exempting certain transactions wherein one security is exchanged for another in sections 3 (a) (9) and 3 (a) (10), Congress made it very clear that it considered a sale to be involved when securities are offered to individual stockholders in exchange for their holdings. In the report of this committee on the orig inal Securities Act (Rept. No. 85, 73d Cong., 1st sess. (1933), p. 16) it was stated that

Leorganizations carried out without such judicial supervision possess all the dangers implicit in the issuance of new securities and are, therefore, not exempt from the act. For the same reason the provision is not broad enough to include mergers or consolidations of corporations entered into without judicial supervision.

In view of these provisions of the act of the legislative history, the Commission has interpreted the act as applying the registration provisions to all offers of one security in exchange for another security where the offeree is given an individual choice as to whether to accept or reject the offer. For example, when a corporation submits to its bondholders a proposition to extend the maturity date of their bonds which proposition is to be accepted or rejected by each bondholder individually, the Commission has taken the position that in effect the issuer is offering a new security in exchange for the outstanding security and that registration is necessary. This position has been upheld in the Second Circuit Court of Appeals (Securities and Exchange Commission v. Associated Gas & Electric Co., 99 F. (2d) 795).

However, mergers, consolidations, and reorganizations in which a vote of the majority binds the minority involve different factors. In such situations the alteration of the stockholder's security occurs not because he consents to an exchange, but because the corporation by authorized corporate action converts his security from one form to another. The Commission has reached the conclusion that the act was not intended to apply where (1) the vote of the stockholders is effective (subject to directors' action and other statutory requirements) as corporate action, and (2) this action binds all stockholders, assenters, dissenters, and nonvoters alike, subject only to appraisal rights of dissenters. The essence of the Commission's contruction is that in such a case a proposed corporate action is submitted to stockholders as a class in their capacity as members

of the corporate body, and that such an action of submission involves no offer to exchange with any stockholder as an individual the new securities which may be created as a result of the vote of the stockholders as a class. Even though the stockholder may participate in the vote which results in changing his rights as a stockholder, his action in so doing is the action of a member of the corporation exercising his franchise rather than the action of a security holder choosing to accept an offer of an exchange made to him as an individual. Thus the Commission's position is not based on the theory that it is inappropriate to give security holders information, but on its interpretation of the word "sale" in the

statute.

As stated above, the Commission's interpretation was incorporated in its instructions for the use of Form E-1. As a result literally billions of dollars of securities by thousands of corporations large and small have been issued under reorganizations, mergers, and consolidations without registration. The first attack which has been made on this interpretation to our knowledge is the case referred to above, Leland Stanford Junior University v. The National Supply Company. In that case the plaintiff had received new securities as a result of a consolidation by a Delaware corporation. It is suing under sections 12 (1) and 12 (2) of the act on the ground that the transaction involved a sale to it of new securities. According to our information the case is now under consideration by the court and a decision is to be expected soon.

In laying this problem before this committee the Securities and Exchange Commission does so without presenting any specific recommendation as to amendments. However, there can be no doubt but that many security holders have in the past consented to mergers, consolidations and reorganizations without having before them full and accurate information on which to act. In a study which the Commission made at the direction of Congress pursuant to section 211 of the Securities Exchange Act of 1934, entitled "Study and Investigation of the Work, Activities, Personnel, and Functions of Protective and Reorganization Committees," many abuses in connection with voluntary plans were analyzed. If this committee has any doubt as to the need of protecting investors in such situations, I would refer them to part 7 of that report for details as to the respects in which investors in the past have been deceived.

This, then, is the present situation: The act as it stands is not clear as to whether the registration provisions apply to the types of transactions about which I have been speaking. The Commission has interpreted the act as not applying, and as a result many mergers, consolidations, and reorganizations have been effected without registration. There can be no doubt that in many instances investors have suffered as a result. The interpretation is now the subject of attack in the courts and it may be advisable to await the result of that litigation before taking any action with respect to amending the act. However, this committee may well wish to consider this problem, since if the interpretation is upheld Congress may desire to amend the act in order to bring these transactions within its registration provisions.

STATEMENT BY REPRESENTATIVES OF THE INVESTMENT BANKERS ASSOCIATION, NATIONAL ASSOCIATION OF SECURITY DEALERS, NEW YORK CURB EXCHANGE, AND NEW YORK STOCK EXCHANGE

The Commission, without making any proposal on the subject, has raised in its report the question "whether the registration provisions of the act should apply to mergers, consolidations, and certain types of reorganizations."

It is clear today that, if a corporation makes an offer to its security holders, an offer to exchange one security for another, the offer being one which each security holder individually is free to accept or to refuse, the offer is an "offer" of sale, and the completed transaction is a "sale," within the meaning of the Securities Act. Registration is not required ordinarily, in such a case, because of the exemption provided in section 3 (a) (9), which exempts securities exchanged by a corporation with its existing security holders if no commission is paid for soliciting the exchange. In the proposed amendments this exemption is being carried forward as section 4 (a) (9).

If, however, corporation A offers its securities to the security holders of corporation B in exchange for corporation B's securities, the exemption contained in section 3 (a) (9) does not apply and registration is necessary.

The transactions just mentioned are "sales" within the meaning of the Securities Act because each security holder is free to accept or reject the exchange offer. Hence, the exchange is a true sale, the person solicited being asked to take a new security and pay for it by giving up his existing security.

In mergers or consolidations, the transaction involved is quite different. Corporation A and corporation B, for example, are contemplating a merger. What is involved is corporate action, not an offer of exchange of securities. Both corporation A and corporation B hold meetings of their boards of directors, which adopt resolutions recommending the merger or consolidation to their respective stockholders, and call meetings of stockholders to be held for the purpose of considering the question. If at these meetings of stockholders the requisite percentage vote in favor of the proposed merger or consolidation, it becomes effective. As a result of this corporate action, the merged or consolidated corporation comes into existence upon the filing of evidence of the necessary votes with the appropriate State authority. Thereafter, each stockholder of the constituent corporations automatically becomes a stockholder in the merged or consolidated corporation, subject to any right to dissent which he may have. No true exchange of securities is involved.

The sale of all the assets of one corporation to another corporation in return for stock of the latter is another type of reorganization to which presumably the Commission was referring in its report. There again the transaction is effected entirely by corporate proceedings; if the directors and stockholders, at meetings properly called, vote in favor of the transaction, the selling corporation transfers its assets to the purchasing corporation and receives the later's stock in return. In the ordinary case the selling corporation then dissolves, and distributes its holdings of the purchasing corporation's stock to its stockholders.

It seems clear that transactions of this character, which take place as the result of corporate proceedings, do not involve the sale of securities to stockholders. That has been the view of business and of lawyers generally, and it has been the view of the Commission. On September 20, 1935, the Commission amended its rule for the use of form E-1 to state its opinion that no sale is involved in the cases just noted, where the transaction takes place, not by virtue of the acceptance by the individual stockholder of an offer of exchange, but by virtue of the vote of stockholders and directors. That provision has been contained in that rule ever since that time, and a large number of mergers, consolidations, and other similar types of reorganizations have accordingly been carried out without registration under the Securities Act. A copy of the rule in question is annexed as exhibit A to this statement. The Commission in its report points out that the validity of this interpretation is now the subject of a civil suit in California to which the Commission is not a party. Our counsel advise that there is very little doubt that the interpretation will be upheld in the courts; that it is quite plainly the correct interpretation under the law; and also that the courts are bound to give weight to the administrative interpretation of it by the Commission over the last 6 years. Accordingly, we believe it unnecessary for Congress to take any action to ratify a construction which has been so uniformly acted upon for so considerable a period of time.

The Commission suggests that there is a further question whether the exemption of transactions of this character are consistent with the proper protection of investors. While this question is of more direct concern to issuers than to the group of conferees who have had these discussions with the Commission, we believe that no change in the law in this respect is desirable. What we are dealing with is situations in which stockholders are asked to vote on mergers, consolidations, and sales of assets in return for stock. These are matters of importance to stockholders, of course. But there are other matters which may be of equal importance to stockholders on which, from time to time, they are asked to vote-the creation of a bond issue, creation of a new class of senior stock, adoption of plans for compensation of officers and employees, the sale of all the assets of the corporation for cash, the issue of stock for all the assets of another corporation, a decision to liquidate the corporation-all these are examples of important questions on which stockholders must exercise their judgment. There are obvious reasons for distinguishing between offers of exchange made to security holders individually on the one hand and reorganizations and mergers on the other. Where each security holder is at liberty to accept or reject an offer of exchange, each must exercise his own judgment. Where a merger or consolidation is involved, the individual security holder is not acting independently; the merger or consolidation will not go through unless the board of directors has decided that the proposal is good business for the corporation. It will likewise not go through unless a specified percentage of the security holders feel the same way about it.

Undoubtedly it is desirable that security holders should have adequate and truthful information before they vote on any corporate matter, including, among others, mergers and consolidations.

We think, however, that it would be inappropriate and burdensome to apply the registration procedure in any of these cases.