PATRICK E. HIGGINBOTHAM, Circuit Judge:
Plaintiff Adena Exploration, Inc., an oil company, appeals from a judgment and order of rescission in favor of defendant Dave Sylvan, urging that the district court erred in concluding that Adena’s sale to Sylvan of an undivided fractional interest in oil and gas was a sale of a security under the federal securities laws. We affirm.
I
Adena mailed to prospective purchasers approximately twenty-five brochures, describing an opportunity to participate in exploration and drilling for oil and gas in Nacogdoches County, Texas. Sylvan received a copy of the brochure from another prospective investor, Penn Resources, and after his experts analyzed the data gathered by Penn, Sylvan decided to purchase a 25% interest. Penn purchased another 25% interest, and Adena retained a 50% interest. Sylvan executed a Participation Agreement subject to several modifications, which were accepted by Adena.
After one well-completion attempt, Sylvan and Penn met with Adena to discuss further plans. After this meeting, Sylvan met with Penn to discuss the fact that the leases covering 800 acres were subject to Pugh clauses
and that they suspected that Adena had been charging off certain overhead costs against the lease costs, thus effecting a “mark up.” Penn and Sylvan each requested a credit of $12,250, and Sylvan later notified Adena that he was exercising his right to rescind.
Adena brought suit in Texas state court seeking approximately $200,000 from Sylvan under the Participation Agreement. Sylvan, an Oklahoma resident, removed the case to federal court on the basis of diversity,
and asserted as a defense that the agreement violated the Texas statute of frauds and federal securities laws. Sylvan sought rescission on the ground that Adena had failed to disclose material terms, including the fact that certain leases contained Pugh clauses and had certain lease expiration dates, omissions said to violate the anti-fraud provisions of the Securities Act of 1933.
The district court rejected Sylvan’s defense under the Texas statute of frauds but found that the transaction involved a “security” and that Adena had made material misrepresentations with respect to lease expiration dates, the existence of Pugh clauses, and overhead charged to the
venture. The court denied Adena recovery and granted Sylvan rescission on the ground that Adena had violated the federal securities laws.
Adena appeals from the district court’s order of rescission. It does not challenge the district court’s finding that it had made material misrepresentations but argues that the interest conveyed to Sylvan was not a security and thus that the federal securities laws are not applicable. Thus, the sole question before us is whether Sylvan’s interest in Adena’s oil and gas leases is a “security” as defined under the 1933 Act.
II
There is of course nothing novel about the suit now before us. Sophisticated purchasers of fractional undivided interests in oil and gas have sought — and obtained — rescission of their purchases pursuant to the 1933 Act for at least thirty years.
See, e.g., Woodward v. Wright,
266 F.2d 108 (10th Cir.1959) (holding rescission remedy available to sophisticated, private purchasers of fractional undivided interest in oil and gas). The Securities and Exchange Commission has consistently espoused the view that any fractional undivided interest in oil and gas is subject to regulation under both the 1933 and 1934 Acts, and adheres to that position in an
amicus
brief filed in this case. S.E.C. Br. at 6-10; Securities Act Release No. 185 (June 20, 1934), 11 Fed.Reg. 10951. Commentators have long argued that the sale of a fractional undivided interest in oil and gas is the sale of a security.
See
Bloomenthal,
SEC Aspects of Oil and Gas Financing,
7 Wyo.LJ. 49, 53 (1953) (“the sale of fractional undivided interests in the mineral rights, in the landowner’s royalty, in an overriding royalty, or in a lease all involve the sale of [a] security”).
In light of this history, it would be most surprising if the security status of a fractional undivided interest in oil and gas remained an open question in this Circuit. And, indeed, the issue might fairly be thought settled by this Court’s declaration in 1961: “That an assignment of a fractional undivided interest in oil and gas rights is a security within the definition of Section 2(1) of the Act is clearly and uncontrovert-ably established by decisions of the Supreme Court of the United States....”
Moses v. Michael,
292 F.2d 614, 618 (5th Cir.1961).
Accord, Nor-Tex Agencies, Inc. v. Jones,
482 F.2d 1093, 1098 (5th Cir.1973),
cert. denied,
415 U.S. 977, 94 S.Ct. 1563, 39 L.Ed.2d 873 (1974) (following Moses).
See also Roe v. United States,
287 F.2d 435, 437 and 439 (5th Cir.1961) (distinguishing “fractional undivided interests in oil and gas” from “investment contracts,” and citing, with approval, Judge Murrah’s opinion in
Woodward,
266 F.2d 108).
In total, at least five circuits and the Supreme Court have accepted or suggested, by express statement or by apparent implication, that a fractional undivided interest in oil and gas is a security.
See Pinter v. Dahl,
— U.S. -, 108 S.Ct. 2063, 100 L.Ed.2d 658 (1988) (applying securities laws to fractional undivided interests in oil and gas without commenting on the security status of such interests);
Penturelli v. Spector, Cohen, Gadon & Rosen,
779 F.2d 160 (3d Cir.1985) (fractional undivided interests held to be securities);
Moses v. Michael,
292 F.2d 614 (5th Cir.1961);
Whittaker v. Wall,
226 F.2d 868 (8th Cir.1955) (upholding suit for rescission of sales of fractional undivided interests in oil and gas);
Simon Oil Co., Ltd. v. Norman,
789 F.2d 780, 781 (9th Cir.1986) (commenting, with approval, upon the Third Circuit’s “well-reasoned” opinion in
Penturelli,
although remanding for application of the “risk capital” approach);
Woodward v. Wright,
266 F.2d 108 (10th Cir.1959). We
have not found any circuit court decision denying security status to an instrument properly denominated a fractional undivided interest in oil and gas.
Appellants nonetheless assert that the sale of a newly
fractionalized undivided interest in oil and gas is sometimes not a security within the meaning of the Act. We have neither the authority nor the inclination to call into question the clearly articulated rule of this Court’s earlier decisions in
Moses
and
Nor-Tex.
On the other hand, we are sensitive to the commercial significance of securities regulation, and are cognizant that this area of law is growing increasingly complex. We therefore examine now the security status of fractional undivided interests under the Securities and Exchange Acts in light of the major decisions construing those Acts. In so doing we reaffirm our pronouncements in
Moses
and
Nor-Tex.
We begin with the statute itself. In determining whether Sylvan’s interest in Ade-na’s oil and gas leases is a “security,” we look to the definition provided in § 2(1) of the 1933 Act, which says that “unless the context otherwise requires,” the term “security” means
any note, stock, treasury stock, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit for a security,
fractional undivided interest in oil, gas, or other mineral rights,
or, in general, any interest or instrument commonly known as a “security”, or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing.
By this express language, the definition of “security” includes Sylvan’s interest as a “fractional undivided interest in oil, gas, or other mineral rights.”
Ordinarily, we do not look beyond the plain language of a statute; at the same time, however, we do not garrote congressional purpose with zealous literalism. Adena argues that a literalist approach is incompatible with Supreme Court case law and that we must inquire further than the express language of the statute. The Supreme Court, in
S.E.C. v. C.M. Joiner Leasing Corp.,
320 U.S. 344, 64 S.Ct. 120, 88 L.Ed. 88 (1943), spoke to the import of the statutory reference to “fractional undivided interests in oil and gas.” The Court’s comment upon the phrase guides our construction of the statute’s meaning. The Court, speaking through Justice Jackson, said
Oil and gas rights posed a difficult problem to the legislative draftsmen. Such rights were notorious subjects of speculation and fraud, but leases and assignments were also indispensable instruments of legitimate oil exploration and production. To include leases and assignments by name might easily burden the oil industry by controls that were designed only for the traffic in securities. This was avoided by including specifically only that form of splitting up of mineral interest which had been most utilized for speculative purposes. We do not think the draftsmen thereby immunized other forms of contracts and offers which are proved as matter of fact to answer such terms as “investment contracts” and “securities.”
320 U.S. at 352, 64 S.Ct. at 124. Congress, in other words, did not leave judges the difficult task of balancing the need for regulation against the burdens to the oil industry. Rather, Congress singled out “fractional undivided interests in oil and gas” as a form of oil and gas rights subject to securities regulation. The clear implication of the
Joiner
Court’s analysis is that
while the Act’s coverage of the oil and gas industry may extend beyond fractional undivided interests in oil and gas, it extends at the very least to the sale of any such interest.
What
Joiner
left to implication Judge Murrah made explicit in his influential opinion in
Woodward v. Wright,
266 F.2d 108 (10th Cir.1959), a landmark securities case which remains frequently cited today.
See, e.g., San Franciseo-Oklahoma Petroleum Exploration Corp. v. Carstan Oil Company, Inc.,
765 F.2d 962, 966 (10th Cir.1985).
Woodward
is closely parallel to the dispute between Adena and Sylvan: it, like the present case, involved a claim for rescission brought by highly sophisticated purchasers of fractional undivided interests in oil and gas. It is difficult to improve upon Judge Murrah’s reasoning, and we therefore describe it in detail. Judge Murrah began by observing that “a fractional undivided interest in oil and gas becomes a ‘security’ when it is created out of the ownership of an interest in oil and gas, and this is so even though what he sold was a fractional interest therein or other mineral rights for the purpose of sale or offering for sale.” He added that “[t]he legislative policy however is to bring all ‘securities’ within the regulatory scope of the Act without regard to form or legal terminology, and so we look to the facts to determine whether in reality that which was sold in this transaction can be said to be either an investment contract or the creation of fractional interests in oil and gas.”
Id.
at 112-13.
Judge Murrah summarized his conclusions as follows:
The contract provided for the sale of an entire oil and gas lease. But it clearly contemplated the creation of fractional interests therein and conveyance of the same to the respective purchaser-contrac-tees. That which was ultimately conveyed under the terms of the contract was, to be sure, fractional undivided interests in oil and gas. They were created for the purpose of sale. And, they were therefore securities within the meaning of the Act.
Id.
at 114. Judge Murrah’s test is simple: if a fractional undivided interest is created for the purpose of sale, the conveyance of the interest is the sale of the security. There can be no doubt that, under this test, the interests created by Adena for sale to Penn and Sylvan are securities.
Judge Murrah’s analysis did not conclude with this definition, but continued on to consider the availability of a rescission remedy pursuant to 15 U.S.C. § 77i(2), which is now referred to as Section 12(2) of the 1933 Act. He recognized that because the offering was not subject to the registration requirements, 15 U.S.C. § 77i(l) was inapplicable. Judge Murrah held, however, that the Section 12(2) remedy remained available despite the limited character of the offering, the sophistication of the purchasers, and the face-to-face negotiations between the purchasers and sellers:
The contract was entered into after on-the-ground inspection and negotiation.... The whole transaction was a closely knit arrangement among friends and
acquaintances,
and was conducted on a personal basis____ All of the purchasers apparently entered into the transaction with sophisticated discernment. Viewed in the whole context of the Act, we see no practical need for the application of absolute liability provisions of [15 U.S.C. § 77i(l)] to isolated transactions of this kind. But, as we have seen, the [15 U.S.C. § 77/ (2) ] remedy is applicable to the sale of all securities (with exceptions not here material) whether exempt from the registration requirements or not, or whether the sellers were issuers for the purpose of public offering or not.
266 F.2d at 115-16 (emphasis in the original). Judge Murrah’s argument forecloses Adena’s appeal.
Adena does not offer any argument distinguishing
Woodward
from the instant case, nor does Adena point out any flaws in Judge Murrah’s reasoning. Adena contends, however, that we are bound by
S.E. C. v. W.J. Howey Co.
to determine whether the “economic reality” of this transac
tion indicates that Sylvan’s interest was a “security.”
In
Howey,
the SEC sought to apply the securities laws to the sale of units of a citrus grove, which was coupled with a contract for cultivation of the grove with net proceeds from the crop to be remitted to the owner. The court held that such an interest was an “investment contract” within the definition of “security.” The oft-cited
“Howey
test” states that “an investment contract for purposes of the Securities Act [is] 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 a promoter or a third party____”
Adena contends that even though Sylvan does not characterize his interest as an investment contract, every “security” must satisfy the
Howey
test.
Howey,
of course, in no way detracts from the force of Judge Murrah’s reasoning in
Woodward,
which was decided well after both
Howey
and
Joiner.
Judge Mur-rah invoked the
Howey
test to decide that the lease assignments at issue in
Woodward
were not “investment contracts,” but then went on to consider the separate question of whether the lease assignments involved the conveyance of fractional undivided interests in oil and gas. 266 F.2d at 114.
Judge Murrah’s refusal to apply
Howey
to the sale of
every
“security” becomes all the more convincing after the Supreme Court’s decision in
Landreth Timber Co. v.
Landreth.
In
Landreth,
the purchasers of the stock of a timber company sued their sellers, alleging fraud in violation of the 1933 Act. The Supreme Court rejected the “sale of business” doctrine,
under which some circuits had held that sale of 100 percent of a closed corporation’s stock was not a “security.”
On one level, this doctrine was a logical extension of the
Howey
test, insofar as the purchaser of all the stock in a closed corporation often does not expect to profit solely from the efforts of a third party.
However, the Supreme Court declined to apply
Howey,
reasoning that “the
Howey
economic reality test was designed to determine whether a particular instrument is an ‘investment contract,’ not whether it fits within
any
of the examples listed in the statutory definition of ‘security.’ ”
The
Howey
test arose out of cases that “involved unusual instruments not easily characterized as ‘securities.’ ... Thus, if the Act were to apply in those cases at all, it would have to have been because the economic reality underlying the transactions indicated that the instruments were actually of a type that falls within the usual concept of a security.”
In the
Landreth
Court’s view, to apply the
Howey
test to every type of instrument listed in the statutory definition would render the enumeration superfluous.
The same difficulty would result if we applied
Howey
to Sylvan’s interest, insofar as the interest falls squarely within the term “fractional undivided interest in oil, gas or other mineral rights.” The statutory definition of a security includes both relatively specific categories, composed of “instruments whose names alone carry well-settled meaning,” and “more variable” categories, composed of instruments referenced by “descriptive terms.”
As the Third Circuit recently recognized, Landreth’s limitation on
Howey
renders
Howey
inapplicable to mineral interests. In
Penturelli v. Spector, Cohen, Gadon &
Rosen,
that court reversed a district court holding that a mineral interest did not qualify as a “security” under the
Howey
test. The appellate court instead held that the
Howey
test was inapplicable, rejecting the argument that
Landreth
should be limited only to holdings in stock. The court noted that a “fractional undivided working interest” in a mineral lease arises “when a lessee of mineral rights sells parts of its interest in the rights in order to finance the development of the minerals.”
The court stressed that the 1933 Act specifically enumerates these fractional interests as securities, stating:
Congress chose not to include leases and assignments because they were indispensable instruments of legitimate oil exploration and production and it wanted to avoid burdening the oil industry by controls that were designed only for traffic in securities. On the other hand, Congress did specifically mention in the Acts the fractional undivided interest, which was “that form of splitting up mineral interests which had been most utilized for speculative purposes.”
The court then observed that other circuits had held that a fractional interest in minerals was a “security” under a variety of tests, that the SEC officially had stated that it regards “interests precisely like those at issue in this case as securities within the statute,”
and that the parties themselves considered the interests securities.
The court also noted that
Landreth
had distinguished
S.E.C. v. C.M. Joiner Leasing Corp.
and
United Housing Foundation, Inc. v. Forman.
Joiner
involved the sale of leasehold interests in land near a proposed oil well drilling rather than a fractional undivided interest, and
Forman
involved the sale of an interest for “personal use” rather than “stock” in the traditional sense, despite the label. The Supreme Court had found the instruments in
Joiner
and
Howey
to be “securities” because they were “investment contracts,” but found that
Forman
did not involve securities even though the instruments sold bore the name “stock.” The Third Circuit, following
Landreth,
reasoned that
Joiner, How-ey,
and
Forman
did not mean that, faced with an instrument falling squarely within another statutory definition, courts must also apply the economic reality inquiry:
It follows that if any inquiry other than whether the instrument fits the statutory definition is appropriate, it would be whether the instrument and transaction fit the traditional characteristics of the defined term, or whether ... the reasons and policies that gave rise to protection of securities under the 1933 and 1934 Acts are applicable.
The court then concluded that the transaction there fit within the traditional characteristics of an “undivided mineral interest.” The court specifically rejected defendant’s argument that a “passive investor test or a management or control inquiry” should be applied, holding that such an inquiry is not applicable to determine whether stock is a security under
Landreth,
and that there is “no reason why that would not also be true of the fractional undivided interest, also enumerated in the statutory definition.”
The court thus ruled that, as a matter of law, the interest was a security governed
by the anti-fraud provisions of the federal securities acts.
We are persuaded by the Third Circuit’s analysis.
Under the
Landreth
inquiry, we must look to whether an instrument or transaction is covered by the plain language of the definition — whether it “lends itself to consistent definition”
and is “provable by its characteristics.”
Here, the specific interest sold by Adena to Sylvan cannot be distinguished from the interest sold in
Penturelli.
Nor can the interest be distinguished from that which Judge Murrah characterized as a security in
Woodward,
well after
Howey
but long before
Landreth.
Like the Tenth and Third Circuits, we are persuaded that this interest falls squarely within the definition of § 2(1). Sylvan purchased a twenty-five percent working interest and executed a Participation Agreement under which Ade-na was listed as operator and the Sylvan Trust was listed as Non-Operator. The Agreement transfers to Sylvan “an undivided 25% interest in and to” certain leases in Nacogdoches County, Texas. Under the common use of the terms throughout the industry, in Supreme Court cases,
and in oil and gas treatises, this can be nothing but “a fractional undivided interest” in oil and gas. As the Second Circuit has noted, “The more recent teaching of the Supreme Court suggests that the economic realities test should be used only when the interest in question does ‘not fit squarely within one of the enumerated kinds of securities listed in the [Act’s] definition’ of a security.”
We are persuaded that Sylvan’s interest does fit “squarely within” the definition of § 2(1) and hold that the economic reality test of
Howey
is inapplicable.
Yet, we must be ever mindful that the statutory definition of “security,” is accompanied by that vexatious phrase, “unless the context otherwise requires.”
Thus, even though we are not bound to apply the
Howey
test here, we might still be required to examine the factual “context” of the transaction to determine whether Sylvan’s interest is properly considered a security. In
Marine Bank v. Weaver,
the Supreme Court looked to the regulatory context of certificates of deposit in deciding that such certificates are not securities. The Court reasoned that the certificate of deposit was not like a typical long-term debt obligation subject to the securities laws because the certificate “was issued by a federally regulated bank which is subject to the comprehensive set of regulations governing the
banking industry.”
These statutes and regulations, the Court noted, both guaranteed the funds on deposit and subjected the lender to disclosure requirements. In this context, the Court concluded, the additional protections of the securities laws were unnecessary.
In
Landreth
the Supreme Court did not cite to
Weaver
but used the “context” concept to distinguish the decision in
Forman:
“Moreover, unlike in
Forman,
the context of the transaction involved here — the sale of stock in a corporation — is typical of the kind of
context
to which the Acts normally apply.”
Arguably, these statements by the Court could be interpreted to require an inquiry into the factual context of any transaction alleged to involve a security. However, we are convinced that
Weaver
properly is read more narrowly.
In neither
Weaver
nor
Landreth
did the Court inquire into the
factual
context of the transaction before it. In
Weaver,
particularly, the Court’s concern is better characterized as testing the legislative and regulatory “context” of the transaction, the question being whether in light of other federal protections affecting the transaction, Congress would have intended the securities laws to apply. With respect to Sylvan’s interest, we are given no indication that the legislative and regulatory context would render securities laws protections duplicative. Hence, we find no inconsistency between our result and
Weaver.
Moreover,
Weaver
was not a case in which the interest alleged to be a security fell squarely within a type of instrument enumerated in the statutory definition.
Rather, the question before the Court was whether the certificate of deposit fell into the statute’s “catch-all” provision; i.e., whether the instrument was one “commonly known as a ‘security.’ ”
The Court did not limit its analysis to this part of the statutory definition, but insofar as context is a question of congressional intent, the specific enumeration of a particular type of instrument as a “security” makes it less likely that Congress meant for other regulatory legislation affecting that instrument to displace the protections of the securities acts.
Our holding that Sylvan’s interest was a security is consistent with the policies manifested in other decisions construing the Act’s definition of a security. We do not assume that investors are always passive. Indeed, many investors are sophisticated and able to fend for themselves, and it can
be argued that sales of fractional undivided mineral interests to sophisticated purchasers should not involve the sale of a security. We, like Judge Murrah before us, are unpersuaded. In the context of sales by a lessee, as distinguished from sales of royalty by lessor-owners,
where raising of capital and risk distribution are daily fare, the purposes of the securities law are served poorly by a rule that hinders the parties’ ability to determine whether a security is being sold until after the transaction. Adhering to the statute’s plain language does no violence to the disclosure purposes of the securities acts; even where sophisticated investors are involved, clarity and predictability of rules are particularly prized in commercial transactions. As the Supreme Court has noted, “the parties’ inability to determine at the time of the transaction whether the Acts apply neither serves the Acts’ protective purpose nor permits the purchaser to compensate for the added risk of no protection when negotiating the transaction.”
See also Nor-Tex,
482 F.2d at 1099 (“sophisticated investors, like all others, are entitled to the truth”).
Moreover, the immediate consequence of selling a security is only to trigger the anti-fraud provisions of the act; to trigger the registration provisions, the interest must be marketed in ways that make the seller an “issuer.”
Of course, the secondary consequence of treating a transaction as involving a sale of a security is to give a plaintiff access to a federal court; however, parties are free to negotiate for arbitration,
and private ordering is likely to be enhanced by a rule sufficiently predictable in its reach to allow the parties to adjust their affairs.
Nor need we be troubled by those decisions looking to “economic reality” to determine whether a particular instrument has security status because it is a “note.” Congress made clear in the statutory text that not all notes are securities. Section 3(a)(3) of the Securities Act exempts from the Act’s registration requirements any “note ... which arises out of a current transaction, or the proceeds of which ... are to be used for current transactions, and which has a maturity at the time of is
suance of not exceeding nine months____” 15 U.S.C. § 77c. There is a comparable proviso in the 1934 Exchange Act’s general definition of a security. 15 U.S.C. § 78c(a)(10). These textual restrictions upon the security status of notes responded to an observation which the Federal Reserve Board addressed to the draftsmen of the 1933 Act. The Board argued that notes ought to be covered by the Act only insofar as they were designed for “investment” rather than to provide “funds for current transactions.” Note,
The Commercial Paper Market and the Securities Acts,
39 U.Chi.URev. 362, 382 (1972). Many if not all of the cases evaluating the security status of notes have focused upon the concern, first articulated by the Reserve Board, that only commercial paper having some investment aspect ought to be regulated by the Securities and Exchange Acts. This Circuit’s own cases are among those which stress the distinction between investment notes and commercial notes.
See, e.g., Woodward v. Metro Bank,
522 F.2d 84, 91-92 (5th Cir.1975);
McClure v. First Nat’l Bank of Lubbock,
497 F.2d 490 (5th Cir.1974);
SEC v. Continental Commodities Corp.,
497 F.2d 516, 524-25 (5th Cir.1974).
See also
Sonnenschein,
Federal Securities Law Coverage of Note Transactions: The Antifraud Provisions,
35 Bus. Law. 1567, 1589-1601 (1980). The distinction between investment notes and non-investment notes has a parallel in the Supreme Court’s cases construing the security status of stock. While the Court has refused to make the security status of stock hinge upon a distinction between active and passive investors,
the Court has made that status dependent upon whether the stock serves an investment purpose.
Judge Henry Friendly, one of the leading interpreters of the federal securities laws, has criticized the Fifth Circuit’s approach to defining the security status of notes as failing “to pay ... heed to the statutory language.” Judge Friendly, while recognizing the textual basis for the distinction among kinds of notes, chided this Circuit for its inattention to the details of the statute, which distinguishes among notes on the basis of their maturation dates.
Chemical Bank v. Arthur Andersen & Co.,
726 F.2d 930, 936-37 & n. 12 (2d Cir.1984). We need not now address whether or not this Circuit should reconsider its treatment of notes in light of the Supreme Court’s adoption in
Landreth
of a textualist approach, comparable to Friendly’s
Chemical Bank
approach, to defining a security.
But, with
Landreth
in place, we cannot extend the jurisprudence of our notes cases to the distinct category of fractional undivided interests in oil and gas, where we lack any textual or historical warrant to narrow the statutory category.
Likewise, the cases applying an “economic reality” test to define the security status of “investment contracts” rest upon considerations special to that category. Congress invoked the term “investment contract” against a background of state law precedents which had construed the term by recourse to the touchstone of economic reality.
S.E.C. v. Howey Co.,
328 U.S. 293, 298-99, 66 S.Ct. 1100, 1102-03, 90 L.Ed. 1244 (1946). The category is akin to the statutory definition’s concluding reference to “any interest or instrument commonly known as a security,”
and serves as a residual category capable of encompassing unusual instruments that do not fit more conventional forms.
Ill
To summarize our analysis, we today hold that careful attention to the words of
the Securities Act reveals that if a financial instrument is properly denominated a “fractional interest in oil and gas,” then the instrument is necessarily a security. In so holding, we follow, as we must, not only our past decisions in
Moses
and
Nor-Tex,
but also the Supreme Court’s decisions in
Joiner
and
Landreth.
As
Landreth
made clear, the basis for our holding is necessarily textual, not functional. The
Landreth
Court determined that stock was always a security within the meaning of the Act
not
because such a rule would be consistent with economic theory, but, on the contrary, because the language of the Act compelled that result
regardless
of whether supported by finance theory.
We would depart from our proper course were we to offer a broad, functionalist definition of a security. Such a theory might have much going for it as a matter of policy science or economic theory. But as legal doctrine, it is flawed by a misreading of the Supreme Court’s highly textual definition of a security; the theory’s policy implications, whatever they may be, could in no way overcome the problems resulting from the theory’s inattention to the statutory text.
Although economic theory may in appropriate instances contribute to the development of legal theory, its use here is foreclosed by precedent, statutory text, and Congressional intent.
Forman
is entirely consistent with this reading of
Landreth.
Stock is identifiable by its characeristics, not its label. Characteristics are no less recognizable in the absence of a theory explaining them, nor are they simply names. One need not, in other words, be a botanist to know that a rose by any other name would smell as sweet. Where the Act refers to a category recognizable by its characteristics, there is no need to define the category by reference to economic theory. Such is the case both with stock and with fractional undivided interests in oil and gas.
That is not to say that the Securities and Exchange Acts regulate arbitrary categories of financial investments. The purpose of the Acts is to ensure that investment transactions take place in the context of “full and fair disclosure,” and to preserve “honest markets” founded upon “honest publicity.”
The Acts thereby safeguard the integrity of a capital market characterized by financial transactions that are complex, rapid, and large. Frequently those transactions involve traditional instruments such as stock or fractional undivided interests in oil and gas, but the transactions may also proceed through more general, less easily named devices which the Act describes in broader terms as “notes” or “investment contracts.”
Of course, the various instruments used to effectuate complex financial transactions will often share certain general features. One of these is the familiar division between investment- and management. Such a division facilitates complex, rapid transactions, since it is difficult to make a rapid change in financing if that change necessarily entails a change in management. Moreover, the risk of ill-advised or ill-informed decision making diminishes when an investor is personally involved in managing the venture that is the subject of the transaction.
Yet these frequently shared features are not essential elements of a security. The Supreme Court made this point clearly in
Gould v.
Ruefenacht,
where the Court held that stock is a security even when purchased pursuant to a contract
requiring
the purchaser to participate in management of the company. The Court in
Ruefe-nacht
reiterated the textual focus of
Lan-dreth,
but added that a purely economic analysis would frustrate, rather than further, the purposes of the Act. To predicate the definition of a security upon a detailed analysis of corporate control and investment devices would make the applicability of the Securities and Exchange Acts turn upon extended litigation, the peculiar characteristics of purchasers and sellers, and the nature of distinct transactions.
By making financial instruments into “juridical chameleons,”
which change into securities as the result of minor variations in background, an economic approach would detract from the market certainty, reliability, and stability that the Acts aim to establish by their program of “full and fair disclosure.”
We must remember, moreover, that the provisions defining what is a security are not the sole means for effectuating the multivalent policies of the Act. Other statutory clauses recognize the need to exempt issuers from registration requirements in instances when an offering is small and the investors are well-informed.
The Supreme Court has also recently ruled that equitable principles may protect a seller of securities from liability in a suit brought by a purchaser who is equally responsible for the unregistered distribution of securities.
By none of this do we mean to deny that economics may in some cases be a useful, if not indispensable, aid to judicial decision making. Where application of a legal standard, or the existence of legal ambiguity, compels judges to formulate legal rules compatible with commercial practices and purposes, recourse to economics is appropriate.
See, e.g., In re LTV Securities Litigation,
88 F.R.D. 134 (N.D.Tex.1980) (developing fraud-on-the-market theory later endorsed by the Supreme Court in
Basic, Inc. v. Levinson,
— U.S. -, 108 S.Ct. 978, 99 L.Ed.2d 194 (1988));
Lewis v. Timco, Inc.,
716 F.2d 1425, 1432-33 (5th Cir.1983)
(en banc)
(discussing economic aspects of comparative fault rule). Economics, however, must not be used as a lever by which to force ambiguity into legal rules that would otherwise be clear.
On balance, we are persuaded that our reading of the Securities Act gives meaning to the full statute and the congressional purpose behind it. We decline to succumb to the temptation to write a better statute for Congress. We will not lightly assume that Congress intended to leave to judges the ad hoc creation of policy inherent in any effort to “adjust" the meaning of a sale of a “fractional undivided interest in oil and gas.” The judicially created right to enforce Rule 10b-5 is a paradigmatic example of the problems that may follow from judicial policy making in this area.
We AFFIRM.