Great Lakes Chemical Corp. v. Monsanto Co.
2000 U.S. Dist. LEXIS 7307, 2000 WL 685002, 96 F.Supp.2d 376 (2000)
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Rule of Law:
Ownership interests in a limited liability company (LLC) are not considered "securities" under federal law when the purchaser acquires 100% of the interests and retains substantial managerial control, as such an arrangement fails to satisfy the 'common enterprise' and 'solely from the efforts of others' prongs of the Howey test for investment contracts, and does not constitute traditional 'stock'.
Facts:
- In approximately 1985, Monsanto Company created the NSC Unit within its NutraSweet division to develop specialized pharmaceutical intermediates.
- In 1995, Monsanto reorganized its NutraSweet division, establishing the NSC Unit as a separate reporting division of Monsanto Growth Enterprises, primarily focused on developing and selling L-phe and Tic-D.
- On September 25, 1998, Monsanto and its wholly owned subsidiary, Sweet Technologies, Inc. (STI), established the NSC Unit as a limited liability company (LLC) named NSC Technologies Company, LLC, under Delaware law.
- The NSC LLC Agreement stipulated that the business and affairs of NSC would be managed by a Board of Managers, and while members had no direct management authority, they had the power to remove managers with or without cause and to dissolve the company.
- In October 1998, Monsanto and STI, through an investment bank, began promoting the sale of NSC, presenting an Offering Memorandum to Great Lakes Chemical Corporation that projected significant sales growth for NSC.
- Throughout early 1999, as negotiations continued, Monsanto provided Great Lakes with revised, reduced sales projections for NSC and allegedly instructed NSC's management not to speak directly to Great Lakes regarding sales or forecasts.
- On April 8, 1999, Great Lakes Chemical Corporation entered into an Ownership Interest Purchase Agreement to acquire 100% of Monsanto's and STI's interests in NSC for $125 million, with the transaction closing on May 3, 1999.
- On October 5, 1999, Great Lakes filed a Certificate of Cancellation with the State of Delaware, dissolving NSC, after NSC's actual sales for 1999 were less than 50% of the projections provided by Monsanto and STI.
Procedural Posture:
- Great Lakes Chemical Corporation filed an eight-count complaint in the United States District Court for the District of Delaware against Monsanto Company and Sweet Technologies, Inc., alleging violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder (federal securities fraud), Indiana securities law, common law fraud, fraudulent inducement, and breach of contract, seeking various damages and remedies.
- Monsanto and STI moved to dismiss the complaint pursuant to Fed.R.Civ.P. 9(b) and 12(b)(6), arguing that the ownership interests sold were not "securities" under federal or state law, and that Great Lakes failed to adequately plead fraud.
- The parties completed briefing on defendants’ motion to dismiss, and the court heard oral argument on May 2, 2000.
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Issue:
Does the sale of 100% ownership interests in a limited liability company (LLC) to a single purchaser, where the purchaser retains substantial power to control the entity, constitute the sale of 'securities' under Section 2(a)(1) of the Securities Act of 1933?
Opinions:
Majority - McKelvie, District Judge
No, the 100% ownership interests in NSC transferred to Great Lakes do not constitute "securities" under federal law, because they fail to meet the "investment contract" test and are not considered traditional "stock" or "commonly known as a security." The court first examined whether the LLC interests were "stock" under Section 2(a)(1) of the Securities Act, applying the five common characteristics of stock articulated in United Housing Foundation, Inc. v. Forman. While the NSC interests shared some stock-like attributes (e.g., right to dividends, negotiability, voting rights, capacity to appreciate), the court determined they were not "traditional stock" for which a per se rule of security status applies under Landreth Timber Co. v. Landreth. Landreth explicitly limited its per se rule to transactions involving traditional stock, necessitating the application of the Howey test for novel financial instruments like LLC interests to determine if the transaction was an investment or a commercial venture. Applying the Howey test (an investment of money in a common enterprise with profits to come solely from the efforts of others), the court found that while Great Lakes made an investment of money, the other two prongs were not met. First, Great Lakes failed to demonstrate a "common enterprise" because it purchased 100% of NSC, meaning it did not pool its contributions with other investors (lacking horizontal commonality), and after the sale, Monsanto and STI retained no interest, thus the fortunes were not linked (lacking vertical commonality). The court emphasized looking at the specific transaction at issue (the sale to Great Lakes) rather than the original formation of NSC by Monsanto and STI. Second, Great Lakes' profits were not to come "solely from the efforts of others." The LLC Agreement, while vesting direct management in the Board of Managers, granted Members (and thus Great Lakes as sole owner) the power to remove any Manager with or without cause and to dissolve the company. Citing Steinhardt Group Inc. v. Citicorp, the court concluded that Great Lakes' sole ownership meant its power to remove managers was undiluted, giving it significant control to directly affect its profits, thereby negating the "solely from the efforts of others" requirement. Finally, the court rejected Great Lakes' argument that the interests should be deemed "any interest or instrument commonly known as a security," affirming Forman's and Landreth's stance that this category is typically equated with the Howey investment contract test for non-traditional instruments. Therefore, the court granted Monsanto's and STI's motion to dismiss the federal securities fraud claim. As a result, the court also dismissed Great Lakes' remaining state law and common law claims for lack of supplemental jurisdiction.
Analysis:
This case provides crucial guidance on the application of federal securities laws to interests in Limited Liability Companies (LLCs), particularly in the context of a 100% acquisition. It reinforces that while LLCs are flexible entities that can resemble corporations, their interests are not automatically considered "stock" and thus subject to a per se rule under Landreth. Instead, for novel instruments like LLC interests, courts will typically apply the Howey test to determine if they qualify as "investment contracts." The court's emphasis on the buyer's retained control and the lack of a shared enterprise is significant, indicating that purchasers of entire businesses with active managerial rights may not be able to avail themselves of federal securities fraud protections. This decision helps to draw a clearer line between investment transactions, which fall under securities regulation, and commercial transactions, which do not, impacting due diligence and risk assessment for business acquisitions involving LLCs.
