Two years ago, I wrote about U.S. District Court Judge Dana Sabraw’s opinion in Salameh v. Tarsadia Hotels, 2011 U.S. Dist. LEXIS 30375. The case involved the question of whether ownership interests in individual units of the Hard Rock Hotel San Diego constitute securities under either the investment contract test enunciated by the U.S. Supreme Court in S.E.C. v. Howey, 328 U.S. 293 (1946)). Judge Sabraw ruled that the plaintiffs had failed to allege the sale of a security under either federal or California law. The plaintiffs appealed and the SEC filed an amicus brief in support of the plaintiffs.
Yesterday, a panel of the Ninth Circuit Court of Appeals affirmed Judge Sabraw’s ruling in Salameh v. Tarsadia Hotels, 9th Cir. Case No. 11-55479 (August 13, 2013). In its opinion, the Court distinguished Hocking v. Dubois, 885 F.2d 1449 (9th Cir. 1989) (en banc) in which it had found that there was a genuine issue of material fact whether the sale of a condominium along with a rent-pooling arrangement constituted a security. The Court held that the plaintiffs in Salameh did not allege:
- Facts showing that the purchase contracts and rental agreements were offered as a package;
- That the rental management agreement was promoted at the time of sale;
- That the Defendants told them that the rental management agreement would be forthcoming; or
- That the rental management agreement would result in investment-like profits.
The Court noted that California also applies the “risk capital test” for determining the existence of a security under the Corporate Securities Law of 1968. Because the Court believed that the plaintiffs, however, had not argued the risk capital test in the District Court or on appeal, it declined to analyze whether the arrangement was a security under that test.
The Ninth Circuit’s opinion is a blow to the SEC whose amicus brief relied heavily on its 1973 Guidelines as to the Applicability of the Federal Securities Laws to Offers and Sales of Condominiums or Units in a Real Estate Development (Release No. 33-5347). The Ninth Circuit noted, however, that its conclusion “rests squarely on Hocking, which was decided after the Release was issued.” Furthermore, the Court found that “like Plaintiffs, the SEC overlooks the fact that Plaintiffs’ complaint does not allege that the Plaintiffs were induced to purchase the condominiums by the Rental Management Agreement”.
Note that Salameh is a pleadings case. Thus, the Court did not hold that the sale of hotel rooms as a matter of law could never constitute a sale of a security.