Reeves v. Ernst & Young
Citation
494 U.S. 56 (1990). Supreme Court of the United States.
Facts
The Farmer’s Cooperative of Arkansas and Oklahoma issued demand promissory notes to raise capital for its operations. The notes paid above-market interest rates and were sold broadly to members and the public. When the co-op went bankrupt, noteholders sued Ernst & Young, the co-op’s auditors, under the Securities Exchange Act. The threshold question was whether the demand notes were “securities.”
Issue
Are demand promissory notes issued to the public by a cooperative to fund business operations “securities” under the Securities Exchange Act of 1934?
Holding
The Court held that the notes were securities. Notes are presumptively securities unless they bear a strong resemblance to a judicially recognized category of non-security notes.
Rule / Doctrine
Notes are presumptively securities under the Exchange Act. This presumption may be rebutted if the note bears a strong “family resemblance” to one of several judicially recognized categories of non-security notes (consumer finance notes, home mortgage notes, short-term commercial paper, etc.). The family resemblance test applies four factors: (1) the motivations of buyer and seller — are parties investing for profit or engaging in commercial/consumer transactions? (2) plan of distribution — broadly offered to the public? (3) reasonable expectations of the investing public; (4) whether an alternative regulatory scheme adequately reduces the risk of the instrument. The co-op notes failed all four factors, confirming their security status.
Significance
Reeves provides the governing test for whether notes are securities, replacing the inconsistent “look-through” and “investment” approaches used in lower courts. It is frequently paired with Forman and Landreth in teaching the definition of security.