Collateral Trust Certificate

Orrell Barrowman Corporation repurchased 40,000 of its own shares years ago and carries them as treasury stock. It now proposes to resell those shares to investors, and separately to issue collateral trust certificates backed by a portfolio of bonds it owns. A trainee asks which of these two instruments is a security under the Uniform Securities Act. The correct answer is:

1. A.The collateral trust certificates only, because reacquired shares are corporate assets rather than securities.Incorrect. Treasury stock is expressly included in the definition.
2. B.Neither, because both are instruments the company issues to finance itself rather than investments.Incorrect. Financing purpose does not remove an instrument from the definition.
3. C.The treasury stock only, because a collateral trust certificate is a secured borrowing.Incorrect. Collateral trust certificates are named in the definition.
4. D.Both the treasury stock and the collateral trust certificates are securities.Correct. Both are named in the statutory definition.

Why: The statutory definition names both treasury stock and a collateral trust certificate. Neither the fact that the shares were previously outstanding and reacquired, nor the fact that the certificates are backed by other securities rather than by the company's general credit, removes them from the definition.

Merrowby Traction Company needs financing and issues certificates to investors. Each certificate represents a fractional interest in a pool of common stocks and bonds of other corporations that Merrowby has deposited with an independent trustee as collateral, and the trustee holds the deposited portfolio for the benefit of certificate holders. Merrowby's treasurer maintains that because the certificates are backed by a segregated pool held by a trustee rather than by Merrowby's general credit, they are a secured lending arrangement and not a security. How does the Uniform Securities Act treat these certificates?

1. A.They are not securities, because holders look to a segregated trust portfolio rather than to the issuer's general credit.The source of repayment does not determine the character of the instrument. Collateralisation affects credit risk only.
2. B.They are securities only if the deposited pool itself contains securities; a pool of real property would produce a different answer.A collateral-trust certificate is enumerated regardless of the composition of the deposited collateral.
3. C.They are securities, because the collateral-trust certificate is an enumerated item in the statutory definition.Correct. The definition names the collateral-trust certificate expressly, so the instrument is a security without any further analysis.
4. D.They are securities only if an investment contract analysis is satisfied on these facts.That analysis is unnecessary. An investment contract analysis is reached only for instruments not otherwise enumerated.

Why: The certificates are collateral-trust certificates, and the Uniform Securities Act names the collateral-trust certificate as an enumerated item in the definition of "security." No Howey analysis is needed, because the instrument appears on the statutory list by name. The treasurer's argument confuses the source of repayment with the character of the instrument. Collateralisation affects an investor's credit risk; it says nothing about whether the instrument is a security. Indeed the pool backing these certificates consists of stocks and bonds of other corporations, so the holders own a fractional interest in a portfolio of securities, which if anything strengthens rather than weakens the conclusion.