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July 13, 1971


The opinion of the court was delivered by: Napoli, District Judge.


This is a securities action involving an alleged violation of section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j, and Rule 10b-5 of the Securities and Exchange Commission, 17 C.F.R. § 240.10b-5. Jurisdiction is predicated upon section 27 of the '34 Act, 15 U.S.C. § 78aa. The case is presently before the court on motions for summary judgment of both plaintiff and defendant. Each party asserts the lack of a genuine issue of material fact and each contends that it is entitled to judgment as a matter of law. The court agrees that there is no issue of material fact.

Plaintiff is the owner of a small business who previous to the purchase in question, had invested occasionally in the stock market. His previous purchases were of common stock. Defendant issued on March 1, 1962, through a trustee (at which time defendant was a Kansas corporation) $5,242,400 in five per cent convertible subordinated debentures. Plaintiff and, as joint tenants, his wife who is not a party herein purchased two debentures in $1000 denominations during April of 1967.

Being advised that these debentures were a "good investment," they were purchased on the open market through his broker. At no time did plaintiff see a prospectus or the trust indenture under which the debentures were issued nor did he investigate any aspect of the debentures, their ratings or the defendant company. Upon receipt following purchase, plaintiff examined the debentures but not thoroughly. He knew at that time that the debentures were convertible but was not positive as to the meaning of "convertible" and he did not understand the meaning of the term "redeemable" or "callable". The debentures were redeemable at the option of the defendant upon at least thirty days published notice and the payment of a premium.

By late 1968, the holders of approximately $4 million worth of the debentures had elected to and did convert them into common stock. Then, on October 30, 1968, and again on November 7, notices were published in the New York Times announcing that defendant was redeeming the debentures as of November 29, 1968, and that the holder's right of conversion would be terminated by said redemption at 3 P.M. on November 29, 1968. By that date, the holders of $5,086,600. of the debentures (including the approximately $4 million worth previously converted) had converted at favorable market prices, leaving unredeemed debentures worth $155,800. Plaintiff was not aware of this notice and did not convert his debentures.

In addition to publication in the Times, notice was mailed to all holders who had registered with the trustee. All holders could have so registered; plaintiff held his debentures in nonregistered bearer form. Consequently, he did not receive mailed notice. Also, resulting from defendant's press release, stories of defendant's announcement to redeem were published on October 29, 1968, in the Wall Street Journal, Womens Wear Daily, Daily News Record, Homes Furnishings Daily and the Reuters and Dow-Jones wire services. The essential facts of the defendant's redemption and of the termination of the holder's conversion rights were printed in these news items. Plaintiff did not see these stories.

The form of the debenture is that commonly used for this type of security. On the upper third of the one page form, there appeared the name of the company, the state of incorporation, the denomination and number of the individual debenture, the recital to pay the bearer or registered holder, and the following title:

  5% Convertible Subordinated Debenture Due March 1,

Plaintiff's claims of violation of section 10(b) and rule 10b-5 are essentially two: first, the form of the debenture itself is attacked as deceptive and misleading in that its formal title printed in large, prominent letters contains the word "convertible" but fails to mention the defendant's right to redeem, which is included in the paragraphs of small print; and second, that for various reasons, the notice of redemption was defective and, hence, ineffective to terminate plaintiff's right of conversion.

Plaintiff argues that the right of conversion is a substantive right and an important inducement for the purchase of such a security. Mueller v. Howard Aircraft Corp., 329 Ill. App. 570, 70 N.E.2d 203 (1946) ("Plaintiff's option to convert his debenture . . . represented a substantial right, as did defendant's option to redeem said debenture"). This is undoubtedly true, for the right to convert at a fixed price into common stock enables the company to pay a lower interest rate than it otherwise would be able to. Note, Convertible Securities: Holder Who Fails to Convert Before Expiration Of the Conversion Period, 54 Cornell Law Review 271, 273 (1969) (hereinafter "Note, Convertible Securities"). Plaintiff then reasons that this substantial right was deprived by the title of the debenture which is misleading in omitting to indicate that the conversion right could be terminated by a redemption. Hence, plaintiff would have the defendant clearly indicate in equivalent type and emphasis as the title the company's right of redemption. Supporting this contention is his view that investors reasonably expect their conversion right to continue until the maturity date and are unaware that such right may be terminated by the company.

Finally, plaintiff believes that the debenture is an adhesion contract and should therefore be construed in light of what an investor might reasonably expect.

The seriousness of this situation is indicated by the New York Stock Exchange, Company Manual, § A12(1), "Securities Having Limited Conversion Rights":

  In the case of a security having a right of
  conversion which is not exercisable through the
  entire life of the security, the word "convertible"
  shall not be used as part of the formal title of the
  security. Instead, attention should be called to the
  conversion rights by means of a sub-heading, such ...

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