The Court of Appeals held that the MLM program of Koscott Interplanetary consisted of two distinct parts, one of which was a security for federal securities law purposes. The court held that because prospective recruits were enticed into the program with the prospect of earning commissions on recruiting, rather than selling cosmetics, that the program should properly be divisible into security and non-security components, the latter being subject to regulation by the SEC. Furthermore, the District Court had strictly held to the language of the U.S. Supreme Court in W.J. Howey, requiring that the profits from a "security" must come "solely" from the efforts of others. The participants in Koscott spent time recruiting other participants to attend meetings where they would be pitched the program by Koscott sales personnel. The Appeals court held that the strict adherence to the language in W.J. Howey would defeat the remedial purpose of the statute and that the functional approach of the Ninth Circuit in SEC v. Turner Enterprises should be adopted instead. Ultimately, the Fifth Circuit ruled that the exertion of some effort by the investor is inimical to the holding that the program was a security.
Full case and case summary also available online at: http://www.mlmlegal.com/legal-cases/SEC_v_KoscotInterplanetary497F2d473-1974-Appeal.php
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