From Glazer v. Abercrombie & Kent, Inc., 2009 U.S. Dist. LEXIS 86583 (N.D. Ill. Sept. 22, 2009):

This case stems from each plaintiff's decision to join a luxury travel club -- Distinctive Retreats by Abercrombie & Kent ... (the "Club" or "Distinctive Retreats").... Each plaintiff received five primary documents from the Club including: (1) a Membership Agreement, (2) an Addendum to the Membership Agreement, (3) a Confidential Founding Membership Offering, (4) the Club's Rules and Regulations, and (5) a Member Bond. Plaintiffs received the first four documents (collectively "membership documents") prior to joining the Club. Each of the membership documents and the Member Bond state that Distinctive Retreats LLC is the owner and operator of the Club.

To join the Club, each plaintiff signed the Membership Agreement and Addendum and mailed them to the Club with the remaining balance due on their membership payments ($392,000 for McClellan; $392,000 for Mosley; $425,000 for Glazer; and $450,000 for Stein). After the Club received the payment and signed contract documents, they sent plaintiffs their individual Member Bonds. The Membership Agreement that each plaintiff signed specifically stated "[t]he Member acknowledges that the Membership was acquired solely for the purpose of using the facilities of the Club and that it does not give the Member a vested or prescriptive right or easement to use the Club nor does the Membership provide the Member with an equity or ownership interest in any property owned by the Club." "The Member acknowledges that he or she will not be entitled to share in any of the income generated by the Club, nor will the Club pay dividends to the Member. The Member hereby agrees that the Membership is not being viewed as an investment and does not expect to derive economic profits from the acquisition."

Club membership allowed plaintiffs to use the Club's luxury residences in various cities around the world.... McClellan traded in his membership to that club for a membership in Distinctive Retreats because Distinctive Retreats had larger residences in better locations. McClellan bought his Club membership largely to use the Club's facilities for recreational purposes. The fact that McClellan could possibly make some money off his Club membership was a small reason that he joined the Club. After McClellan purchased his Club membership, he did not learn anything about whether the membership was increasing in value because he was not considering redeeming the membership. He was traveling and using the Club's residences. Prior to filing for bankruptcy, the Club was delivering what McClellan expected -- luxury travel facilities that were larger than the residences in his previous club. ***

The threshold question before the Court is whether the Club memberships, including the associated bonds, constitute securities as defined in the Exchange Act. The Exchange Act defines a security as, among other things, "any note, stock, treasury stock, bond, debenture, [and] certificate of interest or participation." 15 U.S.C § 78c(a)(10). Investment contracts are also subject to regulation under the Exchange Act... . The Supreme Court has repeatedly stated that each of the instruments identified as a security under the Exchange Act is distinct. To lump various instruments together "would make the [Exchange] Acts' enumeration of many types of instruments superfluous." Reves, 494 U.S. at 64.

Plaintiffs' assertion that the Club memberships and associated bonds should be treated as securities because Section 78c of the Exchange includes the term "bond", without further inquiry into the characteristics of the disputed instruments, is contrary to law. The fact that a disputed instrument bears a label (i.e. stock, bond, note, debenture) included in Section 78c "is not of itself sufficient to invoke the coverage of the [Exchange Act]." Landreth Timber Co. v. Landreth, 471 U.S. 681, 686 (1985). Instead, the Court must determine whether that instrument possesses "some of the significant characteristics typically associated" with a particular label. Id. (internal citation omitted). The Supreme Court has established tests for determining whether an instrument is a stock, note, or investment contract covered under the Exchange Act. See Landreth Timber Co. v. Landreth, 471 U.S. 681 (1985) (articulating a test for determining whether an instrument is a stock); see Reves, 494 U.S. at 66-67 (articulating a test for determining whether an instrument is a note); see SEC v. Howey, 328 U.S. 293, 301 (1946) (articulating a test for determining whether an instrument is an investment contract). The Supreme Court has not established a test for determining whether the Exchange Act should apply to a disputed instrument labeled as a bond. The parties agree that this issue presents a matter of first impression for this Court.

1. Investment Contracts

First, the Court turns to whether the Club memberships were investment contracts. It finds that they were not. An investment contract is an investment program that involves: (1) an investment of money (2) in a common enterprise (3) with profits to come solely from the efforts of others. SEC v. Howey, 328 U.S. 293, 301 (1946). The Club membership agreements and member bonds are not investment contracts because there is no horizontal commonality.... There was no pooling of profits between the individual Club membership owners, which is essential to horizontal commonality.... In fact, plaintiffs were not entitled to a share of any of the Club's potential profits. The membership agreements that each plaintiff signed specifically stated that plaintiffs were not "entitled to share in any of the income generated by the Club, nor [would] the Club pay dividends to the Member." The agreements also included a provision stating that each member "agrees that the Membership is not being viewed as an investment and does not expect to derive economic profits from the acquisition."

2. Notes

Next, the Court turns to whether the Club memberships and member bonds were note instruments. To determine whether an instrument is a note subject to regulation under the Exchange Act, the Court applies the "economic realities" test set forth in Reves v. Ernst & Young, 494 U.S. 56, 62 (1990). Courts should not just look at what the instrument is called, but rather analyze the "economic realities" of the subject transaction.... The test begins with the rebuttable presumption that every note is a security. ... Generally, notes issued in an investment context are securities, and notes issued in a commercial or consumer context are not. ... A note is not a security if it strongly resembles one of a number of judicially determined non-securities.... If the note does not resemble one of the non-securities, then the Court considers the following four factors: (1) "the motivations that would prompt a reasonable seller and buyer to enter into [the transaction]"; (2) "the 'plan of distribution' of the instrument"; (3) "the reasonable expectations of the investing public"; and (4) "whether some factor such as the existence of another regulatory scheme significantly reduces the risk of the instrument, thereby rendering application of the Securities Act unnecessary." ....

After considering the four Reves factors, the Court finds that the factors weigh in favor of finding that the Club memberships and associated bonds were not note securities under the Exchange Act. The Club memberships and associated bonds were primarily consumer purchases that were not available to a broad segment of the public, could not be traded on a secondary market, and, given the disclaimer in the membership agreement, would not appear to be investments to a reasonable member of the investing public.

3. Bonds

*** Since there is no established test for determining whether an instrument should be considered a bond subject to regulation under the Exchange Act, the Court looks to the standard definition of a bond. The Merriam-Webster dictionary defines a bond as an "interest-bearing certificate of public or private indebtedness." ... McClellan and Mosley's Club memberships and associated bonds were not interest-bearing instruments and, therefore, are not bond securities under the Exchange Act. McClellan and Mosley paid $ 392,000 for their Club memberships and were not entitled to any interest on their membership deposits. If McClellan and Mosley had decided to resign their Club membership and the memberships had been reissued for more than $392,000, McClellan and Mosley would have been entitled to 40% of the appreciation in the value of the memberships, but appreciation is not interest. Applying the undisputed facts of this case to the standard definition of a bond, McClellan and Mosley's Club memberships and associated bonds are not bond securities subject to regulation under the Exchange Act.

Glazer and Stein's Club memberships and associated bonds are a closer call. Glazer and Stein did not negotiate to receive a percentage of any appreciation in the value of their Club memberships. Instead, each negotiated a $25,000 "credit" on the purchase price of their memberships and associated bonds. Glazer and Stein argue that this credit is actually interest. Glazer paid $425,000 for a bond with a face value of $450,000. If he held on to the membership and bond for at least 18 months, the Club agreed to pay him $ 450,000. Stein paid $450,000 for a bond with a face value of $475,000. If he held on to the membership and bond for at least 24 months, the Club agreed to pay him $ 475,000. The terms of Glazer and Stein's memberships render them much closer to an "interest-bearing instrument" than the terms of McClellan and Mosley's memberships, which raises an interesting question — Could some Club memberships qualify as securities under the Exchange Act, while others do not? Fortunately, the Court does not have to answer that question because it finds that Glazer and Stein's $25,000 credit is not sufficiently close to an interest payment to render those Club memberships bond securities under the Exchange Act.

Interest in the context of a "interest-bearing certificate of public or private indebtedness" is generally calculated using a set rate of return over a specific time period.... Treasury bonds are purchased at a price significantly less than the face value of the bond and have a set maturity date, at which time, the bonds will be worth the face value.... The value of treasury bonds is not static; the value increases incrementally each month and continues to increase after the maturity date.

The characteristics of Glazer and Stein's memberships and associated bonds are not sufficiently similar to those of treasury bonds for the Court to consider the memberships bond securities under the Exchange Act. First, Glazer and Stein could redeem their memberships and associated bonds at anytime and request a full refund of their membership deposits. The memberships did not have a period of time when they were nonredeemable. Second, Glazer and Stein's $25,000 "credit" was an all-or-nothing proposition that was not based on a set rate of return.... Therefore, the Club memberships and associated bonds are not bond securities subject to regulation under the Exchange Act.