Defendants Donald and Sally Rosenbloom and International Diversified Investments ("I.D.I.") appeal from a district court judgment that they violated § 10(b) of the Securities Exchange Act of 1934,1 S.E.C. Rule 10b-5,2 and § 12 of the Illinois Securities Act3 during the solicitation of subscription agreements for the purchase of I.D.I. stock. The court awarded plaintiffs Thomas and Dorothy Hidell $25,000 and intervening plaintiff Harold Frieh $30,000. Plaintiffs also received interest, costs and reasonable attorney's fees.4

In late 1970 and early 1971 the Rosenblooms had spoken with Frieh about forming a real estate investment corporation, and on December 20, 1970, Frieh orally agreed to purchase 6,000 shares of stock, for $30,000. The Rosenblooms were to invest $10,000 and would receive 56,000 shares. Frieh was to become an officer and director of I.D.I. On January 13, 1971, Frieh made an initial payment of $2,500 for his shares. His check for that amount was not deposited, however, until February 12. On January 18, the Articles of Incorporation for I.D.I. were filed in Delaware; these articles authorized the issuance of 56,000 shares of stock. On that same day those shares were issued to the Rosenblooms. Subsequently, on January 25 the articles were amended by the Rosenblooms to authorize the issuance of an additional 6,000 shares, but this amendment was not filed and registered with the Delaware Secretary of State until February 22. In the interim, on February 13, Frieh paid the additional $27,500 for his shares. The certificate for 6,000 shares of I.D.I. stock was issued to him on February 22.

Frieh's claims, upheld by the district court, basically centered on certain statements made to him, allegedly in violation of § 10(b) of the 1934 Act, Rule 10b-5, and § 12 of the Illinois Act, during this period. He also alleged, and the trial judge found, that I.D.I. failed to register the stock sold him as required under the provisions of § 5 of the Illinois Securities Act.5

On February 11, 1971, the Rosenblooms prepared a prospectus and form subscription agreement and began approaching potential investors on behalf of I.D.I. On or about February 16, plaintiffs Thomas and Dorothy Hidell, after reviewing the prospectus, executed such a subscription agreement to purchase 1,000 shares. The agreement provided that it was not to become a binding contract unless subscriptions for 20,000 shares ($500,000) were obtained prior to September 30, 1971. The Hidells paid $25,000 between January 21 and September 19 for the 1,000 shares.

By September 17, 1971, it was clear that the goal of 20 subscriptions was not going to be reached by September 30. Only six 1,000-share agreements had been obtained. Thus, on that day Donald Rosenbloom and Frieh, pursuant to a resolution of the board of directors of I.D.I., wrote the subscribers informing them that, "We now believe that the immediate objective of I.D.I. can be achieved with equity capital of approximately $175,000 to $200,000," and that the $150,000 already provided by the six subscribers, plus the $40,000 invested by Rosenbloom and Frieh, would permit I.D.I. to commence operations.6 The letter requested that the subscribers consent to the elimination of the 20,000 share condition.

On September 20, 1971, Donald Rosenbloom traveled to Philadelphia and convinced the Hidells to sign the amendment to the subscription agreement informing them that at that time the company had $190,000 in capital. On September 29, however, Rosenbloom entered into a repurchase agreement, on behalf of I.D.I., with Jack Dougherty, another subscriber. Dougherty had required such reassurance as a condition of consenting to the proposed amendment. The Hidells did not learn of the repurchase agreement until April 14, 1972. When they sought to obtain a similar agreement from the corporation, it was denied them, Donald Rosenbloom casting the deciding vote to break a tie among the other directors.

The district court found that the defendants violated § 10(b) of the 1934 Act, Rule 10b-5, and § 12 of the Illinois Act by affirmatively stating to the Hidells that, as of September 20, 1971, I.D.I. had a capitalization of $190,000 and by failing to disclose Dougherty's misgivings that subsequently resulted in the repurchase agreement.

Defendants argue that the statement in the September 17 letter and any oral statements made to the Hidells on September 20 that an investment of $190,000 had been made in I.D.I. were not false when made because the repurchase agreement was not entered into until nine days after the Hidells consented to the subscription agreement amendment. Alternatively, they contend that the repurchase agreement entered into between Donald Rosenbloom and Dougherty was not a "material fact," as the term is used in Rule 10b-5 and § 12, subd. G of the Illinois Securities Act. We disagree on both grounds.

The record discloses that Donald Rosenbloom was aware of Dougherty's reluctance to sign the subscription agreement amendment before he went to Philadelphia on September 20 to meet with the Hidells. Dougherty testified that he had had conversations with Rosenbloom about a buy-back agreement prior to his receipt of the September 17 letter. Tr. 197. And Rosenbloom admitted that, although Dougherty had requested concessions prior to September 17, he never so advised the Hidells. Tr. 435. Consequently when Rosenbloom convinced the Hidells to sign the amendment, by stating that an investment of $190,000 had been made, he failed to disclose the fact that one of the subscribers had indicated that he might not so agree with a repurchase agreement. The $190,000 investment statement was, therefore, seriously misleading, even if not wholly false, when made. Whether we view this as a false affirmative statement or as an omission, Rosenbloom himself had reason to believe that it was less than a completely truthful statement of the then-current status of the corporation's financing.7

Having informed the Hidells that $190,000 had been invested, when he knew of Dougherty's demands and the significant likelihood that a repurchase agreement might be a condition of Dougherty's assent, we believe that Donald Rosenbloom was under an affirmative duty to notify the Hidells of the repurchase agreement on or after September 29 and to afford them the opportunity to cancel their consent to the subscription agreement amendment.8 Similarly, Sally Rosenbloom, who signed the September 17 resolution approving the amendment to the subscription agreement, and who knew on September 29 of the repurchase agreement, was, as an officer and director of I.D.I., under the same duty of disclosure and is similarly liable under § 10(b), Rule 10b-5, and § 12 of the Illinois Act.9

Defendants present us with several alternative arguments with regard to the materiality of the failure to inform the Hidells of the repurchase agreement. They agree that the test of "materiality" was properly set forth by the court in S.E.C. v. Texas Gulf Sulphur Co., 401 F.2d 833, 849 (2d Cir. 1968), cert. denied, 394 U.S. 976, 89 S. Ct. 1454, 22 L. Ed. 2d 756:

"The basic test of materiality * * * is whether a reasonable man would attach importance * * * in determining his choice of action in the transaction in question. . . . " This, of course, encompasses any fact " * * * which in reasonable and objective contemplation might affect the value of the corporation's stock or securities * * *."

Quoting List v. Fashion Park, Inc., 340 F.2d 457, 462 (2d Cir. 1965), cert. denied, 382 U.S. 811, 86 S. Ct. 23, 15 L. Ed. 2d 60 (emphasis in original).

They argue first, however, that, because the repurchase agreement entered into between Dougherty and Donald Rosenbloom on behalf of I.D.I. was illegal, and hence unenforceable, under Delaware law, it could not have been material to a decision on the amendment to the subscription agreement. Even assuming the illegality premise, we must disagree with defendants' conclusion. For it ignores the subsequent activity concerning the repurchase of Dougherty's shares. On advice of counsel, Donald Rosenbloom gave Dougherty a second letter, dated October 1, 1971, agreeing personally to repurchase the shares. This letter was accepted by Dougherty on April 14, 1972. On September 30, 1972, Dougherty exercised his repurchase option, and on December 29, 1972, Dougherty's shares were repurchased by I.D.I. as treasury stock, with funds provided the corporation by the Rosenblooms.10

Thus, the record demonstrates that the Rosenblooms were willing to provide Dougherty with the assurances he sought even if it required personally guaranteeing the repurchase. The shares were repurchased, using I.D.I. funds donated by the Rosenblooms. The net effect of the transaction was that the number of outstanding shares of I.D.I. was reduced and the risk assumed by the Hidells was proportionately increased.11 Thus, regardless of the legality of the September 29 agreements, the repurchase of Dougherty's shares in fact did take place. A reasonable man, even if he knew of the illegality, might well have attached importance to the agreement because of the possibility of just such an eventuality.

Focusing on the possible illegality of the agreement also overlooks the fact that a reasonable investor would have attached importance to the very fact that one of the five other subscribers felt the need to demand such a buy-back option as a condition to agreeing to reduce further the capitalization of the corporation. Original plans had called for the sale of 20,000 shares for a minimum capitalization of $500,000. The failure to obtain the necessary 20 subscribers mandated the reexamination of the corporation's goals which resulted in the September 17 letter and the announcement that I.D.I. could go into business with a capitalization of only $175,000 to $200,000. The knowledge that another of the six subscribers was having serious second thoughts about going forward with the scaled-down venture would clearly have been material to the Hidells' decision.12

Finally, defendants argue that, even assuming the exercise of the Dougherty option, the capitalization of the corporation would still have been $165,000, only $10,000 below the $175,000 minimum stated in the September 17 letter. It is clear, however, that, in light of the already significant reduction in planned capitalization and the fact that the September 17 letter referred to the $175,000 to $200,000 range as "sufficient to commence operations," knowledge of this further decrease would have been material to a reasonable man.13

Consequently, we conclude that the unqualified statement of defendants in the September 17 letter and of Donald Rosenbloom in his September 20 meeting with the Hidells that $190,000 had been invested in I.D.I. was material and misleading and that defendants violated § 10(b) of the 1934 Act, Rule 10b-5, and § 12, subd. G of the Illinois Act14 by not informing the Hidells at those times of Dougherty's demands or, alternatively, informing them of the existence of the repurchase agreement and resoliciting their assent to the subscription agreement amendment.

The district court found that defendants had made numerous material misrepresentations to Frieh in connection with his purchase of I.D.I. stock, in violation of § 10(b) of the 1934 Act, Rule 10b-5, and § 12 of the Illinois Securities Act. In addition, the court found that defendants violated § 12 of the Illinois Act by failing to register the shares sold Frieh, as required by § 5 of the Act.

Defendants argue that the provisions of § 10(b) of the Securities Exchange Act and Rule 10b-5 cannot apply to this transaction because defendants did not make use of any "means or instrumentality of interstate commerce" in selling these shares to Frieh. The record discloses that the entire course of negotiations between Rosenbloom and Frieh was conducted either in personal meetings in Illinois or by local telephone calls. This circuit has not yet decided whether purely local telephone calls satisfy the jurisdictional requirements of § 10(b). We need not choose between the competing authorities15 here, however, for we conclude that Frieh was entitled to relief on at least one of his Illinois Securities Act claims.16

Section 5 of the Illinois Securities Act, Ill.Rev.Stat.1973, ch. 1211/2, § 137.5, requires, in pertinent part, that all securities shall be registered with the Illinois Secretary of State prior to sale in Illinois, unless exempt under § 4 of the Act. Defendants rely on § 4, subd. M,17 the exemption for preincorporation sales, in this case. They contend that the sale of shares to Frieh took place prior to the January 18, 1971, incorporation of I.D.I.

The record discloses, however, that although Frieh's agreement to purchase the shares took place prior to incorporation, the sale cannot be characterized as preincorporation within the meaning of § 4, subd. M. Frieh's oral agreement to purchase 6,000 shares occurred on December 20, 1970, and on January 13, 1971, his initial payment of $2,500 was made. When the articles of incorporation were filed in Delaware on January 18, however, they authorized the issuance of only 56,000 shares of stock, the shares earmarked for the Rosenblooms. It was not until the articles were amended on January 25 and this amendment was filed in Delaware on February 22 that the 6,000 shares Frieh was purchasing were even authorized to be issued. The $2,500 check given the Rosenblooms on January 13 was not deposited until February 12, and on February 13 Frieh paid the balance of $27,500. The shares were issued to him on February 22.

Under Illinois law, a preincorporation subscription is deemed to be an offer, irrevocable for six months, to purchase shares. The offer is normally accepted by the filing of the articles of incorporation. Ill.Rev.Stat.1973, ch. 32, § 157.16. But, a subscription for shares which are not authorized by the articles is not binding on either the subscriber or the corporation. Great Western Tel. Co. v. Loewenthal, 51 Ill.App. 447, 448 (1893), aff'd, 154 Ill. 261, 40 N.E. 318 (1894). Consequently, in this case Frieh's offer was accepted by the corporation, and the sale of the shares took place some time after the corporation was incorporated. The literal terms of § 4M's exemption do not apply to this transaction.

The defendants argue, however, that the definition of the term "sale" in § 2-5 of the Illinois Act includes "a contract to sell, an exchange, an attempt or an offer to sell." Ill.Rev.Stat.1973, ch. 1211/2, § 137.2-5. They note that in applying the protective provisions of the Act, the courts have liberally applied the "sale" definition, holding that a single installment payment (Silverman v. Chicago Ramada Inn, Inc., 63 Ill.App.2d 96, 211 N.E.2d 596 (1965)), and a solicitation (Green v. Weis, Voisin, Cannon, Inc.,479 F.2d 462, 465 (7th Cir. 1973)) are "sales." Thus, they conclude that a sale took place when Donald Rosenbloom solicited the purchase of I.D.I. shares by Frieh in December, 1970, and when Frieh tendered his $2,500 check in partial payment on January 13, 1971. Since both of these "sales" took place prior to the incorporation on January 18, they contend that § 4, subd. M applies.

We cannot subscribe to this reading of the Act. For such an interpretation would mean that any preincorporation contact between an incorporator and a potential purchaser of a corporation's shares would immunize from § 5's registration requirement any subsequent sale of stock to that purchaser, regardless of when the sale actually takes place.

The Illinois courts have admonished that the provisions of the Illinois Securities Act "should be liberally construed to protect the investing public from fraud and deceit in the sales of securities." Norville v. Alton Bigtop Restaurant, Inc., 22 Ill.App.3d 273, 284, 317 N.E.2d 384, 391 (1974), and cases cited therein. It was in this spirit that the court in Silverman held that, although the solicitation and first two payments for an unregistered security fell outside the Act's three-year statute of limitations, the last payment, made within the three-year period, was by itself a "sale." Similarly, we broadly construed the term "sale" in Green to encompass mere solicitations within the state, where all of the other activities occurred elsewhere, because of the "paternalistic purpose" of the Illinois Act. 479 F.2d at 465.

Thus, in both these cases, expanded definitions of the concept of a sale were adopted for purposes of including certain transactions within the protections of the Act. We hardly think that defendants are entitled to rely on such a broadened definition for purposes of excluding transactions, especially when their conclusion as to when the sale to Frieh took place is so at odds with traditional state corporate law notions of the concept of a preincorporation subscription.18 As we find that defendants violated § 12A of the Illinois Act in this regard, it is unnecessary for us to consider Frieh's other claims.

Defendants finally argue that Frieh did not comply with the requirement of § 13, subd. B of the Illinois Act that notice of the intention to rescind the sale be given within six months "after the purchaser shall have knowledge that the sale of the securities to him is voidable."19 Frieh sent defendants his registered notice on December 27, 1973. They argue that this was clearly more than six months after he first learned of the fact that the sale was voidable.20

Frieh testified, however, that he did not learn that his purchase of I.D.I. stock was voidable for any reason until he consulted with his present attorney in November, 1973. Tr. 282. The Illinois courts have held that even though an investor might know of facts that would void his security purchase, it is only when he learns, possibly from his attorney, that those facts might have such a legal consequence that the statutory six months period begins to run. Gowdy v. Richter, 20 Ill.App.3d 514, 523, 314 N.E.2d 549, 556 (1974); Curtis v. Johnson, 92 Ill.App.2d 141, 155, 234 N.E.2d 566, 574 (1968). As the court explained in Curtis, 234 N.E.2d at 574:

Knowledge that the sale is "voidable" is a mixed question of fact and law on which a layman is entitled to acquire his first knowledge from an attorney.

Consequently, we conclude that Frieh timely notified the defendants as required by § 13, subd. B, and that the district court's judgment in his favor must be affirmed.

Defendants challenge the district court's award of reasonable attorney's fees to the plaintiffs. The award was made pursuant to the authority contained in § 13, subd. A(2) of the Illinois Act, Ill.Rev.Stat.1973, ch. 1211/2, § 137.13, subd. A(2). Defendants note that plaintiffs have as yet not come forward with time records and other documents supporting any award of fees. As we noted above,21 however, the district court has reserved ruling on the actual amounts to be awarded; presumably the necessary documentation will be forthcoming at such a time. At that time defendants may present any arguments concerning the excessiveness of the fees.

Additionally, defendants object to the award of fees where plaintiffs' counsel may have been serving on a contingent fee basis. While the record is unclear whether this in fact was the fee arrangement, the Illinois courts have not restricted recovery of fees under the Illinois Securities Act to preclude awards in such a case. Spiegel v. Frangoulis, 271 Ill.App. 526 (1933), relied on by the defendants in this regard, has been disapproved in the Securities Act context in the recent decision in Gowdy v. Richter, 20 Ill.App.3d 514, 530, 314 N.E.2d 549, 561 (1974).

Defendants lastly complain of the district court's refusal to allow I.D.I. to file a permissive counterclaim, based on alleged advances against commission payments made to Frieh and Thomas Hidell, submitted almost one month after trial. Fed.R.Civ.P. 13(f) provides:

When a pleader fails to set up a counterclaim through oversight, inadvertence, or excusable neglect, or when justice requires, he may by leave of court set up the counterclaim by amendment.

It is clear in this case that I.D.I. was aware of the facts underlying the proposed counterclaim well in advance of trial. Yet it chose never to plead it. Although evidence of such payments by I.D.I. to Frieh and Hidell was introduced, we cannot be certain that, because of the failure to plead the counterclaim, the trier of fact was presented all of the evidence concerning the alleged agreement between these parties over commission payments.22 Under these circumstances, we cannot say that justice required the allowance of the amendment at such a late date or that the district court's action in denying the motion to amend constituted an abuse of discretion.23 Kirbens v. Wodis, 295 F.2d 372, 375 (7th Cir. 1961); Tyne v. National Supply Co., 280 F.2d 878, 882-883 (7th Cir. 1960), cert. denied, 365 U.S. 820, 81 S. Ct. 704, 5 L. Ed. 2d 698.

Accordingly, the judgment of the district court is

Affirmed.