Commissioner Cook. My recollection on that is that about that time United Corp. solicited its stockholders or took a poll of its stockholders on the question of whether the stockholders desired the company to continue as an investment company after ceasing to be a holding company.

Mr. HELLER. What year is that?

Commissioner Cook. In 1947.

Mr. HELLER. Well, in October of 1949, is it not a fact that the SEC approved the plan filed by the United under section 11 (e), which effected reduction of the holdings by United of Niagara Hudson stock through an exchange of one-tenth of a share of Niagara Hudson for one share of United?

Commissioner Cook. I believe that is true. The plan provided for a distribution of Niagara Hudson shares, not an exchange.

Mr. HELLER. Would it be correct to state that sales and dispositions by holding companies in accordance with plans filed under section 11 of the act are covered by section 12 (d)?

Commissioner Cook. Yes.

Mr. HELLER. Was the disposition by United of certain of its securities effected in compliance with section 12 (d)?

Commissioner Cook. Will you repeat the question, Mr. Reporter? (The question was read by the reporter.)

Commissioner Cook. Yes; all divestments pursuant to section 11 (e) plans or section 11 orders must conform to the standards of the other applicable sections of the act and, in the case of sales of securities, with 12 (d) of the statute.

Mr. HELLER. But is it true that this approval of the SEC was conditioned on United's filing a comprehensive plan under section 11 (e) for compliance with the Public Utility Holding Act?

Commissioner Cook. That is my recollection.

Mr. HELLER. Now, between 1943 and 1949 no other action other than what has been described-namely, the divestiture of interest in direct subsidiaries by retirement of preferred stock, sale of securities in the United portfolio through market transactions-was taken by United; is that correct?

Commissioner Cook. I believe it is a correct statement, but it is not a comprehensive statement.

Mr. HELLER. In giving me an answer to that, could you tell us why the Commission took no action?

Commissioner Cook. It must be remembered that United Corp., as I testified at the outset, was a company holding securities of other holding companies. These holding companies had very complicated structures and had many scattered utility properties.

It was necessary to apply the standards of section 11 not only to United Corp. but also to those holding companies which were technically subsidiaries of United Corp. In many cases it was impossible to take any steps with regard to United Corp. itself without first, as we often have said, cleaning up the underlying companies themselves.

Therefore, the period to which you have referred was devoted to the application of the standards of the act to the several very large, very extensive, and very complicated holding-company systems which were subsidiaries of United in order that it would be possible to determine the value of the securities of these subsidiary holding companies held by United Corp., which value it was impossible or im

practicable to determine prior to the reorganization of those companies themselves.

Those proceedings, I may say, were very lengthy, very involved and were concerned with some of the largest holding company systems in the United States.

Mr. HELLER. When did the United file a new plan amendatory of the 1943 plan?

Commissioner Cook. You refer now, Mr. Chairman, to the final plan it filed for compliance with section 11?

Mr. HELLER. Yes. My recollection is November 1949, but if you have any other recollection as to whether or not that date is correct, we will be glad to take yours.

Commissioner Cook. I have no contrary recollection, but I will be sure and check the date in the transcript.

Mr. HELLER. Would you know when United completed the retirement of its preferred stock?

Commissioner Cook. I have indicated earlier, Mr. Chairman, that I didn't, but that I will also supply that date for the record. (The answer was supplied on p. 253.)

Mr. HELLER. At any rate the plan was approved by order of the Commission in June of 1951 on certain conditions, is that correct? Commissioner Cook. Yes, sir, that is true.

Mr. HELLER. After United

Commissioner Cook. I may say that I interpret your language "with certain conditions" to embrace the substantial modifications which the Commission found were necessary to be made in order that the plan might be found fair and equitable?

Mr. HELLER. That is correct.

Commissioner Cook. Yes, sir.

Mr. HELLER. After United completes its plan it will retain approximately 4.9 percent in three of its former subsidiaries, is that correct? Commissioner Cook. That is my recollection.

Mr. HELLER. Is it not a fact that it will continue to be the largest single stockholder of these subsidiaries?

Commissioner Cook. That I do not know.

Mr. HELLER. Can that be ascertained?

Commissioner Cook. It can be approximated from the lists of stockholders of the individual companies involved.

Mr. HELLER. Would that information be available to us?

Commissioner Cook. Oh, I would think-of course, I am in no position to speak for the companies, but just offhand it would seem to me that they ought to be entirely willing to supply it, and we can seek to obtain it for the committee.

Mr. HELLER. Would you do so for us?

Commissioner Cook. We would be very glad to do so. (The information requested is as follows:)

On the basis of information available to the Commission, if United at this time were to hold 4.9 percent of the stock of Columbas Gas System, Inc., and of Niagara Mohawk Power Corp., it would be the largest single stockholder of those companies. United now holds 3.5 percent of the voting stock of Public Service Electric & Gas Co. and is the largest stockholder. Owning less than 1 percent of the stock of United Gas Improvement Co., it is not the largest stockholder of that company. Mr. HELLER. Now, is it not a fact that the Commission held that the retention of an amount of stock less than 4.9 percent makes it

possible for a company to exert pressure, particularly in view of the wide dispersion of stockholdings and the failure of stockholders to regularly attend meetings?

Commissioner Cook. That is possible. I think it is possible to control companies without any stockholdings and I think it is also possible to have 49 percent of a stock of a company and not be able to control it. It all depends on the particular situation, and the relationship between the two companies, or between the individuals. involved and the particular company.

It varies widely, and I have seen all types.

Mr. HELLER. Well, I guess we will recess at this time. Mr. Cook, we again thank you for coming back, and we hope in the near future you will consent to return again and give us additional information.

Commissioner Cook. Mr. Chairman, I will be happy indeed to come back before your committee at any time and testify with regard to anything that you believe will further an understanding of the work which we are doing at the Commission.

Mr. HELLER. You have been exceedingly helpful to the committee. Commissioner Cook. Thank you very much, sir.

(Whereupon, at 3:50 p. m., the subcommittee recessed to reconvene at 2 p. m., Wednesday, January 30, 1952.)

STUDY OF THE SECURITIES AND EXCHANGE COMMISSION

WEDNESDAY, JANUARY 30, 1952

HOUSE OF REPRESENTATIVES, SUBCOMMITTEE OF THE COMMITTEE ON INTERSTATE AND FOREIGN COMMERCE, Washington, D. C.

The subcommittee met at 2:20 p. m., pursuant to notice, in room 1334, New House Office Building, Hon. Louis B. Heller (chairman of the subcommittee) presiding.

Present: Representatives Heller, McGuire, and Hall.

Present also: Herbert Burstein, consultant counsel to the subcommittee; and Sam G. Spal, professional staff member of the Committee on Interstate and Foreign Commerce.

Chairman HELLER. Mr. Commissioner, would you please raise your right hand? Do you solemnly swear to tell the truth, the whole truth, and nothing but the truth, so help you God? Commissioner RowEN. I do.

TESTIMONY OF PAUL R. ROWEN, A COMMISSIONER OF THE SECURITIES AND EXCHANGE COMMISSION; ACCOMPANIED BY HARRY HELLER, ASSISTANT DIRECTOR OF THE DIVISION OF CORPORATE FINANCE, AND ARDEN ANDRESEN, OFFICE OF THE GENERAL COUNSEL, SECURITIES AND EXCHANGE COMMISSION

Chairman HELLER. I understand you are going to testify today on the Investment Company Act of 1940, and the Investment Advisers Act of 1940, is that correct?

Commissioner RowEN. That is correct.

Chairman HELLER. Do you adopt the statement contained in the Commission's statement of October 29, 1951, as part of your direct testimony for the purpose of this examination?

Commissioner RowEN. I do.

(The statement referred to follows:)

THE INVESTMENT COMPANY ACT OF 1940

The Investment Company Act requires the registration, and regulates many of the activities, of investment companies, i. e., companies engaged primarily in the business of investing, reinvesting, and trading in securities. The act evolved from a bill which was based on the conclusions and recommendations reached by the Commission in an intensive study and investigation over a period of years of investment companies, conducted at the direction of Congress. The industry itself recognized the existence of abuses and the provisions of the present statute were worked out in conference between representatives of the industry and the Commission, with the approval of the congressional committees involved.

Investment trusts and investment companies are intended to provide a medium for public investment in common stocks and other securities. In 1929, investment companies were being created at the rate of almost one a day and the American public had invested almost $7 billion in investment companies of all types. Substantial losses were suffered in the market crash of 1929 and thereafter. In 1944, the assets of all investment companies were approximately $2 billion. Since the war, the sales of investment company securities, particularly those of open-end companies, have increased tremendously and at the present time the assets of registered investment companies represent almost $6 billion.

Basically many of the abuses in, and the problems of, the investment company industry arise from the nature of the assets of the companies. The assets of such companies invariably consist of cash and securities which are usually liquid and readily negotiable. Control of such funds offers numerous opportunities for exploitation by an unscrupulous management.

The capital structures of investment companies, prior to enactment of the statute, were often inordinately complex and the rights and preferences of senior securities were in many instances inadequately safeguarded. By various devices of control such as special voting stocks, voting trusts, control of proxy machinery and pyramiding of companies, public investors were effectively denied any real participation in or benefit from the management of their companies. The distribution and repurchase of securities on occasion resulted in discrimination in favor of the management or other insiders, who were able to acquire the securities or to have the companies repurchase them on a basis more favorable than that accorded public stockholders. In open-end companies (i. e., companies issuing redeemable securities) the method of pricing securities at times led to a substantial dilution of the investor's equity in the companies and in some instances permitted sponsors, other insiders, and underwriters to realize riskless trading profits.

In many cases the absence of any legal requirement for adherence to announced investment policies or purposes created a major problem since such policies were often radically changed without the knowledge or prior consent of stockholders. Similarly, after investors had invested in certain companies on the basis of their faith in the reputation and standing of the existing managements, control of the public's funds, without prior knowledge or consent of such stockholders, was passed to other persons, some of whom were subsequently guilty of gross mismanagement. Transactions between officers, directors, and similar persons and the investment companies with which they were associated often presented opportunities for gross abuse by unscrupulous persons.

In certain investment companies, small investors were subjected to switching operations from one investment company to another to their pecuniary damage. Similarly, investors were often powerless to protect themselves against plans of reorganization which were grossly unfair. Moreover, particularly with respect to companies the securities of which were not registered either under the Securities Act or the Securities Exchange Act (few investment companies have their securities listed on a national securities exchange), the investor was unable to obtain adequate information as to their operations. Accounting practices and financial reports frequently were deficient and oftentimes misleading. In many cases dividends were declared and paid without informing stockholders that such dividends represented not earnings but a return of capital.

In certain types of investment companies, particularly unit investment trusts and periodic payment plans, serious abuses existed through excessive sales loads and hidden loads and charges. The total sales load in some types of companies often exceeded 30 percent of the net amount invested by certificate owners. These sales loads were usually deducted entirely from payments made in the early months of the periodic payment plan contracts. The significance of this can be appreciated by the fact that approximately 40 percent of the total amount payable on periodic payment plan certificates sold from 1930 to 1935 was lapsed at the end of 1935. Such plans were sold as low as $5 a month and were specifically designed to make a strong appeal to wage earners who were not in a financial condition to invest or speculate in common stocks.

Virtually every representative of investment companies who appeared before the subcommittees of Congress considering this legislation conceded the necessity for and, in many cases, urged the immediate passage of effective legislation to regulate investment companies. It was generally conceded that the disclosure requirements of the Securities Act and of the Securities Exchange Act were inadequate to deal with the myriad forms of malpractice and abuse. Both the Commission and the industry urged the passage of the act. This statute had