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primarily in the business of underwriting and distributing securities and to acquire stock of a company formed to engage in the business of furnishing new capital to industry, financing promotional enterprises and similar activities (sec. 12). It is hoped that investment companies will soon jointly form such a company. It is believed it should make a material contribution to national recovery.

Distribution, repurchases, and redemptions of investment company securities.-No open-end company and no closed-end company may issue any of its securities except for cash or for securities (secs. 22 and 23).

Publicly offered securities of all investment companies must be registered under the Securities Act of 1933, but provision is made to eliminate duplication in the material filed under that act and the present bill. Circular literature intended for distribution to prospective purchasers of the securities of open-end companies, unit investment trusts, and face-amount certificate companies must be filed with the Commission (sec. 24).

Closed-end companies may not issue their common stock at a price below the current net asset value, except in connection with an offering to their security holders, conversion of a convertible security, exercise of any warrant outstanding on the date of enactment of this bill, or with consent of a majority of their stockholders. No closed-end company may repurchase any of its outstanding securities except on a securities exchange or open market upon prescribed notice to its stockholders or pursuant to tenders or under other circumstances to be prescribed to insure fair treatment of all security holders (sec. 23).

With respect to the distribution and redemption of securities issued by open-end companies, an association of securities dealers registered under section 15A of the Securities Exchange Act of 1934 is, subject to the provisions of that section, empowered to make rules to protect investors, so far as is reasonably practicable, against any dilution of their equity due to the methods of pricing, distribution, and redemption of redeemable securities and to prevent grossly excessive sales loads on such securities. The Commission after 1 year is empowered to make rules and regulations to deal with these subjects. In other words, the industry is given a year in which to solve this problem for itself. In addition, provision is made to prohibit the sale of redeemable securities to any person other than a dealer or principal underwriter at a price less than that at which the security is sold to the public. The bill prohibits the suspension of redemption of a redeemable security for a period more than 7 days except during certain specified emergency periods or other period fixed by the Commission. The negotiability of open-end securities may not be restricted in contravention of provisions which may be formulated (sec. 22).

Capital structure.-Except for refunding of outstanding securities and securities issued in connection with reorganizations, closed-end companies in the future may not issue more than three classes of securities-one class of security representing indebtedness (including loans not publicly distributed), one class of preferred stock and one class of common stock. Securities representing indebtedness must have at the time of issue an asset coverage of at least 300 percent and preferred stock an asset coverage of at least 200 percent. Similarly no dividends or distributions may be declared or made upon the common stock unless the securities representing indebtedness and preferred stock issued in the future have an asset coverage of 300 percent and 200 percent respectively, and dividends may not be paid on such preferred stock unless such indebtedness has an asset coverage of at least 200 percent. Voting rights are also provided for preferred stock and in certain contingencies for senior securities representing indebtedness other than loans. Temporary borrowings up to 5 percent are exempted from this provision (sec. 18).

Open-end investment companies are not permitted to issue any senior securities, except that such companies are permitted bank borrowings provided that an asset coverage of 300 percent is maintained at all times for such borrowings (sec. 18).

Dividends.-In respect of dividends on existing securities, as well as securities issued in the future, investment companies are required to disclose by written statement accompanying any dividend the source of such payment when made other than from the current or accumulated net income as defined (sec. 19).

Proxies and voting trusts.- Solicitations of proxies, consents, and authorizations relating to securities of investment companies registered under this bill are to be subject to the regulations to which solicitations relating to securities listed on national securities exchanges are already subject by reason of the Commission's regulations adopted under section 14 (a) of the Securities Exchange Act of 1934. To assure uniformity of interpretation and administration as between that act and the present bill, section 20 (a) of the bill has been so drafted as to follow verbatim section 14 (a) of the Securities Exchange Act, with only such slight modifications of language as are necessary because of the special classes of companies to which section 20 (a) applies.

Hereafter, no public offering may be made of voting trust certificates of investment companies. Existing voting trusts may continue until their expiration (sec. 20).

Investment advisory contracts and contracts for distribution of open-end company securities.-After 1 year from the effective date of the act all investment advisory or management contracts must be in writing, must prescribe in detail the compensation to be paid, and must be nonassignable and terminable upon 60-days notice. In effect, the contract has to be approved by a majority of the voting stock, may be for an initial period of 2 years, and renewable annually thereafter by the board of directors or stockholders. Analogous provisions are incorporated with respect to contracts for the distribution of open-end company securities. Existing arrangements are permitted to continue for a period not exceeding 5 years (section 15).

Reorganizations of investment companies.-With respect to investment company reorganizations as defined, the bill provides that the Commission, at the request of 25 percent of any class of the security holders to be affected by such reorganization, or on the request of a company which is a party to such a plan, may give an advisory opinion. The company is required to send a copy of such advisory opinion to its security holders. The Commission may institute injunction proceedings in a Federal Court to restrain the consummation of grossly unfair plans of reorganization or plans which constitute gross misconduct or gross abuse of trust (sec. 25). The functions and duties of the Securities and Exchange Commission under the Bankruptcy Act remain unchanged.

Reports and accounting.-Investment companies are required to file with the Commission annual reports, including financial statements, similar to the annual reports now filed with the Commission under the Securities Exchange Act of 1934 by companies having securities listed on national securities exchanges, and less comprehensive reports on a semiannual or quarterly basis. In addition, investment companies must file with the Commission copies of reports sent to their security holders and may be required to transmit semiannually to their stockholders reports containing certain specified financial and other information. The reports to stockholders may not be misleading in any material respect in the light of the reports filed with the Commission. Under other acts administered by the Commission, lacking such a provision as this, misleading financial statements, inconsistent with those filed with the Commission, have been sent security holders in an appreciable number of instances. Annual reports to the Commission and to stockholders may be required to be certified by independent public accountants, whose certificate must be based on a reasonably comprehensive audit (sec. 30).

The Commission is authorized to require investment companies and certain of their majority-owned subsidiaries to preserve accounts, records, and documents upon which the financial statements filed with the Commission are predicated. Investment advisers, depositors, and principal underwriters of certain investment companies may likewise be required to preserve records showing their transactions with the investment companies with which they are associated. These accounts, records and documents are subject at all times to examination by the Commission or its representatives. The Commission is authorized to provide for a reasonable degree of uniformity in the accounting policies and principles to be followed by investment companies in maintaining their accounts and records and preparing the financial statements required in their reports to the Commission and stockholders (sec. 31).

Subject to certain exceptions, the selection of independent public accountants of investment companies must be submitted for ratification or rejection to stockholders who, in addition, at any time by a majority vote may terminate their employment. The auditor's certificate must be addressed to security holders as well as the directors. The controller or other principal accounting officer of every company is to be chosen either by the board of directors of the company or by its security holders, and not merely be appointed by its executive officers. The Commission is also empowered to require accountants and auditors to keep reports and work sheets and other documents relating to investment companies (sec. 32).

Unit investment trusts. The trust indentures of unit investment trusts must designate as trustee or custodian a bank of a specified minimum size; must require that all property and funds of the trust will be held by the trustee; and that the trustee (which may not resign unless a successor trustee has been designated or the trust liquidated) be entitled to reimburse itself out of the trust property for its expenses actually incurred and fees actually earned. Except under special circumstances, the depositor or underwriter must be prohibited from deriving any fees from the trust other than the original sales load for distributing the shares. Provision must also be made to advise shareholders of portfolio changes. Finally, proceedings in court may be


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instituted by the Commission to liquidate so-called orphan trusts (sec. 26).

Periodic payment plans.—The bill contains additional provisions which relate specifically to companies issuing periodic payment plan certificates. These provisions fall roughly into three classes: provisions relative to sales load; provisions regulating the incidents and denominations of the certificates, and provisions regarding custodianship. The sales load is limited to 9 percent. Recognizing the heavier initial expense, due primarily to sales commissions, the bill permits half of the sales load to be taken out during the first year of the plan; the balance is to be spread equally over the subsequent years. To prevent evasion of these restrictions on sales load by the imposition of so-called management fees, the Commission is authorized to prescribe maximum management fees. The provision relating to sales load may be modified by the Commission to meet the problems of small companies. Periodic payment plan certificates must be redeemable securities; and the initial payment under any plan must be at least $20, with each subsequent payment at least $10 (sec. 27).

Face-amount certificate companies.-Companies which sell faceamount certificates are generally subject to the provisions of the bill but must comply with certain provisions which are specifically applicable to that type of company. The bill contains provisions with respect to minimum capitalization of face-amount certificate companies. All companies which in the future sell these certificates must at all times maintain reserves, which, accumulated at a rate not to exceed 374 percent compounded annually, must provide an amount sufficient to meet at all times all the liabilities and obligations of the company to all its certificate holders. The companies must have cash or qualified investments investments which are qualified under the Code for the District of Columbia for life insurance companies) of a value not less than the aggregate of their capital and reserve requirements. The bill makes provision to require deposit with certain qualified banks all or any part of the investments maintained by such company as certificate reserve requirements except that the company may be credited with deposits made pursuant to law or regulation with State authorities in respect to liabilities of the certificates sold to the residents of such States. The bill makes provision for the distribution of the loading charge (the maximum amount of which charge is fixed by the bill) over the life of the certificate. In essence, no more than 50 percent of the load may be taken out the first year, no more than 7 percent in each of the following 4 years, and not more than 4 percent the remaining years, The surrender value of the certificate for the first year must be equal to at least 50 percent of the gross annual payment made on the certificate and for any subsequent time must be the amount of reserve of such certificate less a prescribed surrender charge. A certificate may not contain a provision making the holder liable for any unpaid balance on the certificate and must provide for the issuance to the certificate holder upon the happening of certain contingencies of a so-called paid-up certificate.

The obligations of the company to a certificate holder, who has defaulted, are specifically enumerated in the bill (sec. 28). If a face-amount company does not maintain the minimum certificate

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reserve on all its outstanding face-amount certificates issued prior to the effective date of the bill then the company cannot make any distribution or pay any dividend on any senior capital security which exceeds a prescribed percentage of its earnings or which the Commission determines might impair the financial integrity of the company or its ability to meet its liabilities on the outstanding certificates. In the future, face-amount certificate companies cannot issue senior capital securities in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate for the protection of investors, or if such company has such senior capital securities outstanding to make any distribution or pay any dividend in contravention of such rules and regulations as the Commission may prescribe to insure the financial integrity of the company and to prevent the impairment of the company's abilities to meet its obligations on its face-amount certificates (sec. 18). A face-amount company can acquire the securities of another face-amount company only upon certain prescribed conditions (sec. 12). The bill makes provision to obtain equality of treatment of certificate holders who are residents of various States in the event of bankruptcy of a face-amount company. The bill preserves the rights of residents in those States which require specific deposits with their State officials but makes provision for equalization of treatment of all certificate holders, by providing that residents of other States must receive an amount equal to that received by the residents of States with deposits, before the latter can share in the general assets of the bankrupt company (sec. 29).

Unlawful representations.—The bill contains the usual provisions prohibiting misrepresentations and half-truths in registration statements, reports and other documents filed with the Commission, and prohibiting the misrepresentation of the effect of registration with the Commission. In addition, the use of misleading names by registered investment companies is specifically prohibited. The latter provisions may be enforced by order of the Commission when the name is adopted after the effective date of the bill, and by a court at the suit of the Commission as to names theretofore adopted (secs. 34 (b), 35).

Administrative and enforcement machinery.—The bill contains ample provisions, but appropriately circumscribed, for the enforcement of its provisions; for the carrying out of the powers and duties vested in the Commission, and for court review of the Commission's action (secs. 38 to 46, 49).

Formal provisions. The bill contains the usual provisions regarding validity of contracts, liability of controlling persons, the effect of the bill on existing law, and separability of provisions. The effective date of title I is November 1, 1940, as to all companies except face-amount certificate companies, as to which the bill does not become effective until January 1, 1941. The short title of the bill is the “Investment Company Act of 1940” (secs. 47, 48, 50 to 53).


Title II, which deals with investment advisory services, is an outgrowth of the Commission's survey of these organizations in connection with its study of investment trusts and investment companies.

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