[Federal Register Volume 62, Number 18 (Tuesday, January 28, 1997)]
[Proposed Rules]
[Pages 4106-4114]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-2010]
Federal Register / Vol. 62, No. 18 / Tuesday, January 28, 1997 /
Proposed Rules
[[Page 4106]]
SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 230, 240, 270, and 275
[Release Nos. 33-7383, 34-38190, IC-22478, and IA-1609; File No. S7-4-
97]
RIN 3235-AG62; 3235-AH01
Definitions of ``Small Business'' or ``Small Organization'' Under
the Investment Company Act of 1940, the Investment Advisers Act of
1940, the Securities Exchange Act of 1934, and the Securities Act of
1933
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule amendments.
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SUMMARY: The Securities and Exchange Commission (``Commission'') is
publishing for comment proposed amendments to the definitions of
``small business'' and ``small organization'' that are used in
connection with Commission rulemaking under the Investment Company Act
of 1940, the Investment Advisers Act of 1940, the Securities Exchange
Act of 1934, and the Securities Act of 1933 regarding regulatory
requirements applicable to investment companies, investment advisers,
exchanges, securities information processors, transfer agents and
issuers, and broker-dealers. These definitions are used specifically
for purposes of the Regulatory Flexibility Act, which requires the
Commission to consider the impact of its regulations on small entities.
The Commission is proposing amendments to these definitions to reflect
recent changes in the law as well as changes in the securities markets
over the past decade, including technological innovations and increased
business relationships among participants in the securities industry.
DATES: Comments should be received on or before February 27, 1997.
ADDRESSES: Comments should be submitted in triplicate to Jonathan G.
Katz, Secretary, U.S. Securities and Exchange Commission, Mail Stop 6-
9, 450 Fifth Street, N.W., Washington, D.C. 20549. Comments also may be
submitted electronically at the following E-mail address: comments@sec.gov. All comment letters should refer to File Number S7-4-
97. This file number should be included on the subject line if E-mail
is used. Comment letters will be available for inspection and copying
in the Public Reference Room, 450 Fifth Street, N.W., Washington D.C.
20549. Electronically submitted comment letters will be posted on the
Commission's Internet web site (http://www.sec.gov).
FOR FURTHER INFORMATION CONTACT:
General: Penelope W. Saltzman, Special Counsel, at (202-942-0915),
or Anne H. Sullivan, Senior Counsel, at (202-942-0954), Office of the
General Counsel, Securities and Exchange Commission, 450 Fifth Street,
N.W., Mail Stop 6-6, Washington, D.C. 20549.
Offices with Particular Responsibility: Thomas M.J. Kerwin, Senior
Counsel, Division of Investment Management, (definitions applicable to
investment companies and investment advisers) (202-942-0690).
Glenn J. Jessee, Special Counsel, Office of the Chief Counsel,
Division of Market Regulation (definitions applicable to brokers,
dealers, exchanges, transfer agents and issuers, securities information
processors, and broker-dealers) (202-942-0073).
SUPPLEMENTARY INFORMATION: The Commission is requesting public comment
on proposed amendments to the definitions of ``small business'' and
``small organization'' set forth in Rule 0-10 [17 CFR 270.0-10] under
the Investment Company Act of 1940 [15 U.S.C. 80a-1] (``Investment
Company Act''), Rule 0-7 [17 CFR 275.0-7] under the Investment Advisers
Act of 1940 [15 U.S.C. 80b-1] (the ``Advisers Act''), Rule 0-10 [17 CFR
240.0-10] under the Securities Exchange Act of 1934 [15 U.S.C. 78a]
(the ``Exchange Act''), and Rule 157 [17 CFR 230.157] under the
Securities Act of 1933 [15 U.S.C. 77a] (the ``Securities Act'') as
those terms are used for purposes of Chapter Six of the Administrative
Procedure Act, 5 U.S.C. 601 et seq. (the Regulatory Flexibility Act,
Pub. L. No. 96-354, 94 Stat. 1164 (1980), as amended, Pub. L. No. 104-
121, Title II, Subtitle D, 110 Stat. 864 (1996) (``RFA'')). The RFA
requires the Commission to, among other things, consider the impact of
Commission rulemaking on entities that qualify as ``small'' under
applicable standards set forth in the RFA, the Small Business
Act,1 or regulations promulgated by the Small Business
Administration (``SBA'').2 In 1982, the Commission adopted
definitions that it considered appropriate for issuers and other
entities subject to its regulation, and the Commission is now, after
consultation with the Office of Advocacy of the SBA, proposing for
public comment amendments to those definitions applicable to investment
companies, investment advisers, exchanges, clearing agencies, transfer
agents and issuers,3 securities information processors, and
broker-dealers. The proposed amendments are discussed below.
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\1\ 15 U.S.C. 631 et seq.
\2\ The RFA provides that an agency, after consultation with the
Office of Advocacy of the SBA and an opportunity for public comment,
may establish one or more definitions of ``small entity'' that are
applicable to the activities of the agency. See 5 U.S.C. 601(3) and
601(4).
\3\ The Commission is not proposing to change the definition of
small business issuer, but is proposing to delete the limitation of
the definition of small business, as it refers to ``issuer'' or
``person'' under the Exchange Act rules, to Sections 12, 13, 14,
15(d), and 16 of the Exchange Act [15 U.S.C. 78l, 78m, 78n, 78o(d),
78p]. See supra p. 26.
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I. Background
The Commission has a longstanding commitment to understanding and
addressing the special concerns of small business. Nearly two decades
ago, in 1979, the Commission established the Office of Small Business
Policy in the Division of Corporation Finance, whose mission is to
direct the Commission's small business rulemaking initiatives, review
and comment on the impact of Commission rule proposals on small
issuers, and serve as liaison with Congressional committees, government
agencies, and other groups concerned with small business. Since then,
the Commission has conducted regular reviews of its rules, and their
impact on small business, in response to changing market conditions,
advances in technology, and innovations in financial products, as well
as to determine whether the rules continue to meet appropriate
regulatory objectives. These ongoing efforts have resulted in a number
of rule proposals or amendments and other initiatives specifically
intended to assist small businesses. They include:
1992 Small Business Initiative. In 1992, the Commission
undertook a major initiative to make raising capital easier for small
businesses, which included the introduction of a new small business
integrated disclosure system, increased exemptions permitting
unregistered public and private sale of securities, and simplified
ongoing periodic reporting requirements of registered small
issuers.4
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\4\ Securities Act Release No. 6949, 57 FR 36442 (Aug. 13, 1992)
(included adopting Regulation S-B, which provided integrated
disclosure requirements for small business issuers and simplified
the process for registering securities of small business issuers for
public sale, amending Regulation A to raise the ceiling for exempt
offerings from $1.5 million to $5 million, and adopting Regulation
D, which permitted nonpublic companies to raise up to $1 million in
12 months from any number or type of investor without federal
registration and disclosure obligations except anti-fraud
provisions).
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Mutual Fund Investments. In 1992, the Commission also
published revisions to the Guidelines to Form N-1A relating to mutual
fund investments in illiquid securities, a change specifically intended
to provide small
[[Page 4107]]
businesses better access to capital markets.5
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\5\ Revisions of Guidelines to Form N-1A, Investment Company Act
Release No. 18612, 57 FR 9828 (Mar. 20, 1992) (permitting mutual
funds, other than money market funds, to increase from 10 percent to
15 percent the amount of illiquid assets they may hold).
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New Registration Exemption. The Commission recently
adopted a new exemption from registration requirements for limited
offerings of up to $5 million that are exempt from qualification under
California law.6
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\6\ Securities Act Release No. 7285, 61 FR 21356 (May 9, 1996).
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Fewer Small Businesses Subject to Exchange Act
Registration. The Commission also recently doubled the asset threshold
that subjects companies to registration under the Exchange Act from $5
million to $10 million so that fewer small businesses are subject to
reporting requirements under the Exchange Act.7
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\7\ Exchange Act Release No. 37157, 61 FR 21354 (May 9, 1996).
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Pending Initiatives. The Commission's Task Force on
Capital Formation and Regulatory Processes has proposed a number of
initiatives to further increase small business access to capital
markets, including liberalizing and expanding the local offering
exemption and creating a new limited exemption for certain local
offerings that cross state lines, expanding the small offering
exemption by permitting small businesses to raise $5 million every six
months rather than once a year, and permitting companies engaged in
certain exempt offerings of $5 million or less to use uncertified
financial statements.8
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\8\ See Report of the Task Force on Disclosure Simplification
(March 1996).
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In keeping with its attention to small business issues, the
Commission acted quickly to implement the RFA after it was enacted in
1980. The Commission published its first semiannual agendas identifying
rulemaking proposals that could affect small entities on April 9, 1981
and has regularly published semiannual agenda since then.9 On June
29, 1981, the Commission published its ten-year plan to evaluate
existing rules for their impact on small entities and has since
completed all required rule reviews under the RFA.10 Indeed, the
Chief Counsel for Advocacy of the SBA, in its first report regarding
the RFA, stated that the Commission's rule review ``epitomizes the
initiative that all agencies should be taking in the area.'' 11
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\9\ 46 FR 23942 (Apr. 29, 1981). The Commission first published
the semiannual agenda independently. Beginning in October 1982 the
Commission included its semiannual agenda in the Unified Agenda of
Federal Regulations compiled by the Regulatory Service Information
Center. See 47 FR 48300, 48988 (Oct. 28, 1982).
\10\ 46 FR 33287 (June 29, 1981). The requirements regarding
publication of a semiannual agenda and the ten-year rule review are
set forth in 5 U.S.C. 602 and 610, respectively.
\11\ Oversight of Regulatory Flexibility Act: Hearings Before
the Subcomm. on Export Opportunities and Special Small Business
Problems of the House Comm. on Small Business, 97th Cong., 1st Sess.
51 (1981) (statement of Frank Swain, Chief Counsel for Advocacy,
SBA).
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As part of its RFA implementation efforts, in early 1982, the
Commission also became the first agency to adopt rules under which
entities it regulates would qualify as ``small'' for purposes of the
RFA.\12\ The RFA defines the term ``small entity'' as a ``small
business,'' ``small organization,'' or ``small governmental
jurisdiction.'' \13\ ``Small business'' under the RFA incorporates the
Small Business Size Regulations established by the SBA (``SBA size
standards'') \14\ under the Small Business Act.\15\ The RFA definitions
of ``small business'' and ``small organization'' also authorize
agencies to establish their own definitions of ``small business'' and
``small organization'' if they determine that specialized definitions
are more appropriate to the activities of the agency.\16\ After
reviewing SBA size standards, the Commission chose to adopt its own
definitions of these terms for purposes of Commission rulemaking.\17\
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\12\ Final Definitions of ``Small Business'' and ``Small
Organization'' for Purposes of the Regulatory Flexibility Act,
Securities Act Release No. 6380, Exchange Act Release No. 18452,
PUHCA Release No. 22371, Trust Indenture Act Release No. 693,
Investment Company Act Release No. 12194, Investment Advisers Act
Release No. 791, 47 FR 5215 (Feb. 4, 1982) (``1982 Adopting
Release''). Other agencies have adopted notices or policy statements
respecting their views regarding the definition of ``small
business.'' See, e.g., Definitions of Small Entity and Significant
Economic Impact for Making Determinations Required by the Regulatory
Flexibility Act of 1980, 51 FR 45831 (Dec. 22, 1986) (Federal
Aviation Administration, Department of Transportation); Policy
Statement and Establishment of Definitions of ``Small Entities'' for
Purposes of the Regulatory Flexibility Act, 47 FR 18618 (Apr. 30,
1982) (Commodity Futures Trading Commission).
\13\ 5 U.S.C. 601(6).
\14\ 13 CFR Part 121.
\15\ 5 U.S.C. 601(3) (defining ``small business'' to mean
``small business concern'' under the Small Business Act, 15 U.S.C.
632(a), which in turn allows the SBA to establish standards for
determining ``small business concern'').
\16\ Id. Secs. 601(3), 601(4).
\17\ The Commission determined that the industry size standards
adopted by the SBA were generally inappropriate in the context of
regulations affecting securities issuers and reporting companies.
See Proposed Definitions of ``Small Business'' and ``Small
Organization'' for Purposes of the Regulatory Flexibility Act,
Securities Act Release No. 6302, Exchange Act Release No. 17645,
PUHCA Release No. 21970, Trust Indenture Act Release No. 619,
Investment Company Act Release No. 11694, Investment Advisers Act
Release No. 754, 46 FR 19251 (Mar. 30, 1981) (``1981 Proposing
Release''); See also 1982 Adopting Release, 47 FR at 5216.
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The regulations the Commission adopted in 1982 were, in many ways,
more expansive than the statutory definitions of ``small business'' and
``small organization'' in the RFA. Under the RFA, a business is not
considered ``small'' if it is not ``independently owned and operated.''
\18\ The Commission's definitions go beyond RFA requirements because,
for the most part, the Commission's definitions do not limit ``small
businesses'' to those that are independently owned and operated. The
Commission's existing definitions also are broader in certain respects
than the SBA size standards, which consider various limiting factors
when determining if an entity is ``small.'' \19\ For example, the SBA
size standards consider if entities are affiliated by such factors as
control, management, ownership, and contractual relationships in
determining whether an entity is ``independently owned and operated,''
and thus, ``small.'' \20\ In addition, the SBA may treat multiple
entities that have identical or substantially identical business or
economic interests as a single entity.\21\ Although the Commission's
definitions in some cases address the concept of control,\22\ none of
these other affiliation concepts set forth in the SBA size standards is
considered in the Commission's definitions of ``small business.''
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\18\ A ``small'' entity also cannot be dominant in its field of
operation. See 5 U.S.C. 601(4) (``small organization'' under RFA
means an entity that is ``independently owned and operated and is
not dominant in its field''); 15 U.S.C. 632(a)(1) (definition of
``small business concern'' under the Small Business Act (as
incorporated in the RFA definition of ``small business,'' 5 U.S.C.
601(3)) means an entity that is ``independently owned and operated
and which is not dominant in its field'').
\19\ See SBA size standards, 13 CFR 121.103 (size eligibility
provisions and standards).
\20\ Id. Sec. 121.103(a)(1) (describing control relationships
that constitute affiliation); id. Sec. 121.103(a)(2) (describing
factors such as ownership, management, previous relationships with
or ties to another concern, and contractual relationships that SBA
considers in determining whether affiliation exists).
\21\ See id. Sec. 121.103(a)(3).
\22\ In certain definitions of ``small business'' and ``small
organization'' under the Exchange Act (broker, dealer, clearing
agency, municipal securities dealer, securities information
processor, transfer agent), the Commission considers control
interests in determining whether the entity is ``small.'' Exchange
Act rule 0-10 [17 CFR 240.10]. The SBA regulations also address
factors of control. 13 CFR 121.103(a)(1).
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Under the Commission's existing definitions, which were adopted in
1982, a majority of investment advisers and broker-dealers qualify as
small.23 Many of these ``small'' investment
[[Page 4108]]
advisers handle as much as $50 million in client funds. In addition,
some ``small'' broker-dealers handle customer orders in excess of $200
million from which they earn more than $6 million per year in
revenue.24 These entities continue to be classified as ``small''
under Commission rules even though they may be affiliated with larger
entities that are responsible for many of the smaller firms' securities
functions. For example, today most mutual funds are affiliated with
large mutual fund families, and many investment advisers are affiliated
with larger financial services firms. These relationships allow the
``small'' affiliates to rely on a larger entity that centralizes
administrative and compliance systems for all affiliates, significantly
reducing regulatory burdens for each individual affiliate. A similar
relationship exists between introducing broker-dealers and the large
firms through which they clear securities trades. Although introducing
and clearing firms share responsibility for ensuring that a customer's
account is handled properly, introducing firms typically depend on
clearing firms to execute customer trades, to handle customer funds and
securities, and to handle many back-office functions, including issuing
the confirmation of the customer's trade. The increase in these
affiliations since 1982 occurred along with tremendous growth and
significant technological changes in the securities industry that
facilitate such arrangements.25 These changes in the securities
industry prompted the Commission to begin reviewing certain of its
``small business'' definitions in 1995.26
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\23\ Currently, approximately 75 percent of registered
investment advisers and 60 percent of registered broker-dealers
qualify as ``small.''
\24\ The revenue amount is based on information provided by
broker-dealers in quarterly FOCUS reports. The amount of customer
order flow is derived using revenue data in the FOCUS reports.
\25\ Between 1980 and 1995, the value of public offerings
(including debt and equity, but not investment company securities)
increased from $58 billion to $768 billion. Between 1990 and 1995,
the dollar volume of equity securities traded on U.S. securities
exchanges and National Association of Securities Dealers Automated
Quotation System (``Nasdaq'') grew 182 percent, with over $5.94
trillion traded in 1995. Assets under management by investment
advisers (excluding investment advisers to registered investment
companies) rose from $205 billion to $7.6 trillion (a 3,607 percent
increase) between 1980 and 1995. Over the same period, assets of
investment companies increased 1,203 percent from $235 billion to
$3.062 trillion. The number of securities firms and professionals
registered with the Commission or with self-regulating organizations
has also surged. Between 1980 and 1995, the number of registered
advisers increased from 3,500 to 22,000 (an increase of 529
percent). The number of broker-dealers grew, over the same period,
from around 5,200 to approximately 7,613 (a 46 percent increase). In
addition, technological progress has changed the securities
industry. For example, advances in information technology have
resulted in the proliferation of information vendors and electronic
trading systems not contemplated in 1982. Since 1982, the markets
have seen the development of fully automated electronic broker-
dealers and exchanges, improved electronic order execution systems
at broker-dealers, exchanges, and national securities associations,
and improved electronic linkages among markets and between broker-
dealers and their customers. These changes have created
substantially deeper and more liquid markets and have made trading
more immediate and less expensive for both institutional and retail
customers.
\26\ See The Regulatory Plan and the Unified Agenda of Federal
Regulations, 60 FR 59503, 61073 ( Nov. 28, 1995) (Division of
Investment Management considering whether to recommend to the
Commission to propose amendment of definition of ``small entity'' in
Rule 0-10 [17 CFR 270.0-10] under the Investment Company Act).
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In March 1996, Congress revisited small business concerns when it
enacted the Small Business Regulatory Enforcement Fairness Act of 1996
(``SBREFA'').27 Among other things, SBREFA imposed new obligations
on the Commission and other agencies to assist small entities in
understanding and complying with regulatory requirements, including the
adoption of small business compliance guides and an informal guidance
program for small businesses.28 In addition, SBREFA amended the
RFA to allow small entities to seek judicial review of agency
compliance with the RFA.29 SBREFA also amended the Equal Access to
Justice Act (``EAJA'') 30 by expanding the class of litigants
eligible to receive EAJA awards to include small entities as defined
under the RFA.31
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\27\ Pub. L. 104-121, Title II, 110 Stat. 857 (1996).
\28\ Id. Secs. 212, 213(b), 110 Stat. 858, 859.
\29\ Id. Sec. 242 110 Stat. 865.
\30\ 5 U.S.C. 504; 28 U.S.C. 2412.
\31\ Pub. L. 104-121, Sec. 232(b)(2), 110 Stat 863.
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After SBREFA was enacted, the Commission began to develop
initiatives to meet its new obligations under the Act and to review
whether the Commission's definitions of ``small business'' and ``small
organization'' are still appropriate in view of (1) changes in the
securities industry and (2) the Commission's expanded obligations under
SBREFA. 32 As a result of its review, the Commission is proposing
amendments to the definitions of these terms as they apply to
investment companies, investment advisers, exchanges, securities
information processors, transfer agents and issuers, and broker-
dealers. The Commission intends to maintain its definitions of ``small
business'' as they relate to small business issuers, and other
regulated entities. 33 The proposed amendments would take into
account more of the factors suggested by SBA size standards in
determining whether an entity qualifies as ``small.''
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\32\ The Commission is concerned that as a result of the
Commission's existing broad definitions of ``small business,''
certain of the amendments made by SBREFA could result in a
significant increase in the Commission's exposure to litigation
beyond that reasonably contemplated by the RFA. The Commission's
enforcement litigation and other litigation matters have increased
in recent years. In light of increased exposure to litigation under
SBREFA, which could further strain the Commission's limited budget,
the Commission believes it is appropriate to consider revising
certain definitions of small business to reflect the considerations
contained in the definition of the term under the RFA and the SBA
size standards.
\33\ The Commission does not propose to revise the ``small
business'' definitions with respect to clearing agencies, bank
municipal securities dealers, or public utility holding company
systems. In a separate release, the Commission has, however,
proposed conforming changes to the definition of ``small business
issuer'' to allow registrants to include non-voting as well as
voting common equity, when computing the required $75 million
aggregate market value of common equity held by non-affiliates of
the registrant.
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The Commission's proposal to amend certain ``small business''
definitions should be considered in light of the Commission's ongoing
efforts to assist small business. On June 4, 1996, the Commission
appointed a special ombudsman to serve as the liaison and agency
spokesman for the concerns of small business. 34 The Commission
also recently held the first in a series of town meetings (to be held
nationwide) to educate small business issuers about the many
opportunities to raise capital in the securities markets. 35 More
generally, the Commission has established a World Wide Web site, which
provides, among other things, a special package of information for
small businesses, including Commission rulemaking and initiatives
affecting small business. 36 The Commission also has established
an electronic mailbox to receive comments on Commission rulemaking.
37 These communication efforts supplement the Commission's annual
government-business forum on small business capital formation. This
forum is held in a different place across the country each year to make
attendance by small businesses easier, and it is the only government-
sponsored national gathering for small businesses that annually offers
small business the chance to tell government officials how the laws,
rules, and regulations impact their ability to raise capital. Through
these and other efforts, the Commission
[[Page 4109]]
will continue to involve small businesses in its rulemaking efforts, in
furtherance of the RFA and the Commission's policy of addressing small
business concerns.
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\34\ The Ombudsman is available to receive information from
small businesses concerning the impact of any Commission proposal,
rule, or regulation and may be contacted at the Division of
Corporation Finance's Office of Small Business Policy at (202) 942-
2950.
\35\ See Remarks of Arthur Levitt, Chairman, U.S. Securities and
Exchange Commission, Los Angeles Venture Association Town Meeting
(Sept. 13, 1996).
\36\ The Commission's Web site is located at http://www.sec.gov.
\37\ The Commission's address for rulemaking comments is: comments@sec.gov.
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Although the Commission has worked hard to meet the needs of small
businesses, the Commission believes that RFA and SBREFA requirements
must be viewed in the context of the requirements of the federal
securities laws, which mandate the maintenance of fair, honest, and
competitive securities markets and the protection of investors in those
markets. As a general matter, the Commission carefully weighs the
economic impact of its rules on all regulated entities, including small
business. However, the Commission's primary considerations as to each
rule it adopts must be the rule's effects on market integrity and
investor protection. Thus, uniform rules must be applied to firms that
are part of a larger national market system to ensure (1) fair and
efficient securities markets and (2) the same level of protection for
all investors regardless of the size of the firm to which they entrust
their funds. In those situations in which market integrity and investor
protection will not be compromised, however, the Commission carefully
tailors its regulations to the relevant characteristics of the
particular entities regulated.38 In this way, the Commission works
to meet its mandate under the federal securities laws while at the same
time reducing costs and regulatory burdens for small business. The
Commission intends to continue this careful, measured regulation that
addresses small business concerns within the protections of the federal
securities laws.
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\38\ See supra note 7 and accompanying text (describing
exemptions from registration for small business issuers); Exchange
Act rule 15c3-1 [17 CFR 240.15c3-1] (varying capital requirements
for broker-dealers based on their activities).
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Discussion of Proposed Amendments
A. Investment Companies
Rule 0-10 under the Investment Company Act currently defines
``small business'' or ``small organization'' (together, ``small
entity'') to include each investment company (``fund'') that has $50
million or less in assets as of the end of its most recent fiscal
year.39 Thus, the definition focuses only on the fund's own
assets.
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\39\ 17 CFR 270.0-10.
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This approach no longer seems appropriate in the business
environment in which most funds now operate.40 Most funds are part
of a large ``family of funds'' sponsored by a highly sophisticated
third-party investment adviser or administrator that typically oversees
assets well in excess of $50 million.41 The adviser or
administrator generally uses the same administrative, management, and
compliance systems to oversee all of the funds in the complex. The fees
imposed on the fund by the adviser or administrator (and the fund's
resulting expense ratio) typically reflect economies of scale that the
adviser or administrator achieves from managing other funds. Treating a
new fund with less than $50 million of net assets as a small entity
seems anomalous if the fund's adviser or administrator oversees other
funds holding billions of dollars.42
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\40\ It is appropriate to take into account the structure of
business concerns in the securities industry in determining size
standards. See 15 CFR 121.103(a)(3) (SBA rule providing for the
calculation of size standards on a consolidated basis for
individuals or firms with identical or substantially identical
business or economic interests or that are economically dependent);
id. Sec. 121.103(a)(4) (SBA rule providing for the aggregation of
receipts or employees of an entity and all its domestic or foreign
``affiliates'' in calculating size standards). See also 1981
Proposing Release, 46 FR at 19257.
\41\ Nearly half (47 percent) of all fund families manage assets
exceeding $1 billion per family.
\42\ In the 1981 Proposing Release, the Commission noted its
belief that ``the Congress did not intend to confer the benefit of
any determination that an entity is small upon the affiliates of
large businesses, because only those businesses and organizations
that are `independently owned' may qualify as small entities
pursuant to the definitions contained in the RFA'' (citing 5 U.S.C.
601(4) and 15 U.S.C. 632). 46 FR at 19257. The Commission further
noted its belief that it is appropriate to preclude entities with
significant economic and financial resources from obtaining
potential regulatory benefits under the RFA. Id.
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The Commission, therefore, is proposing to amend Rule 0-10 to treat
a fund as a small entity only if it and other funds in its related
group have net assets of $50 million or less in the aggregate.43
The proposed amendments would define a group of related investment
companies generally to include two or more management funds that hold
themselves out to investors as related companies for purposes of
investment and investor services, and share either a common investment
adviser (or affiliated advisers) or a common administrator.44 In
the case of unit investment trusts (``UITs''), a related group would
mean two or more trusts that have a common sponsor.45
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\43\ Conforming amendments to Rules 157(b) [17 CFR 230.157(b)]
under the Securities Act and 0-10(b) [17 CFR 240.0-10(b)] under the
Exchange Act would take the same approach when those statutes
address investment companies. The Commission originally selected the
$50 million threshold because it believed that funds having assets
of $50 million or less had significantly higher expense ratios than
funds with more assets, and that funds with higher expense ratios
experienced greater impact from regulatory costs. 1982 Adopting
Release, 47 FR at 5220. Fifty million dollars appears to remain a
significant threshold for expense ratios for fund families as well
as stand-alone funds, which derive similar benefits from economies
of scale at lower ratios.
\44\ Proposed rule 0-10(a)(1).
\45\ Proposed rule 0-10(a)(2). A UIT holds a fixed portfolio of
securities generally deposited with the fund by its sponsor, and
does not have an investment adviser. See generally section 4(2) of
the Investment Company Act [15 U.S.C. 80a-4(2)].
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The proposed amendments would apply a special rule to insurance
company separate accounts.46 Because state law generally treats
separate account assets as the property of the sponsoring insurance
company, the rule would aggregate separate account assets with the
assets of their sponsors, including other sponsored accounts.47
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\46\ Separate accounts contain assets used to fund certain
insurance and investment contracts between the sponsoring insurance
company and contract owners. Each account typically is organized as
a UIT, or in some cases as a management fund having a sponsor-
affiliated investment adviser. See generally section 2(a)(37) of the
Investment Company Act [15 U.S.C. 80a-2(a)(37)].
\47\ Proposed rule 0-10(b). This amendment would codify the
Commission's longstanding approach in addressing separate accounts'
status under rule 0-10. The proposed amendments would not provide a
special rule for another type of fund, face amount certificate
companies, which would continue to be subject to the $50 million
test on a company-by-company basis.
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To standardize the determination of net assets, the proposed
amendments would provide that the Commission may base its count of the
net assets of any related group of funds on the net assets of each fund
in the group at the end of each fund's fiscal year, as generally
reported in Form N-SAR.48
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\48\ Proposed rule 0-10(c); see 17 CFR 274.101; Form N-SAR, Item
74T.
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The Commission estimates that as a result of the proposed
amendments, approximately 400 funds would no longer be treated as small
entities because they are affiliated with large fund families.
Commission data suggests that approximately 800 of an estimated 3700
total active registered investment companies may be considered small
entities under current Rule 0-10. Approximately 300 of these 800 funds
do not identify themselves as members of a fund family, and would
therefore continue to be deemed small entities. Of the remaining 500
funds, approximately 100 appear to be affiliated with fund families
that have $50 million or less in aggregate assets, and therefore would
continue to be deemed small entities under the proposed amendments.
The Commission requests comment on the proposed amendments to Rule
0-10. Should the definition of a group of related funds consider
relationships other than a common investment adviser or administrator?
When funds (like those in a master/feeder
[[Page 4110]]
arrangement 49) share a common adviser or administrator, should
they be deemed a related group even though they may not hold themselves
out as related (so that a feeder fund, for example, would be deemed a
small entity only if the master fund is)? Alternatively, should related
group status depend only on whether funds hold themselves out as
related, so that funds might be in a related group even if they didn't
share a common adviser or administrator? Does the $50 million asset
threshold continue to be appropriate? Should the Commission consider
tests other than asset size for determining whether a fund or related
group is a small entity?
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\49\ In such an arrangement, multiple ``feeder funds'' invest
all their assets in the shares of a single ``master fund'' managed
by one investment adviser, thereby reducing the costs of providing
investment advice to each feeder fund. The various feeder funds
typically sell their shares to different investors through different
distribution channels.
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B. Investment Advisers
Rule 0-7 under the Investment Advisers Act currently defines
``small business'' or ``small organization'' for purposes of the RFA to
include each investment adviser (``adviser'') that either (i) manages
assets (``client assets'') with a total value of $50 million or less as
of the end of its most recent fiscal year, and performs no other
advisory services; or (ii) performs other advisory services, manages
client assets of $50 million or less if it manages client funds, and
has assets related to its advisory business (``business assets'') that
do not exceed $50,000.50
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\50\ 17 CFR 275.0-7.
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Rule 0-7 currently does not distinguish between an independent
adviser and an adviser that is controlled by, or under common control
with, a large firm.51 An adviser in a control relationship with a
large broker-dealer or other large financial services firm typically
benefits from the financial and technical resources of the large firm.
The large firm may handle much of the administrative and compliance
needs of its affiliated adviser using resources not reflected in the
adviser's client assets or business assets.
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\51\ Such affiliations typically involve advisory firms that are
controlled by or under common control with the large firm (such as a
broker-dealer-owned subsidiary that advises institutional clients).
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As noted above, the Commission believes that Congress did not
intend affiliates of large businesses to receive benefits under the
RFA.52 Rule 0-10 under the Exchange Act currently excludes
regulated persons from small entity status when they are affiliated
with a large firm through a control relationship.53 The Commission
is proposing to amend Rule 0-7 to apply a comparable provision to
investment advisers.54 Like the current definition under Exchange
Act Rule 0-10, the proposed amendments to Rule 0-7 would deem an
adviser ``affiliated'' with a large firm when the adviser controls, is
controlled by, or is under common control with the large firm.55 A
non-control affiliation with a large firm, or a control relationship
with a firm that is itself a small entity, would not trigger the
exclusion.56
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\52\ See supra note 42.
\53\ See 17 CFR 240.0-10(c), (d), (f), (g), and (h) (excluding
from ``small'' status a broker or dealer, clearing agency, bank
municipal securities dealer, securities information processor, or
transfer agent affiliated through a control relationship with any
person (other than a natural person) that is not a small business or
small organization).
\54\ The Commission is also proposing to amend the definition of
``small business'' under the Exchange Act to include consideration
of other factors in addition to control relationships in determining
affiliation. See discussion infra pp. 27-31. However, the Commission
does not propose to include those factors in the definition of
``small business'' under the Investment Advisers Act at this time.
\55\ Proposed rule 0-7(a)(2). Also in conformity with rule 0-10,
``control'' would mean the right to vote 25 percent or more of the
voting securities of another person, to receive 25 percent or more
of the net profits of the other person, or otherwise to direct the
person's management or policies. Proposed rule 0-7(b). Many
individual advisers affiliated with large firms would continue to
meet the definition of ``small business'' notwithstanding the new
affiliation standard because the advisers' large firm affiliates do
not have the right to vote 25 percent or more of any stock issued by
the advisers, do not receive 25 percent or more of the advisers' net
profits, and do not direct the management of the individual
advisers' business.
\56\ See proposed rule 0-7(a)(2) and (b).
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The proposed amendments also would simplify Rule 0-7 by applying
the $50,000 business asset test to all advisers, rather than solely to
advisers that render services other than or in addition to managing
client assets.57 In addition to facilitating application of the
rule,58 this approach would eliminate the anomaly of treating as
``small'' an adviser that manages $49 million in client assets and has
$5 million in business assets (because its only advisory service is
managing money for clients), while treating as ``large'' an adviser
that manages $20,000 in client assets and has $55,000 in business
assets (because it renders other advisory services).
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\57\ Proposed rule 0-7(a)(1). The current rule's definition of
``other advisory services'' would be eliminated because it would no
longer be necessary. The $50,000 threshold for the business asset
test appears to remain a meaningful divide between small advisers
and others. The Commission originally selected that figure because
it was approximately the median value of advisers' business assets.
1982 Adopting Release, 47 FR at 5221. The median may have changed in
recent years, but that figure remains significant inasmuch as more
than half of all advisers apparently do not have assets exceeding
it.
\58\ See 1981 Proposing Release, 46 FR at 19257, 19263 (two
attributes desirable in size standards are capacity to differentiate
the small members of an industry from other members, and the use of
readily available information to derive standards).
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The proposed amendments appear likely to have limited impact on the
total number of advisers deemed small entities. The Commission
estimates that up to 17,000 of approximately 22,500 total registered
investment advisers meet the current rule's definition of small entity
based on reported client assets or business assets.59
Approximately 10,000 of those ``small'' advisers report that they are
affiliated with broker-dealers (some of which are themselves
``small'')--but not necessarily through a control affiliation. In many
cases, the affiliated broker-dealer does not own or otherwise control
the adviser's advisory business. Thus, many advisers that are broker-
dealer affiliates (and most other ``small'' advisers affiliated with
non-brokers or having independent status) would remain small entities
under the proposed amendments.
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\59\ Under the recently enacted National Securities Markets
Improvement Act of 1996, the Commission will soon lose
responsibility for regulating an estimated 16,000 of these 17,000
``small'' advisers. See Pub. L. 104-290, sec. 303, 110 Stat. 3416
(1996) (transferring from the Commission to the states the primary
responsibility for regulating advisers managing less than $25
million in client assets).
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Of the ``small'' advisers that for the first time would be subject
to the $50,000 business asset test (i.e., the limited group that does
not render advisory services other than managing client funds of $50
million or less), only a limited percentage would likely have business
assets exceeding $50,000. The number of such advisers no longer treated
as ``small'' probably would not exceed 2000 (or 11 percent of the total
number of ``small'' advisers under the current definition), because
most advisers that simply manage client funds require only modest
business assets.
The Commission requests comment on the proposed amendments to Rule
0-7. Does the proposed treatment of advisers affiliated with large
firms properly focus only on control affiliations? Do the thresholds of
$50 million for client assets and $50,000 for business assets continue
to be appropriate? Recent federal legislation transfers to states
primary responsibility for regulating ``small'' advisers--those who
manage less than $25 million of client assets.60 In light of this
[[Page 4111]]
legislation, is a threshold of $25 million for client assets under
management more appropriate than the $50 million threshold?
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\60\ See id.; See also Report on S. 1815, The Securities
Investment Promotion Act of 1996, S. Rep. No. 293, 104th Cong., 2d
Sess. at 3-4 (1996) (legislation would focus SEC supervision ``on
investment advisers most likely to be engaged in interstate
commerce'' and focus state supervision ``on advisers whose
activities are most likely to be centered in their home state'';
``legislation allows states to assume the primary role with respect
to regulating advisers that are small, local businesses, managing
less than $25 million in client assets, while the Commission's role
is focused on larger advisers with $25 million or more in client
assets under management''). The Commission estimates that limiting
small advisers to those managing less than $25 million in client
assets would reduce the total number of small advisers by less than
500.
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C. Definitions Under the Exchange Act
1. Exchanges
In the 1981 Proposing Release, the Commission expressed its doubt
that Congress intended for the RFA to apply to exchanges.61
Nevertheless, the Commission adopted a definition of ``small business''
and ``small organization'' applicable to exchanges. The Commission's
proposed amendment to this definition would retain the existing
provisions of Rule 0-10 that define as ``small'' those exchanges that
are exempt from the requirements of Rule 11Aa3-1 regarding the
dissemination of transaction reports and last sale data with respect to
transactions in securities.62
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\61\ The term ``exchange'' is defined in Section 3(a)(1) of the
Exchange Act. [15 U.S.C. 78c(a)(1).] Currently, none of the eight
registered exchanges is considered a ``small business'' or ``small
organization'' under Rule 0-10.
\62\ 17 CFR 240.11Aa3-1. In the 1981 Proposing Release, the
Commission noted that those exchanges that are exempt from the
requirements of Rule 11Aa3-1 would appropriately be considered
small, mentioning in particular that the Spokane Stock Exchange and
the Intermountain Stock Exchange had been granted exemptions from
the rule, in part, because of their low trading volume. Since 1981,
both of these exchanges have withdrawn from registration. Currently,
no exchanges are fully exempted from the requirements of Rule 11Aa3-
1.
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The Commission is proposing to add a requirement that the exchange
also must not be affiliated with any person (other than a natural
person) that is not a small business or small organization as defined
in Rule 0-10. The proposed amendment would deem an exchange
``affiliated'' with another entity when the exchange controls, is
controlled by, or is under common control with the other entity. In
adopting Rule 0-10 in 1982, the Commission applied this standard to
broker-dealers, clearing agencies, bank municipal securities dealers,
securities information processors, and transfer agents. The 1981
Proposing Release noted that such entities were not small if they were
affiliated with another entity that did not qualify as small. The
Commission is proposing to conform the definition of small exchange to
that of other small entities by adding this affiliation
standard.63
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\63\ The Commission believes that it is appropriate to consider
precluding entities with significant economic and financial
resources from obtaining potential regulatory benefits under the
RFA. See supra note 42. The definitions set forth in Rule 0-10
generally incorporate the concept of affiliation and provide that a
broker-dealer, clearing agency, bank municipal securities dealer,
securities information processor, or transfer agent is not a small
business or small organization if that entity is affiliated with any
person (other than a natural person) that is not a small business or
small organization as defined in Rule 0-10. Under paragraph (i) of
Rule 0-10, a person is affiliated with another if that person
controls, is controlled by, or is under common control with such
other person. Control within this context constitutes the right to
vote 25 percent or more of the voting securities of any entity, the
right to receive 25 percent or more of the net profits of such
entity, or the ability otherwise to direct or cause the direction of
the management or policies of such entity.
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2. Securities Information Processors
The Commission proposes to retain the existing criteria for
determining whether a securities information processor is a ``small
business'' or ``small organization'' in substantially the same form,
including the requirement that to be considered small, a securities
information processor service less than 100 interrogation devices or
moving tickets during the preceding fiscal year.64 As a result of
changes in technology since Rule 0-10 was adopted, however, the
Commission is proposing to modify the definition of ``interrogation
device'' for purposes of Rule 0-10 to take into account new
technologies used to disseminate securities industry information to
markets and market participants through increasingly diverse methods.
Technological developments regarding the amount of information
available electronically, the ease and speed of retrieving such
information, and the increasing interconnectivity between market
participants and data vendors all support a broader reading of the term
interrogation device.
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\64\ The term ``securities information processor'' is defined in
Section 3(a)(22) of the Exchange Act. [15 U.S.C. 78c(a)(22).]
Currently, neither of the two registered exclusive securities
information processors is designated as a ``small business'' or
``small organization'' under Rule 0-10.
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Accordingly, for purposes of the small business definition, the
Commission believes it is appropriate to consider whether the term
interrogation device should refer to any device that may be used to
read or receive electronic information, including proprietary terminals
or personal computers via computer to computer interfaces, or gateway
access. Also, the Commission believes that it is appropriate to
consider whether this definition should include all interrogation
devices that display securities information such as quotations and
indications of interest in addition to devices that display last sale
data or transaction reports.65
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\65\ Formerly, paragraph (g)(2) of Rule 0-10 referenced the
definition of ``interrogation device'' set forth in Rule 11Aa3-1.
This definition reflects the historical use of interrogation devices
to display only transaction reports or last sale data.
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3. Transfer Agents and Issuers
The Commission's proposal would retain the existing criteria based
on volume of transfer business and number of shareholder accounts for
determining whether a transfer agent is a ``small business'' or ``small
organization,'' 66 and would add the requirement that small
transfer agents restrict their activities to transferring the items of
small issuers as defined in Exchange Act Rule 0-10.67 The shares
of small issuers, as opposed to those of large publicly traded
companies, typically are held by a small portion of the investing
public and are less likely to be the subject of a substantial amount of
trading activity. Thus, the activities of small transfer agents, many
of which are not subject to registration under Section 17A of the
Exchange Act, are not likely to have a substantial effect on the
investing public or the operation of the national clearance and
settlement system. In contrast, transfer agents for large companies
whose shares are heavily traded are likely to have a far greater effect
on securities processing, generally, and on the operation of the
national clearance and settlement system.68
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\66\ The term ``transfer agent'' is defined in Section 3(a)(25)
of the Exchange Act. [15 U.S.C. 78c(a)(25).] It is estimated that
approximately 180 registered transfer agents would be designated as
``small businesses'' or ``small organizations'' under the proposed
amendments to Rule 0-10.
\67\ Any transfer agent that transfers items for any issuer that
has total assets of greater than $5 million would not be deemed a
``small business'' or ``small organization'' under the proposed
rule. Generally, transfer agents that transfer the items of small
issuers are not required to be registered pursuant to Section
17A(c)(1) of the Exchange Act and are not subject to Commission
regulation. In this regard, the Commission staff estimates that only
1,500 (or 21 percent) of the approximately 7,000 entities providing
transfer agent services in the United States are registered under
Section 17A of the Exchange Act. These 1,500 entities provide
services that are essential to the efficient functioning of the
national market system for securities. Of these 1,500 registered
transfer agents, approximately one-half are financial institutions
regulated by the various federal bank regulatory agencies. The 5,500
unregistered entities that provide transfer agent services generally
handle the transfer of small issuer securities and exempted
securities, such as municipal securities.
\68\ See Securities and Exchange Commission, Study of Unsafe and
Unsound Practices of Broker-Dealers (1971), pp. 37-39.
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Rule 0-10(a) currently applies the definition of ``small business''
when
[[Page 4112]]
used with reference to an ``issuer'' or ``person'' under Sections 12,
13, 14, 15(d), or 16 of the Exchange Act.69 To clarify that
transfer agents who transfer items of issuers with total assets greater
than $5 million would not be considered small for purposes of the RFA,
the Commission is proposing to delete language in Rule 0-10(a) that
limits the definition of small business, as it refers to ``issuer'' or
``person,'' to Sections 12, 13, 14, 15(d), or 16 of the Exchange
Act.70
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\69\ 17 CFR 240.0-10(a).
\70\ 15 U.S.C. 78l, 78m, 78n, 78o(d), and 78p. The proposed
change would also clarify that a transfer agent, or any other
regulated entity under the Exchange Act (broker-dealer, exchange,
clearing agency, securities information processor, or bank municipal
securities dealer) would not be considered small under Rule 0-10 if
the entity is affiliated with an issuer that does not qualify as
``small'' under Rule 0-10. See 17 CFR 240.0-10. For example, a
broker-dealer that is owned or controlled by a large public company
with greater than $5 million in assets would not be considered small
under Rule 0-10. While the Commission does not collect data that
would indicate how many broker-dealers or other regulated entities
may be affected by this proposed amendment, it believes such
amendment is consistent with the intent of the RFA that only
business and organizations that are ``independently owned'' may
qualify as small entities. See supra note 42.
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4. Broker-Dealers
Rule 0-10 under the Exchange Act currently defines ``small
business'' or ``small organization'' to include any broker 71 or
dealer 72 that has total capital of less than $500,000 and that is
not affiliated with any person (other than a natural person) that is
not a small business or small organization under the rule. For purposes
of defining whether a broker-dealer is a ``small business'' or ``small
organization,'' the Commission is proposing to retain the existing
capital standard currently set forth in Rule 0-10. The Commission,
however, is proposing to expand the affiliation standard applicable to
broker-dealers.
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\71\ The term ``broker'' is defined in Section 3(a)(4) of the
Exchange Act. [15 U.S.C. 78c(a)(4).]
\72\ The term ``dealer'' is defined in Section 3(a)(5) of the
Exchange Act. [15 U.S.C. 78c(a)(5).]
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The existing affiliation test, which looks only to whether a
broker-dealer controls, is controlled by, or is under common control
with, an entity other than a small business or small organization,
focuses primarily on relationships between broker-dealers based on
voting control or the sharing of profits. The structure and operation
of broker-dealer activities, however, suggest that other kinds of
business relationships, such as the contractual relationship between an
introducing broker and its clearing firm, can give rise to an
opportunity by which a clearing firm can exercise substantial influence
over the business of its introducing brokers. In order to better
conform its affiliation standard to the nature of business
relationships that exist between broker-dealers, the Commission
proposes to expand the definition of affiliation applicable to broker-
dealers under Rule 0-10 to include arrangements whereby one broker-
dealer introduces transactions in securities to another.
From a functional perspective, introducing and clearing brokers act
as a unit in handling a customer's account. In most respects,
introducing brokers are dependent on clearing firms to clear and to
execute customer trades,73 to handle customer funds and
securities, and to handle many back-office functions, including issuing
confirmations of customer trades and customer account
statements.74 The respective duties and obligations of an
introducing broker and its clearing firm are described in the clearing
agreement executed by the parties. This agreement typically contains
various requirements imposed by the clearing firm with respect to the
handling of customer accounts by the clearing and introducing brokers,
and the clearing firm's maintenance of customer assets.75 In
addition, as a practical matter, clearing and introducing firms have
identical business interests to the extent that most introducing
brokers could not be in business without the capital, technology, and
back-office support provided by the clearing firm. In addition, as a
legal matter, for purposes of the Securities Investor Protection Act of
1970 76 and the Commission's financial responsibility rules, a
customer is the customer of the clearing firm.77
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\73\ Even when introducing brokers execute their own trades,
they must provide the name of their clearing broker in order that
the trade may be settled and cleared.
\74\ Increasingly, the back-office functions of introducing and
clearing firms are linked electronically, which allows introducing
brokers to transmit trades directly to the back-office systems
maintained by the clearing broker using either a personal computer
and modem or a terminal provided for this purpose by the clearing
broker. These electronic linkages facilitate communication between
introducing and clearing firms, and allow introducing firms to
monitor trade execution and settlement, but control over the
processing of securities trades remains with the clearing firm.
\75\ For example, clearing agreements generally give clearing
brokers approval over margin customers and subject margin accounts
to the clearing firm's standards. Clearing brokers also may set
general creditworthiness standards for the introducing broker's
customers to ensure customer performance. Similarly, clearing
brokers can reject customer trades if they determine a customer is
unable to fully complete the trade entered through the introducing
broker. New York Stock Exchange Rule 382 specifically requires
clearing agreements to identify and allocate the respective
functions of the introducing and clearing firms in seven areas: the
opening, approving and monitoring of accounts; extensions of credit;
the maintenance of books and records; the receipt and delivery of
funds and securities; the safeguarding of funds and securities;
confirmations and statements; and the acceptance of orders and
executions of transactions. Although the customer places its order
directly with the introducing firm, the Commission considers the
account to be an account of the clearing firm, which has primary
legal responsibility with respect to the handling of customer funds
and securities, and for sending account statements to the customer.
Thus, both introducing and clearing firms have a shared
responsibility for ensuring that a customer's account is handled
properly.
\76\ 15 U.S.C. 78aaa et seq.
\77\ Exchange Act Release No. 31511, 57 FR 56973 (Dec. 2, 1992).
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Under the Commission's proposal, an introducing broker that
introduces transactions to a large clearing firm generally would not be
considered a ``small business'' or ``small organization'' for purposes
of the RFA. An exception, however, would be carved out for introducing
firms that handle only investment company securities or interests or
participations in insurance company separate accounts. Typically,
persons or firms that limit their activities to these products are
small, sometimes one-person operations that combine limited securities
activities with broader tax, financial planning, and insurance
services. Applying this new affiliation standard in addition to the
existing total capital standard, it is estimated that approximately 12
percent of all registered broker-dealers could be characterized as the
type of independently owned and operated enterprise specifically
addressed under the RFA.78
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\78\ See supra note 18 (RFA definitions of ``small business'').
See also Report to Accompany H.R. 4660, H.R. Rep. No. 519, 96th
Cong., 1st Sess., 19 (1980) (suggesting that the definition of
``small businesses'' was intended to encompass businesses that are
independently owned and operated and not dominant in their field of
operation). Consistent with the RFA definitions of small business
and small organization, SBA regulations that address affiliation
consider whether individuals or firms have identical or
substantially identical business interests, as in the case of firms
that are economically dependent through contractual or other
relationships. 13 CFR 121.103(a).
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The Commission requests comments on whether alternative approaches
would be more appropriate for determining whether a broker-dealer
should be designated as small under Rule 0-10. One possible approach
would establish a revenue test. Other approaches would be based on a
broker-dealer's annual earnings or total assets. The Commission seeks
comment on these approaches and requests that commenters specifically
address what revenue, earnings, or total asset levels may be
appropriate for distinguishing small broker-dealers, and whether
[[Page 4113]]
revenue, earnings, or total asset levels should be averaged over a
period of years in order to account for annual fluctuations. Commenters
are asked to discuss how any proposed approach relates to the SBA size
standards.
5. Request for Comment
The Commission is soliciting comment on each of the proposed
amendments to Rule 0-10 and whether commenters believe the proposed
amendments sufficiently identify entities regulated under the Exchange
Act that should qualify as either a ``small business'' or a ``small
organization'' under Rule 0-10.
III. Effects on Competition and Regulatory Flexibility
Considerations
Section 23(a)(2) of the Exchange Act 79 requires the
Commission, in adopting rules under the Exchange Act, to consider the
anticompetitive effects of such rules, if any, and to balance any
anticompetitive impact against the regulatory benefits gained in terms
of furthering the purposes of the Exchange Act. The Commission is of
the preliminary view that the proposed amendments to Rule 0-10 would
not have any effect on the regulation of entities under the Exchange
Act, or impose any burden on competition among such entities.
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\79\ 15 U.S.C. 78w(a)(2).
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The Commission has conferred with the SBA and believes that no
regulatory flexibility analysis is required for the proposed
amendments. The definitions of the terms ``small business'' and ``small
organization'' and the proposed amendments do not impose any
substantive requirements on small businesses. Instead the definitions
are interpretations of terms used to identify those entities that the
Commission will study for RFA purposes when proposing and adopting
rules.80
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\80\ An initial regulatory flexibility analysis is required
whenever an agency is required by section 553 of the Administrative
Procedure Act or any other law to publish general notice of proposed
rulemaking for any proposed rule. The RFA does not state that
agencies that establish definitions of ``small business'' or ``small
organization'' do so pursuant to rulemaking. See 5 U.S.C.
Secs. 601(3), 601(4); see also Definitions of Small Entity and
Significant Economic Impact for Making Determinations Required by
the Regulatory Flexibility Act of 1980, 51 FR 45831 (Dec. 22, 1986)
(Federal Aviation Administration, Department of Transportation); NRC
Size Standard for Making Determinations Required by the Regulatory
Flexibility Act of 1980, 50 FR 20913 (May 21, 1985) (Nuclear
Regulatory Commission invitation for public comment on proposed
definition of small entities); Proposed Establishment of Definitions
of ``Small Entities'' for Purposes of the Regulatory Flexibility
Act, 46 Fed. Reg. 23940 (Apr. 29, 1981) (Commodity Futures Trading
Commission); 1982 Adopting Release, 47 FR at 5216 (noting that the
rules providing the definitions of ``small business'' for entities
regulated under the securities laws also provide, as permitted by
the RFA, that the Commission may, in particular instances, define a
particular entity in a manner different from that set forth in the
rules).
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IV. Statutory Authority
The Commission is proposing to amend Rule 157 [17 CFR 230.157],
Rule 0-10 [17 CFR 240.0-10], Rule 0-10 [17 CFR 270.0-10], and Rule 0-7
[17 CFR 275.0-7] pursuant to chapter 6 of title 5 of the United States
Code (particularly section 601 thereof [5 U.S.C. 601]), and pursuant to
the Securities Act of 1933 [15 U.S.C. 77a et seq.] (particularly
section 19 thereof [15 U.S.C. 77s]), the Securities Exchange Act of
1934 [15 U.S.C. 78a et seq.] (particularly section 23 thereof [15
U.S.C. 78w]), the Investment Company Act of 1940 [15 U.S.C. 80a-1 et
seq.] (particularly section 38 thereof [15 U.S.C. 80a-37]), and the
Investment Advisers Act of 1940 [15 U.S.C. 80b-1 et seq.] (particularly
section 211 thereof [15 U.S.C. 80b-11]).
Text of Proposed Rule Amendments
List of Subjects
17 CFR Parts 230 and 270
Investment companies, Securities.
17 CFR Part 240
Brokers, Reporting and recordkeeping requirements, Securities.
17 CFR Part 275
Investment advisers, Reporting and recordkeeping requirements,
Securities.
For the reasons set out in the preamble, Title 17, Chapter II of
the Code of Federal Regulations is proposed to be amended as follows:
PART 230--GENERAL RULES AND REGULATIONS, SECURITIES ACT OF 1933
1. The authority citation for Part 230 continues to read, in part,
as follows:
Authority: 15 U.S.C. 77b, 77f, 77g, 77h, 77j, 77s, 77sss, 78c,
78d, 78l, 78m, 78n, 78o, 78w, 78ll(d), 78t, 80a-8, 80a-29, 80a-30,
and 80a-37, unless otherwise noted.
* * * * *
2. Section 230.157 is amended by revising paragraph (b) to read as
follows:
Sec. 230.157 Small entities for purposes of the Regulatory Flexibility
Act.
* * * * *
(b) When used with reference to an investment company that is an
issuer for purposes of the Act, have the meaning ascribed to those
terms by Sec. 270.0-10 of this chapter.
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
3. The authority citation for Part 240 continues to read in part as
follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,
77nnn, 77sss, 77ttt, 78c, 78d, 78f, 78i, 78j, 78k, 78k-1, 78l, 78m,
78n, 78o, 78p, 78q, 78s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-
23, 80a-29, 80a-37, 80b-3, 80b-4 and 80b-11, unless otherwise noted.
* * * * *
4. Section 240.0-10 is amended to revise the section heading and
paragraphs (a), (b), (e), (g)(2), (g)(3), and (i); redesignate
paragraphs (h)(2) and (h)(3) as paragraphs (h)(3) and (h)(4),
respectively; and add paragraphs (h)(2), (j) and (k) to read as
follows:
Sec. 240.0-10 Small entities under the Securities Exchange Act for
purposes of the Regulatory Flexibility Act.
* * * * *
(a) When used with reference to an ``issuer'' or a ``person,''
other than an investment company, mean an ``issuer'' or ``person''
that, on the last day of its most recent fiscal year, had total assets
of $5,000,000 or less;
(b) When used with reference to an ``issuer'' or ``person'' that is
an investment company, have the meaning ascribed to those terms by
Sec. 270.0-10 of this chapter;
* * * * *
(e) When used with reference to an exchange, mean any exchange
that:
(1) Has been exempted from the reporting requirements of
Sec. 240.11Aa3-1; and
(2) Is not affiliated with any person (other than a natural person)
that is not a small business or small organization as defined in this
section;
* * * * *
(g) * * *
(2) Provided service to fewer than 100 interrogation devices or
moving tickers at all times during the preceding fiscal year (or in the
time that it has been in business, if shorter); and
(3) Is not affiliated with any person (other than a natural person)
that is not a small business or small organization under this section;
(h) * * *
(2) Transferred items only of issuers that would be deemed ``small
businesses'' or ``small organizations'' as defined in this section;
* * * * *
(i) For purposes of paragraph (c) of this section, a broker or
dealer is affiliated with another person if:
(1) Such broker or dealer controls, is controlled by, or is under
common control with such other person; a person
[[Page 4114]]
shall be deemed to control another person if that person has the right
to vote 25% or more of the voting securities of such other person or is
entitled to receive 25% or more of the net profits of such other person
or is otherwise able to direct or cause the direction of the management
or policies of such other person; or
(2) Such broker or dealer introduces transactions in securities,
other than registered investment company securities or interests or
participations in insurance company separate accounts, to such other
person, or introduces accounts of customers or other brokers or
dealers, other than accounts that hold only registered investment
company securities or interests or participations in insurance company
separate accounts, to such other person that carries such accounts on a
fully disclosed basis.
(j) For purposes of paragraphs (d) through (h) of this section, a
person is affiliated with another person if that person controls, is
controlled by, or is under common control with such other person; a
person shall be deemed to control another person if that person has the
right to vote 25% or more of the voting securities of such other person
or is entitled to receive 25% or more of the net profits of such other
person or is otherwise able to direct or cause the direction of the
management or policies of such other person.
(k) For purposes of paragraph (g) of this section, ``interrogation
device'' shall refer to any device that may be used to read or receive
securities information, including quotations, indications of interest,
last sale data and transaction reports, and shall include proprietary
terminals or personal computers that receive securities information via
computer to computer interfaces or gateway access.
PART 270--RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF 1940
5. The authority citation for Part 270 continues to read, in part,
as follows:
Authority: 15 U.S.C. 80a-1 et seq., 80a-37, 80a-38, unless
otherwise noted;
* * * * *
6. Section 270.0-10 is revised to read as follows:
Sec. 270.0-10 Small entities under the Investment Company Act for
purposes of the Regulatory Flexibility Act.
(a) General. For purposes of Commission rulemaking in accordance
with the provisions of Chapter Six of the Administrative Procedure Act
(5 U.S.C. 601 et seq.) and unless otherwise defined for purposes of a
particular rulemaking, the term small business or small organization
for purposes of the Act shall mean an investment company that, together
with other investment companies in the same group of related investment
companies, has net assets of $50 million or less as of the end of its
most recent fiscal year. For purposes of this section:
(1) In the case of a management company, the term group of related
investment companies shall mean two or more management companies
(including series thereof) that:
(i) Hold themselves out to investors as related companies for
purposes of investment and investor services; and
(ii) Either:
(A) Have a common investment adviser or have investment advisers
that are affiliated persons of each other; or
(B) Have a common administrator; and
(2) In the case of a unit investment trust, the term group of
related investment companies shall mean two or more unit investment
trusts (including series thereof) that have a common sponsor.
(b) Special rule for insurance company separate accounts. In
determining whether an insurance company separate account is a small
business or small entity pursuant to paragraph (a) of this section, the
assets of the separate account shall be cumulated with the assets of
the general account and all other separate accounts of the insurance
company.
(c) Determination of net assets. The Commission may calculate its
determination of the net assets of a group of related investment
companies based on the net assets of each investment company in the
group as of the end of such company's fiscal year.
PART 275--RULES AND REGULATIONS, INVESTMENT ADVISERS ACT OF 1940
7. The authority citation for Part 275 continues to read, in part,
as follows:
Authority: 15 U.S.C. 80b-1 et seq., 80b-11, unless otherwise
noted.
* * * * *
8. Section 275.0-7 is amended by revising the section heading and
paragraphs (a)(1), (a)(2) and (b) to read as follows:
Sec. 275.0-7 Small entities under the Investment Advisers Act for
purposes of the Regulatory Flexibility Act.
(a) * * *
(1) Manages assets with a total value of $50 million or less, in
discretionary or non-discretionary accounts, as of the end of its most
recent fiscal year, provided that the adviser's own assets related to
its advisory business do not exceed in value $50,000 as of the end of
its most recent fiscal year; and
(2) Is not affiliated with any person (other than a natural person)
that is not a small business or small organization as defined in this
section, Sec. 240.0-10 or Sec. 270.0-10 of this chapter.
(b) For purposes of this section, a person is affiliated with
another person if that person controls, is controlled by, or is under
common control with such other person; a person shall be deemed to
control another person if that person has the right to vote 25% or more
of the voting securities of such other person or is entitled to receive
25% or more of the net profits of such other person or is otherwise
able to direct or cause the direction of the management or policies of
such other person.
Dated: January 22, 1997.
By the Commission.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-2010 Filed 1-27-97; 8:45 am]
BILLING CODE 8010-01-P
