Source document -1

Wednesday,

October 29, 2003

Part II

Securities and

Exchange

Commission

17 CFR Parts 210, et al.

Exemption From Shareholder Approval

for Certain Subadvisory Contracts;

Proposed Rule

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61720 Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules

1 We do not edit personal, identifying

information, such as names or e-mail addresses,

from electronic submissions. Submit only

information you wish to make publicly available.

2 In this Release and proposed rule 15a–5, we use

the term ‘‘fund’’ to mean a registered open-end

management investment company or a separate

series of such a company. A series company (or

series fund) is a registered open-end investment

company which, in accordance with the provisions

of section 18(f)(2) of the Act [15 U.S.C. 80a–

18(f)(2)], issues two or more classes or series of

preferred or special stock each of which is preferred

over all other classes or series in respect of assets

specifically allocated to that class or series. See 17

CFR 270.18f–2(a).

3 In this Release and proposed rule 15a–5, we use

the term ‘‘subadviser’’ to mean a party that

contracts with a fund’s principal adviser to provide

investment advisory services to the fund, and the

term ‘‘principal adviser’’ to mean a party that

contracts directly with a fund to provide investment

advisory services to the fund. See proposed rule

15a–5(b)(2)–(3) (defining ‘‘principal adviser’’ and

‘‘subadviser’’ by reference to sections 2(a)(20)(A)–

(B) of the Act [15 U.S.C. 80a–2(a)(20)(A) ‘‘(B)]).

4 In the case of a series fund, the adviser seeks

to achieve the fund’s investment objectives by

hiring, supervising and, when appropriate,

discharging subadvisers for the management of all

or a portion of the portfolio of a series.

5 Since 1995 we have issued over 100 orders

allowing manager of managers funds to retain

subadvisers (and materially amend subadvisory

contracts) without shareholder approval. See, e.g.,

Hillview Investment Trust II and Hillview Capital

Advisors, LLC, Investment Company Act Release

Nos. 24853 (Feb. 6, 2001) [66 FR 10037 (Feb. 13,

2001)] (notice) and 25055 (June 29, 2001) [66 FR

35676 (July 6, 2001)] (order); Sun Capital Advisers

Trust and Sun Capital Advisers, Inc., Investment

Company Act Release Nos. 24368 (Mar. 27, 2000)

[65 FR 17546 (Apr. 3, 2000)] (notice) and 24401

(Apr. 24, 2000) [72 SEC Docket 864 (May 23, 2000)]

(order).

SECURITIES AND EXCHANGE

COMMISSION

17 CFR Parts 210, 239, 240, 270 and

274

[Release Nos. 33–8312, 34–48683, IC–26230;

File No. S7–20–03]

RIN 3235–AH80

Exemption From Shareholder Approval

for Certain Subadvisory Contracts

AGENCY: Securities and Exchange

Commission.

ACTION: Proposed rule.

SUMMARY: The Securities and Exchange

Commission (‘‘Commission’’) is

proposing a new rule under the

Investment Company Act of 1940 that

would, under certain conditions, permit

an adviser to serve as a subadviser to an

investment company (‘‘fund’’) without

approval by the shareholders of the

fund. The rule is designed to reduce

burdens on investment companies by

eliminating the need to obtain from the

Commission exemptive orders that

facilitate so-called ‘‘manager of

managers’’ arrangements, under which

one or more subadvisers manage a

fund’s assets subject to the supervision

of an investment adviser whose

advisory contract has been approved by

fund shareholders.

DATES: Comments must be received on

or before January 8, 2004.

ADDRESSES: To help us process and

review your comments more efficiently,

comments should be sent by one

method only.

Comments in paper format should be

submitted in triplicate to Jonathan G.

Katz, Secretary, Securities and Exchange

Commission, 450 Fifth Street, NW.,

Washington, DC 20549–0609.

Comments in electronic format may be

submitted at the following e-mail

address: [email protected]. All

comment letters should refer to File No.

S7–20–03; if e-mail is used, this file

number should be included on the

subject line. Comment letters will be

available for public inspection and

copying in the Commission’s Public

Reference Room, 450 Fifth Street, NW.,

Washington, DC 20549. Electronically

submitted comment letters will be

posted on the Commission’s Internet

web site (http://www.sec.gov).1

FOR FURTHER INFORMATION CONTACT:

Adam B. Glazer, Attorney, or C. Hunter

Jones, Assistant Director, Office of

Regulatory Policy, (202) 942–0690,

Division of Investment Management,

Securities and Exchange Commission,

450 Fifth Street, NW., Washington DC

20549–0506.

SUPPLEMENTARY INFORMATION: The

Commission today is proposing for

public comment new rule 15a–5 [17

CFR 270.15a–5] under the Investment

Company Act of 1940 [15 U.S.C. 80a]

(the ‘‘Investment Company Act’’ or

‘‘Act’’); amendments to rule 6–07 [17

CFR 210.6–07] of Regulation S–X [17

CFR part 210] under the Investment

Company Act and the Securities Act of

1933 [15 U.S.C. 77a–aa] (the ‘‘Securities

Act’’); amendments to Form N–1A [17

CFR 274.11A] under the Investment

Company Act and the Securities Act;

and amendments to Schedule 14A [17

CFR 240.14a–101] under the Securities

Exchange Act of 1934 [15 U.S.C. 78a–

mm] (the ‘‘Exchange Act’’).

Table of Contents

Executive Summary

I. Background

II. Discussion

A. Conditions of the Proposed Rule

1. Terms of the Subadvisory Contacts;

Subadvisory Fees

2. Obligation to Supervise

3. Arm’s Length Relationship Between

Principal Adviser and Subadvisers

4. Board Oversight

5. Expectation of Investors

6. Number of Subadvisers

B. Rescission of Previously Issued

Exemptive Orders

III. General Request for Comment

IV. Cost-Benefit Analysis

V. Consideration of Promotion of Efficiency,

Competition, and Capital Formation

VI. Paperwork Reduction Act

VII. Summary of Initial Regulatory Flexibility

Analysis

VIII. Statutory Authority

Text of Proposed Rules and Form

Amendments

Executive Summary

The Commission is proposing new

rule 15a–5 under the Investment

Company Act. The rule would permit

manager of managers funds to operate

without obtaining shareholder approval

when the fund’s principal investment

adviser hires a new subadviser or

replaces an existing subadviser. The

rule would eliminate the need for a fund

to obtain an exemptive order permitting

these arrangements. A fund that relied

on the proposed rule would be required

to inform investors of the identity of the

current subadviser(s) managing their

portfolio and the ability of the fund to

add or replace the subadviser(s) without

shareholder approval. The rule also

would require that the fund’s

investment adviser supervise and

oversee the fund’s subadvisers, and that

the hiring of a new or different

subadviser not increase the fees charged

to the fund.

I. Background

A growing number of investment

companies (‘‘funds’’) 2 are now offered

whose investment advisers do not

directly manage a portfolio of securities.

Instead, the advisers supervise one or

more subadvisers,3 which are

themselves responsible for the day-today

management of the funds’

portfolios. In these ‘‘manager of

managers’’ funds, the investment

adviser seeks to achieve the funds’

investment objectives by hiring,

supervising and, when appropriate,

discharging subadvisers, each of which

is responsible for the management of a

portion of a fund’s portfolio.4 In many

cases, these funds also authorize the

adviser to allocate and reallocate fund

assets among subadvisers.

Since they were first introduced in

the early 1990s, manager of managers

funds have grown in popularity. Today

more than 100 fund complexes offer

these types of funds, which hold more

than 400 billion dollars in assets.5 Many

of these funds are sponsored by

insurance companies and operate as

funding vehicles for separate accounts

offering variable annuity and variable

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Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules 61721

6 See Gary O. Cohen, Fitting Variable Annuity

Contracts and Variable Life Insurance into the

Regulatory Framework of the Investment Company

Act of 1940 and Securities Act of 1933, 813 PLI/

Comm 129, 212–13 (2001).

7 15 U.S.C. 80a–15(a).

8 See supra note 5.

9 See Investment Trusts and Investment

Companies: Hearings on S. 3580 Before a

Subcomm. of the Senate Comm. on Banking and

Currency, 76th Cong., 3d Sess. 253 (1940)

(statement of David Schenker).

10 See, e.g., TIFF Investment Program, Inc. and

Foundation Advisers, Inc., Investment Company

Act Release Nos. 21268 (Aug. 3, 1995) [60 FR 40875

(Aug. 10, 1995)] (notice) and 21328 (Aug. 30, 1995)

[60 SEC Docket 316 (Sept. 26, 1995)] (order), in

which the applicant had represented that the

employment of a new subadviser was ‘‘closely

analogous to the decision by a money management

firm to hire another portfolio manager or analyst.’’

See id., Investment Company Act Release No.

21268, at text following n.1. Our disclosure rules

require that a change in portfolio managers be

disclosed to investors through a prospectus

‘‘sticker.’’ See Disclosure of Mutual Fund

Performance and Portfolio Managers, Investment

Company Act Release No. 19382 (Apr. 6, 1993) [58

FR 19050 (Apr. 12, 1993)], at text accompanying

nn.9–11. A fund also must disclose in its

prospectus the identity of the fund’s subadvisers.

See Item 6(a)(1) of Form N–1A.

11 As discussed below, we also are proposing

related amendments to Regulation S–X under the

Act and the Securities Act and to Schedule 14A

under the Securities Exchange Act. We are not,

however, proposing amendments to rule 18f–2 [17

CFR 270.18f–2] even though we have provided

relief, in response to requests, from rule 18f–2 in

a number of our manager of managers exemptive

orders. Rule 18f–2, among other things, describes

how the shareholder voting requirement of section

15(a) applies in the case of a fund with multiple

series or multiple classes. Because the relief we are

proposing today would provide exemptive relief

from the requirements of section 15(a), we believe

that relief from rule 18f–2 is unnecessary.

12 The inability of a fund adviser to hire a

subadviser without obtaining shareholder approval

can inhibit a fund manager from terminating a

poorly performing subadviser and thus managing

the fund in the best interests of shareholders. An

investment adviser has a fiduciary duty to act in the

best interests of a fund it advises. See Rosenfeld v.

Black, 445 F.2d 1337 (2d Cir. 1971); Brown v.

Bullock, 194 F.Supp. 207, 229, 234 (S.D.N.Y.), aff’d,

294 F.2d 415 (2d Cir. 1961). See also In the Matter

of Provident Management Corp., Securities Act

Release No. 5115 (Dec. 1, 1970) at n.12 and

accompanying text.

13 See Investment Trusts and Investment

Companies: Hearings on S. 3580 Before a

Subcomm. of the Senate Comm. on Banking and

Currency, 76th Cong., 3d Sess. 253 (1940)

(statement of David Schenker) (section 15

recognizes that a ‘‘management contract is personal,

that it cannot be assigned, and that you cannot turn

over the management of other people’s money to

someone else’’).

14 Section 15(a) of the Investment Company Act

prohibits a person from serving as an investment

adviser to a fund except under a written contract,

whether with the fund or with an investment

adviser of the fund, that has been approved by the

vote of a majority of the fund’s outstanding voting

securities. Thus, the shareholder voting

requirement applies not only to an advisory

contract between a fund and an adviser, but also to

a subadvisory contract between a fund’s adviser and

a subadviser. See 15 U.S.C. 80a–2(a)(20) (defining

investment adviser). See also Role of Independent

Directors of Investment Companies, Investment

Company Act Release No. 24816 (Jan 2, 2001) [66

FR 3734 (Jan. 16, 2001)] at n.53 (‘‘The Act does not

distinguish an adviser from a sub-adviser.’’) (citing

section 2(a)(20)). Section 15(c) also requires that a

majority of the fund’s independent directors

approve contracts with all investment adisers,

including subadvisers. 15 U.S.C. 80a–15(c).

15 Section 6(c) of the Act [15 U.S.C. 80a–6(c)]

permits the Commission, conditionally or

unconditionally, to exempt any person, security, or

transaction (or classes of persons, securities, or

transactions) from any provision of the Act ‘‘if and

to the extent that such exemption is necessary or

appropriate in the public interest and consistent

with the protection of investors and the purposes

fairly intended by the policy and provisions’’ of the

Act.

16 We use the term ‘‘principal adviser’’ to mean

a party that contracts directly with a fund to

provide investment advisory services to the fund.

See supra note 3.

17 See 15 U.S.C. 80a–15(a). Although the

proposed rule does not exempt a fund’s advisory

contract with a principal adviser from the

shareholder approval requirement of section 15(a),

rule 15a–4 under the Act [17 CFR 270.15a–4] allows

for the possibility that a principal adviser to the

fund is temporarily serving the fund without

shareholder approval of its advisory contract.

18 See 15 U.S.C. 80a–15(c).

life insurance contracts.6 They represent

one of the more recent innovations in

managed asset arrangements.

Many sponsors of manager of

managers funds have sought and

obtained from us orders exempting them

from section 15(a) of the Act,7 which

prohibits any person from serving as an

investment adviser (or a subadviser) to

a fund except under a written contract

that the fund’s shareholders have

approved.8 The orders permit funds and

advisers to enter into and materially

amend subadvisory contracts without

shareholder approval. Many sponsors of

these funds have asserted that without

relief from the shareholder voting

requirement, the costs and delays

associated with obtaining a shareholder

vote would prevent advisers from hiring

and firing subadvisers and from

achieving the funds’ investment

objectives. They also have asserted that

the underlying purpose of section

15(a)—to give shareholders a voice in

the fund’s investment advisory

arrangements 9—would be satisfied

without a shareholder vote on the

subadvisory contracts because the

principal adviser’s contract must still be

approved by fund shareholders.

Moreover, the principal adviser would

act in the shareholders’ interests by

supervising and overseeing the fund’s

subadvisers. Sponsors have analogized

subadvisers in a manager of managers

arrangement to portfolio managers

employed by a fund adviser who may be

hired and fired without the consent of

shareholders.10

The Commission is today proposing a

new rule, 15a–5, and amendments to

Form N–1A, which together would

codify the orders we have issued for

manager of managers funds, including

many of their conditions.11 The

Commission believes that the proposed

rule would benefit shareholders by

allowing funds to terminate poorly

performing subadvisers and hire new

subadvisers without the need for a

shareholder vote.12 These amendments

are designed to limit the scope of the

relief to subadvisers of manager of

managers funds, and to assure that

investors in manager of managers funds

are fully informed of the identity of the

current subadviser(s) managing their

portfolio, and of the fact that

subadvisers could be added or replaced

without shareholder approval.

II. Discussion

Section 15(a) of the Investment

Company Act was designed to protect

the interests and expectations of fund

shareholders by requiring that they

approve advisory contracts,13 including

subadvisory contracts.14 The Congress

that enacted section 15(a) anticipated

subadvisory arrangements, and

concluded that shareholders should

have a role in the selection of

subadvisers. In crafting this rule

proposal (and the exemptive orders that

have preceded it), we have sought to

distinguish subadvisory arrangements in

which the subadvisers have resembled

portfolio managers from the more

traditional subadvisory arrangements

that Congress explicitly covered in the

shareholder voting requirement of

section 15(a). Our proposed rule,

therefore, contains several conditions,

which we discuss below, that limit the

scope of relief to subadvisers of manager

of managers funds and that provide

other means of protecting fund investor

expectations and interests.15

Today we are proposing a rule that

would eliminate the need for funds to

obtain exemptive orders to hire

subadvisers that they supervise. We

have drafted the rule to preserve, to the

extent possible, the important role the

Investment Company Act gives

shareholders in the governance of their

funds while accommodating the special

needs of manager of managers funds.

The other provisions of section 15

would remain applicable. Under those

provisions, the manager of managers

fund’s principal adviser 16 still must

have its contract approved by the fund’s

board and shareholders,17 and the board

must approve the terms of each

subadvisory contract.18 Thus, the rule

would afford shareholders of a manager

of managers fund the opportunity, both

directly through their consideration of

the principal advisory contract and

indirectly through their representatives

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61722 Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules

19 Proposed rule 15a–5(a)(1). It’s a new

subadvisory contract were to increase those fees,

the subadviser entering into the contract would not

qualify for relief under the rule, and the contract

would need to be submitted to shareholders for

their approval. A subadvisory fee could be

increased under the rule, however, as long as the

total amount of the advisory fees paid by the fund

does not exceed the total amount provided by

advisory contracts that shareholders have approved.

For instance, a subadvisory contract would still be

eligible for relief under the proposed rule even

though it increases a fund’s subadvisory fees, if the

increase is deducted from the principal adviser’s

fee. See Republic Funds, Investment Company Act

Release Nos. 24292 (Feb. 16, 2000) [65 FR 10132

(Feb. 25, 2000)] (notice) and 24338 (Mar. 14, 2000)

[71 SEC Docket 2701 (Apr. 11, 2000)] (order)

(granting exemption from sharehold approval for

subadvisory contracts where the fund directly pays

subadvisory fees and deducts the subadvisory fees

from the fee paid to the principal adviser).

20 See 15 U.S.C. 80a–15(a)(1) (requesting any

investment advisory contract to precisely describe

all compensation to be paid thereunder).

21 See, e.g., Endeavor Series Trust, Investment

Company Act Release Nos. 24054 (Sept. 27, 1999)

[64 FR 53428 (Oct. 1, 1999)] (notice) and 24108

(Oct. 22, 1999) [70 SEC Docket 3081 (Nov. 23,

1999)] (order); Frank Russell Investment Company,

Investment Company Act Release Nos. 21108 (June

2, 1995) [60 FR 30321 (June 8, 1995)] (notice) and

21169 (June 28, 1995) [59 SEC Docket 2105 (June

25, 1995)] (order).

22 The individual fee paid to an unaffiliated

subadviser of the principal adviser would not have

to be disclosed, but the individual fee paid to each

wholly-owned subadviser (defined below in Section

II.A.3) would have to be disclosed. Under our

proposal, a fund would disclose in its statement of

Additional Information on Form N–1A, in lieu of

the individual fee paid to each subadviser, (i) the

individual fees paid to the principal adviser and to

each subadviser that is an affiliated person of the

principal adviser (including a wholly-owned

subadviser whose contract has not been approved

by shareholders on reliance on the proposed rule),

(ii) the net advisory fee retained by the principal

adviser after payment of fees to all subadvisers, and

(iii) the aggregate fees paid to all of the fund’s

subadvisers that are not affiliated persons of the

principal adviser. Proposed Instruction 5 to Item

15(a)(3) of Form N–1A. We also are proposing

conforming amendments to rule 6–07 of Regulation

S–X and the Instructions to Item 22(c) of Schedule

14A.

Under the conditions of the manager of managers

orders allowing a fund to disclose the aggregate fees

paid to all of the fund’s unaffiliated subadvisers, the

principal adviser is required to provide the board,

no less frequently than quarterly, with information

about its profitability for each fund that is relying

on the order. In addition, the principal adviser is

required to provide the board with information

showing the expected impact on the principal

adviser’s profitablity whenever a subadviser is

hired or terminated. We have not included these

conditions in the proposed rule. However,

information must still be provided to the board

pursuant to section 15(c) of the Act, which requires

fund directors to request and evaluate, and an

investment adviser to the fund to furnish, any

information that may be necessary to evaluate the

terms of any investment advisory contract with the

fund.

23 Section 15(c) of the Act requires fund directors

to request and evaluate, and an investment adviser

to the fund to furnish, any information that may be

necessary to evaluate the terms of any investment

advisory contract with the fund. Therefore, the

board must request, and the principal adviser must

provide, information regarding the fees paid to the

principal adviser’s subadvisers in order for the

board to evaluate properly the terms of the

principal adviser’s contract with the fund.

24 Section 36(b) of the Act [15 U.S.C. 80a–35(b)]

imposes a fiduciary duty on an investment adviser

with respect to its receipt of compensation from the

fund for services, and allows an action to be

brought by the Commission or a shareholder for a

breach of this duty. See Daily Income Fund, Inc. v.

Fox, 464 U.S. 523, 541–42 (1984) (discussing fund

shareholders’ right to initiate legal proceedings

against the fund’s adviser for breach of the adviser’s

fiduciary duty with regard to its receipt of

compensation under section 36(b) of the Act,

without first making a demand on the board to

initiate such action).

25 17 CFR 239.17b–c, 274.11c–d.

26 See, e.g., Pitcairn Funds and Pitcairn Trust

Company, Investment Company Act Release Nos.

25106 (Aug. 9, 2001) [66 FR 42901 (Aug. 15, 2001)]

(notice) and 25150 (Sept. 5, 2001) [75 SEC Docket

2214 (Oct. 2, 2001)] (order); Frank Russell

Investment Company, Investment Company Act

Release Nos. 21108 (June 2, 1995) [60 FR 30321

(June 8, 1995)] (notice) and 21169 (June 28, 1995)

[59 SEC Docket 2105 (July 25, 1995)] (order). A

typical subadvisory agreement stipulates that the

subadviser, in carrying out its investment

management duties under the agreement, is subject

to the supervision and/or oversight of the board of

directors and the principal adviser.

27 Proposed rule 15a–5(a)(4). See Western Asset

Management Co. and Legg Mason Fund Adviser,

Inc., Investment Advisers Act Release No. 1980

(Sept. 28, 2001) (the Commission found that the

principal adviser failed to adequately supervise an

employee of its affiliated subadviser). Although the

manager of managers orders do not require the

principal advisory contract to contain a provision

requiring the principal adviser to supervise all of

the subadvisers it retains to provide services to the

fund, the orders do require the principal adviser to

supervise its subadvisers. See, e.g., Hillview

on the board of directors, to influence

the terms of the advisory contracts

under which their fund is managed.

A. Conditions of the Proposed Rule

1. Terms of the Subadvisory Contracts;

Subadvisory Fees

The proposed amendments would

largely rely on the principal adviser,

negotiating with each subadviser on an

arm’s length basis and subject to the

approval of the fund’s board, to

determine the terms of the subadvisory

contract, including the amount of the

subadviser’s fee. As a condition to the

rule, however, we would preclude a

new or modified subadvisory contract

from directly or indirectly increasing

the management fees charged to the

fund or its shareholders.19 As a result,

the rule would preserve the statutory

requirement that increases in the rate of

advisory fees paid by the fund be

approved by shareholders.20

In most cases, subadvisers are

compensated by the fund’s principal

adviser, which negotiates the amount of

the subadvisers’ compensation.

Consequently, a principal adviser is free

to bargain for lower subadvisory fees,

which will benefit the fund to the extent

that lower subadvisory fees are passed

on through lower advisory fees.

Sponsors of manager of managers funds

have represented that they are able to

negotiate lower fees with subadvisers if

they do not have to disclose those fees

separately, and in our orders we have

provided them relief from our

disclosure requirements.21 We are

proposing to codify this relief, which

permits a manager of managers fund to

disclose only the aggregate amount of

advisory fees that it pays to subadvisers

as a group.22

We recognize that permitting

aggregate disclosure of subadvisory fees

will not permit investors to understand

the benefits obtained by a principal

adviser that negotiates lower

subadvisory fees. We note, however,

that the Act compels a fund board to

take into consideration subadvisory fees

when establishing the amount of the

principal adviser’s compensation,23 and

imposes significant liabilities on the

principal adviser itself with respect to

that compensation.24 The board is in the

best position to assess the overall

compensation of the principal adviser

when, for example, some subadvisory

fees have increased and some have

decreased. Moreover, the reduction of

an individual subadvisory fee would be

reflected in lower aggregate fees that

would be disclosed under the proposed

amendments.

We request comment on the proposal.

Should the Commission permit

fund directors to enter into subadvisory

contracts that increase advisory fees

without the consent of shareholders?

Should the Commission limit relief

to subadvisory contracts that do not

increase the portion of the advisory fee

retained by the principal adviser in

order to assure that subadvisers are

selected based on ability and

performance?

Do shareholders need information

about the amount of compensation paid

to each subadviser?

We also request comment on

whether any amendments are required

to the fee table items of Forms N–4 and

N–6, the registration forms used by

insurance company separate accounts

registered under the Act as unit

investment trusts.25

2. Obligation To Supervise

An important aspect of any manager

of managers arrangement is the

responsibility assumed by the principal

adviser to supervise, i.e., monitor and

oversee, the subadvisers in the

performance of their duties for the

fund.26 We propose to require that any

principal advisory contract under the

rule obligate the principal adviser to

supervise the subadviser.27 In addition,

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Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules 61723

Investment Trust II and Hillview Capital Advisors,

LLC, Investment Company Act Release Nos. 24853

(Feb. 6, 2001) [66 FR 10037 (Feb. 13, 2001)] (notice)

and 25055 (June 29, 2001) [66 FR 35676 (July 6,

2001)] (order); Frank Russell Investment Company,

Investment Company Act Release Nos. 21108 (June

2, 1995) [60 FR 30321 (June 8, 1995)] (notice) and

21169 (June 28, 1995) [59 SEC Docket 2105 (July 25,

1995)] (order).

28 Proposed rule 15a–5(b)(4). The manager of

managers exemptive orders typically do not require

that the principal adviser be able to terminate a

subadvisory contract. Most subadvisory contracts

for manager of managers funds operating under an

exemptive order, however, are terminable by the

principal adviser. This termination provision often

is found in the same section of the contract that

provides, as required by section 15(a)(3) of the Act

[15 U.S.C. 80a–15(a)(3)], that the advisory contract

is terminable by the fund’s board or shareholders.

29 Proposed rule 15a–5(a)(2)(i).

30 Proposed rule 15a–5(a)(2)(i).

31 See, e.g., Pitcairn Funds and Pitcairn Trust

Company, Investment Company Act Release Nos.

25106 (Aug. 9, 2001) [66 FR 42901 (Aug. 15, 2001)]

(notice) and 25150 (Sept. 5, 2001) [75 SEC Docket

2214 (Oct. 2, 2001)] (order); Frank Russell

Investment Company, Investment Company Act

Release Nos. 21108 (June 2, 1995) [60 FR 30321

(June 8, 1995)] (notice) and 21169 (June 28, 1995)

[59 SEC Docket 2105 (July 25, 1995)] (order).

32 See PIMCO Funds: Multi-Manager Series and

PIMCO Advisors L.P., Investment Company Act

Release Nos. 24558 (July 17, 2000) [65 FR 45632

(July 24, 2000)] (notice) and 24597 (Aug. 14, 2000)

[73 SEC Docket 176 (Sept. 12, 2000)] (order)

(‘‘PIMCO’’). A ‘‘wholly-owned subsidiary’’ is

defined in section 2(a)(43) of the Act [15 U.S.C.

80a–2(a)(43)].

33 See PIMCO, supra note. That order contains all

of the other conditions contained in a typical

manager of managers order, including the condition

that prohibits a new subadvisory contract from

increasing the management fees. The principal

adviser would be unlikely to have a direct

economic incentive to replace one wholly-owned

subadviser with another, because its overall

compensation would not increase by virtue of its

ownership interest in both entities.

34 Replacing one wholly-owned subadviser with

another is no different than the principal adviser

terminating a wholly-owned subadviser and

directly managing the assets of the fund formerly

managed by the wholly-owned subadviser. In either

situation, the principal adviser’s advisory fee (and

the portion of the fee that it retains after paying all

unaffiliated subadvisers) remains the same.

35 Proposed rule 15a–5(a)(2)(ii).

36 Proposed rule 15a–5(a)(2)(ii). The first whollyowned

subadviser hired by the fund would not

qualify for relief under the proposed rule, and its

subadvisory contract would have to be approved by

shareholders. A wholly-owned subadviser that

replaces the original wholly-owned subadviser (and

any wholly-owned subadvisers thereafter that

replace other wholly-owned subadvisers) would

then be eligible for exemptive relief under the

proposed rule.

37 Section 15 of the Act requires that a majority

of the board’s independent directors approve the

fund’s advisory contracts (including subadvisory

contracts), and that the board (or shareholders)

annually approve any advisory contract that

continues more than two years. 15 U.S.C. 80–15(a),

15(c). The directors also must request and evaluate

information reasonably necessary for them to

evaluate the terms of an advisory contract. 15 U.S.C.

80a–15(c). The board in carrying out its obligations

under the Act should consider any material

business arrangements between the adviser or

principal underwriter and the subadviser, including

the involvement of the subadviser in the

distribution of the fund’s shares. The board when

approving a wholly-owned subadviser’s contract

also should consider the effect that the affiliation

between the principal adviser and wholly-owned

subadviser had on the decision of the principal

adviser to replace a wholly-owned subadviser with

another wholly-owned subadviser (as opposed to

replacing with an unaffiliated subadviser).

because the principal adviser must be

able to discharge a subadviser in order

to effectively supervise the subadviser,

our proposed rule includes a condition

requiring that the subadvisory contracts

be terminable at any time by the

principal adviser, on no more than 60

days written notice, without payment of

penalty.28

3. Arm’s Length Relationship Between

Principal Adviser and Subadvisers

We are proposing two related

conditions designed to limit the rule to

arrangements in which the principal

adviser is in a position to hire and

supervise (and, if necessary, discharge)

subadvisers on the basis of the

subadviser’s performance, rather than

on the basis of other business

relationships the principal adviser may

have with the subadviser. First, we

would preclude subadvisers relying on

the rule from being affiliated persons of

the principal adviser with which they

contract or of the fund (other than by

reason of serving as investment advisers

to the fund) (‘‘affiliated subadviser’’).29

Second, we would preclude any director

or officer of the fund and the principal

adviser or any director or officer of the

principal adviser with which the

subadviser has contracted from owning,

directly or indirectly, any material

interest in the subadviser other than

through a pooled investment vehicle

that is not controlled by such person or

entity.30 A principal adviser may not be

in a position to discharge, for example,

a parent corporation or a sister

corporation, or a person that controls

the principal adviser. It may have

substantial economic incentives to hire

and refrain from discharging a

subsidiary or other types of affiliated

persons. These conditions have been a

key element of our exemptive orders in

order to protect against the conflict of

interest and potential for self-dealing

that are inherent when a principal

adviser hires an affiliated subadviser.31

The Commission, however, has issued

an order expanding the traditional relief

to allow wholly-owned subsidiaries of

the principal adviser to replace other

wholly-owned subsidiaries of the

principal adviser as subadvisers

(‘‘wholly-owned subadvisers’’) to the

manager of managers fund and to allow

the principal adviser to materially

amend a wholly-owned subsidiary’s

subadvisory contract without

shareholder approval.32 The applicants

asserted that no impermissible conflict

of interest would be present when

replacing one wholly-owned subadviser

with another wholly-owned

subadviser.33

In light of the absence of an economic

incentive for the principal adviser to

replace one wholly-owned subadviser

with another (other than to increase the

fund’s return on its investments),34 we

are including wholly-owned

subadvisers within the scope of the

proposed rule.35 We are, however,

limiting relief to allow the principal

adviser to replace only a wholly-owned

subadviser with another wholly-owned

subadviser and to allow the principal

adviser to materially amend a whollyowned

subsidiary’s subadvisory

contract without shareholder

approval.36 The rule would not permit

a principal adviser to replace any other

type of subadviser with a wholly-owned

subadviser, because the principal

adviser would have an economic

incentive in such a situation by virtue

of its total (or near total) ownership

interest in the wholly-owned

subadviser, as compared to no

ownership or a smaller ownership

interest in the subadviser being

replaced.

We request comment on whether

the scope of the proposed rule should be

expanded to include wholly-owned

subadvisers replacing other affiliated

subadvisers.

Should the scope of the rule be

expanded to include other affiliated

subadvisers? Should all subadvisory

contracts be exempt from the Act’s

shareholder voting requirement? If so,

should the Commission expand the

proposed rule to include all

subadvisers?

4. Board Oversight

Under the Investment Company Act,

a fund’s board plays an important role

in the selection and oversight of the

fund’s subadvisers.37 Because the rule

would permit a fund board to approve

subadvisory contracts without the

shareholder vote that the statute

otherwise requires, we propose to

require that the fund adopt certain

governance practices that strengthen the

role of the independent directors. As

part of our initiative to improve fund

governance practices, in 2001 we made

similar amendments to a number of our

exemptive rules, including rule 15a–4,

which permits boards of directors to

approve interim advisory contracts

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61724 Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules

38 See Role of Independent Directors of

Investment Companies, Investment Company Act

Release No. 24816 (Jan. 2, 2001) [66 FR 3734 (Jan.

16, 2001)].

39 Proposed rule 15a–5(a)(7). See 17 CFR 270.0–

1(a)(6)(i) (defining ‘‘independent legal counsel’’).

The manager of managers exemptive orders have

typically included these board composition and

nomination requirements. The manager of managers

orders that also include relief from our disclosure

rules require independent directors to retain

independent counsel. Consistent with the

amendments to exemptive rules in 2001, the

proposed rule would require that the independent

directors have independent counsel only if they

choose to retain counsel. See Role of Independent

Directors of Investment Companies, Investment

Company Act Release No. 24816 (Jan. 2, 2001) [66

FR 3734 (Jan. 16, 2001)].

40 Proposed rule 15a–5(a)(3). If the fund has not

publicly offered securities or sold securities to nonaffiliates

or promoters (or their affiliates), the rule

would require that the board of directors approve

the fund’s operation as a manager of managers fund

by authorizing the adviser to enter into subadvisory

contracts without shareholder approval. Id. This

condition also has been included as a condition to

our orders.

41 Proposed Instruction 3 to Item 4(b)(1) and

proposed amendments to Item 6(a)(1)(i) of Form N–

1A. The amendments to Form N–1A also would

require the fund to disclose in its prospectus, in the

discussion of principal investment strategies, the

fund’s use of (or reservation of its right to use)

subadvisers that may be changed at any time.

Proposed Instruction 3 to Item 4(b)(1). A fund also

would have to disclose in its summary of principal

investment strategies, required by Item 2(b) of Form

N–1A, that the fund uses (or reserves the right to

use) the services of one or more subadvisers

without shareholder approval. See Item 2(b) of

Form N–1A (Item 2(b) of the prospectus must

identify, based on the information given in response

to Item 4(b), the fund’s principal investment

strategies).

42 Proposed rule 15a–5(a)(5). The information

would have to be provided to shareholders within

90 days of entering into a subadvisory contract or

materially amending a wholly-owned subadviser’s

contract.

43 17 CFR 239.17a, 274.11b.

44 See, e.g., Frank Russell Investment Company,

Investment Company Act Release Nos. 21108 (June

2, 1995) [60 FR 30321 (June 8, 1995)] (notice) and

21169 (June 28, 1995) [59 SEC Docket 2105 (July 25,

1995)] (order).

45 See, e.g., Managed Accounts Services Portfolio

Trust and Mitchell Hutchins Asset Management,

Inc., Investment Company Act Release Nos. 21590

(Dec. 11, 1995) [60 FR 64461 (Dec. 15, 1995)]

(notice) and 21666 (Jan. 11, 1996) [61 SEC Docket

142 (Feb. 6, 1996)] (order) (order granted to fund

in which each series of the fund was advised

initially by a single subadviser).

46 For example, the compensation received by

subadvisers to single subadviser funds is fully

disclosed to investors. See supra Section II.A.1.

47 Absent the impediment of operating without a

subadviser, it is more likely that poorly performing

subadvisers would be terminated.

48 For example, between August 1999 and

October 2000, 6 of 27 American Skandia portfolios

that employed only one subadviser replaced the

subadviser. Between October 1999 and September

2000, 3 of 11 Paine Webber PACE Select Advisors

Trust portfolios that employed only one subadviser

(as of October 1999) replaced the subadviser.

49 Some have argued that the conditions of the

Commission’s exemptive orders were designed for

funds in which a principal adviser selects and

supervises multiple subadvisers, and that the costs

and delays associated with a shareholder vote for

a fund with one subadviser do not warrant

without a shareholder vote.38 Thus,

manager of managers funds relying on

the rule would be required to have a

board of directors whose independent

directors (i) constitute a majority of

directors, (ii) are selected and

nominated by independent directors,

and (iii) if represented by legal counsel,

are represented by ‘‘independent legal

counsel.’’ 39

5. Expectation of Investors

We also are proposing four

requirements designed to assure that

investors understand that they are

investing in a manager of managers

fund, and to require that they receive

information about who the subadvisers

are and that the subadvisers could be

changed at any time without

shareholder approval. First, the rule

would require that, except in the case of

a newly offered fund, shareholders

approve the fund’s operation as a

manager of managers fund, by

authorizing the adviser (with the

approval of the fund’s board of

directors) to enter into subadvisory

contracts without shareholder

approval.40 Second, we would amend

Form N–1A to require that the fund

disclose in its prospectus the principal

adviser’s ability, subject to the approval

of the fund’s board of directors, to retain

and discharge subadvisers without

shareholder approval.41

Third, proposed rule 15a–5 would

prohibit a fund from having a name that

contains the subadviser’s name unless

the name of the principal adviser

precedes the subadviser’s name. This

limitation is designed to prevent

confusion about the relative roles of the

adviser and subadviser. A fund name

that includes the name of a subadviser

might serve to invite investors to invest

in the fund to obtain the advisory

services of the subadviser rather than

the adviser, which is arguably

inconsistent with the basis upon which

we have granted relief from the

shareholder voting requirement for

manager of managers funds. Use of such

a name also suggests that the principal

adviser is unlikely to be in a position to

terminate the advisory contract without

upsetting the investors who have

invested for the purpose of seeking the

advisory services of the subadviser. On

the other hand, use of a subadviser’s

name may merely identify one

investment option among many in a

series fund.

Fourth, we are proposing to require

that when the principal adviser enters

into a subadvisory contract or makes a

material change to a wholly-owned

subadviser’s contract, the fund furnish

shareholders with (and file with the

Commission) an information statement

that describes the subadvisory

agreement, and contains other

information that would have been

provided in a proxy statement had a

vote been held.42 This condition has

been included in our exemptive orders.

We request comment on whether

the proposed requirements are adequate

to assure that investors understand they

are investing in a manager of managers

fund. If they are not adequate, what

additional requirements should be

included? Should the rule simply

prohibit the use of the subadviser’s

name in a manager of managers fund to

assure that investors are investing in a

fund based on the principal adviser’s

reputation for selecting and supervising

subadvisers?

We are considering whether to

adopt substantially similar amendments

to Form N–3, the registration form for

insurance company ‘‘managed separate

accounts.’’ 43 Should we amend Form

N–3, and if so should the amendments

differ from the proposed Form N–1A

amendments?

6. Number of Subadvisers

Many manager of managers funds

employ multiple subadvisers. Our

exemptive orders, however, do not

require the retention of a minimum

number of subadvisers,44 and some

funds operating under our orders use

only one subadviser for the fund, or for

each series of the fund.45

The conditions contained in our

exemptive orders provide the same

protections for funds with single

subadvisers and those with multiple

subadvisers.46 In each case, the

conditions limit relief to funds in which

the subadviser is analogous to a

portfolio manager and in which

shareholders were informed of the

principal adviser’s ability to retain new

subadvisers without shareholder

approval. Moreover, the principal

adviser’s ability to hire and fire

subadvisers without shareholder

approval benefits shareholders by

allowing funds to terminate poorly

performing subadvisers, while avoiding

having to operate for a significant period

of time without a subadviser providing

investment management services.47

Also, subadviser changes are not

infrequent for funds advised by single

subadvisers.48 Therefore, the

Commission has issued orders to funds

with a single subadviser, and our

proposed rule would not require that

each fund or portfolio engage a certain

minimum number of subadvisers.49

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Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules 61725

exemptive relief. See Hillview Investment Trust II

and Hillview Capital Advisors, LLC, Investment

Company Act Release No. 25055 (June 29, 2001) [66

FR 35676 (July 6, 2001)].

50 It is not unusual for the conditions in our

orders to evolve as we and our staff gain experience

with the operation of a type of a fund under an

exemptive order.

51 The rescission of the orders would not affect

existing subadvisory contracts entered into under

an order prior to the adoption of the proposed rule.

However, new or renewed subadvisory contracts

entered into after adoption of the proposed rule

would have to comply with the proposed rule’s

requirements.

52 Our staff estimates that approximately 2,798

portfolios (comprising portions of 631 open-end

funds) have at least one subadviser and as such

could benefit from the proposed rule and

amendments. The staff’s estimates are based on an

examination of the information reported on Form

N–SAR from July through December 2002.

53 Based on discussions with fund

representatives, the Commission estimates that

obtaining an exemptive order for a manager of

managers fund costs approximately $35,000.

54 Our staff estimates, based upon orders issued

in the past, that the exemptive application process

(from initial filing to issuance of order) takes about

eight months. During that time, Commission staff

review and comment on applications, applicants

submit responses to comments, the completed

application is summarized in a notice to the public,

and public comments are received and evaluated.

55 See, e.g., Pitcairn Funds and Pitcairn Trust

Company, Investment Company Act Release Nos.

25106 (Aug. 9, 2001) [66 FR 42901 (Aug. 15, 2001)]

(notice) and 25150 (Sept. 5, 2001) [75 SEC Docket

2214 (Oct. 2, 2001)] (order).

56 Because the proposed rule is an exemptive rule,

funds can choose whether or not to rely on it. Only

those funds that choose to rely on the proposed rule

would incur costs in complying with the rule.

57 See supra Section II.A.2.

58 Under our proposal, contracts between the

principal adviser and subadvisers also would be

required to authorize the principal adviser to

terminate the subadvisory contract at any time

without penalty. However, most if not all

subadvisory contracts already contain such a

provision, and therefore this condition would not

impose a new cost on funds.

59 For purposes of the Paperwork Reduction Act,

the Commission staff has estimated that it would

take a total of 5 hours and $1,287.77 per fund to

comply with the condition of proposed rule 15a–

5 related to the supervision of subadvisers. During

the first year after adoption of the rule, it is

estimated that all funds that currently rely on

exemptive orders (plus existing funds that would

choose to rely on the proposed rule during the first

year) would spend a total of 600 hours and

$154,719 to comply with the supervision

requirement. After the first year, the staff estimates

that ten funds per year, whose securities have

already been publicly offered, would seek to rely on

the proposed rule and therefore would need to

modify their advisory contracts with principal

advisers. The Commission staff estimates that, after

the first year, those ten funds together would

annually spend 50 hours and $12,877 to comply

with the supervision requirement.

We request comment on whether the

circumstances involving single

subadvisers are sufficiently similar to

those involving multiple subadvisers,

to justify similar treatment under the

proposed amendments.

Should the proposed rule include as

a condition that the principal adviser

engage multiple subadvisers for each

fund, or each series of the fund?

Should any of the conditions in the

rule be modified in the case of single

subadviser funds?

B. Rescission of Previously Issued

Exemptive Orders

As discussed above, we have issued

over 100 orders permitting manager of

managers funds to operate without the

need for shareholder approval of new

subadvisory contracts. Our rule

proposal today is designed largely to

codify the relief we have provided by

order. However, the conditions in some

of the orders vary slightly from others.50

We are concerned that, if we permit the

continued operation of funds under the

orders we have issued in the past, funds

will be operating under different sets of

conditions, which might have an

adverse effect on competition.51 We

therefore anticipate rescinding those

orders upon adoption of the proposed

rule.

We request comment on the possible

effects caused by the rescission of the

orders. If the Commission does not

rescind the orders, how would

competition be affected?

III. General Request for Comment

The Commission requests comment

on the proposed rule, rule amendments,

and form amendments proposed in this

Release. The Commission also requests

suggestions for additional changes to

existing rules or forms, and comments

on other matters that might have an

effect on the proposals contained in this

Release. Commenters are requested to

provide empirical data to support their

views.

IV. Cost-Benefit Analysis

The Commission is sensitive to the

costs and benefits imposed by its rules.

As discussed above, proposed rule 15a–

5 and the proposed amendments to

Form N–1A would essentially codify

existing exemptive orders that allow

manager of managers funds and their

principal advisers to enter into

subadvisory contracts without

shareholder approval. Therefore this

analysis examines the costs and benefits

to funds, advisers, and investors that

would result from reliance on the

exemptive relief under the proposed

amendments, in comparison to the costs

and benefits associated with obtaining

an exemptive order from the

Commission.

A. Benefits

We anticipate that funds, their

advisers, and their shareholders would

benefit from the proposed rule and

amendments.52 Funds and advisers that

rely on the rule would be able to enter

into subadvisory contracts without

obtaining exemptive relief from the

Act’s shareholder approval requirement,

which relief can be costly to funds and

their shareholders.53 Obtaining an

exemptive order also can entail delays

for the fund that applies for relief,

although these applications for relief are

typically processed expeditiously.54

Some of the conditions included in

the proposed rule and amendments

differ from the conditions or

representations typically included in a

manager of managers exemptive order.

We anticipate that these differences will

not yield significant costs or benefits.

For example, an exemptive order for a

fund that intends to provide only

aggregate fee disclosure concerning

subadvisers typically requires that the

fund’s independent directors retain

independent legal counsel.55 The

proposed rule would not require

independent directors to retain legal

counsel.

B. Costs

Funds that choose to rely on the

proposed amendments, as well as their

advisers, would incur certain costs in

complying with the rules.56 As

discussed above, proposed rule 15a–5

includes a condition requiring the

contract between a manager of managers

fund and its principal adviser to provide

that the adviser will supervise and

monitor the performance of its

subadvisers.57 If the Commission

rescinds the previous exemptive orders

granted for manager of managers funds,

a fund that already has an exemptive

order would need to modify its advisory

contract to include that provision.

Similarly, if an existing fund were to

choose to operate as a manager of

managers fund under the proposed

amendments, it would need to modify

its advisory contract.58

The modification of advisory

contracts in response to the proposed

rule would impose one-time costs. The

Commission anticipates providing a

sufficiently long compliance period for

the proposed amendments, so that the

contract modifications could be made

when the fund’s board next approves a

new advisory contract. Therefore we

believe the costs involved in making the

modifications would be minor.59

There are no new costs associated

with any of the remaining conditions of

the proposed rule and amendments.

First, the proposed rule would require

that the fund provide shareholders,

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60 Proposed rule 15a–5(a)(5).

61 Proposed rule 15a–5(a)(3).

62 Proposed rule 15a–5(a)(7)(i).

63 Proposed rule 15a–5(a)(7)(ii).

64 The manager of managers orders that also

include relief from our disclosure rules require

independent directors to retain independent

counsel. The proposed rule would require that the

independent directors have independent counsel

only if they choose to retain counsel. Moreover, the

amendments we made to a number of exemptive

rules in January 2001, see supra notes 38–39 and

accompanying text, make it likely that most funds

that would use the exemptive relief provided by the

proposed rule would already have independent

counsel or would not retain legal counsel.

65 Section 15(a)(3) of the Act [15 U.S.C. 80a–

15(a)(3)] provides that any advisory contract must

be terminable at any time by vote of a majority of

the outstanding voting securities of the fund.

66 The proposed rule would require the principal

adviser’s contract with the fund to include a

provision requiring the principal adviser to

supervise its subadvisers. See proposed rule 15a–

5(a)(4).

67 Pub. L. No. 104–121, Title II, 110 Stat. 857

(1996).

68 15 U.S.C. 80a–2(c), 15 U.S.C. 77b(b), and 15

U.S.C. 78c(f). Section 23(a)(2) of the Exchange Act

also requires the Commission, in adopting rules

under the Exchange Act, to consider the

anticompetitive effects of any rule it adopts. 15

U.S.C. 78w(a)(2).

69 The proposed amendments permitting a fund

to disclose only the aggregate fees paid to all of the

fund’s unaffiliated subadvisers also could enhance

efficiency by allowing funds to negotiate fees lower

than the subadviser’s usual fee. See supra Section

II.A.1.

70 Similarly, the Commission does not expect the

adoption of the proposed rule and amendments to

have any anticompetitive effects. See supra note 68. 71 44 U.S.C. 3501.

within 90 days of the entry into a

subadvisory contract or a material

change to a wholly-owned subadviser’s

contract, with an information statement

that contains the information that would

have been provided to shareholders in

a proxy statement if a shareholder vote

had been held.60 Second, the proposed

rule would require funds to obtain

shareholder authorization for a

principal adviser to enter into

subadvisory contracts without

shareholder approval.61 Third, the

proposed rule would require that

disinterested directors comprise a

majority of the fund board, and that the

disinterested directors select and

nominate any other disinterested

directors.62 Fourth, the proposed rule

would require independent directors, if

they hire legal counsel, to hire an

independent legal counsel.63 All of

these conditions (or their substantial

equivalent) are typically included in

manager of managers exemptive orders,

and therefore would not result in any

new costs to funds, their advisers, or

investors.64

Although the proposed rule would

alter the relationship between the

principal adviser and shareholders (by

allowing the principal adviser to hire

and terminate subadvisers without

shareholder approval) and the principal

adviser and its subadvisers, the effects

of such alterations would be minimal

because shareholders have the right to

terminate subadvisers 65 and principal

advisers have a contractual duty to

supervise their subadvisers.66

C. Request for Comment

The Commission requests comment

on the potential costs and benefits of the

proposed rule and amendments and any

suggested alternatives to the proposals.

We encourage commenters to identify,

discuss, analyze, and supply relevant

data regarding any additional costs and

benefits. For purposes of the Small

Business Regulatory Enforcement Act of

1996,67 the Commission also requests

information regarding the potential

impact of the proposals on the U.S.

economy on an annual basis.

Commenters are requested to provide

data to support their views.

V. Consideration of Promotion of

Efficiency, Competition, and Capital

Formation

Section 2(c) of the Investment

Company Act, section 2(b) of the

Securities Act, and section 3(f) of the

Exchange Act require the Commission,

when engaging in rulemaking that

requires it to consider or determine

whether an action is necessary or

appropriate in the public interest, to

consider whether the action will

promote efficiency, competition, and

capital formation.68 The Commission

anticipates that the proposed

amendments would not adversely affect

efficiency, competition, or capital

formation.

The proposed amendments are

intended to allow funds to enter into

subadvisory contracts without

shareholder approval, which would

eliminate the need for funds to hold a

shareholder meeting or obtain specific

exemptive relief, either of which can be

costly and time consuming. We

anticipate that the proposed

amendments would enhance efficiency

by significantly reducing the time

period needed for selecting subadvisers,

while also reducing the fund’s costs

associated with the hiring of a new

subadviser.69 Adoption of the proposed

rule and rescission of the exemptive

orders would subject all funds and

advisers to the same conditions, and

enable them to compete under more

uniform conditions. The Commission

does not expect the proposed

amendments to have a material effect on

competition or capital formation.70

The Commission requests comments

on whether the proposed rule and

proposed form and rule amendments, if

adopted, would promote efficiency,

competition, and capital formation.

Comments will be considered by the

Commission in satisfying its

responsibilities under section 2(c) of the

Investment Company Act, section 2(b)

of the Securities Act, and sections 3(f)

and 23(a)(2) of the Exchange Act.

VI. Paperwork Reduction Act

Certain provisions of proposed rule

15a–5 and certain provisions of the

proposed amendments to Form N–1A

would result in new ‘‘collection of

information’’ requirements within the

meaning of the Paperwork Reduction

Act of 1995.71 The Commission is

submitting these proposals to the Office

of Management and Budget (‘‘OMB’’) for

review in accordance with 44 U.S.C.

3507(d) and 5 CFR 1320.11. The title for

the collection of information associated

with the proposed rule is ‘‘Rule 15a–5

under the Investment Company Act of

1940, ‘Exemption from shareholder

approval for certain subadvisory

contracts.’ ’’ The title for the collection

of information associated with the

proposed amendments is ‘‘Form N–1A

under the Investment Company Act of

1940 and Securities Act of 1933,

‘Registration Statement of Open-End

Management Investment Companies.’ ’’

An agency may not conduct or sponsor,

and a person is not required to respond

to, a collection of information unless it

displays a currently valid control

number. The approved collection of

information associated with Form N–

1A, which would be revised by the

proposed amendments, displays control

number 3235–0307.

Proposed rule 15a–5 and the proposed

amendments to Form N–1A would

permit manager of managers funds to

operate without obtaining shareholder

approval when the fund’s principal

adviser hires a new subadviser or

replaces an existing subadviser subject

to certain conditions. The rule and

amendments would largely codify

numerous exemptive orders issued by

the Commission. We believe that the

information collection requirements of

the proposed rule and amendments

ensure that only manager of managers

funds are eligible for relief, that

shareholders are provided with

information on the identity of the fund’s

subadvisers, and that shareholders are

aware of a fund’s and a principal

adviser’s ability to hire and fire

subadvisers without shareholder

approval. The provision of information

in accordance with the proposed rule

and amendments would be voluntary,

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72 Proposed rule 15a–5(a)(4).

73 Proposed rule 15a–5(b)(4). Most subadvisory

contracts already contain terms that allow the

principal adviser to terminate the contract at any

time. We therefore estimate that there would be no

costs imposed on funds by this requirement.

74 These estimates are based on discussions with

fund representatives.

75 The Commission staff estimates that 120 funds

would have to modify their advisory contracts with

their principal advisers to comply with the

proposed rule. These 120 funds include 101 funds

that currently rely on exemptive orders, 9 funds

that have filed an application for an exemptive

order and, as explained infra note 76, 10 additional

funds that would choose to rely on the proposed

rule during the first year. The total number of

burden hours for the first year is 120 funds 5

hours = 600 hours.

76 Based on the number of manager of managers

applications submitted since 1995, the staff

estimates that 20 additional funds per year would

seek to rely on the proposed rule. Approximately

10 of those funds would be funds whose securities

have already been publicly offered, and therefore

would need to modify their advisory contracts with

principal advisers.

77 Proposed rule 15a–5(a)(5).

78 Commission staff estimates that 130 funds

(including 101 funds that currently rely on

exemptive orders, 9 funds that have filed an

application for an exemptive order, and 20

additional funds that would have filed for

exemptive relief during the first year after the rule’s

adoption) would rely on the proposed rule during

the first year after its adoption. After the first year,

the staff estimates that each year 20 additional

funds would rely on the proposed rule.

79 Based on discussions with fund

representatives, the Commission estimates that on

average each fund would hire two new subadvisers

per year. Therefore, funds would be required to

send to shareholders two information statements

per year. Based on discussions with fund

representatives, the Commission estimates that each

fund would spend 10 hours to prepare and mail

each information statement.

80 Proposed Instruction 3 to Item 4(b)(1) of Form

N–1A would require a fund to disclose if it is

authorized to use the services of subadvisers

without shareholder approval. Proposed Item

6(a)(1)(i) of Form N–1A would require a fund in its

identification and description of its investment

advisers to explain for each subadviser that serves

the fund without shareholder approval that such

adviser may be replaced, and additional

subadvisers may be retained, without shareholder

approval.

81 Proposed Instruction 5 to Item 15(a)(3) of Form

N–1A would allow funds to disclose the aggregate

fees paid to all unaffiliated subadvisers of the

principal adviser in lieu of the individual fee paid

to each such subadviser.

82 The first year burden of 3,600 hours (600 hours

to modify existing contracts + 3,000 hours to

comply with the reporting requirement) is weighted

(1 year / 3 years = 33 percent) as 1,188 hours. The

burden after the first year of 3,050 hours (50 hours

to modify contracts + 3,000 hours to comply with

the reporting requirement) is weighted (2 years / 3

years = 67 percent) as 2,044 hours. The total

weighted information collection burden hours for

the proposed amendments are 1,188 + 2,044 = 3,232

hours.

because rule 15a–5 is an exemptive rule

and, therefore, funds may choose

whether to rely on it. Because the

information provided to the

Commission on Form N–1A is available

to the public, this analysis does not

address the confidentiality of responses

under the proposed rule.

The proposed rule would require that

a fund’s contract with each principal

adviser that retains the services of one

or more subadvisers contain a provision

obligating the principal adviser to

supervise and oversee the activities of

its subadvisers.72 The proposed rule

also would require all contracts with

subadvisers that are retained without

shareholder approval to provide that the

principal adviser may terminate the

subadviser at any time without

penalty.73

During the first year after adoption of

the rule, the Commission staff estimates

that requiring funds to modify their

existing contracts with principal

advisers so that each principal adviser

is required to supervise and oversee the

activities of its subadvisers would create

an initial one-time burden of 5 hours

per fund (4 hours by in-house counsel,

.5 hours by fund directors, .5 hours by

support staff) 74 or about 600 burden

hours.75 The Commission staff estimates

that after the first year, approximately

10 registered open-end investment

companies 76 would spend, on average,

5 hours annually (4 hours by in-house

counsel, .5 hours by fund directors, .5

hours by support staff) to modify their

contracts regarding supervision, for a

total of 50 burden hours.

Rule 15a–5 also would require funds

to provide shareholders (and file with

the Commission), within 90 days of

entering into a subadvisory contract or

materially amending a wholly-owned

subsidiary’s subadvisory contract, with

an information statement describing the

agreement and containing all of the

information shareholders would have

received in a proxy statement had a

shareholder vote been held.77 During

the first 3 years after adoption of the

proposed rule, the Commission staff

estimates that 150 registered open-end

investment companies 78 would each

spend 20 hours 79 annually in preparing

and distributing information statements.

The total annual burden estimate for

complying with the reporting

requirement of rule 15a–5 would be

3,000 hours annually.

The proposed amendments also

would result in new information

collection requirements. The proposed

amendments to Form N–1A would

require any fund that is authorized to

hire one or more subadvisers without

shareholder approval pursuant to

proposed rule 15a–5, to disclose this

information in its prospectus.80 The

Commission believes that the added

information collection burdens would

be negligible and would be mostly offset

by other disclosure amendments that

would permit funds that comply with

the requirements of proposed rule 15a–

5 to disclose the aggregate fees paid to

all unaffiliated subadvisers of the

principal adviser, in lieu of the

individual fee paid to each subadviser.81

To arrive at the total information

collection burden, a weighted average of

the first year burden and the annual

burden after the first year was

calculated. Using a three-year period,

the weighted average information

collection burden is 3,232 hours.82

Pursuant to 44 U.S.C. 3506(c)(2)(B), the

Commission solicits comments in order

to: (i) Evaluate whether the proposed

collections of information are necessary

for the proper performance of the

functions of the Commission, including

whether the information will have

practical utility; (ii) evaluate the

accuracy of the Commission’s estimate

of the burden of the proposed

collections of information; (iii)

determine whether there are ways to

enhance the quality, utility, and clarity

of the information to be collected; and

(iv) minimize the burden of the

collections of information on those who

are to respond, including through the

use of automated collection techniques

or other forms of information

technology.

Persons wishing to submit comments

on the collection of information

requirements of the proposed rule and

amendments should direct them to the

Office of Management and Budget,

Attention Desk Officer for the Securities

and Exchange Commission, Office of

Information and Regulatory Affairs,

Room 10102, New Executive Office

Building, Washington, DC 20503, and

should send a copy to Jonathan G. Katz,

Secretary, Securities and Exchange

Commission, 450 Fifth Street, NW.,

Washington, DC 20549–0609, with

reference to File No. S7–20–03. OMB is

required to make a decision concerning

the collections of information between

30 and 60 days after publication of this

Release; therefore a comment to OMB is

best assured of having its full effect if

OMB receives it within 30 days after

publication of this Release. Requests for

materials submitted to OMB by the

Commission with regard to these

collections of information should be in

writing, refer to File No. S7–20–03, and

be submitted to the Securities and

Exchange Commission, Records

Management, Office of Filings and

Information Services.

VII. Summary of Initial Regulatory

Flexibility Analysis

The Commission has prepared an

Initial Regulatory Flexibility Analysis

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61728 Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules

83 17 CFR 270.0–10.

84 Some or all of these entities may contain

multiple series or portfolios. If a registered

investment company is a small entity, the portfolios

or series it contains are also small entities.

85 These estimates are based on data reported on

Form N–SAR filed with the Commission between

July and December 2002.

86 The Commission believes that small funds are

unlikely to retain multiple subadvisers to manage

fund assets because it would not be practical for

subadvisers to manage a portion of a small fund’s

assets. A subadviser receives as a fee a percentage

of the value of the assets under its management.

Therefore, providing management services to a

portion of a small fund’s assets would not provide

a large enough fee to justify the subadviser’s time

or effort. Because it is unlikely that a small fund

would retain more than one subadviser, small funds

rarely have reason to seek exemptive relief.

87 As noted above, to date only two small funds

have obtained an exemptive order allowing them to

enter into subadvisory contracts without

shareholder approval. The Commission does not

believe that the number of small funds seeking such

relief will increase in the future. See supra note 86

and accompanying text.

88 Proposed rule 15a–5(a)(5). The exemptive

orders that have been issued by the Commission

require that shareholders be provided with an

information statement in place of the proxy

statement.

89 Proposed rule 15a–5(a)(1).

90 Proposed rule 15a–5(b)(4).

91 Proposed rule 15a–5(a)(2)(i).

92 Proposed rule 15a–5(a)(2)(i). The proposed rule

would allow a wholly-owned subadviser to qualify

for relief from section 15(a) of the Act even though

it is an affiliate of the principal adviser and the

principal adviser has an ownership interest in the

subadviser, if the wholly-owned subadviser meets

all of the other conditions of the proposed rule and

the wholly-owned subadviser is replacing another

wholly-owned subadviser or its contract has been

materially amended. Proposed rule 15a–5(a)(2)(ii).

93 Proposed rule 15a–5(a)(3).

94 Proposed rule 15a–5(a)(4).

95 Proposed rule 15a–5(a)(6).

96 Proposed rule 15a–5(a)(7)(i).

97 Proposed rule 15a–5(a)(7)(ii).

(‘‘IRFA’’) in accordance with 5 U.S.C.

603 regarding proposed rule 15a–5

under the Investment Company Act and

proposed amendments to rule 6–07 of

Regulation S–X under the Investment

Company Act and the Securities Act,

Form N–1A under the Investment

Company Act and the Securities Act,

and Schedule 14A under the Exchange

Act. The following summarizes the

IRFA.

The IRFA summarizes the background

of the proposed rule and amendments.

The IRFA also discusses the reasons for

the proposed rule and amendments and

the objectives of, and legal basis for, the

rule and amendments. Those items are

discussed above in this Release.

The IRFA discusses the effect of the

proposed rule and amendments on

small entities. A small business or small

organization (collectively, ‘‘small

entity’’) for purposes of the Regulatory

Flexibility Act is a fund that, together

with other funds 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.83 Of

approximately 2,200 registered openend

investment companies (consisting

of about 9,000 portfolios),

approximately 157 are small entities.84

Approximately 2,798 portfolios

(comprising portions of 631 registered

open-end investment companies)

currently retain one or more

subadvisers. Approximately 13 of the

631 registered open-end companies

(containing 35 of the 2,798 portfolios)

are small entities.85 Funds that are small

entities, like other funds, may rely on

the rule if they satisfy its conditions.

The rule is an exemptive rule and

therefore funds may choose not to rely

on it.

The Commission staff estimates that

only two of the approximately one

hundred exemptive orders issued by the

Commission involved small entities.

The staff anticipates that the number of

funds seeking exemptive relief will

continue to rise, but that the proportion

of small funds to total funds will remain

relatively stable in the future.86

The Commission staff expects the

proposed rule and amendments to have

little impact on small entities. Like

other funds, small entities will be

affected by the proposed rule and

amendments only if they enter into a

subadvisory contract with an

unaffiliated or wholly-owned

subadviser. Because the proposed rule is

voluntary in nature, only small entities

that choose to rely on the rule will be

subject to its conditions.87 Moreover,

the burdens imposed by the proposed

rule and amendments should be more

than offset by the fact that the proposed

rule and amendments would enable

funds, including small entities, to enter

into subadvisory contracts without

incurring the expenses associated with

a shareholder vote or the filing of an

application for exemption under section

6(c) of the Act.

The IRFA discusses the reporting,

recordkeeping, and compliance

requirements associated with the

proposed rule and amendments. It notes

that the proposed rule would require

funds to provide an information

statement to its shareholders (and file it

with the Commission) within 90 days of

the entry into a subadvisory contract or

a material change to a wholly-owned

subadviser’s contract as a substitute for

the proxy statement that the fund would

have had to provide to each shareholder

if a shareholder vote had been held.88

The IRFA also explains that the

proposed rule would impose

compliance requirements. For funds

relying on the proposed rule, the rule

would require that: (i) the subadvisory

contract: (a) does not directly or

indirectly increase the management and

advisory fees charged to the fund or its

shareholders,89 and (b) provides that it

may be terminated at any time, on no

more than 60 days written notice,

without penalty, by the principal

adviser; 90 (ii) the subadviser is not an

affiliated person of the fund or the

principal adviser with which it has

contracted (other than by reason of

serving as an investment adviser to the

fund); 91 (iii) no director or officer of the

fund, and no principal adviser or

director or officer of the principal

adviser with which the subadviser has

contracted, directly or indirectly owns

any material interest in the subadviser

other than an interest through

ownership of shares of a pooled

investment vehicle that is not controlled

by such person or entity; 92 (iv)

shareholders of the fund have

authorized a principal adviser, subject

to approval by the board of directors, to

enter into subadvisory contracts without

shareholder approval or, if the fund’s

securities have not been publicly offered

or sold to persons who are not

promoters or affiliated persons of the

fund, the directors have authorized the

principal adviser to enter into such

contracts; 93 (v) the contract between the

fund and a principal adviser provides

that the principal adviser must

supervise and oversee the activities of

its subadvisers on behalf of the fund; 94

(vi) if the fund identifies the subadviser

as part of the fund’s name or title, it also

clearly identifies the principal adviser

with which the subadviser has

contracted, before the name of the

subadviser; 95 (vii) a majority of the

directors of the fund are not interested

persons of the fund, and those directors

select and nominate any other

disinterested directors; 96 and (viii) any

person who acts as legal counsel for the

disinterested directors is an

independent legal counsel.97

The IRFA explains that the proposed

rule would benefit funds by allowing

them to enter into subadvisory contracts

without shareholder approval, and

thereby avoid incurring the costs and

delay associated with the exemptive

application process or with obtaining

shareholder approval. The IRFA also

notes that while the proposed rule

would require funds to comply with

numerous conditions, many of the

compliance requirements do not involve

any new costs on funds and those that

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98 The requirements regarding prohibited

relationships between the subadviser and the fund

or principal adviser (or their affiliates) do not

involve any costs or burdens. The requirements

regarding board composition and the selection and

nomination of independent directors would not

impose any new costs or burdens. Under our

current manager of managers orders, funds are

required to comply with the same board

composition and selection and nomination

requirements. The independent legal counsel

requirement does not require independent directors

to retain legal counsel, but those who are

represented by counsel that does not meet the

definition of ‘‘independent legal counsel’’ would be

required to retain different counsel if their fund

chooses to rely on the proposed rule. The manager

of managers orders that also include relief from our

disclosure rules require independent directors to

retain independent counsel. Moreover, the

amendments we made to a number of exemptive

rules in January 2001, see supra notes 38 and 39

and accompanying text, make it likely that most

funds that would use the exemptive relief provided

by the proposed rule would already have

independent counsel or would not retain legal

counsel.

Requiring funds to furnish shareholders with an

information statement (and file such statement with

the Commission) following the retention of a new

subadviser or a change in the fee paid to a whollyowned

subadviser would not impose any new costs

on funds. Currently, funds either have to provide

shareholders with a proxy statement in connection

with seeking shareholder approval of the

subadvisory contract or, if operating under a

manager of managers exemptive order, have to

provide shareholders with an information statement

(and file such statement with the Commission). In

the absence of the proposed rule, therefore, the fund

still would be required to provide shareholders

with the same information. Similarly, requiring the

shareholders or the board of the fund to authorize

the principal advisers to enter into subadvisory

contracts without shareholder approval would not

impose any new costs on the fund. Currently, a

fund either has to receive shareholder approval of

all subadvisory contracts or, if operating under a

manager of managers exemptive order, obtain

shareholder authorization for entering into

subadvisory contracts without shareholder

approval. In the absence of the proposed rule,

therefore, the fund would still incur the same or

greater costs in obtaining shareholder approval or

operating under an order.

99 Proposed Instruction 3 to Item 4(b)(1) of Form

N–1A would require a fund to disclose if it is

authorized to use the services of subadvisers

without shareholder approval. Proposed Item

6(a)(1)(i) of Form N–1A would require a fund in its

identification and description of its investment

advisers to explain for each subadviser that serves

the fund without shareholder approval that such

subadviser may be replaced, and additional

subadvisers may be retained, without shareholder

approval.

100 Proposed rule 6–07(2)(d) of Regulation S–X,

proposed Instruction 2 to Item 22(c) of Schedule

14A, and proposed Instruction 5 to Item 15(a)(3) of

Form N–1A. In the absence of these amendments,

funds would be required to disclose the individual

fee paid to each subadviser.

101 Proposed Instruction 5 to Item 15(a)(3) of

Form N–1A.

102 By allowing funds to disclose only the

aggregate fee paid to all unaffiliated subadvisers,

each unaffiliated subadviser would be more likely

to accept a lower fee than the fee it charges to its

other clients, because a subadviser’s other clients

would not be aware of the exact fee paid to each

subadviser.

do would not result in a significant

burden being placed on the funds.98

The IRFA explains that the proposed

amendments would impose reporting

requirements on funds, but would not

impose recordkeeping or compliance

requirements. The proposed

amendments would require any fund

that is authorized to hire one or more

subadvisers without shareholder

approval pursuant to proposed rule

15a–5, to disclose this ability in its

prospectus.99 Compliance with these

amendments would require little time,

involve no extra costs to funds, and

should not impose a significant burden,

if any, on funds, including small

entities. Shareholders of funds would

benefit by being fully informed of the

fund’s ability to replace subadvisers

without shareholder approval.

The proposed amendments also

would allow a fund that complies with

the requirements of proposed rule 15a–

5 to decide not to disclose the

individual fee paid to each unaffiliated

subadviser of the principal adviser.100

For purposes of fee disclosure in the

fund’s Statement of Additional

Information, the fund would be required

to disclose in place of the individual fee

paid to each subadviser (both as a dollar

amount and as a percentage of its net

assets) (i) the individual fees paid to the

principal adviser and to each of its

affiliated subadvisers (including its

wholly-owned subadvisers), (ii) the net

advisory fee retained by the principal

adviser after payment of fees to all

subadvisers, and (iii) the aggregate fees

paid to all subadvisers that are not

affiliated persons of the principal

adviser.101 These amendments would

benefit funds, including small entities,

by reducing the disclosure burden on

funds that qualify for relief under the

proposed rule and by allowing the

principal adviser to negotiate a lower

advisory fee with each unaffiliated

subadviser than the fee normally

charged by each such subadviser.102

The IRFA explains that the

Commission has considered significant

alternatives to the proposed rule and

amendments that would accomplish the

stated objective, while minimizing any

significant adverse impact on small

entities. The Commission believes that

no alternative could carry out these

objectives as effectively as the proposed

rule and amendments.

The Commission encourages the

submission of comments on matters

discussed in the IRFA. Specifically,

comment is requested on the effects the

proposed rule and amendments would

have on small entities, and the number

of small entities that would be affected.

Commenters are asked to describe the

nature of any effect and provide

empirical data supporting the extent of

the effect. These comments will be

placed in the same public file as

comments on the proposed rule and

amendments themselves. A copy of the

IRFA may be obtained by contacting

Adam B. Glazer, Securities and

Exchange Commission, 450 Fifth Street,

NW., Washington, DC 20549–0506.

VIII. Statutory Authority

The Commission is proposing to

adopt new rule 15a–5 pursuant to the

authority set forth in sections 6(c) and

38(a) [15 U.S.C. 80a–6(c) and 80a–37(a)]

of the Investment Company Act. The

Commission is proposing amendments

to rule 6–07 of Regulation S–X pursuant

to authority set forth in section 7 of the

Securities Act [15 U.S.C. 77g] and

sections 8 and 38(a) of the Investment

Company Act [15 U.S.C. 80a–8, 80a–

37(a)]. We are proposing amendments to

Schedule 14A pursuant to authority set

forth in sections 14 and 23(a)(1) of the

Exchange Act [15 U.S.C. 78n, 78w(a)(1)]

and sections 20(a) and 38 of the

Investment Company Act [15 U.S.C.

80a–20(a), 80a–37]. We are proposing

amendments to Form N–1A pursuant to

authority set forth in sections 6, 7, 10,

and 19(a) of the Securities Act [15

U.S.C. 77f, 77g, 77j, 77s(a)] and sections

8, 24(a), and 30 of the Investment

Company Act [15 U.S.C. 80a–8, 80a–

24(a), and 80a–29].

List of Subjects

17 CFR Part 210

Accounting, Reporting and

recordkeeping requirements, Securities.

17 CFR Parts 239 and 240

Reporting and recordkeeping

requirements, Securities.

17 CFR Parts 270 and 274

Investment companies, Reporting and

recordkeeping requirements, Securities.

Text of Proposed Rules and Form

Amendments

For reasons set out in the preamble,

Title 17, Chapter II of the Code of

Federal Regulations is proposed to be

amended as follows:

PART 210—FORM AND CONTENT OF

AND REQUIREMENTS FOR FINANCIAL

STATEMENTS, SECURITIES ACT OF

1933, SECURITIES EXCHANGE ACT

OF 1934, PUBLIC UTILITY HOLDING

COMPANY ACT OF 1935, INVESTMENT

COMPANY ACT OF 1940, AND

ENERGY POLICY AND

CONSERVATION ACT OF 1975

1. The authority citation for part 210

continues to read as follows:

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61730 Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s,

77z–2, 77z–3, 77aa(25), 77aa(26), 78c, 78j–1,

78l, 78m, 78n, 78o(d), 78q, 78u–5, 78w(a),

78ll, 78mm, 79e(b), 79j(a), 79n, 79t(a), 80a–

8, 80a–20, 80a–29, 80a–30, 80a–31, 80a–

37(a), 80b–3, 80b–11, 7202 and 7262, unless

otherwise noted.

2. Section 210.6–07 is amended by:

a. Redesignating paragraphs 2.(d), (e),

(f), and (g) as paragraphs 2.(e), (f), (g),

and (h); and

b. Adding new paragraph 2.(d) to read

as follows:

§ 210.6–07 Statements of operations.

* * * * *

2. Expenses. * * *

(d) If a registered investment company

or separate series of a registered

investment company (‘‘Fund’’) or a

principal adviser (as defined in

§ 270.15a–5(b)(2) of this chapter) of the

Fund, in reliance on § 270.15a–5 of this

chapter, has entered into a contract or

contracts with a subadviser (as that term

is defined in § 270.15a–5(b)(3) of this

chapter) of the Fund without approval

by a vote of the securities of the Fund,

the investment advisory fee paid to any

subadviser that is not an affiliated

person (as defined in 15 U.S.C. 80a–

2(a)(3)) of the principal adviser with

which it has contracted or of the Fund

(other than by reason of serving as an

investment adviser to the Fund) need

not be disclosed as a separate expense

item in response to paragraphs 2.(a), (b),

or (c) of this section.

* * * * *

PART 239—FORMS PRESCRIBED

UNDER THE SECURITIES ACT OF 1933

3. The authority citation for part 239

continues to read, in part, as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s,

77z–2, 77sss, 78c, 78l, 78m, 78n, 78o(d),

78u–5, 78w(a), 78ll(d), 79e, 79f, 79g, 79j, 79l,

79m, 79n, 79q, 79t, 80a–8, 80a–24, 80a–26,

80a–29, 80a–30, and 80a–37, unless

otherwise noted.

* * * * *

PART 240—GENERAL RULES AND

REGULATIONS, SECURITIES

EXCHANGE ACT OF 1934

4. The authority citation for part 240

continues to read, in part, as follows:

Authority: 15 U.S.C. 77c, 77d, 77g, 77j,

77s, 77z–2, 77z–3, 77eee, 77ggg, 77nnn,

77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i, 78j,

78j–1, 78k, 78k–1, 78l, 78m, 78n, 78o, 78p,

78q, 78s, 78u–5, 78w, 78x, 78ll, 78mm, 79q,

79t, 80a–20, 80a–23, 80a–29, 80a–37, 80b–3,

80b–4, 80b–11, 7202, 7241, 7262, and 7263;

and 18 U.S.C. 1350, unless otherwise noted.

* * * * *

5. Section 240.14a–101, Item 22, is

amended by:

a. Designating the Instruction before

paragraph (c)(1) as Instruction 1 and

adding Instruction 2; and

b. Designating the Instruction after

paragraph (c)(10) as Instruction 1 and

adding Instruction 2.

These additions and revisions read as

follows:

§ 240.14a–101 Schedule 14A. Information

required in proxy statement.

* * * * *

Item 22. Information required in

investment company proxy

statement.

* * * * *

(c) * * *

Instructions to paragraph (c). 1.* * *

2. Where information is furnished in

response to this item in order to comply

with the requirements of § 270.15a–

5(a)(5) of this chapter, the rate of

compensation and the aggregate amount

of the fee paid to the subadviser (as that

term is defined in § 270.15a–5(b)(3) of

this chapter) need not be disclosed in

response to any paragraph of this item,

and the information required by

paragraph (c)(9) of this item need not be

disclosed, unless such subadviser is a

wholly-owned subsidiary (as defined in

15 U.S.C. 80a–2(a)(43)) of the principal

adviser (as that term is defined in

§ 270.15a–5(b)(2) of this chapter) with

which it has contracted.

* * * * *

(10) * * *

Instructions to paragraph (c)(10). 1.

* * *

2. Where information is furnished in

response to this item in order to comply

with the requirements of § 270.15a–

5(a)(5) of this chapter, the compensation

information required by this paragraph

(c)(10) need not be disclosed, unless the

information pertains to a subadviser (as

that term is defined in § 270.15a–5(b)(3)

of this chapter) that is a wholly-owned

subsidiary (as defined in 15 U.S.C. 80a–

2(a)(43)) of the principal adviser (as that

term is defined in § 270.15a–5(b)(2) of

this chapter) with which it has

contracted.

PART 270—RULES AND

REGULATIONS, INVESTMENT

COMPANY ACT OF 1940

6. The authority citation for Part 270

continues to read in part as follows:

Authority: 15 U.S.C. 80a–1 et seq., 80a–

34(d), 80a–37, and 80a–39, unless otherwise

noted.

* * * * *

7. Section 270.15a–5 is added to read

as follows:

§ 270.15a–5 Exemption from shareholder

approval for certain subadvisory contracts.

(a) Exemption from shareholder

approval. Notwithstanding section 15(a)

of the Act (15 U.S.C. 80a–15(a)), a

subadvisory contract need not be

approved by a vote of a majority of the

outstanding voting securities of a fund,

if the following conditions are met:

(1) No increase in fees. The

subadvisory contract does not directly

or indirectly increase the management

and advisory fees charged to the fund or

its shareholders.

(2) Conflicting relationships

prohibited.

(i) The subadviser is not an affiliated

person of the principal adviser with

which it has contracted or of the fund

(other than by reason of serving as an

investment adviser to the fund), and no

director or officer of the fund, and no

principal adviser or director or officer of

the principal adviser with which the

subadviser has contracted, directly or

indirectly owns any material interest in

the subadviser other than an interest

through ownership of shares of a pooled

investment vehicle that is not controlled

by such person (or entity); or

(ii) The subadviser is a wholly-owned

subsidiary (as defined in section 2(a)(43)

of the Act (15 U.S.C. 80a–2(a)(43)) of the

principal adviser, and the whollyowned

subsidiary has been hired as a

subadviser to replace another whollyowned

subsidiary that has been

terminated as a subadviser to the fund,

or the subadvisory contract of a whollyowned

subsidiary has been materially

amended.

(3) Shareholder authorization.

Shareholders of the fund have

authorized a principal adviser, subject

to approval by the board of directors, to

enter into contracts with subadvisers

without approval by a vote of the

outstanding voting securities of the fund

or, if the fund’s securities have not been

publicly offered or sold to persons who

are not promoters or affiliated persons

of the fund, the directors of the fund

have authorized the principal adviser to

enter into such contracts.

(4) Supervision of subadvisers. A

contract between the fund and a

principal adviser provides that the

principal adviser must supervise and

oversee the activities of the subadviser

under the subadvisory contract on

behalf of the fund.

(5) Disclosure to shareholders. Within

90 days after entry into a new

subadvisory contract or after making a

material change to a wholly-owned

subsidiary’s existing subadvisory

contract, the fund furnishes its

shareholders with an information

statement, which must be filed with the

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Federal Register / Vol. 68, No. 209 / Wednesday, October 29, 2003 / Proposed Rules 61731

Commission in accordance with the

requirements of § 240.14c–5(b) of this

chapter, that describes the new

agreement, and contains the information

specified in Regulation 14C (17 CFR

240.14c–1 through 240.14c–7), Schedule

14C (17 CFR 240.14c–101), and Item 22

of Schedule 14A (17 CFR 240.14a–101)

under the Securities Exchange Act of

1934 (15 U.S.C. 78a–mm).

(6) Fund name. If the fund identifies

the subadviser as a part of the fund’s

name or title, it also clearly identifies in

its name or title the principal adviser

with which the subadviser has

contracted, before the name of the

subadviser.

(7) Board of directors composition,

selection, and representation.

(i) A majority of the directors of the

fund are not interested persons of the

fund, and those directors select and

nominate any other disinterested

directors; and

(ii) Any person who acts as legal

counsel for the disinterested directors is

an independent legal counsel.

(b) Definitions.

(1) Fund means a registered open-end

management investment company, or

separate series of a registered open-end

management investment company.

(2) Principal adviser means an

investment adviser as defined in section

2(a)(20)(A) of the Act (15 U.S.C. 80a–

2(a)(20)(A)).

(3) Subadviser means an investment

adviser as defined in section 2(a)(20)(B)

of the Act (15 U.S.C. 80a–2(a)(20)(B)).

(4) Subadvisory contract means a

contract between a principal adviser

and subadviser to a fund, under which

contract the subadviser agrees to

perform investment advisory services on

behalf of the fund, and which is

terminable at any time by the principal

adviser, on no more than 60 days

written notice, without payment of

penalty.

PART 239—FORMS PRESCRIBED

UNDER THE SECURITIES ACT OF 1933

PART 274—FORMS PRESCRIBED

UNDER THE INVESTMENT COMPANY

ACT OF 1940

8. The authority citation for part 274

continues to read in part as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s,

78c(b), 78l, 78m, 78n, 78o(d), 80a–8, 80a–24,

80a–26, and 80a–29, unless otherwise noted.

9. Form N–1A (referenced in

§§ 239.15A and 274.11A) is amended

by:

a. In Item 4(b)(1) by redesignating

Instructions 3, 4, 5, 6, and 7 as

Instructions 4, 5, 6, 7, and 8 and adding

new Instruction 3;

b. In Item 6 adding a sentence to the

end of paragraph (a)(1)(i) and a Note;

and

c. In Item 15 adding Instruction 5

before paragraph (b).

These additions and revisions read as

follows:

Note: The text of Form N–1A does not and

these amendments will not appear in the

Code of Federal Regulations.

Form N–1A

* * * * *

Item 4. Investment Objectives, Principal

Investment Strategies, and Related

Risks

* * * * *

(b) * * *

(1) * * *

Instructions. * * *

3. A Fund that uses (or reserves the

right to use) the services of any other

investment adviser to implement the

investment objectives, strategies, and

policies of the Fund, without

shareholder approval of those advisers’

contracts in reliance on § 270.15a–5,

should regard such use (or reservation

to use) as a principal investment

strategy.

* * * * *

Item 6. Management, Organization, and

Capital Structure

(a) * * *

(1) Investment Adviser.

(i) * * * If the investment adviser is

a subadviser whose contract has not

been approved by shareholders in

reliance on § 270.15a–5, explain that the

subadviser may be replaced, and that

additional subadvisers may be retained,

without shareholder approval.

Note: If the Fund uses the services of more

than one subadviser whose contracts have

not been approved by shareholders in

reliance on § 270.15a–5, then the Fund may

include a general statement, appropriately

located, explaining that any of the

subadvisers may be replaced, and that

additional subadvisers may be retained,

without shareholder approval.

* * * * *

Item 15. Investment Advisory and

Other Services

(a) * * *

(3) * * *

Instructions. * * *

5. If the Fund and an investment

adviser comply with the conditions of

§ 270.15a–5(a)(1)–(7) and (b)(4) (which

permits a subadviser to advise the Fund

without shareholder approval), the

Fund may elect not to disclose

separately the fees paid to each

subadviser that is not an affiliated

person of the principal adviser with

which it has contracted, if the Fund

instead discloses, both as a dollar

amount and as a percentage of its net

assets:

(a) The individual fees paid to the

principal adviser of the Fund and to

each subadviser that is an affiliated

person of the principal adviser with

which it has contracted;

(b) The net advisory fee retained by

the principal adviser after payment of

fees to all subadvisers; and

(c) The aggregate fees paid to all

subadvisers of the Fund that are not

affiliated persons of the principal

adviser with which they have

contracted.

* * * * *

By the Commission.

Dated: October 23, 2003.

Jill M. Peterson,

Assistant Secretary.

[FR Doc. 03–27198 Filed 10–28–03; 8:45 am]

BILLING CODE 8010–01–P

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