SEC Division of Investment Management staff letter: First Call Corporation

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  p SEP 6 1995
  Our Ref. No. 95-252-CC

RESPONSE OF THE OFFICE OF CHIEF COUNSEL First Call Corporation

DIVISION OF INVESTMENT MAAGEMENT File No. 132 - 3

Your l~tter of April 27, 1995 requests our assurance that we

would not recommend enforcement action to the Commission under

rule 204-2 under the Investment Advisers Act of 1940 ("Advisers

Act") or rules 31a-1 and 31a-2 under the Investment Company Act

of 1940 ("1940 Act") against a registered investment adviser that

subscribes to the FIRST CALL Research Direct service ("Research

Direct ") provided by First Call Corporation (" First Call") if

First Call and the investment adviser- maintain in the manner

described in your letter reports available electronically to

Research Direct subscribers.

Research Direct provides subscribers with on- line research reports and analyses contributed by broker-dealers. The reports carried on Research Direct are identical to reports that the contributing broker-dealers provide to their clients in hard copy. Research Direct subscribers may view the reports on screen or print hard copies of part or all of any report carried on Research Direct, but cannot download the reports to their own computer systems. i/ The reports carried on Research Direct cannot be altered either by First cari or by subscribers. The reports will be maintained for approximately thirty days

on the computer facilities furnished by First Call to its

subscribers. Thereafter, First Call will store the reports on

its host computer for six years from the end of the calendar year

during which the report was first made available on the system.

During this period, subscribers will be able to retrieve reports

from storage by means of a two-way digital phone line. ~/

First Call creates backups of new and amended documents nightly,

and, on a weekly basis, backs up the entire system onto tape.

The tapes are stored off site for a minimum of six years in a

fireproof, secure vault.

First Call monitors and records subscribers' use of reports

carried on Research Direct. First Call will provide each

Research Direct subscriber with a monthly statement identifying

every report that was accessed by the subscriber.

Rule 204-2 (a) (7) under the Advisers Act requires that investment advisers maintain "originals" of all written

i/ Telephone conversation with Mari-Anne Pisarri on July 7, 1995. ~/ As further described below, First Call will provide

subscribers that have terminated their Research Direct

subscriptions with hard copies of reports under certain

circumstances.

. lI:.:~- .
.,

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  communications received by the adviser relating to any

recommendation made or proposed to be made and any advice given or proposed ,to be given. ~/ Paragraph (e) (1) of rule 204-2 requires that most books and records specified under the rule be

maintained in an easily accessible place for a period of not less

than five years from the end of the fiscal year during which the

last entry on the book or record was made, the first two years in an appropriate office of the investment adviser. Rule 31a- 1 (f) under the 1940 Act generally requires investment advisers to

registered investment companies to maintain the same books and

documents required to be maintained under rule 204 - 2 under the Advisers Act to the extent these records are necessary or

appropriate to record the adviser's transactions with the

investment company. Under rule 31a-2 (e), the investment adviser must preserve such books and documents for six years.

We first address whether First Call's proposed electronic

storage arrangement will satisfy the requirement of rule 204-2 (e) (1) to maintain records "at an appropriate office of the investment adviser." We believe that if an adviser has

essentially immediate access to a record (on the adviser's

proprietary system or otherwise) through a computer located at an

appropriate office of the adviser, then that record is being

maintained "at an appropriate office of the adviser" as required

by rule 204-2 (e) (1). ~/
The arrangement proposed by First Call also implicates other

requirements of rule 204-2, including the conditions set forth in

paragraph (g) of the rule pursuant to which records can be

maintained and preserved on magnetic disk, tape or other computer

storage medium. á/ Paragraph (f) of rule 31a-2 specifies

~/ See Depository Trust Co. (pub. avail Sept. 4, 1992) (an

electronic confirmation may be treated as an "original

communication") .
4/ Immediate access to records includes the ability to promptly

provide to Commission examination staff hard copies of the

records or access to the storage medium.

á/ Specifically, paragraph (g) (2) permits computer storage of

records created by the adviser on electronic media or

received by the adviser solely on electronic media or by electronic data transmission. Paragraph (g) (1) of the rule requires that an adviser (1) arrange the records and index

the storage medium to permit the immediate location of any

record, (2) be ready to provide Commission examiners with

copies or printouts of the records, (3) store one copy of

each record separately from the original, and (4) maintain

(continued. . .)

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  corresponding conditions for computer storage of certain records

by investment companies. Q/ In addition, the proposed

arrangement gives rise to issues under rule 204 - 2 because an

adviser would no longer have immediate access through its

computers to records carried on Research Direct if it ceased to

subscribe to the service or if the service was no longer offered.

In adopting paragraph (g) of rule 204-2, the Commission

intended to provide investment advisers with the flexibility to

determine the computerized medium on which to store their

records. 2/ You state that, although subscribers may print

out the reports accessed through Research Direct, requiring

advisers to preserve printouts of all such reports would defeat

one of the primary benefits of Research Direct, the elimination

of the need to store large quantities of paper. You assert that

the proposed storage of the reports on First Call's host computer

for six years, the backup storage on tape, and the subscriber's

ability to retrieve reports electronically ensure that the

reports will be maintained and adequately safeguarded from loss

or destruction for the requisite periods under the Advisers Act

and the 1940 Act and will be accessible to Commission

staff. ~/

á/ ( . . . continued) procedures to reasonably safeguard records stored on

computer from loss, alteration, or destruction.

Q/ Under the proposed arrangement, First Call, rather than the investment adviser or the investment company, would maintain

and preserve the reports carried on Research Direct. An

investment adviser may delegate certain record creation and

retention responsibilities to a third party, but the adviser

cannot, by doing so, avoid liability for violating the

Advisers Act, the 1940 Act, or the rules under those Acts if

the third party fails to carry out those responsibilities.

See National Regulatory Services (pub. avail. Dec. 2, 1992).

7/ Investment Advisers Release No. 952 (Jan. 16, 1985).

~/ We note that, because an adviser may retrieve reports stored

on First Call's host computer at any time during the six-

year storage period, removing such reports from the system

after this period may not comply with the literal terms of

rules 204-2, 31a-1, and 31a-2 with respect to an adviser

that has used a report after the commencement of the

required preservation period. Nonetheless, in light of the

overall recordkeeping procedures you propose and the

impracticability of restricting use of reports by advisers

while they are available on the system, we will not obj ect to the proposed procedures.

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  We would not recommend enforcement action to the Commission

under rule 204-2 under the Advisers Act or rules 31a-1 and 31a-2

under the 1940 Act against an investment adviser that subscribes

to Research Direct if records of the electronic reports available

on Research Direct are maintained in the manner described in your

letter. We also would not recommend enforcement action to the

Commission under rule 31a-3 under the 1940 Act even though the

reports may not be the property of the investment adviser. ~/

These positions are based on the facts and representations made

in your letter and the telephone conversations, particularly your representations that:
(1) First Call will provide each Research Direct subscriber

with a monthly statement identifying every research

report retrieved by that subscriber during the

month; 10/
(2) investment adviser subscribers will maintain hard

copies of the monthly statements in accordance with the

requirements of rule 204-2 (e) (1); 11/ (3) First Call will store the reports on its host computer

for six years from the end of the calendar year during

which the report was first made available on the system

and will store backup tapes of the reports for six

years;
(4) in the event an investment adviser cancels its

subscription to Research Direct, First Call will

provide the former subscriber, within 48 hours of the

2/ Rule 31a-3 provides that if a third party maintains records

on behalf of a person required to maintain records under

rules 31a-1 and 31a-2, such person must obtain an agreement

from the third party to the effect that the records are the

property of the person required to maintain the records and

will be surrendered promptly upon request. Our position

with respect to rule 31a-3 is based on the proprietary

nature of the research reports carried on Research Direct.

The staff would not otherwise be inclined to grant relief

from the requirements of that rule.

10/ Paragraph (g) (1) of rule 204-2 requires an investment adviser that maintains electronic records to arrange and

index records to permit the immediate location of any

particular record.

i1/ Investment advisers subj ect to the requirements of rule

31a-2 (e) will maintain the monthly statements for six years from the date the statements are received.

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  former subscriber's request, with a hard copy of any

report that the subscriber accessed that the Commission

staff may request in connection with an examination,

inspection, or investigation of the Investment

adviser; 12/ and

(5) in the event First Call ceases operations or ceases to

offer Research Direct, it will make arrangements

reasonably acceptable to the Commission or its staff to

ensure the availability of the reports carried on

Research Direct for the remainder of the requisite

period. 13/

You should note that any different facts or circumstances might

require a different conclusion. This response (other than the

interpretive position under rule 204-2 (e) (1)) only represents the

Division's position on enforcement action and does not purport to

express any legal conclusion on the questions presented.

~ßL O&A/ Av-cf
Barbara Chretien-Dar
Senior Counsel

12/ Telephone conversation with Mari-Anne Pisarri on July 24,

1995.
13/ Telephone conversation with Mari-Anne Pisarri on July 24,

1995. As noted above (see supra n. 6), this letter would

not relieve investment advisers from liability for

violations of the recordkeeping rules under the Advisers Act

or 1940 Act that would occur in the event First Call failed

to comply with the representations set forth above.

ACf :rAA
SECTION
Q 04 -.Q L €- ) (I) PICKARD AND DJINIS RULE ATTORNEYS AT LAW PUBLIC q-Ç;- 'ts 1990 M STREET, N. W. AVAILABILITY WASHINGTON, D. C. 20036 TELEPHONE TELECOPIER (202) 223-4416 (202) 331-3613

By Hand

Chief Counsel , Division of Investment Management

Securities and Exchange Commission

450 Fifth street, N.W.

Washington, D.C. 20549

Dear Mr. Murphy:

This letter is submitted on behalf of First Call Corporation

("First Call"), to request confirmation that electronic storage in

the manner described below of reports transmitted through the FIRST

CALL Research Direct service satisfies the recordkeeping

requirements of both the Investment Advisers Act of 1940 (the

"Advisers Act") and the Investment Company Act of 1940 (the

"Company Act") .
Description Of FIRST CALL Research Direct

Jointly owned by the Thomson Corporation, a $6 billion

publisher of specialized professional and business information, and

ten major U. S. broker-dealers, First Call Corporation has provided

the investment management community with electronic access to

commingled financial research since 1984.

The new FIRST CALL Research Direct service (hereinafter

"Research Direct" or the "Service") delivers in-depth research and

analytics, on line, twenty-four hours per day from broker-dealer

contributors through First Call's host computer to investment

manager subscribers. i The reports transmitted through the Service

in read-only format are exact replicas of those which the broker-

dealers otherwise would send to their clients by mail, including

full text and all associated graphs, tables, spread-sheets, color 2 and artwork.

i At the present time, more than twenty broker-dealers contribute an

aggregate of approximately 70 to 100 reports per day to Research Direct. This

number is expected to increase substantially in the future.

2 Neither the subscriber nor First Call has the ability to alter the

contents of the contributors' reports.

Research Direct subscribers can search the Service's database

of reports. by analyst, broker, company name, company symbol,

country, industry, portfolio, region or subject. The Service's

"free-text" feature permits database searches by specific words,

phrases, concepts or multiple subjects; and the "relevancy grade"

feature tells subscribers which documents best fit their search

cri teria. Subscribers can print hard copies of all or part of the

Service's reports if they so desire. They are not, howeveri

allowed to download these reports to their own computer systems. 3

Research Direct also allows subscribers to create customized

portfolios containing up to 1000 companies each, in order to track

information on issuers of particular interest. And, by either

emitting an audible signal, automatically printing relevant

documents, or displaying a written message on the user's computer

screen, the Service's "Alert" feature enables subscribers to

moni tor the receipt of all new reports on particular companies,

industries or subjects, or by any word or sentence.

Research Direct is available on a dedicated terminal or

through a desktop personal computer via a Windowsm-based Local Area Network. Hardware provided with the Service includes a data service unit, router, hub, 486 network server running SCO Open

Systems UNIX, and workstation (486 PC with 600 dpi printer). The

enabling technology for Research Direct includes Adobem Acrobatm

software, which provides cross-platform viewing, navigation and

printing of electronic documents, and Fulcrum's full -text retrieval

technology combined with proprietary software.

The Service's host computer, located in Boston, Massachusetts

is an Ethernet network of Sun 1000 workstations. The host

currently consists of two workstations, and can be expanded as

demand grows by adding additional workstations. The host stores

reports on a mirrored disk subsystem which allows "mirror" storage

of reports to ensure data integrity. The mirrored disk subsystem

currently consists of 18 Gigabytes of disk storage, and is

expandable. Al I changes to the reports database (new or modi f ied documents) are backed up every night. Every weekend, a ful I backup

of the entire system is done to tape. These tapes are stored off

site every Monday in a fireproof, secure vault for a minimum of six

years.
Reports contained in Research Direct's database are stored

electronically on the facilities furnished to subscriber by First

Call for a period of approximately thirty days, and are stored

3 The prohibition against downloading Research Direct reports stems from

the contributing brokers' desire to prevent the electronic redistribution of

their proprietary analysis.

thereafter in First Call's host computer for an additional eleven months. As explained below, if the staff grants the no-action relief requested herein, each report will be stored in the First

Call host computer for a period of six years from the end of the calendar year in which the report was produced. Subscribers will be able to retrieve reports from storage in two minutes or less, at

any time during this period by means of a two-way digital phone line.4 First Call monitors usage of the Service and produces a record

indicating which subscribers have obtained access to which specific

reports. A broker-dealer disseminating research through the

Service has the authority to block particular subscribers' access

to that contributor's reports, if it so desires.

Advantages Of The Service
Among the most notable benefits of Research Direct are speed

and efficiency. By delivering complete copies of broker-dealers'

reports electronically in real-time, the Service eliminates delays mail . And the encountered in delivering research through the

Service's various search, monitoring and retrieval features enable

portfolio mangers to hone in on and keep track of the precise

information they need without reviewing thousands of pages of

irrelevant material. In this way, managers are able to take

maximum advantage of the enormous volume of investment research being produced today. Electronic delivery of brokers' reports also eliminates clutter in the manager's office and saves paper.

The question arises, however, of how to allow money managers

to reap the full benefits of the Service and still comply with

their recordkeeping obligations under the Advisers and Company

Acts.
Recordkeeping Requirements

Rule 204-2 (a) (7) under the Advisers Act requires investment advisers to maintain originals of all written communications they

recei ve relating to any recommendations made or proposed to be made

and any advice given or proposed to be given. This requirement

presumably encompasses broker-dealer research reports which relate

4 To retrieve a report from storage, the subscriber "clicks" on the

document headline with a mouse and the document is automatically downloaded from

the host computer to the subscr iber 's server, and then to the subscr iber ' s desktop computer.

to advice given or recommendations made by the adviser, including

reports transmi tted through FIRST CALL Research Direct.

Books and records covered by Rule 204-2 must be maintained in

an easily accessible place for a period of not less than five years

from the end of the fiscal year during which the last entry was

made thereon.5 For the first two years, the records must be kept

in "an appropriate office of the investment adviser." Rule 204 2(e). Al though the recordkeeping rule originally contemplated the

preservation of paper documents, the rule was subsequently amended

to permit advisers to store required records on computers under

certain conditions.6 In this regard, Rule 204-2(g) was revised in

1985 to provide that records which the adviser receives solely on

electronic media or by electronic data transmission may be stored

on a computer storage medium so long as the following conditions are satisfied:
( 1) the records are arranged and indexed so as to permit the immediate location of any particular record;

(2) printouts of the records or copies of the computer tape or disk are made available to Commission examiners promptly upon

request;
(3) a duplicate of the computer storage medium is stored separately from the original; and

( 4) procedures are implemented for the maintenance, preservation of and access to records so as to reasonably

safeguard records from loss, alteration or destruction.

In adopting this amendment, the Commission explained that the

modified rule would "provide flexibility to advisers to determine

the medium on which required records would be stored." 50 Fed.

Reg. 2542 (January 17,1985). The Commission also expressed its

belief that allowing each adviser to design its own procedures for

safeguarding computer records was preferable to dictating specific

5 Rule 31a-2 (e) under the Company Act requires every investment adviser

(other than a majority-owned subsidiary of a registered investment company) to

preserve for six years those documents required under Section 204 of the Advisers

Act which are-necessary or appropriate" to record the adviser's transactions with registered investment company clients. See also, Rule 31a-1(f). An adviser

which is a majority-owned subsidiary of a registered investment company is

subject only to the five year requirement of Rule 204-2(e). Rules 31a-1(e) and

31a-2(d).
6 Provisions also were made for document retention on microfilm.

protective measures that all advisers must adopt, because the

former approach would avoid imposing requirements "which, in some

cases, might be unnecessarily restrictive or which might become

outdated as newer technologies become available." Id.

The Commission's flexible approach to electronic record

retention clearly conforms to congressional intent in this area.

As far back as 1975, Congress endorsed the notion that

recordkeeping under the federal securities laws is a dynamic

concept which must keep pace with advances in technology. For

example, the Securities Acts Amendments of 1975 added the following

definition of "records" to the Securities Exchange Act:

The term "records" means accounts, correspondence,

memorandums, tapes, discs, papers, books and other

documents or transcribed information of any type, whether

expressed in ordinary or machine language.

Exchange Act, Section 3(a) (37). The Senate Report which

accompanied this legislation explained the rationale for this addition as follows:
the Committee believes a modern and expansive defini tion of this important term "records" is desirable. Thus, the definition would explicitly recognize the

impact of advanced technology on traditional business

methods by including within the definition tapes, discs,

and other documents or transcribed information of any

type whether expressed in ordinary or machine language.

s. Rep. No. 75, 94th Cong., 1st Sess., reprinted in (1975) u.S.

Code Cong. & Ad. News 179.

To ensure that the Commission's recordkeeping rules continue

to keep pace with the dramatic technological advances which have

occurred since Rule 204-2 (g) was revised in 1985, it appears that

a slight modification of the rule's application is now in order.

Record Retention And Research Direct

We begin this discussion with the observation that requiring

Research Direct's subscribers to print and save hard copies of all

reports relating to their advice and recommendations would

obliterate one of the primary benefits of the Service and would

force the retention of a vast amount of paper at very great expense. However, because subscribers are prohibited from downloading Research Direct reports onto their internal computer

systems, the Service may not lend itself to electronic storage

within the .confines of Rule 204-2 as it is presently configured.7

Nevertheless, as explained herein, more than adequate

safeguards can be designed to ensure that the Service's reports are

not altered, lost or destroyed during the periods prescribed by the

Advisers and Company Acts' recordkeeping rules, as well as to

ensure that the Commission and its staff have prompt and thorough access to these reports for regulatory purposes. In this regard, we propose the following reèordkeeping arrangement for reports disseminated to investment advisers through Research Direct:

1. First Call would provide each Research Direct subscriber

with a monthly statement identifying every research report

that was disseminated to the subscriber during that month.

2. Investment adviser subscribers to Research Direct would

maintain hard copies of the foregoing monthly statements in

accordance with Advisers Act Rule 204-2 and/or Company Act

3la-l and 3la-2.

3. First Call would store at its Boston headquarters, each

report disseminated through the Service for a period of six

years from the end of the calendar year during which the B report was produced.

4. During the six-year period described in Paragraph 3,

subscribers would be able to access Research Direct reports

from subscribers' on-site terminals. In the event that a

subscriber terminates its subscription to First Call, the

subscriber will be able to obtain within 48 hours, for a fee,

a hard copy of any report covered by Rule 204-2(a) (7) which

the Staff of the Division of Investment Management may request

in connection with any examination, inspection or investigation. 7 In particular, because Research Direct reports are stored at the

subscriber's premises for only thirty days, relevant documents may not be deemed

to be maintained for two years "in an appropriate office of the investment

adviser" as required by Rule 204-2 (e) . Nor may advisers be in a position to

comply with all of the conditions enumerated in subsection (g) of the rule.

B Because Research Direct disseminates reports in real time, the date of production and date of availability through the Service would be the same. A calendar year rather than fiscal year basis has been chosen since it would be

impossible to calibrate the Service's document retention with every adviser's

fiscal year. For many advisers, the fiscal year ends on December 3l anyway.

5. In the event that First Call ceases operations, it will

make arrangements reasonably acceptable to the Commission or

its staff to ensure the continued availability of Research

Direct reports for regulatory purposes during the remainder of

the period described in paragraph 3.

We believe that the foregoing arrangement would comport with

congressional directives to incorporate technological advances into

securities regulation; would facilitate advisers' compliance with

their recordkeeping obligations; would reduce costs and regulatory

burdens on investment advisers; and would simplify the staff's

inspections of advisers' operations.

Therefore, please advise us that you would not recommend that

the Commission take enforcement action against a registered

investment adviser under Advisers Act Rule 204-2 or Company Act

Rule 3la-l or 3la-2 if the adviser maintains and makes available to

the SEC relevant Research Direct reports, through the facilities of

First Call in accordance with the arrangement outlined herein.

Conclusion
In view of the many salutary characteristics of FIRST CALL

Research Direct, and in further view of the fact that the

electronic storage proposed in this letter meets the fundamental

goals of the recordkeeping requirements under the Advisers and

Company Acts, we respectfully request that you grant the no-action

relief described herein.

If you need any further information on this matter, please do

not hesitate to contact the undersigned.

Very truly yours,

he-' -qL w-~aVr ~

Mari-Anne Pisarri

cc: Alex Bentley

Barbara Chretien Dar, Esq.