SEC Division of Investment Management staff letter: PaineWebber Equity Trusts

JUL 1 91993 p Our Ref. No. 93-375-CC PaineWebber Equity RESPONSE OF THE OFFICE OF CHIEF COUNSEL Trusts DIVISION OF INVESTMENT MANAGEMENT File No. 811-3722

By letter dated June 22, 1993, you request our assurance

that we would not recommend enforcement action to the Commission

under section 4 (2) of the Investment Company Act of 1940 (the

"1940 Act") if, as more fully described in your letter,

PaineWebber Inc. ~,',~PaineWebberll) sponsors unit investment trusts

("UITs") that inclûde a provision in their trust indenture

requiring the trustee automatically to dispose of a portfolio

security under certain circumstances.

PaineWebber proposes to sponsor UITs comprised of equity

securities, that, as of the date of deposit, are individually

rated in the range of 111" to 113" on a five point scale. l/ The

securities will be rated by PaineWebber's research department,

which currently performs this function on a regular basis as part

of its service to institutional and individual clients, and has

no connection with PaineWebber's unit investment trust group.

The indenture will require the trustee to dispose of a security

in the event its rating drops below "3" due to a downgrade by the research department. The proceeds from disposition will not be reinvested in substitute securities, and will be distributed to

uni tholders at the first distribution date following sale of the

security. l/ The proposal will be fully disclosed in the UIT

prospectus and all sales literature will inform prospective

investors that they may have a portion of their principal

returned prior to the UIT' s final termination date, which may

cause the investor to incur additional sales charges upon

reinvesting the funds. 1/

1/ The ratings are based on several fundamental valuation

factors, including, but not 1 imi ted to, present and future

earnings, projected cash flow, market share potential,

expenses, capital expenditures, profitability, tax

considerations and liquidation value.

ÆI Proceeds may be reinvested temporarily in U. S. Treasury

obligations that mature on or prior to the next applicable

distribution date.

1/ You represent that the UIT will not include a reinvestment

option that involves the imposition of a sales load or a

special inducement to reinvest distributions. Telephone

conversation between Amy R. Doberman and Kathleen H.

Moriarty, dated July 8, 1993. This representation is

intended to address concerns that the elimination provisions

might lead to an exchange prohibited, absent Commission

approval, by Section 11(c) of the 1940 Act.

On the basis of the facts and representations contained in Y-0u-~t.e-r--~-Fti-su-l-a-I'~j' tha-t.pÆ-E'ee-eEls-'9a-m-'ae-å3..s-pas-i-Men of a security will be distributed to unitholders, and that the

proposal will be fully disclosed in the UIT prospectus and sales

literature, we would not recommend any enforcement action to the

Commission under section 4 (2) if PaineWebber sponsors UITs for

which the trust indenture directs the trustee to dispose of a

security if it is downgraded below a certain rating level. !/

You should note that this response expresses the Division's

posi tion on enforcement action only and does not express any legal conclusions on the question presented.

~t.Ùc'fx~~~
Amy ~. Doberman

Senior Counsel

!/ Prudential unit Trusts (pub. avail. Jan. 20, 1987).

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S99 LEXINGTON AVE.~o.n U,---J "". .

NEWYORK,NEWYORKlI0022 , " TELEPHONE (212) 326.:'S:siç!ai ---___

TELECOPIER (212) 326¡:SSl:Ôt--1.--:--.. I .,J. ( :" 10 "., l'"'-'ì""' i... L "'1' -r

SAN FRANCISCO. CALIFORNIA 9411l SACRAMENTO. CALIF'ORNIA 9~~.,,,,....; '-l.' ..4 ,- ..1. .~' ,,:. y i:'-- -- ¡-GS ANGELES, CALIF'ORNIA ~..._... 400 SAN SOME $TREE:T S CAPITOL MALL '--'---~OUTH HOPE STREET TEi-EPHONE (415) 392 -1l22 TELEPHONE (916) 447-9200 TELEPH~)e¡àO"'7OgO . . . .'

~ Investment Company Act of 1940

'r Section 4 (2)
June 22, 1993

Thomas S. Harman

Chief Counsel

Di vision of Investment Management

Securi ties and Exchange Commission

450 Fifth street, N.W.

Washington, D. C. 20549-1004

Re: PaineWebber Equity Trusts i Growth Stock Series

Dear Mr. Harman:

We represent PaineWebber Incorporated ("PaineWebber!'), a broker-dealer registered with the Securities and Exchange

Commission ("Commission" or "SEC"), which currently acts as

sponsor (the "Sponsor") of a series of unit investment trusts,

the PaineWebber Egui ty Trusts, Growth Stock Series (col lecti vely, the "Trusts"), registered under the Investment Company Act of

1940 (the "Act"). We hereby request on behalf of PaineWebber

your advice that the Division of Investment Management

( "Division") will not recommend that the Commission take

enforcement action under section 4 (2) of the Act if PaineWebber, as Sponsor of the Trusts, conducts certain acti vi ties as described more fully below.

Description of the Trusts

Each Trust is one of a series of generally similar but

separate unit investment trusts designated by a different series

number. The Trusts are created under New York law by the Sponsor

pursuant to a Trust Indenture and Agreement (the "Indenture!'), dated as of the date the portfolio securities are deposited with

the trustee (the "Date of Deposit"), between PaineWebber, as

Sponsor and Investors Bank & Trust Company and The First National

Bank of Chicago, N. A., as Co-Trustees (the "Trustee").

At the Date of Deposit, each Trust consists of a di versif ied portfolio of stocks selected by the Sponsor ("Equity Securities"). Each series of the. Trust has a stated short term

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ORRICK, HERRINGTON & SUTCLIFFE

ma tur i ty (approxima te lY__i3__m~~thsJ__and-as-Ie ; n¥estment objective of providing for capital appreciation through an

investment in equity growth stocks having, in PaineWebber' s

judgment, an above-average potential for appreciation.

PaineWebber is the sole underwriter of the Trust Units (the

"Units") .
Pursuant to the terms of the Indenture, the Trustee

will make distributions on the Distribution Dates to all

Unitholders of record. Until distributed, dividends and

principal received upon the sale of Equity Securities may be

reinvested, until the next applicable distribution date, in

interest-bearing U.S. Treasury obligations. Upon termination of

the Trust, the Trustee will distribute to each Unitholder of

record his or her pro rata share of the Trust's assets, less

expenses.
After the Date of Deposit, the Sponsor may, from time

to time, deposit additional Equity Securities in a Trust if

additional Units are to be offered to the public). Such deposits

maintain the original proportional relationship between the

individual Equity Securities in the Trust and replicate any cash

or cash equivalents held by the Trust, subject to certain adjustments. The original proportionate relationship in a Trust is subject to adjustment to reflect the occurrence of a stock

split or a similar event which affects the capital structure of

the issuer of an Equi ty Security but which does not affect the

Trust's percentage ownership of the Equity Security, to reflect a

sale or maturity of a Security, to reflect the acquisition of

Treasury Obligations or to reflect a merger or reorganization.

If any stock dividends are received by the Trust, they will be

sold by the Trustee and the proceeds therefrom will be

distributed ,on the next quarterly Distribution Date. e A Trust portfolio is not "managed" by the Sponsor or

the Trustee; rather, their acti vi ties are governed solely by the

provisions of the applicable Indenture. Currently, each

Indenture pursuant to which a Trust is organized provides that

the Sponsor may direct the Trustee to sell or liquidate Equity

Secur i ties in a Trust if:

1. there has been a default in the payment of
   dividends, after declared and when due and payable;
2. any action or proceeding has been instituted at
   law or equity seeking to restrain or enjoin the payment of dividends, or if there exists any legal question or impediment affecting such Equity Secur i ties or the payment of dividends from the same; Nyi.i~9621 2

ORRICK, HERRINGTON & SUTCLIFFE

3 . there has occurred any breach of covenant or

warranty in any document relating to the issuers

of the Equity Securities which would adversely

affect either immediately or contingently the

payment of dividends, or the general credit

standing of the issuer or otherwise impair the

sound investment character of such Equity Securities;
4. there has been a default in the payment of

dividends, principal of or income or premium, if

any, on any other outstanding obligations of the

issuer of such Equity Securities;

5. the price of any such Equity Securities has

declined to such an extent or other such credit

factors exist so that in the opinion of the

Sponsor as evidenced in writing to the Trustee,

the retention of such Equity Securities would be

detrimental to the interest of the Unit holders;

6. a public tender offer or exchange offer is made

for an Equity Security, or a merger or acquisition

is announced affecting an equity Security that in

the opinion of the Sponsor makes the sale or

tender of the Equity Security in the best

interests of the Uni tholders;

7. all of the securities in the Trust must be sold

pursuant to mandatory termination of the Trust as

provided for in the Indenture; or

8. such is necessary to pay Trust expenses or a sale

is required because Units are tendered for

redemption.
Pursuant to the terms of each Indenture, the Trustee

also is required to reject any offer to issue new securities by

the issuer of any of the Equity Securities or any other party.

If an exchange is effected notwithstanding such rejection or

without an initial offer, any Equity Securities, cash or other

property received in exchange will be deposited in the Trust and

promptly sold, if securities or property, by the Trustee pursuant

to the Sponsor's direction. The proceeds of such sale and any

cash received in the exchange will be distributed to the Uni t-

holders.
Cash proceeds received upon the sale of an Equity Secur i ty (except for sales to meet redemption requests) and di vidends received may be reinvested in U. S. Treasury obl igations which mature on or prior to the next applicable Distribution

Date. The Sponsor anticipates that, where permitted, such

proceeds will be reinvested in Treasury obligations unless

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ORRICK, HERRINGTON & SUTCLIFFE

factors exist that reinvestment is not in the interest Qf__the

Uni tholder or is otherwise impractical. Any sale proceeds not

reinvested will be held in a non-interest bearing account until

distribution on the next Distribution Date.

The Trustee will terminate and liquidate a Trust if the

value of a Trust is less than fifty percent (50 %) of the total

market value of the Trust after the completion of the deposit

period during which the Sponsor deposits additional Equity

Securities in the Trust in connection with offering additional

Uni ts to the public. A Trust also may be terminated at any time

by the written consent of fifty one percent (51 %) of the

Uni tholders or by the Trustee upon the resignation or removal of

the Sponsor if the Trustee determines termination to be in the best interest of the Uni tholders. In no event will the Trust continue beyond the Mandatory Termination Date.

The Proposal
The Sponsor proposes to include a provision in the

governing Indenture applicable only to future Trusts whereby the

Trustee would be required to automatically dispose of a

particular Equity Security from the portfolio of a Trust upon the

attainment by a particular Equity Security of certain fixed

cri teria. More specifically, the Sponsor proposes to offer

future series of the Trust with the following characteristics:

1. The portfolio of each Trust will be comprised of
   individually-rated Equity Securities, on a scale of 1 to 5, according to fundamental valuation factors, including (but not limited to) present and future earnings, projected cash flow, market share potential, expenses, capi tal expenditures, profitability, tax considerations and liquidation value;
2. The Sponsor's research department will be solely
   responsible for rating and reevaluating the rating of each Equity Security and currently performs this function on a regular basis as part of its service to institutional and individual clients;
3. The Sponsor's research department is a totally
   separate entity and has no connection with the uni t investment trust group of the Sponsor;
4. Equi ty Securities deposited on the ini ~al Date of
   Deposi t will be rated in the range of i to 3 according to the rating scale above;
5. The disposition of any Equity Security from a
   Trust's Portfolio will be due to a downgrade in NYI-18C¡62,1 4

ORRICK. HERRINGTON & SUTCLIFFE

rating from 3 to 4 based on an overall fundamental

evaluation of the issuer's economic viability as

described above ¡and
6. The proceeds of any such disposition will not be

reinvested, but will be distributed directly to

Uni tholders.

These provisions would not give either the Sponsor or

the Trustee the discretion to sell an individual Equity Security,

to reinvest the proceeds or to terminate a Trust. The Trustee

will merely distribute to Unitholders proceeds from the sale of

an Equity Security. Each prospectus will fully disclose the

details of the proposal, and all sales literature will

prominently disclose that investors may receive a portion of

their principal back before the final Termination Date of a Trust

and be required to invest in another investment vehicle, which

may impose additional sales charges.

Analysis
Section 4 (2) of the Act in relevant part defines a unit

investment trust as an investment company which "... issues only

redeemable securities, each of which represents an undivided

interest in a unit of specified securities." The Staff has

stated its view that unit investment trusts "may not contemplate

trading of securities" and that "the portfolio of the trust must

be relatively fixed." Nike Securities. L.P., 1992 SEC No-Act

LEXIS 1194 (avail. November 20, 1992). The Staff takes the

position that a unit investment trust may not "sell securities

and reinvest proceeds in substitute securities solely because of

the decline in value of a portfolio security due to general

market or industry conditions." Investment Company Act Release

No. 15162 (March 9, 1987), 37 SEC Dock. 1078, 1113.

We believe the Sponsor's proposal is consistent with

the purposes of the Act and the principles governing unit investment trusts. By def ini tion , unit investment trusts are fixed trusts in which the trustee has limited managerial

discretion and a relatively unchangeable portfol io. See

Municipal Investment Trust Fund, (1986-1987 Transfer Binder) Fed.

Sec. L. Rep. (CCH) ~ 78,322 (avaiL. April 28, 1986). In

complying with the staff interpretation of " limited managerial

discretion," a provision containing the Sponsor's proposal would

be properly incorporated into the governing Indenture for each

Trust and would be fully described in the registration statement

and prospectus. In our view, under the Sponsor's proposal,

management discretion will be "completely or almost completely

eliminated," See S. Rep. No. 1775, 76th Cong., 3d Sess., at 2-3

(1940) .
In Prudential Unit Trusts, 1988 SEC No-Act LEXIS 86

(avail. January 20, 1987), the Staff took a no-action position

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ORRICK, HERRINGTON & SUTCLIFFE

wi th respect to a proposed series of future unit investment

trusts consisting of equity securities selected by the sponsoring

broker-dealer and meeting, as of the date of deposit, specified

minimum quality standards fixed in the governing indenture and

described in the registration statement. The trusts were to be

structured to require the sale of a security from the portfolio

of a trust where a quality rating of the security based on a

numerical rating system fron1 "1" to "5" fell below a minimum

level. There would be no, reinvestment of the proceeds. All

proceeds from the sale of" a security were to be distributed to

Unit holders of the trust. The broker-dealer's research

department assigned ratings according to its view of the capital

appreciation or depreciation potential of security and based upon

an assessment of technical factors relating to a particular company. Such ratings were not based on historical, quanti tati ve models, general market conditions or the price action of shares; rather, they reflected a research analyst's view regarding the

likely future course of each company's share price based upon a

variety of fundamental factors. The research department

evaluated its ratings of a company on a regular basis and

operated independently of the unit investment trust group.

In N ike Securities, supra, the Staff granted no-action

reI ief in connection with unit investment trusts that included a

provision in their indenture requiring the trustee automatically

to dispose of a portfolio of equity security, or terminate a

trust, under certain circumstances. If a portfolio security

reached a predetermined growth level, the trustee would be

required to sell the security and distribute the proceeds to the

uni t holders. In addition, if a trust's entire portfolio

achieved a predetermined total growth goal, the trustee would be

required to terminate the trust and distribute the proceeds to

uni t holders. The growth goals were determined at the initial date of deposit and fully described in the prospectus. In granting relief, the Staff concluded that" (w)here the UIT

indenture permits elimination of securities upon the occurrence

of certain specified events, and does not permit the sponsor to

purchase new securities, ... the indenture does not involve

management. " Id.

In Municipal Investment Trust Fund, supra, the Staff stated that Congress desired investors know "with a high degree of specif ici ty" the securities constituting a trust's portfolio. In this connection, the Staff noted that in Guide 10 to proposed

Form N-7, a proposed registration form for unit investment

trusts, it had formally interpreted the term "specified

securities" to require that "any additional securities deposited

in a trust ... substantially replicate the initial composition of

the trust portfolio...." Investment Company Act Release No.

15162 (March 9, 1987), 37 SEC Dock. 1078, 1113. The Staff's

interpretation of the term "specified securities" appears to

focus more on the issue of the reinvestment of the proceeds in

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ORRICK, HERRINGTON & SUTCLIFFE

qualifying substitute securities than on the sale of securities out of the trust portfolio. In PaineWebber Equity Trust Growth stock Series, (1986 1987 Transfer Binder) Fed. Sec. L. Rep. (CCH) ~ 78,367 (avail. September 24, 1986), the Staff declined to take a no-action posi tion regarding the addition or deletion of a stock from the portfolio of a trust based 9n whether the stock was added to or

deleted from Standard & Poor's 500 Stock Price Index. Although

an automatic formula was used in determining whether the stock

would be sold, the proposal allowed for reinvestment of the

proceeds in substitute securities as well as the possibility of

continuous additions and deletions of securities. In its

response letter, the Staff took the position that a ..... sponsor

may sell portfolio securities and reinvest the proceeds ... only

in extraordinary circumstances." The Staff's underlying concern

appears to be with the reinvestment of proceeds and not with the

actual sale of a security pursuant to an automatic formula.

Similar to the proposal in Prudential unit Trusts, the

present proposal of the Sponsor assigns a mandatory minimum value

to each Equity Security. In contrast to the Staff's earlier

unfavorable position in PaineWebber Growth Stock, the later and

favorable Staff response in Prudential Unit Trusts appears to

have resulted from satisfactorily addressing the Staff's concerns

regarding reinvestment of proceeds upon disposition. Moreover,

Sponsor's proposal is similar to the disposal mechanism permitted

in Nike Securities in that an Equity Security will be eliminated

upon the occurrence of certain specified events, without the

reinvestment of proceeds. Under the Sponsor's proposal, once an

Equity Security is sold out of a Trust, a substitute security

will not be added back into the Trust portfolio. Accordingly,

under the Sponsor's proposal, Unit holders will be assured that

the "specified securities" originally deposited in the Trust

would remain relatively unchanged but for the automatic

disposi tion of a particular Equi ty Security.

The Sponsor's proposal is whol ly consistent with the

Staff's view of Congressional intent surrounding the enactment of

Section 4 (2). The Sponsor's proposal will function automatically

wi th no discretion on the part of either the Sponsor or the

Trustee and no reinvestment of the proceeds. The governing

Indenture will mandate sale of an Equity Security automatically

upon attainment of the above-mentioned fixed level. Where a

particular Equity Security is sold, the Sponsor's proposal will

result in a distribution to unit holders while maintaining a

relatively unchanged portfolio with no reinvestment in any

substi tute security, thereby precluding the ownership of a

securi ty which was not included in the Trust portfolio on the

initial Date of Deposit. Accordingly, Sponsor's proposal

addresses the Staff's concern regarding the prevention of

excessi ve trading of securities based on general market

conditions and continuous substitution of securities.

Nyi.i~96:',i 7

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ORRICK, HERRINGTON & SUTCLIFFE
Ccm us i 011
For the reasons and based upon the facts stated herein,

it is respectfully requested that the Staff advise us that it

will not recommend that the Commission take any enforcement

action under section 4 (2) of the Act if the Sponsor's proposal is

implemented.
Should you have any comments or questions, or if there

is any way that we can be of further assistance, please feel free

to contact Kathleen H. Moriarty at (212) 326-8837 or the

undersigned at (212) 326-8890.

yours,
Donald r?
I'TYJ.J~~62,J 8