SEC Division of Investment Management staff letter: The Adams Company

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EDMUND S. MUSKIE.
FRANK B. STONE
DONALD L. DEMING
ROBERT A. HOWES
PAUL G. PENNOYER. .JR.
PETER M. WARD
.JOHN WILCOX
.JANET C. BROWN
CHARLES H. HARFF
DAVID R. BAKER
ARNOLD HENSON
EDMUND E. HARVEY
MICHAEL B. WEIR
WILLIAM M. BRADNER. .JR.
RAYMOND R. FLETCHER. .JR.
EDWARD C. McLEAN. .JR. .
STUART D. BAKER
ZACHARY SHIMER
NICHOLAS B. ANGELL
NORMAN SINRICH
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CHADBOURNE. PARKE. WHITESIDE & WOLFF
WILLIAM .J. GEEN
DONALD I STRAUBER
DANIEL .J. O'NEILL
PAUL A. RANDOUR
MALCOLM E. MARTIN
RICHARD R. DAVIS
EDWARD P. SMITH
WILLIAM .J. CALISE. .JR.
EUGENE R. SULLIVAN. .JR.
CHESTER .J. HINSHAW
RICHARD K. KNEIPPER
RICHARD .J. NEY
MICHAEL K. GLENN
BERNARD W. MCCARTHY
MARCIA E. CARPENI
LESLIE .JOHN SCHREYER
HENRY J. OECHLER. JR.
PHILIP D. BEAUMONT
CHARLES K. O'NEILL
RIGDON H. BOYKIN
(212) 641-6
WUI TELEX
WUTELEX or COUNSEL
STANNARD DUNN
.JAMES K. CRIMMINS
CHARLES B. LAUREN
HAROLD L. WARNER. JR.
MELVIN D. GOODMAN
F. FRANKLIN MOON
GEORGE BOYD. JR.
M. A. K. AFRIDI.
,~. ..... 1612 K STREET. N. W.
WASHINGTON. D. C. 20006
(2021 672'6050
June 18, 1981
CHADBOURNE. PARKE li. AFRIDI
21 KUWAITI BUILDING
Pcb. BOX 3600 . DUBAI
UNITED ARAB EMIRATES
TEL. 2261g4, TELEX 46145
OFFICES ALSO IN ABU DHABI
AND SHARJAH. U.A. E.
ALVIN D. LURIE
COUNSEL
GEORGE E. ZEITLIN llNOT AOMITTED IN NEW YORK ) J Investment Company Act of 1~40/
Section 17 (f); Rule 17f-2
Securities and Exchange Commi~siön
500 North Capitol Street !.E.t.
Washington, D.C. 20549 i
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Attention: ;~ç.uon Stanley B. Judd, tEsq.~-~- _...__-......-:.... d A~s~s~ant Chief CÒt.ì~s.& .(7 -/ _ ~ "-;; Di vision of Invei¡;t.rbèntt. .. .'~~-'-" ... "V""oi\ ) Re: M:::9::::: com;:::labllityc II /~l.ß2.".~-&.J File No. 811-2624 Gentlemen:
We are counsel to The Adams Express Company (" Adams"), a closed-end investment company registered under the Investment Company Act of 1940 (" 1940 Act"). Reference is made to our letters to you of March 22, 1979 and July 13, 1979 in which we requested the advice of the staff of the Secur i ties and Exchange Commission ("Commission") " as to whether a "standby" letter of credi t, issued under the circumstances descr ibed therein, could be used to collateralize a loan of portfolio secur i ties

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" CHADBOURNE, PARKE. WHITESIDE & WOLFF ri) Secur i ties and Exchange Commission -2- June 18, 1981 by a reg istered investment company in compl iance wi th Sec￾tion 17 (f) of the 1940 Act and Rule l7f-2 thereunder. In your response of September 20, 1979 (Reference No. 79- 105-CC), you indicated that enforcement action would not be recommended if Adams accepted irrevocable letters of credit as collateral "under the terms and in the manner" descr ibed in our pr ior cor respondence. Copies of our prior correspondence and your response thereto are en￾closed herewi th for your convenience. . . ¡ \ ~) Our prior correspondence indicated that Adams would not accept a letter of creai t from an issuer pro￾posed by a borrower unless Adams' Board of Directors had f given its prior approval to such issuer and that only "banks which, at a minimum, satisfy the qualifications under Section 17 (f) of the 1940 Act applicable to bank custodians of registered investment companies" would be eligible for consideration. A "bank" is defined under
Section 2 (a) (5) of the 1940 Act, in relevant part, as
"(A) a banking insti tution organized under the laws of the Uni ted States . . . (or) (C) any other banking' insti￾tution . . . doing business under the laws of any State " or of the Uni ted States, a substantial portion of the busi￾ness of which consists of receiving deposits. . . and ) which is supervised and examined by State or Federal

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CHADBOURNE. PARKE, WHITESIDE & WOLFF
Secur i ties and Exchange Commission -3- June 18, 1981 author i ty having supervi sion over banks n Pursuant . . . . to Section 17 (f), a bank custodian must have the qualifi￾cations prescr ibed by Section 26 (a) which requires that such bank at all times have n an aggregate capital, sur￾plus, and undivided profits of . . . not less than $500,000 n . . . . Adams has informed us that recently a major insti￾tutional borrower proposed to collater al ize its secur i ties loans with a letter of credit to be issued by the New York¡ Ci ty branch of a bank organized under French law. Publ.icly available information indicates that the proposed issuing i bank is one of three French banking subsidiaries of a Paris￾based banking and financial holding company with total con￾sol idated wor Idwide assets of approximately $53 billion. The bank is reported to be one of Fr ance' s largest commer￾cial and investment banks with approximateiy'$18 billion in total assets, $18 million in retained earnings and $101 million in reserves at December 31, 1980 and net income of approximately $31.5 million for the year then ended. In its annual listing, the AIDer ican Banker (July 25, 1980) reported that as of December 31, 1979 among world banks the French bank ranked laAth in terms of assets and 127th in terms of deposits and among French banks it ranked 7th in terms of deposits.

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CHADBOURNE. PARKE, WHITESIDE & WOLFF
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Secur i ties and Exchange
Commission -4- June 18, 1981
The New York Ci ty branch of the French bank is licensed pursuant to the New York State Banking Law to transact the business of "buying, selling, paying or col￾i lecting bills of exchange, or of issuing letters or credi t or of receiving money for transmission or transmitting the same by draft check, cable or otherwise, or of making loans, or receiving deposits. . . .n Under New York law, the li￾censing of a branch of a foreign bank, which must be re- ¡ . newed annually, requires that such bank submi t information ) as to its management, business and financial condition aqd the licensed branch is subject to extensive state regula￾tion and examination, including complíance wi th applicable f- , capi tal deposi t and asset maintenance tests and financial re￾porting requirements. The French bank also operates a branch in Los Angeles, California and a subsidiary in Houston, Texas and is subject to regulation and supervision under the ap￾plicable banking laws of these states, in addition to regu￾lation under the Bank Holding Company Act of 1956, as amended, 12 U.S.C. § 1841 et. ~., and the International Banking Act of 1978, 12 U.S.C. §§ 3101-3108 ("IBA"). We have been adv~sed, however, in telephone con- ) versations with personnel from the staff of the Commis￾sion's Division of Investment Management that the staff of the Division takes the posi tion that a bank organized

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)., CHADBOURNE. PARKE. WHITESIDE & WOLFF rt~) Secur i ties and Exchange Commission -5- June 18, 1981 under the laws of a foreign jurisdiction with domestically licensed branch or agency operations does not satisfy the definition of a "bank" under Section 2 (a) (5), which would require that the "parent" bank itself be "organized" or "doing business" under state or Federal law. Thus, al￾though the branch of the above-mentioned French bank which would issue the letter of credi t is licensed, supervised, and examined by the New York State Banking Department and the bank has other domestically 1 icensed operations, the ') bank would be ineligible for consideration by Adams as an issuing bank under the eligibi~ity criteria referred to above. f￾As a resul t of applying the technical def ini tion of "bank" under Section 2(a)(5), if Adams adheres to its ini tial standard of eligibili ty a class of reliable and financially strong banking insti tutions will be eliminated as candidates for issuing letter of credi t collateral. Because often there are established banking and other re￾lationships between potential borrowers and certain banks, the ultimate effect may be to prevent Adams from entering into favorable lending arrangements, a resul t nei ther in- " tended nor justified, as more fully explained below. In selecting the criteria of "banks" qualifying ) under Section 17 (f), Adams' objective was to set "high

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CHADBOURNE. PARKE ,WHITESIDE & WOLFF j~ . , Secur i ties and Exchange Commission -6- June 18, 1981 standards of issuer eligibili ty" in order to minimize any risk of issuer insolvency and the standards applicable to custodians of registered investment companies appeared to be appropriate criteria. There was no intention, how￾ever, of eliminating the entire category of foreign banking insti tutions which could offer numerous candidates of estab￾lished international banking reputation and financial strength equal if not superior to those domestic banks which could satisfy the technical definition of "bank" under Section 2(a)(5). ",) We note that the staff of the Commission has acknowledged that a foreign bank ~ith domestically licensed t subsidiary, branch or agency operations may be considered to have the essential attr ibutes of a "bank" for purposes of determining the availability of the exemption from regis￾tration as an investment company under Section.3 (c) (3) of the 1940 Act, which excludes "banks" from the def ini tion of an investment company. In render ing no-action advice concerning the availabili ty of the "bank" exemption in Bank Leumi le-Israel B.M. (available August 27, 1976), the staff of the Commission relied upon counsel's opinion that the Israeli bank, which ~s engaged in domestic banking op￾erations through branches and subsidiaries doing business ) under the laws of New York, California and Florida, was

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(:/1CHADBOURNE. PARKE. WHITESIDE & WOLFF Secur i ties and Exchange Commission -7- June 18, 1981 withi~~be definition of Se¿tion 2(a) (Sf (cy primarily be￾cause of the extent of the regulation and supervision of the bank's domestic activities under state law. See also Bank Leumi le-Israel B.M. (letter dated June 19, 1969);~" Israel Discount Bank Ltd. (letter dated November 7, 1969). Simi lar ly, the staff of the Commi ss ion frequently has relied on opinions of counsel that the nature and ex￾tent of the supervision and the manner of regulation of ) . foreign bank branc~es and agencies under state law brought such "banksn wi thin the reg istration exemption under Section 3(a) (2) of the Securities Act of 1933 a~ailable to securi- I' ties n issued or guaranteed by any bank" (including letters of credit). Although Section 3 (a) (2) applies to "any bank￾ing institution 6rganized under the laws of any state . . .. the business of which is substantially confined to banking and is supervised by the State . . . banking commission or similar official n, because of' the state's extensive regula￾tory oversight the staff permitted reliance on the e~emption notwi thstanding that licensing under state law was not ) n identical" to being norganized" thereunàer. See, inter " alia, Toronto-Dominion Bank (available January 12, 1981) ¡ The Mi tsu i Bank, Limi ted (avai lable October 1S, 1979) ¡ Barclays Bank International, Ltd. (available January 22, 1979). Of particular interest is a recent no-action inquiry, Societe

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/') CHADBOURNE. PARKE. WHITESIDE & WOLFF Securi ties and Exchange Commission -8- June 18, 1981 Generale-New York (Current) CCH Fed. Sec. L. Rep. ~ 76,775 (available October 27, 1980), in which the staff of the Commission advised that it would not recommend enforcement action if a branch of a French bank, licensed to do business under the New York State Banking Law, issued irrevocable letters of credi t to support industr ial development bonds in reliance on the Section 3 (a) (2) exemption. The staff specifically noted the "nature and extent of the supervi￾sion and regulation" of the domestic branch under the New -) York State Banking Law, as detailed in the no-action request, and relied upon the opinion of the ba~k' s counsel that the foreign bank should be considered to be a "bank" for ¡. purposes of Section 3 (a) (2) . We also note that as a result of enactment of the IBA, the degree of federal supervision - and regulation over the operations of foreign banks has been signif icantly expanded and many of the operations of foreign banks are now subject to federal regulation and supervision. Prior to enactment of the IBA, the establishment of u.S. branches and agencies of foreign banks was subject solely to state " law and. state banking departments exercised exclusive super￾visory authority over their operations, whereas now foreign ) banks have the option of establishing either federal or state branches or agencies. Such federal branches and agencies

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CHADBOURNE, PARKE, WHITESIDE & WOLFF
~ Secur i ties and Exchange Commission -9- June 18, 1981 are subject to examination and supervision by the Comptroller of the Currency and, in general, are subject to the same sta￾tutory and regulatory provisions applicable to national banks operating in the same location. Every branch or agency of a foreign bank must conduct its operations in compliance ) ! with the laws applicable to national banks or state-char￾tered banks doing business in the state in which such branch or agency is doing business. Although foreign branches and, agencies are not required to become members of the Federal ¡ Reserve System, all foreign branches and agencies are sub￾ject to certain federal reporting, requirements, the Federal and state branches of those foreign banks with worldwide t consolidated assets in excess of $1 billion are subject to reserve requirements and FDIC insurance is generally manda￾tory for Federal branches engaged in the domestic retail de￾posi t taking business. As with any other investment decision, including investments in the secur i ties of foreign issuers, Adams' management and its Board of Directors have ultimate re￾sponsibility for evaluating the relative risks and bene￾fits of any proposed transaction. Accordingly, any "non- " bank" issuer would be subjected to the same degree of ) ...~;' scrutiny regarding its creditworthiness and financial strength as a "bank" issuer which satisfied the technical /'

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CHADBOURNE, PARKE, WHITESIDE & WOLFF
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Secur i ties and Exchange Commission -10- June 18, 1981 def ini tion of a "bank" under' Section 2 (a) (5) . There ap￾pears to be little justification for eliminating foreign banks from consideration as eligible. candidates if the principal concern in selecting an issuing bank is its fi￾nancial strength and credi twor thiness. While there are certain risks attendant to any international transaction, use of standby letters of credi t as reliable mechanisms of international finance has been generally endorsed. See, inter alia, Getz, "Enjoining the International Standby Letter of Credit: The Iranian Letter of Credit Cases", Harvard International Law Journal, Vol. 21, No. 1 (Winter, 1980); "The Role of Standby Letters of Credi t in International i' Commerce: Reflections After Iran", Virginia Journal of Inter￾national Law, Vol. 20, No.2 (1980). If Adams were not limited to the technical def ini￾tion of a "bank" under the 1940 Act, it would be expected that the nature and extent of the supervision and regulation of a foreign banking insti tution' s acti vi ties by domestic author i ties woulù be a significant factor taken into account by Adams' Board of Directors in evaluating potential issuers. Other relevant inquir ies might include the scope of the bank's " domestic business acti vi ties, its international banking repu- ;Ø'..-;\ tation, and the nature and extent of the banking regulation to which it is subject under the laws of its home country.

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CHADBOURNE. PARKE. WHITESIDE & WOLFF e
Secur i ti es and Exchange Commission -11- June 18, 1981 Insofar as financial standards are concerned there can be li ttle question that under present day standards, the f inan￾cial qùalifications of custodian banks required by Section 17 (f) are not an adequate measure of financial strengt~ for issuers of letters of credi t in the face amount required to collateralize Adams' securi ties loans. Because the factors relevant to an evaluation ~') of the credi tworthiness and financial strength of any par￾i ticular banking insti tution, and the relative weight to be accorded such factors, are more appropr iately determined in each individual case wi th reg~rd to the size and nature of the loan tr ansaction invol~ed, we bel ieve that f in granting its prior approval to proposed issuers of letter of credit collateral, Adams' Board of Directors should exercise its business judgment without the limi￾tations of prescr ibed def ini tions or financial standards, which may impose artificial and ineffectual constraints on the Board's judgment. We would appreciate your advice as -to whether you concur in our views set forth herein. Because Adams is currently consider ing enter ing into a loan arrange- " ment collateralized by a letter of credi t issued by the ( 1') .,./, i French bank referred to above, we would appreciate your prompt response to our inquiry. If any further informa-

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~ CHADBOURNE. PARKE, WHITESIDE & WOLFF
Securities and Exchange
Commission -12- June 18, 1981 tion is needed or if we can be helpful in any other way, please contact the undersigned or, in my absence, Mary Ellen Pindyck of this office, by collect telephone (212-541-5800). ~ .~) ( Very truly yours, ~,i2~l~ " Q. ~~lV.~L4- . ~' #' . , . i \ ,I ¡ , ,I i i:
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27 OCT 1982
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,"" ~., ''Io'~ . . ,!( . ~ j , ~,,.,( Il;'I "~' . ,,,,', .., c' . d 'D; .i':l'l ~ r,:!;" . . :; ,~ 1$ ~i . ~ l . '.':i~' '.. l~ íJ .!l! @w,t"ii Our ~ef. No. 8l-425-CC The Adams Express Canpany File No. 811-2624 RES~SE OF THE OFFICE OF CHIEF a:xJNSEL DIVISICN OF INVES'IMENl MANAGEMENT Effective May 17, 1982, the Board of Governors of the Federal Reserve System (" Board ") amended 12 CFR 220.6 (h) to permit brokers and dealers to borrow and lend securities against, among other things, letters of credit issued by a bank insured by the Federal Deposit Insurance Corporation, or by a foreign bank that has filed a Form F.R. '!'-2 with the Board agreeing to canply with the same rules and regulations applicable to u.s. banks in securities credit transactions. Only foreign banks with branches or agencies that are supervised and examined by State or Federal banking authorities' are eligible to file such a form. Based on this amendment and the representa￾tions in your letters of June 18, 1981, and February 12, 1982, we would not reoommend that the Commission take any enforcement action under section 17 ( f) of the Investinent Company Act of 1940 or rule 17 f- 2 thereunder if The Adams Express canpany ("Adams") accepts, as collateral for the loan of Adams' portfolio securities, irrevocable letters of credit issued by an eligible foreign bank which has filed a form F.R. '!'-2 with the Board. However, this ' Division expresses no view on whether the letter of credit of such a bank ¡ could be provided to Adams as collateral by a broker or dealer. See Securities Exchange Act Rule l5c3-3(b) (3) (iii). Stanley B. ~dd /~~n Deputy Chief Counsel t- "

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~ .lH.......:,;..:.~ l..~.I.i-~-;.;í .J: ki"! ;:!'dO '::i::~.. .. , +~ a'i;~O EDMUND S. MUSK IE WILLIAM ..J. GEEN FRANK B. STONE DONALD I STRAUBER DONALD L. DEMING DANIEL J. O'NEILL ROBERT A. HOWES PAUL A. RANDOUR PAUL G. PENNOYER, JR. MALCOLM E. MARTIN PETER M. WARD RICHARD R. DAVIS JDH N WILCOX EDWARD P. SMITH JANET C. BROWN WILLIAM J. CALISE. JR. CHARLES H. HAR FF EUGENE R. SULLIVAN, ..JR. DAVID R. BAKER CHESTER J. HINSHAW EDMUND E. HARVEY RICHARD J. NEY MICHAEL B. WEIR MICHAEL K. GLENN WILLIAM M. BRADNER,JR. BERNARD W. McCARTHY RAYMOND R. FLETCHER,JR. DANIEL E. LEACH' EDWARD C. Mc LEAN, JR, MARCIA E. CARPEN I STUART D. BAKER HENRY J. OECHLER,..JR. ZACHARY SHIMER PHILIP D. BEAUMONT NICHOLAS B. ANGELL CHARLES K. O'NEILL NORMAN SINRICH RIGDON H. BOYKIN THOMAS E. BEZANSON CHADBOURNE, PARKE, WHITESIDE & WOLFF 30 ROCKÈFELLER PLAZA, NEW YORK, N. Y. 10112 (212) ~41- ~600 WUi TELEX 620520 WU TELEX 645363 .. I. ',I e(, ':. O. '"'., , I .... r'.... .., '....1 t .:.i j '\ ! ~~~ ~ .:.: ò l~!~sii'!~¡ca ~"!I1'II!'!X3 nJ!~ ~" iiii"~-i" . .. ~'CO\lHlJl!"'''";¡'' STANNARD DUNN JAMES K. CRIMMINS CHARLES B. LAUREN HAROLD L. WARNER. JR. MELVIN D. GOODMAN F, FRANKLIN MOON GEORGE BOYD, .JR. M. A. K. AFRIDI ' 1612 K STREET, N. W. WASHINGTON, D. C. 20006 ,. (202) 672 - 6050 February 12, 1982 CHADBOURNE, PARKE ¡¡. AFRIDI 21 KUWAITI BUILDING P, O. BOX 3600 - DUBAI UNITED ARAB EMIRATES TEL. 226194: TELEX 46145 OFFICES ALSO IN ABU DHABI AND SHARJAH, U.A.E. -HOT ADMITTED IN NEW YORti. COUNSEL ALVIN D. LURIE GEORGE E. ZEITLIN ~. Mrs. Elizabeth Tsai Securities and Exchange Commission Division of Investment Management SOO North Capitol Street Washington, D. C. 20549 Re: Reference No. 81-425-CC Dear Mrs. Tsai:
Reference is made to our recent telephone con￾versation regarding the status of the above-referenced request for advice, submitted on behalf of our client The Adams Express Company ("Adams"), concerning securities loans collateralized by a letter of credit issued by a foreign bank through its domestically licensed branch. You have requested that we provide you with supplemental information concerning the legal status of holders of letters of credit under applicable foreign law in the event of the bankruptcy of the foreign issuing bank, which may involve considerable additional legal research. ", As you are aware, the Board of Governors of the Federal Reserve System has proposed an amendment to Regula￾tion T which authorizes broker/dealers to collateralize securities loans with lette¡s of credit issued by a "bank insured by the Federal Deposit Insurance Corporation. II In its presently proposed form, this would not authorize collateralization with letters of credit issued by foreign banks. As I mentioned to you, we have been advised by the staff of the Board of Governors that it has received a

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CHADBOURNE. PARKE. WHITESIDE & WOLFF
Mrs. Elizabeth Tsai -2- February 12, 1982 number of comments on the proposed amendment objecting to this limitation and urging that broker/dealers should be permitted to use of letters of credit issued by foreign banks, directly or through a domestic branch. We were also informed that the staff has not yet determined whether to recommend deletion of the FDIC limitation. As you are aware, if the amendment to Regulation T is adopted as presently proposed, this would eliminate Adams' interest inpur~uin~ th~ broadauthórity for acceptance of foreign banks i letters of credit as collateral. Accord￾ingly, we believe it inappropriate at this time to furnish supplemental information with respect to foreign banks' letters of credit. ( ,J We continue to believe that there is no practical or legal justification for prohibiting the use of letter of credit collateral is sued by a foreign bank through its domestic branch if, in the judgment of Adams' Board of Directors ,such bank has the financial strength and credit￾worthiness equivalent to a domestic bank which technically, satisfies the definition of "bank" under Section 2 (a) (5) of the Investment Company Act of 1940. Under the circum￾stances, however, we suggest that any response by the staff of the Securities and Exchange Commission to our above- referenced letter be deferred until defini ti ve action has been taken by the Board of Governors of the Federal Reserve System on this matter. p veWi:iglk~ ~L Mary! Ellen Pindyck ~ cc: Stanley B. Judd, Esq. " J , J ~o;..,'