[Federal Register Volume 61, Number 188 (Thursday, September 26, 1996)]
[Notices]
[Pages 50521-50524]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-24699]


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SECURITIES AND EXCHANGE COMMISSION
[Investment Company Act Release No. 22235; 812-9982]


Morgan Stanley & Co. Incorporated; Notice of Application

September 20, 1996.
AGENCY: Securities and Exchange Commission (``SEC'').

ACTION: Notice of application for an order under the Investment Company 
Act of 1940 (the ``ACT'').

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APPLICANT: Morgan Stanley & Co. Incorporated (``Morgan Stanley'').

RELEVANT ACT SECTIONS: Order requested under section 6(c) of the Act 
for an exemption from sections 12(d)(1) and 14(a) of the Act, and under 
section 17(b) of the Act for an exemption from section 17(a) of the 
Act.

SUMMARY OF APPLICATION: Morgan Stanley requests an order with respect 
to the AJL PEPS Trust (the ``AJL Trust'') and future trusts that are 
substantially similar to the AJL Trust and for which Morgan Stanley 
will serve as a principal underwriter (the ``New Trusts,'' and, 
together with the AJL Trust, the ``Trusts'') that would (a) permit 
other registered investment companies to own a greater percentage of 
the total outstanding voting stock (the ``PEPS'') \1\ of any Trust than 
that permitted by section 12(d)(1), (b) exempt the New Trusts from the 
initial net worth requirements of section 14(a), and (c) permit the New 
Trusts to purchase U.S. government securities from Morgan Stanley at 
the time of a New Trust's initial issuance of PEPS.

    \1\ ``PEPS'' is an acronym for ``Premium Exchangeable 
Participating Shares.'' The voting stock of a Trust may have a 
different title, and acronym, reflecting the assets held by the 
Trust.
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FILING DATES: The application was filed on February 8, 1996 and amended 
on June 14, 1996 and September 18, 1996. By letter dated September 20, 
1996, applicant's counsel stated that an additional amendment, the 
substance of which is incorporated herein, will be filed during the 
notice period.

HEARING OR NOTIFICATION OF HEARING: An order granting the application 
will be issued unless the SEC orders a hearing. Interested persons may 
request a hearing by writing to the SEC's Secretary and serving 
applicants with a copy of the request, personally or by mail. Hearing 
requests should be received by the SEC by 5:30 p.m. on October 15, 
1996, and should be accompanied by proof of service on applicants, in 
the form of an affidavit, or, for lawyers, a certificate of service. 
Hearing requests should state the nature of the writer's interest, the 
reason for the request, and the issues contested. Persons may request 
notification of a hearing by writing to the SEC's Secretary.

ADDRESSES: Secretary, SEC, 450 Fifth Street, N.W., Washington, D.C. 
20549. Applicant, 1585 Broadway, New York, New York 10036.

FOR FURTHER INFORMATION CONTACT:
Mary Kay Frech, Senior Attorney, at (202) 942-0579, or Elizabeth G. 
Osterman, Assistant Director, at (202) 942-0564 (Division of Investment 
Management, Office of Investment Company Regulation).

SUPPLEMENTARY INFORMATION: The following is a summary of the 
application. The complete application may be obtained for a fee from 
the SEC's Public Reference Branch.

Applicant's Representations

    1. Each Trust will be a limited-life, grantor trust registered 
under the Act as a non-diversified, closed-end management investment 
company. Morgan Stanley will serve as a principal underwriter (as 
defined in section 2(a)(29) of the Act) of the PEPS issued to the 
public by each Trust.
    2. Each Trust will, at the time of its issuances of PEPS, (a) enter 
into one or more forward purchase contracts (the ``Contracts'') with a 
counterparty to purchase a formulaically-determined number of specified 
equity security or securities (the ``Shares'') of one specified issuer, 
and (b) in some cases, purchase certain U.S. Treasury securities 
(``Treasuries''), which may include interest-only or principal-only 
securities maturing at or prior to the Trust's termination. The Trusts 
have purchased or will purchase the Contracts from counterparties that 
are not affiliated with either the relevant Trust or applicant. The 
investment objective of each Trust will be to provide to each holder of 
PEPS (``Holder'') (a) current cash distributions from the proceeds of 
any Treasuries, and (b) limited participation in, and, in some cases, 
limited exposure to, changes in the market value of the underlying 
Shares.
    3. In all cases, the Share will trade in the secondary market and 
the issuer of the Shares will be a reporting company under the 
Securities Exchange Act of 1934. The number of Shares, or the value 
thereof, that will be delivered to a Trust pursuant to the Contracts 
may be fixed (e.g., one Share per PEPS issued) or may be determined 
pursuant to a formula, the product of which will vary with the price of 
the Shares. A formula generally will result in each PEPS Holder 
receiving fewer Shares as the market value of such Shares increases, 
and more Shares as their market value decreases.\2\ At the termination 
of each Trust, each Holder will receive the number of Shares per PEPS, 
or the value

[[Page 50522]]

thereof, as determinated by the terms of the Contracts, that is equal 
to the Holder's pro rata interest in the Shares or amount received by 
the Trust under the Contracts.
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    \2\ A formula is likely to limit the Holder's participation in 
any appreciation of the underlying Shares, and it may, in some 
cases, limit the Holder's exposure to any depreciation in the 
underlying Shares. It is anticipated that the Holder will receive a 
yield greater than the ordinary divident yield on the Shares at the 
time of the issuance of the PEPS, which is intended to compensate 
Holders for the limit on the Holder's participation in any 
appreciation of the underlying Shares. In some cases, there may be 
an upper limit on the value of the Shares that a Holder will 
ultimately receive.
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    4. PEPS issued by the AJL Trust are listed on the New York Stock 
Exchange, Inc. PEPS issued by the New Trusts will be listed on a 
national securities exchange or traded on the National Association of 
Securities Dealers Automated Quotation System. Thus, the PEPS will be 
``national market system'' securities subject to public price quotation 
and trade reporting requirements. After the PEPS are issued, the 
trading price of the PEPS is expected to vary from time to time based 
primarily upon the price of underlying Shares, interest rates, and 
other factors affecting conditions and prices and the debt and equity 
markets. Morgan Stanley currently intends, but will not be obligated, 
to make a market in the PEPS of each Trust.
    5. Each Trust will be internally managed by three trustees and will 
not have any separate investment adviser. The trustees will have 
limited or no power to vary the investments held by each trust. The 
day-to-day administration of each Trust will be carried out by a bank 
qualified to serve as a trustee under the Trust Indenture Act of 1939, 
as amended. Such bank, or another bank also meeting such requirements, 
also will act as custodian for each Trust's assets and as paying agent, 
registrar, and transfer agent with respect to the PEPS of each Trust. 
Such bank or banks will have no other affiliation with, and will not be 
engaged in any other transaction with, any Trust.
    6. The trustees for the AJL Trust have the power, but not the 
obligation, to sell the Contracts only in the limited circumstances of 
(a) a 50% decline in the value of the Shares from the date of the 
original issuance of the PEPS or (b) the bankruptcy or insolvency of an 
issuer of the Shares. In the event of any such sale of the Contracts, 
any Treasuries remaining in the AJL Trust also will be liquidated, the 
proceeds from the sale of the Contracts and any Treasuries will be 
distributed pro rata to the Holders, and the Trust will be terminated. 
The New Trust will be structured so that the trustees either are not 
authorized to sell the Contracts or Treasuries under any circumstances, 
or are permitted to sell them under the same or more limited 
circumstances than is the case in connection with the AJL Trust. In the 
event of the bankruptcy or insolvency of any counterparty to a Contract 
with a Trust, the obligations of such counterparty under that Contract 
will be accelerated and the available proceeds thereof will be 
distributed to the PEPS Holders.
    7. The trustees of each Trust will be selected initially by Morgan 
Stanley, together with any other initial Holders, or by the grantors of 
such Trust. The Holders of each Trust will have the right, upon the 
declaration in writing or vote of more than two-thirds of the 
outstanding PEPS of the Trust, to remove a trustee. Holders will be 
entitled to a full vote for each PEPS held on all matters to be voted 
on by Holders and will not be able to cumulate their votes in the 
election of trustees. The investment objectives and policies of each 
Trust may be changed only with the approval of a ``majority of the 
Trust's outstanding PEPS'' \3\ or any greater number required by the 
Trust's constituent documents. Unless Holders so request, it is not 
expected that the Trusts will hold any meetings of Holders, or that 
Holders will ever vote.
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    \3\ A ``majority of the Trust's outstanding PETS'' means the 
lesser of (a) 67% of the PEPS represented at a meeting at which more 
than 50% of the outstanding PEPS are represented, and (b) more than 
50% of the outstanding PETS.
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    8. The Trusts will not be entitled to any rights with respect to 
the Shares until any Contracts requiring delivery of the Shares to the 
Trust are settled, at which time the Shares will be promptly 
distributed to Holders. The Holders, therefore, will not be entitled to 
any rights with respect to the Shares (Including voting rights or the 
right to receive any dividends or other distributions in respect 
thereof) until receipt by them of the Shares at the time the Trust is 
liquidated.
    9. Each Trust will be structured so that its organizational and 
ongoing expenses will not be borne by the Holders, but rather, directly 
or indirectly, by Morgan Stanley, the counterparties, or another third 
party, as will be described in the prospectus for the relevant Trust. 
At the time of the original issuance of the PEPS of any Trust, there 
will be paid to each of the administrator, the custodian, and the 
paying agent, and to each trustee, a one-time amount in respect of such 
agent's fee over its term. Any expenses of the trust in excess of this 
anticipated amount will be paid as incurred by a party other than the 
Trust itself (which party may be Morgan Stanley).

Applicant's Legal Analysis

A. Sections 12(d)(1) and 14(a)

    1. Section 6(c) of the Act provides that the SEC may exempt persons 
or transactions 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.
    2. Section 12(d)(1)(A) of the Act prohibits any registered 
investment company from owning more than 3% of the total outstanding 
voting stock of any other investment company. Section 12(d)(1)(C) of 
the ACt similarly prohibits any investment company and other investment 
companies having the same investment adviser from owning more than 10% 
of the total outstanding voting stock of any other closed-end 
investment company.
    3. Applicant believes, in order for the Trusts to be marketed more 
successfully, and to be traded at a price that most accurately reflects 
their asset value, that it is necessary for the PEPS of each Trust to 
be offered to large investment companies and investment company 
complexes. Applicant states that large investment companies and 
investment company complexes seek to spread fixed costs of analyzing 
specific investment opportunities by making sizable investments in 
those opportunities that prove attractive. Conversely, it may not be 
economically rational for such investors, or their advisers, to take 
the time to review an investment opportunity if the amount that they 
would ultimately be permitted to purchase is immaterial in light of the 
total assets of the investment company or investment company complex. 
Therefore, applicant argues that, in order for the Trusts to be 
economically attractive to large investment companies and investment 
company complexes, such investors must be able to acquire PEPS in each 
Trust in excess of the limitations imposed by section 12(d)(1). 
Applicant requests that the SEC issue an order under section 6(c) 
exempting the Trusts from such limitations.
    4. Section 12(d)(1) is intended to mitigate or eliminate actual or 
potential abuses which might arise when one investment company acquires 
shares of another investment company. These abuses include the 
``pyramiding'' of control over portfolio funds by fund-holding 
companies and the layering of costs to investors.
    5. The pyramiding concerns fall into two categories. One arises 
from the potential for undue influence resulting from the pyramiding of 
voting control of the acquired investment company. Applicant believes 
that this concern generally does not arise in the case of the Trusts 
because neither the trustees nor the Holders will have the power to 
vary the investments held by each Trust or to acquire or dispose of the 
assets of the Trusts (except for the limited ability

[[Page 50523]]

discussed previously that the trustees of the AJL Trust have, and the 
trustees of the New Trusts may have, to sell the assets of, and 
terminate, the Trusts). To the extent that Holders can change the 
composition of the board of trustees or the fundamental policies of 
each Trust by vote, applicant argues that any concerns regarding undue 
influence will be eliminated by the provision that, in the case of the 
New Trusts, the charter documents will require, and, in the case of the 
AJL Trust, the investment companies purchasing PEPS in reliance on this 
exemption will furnish an undertaking, in each case, that any 
investment companies owning voting stock of any Trust in excess of the 
limits imposed by sections 12(d)(1)(A) and 12(d)(1)(C) will vote their 
PEPS in proportion to the votes of all other Holders.
    6. The second concern with respect to pyramiding is that an 
acquiring investment company might be able to influence unduly the 
persons operating the acquired investment fund. This undue influence 
could arise through a threat to redeem assets invested in the 
underlying fund at a time, or in a manner, which is disadvantageous to 
that fund, or to threaten to vote shares in that fund in a manner 
inconsistent with the best interests of that fund and its shareholders. 
Applicant believes that this concern does not arise in the case of the 
Trusts because the PEPS will not be redeemable and because the 
trustees' management control will be so limited.
    7. The second major objective of section 12(d)(1) is to avoid 
imposing on investors the excessive costs and fees that may result from 
multiple layers of investments. Excessive costs can result from 
investors paying double sales charges when purchasing shares of a fund 
which, in turn, invests in other funds, or from duplicative expenses 
arising from the operation of two funds in place of one. Applicant 
believes that neither of these concerns arises in the case of the 
Trusts because of the limited on-going fees and expenses incurred by 
the Trusts and the fact that generally such fees and expenses will be 
borne, directly or indirectly, by Morgan Stanley or another third 
party, not by the Holders. In addition, the Holders will not, as a 
practical matter, bear the organization expenses (including 
underwriting expenses) of the Trusts. Applicant asserts that such 
organization expenses effectively will be borne by the counterparties 
in the form of a discount in the price paid to them for the Contracts, 
or will be borne directly by Morgan Stanley, the counterparties, or 
other third parties. Thus, a Holder will not pay duplicative charges to 
purchase its investment in any Trust. Finally, there will be no 
duplication of advisory fees because the Trusts will be internally 
managed by their trustees.
    8. Applicant believes that the investment product offered by the 
Trusts serves a valid business purpose. The Trusts, unlike most 
registered investment companies, are not marketed to provide investors 
with either professional investment asset management or the benefits of 
investment in a diversified pool of assets. Rather, applicant asserts 
that the PEPS are intended to provide Holders with a security having 
unique payment and risk characteristics, including an anticipated 
higher yield than the ordinary dividend yield on the Shares at the time 
of the issuance of the PEPS.
    9. Applicant believes that the purposes and policies of section 
12(d)(1) are not implicated by the Trusts and that the requested 
exemption from section 12(d)(1) is appropriate in the public interest 
and consistent with the protection of investors and the purposes fairly 
intended by the policies of the Act.
    10. Section 14(a) of the Act requires, in pertinent part, that an 
investment company have a net worth of at least $100,000 before making 
any public offering of its shares. The purpose of section 14(a) is to 
ensure that investment companies are adequately capitalized prior to or 
simultaneously with the sale of their securities to the public. Rule 
14a-3 exempts from section 14(a) unit investment trusts that meet 
certain conditions in recognition of the fact that, once the units are 
sold, a unit investment trust requires much less commitment on the part 
of the sponsor than does a management investment company.
    11. Applicant argues that, while the Trusts are classified as 
management companies, they have the characteristics of unit investment 
trusts that are relevant to the rule 14a-3 exemption. Rule 14a-3 
provides that a unit investment trust investing in eligible trust 
securities shall be exempt from the net worth requirement, provided 
that the trust holds at least $100,000 of eligible trust securities at 
the commencement of a public offering. Investors in the Trusts, like 
investors in a traditional unit investment trust, will not be 
purchasing interests in a managed pool of securities, but rather in a 
fixed and disclosed portfolio that is held until maturity. Applicant 
believes that the make-up of each Trust's assets, therefore, will be 
``locked-in'' for the life of the portfolio, and there is no need for 
an ongoing commitment on the part of the underwriter.
    12. Applicant states that, in order to ensure that each Trust will 
become a going concern, the PEPS of each Trust will be publicly offered 
in a firm commitment underwriting, registered under the Securities Act 
of 1933, and resulting in net proceeds to each Trust of at least 
$10,000,000. Prior to the issuance and delivery of the PEPS of each 
Trust to the underwriters, the underwriters will enter into an 
underwriting agreement pursuant to which they will agree to purchase 
the PEPS subject to customary conditions to closing. The underwriters 
will not be entitled to purchase less than all of the PEPS of each 
Trust. Accordingly, applicant states that either the offering will not 
be completed at all or each Trust will have a net worth substantially 
in excess of $100,000 on the date of the issuance of the PEPS. 
Applicant also does not anticipate that the net worth of the Trusts 
will fall below $100,000 before they are terminated.
    13. Applicant requests that the SEC issue an order under section 
6(c) exempting the New Trusts from any requirements of section 14(a). 
Applicant believes that such exemption is appropriate in the public 
interest and consistent with the protection of investors and the 
policies and provisions of the Act.

B. Section 17(a)

    1. Sections 17(a)(1) and 17(a)(2) of the Act generally prohibit the 
principal underwriter of any investment company from selling or 
purchasing any securities to or from that investment company. The 
result of these provisions is to preclude the Trusts from purchasing 
Treasuries from Morgan Stanley.
    2. Section 17(b) of the Act provides that the SEC shall exempt a 
proposed transaction from section 17(a) if evidence establishes that: 
(a) The terms of the proposed transaction are reasonable and fair and 
do not involve overreaching; (b) the proposed transaction is consistent 
with the policies of the registered investment company involved; and 
(c) the proposed transaction is consistent with the general purposes of 
the Act. Applicant requests an exemption from sections 17(a)(1) and 
17(a)(2) to permit the New Trusts to purchase Treasuries from applicant 
at the time of the New Trusts' entry into Contracts and issuance of 
PEPS.
    3. Applicant states that the policy rationale underlying section 
17(a) is the concern that an affiliated person of an investment 
company, by virtue of such relationship, could cause an investment 
company to purchase securities of poor

[[Page 50524]]

quality from the affiliated person or to overpay for any securities. 
Applicant argues that it is unlikely that Morgan Stanley would be able 
to exercise any adverse influence over the Trusts with respect to 
purchases of Treasuries because Treasuries do not vary in quality and 
are traded in one of the most liquid markets in the world. Treasuries 
are available through both primary and secondary dealers, making the 
Treasuries market very competitive. In addition, market prices on 
Treasuries can be confirmed on a number of commercially available 
information screens. Applicant argues that because Morgan Stanley is 
one of a limited number of primary dealers in Treasuries, Morgan 
Stanley will be able to offer the Trusts prompt execution of their 
Treasury purchases at very competitive prices.
    4. Applicant states that it is only seeking relief from section 
17(a) with respect to the initial purchase of the Treasuries and not 
with respect to an on-going course of business. Consequently, investors 
will know before they purchase a Trust's PEPS the Treasuries that will 
be owned by the Trust and the amount of the cash payments that will be 
provided periodically by the Treasuries to the Trust and distributed to 
Holders. Applicant also asserts that whatever risk there is of 
overpricing the Treasuries will be borne by the counterparties and not 
by the Holders because the cost of the Treasuries will be calculated 
into the amount paid by the Contracts. Applicant argues that, for this 
reason, the counterparties will have a strong incentive to monitor the 
price paid for the Treasuries, because any overpayment could result in 
a reduction in the amount that they would be paid on the Contracts.
    5. Applicant believes that the terms of the proposed transaction 
are reasonable and fair and to not involve overreaching on the part of 
any person, that the proposed transaction is consistent with the policy 
of each of the Trusts, and that the requested exemption is appropriate 
in the public interest and consistent with the protection of investors 
and purposes fairly intended by the policies and provisions of the Act.

Applicant's Conditions

    Applicants agree that the order granting the requested relief shall 
be subject to the following conditions:
    1. Any investment company owning voting stock of any Trust in 
excess of the limits imposed by section 12(d)(1) of the Act will be 
required by the Trust's charter documents, or will undertake, to vote 
its Trust shares in proportion to the vote of all other Holders.
    2. The trustees of each Trust, including a majority of the trustees 
who are not interested persons of the Trust, (a) will adopt procedures 
that are reasonably designed to provide that the conditions set forth 
below have been complied with; (b) will make and approve such changes 
as deemed necessary; and (c) will determine that the transactions made 
pursuant to the order were effected in compliance with such procedures.
    3. The Trusts (a) will maintain and preserve in an easily 
accessible place a written copy of the procedures (and any 
modifications thereto), and (b) will maintain and preserve for the 
longer of (x) the life of the Trusts and (y) six years following the 
purchase of any Treasuries, the first two years in an easily accessible 
place, a written record of all Treasuries purchased, whether or not 
from applicant, setting forth a description of the Treasuries 
purchased, the identity of the seller, the terms of the purchase, and 
the information or materials upon which the determinations described 
below were made.
    4. The Treasuries to be purchased by each Trust will be sufficient 
to provide payments to PEPS Holders that are consistent with the 
investment objectives and policies of the Trust as recited in the 
Trust's registration statement and will be consistent with the 
interests of the Trust and the Holders of its PEPS.
    5. The terms of the transactions will be reasonable and fair to the 
Holders of the PEPS issued by each Trust and will not involve 
overreaching of the Trust or the Holders of PEPS thereof on the part of 
any person concerned.
    6. The fee, spread, or other remuneration to be received by Morgan 
Stanley will be reasonable and fair compared to the fee, spread, or 
other remuneration received by dealers in connection with comparable 
transactions at such time, and will comply with section 17(e)(2)(C) of 
the Act.
    7. Before any Treasuries are purchased by the Trust, the Trust must 
obtain such available market information as it deems necessary to 
determine that the price to be paid for, and the terms of, the 
transaction is at least as favorable as that available from other 
sources. This shall include the Trust obtaining and documenting the 
competitive indications with respect to the specific proposed 
transaction from two other independent government securities dealers. 
Competitive quotation information must include price and settlement 
terms. These dealers must be those who, in the experience of the 
Trust's trustees, have demonstrated the consistent ability to provide 
professional execution of Treasury transactions at competitive market 
prices. They also must be those who are in a position to quote 
favorable prices.

    For the Commission, by the Division of Investment Management, 
pursuant to delegated authority.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 96-24699 Filed 9-25-96; 8:45 am]
BILLING CODE 8010-01-M