[Federal Register Volume 67, Number 89 (Wednesday, May 8, 2002)]
[Rules and Regulations]
[Pages 31076-31080]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-11227]



[[Page 31075]]

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Part IV





Securities and Exchange Commission





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17 CFR Parts 270 and 274



Exemption for the Acquisition of Securities During the Existence of an 
Underwriting or Selling Syndicate and Transactions of Investment 
Companies With Portfolio and Subadvisory Affiliates; Final Rule and 
Proposed Rule

  Federal Register / Vol. 67, No. 89 / Wednesday, May 8, 2002 / Rules 
and Regulations  

[[Page 31076]]


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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 270 and 274

[Release No. IC-25560; File No. S7-20-00]
RIN 3235-AH57


Exemption for the Acquisition of Securities During the Existence 
of an Underwriting or Selling Syndicate

AGENCY: Securities and Exchange Commission (``Commission'').

ACTION: Final rule.

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SUMMARY: The Commission is adopting amendments to the rule under the 
Investment Company Act of 1940 that permits a registered investment 
company (``fund'') that has certain affiliations with an underwriting 
participant to purchase securities during an offering. The amendments 
expand the exemption provided by the rule to permit a fund to purchase 
U.S. government securities in a syndicated offering. These amendments 
are intended to respond to recent changes in the method of offering 
certain U.S. government securities.

EFFECTIVE DATE: May 10, 2002.

FOR FURTHER INFORMATION CONTACT: Hester M. Peirce, Senior Counsel, or 
C. Hunter Jones, Assistant Director, at (202) 942-0690, Office of 
Regulatory Policy, Division of Investment Management, Securities and 
Exchange Commission, 450 5th Street, NW., Washington, DC 20549-0506.

SUPPLEMENTARY INFORMATION: The Commission today is adopting amendments 
to rule 10f-3 [17 CFR 270.10f-3] under the Investment Company Act of 
1940 [15 U.S.C. 80a] (the ``Investment Company Act'' or ``Act'').\1\
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    \1\ Unless otherwise noted, all our references to ``rule 10f-3'' 
or any paragraph of the rule will be to 17 CFR 270.10f-3.
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I. Discussion

    Section 10(f) of the Investment Company Act prohibits a fund from 
purchasing any security during an underwriting or selling syndicate if 
the fund has certain affiliated relationships with a principal 
underwriter \2\ for the security (``affiliated underwriter'').\3\ Rule 
10f-3 permits a fund to purchase securities in a transaction that 
section 10(f) would prohibit, if certain conditions are met.\4\ The 
conditions of rule 10f-3 are designed to limit the purchases made under 
the rule to those that are not likely to raise the concerns that 
section 10(f) was enacted to address, and are thus consistent with the 
protection of investors.\5\
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    \2\ See section 2(a)(29) of the Investment Company Act [15 
U.S.C. 80a-2(a)(29)] (definition of principal underwriter).
    \3\ Section 10(f) [15 U.S.C. 80a-10(f)] prohibits the purchase 
of a security if a principal underwriter of the security is an 
officer, director, member of an advisory board, investment adviser, 
or employee of the fund, or is a person of which any such officer, 
director, member of an advisory board, investment adviser, or 
employee is an affiliated person. In this Release, we refer to a 
person that falls within one of these categories as an ``affiliated 
underwriter.'' Thus, as used in this release, the term includes a 
narrower set of relationships than ``affiliated person,'' which is 
defined in section 2(a)(3) of the Investment Company Act [15 U.S.C. 
80a-2(a)(3)]. Similarly, in this Release, when we refer to a fund 
that is subject to section 10(f) as a result of its relationship 
with an ``affiliated underwriter,'' we use the term ``affiliated 
fund.''
    \4\ Rule 10f-3 currently permits a fund to purchase securities 
in a transaction that otherwise would violate section 10(f) if, 
among other things: (i) The securities either are registered under 
the Securities Act of 1933 (``Securities Act'') [15 USC 77a-aa], are 
municipal securities with certain credit ratings, or are offered in 
certain foreign or private institutional offerings; (ii) certain 
conditions with respect to timing and price are satisfied; (iii) the 
issuer has been in operation for at least three years prior to the 
offering; (iv) the offering involves a ``firm commitment'' 
underwriting; (v) the underwriters' commission is reasonable and 
fair; (vi) the fund (together with other funds advised by the same 
investment adviser) purchases no more than 25 percent of the 
offering; (vii) the fund purchases the securities from a member of 
the syndicate other than its affiliated underwriter; (viii) if the 
securities are municipal securities, the purchase is not a group 
sale; and (ix) the fund reports the transactions to the Commission 
and maintains a written record of each transaction; and (x) the 
fund's directors have approved procedures for purchases under the 
rule and regularly review the purchases to determine whether they 
have complied with the procedures. See rule 10f-3(b). The Commission 
last amended rule 10f-3 in January 2001 to require, as a condition 
of relief, that a majority of the directors not be interested 
persons of the fund, that those directors select and nominate other 
disinterested directors, and that any legal counsel to the 
disinterested directors be an independent legal counsel. See Role of 
Independent Directors of Investment Companies, Investment Company 
Act Release No. 24816 (Jan. 2, 2001) [66 FR 3734 (Jan. 16, 2001)].
    \5\ See, e.g., Exemption for the Acquisition of Securities 
During the Existence of an Underwriting or Selling Syndicate, 
Investment Company Act Release No. 22775, at text following nn. 6-7 
(July 31, 1997) [62 FR 42401 (Aug. 7, 1997)] (``1997 Release'').
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    When the Commission first adopted rule 10f-3 in 1958, one of the 
conditions of the rule was that the securities be registered under the 
Securities Act as part of a public offering.\6\ Since then, in response 
to changes in the methods of offering securities and other 
developments, we have revised the rule to permit the purchase of 
additional types of securities that are not registered under the 
Securities Act, such as municipal securities and securities offered 
privately to institutional buyers. We determined that the circumstances 
in which these securities generally are offered, including the 
availability of relevant information about the issuer and the 
establishment of a uniform offering price, would serve to protect 
funds.\7\
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    \6\ See Adoption of Rule N-10f-3 Permitting Acquisition of 
Securities of Underwriting Syndicate Pursuant to Section 10(f) of 
the Investment Company Act of 1940, Investment Company Act Release 
No. 2797 (Dec. 2, 1958) (``1958 Adopting Release''). This condition 
served to assure that the fund did not purchase the securities 
through a private placement, and provided the basis for other 
conditions of the rule concerning the timing and conduct of the 
public offering.
    \7\ See Exemption for the Acquisition of Securities During the 
Existence of an Underwriting Syndicate, Investment Company Act 
Release No. 21838, at nn. 31-51 and accompanying text (Mar. 21, 
1996) [61 FR 13620 (Mar. 27, 1996)]. We reasoned that, even though 
these securities are not registered under the Securities Act, they 
``would be widely distributed, a wide range of market participants 
would agree that the offering price of the securities was fair, and 
that a secondary market for the securities would likely develop.'' 
Id. at text following n. 33. In addition, the other protections of 
rule 10f-3 continued to apply to purchases of these types of 
securities.
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    Government securities,\8\ such as securities issued by agencies or 
instrumentalities of the U.S. government,\9\ are not included in the 
types of securities that rule 10f-3 permits affiliated funds to 
purchase. In the past, there was little need to exempt the purchase of 
these securities because they generally were not offered through 
``selling syndicates'' or underwritings that invoke the restrictions of 
the Act. In recent years, however, government-sponsored enterprises 
(``GSEs'') have begun to sell securities through underwriting or 
selling syndicates, and we received a request to broaden the scope of 
the rule to permit funds to purchase these securities when, due to

[[Page 31077]]

the affiliations of underwriters, the Act would prohibit such a 
purchase.\10\
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    \8\ The term ``government security'' is defined by the 
Investment Company Act as ``any security issued or guaranteed as to 
principal or interest by the United States, or by a person 
controlled or supervised by and acting as an instrumentality of the 
Government of the United States pursuant to authority granted by the 
Congress of the United States; or any certificate of deposit for any 
of the foregoing.'' 15 U.S.C. 80a-2(a)(16). Government securities 
are exempt from the registration requirements of the Securities Act 
and from the reporting and other requirements of the Securities 
Exchange Act of 1934 (``Exchange Act''). See 15 U.S.C. 77c(a)(2), 
78c(a)(12)(A). Offers of or transactions in government securities 
are subject, however, to the anti-fraud provisions of the Securities 
Act and Exchange Act. See 15 U.S.C. 77q(c), 78j(b).
    \9\ Government securities may be issued by government-sponsored 
enterprises (``GSEs'') such as the Federal National Mortgage 
Association (``FNMA'') and by government corporations such as the 
Federal Deposit Insurance Corporation. See 31 U.S.C. 9101(1) 
(definition of ``government corporation''); Frank J. Fabozzi and 
Michael J. Fleming, U.S. Treasury and Agency Securities in The 
Handbook of Fixed Income Securities 175, 191-96 (Frank J. Fabozzi, 
ed., 2001) (discussing ``agency'' securities issuers, including GSEs 
and government corporation issuers).
    \10\ See Memorandum from the law firm of Brown & Wood to the 
Division of Investment Management, Securities and Exchange 
Commission (1998) (available to the public in File No. S7-20-00).
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    In November 2000 we proposed to amend rule 10f-3 to permit the 
purchase of government securities.\11\ We observed in our release that 
government securities are offered under circumstances that appear to 
serve, in conjunction with the other conditions of rule 10f-3, to 
protect funds from the risks that section 10(f) addresses.\12\ 
Commenters supported the proposed amendments.\13\ Today we are adopting 
the amendments as proposed.\14\
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    \11\ See Exemption for the Acquisition of Securities During the 
Existence of an Underwriting or Selling Syndicate, Investment 
Company Act Release No. 24775 (Nov. 29, 2000) [65 FR 76189 (Dec. 6, 
2000)] (``Proposing Release'').
    \12\ See id. at text accompanying nn. 17-20. The amendments we 
adopt today should not be interpreted to confer on securities issued 
by GSEs a greater level of federal government backing than is 
afforded to them by law. See, e.g., The Federal Housing Enterprises 
Safety and Security Act of 1992, Pub. L. No. 102-550, Sec. 1302, 106 
Stat. 3941 (``neither [the Federal National Mortgage Association nor 
the Federal Home Loan Mortgage Corporation] * * *, nor any 
securities or obligations issued by the enterprises * * *, are 
backed by the full faith and credit of the United States.''). See 
generally Fabozzi and Fleming, supra note 9, at 188 (``Agency 
securities are not typically backed by the full faith and credit of 
the U.S. government, as is the case with Treasury Securities.'').
    \13\ The commenters included one individual, three trade 
associations, two investment advisers, and three law firms. The 
comment letters are available for inspection and copying in the 
Commission's Public Reference Room, 450 Fifth Street, NW, Washington 
DC (File No. S7-20-00).
    \14\ We are also amending the instructions to Form N-SAR to 
correspond with the rule. Sub-Item 77O of the instructions, which 
governs the reporting of rule 10f-3 transactions on Form N-SAR, 
refers to ``the determination described in paragraph (h)(3) of rule 
10f-3.'' A technical amendment to this Sub-Item will update the 
instruction to refer instead to ``the determination described in 
paragraph (b)(10)(iii) of rule 10f-3.''
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    When we proposed the amendment to rule 10f-3 concerning government 
securities, we also proposed to amend the condition of the rule that 
limits the percentage of securities that an affiliated fund, together 
with any other fund advised by the affiliated fund's adviser, may 
purchase in an offering (``percentage limit''). The amendments would 
have required that the purchases of an affiliated fund, for purposes of 
meeting the percentage limit, also be aggregated with purchases of any 
other account over which the fund's adviser had discretionary authority 
or control.
    A number of commenters raised questions about our proposed 
amendment to the percentage limit of rule 10f-3. These comments raise 
larger issues of the Commission's regulation of affiliated 
transactions, which we discuss in a companion release we are issuing 
today.\15\ Therefore we are not adopting the amendments to rule 10f-3 
related to the percentage limit, but are proposing in the companion 
release to amend the rule to address a number of complex issues arising 
under that provision of the rule.
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    \15\ See Transactions of Investment Companies with Portfolio and 
Subadvisory Affiliates, Investment Company Act Release No. 25557 
(April 30, 2002).
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II. Effective Date

    The amendments to rule 10f-3 and the instructions to Form N-SAR 
will be effective May 10, 2002. This effective date is less than 30 
days after publication so that funds and advisers may benefit sooner 
from the rule amendments.\16\
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    \16\ See 5 U.S.C. 553(d)(1) (permitting a rule to become 
effective less than 30 days after publication if it ``grants or 
recognizes an exemption or relieves a restriction'').
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III. Cost-Benefit Analysis

    The Commission is sensitive to the costs and benefits that result 
from its rules. In the Proposing Release, we requested comment and 
specific data regarding the costs and benefits of the proposed 
amendments. The comments we received are discussed below.

A. Benefits

    The amendments to rule 10f-3 to permit the purchase of government 
securities will enable funds to purchase securities during the 
existence of a syndicate in which an affiliated underwriter 
participates, without having to seek an exemptive order from the 
Commission.\17\ We believe that fund investors could benefit from 
enhanced fund performance as a result of funds' easier access to 
primary offerings of government securities.\18\ A number of commenters 
confirmed that expanding rule 10f-3 to include government securities 
would benefit affiliated funds and their shareholders by enhancing the 
investment opportunities available to them.\19\ Certain protective 
conditions in rule 10f-3 will serve to safeguard shareholders' 
interests.\20\
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    \17\ The staff estimates, based on conversations with 
representatives of funds, that the average cost of filing an 
exemptive application can range from $20,000 to $80,000, depending 
on the complexity of the issues addressed in the application.
    \18\ Although the staff is unable to determine what percentage 
of mutual fund assets are currently invested in government 
securities, in calendar year 2000, assets in long-term U.S. 
government bond funds totaled $309,446,000,000. See Investment 
Company Institute, Mutual Fund Fact Book at 71 (2001).
    \19\ The amendments may contribute to the competitiveness and 
efficiency of the government securities market by expanding the pool 
of potential buyers.
    \20\ These conditions govern, among other things, (i) the timing 
and price of the purchase; (ii) the length of time that the issuer 
has been in operation; (iii) the nature of the underwriting, i.e., 
it must be a ``firm commitment'' underwriting; (iv) the 
underwriters'' commission; (v) the percentage of the underwriting 
that is purchased; (vi) the syndicate member from which the 
securities are purchased; (vii) board oversight of rule 10f-3 
transactions; (viii) the composition of the fund's board; and (ix) 
reporting and recordkeeping. See rule 10f-3(b).
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B. Costs

    We received no comments or data on the cost of extending rule 10f-3 
to the purchase of government securities. We anticipate that funds will 
incur and pass on to investors only minimal costs as a result of the 
amendments that we are adopting. Further, funds will avoid the cost of 
forgoing investments in government securities sold in syndicates in 
which an affiliated underwriter is participating or the cost of filing 
an application for exemptive relief in order to make those 
purchases.\21\ Funds that currently rely on rule 10f-3 to purchase 
securities \22\ will incur costs in adjusting their procedures to allow 
for the purchase of government securities.\23\ Funds also will incur 
costs of checking each transaction for compliance with the rule's 
conditions and keeping records of each transaction.\24\ The fund's 
board also will review

[[Page 31078]]

government securities purchases as part of its quarterly review of rule 
10f-3 transactions, and the fund will report these purchases along with 
other rule 10f-3 transactions to the Commission on Form N-SAR, but 
these tasks are unlikely to measurably increase costs.
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    \21\ See supra note 17.
    \22\ The staff anticipates that in almost all instances, the 
funds that will purchase government securities also purchase other 
securities under rule 10f-3 because the underwriters that 
participate in the sale of government securities also participate in 
the sale of other types of securities.
    \23\ The staff estimates, based on telephone interviews with 
fund representatives, that a compliance attorney would spend 
approximately eight hours revising the procedures, at a cost of 
approximately $496, and the board would spend approximately one hour 
considering and approving the changes, at a cost of $2000. Thus, 
assuming that half of the 410 funds that rely on rule 10f-3 now, 
purchase government securities under the amended rule, funds will 
spend a total of $511,680 revising their procedures. The staff also 
estimates that funds may spend time retraining fund personnel 
responsible for rule 10f-3 compliance after the amendment of the 
rule 10f-3 procedures, but expects that the time spent will be 
minimal. The hour estimates for various tasks and the cost of fund 
board meetings used in this Release are based on conversations 
between the staff and representatives of funds. The hourly rates for 
fund personnel used in this Release are derived from salaries 
reported for personnel outside New York City in these publications: 
Securities Industry Association, Management and Professional 
Earnings in the Securities Industry (2000) and Securities Industry 
Association, Office Salaries in the Securities Industry (2000).
    \24\ The staff estimates, based on telephone interviews with 
fund representatives, that fund personnel on average will spend 
approximately one hour per transaction, at a cost of $44.87, 
completing these tasks, and, assuming that there are 205 government 
securities transactions, funds will annually spend in the aggregate 
approximately $9,198.
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IV. Consideration of Promotion of Efficiency, Competition, and 
Capital Formation

    Section 2(c) of the Investment Company Act requires the Commission, 
when engaging in rulemaking that requires it to consider or determine 
whether an action is necessary or appropriate in the public interest, 
to consider whether the action will promote efficiency, competition, 
and capital formation. The Commission has considered these factors.
    As discussed above, the Commission anticipates that the new rule 
will expand funds' opportunities to invest in government securities by 
permitting funds to purchase these securities from affiliated 
underwriters without obtaining an exemptive order. This change could 
enhance competition in the sale of government securities and have a 
positive effect on efficiency in the government securities markets. The 
amendments are unlikely to have a measurable effect on capital 
formation.

V. Paperwork Reduction Act

    As explained in the Proposing Release, certain provisions of the 
amendments to rule 10f-3 contain ``collection of information'' 
requirements within the meaning of the Paperwork Reduction Act of 1995 
[44 U.S.C. 3501-3520] (``PRA''). We submitted these requirements to the 
Office of Management and Budget (``OMB'') for review in accordance with 
44 U.S.C. 3507(d) and 5 CFR 1320.11. The title for the collection of 
information is ``Exemption for the Acquisition of Securities During the 
Existence of an Underwriting or Selling Syndicate.'' An agency may not 
conduct or sponsor, and a person is not required to respond to, a 
collection of information unless it displays a currently valid control 
number. The OMB control number for rule 10f-3 is 3235-0226.
    As discussed above, today we are adopting only the proposed 
amendments to rule 10f-3 that will expand the rule's exemptive relief 
to permit a fund to purchase government securities under the conditions 
of the rule.\25\ None of the commenters addressed the Paperwork 
Reduction Act burden associated with these amendments.
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    \25\ The revised burden estimates contained in this release, 
therefore, do not include any burden attributable to the proposed 
changes in the percentage limit.
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    As part of a general review of the information collection burdens 
in rule 10f-3,\26\ we have updated our burden estimate with respect to 
the amendments that we are adopting today. It is the staff's belief 
that half of the 410 funds that currently rely on the rule may rely on 
rule 10f-3 to purchase government securities.\27\ We estimate, based on 
the relatively limited number of government securities issuances, that 
each of these funds will engage in an average of one purchase of 
government securities per year. We estimate that fund personnel will 
spend thirty minutes before and thirty minutes after each transaction 
compiling a record of the transaction.\28\ Thus, we anticipate that 
funds annually will expend a total of approximately 205 hours on 
recordkeeping in connection with purchases of government securities 
under rule 10f-3.\29\ The staff does not believe that there would be 
any additional information collection burden attributable to these 
amendments.\30\ The staff further estimates that there will be no cost 
burden associated with these amendments, apart from the cost associated 
with the hourly burden identified above.
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    \26\ In compliance with the Paperwork Reduction Act and the 
OMB's implementing regulations, the staff conducts triennal reviews 
of the information collection burdens in its rules.
    \27\ This estimate is based, in part, on the fact that each of 
the GSEs that currently sells securities in syndicated offerings has 
identified a large group of dealers to serve as underwriters, many 
of which are affiliated underwriters of one or more fund families.
    \28\ These estimates are based on telephone interviews with fund 
representatives about rule 10f-3 transactions in other types of 
securities.
    \29\ When the Commission proposed the amendments, the staff 
estimated that the annual recordkeeping burden would increase for 
each of the estimated seventy funds that would purchase government 
securities under the rule by approximately 0.25 hours per fund per 
year and for all funds by approximately 17.5 hours (70 funds x 0.25 
= 17.5 hours).
    \30\ Specifically, the staff does not believe that the addition 
of government securities would increase the time fund personnel and 
fund boards would spend compiling and reviewing quarterly reports or 
reporting rule 10f-3 transactions on Form N-SAR. Although funds 
would have to modify their rule 10f-3 procedures to accommodate 
government securities transactions, periodic modifications in 
response to rule and policy changes are already reflected in the 
staff's current PRA estimate for rule 10f-3.
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    The collections of information in rule 10f-3 are necessary to 
facilitate review of transactions that proceed under the rule by fund 
boards and by the Commission. Information required to be filed with 
Form N-SAR is public and therefore will not be kept confidential. If 
any other records required to be kept under these rules are requested 
by and submitted to the Commission, they will be kept confidential to 
the extent permitted by relevant statutory and regulatory provisions.

VI. Final Regulatory Flexibility Analysis

    The Commission has prepared this Final Regulatory Flexibility 
Analysis (``FRFA'') in accordance with 5 U.S.C. 604. A summary of the 
Initial Regulatory Flexibility Analysis (``IRFA''), which was prepared 
in accordance with 5 U.S.C. 603, was published in the Proposing 
Release. We did not receive any comments on the IRFA or on the effect 
on small entities of the amendments that we are adopting today.

A. Need for Rule 10f-3 and the Amendment

    Section 10(f) prohibits affiliated funds from purchasing securities 
during the existence of an underwriting or selling syndicate for the 
securities, and authorizes the Commission to exempt transactions by 
rule or order from the prohibition. The Commission adopted rule 10f-3 
to permit a fund to purchase securities from an unaffiliated member of 
an underwriting or selling syndicate when an affiliated underwriter is 
a member of the underwriting or selling syndicate. The amendments to 
rule  10f-3, in response to the decision by certain GSEs to sell their 
securities through syndicated underwritings, permit funds to rely on 
the rule to purchase government securities.\31\
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    \31\ See supra Section I.
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B. Significant Issues Raised by Public Comment

    Commenters did not raise any significant issues in response to the 
IRFA.

C. Small Entities Subject to the Rules

    A small business or small organization (collectively, ``small 
entity'') for purposes of the Investment Company Act is a fund that, 
together with other funds in the same group of related investment 
companies, has net assets of $50 million or less as of the end of its 
most recent fiscal year.\32\ Of approximately 3,650 active funds, 
approximately 200 are small entities. We believe that the amendments 
would increase flexibility for all funds, including small entities, and 
would not unduly burden small entities.\33\
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    \32\ Rule 0-10 [17 CFR 270.0-10].
    \33\ The number of small entities that will rely on the amended 
rule to purchase government securities depends on many factors, 
including the investment objectives of the small entities, the 
availability of alternative investments, and the frequency with 
which government securities are offered through affiliated 
underwriting syndicates. We did not receive any comments in response 
to our request in the Proposing Release for comment on the number of 
small entities that would be affected by the proposed amendments.

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[[Page 31079]]

D. Projected Reporting, Recordkeeping, and Other Compliance 
Requirements

    A fund that relies on the exemption in rule 10f-3 to purchase 
securities (including government securities) must comply with the 
conditions in the rule, regardless of whether the fund is a small 
entity. The fund board must approve procedures under which rule 10f-3 
transactions will be effected and amend those procedures as necessary. 
Compliance personnel and portfolio managers must determine whether a 
proposed purchase will comply with the rule's conditions, collect and 
retain for six years certain information about each rule 10f-3 
transaction, and report each rule 10f-3 transaction on Form N-SAR. 
Quarterly, the fund's board must review all rule 10f-3 transactions, 
including purchases of government securities, that have taken place.

E. Agency Action To Minimize Effect on Small Entities

    The Commission has considered alternatives to the amendments that 
would accomplish the objectives of the rule and minimize the impact on 
small entities. These include: (i) The establishment of differing 
compliance requirements that take into account the resources available 
to small entities; (ii) the clarification, consolidation, or 
simplification of compliance requirements under the rule for small 
entities; (iii) the use of performance rather than design standards; 
and (iv) an exemption from coverage of the rule, or any part of the 
rule, for small entities.
    The amendments to rule 10f-3 are designed to enhance the ability of 
funds, including small entities, to purchase government securities 
during the existence of an underwriting or selling syndicate in which 
an affiliated underwriter participates without subjecting funds to 
requirements other than those already in the rule. Compliance with the 
rule's conditions is voluntary; small entities (like other funds) that 
do not rely on the rule may instead apply for an individual exemptive 
order from the Commission.
    The establishment of different compliance or reporting requirements 
for small entities would conflict with the principles underlying 
section 10(f), which was intended primarily to prohibit the dumping of 
otherwise unmarketable securities on funds by their affiliated 
underwriters, and rule 10f-3, which was designed to permit securities 
transactions under conditions in which such dumping would not occur. 
Because a fund of any size could potentially be the object of dumping, 
small entities should be subject to the rule's protective conditions 
along with other funds.\34\ Likewise, the Commission could not further 
clarify, consolidate, or simplify the compliance requirements of rule 
10f-3 for the benefit of small entities without compromising the 
protection for the investors in these entities.\35\ The amendments 
embody performance standards because they expand the availability of 
rule 10f-3 to a class of securities that are offered under 
circumstances that appear to serve, in conjunction with the other 
conditions of rule 10f-3, to protect funds from the risks that section 
10(f) addresses. Further use of performance standards would be 
inconsistent with rule 10f-3, which employs carefully crafted 
safeguards to prevent abuses. Because rule 10f-3 permits transactions 
to take place that otherwise would be prohibited, small entities 
benefit from being able to take advantage of the rule, and the 
regulatory alternative of exempting small entities from the rule's 
coverage is not applicable.
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    \34\ These protective conditions are set forth above. See supra 
note 4.
    \35\ The Commission intends, however, to issue a small business 
compliance guide, which should assist funds that are small entities 
in complying with the rule.
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VII. Statutory Authority

    The Commission is amending rule 10f-3 under the authority set forth 
in sections 10(f), 31(a) and 38(a) of the Investment Company Act [15 
U.S.C. 80a-10(f), 80a-30(a), 80a-37(a)].

List of Subjects in 17 CFR Parts 270 and 274

    Investment companies, Reporting and recordkeeping requirements, 
Securities.

Text of Rule Amendments

    For the reasons set out in the preamble, Title 17, Chapter II of 
the Code of Federal Regulations is amended as follows:

PART 270--RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF 1940

    1. The authority citation for Part 270 continues to read, in part, 
as follows:

    Authority: 15 U.S.C. 80a-1 et seq., 80a-34(d), 80a-37, 80a-39, 
unless otherwise noted;
* * * * *
    2. Section 270.10f-3 is amended by revising paragraphs (b)(1) and 
(b)(4) to read as follows:


Sec. 270.10f-3  Exemption for the acquisition of securities during the 
existence of an underwriting or selling syndicate.

* * * * *
    (b) Conditions. Any purchase of securities by a registered 
investment company prohibited by section 10(f) of the Act (15 U.S.C. 
80a-10(f)) will be exempt from the provisions of that section if the 
following conditions are met:
    (1) Type of Security. The securities to be purchased are:
    (i) Part of an issue registered under the Securities Act of 1933 
(15 U.S.C. 77a--aa) that is being offered to the public;
    (ii) Part of an issue of government securities, as defined in 
section 2(a)(16) of the Act (15 U.S.C. 80a-2(a)(16));
    (iii) Eligible Municipal Securities;
    (iv) Securities sold in an Eligible Foreign Offering; or
    (v) Securities sold in an Eligible Rule 144A Offering.
* * * * *
    (4) Continuous operation. If the securities to be purchased are 
part of an issue registered under the Securities Act of 1933 (15 U.S.C. 
77a-aa) that is being offered to the public, are government securities 
(as defined in section 2(a)(16) of the Act (15 U.S.C. 80a-2(a)(16))), 
or are purchased pursuant to an Eligible Foreign Offering or an 
Eligible Rule 144A Offering, the issuer of the securities must have 
been in continuous operation for not less than three years, including 
the operations of any predecessors.
* * * * *

PART 274--FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF 1940

    3. The authority citation for part 274 continues to read as 
follows:

    Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 78c(b), 78l, 78m, 
78n, 78o(d), 80a-8, 80a-24, and 80a-29, unless otherwise noted.
    4. Form N-SAR (referenced in Sec. 274.101) is amended by revising 
the Instruction for Sub-Item 77O to read as follows:

    Note: The text of Form N-SAR does not and these amendments will 
not appear in the Code of Federal Regulations.

Form N-SAR
* * * * *
Instructions to Specific Items
* * * * *

[[Page 31080]]

SUB-ITEM 77O: Transactions effected pursuant to Rule 10f-3
    Rule 10f-3 (17 CFR 270.10f-3) provides a limited exemption from 
section 10(f) of the Act, provided, inter alia, that all transactions 
effected pursuant to the rule are reported on Form N-SAR. If any such 
transactions were effected during the reporting period, this item 
should be checked and an exhibit attached setting forth from whom the 
securities were acquired, the identity of the underwriting syndicate's 
members, the terms of the transaction, and the information or materials 
upon which the determination described in paragraph (b)(10)(iii) of 
rule 10f-3 was made.
* * * * *

    By the Commission.

    Dated: April 30, 2002.
Jill M. Peterson,
Assistant Secretary.
[FR Doc. 02-11227 Filed 5-7-02; 8:45 am]
BILLING CODE 8010-01-P