Control Share Acquisition Statutes
May 27, 2020
Division of Investment Management
May 27, 2020
In this statement, the staff of the Division of Investment Management (“staff”) addresses certain aspects of the intersection between state control share acquisition statutes (“control share statutes”) and the voting requirements of section 18(i) of the Investment Company Act of 1940 (“Act”). Specifically, the staff is withdrawing a prior staff letter that discussed the interaction between section 18(i) and a control share statute and replacing it with a no-action position, discussed further below. The staff also requests public input about whether additional action by the Securities and Exchange Commission (the “Commission”) in this area is necessary or appropriate and how any such Commission action could affect the possible utilization of these statutes with respect to registered investment companies.
Background on the Legal Framework
Through the Act, Congress imposed on registered investment companies a unique governance system that seeks to, among other things, reduce conflicts of interest that are inherent in fund structures so as to protect voting rights and economic interests of fund shareholders. As part of this system, section 18(i), in relevant part, provides that “[e]xcept as provided in subsection (a) of this section, or as otherwise required by law, every share of stock hereafter issued by a registered management company… shall be a voting stock and have equal voting rights with every other outstanding voting stock…”
Approximately half of the states have control share statutes in effect. Generally, control share statutes provide a company with the right to prevent or restrict certain changes in corporate control by altering or removing voting rights when a person acquires, directly or indirectly, the ownership of, or the power to direct the vote of, control shares as defined in the specific state control share statute.  Control shares are shares of stock that are equal to or exceed specified percentages of the company’s total voting power. Once holders of control shares lose their voting rights, such holders cannot vote their control shares unless the company’s stockholders vote to approve the restoration of voting rights by an affirmative vote of a specific proportion (e.g., two-thirds of the votes entitled to be cast at a special meeting called for such purposes, excluding “all interested parties”).
Control share statutes typically apply to all companies formed under the laws of a given state, but permit companies to individually opt-out of the coverage of the statute in whole or in part. In other instances, a company may not be subject to the provisions of the statute unless it affirmatively opts into the coverage of the statute. Generally, control share statutes do not apply to registered open-end funds but do apply to closed-end funds.
Withdrawal of Prior Staff Letter on Control Share Statutes
In 2010, the staff of the Division of Investment Management issued a letter—the Boulder Letter—addressing the interplay of section 18(i) and the MCSAA, which the letter noted is similar to other control share statutes. In the Boulder Letter, the staff analyzed relevant provisions of the Act and wrote that opting-in to the MCSAA, which states that “[h]olders of control shares of the corporation acquired in a control share acquisition have no voting rights with respect to control shares except to the extent approved by the stockholders,” would be “inconsistent with the requirement in [s]ection 18(i) that every share of stock issued by an investment company have ‘equal voting rights’ with every other outstanding voting stock.”
On September 13, 2018, Chairman Jay Clayton, after noting that staff statements are non-binding and are distinct from Commission rules and regulations, instructed the Division to review prior staff statements and staff documents to ascertain whether such statements or documents should be modified, rescinded, or supplemented in light of market or other developments. Following this instruction, and recognizing the distinctions between staff guidance and Commission action, the staff has reviewed the Boulder Letter, market developments since its issuance, and recent feedback from affected market participants. As a result, the staff has determined to withdraw the Boulder Letter, effective today.
The staff would not recommend enforcement action to the Commission against a closed-end fund under section 18(i) of the Act for opting in to and triggering a control share statute if the decision to do so by the board of the fund was taken with reasonable care on a basis consistent with other applicable duties and laws and the duty to the fund and its shareholders generally. We would expect any inquiry into the application of section 18(i) to be based on the facts and circumstances. In particular, the staff reminds market participants that any actions taken by a board of a fund, including with regard to control share statutes, should be examined in light of (1) the board’s fiduciary obligations to the fund, (2) applicable federal and state law provisions, and (3) the particular facts and circumstances surrounding the board’s action.
Request for feedback
The above is the staff’s view. It is not a rule, regulation, or statement of the Commission, and has no legal force or effect. We seek further input to determine whether additional Commission action is warranted in this area to, among other things, provide greater certainty to funds and other stakeholders. Below, we have identified some questions on which input would be appreciated. The staff expects to utilize what it learns to inform any future staff recommendations to the Commission with respect to the application of the Act and the rules and regulations thereunder to control share statutes.
In particular, the staff seeks input, backed by data where feasible, on the following questions:
- What are the practical and functional impacts on closed-end funds, their management, and their shareholders when funds opt-in and trigger control share statutes? How are those impacts affected by the availability of other defensive measures? Relatedly, in what circumstances would the availability of other defensive measures affect a fund’s decision to opt-in to and trigger a control share statute?
- What considerations would a fund’s board take into account in determining whether to opt-in to and trigger a control share statute, particularly with regard to benefits to shareholders and compliance with the board’s fiduciary duty? Under what specific facts and circumstances would a board decide to opt-in to and trigger a control share statute (or decline to do so)?
- Apart from 18(i), which turns on the meaning of “equal voting rights,” please explain whether the ability to opt-in to and trigger a control share statute would have a practical or functional impact on a fund’s compliance with other provisions of the federal securities laws, such as section 12(d)(1)(E) of the Act, which requires pass-through or mirror voting for certain fund of funds arrangements, or rule 13d-1 under the Securities Exchange Act of 1934, which places a limitation on the ability of certain shareholders from voting based on the size of their holding. If relevant, please provide an analysis of any practical or functional differences between how the principle of equal voting rights may apply in those different regulatory contexts.
- Should the staff recommend that the Commission address the ability of a closed-end fund to opt-in and trigger a control share statute in accordance with section 18(i)?
If you would like to let the staff know your views regarding control share statutes, we are providing an email box as a convenient method for you to communicate with the staff; we encourage you to communicate through the following address: IMOCC@sec.gov and insert “Control Share Statutes” in the subject line. The staff anticipates making submissions public.
 This statement represents the views of the staff of the Division of Investment Management. It is not a rule, regulation, or statement of the Securities and Exchange Commission (“Commission”). The Commission has neither approved nor disapproved its content. This statement, like all staff guidance, has no legal force or effect: it does not alter or amend applicable law, and it creates no new or additional obligations for any person.
 15 U.S.C. 80a-18(i) (“section 18(i)”).
 Boulder Total Return Fund, SEC No-Action Letter (Nov. 15, 2010) (“Boulder Letter”), available at https://www.sec.gov/divisions/investment/noaction/2010/bouldertotalreturn111510.htm.
 See section 1(b) of the Act [15 U.S.C. 80a-1(b)] (providing that the Act was designed to mitigate, and so far as possible, eliminate certain abuses, including the issuance of securities that contain inequitable or discriminatory provisions, or that fail to protect the preferences and privileges of the holders of a fund’s outstanding securities, and to prevent the operation of the fund in the interest of the fund’s management, investment adviser, or other insiders). See also Division of Investment Management, U.S. Securities and Exchange Commission, Protecting Investors: A Half Century of Investment Company Regulation, 255-263 (1992), available at http://www.sec.gov/divisions/ investment/guidance/icreg50-92.pdf (discussing the potential for conflicts of interest in the organization and operation of investment companies and noting the importance of shareholder voting rights in the regulatory framework devised to address those conflicts).
 Arizona, Florida, Hawaii, Idaho, Indiana, Kansas, Maryland, Massachusetts, Minnesota, Mississippi, Missouri, Nebraska, Nevada, North Carolina, Ohio, Oklahoma, Oregon, Pennsylvania, South Carolina, South Dakota, Tennessee, Utah, Virginia, Wisconsin and Wyoming. Ariz. Rev. Stat. Ann. §§ 10-2721 to -2727 (2020); Fla. Stat. § 607.0902 (2020); Haw. Rev. Stat. § 414E-2 (2019); Idaho Code Ann. §§ 30-1601 to -1614 (2020); Ind. Code Ann. §§ 23-1-42-1 to -11 (2020); Kan. Stat. Ann. §§ 17-1286 to -1299 (2020); Md. Code Ann., Corps. & Ass’ns §§ 3-701 to -710 (2020); Mass. Gen. Laws Ann. Pt. I, tit. XV, Ch. 110D, §§ 1-8 (2020); Minn. Stat. § 302A.671 (2020); Miss. Code Ann. §§ 79-27-1 to 79-27-11 (2020); Mo. Rev. Stat. §§ 351.015, 351.407 (2019); Neb. Rev. Stat § 21-2451 (2020); N.R.S. §§ 78.378-3793 (2019); N.C. Gen. Stat. §§ 55-9A-01 to -09 (2019); Ohio Rev. Code Ann. §§ 1701.01(Y)-(Z), 1701.831 (2020); 18 Okl.St.Ann. §§ 1145-1155 (2020); Or. Rev. Stat. §§ 60.801-816 (2020); 15 Pa.C.S.A. §§ 2561-2568 (2020); S.C. Code Ann. §§ 35-2-101 to -111 (2020); S.D. Codified Laws §§47-33-8 to -16 (2020); Tenn. Code Ann. §§ 48-103-301 to -312 (2020); Utah Code Ann. §§ 61-6-1 to -12 (2020); Va. Code Ann. §§ 13.1-728.1 to -728.9 (2020); Wis. Stat. § 180.1150 (2020); Wyo. Stat. Ann. §§ 17-18-301 to -309 (2020). A review of registration statements filed by closed-end funds on Form N-2 suggests that the vast majority of listed closed-end funds are organized under Delaware, Maryland or Massachusetts law. Delaware has not adopted a control share statute.
 Any such acquisition would be a “control share acquisition.” See, e.g., Md. Code Ann. Corps. & Ass’ns § 3-701(d)(1) (2019) See generally David J. Michitelli, Construction and Application of Antitakeover Statutes, 37 A.L.R. 6th 1, at 2-4 (2019) (stating, among other things, that many states have adopted defensive measures, such as control share statutes, to protect state resident corporations from hostile or speculative takeovers).
 For example, the Maryland Control Share Acquisition Act (MCSAA) provides that “control shares” are those shares with more than one-tenth (but less than one third), one-third (but less than a majority), or a majority of the power to vote in the election of directors. See Md. Code Ann. Corps. & Ass’ns § 3-701(e)(1) (2019).
 See, e.g., CTS Corp. v. Dynamics Corp. of America, 481 U.S. 69 (1987) (holding that the Indiana control share statute was not preempted by the Williams Act and did not violate the Commerce Clause). The Court described control statutes as “provid[ing] regulatory procedures designed for the better protection of the corporation’s shareholders.” Id. at 93. The Court also noted that “[t]he practical effect of this requirement is to condition acquisition of control of a corporation on approval of a majority of the pre-existing disinterested shareholders.” Id. at 74. Generally, the effect of a control share statute is not to prevent the holder from voting all of its shares, but rather to only prevent the voting of shares acquired in a control share acquisition until the remaining shareholders approve. See 5 Fletcher Cyc. Corp. § 2029.10 (Nov. 2019).
 See, e.g., Fla. Stat. § 607.0902(5) (2019); Ind. Code Ann. § 23-1-42-5 (2019).
 See, e.g., Tenn. Code Ann. § 48-103-310 (2019); Md. Code Ann. Corps. & Ass’ns § 3-702(c)(4) (2019).
 See 15 Pa.C.S.A. § 2561(b)(1) (2019); Md. Code Ann. Corps. & Ass’ns §3-702(c)(3) (2019). For example, the MCSAA excludes closed-end funds, but they may elect to opt in to such provisions, while business development companies (BDCs) are made subject to the statute by default but may elect to opt out of its provisions. Compare Md. Code Ann. Corps. & Ass’ns §3-702(a)(1) (2019) (applying the control share statute to any “corporation”), with Md. Code Ann. Corps. & Ass’ns §3-702(c)(4) (2019) (excluding closed-end funds unless a fund’s board of directors adopts a resolution subjecting it to the application of the statute).
 See Boulder Letter, supra note 3.
 In the Boulder Letter, the staff noted that the United States District Court for the District of Maryland held in 2004 that a closed-end fund did not violate section 18(d) of the Act when it adopted a particular shareholder rights plan (also known as a “poison pill”). The court also found that the particular poison pill did not violate Section 18(i) but did not reach the issue of whether the fund violated section 18(i) by opting into the MCSAA. See Neuberger Berman Real Estate Income Fund Inc. v. Lola Brown Trust No. 1B, 342 F. Supp. 2d 371 (2004).
 See Statement regarding SEC Staff Views, Chairman Jay Clayton (Sept. 13, 2018), available at https://www.sec.gov/news/public-statement/statement-clayton-091318.
 For example, the number of listed closed-end funds has declined considerably since the issuance of the Boulder Letter, although it is unclear to what extent the unavailability of control share statutes under the Boulder Letter may have contributed to this trend. See, e.g., 2019 Investment Company Fact Book, Chapter 5, available at https://www.icifactbook.org (data showing that the number of closed-end funds has declined by more than 20% from 2011 through 2018).
 In a 1948 order, the Commission granted relief to a closed-end fund to issue preferred shares with voting rights that differed from the common shares. In support of the relief, the Commission noted:
inflexible adherence to any rigid interpretation [under section 18(i)] could produce grave distortions of the apparent intent of Congress to require a reasonably equitable distribution of voting power consistent with the applicable provisions pertaining to the different classes of stock. What might constitute a reasonable interpretation of ‘equal voting rights’ in one case might produce an extremely inequitable condition in another. We feel, therefore, that each individual case must be decided upon the particular factors involved…
In the Matter of the Solvay Am. Corp., 27 S.E.C. 971, at 974 (Apr. 12, 1948) (emphasis added). The Commission further noted that legislative history did not provide guidance on the meaning of “equal voting rights.” Id. at 973.
 Other corporate defensive measures, such as poison pills, may also implicate the Act. The staff is not addressing whether any particular corporate defensive measure is consistent with section 18(i) or any other section of, or rule or regulation under, the Act.