SEC Adopts Adviser Custody Rule; Proposes Foreign Bank Exemption and Revision of Registration Form for American Depositary Receipts


Washington, D.C., September 11, 2003 -- The Commission today voted to adopt amendments to its rules under the Investment Advisers Act of 1940 dealing with custody of client assets. It also voted to propose a rule that would provide foreign banks meeting certain conditions with exemption from insider loan prohibitions under Section 13(k) of the Securities Exchange Act of 1934 similar to the statutory exemption available to domestic banks; and voted to propose changes to Form F-6 with regard to registration of certain unsponsored American depositary receipts (ADRs).

1. Amendments to Investment Adviser Custody Rule

The Commission voted to adopt amendments to modernize the custody rule under the Investment Advisers Act of 1940. The amendments are designed to enhance protections for advisory clients' assets, harmonize the rule with current custodial practices, and clarify when advisers have custody.

  • Maintaining Client Assets with Qualified Custodians.  The amended rule will require advisers with custody to maintain client funds and client securities in accounts with "qualified custodians" - banks and savings associations, broker-dealers, futures commission merchants and certain foreign financial institutions.
  • Client Account Statements.  The amended rule, with certain narrow exceptions, will require that advisory clients receive their quarterly account statements directly from the qualified custodian (and not solely from the adviser). Direct delivery will assure integrity of the report, and is designed to permit clients to determine whether there has been any improper trading in the account.
  • Exemptions.  Advisers to investment partnerships are exempted from the account statement and surprise examination requirements of the rule if the partnership undergoes an annual audit and distributes the results to investors. Limited exemptions from the qualified custodian requirement are available for privately offered securities and mutual fund shares held with the fund's transfer agent.
  • Definition of "Custody."  The amended rule includes a definition of "custody," and provides advisers additional guidance through use of examples. An adviser has custody (and thus must comply with the rule) if it holds client funds or securities directly or indirectly, or if it has any authority to obtain possession of them.

Advisers may begin relying on the amendments on November 5, 2003, and advisers must be in compliance with the amendments by April 1, 2004.

2. Proposed Exemption of Foreign Banks from Section 13(k) of the Securities Exchange Act of 1934

The Commission decided to propose a rule that would exempt foreign banks from the insider lending prohibition in Section 13(k) of the Securities Exchange Act of 1934, as added by Section 402 of the Sarbanes-Oxley Act. This section prohibits both domestic and foreign issuers from making or arranging for loans to their directors and executive officers unless the loans fall within the scope of specified exemptions. One of these exemptions permits certain insider lending by a bank or other depository institution that is insured under the Federal Deposit Insurance Act. Foreign banks whose securities are registered with the Commission are not eligible for the bank exemption under Section 13(k). The proposed rule would remedy this disparate treatment of foreign banks by exempting from the Section 13(k) insider lending prohibition those foreign banks that meet specified criteria similar to those that qualify domestic banks for this statutory exemption.

Specifically, the proposed rule would exempt an issuer that is a foreign bank or the parent company of a foreign bank with respect to loans by the foreign bank to its insiders or the insiders of its parent company as long as it meets the following conditions.

First, the laws or regulations of the foreign bank's home jurisdiction require the bank to insure its deposits; or the Federal Reserve Board has determined that the foreign bank is subject to comprehensive supervision or regulation on a consolidated basis by its home jurisdiction supervisor under 12 CFR §211.24(c).

Second, the laws or regulations of the foreign bank's home jurisdiction restrict the foreign bank from making loans to its executive officers and directors or those of its parent company unless the foreign bank extends the loan on substantially the same terms as those prevailing at the time for comparable transactions by the foreign bank with other persons who are not executive officers, directors or employees of the foreign bank or its parent company; or pursuant to a benefit or compensation program that is widely available to the employees of the foreign bank or its parent company and does not give preference to any of the executive officers or directors of the foreign bank or its parent company over any other employees of the foreign bank or its parent company; or following the express approval of the loan by the foreign bank's home jurisdiction bank supervisor.

Third, for any loan that, when aggregated with the amount of all other outstanding loans to a particular executive officer or director, exceeds $500,000, a majority of the foreign bank's board of directors has approved the loan in advance; and the loan's intended recipient has abstained from participating directly or indirectly in the vote regarding the loan.

The Commission also voted to propose an amendment to Form 20-F that would require a foreign bank issuer to provide the same disclosure regarding problematic loans to insiders as that required for domestic banks under Regulation S-K.

The proposals will be published in the Federal Register with a comment period lasting 30 days from the date of publication.

3. Proposed Amendment to Form F-6 to Prevent the Establishment of Unsponsored ADRs if the Deposited Securities Are Listed in the United States

The Commission voted to propose an amendment to Form F-6, the form used to register ADRs under the Securities Act of 1933. The proposed amendment would prevent registration of unsponsored ADRs if the foreign issuer of the deposited securities has separately listed those securities on a registered national securities exchange or automated inter-dealer quotation system of a national securities association. The purpose of this proposed amendment is to ensure that all U.S. investors in the equity securities of a given listed foreign issuer enjoy a similar level of shareholder rights and to minimize the potential for investor confusion. It is also intended to improve the ability of foreign companies to control the form in which their securities are traded in the United States and avoid potential interference with the corporate governance objectives of those companies.

The proposal will be published in the Federal Register with a comment period closing 30 days after the date of publication.

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The full text of detailed releases concerning each of these items will be posted to the SEC Web site as soon as possible.

Last modified: 9/11/2003