effective within such reasonable period of time thereafter as the Commission prescribes by rules and regulations, unless the Commission issues an order pursuant to section 6 refusing to permit the application to become effective.

Subsection (d) makes clear that an indenture as to which qualification has become effective is not affected by the subsequent adoption, amendment or rescission of rules, regulations, or orders, except as otherwise expressly provided in the act.

Subsection (e) empowers the Commission to make an investigation to determine whether a refusal order should issue. As in section 8 (e) of the Securities Act, if the issuer or any obligor, underwriter, or trustee fails to cooperate or obstructs or refuses to permit the making of such investigation, such conduct is a ground for the issuance of a refusal order.

SECTION 6. REFUSAL ORDERS

This section requires the Commission to refuse to permit an application to become effective if it finds that:

(1) The application does not conform to the requirements of the Act.

(2) The application contains any material misstatements, misleading statements, or omissions.

(3) Any person designated as trustee is not eligible under section 7 (a) or has any conflicting interest, as defined in section 7 (b).

(4) The indenture does not conform to the requirements of section 7.

(5) The indenture or any security to be issued thereunder contains any provision which limits, qualifies, or conflicts with a provision required to be contained therein; or any provision prohibited by the act; or any provision which is misleading or deceptive or the elimination of which is necessary or appropriate in the public interest or for the protection of investors, or to prevent the circumvention or evasion of the act.

The provision with respect to misleading or deceptive provisions will permit the Commission to prevent the inclusion in an indenture of a so-called negative pledge clause which, though purporting to provide protection to the bondholders, can be so readily circumvented that the protection afforded thereby illusory.

Provision is made for the rescission of a refusal order when the Commission deems that the objections on which it was based have been met.

SECTION 7. CONTENTS OF INDENTURE

This section sets forth the standards to which the indenture must comply. It should be noted that the section applies only to indentures with respect to which an application for qualification has been filed and merely states what provisions such indentures must contain.

Subsection (a). Persons eligible for appointment as trustee

Paragraph (1) requires that at least one trustee under the indenture be an institution, with corporate trust powers, which is subject to governmental supervision or examination.

Paragraph (2) permits the Commission to require that such institutional trustee have at all times a combined capital and surplus commensurate with its responsibilities, such determination to be made in view of the type of indenture, the amount of securities outstanding and thereafter issuable thereunder, and the duties and responsibilities imposed upon the trustee. If the indenture so provides, however, the combined capital and surplus set forth in the most recent annual report of condition published pursuant to law or to the requirements of the supervising or examining authority will be conclusive evidence as to the amount thereof.

Paragraph (3) makes provision for individual co-trustees, as is necessary under some State laws.

Paragraph (4) requires that in the case of certificates of interest or participation, the trustee have the legal power to exercise the rights of a holder of the underlying securities.

Subsection (b). Disqualification of trustee

This subsection of the committee reprint requires that if the trustee has or acquires any conflicting interest as defined in that subsection, it shall within 90 days after ascertainment thereof, either eliminate such conflicting interest or resign. If the trustee fails, on written request, to resign or to eliminate the con

flicting interest within the specified period, any security holder may institute removal proceedings. The revised subsection requires that such security holder have been a bona-fide holder of indenture securities for at least 6 months. The subsection then proceeds to state what shall be deemed to be a conflicting interest. The provision of the original subsection prohibiting any person having a conflicting interest from accepting or holding the position of trustee has been eliminated in the fear that the retention of that provision would cast a doubt upon the validity of action taken by the trustee during the 90-day period. In the revised subsection, the 90-day period starts to run upon ascertainment of the conflicting interest rather than upon the acquisition thereof.

(1) Trusteeship under more than one indenture made by the same obligor is to be deemed a conflicting interest with the exceptions mentioned in this paragraph. Cases in which one indenture is a collateral trust indenture secured exclusively by bonds issued under the other indenture are excepted. The modifications made in this provision were in the interests of clarity. A similar exception is provided where the obligor is a real estate company having no substantial unmortgaged assets and both indentures are secured by wholly separate and distinct parcels of real estate. No real conflict of interest exists in such cases. The Commission is authorized to make further exceptions where the trustee establishes to its satisfaction that trusteeship under both indentures is not likely to involve a material conflict of interest.

(2) A trustee is to be deemed to have a conflicting interest if it or any of its directors or executive officers is an obligor or was, subsequent to June 16, 1934, an underwriter. The latter term is defined in the last paragraph of subsection (b) as including all persons who were underwriters of outstanding securities of an obligor within 6 years prior to the date as of which the determination is made. Underwritings prior to June 16, 1934 are to be disregarded under the revised paragraph (2). It was on that date that the Banking Act of 1933 required national banks to cease the underwriting of securities.

(3) This paragraph deals with cases in which the trustee controls or is controlled or is under common control with an obligor or underwriter.

(4) This paragraph prohibits the trustee itself or any of its directors or executive officers from being an officer, director, partner, employee, appointee, or representative of an obligor or underwriter. The revised paragraph permits, in common parlance, one director or executive officer "each way" between the trustee and the obligor, but no person may at the same time be an executive officer of both. The second common director is now to be permitted only if the number of directors of the trustee is more than nine. In the original bill the exception provided in clause (A) did not apply to executive officers of the trustee. Instead of limiting the pecuniary interest of the "clause (B)" director to his qualifying shares in the obligor, as was done in the original bill, such director's holdings in the obligor are now to be restricted to what may properly be regarded as a "normal investment" in the obligor, the amount to be fixed by the Commission, with an upper limit of 1 percent.

Clause (C) of the original paragraph (4) has been retained substantially unchanged, thus permitting the trustee to be designated to act as such, or in certain specified ministerial capacities, by an obligor or underwriter.

(5) This paragraph, as revised, in effect prohibits the obligor and its officials, or an underwriter and its officials, from being the beneficial owner of 5 percent or more of the voting securities of the trustee. The principal change made in this paragraph is that the obligor and each underwriter, and their officials, are to be considered separately. The exclusion from this calculation of holdings by a director or executive officer or an obligor who is also a director or executive officer of the trustee, by virtue of clause (a) of paragraph 4, is limited to holdings not in excess of 22 percent.

(6) This paragraph in effect prohibits a trustee under an unsecured issue, or a trustee under a secured issue having an original maturity of less than 5 years, from being or becoming a creditor of an obligor, except as authorized pursuant to subsection (d) of section 7.

(7), (8), and (9): These paragraphs deal with the matter of the beneficial ownership by the trustee of securities of an obligor or underwriter. The corresponding paragraphs of the original bill applied to ownership in a representative capacity as well. Ownership in a representative capacity (i. e., as executor, trustee or in a similar capacity) is now given separate treatment in paragraph (10), on the theory that such ownership does not involve as direct a conflict as beneficial ownership.

(10) This paragraph, which had no counterpart in the original bill, requires the trustee to make an annual check of its holdings of such securities in a representative capacity, and if such holdings aggregate 25 percent or more, the trustee

is to be deemed to have a conflicting interest. The last sentence of the new paragraph (10) requires a similar check to be made upon the occurrence of a principal or interest default under the indenture, and provides that all such securities held by the trustee in any representative capacity, with sole or joint control over such securities, shall thereafter be considered as though beneficially owned by the trustee.

The first proviso following paragraph (10) excludes from the operation of the last four paragraphs securities held as collateral, and securities held in a ministerial capacity. The changes in this proviso were for the purposes of clarification. The second proviso permits the exclusion, for a limited period, of any such security acquired through becoming executor, administrator, or testamentary trustee of an estate.

Subsection (c): This subsection is designed to eliminate competition between a trustee, who is also a creditor of the obligor, and the bondholders he represents, during and after the 4 months' period preceding a principal or interest default under the indenture. If a trustee under an unsecured indenture, or a trustee under a secured indenture having an original maturity of less than 5 years, makes a loan in violation of the provisions of subsection (b) (6), any improvement of his position during or after such period must be held subject to the prior payment in full of all sums due and owing under the indenture. In the case of a trustee under a secured indenture having an original maturity of more than 5 years, on the other hand, the trustee is not required to account for any such improvement if it establishes that at the time such improvement was received the trustee had no reasonable cause to believe that a default would occur within 4 months. Subject to this limitation, any improvement of the position of such a trustee is to be apportioned between the trustee and the bondholders in such manner that the trustee realizes no greater percentage of his deficiency claim than the bondholders realize in respect of their deficiency claim.

The provisions of this subsection do not apply to the realization upon security held by the trustee prior to the beginning of the 4 months' period. In the committee reprint a provision has been inserted immediately after paragraph (2) of this subsection which excludes from the accounting requirement (A) payments made by persons other than the obligor, who are liable upon the claim in question, and (B) the proceeds of the bona-fide sale of the claim by the trustee to a third person. Transactions of this character cannot be said to involve competition between the trustee and the bondholders it represents.

The next to the last paragraph of the subsection is intended to discourage a trustee from resigning in order to avoid the accounting requirements.

The

Subsection (d): This subsection permits the exclusion of certain classes of credits from the operation of subsection (b) (6) and subsection (c), the ownership or acquisition of which does not involve an acute conflict of interest. original bill included in this category (1) credits evidenced by securities having a maturity of one year or more at the time of acquisition by the trustee, and (2) advances authorized by a receivership or bankruptcy court, or by the indenture, for the purpose of preserving the mortgaged property. The committee reprint requires that notice of such advances be given to the security holders, at the time and in the manner provided in the indenture, instead of imposing an inflexible requirement that "prompt notice" be given.

The committee reprint permits the exclusion of three additional classes of credits. Paragraph (3) covers certain disbursements of a minor nature. Paragraph (4) includes temporary credits arising from the sale of goods or securities sold in what is substantially a cash transaction, as for example, cases where payment is made by check which may take several days to clear. Paragraph (5) is intended to cover credits arising from the discount of drafts with bills of lading attached, which are ordinarily liquidated out of the proceeds of the goods, and credits arising out of similar transactions.

Subsection (e). Reports by obligors

Under this subsection the indenture must include adequate provisions for periodic financial reports by the obligor to the trustee and the Commission, and adequate provisions for the transmission thereof to the bondholders. The Commission is empowered to prescribe the form in which such reports are to be made. This is the only respect in which the Commission is given any continuing jurisdiction after an indenture has been qualified.

Subsection (f). Bondholders' lists

This subsection requires the obligor to file with the trustee at stated intervals all information in its possession or control, or in the possession or control of any of its paying agents, as to the names and addresses of the bondholders. Under the requirements of the income-tax title of the Revenue Act of 1936 "ownership certificates", setting forth the names and addresses of the bondholders, are now required to be filed with paying agents in connection with interest payments. This subsection would require that information so obtained be turned over to the trustee. The trustee's obligation to make such information, or the use thereof, available to the bondholders is to be subject only to such conditions as the Commission approves. Under this authority the Commission could, in a proper case, approve a provision which, in lieu of requiring disclosure of the list itself, merely required the trustee to mail out, at the expense of any bondholder, communications directed to his fellow bondholders. The last sentence of the subsection is intended to exempt the disclosure of such information, in accordance with the provisions of the indenture, from the nondisclosure provisions of the revenue act.

Subsection (g). Duties of the trustee prior to default

This subsection in effect requires that the indenture impose upon the trustee certain specific duties and obligations, prior to default, to be worked out against the background of what a prudent man would do under similar circumstances. Specific mention is made of certain of the more important matters, such as recording; the application of the proceeds of the securities to the purposes specified in the indenture; compliance with conditions precedent to the release and substitution of the mortgaged property; and the performance by the obligor of its obligations under the indenture.

To the extent that the changes made in this subsection are not purely formal, they are designed to provide greater flexibility. This subsection should be read in conjunction with subsection (i).

Subsection (h). Duties of the trustee in case of default

In case of default, the indenture must impose upon the trustee the duty of acting as a prudent man would act under the circumstances if he were a fiduciary and had the degree of skill which the indenture trustee has, or represents itself as having. If the trustee has a greater degree of skill than a man of ordinary prudence, it is held to the exercise of that degree of skill. Such requirement merely imposes upon an indenture trustee the same standard generally applicable to trustees under personal trusts. The committee reprint makes clear what was originally intended, namely, that the representations intended to be covered were representations made at the time of the offering of the indenture securities.

The requirements of this subsection are subject to provisions authorizing the holders of not less than a majority in principal amount of the outstanding bonds to direct the trustee's action in certain respects. The committee reprint adds a provision protecting the trustee from liability for any error of judgment or for any loss, so long as it acts in good faith and without any negligence. This provision is merely an express statement of what was already clear as a matter of interpretation of the original bill.

Subsection (i). Reliance upon certificates and opinions

This subsection permits the inclusion of provisions authorizing the trustee to rely upon opinions or certificates of attorneys, accountants, or other experts, if the Commission deems that such provisions do not materially conflict with the required standard of care, and are not detrimental to the public interest or the interest of investors. Here again, the changes made in the committee reprint were for purposes of clarification only.

Subsection (j). Exculpatory clauses

The indenture must not contain any provisions relieving the trustee from liability for its own negligent action or failure to act, or for its own willful misconduct. Included in this prohibition, of course, are provisions relieving the trustee from liability for the negligence of its employees, except to the extent that such provisions are permitted by subsection (i).

Subsection (k). Notice of defaults

The indenture must contain adequate provisions with respect to the giving to bondholders of notice of defaults under the indenture. But the indenture may provide that, except in the case of defaults as to which the Commission deems it necessary or appropriate that prompt notice be given, the trustee shall be protected in withholding notice so long as it determines that course to be in the interests of the bondholders. Such determination must be made in good faith, by the board of directors, or executive committee, or a trust committee composed of directors or responsible officers of the trustee. The original bill was less specific in this regard. The other changes introduce a greater degree of flexibility.

Subsection (1). Undertaking for costs

This subsection authorizes the inclusion in the indenture of provisions requiring the filing of an undertaking for costs, and the assessment of reasonable costs (including reasonable attorneys' fees), in the discretion of the court, in any suit for the enforcement of rights or remedies under the indenture. Precedent for this provision is to be found in section 18 (a) of the Securities Exchange Act of 1934. In addition to several minor changes, the committee reprint provides that in the assessment of such costs due regard is to be had to the merits and good faith of the suit or defense. The provisions of the subsection do not apply to suits by bondholders to collect principal or interest, or to suits instituted by bondholders holding in the aggregate more than 10 percent in principal amount of the outstanding bonds. The reprint also excludes suits by the trustee.

Subsection (m). Other indenture provisions

This subsection confers upon the Commission general power to require the inclusion in the indenture of such provisions as it deems necessary or appropriate in the public interest or for the protection of investors in respect of certain specified matters, including releases; the recording of the indenture; the definition of the term "default"; notices and reports by the trustee to the bondholders; the rights, powers and duties of the trustee with respect to proceedings for the enforcement of the indenture; the employment by the trustee of attorneys or other experts having conflicting interests; the rights, powers and remedies of the security holders; and the qualifications, rights, powers, and duties of paying agents.

SECTION 8. RULES, REGULATIONS, AND ORDERS

This section covers the rule making power of the Commission. Among other things, the Commission may prescribe or recommend forms of indentures or of any provisions required or permitted to be included therein.

Subsection (c) includes the now standard provision exempting any person from liability for action taken in good faith in conformity with rules, regulations or orders of the Commission notwithstanding the subsequent amendment, rescission, or invalidation thereof.

SECTION 9. HEARINGS BY THE COMMISSION

The only novel feature of this section is the provision authorizing the Commission to provide for the consolidation of proceedings under this act with proceedings under the Securities Act of 1933 and the Public Utility Holding Company Act of 1935.

SECTION 10. SPECIAL POWERS OF THE COMMISSION

Subsection (a) empowers the Commission to subpena witnesses and require the production of documents, in substantially the same language as section 19 (b) of the Securities Act. This subsection alsc incorporates by reference the provisions of section 20, 22 (b) and 22 (c) of the Securities Act with respect to investigations and hearings, the enforcement of the act, and offenses and violations thereunder.

Subsection (b) authorizes the Treasury Department, the Comptroller_of_the Currency, the Board of Governors of the Federal Reserve System, the Federal Reserve banks, and the Federal Deposit Insurance Corporation to make information available to the Commission, and to make examinations for the use of the Commission, under such conditions as they may prescribe. The committee reprint adds to this subsection a provision prohibiting the Commission from making such information available to the public.