02-9

02-9

March 14, 2002

Re: ________ — Financial Code Sections 782 & 1336

Dear Mr. ________:

This responds to your letter of February 4, 2002, in which you requested the Department’s view on whether an investment by a California state bankn1 in ________ (the “Fund”) would comply with the requirements of Financial Code sections 782 and 1336. The Fund is a closed-end management investment company registered with the SEC as a business development company (“BDC”) under the Investment Company Act of 1940 (“1940 Act”) that will be managed by ________.

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n1The term “bank” includes commercial banks, trust companies and industrial banks. Financial Code section 109.

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As discussed below, it is our view that a California state bank may not invest in shares of the Fund under the authority of Financial Code sections 782 or 1336, but that there may be some authority for such an investment pursuant to Financial Code section 772. Generally, Financial Code section 761 provides that no bank shall purchase, acquire or hold the stock of any corporation except as expressly authorized in division 1 of the Financial Code (the “Banking Law”). See also Financial Code section 1335 (which authorizes commercial banks to invest in certain securities, but not shares of corporations). The Department has long viewed the acquisition of shares in a registered investment company, such as the Fund, as an investment in the shares or stock of a corporation subject to the prohibitions of Financial Code sections 761 and 1335. Therefore, a California state bank is prohibited from owning shares of the Fund except to the extent specifically permitted by other provisions of the Banking Law, such as Financial Code sections 772 and 782.

Financial Code section 782 authorizes a bank to invest in the shares of an investment company if the following requirements are met: (1) The investment company must be registered with the SEC pursuant to the 1940 Act; (2) the shares of the investment company must be registered with the SEC under the Securities Act of 1933 (the “1933 Act”); and (3) the portfolio of the investment company must consist solely of specified types of securities. The specified types of securities are the securities described in subdivisions (a), (b), (c), and (d) of Financial Code section 1336.

According to the information provided in your letter and the various materials submitted with that letter, the Fund does not meet the second and the third requirements. Since the Fund is structured as a BDC, its shares are not registered with the SEC under the 1933 Act, but are registered under the Securities Exchange Act of 1934 (the “1934 Act”). See 15 U.S.C §§ 80a-53(a) & 78a-l. Thus, the second requirement is not met. Furthermore, the Fund is authorized to invest in securities that are not specifically of a type listed in Financial Code section 1336. For example, the Fund is authorized to invest in AAA credit rated securities and in securities issued or guaranteed by government agencies or government-sponsored enterprises (“GSEs”). Although some of these securities may be of a type listed in Financial Code section 1336 (such as securities issued and guaranteed by the Federal Home Loan Mortgage Corporation), others may not be (such as securities issued and/or backed by the credit of a state other than California). To the extent the Fund is authorized to invest in any securities not specifically listed in Financial Code section 1336, shares of the Fund are impermissible investments pursuant to Financial Code section 782.

Additional authority for banks to invest in the stock of corporations is found in Financial Code section 772, which provides that (subject to the regulations of the Commissioner) a bank may invest in the stock of one or more corporations. The Commissioner’s regulations provide that a bank may invest in stock under “general authorization” or “specific authorization.” Cal. Code Regs. Tit. 10, sections 10.19050 et seq. Under general authorization, a bank which has been granted “eligibility” for purposes of the regulations may invest in stock subject to certain exclusions and limitations. Under specific authorization, other banks that wish to make stock investments and eligible banks that wish to make stock investments beyond the scope of the exclusions and limitations defined in the general authorization, must first obtain approval from the Commissioner. The exclusions and limitations defined in the general authorization depend in large measure on the bank and its relationship, if any, to the corporation in which it proposes to invest. Similarly, the factors for determining whether approval will be granted under the specific authorization for a bank to make a stock investment, as prescribed in section 10.19084 of the regulations, depend in large measure on the condition of the bank. Consequently, it is not possible to say in advance whether an investment in any particular mutual fund would or would not be authorized for all banks.

Finally, your letter also implies that ownership of the shares of the Fund should be viewed as ownership of the underlying investments of the Fund for purposes of Financial Code section 1336. We do not take that view, however. In our view, the acquisition of shares in an investment company, such as the Fund, is an investment in corporation shares, which is not permitted under Financial Code section 1335. Depending upon the circumstances, such an acquisition may be permissible under certain sections of the Financial Code, such as sections 772 and 782 discussed above, which do authorize a bank to invest in corporation shares. As previously noted, shares of the Fund do not comply with the provisions of Financial Code section 782, but may qualify as permissible investments for some banks pursuant to Financial Code section 772.

This analysis was made on the basis of facts presented in your letter and the documents submitted to us therein. It is the position of the Department that each bank is to determine which investments are permissible for it under California law within safe and sound banking practices. This letter does not constitute a recommendation or endorsement of the Fund. Furthermore, should the facts or circumstances change from those presented by you, our analysis and conclusions may change as well.

If you require any additional information from us, please feel free to call.

Very truly yours,

DONALD R. MEYER
Commissioner of Financial Institutions

By

ROBERT R. VENCHIARUTTI
Staff Counsel

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