stock in exchange for shares of common stock of the company to be merged into it. The preferred shares were to be convertible into common stock of the merged company on such terms that, assuming conversion of the preferred shares, they had the effect of materially reducing pro forma earnings per share of the company on a merged basis for the most recently completed fiscal year.

It was the opinion of the Commission that the preferred shares in this case should be treated as

a residual security in the determination of earnings per share in the financial statements in the proxy statement. In general, if at the time of issuance of a convertible security in an acquisition, the terms are such as to result in immediate material dilution to pro forma earnings per share, assuming conversion, then that security should be considered a residual security whether or not a majority of its value may be derived from its conversion rights.

SECURITIES ACT OF 1933

Recent newspaper advertisements and public relations releases by various persons, corporations, partnerships, trusts and unincorporated organizations have offered aid to prospective borrowers in obtaining loans for real estate development. From a private investigation being conducted by the Commission into possible violations of the statutes it administers, it appears that some of these offers are made by persons or organizations which do not have the ability to secure such funds or do not have any intention of obtaining finances for the prospective borrowers, as distinguished from the operating procedures of reputable mortgage brokers, whose business is based upon obtaining the requisite financing and the subsequent servicing of this financing.

These schemes appear to follow two basic patterns. In one, the borrower must pay a substantial nonrefundable fee or fees without receiving a written loan commitment. In the other, the prospective borrower pays a substantial advance fee pursuant to an agreement which is silent or ambiguous on whether the fee is refundable if a loan commitment is not obtained within a reasonable period of time and the payee will not return the funds or delays returning the funds until forced to do so by the appropriate legal authorities. It is, of course, possible that such schemes might take other forms.

It should be pointed out that the persons deceived and misled by these schemes were not merely ordinary property owners who were unfamiliar with the mechanics of mortgage loan transactions, but include many prominent companies and individuals with substantial experience in the real estate and development field who are confronted with the tight mortgage money market. We do not suggest that there are not legitimate organizations in this field or that they do not provide a useful service to borrowers, particularly in times of tight money. Nevertheless, persons interested in obtaining such loans should satisfy themselves that the firms with which they are dealing have the ability to obtain the proposed financing and are committed to do so before receiving substantial advance fees from the prospective borrower.

There are indications that the use of these schemes may be widespread and that large sums may have been lost by prospective borrowers. Accordingly, in order to alert prospective borrowers and the industry of the problems and to prevent the success of fraudulent operations, we are publishing this release.

By the Commission.

ORVAL L. DUBOIS Secretary

SECURITIES ACT OF 1933

The Securities and Exchange Commission announced today that it has adopted Rule 131 under the Securities Act of 1933 and Rule 3b-5 under the Securities Exchange Act of 1934. The new rules relate to "industrial revenue bonds."

Proposed rules were published for comment on February 1, 1968, in Securities Act Release No. 4896 (Securities Exchange Act Release No. 8248). The Commission received many helpful comments that pointed out problems that would be created by the rules in the form in which they were proposed, and that suggested means of overcoming these problems. In light of these comments, the Commission determined to revise the proposed rules to meet the objections raised in these comments and incorporate some of the suggestions for revision.

As was pointed out in the Release announcing the proposed rules, the typical industrial revenue bond financing plan represents a financing by a private company. Accordingly, investors should be given information concerning the business, prior experience, fiscal responsibilities and earnings of the company that has leased the facility, as well as the terms and conditions of the lease arrangement, in order to assess the worth of such investment. The municipality or other governmental unit usually has no significant obligation under the bond, except to the extent of applying lease payments received from the private company to the payment of principal and interest. The investor cannot look to the municipality for interest payments or repayment of the principal; he can look only to the possibility of success or failure of the private company. The municipality serves as a conduit through which the amounts payable under the lease arrangement flow from the private company to the bondholder. In these circumstances, the investor is offered an interest in an obligation of the private company which is a "security" within the meaning of the securities acts and should have the benefit of the disclosures

required by the Securities Act of 1933 and the Securities Exchange Act of 1934 when applicable.

There appeared to be a failure on the part of many persons who submitted comments to understand that the proposed rules were interpretive rules that identify securities of private companies which are offered and sold in industrial revenue bond financing plans, and that the proposed rules were not intended to affect the exemptions for municipal or governmental bonds contained in the securities acts. In addition, in some of the comments it was noted that although the Release announcing the proposed rules pointed out that the rules would not affect the exemption for municipal or governmental bonds, they were broad enough in scope to have a contrary implication. As a consequence, the rules have been revised to remove such implication.

Rule 131

Paragraph (a) of the rule has been modified to relate specifically to section 3(a)(2) of the Act. This was accomplished by deleting the words "State or Territory of the United States, any political subdivision of a State or Territory, or any agency or instrumentality of one or more States, Territories or political subdivisions thereof," and substituting therefor the words "governmental unit specified in section 3(a) (2) of the Act."

Many of the comments that were received pointed out that a definition of the term "industrial or commercial enterprises" should be included in the rules, and gave suggestions as to how that term should be defined. In the light of those comments, the Commission has added a new paragraph (b), which states that "An obligation shall not be deemed payable from industrial or commercial enterprises if such obligation relates to a public project or facility owned and operated by or on behalf of and under the control of a governmental unit specified in section 3(a) (2) of the Act." This

paragraph would make it clear that registration is not required where the lessee is a governmental unit specified in section 3(a) (2) of the Securities Act.

Paragraph (b) of the proposed rule has been relettered (c) and the word "issued" in the last line of the paragraph has been changed to the word "sold" and the rule will become effective January 1, 1969. These changes were made in response to comments that pointed out certain technical and timing problems that were raised by the proposed rule.

The rule is directed to financing plans in which any part of the principal and/or interest on a bond, note, debenture or evidence of indebtedness issued in the name of a government or its instrumentality is payable from payments which are to be made under a lease, sale or loan arrangement by private enterprise for property or money to be used by industrial or commercial enterprises. The rule does not have the effect of requiring registration of revenue bonds issued by a State, a political subdivision, a municipality or a public instrumentality to finance a revenue producing public project operated by such issuer, such as toll roads, municipal water systems, transportation facilities and systems or municipal recreational facilities, or revenue bonds which are to be funded by payments under a lease, sale or loan arrangement if the user of the facility or property is a State or a political subdivision or public instrumentality of a State or a municipality which is the lessee or obligor. New paragraph (b) of the rule is designed to remove all doubt as to the effect of the rule. In this connection, concern was expressed in many comments that the rule would have the effect of requiring registration of bonds issued to finance construction of airports, wharves, recreational and sporting facilities and convention facilities. Paragraph (b) would clearly make the rule inapplicable to the financings of such facilities that are owned by a municipality and operated by it or a public instrumentality.

It should be noted, however, that if the municipality were not to control the facility but were to lease it or sell it to a private enterprise to operate for a profit, the bonds would be payable from an industrial or commercial enterprise and registration would be required, absent an available exemption. On the other hand, the section 3(a) (2)

exemption would be applicable where a governmental unit having taxing authority or other resources guarantees payment of the bond obligation in the event of default under the lease, or where such governmental unit is responsible for all the bond payment obligation even though a portion or all of the facility is leased to a private enterprise. Further, whether or not section 3(a)(2) of the Act is applicable, if the securities are offered and sold exclusively to residents of the State in which the lessee company is organized and doing business and in which the facility is located, the exemption in section 3 (a) (11) of the Act would be available; or if the securities are not publicly offered, the exemption in section 4(2) of the Act would be available.

It should be noted that the rule relates only to that part of an obligation evidenced by industrial revenue bonds which is payable from an industrial or commercial enterprise. Thus, if the lease obligation is in an amount less than the principal amount of the bonds, registration would be required of only that portion representing the lease obligation. Similarly, if a facility were leased to two separate lessee companies, each of which was obligated to make lease payments representing a portion of the principal amount of the bonds, each would be required to register its respective portion of the lease obligation.

The Commission has determined, based on a number of lease obligations that have recently been registered, that existing rules, procedures and policies under the Trust Indenture Act of 1939 are adequate in connection with the applicability of that Act to the securities identified in the rules. For example, the indenture, which contains the provisions required by the Trust Indenture Act of 1939, may be executed between the trustee and the lessee and the lessee will be required to file the necessary reports and perform the other obligations of an obligor thereunder. However, it has been the practice for the municipality to execute the indenture and to assign its rights under the lease to the indenture trustee, in which case the lessee assumes the statutory functions of an obligor in the lease. The text of Rule 131 follows:

Rule 131. Definition of Security Issued Under Governmental Obligations

(a) Any part of an obligation evidenced by any bond, note, debenture, or other evidence of in

debtedness issued by any governmental unit specified in section 3(a) (2) of the Act which is payable from payments to be made in respect of property or money which is or will be used, under a lease, sale, or loan arrangement, by or for industrial or commercial enterprise, shall be deemed to be a separate "security" within the meaning of section 2(1) of the Act, issued by the lessee or obligor under the lease, sale or loan arrangement.

(b) An obligation shall not be deemed payable from industrial or commercial enterprises if such obligation relates to a public project or facility owned and operated by or on behalf of and under the control of a governmental unit specified in section 3 (a) (2) of the Act.

(c) This rule shall apply to transactions of the character described in paragraph (a) only with respect to bonds, notes, debentures or other evidences of indebtedness sold after December 31, 1968.

Rule 3b-5

Rule 3b-5 has been modified in the same manner as Rule 131.

Rule 3b-5 makes it clear that securities identified under Rule 131 are also "securities" within the meaning of section 3 (a) (10) of the Securities Exchange Act of 1934. The provisions of the rule correspond to those of Rule 131. The rule informs brokers and dealers who deal in industrial revenue bonds, that consideration should be given to the existence of separate securities issued in connection with the issuance of industrial revenue bonds, in determining their obligations under the Securities Exchange Act, where any part of the obligation evidenced by any bond, note, debenture or other evidence of indebtedness is payable from industrial or commercial enterprises. Such separate securities ordinarily would not be exempted secu

rities within the meaning of section 3(a) (12) of the Act. In such instances all the provisions of the Exchange Act and the Commission's rules thereunder will apply to any part of the obligation evidenced by the bond which is deemed to be a separate security within the meaning of section 3(a) (10) of the Exchange Act and which is not issued by a lessee or obligor described in section 3(a) (12) of that Act.

The text of Rule 3b-5 follows:

Rule 3b-5. Nonexempt Securities Issued Under Governmental Obligations

(a) Any part of an obligation evidenced by any bond, note, debenture, or other evidence of indebtedness issued by any governmental unit specified in section 3(a) (12) of the Act which is payable from payments to be made in respect of property of money which is or will be used, under a lease, sale, or loan arrangement, by or for industrial or commercial enterprise, shall be deemed to be a separate "security" within the meaning of section 3(a) (10) of the Act, issued by the lessee or obligor under the lease, sale or loan arrangement.

(b) An obligation shall not be deemed payable from industrial or commercial enterprises if such obligation relates to a public project or facility owned and operated by or on behalf of and under the control of a governmental unit specified in section 3 (a) (12) of the Act.

(c) This rule shall apply to transactions of the character described in paragraph (a) only with respect to bonds, notes, debentures or other evidences of indebtedness sold after December 31, 1968.

By the Commission.

ORVAL L. DUBOIS

Secretary

SECURITIES ACT OF 1933

of 1933 and invited the views and comments of interested persons thereon. These proposed guides represent a revision and expansion of those previously published in Securities Act Release No.

4666. A considerable number of very helpful comments were received in response to the above invitation and all of such comments have been carefully considered in the preparation of the definitive version of the guides.

Certain changes have been made in the guides as a result of the staff's review of the comments submitted and as a result of its further consideration of the various matters involved. The guides are subject to review and modification from time. to time as circumstances may require and interested persons are invited to submit, at any time, suggestions for such modifications or for the publication of guides covering additional matters.

These guides are not rules of the Commission nor are they published as bearing the Commission's official approval. They represent policies and practices followed by the Commission's Division of Corporation Finance in the administration of the registration requirements of the Act, but do not purport to furnish complete criteria for the preparation of registration statements.

The staff of the Division of Corporate Regulation is in the process of preparing guides describing the practices and policies followed by that Division in the examination and processing of registration statements filed by registered investment companies.