UNITED STATES 

SECURITIES AND EXCHANGE COMMISSION 

WASHINGTON. D.C. 20549 

DIVISION OF . 

INVESTMENT MANAGEMENT 

November 1, 1996 

Dear Chief Financial Officer: 

The accounting staff of the Division of Investment Management (the "Division") 

has prepared this letter to assist investm~nt company registrants and their independent 

public accountants in addressing certain accounting-related matters. These comments 

represent the views of the staff of the Division and are not necessarily those of the 

Securities and Exchange Commission (the "Commission"). The comments addressed in 

this letter apply to filings, including reports to shareholders, made by registered investment 

companies. This letter should be read in conjunction with similar letters previously issued 

by the Division's Chief Accountant as well as letters issued by the Division's Office of 

Insurance Products and Office ofDisclosure and Review. 

Undertaking to File Financial Statements 

Item 32(b) ofForm N-lA requires a registrant to undertake to file a post-effective 

amendment within the four to six month period after the effective date of its registration. 

The purpose of the undertaking is to provide financial statements of the registrant 

reflecting an initial period of operations that is considered representative ofthe operations 

ofthe new registrant. 1 

Recently, the Division addr~ssed the need for this undertaking in the case of a 

merger of an operating investment company into a non-operating registrant, that is, a 

llshell" entity. The operating investment company was to be the accounting survivor; 

therefore, its financial statements became those of the continuing new registrant. We 

agreed that the registration statement containing the financial statements of the operating 

company need not include the four to six month period undertaking pursuant to Item 

32(b). This position was based on our view that the financial statements of the new 

registrant were those of the pre-merger operating investment company and were 

considered representative of the operations of the new registrant. In other merger 

situations, when the operating investment company is a relatively new registrant (i.e., 

having fewer than four to six months of operations), undertaking to file financial 

statements within four to six months following the merger is not necessary if the financial 

statements included in the initial registration statement of the new registrant are 

considered representative ofits operations. 

The Division has previously provided limited relief from this requirement See Letter to Registrants 

from Carolyn B. Lewis dated February 25, 1994, Item V, "Financial Statements'' (limited relief granted when 

the initiation of operations is deferred and the end of the four to sixth month period is near the date of the end of 

the annual or semi-annual period). 
2 

Accounting for Foreign Corporate Actions 

In recent years, the number ofinvestment companies investing in foreign securities 

has increased dramatically.2 In many cases, information relating to corporate actions (e.g., 

dividends, stock splits, rights offerings, interest payments) by foreign issuers is difficult for 

investment companies or their agents to obtain and verify on a timely basis. Generally 

accepted accounting principles ("GAAP") require an investment company to record 

corporate actidns affecting portfolio securities on the dates when they become effective3 

(e.g., ex-dividend date, payment date) in order for the investment company's net asset 

value to be correctly stated. 

The Division understands that some investment companies do not record foreign 

corporate actions until they receive formal notification from a third party such as the 

investment company's custodian or other service provider and are able to verify that the 

corporate action has occurred. Generally, it is not appropriate under applicable 

accounting rules for an investment company to delay the recording of foreign corporate 

actions ifthe investment company knew or, in the exercise of reasonable diligence, should 

have known that the corporate action had occurred. Delayed recording of foreign 

corporate actions may be appropriate, however, if the investment company, exercising 

reasonable diligence, did not know that the corporate action had occurred. 4 In this event, 

the investment company should record such action promptly after receipt of the 

information. Reasonable diligence would generally require an investment company to 

adopt appropriate procedures to obtain timely notification and verification ofthe effective 

date ofthe foreign corporate action. 5 

Financial Highlights in Multi-Class Reorganizations 

In the past, we have addressed the issue of determining which investment company 

in a business combination is deemed the survivor and which historical financial highlights 

are used by the new surviving investment company.6 Several registrants have inquired 

about accounting for a multi-class reorganization in which several investment companies 

merge into one fund, and, contemporaneously, the acquiring fund implements a multi-class 

structure. Each of the predecessor funds becomes a different class of the acquiring 

2 The number of registered investment companies with international portfolios has more than doubled 

over the past four years. Investment Company Institute, "Trends in Mutual FundActivity,"Table 6.A, July, 1996. 

3 Financial Accounting Standards Board Statement of Concepts No. 5, "Recognition and 

Measurement in Financial Statements ofBusiness Enterprises," December, 1984. 

4 In addition, an investment company may have conflicting information about the date of a 

corporate action which it is unable to confirm with reasonable diligence. 

5 In some cases, failure to record a foreign corporate action on a timely basis will cause an 

investment company later to adjust its financial statements. Accounting for a correction of a material 

error is discussed in the Division's letter to Chief Financial Officers dated November 2, 1995, in which 

we concluded that immediate recognition of the entire amount of any error should be reflected in the 

statement of operations and, if appropriate, the footnotes, regardless of the effect on net asset value. 

6 North American Security Trust (pub. avail. August 5, 1994) C'NAST Letter"). 
3 

successor fund. Only the successor class (i.e., the existing fund) represents the continuing 

entity whose operating history is reflected in the historical financial highlights. The 

financial highlights of the other predecessors (classes) are not carried forward, and each 

new class generates an operating history on a post-reorganization basis.7 

Accounting for Liquidation Expenses 

Several investment company registrants have inquired as to the proper treatment of 

expenses in connection with a liquidation. In some cases, the estimation of expenses and 

the approval ofthe plan of liquidation may not occur at the same time. We believe that it 

is prudent to record the liquidation expenses promptly to ensure that investors who remain 

shareholders of the liquidating company do not pay a disproportionate share of the 

liquidation expenses. GAAP require liabilities to be recorded when it is probable that a 

liability has been incurred and the amount can be estimated.8 We believe the liquidation 

expenses should be reflected on the books and records of the registrant as soon as 

determinable under GAAP. 9 

Accounting Treatment for Indirect Expenses 

The Division recently reviewed a filing of a closed-end investment company 

organized as a term trust (the "Trust") that raised issues regarding the accounting 

treatment for indirect expenses. The Trust's assets consisted ofgovernment securities and 

a forward purchase contract between the Trust and an independent third party (the 

"seller") who owned common stock of an unaffiliated company. The forward purch~se 

contract provided that each of the Trust's unitholders would receive a certain number of 

shares of common. stock of the unaffiliated company at the expiration of the Trust. The 

seller agreed to pay all underwriting, organizational and ongoing operational expenses of 

the Trust either directly or indirectly through the underwriter. 

In the initial registration filing, the Trust included a table pursuant to Item 3 of 

Form N-2 (Fee Table and Synopsis) that presented its total annual expenses as zero 

because the seller had agreed to pay these Trust expenses. We concluded that the 

presentation of zero expenses was not appropriate because the cost of the forward 

purchase contract included these expenses. Further, we concluded that the Trust should 

record these costs as an expense or prepaid asset with a corresponding reduction to the 

cost of the contract purchased. The prepaid asset is to be reduced ratably over the life of 

the Trust by a charge to Trust expenses. Under the circumstances, these charges, whether 

7 Operating history contained in the :financial highlights is different from historical performance 

which may contain information prior to reorganization, (See, e.g., NAST Letter; IDS Financial Corp. 

(pub. avail. December 19, 1994.)) 

8 Statement of Financial Accounting Standards No. 5, "Accounting for Contingencies," March 

1975, Par. 8. 

9 See Letter to Registrants from Carolyn B. Lewis and Barry D. Miller dated February 15, 1996, Item 

IV.C., "De-Registering Funds" (reminding registrants to File Form N-8F to notify the Commission that the 

investment company has ceased operations). 
4 

paid directly or indirectly by the Trust, were included as part of the Trust's total annual 

expenses in the table required by Item 3 ofForm N-2. 

Average Commission Rate Considerations 

In July 1995, the Commission revised certain line items in the :financial highlights table 

in Forms N-lA, N-2 and N-3, including the "average commission rate paid" (the "ACRP"). 10 

Since that time, the Division has responded to a number of questions regarding an ACRP that 

includes both domestic and foreign commission rates. According to registrants, blending both 

commission rates presents a concern because of the significant difference between the dollar 

amount ofcommissions paid for domestic securities and the dollar amount (after translation) of 

commissions paid for foreign securities. 

In adopting revisions to the :financial highlights table, the Commission considered the 

effects ofrequiring a blended commission rate and indicated that such a rate is appropriate. In 

particular, the Commission stated that "disclosure of average commission rates [in a blended 

manner] can improve investors' ability to evaluate and compare investment company brokerage 

costs ... and that a comparison ofaverage commission rates among investment companies will 

be a useful bench-mark for investors ...."11 An average commission rate should be based on 

actual commissions paid, translated into U.S. dollar equivalents, as required by the instruction 

to the financial highlights table. 12 The registrant may, at its option, ·add an explanatory note to 

the financial highlights table with respect to the components of the ACRP including domestic, 

foreign or country-specific average commission rates. 

Dating of Financial Statements 

The Division has addressed questions regarding the proper dating of financial 

statements when the reporting period ends on a non-business day. 13 When the reporting 

period ends on a weekend, the investment company has the option to choose either the 

calendar day or the last business day as the date of the balance sheet. If the investment 

company chooses to use the last business day, the financial statements should reflect that 

date and include the appropriate accruals to that date. Ifthe investment company chooses 

to define the fiscal period .based on the calendar date, the financial statements should 

reflect the calendar date and include the appropriate accruals to the calendar date. 

10 Investment Company Act Rel. No. IC-21221 (July 28, 1995). 

II Id., Item 11.E. 

An instruction to the item provides that the registrant should "[c]onvert commissions paid in foreign 

currency into U.S. dollars and cents per share using consistently either the prevailing exchange rate on the date 

ofthe transaction or average.exchange rate over such period as related transactions took place." 

13 For example, the calendar end may be a Sunday, but the last business day would be the 

preceding Friday. 
5 

This letter contains information of importance to the company's independent 

public accountants; therefore, we encourage you to discuss these items with them. Any 

questions about the contents of this letter or related matters can be addressed to 

John S. Capone or Paul T. Kraft, Assistant Chief Accountants, or me, at (202) 942-0590. 

Very truly yours, 

Lawrence A. Friend 

Chief Accountant