On November 20, 2008, the Federal Energy Regulatory Commission (FERC) denied a request by Horizon Asset Management (Horizon), an investment adviser,1 for a disclaimer of jurisdiction under Section 203 of the Federal Power Act (FPA) with respect to investments in public utility securities and put Horizon and other similar investment advisors on notice that they may face possible monetary or other sanctions if they fail to obtain advance approval under FPA Section 203(a)(2).2 FERC's order is significant because it addresses an issue of first impression under the "purchase, acquire, or take any security" clause of FPA Section 203(a)(2) — whether an investment adviser is considered to be an entity that "purchases, acquires, or takes" securities in circumstances where the adviser is not itself a security account holder and the account holders have delegated the power to vote securities to the financial adviser, but the financial adviser generally defers to another entity that it engages to vote the securities. FERC found that Horizon was a holding company under the Public Utility Holding Company Act of 2005 (PUHCA 2005)3 and Horizon did "purchase, acquire, or take any security." It must therefore obtain FERC authorization prior to acquiring public utility securities in excess of $10 million.
Because not all investment advisers may have been aware of FERC's interpretation of its jurisdiction under the "purchase, acquire, or take any security" clause of Section 203(a)(2) to require prior authorization for the acquisition of public utility securities, FERC is allowing any affected entities to file within 90 days of the date of publication of the order in the Federal Register an application requesting such authorization. After that time, the failure to make a timely filing may result in sanctions.
Summary of Horizon Order4
Horizon filed an application containing two basic requests. First, Horizon requested that FERC disclaim jurisdiction over its account management activities that involve the acquisition of holding company or utility securities that otherwise would be subject to FERC approval under FPA Section 203. For the reasons discussed below, FERC denied that request. Alternatively, Horizon sought permanent blanket authorization under FPA Sections 203(a)(1) and 203(a)(2) for: (i) Horizon to engage in account management activities involving the acquisition of the voting securities of any public utility, electric utility company, transmitting utility, or holding company in a holding company system that includes an electric utility company or transmitting utility; and (ii) utilities or holders of utility voting securities to sell their securities to Horizon or its agents in transactions that fall within the scope of its account management activities, subject to certain conditions. While Horizon's request under FPA Section 203(a)(1) was dismissed because it was unnecessary, FERC granted, subject to certain conditions, Horizon a blanket authorization under FPA Section 203(a)(2) for a three-year period.
Description of Horizon
Since FERC has cautioned "Horizon and other similar investment advisers that they may face possible monetary or other sanctions if they fail to obtain advance approval under Section 203(a)(2) of similar acquisitions of securities,"5 it is important to understand the nature of Horizon's business. Horizon is an investment adviser registered with the Securities and Exchange Commission, whose primary business is the management and direction of separately managed accounts.6 The accounts are owned by individuals and entities (Account Holders) and are generally "in the hands of" account custodians (typically, one of the large banking institutions). The vast majority of the separately managed accounts are "discretionary accounts," which means that Horizon has the exclusive authority to manage the account and instruct the custodian to add or reduce positions in the account. Horizon states that the Account Holder is the actual owner of all the stock in the account and is listed in the relevant stock registries as the owner. Horizon earns a fee for its management of the account.
Each Account Holder is a separate legal person or entity that has delegated to Horizon the responsibility for supervising and managing the securities portfolio of that account. The delegated responsibilities include both the purchase and sale of the securities as well as the voting rights proxies. Horizon states that in exercising the voting rights it generally defers to Institutional Shareholder Services, Inc. (Institutional Shareholder Services) but retains the option to override its decisions.
Horizon filed as an exempt holding company under the Public Utility Holding Company Act of 2005 (PUHCA 2005)7 and form FERC-65A with respect to its accounts holding more than 10 percent of the voting securities of Reliant, Sierra Pacific, and Aquila.
Request for Disclaimer of Jurisdiction
Horizon argued that, as an investment adviser that directs acquisitions of stock for its Account Holders, it does not "purchase, acquire, or take" utility or holding company securities under the common definition of these words. Instead, Horizon argued that it does not directly or indirectly own or acquire securities of public utilities in the accounts it manages; it does not itself purchase those securities on behalf of the Account Holders; it does not have the authority to manage, direct, or control the day-to-day operations of any public utilities; and it does not exercise the voting rights delegated to it and instead delegates those rights to Institutional Shareholder Services. While acknowledging that it made a filing with FERC on form FERC-65A providing notice of its status as a holding company, Horizon argued that the form FERC-65A was filed out of an abundance of caution under PUHCA 2005, not the FPA, and that the filing does not determine whether Horizon is a holding company under the FPA.
In rejecting Horizon's arguments with respect to this issue, FERC relied heavily on the definition of "holding company" in PUHCA 2005. FERC noted that Section 203(a)(6) of the FPA states that for purposes of Section 203, the term holding company has the meaning given to it in PUHCA 2005.8 PUHCA 2005 defines a holding company as a company that "directly or indirectly owns, controls, or holds, with power to vote," 10 percent or more of the outstanding voting securities of a public-utility company or of a holding company of any public-utility company.9 Relying both on the statutory definition of a holding company and that Horizon filed a FERC-65A filing stating that it holds 10 percent or more of a holding company's voting securities with power to vote, FERC found that Horizon is a holding company under PUHCA 2005 and, by virtue of Section 203(a)(6), it is also a holding company for purposes of Section 203(a)(2). FERC also rejected Horizon's argument that it is not a holding company because it does not exert any controlling influence over the management of any public utility company or holding company. FERC explained that PUHCA 2005 treats as a holding company any company that directly or indirectly owns, controls, or holds with power to vote 10 percent or more of the voting securities of a public utility company or of a public utility holding company regardless of whether the facts of their particular situation prevent them from exercising control.
Having found that Horizon is a public utility holding company, FERC then turned to whether the activities in which Horizon engages constitute the purchase, acquisition, or taking of securities within the meaning of FPA Section 203(a)(2). Taking into account the simultaneous repeal of the Public Utility Holding Company Act of 1935 and enactment of additional corporate review authority in the FPA – and specifically the addition of FPA Section 203(a)(2) which pertains to certain public utility holding company investments – FERC found that it is reasonable to read the terms "purchase, acquire, or take" sufficiently broadly to permit FERC to adequately protect energy customers of public-utility companies and transmitting utilities. Notably, FERC stated that "[i]f the critical mark of a holding company is that it owns, controls, or holds securities with power to vote them, then what it means to purchase, acquire or take securities must be considered in light of that fact."10 In explaining that it could not see how Horizon could hold securities with power to vote them if it did not gain possession or control of them, FERC stated:
The fact that Horizon does not acquire all the rights in the bundle of rights that constitute a property interest in these securities does not mean that it does not acquire them for purposes of section 203(a)(2). What matters is that it acquires rights that bring it within the definition of, and thus make it, a holding company, i.e. voting rights. Moreover, such rights could (but may not necessarily) result in the exercise of control over a public utility company. It is thus reasonable to conclude that Congress intended section 203(a)(2) to require Commission approval of such securities transactions and to find that Horizon acquires the securities for purposes of section 203(a)(2).11 Thus, FERC's conclusion rests on its finding that Horizon itself, and not an entity in which Horizon has an interest, acquires and holds the securities with the power to vote.
Request for Blanket Authorization
Although Horizon's request for a disclaimer of jurisdiction was denied, FERC granted, subject to certain conditions, a blanket authorization under Section 203(a)(2) for Horizon to acquire voting securities of less than 10 percent for any individual investor account and no more than 19.99 percent cumulatively for Horizon and any of its affiliates in public utility companies or public utility holding companies for a period of three years.12 Among the conditions imposed are the requirements that: all security purchases made pursuant to the blanket authorization must be of publicly traded securities for which Horizon will maintain eligibility to file a Schedule 13G with the SEC; Horizon not take any action that would require it to file a Schedule 13D with the SEC with respect to the securities of any public utility or public utility holding company; and Horizon will include language in its Form ADV, its Policies and Procedures Manual, its annual letter to Account Holders, and all future Account Holder Agreements explicitly providing that Horizon shall not exercise the shareholder voting rights delegated to Horizon by Account Holders, or act in any other way, to exercise control over any public utility or any public utility holding company.13
Having clarified its interpretation of its jurisdiction under the "purchase, acquire, or take any security" clause of FPA Section 203(a)(2), and cautioned Horizon and other similar investment advisers that they may face sanctions for failing to obtain advance approval of the acquisition of public utility securities, it is imperative that all investment companies and advisers ascertain the applicability of the newly clarified FPA Section 203(a)(2) to all past and future acquisitions. For any past acquisitions that fall within the newly defined scope of FPA Section 203(a)(2) for which prior authorization was not sought, FERC is allowing applications requesting such authorization to be filed within 90 days of the date the Horizon order is published in the Federal Register. FERC has sent a clear signal that the failure to obtain prior authorization under FPA Section 203(a)(2) for future transactions within the scope of the Horizon order will likely result in sanctions.
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