[Federal Register Volume 63, Number 37 (Wednesday, February 25, 1998)]
[Proposed Rules]
[Pages 9661-9680]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-4460]
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SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
[Release No. 34-39670; File No. S7-3-98]
RIN 3235-AH40
Publication or Submission of Quotations Without Specified
Information
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule.
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SUMMARY: The Securities and Exchange Commission (``Commission'') is
publishing for public comment proposed amendments to Rule 15c2-11
(``Rule'') under the Securities Exchange Act of 1934 (``Exchange
Act''). The Commission is publishing these proposals in response to
increasing incidents of fraud and manipulation in the over-the-counter
securities market involving thinly traded securities of thinly-
capitalized issuers (i.e., ``microcap securities''). Rule 15c2-11
governs the publication of quotations for securities that are traded in
a quotation medium other than a national securities exchange or Nasdaq.
The proposals would require all broker-dealers to review information
about the issuer when they first publish or resume publishing a
quotation for a security subject to the Rule, document that review,
annually update the information if they publish priced quotations, and
make the information available to other persons upon request. In
addition, the proposals would enhance the Rule's information
requirements for quotations for the securities of non-reporting issuers
and ease the Rule's recordkeeping requirements when broker-dealers have
electronic access to information about reporting issuers. The
Commission also is proposing a number of textual and structural changes
in an effort to simplify and streamline the Rule. Finally, the
Commission is proposing an amendment to Rule 17a-4 under the Exchange
Act that would incorporate the record retention requirements currently
contained in Rule 15c2-11.
DATES: Comments must be received on or before April 27, 1998.
ADDRESSES: Persons wishing to submit written comments should send three
copies to Jonathan G. Katz, Secretary, Securities and Exchange
Commission, Mail Stop 6-9, 450 Fifth Street, N.W., Washington, D.C.
20549. Comments also may be submitted electronically at the following
E-mail address: rule-comments@sec.gov. All comment letters should refer
to File No. S7-3-98; this file number should be included on the subject
line if E-mail is used. Comment letters received will be available for
public inspection and copying in the Commission's Public Reference
Room, 450 Fifth Street, N.W., Washington, D.C. 20549. Electronically
submitted comment letters will be posted on the Commission's Internet
web site (http://www.sec.gov).
FOR FURTHER INFORMATION CONTACT: Any of the following attorneys in the
Office of Risk Management and Control, Division of Market Regulation,
Securities and Exchange Commission, 450 Fifth Street, N.W., Washington,
D.C. 20549, at (202) 942-0772: Nancy J. Sanow, Alan Reed, Irene Halpin,
Florence Harmon, Denise Landers, or Chester McPherson.
SUPPLEMENTARY INFORMATION: The Commission is proposing for comment
amendments to Rule 15c2-11 1 and Rule 17a-4 2
under the Securities Exchange Act of 1934 (``Exchange
Act'').3
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\1\ 17 CFR 240.15c2-11.
\2\ 17 CFR 240.17a-4.
\3\ 15 U.S.C. 78a et seq.
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I. Executive Summary and Background
A. Executive Summary
Incidents involving fraud and manipulation of microcap securities
that trade in the over-the-counter (``OTC'') securities market appear
to be rising.\4\ This trend has been the subject of Congressional
hearings,\5\ state hearings \6\ and numerous media reports.\7\ These
developments have caused the Commission to reexamine Exchange Act Rule
15c2-11, its rule governing the publication of quotations in the non-
Nasdaq OTC market. As a result, the Commission is proposing
comprehensive amendments to Rule 15c2-11 that address abuses involving
microcap securities and more generally would enhance the integrity of
quotations for securities in this market sector. The proposed
amendments also would reorganize and simplify the Rule's provisions.
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\4\ See, e.g., M. Rimson & Co., Inc., 1997 WL 93628 (February
25, 1997) (Initial Decision); (Securities Exchange Act Release No.
38489 (April 9, 1997) (Finality Order)); See also, SEC v. Jeffrey
Szur, No. 97 Civ. 9305 (S.D.N.Y. December 18, 1997); SEC v. George
Badger, No. 97 CV 963K (D. Utah December 18, 1997); SEC v. Andrew
Scudiero, No. 97 Civ. 9304 (S.D.N.Y. December 18, 1997); SEC v.
Leonard Alexander Ruge, No. 97 Civ. 9306 (S.D.N.Y. December 18,
1997); SEC v. Joseph Pignatiello, No. 97 Civ. 9303 (S.D.N.Y.
December 18, 1997). For a summary of the SEC's allegations in these
cases, see Litigation Release No. 15595 (December 18, 1997), 1997
SEC LEXIS 2602.
\5\ See United States Senate Committee on Governmental Affairs
Permanent Subcommittee on Investigations, Hearing on Fraud in the
Micro Capital Market (September 22, 1997) (testimony of Arthur
Levitt, Chairman of the U.S. Securities and Exchange Commission)
(``Senate Testimony on Microcap Fraud'').
\6\ N.Y. Attorney General, REPORT ON MICRO-CAP FRAUD (December
1997).
\7\ See, e.g., Weiss, ``Investors Beware--Chop Stocks Are on the
Rise,'' Business Week, December 15, 1997, at 112-128; Lohse and
Emshwiller, ``Bulletin Board Likely to Remain Wild West of Wall
Street,'' The Wall Street Journal, December 15, 1997, at C1;
Schroeder, ``Despite Reforms, Penny-Stock Fraud is Roaring Back,''
The Wall Street Journal, September 4, 1997, at A12; Byrne, ``The
Real OTC Market: The Spectacular Success of Pink Sheet and Bulletin
Board Trading: Why the NASD is Toughening Standards,'' Traders,
September 1997, at 36-39; Lohse, ``Fraud by Small-Stock Operators
Flourishes in Long Bull Market,'' The Wall Street Journal, July 31,
1997, at C1.
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Microcap securities \8\ generally are characterized by low share
prices and little or no analyst coverage. The issuers of microcap
securities typically are thinly capitalized and often are not required
to file periodic reports with the Commission. Securities of microcap
companies usually are quoted on the OTC Bulletin Board (``Bulletin
Board'') operated by the National Association of Securities Dealers,
Inc. (''NASD'') or in the Pink Sheets published by the National
Quotation Bureau (``NQB''), but they are not exclusive to these
[[Page 9662]]
mediums.\9\ The Commission recognizes, however, that not all securities
traded in this market sector are tainted by fraud.
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\8\ The term ``microcap securities'' is not defined under the
federal securities laws or regulations. The use of the term
``microcap securities'' in this release, however, should be
distinguished from its use in the mutual fund context. For example,
Lipper Analytical Services, a mutual fund rating organization,
generally categorizes microcap companies as companies with market
capitalization of less than $300 million. Lipper-Directors'
Analytical Data, Investment Objective Key, 2d ed. 1997.
\9\ Microcap securities can also be listed on securities
exchanges or Nasdaq.
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Microcap fraud frequently involves issuers for which public
information is limited, especially when issuers are not subject to
reporting requirements.\10\ Without information, it is difficult for
investors, securities professionals, and others to evaluate the risks
presented by microcap securities. Investors consequently can fall prey
to persons who make false representations and unrealistic predictions
about these securities.
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\10\ See e.g., SEC v. Global Financial Traders, Ltd., Litigation
Release Nos. 15291 (March 14, 1997) and 15338 (April 17, 1997); see
also infra note 73.
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As part of their manipulative schemes, unscrupulous retail brokers,
operating out of ``boiler rooms,'' frequently use high pressure sales
tactics to stimulate investors to buy these securities. These brokers
often publicly disseminate false press releases or make false
statements about issuers (including through the Internet) to promote
sales. To further the manipulative scheme, retail broker-dealers often
also act as market makers or, either on their own or through the
issuers' promoters, induce other firms to act as market makers in the
securities.
Market makers' quotations are important to the success of microcap
fraud schemes. By publishing quotations in the Bulletin Board, in the
Pink Sheets, or in similar quotation mediums, broker-dealers give the
market for the securities an aura of credibility. This can occur even
if the market maker is not intentionally participating in improper
activities, but is publishing quotes in response to escalating demand
for the securities resulting from increasing retail sales. Trading
volume for the security skyrockets and quotations and sales prices
escalate (often at prices artificially set by the manipulators).
Eventually, broker-dealers and promoters stop stimulating interest
in the security and its price drops. Too often the result is the same:
innocent investors lose money. To address this microcap fraud problem,
the Commission is pursuing a strategy of investor education, focused
broker-dealer inspections, increased enforcement, and regulatory
initiatives.\11\
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\11\ In addition, the NASD recently published for comment
several proposed rules aimed at microcap stock abuses. These
proposals would limit quotations on the OTC Bulletin Board to the
securities of issuers that file reports with the Commission or other
regulatory authority, and would require NASD members to review
current issuer financial statements prior to recommending a
transaction to a customer in an OTC equity security (other than
securities listed on Nasdaq or an exchange) and to deliver a
disclosure statement to a customer prior to an initial purchase of
an OTC equity security. NASD Notices to Members 98-14 and 98-15
(January 1998).
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The proposed amendments to Rule 15c2-11 would place greater
information review and recording requirements, and thus greater
accountability, on broker-dealers publishing quotations for securities
in a quotation medium other than a national securities exchange or
Nasdaq (``covered OTC securities''). These proposed amendments also
would provide greater investor access to information about these
securities. In particular, the proposed amendments would:
Eliminate the Rule's ``piggyback'' provision, which
currently permits broker-dealers (other than the initial broker-
dealer) to quote the security without having current issuer
information;
Require broker-dealers that publish priced quotations
for a security to obtain and review updated information about the
issuer at least annually;
Expand the information required about issuers that do
not file periodic reports with the Commission;
Require documentation of the broker-dealer's compliance
with Rule 15c2-11; and
Enhance investor access to the information required by
Rule 15c2-11.
The proposed amendments apply to all securities covered by Rule 15c2-
11, not just microcap securities. The Commission believes that the
scope of the amendments is appropriate to preserve the general
integrity of quotations in the OTC market and to foster greater
information transparency in a marketplace where issuers often are
relatively unknown and their securities are traded infrequently.
B. Operation of Current Rule 15c2-11
Rule 15c2-11 regulates the initiation and resumption of quotations
in a quotation medium by a broker-dealer for certain OTC securities.
The Commission adopted Rule 15c2-11 in 1971 to prevent fraudulent and
manipulative trading schemes that had arisen in connection with the
distribution and trading of unregistered securities issued by ``shell''
companies, or other issuers of infrequently-traded securities (about
which there was little public information).\12\ The Rule prevents
broker-dealers from publishing quotations for covered OTC securities
without reviewing basic information about the issuer.\13\ Specifically,
the Rule applies to broker-dealers publishing quotations in a
``quotation medium,'' \14\ but it does not apply to broker-dealers
publishing quotations for securities listed and traded on an exchange
or quoted on Nasdaq.
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\12\ Securities Exchange Act Release No. 9310 (September 13,
1971), 36 FR 18641.
\13\ See Securities Exchange Act Release No. 29094 (April 17,
1991), 56 FR 19148 (``1991 Adopting Release''); Securities Exchange
Act Release No. 29095 (April 17, 1991), 56 FR 19158 (``1991
Proposing Release'').
\14\ See 17 CFR 240.15c2-11(e)(1) (defining quotation medium as
any interdealer quotation system or any publication or electronic
communications network or other device that is used by brokers or
dealers to make known to others their interest in transactions in
any security, including offers to buy or sell at a stated price or
otherwise, or invitations of offers to buy or sell).
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Subject to certain exceptions, the Rule prohibits a broker-dealer
from publishing a quotation for a security (or submitting a quotation
for publication) in a quotation medium unless it has obtained and
reviewed specified information about the issuer and the security. The
broker-dealer also must have a reasonable basis for believing that the
issuer information is accurate and that it was obtained from a reliable
source.
Currently, a broker-dealer must review and maintain in its records
the following issuer information:
For an issuer that has conducted a recent public
offering either registered under the Securities Act of 1933
(``Securities Act'') \15\ or effected pursuant to Regulation A under
the Securities Act, a copy of the prospectus or offering circular;
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\15\ 15 U.S.C. 77a et seq.
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For an issuer that files reports with the Commission
pursuant to Sections 13 or 15(d) of the Exchange Act (``reporting
issuer'') or is an insurance company of the kind specified in
Section 12(g)(2)(G) of the Exchange Act, the issuer's most recent
annual report and any quarterly or current reports filed thereafter;
For foreign issuers that claim the registration
exemption under Exchange Act Rule 12g3-2(b), the information
furnished to the Commission pursuant to that rule; or
For any other issuer, the information, including
certain financial information, specified in paragraph (a)(5) of the
Rule, which must be reasonably current in relation to the day a
quotation is submitted.
In addition, paragraph (c) of the Rule requires a broker-dealer to
review any other information about the issuer that comes to its
knowledge or possession before the publication or submission for
publication of a quotation.
Under the Rule's ``piggyback'' exception, the information
requirements do not apply when a broker-dealer publishes, in an
interdealer quotation system,\16\ a quotation for a covered OTC
[[Page 9663]]
security that already has been the subject of regular and frequent
quotations.\17\ A broker-dealer can``piggyback'' on either its own or
other broker-dealers' previously published quotations. The exception is
grounded on the assumption that regular and frequent quotations for a
security generally reflect market supply and demand forces based on
independent, informed pricing decisions.
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\16\ An interdealer quotation system is a quotation medium of
general circulation to brokers or dealers which regularly
disseminates quotations of identified brokers or dealers. 17 CFR
240.15c2-11(e)(2).
\17\ 17 CFR 240.15c2-11(f)(3). The security must have been the
subject of quotations on at least 12 business days during the
previous 30 calendar days, with no more than 4 consecutive business
days elapsing without a quotation. Once this quotation frequency is
established, a broker-dealer may publish a quotation for a covered
security without having the required information if the 12 and 4 day
tests are satisfied.
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C. 1991 Proposing Release
In 1991, the Commission proposed amendments to Rule 15c2-11 that
would have eliminated the piggyback provision. At the time, the
Commission believed that the underlying assumption of the piggyback
provision (i.e., that regular and frequent quotations for a security
generally reflect supply and demand forces based on independent pricing
decisions) were no longer valid in the non-Nasdaq OTC market.\18\
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\18\ 1991 Proposing Release, 56 FR at 19161.
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The Commission observed that the Rule's coverage is limited to non-
Nasdaq OTC securities, which usually are low-priced, speculative stocks
of relatively unknown issuers, and that the market for these securities
is characterized by an absence of both market making and retail
competition. As a result, the Commission proposed amendments that would
have required every broker-dealer to review issuer information prior to
initiating or resuming quotations in a covered OTC security. These
amendments would have retained a ``self-piggybacking'' provision for
broker-dealers that quoted these securities with the required
frequency.\19\
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\19\ See 1991 Proposing Release. Self-piggybacking refers to the
ability of a broker-dealer to continue publishing quotations without
reviewing the Rule's required information, as long as that broker-
dealer satisfies the quotation frequency tests of the piggyback
provision.
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The Commission received 75 comment letters from 74 commenters in
response to the 1991 Proposing Release. The vast majority of commenters
opposed the Commission's proposal. These commenters believed that the
proposal would discourage, or even eliminate, market making for many
non-Nasdaq OTC securities. They claimed that the proposed amendments
would have impaired liquidity, reduced market value, and harmed the
capital-raising process. Several commenters believed that the proposed
changes would have hurt the market for the securities of many
substantial and legitimate companies, but would have little effect on
fraud in worthless stocks. For several reasons, including the adoption
of other measures aimed at curbing then-existing abuses in low-priced
stocks,\20\ the Commission did not take further action on this
initiative.\21\
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\20\ See Securities Exchange Act Release No. 30608 (April 20,
1992), 57 FR 18004 (adopting the Commission's Penny Stock Disclosure
Rules (17 CFR 240.3a51-1, 240.15g-1 through 240.15g-6, 240.15g-8,
and 240.15g-100)); see also Securities Exchange Act Release No.
32576 (July 2, 1993), 58 FR 37413 (redesignating Rule 15c2-6 under
the Exchange Act as Rule 15g-9 under the Exchange Act (17 CFR
240.15g-9)).
\21\ In light of the present proposals, the Commission is
withdrawing the 1991 proposals.
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II. Proposed Amendments
A. Proposed Revisions to Rule 15c2-11
1. Activities Prohibited by the Rule
The proposed amendments restructure Rule 15c2-11 to set forth more
clearly the activities prohibited by the Rule and the requirements of
the Rule. The Rule would state that it is unlawful for a broker-dealer,
directly or indirectly, to publish or to submit for publication any
quotation for a security in any quotation medium unless the broker-
dealer complies with the Rule's provisions.\22\
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\22\ Rule 15c2-11 generally applies to the publication or
submission for publication of quotations for OTC securities that do
not satisfy any of the exceptions under the Rule. The exceptions are
discussed in Section A.5, infra.
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The Rule further would provide that, prior to publishing or
submitting for publication an initial quotation for a security in a
quotation medium, or upon the occurrence of enumerated events, a
broker-dealer must:
Obtain and review the Rule's information;
Determine that it has a reasonable basis for believing
that the information is accurate and current in all material
respects and is obtained from reliable sources; and
Record the date it reviewed the specified information,
the sources of the information, and the person at the firm
responsible for the broker-dealer's compliance with the Rule.\23\
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\23\ See 1991 Adopting Release, 56 at 19150 (discussing of the
nature of the review that a broker-dealer must conduct to satisfy
its obligations under Rule 15c2-11 and the determination of whether
the source of the information is reliable).
By restructuring the Rule in this manner, the Commission believes
that the obligations of broker-dealers under the Rule are more clearly
set out. Moreover, by imposing a recordation requirement, broker-
dealers' accountability for compliance with the Rule should be
enhanced.
Q1. Do the Rule's core requirements remain appropriate or should
they be amended?
Q2. Are there other compliance items that should be recorded?
Q3. Should the Rule expressly require the firm's compliance officer
to review the Rule 15c2-11 information before the quote is submitted?
Q4. What type of review do broker-dealers currently undertake? What
is the appropriate scope of review by a broker-dealer to comply with
the Rule, as proposed to be amended? Commenters should consider the
duties of a broker-dealer under Rule 15c2-11 as discussed in the 1991
Adopting Release.\24\
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\24\ Id.
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2. Elimination of the Piggyback Provision
The Commission proposes to eliminate the piggyback provision. As
discussed above, the piggyback provision currently permits broker-
dealers to publish quotations for a security without complying with the
Rule's requirements if any other broker-dealer has published regular
and frequent quotations for that security. In the Commission's view,
microcap fraud is facilitated by broker-dealers that publish quotations
for a security without reviewing any issuer information.\25\ Even if
they are not participating in the fraud, these other broker-dealers
give the security a measure of credibility through their quotations.
Some broker-dealers claim that they ``trade by the numbers'' (i.e.,
they trade solely on the basis of supply and demand factors and without
regard to fundamental information about the issuer).\26\ The Commission
believes that eliminating the piggyback provision is an essential step
to preventing microcap fraud. In the Commission's view,
[[Page 9664]]
responsible broker-dealers would be deterred from publishing quotations
if they were aware of basic information about the issuer that suggested
a possible fraud.
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\25\ See General Bond & Share Co., 51 S.E.C. 411 (1993) aff'g
Market Surveillance Committee v. General Bond & Share Co., 1992 NASD
Discip. Lexis 99 (January 30, 1992), affirmed in part, vacated in
part, and remanded, 39 F.3d 1451 (10th Cir. 1994). In this case, the
Commission affirmed a decision of the NASD's National Business
Conduct Committee Securities Dealers (``NBCC''), which found that
General Bond & Share Co. (``General Bond''), a registered broker-
dealer, violated Article III, Section 1 of the NASD's Rules of Fair
Practice by accepting issuer-paid compensation for listing itself as
a market maker in the Pink Sheets for the securities of numerous
issuers. The NBCC also found that General Bond's Pink Sheet entries
paved the way for other market makers to piggyback onto those
quotations without complying with the requirements of Rule 15c2-11.
\26\ See D.H. Blair & Co., 44 S.E.C. 320, 332 (1970) (trading by
the numbers cannot be completely separated from the investment value
of the security or the need for supervision with a view to detecting
possible signs of manipulation).
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Under the proposal, each broker-dealer that publishes a quotation
for a covered OTC security for the first time in a particular quotation
medium \27\ other than the exchanges or Nasdaq would be required to
review fundamental information about the issuer and have a reasonable
basis for believing that the information is accurate, current, and from
reliable sources. The Commission recognizes that many commenters on the
1991 Proposing Release raised issues about the perceived costs of
compliance and the possible resulting loss of liquidity for some
securities if the piggyback provision were eliminated and annual
information updating were required. As discussed below, the
availability of the EDGAR system should reduce the information
gathering and recordkeeping costs for those broker-dealers that publish
quotes for the securities of reporting issuers. Also, the Commission
encourages the development of central repositories of information about
issuers that are not participating in its public disclosure system.\28\
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\27\ See Section C, infra, for a discussion of the definition of
quotation medium.
\28\ See Section D, infra.
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Q5. Are there any circumstances in which it would be appropriate to
retain a piggyback provision? If so, how should such a provision be
structured?
3. The Occurrence of Events Requiring Actions under the Rule
After a broker-dealer publishes its first quotation \29\ in
compliance with the Rule for a security in a particular quotation
medium it can continue to publish quotations (either priced or
unpriced) for the security in that medium without reviewing updated
information until the occurrence of either of the following events:
\29\ The term quotation is defined as any bid or offer at a
specified price with respect to a security, or any indication of
interest by a broker or dealer in receiving bids or offers from
others for a security, or any indication by a broker or dealer that
advertises its general interest in buying or selling a particular
security. For the purposes of this release, a ``priced quotation''
is a bid or offer at a specified price and an ``unpriced quotation''
is any indication by a broker or dealer in receiving bids or offers
from others or any indication by a broker or dealer that advertises
its general interest in buying or selling a particular security.
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A period of five or more consecutive business days in
which the broker-dealer does not publish quotations for the
security; or
The Commission has ordered a trading suspension
pursuant to Section 12(k) \30\ of the Exchange Act for any of the
issuer's securities.
\30\ 15 U.S.C. 78l(k).
Following one of these events, a broker-dealer must gather and review
the information required by the Rule before publishing quotations. In
the Commission's view, if a broker-dealer has not quoted the security
for five or more consecutive business days, that fact may reflect the
broker-dealer's nominal interest in publishing quotations for the
security, and thus the broker-dealer may not be aware of significant
events involving the issuer.
The Rule also would require a broker-dealer to gather and review
the specified information annually if the broker-dealer publishes
priced quotations for the security. The purpose of this requirement is
to make sure that a broker-dealer publishing priced quotations
periodically reviews fundamental information about the issuer. A
broker-dealer should know if there is no current information about the
issuer or if the current information reflects a significant change in
the issuer's ownership, operations, or financial condition.
The annual update requirement would apply only to broker-dealers
publishing priced quotations. The Commission believes that priced
quotations have been used in microcap fraud and manipulation schemes,
(e.g., when a broker-dealer publishes quotations at increasing prices
to obtain bank loans or to value customer securities' positions). In
addition, priced quotations are used as indicia of value for a variety
of purposes (e.g., pledges of securities). The Commission will
reconsider its position, however, if it discovers that unpriced entries
are also used to facilitate unlawful schemes.
The broker-dealer would have two optional dates as measuring points
for conducting the annual review: the anniversary date of its initial
quotation for the security; or the date that is four months after the
end of the issuer's fiscal year (or, for a foreign private issuer, the
date that is seven months after the end of the issuer's fiscal year).
The annual review must be conducted before the broker-dealer publishes
a priced quotation following the review date option that it selects.
The Commission believes that four months (or seven months for foreign
private issuers) would give a broker-dealer sufficient time to obtain
and review updated issuer information about reporting and non-reporting
issuers.
Q6. Should the annual update requirement apply to unpriced
quotations?
Q7. Should the annual update requirement be eased or eliminated
when a reporting issuer is current in its Exchange Act reporting
obligations?
Q8. Should the provision triggering the review of updated
information following a break in quotations provide for a period of
more or less than five consecutive business days?
Q9. In addition to a trading suspension, should any other
significant events involving the issuer (e.g., a merger or acquisition,
significant offering, name change, change of business, resignation of
accountants, or bankruptcy proceeding) trigger the Rule's obligations
to obtain, review, and document updated information?
Q10. Should the Rule include other optional dates triggering the
annual review requirement for priced quotations (e.g., by January 1 of
each year)?
Q11. For domestic issuers, should the period within which a broker-
dealer must conduct an annual review be longer than four months after
an issuer's fiscal year end (for example, five or six months) or
shorter than four months (for example, three months, or 14 weeks)?
Q12. For foreign issuers, should the period within which a broker-
dealer must conduct an annual review be longer than seven months after
an issuer's fiscal year end (for example, as long as nine months) or
shorter than seven months (for example, four or six months)?
Q13. For foreign issuers, should the annual updating requirement
apply if trading is suspended on any exchange or organized market on
which its securities trade?
Q14. Would either the requirement to review updated information
after a five-day lapse or the annual update requirement adversely
affect the liquidity of covered OTC securities? Commenters responding
to this question are urged to provide data and analysis.
4. Information Required by the Rule
a. Issuer Information. Current Rule 15c2-11 specifies the
information that a broker-dealer must review before publishing
quotations for five categories of issuers: (1) Issuers that had a
recent registered offering; (2) issuers that had a recent offering
under Regulation A under the Securities Act;\31\ (3) reporting issuers
and insurance companies
[[Page 9665]]
exempted from Section 12(g) of the Exchange Act \32\ by reason of
Section 12(g)(2)(G) (``exempt insurance companies'');\33\ (4) foreign
private issuers that are exempt from Section 12(g) of the Exchange Act
by reason of compliance with Rule 12g3-2(b) thereunder;\34\ and (5)
other issuers. The proposals would revise the Rule's information
requirements with respect to reporting issuers and would enhance the
requirements for non-reporting issuers. In addition, the proposals
would add an information provision that covers certain non-reporting
financial institutions.
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\31\ Regulation A provides an exemption from registration under
the Securities Act for offerings not exceeding $5 million, less the
aggregate offering price of any other Regulation A offering during
the prior 12 months. 17 CFR 230.251-230.263.
\32\ 15 U.S.C. 78l(g).
\33\ 15 U.S.C. 78l(g)(2)(G).
\34\ 17 CFR 240.12g3-2(b).
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i. Reporting issuers and exempt insurance companies. Currently, a
broker-dealer publishing quotations for the securities of a reporting
issuer (or exempt insurance company) must review the issuer's most
recent annual report, together with any subsequently filed quarterly or
current reports. The proposed amendments retain this requirement and
clarify that the issuer must be current in its reporting obligations.
Therefore, broker-dealers publishing quotations for the securities of
any issuer delinquent in its reporting obligations (``delinquent
issuer'') no longer would be able to rely on the Rule's provision
containing the information requirements designed for non-reporting
issuers.\35\
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\35\ Currently, a broker-dealer can rely on paragraph (a)(5) of
the Rule pertaining to non-reporting issuers when a report or
statement of a reporting issuer or exempt insurance company is not
``reasonably available'' (i.e., not on file with the Commission). 17
CFR 240.15c2-11(a)(5). See e.g., Robin Rushing, [1995-1996] Fed.
Sec. L. Rep. (CCH) para. 85,731 (Initial Decision), Securities
Exchange Act Release No. 36910 (February 29, 1996) (Finality Order)
(where the company was delinquent in Exchange Act filing, the market
maker was required to obtain paragraph (a)(5) information to comply
with Rule 15c2-11).
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For reporting issuers, broker-dealers would be able to access and
review the required information on the Commission's EDGAR system,
available through the Commission's Internet website (http://
www.sec.gov). Broker-dealers using this method would have to document
the date of their review and satisfy the Rule's information retention
requirements, discussed later in this release.
Under the proposals, a broker-dealer could not publish its initial
quote without reviewing the Rule's required information, nor could it
continue to publish priced quotations without updating that information
annually. This means that, in the case of a delinquent issuer, a
broker-dealer would not be permitted to publish an initial quotation or
continue to publish priced quotations after the annual review date
because it would not be able to obtain current reports. Broker-dealers
that initiated a quotation in compliance with the Rule prior to the
issuer's delinquency could continue to publish unpriced quotations
after the annual review date.
While the market for a delinquent issuer's securities may be
somewhat constrained by this proposal, this requirement furthers the
Rule's purpose of limiting the fraudulent and manipulative potential of
priced quotations in the absence of accurate and current information
about the issuer. The Commission recently brought several enforcement
actions against issuers for failure to file timely reports.\36\ In many
of these actions, an active trading market for the issuer's securities
existed even though adequate and current issuer information was not
available to broker-dealers or investors. In these circumstances,
priced quotations have a substantial potential to facilitate improper
retail sales practices where broker-dealers recommend securities to
investors, without adequate information to support the recommendation,
and refer investors to the market price (i.e., priced quotes) as an
indication of value.
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\36\ SEC v. Wincanton, No. 96-CV-02152 (D.D.C. September 17,
1996) (Litigation Release No. 15052 (D.D.C. September 17, 1996));
SEC v. Equity AU, Inc., 96-CV-01775 (D.D.C. July 30,
1996)(Litigation Release No. 14993 (July 30, 1996)); SEC v. Cayman
Resources, 96-CV-00968 (D.D.C. July 24, 1996) (Litigation Release
No. 14996 (D.C.C. July 31, 1996; SEC v. American Cascade, 96-CV-
00626 (D.D.C. March 29, 1996) (Litigation Release No. 14857 (March
29, 1996)); SEC v. Parallel Technologies, Inc., 96-CV00545 (D.D.C.
March 19, 1996) (Litigation Release No. 14848 (March 20, 1996)).
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In the past, commenters have suggested marking the quotation with a
designator to indicate that issuer information was not available.\37\
The Commission does not view this alternative as responding adequately
to the problem of active trading facilitated by priced quotations
without current information. Moreover, that approach would remove an
incentive that delinquent issuers may have to provide current
information to their shareholders and the marketplace.
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\37\ In response to the 1991 Proposing Release, 17 commenters
suggested some form of special designation indicating the broker-
dealers's lack of required information. See, e.g., Letter dated
February 24, 1992, from Stephen D. Hickman, Secretary, NASD, to
Jonathan G. Katz, Secretary, SEC (``1992 NASD Letter''), p.7.
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Q15. Under what circumstances, if any, should broker-dealers be
able to initiate quotations, or continue publishing priced quotations,
for the securities of delinquent issuers?
ii. Other issuers. Rule 15c2-11(a)(5) \38\ specifies the
information that broker-dealers must obtain and review for issuers
other than those covered by paragraphs (a)(1) through (a)(4). For the
most part, this provision covers the securities of U.S. non-reporting
issuers. Currently, a broker-dealer is required to review basic
information about these issuers, including: the issuer's most recent
balance sheet, profit and loss, and retained earnings statements; a
description of the issuer's business, products or services offered, and
facilities; and a description of any relationship between the broker-
dealer and the issuer's insiders.
---------------------------------------------------------------------------
\38\ 17 CFR 240.15c2-11(a)(5).
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Based on recent experience, broker-dealer review of additional
items of information should reduce the potential for fraud in this
segment of the capital market.
Therefore, the Commission proposes to expand the information that
broker-dealers must review before publishing a quotation for a non-
reporting issuer's securities and to make that information more readily
available to the marketplace.
The proposed amendments would require broker-dealers to review more
information about the issuer's outstanding securities, its officers and
directors, its financial condition, and certain significant events,
among other items. This enhanced information would give a broker-dealer
that is considering whether to publish quotations a greater
understanding of the issuer's operations and a better indication of
whether potential or actual fraud or manipulation may be present.
Securities Information. The Rule would require a broker-dealer to
obtain and review information regarding each class of the non-reporting
issuer's outstanding securities, including the number of securities
outstanding, the number of securities issuable upon exercise or
conversion of outstanding derivative securities of the issuer, and the
total number of securityholders of record as of the end of the issuer's
most recent fiscal year (or a more recent date if the data is
available). The Commission believes that this information is relevant
because it provides broker-dealers with a greater awareness of the
issuer's equity structure, particularly as recent incidents of fraud
have involved transactions in derivative securities,
[[Page 9666]]
such as warrants.\39\ This enhanced information requirement would
indicate to the broker-dealer whether any persons had access to large
quantities of securities that could dilute the value of the public
float.
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\39\ See Michael J. Markowski, Securities Exchange Act Release
No. 38424 (March 20, 1997) (instituting an administrative proceeding
alleging manipulation in connection with the initial public offering
of units made up of common stock and warrants of three different
issuers); Securities Exchange Act Release No. 38425 (March 20, 1997)
(order of settlement).
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Q16. Are there other items of information regarding the issuer's
outstanding securities that would be helpful to broker-dealers
publishing quotations of covered OTC securities?
Control Person Information. For non-reporting issuers, the Rule
would require broker-dealers to obtain the names, addresses, and
holdings in the issuer's securities of the issuer's insiders (including
promoters and control persons), and information about the disciplinary
histories of the issuer's insiders (including promoters and control
persons). Specifically, the broker-dealer must review information about
the following events involving persons related to the issuer in: Any
criminal charges or convictions; any court-issued injunctions, bars or
other limitations involving any type of business, securities,
commodities, or banking activities; any violation of federal or state
securities or commodities law; or any bars or suspensions by a self-
regulatory organization (``SRO''). This information must be provided if
the events occurred during the five-year period preceding the
publication of the quotation. Reviewing these items of information
should help broker-dealers evaluate the degree of control over the
issuer exerted by insiders and alert the broker-dealer to possible
``red flags'' regarding the issuer's insiders and control persons.
Two alternative options for the broker-dealer to satisfy this
requirement are proposed. The broker-dealer could obtain a statement
from the issuer that none of the specified actions had occurred; or the
broker-dealer could document the steps taken to obtain the required
information and the issuer's response, including whether the issuer
refused to cooperate. The second alternative would allow the broker-
dealer to publish quotations when it has difficulty obtaining the
information. However, the broker-dealer should consider the issuer's
refusal to supply this information when the broker-dealer ascertains
whether it has a reasonable basis for believing that the other Rule
15c2-11 information it obtained and reviewed is accurate and the
sources are reliable.
Q17. Is it appropriate to allow a broker-dealer to publish
quotations if the issuer refuses to supply disciplinary history
information regarding its insiders, control persons, or promoters?
Q18. Should any other disciplinary history or other background
information about the issuer's insiders, control persons, or promoters
be required? Would this information be helpful to broker-dealers in
determining whether to publish quotations?
Financial Information. The Commission is proposing to expand the
financial information that a broker-dealer must gather and review about
a non-reporting issuer. The proposal includes different requirements
with respect to domestic and foreign private issuers. Currently,
paragraph (a)(5)(xii) requires a broker-dealer to obtain and review an
issuer's most recent balance sheet and profit and loss and retained
earnings statements. The Rule does not require this financial
information to be audited or presented in a particular format.
Domestic non-reporting issuers. The proposed amendments would
require a broker-dealer to obtain and review the issuer's most recent
balance sheet, statement of operations (income), statement of cash
flows, statement of shareholders' equity, and statement of
comprehensive income. It also would require these items to be prepared
in accordance with U.S. generally accepted accounting principles
(``U.S. GAAP''). This requirement for the financial statements to be
prepared in accordance with a comprehensive body of generally accepting
accounting principles would create greater uniformity for these
financial statements. This uniformity would assist the review by
broker-dealers and surveillance by regulators.
The Commission understands that in the case of non-reporting U.S.
issuers, the financial statements submitted on NASD Form 211 to the
NASD pursuant to NASD Marketplace Rule 6740 typically are prepared in
accordance with U.S. GAAP and some, but not all, are audited.\40\
Accordingly, the Commission's preliminary view is that the proposed
U.S. GAAP standard would not impose substantial costs on issuers.
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\40\ See NASD Manual, Marketplace Rules, Rule 6740.
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Q19. Do most domestic non-reporting issuers already prepare their
financial statements in accordance with U.S. GAAP?
Q20. Should the Rule require that these financial statements be
audited?
Foreign non-reporting issuers. The proposals would require a
broker-dealer to obtain and review the following information for a
foreign private issuer (other than an issuer furnishing information to
the Commission pursuant to Rule 12g3-2(b)): the issuer's most recent
balance sheet and statement of operations (income) and, to the extent
prepared by the issuer, statements of cash flows, comprehensive income
and changes in shareholders' equity. These statements must be prepared
in accordance with a comprehensive body of accounting principles. This
proposal would provide broker-dealers with financial information about
issuers that do not participate in the Exchange Act reporting programs.
Preparation of U.S. GAAP financial statements would be permitted but
not required.
The proposal would permit broker-dealers to obtain information
prepared using a number of different comprehensive bodies of accounting
which will limit the uniformity of the information reviewed. Although
the Commission has not included specific amendments to address this
concern, the Commission is seeking comments on possible alternative
measures that could be adopted to improve the level of financial
information relied upon by broker-dealers when submitting priced
quotations for foreign non-reporting issuers' securities.
Q21. The proposal requires a broker-dealer to obtain and review
statements of cash flows, comprehensive income and changes in
shareholders' equity only to the extent prepared by the issuer. Should
broker-dealers be prohibited from publishing quotations if certain of
those financial statements are not available? If so, which ones should
be required?
Q22. Do most foreign non-reporting issuers already prepare their
financial statements in accordance with a comprehensive body of
accounting principles?
Q23. Should broker-dealers be required to obtain and review
financial statements for foreign non-reporting issuers prepared in
accordance with or that are reconciled to U.S. GAAP? \41\
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\41\ Requirements for quantitative and qualitative
reconciliations of non-U.S. GAAP financial information to U.S. GAAP
are specified in Items 17 and 18 of Form 20-F. 17 CFR 249.220F.
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Q24. Should broker-dealers be required to obtain and review
financial statements for foreign non-reporting issuers prepared in
accordance with or reconciled to U.S. GAAP \42\ only when the principal
market for their securities is the United States?
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\42\ Id.
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[[Page 9667]]
Q25. Should the Rule require that these financial statements be
audited? If so, should they be required to be audited in accordance
with U.S. generally accepted auditing standards?
Significant Events. In addition, the proposals would require a
description of significant events regarding the issuer during the last
two years, including: A change in control; a 10% or more increase in an
outstanding class of equity securities; a merger or acquisition; an
acquisition or disposition of significant assets; bankruptcy
proceedings; or delistings by a securities exchange or Nasdaq. This
information seems relevant because broker-dealers would be made aware
of information about significant events involving the issuer. The
Commission is also proposing to add a provision, similar to the
disciplinary history requirement, that would give broker-dealers the
alternative of either obtaining a statement from the issuer that none
of these events had occurred or providing its own statement of the
steps it took to obtain the significant event information in cases
where the issuer failed or refused to provide it.
Q26. Are there other significant events involving the issuer that a
broker-dealer should review before publishing a quotation?
Q27. Is it appropriate to allow a broker-dealer to publish
quotations if the issuer refuses to provide information regarding a
significant event?
iii. Certain foreign issuers. Rule 15c2-11 \43\ currently permits a
broker-dealer to obtain and review the information submitted to the
Commission by a foreign private issuer pursuant to Rule 12g3-2(b) under
the Exchange Act.\44\ Rule 12g3-2(b) exempts securities of any foreign
private issuer from registration pursuant to Section 12(g) of the
Exchange Act if the issuer furnishes to the Commission information that
the issuer has: Made or is required to make public pursuant to the law
of the country in which the foreign private issuer is domiciled or
incorporated; filed or is required to file with a stock exchange on
which the securities are traded and which the exchange made public; or
distributed or is required to distribute to its securityholders.\45\
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\43\ 17 CFR 240.15c2-11(a)(3).
\44\ 17 CFR 240.12g3-2(b).
\45\ The information may be submitted by a government official
or agency of the country of the issuer's domicile or in which it is
incorporated or organized.
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The Commission has not included a specific proposal to change the
Rule's requirements for Rule 12g3-2(b) issuers.\46\ This is consistent
with the general incorporation of Section 12 issuer information
requirements and exemptions into the Rule. The Commission notes,
however, that Rule 12g3-2(b) has no specific information requirements.
As a result, there is no assurance that broker-dealers will have the
same types of information for foreign private issuers that claim the
Rule 12g3-2(b) exemption as broker-dealers will be required to have
with respect to other issuers. In addition, many of the companies that
claim the Rule 12g3-2(b) exemption are foreign microcap companies that
can be subject to the same type of abusive practices as U.S. microcap
companies.\47\ Accordingly, the Commission is considering whether to
limit a broker-dealer's reliance under Rule 15c2-11 on an issuer's
12g3-2(b) exempt status at least with respect to priced quotations.
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\46\ See proposed paragraph (d)(5) of the Rule. Broker-dealers
publishing quotations for the securities of Rule 12g3-2(b) issuers
would be subject to the updating requirements of proposed paragraph
(b). Accordingly, broker-dealers would have to review updated
information about these foreign private issuers following a
Commission trading suspension or a five-day lapse in quotations.
Broker-dealers also would have to review the issuer information on
an annual basis in order to publish priced quotations. The
Commission staff is considering whether Rule 12g3-2(b) continues to
serve its original purpose and will evaluate whether changes to that
rule should be proposed. If Rule 12g3-2(b) is amended, the
interaction if that exemption with the requirements of Rule 15c2-11
could be affected.
\47\ See SEC v. Chelekis, Litigation Release No. 15264 (February
25, 1997) (over half of the companies involved claimed the Rule
12g3-2(b) exemption).
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Q28. Should the reference to Rule 12g3-2(b) be deleted from Rule
15c2-11? This would mean that broker-dealers publishing quotations for
Rule 12g3-2(b) issuers' securities would be required to obtain and
review the same information as required for all other foreign non-
reporting issuers whose securities are subject to Rule 15c2-11. Comment
is specifically requested with respect to Question 23 in the context of
the requirements of Rule 15c2-11 as applied to Rule 12g3-2(b) issuers.
Should a distinction in this respect be made depending upon whether the
quotation is priced or unpriced?
Q29. Should reliance under Rule 15c2-11 on the Rule 12g3-2(b)
exception not be permitted for those issuers whose principal market is
the United States? If so, how should the principal market be
determined? \48\
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\48\ See, e.g., definition of ``principal market'' contained in
Rule 100 of Regulation M. 17 CFR 242.100.
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Q30. What difficulty, if any, would broker-dealers encounter in
obtaining the information specified in proposed paragraph (d)(6) for a
Rule 12g3-2(b) issuer?
Q31. Should the exception for Rule 12g3-2(b) issuers apply only to
larger foreign private issuers, so that quotations for smaller issuers
would require the information specified in proposed paragraph (d)(6)?
If so, how should such distinction be measured? For example, if market
value of public float is used, what would be the appropriate threshold
(e.g., $25 million, $75 million, $150 million, or some other amount)?
If dollar value of average daily trading volume is used, what would be
the appropriate threshold (e.g., $100,000, $1 million, $5 million, or
some other amount)?
Q32. Should the Rule 12g3-2(b) exception be available only for
foreign private issuers that satisfy Nasdaq SmallCap quantitative
listing standards (i.e., at least $4 million in net tangible assets, or
a market capitalization of at least $50 million, or net income in two
of the last three fiscal years of at least $750,000, and a market value
of public float of at least $5 million)?
Q33. Should there be a separate Commission rule requiring broker-
dealers, whether or not they recommend a transaction in a security, to
inform customers about available information regarding the issuer of
the foreign security?
Q34. Should there be a separate Commission rule requiring broker-
dealers, before recommending a transaction in a foreign security, to
review financial information about the foreign issuer that is the basis
of the recommendation and to document that review?
iv. Exempt financial institutions. Proposed paragraph (d)(4) would
apply to financial institutions that are exempt from Exchange Act
reporting requirements,\49\ but file reports with other governmental
agencies (``exempt financial institutions'').\50\ The Commission has
determined that,
[[Page 9668]]
because the reports filed with federal or state bank supervisory
agencies are readily available and contain information analogous to
Exchange Act reports, broker-dealers should be required to obtain and
review that information rather than the information required under
proposed paragraph (d)(6) for other non-reporting issuers. Broker-
dealers that quote the securities of financial institutions that file
periodic reports with the Commission would have to obtain and review
the information specified in proposed paragraph (c)(3) of the Rule.\51\
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\49\ 15 U.S.C. 77(c)(a)(2), 78l(i).
\50\ See e.g., 12 CFR 363.4 (requiring insured banks to file
annual reports with their respective bank supervisory agencies); 12
CFR 208.16 (requiring state member banks to file periodic reports
with the Federal Reserve); 12 CFR 18.3 through .5 (requiring
national banks to file annual disclosure statements with the Office
of the Comptroller of the Currency (``OCC'')); FFIEC Forms 031-034
(requiring national banks to file annual call reports with the OCC
and Federal Deposit Insurance Corporation); 12 CFR 562.2 (requiring
federally chartered savings associations to file annual regulatory
reports with the Office of Thrift Supervision (``OTS'')); NY Bank
Section 37 and NY ADC Sec. 24.1 (requiring all New York state
chartered banks to file annual reports with the New York Banking
Department); and Ca Fin Section 689 (requiring California state
chartered banks to file annual reports with the California
Department of Banking).
\51\ Broker-dealers publishing quotes for securities of exempt
financial institutions may obtain the regulatory reports from the
financial institution by contracting their primary bank regulatory
agency. Broker-dealers can access the Federal Reserve System's
National Information Center of Banking Information website,
www.ffiec.gov/NIC, the Federal Deposit Insurance Corporation's
(``FDIC'') website, www.fdic.gov, which provides the most recent
Call Reports for all FDIC insurance banks, or the OCC's website,
www.occ.treas.gov, which has information about individual nationally
chartered banks. Broker-dealers that access exempt financial
institution information through these websites would be able to
satisfy the Rule's requirements by recording their review and
preserving the information in the same manner as for EDGAR
information discussed above.
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Q35. Should the Rule contain a separate provision relating to
exempt financial institutions?
Q36. Would broker-dealers face any difficulties in obtaining
information about exempt financial institutions that is filed with the
appropriate regulatory authority?
v. Bankruptcy situations. Issuers in Bankruptcy. When the
Commission issued a release in 1989 seeking comment on the piggyback
provision (among other things), it inquired whether there were
situations, such as issuer bankruptcies, that should be addressed if
the piggyback provision were eliminated.\52\ Many commenters on the
1989 Release argued that it was appropriate to permit broker-dealers to
continue quoting the securities of issuers that had filed for
bankruptcy because it provided liquidity for these securities.
Commenters, including the NASD,\53\ suggested that issuers in
bankruptcy be designated as such in the quotation system by affixing a
special indicator to the security's symbol. The NASD also recommended
that this indicator be required on all confirmations of transactions
involving the bankrupt issuer's securities and that broker-dealers
publishing quotations for these securities be required to obtain, at a
minimum, the most recent financial statements on file with the
bankruptcy court.
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\52\ Securities Exchange Act Release No. 27247 (September 14,
1989), 54 FR 39194 (``1989 Release'').
\53\ See 1992 NASD Letter, supra note 37.
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The Commission disagreed with these views and stated that the
initiation of any quotations, or indefinite continuation of priced
quotations, for securities where the basic information required by the
Rule is not available to the marketplace would undercut the
prophylactic purposes of the Rule and might even encourage the abuses
sought to be prevented.\54\
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\54\ 1991 Proposing Release, 56 FR at 19158.
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Commenters also suggested that broker-dealers could satisfy the
Rule's requirements by reviewing court filings for an issuer in
reorganization pursuant to Chapter 11 of the Bankruptcy Code.\55\
However, these Chapter 11 filings generally are periodic reports that
ordinarily contain only receipts and disbursements.\56\ These periodic
reports do not provide the type of issuer financial information
contemplated by the Rule. In particular, where a bankrupt issuer meets
the criteria for Exchange Act reporting, it would be inconsistent with
the public interest and protection of investors to permit broker-
dealers to facilitate trading by publishing quotations without
reviewing Exchange Act information. Therefore, under the proposals,
broker-dealers would not be able to initiate or resume quotations for
the securities of issuers in bankruptcy and could not publish priced
quotations for those securities as of the annual update requirement,
unless they have obtained and reviewed the Rule's required information.
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\55\ 11 U.S.C. 1101 et seq.
\56\ See Federal Rule of Bankruptcy Procedure 2015.
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Q37. What difficulties does this position present for broker-
dealers quoting securities of issuers that file for bankruptcy?
Issuers Emerging from Bankruptcy. The Commission recently received
a petition for rulemaking seeking a revision of the financial statement
requirements for non-reporting issuers emerging from bankruptcy.\57\ In
addition to the issuer's most recent financial statements, the Rule
currently requires that a broker-dealer review similar financial
information for the two preceding years. This requirement could result
in a review of pre-bankruptcy financial information that has little
bearing on the financial condition of the issuer emerging from a
Chapter 11 reorganization. The Commission agrees with the suggestion
made in the petition and proposes to amend Rule 15c2-11 to limit a
broker-dealer's review to the court-approved disclosure statement \58\
for the issuer's plan of reorganization and the issuer's financial
information from the date the bankruptcy court confirms the
reorganization plan.
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\57\ See Letter from Daniel J. Demers to Nancy J. Sanow,
Assistant Director, Division of Market Regulation, SEC (November 14,
1997). This petition for rulemaking is available in File No. 4-405
in the Commission's Pubic Reference Room, 450 Fifth Street, N.W.,
Washington, D.C. 20549.
\58\ 11 U.S.C. 1125. The disclosure statement includes, among
other things, a description of the issuer's business plan, a
description of any securities to be issued, and financial
information.
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Q38. Does the proposed amendment deal appropriately with issuers
emerging from bankruptcy?
b. Supplemental Information. Rule 15c2-11(b)(2) currently requires
a broker-dealer to maintain in its records a copy of any trading
suspension order issued in the 12 months preceding the publication or
submission of the quotation.\59\ In addition, Rule 15c2-11(b)(3)
requires a broker-dealer to preserve material information regarding the
issuer which comes to the broker-dealer's attention before publishing
the quotation or submitting the quotation for publication.\60\ The
Commission is proposing to retain these provisions. As under the
current Rule, a broker-dealer would be required to consider this
supplemental information, along with the issuer information, when it
determines whether it has a reasonable basis for believing that both
the issuer information and supplemental information are accurate,
current, and from reliable sources.\61\
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\59\ 17 CFR 240.15c2-11(b)(2). Information regarding recent
trading suspension orders can be obtained by calling (800) SEC-0330.
\60\ 17 CFR 240.15c2-11(b)(3).
\61\ Cf. Robin Rushing, supra note 35.
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c. Significant Relationship Information. Currently, Rule 15c2-11
requires a broker-dealer to record information regarding the broker-
dealer's relationship with those non-reporting issuers whose securities
are being quoted. Specifically, broker-dealers must document whether:
The broker-dealer or any associated person is
affiliated with the issuer;
The quotation is being entered on behalf of another
broker-dealer and, if so, its name; and
Whether the quote is being submitted on behalf of an
insider or control person of the issuer, the name of the person, and
the basis for any exemption from the federal securities laws for
sales by such person.
The purpose of this information is to alert regulators and others of
possible ``red flags,'' such as potential violations of the
registration provisions of the Securities Act.
The proposed amendments would retain these requirements and apply
[[Page 9669]]
them to all covered OTC securities, not just those of non-reporting
issuers. In addition, the proposals would require the broker-dealer to
record whether it had any arrangement to receive any compensation for
publishing the quotation and, if so, a description of the compensation
and the name of the person providing it.
Microcap fraud often involves payments by the issuer (or insiders
or promoters of the issuer) or other broker-dealers to the broker-
dealer to create a market in the issuer's stock.\62\ The Commission
believes that the records created by the broker-dealer under the
proposals would help expose improper arrangements, which can mislead
market participants as to the quality of a broker-dealer's
quotations.\63\ Moreover, this information also would assist regulators
in identifying broker-dealers that may be acting as ``fronts'' for
other broker-dealers or the issuer by publishing ostensibly independent
quotes.
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\62\ See Butcher & Singer, Inc., 48 S.E.C. 640 (1987); Douglass
and Co., Inc., 14 S.E.C. 537 (1978); Gotham Securities Corporation,
46 S.E.C. 723 (1976). See also NASD Rule 2460 (prohibiting broker-
dealers from receiving payment from an issuer or a promoter for
publishing a quotation or acting as a market marker).
\63\ See General Bond & Share Co., 51 S.E.C. at 413-414.
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Q39. Is there a better way to identify when compensation has been
paid to broker-dealers for publishing quotations?
5. Exceptions to the Rule
Under the proposed amendments, the current exceptions relating to
quotations representing a customer's indication of interest and not
involving the solicitation of a customer's interest, quotations for
municipal securities, and quotations representing a security listed and
traded on a national securities exchange or authorized for quotation on
Nasdaq remain substantively the same.
Q40. Is there any reason to continue the requirement in the
exception regarding exchange-listed securities that the security be
traded on the exchange in proximity to the day the OTC quotation is
published?
The Commission is concerned that the proposed changes may result in
misuse of the exception covering unsolicited customer orders,
particularly if a broker-dealer wants to publish quotations for a
security but cannot obtain the requisite issuer information. The
unsolicited status of the underlying customer orders would be called
into question if a broker-dealer repeatedly publishes quotations on the
basis of this exception.\64\ In that circumstance, the broker-dealer's
activities would suggest that it is acting as a market maker, rather
than a broker or dealer attempting to fill unsolicited customer orders.
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\64\ Cf. D.H. Blair & Co., 44 S.E.C. 320, (1970) (noting that
insertion of both bid and ask quotations in the Pink Sheets for a
customer is a highly unusual practice).
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Q41. How frequently and under what circumstances do broker-dealers
rely on the unsolicited customer order exception?
Q42. Is it appropriate for the Rule to retain an exception for
unsolicited customer orders?
Q43. Should unsolicited customer orders be required to be
identified as such in the quotation medium? \65\
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\65\ Currently the exception for unsolicited customer orders is
not available for customer orders representing both a bid and an
offer at specified prices, unless the quotation medium identifies
the quotations as customer orders.
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Q44. Should there be a limited exception for a quotation reflecting
isolated proprietary transactions by the broker-dealer? What should be
the parameters of any such exception?
Debt Securities. Rule 15c2-11 covers debt securities, although the
Commission recognizes that broker-dealers publishing quotations for
debt securities may not have focused on this aspect of the Rule. Debt
securities frequently are held by institutional investors, and it does
not appear that they have been the subject of the abuses that the Rule
is intended to address.
Q45. In light of these considerations, should the Rule continue to
apply to debt securities? Should the Rule except all non-convertible
debt securities or just non-convertible investment grade debt
securities?
6. Information Available upon Request
Rule 15c2-11(a)(5) currently provides that the information
described in that paragraph must be made available upon request to any
person expressing an interest in a transaction in that security with
the broker-dealer.\66\ This requirement may have little practical
effect because only the first broker-dealer to publish quotations must
have the information, and an investor might find it difficult to
identify that broker-dealer.\67\ In fact, that broker-dealer may no
longer be publishing quotations. The proposed amendments would require
every broker-dealer that publishes quotations for covered OTC
securities to obtain, review, and preserve the specified information.
The Commission believes that some microcap fraud could be prevented if
there were greater investor access to information about these
securities and their issuers. Accordingly, the Commission is proposing
to enhance the accessibility of this information by requiring a broker-
dealer publishing quotations for any covered OTC security to make the
information promptly available upon request by any person.
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\66\ See 17 CFR 240.15c2-11(a)(5).
\67\ As discussed above, this is a consequence of the current
piggyback exception.
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The Commission believes that the cost of requiring broker-dealers
to make the information available (including to other broker-dealers)
upon request is minimal. Also, the requirement to provide the requested
information would prevent a broker-dealer from arranging with the
issuer to have exclusive access to the issuer's information and thereby
have sole access to Rule 15c2-11 information. This result would be
anti-competitive and detrimental to the marketplace.
The proposed amendments would retain in substantial form the
current clause that providing information to others does not constitute
a representation by the broker-dealer that the information is accurate.
Providing the information to others instead would constitute a
representation that the information is current in relation to the date
the information was reviewed, and that the broker-dealer has a
reasonable basis for believing that the information is accurate and
from reliable sources.
Q46. Under what circumstances do broker-dealers currently provide
Rule 15c2-11 information to others?
Q47. Should the proposed rule specifically permit broker-dealers to
charge a reasonable fee to offset their costs of providing the
information?
Q48. Should the scope of this provision be limited to non-reporting
issuers because information about reporting issuers is available to
investors, such as on EDGAR through the Internet? If this requirement
should be limited to non-reporting issuer information, should broker-
dealers be required to furnish the supplemental and significant
relationship information about reporting issuers?
7. Preservation of Documents and Information
To facilitate compliance with the Rule's recordkeeping
requirements, the Commission believes that it is appropriate to codify
the Rule's record preservation requirements in Rule 17a-4,\68\ rather
than in Rule 15c2-11.
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\68\ 17 CFR 240.17a-4.
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Rule 17a-4 obligates broker-dealers to preserve documents and
information that they must compile pursuant to Commission rules for the
time period and in the manner specified in the
[[Page 9670]]
various provisions of Rule 17a-4. The Commission therefore is proposing
to amend Rule 17a-4 to add the information specified in proposed
paragraphs (d), (e), and (f) of Rule 15c2-11 to the other information
that broker-dealers are already required to preserve under Rule 17a-4.
Rule 15c2-11, as proposed to be amended, also would cross reference
this proposed requirement.
With regard to issuer information that is accessible to broker-
dealers through the Commission's EDGAR system, the proposed revisions
would provide that if broker-dealers satisfied the Rule's requirements
by obtaining and reviewing the information contained on EDGAR, they
would not need to preserve such information independently, as long as
they document the review and the information is accessible on EDGAR for
the same period of time that the broker-dealers are obligated to
preserve such information pursuant to Rule 17a-4. For example, if a
broker-dealer is required by Rule 15c2-11 to obtain and review an
issuer's Annual Report on Form 10-K and to preserve that information
for three years, then as long as the broker-dealer can electronically
access the Form 10-K for that three-year period, it does not have to
preserve the document independently in a separate location. Broker-
dealers still would need to preserve information about reporting
issuers that is not available on EDGAR, e.g., other information that
comes to their attention before entering a quotation.
Q49. Are there other ways to ease the Rule's recordkeeping
requirements for broker-dealers?
8. Information Provided to the NASD
Rule 15c2-11 currently requires any broker-dealer covered by the
Rule to submit the information required under paragraph (a)(5) (i.e.,
for non-reporting issuers) to the interdealer quotation system, in the
form prescribed by the system, at least three business days before
submitting a quotation for publication. The Commission is proposing to
amend this obligation by requiring broker-dealers to submit the
information that they must obtain and review pursuant to Rule 15c2-11
to the NASD only, in accordance with the NASD's rules. Previously, this
information was not obtained by an SRO (a substantial proportion of the
documents were submitted to the National Quotation Bureau, Inc., the
publisher of the Pink Sheets). Presently, NASD Marketplace Rule 6740
requires broker-dealers to submit the Rule 15c2-11 information to the
NASD before they can publish a quotation for a covered OTC equity
security in any quotation medium. The proposed amendment would
recognize broker-dealers' obligation under NASD rules and avoid any
possible need to make multiple submissions of the same information
(e.g., to the NASD and to one or more interdealer quotation systems).
The NASD uses this information for surveillance and enforcement
purposes and routinely provides copies of this information to the
Commission.
Q50. Does there continue to be any need for the Rule to require
that the information be supplied to the operator of each interdealer
quotation system?
B. Central Information Repository
The elimination of the piggyback provision and the increased costs
of compliance that may result suggest the desirability of having a
central data base of information, particularly for the securities of
non-reporting issuers. Such a data base also would enhance the
availability of information about little known issuers to investors,
other professionals, and regulators. For these reasons, the Commission
encourages the development of one or more repositories for Rule 15c2-11
information.
In the 1991 Proposing Release, the Commission contemplated that a
Rule 15c2-11 repository would:
(1) collect information about a substantial segment of issuers of
securities subject to the Rule;
(2) maintain current and accurate information about such issuers;
(3) use effective acquisition, retrieval, and dissemination
systems;
(4) charge reasonable fees; and
(5) operate in a manner that would permit it reasonably to carry
out the purposes of the Rule.\69\ The Commission seeks comments
concerning the features and the feasibility of a central information
repository.
---------------------------------------------------------------------------
\69\ 56 FR at 19163.
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Q51. Should the Rule incorporate the standards above? Are there
other standards that should be included? \70\
---------------------------------------------------------------------------
\70\ Commenters may also wish to consider the need for a process
to recognize repositories that meet such standards. Cf. Securities
Exchange Act Release No. 39457 (December 17, 1997), 62 FR 68018
(proposing the process for designating ``nationally recognized
statistical rating organizations'' for purposes of the New Capital
Rule, 17 CFR 240.15c3-1).
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Q52. Should the Commission promote the development of central
information repositories through other means?
C. Definitions
The proposals would revise or eliminate several definitions now
contained in Rule 15c2-11 and add a few new definitions. The current
definitions of ``issuer'' and ``quotation'' would be retained.
Q53. Are the proposed definitions appropriate in light of the
Rule's purposes?
Quotation Medium. The definition of ``interdealer quotation
system'' would be incorporated into the definition of ``quotation
medium.'' \71\ This definition is quite inclusive: it covers any
publication or electronic communications network, or other device that
is used by brokers or dealers to make known to others their interest in
transactions in any security, including offers to buy or sell at a
stated price or otherwise, or invitations of offers to buy or sell. The
Commission has been advised by the NASD that almost all Forms 211 that
it receives are filed for quotations to be published in the OTC
Bulletin Board or the Pink Sheets. Transaction data indicates, however,
that there is significant trading in OTC securities that are not quoted
in these quotation mediums. While there can be many explanations for
this phenomenon, it is possible that broker-dealers view Rule 15c2-11
as applying only to quotations published in the Bulletin Board or the
Pink Sheets. In fact, the Rule applies to quotations published in any
quotation medium.
---------------------------------------------------------------------------
\71\ A separate definition of ``interdealer quotation system''
no longer would be necessary because of the elimination of the
piggyback provision and the revision that the information be
furnished to the NASD in accordance with NASD rules, rather than to
interdealer quotation systems.
---------------------------------------------------------------------------
Q54. What is the experience of broker-dealers under the Rule when
publishing quotations in quotation mediums other than the Bulletin
Board or the Pink Sheets?
Q55. Is the scope of the definition of quotation medium too broad?
Q56. Should the Rule except mediums that do not identify broker-
dealers publishing quotations (i.e., where quotations are anonymous)
and/or that do not provide automatic execution facilities? Why would
this be appropriate or inappropriate?
Q57. Should the definition draw any distinction between
``quotations'' and ``orders''?
Q58. Should the Rule apply to quotation systems devoted exclusively
to a single issuer's securities? If so, would an aggregation of such
systems be a quotation medium?
Q59. Should the Rule apply to quotation systems devoted exclusively
to a single broker-dealer's quotations? If so, would an aggregation of
such systems be a quotation medium?
Q60. Should the definition of ``interdealer quotation system'' be
retained?
[[Page 9671]]
D. Transition Provision
The Commission is proposing a transition provision covering
quotations by broker-dealers that were initiated prior to the effective
date of the proposed amendments. Broker-dealers could continue their
market-making activities until the occurrence of one of the events set
forth in the Rule, as proposed to be amended. The Commission believes
that this proposed transition provision would be necessary to maintain
liquidity in covered OTC securities while broker-dealers adjust to the
amended requirements. Broker-dealers initiating quotations for these
securities, however, would need to obtain and review the requisite
information.
Q61. Does the proposed transition provision adequately address
securities that broker-dealers may have been quoting for significant
periods of time, and for which they may be unable to obtain current
information from the issuer?
Q62. Under what circumstances should the Rule accommodate those
broker-dealers that would like to initiate quotations for securities
covered by the transition paragraph but for which they cannot obtain
the requisite issuer information?
III. General Request for Comments
The Commission solicits comment on all aspects of its proposed
amendments to Rule 15c2-11, as well as on any other matter that might
have an impact on the proposals discussed above. In particular, the
Commission seeks comment on whether the proposals would help promote
information transparency in the OTC market and help curb abuses in the
trading of microcap securities. Commenters are asked to consider
whether the proposed revisions would have any adverse impact on the
liquidity of covered OTC securities and should provide data and
analysis to support their views. Commenters are invited to address
whether the Rule's text is sufficiently clear and understandable. In
addition, commenters are asked to discuss whether the Rule and/or
proposed amendments should apply to quotations for all securities
covered by Rule 15c2-11, or whether certain amendments (e.g.,
disciplinary histories of an issuer's insiders and promoters) should be
limited to quotations for microcap securities.
Persons submitting written comments should send three copies of
their comments to Jonathan G. Katz, Secretary, Securities and Exchange
Commission, 450 Fifth Street, N.W., Washington, D.C. 20549, and should
refer to File No. S7-3-98. Comments also may be sent electronically to
the following e-mail address: rule-comments@sec.gov and should include
the file number on the subject line of the e-mail.
IV. Costs and Benefits of the Proposed Amendments
The Commission requests commenters to evaluate the costs and
benefits associated with the proposed amendments to Rule 15c2-11. The
Commission has identified certain costs and benefits relating to the
proposals, which are discussed below, and encourages commenters to
discuss any additional costs or benefits.\72\ In particular, the
Commission requests comment on the potential costs for any necessary
modifications to information gathering, management, and recordkeeping
systems or procedures that would be necessary to implement the
proposals, as well as any potential benefits resulting from the
proposals for issuers, investors, broker-dealers, securities industry
professionals, regulators or others. Commenters should provide analysis
and data to support their views on the costs and benefits associated
with the proposals.
---------------------------------------------------------------------------
\72\ In 1985, the Commission issued a release for the purpose of
seeking comment on the costs and benefits associated with Rule 15c2-
11. Securities Exchange Act Release No. 21914 (April 1, 1985), 50 FR
14111. The comment letters are available in File No. S7-14-85.
Generally, the commenters failed to provide data to support costs or
benefits.
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A. Benefits
The Commission believes that the proposed amendments generally
would help improve the quality of the markets for securities subject to
Rule 15c2-11 and would help protect investors from fraudulent schemes
involving these securities. Traders of the securities of legitimate
microcap issuers also would benefit if the integrity of this market
sector is improved. The Commission believes that the specific benefits
set forth below would flow from the proposed amendments.
The Commission does not routinely collect, as part of its
examinations or investigations, data for the dollar value of fraudulent
activity and therefore cannot quantify investor losses due to recent
microcap frauds. However, from its enforcement investigations and
interactions with other regulators, and review of investor complaints,
the Commission believes microcap trading abuses are on the rise and
overall involve significant dollar amounts.
Microcap fraud frequently involves issuers for which public
information is limited.\73\ Without information, it is difficult for
investors, securities professionals, and others to evaluate the risks
presented by these securities. Many investors consequently fall prey to
persons who make false representations and unrealistic predictions
about these securities. The publication of quotations by broker-dealers
can facilitate the fraudulent promotion of microcap securities.
Currently, not all broker-dealers are required to review certain basic
information about an issuer before initiating quotations.
---------------------------------------------------------------------------
\73\ See, e.g., SEC v. Global Financial Traders, Ltd.,
Litigation Release Nos. 15291 (March 14, 1997), and 15338 (April 17,
1997); see also supra note 10.
---------------------------------------------------------------------------
To reduce the potential for fraud in the OTC market, the proposed
amendments require every broker-dealer, before initiating a quotation
for a covered OTC security in a quotation medium, to gather and review
the issuer information and to update that information annually when it
publishes priced quotations. The proposed amendments would require more
information than the Rule currently requires about the issuer's
outstanding securities, its officers and directors, and its financial
condition. In particular, by requiring that all broker-dealers obtain
and review issuer information and update it annually, the proposed
amendments should substantially assist a broker-dealer in its
consideration of whether to publish quotations for an issuer's
securities. Provided with this additional information, the broker-
dealer would gain a greater understanding of the issuer's business and
a better indication of whether potential or actual fraud or
manipulation may be present.
After reviewing the information, responsible broker-dealers should
refrain from publishing quotations for questionable securities. This
will prevent responsible broker-dealers from becoming unwitting
participants in manipulative or fraudulent schemes of unscrupulous
broker-dealers and/or promoters. Because all broker-dealers must have
issuer information before initiating quotations for covered OTC
securities, issuer information would be more widely available to market
professionals. Additionally, broker-dealers must provide this
information to any person upon request.
The proposals, if adopted, would serve an important surveillance
function. Currently, only the first broker-dealer quoting a security
must gather, review, and preserve the information. The proposed
amendments would require all broker-dealers
[[Page 9672]]
initiating quotations to satisfy the Rule's current requirements and
would add a recordation requirement. Moreover, under NASD Marketplace
Rule 6740, the broker-dealer demonstrates its compliance with that rule
by filing the Rule 15c2-11 information with the NASD. Recently, the
review of Forms 211 filed with the NASD has resulted in a number of
Commission trading suspensions and other enforcement actions.
The proposed amendments would ease significantly the Rule's
recordkeeping requirement when broker-dealers have access to reporting
issuer information on the Commission's EDGAR system. Access to EDGAR is
free on the Internet. Given that approximately 42% of securities on the
OTC Bulletin Board (``OTCBB'') and Pink Sheets are issued by reporting
companies, whose reports are included on EDGAR, a significant
recordkeeping cost savings to broker-dealers should result.
The Commission does not have data to quantify the value of the
benefits described above. The Commission seeks comments on the value of
these benefits and on any benefits, not already identified, that may
result from the adoption of these proposed amendments.
B. Costs
The Commission has identified various costs that may result if the
proposals are adopted. The proposals would eliminate the piggyback
provision, which now effectively limits the Rule's application to those
broker-dealers that publish quotations during the first 30 days of the
security's trading. Under the proposals, each broker-dealer would need
to obtain and review the Rule's required information when it initiates
quotations for the security or initiates or resumes quotations
following specified events. Moreover, an annual update requirement
would apply to all broker-dealers that publish priced quotations. As a
result of these proposals, each broker-dealer publishing quotations for
a security would have to obtain issuer information and possibly incur
costs when it first publishes a quotation and when it conducts the
required update. To the extent a broker-dealer does not already have
this information, it would incur costs for the collection and review of
this information. Moreover, a broker-dealer also would incur costs
associated with creating the records required by the Rule and retaining
the Rule's required information for the specified period of time
pursuant to the proposed amendment to Rule 17a-4.
The Commission estimates that it would cost a broker-dealer $35 per
hour to comply with the requirements of the Rule based on a blended
compensation rate of $35 per hour for clerical and supervisory
compliance staff. As identified in the Paperwork Reduction Act section
of this release, the Commission estimates that the additional annual
burden hours to broker-dealers in the aggregate would be approximately
127,000 hours. The Commission, therefore, estimates that the cost to
broker-dealers in the aggregate to obtain and review the required
information if the proposed amendments are adopted would be
approximately $4,445,000. The Commission seeks comments on the
reasonableness of its estimates for the additional annual hourly and
dollar costs to broker-dealers.
The Commission believes that any additional costs to broker-dealers
should be offset, however, by the fact that those broker-dealers
conducting a retail business already may have the information required
to satisfy their obligations under the federal securities laws and the
rules of the SROs when they recommend a security to an investor.
Although Rule 15c2-11 does not regulate issuers, there may be some
indirect costs imposed on issuers, particularly non-reporting issuers,
because they may be contacted by broker-dealers to provide the
information specified in the Rule. Non-reporting issuers would incur
the cost of having to collect and provide the requested information to
each requesting broker-dealer. In addition, the proposals would expand
the scope of the information required for quotations of non-reporting
issuers' securities. However, the Commission is assuming that non-
reporting issuers maintain their financial information in compliance
with prevailing accounting standards and, in most instances, would have
available updated financial information prepared in accordance with
GAAP. The NASD has informed us that the financial statements filed with
the Form 211 generally are prepared in accordance with GAAP, and many
are audited.
The Commission assumes that for non-reporting issuers, it will cost
approximately $15 per hour for clerical staff to obtain and provide the
information required if the proposed amendments are adopted.\74\ As
identified in the PRA section of this release, the Commission estimates
that the additional annual reporting burden hours to non-reporting
issuers in the aggregate would be approximately 50,000 hours, or
approximately $750,000 per year. The Commission seeks comments on the
reasonableness of its estimates for the additional annual hourly and
dollar costs to issuers.
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\74\ The Commission assumes that because the required
information should be available in house, someone in a clerical
position should be able to copy and forward the information in
response to a request. Accordingly, the Commission believes that $15
per hour is a reasonable estimate of this cost.
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Regarding start-up, operating, and maintenance costs, the
Commission believes that broker-dealers that now collect, review, and
retain the information required by the current Rule would incur only
marginal start-up, operating, and maintenance costs (i.e., to expand
systems already in place). Further, some broker-dealers may be
collecting the information required by the proposals for other
purposes. However, the Commission believes some broker-dealers may not
have adequate systems in place to retain issuer information and would,
therefore, incur start-up, operating, and maintenance costs in order to
comply with the requirements of the proposed amendments.
As discussed in the PRA section of this release, the Commission
estimates that an average of 4.3 broker-dealers provide quotations for
each of the 7,038 covered OTC securities that would be affected if the
proposed amendments are adopted. The Commission estimates that broker-
dealers would incur start-up, operating, and maintenance costs of
approximately $17,736 associated with reporting issuer information, and
approximately $97,968 associated with non-reporting issuer information.
The total start-up, operating and maintenance cost burden for broker-
dealers is estimated to be $115,704 ($17,736+$97,968). The Commission
seeks comments on the reasonableness of its estimates for the total
start-up, operating and maintenance cost burdens to broker-dealers.
Finally, the Rule could affect the liquidity of some securities. If
broker-dealers are unable to obtain the required issuer information,
they would have to refrain from publishing priced quotations in that
security. This could make it more difficult for investors to determine
what prices other market participants are willing to bid or offer for
the security. However, broker-dealers may still publish unpriced quotes
and publish priced quotes representing unsolicited customer interest in
buying or selling securities. It should also be possible for some
broker-dealers to continue to make
[[Page 9673]]
markets without publishing quotations in a quotation medium. Thus,
while investors are still able to obtain price information, the cost of
obtaining this information may increase. Any effect on liquidity must
be weighed against the benefit of stopping potential fraud or
manipulation. Greater investor access to information should result in
more informed investor decisions and potentially could result in
additional trading and thus liquidity for covered OTC securities. The
Commission's preliminary view is that the benefits of the proposed rule
changes should justify any adverse impact on liquidity.
The Commission seeks comments on the cost estimates identified in
this section and comments on any cost, not already identified, should
the amendments be adopted as proposed. Commenters are requested to
supply specific data and analysis.
V. Effects on Efficiency, Competition, and Capital Formation
In adopting rules under the Exchange Act, Section 23(a)(2) requires
the Commission to consider the impact any rule would have on
competition and to not adopt any rule that would impose a burden on
competition not necessary or appropriate in the public interest.
Section 3(f) of the Exchange Act requires the Commission, when engaged
in rulemaking, to consider or determine whether an action is necessary
or appropriate in the public interest, and whether the action would
promote efficiency, competition, and capital formation.\75\ The
proposed amendments are intended to protect investors by requiring
broker-dealers that initiate or resume quotations for a covered OTC
security in a quotation medium, and that are publishing priced
quotations as of the annual update requirement, to have fundamental
information about the issuer.
---------------------------------------------------------------------------
\75\ 15 U.S.C. 78c(f).
---------------------------------------------------------------------------
When reports of fraud and manipulation in a particular market
sector are common, legitimate participants in that marketplace are
adversely affected. For example, legitimate small issuers seeking
capital in the public markets may find that their costs of raising
capital are increased because of underwriters' and, ultimately,
investors' reluctance to participate in these transactions. Measures to
reduce microcap fraud should result in enhanced capital formation by
legitimate small issuers.
The Commission believes that the requirement to obtain and review
issuer information should improve the level of competition among
broker-dealers because all broker-dealers would be affected equally.
With the elimination of the piggyback provision, every broker-dealer
must obtain and review the information in connection with a decision to
publish quotations. Absent these requirements, the Commission believes
that some broker-dealers would submit quotations without regard to
basic information about relatively unknown issuers, and therefore,
would be more likely to cause investors to fall prey to fraudulent and
manipulative pricing schemes. Because all broker-dealers would now be
subjected to the same requirements to gather and review the information
before publishing quotations, fairness and competition in this segment
of the industry should improve.
The Commission's preliminary view is that the proposed amendments
to the Rule would not have any anticompetitive effects that are not
necessary or appropriate in the public interest. There may be isolated
cases where some broker-dealers can continue to publish unpriced
quotations for a security because issuer information was available when
they initiated quotations or the security qualifies for the transition
provision covering quotations occurring prior to the amendment's
effective date, yet other broker-dealers later cannot initiate or
resume quotations because current issuer information is no longer
available. Because of the proposed annual updating requirement, the
broker-dealer would only be able to publish unpriced quotations after
the updating period (if current issuer information was not available).
Although in such cases some broker-dealers may be precluded from
publishing quotations in a quotation medium, the Commission
preliminarily considers this possible burden on competition to be
justified by the benefits to investors of broker-dealers having
accurate and current issuer information before they initiate or resume
publication of quotations in a quotation medium.
The Commission requests comments on the competitive benefits that
may result to broker-dealers under the proposed amendments to the Rule
and also is requesting comments on any anticompetitive effects that may
result if the Rule is adopted as proposed. The Commission is aware that
requiring broker-dealers to collect information more regularly may
cause some broker-dealers to stop publishing quotations, thus reducing
the liquidity of some securities. The Commission requests data and
analysis on what effect the proposed changes may have on the liquidity
of this market. Finally, the Commission seeks comment on what impact
the proposals, if adopted, would have on efficiency and capital
formation.
VI. Initial Regulatory Flexibility Act
The Commission has prepared an Initial Regulatory Flexibility
Analysis (``IRFA'') \76\ regarding the proposed amendments to Rule
15c2-11 and the companion amendment to Rule 17a-4 under the Exchange
Act. The following summarizes the IRFA.
---------------------------------------------------------------------------
\76\ 5 U.S.C. 603.
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As discussed in the IRFA, the Rule specifies the information that a
broker-dealer must gather and review before publishing quotations for
covered OTC securities. The Rule is intended to prevent broker-dealers
from publishing quotations for covered OTC securities in a quotation
medium without obtaining, reviewing, and retaining current information
about the issuer. The Commission is proposing these amendments because
of increased incidence of fraud and manipulation in securities subject
to Rule.
The amendments to the Rule would affect all broker-dealers,
including a number of small broker-dealers, seeking to publish
quotations for covered OTC securities. The Commission's Office of
Economic Analysis (``OEA'') estimated that as of December 31, 1996,
there were 3,444 small public broker-dealers. Based on Exchange Act
Rule 0-10(c)(1), OEA considered a small broker-dealer as a broker-
dealer reporting total capital of less than $500,000 at year-end 1996.
The number of these small broker-dealers that submit quotations for
covered OTC securities to quotation mediums is unknown. However, the
Commission believes that, at any given time, there are approximately
400 broker-dealers, including small broker-dealers, that submit
quotations for covered OTC securities. The Commission seeks comments on
the number of small broker-dealers that quote covered OTC securities in
quotation mediums.
The proposed amendments would indirectly affect those small issuers
that may be requested to provide the information required by the
proposed amendments to broker-dealers publishing quotations in those
issuers' securities. Based on Exchange Act Rule 0-10(a), a small issuer
is one that on the last day of its most recent fiscal year had total
assets of $5,000,000 or less. The total number of small issuers of
covered OTC securities is not known at this time. The Commission seeks
comment on the total number of issuers of covered OTC securities; the
number (or
[[Page 9674]]
percentage) of these issuers that are small issuers; and the total
number (or percentage) of small issuers of covered OTC securities that
are reporting and non-reporting issuers, respectively.
As discussed above in this release, the proposed amendments would
eliminate the piggyback provision and would specify that every broker-
dealer must gather and review the required information when it
initiates or resumes publishing quotations for a covered OTC security.
At least once a year thereafter in the case of priced quotations, or
following a break in quotations of five or more business days or upon
the termination of a Commission trading suspension order, a broker-
dealer would have to gather and review the information required by the
Rule.
In addition, a broker-dealer would be required to maintain
information concerning its compliance with the Rule, including whether:
the broker-dealer is affiliated with the issuer; a quotation is being
submitted on behalf of another broker-dealer or associated person
(including the name of such broker-dealer); the quotation is being
submitted on behalf of the issuer or persons affiliated with the
issuer; and the broker-dealer has received any monetary or other
compensation to publish the quotation.
The Commission is also proposing to require broker-dealers to
acquire and review the annual and other periodic reports that financial
institutions file with their respective regulatory agencies other than
the Commission. The Commission believes that because non-reporting
financial institutions file periodic reports containing information
similar or identical to information that reporting financial
institutions file with the Commission, a broker-dealer quoting such
financial institutions' securities should obtain these reports in order
to achieve the informational goals of the Rule.
The possible addition of recordkeeping costs for broker-dealers as
a result of eliminating the piggyback provision and enhancing the
required issuer information further highlights the desirability of
creating a central data base for information on covered issuers and
their securities. In that regard, the Commission encourages the
development in the private sector of one or more central repositories
for Rule 15c2-11 information. Such repositories may provide a more
efficient vehicle for meeting the record-assembly needs of brokers and
dealers, including firms seeking to comply not only with the Rule, but
also with other applicable investor protection requirements, such as
general anti-fraud and suitability rules of the Commission and SROs.
The IRFA notes that the availability of the Commission's EDGAR
system for broker-dealers to collect and review the reports required by
the Rule should lessen the costs and burdens associated with compliance
with any expanded information gathering, review, and updating
requirements. In addition, the prevalent use of computers and the
Internet, on which access to EDGAR is free, should also reduce the
recordkeeping and compliance costs for all broker-dealers by automating
the information collection and retention process.
The IRFA recognizes that the proposed amendments indirectly affect
certain issuers, particularly non-reporting issuers. The proposed
amendments would require all broker-dealers, before initiating or
resuming publication of a quotation, to obtain, review, and retain more
issuer information than is currently required under Rule 15c2-11 and,
when publishing priced quotations, to update that information annually.
Consequently, non-reporting issuers must collect and provide the
required information for each requesting broker-dealer. The Commission
assumes that non-reporting issuers maintain their financial information
in compliance with prevailing accounting standards and that the cost
incurred by non-reporting issuers to prepare the necessary information
in response to broker-dealers' requests would be minimal.
The IRFA discusses the kinds of possible alternative proposals that
the Commission has considered. These include, among others, creating
differing compliance or reporting requirements or timetables that take
into account the resources available to small entities, and whether
such entities could be exempted from any of the proposed rules, or any
part thereof. Therefore, having considered the foregoing alternatives
in the context of the proposed amendments, the Commission does not
believe they would accomplish the stated objectives of the proposal.
The Commission encourages the submission of written comments
regarding any aspect of the IRFA. In particular, the Commission seeks
comments on: (i) The number of small entities that would be affected by
the amended Rule, including the number of small broker-dealers and
issuers; (ii) the number of small entities that are issuers of covered
OTC securities; and (iii) the number of small entities that are
reporting and non-reporting issuers of covered OTC securities,
respectively. Comments should also specify the costs of compliance with
the proposed amendments, and suggest alternatives that would provide
the OTC market with more information about the issuers of these
securities. In describing the nature of any impact that the proposals
would have, empirical data supporting these views should be provided.
For purposes of the Small Business Regulatory Enforcement Fairness
Act of 1996, the Commission is also requesting information regarding
the potential impact of the proposed amendments on the economy on an
annual basis. In particular, comments should address whether the
proposed changes, if adopted, would have a $100,000,000 annual effect
on the economy, cause a major increase in costs or prices, or have a
significant adverse effect on competition, investment, or innovations.
Commenters should provide empirical data to support their views.
Comments should be submitted in triplicate to Jonathan G. Katz,
Secretary, Securities and Exchange Commission, 450 Fifth Street, N.W.,
Washington, D.C. 20549. Comments also may be submitted electronically
at the following E-mail address: rule-comments@sec.gov. All comment
letters should refer to File No. S7-3-98; this file number should be
included on the subject line if E-mail is used. Comment letters will be
available for public inspection and copying in the Commission's Public
Reference Room, 450 Fifth Street, N.W., Washington, D.C. 20549.
Electronically submitted comment letters will also be posted on the
Commission's Internet web site (httpp://www.sec.gov).
A copy of the Initial Regulatory Flexibility Analysis may be
obtained by contacting Chester A. McPherson, Office of Risk Management
and Control, Division of Market Regulation, Securities and Exchange
Commission, 450 Fifth Street, N.W., Washington, D.C. 20549, at (202)
942-0772.
VII. Paperwork Reduction Act
Certain provisions of the proposed amendments contain ``collection
of information'' requirements within the meaning of the Paperwork
Reduction Act of 1995 (``PRA''); \77\ the Commission has submitted them
to the Office of Management and Budget for review in accordance with 44
U.S.C. 3507(d) and 5 CFR 1320.11. The title for the collection of
information is: ``Publication or submission of quotations without
specified information.'' This collection of
[[Page 9675]]
information has previously been assigned OMB Control No. 3235-0202.
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\77\ 44 U.S.C. 3501 et seq.
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A. Collection of Information Under the Proposed Amendments
Rule 15c2-11 under the Exchange Act currently requires the very
first broker-dealer publishing a quotation for certain over-the-counter
(''OTC'') securities in a quotation medium to obtain and review the
information specified in the Rule. Generally, the Rule applies to
securities that are not listed and traded on a national securities
exchange or quoted on Nasdaq (``covered OTC securities''). Most covered
OTC securities are quoted in the OTC Bulletin Board (``OTCBB''), which
is operated by the National Association of Securities Dealers, Inc.
(''NASD''), or in the Pink Sheets (containing quotations for equity
securities) or Yellow Sheets (containing quotations for debt
securities), which are published by the National Quotation Bureau, Inc.
(''NQB'').
The proposed amendments to Rule 15c2-11 would require every broker-
dealer to collect, review, and retain specific information about the
security's issuer before initiating or resuming a quotation for a
covered OTC security. Broker-dealers submitting priced quotations for
the security would be required to collect, review, and retain the
Rule's specified information annually. Broker-dealers would also have
to record the sources of their information, the date their review
occurred, and the person responsible for the review. Also, the
proposals would require broker-dealers publishing quotations for a
covered OTC security to collect, review, and retain more information
than is required currently.
Under Rule 15c2-11, the information that is collected pursuant to
the Rule must be submitted to the NASD at least three business days
before any quotation is published.\78\ Finally, the proposed amendments
would require broker-dealers to provide the information specified to
any member of the public that requests it.
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\78\ The NASD has a rule requiring broker-dealers that initiate
or resume quotations for covered equity securities to submit
verification that they have collected the information necessary to
comply with NASD requirements, as well as Rule 15c2-11. See NASD
Manual, Marketplace Rules, 6740.
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B. Proposed Use of Information
Broker-dealers must collect and review the information required
under the proposed amendments before publishing a quotation. Moreover,
the Rule requires that broker-dealers have a reasonable basis for
believing that the information about the issuer and related persons is
current, accurate, and from reliable sources. This information
collection protects investors by deterring fraudulent or manipulative
quotations for thinly-traded securities whose issuers are relatively
unknown. Because information about these issuers is not widely
disseminated and often is not current, fraudulent and manipulative
schemes are easier to perpetrate. Moreover, this collection of
information helps broker-dealers guard against becoming unwitting
participants in fraudulent or manipulative schemes. The Rule 15c2-11
information gathering requirements also serve an important surveillance
function for both the Commission and the NASD. Recently, the Commission
has used the Rule 15c2-11 information to suspend trading in the
issuers' securities pursuant to Section 12(k) of the Exchange Act where
publicly available information about the issuer raised questions about
the accuracy and adequacy of the issuers' disclosures.
C. Respondents
The proposed amendments would apply to those broker-dealers that
initiate or resume publishing quotations for a covered OTC security in
a quotation medium and that are publishing priced quotations as of the
annual update requirement. The proposed amendments also indirectly
affect issuers that are asked by broker-dealers to provide this
information. Most of the Rule 15c2-11 information that would be
required for issuers that publicly file periodic reports with the
Commission (``reporting issuers'') is available electronically on EDGAR
or through the Internet. Thus, the proposals are likely to have a
greater paperwork burden when broker-dealers publish quotations for the
securities of issuers that do not participate in the Commission's
public reporting program (``non-reporting issuers'').
D. Total Annual Reporting and Recordkeeping Burden
The proposed amendments would require broker-dealers to collect,
review, retain, and record certain issuer and supplemental information
when they initiate or resume publishing quotations of the issuer's
securities or continue to publish priced quotations as of the annual
anniversary date. The proposed amendments contain an initial
information gathering and review requirement for broker-dealers and, in
the case of priced quotations, a subsequent annual updating
requirement. The discussion below estimates the collection of
information burden one year after the anticipated date of effectiveness
of the proposed amendments when broker-dealers that publish quotes for
covered OTC securities qualifying for the proposed transition provision
must fully comply with the Rule's information requirements. The
discussion below also provides estimates for the same period for
issuers that may be contacted to provide the information. In
particular, the following analysis measures the cost to broker-dealers
of: (1) collecting, reviewing, recording, and retaining the required
issuer information and supplying it to the NASD; (2) responding to
requests for issuer information from the public; and (3) starting-up or
maintaining systems for the collection and retention of issuer
information. The analysis below also addresses the indirect cost to
issuers who must furnish information to requesting broker-dealers.
1. Burden-Hours for Broker-Dealers
In 1997, the NASD reports receiving 1,576 applications from broker-
dealers to initiate or resume publication of quotations for covered
equity securities in the OTCBB and/or the Pink Sheets, and 1,107 of
these applications were cleared for publication of quotations. Although
there are other OTC quotation mediums, the NASD reports that it
generally does not receive any submissions from broker-dealers
publishing quotations in these other systems. Data about quotations for
covered OTC securities in these other systems is unavailable.
Also, taking into account newly-published quotations in the Yellow
Sheets, the Commission estimates that approximately 1,200 new covered
OTC securities would be eligible for quotations in the year following
the Rule's effective date. Based on information provided by the NASD
and NQB, the Commission estimates that as of December 31, 1997, there
were approximately 6,200 covered OTC securities quoted in the OTCBB;
3,000 quoted in the Pink Sheets; and 2,000 quoted in the Yellow Sheets
for a total of 11,200 covered OTC securities quoted in all three
mediums.
According to NASD and NQB estimates, the Commission believes that,
on average, there are approximately 4.3 broker-dealers publishing
quotations for each of these covered OTC securities, and that at any
given time there are no more than 400 broker-dealers that submit
quotations for covered OTC securities. Further, according to these
estimates, priced quotations are published for approximately 89 percent
of the 6,200 (5,518) OTCBB securities, 10 percent of the 3,000 (300)
Pink Sheets securities, and 1 percent of the
[[Page 9676]]
2,000 (20) Yellow Sheets for a total of 5,838 issues with priced
quotations. Because the proposed amendments would not require broker-
dealers to collect issuer information for priced quotations until the
annual update requirement is triggered in the year after the date of
the amendments' effectiveness, the Commission estimates that, as of the
annual update, approximately 30,263 ((5,838+1,200) x 4.3) quotations
would be subject to the Rule 15c2-11 proposed amendments.
For purposes of developing a burden estimate, the Commission
assumes that each of the 5,838 priced quotations and the 1,200 new
applications represent a different issuer. The Commission, therefore,
estimates, at most, 7,038 issuers of covered OTC securities will be
affected by the proposals in the year following the effective date of
the amendments.\79\
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\79\ This number overstates the number of affected issuers
because some issuers have more than one security with priced quotes.
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Based on information from the NASD and NQB, the Commission
estimates that of the 7,038 affected issuers of covered OTC securities,
42 percent (2,956) are reporting issuers, and 58 percent (4,082) are
non-reporting issuers. The Commission estimates that it will take a
broker-dealer about three hours to collect, review, record, retain, and
supply to the NASD the information pertaining to a reporting issuer,
and five hours to collect, review, record, retain, and supply to the
NASD the information pertaining to a non-reporting issuer. The
Commission estimates that broker-dealers will annually require 38,132
(2,956 x 3 x 4.3) hours or 95.33 (38,132/400) hours per broker-dealer
to collect, review, record, retain, and supply to the NASD the
information for the 2,956 affected reporting issuers. The Commission
estimates that broker-dealers will annually require 87,763
(4,082 x 5 x 4.3) hours or 219.41 (87,763/400) hours per broker-dealer
to collect, review, record, retain, and supply to the NASD the
information from the 4,082 affected non-reporting issuers.
Additionally, the broker-dealers, upon request from the public, must
provide the issuer information. Based on information from the NQB, the
Commission estimates that broker-dealers will receive 1,000 requests
from the public annually, which would take a broker-dealer
approximately one-half hour per request to provide for an annual burden
of 500 hours. Therefore, the Commission estimates the total annual
burden hours to broker-dealers to be 126,395 (38,132+87,763+500), or an
average of 316 (126,395/400) burden hours per broker-dealer.
2. Burden-Hours for Issuers
Regarding the burden on issuers to provide broker-dealers with the
required information, the Commission estimates that the 2,956 affected
reporting issuers of covered OTC securities will not bear any
additional hourly burdens under the proposed amendments because such
issuers already report the required information to the Commission
through periodic filings made pursuant to the federal securities laws.
Further, reporting issuer information is widely available to broker-
dealers through a variety of media. However, non-reporting issuer
information is not widely available, and consequently, these issuers
must provide the information required by the proposed amendments to
requesting broker-dealers before quotations in their securities can be
published. The Commission estimates that the 4,082 affected non-
reporting issuers of covered OTC securities will spend an average of
nine hours each to collect, prepare, and supply the information
required by the proposals to the first broker-dealer that requests this
information. Thereafter, the Commission estimates that it will take an
average of one hour for an issuer to provide the same information to
the remaining 3.3 broker-dealers that request the information.
Accordingly, the Commission estimates the 4,082 non-reporting issuers
annually will incur 36,738 (4,082 x 9 x 1) hours to comply with the
first broker-dealer's request for information, and 13,471
(4,082 x 1 x 3.3) hours to comply with the subsequent 3.3 broker-dealer
requests for an annual total of 50,209 (36,738+13,471) burden hours. On
average, therefore, each non-reporting issuer would spend approximately
12 (50,209/4,082) burden hours per year to comply with these requests.
3. Total Burden-Hour Costs to Broker-Dealers and Issuers
For both broker-dealers and issuers combined and in the aggregate,
the Commission estimates the collection of information will require
approximately 176,604 burden hours annually (126,395+50,209).
4. Capital Cost to Broker-Dealers and Issuers
The Commission believes that broker-dealers that now collect,
review, and retain the information required by the current Rule will
not incur any significant start-up costs to expand systems already in
place. Further, broker-dealers that are collecting the information
required by the proposals for other purposes also will not incur
significant start-up costs. However, the Commission believes some
broker-dealers may not have adequate systems in place to retain issuer
information and will incur start-up costs in order to comply with the
requirements of the proposed amendments. The Commission assumes that of
the 4.3 broker-dealers that provide quotations for each covered OTC
security, on average one broker-dealer will incur additional start-up
costs, while the remaining 3.3 broker-dealers will only incur
incremental costs. Because the information for reporting issuers will
be generally available on EDGAR and such availability satisfies the
recordkeeping requirements of the proposals, the Commission is assuming
that the start-up costs associated with retaining information on
reporting issuers will be $6.00 per quotation, whereas the same costs
will be $24.00 per quotation for non-reporting issuer information. The
Commission estimates that broker-dealers in the aggregate will incur
start-up costs of $17,736 (2,956 x $6 x 1) associated with reporting
issuer information, and $97,968 (4,082 x $24 x 1) associated with non-
reporting issuer information. The total start-up, operating and
maintenance cost burden for broker-dealers is estimated to be $115,704
($17,736+$97,968) or an average of $289 ($115,704/400) per broker-
dealer.
The Commission assumes that non-reporting issuers, because they
maintain their financial information in compliance with prevailing
accounting standards, will not incur any start-up costs to prepare the
required information in response to broker-dealers' requests. The
Commission also believes that reporting issuers of covered OTC
securities will not incur start-up costs as a result of the proposed
amendments since such issuers already provide the required information
to the Commission under the federal securities laws.
Therefore, the Commission believes issuers will not incur start-up
costs as a consequence of the adoption of the Rule amendments, as
proposed.
E. General Information About the Collection of Information
The collection of information under the proposed amendments is
mandatory and would be required before broker-dealers could initiate or
resume publication of quotations in securities that are traded in a
quotation medium other than an exchange or Nasdaq and before broker-
dealers could continue to
[[Page 9677]]
publish priced quotations when the annual review date occurs. Broker-
dealers would be required to retain the information they collect for a
period of not less than three years. Information collected under the
Rule would not be kept confidential. Any agency may not conduct or
sponsor, and a person is not required to respond to, a collection of
information unless it displays a currently valid control number.
F. Request for Comments
Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits
comments to:
(i) Evaluate whether the proposed collection of information is
necessary for the proposed performance of the functions of the agency,
including whether the information will have practical utility;
(ii) Evaluate the accuracy of the Commission's estimate of the
burden of the proposed collection of information;
(iii) Enhance the quality, utility, and clarity of the information
to be collected; and
(iv) Minimize the burden of collection of information on those who
are to respond, including through the use of automated collection
techniques or other forms of information technology. The Commission
seeks data about quotations for covered OTC securities in OTC quotation
mediums other than the OTC Bulletin Board, Pink Sheets and Yellow
Sheets. The Commission asks for comments on its estimate of the number
of issuers affected by the proposed Rule. The Commission also seeks
comments on the time estimates made for broker-dealers and issuers to
comply with the proposals' information collection requirements.
Persons desiring to submit comments on the collection of
information requirements should direct them to the Office of Management
and Budget, Attention: Desk Officer for the Securities and Exchange
Commission, Office of Information and Regulatory Affairs, Room 3208,
New Executive Office Building, Washington, D.C. 20503, and should also
send a copy of their comments to Jonathan G. Katz, Secretary,
Securities and Exchange Commission, 450 Fifth Street, N.W., Washington,
D.C. 20549, and refer to File No. S7-3-98. OMB is required to make a
decision concerning the collections of information between 30 and 60
days after publication of this release in the Federal Register, so a
comment to OMB is best assured of having its full effect if OMB
receives it within 30 days of this publication.
VIII. Statutory Basis and Text of Proposed Amendments and Rule
The rule amendments are being proposed pursuant to Sections 3,
10(b), 15(c), 15(g), 17(a), and 23(a) of the Securities Exchange Act of
1934, 15 U.S.C. 78c, 78j(b), 78o(c), 78o(g), 78q(a), and 78w(a).
List of Subjects in 17 CFR Part 240
Broker-dealers, Fraud, Reporting and recordkeeping requirements,
Securities.
Text of Proposed Rule
In accordance with the foregoing, Title 17, chapter II, part 240 of
the Code of Federal Regulations is proposed to be amended as follows:
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
1. The authority citation for part 240 continues to read, in part,
as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77eee,
77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78f, 78i, 78j, 78k, 78k-1,
78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5, 78w, 78x, 78ll(d), 78mm,
79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 80b-4, and 80b-11,
unless otherwise noted.
* * * * *
2. Section 240.15c2-11 and the section heading are revised to read
as follows:
Sec. 240.15c2-11. Publication or submission of quotations without
current information.
(a) Unlawful activity. As a means reasonably designed to prevent
fraudulent, deceptive, or manipulative acts or practices, it shall be
unlawful for a broker or dealer, directly or indirectly, to publish or
to submit for publication any quotation for a security in any quotation
medium unless the broker or dealer complies with the provisions of this
section.
(b) Covered brokers or dealers. A broker or dealer shall satisfy
the requirements of this section prior to publishing or submitting for
publication any one of the following kinds of quotations for a security
in a quotation medium:
(1) An initial quotation;
(2) An initial or resumed quotation following:
(i) The lapse of five or more consecutive business days during
which period the broker or dealer did not publish or submit for
publication any quotations for the security in a quotation medium; or
(ii) The termination of a Commission trading suspension ordered
pursuant to section 12(k) of the Act (15 U.S.C. 78l(k)) in any
securities of the issuer; or
(3) A quotation at a specified price following:
(i) The anniversary date of the initial quotation by the broker or
dealer; or
(ii) The date that is four months following the end of the issuer's
fiscal year; or
(iii) In the case of a foreign private issuer, the date that is
seven months following the end of the issuer's fiscal year.
(c) Requirements. A broker or dealer subject to paragraph (b) of
this section shall:
(1) Review the information described in paragraphs (d) and (e) of
this section;
(2) Determine that it has a reasonable basis under the
circumstances for believing that the issuer information described in
paragraph (d) of this section, when considered in conjunction with the
supplemental information in paragraph (e) of this section, is accurate
and current in all material respects, and that it is obtained from
reliable sources; and
(3) Make a record of:
(i) The information required by paragraph (f) of this section;
(ii) The sources from which it obtained the information described
in paragraphs (d) and (e) of this section;
(iii) The date that the broker or dealer reviewed the information
required by this section; and
(iv) The person responsible for the broker or dealer's compliance
with the requirements of this section.
(d) Issuer information. (1) Issuers with a recent public offering.
For an issuer that has filed a registration statement under the
Securities Act, other than a registration statement on Form F-6 (17 CFR
239.36), which became effective less than 90 calendar days prior to the
day on which such broker or dealer publishes or submits the quotation
to the quotation medium, the prospectus specified by section 10(a) of
the Securities Act of 1933 (15 U.S.C. 77j(a)): Provided, That such
registration statement has not thereafter been the subject of a stop
order that is still in effect when the quotation is published or
submitted.
(2) Issuers with a recent Regulation A offering. For an issuer that
has filed a notification under Regulation A and was authorized to
commence the offering less than 40 calendar days prior to the day on
which such broker or dealer publishes or submits the quotation to the
quotation medium, the offering circular provided for under Regulation A
under the Securities Act (Secs. 230.251 through 230.263): Provided,
That the offering circular provided for under Regulation A has not
thereafter become the subject of a suspension order which
[[Page 9678]]
is still in effect when the quotation is published or submitted.
(3) Certain reporting issuers or exempted insurance companies. For
an issuer required to file reports pursuant to section 13 or 15(d) of
the Act (15 U.S.C. 78m or 78o(d)) and that is current in filing such
reports, or for an issuer of a security covered by section 12(g)(2) (B)
or (G) of the Act (15 U.S.C. 78l(g)(2) (B) or (G)), the issuer's most
recent annual report filed pursuant to section 13 or 15(d) of the Act
or a copy of the annual statement referred to in section 12(g)(2)(G)(i)
of the Act, together with any subsequent quarterly and current reports
filed under the provisions of the Act by the issuer: Provided, That
until such issuer has filed its first annual report pursuant to section
13 or 15(d) of the Act or annual statement referred to in section
12(g)(2)(G)(i) of the Act, the broker or dealer obtains and reviews a
copy of the prospectus specified by section 10(a) of the Securities Act
(15 U.S.C. 77j(a)) included in a registration statement filed by the
issuer under the Securities Act that became effective within the prior
16 months, or a copy of any registration statement filed by the issuer
under section 12 of the Act that became effective within the prior 16
months (other than a registration statement on Form F-6 (17 CFR
239.36)), together with any quarterly and current reports filed
thereafter under section 13 or 15(d) of the Act.
(4) Certain financial institutions. For an issuer that is not
required to file reports pursuant to section 13 or 15(d) of the Act (15
U.S.C. 78m or 78o(d)) and that is a bank or savings association, as
those terms are defined in 12 U.S.C. 1813, a copy of the issuer's most
recent annual report and any subsequent reports filed with its
``appropriate Federal banking agency'' or ``State bank supervisor,'' as
those terms are defined in 12 U.S.C. 1813.
(5) Certain foreign issuers. For an issuer exempt from section
12(g) of the Act (15 U.S.C. 78l(g)) by reason of compliance with the
provisions of Sec. 240.12g3-2(b), the information furnished by the
issuer to the Commission pursuant to Sec. 240.12g3-2(b) since the
beginning of the issuer's last fiscal year.
(6) Other issuers. For an issuer that is not covered by paragraphs
(d)(1) through (d)(5) of this section: Provided, That this paragraph
(d)(6) shall not be available in the case of an issuer that is required
to file reports pursuant to section 13 or 15(d) of the Act (15 U.S.C.
78m or 78o(d)), the following information:
(i) The exact name of the issuer and any predecessor;
(ii) The address and telephone number of the issuer's principal
executive offices;
(iii) The state of incorporation of the issuer, if it is a
corporation;
(iv) The date on which the issuer's fiscal year ends;
(v) A description of each class of the issuer's securities
outstanding, including its exact title; the par or stated value of the
security; the number of securities or total principal amount
outstanding; the class and the number of securities issuable upon
exercise, exchange or conversion of a class of the issuer's securities;
and the total number of securityholders of record for each class of the
issuer's securities as of the end of the issuer's most recent fiscal
year or a more recent date;
(vi) The exact title and class of the security that will be quoted;
(vii) The name, address and telephone number of the transfer agent;
(viii) A description of the issuer's business and facilities;
(ix) A description of products or services offered by the issuer;
(x) The full names and business addresses of the executive
officers, directors, general partners, promoters, and control persons
of the issuer, and the number of securities of each class of the
issuer's securities that are beneficially owned by each such person as
of the end of the issuer's last fiscal year or a more recent date;
(xi) One of the following alternatives:
(A) A description of any of the following events that occurred
during the preceding five years involving any executive officer,
director, general partner, promoter, or control person of the issuer:
(1) Conviction in a criminal proceeding or being named as a
defendant in a pending criminal proceeding (excluding traffic
violations and other minor offenses);
(2) Entry of an order, judgment, or decree, not subsequently
reversed, suspended or vacated, by a court of competent jurisdiction,
permanently or temporarily enjoining, barring, suspending or otherwise
limiting involvement in any type of business, securities, commodities,
or banking activities;
(3) Being found by a court of competent jurisdiction (in a civil
action), the Commission, the Commodity Futures Trading Commission, or a
state securities regulator to have violated federal or state securities
or commodities law, and the judgment or finding has not been reversed,
suspended, or vacated; and
(4) Entry of an order by a self-regulatory organization permanently
or temporarily barring, suspending or otherwise limiting involvement in
any type of business or securities activities;
(B) A statement from the issuer that none of these has occurred, if
none has occurred; or
(C) A statement by the broker or dealer of the steps taken by it to
obtain the information contained in paragraph (d)(6)(xi)(A) or (B) of
this section from the issuer and that the issuer failed or refused to
provide this information;
(xii) The following financial information:
(A) In the case of an issuer other than a foreign private issuer,
the issuer's most recent balance sheet, statement of cash flows,
statement of comprehensive income, and statement of operations
(income), prepared in accordance with U.S. generally accepted
accounting principles; or
(B) In the case of a foreign private issuer, the issuer's most
recent balance sheet and statement of operations (income), and to the
extent prepared by the issuer, statement of cash flows, statement of
comprehensive income, and statement of changes in shareholders' equity,
prepared in accordance with a comprehensive body of accounting
principles.
(xiii) The same financial information required by paragraph
(d)(6)(xii)(A) of this section for such part of the two preceding
fiscal years as the issuer or any predecessor has been in existence,
prepared in accordance with U.S. generally accepted accounting
principles (except in the case of a foreign private issuer), Provided
That in the case of an issuer that has emerged from reorganization
pursuant to Chapter 11 of the Bankruptcy Code, the court-approved
disclosure statement filed pursuant to 11 U.S.C. 1125 and the
information required by this paragraph (d)(6)(xiii) from the date of
the entry of the bankruptcy court order confirming the issuer's
reorganization plan pursuant to 11 U.S.C. 1129, if the reorganization
plan has been effective less than two years; and
(xiv) One of the following alternatives:
(A) A description of any of the following events involving the
issuer or its predecessor, or any of its majority-owned subsidiaries,
that have occurred in the two years preceding the publication or
submission for publication of the quotation:
(1) A change in control of the issuer;
(2) Increase in equity securities involving 10% or more of the same
class of securities outstanding at the time of the offering;
(3) Any merger, acquisition, or business combination;
[[Page 9679]]
(4) Acquisition or disposition of significant assets;
(5) Bankruptcy proceedings;
(6) Delisting by any securities exchange or the Nasdaq Stock
Market; or
(B) A statement from the issuer that none of these events has
occurred, if none has occurred; or
(C) A statement by the broker or dealer of the steps taken by it to
obtain the information contained in paragraph (d)(6)(xi)(A) or (B) of
this section from the issuer and that the issuer failed or refused to
provide this information.
(e) Supplemental information. (1) A copy of any trading suspension
order issued by the Commission pursuant to section 12(k) of the Act (15
U.S.C. 78l(k)) for any securities of the issuer or its predecessor (if
any) during the 12 months preceding the date of the publication or
submission of the quotation, or a copy of the public release issued by
the Commission announcing such trading suspension order.
(2) A copy or a written record of any other material information
(including adverse information) regarding the issuer which comes to the
broker's or dealer's knowledge or possession before the publication or
submission of a quotation.
(f) Significant relationship information. (1) A statement
describing any direct or indirect affiliation between the issuer and
the broker or dealer publishing or submitting the quotation for
publication, or any of its associated persons.
(2) A statement whether the quotation is being published or
submitted on behalf of any other broker or dealer, or any of its
associated persons, and, if so, the name of such broker or dealer, or
the associated person, and the terms of the arrangement.
(3) A statement whether the broker or dealer has received or has
any arrangement to receive any monetary or other consideration from any
person in connection with publishing the quotation and, if so, a
description of the consideration and the name of the person providing
the consideration.
(4) A statement whether the quotation directly or indirectly is
being published or submitted for publication on behalf of the issuer,
or any executive officer, director, general partner, promoter, control
person, or any person, directly or indirectly the beneficial owner of
more than 10 percent of the outstanding units or shares of any equity
security of the issuer, and, if so, the name of such person, and the
basis for any exemption under the federal securities laws for any sales
of such securities on behalf of such person.
(g) Exceptions. The provisions of this section shall not apply to
the publication or submission for publication of a quotation for:
(1) A security admitted to trading on a national securities
exchange and which is traded on such an exchange on the same day as, or
on the business day next preceding, the day the quotation is published;
(2) A security that is listed in the Nasdaq Stock Market, and such
authorization is not suspended, terminated, or prohibited;
(3) An exempted security, as defined in section 3(a)(12) of the Act
(15 U.S.C. 78c(a)(12)), or a municipal security as defined in section
3(a)(29) of the Act (15 U.S.C. 78c(a)(29)); or
(4) A security, solely on behalf of a customer (other than a person
acting as or for a dealer), that represents the customer's order or
indication of interest and does not involve the solicitation of the
customer's order or interest.
(h) Preservation of documents and information. The broker or dealer
shall preserve the information specified in paragraphs (d), (e), and
(f) of this section in accordance with the provisions of Sec. 240.17a-
4(b)(11): Provided, however, That if the broker or dealer satisfied the
requirements of paragraph (d) of this section by obtaining and
reviewing such information on the EDGAR system, the broker or dealer
shall be deemed to have preserved the information described in
paragraph (d) of this section if the broker or dealer has the means to
access such information electronically for the period described by
Sec. 240.17a-4(b)(11).
(i) Information submitted to the NASD. (1) At least three business
days before the quotation is published, the broker or dealer shall
submit to the NASD, in accordance with NASD rules, the information
required in paragraphs (d), (e), and (f) of this section.
(2) For any security of an issuer included in paragraph (d)(3) of
this section:
(i) A broker or dealer shall be in compliance with the requirement
to obtain current reports filed by the issuer if the broker or dealer
obtains all current reports filed with the Commission by the issuer as
of a date up to three business days in advance of the earlier of the
date of submission of the quotations to the quotation medium and the
date of submission of information to the NASD pursuant to NASD rules;
and
(ii) A broker or dealer shall be in compliance with the requirement
to obtain the annual, quarterly, and current reports filed by the
issuer, if the broker or dealer has made arrangements to receive all
such reports when filed by the issuer and it has regularly received
reports from the issuer on a timely basis.
(j) Information available upon request. A broker or dealer that
publishes any quotation for a security pursuant to this section shall
make the information specified in paragraphs (d), (e), and (f) of this
section promptly available upon request to any person. Providing such
information to others pursuant to this paragraph (j) shall not
constitute a representation by such broker or dealer that the
information is accurate, but it shall constitute a representation by
such broker or dealer that the information is current in relation to
the date recorded pursuant to paragraph (c)(3)(iii) of this section,
that the broker or dealer has a reasonable basis under the
circumstances for believing the information is accurate in all material
respects, and that the information was obtained from sources which the
broker or dealer has a reasonable basis for believing are reliable.
(k) Definitions. For purposes of this section:
(1) Initial quotation means the first quotation for a security
published or submitted for publication in a quotation medium by the
broker or dealer.
(2) Issuer, in the case of quotations for American Depositary
Receipts, means the issuer of the deposited shares represented by such
American Depositary Receipts.
(3) NASD means the National Association of Securities Dealers,
Inc., including its wholly owned subsidiaries (including, but not
limited to, NASD Regulation, Inc. and The Nasdaq Stock Market, Inc.).
(4) Nasdaq Stock Market means the Nasdaq National Market and the
Nasdaq SmallCap Market, both operated by the Nasdaq Stock Market, Inc.
(5) Promoter has the same meaning contained in Sec. 230.405 of this
chapter.
(6) Quotation means any bid or offer at a specified price with
respect to a security, or any indication of interest by a broker or
dealer in receiving bids or offers from others for a security, or any
indication by a broker or dealer that advertises its general interest
in buying or selling a particular security.
(7) Quotation medium means any:
(i) System of general circulation to brokers or dealers that
regularly disseminates quotations of identified brokers or dealers; or
(ii) Publication or electronic communications network, or other
device that is used by brokers or dealers to make known to others their
interest in transactions in any security,
[[Page 9680]]
including offers to buy or sell at a stated price or otherwise, or
invitations of offers to buy or sell.
(8) Securities Act means the Securities Act of 1933 (15 U.S.C. 77a,
et seq.).
(l) Unless the broker or dealer knows or has reason to know that
more current information is available, the information specified in
paragraph (d)(6) of this section will be presumed to be current, if:
(1) The balance sheet is as of a date less than 16 months before
the publication or submission of the quotation, the statement of cash
flows, statement of comprehensive income, and statement of operations
(income) (and in the case of foreign issuers, the statement of changes
in shareholders' equity) are for the 12 months preceding the date of
such balance sheet; and if such balance sheet is not as of a date less
than 6 months before the publication or submission of the quotation, it
shall be accompanied by an additional statement of cash flows,
statement of comprehensive income, and statement of operations (and in
the case of foreign issuers, statement of changes in shareholders'
equity) for the period from the date of such balance sheet to a date
less than 6 months before the publication or submission of the
quotation.
(2) Other information regarding the issuer specified in paragraph
(d)(6) of this section is as of a date within 12 months prior to the
publication or submission of the quotation.
(m) Transition provision. A broker or dealer that was publishing a
quotation for a security on the business day immediately prior to
[effective date of amendments in the final rule] may continue to
publish quotations for such security without complying with paragraph
(c) of this section until the occurrence of any of the events set forth
in paragraphs (b)(2) or (b)(3) of this section.
(n) This section shall not prohibit any publication or submission
of any quotation if the Commission, upon written request or upon its
own motion, exempts such quotation either unconditionally or on
specified terms and conditions, as not constituting a fraudulent,
manipulative or deceptive practice comprehended within the purpose of
this section.
3. Section 240.17a-4 is amended by adding paragraph (b)(11) to read
as follows:
Sec. 240.17a-4. Records to be preserved by certain exchange members,
brokers and dealers.
* * * * *
(b) * * *
(11) The records required to be obtained pursuant to Sec.
240.15c2-11.
* * * * *
Dated: February 17, 1998.
By the Commission.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-4460 Filed 2-24-98; 8:45 am]
BILLING CODE 8010-01-P
