[Federal Register Volume 61, Number 76 (Thursday, April 18, 1996)]
[Notices]
[Pages 16944-16948]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-9511]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37106; File No. SR-NASD-96-02]
Self-Regulatory Organizations; Notice of Filing and Order
Granting Temporary Accelerated Approval of Proposed Rule Change by
National Association of Securities Dealers, Inc. Relating to Changes in
the Structure of the NASD Board of Governors
April 11, 1996.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on January
16, 1996, the National Association of Securities Dealers, Inc.
(``NASD'' or ``Association'') filed with the Securities and Exchange
Commission (``SEC'' or ``Commission'') \1\ the proposed rule change as
described in Items I, II, and III below, which Items have been prepared
by the NASD. The Commission is publishing this notice to solicit
comments on the proposed rule change from interested persons. For the
reasons discussed below, the Commission is granting accelerated
approval of the proposed rule change for a period of ninety (90) days.
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\1\ The NASD subsequently made three amendments to its filing.
On January 24, 1996, the NASD submitted the final report of the vote
with respect to Notice to Members 95-101. On April 10, 1996, the
NASD submitted Amendment No. 2 which superseded the original rule
filing and eliminated those parts of the original rule filing that
proposed to eliminate Article V to the By-Laws and amend Section 7
to Article VII of the By-Laws to establish a new procedure for
nomination of the members of the Board of Governors. These
amendments are not being proposed at this time. On April 11, 1996,
the NASD submitted its third and fourth amendment to this filing
which superseded all previous amendments and the original filing.
The NASD at this time is proposing to amend Sections 4 and 6 of
Article VII of its By-laws on a temporary 90 day basis. See letter
from T. Grant Callery, NASD, to Mark Barracca, SEC (April 11, 1996).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
Following is the full text of a proposed rule change to amend the
NASD's By-Laws to reconfigure the NASD's Board of Governors. Below is
the text of the proposed rule change.\2\ Proposed new language is
italicized; proposed deletions are in brackets.
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\2\ Article and section designations of the provisions covered
by this rule change will be modified to conform to a new rule
numbering system for the NASD Manual anticipated to be effective no
later than May 1, 1996. See Exchange Act Release No. 36698 (January
11, 1996), 61 FR 1419 (January 19, 1996).
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BY-LAWS
ARTICLE VII
BOARD OF GOVERNORS
Composition and Qualifications of the Board
Sec. 4. [(a)] The management and administration of the affairs of
the Corporation shall be vested in a Board of Governors composed of
[from twenty-five to twenty-nine Governors as determined from time to
time by the Board. The Board shall consist of: (1) At least thirteen
but not more than fifteen Governors to be elected by the members of the
various districts in accordance with the provisions of subsection (b)
hereof; (2) at least eleven but not more than thirteen Governors to be
elected by the Board in accordance with the provisions of subsection
(c) hereof; (3) the President of the Corporation to be selected by the
Board in accordance with the provisions of Article X, Section 2 of the
By-Laws. The Board, in exercising its power to determine its size and
composition under this subsection (a), shall be required to select its
members in a manner such that when all vacancies, if any, are filled,
the number of Governors elected by the members of the various districts
in accordance with subsection (b) hereof shall exceed the number of
Governors (including the President) not so elected.
(b) The several districts shall be represented on the Board. Each
district shall elect at least one Governor. The Board shall determine
from time to time which districts, if any, shall elect more than one
Governor, so as to provide fair representation of the Corporation's
members and of its various districts on the Board. The determination of
which districts shall elect more than one Governor need not be
submitted to the membership for approval and shall become effective at
such time as the Board may prescribe. The Board shall, from time to
time, consider the fairness of the representation of members and of the
various districts on the Board. Whenever the Board finds any unfairness
in such representation to exist, it shall make appropriate changes in
the number of boundaries of the
[[Page 16945]]
districts or the number of Governors elected by each district to
provide fair representation of members and districts.] five or more
members, the number thereof to be determined from time to time by
resolution of the Board of Governors, and shall include at all times:
(1) the Chief Executive Officer; (2) one or more Non-Industry Governors
representative of issuers and investors and not associated with a
member of the Corporation; (3) one or more Industry Governors; and (4)
a majority of Non-Industry Governors, unless (A) there shall be a
vacancy in the position of a Non-Industry Governor, in which case such
vacancy shall be filled by a person satisfying the criteria for a Non-
Industry Governor in accordance with the provisions of Section 6 of
this Article or (B) a Governor elected as a Non-Industry Governor
becomes an Industry Governor and his remaining term of office is six
months or less. If a Governor elected as a Non-Industry Governor
becomes an Industry Governor and his remaining term of office is more
than six months, or a Governor elected as an Industry Governor becomes
a Non-Industry Governor and his remaining term of office is more than
six months, he shall be automatically removed from office unless the
Board determines otherwise.
[(c) The Board shall elect (1) at least three Governors
representative of investors, none of whom are associated with a member
or any broker or dealer; (2) at least three Governors representative of
issuers, at least one of whom is not associated with a member or any
broker or dealer; (3) at least three Governors chosen from members; (4)
at least one Governor representative of the principal underwriters of
investment company shares or affiliated members; and (5) at least one
Governor representative of insurance companies or insurance company
affiliated members.]
Term of Office of Governors
Sec. 5. No change.
[Succession to Office]
Filling of Vacancies
Sec. 6.(a) [The office of a retiring Governor elected under
subsection (b) of Section 4 of this Article shall be filled by the
election of a Governor from the same district as that of the retiring
Governor. The office of a retiring Governor elected under subsection
(c) of Section 4 of this Article shall be filled by election by the
Board as provided in subsection (c) of Section 4 of this Article.] Any
vacancy in the office of a Governor, whether occurring by reason of
death, disability, disqualification, removal, or resignation, other
than a vacancy occurring by reason of an increase in the size of the
Board, shall be filled by majority vote of the remaining Governors then
in office and any person elected to fill such vacancy shall satisfy the
qualifications and criteria for the governorship being filled as
provided in Section 4 of this Article.
(b) [Notwithstanding subsection (a) of this Section 6, the Board
shall prescribe the succession of office in cases affected by a change
in the number of Governors constituting the Board, the composition of
the Board, the number or boundaries of districts, or the number of
Governors elected by a district.] Any vacancy in the office of a
Governor occurring by reason of an increase in the size of the Board
shall be filled by majority vote of the Board and any person elected to
fill such vacancy shall satisfy the criteria for such newly created
governorship as shall be established by resolution of the Board,
provided that the filing of any such vacancy shall not be inconsistent
with any other provision of these By-Laws.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the NASD included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item V below. The NASD has prepared summaries, set forth in Sections
(A), (B), and (C) below, of the most significant aspects of such
statements.
(A) Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
(a) Background
In 1995, the NASD Board of Governors (``Board'') appointed The
Select Committee on Structure and Governance (the ``Select Committee'')
to examine the corporate structure, governance, and functions of the
NASD and to recommend changes and improvements to enable the NASD to
meet its regulatory and business obligations. The Select Committee
reported to the Board of Governors at the September 1995 meeting and
recommended, among other things, the establishment of two distinct
subsidiaries; one to perform the regulatory functions of the NASD and
the other to run The Nasdaq Stock Market.SM The Select Committee
recommended that each subsidiary have an independent Board of Directors
and that the NASD remain as parent corporation overseeing the
operations of both subsidiaries.
The NASD is proposing to amend Article VII of the NASD By-Laws in
order to begin the restructuring necessary to implement the principles
articulated in the report of the Select Committee. The Board of
Governors of the NASD has adopted the Select Committee proposal that
the NASD create a new subsidiary responsible for regulation and the
provision of member and constituent services, with the NASD retaining
responsibility for general oversight of the effectiveness of the self-
regulatory and business operations of the NASD and its major
subsidiaries; The Nasdaq Stock Market, Inc. and NASD Regulation,
Inc.\3\ (``NASDR''), and final policy making authority for the
Association as a whole.\4\ The Board also adopted Select Committee
proposals to implement policies that will: ensure a balance of non-
industry and industry representation on Boards of Directors of The
Nasdaq Stock Market and NASDR; and reduce the size and structure the
Board of Governors of the NASD to have a majority of non-industry
members.
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\3\ A new subsidiary has been incorporated as ``NASD Regulation,
Inc.'' to carry out the NASD's obligations to regulate the broker/
dealer industry.
\4\ The Nasdaq Stock Market, Inc. is a wholly-owned subsidiary
of the NASD.
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In summary, the NASD is proposing to reorganize its Board of
Governors as a majority non-industry board comprising the CEO and
``Industry'' and ``Non-Industry'' Governors, and reduces the minimum
size of the Board from 25 to 5. The term ``Industry Governor'' means a
persons associated with an NASD member. The term ``Non-Industry
Governor'' means a person representing investors and issuers pursuant
to criteria that will be adopted by the NASD Board of Governors. The
implementation plan adopted by the NASD Board at its November 1995
meeting specified that beginning in the second quarter of 1996 the NASD
Board of Governors will be comprised of nine persons: the CEO, three
Industry, and five Non-Industry Governors.
Simultaneously with the submission of this rule change, the NASD is
also submitting a temporary rule change in SR-NASD-96-16 to propose a
Plan of Allocation and Delegation of Functions By NASD to Subsidiaries
that sets forth the purpose, functions, governance, procedures, and
responsibilities of the
[[Page 16946]]
NASD, the NASDR and Nasdaq following the reorganization of the NASD.\5\
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\5\ See, Securities Exchange Act Release No. 37107 (April 11,
1996).
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Description of Proposed Amendments
Article VII of the By-Laws
Section 4--Composition of the Board
The NASD is proposing to delete rule language relating to the
method by which representatives of the NASD's District Offices are
elected to the Board of Governors and to add new rule language that
would require that the Board of Governors be composed of at least five
members, with the exact number to be determined from time-to-time by
the Board of Governors. The proposed new provision would require that
the NASD Board of Governors include the Chief Executive Officer; one or
more Non-Industry Governors, representative of issuers and investors
and not associated with a member of the NASD; one or more Industry
Governors; and a majority of Non-Industry Governors. ``Industry
Governor'' means a person associated with an NASD member. The term
``Non-Industry Governor'' means a person that satisfies criteria that
will be adopted from time-to-time by the NASD Board of Governors.\6\ An
exception to the latter requirement is provided for situations where
there is a vacancy in the position of a Non-Industry Governor or a
person elected as a Non-Industry Governor becomes an Industry Governor
at a time when the person's remaining term of office is no more than
six months. The proposed new provision also provides that if a Non-
Industry Governor becomes an Industry Governor at a time when the
person's remaining term of office is more than six months, the person
will be removed from office unless the Board of Governors determines
otherwise.
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\6\ Non-Industry Governors will be ``representative of issuers
and investors and not associated with a member of the Corporation.''
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The NASD is also proposing to delete Subsection (c) to Section 4
which currently sets forth the requirements for the composition of the
Board of Governors, which the NASD is herein proposing be included in
the amendments.
Section 6--Succession to Office
The NASD is proposing to delete the current language of Subsection
(a) which provides that, in case of an in-term vacancy, a Governor
elected from a District will be replaced by a successor from that
District, as District representatives will not serve on the Board of
Governors of the NASD. Instead, District representatives will serve on
the Board of the NASD's regulatory subsidiary, NASDR. The NASD is
proposing to retitle this section ``Filling of Vacancies.'' The
proposed new rule language under Subsection (a) would require that all
vacancies on the NASD's Board of Governors that occur during a term of
office of a sitting Governor will be filled by a majority vote of the
remaining Governors. The provision further clarifies that any person so
elected shall be required to fulfill the criteria set forth in new
Section 4.
The NASD is also proposing to delete the current language of
Subsection (b) which authorizes the Board to prescribe the succession
of offices where there is a change in the number of Governors
comprising the Board, the number of boundaries of Districts, or the
number of Governors elected by each District. New rule language is
proposed that would provide that any vacancy in the office of Governor
that occurs by reason of an increase in the size of the Board shall be
filled by a majority vote of the Board and that any person so elected
is required to fulfill the criteria set forth in new Section 4.
(b) The NASD believes that the proposed rule change is consistent
with the provisions of Sections 15A(b) (2), (4), and (6) of the Act.\7\
in that the restructured organization will: (1) enhance the NASD's
ability to carry out its regulatory obligations under the Act and
enforce compliance by its members and persons associated with its
members with the Act, the rules and regulations thereunder, the rules
of the Municipal Securities Rulemaking Board, and the rules of the
NASD; (2) provide for the fair representation of members, issuers and
investors on the Board of Governors and in the administration of the
NASD's affairs; and (3) enhance the NASD's ability to protect investors
and the public interest in furtherance of the purposes of the Act.
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\7\ 15 U.S.C. Sec. 78o-3.
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(B) Self-Regulatory Organization's Statement on Burden on Competition
The NASD does not believe that the proposed rule change will result
in any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act, as amended.
(C) Self-Regulatory Organization's Statement on Comments on the
Proposed Rule Change Received from Members, Participants, or Others
Written comments were not solicited with respect to the proposed
rule change published for member vote in Notice to Members 95-101
(December 11, 1995) \8\ (attached as Exhibit 2 to the rule filing) or
the publication of an explanation of planned changes to the NASD's
disciplinary and enforcement procedures published for information in
Notice to Members 95-102 (December 11, 1995) (attached as Exhibit 3 to
the rule filing). Nonetheless, three comments were received with
respect to the proposed rule change published in Notice to Members 95-
101 and the concepts included in Notice to Members 95-102 that are
attached as Exhibit 4 hereto. Two comments were opposed to the proposed
rule change and one comment was in favor, with a request for
modification of the rule change.
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\8\ Notice to Members 95-101 also proposed to eliminate Article
V to the By-Laws and amend Section 7 to Article VII of the By-Laws
to establish a new procedure for nomination of the members of the
Board of Governors. These amendments are not being proposed at this
time. See also note 1, supra.
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One Commentor (No. 2) indicated that the member had voted ``yes''
with respect to the proposed rule change, but recommended that the
industry would be more effectively served by a structure that provides
for minority non-industry public representation on the Boards of the
NASD and the two operating subsidiaries. This Commentor also asked that
it receive information related to the budget for the reorganization and
the NASD's plan for funding the changes.
Another Commentor (No. 3) stated that the NASD was being turned
over to the SEC.
One Commentor (No. 1) was opposed to the proposed rule change and
stated in a cover letter that the NASD was relinquishing self-
regulation and peer review of disciplinary matters. The Commentor
stated that these are principles basic to why the NASD was formed and
why it has stayed in existence. In a separate letter, attached as an
exhibit to the cover letter, the Commentor states that there was
extensive consideration given to the formation of the NASD and that
there is no evidence that the organization was to be anything else but
self-regulatory. This Commentor states, ``* * * we are taking the
`self' out of regulatory and making it an `outside' regulatory
organization * * *.'' The Commentor objects to the inclusion on the
Board of the NASD of people with no knowledge of the securities
business and the elimination of District representation on the Board.
The Commentor does not believe that the peer review system for
disciplinary matters should be eliminated. The Commentor also argues
that in light of the dramatic changes
[[Page 16947]]
being proposed, there should be time and opportunity for public comment
and objects that there was less than a month over a holiday period to
complete the ballot associated with Notice to Members 95-101.
This Commentor urges that the proposed changes set forth in the two
notices will result in inefficiency and ineffectiveness. It is argued
that greater industry participation is needed on all levels and that
there should be greater shared responsibility with the SEC.
The Commentor states that the proposed changes are not adequately
supported by the report of the Select Committee, pointing out that the
200 interviews did not include industry persons in an industry with
over 500,000 individual registered persons and over 5,400 member firms
and that the report of the Select Committee states that the ``NASD has
done its job exceedingly well.'' The Commentor argues that the
significant changes proposed by the NASD should be accompanied by
greater industry consensus and states the Commentor's belief that the
proposal is intended only to ``appease'' the public perception.
In response to the foregoing comments, the NASD believes that the
NASD Select Committee on Structure and Governance did the most thorough
analysis of this organization in the history of the NASD. The Select
Committee concluded that the NASD has discharged its responsibilities
``professionally and reasonably'' but not ``with perfection or without
difficulty * * *''. In particular, the Select Committee determined that
the NASD's governance structure had failed to keep pace with the
significant growth and continuing evolution of the Nasdaq market, and
the concomitant expansion of the NASD's regulatory responsibilities.
The Select Committee concluded that the structure of the NASD would
benefit from increasing public representation on the NASD's governing
bodies. The Select Committee found, in this regard, that public
governors on the NASD's Board constitute 21% of the Board in comparison
to 50% public membership on the Boards of other self-regulatory
organizations. The Select Committee pointed out that majority public
representation was necessary to ensure adequate representation of the
public interest as the NASD carries out its quasi-governmental
functions; to maintain and enhance Nasdaq's competitive position; and
to preserve public confidence in the NASD's oversight of the broker/
dealer profession.
With respect to the Commentors' concerns regarding the potential
elimination of self-regulation, the Select Committee stated that they
believed that such greater public participation on the Boards of the
NASD and its subsidiaries would not detract from self-regulation. The
Select Committee believed that public confidence in the self-regulatory
process would be enhanced by giving non-members a more significant role
in the decision-making process and that the self-regulatory concept is
not sacrificed by increasing public representation on the NASD's
governing Boards. Finally, the Select Committee pointed that NASD
members would still be fairly represented in the Association's affairs
and have ample opportunity to bring their expertise and viewpoint to
bear.\9\
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\9\ See, Report of the NASD Select Committee on Structure and
Governance to the NASD Board of Governors (``Report''), at C-12, C-
13, C-21.
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With respect to the NASD's disciplinary process, which was focused
on by Commentor No. 3, the Select Committee indicated that the core of
the NASD's disciplinary process was sound, but emphasized that the
disciplinary process had become more contentious, complex and
consequential than the existing system was designed to accommodate. The
Select Committee pointed out that the issues that the NASD addresses
today increasingly turn on questions of law rather than industry
standards and practice. Further, the NASD is now more likely to impose
more severe penalties when infractions are found. These changes in the
disciplinary environment lead to the greater likelihood that
respondents in NASD disciplinary actions will more often retain counsel
and NASD hearings have increasingly resembled a courtroom, rather than
the traditional business forum for which the existing procedures were
designed. As a result, the Select Committee recommended that the NASD
adopt procedures and rules that would enhance the fairness and orderly
conduct of the more complex and contentious disciplinary proceedings
that now are prevalent.\10\
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\10\ Report, at C-17, C-21, C-22.
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The NASD believes that the proposed rule change to amend the NASD
By-Laws will begin the restructuring necessary to implement the
principles set forth in the report of the Select Committee and that
such changes will benefit the membership by enhancing public confidence
in the NASD's regulation of the securities industry.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
The NASD has requested that the Commission find good cause pursuant
to Section 19(b)(2) for approving the proposed rule change prior to the
30th day after publication in the Federal Register.
IV. Discussion
The Commission finds that the proposed rule change is consistent
with the requirements of the Act and the rules and regulations
thereunder applicable to the NASD and, in particular, the requirements
of Section 15A and the rules and regulations thereunder. The Commission
believes that the proposed rule change will allow the NASD to be able
to carry out the purposes of the Act and to comply with, and enforce
compliance by its members and associated persons, with the provisions
of the Act, the rules and regulations thereunder, and the rules of the
NASD. Furthermore, the amendments are designed (subject to further
changes consistent with the NASD's Plan of Allocation and Delegation of
Functions by NASD to Subsidiaries to be submitted to the NASD
membership) to assure a fair representation of the NASD's members, in
the selection of its directors and administration of its affairs as
well as comply with the public and non-industry participant
requirements of the Act. It is envisioned that these temporary rules
and subsequent changes that may be implemented from time-to-time will
enable the NASD to better comply with the requirements of Section
15A(b)(6) in particular and the Act in general.
The Commission finds good cause for temporarily approving the
proposed rule change prior to the 30th day after the date of
publication of notice of filing thereof in that the proposed rule
change is intended to enhance the NASD's ability to carry out its
regulatory obligations under the Act by restructuring the NASD's Board
of Governors in conformance with the recommendations of The Select
Committee on Structure and Governance in order to enable the NASD to
meet its regulatory and business obligations. The proposed changes to
the structure of the Board would also be in conformance the Plan of
Allocation and Delegation of Functions By NASD to Subsidiaries,
submitted in a separate rule filing to the SEC, that set forth the
purpose, functions, governance, procedures, and responsibilities of the
NASD, the
[[Page 16948]]
NASDR and Nasdaq following the reorganization of the NASD. Because the
NASD's Board of Governors has been reorganized to be consistent with
the proposed rule change and is to hold its first meeting on April 11,
1996, accelerating approval of the proposed rule change on a temporary
basis will benefit members and the public interest by permitting the
NASD Board of Governors to conduct business at its first meeting.
V. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549.
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for inspection and copying in the
Commission's Public Reference Room. Copies of such filing will also be
available for inspection and copying at the principal office of the
NASD. All submissions should refer to the file number in the caption
above and should be submitted by May 9, 1996.
It is Therefore Ordered, pursuant to Section 19(b)(2) of the Act,
that the proposed rule change be, and hereby is, approved and effective
through July 10, 1996.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority. \11\
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\11\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 96-9511 Filed 4-17-96; 8:45 am]
BILLING CODE 8010-01-M
