[Federal Register Volume 60, Number 109 (Wednesday, June 7, 1995)]
[Notices]
[Pages 30133-30134]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 95-13897]



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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-35788; File No. SR-NASD-95-21]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by National Association of Securities Dealers, Inc. Relating to 
Freely Tradeable Direct Participation Program Securities

May 31, 1995.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''), 15 U.S.C. Sec. 78s(b)(1), notice is hereby given that on May 
23, 1995, the National Association of Securities Dealers, Inc. 
(``NASD'' or ``Association'') filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') the proposed rule change as 
described in Items I, II, and III below, which Items have been prepared 
by the NASD.\1\ The Commission is publishing this notice to solicit 
comments on the proposed rule change from interested persons.

    \1\The proposal was originally filed with the Commission on May 
10, 1995. The NASD subsequently submitted Amendment No. 1 to the 
filing which amends Subsections (b)(3)(C) (i) and (ii) to Article 
III, Section 34 of the Rules of Fair Practice, by replacing the 
phrase ``the NASDAQ System'' in Subsections (i) and (ii) and the 
word ``NASDAQ'' in Subsection (ii) with the word ``Nasdaq.'' Letter 
from Suzanne E. Rothwell, Associate General Counsel, NASD, to Mark 
P. Barracca, Branch Chief, Over-the-Counter Regulation, Division of 
Market Regulation, SEC, dated May 22, 1995.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The NASD is herewith filing a proposed rule change to Article III, 
Section 34 of the Rules of Fair Practice. Below is the text of the 
proposed rule change. Proposed new language is italicized; proposed 
deletions are in brackets.

Direct Participation Programs

Sec. 34.

* * * * *
Suitability
    (3)(A) A member or person associated with a member shall not 
underwrite or participate in a public offering of a direct 
participation program unless standards of suitability have been 
established by the program for participants therein and such standards 
are fully disclosed in the prospectus and are consistent with the 
provisions of subparagraph (B) of this section.
    (B) In recommending to a participant the purchase, sale or exchange 
of an interest in a direct participation program, a member or person 
associated with a member shall:
    (i) have reasonable grounds to believe, on the basis of information 
obtained from the participant concerning his investment objectives, 
other investments, financial situation and needs, and any other 
information known by the member or associated person, that:
    a. the participant is or will be in a financial position 
appropriate to enable him to realize to a significant extent the 
benefits described in the prospectus, including the tax benefits where 
they are a significant aspect of the program;
    b. the participant has a fair market net worth sufficient to 
sustain the risks inherent in the program, including loss of investment 
and lack of liquidity; and
    c. the program is otherwise suitable for the participant; and
    (ii) maintain in the files of the member documents disclosing the 
basis upon which the determination of suitability was reached as to 
each participant.
    (C)[D] Notwithstanding the provisions of subparagraphs (A) and (B) 
hereof, no member shall execute any transaction in a direct 
participation program in a discretionary account without prior written 
approval of the transaction by the customer.
    (D)[C] Subparagraphs 3(A) and 3(B), and, only in situations where 
the member is not affiliated with the direct participation program, 
Subparagraph 3(C), shall not apply to:
    (i) a secondary public offering of or a secondary market 
transaction in a unit, depositary receipt, or other interest in a 
direct participation program for which quotations are displayed on 
Nasdaq or which is listed on a registered national securities exchange, 
or
    (ii) an initial public offering of a unit, depositary receipt or 
other interest in a direct participation program for which an 
application for inclusion on Nasdaq or listing on a registered national 
securities exchange has been approved by Nasdaq or such exchange and 
the applicant makes a good-faith representation that it believes such 
inclusion on Nasdaq or listing on an exchange will occur within a 
reasonable period of time following the formation of the program.
* * * * *

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 IV 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

    Article III, Section 34 of the Rules of Fair Practice regulates 
participation by members and persons associated with a member in direct 
participation programs and limited partnership rollup transactions 
(``DPP rule''). The DPP rule generally prohibits a member or a person 
associated with a member from participating in a public distribution of 
a direct participation program or a limited partnership rollup 
transaction unless the distribution or transaction conforms to certain 
suitability and disclosure requirements and standards of fairness and 
reasonableness.
    Since the adoption of the DPP rule in 1982,\2\ an increasing number 
of direct participation programs, such as master limited partnerships, 
have issued partnership units, depositary receipts for such units, or 
assignee units of limited partnership units that are freely tradeable 
in a manner generally analogous to common stock and are quoted on 
Nasdaq and listed on registered national stock exchanges. A direct 
participation program security is considered freely-tradeable under 
Section 34 if it is either (1) a secondary public offering of or a 
secondary market transaction in a direct participation program security 
for which quotations are displayed on Nasdaq or which is listed on a 
registered national securities exchange, or (2) a primary offering of a 
direct participation program for which [[Page 30134]] an application 
for inclusion on Nasdaq or listing on a registered national securities 
exchange has been approved.

    \2\The DPP rule was initially approved by the Commission as 
Appendix F to Article III, Section 34 on September 16, 1982 
(Securities Exchange Act Release No. 19054); 47 FR 42226 (September 
24, 1982).
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    In order to address the increased transparency and liquidity 
associated with the nature of the secondary markets for freely 
tradeable direct participation program securities, the NASD amended the 
DPP rule to, among other things, exempt freely tradeable direct 
participation program securities from the suitability requirements of 
Subsections 34(b)(3) (A) and (B) of the DPP rule.\3\ At the time, the 
NASD determined that since the disclosure requirements in the DPP rule 
were primarily designed for direct participation program securities 
that lacked liquidity and marketability, no purpose was served by 
applying the same criteria to freely tradeable direct participation 
program securities.

    \3\See, Securities Exchange Act Release No. 23619 (September 15, 
1986); 51 FR 33968 (September 24, 1986).
    Freely tradeable direct participation program securities, however, 
continue to be subject to the discretionary account prohibitions of 
Article III, Section 34. Currently, Subsection 34(b)(3)(D) of the DPP 
rule states, in part, that ``* * * no member shall execute any 
transaction in a direct participation program in a discretionary 
account without prior written approval of the transaction by the 
customer.'' The provision applies to transactions in all direct 
participation program securities, whether freely tradeable or not. The 
NASD considers discretionary transactions in direct participation 
program securities which are illiquid and for which no ready market 
exists to be an improper use of discretionary power. Recently, the NASD 
considered whether Monthly Income Preferred Securities (``MIPS''), a 
new financial instrument which is a freely tradeable direct 
participation program security, ought to be subject to the 
discretionary account restrictions in Article III, Section 34.\4\ In 
its consideration, the NASD determined that the concerns which attach 
to the use of discretionary authority for illiquid, unmarketable direct 
participation program securities are not present with freely tradeable 
direct participation program securities. Therefore, the NASD is 
proposing reversing the order of current Subsections (b)(3)(C) and (D) 
to Section 34 and to add a reference to Subparagraph 3(C) in new 
Subparagraph 3(D) to exclude freely-tradeable direct participation 
program securities from the prohibition on transactions in 
discretionary accounts without written approval. The exclusion for 
freely tradeable direct participation program securities in newly 
designated Subparagraph (3)(D) also restricts the availability of the 
exclusion to members that are not affiliated with the direct 
participation program. Where such an affiliation is present, the NASD 
believes that substantial conflict of interest and regulatory concerns 
continue to exist and the exclusion should not be made available.

    \4\MIPS are preferred securities issued by a parent company's 
subsidiary, which is structured as a limited partnership or limited 
liability company. The subsidiary issues MIPS to investors and 
invests the proceeds in convertible subordinated debentures of the 
parent. Interest on the debentures of the parent are paid to the 
subsidiary, which in turn pays the equivalent rate of interest to 
MIPS holders in the form of dividends. MIPS are eligible to be 
listed on a national securities exchange or The Nasdaq Stock Market 
and have flow-through tax consequences for investors, which means 
that they are considered direct participation programs and, 
therefore, subject to Section 34.
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    The NASD believes that recognizing the use of discretionary 
authority for transactions in freely tradeable direct participation 
program securities is consistent with 1986 amendments to Section 34 
exempting freely tradeable participation program securities from the 
suitability and disclosure requirements of Section 34. Such suitability 
and disclosure requirements, which are necessary where direct 
participation program securities lack liquidity and marketability, were 
found to be unnecessary where a ready, liquid market exists.
    Nothwithstanding the relief provided by the proposed rule from the 
prohibition in Article III, Section 34 against discretionary 
transactions in freely tradeable direct participation program 
securities, such transactions would, however, remain subject to the 
general discretionary account requirements contained in Article III, 
Section 15 of the Rules of Fair Practice.
    The NASD believes that the proposed rule change is consistent with 
the provisions of Section 15A(b)(6) of the Act,\5\ which require that 
the rules of the Association be designed to prevent fraudulent and 
manipulative acts and promote just and equitable principles of trade, 
in that the proposed rule change relieves members of their obligation 
to comply with prohibitions against discretionary transactions in 
direct participation program securities in situations which do not 
present the regulatory concerns that the prohibitions were intended to 
address, and provides for regulatory consistency in the treatment of 
discretionary transactions in freely tradeable securities.

    \5\15 U.S.C. 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 neither solicited nor received.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    A. By order approve such proposed rule change, or
    B. institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. 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, N.W., Washington, D.C. 20549. 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the proposed rule change that are filed with 
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 File No. SR-NASD-95-21 and should 
be submitted by June 28, 1995.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority, 17 CFR 200.30-3(a)(12).
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 95-13897 Filed 6-6-95; 8:45 am]
BILLING CODE 8010-01-M