[Federal Register Volume 61, Number 139 (Thursday, July 18, 1996)] [Notices] [Pages 37513-37515] From the Federal Register Online via the Government Publishing Office [www.gpo.gov] [FR Doc No: 96-18172] ----------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION [Release No. 34-37421; File No. SR-CBOE-96-02] Self-Regulatory Organizations; Order Granting Approval to Proposed Rule Change by the Chicago Board Options Exchange, Inc., Relating to the Liability of the Exchange and its Directors, Officers, Employees, and Agents, Precluding Certain Types of Legal Actions by Members Against Such Persons, and Requiring Members to Pay the Exchange's Costs of Litigation Under Specified Circumstances July 11, 1996. I. Introduction On January 18, 1996, the Chicago Board Options Exchange, Inc. (``CBOE'' or ``Exchange'') submitted to the Securities and Exchange Commission (``Commission''), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a proposed rule change to amend various Exchange rules pertaining to the liability of the Exchange, to adopt new Rule 6.7A prohibiting a member from instituting certain types of legal proceedings against Exchange officials, and to adopt new Rule 2.24 requiring a member to pay the Exchange's costs of litigation under specified circumstances. --------------------------------------------------------------------------- \1\ 15 U.S.C. 78s(b)(1) (1988). \2\ 17 CFR 240.19b-4. --------------------------------------------------------------------------- Notice of the proposed rule change appeared in the Federal Register on February 27, 1996.\3\ No comments were received on the proposed rule change.\4\ This order approves the CBOE's proposal. --------------------------------------------------------------------------- \3\ See Securities Exchange Act Release No. 36863 (February 20, 1996), 61 FR 7285 (February 27, 1996). \4\ The CBOE submitted a letter regarding the enforceability of the proposed rules under state law. See letter from Michael L. Meyer, Schiff Hardin & Waite, to Matthew Morris, Division of Market Regulation, Commission, dated June 27, 1996. --------------------------------------------------------------------------- II Background and Description A. Exchange Liability The principal rule concerning Exchange liability is Rule 6.7(a), which currently provides that the Exchange shall not be liable to members, member organizations, or to associated persons for loss, damages, or claims arising out of the use or enjoyment of the facilities afforded by the Exchange, whether the loss, damages, or claims resulted from negligence or other unintentional errors or omissions, or from a cause not within the control of the Exchange. The proposed amendment to Rule 6.7(a) clarifies that, except as otherwise specifically provided in the rules of the Exchange, neither the Exchange nor its [[Page 37514]] directors, officers, committee members, employees, or agents shall be liable to members or their associated persons except where the Exchange's liability is attributable to willful misconduct, gross negligence, bad faith, fraud, or criminal acts. The proposed amendment to Rule 6.7 also incorporates, without material change, certain provisions which are currently set forth in Rules 23.14 and 24.12 to the effect that the Exchange is not liable for errors, omissions, or delays in collecting or disseminating various kinds of data, and the Exchange does not warrant such data. According to the Exchange, the purpose of moving these limitations of liability and disclaimers of warranty in Rule 6.7 is to place related subjects in a single rule. In addition, the CBOE proposes to make non-substantive amendments to Rules 7.11, 23.14, and 30.75, and to delete Rule 24.12 in order to eliminate provisions that duplicate what is set forth in Rule 6.7, as well as to clarify and conform the language of all of the rules pertaining to the liability of the Exchange. The CBOE also proposes certain changes to Interpretation and Policy .03 to Rule 6.7, which currently limits the Exchange's liability with respect to orders routed through the Exchange's Order Routing System (``ORS'') once the orders are printed at printers located on the Exchange floor. These changes clarify the description of the printers to which orders may be routed, and limits the liability of the Exchange once an order routed through ORS appears on a public automated routing (``PAR'') system terminal screen. B. Legal Proceeding Against Exchange Directors, Officers, Employees, or Agents The proposed amendment adds new Rule 6.7A, which prohibits a member or associated person from instituting a lawsuit or any other legal proceeding against any director, officer, employee, agent, or other official of the Exchange or any subsidiary, for actions taken or omitted to be taken in connection with the official business of the Exchange or any subsidiary. Rule 6.7A, however, does not apply to violations of the federal securities laws where a private right of action exists, to appeals of disciplinary actions, or to other actions by the Exchange as provided for in the rules of the Exchange. According to the Exchange, the purpose of disallowing lawsuits or other legal proceedings against Exchange officials or agents when they are acting on Exchange business is to eliminate the potential exposure to personal liability of such persons, which impairs their ability to perform their duties. C. Exchange's Cost of Defending Legal Proceedings The proposed amendment adds new Rule 2.24, which requires a member or associated person who fails to prevail in a lawsuit or other legal proceeding instituted by that person against the Exchange or other specified persons, and related to the business of the Exchange, to pay all reasonable expenses, including attorneys' fees, incurred by the CBOE in its defense during such proceeding. This provision is applied only in the event that the Exchange's expenses exceed $50,000. According to the Exchange, this rule is intended to discourage unfounded, vexatious litigation against the CBOE where the Exchange's costs of defense are significant, without having any undue chilling effect on legitimate claims or members. The proposed rule would apply to all types of legal proceedings that might be instituted by members against the Exchange or any of its directors, officers, committee members, employees, or agents, except that it expressly would not apply to disciplinary actions by the Exchange or to appeals therefrom, to other administrative appeals of Exchange actions, or to any specific instance where the Board has granted a waiver of this provision. III. 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 a national securities exchange, and, in particular, with the requirements of Section 6(b)(5).\5\ Specifically, the Commission believes that by limiting the liability of the Exchange and its directors, officers, employees, and agents, by precluding certain types of legal actions by members against such persons individually, and by discouraging frivolous lawsuits against the Exchange, the costs of the Exchange in responding to claims and lawsuits will be reduced, thereby permitting the resources of the Exchange to be better utilized for promoting just and equitable principles of trade and for protecting investors and the public interest. --------------------------------------------------------------------------- \5\ 15 U.S.C. Sec. 78f(b)(5) (1988). --------------------------------------------------------------------------- A. Exchange Liability The Commission believes the rule change limiting the liability of the Exchange and its directors, officers, committee members, employees, and agents, to situations attributable to willful misconduct, gross negligence, bad faith, fraud, criminal acts, or actions otherwise specifically prohibited in the rules of the Exchange, will adequately preserve members' right to pursue actions in circumstances where the Exchange and its officials should be held accountable, or where there has been a violation of the federal securities laws. In addition, the Commission believes that the CBOE's proposal to: (i) Incorporate Rules 23.14 and 24.12 into Rule 6.7; (ii) make non- substantive amendments to Rules 7.11, 23.14, and 30.75; (iii) delete Rule 24.12; and (iv) update Interpretation and Policy .03 to Rule 6.7, will clarify the application of the principal rules governing Exchange liability. B. Legal Proceedings Against Exchange Directors, Officers, Employees, or Agents The Commission believes that the rule change prohibiting members from instituting certain types of legal proceedings against Exchange officials should be approved. Specifically, the rule change prohibits members and associated persons from instituting lawsuits or any other legal proceeding against any director, officer, employee, agent, or other official of the Exchange or any subsidiary of the Exchange, for actions taken or omitted to be taken by these parties in connection with official business of the Exchange or any subsidiary. New Rule 6.7A, however, does not impair a members' ability to initiate legal action based upon violations of the federal securities laws for which a private right of action exists, appeals of disciplinary actions, or other actions by the CBOE as provided for in the Exchange's rules. The Commission believes that new Rule 6.7A is consistent with the Act because it will help to ensure that the covered persons will be able to carry out their duties under the Act, and to enforce compliance with the Act and the rules thereunder, as well as the rules of the Exchange, without the threat of personal liability. C. Exchange's Cost of Defending Legal Proceedings The Commission believes that the rule change requiring members or associated persons who fail to prevail in a lawsuit or other legal proceeding instituted by that person against the Exchange or other specified persons, and related to the business of the Exchange, to pay all reasonable expenses, including attorneys' fees, incurred by the CBOE in its defense during such proceedings if [[Page 37515]] such expenses exceed $50,000, is consistent with Section 6(b)(4) of the Act.\6\ Section 6(b)(4) requires that the rules of the exchange provide for the equitable allocation of reasonable dues, fees, and other charges among its members. --------------------------------------------------------------------------- \6\ 15 U.S.C. Sec. 78f(b)(4) (1988). --------------------------------------------------------------------------- The Commission believes that because the funds to pay the legal expenses incurred by the Exchange in defending legal suits are generated, in part, by membership fees, the rule change reflects a reasonable business decision by the membership to shift the financial burden of litigation to the responsible member under certain circumstances. Moreover, as the Exchange's legal expenses must be reasonable and must accrue to at least $50,000 before a member would be obligated to compensate the Exchange, the Commission believes that the rule change should not provide an undue disincentive to litigation, in so far as it will permit the discovery needed to assess the merits of the members' cases. The Commission also notes that new Rule 2.24 specifically excludes disciplinary actions brought by the Exchange, other administrative appeals of Exchange actions, as well as any other specific instance where the Board grants a waiver of this rule. The Commission believes that this provision will ensure that members will be able to freely pursue their right to appeal any action brought by the Exchange for violations of its rules.\7\ --------------------------------------------------------------------------- \7\ The Commission notes that if the minimum amount in the fee provision were substantially lower it might have a more difficult time concluding that the provision was consistent with Section 6(b)(4). This is because such a lower threshold amount could be found to represent an inequitable allocation of fees to the disadvantage of certain members. --------------------------------------------------------------------------- IV. Conclusion For the foregoing reasons, the Commission finds that the CBOE's proposal to limit the liability of the Exchange and its directors, officers, employees, and agents, to preclude certain types of legal actions by members against such persons individually, and to require members to pay the Exchange's costs of litigation under specified circumstances is consistent with the requirements of the Act and the rules and regulations thereunder. It Is Therefore Ordered, pursuant to Section 19(b)(2) of the Act,\8\ that the proposed rule change (SR-CBOE-96-02) is approved. \8\ 15 U.S.C. 78s(b)(2) (1988). --------------------------------------------------------------------------- For the Commission, by the Division of Market Regulation, pursuant to delegated authority.\9\ --------------------------------------------------------------------------- \9\ 17 CFR 200.30-3(a)(12). --------------------------------------------------------------------------- Margaret H. McFarland, Deputy Secretary. [FR Doc. 96-18172 Filed 7-17-96; 8:45 am] BILLING CODE 8010-01-M