[Federal Register Volume 62, Number 249 (Tuesday, December 30, 1997)]
[Proposed Rules]
[Pages 68018-68024]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-33402]


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SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 240

[Release No. 34-39457; File No. S7-33-97]
RIN 3235-AH28


Capital Requirements for Brokers or Dealers Under the Securities 
Exchange Act of 1934

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rule.

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SUMMARY: The Securities and Exchange Commission (``Commission'') is 
proposing for comment amendments to Rule 15c3-1 under the Securities 
Exchange Act of 1934. The proposed amendments would define the term 
``nationally recognized statistical rating organization'' (``NRSRO''). 
The proposed definition sets forth a list of attributes to be 
considered by the Commission in designating rating organizations as 
NRSROs and the process for applying for NRSRO designation.

DATES: Comments must be received on or before March 2, 1998.

ADDRESSES: Persons wishing to submit written comments should file three 
copies with Jonathan G. Katz, Secretary, Securities and Exchange 
Commission, 450 Fifth Street, N.W., Stop 6-9, Washington, D.C. 20549. 
Comments also may be submitted electronically at the following E-mail 
address: [email protected]. All comment letters should refer to 
File No. S7-33-97. This file number should be included on the subject 
line if E-mail is used. All comments 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: Michael A. Macchiaroli, Associate 
Director, 202/942-0131, Peter R. Geraghty, Assistant Director, 202/942-
0177, Louis A. Randazzo, Special Counsel, 202/942-0191, or Michael E. 
Greene, Staff Attorney, 202/942-4169, Division of Market Regulation, 
Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, 
D.C. 20549.

SUPPLEMENTARY INFORMATION:

I. Introduction

A. The Commission's Concept Release

    In August 1994, the Commission issued a concept release soliciting 
public comment on the Commission's role in using the ratings of 
NRSROs.1 In the Concept Release, the Commission specifically 
solicited comments on: (1) Whether it should continue to use the NRSRO 
concept, and, if so, whether it should define the term ``NRSRO''; and 
(2) whether the current no-action letter process for designating a 
rating organization an NRSRO is satisfactory, and, if not, whether the 
Commission should establish an alternative procedure. The Commission is 
now

[[Page 68019]]

proposing to amend the net capital rule to provide a definition of the 
term ``NRSRO'' that sets forth the criteria that a rating organization 
must satisfy to be an NRSRO.
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    \1\ Securities Exchange Act Release No. 34616 (August 31 1994), 
59 FR 46314 (September 7, 1994) (``Concept Release'').
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B. Summary of the Comments

    The Commission received 25 comment letters in response to the 
Concept Release. The comments generally supported the continued use of 
the NRSRO concept, but recommended that the Commission adopt a 
formalized process for designating NRSROs. A few commenters set forth 
criteria that the Commission should consider to determine whether a 
rating organization is an NRSRO. In addition, commenters generally 
opposed formal regulatory oversight of NRSROs. These issues are 
discussed in greater detail in Sections III and IV below.

C. The Development and Expanded Use of the NRSRO Concept

    The term ``NRSRO'' was initially adopted by the Commission in 1975 
for the narrow purpose of distinguishing different grades of debt 
securities under the Commission's net capital rule, Rule 15c3-
1.2 Rule 15c3-1 requires a broker-dealer to reduce the value 
of the securities positions that it owns by specified percentages 
(``haircuts'') when calculating its net capital. Broker-dealers that 
own commercial paper, nonconvertible debt securities, and 
nonconvertible preferred stock are allowed to reduce their haircuts for 
these instruments when calculating net capital if the instruments are 
rated investment grade by at least two NRSROs.3
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    \2\ 17 CFR 240.15c3-1.
    \3\ See 17 CFR 240.15c3-1(c)(2)(vi)(E) (haircuts applicable to 
commercial paper that has been rated in one of the three highest 
categories by at least two NRSROs); 17 CFR 240.15c3-1(c)(2)(vi)(F) 
(haircuts applicable to nonconvertible debt securities that are 
rated in one of the four highest rating categories by at least two 
NRSROs); 17 CFR 240.15c3-1(c)(2)(vi)(H) (haircuts applicable to 
cumulative, nonconvertible preferred stock rated in one of the four 
highest rating categories by at least two NRSROs).
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    Since its adoption in 1975, the NRSRO concept has expanded beyond 
its originally intended use under the net capital rule. For example, 
Congress, in certain mortgage related legislation,4 and the 
Commission, in its regulations pursuant to the Securities Act of 
1933,5 the Securities Exchange Act of 1934 (``Exchange 
Act''),6 and the Investment Company Act of 1940,7 
use the ratings of NRSROs as proxies to distinguish ``investment 
grade'' from ``non-investment grade'' debt securities. These references 
are to an NRSRO as that term is used in Rule 15c3-1; however, the term 
``NRSRO'' has not been defined for purposes of the federal securities 
laws.
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    \4\ Pub. L. 98-440, Section 101, 98 Stat. 1689 (1984). See 15 
U.S.C. 78c(a)(41).
    \5\ See, e.g., Regulation S-K (17 CFR 229.10) (a registrant may 
include NRSRO ratings in its registration statements and periodic 
reports); Rule 436 (17 CFR 230.436) (rating assigned to a security 
by an NRSRO shall not be considered part of the registration 
statement prepared or certified by a person within the meaning of 
sections 7 and 11 of the Securities Act of 1933); Form S-3 (17 CFR 
239.13) (Form S-3 may be used in primary offerings of non-
convertible securities and asset-backed securities which are rated 
investment grade by at least one NRSRO); Forms F-2 and F-3 (17 CFR 
239.32, 239.33) (non-convertible securities for purposes of Forms F-
2 and F-3 are investment grade securities if, at the time of sale, 
at least one NRSRO has rated the security in one of its generic 
rating categories that signifies investment grade).
    \6\ See, e.g., Rule 101 (17 CFR 242.101) and Rule 102 (17 CFR 
242.102) (non-convertible debt securities, nonconvertible preferred 
securities and asset-backed securities which are rated investment 
grade by at least one NRSRO are exempt from the provisions of Rule 
101 and Rule 102). See also Form 17-H (17 CFR 249.328T) (for each 
Material Associated Person of a broker-dealer, the broker-dealer 
must include the name of the NRSRO which has rated a Material 
Associated Person's commercial paper).
    \7\ See, e.g., Rule 2a-7(a)(9) (17 CFR 270.2a-7(a)(9)) (an 
``eligible security'' is, among other things, a security that has 
received a short-term rating by the requisite NRSROs in one of the 
two highest short-term rating categories); Rule 10f-3 (17 CFR 
270.10f-3) (municipal securities rated investment grade by at least 
one NRSRO are exempt from section 10-f of the Investment Company Act 
of 1940, which prohibits registered investment companies from 
purchasing certain securities); and Rule 3a-7 (17 CFR 270.3a-7) 
(issuers of asset-backed securities may not be deemed investment 
companies for purposes of the Investment Company Act of 1940 if, 
among other things, fixed-income securities sold by the issuer are 
rated in one of the four highest categories by at least one NRSRO).
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D. Current Process for Determining Whether an Entity is an NRSRO

    Currently, to determine whether a rating organization is an NRSRO, 
the Division of Market Regulation (``Division'') staff first reviews 
the rating organization's operations, position in the marketplace, and 
other criteria. If the Division staff determines that a rating 
organization may properly be labelled an NRSRO, the staff issues a 
letter stating that it will not recommend enforcement action to the 
Commission if the rating organization is considered by registered 
broker-dealers to be an NRSRO for purposes of applying the relevant 
portions of the net capital rule.
    In determining whether a rating organization may be considered an 
NRSRO for purposes of the Commission's rules, the staff considers a 
number of criteria. The single most important criterion is that the 
rating organization is nationally recognized, which means the rating 
organization is recognized in the United States as an issuer of 
credible and reliable ratings by the predominant users of securities 
ratings. The Division also examines the operational capability and 
reliability of each rating organization in conjunction with this 
standard of national recognition. Included within this assessment are: 
(1) The organizational structure of the rating organization; (2) the 
rating organization's financial resources (to determine, among other 
things, whether it is able to operate independently of economic 
pressures or control from the companies it rates); (3) the size and 
quality of the rating organization's staff (to determine if the entity 
is capable of thoroughly and competently evaluating an issuer's 
credit); (4) the rating organization's independence from the companies 
it rates; (5) the rating organization's rating procedures (to determine 
whether it has systematic procedures designed to produce credible and 
accurate ratings); and (6) whether the rating organization has internal 
procedures to prevent the misuse of non-public information and whether 
those procedures are followed.
    The Division's no-action position regarding NRSRO designation is 
based on representations made to the staff by the rating organization 
during the no-action process. The no-action letter directs the rating 
organization to advise the Division of any material change in the facts 
that serve as the basis for granting the no-action position. For 
example, material changes in an NRSRO's organizational structure or 
modifications of its rating practices could affect the NRSRO's standing 
as a credible evaluator in the credit market. The Division may withdraw 
a no-action letter designating a particular rating organization as an 
NRSRO under certain circumstances.
    To date, the Commission regards five rating organizations as NRSROs 
for purposes of the net capital rule: (1) Standard & Poor's Corporation 
(``Standard & Poor's''); (2) Moody's Investors Service, Inc. 
(``Moody's''); (3) Fitch IBCA, Inc. (``Fitch IBCA''); 8 (4)

[[Page 68020]]

Duff & Phelps Credit Rating Co. (``Duff & Phelps'');9 and 
(5) Thomson BankWatch, Inc. (``Bankwatch'').10
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    \8\ When the net capital rule became effective in 1975, Fitch 
Investors Service, L.P. (``Fitch''), Standard & Poor's and Moody's 
were designated as NRSROs by the Division for purposes of the net 
capital rule. Subsequently, based on requests from rating 
organizations, the Division provided no-action assurances to Duff & 
Phelps, BankWatch, IBCA Limited and IBCA Inc. (IBCA Limited and IBCA 
Inc. are collectively referred to as ``IBCA''). IBCA was designated 
as an NRSRO for limited purposes. In November 1997, Fitch and IBCA 
combined to create Fitch IBCA, a successor rating organization. By 
letter dated November 4, 1997, the Division stated that it would not 
recommend enforcement action to the Commission if Fitch IBCA 
succeeded to the NRSRO designation of Fitch for the purposes of 
applying paragraphs (c)(2)(vi) (E), (F), and (H) of the net capital 
rule to all debt. Subsequent to the transfer of the ownership of 
IBCA to Fitch IBCA, IBCA was no longer considered to be an NRSRO. 
See Letter regarding Fitch IBCA Inc. (November 4, 1997).
    \9\ See Letter regarding Duff & Phelps, Inc. (February 24, 
1982).
    \10\ See Letter regarding Thomson BankWatch, Inc. (August 6, 
1991). BankWatch is recognized as an NRSRO only for the purposes of 
rating debt issued by banks, bank holding companies, non-bank banks, 
thrifts, broker-dealers, and broker-dealers' parent companies.
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II. The NRSRO Concept Release

    The Concept Release requested comment on whether the Commission 
should continue to employ an NRSRO concept to distinguish various types 
of debt and other securities for purposes of its rules. Thirteen 
commenters discussed the NRSRO concept. Overall, the commenters 
generally supported the continued use of the NRSRO concept in the net 
capital and other Commission rules. For example, the Securities 
Industry Association Capital Committee (``SIA'') believes that the 
continued use of the NRSRO concept is an integral part of the net 
capital rule. Additionally, the SIA commented that the use of NRSRO 
ratings is a vital ingredient of the Commission's efforts to safeguard 
the capital markets against risks arising from fluctuations in the 
proprietary positions of securities firms.
    Some commenters suggested that the Commission discontinue the use 
of the NRSRO concept and instead employ statistical models or 
historical spreads to determine the level of risk associated with a 
particular instrument. As the SIA commented, however, continued use of 
the NRSRO concept in the net capital rule would give broker-dealers an 
objective, simple standard for determining the capital value of a debt 
instrument under the rule. In contrast, a modelling approach involves a 
possibly intricate statistical configuration. It is also likely that 
modelling will work only where there is a deep and liquid market for 
the instrument because of the difficulty in obtaining prices. It would 
not be adequate for debt issuers with no previously issued or very old 
public debt. In order to assist the Commission in determining whether 
statistical modelling may be appropriate in the future for purposes of 
the NRSRO concept, the Commission invites comments on practical 
approaches to the use of statistical models in the context of 
determining the credit risk of individual financial instruments.

III. Description of the Proposed Amendments

    As discussed in more detail below, the proposal would amend Rule 
15c3-1 by adopting a new subparagraph (c)(13), which would define the 
term ``NRSRO.'' As proposed, the definition of NRSRO will include 
rating organizations designated as NRSROs by the Commission. 
Designation of such rating organizations as NRSROs would be based upon 
written application filed with the Director of the Commission's 
Division of Market Regulation in Washington, D.C.11 The 
Commission would consider the attributes currently assessed by the 
Division in the no-action letter process in determining whether a 
rating organization is an NRSRO.
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    \11\ The Commission understands that a rating organization's 
application may contain commercial or financial information that is 
confidential. It is the responsibility of the rating organization to 
request confidentiality under the appropriate Commission rules. See 
17 CFR 200.83. The Commission believes, however, that the cover 
letter from the rating organization requesting NRSRO designation and 
any response by the Commission would be publicly available.
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IV. Discussion of the Proposed Amendments

A. Proposed Definition of NRSRO in the Net Capital Rule

    Having considered the comments received, the Commission proposes to 
define NRSRO in the net capital rule to include a list of attributes 
that will be considered by the Commission in designating rating 
organizations as NRSROs. These attributes are described in more detail 
below. Under the proposal, rating organizations that have received no-
action assurances from the Division will retain whatever NRSRO 
designation status that they currently possess and will not be required 
to reapply for NRSRO designation; however, the Commission will conduct 
reviews of the current NRSROs to assure that they meet the requirements 
in the proposed definition. In the event the Commission determines that 
any such rating organization does not satisfy the requirements set 
forth in the proposed rule, the Commission will act to revoke the NRSRO 
designation.
    The Commission believes that defining the term ``NRSRO'' in the net 
capital rule should provide clarity and limit concerns regarding any 
perceived arbitrariness in the current process of designating NRSRO 
status.

B. Criteria in the Definition of NRSRO

    Commenters generally recommended that the Commission adopt 
procedures for designating NRSRO status that clearly identify the 
criteria a rating organization must possess. Specifically, commenters 
recommended that the Commission formalize the current no-action letter 
criteria for designating NRSROs in a Commission rule. For example, 
various rating organizations recommended including the requirement of 
national recognition and market acceptance of the organizations' 
ratings.
    Consistent with the comment letters received, an NRSRO would 
include any rating organization designated by the Commission after 
considering a list of attributes similar to the criteria currently 
considered by the Division in the no-action letter process. The rating 
organization would have to meet each criterion in order to be 
designated as an NRSRO. The Commission's designation would apply only 
to a rating organization's opinion concerning the creditworthiness of 
debt instruments. The Commission notes that other opinions and views of 
the rating organization would be outside the scope of the NRSRO 
designation.
    The attributes the Commission would consider are: (1) National 
recognition, which means that the rating organization is recognized as 
an issuer of credible and reliable ratings by the predominant users of 
securities ratings in the United States; (2) adequate staffing, 
financial resources, and organizational structure to ensure that it can 
issue credible and reliable ratings of the debt of issuers, including 
the ability to operate independently of economic pressures or control 
by companies it rates and a sufficient number of staff members 
qualified in terms of education and experience to thoroughly and 
competently evaluate an issuer's credit; (3) use of systematic rating 
procedures that are designed to ensure credible and accurate ratings; 
12 (4) extent of contacts with the management of issuers, 
including access to senior level management of the issuers; 
13 and (5) internal procedures to prevent misuse of non-
public information and compliance with these procedures.14 
In addition to

[[Page 68021]]

the attributes noted above, the proposal would require a rating 
organization to be registered with the Commission as an investment 
adviser under the Investment Advisers Act of 1940 (``Advisers Act'') in 
order to be designated as an NRSRO.15
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    \12\ The Commission believes that a systematic rating procedure 
should help to ensure that the same or similar analysis is conducted 
for all issues rated. In addition, the ratings should be structured 
in such a way that the different rating categories are easily 
identifiable.
    \13\ The Commission believes that rating organizations that have 
access to senior management are better able to make subjective 
opinions regarding the risks associated with the issue.
    \14\ The Commission believes that maintaining these procedures 
should help ensure that the issuer's management is comfortable with 
providing the rating organization all information necessary for the 
rating organization to make reliable subjective opinions about the 
risks associated with the issue.
    \15\ All currently designated NRSROs are registered with the 
Commission under the Advisers Act. Although section 203A of the 
Advisers Act prohibits investment advisers that have less than $25 
million of assets under management to register with the Commission, 
the Commission has exempted investment advisers that are designated 
as NRSROs from this prohibition. See rule 203A-2 [17 CFR 275.203A-
2].
    As proposed, a rating organization must be registered as an 
investment adviser under the Advisers Act and maintain such 
registration as a condition of receiving and retaining its NRSRO 
designation. A rating organization applying for designation as an 
NRSRO that is not registered as an investment adviser, because, for 
example, it does not have $25 million of assets under management, 
would have to register under rule 203A-2(d) under the Advisers Act, 
which permits an investment adviser that reasonably expects to be 
eligible for Commission registration within 120 days of registering 
with the Commission to register with the Commission even though it 
may not otherwise meet the criteria for Commission registration 
under section 203A of the Advisers Act. Once a rating organization 
is registered as an investment adviser, it must maintain its 
registration. Otherwise, its NRSRO designation will void 
automatically.
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    By specifying required criteria in the definition of NRSRO, the 
Commission will be able to promulgate the characteristics that are 
necessary for NRSRO designation, thereby assuring rating organizations 
that if they possess such characteristics, they will likely be 
designated, and will remain, NRSROs. Similar to the no-action letter 
process, however, the Commission is reserving the ability to withdraw 
designation if a rating organization fails to maintain the requisite 
criteria. Accordingly, a rating organization designated as an NRSRO 
would be required to notify the Commission when it experiences material 
changes that may affect its ability to continue to meet any of the 
requisite criteria. For example, material changes in an NRSRO's 
organizational structure or modifications of its rating practices could 
affect the NRSRO's standing in the credit market that could warrant 
withdrawing NRSRO designation. Codifying the current NRSRO designation 
would ensure that the process is transparent and applied consistently.

C. Application Process

    A rating organization seeking NRSRO designation would be required 
to file an application with the Director of the Commission's Division 
of Market Regulation in Washington, D.C. The rating organization would 
be required to include in the application detailed information 
explaining how the rating organization satisfies the attributes 
necessary for NRSRO designation. The rating organization also would be 
required to file any additional information subsequently requested by 
the Division.

D. Delegation of Authority to the Division

    The Commission proposes to delegate authority to the Division to 
examine rating organizations' applications and to designate a rating 
organization as an NRSRO or to deny such designation.16 
Under the proposed amendments, the Division would not have delegated 
authority to revoke or withdraw any previously granted designation. 
Delegating authority to the Division will allow rating organizations 
that receive an adverse decision from the Division to seek Commission 
review. Pursuant to the Commission's Rules of Practice, any person 
aggrieved by an action made by delegated authority may seek Commission 
review of the action by filing a petition for review with the 
Commission.17 The Commission may preside over or, if it so 
orders, designate a hearing officer to preside over any proceeding 
instituted to review a determination made pursuant to delegated 
authority. The Commission may, at its discretion, designate an 
administrative law judge as the hearing officer presiding over such 
proceedings.18
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    \16\ The Commission proposes to amend Rule 200.30-3, which 
provides for delegation of authority to the Director of the Division 
of Market Regulation, to include the designation of NRSROs. See 17 
CFR 200.30-3.
    \17\ See 17 CFR 201.430.
    \18\ See 17 CFR 201.110.
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E. Charging Fees Based on the Size of the Transaction

    In the Concept Release, the Commission requested comments on the 
practice of NRSROs charging issuers for ratings and whether it is 
appropriate for an NRSRO to charge an issuer fees based on the size of 
the transaction being rated.
    Fourteen commenters offered views on this practice. As a general 
matter, they did not oppose NRSROs charging issuers for ratings. 
Various commenters expressed concern, however, regarding charging fees 
based upon the size of the transaction. For example, one rating 
organization commented that it is not appropriate for rating 
organizations to charge issuers based upon the size of the transaction 
because the large fees received may cause the rating organization to 
have an interest in whether the issue is successful or unsuccessful. In 
addition, the rating organization commented that basing fees on the 
size of an issue may compromise the rating organization's objectivity 
in rating the issue.
    In particular, the Commission is concerned that a rating 
organization may be tempted to give a more favorable rating to a large 
issue because of the large fee and to encourage the issuer to submit 
future large issues to the rating organization. The Commission invites 
further comment on whether the use of this practice should be added as 
a criterion in the definition of an NRSRO.

V. Request for Comments

    In response to the Concept Release, some commenters suggested using 
objective criteria in the definition of NRSRO. The Commission's 
concerns about using objective criteria is that it could lead to 
unintended results and possible manipulation of the NRSRO designation 
process. A rating organization may meet the basic objective criteria 
standard, but have no credibility in the marketplace. For example, 
using the number of persons employed by a rating organization as one of 
the criteria would not take into consideration qualifications of the 
employees with respect to rating issuer's securities. On the other 
hand, a rating organization may have a solid reputation for publishing 
reliable ratings, but may not meet an objective criteria, such as a 
minimum number of employees. The Commission, however, invites comment 
on whether objective criteria should be used to determine NRSRO 
designation and the types of objective criteria that should be 
considered.
    The Commission also invites comment on whether a specific time 
period should be established for the Commission to act on an 
application. If such a period is considered appropriate, the Commission 
also seeks comment on whether a time period in the range of 180 to 365 
calendar days would be appropriate.
    In addition, concerns have been raised to the Commission about the 
fact that some ratings may not be generally available to the public and 
may be restricted only to subscribers. Because the Commission is 
proposing to provide rating organizations with the NRSRO designation, 
the Commission invites comment on whether NRSROs should be required to 
provide their ratings to the public. The Commission also invites 
interested persons to submit written data, views, arguments and/or 
comments on the other aspects of the proposed amendments.

[[Page 68022]]

VI. Costs and Benefits of the Proposed Amendments and Their Effects on 
Competition

    To assist the Commission in its evaluation of the costs and 
benefits that may result from the proposed rule amendments, commenters 
are requested to provide analyses and data relating to the costs and 
benefits associated with any of the proposals herein. The Commission 
believes the benefit of the proposed definition will be to make its 
current practice of designating NRSROs more transparent and formalized. 
The Commission preliminarily believes that the proposed amendments will 
benefit all market participants by clarifying the basis for designating 
NRSROs and making the designation process more transparent. The 
amendments also will provide an appeal process for rating organizations 
that have been denied NRSRO designation. The amendments will impose no 
additional compliance burdens on broker-dealers and will not impede 
efficiency, competition, and capital formation, because they merely 
codify the current criteria a credit rating organization must meet in 
order to be designated as an NRSRO. The costs associated with the rule 
proposal would not differ significantly from those incurred under the 
current no-action letter process.19 The proposed amendments 
would not change the basis by which broker-dealers determine the 
deductions applicable to their proprietary securities. Section 23(a) of 
the Exchange Act, 15 U.S.C. 78w(a)(2), requires the Commission, in 
adopting rules under the Exchange Act, to consider the anti-competitive 
effect of the rule, if any. The Commission has considered the proposed 
amendments in light of this standard and believes, preliminarily, that 
if adopted, they would not likely impose any significant burden on 
competition that is not necessary or appropriate in furtherance of the 
Exchange Act. The Commission solicits comment on this preliminary view.
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    \19\ The average time to complete an application is estimated to 
be 100 hours. See infra section VIII D.
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VII. Summary of Initial Regulatory Flexibility Analysis

    In accordance with 5 U.S.C. 603, the Commission has prepared an 
Initial Regulatory Flexibility Analysis (``IRFA'') concerning the 
proposed amendments. The IRFA notes that the purpose of the proposed 
amendments is to make the NRSRO designation process open and 
transparent by defining the term ``NRSRO'' for purposes of the net 
capital rule to provide a list of attributes that would be considered 
by the Commission in designating rating organizations as NRSROs. The 
IRFA indicates that the proposed amendments would apply to all credit 
rating organizations that request NRSRO designation.
    The IRFA further indicates that in the past, the Commission has 
only designated seven credit rating organizations as NRSROs. In 
addition, only seven other credit rating organizations have requested 
designation as an NRSRO. Because the Commission cannot determine the 
number of entities that may request NRSRO designation in the future, it 
is difficult to estimate the number of small entities that may be 
subject to the proposed amendments. However, due to the fact that only 
seven credit rating organizations have been designated as NRSROs and 
only seven other entities have requested NRSRO designation, the IRFA 
adds that it appears that very few small entities, if any, as 
contemplated by the Regulatory Flexibility Act 20, will be 
subject to the proposed amendments. In addition, the IRFA states that 
the proposed amendments require the filing of an application and 
notification of any material changes in the NRSROs business and that no 
federal rules duplicate, overlap, or conflict with, the proposed 
amendments. Furthermore, the IRFA states that the Commission does not 
believe that any less burdensome alternatives are available to 
accomplish the objectives of the proposed amendments.
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    \20\ 5 U.S.C. 601 et seq. The Regulatory Flexibility Act states 
that the term ``small entity'' shall have the same meaning as the 
term ``small business'' under the Regulatory Flexibility Act. 
According to section 601(3) under the Regulatory Flexibility Act, 
``the term `small business' has the same meaning as the term `small 
business concern'' under section 3 of the Small Business Act (15 
U.S.C. 632), unless an agency, after consultation with the Small 
Business Administration and after opportunity for public comment, 
establishes one or more definitions of such term which are 
appropriate to the activities of the agency and publishes such 
definition(s) in the Federal Register''. If the agency has not 
defined the term for a particular purpose, the Small Business Act 
states that ``a small business concern, * * *, shall be deemed to be 
one which is independently owned and operated and which is not 
dominant in its field of operation.'' Because the Commission has not 
defined the term ``small entity'' in the context of NRSROs for 
purposes of the Regulatory Flexibility Act, for purposes of this 
rulemaking, the Commission is using the broader definition of 
``small business concern'' as defined in the Small Business Act. 
Furthermore, based on this broader definition, it appears that none 
of the current NRSROs would be considered small entities for 
purposes of the Regulatory Flexibility Act.
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    The Commission encourages the submission of comments with respect 
to any aspect of the IRFA. Comment specifically is requested on the 
number of small entities that would be affected by the proposed rules. 
Such comments will be considered in the preparation of the Final 
Regulatory Flexibility Analysis, if the proposed rules are adopted, and 
will be placed in the same public file as comments on the proposed 
rules themselves. Comment letters should be submitted in triplicate to 
Jonathan G. Katz, Secretary, Securities and Exchange Commission, 450 
Fifth Street, N.W., Stop 6-9, Washington, D.C. 20549. Comments also may 
be submitted electronically at the following E-Mail address: rule-
[email protected]. All comment letters should refer to File No. S7-33-
97. This file number should be included on the subject line if E-mail 
is used. All comments 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). A copy of the IRFA may be obtained by contacting Michael 
E. Greene, Securities and Exchange Commission, 450 Fifth Street, N.W., 
Mail Stop 2-2, Washington, D.C. 20549.
    For purposes of the Small Business Regulatory Enforcement Fairness 
Act of 1996 (``SBREFA''), the Commission is also requesting information 
regarding the potential impact of the proposed rule on the economy on 
an annual basis. The Commission preliminarily believes that the 
proposed amendments do not constitute a ``major rule'' for purposes of 
SBREFA based on the criteria used to determine what constitutes a 
``major rule'' under SBREFA. Commenters should provide empirical data 
to support their views.

VIII. 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''),21 and 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: ``Net Capital Requirements for Brokers or 
Dealers: Definitions: NRSRO.''
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    \21\  44 U.S.C. 3501 et seq.
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A. Collection of Information Under Proposed Amendments

    The proposed amendments would require credit rating organizations 
that desire designation as NRSROs to submit certain information to the 
Commission in order to obtain such designation and to report to the 
Commission in the event of any material change in their status.

[[Page 68023]]

B. Proposed Use of Information

    The information collected pursuant to the proposed amendments would 
be used only by the Commission. No other governmental agency or third 
party would regularly receive any of the information described above. 
The Commission would use the information required by the proposed 
amendments in determining whether to designate a credit rating 
organization as an NRSRO.

C. Respondents

    The proposed amendments would apply to those credit rating 
organizations that desire designation as an NRSRO by the Commission.

D. Total Annual Reporting and Recordkeeping Burden

    The proposed amendments require a one-time application process, 
which includes any amendments to the initial application. Therefore, 
there is no recurring reporting or recordkeeping requirement and thus 
no annual reporting or recordkeeping requirement. However, it is 
estimated that on an annual basis there will be ten respondents to this 
collection of information. It is also estimated that the time to 
complete the proposed collection of information is 100 hours.

E. General Information About the Collection of Information

    The collection of information under the proposed amendments would 
be required in order to obtain NRSRO designation. There would be no 
obligation on the NRSRO to retain the information submitted to the 
Commission to obtain NRSRO designation. Any information received by the 
Commission pursuant to the proposed amendments would be kept 
confidential (except the cover letter), subject to the provisions of 
the Freedom of Information Act, 5 U.S.C. 552 and the Commission's 
regulations thereunder (17 CFR 200.80). The proposed amendments do not 
mandate a time period for retaining the information submitted to the 
Commission by credit rating organizations applying for NRSRO 
designation. Seeking the NRSRO designation is voluntary; however, for 
rating organizations that desire the NRSRO designation, the obligation 
to respond to the collection of information is mandatory. Persons 
should be aware that the Commission 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 Comment

    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 shall 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.
    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, 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. S7-33-97. 
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.

IX. Statutory Analysis

    Pursuant to the Securities Exchange Act of 1934 and particularly 
Sections 3(b), 15(c)(3), 17, and 23 thereof, 15 U.S.C. 78c(b), 
78o(c)(3), 78q, and 78w, the Commission proposes to amend 240.15c3-1 of 
Title 17 of the Code of Federal Regulations in the manner set forth 
below.

X. List of Subjects in 17 CFR Part 240

    Reporting and recordkeeping requirements, Securities.

XI. Text of the Proposed Rule Amendments

    In accordance with the foregoing, Title 17, Chapter II of the Code 
of Federal Regulation 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, 78i, 78j, 78k, 78k-1, 78l, 
78m, 78n, 78o, 78p, 78q, 78s, 78u-5, 78w, 78x, 78ll(d), 79q, 79t, 
80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 80b-4 and 80b-11, unless 
otherwise noted.
* * * * *
    2. Section 240.15c3-1 is amended by adding paragraph (c)(13) to 
read as follows:


Sec. 240.15c3-1  Net capital requirements for brokers or dealers.

* * * * *
    (c) * * *
* * * * *
    (13)(i) The term nationally recognized statistical rating 
organization (``NRSRO'') means any entity that:
    (A) Issues ratings which are current assessments of the 
creditworthiness of obligors with respect to specific securities or 
money market instruments and that is registered under the Investment 
Advisers Act of 1940 (15 U.S.C. 80b-1 et seq.) and
    (B) Is designated as an NRSRO by the Commission.
    (ii) The Commission will consider the following attributes in 
determining whether to grant NRSRO status:
    (A) Recognition of the rating organization in the United States as 
an issuer of credible and reliable ratings by users of securities 
ratings;
    (B) Adequate staffing, financial resources, and organizational 
structure to ensure that it can issue credible and reliable ratings of 
the debt of issuers, including a sufficient number of qualified staff 
members and the ability to operate independently of economic pressures 
or control by companies that it rates;
    (C) Use of systematic rating procedures that are designed to ensure 
credible and accurate ratings;
    (D) Extent of contacts with the management of issuers, including 
access to senior level management of issuers; and
    (E) Internal procedures to prevent misuse of non-public information 
and compliance with these procedures.
    (iii) A rating organization seeking NRSRO designation shall file an 
application with the Director of the Commission's Division of Market 
Regulation in Washington, DC. The application should provide detailed 
information explaining how the rating organization satisfies the 
attributes set forth in paragraph (c)(13)(i) of this section. The 
rating organization shall also file any additional information 
subsequently requested by the Commission relating to the attributes set 
forth in paragraph (c)(13)(i) of this section.

[[Page 68024]]

    (iv) An NRSRO shall notify the Director of the Commission's 
Division of Market Regulation of any material changes that occur in the 
facts and circumstances of this application for an NRSRO designation.
    (v) In the event it is determined that an NRSRO no longer satisfies 
all of the attributes set forth in (c)(13)(i) of this section, the 
Commission may revoke or withdraw NRSRO designation.
* * * * *
    Dated: December 17, 1997.

    By the Commission.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-33402 Filed 12-29-97; 8:45 am]
BILLING CODE 8010-01-P