[Federal Register Volume 63, Number 236 (Wednesday, December 9, 1998)]
[Notices]
[Pages 67958-67962]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-32664]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-40730; File No. SR-CHX-98-26]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of Proposed Rule Change and Amendment No. 
1 Thereto by the Chicago Stock Exchange, Inc. Relating to Listing 
Standards for Equity Linked Debt Securities

November 30, 1998.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(the ``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given 
that on October 6, 1998, the Chicago Stock Exchange, Inc. (``CHX'' or 
``Exchange'') filed with the Securities and Exchange Commission (the 
``Commission'' or the ``SEC'') the proposed rule change as described in 
Items I and II below, which Items have been prepared by the self-
regulatory organization. The Exchange subsequently filed an amendment 
to the

[[Page 67959]]

proposed rule change on November 4, 1998.\3\ The Commission is 
publishing this notice to solicit comments on the proposed rule change, 
as amended, from interested persons and simultaneously approving the 
proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Letter from Patricia L. Levy, Senior Vice President and 
General Counsel, CHX, to Katherine A. England, Assistant Director, 
Division of Market Regulation, Commission, dated November 3, 1998 
(``Amendment No. 1''). Amendment No. 1 clarified the Additional 
Requirements for Non-U.S. Companies section of the proposed rule 
change so that it accurately reflected the rule language.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange proposes to add a new Rule 26 to Article XXVIII of the 
Exchange's rules to adopt listing standards for Equity Linked Debt 
Securities (``ELDS''). The text of the proposed rule change follows. 
The text of the new rule is italicized.

ARTICLE XXVIII

Equity-Linked Debt Securities

    RULE 26. The Exchange will consider for trading, whether by listing 
or pursuant to unlisted trading privileges, equity-linked debt 
securities (``ELDS'') that meet the criteria of this rule. ELDS are 
limited term non-convertible debt obligations of an issuer where the 
value of the debt is based, at least in part, on the value of another 
issuer's common stock or non-convertible preferred stock.
    (a) ELDS Issuer Listing Standards
    (1) If the ELDS issuer is a company listed on the Exchange, it must 
be a company in good standing (i.e., meet the Exchange's Tier I or Tier 
II general listing criteria). If the ELDS issuer is an affiliate of a 
company listed on the Exchange, the company listed on the Exchange must 
be a company in good standing. If the ELDS issuer is not listed on the 
Exchange, the ELDS issuer must meet the size and earnings requirements 
set forth in the Exchange's Tier I or Tier II Listing Rules. (Sovereign 
issuers will be evaluated on a case-by-case basis.)
    (2) The ELDS issuer must, in all cases, have either
    (i) A minimum tangible net worth of $250 million; or
    (ii) A minimum tangible net worth of $150 million and the original 
issue price of the ELDS, combined with all of the issuer's other ELDS 
listed on a national securities exchange or otherwise publicly traded 
in the United States, may not be greater than 25 percent of the 
issuer's net worth at the time of issuance.
    (b) ELDS Listing Standards. The issue must have:
    (1) At least 1 million ELDS outstanding.
    (2) At least 400 holders.
    (3) An aggregate market value of at least $4 million.
    (4) A term of two to seven years, provided that if the issuer is a 
non-U.S. company, the issue may not have a term of more than three 
years.
    (c) Linked Equity Listing Standards. An equity security on which 
the value of the debt is based must:
    (1) Have either:
    (i) A market capitalization of at least $3 billion and a trading 
volume of at least 2.5 million shares in the one-year period preceding 
the listing of the ELDS; or
    (ii) A market capitalization of at least $1.5 billion and a trading 
volume of at least 10 million shares in the one-year period preceding 
the listing of the ELDS; or
    (iii) A market capitalization of at least $500 million and trading 
volume of at least 15 million shares in the one-year preceding the 
listing of the ELDS.
    (2) Be issued by a company that has a continuous reporting 
obligation under the Securities Exchange Act of 1934, as amended, and 
be listed on a national securities exchange or traded through the 
facilities of a national securities association and be subject to last 
sale reporting.
    (3) Be issued either by:
    (i) A U.S. company; or
    (ii) A non-U.S. company (including a company that is traded in the 
United States through American Depositary Receipts (``ADRs'')) if there 
are at least 2,000 holders of the security, and either
    (A) The Exchange, or, if the ELDS is to be traded pursuant to 
unlisted trading privileges, any other national securities exchange 
that is the primary U.S. market for such security, has in place with 
the primary exchange in the country where the security is primarily 
traded (or, in the case of a sponsored ADR, the primary exchange in the 
home country where the security underlying the ADR is primarily traded) 
an effective comprehensive surveillance information sharing agreement,
    (B) The ``Relative U.S. Volume'' is at least 50 percent (for 
purposes of this subsection, the term ``Relative U.S. Volume'' shall 
mean the ratio of (i) the combined trading volume, on a share-
equivalent basis, of the security and related securities (including 
ADRs overlying such security) in the United States and in any other 
market with which the Exchange (for ELDS that are listed on the 
Exchange) or with which any other national securities exchange that is 
the primary U.S. market for such ELDS (if the ELDS is to be traded on 
the Exchange pursuant to unlisted trading privileges) has in place an 
effective, comprehensive surveillance information sharing agreement to 
(ii) the world-wide trading volume in such securities, or
    (C) During the six months preceding the listing of the ELDS on the 
Exchange (or for ELDS traded on the Exchange pursuant to unlisted 
trading privileges, preceding the listing of the ELDS on the primary 
U.S. market for such security), the following trading volume standards 
were met:
    (i) The combined trading volume of the security (including the 
security itself, any ADR overlying the security (adjusted on a share 
equivalent basis) and any other classes of stock related to the 
underlying security) in the United States is at least 20 percent of the 
combined world-wide trading volume in the security and in related 
securities.
    (ii) The average daily trading volume for the security (or, if 
traded in the form of an ADR, the ADR overlying such security) in the 
U.S. market is 100,000 or more shares, and
    (iii) The trading volume for the security (or, if traded in the 
form of an ADR, the ADR overlying such security) is at least 60,000 per 
day in the U.S. market on a majority of the trading days during the 
six-month period.
    (d) Limits on Number of ELDS. The issuance of ELDS relating to any 
underlying U.S. security may not exceed five percent of the total 
outstanding shares of such underlying security. The issuance of ELDS 
relating to any underlying non-U.S. security or sponsored ADR may not 
exceed: (1) two percent of the total worldwide outstanding shares of 
such security if at least 20 percent of the worldwide trading volume in 
the security and related securities during the six-month period 
preceding the date of listing occurs in the U.S. market; or (2) three 
percent of the total worldwide outstanding shares of such security if 
at least 50 percent of the worldwide trading volume in the security and 
related securities during the six-month period preceding the date of 
listing occurs in the U.S. market; or (3) five percent of the total 
worldwide outstanding shares of such security if at least 70 percent of 
the worldwide trading volume in the security and related securities 
during the six-month period preceding the date of listing on the 
Exchange (for ELDS that are listed on the Exchange) or listing on the 
national securities exchange that is the primary U.S. market for such 
ELDS (if the ELDS is to be traded on the Exchange pursuant to unlisted 
trading privileges) occurs in the U.S. market.

[[Page 67960]]

    If an issuer proposed to issue ELDS that relate to more than the 
allowable percentages of the underlying security specified in this 
subsection (d), then the Exchange, in consultation with the staff of 
the Division of Market Regulation of the Securities and Exchange 
Commission, will evaluate the maximum percentage of ELDS that may be 
issued on a case-by-case basis.
     . . . Interpretation and Policy
    .01  Form of Circular to Membership
    Prior to the commencement of trading of any new ELDS on the 
Exchange, the Exchange will issue a circular, substantially in the form 
set forth below:

Equity-Based Debt Security Membership Circular
Date:
Circular to Membership

    Equity-linked debt securities (``ELDS'') of ____________________ 
Corporation have been approved for Exchange [listing or trading 
pursuant to unlisted trading privileges] and will commence trading on 
[date]. The ELDS are debt securities where the amount payable at 
maturity is based on the then-current price of [the linked security].

--The ELDS will trade with the ticker symbol ________________.
    ELDS are securities that have certain unique characteristics, and 
investors should be afforded an explanation of such special 
characteristics and risks attendant to trading thereof, including:

--At maturity, holders of ELDS will receive [description of payment].
--Because the amount of principal returned when ELDS mature depends on 
the price of [the linked security], the possibility exists that an ELDS 
holder may lose some or all of the principal amount of his ELDS 
investment.
--ELDS will trade on the Equity Floor. ELDS will trade ``Flat'' (that 
is, without the payment of accrued interest) and in round lots of 100.
--ELDS are solely the obligation of [the issuer]. Holders of ELDS may 
look only to [the issuer] for payments of interest and principal, and 
not to [the issuer of the linked security].
--Both [the issuer and the issuer of the linked security] are listed on 
[insert appropriate markets] and are subject to the continuous 
reporting obligations of the Securities Exchange Act of 1934, as 
amended (the ``1934 Act''). Interested persons may obtain copies of 
reports, proxy statements and other materials filed by [the two 
issuers] pursuant to the 1934 Act at the offices of the Securities and 
Exchange Commission.

    Before a member, member organization, or person associated with 
such member organization undertakes to recommend a transaction in the 
ELDS, such member or member organization should make a determination 
that such ELDS are suitable for such customer and the person making the 
recommendation should have a reasonable basis for believing, at the 
time of making the recommendation, that the customer has such knowledge 
and experience in financial matters that he may reasonably be expected 
to be capable of evaluating the risks and the special characteristics 
of the recommended transaction and is financially able to bear the 
risks of the recommended transaction.
    Any questions regarding the suitably of customer accounts should be 
directed to ____________________ at (312) 663-________. Inquiries with 
respect to the ELDS themselves should be directed to 
____________________ at (312) 663-________.

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 Exchange 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 III below. The Exchange 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

1. Purpose
    The CHX is proposing listing criteria to allow the Exchange to list 
hybrid debt securities and to trade hybrid debt securities pursuant to 
unlisted trading privileges. The Exchange refers to such debt 
securities as ``Equity Linked Debt Securities'' or ``ELDS.'' ELDS are 
the non-convertible debt of the issuing company where the value of the 
debt is based, at least in part, on the value of another company's 
common stock or other individual equity security. ELDS may pay periodic 
interest or may be issued as zero-coupon instruments. In addition, ELDS 
may or may not have a ceiling and/or floor on the amount of principal 
that may be returned at maturity of the instrument.
    The Exchange believes that the proposed ELDS listing criteria are 
generally consistent with the ``Other Securities'' criteria currently 
found in Article XXVIII, Rule 13 of the CHX Rules and the Equity Linked 
Notes (``ELNs'') listing criteria used by the American Stock Exchange, 
Inc. (``Amex''). The Exchange based its proposed rules on the ELDS 
listing criteria currently used by the New York Stock Exchange, Inc. 
(``NYSE'').\4\
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    \4\ The only difference between the proposed rule change and the 
NYSE ELDS rules is that the rules proposed by CHX provide for 
unlisted trading privileges. Telephone call between Patricia L. 
Levy, Senior Vice President and General Counsel, CHX, and Kelly A. 
McCormick, Attorney, Division of Market Regulation, SEC, on November 
30, 1998.
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General ELDS Listing Requirements

    The issuer of an ELDS proposed for listing on the Exchange must 
meet certain requirements. The issuer of the ELDS must either (a) meet 
general CHX listing standards; or, (b) be in good standing, if listed 
on the Exchange; or, (c) be an affiliate of a company listed on the 
Exchange whose listing status is in good standing.\5\
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    \5\ If the ELDS issuer is not listed on the Exchange, the ELDS 
issuer must meet the size and earnings requirements set forth in the 
Exchange's tier I or Tier II Listing Rules. In addition, the ELDS 
issuer must either have a minimum tangible net worth of $250 million 
or $150 million. If the ELDS issuer uses the $150 million standard, 
the original issue price of the ELDS, combined with all of the 
issuer's other ELDS listed on a national securities exchange or 
other wise publicly traded in the United States, may not be greater 
than 25 percent of the issuer's net worth at the time of issuance.
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    The ELDS issue itself is subject to a variety of listing 
requirements as well. The issue must: (1) consist of a least one 
million ELDS, (2) have at least 400 holders, (3) have an aggregate 
market value of at least $4 million, and (4) have a term of two to 
seven years (if the issuer is a non-U.S. company, the issue may not 
have a term of more than three years).
    The proposal also includes criteria governing the equity security 
on which the value of the ELDS is based, several other miscellaneous 
requirements also imposed to ensure quality, and some further 
restrictions on ELDS whose underlying security is issued by a non-U.S. 
company. Specifically, with regard to value: (i) the issuer of each 
such security must be a reporting company with minimum market 
capitalizations and trading volumes, and (ii) each such security must 
be either listed on a national securities exchange or traded through 
the facility of a national securities association and be subject to 
last sale reporting.
    The remaining quality assurance requirements ensure that: (a) the 
issuance of ELDS relating to any underlying U.S. security does not to

[[Page 67961]]

exceed five percent of the total outstanding shares of the underlying 
security; and (b) the issuance of ELDS relating to any underlying non-
U.S. security or sponsored American Depository Receipt (``ADR'') does 
not exceed either two, three or five percent of the total worldwide 
outstanding shares of such security, depending on the amount of the 
worldwide trading volume in the security and related securities that 
occurs in the U.S. market during the six-month period preceding the 
date of (i) listing on the Exchange (for ELDS that are listed on the 
Exchange) or (ii) listing on the national securities exchange that is 
the primary U.S. market for such ELDS (if the ELDS are to be traded on 
the Exchange pursuant to unlisted trading privileges).

Additional Requirements for Non-U.S. Companies

    Finally there are some additional requirements when the underlying 
security is a non-U.S. company (including a company that is traded in 
the United States through ADRs). First, there must be at least 2,000 
holders of the security. In addition, one of the following three 
alternatives must apply: (1) the Exchange must have an effective 
comprehensive surveillance information sharing agreement with either 
(a) the primary exchange in the country where the security is primarily 
traded (for listed ELDS),\6\ or, (b) the national securities exchange 
that is the primary U.S. market for such security (for ELDS traded 
pursuant to unlisted trading privileges); or (2) the Relative Trading 
Volume must be at least 50%;\7\ or (3) during the six months preceding 
the listing of the ELDS on the Exchange (or for ELDS traded on the 
Exchange pursuant to unlisted trading privileges, preceding the listing 
of the ELDS on the primary U.S. market for such security), the 
underlying company must meet various trading volume standards. The 
trading volume standards require that (1) the combined trading volume 
of the security in the United States be at least 20 percent of the 
combined world-wide trading volume in the security and in related 
securities;\8\ (2) the average daily trading volume for the security 
(or, if traded in the form of an ADR, the ADR overlying such security) 
in the U.S. market be 100,000 or more shares; and (3) the trading 
volume for the security (or, if traded in the form of an ADR, the ADR 
overlying such security) be at least 60,000 shares per day in the U.S. 
market on a majority of the trading days during the six-month period.
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    \6\ In the case of a sponsored ADR, the agreement must be the 
primary exchange in the home country where the security underlying 
the ADR is primarily traded.
    \7\ Relative Trading Volume is defined as the ratio of (i) the 
combined trading volume, on a share-equivalent basis, of the 
security and related securities (including ADRs overlying such 
security) in the United States and in any other market with which 
the Exchange (for ELDS that are listed on the Exchange), or with 
which any other national securities exchange that is the primary 
U.S. market for such ELDS (if the ELDS are to be traded on the 
Exchange pursuant to unlisted trading privileges) has in place an 
effective, comprehensive surveillance information sharing agreement 
to (ii) the world-wide trading volume in such securities.
    \8\ The securities considered in this regard include the 
security itself, any ADR overlying the security (adjusted on a share 
equivalent basis) and any other class of stock related to the 
underlying security.
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Trading Issues

    The Exchange will generally treat ELDS as equity securities. Thus, 
for example, ELDS will be subject to equity margin treatment.
    In addition, due to the unique nature of ELDS, prior to the 
commencement of trading of each new ELDS, the Exchange will distribute 
a circular to its members and member organizations alerting them to be 
unique characteristics of ELDS and providing guidance regarding their 
compliance responsibilities with respect to such securities. A form of 
this circular is set out in Interpretation and Policy .01 to Rule 26 of 
Article XXVIII.
2. Statutory Basis
    The proposed rule change is consistent with Section 6(b)(5) of the 
Act \9\ in that it is designed to promote just and equitable principles 
of trade, to remove impediments to and to perfect the mechanism of a 
free and open market and a national market system, and, in general, to 
protect investors and the public interest.
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    \9\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change will 
impose any burden on competition that is not necessary or appropriate 
in furtherance of the purposes of the Act.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participating or Others

    The Exchange has neither solicited nor received written comments on 
the proposed rule change.

III. 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 at the 
Commission's Public Reference Room. Copies of the filing will also be 
available for inspection and copying at the principal office of the 
CHX. All submissions should refer to File No. SR-CHX-98-26 and should 
be submitted by December 30, 1998.

IV. Commission's Findings and Order Granting Accelerated Approval 
of Proposed Rule Change

    The Commission has reviewed the CHX's proposed rule change \10\ and 
believes for reasons set forth below, the proposal is consistent with 
the requirements of Section 6 of the Act \11\ and the rules and 
regulations thereunder applicable to a national securities exchange. In 
particular, the Commission believes the proposal is consistent with the 
requirements of Section 6(b)(5) \12\ because the rule is designed to 
perfect the mechanism of a free and open market and to protect 
investors and the public interest. Specifically, the Commission 
believes that ELDS provide a new and innovative means of participating 
in the securities markets. In particular, the Commission believes that 
the increased availability of ELDS will permit investors to more 
closely approximate their desired investment objectives through, for 
example, shifting some of the opportunity for upside gain in return for 
additional income.\13\
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    \10\ In reviewing this proposal, the Commission has considered 
its impact on efficiency, competition and capital formation. 15 
U.S.C. 78c(f).
    \11\ 15 U.S.C. 78f.
    \12\ 15 U.S.C. 78f(b)(5).
    \13\ Pursuant to Section 6(b)(5) of the Act, the Commission must 
predicate approval of exchange trading for new products upon a 
finding that the introduction of the product is in the public 
interest. Such finding would be difficult with respect to a product 
that served no investment, hedging or other economic function, 
because any benefits that might be derived by market participants 
would likely be outweighed by the potential for manipulation, 
diminished public confidence in the integrity of the markets, and 
other valid regulatory concerns.
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    ELDS are not leveraged instruments, however, their price will still 
be derived from and based upon the underlying linked security. 
Accordingly, the level of risk involved in the purchase or sale

[[Page 67962]]

of an ELDS is similar to the risk involved in the purchase or sale of 
traditional common stock. Nonetheless, in considering the Amex's ELNs 
\14\ proposal \15\ and the NYSE's ELDS proposal,\16\ the Commission had 
several specific concerns with this type of product (i.e., (1) investor 
protection concerns, (2) dependence on the credit of the issuer of the 
instrument, (3) systemic concerns regarding position exposure of 
issuers with partially hedged positions or dynamically hedged 
positions, and (4) the impact on the market for the underlying linked 
security).\17\ The Commission concluded, however, that the Amex and 
NYSE proposals adequately addressed each of these issues such that the 
Commission's regulatory concerns were adequately minimized.\18\ 
Similarly, in this proposal, the CHX has proposed safeguards that 
address these concerns which the Commission finds to be equivalent to 
those approved for the trading of ELNs at the Amex and ELDS at the 
NYSE.
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    \14\ As noted earlier, ELNs, Equity Linked Term Notes are the 
same product, with the same terms and characteristics, as defined 
herein for ELDS.
    \15\ Exchange Act Release No. 32343 (May 20, 1993).
    \16\ Exchange Act Release No. 33468 (January 13, 1994).
    \17\ Release Nos. 34-32343 and 34-33468.
    \18\ Id.
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    The Commission notes that the CHX proposal also provides for 
unlisted trading privileges for ELDS listed on other exchanges. The 
Commission believes that unlisted trading privileges for ELDS is also 
consistent with the Act because it removes impediments to and perfects 
the mechanism of a free and open market. Unlisted trading privileges 
allow for the trading of additional products at the CHX which are 
subject to listing standards that are equivalent to the CHX listing 
standards for ELDS. Accordingly, for the reasons stated herein, as well 
as in the Commission's ELNs approval for the Amex and the ELDS approval 
for the NYSE, the Commission finds that the CHX standards for listing 
and trading of ELDS are consistent with the Act and the listing and 
trading of ELDS is in the public interest.
    Finally, the Exchange has requested, and the Commission agrees 
that, accelerated approval is appropriate in this instance. The 
Commission finds good cause for approving the proposed rule change 
prior to the thirtieth day after the date of publication of the notice 
thereof in the Federal Register . The Commission finds that the 
proposal closely conforms to the proposals already approved by the 
Commission with respect to the listing and trading of ELNs on the Amex 
\19\ and ELDS on the NYSE.\20\ Accordingly, the CHX proposal presents 
no new regulatory issues. Moreover, both the NYSE and Amex proposals 
were subject to the full 21-day period, yet no comments were received 
by the Commission. Therefore, the Commission believes it is consistent 
with Sections 6(b)(5) \21\ and 19(b)(2) \22\ of the Act to approve the 
proposed rule change on an accelerated basis.
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    \19\ Release No. 34-32343.
    \20\ Release No. 34-33468.
    \21\ 15 U.S.C. 78f(b)(5).
    \22\ 15 U.S.C. 78s(b)(2).
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    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\23\ that the proposed rule change (SR-CSE-98-02) is approved.

    \23\ 15 U.S.C. 78s(b)(2).
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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\24\
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    \24\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-32664 Filed 12-8-98; 8:45 am]
BILLING CODE 8010-01-M