[Federal Register Volume 64, Number 182 (Tuesday, September 21, 1999)]
[Notices]
[Pages 51162-51165]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-24495]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-41862; File No. SR-DTC-99-16]


Self-Regulatory Organizations; The Depository Trust Company; 
Notice of Filing of Amendment and Order Granting Accelerated Approval 
of a Proposed Rule Change Relating to Implementation of the Profile 
Modification System Feature of the Direct Registration System

September 10, 1999.
    On June 17, 1999, The Depository Trust Company (``DTC'') filed with 
the Securities and Exchange Commission (``Commission'') and on July 22, 
1999, and August 31, 1999, as amended a proposed rule change (File No. 
SR-DTC-99-16) pursuant to Section 19(b)(1) of the Securities Exchange 
Act of 1934 (``Act'').\1\ Notice of the original proposal and first 
amendment were published in the Federal Register on June 23, 1999,\2\ 
and on July 29, 1999,\3\ respectively. The Commission received twenty-
two comments in response to the proposed rule change.\4\ The Commission 
is publishing this notice and order to solicit comments on the August 
31, 1999, amendment from interested persons and to grant accelerated 
approval of the proposal.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ Securities Exchange Act Release No. 41535 (June 17, 1999), 
64 FR 33539 (July 23, 1999).
    \3\ Securities Exchange Act Release No. 41643 (July 22, 1999), 
64 FR 41171 (July 29, 1999).
    \4\ Telephone conversation between Jerome J. Claire, John 
Cirrito, and Don Kittel, Securities Industry Association, with 
Robert Colby, Deputy Director, Division of Market Regulation, 
Securities and Exchange Commission (July 20, 1999). Letters from 
Vickie Dear, Department Leader, and Mark Leverenz, Principal, Edward 
Jones (July 6, 1999); Timothy J. Carlin, Senior Counsel, Wells Fargo 
& Company (July 13, 1999); Frank M. Ciavarella, First Vice 
President, Prudential Securities (July 13, 1999); Paul Morelli, 
First Vice President, The Cashiers' Association of Wall Street, Inc. 
(July 13, 1999); Robert Dietz, President, STA (July 14, 1999); 
Jerome J. Clair, Chair, SIA Operations Committee, and John Cirrito, 
Chair, SIA Subcommittee on DRS, SIA (July 15, 1999); William Talbot, 
Vice President, Pershing, (July 15, 1999); Eric D. Kamback, Senior 
Vice President, The Bank of New York (July 15, 1999); Fred Enriquez, 
President, Securities Operations Division (July 16, 1999); Kenneth 
F. Kaplan, Vice President and Chief Financial Officer, Regal-Beloit 
Corporation (July 19, 1999); Patricia Trevino, Chair, Securities 
Industry Committee, American Society of Corporate Secretaries (July 
19, 1999); Jerome J. Clair, Chair, SIA Operations Committee, and 
John Cirrito, Chair, SIA Subcommittee on DRS, SIA (August 11, 1999); 
Robert E. Smith, Assistant Corporate Secretary, Reliant Energy 
(August 11, 1999); Jason Korstange, Senior Vice President, TCF 
Financial Corporation (August 16, 1999); Scott A. Ziegler, Ziegler & 
Altman LLP (August 17, 1999); Joseph F. Spadaford, President of 
First Chicago Trust Division and Charles V. Rossi, President of 
Boston EquiServe Division, EquiServe (August 19, 1999); American 
Stock Transfer & Trust Company, The Bank of New York, ChaseMellon 
Shareholder Services, Continental Stock Transfer & Trust Company, 
EquiServe, First Union, Harris Trust & Savings Bank, Norwest 
Shareowner Services (August 20, 1999); Richard P. Randall, Vice 
President, Associate General Counsel, Assistant Corporate Secretary, 
Avery Dennison (August 23, 1999); Warren G. Andersen, Attorney and 
Assistant Secretary, General Motors Corporation (August 25, 1999); 
Thomas L. Montrone, President and Chief Executive Officer, Registrar 
and Transfer Company (August 26, 1999); Ian Yewer, President and 
Chief Operating Officer, American Securities Transfer and Trust, 
Inc. (August 30, 1999).
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I. Description

    The Direct Registration System (``DRS''), as developed by the DRS 
Committee,\5\ is a facility that allows investors the ability to hold 
their securities on the issuer's books, through the issuer's transfer 
agent, rather than holding in street name or in certificated form.\6\ 
Instructions to create investors' book-entry positions in DRS or to 
move those positions are transmitted through an electronic system. The 
DRS facility is administered by DTC and uses DTC's systems to effect 
DRS transactions.\7\ The DRS Committee meets on a regular basis to 
discuss the on-going development of DRS and to form the policies, 
systems, and operational procedures needed to implement these 
developments.
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    \5\ The DRS Committee is an industry committee responsible for 
designing DRS. Its members include the Securities Transfer 
Association, the Securities Industry Association, the Corporate 
Transfer Agents Association, and DTC.
    \6\ For a history of DRS and a description of the original DRS 
concept, see Securities Exchange Act Release No. 35038 (December 1, 
1994), 59 FR 63652 (concept release relating to the direct 
registration system) (``Concept Release''). As described in the 
Concept Release, DRS was determined to be a means to reducing 
systemic risk in the marketplace by reducing the timeframes for 
settling securities transactions. The Commission continues to 
believe DRS will be an important element in achieving a shorter 
settlement periods. Cf. Section 17A(e) of the Act.
    \7\ Securities Exchange Act Release No. 37931 (November 7, 
1996), 61 FR 58600 (November 15, 1996) [File No. SR-DTC-96-15] 
(order relating to the establishment of DRS).
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    The purpose of DTC's filing is to resolve an impasse that developed

[[Page 51163]]

among members of the Securities Transfer Association (``STA'') and the 
Securities Industry Association (``SIA'') relating to the 
implementation of the Profile Modification System feature (``Profile'') 
\8\ of DRS. Profile will allow a DTC participant (i.e., a broker-
dealer) upon instructions from the participant's customer to 
electronically request that a ``DRS limited participant'' of DTC (i.e., 
a transfer aggent) \9\ to move the customer's DRS positions to the 
participant's account at DTC.\10\ Profile will be available through 
both DTC's Participant Terminal System (``PTS'') and DTC's Computer-to-
Computer Facility (``CCF'').
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    \8\ Profile is an electronic communication system through DTC 
which allows participants and DRS Limited Participants to send 
instructions to each other regarding the movement of DRS shares.
    \9\ For a description of DRS limited participants, refer to 
Securities Exchange Act Release No. 37931 (November 7, 1996), 61 FR 
58600 (November 15, 1996) [File No. SR-DTC-96-15].
    \10\ Profile will also allow a DRS limited participant upon 
instructions from a customer to electronically request a participant 
to move the customer's positions from the participant's account at 
DTC to the customer's account at the DRS limited participant.
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    Representative members of the STA reported to the DRS Committee 
that some transfer agents may not be able to implement Profile until 
some time in calendar year 2000. Members of the SIA, on the other hand, 
expected Profile to be implemented during the third quarter of 1999 and 
are concerned that implementation will be delayed indefinitely. Because 
of differing views on the implementation schedule for Profile, no 
industry consensus has emerged on whether DRS should continue to 
operate as it does today or whether use of DRS should be restricted in 
some manner until Profile is implemented.
    As an industry utility and administrator of the systems used to 
facilitate DRS activity between participants and DRS limited 
participants, DTC initially filed and amended its proposed rule change 
to request guidance from the Commission in resolving the impasse 
between members of the STA and the SIA. DTC proposed four options on 
how to proceed in the implementation of Profile.\11\ The options 
included:
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    \11\ DTC initially proposed three options. Options (1) through 
(3), on making additional securities issues eligible for inclusion 
in DRS. However after publication of the proposed rule change, 
several DRS limited participants indicated that they may be 
operationally able to implement the Profile feature by the proposed 
deadline of August 31, 1999, or shortly thereafter. In addition, the 
SIA submitted a comment letter supporting the concept of permitting 
any DRS limited participant capable of using the Profile feature by 
the August 31, 1999, deadline to be able to do so and to allow that 
DRS limited participant to make additional issues eligible. [See 
letter form Jerome Clair, Chair, SIA Operations Committee, to 
Jonathan Katz, Secretary, Commission (July 14, 1999).] As a result 
of these developments, DTC amended its proposed rule change to add 
on additional option, Option (4), to its recommendations.
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    (1) if all DRS limited participants are not able to implement 
Profile by September 13, 1999,\12\ no additional securities issues 
would be made eligible after September 13, 1999, for inclusion in DRS 
until sometime in the first quarter of 2000 when all DRS limited 
participants are able to implement Profile using either DTC's PTS, or 
its CCF;
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    \12\ DTC originally proposed a deadline of August 31, 1999. 
However DTC amended its proposed rule change to change the deadline 
to September 13, 1999. Securities Exchange Act Release No. 41643 
(July 22, 1999), 64 FR 41171 (July 29, 1999).
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    (2) securities issues would continue to be made eligible for 
inclusion in DRS in the manner in which they are currently make 
eligible for inclusion;
    (3) securities would continue to be made eligible for inclusion in 
DRS provided that each DRS limited participant could be the DRS limited 
participant for no more than two new issues per month. If all DRS 
limited participants are not able to implement Profile by using PTS or 
CCF by March 31, 2000, no additional securities issues would be made 
eligible for inclusion in DRS until such time as all DRS limited 
participants are ready to use Profile; or
    (4) if a DRS limited participant implements Profile by September 
15, 1999,\13\ either through PTS or CCF, that DRS limited participant 
will be allowed to continue to make securities eligible for inclusion 
in DRS. Any DRS limited participant that does not implement Profile 
either through PTS or CCF by September 15, 1999, will not be allowed to 
make additional securities eligible for DRS until such time as it 
implements Profile after January 15, 2000.
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    \13\ In both amendments, DTC proposed to require use of Profile 
by September 13, 1999, in Option (4). However, DTC recently filed a 
proposed rule change addressing Year 2000 system concerns in which 
it plans to close its systems on September 15, 1999, to any system 
changes, testing of its systems with participants not currently 
using a specific DTC system, and new participants. Securities 
Exchange Act Release No. 41799 (August 27, 1999), 64 FR 48690 
(September 7, 1999) [File No. SR-DTC-99-20]. DTC is extending the 
date in Option (4) of the DRS filing to September 15, 1999, in order 
to have consistent cutoff dates. Conversation with Jeffrey T. 
Waddle, Associate Counsel, DTC, with Susan Petersen (September 9, 
1999). Since adding new DRS limited participants or permitting 
current DRS limited participants to use Profile requires DTC to test 
its systems with the DRS limited participant, DTC's general 
September 15, 1999, systems cutoff date applies to DRS applications.
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    DTC also amended the proposed rule change to clarify its 
description of Profile by adding language indicating that Profile was 
developed to incorporate the use of an ``electronic medallion 
guarantee.'' \14\
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    \14\ Supra note 3.
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    On August 31, 1999, DTC filed its second amendment to withdraw 
Options (1), (2), and (3). Based on the comment letters it received and 
on its discussions with Commission staff, DTC believes that Option (4) 
represents the most equitable option.

II. Comment Letters

    The Commission received twenty-one comment letters.\15\ Five 
commenters, representing primarily broker-dealers or associations 
representing broker-dealer interests, support limitations on making 
additional issues eligible if all DTC limited participants are not able 
to implement Profile by August 31, 1999, [i.e., Option (1)]. While 
generally supporting the concept of DRS, these commenters state that 
their understanding of the DRS concept includes the ability of 
shareholders to ``recover'' their shares once the issuer places the 
securities in DRS. The commenters contend that the current system is 
not working because it is labor intensive, error-prone, confusing to 
investors, and causing unreasonable delays in confirming receipt of 
customers' positions, transferring customers' shares, and crediting 
customers with sale proceeds.\16\ One of the five commenters stated it 
experiences an average ``turnaround time'' of twenty-six to thirty 
days.\17\
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    \15\ Supra note 4.
    \16\ Because DRS limited participants are currently not using 
Profile to receive instructions, brokers or their customers must 
submit requests to move DRS shares by sending a transaction advice 
to the DRS limited participant generally through the U.S. mail or a 
commercial delivery service. Once the transaction advice is received 
by the transfer agent and processed, the transfer agent delivers the 
shares through DTC's Delivery Order system to the broker's account 
at DTC.
    \17\ The commenter's reference to turnaround time refers to the 
time between when that broker submits the transaction advice to the 
transfer agent for transfer and when the position is credited to the 
broker-dealer's account at DTC.
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    One commenter supports limitations on making additional issues 
eligible applicable to those agents that are not using Profile by 
September 13, 1999, [i.e., Option (4)].\18\ This commenter states that 
requiring the use of Profile will not impose any significant system 
changes on most DRS limited participants (this is particularly true if 
the DRS limited participant receives instructions through PTS) and is 
preferable to the current paper-based

[[Page 51164]]

processing because DRS limited participants will receive instructions 
in a uniform manner. Furthermore, this commenter states that because 
some transfer agent representatives on the DRS Committee recently 
reopened issues the commenter believes had been addressed and agreed 
upon by the DRS Committee, it believes that transfer agents are not 
operating in good faith to resolve the outstanding operational and 
liability issues facing DRS.
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    \18\ The SIA submitted two letters. One letter addressed the 
proposed rule change which recommended Options (1) through (3). The 
second letter addressed DTC's first amendment which added Option 
(4). (See letters from Jerome J. Claire and John Cirrito, SIA.)
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    Thirteen commenters, representing primarily issuers and transfer 
agents, support continuation of DRS as it is currently operating [i.e., 
Option (2)]. These commenters believe that the unrestricted ability to 
allow issues to be made eligible in DRS is in the public interest. They 
contend that DRS as it is operating today (i.e., without Profile) 
benefits the marketplace by providing shareholders with another option 
on how to hold their securities and by providing issuers and their 
transfer agents with cost savings from not having to issue and process 
physical certificates.
    Three of these twelve commenters do not support the use of Profile 
in DRS at this time due to the number of unresolved issues surrounding 
its use in the marketplace.\19\ They contend that there are fundamental 
flaws with Profile in its current form, including insufficient 
protection for both issuers and investors against fraudulent transfers. 
One of these three commenters said it would oppose a system that allows 
transfers without direct instruction from the shareholder or its legal 
agent.\20\ Another of these three commenters suggests that use of 
Profile as proposed may constitute an invalid transfer and that this 
issue should also be carefully considered in light of both domestic and 
foreign law.\21\
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    \19\ One of these commenters, the STA, submitted an extensive 
comment letter expressing its opinion on a number of issues 
including perceived legal defects in DTC's filing and unaddressed 
liability risks to issuers and transfer agents in the movement of 
shares through DTC's systems and its recommendations on issues that 
the STA believes should be resolved prior to implementing Profile.
    \20\ On this issue, the commenter does not address the argument 
that the broker may be considered as the customer's legal 
representative for purposes of conveying its customer's instruction 
to move the DRS positions from the issuer's books to the broker's 
account at DTC.
    \21\ The Commission staff is working with the DRS Committee and 
the New York Stock Exchange to address issues regarding the 
application of the Uniform Commercial Code to the use of Profile and 
the underlying electronic medallion guarantee.
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    Seven commenters generally accept the use of Profile as part of DRS 
but do not support its implementation until such time as the 
outstanding issues concerning liability are resolved.One of these seven 
commenters believes Profile should not be a condition of participating 
in DRS and that issuers should be given an option as to whether to use 
Profile for their issues. The three remaining commenters do not take a 
position on Profile but believe discussions regarding use of Profile in 
DRS should proceed separately from DRS use and eligibility 
requirements.
    Finally, one commenter supports allowing transfer agents to make 
two or three issues eligible per month, and if all agents are not using 
Profile by an established date in 2000,\22\ to discontinue allowing any 
new issues to be made eligible until such time as all agents are using 
Profile [i.e., Option (3)]. This commenter conditioned its comment in 
favor of this option on DTC revising the cut-off date from March 31, 
2000, to June 30, 2000. This commenter contends that the DRS Committee 
needs additional time to resolve outstanding issues that are critical 
to operating DRS efficiently and effectively. Delaying implementation 
until these issues are resolved, this commenter believes, will benefit 
both investors and the industry.
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    \22\ The commenter believes June 30, 2000, to be a more 
reasonable date than March 31, 2000, in light of the system changes 
the commenter believes DRS limited participants will have to 
undertake before they will be able to implement Profile. (See letter 
from Timothy J. Carlin, Wells Fargo & Company.)
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III. Discussion

    Section 17A(b)(3)(F) of the Act \23\ requires that the rules of a 
clearing agency be designed to promote the prompt and accurate 
clearance and settlement of securities transactions \24\ and to remove 
impediments to and perfect the mechanism of a national system for the 
prompt and accurate clearance and settlement of securities 
transactions. The Commission believes that the proposed rule change is 
consistent with DTC's obligations under Section 17A(b)(3)(F).
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    \23\ 15 U.S.C. 78q-1(b)(3)(F).
    \24\ Pursuant to Section 17A(a)(1)(A) of the Act, the prompt and 
accurate settlement of securities transactions includes the transfer 
of record ownership of securities.
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    By permitting only those DRS limited participants that use Profile 
to continue to make issues eligible for DRS, a more efficient mechanism 
for the transfer of DRS positions between an investor's broker-dealer 
and the transfer agent should be promoted. Currently, there is 
substantial evidence to indicate that the transfer of DRS positions, 
which is presently a multi-step, paper-based process, is labor 
intensive and slow. For an investor to move a DRS position from a DRS 
limited participant to a broker, the investor must have a transaction 
advice signature guaranteed and physically delivered to the DRS limited 
participant. When the transaction advice is received, the DRS limited 
participant enters the information into its system to process the 
instructions. Only after the DRS limited participant completes its 
processing is the investor's DRS position moved to the broker. In 
addition, since the information contained on the transaction advices is 
not standardized throughout the industry, investors (or brokers sending 
the transaction advices on behalf of their customers) do not always 
provide the correct or complete information necessary to process the 
instructions. Furthermore, an investor generally can not sell, pledge, 
tender, or otherwise dispose of a DRS position until the broker's 
account at DTC has been credited with the shares.\25\
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    \25\ In contrast, an investor with a stock certificate can 
immediately sell, pledge, tender, etc. her shares with a broker.
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    Using Profile, DRS participants will send standardized information 
which thereby should reduce the possibility that the instruction will 
be rejected due to errors or incomplete information. Because Profile is 
an electronic system that eliminates the need for the information to be 
physically delivered, it should make the processing of DRS instructions 
more efficient and should give investors the ability to execute 
transactions using their DRS positions in a time frame that is at least 
as fast as when using certificate. In short, Profile should reduce the 
time it takes for the DRS limited participant to receive and process 
DRS instructions.
    Accordingly, while several DRS limited participants believe that 
DRS is working well today and that there should not be any changes made 
or conditions imposed on making issues DRS eligible, the Commission 
believes that DTC's decision to require a DRS limited participant to 
use Profile before making any additional issues DRS eligible is 
consistent with DTC's statutory obligations under Section 17A of the 
Act because by adding efficiencies and reducing the potential for 
errors, the proposed rule change should promote the prompt and accurate 
clearance and settlement of securities transactions and help perfect 
the mechanism of a national system for the prompt and accurate 
clearance and settlement of securities transactions.
    The Commission also finds that requiring those participating in DRS 
to use the Profile feature is consistent with the general purposes of 
Section 17A of the Act. When enacting Section 17A, Congress set forth 
its findings that the

[[Page 51165]]

prompt and accurate clearance and settlement of securities 
transactions, including the transfer of record ownership, is necessary 
for the protection of investors; inefficient procedures for clearance 
and settlement impose unnecessary costs on investors; and that new data 
processing and communications techniques create the opportunity for 
more efficient, effective and safe procedures for clearance and 
settlement.\26\ Profile accomplishes these objectives by providing a 
more efficient mechanism for the movement of investors' securities 
positions than the current multi-step, paper-based DRS processing.
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    \26\ 15 U.S.C. 78q-1(a)(1) (A), (B), and (C).
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    Participation in DRS by issuers or DRS limited participants is not 
mandatory.\27\ Issues regarding risks and liabilities to issuers or 
transfer agents \28\ are internal business issues and should be 
addressed prior to an issuer or transfer agent's decision to 
participate or participate further in DRS. On the other hand, 
participation in DRS by investors is not always voluntary. Although it 
was originally contemplated that shareholders would initiate their 
participation by individually choosing to hold their securities as DRS 
positions, DRS has developed so that in most situations issuers and 
transfer agents are making the decision for investors by establishing 
DRS positions on their books instead of issuing certificates. The vast 
majority of shares issued to shareholders as DRS positions have been 
the result of corporate actions (e.g., splits, mergers, and spin-offs) 
without any election by the shareholders.
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    \27\ However, once an issuer and DRS limited participant decided 
to participate in DRS, use of Profile, which includes such things as 
the acceptance of the electronic medallion guarantee, is required.
    \28\ In their comment letters to DTC's proposed rule change, 
some transfer agents contend there are business risks and liability 
concerns associated with use of the Profile feature. Because 
participation in DRS is not mandatory, the Commission is not 
addressing these issues in this order. The Commission urges 
representatives of the issuer, transfer agent, and broker-dealer 
community to continue discussions to resolve the outstanding DRS 
issues relative to processing and liability.
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    The Concept Release indicated that although industry participants 
would be free to decide for themselves whether they wanted to offer 
investors the services that comprise DRS, once the service is offered, 
its implementation and operation must be efficient, safe, and largely 
transparent to investors.\29\ Therefore, DRS should not materially 
disadvantage shareholders when compared with the current processing of 
physical securities. The delays caused by requiring shareholders to 
either contact the DRS limited participant directly or to send 
transaction advices through the mail, as suggested by some commenters 
as the preferable method to process shareholder requests for 
transferring their shares to a broker, generally precludes shareholders 
holding DRS positions from executing transactions on the same basis as 
investors holding certificates. The use of Profile in DRS should reduce 
these delays.
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    \29\ Supra note 6.
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    The Commission finds good cause for approving the proposed rule 
change prior to the thirtieth day after the publication of notice of 
the filing of DTC's second amendment. The Commission finds good cause 
for so approving the proposed rule change because Option (4) was 
previously published in its entirety and the public had an opportunity 
to comment on its merits. The Commission believes accelerated approval 
will allow DRS participants to prepare for any operational changes that 
may be necessary in light of DTC's Year 2000 shutdown date of September 
15, 1999.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. 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-
0609. 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. Sec. 552, will be available for inspection and copying in 
the Commission's Public Reference Room, 450 Fifth Street, N.W., 
Washington, D.C. 20549. Copies of such filing will also be available 
for inspection and copying at the principal office of DTC. All 
submissions should refer to the File No. SR-DTC-99-16 and should be 
submitted by October 12, 1999.

V. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposal is consistent with the requirements of the Act and in 
particular with the requirements of Section 17A of the Act and the 
rules and regulations thereunder.
    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that the proposed rule change (File No. SR-DTC-99-16) be and hereby is 
approved.

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\30\
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    \30\ 17 CFR 200.30-3(a)(12)
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 99-24495 Filed 9-20-99; 8:45 am]
BILLING CODE 8010-01-M