[Federal Register Volume 66, Number 131 (Monday, July 9, 2001)]
[Notices]
[Pages 35819-35822]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-17004]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-44499; File No. SR-NASD-2001-14]


Self-Regulatory Organizations; Order Approving Proposed Rule 
Change and Amendment No. 1 Thereto by the National Association of 
Securities Dealers, Inc. To Modify Certain Initial and Continued 
Listing Standards on Nasdaq

June 29, 2001.

I. Introduction

    On March 8, 2001, the National Association of Securities Dealers, 
Inc. (``NASD''), through its subsidiary, the Nasdaq Stock Market, Inc. 
(``Nasdaq''), filed with the Securities and Exchange Commission 
(``SEC'' or ``Commission''), pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 \2\ 
thereunder, a proposal to modify certain initial and continued listing 
standards on Nasdaq. Nasdaq also requested that the Commission grant 
accelerated approval for a pilot program that would give certain of the 
proposed new listing standards immediate effectiveness. On April 26, 
2001, Nasdaq submitted Amendment No. 1 to the proposal.\3\ On May 1, 
2001, the Commission published notice of the proposal in the Federal 
Register and approved the proposed pilot program on an accelerated 
basis.\4\ The Commission received one comment on the proposal. This 
order approves the proposed rule change and Amendment No. 1.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from Sara Nelson Bloom, Associate General 
Counsel, Nasdaq, to Katherine A. England, Assistant Director, 
Division of Market Regulation, Commission (April 25, 2001). In 
Amendment No. 1, Nasdaq provided a chart that clarifies the proposed 
schedule for implementing the new listing standards and made certain 
technical corrections to the proposal.
    \4\ See Securities Exchange Act Release No. 44243 (May 1, 2001), 
66 FR 23285 (May 8, 2001).
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II. Description of the Proposal

    Nasdaq proposed to amend NASD Rules 4200, 4310, 4320, 4420, and 
4450 and thereby to modify certain quantitative initial and continued 
listing

[[Page 35820]]

standards on Nasdaq. These amendments would: (1) Replace the net 
tangible assets standard with an equity standard; (2) require that 
currently trading issuers applying for initial listing under the market 
capitalization alternative demonstrate 90 days of sustained compliance 
with the bid price and market capitalization requirements before they 
are eligible to apply to become listed; (3) clarify that Nasdaq will 
exclude extraordinary or non-recurring items for purposes of 
determining compliance with the income standard; and (4) adjust the bid 
price requirement associated with continued listing on the Nasdaq 
National Market under the market capitalization standard from $5 to $3. 
Nasdaq stated that these changes were designed to have minimal impact 
on issuers in the marketplace while providing greater transparency and 
consistency.

The Equity Standard

    Companies may qualify for initial or continued inclusion on the 
Nasdaq National Market or the Nasdaq SmallCap Market based, in part, on 
their net tangible assets. Net tangible assets are defined as total 
assets less total liabilities less goodwill. Nasdaq proposed to replace 
the net tangible assets standard with an equity standard for several 
reasons. First, Nasdaq stated that the equity standard is more 
transparent to investors, as it is reflected in issuer financial 
statements, as opposed to the net tangible assets standard which must 
be manually calculated. Nasdaq concluded that, for this reason, the 
equity standard would also provide a better framework for complimentary 
standards in Nasdaq's developing international markets. Second, Nasdaq 
asserted that the change would respond to recent accounting 
developments which may tend to require an increase in the booking of 
goodwill. Finally, Nasdaq stated that the use of an equity standard is 
consistent with listing standards on the New York Stock Exchange 
(``NYSE'') and the American Stock Exchange (``Amex'').\5\
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    \5\ See NYSE Rules 102 and 103 (initial listing standards), 802 
(continued listing standards); Amex Listing Rules 102 (initial 
listing standards) and 1003 (continued listing standards).
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    With respect to the Nasdaq National Market, the $6 million net 
tangible assets requirement for initial listing under Entry Standard 1 
(for companies with pre-tax income of at least $1 million in the latest 
fiscal year or two of the last three years) would be changed to a $15 
million stockholders' equity requirement, and the $18 million net 
tangible assets requirement under Entry Standard 2 (for companies 
without the above-referenced pre-tax income) would be changed to $30 
million in stockholders' equity. In addition, the $4 million net 
tangible assets continued listing requirement would be changed to $10 
million in stockholders' equity. With respect to the SmallCap Market, 
the $4 million net tangible assets initial inclusion requirement would 
be changed to $5 million in stockholders' equity, and the $2 million 
net tangible assets continued inclusion requirement would be changed to 
$2.5 million in stockholders' equity.

Seasoning Period for Applicants Relying on the Market Capitalization 
Standard

    Companies may qualify for listing on Nasdaq based, in part, on 
their market capitalization. The market capitalization listing 
standards were originally adopted in 1997 to permit the inclusion of 
certain financially sound issuers that could not qualify under the net 
tangible assets requirement as a result of accounting conventions such 
as the booking of goodwill associated with various merger and 
acquisition activities or significant depreciation charges.\6\ These 
standards permit an issuer to list with a bid price of $5 and a market 
capitalization of $75 million (in the case of the Nasdaq National 
Market) or a bid price of $4 and a market capitalization of $50 million 
(in the case of the Nasdaq SmallCap Market).
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    \6\ See Securities Exchange Act Release No. 38961 (August 22, 
1997), 62 FR 45895 (August 29, 1997) (approving SR-NASD-97-16).
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    Since the adoption of the rule, Nasdaq has noted certain instances 
where publicly traded companies (including companies quoted on the OTC 
Bulletin Board) have applied to list on Nasdaq based on the market 
capitalization listing standards. In these circumstances, companies may 
be able to evidence compliance based on short-term price reaction to 
favorable news, which price increase may not be sustainable over the 
long term. Accordingly, Nasdaq proposed a ``seasoning'' period of 90 
days for currently traded issuers, such that an issuer must maintain 
the required bid price and market capitalization for that period prior 
to applying for listing. Nasdaq believes that this seasoning period, 
especially when coupled with the time necessary to review and process 
any such application, would provide assurances that a company would be 
unable to secure a Nasdaq listing based on an unsustainable, short-term 
run-up in its stock price.

Extraordinary and Non-Recurring Income Items

    The income standards for the Nasdaq Stock Market currently make no 
provision for the exclusion of extraordinary or non-recurring items 
when assessing an issuer's compliance with the income requirements for 
listing on Nasdaq. However, Nasdaq believes that it is appropriate to 
exclude extraordinary and non-recurring income items because they do 
not provide a continuing benchmark of the issuer's financial 
performance. Accordingly, Nasdaq proposed that the National Market and 
SmallCap Market rules relating to the income standards be amended to 
indicate that the income determination will exclude extraordinary and 
non-recurring items.

Bid Price Standard for Issuers Qualifying Under the Market 
Capitalization Standard

    Issuers that seek to qualify for the Nasdaq National Market 
pursuant to the market capitalization alternative \7\ must demonstrate 
a $5 bid price for both initial and continued inclusion. Nasdaq 
proposed to adjust the continued inclusion standard, applicable to 
Nasdaq National Market companies qualifying under the market 
capitalization standard, from $5 to $3. This would harmonize this 
standard with other standards by providing a differential between the 
initial inclusion and continued inclusion requirements.
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    \7\ See NASD Rules 4420(c) and 4450(j).
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Implementation

    To minimize disruption to existing issuers and to allow adequate 
time for necessary corporate action to comply with the stockholders' 
equity standard, Nasdaq proposed to provide its issuers with 18 months 
following Commission approval of the proposed pilot to come into 
compliance with the new standard. During this time, issuers that do not 
meet the new stockholders' equity standard could qualify for continued 
listing under the net tangible assets standard.
    Similarly, for issuers that applied for listing prior to the 
effective date of the rule, Nasdaq proposed that they continue to be 
able to qualify for listing under the listing standards in force at the 
time of their application for a period of 90 days from the effective 
date of the proposed rule change, and thereafter receive the same grace 
periods provided to current issuers to come into compliance with the 
new equity test. Alternatively, such issuers may qualify for listing 
under the new stockholders' equity test for initial inclusion.

[[Page 35821]]

    In addition, Nasdaq proposed a pilot program that would allow 
issuers that meet the new original listing and maintenance standards 
but not the old standards to remain listed on Nasdaq for a short period 
while the Commission considers the overall proposal. The pilot program 
was designed to ensure that issuers that meet the new standards but not 
the existing standards are not delisted before the Commission takes 
final action on the proposed rule change. The standards included in the 
pilot are: (1) The new bid price requirement found in NASD Rule 
4450(b)(4); and (2) the new equity standard, which replaces the old net 
tangible assets standard, found in NASD Rules 4310(c)(2)(A)(i), 
4310(c)(2)(B)(i), 4320(e)(2)(A)(i), 4320(e)(2)(B)(i), 4420(a)(5), 
4420(b)(1), and 4450(a)(3). Nasdaq proposed that the pilot program 
would expire on July 1, 2001, or such earlier time as the Commission 
takes action on the overall proposal. The Commission approved the pilot 
program on an accelerated basis on May 1, 2001.\8\
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    \8\ See Securities Exchange Act Release No. 44243 (May 1, 2001), 
66 FR 23285 (May 8, 2001).
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III. Comment Received

    The Commission received one comment on the proposal, from Princeton 
Video Image, Inc. (``PVI'').\9\ PVI agreed with Nasdaq that shifting 
from a net tangible assets standard to a stockholders' equity standard 
was an improvement, in that it would be more transparent to investors. 
PVI asserted, however, that Nasdaq had provided no justification for 
the simultaneous 150% increase in the dollar threshold for the test. 
PVI also noted that the proposed rule change would force many companies 
to raise capital that they do not otherwise need for operations or 
investment. PVI concluded that the rule would unfairly and 
unnecessarily dilute shareholders' interests, particularly in companies 
that have sufficient net tangible assets under the existing standard to 
meet operating requirements but do not yet generate positive earnings 
due to revenue recognition requirements or amortization of non-cash 
charges.
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    \9\ See Letter from Lawrence L. Epstein, Vice President and 
Chief Financial Officer, PVI, to Secretary, Commission, dated June 
15, 2001.
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    In response to PVI's comment, Nasdaq responded that, since the net 
tangible assets standard excludes certain intangible assets that are 
included in equity such as goodwill, it believes that a higher equity 
requirement is necessary in order to maintain its listing standard at 
the existing level.\10\ An impact analysis conducted by Nasdaq at the 
end of April 2001 showed that less than 2% of the compliant National 
Market companies and approximately 3% of the compliant SmallCap 
companies would not be able to meet the new equity standard. To allow 
these issuers a sufficient opportunity to come into compliance with the 
new equity requirement, Nasdaq proposed that the new standard would not 
be implemented until 18 months after the pilot program is approved by 
the Commission.
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    \10\ See Email from John D. Nachmann, Senior Attorney, Nasdaq, 
to Michael Gaw, Special Counsel, Division of Market Regulation, 
Commission, dated June 29, 2001.
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IV. Discussion

    After considering the comment submitted by PVI and Nasdaq's 
response thereto, the Commission finds that the proposed rule change is 
consistent with the requirements of the Act and the regulations 
thereunder applicable to the NASD.\11\ In particular, the Commission 
believes that the proposal is consistent with Section 15A(b)(6) of the 
Act.\12\ Section 15A(b)(6) requires, among other things, that the rules 
of a national securities association be designed to prevent fraudulent 
and manipulative acts and practices; to promote just and equitable 
principles of trade; to remove impediments to and 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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    \11\ In approving the proposed rule change, the Commission has 
considered its impact on efficiency, competition, and capital 
formation. See 15 U.S.C. 78c(f).
    \12\ 15 U.S.C. 78o-3(b)(6).
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    With respect to Nasdaq's proposal to move from a net tangible 
assets standard to a stockholders' equity standard as part of its 
listing requirements, the Commission notes that it previously approved 
a proposal by the NYSE to institute market capitalization and 
stockholders' equity requirements.\13\ In that case, the Commission 
stated that the amount of stockholders' equity is not an inappropriate 
measure of a company's suitability for listing on an exchange.\14\ 
Accordingly, the Commission finds that it is reasonable and consistent 
with the Act to allow Nasdaq to implement a stockholders' equity 
standard, and that the required minimum thresholds selected by Nasdaq 
for this standard are reasonable. Relying on Nasdaq's response to the 
PVI comment, the Commission believes that only a small number of 
issuers might be adversely affected by the transition from a net 
tangible assets standard to a stockholders' equity standard, and that 
the 18-month transition period should provide such issuers with a 
reasonable amount of time to conform to the new standards.
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    \13\ See Securities Exchange Act Release No. 42194 (December 1, 
1999), 64 FR 69311 (December 10, 1999) (approving SR-NYSE-99-29).
    \14\ See id., 64 FR 69314.
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    With respect to Nasdaq's proposal to lower the bid price 
requirement in Maintenance Standard 2 of NASD Rule 4450 from $5 to $3, 
the Commission notes that the bid price requirement for initial listing 
will remain $5.\15\ Nasdaq's listing rules generally establish a higher 
initial threshold for most criteria and a somewhat lower continued 
requirement to allow for market fluctuations.\16\ Establishing a new 
bid price requirement of $3 for continued listing will make this 
standard similar to other existing standards that allow issuers to 
comply with maintenance requirements that are more flexible than the 
original listing requirements. Accordingly, the Commission finds that 
it is reasonable and consistent with the Act to approve this aspect of 
the proposal.
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    \15\ See NASD Rules 4420(a)(5), 4420(b)(4), and 4420(c)(3).
    \16\ Compare NASD Rule 4420 (giving issuers of Nasdaq National 
Market securities the option of meeting one of three entry standards 
which include requirements that the market value of publicly held 
shares be at least $8 million, $18 million, or $20 million, 
respectively) with NASD Rule 4450 (giving issuers of Nasdaq National 
Market securities the option of meeting one of two maintenance 
standards which include requirements that the market value of public 
held shares be at least $5 million or $15 million, respectively).
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    With respect to the proposed ``seasoning period,'' the Commission 
notes that applicants for listing may be able to evidence compliance 
based on a short-term price increase that may not be sustainable over 
the long term. The seasoning period will assure potential investors 
that the issuer's compliance with the market capitalization standard 
was not based on an unsustainable, short-term run-up in its stock 
price. Therefore, the Commission finds that this aspect of the proposal 
will protect investors and promote just and equitable principles of 
trade.\17\
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    \17\ However, Nasdaq has stated that this requirement would not 
apply to an issuer listing as part of its initial public offering, 
because the same concerns do not exist.
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    The Commission also finds that it is appropriate and consistent 
with the Act for Nasdaq to exclude extraordinary and non-recurring 
income items when assessing an issuer's compliance with the listing 
standards, because financial statements that include such items do not 
provide a continuing benchmark of an issuer's financial performance. 
The Commission believes that excluding such items will allow 
prospective investors to more accurately assess the

[[Page 35822]]

financial health of companies listed on Nasdaq in which they might 
invest.
    Finally, Nasdaq proposed a transition period following the 
Commission's final action on the overall proposal that would allow 
issuers to rely on certain of the old listing standards for a limited 
period of time, rather than require them to come into immediate 
compliance with the new standards.\18\ The Commission notes that 
certain issuers who may reasonably have relied on Nasdaq's prior 
listing standards to obtain or maintain listing might not be able to 
obtain or maintain listing if immediate compliance with the new 
standards were required. Therefore, the Commission finds that it is 
reasonable and consistent with the Act to allow issuers a short period 
of time during which they may obtain or maintain listing on Nasdaq 
pursuant to either the old or the new listing standards.
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    \18\ See 66 FT at 23288 (table showing transition stages).
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V. Conclusion

    IT IS THEREFORE ORDERED, pursuant to section 19(b)(2) of the 
Act,\19\ that the proposed rule change (SR-NASD-2001-14) and Amendment 
No. 1 thereto are approved.
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    \19\ Id.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\20\
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    \20\ 17 CFR 200.30-3(a)(12).
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Jonathan G. Katz,
Secretary.
[FR Doc. 01-17004 Filed 7-6-01; 8:45 am]
BILLING CODE 8010-01-M