[Federal Register Volume 67, Number 141 (Tuesday, July 23, 2002)]
[Notices]
[Pages 48237-48239]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-18566]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-46221; File No. SR-NASD-2002-15]


Self-Regulatory Organizations; Order Approving a Proposed Rule 
Change by the National Association of Securities Dealers, Inc. Relating 
to Situations in Which a Suspended, Terminated, or Otherwise Defunct 
Member or Associated Person Fails To Answer or Participate in an 
Arbitration Proceeding

July 17, 2002.

I. Introduction

    On February 1, 2002, the National Association of Securities 
Dealers, Inc. (``NASD''), through its wholly owned subsidiary, NASD 
Dispute Resolution, Inc. (``NASD Dispute Resolution''), filed with the 
Securities and Exchange Commission (``Commission''), pursuant to 
Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act'') \1\ 
and Rule 19b-4 thereunder,\2\ a proposed rule change to amend Rule 
10314 of the NASD Code of Arbitration Procedure (``Code'') to provide 
default procedures for situations in which a suspended, terminated, or 
otherwise defunct member or associated person (collectively referred to 
in this order as ``defunct'') fails to answer or participate in an 
arbitration proceeding, and the claimant nevertheless elects to pursue 
arbitration. The proposed rule change was published for comment in the 
Federal Register on May 1, 2002.\3\ The Commission received one comment 
letter regarding the proposal.\4\ NASD Dispute Resolution filed a 
response to the comment letter with the Commission on July 3, 2002.\5\ 
This order approves the proposed rule change.\6\
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities and Exchange Act Release No. 45818 (April 24, 
2002), 67 FR 21789.
    \4\ See letter from Barbara Black, Professor, and Jill I. Gross, 
Visiting Professor, Pace Law School, to Secretary, Commission, dated 
May 21, 2002 (``Pace Letter'').
    \5\ See letter from Jean I. Feeney, Chief Counsel and Associate 
Vice President, NASD Dispute Resolution, to Florence Harmon, Senior 
Special Counsel, Division of Market Regulation (``Division''), 
Commission, dated July 3, 2002 (``NASD Letter'').
    \6\ The NASD Dispute Resolution represents that the proposal 
will be effective by October 15, 2002. Telephone conversation 
between Jean I. Feeney, Chief Counsel and Associate Vice President, 
NASD Dispute Resolution, and Cyndi Nguyen, Attorney, Division, 
Commission, on July 8, 2002.
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II. Description of the Proposed Rule Change

    NASD Dispute Resolution is proposing to amend Rule 10314 of the 
Code to provide an expedited default procedure for certain cases in 
which a respondent is an associated person whose registration is 
terminated, revoked, or suspended; a member whose membership has been 
terminated, suspended, canceled, or revoked; a member that has been 
expelled from the NASD; or a member that is otherwise defunct. NASD 
Dispute Resolution represents that the procedures are designed to make 
it easier for claimants to obtain an award against a defunct party. 
This award can then be enforced in court. NASD Dispute Resolution 
states that the proposed rule change would address some concerns 
discussed in a United States General Accounting Office (``GAO'') report 
that was issued in June 2000.\7\
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    \7\ The report is entitled ``Securities Arbitration: Actions 
Needed to Address Problems of Unpaid Awards,'' Report No. GAO/GGD-
00-115 (June 15, 2000) (``GAO Report''). The report is available 
online at http://www.gao.gov.
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    Under the proposed rule change, if a defunct respondent fails to 
answer the claim in a timely manner, the claimant may elect to proceed 
under optional default procedures as to that respondent. If there are 
several claimants, all must agree to use default procedures. The 
default procedures may be used against one or more defunct respondents 
while the rest of the initial

[[Page 48238]]

arbitration proceeds against any remaining respondents.\8\
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    \8\ If a case is to be a bifurcated and handled under two 
different procedures, regular and default, each proceeding will be 
assigned a separate case number to avoid confusion. Proposed NASD 
Rule 10314(e) provides that the default award will have no effect on 
any non-defaulting part.
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    If the claimant opts to use default procedures, the case would 
proceed with a single arbitrator without a hearing. Under the default 
procedures, the arbitrator would make an award based upon the Statement 
of Claim and any other material submitted by the claimant. The 
arbitrator may request additional information from the claimant before 
rendering an award. In keeping with the streamlined nature of the 
procedures, neither the claimant nor the single arbitrator would have 
the option to ask that two additional arbitrators be appointed to 
decide the case (as is sometimes done in other single-arbitrator 
cases).
    NASD Dispute Resolution states that the procedures have several 
provisions to safeguard the integrity of the process, such as:
     The claimant may not amend the claim to increase the 
relief requested after the staff has notified the parties that the 
claim will proceed under default procedures.
     An arbitrator may not make an award based solely on the 
non-appearance of a party. The party who appears must present a 
sufficient basis to support the making of an award in that party's 
favor.
     The arbitrator may not award damages in an amount greater 
than the damages requested in the Statement of Claim and may not award 
any other relief that was not requested in the Statement of Claim.
    The proposed rule provides, however, that the default award would 
have no effect on the non-defaulting parties. The proposed rule would 
apply to all types of claimants, such as customers, associated persons, 
or member firms, that are bringing a claim against a suspended or 
terminated member or associated person.
    Finally, if a respondent thought to be defunct belatedly files an 
answer or otherwise begins to participate after the staff has notified 
the parties that the claim will proceed under default procedures but 
before an award has been rendered, the default procedures would be 
suspended, and the case would proceed under the regular procedures.\9\
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    \9\ See NASD Letter, supra note 5.
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III. Summary of Comments and NASD Dispute Resolution's Response

    As noted above, the Commission received one comment letter 
regarding the original proposal.\10\ NASD Dispute Resolution filed a 
response to address concerns raised by the comment letter.\11\
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    \10\ See Pace Letter, supra note 4.
    \11\ See NASD Letter, supra note 5.
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    The commenters supported the proposed rule change as beneficial to 
customers and stated that the default procedures set forth in proposed 
NASD Rule 10314(e) would provide an alternative so that claimants can 
expeditiously obtain an award without the necessity of a hearing. 
However, the commenters proposed two substantive changes to the 
rule.\12\
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    \12\ See Pace Letter, supra note 4.
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    First, the commenters questioned the fairness of paragraph (e)(7) 
of the proposed rule, which provides that the default procedures are 
terminated if the respondent files an answer anytime before an award 
has been rendered. The commenters believe that respondents who do not 
file an answer until late in the process should not have an absolute 
right to terminate the default procedure. They suggested that the 
decision to terminate the default procedure and resume the case under 
regular procedures should be granted at the discretion of the 
arbitrator, after giving the claimant an opportunity to respond to the 
request.\13\
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    \13\ The commenters suggest that, in making the decision, the 
arbitrator should take into account the reasons given by the 
respondent for not filing sooner and the hardship to the claimant of 
being required to go forward with a hearing. See Pace Letter, supra 
note 4.
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    NASD Dispute Resolution responds that it is appropriate to allow 
the defaulting respondent to appear and automatically terminate default 
procedures. NASD Dispute Resolution states that to deny the respondent 
the right to rejoin the regular proceedings due to a late answer could 
result in court challenges that might delay the proceeding to the 
claimant's detriment.\14\ The NASD Dispute Resolution also states that 
a respondent is unlikely to abuse this provision to fail deliberately 
to appear and then make a sudden untimely appearance because the 
respondent would have to rejoin the case where the respondent finds 
it.\15\ Furthermore, NASD Dispute Resolution states that NASD Rule 
10314(b)(2)(C) would provide sufficient deterrent from such abuse 
because it provides that a respondent who fails to file an answer 
within 45 calendar days from receipt of service of a claim, unless the 
time to answer has been extended, ``may, in the discretion of the 
arbitrators, be barred from presenting any matter, arguments, or 
defenses at the hearing.''
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    \14\ NASD Dispute Resolution made reference to Rule 55(c) of the 
Federal Rules of Civil Procedure that provides that, for good cause 
shown, the court may set aside an entry of default and, if a 
judgment by default has been entered, may likewise set it aside in 
accordance with Rule 60(b). See NASD Letter, supra note 5.
    \15\ For example, if a single arbitrator or the panel has 
already been selected, the respondent would have to accept that 
choice without input into the selection, subject only to a challenge 
for cause. Additionally, in multi-party cases, if a prehearing 
conference or hearing session has been held, the late-appearing 
respondent is subject to previous determinations unless the 
respondent successfully moves for relief. See NASD Letter, supra 
note 5.
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    Second, the commenters criticized the proposed rule for not 
addressing the situation where after filing an answer, the respondent 
ceases to participate in the hearing because of one of the events 
described in proposed NASD Rule 10314(e)(1). The commenters suggested 
that, in this event, the claimant should have the option to convert the 
proceedings to a default procedure.\16\
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    \16\ See Pace Letter,  supra note 4.
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    In response, NASD Dispute Resolution states its intention to draft 
a rule that would cover the majority of situations involving defunct 
respondents without making it unduly complicated. If it should happen 
that, after filing an answer, a respondent becomes defunct as defined 
in proposed NASD Rule 10314(e)(1), the claimant would put on its case, 
and the panel issue an award. If there are no other respondents, NASD 
Dispute Resolution states that the matter could be concluded 
expeditiously and that it may not even be necessary to hold an in-
person hearing, which would further reduce hearing session costs to the 
claimant.\17\
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    \17\ See NASD Letter, supra note 5.
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    Although NASD Dispute Resolution does not feel that an amendment to 
the proposed rule is currently necessary, it states that it would 
monitor the operation of the rule and consider any further enhancements 
that may be warranted.

IV. Discussion

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of the Act and the rules and 
regulations thereunder applicable to a national securities 
association.\18\ In particular, the Commission finds that the proposal 
is consistent with Section 15A(b)(6) of the Act,\19\ in that it is 
designed to

[[Page 48239]]

prevent fraudulent and manipulative acts and practices, to promote just 
and equitable principles of trade, and to protect investors and the 
public interest.
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    \18\ In approving this proposal, the Commission has considered 
the proposed rule's impact on efficiency, competition, and capital 
formation. 15 U.S.C. 78c(f).
    \19\ 15 U.S.C. 78o-3(b)(6).
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    Specifically, the Commission finds that NASD Dispute Resolution's 
proposal is designed to protect investors and the public interest by 
making it faster and less costly for investors and other claimants to 
proceed and obtain awards against defunct members and associated 
persons while also providing safeguards to all parties. The Commission 
also believes that the proposed rule change implements the 
recommendations in the GAO report concerning unpaid arbitration awards 
issued in arbitration proceedings in securities industry arbitration 
forums.

V. Conclusion

    For the foregoing reasons, the Commission finds that the proposed 
rule change is consistent with the requirements of the Act and rules 
and regulations thereunder.
    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\20\ that the proposed rule change (SR-NASD-2002-15) is approved.
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    \20\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\21\
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    \21\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-18566 Filed 7-22-02; 8:45 am]
BILLING CODE 8010-01-M