[Federal Register Volume 67, Number 238 (Wednesday, December 11, 2002)]
[Notices]
[Pages 76202-76205]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-31199]



[[Page 76202]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-46949; File Nos. SR-NASD-2002-161; SR-NYSE-2002-60]


Self-Regulatory Organizations; Notice of Filing and Immediate 
Effectiveness of Proposed Rule Change and Amendment No. 1 Thereto by 
the National Association of Securities Dealers, Inc. and Notice of 
Filing and Immediate Effectiveness of Proposed Rule Change by the New 
York Stock Exchange, Inc. Relating to Establishing Effective Dates for 
Certain Provisions of NASD Rule 2711, Research Analysts and Research 
Reports and Certain Provisions of NYSE Rule 472, Communications With 
the Public

December 4, 2002.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'')\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on November 5, 2002, the National Association of Securities Dealers, 
Inc. (``NASD''), and on November 8, 2002, the New York Stock Exchange, 
Inc. (``NYSE'' or ``Exchange''), filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') proposed rule changes as 
described in Items I, II, and III below, which Items have been prepared 
by the respective self-regulatory organizations (``SROs''). On November 
26, 2002, NASD filed amendment No. 1 to the proposed rule change.\3\ 
The SROs have designated the proposed rule changes as constituting a 
stated policy, practice, or interpretation with respect to the meaning, 
administration, or enforcement of an existing rule series under 
paragraph (f)(1) of Rule 19b-4 under the Act,\4\ which renders the 
proposals effective upon filing with the Commission. The Commission is 
publishing this notice to solicit comments on the proposed rule 
changes, as amended, from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from Philip Shaikun, Assistant General Counsel, 
NASD, to Katherine A. England, Assistant Director, Division of 
Market Regulation, Commission, dated November 26, 2002 (``Amendment 
No. 1'').In Amendment No. 1, NASD established a further condition 
for delaying the implementation of NASD Rules 2711(b) and (c) until 
May 5, 2003 for members that over the previous three years, on 
average per year, have participated in 10 or fewer investment 
banking transactions or underwritings as manager or co-manager and 
generated $5 million or less in gross investment banking revenues 
from those transactions. Amendment No. 1 requires that those firms 
that meet the eligibility requirements outlined above must maintain 
records of communications that would otherwise be subject to the 
gatekeeper provisions of Rules 2711(b) and (c). In Amendment No. 1, 
NASD also corrected a technical error that appeared in its original 
filing.
    \4\ 17 CFR 240.19b-4(f)(1).
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I. Self-Regulatory Organizations' Statement of the Terms of Substance 
of the Proposed Rule Change

A. NASD

    NASD is filing with the Commission a proposed rule change to 
establish May 5, 2003 as the effective date for NASD Rules 2711(b) and 
(c) for members that over the previous three years, on average, have 
participated in 10 or fewer investment banking transactions as manager 
or co-manager and generated $5 million or less in gross investment 
banking revenues from those transactions. NASD Rules 2711(b) and (c), 
when effective, will prohibit a research analyst from being subject to 
the supervision or control of any employee of a member's investment 
banking department, and will further require legal or compliance 
personnel to intermediate certain communications between the research 
department and either the investment banking department or the company 
that is the subject of a research report or recommendation (``subject 
company'').

B. NYSE

    The NYSE is filing with the SEC a proposed rule change that would 
change the effective date for certain provisions of Rule 472 
(``Communications with the Public'') for certain members and member 
organizations.

II. Self-Regulatory Organizations' Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In their filings with the Commission, NASD and the NYSE included 
statements concerning the purpose of and basis for the proposed rule 
changes. The text of these statements may be examined at the places 
specified in Item IV below. NASD and the NYSE have prepared summaries, 
set forth in Sections A, B, and C below.

A. Self-Regulatory Organizations' Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. NASD's Purpose
    NASD is filing the proposed rule change to establish May 5, 2003 as 
the effective date for NASD Rules 2711(b) and (c) for members that over 
the previous three years, on average per year, have participated in 10 
or fewer investment banking transactions as manager or co-manager and 
generated $5 million or less in gross investment banking revenues from 
those transactions. Pursuant to the SEC's approval of SR-NASD-2002-
87,\5\ NASD Rules 2711(b) and (c) as applied to this class of members 
otherwise would go into effect on November 6, 2002. NASD seeks to delay 
implementation of these provisions for this limited set of members to 
allow NASD to continue to explore with the SEC the appropriate 
treatment of small firms under NASD Rule 2711 and the recently-enacted 
Sarbanes-Oxley law (``Sarbanes-Oxley''). Smaller members often are the 
sole or primary source of underwriting and research coverage for some 
smaller companies; therefore, NASD continues to consider ways to 
preserve this important role served by these firms, to the extent 
consistent with the requirements and objectives of Sarbanes-Oxley and 
NASD Rule 2711.
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    \5\ See Securities Exchange Act Release No. 46165 (July 3, 
2002), 67 FR 46555 (July 15, 2002).
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    On May 10, 2002, the Commission approved new NASD Rule 2711, which 
governs conflicts of interest when research analysts recommend equity 
securities in research reports and during public appearances.\6\ The 
Commission approved a staggered implementation period for the rule. 
Most provisions of the rule became effective on July 9, 2002, including 
those that restrict supervision and control of research analysts by the 
investment banking department. The ``gatekeeper'' provisions, described 
below, became effective September 9, 2002. The remaining provisions of 
the Rule become effective on November 6, 2002, including two provisions 
that were delayed pursuant to approval of SR-NASD-2002-87: (1) 
Provisions that require disclosure of investment banking compensation 
received by foreign affiliates and (2) prohibitions against trading 
against a member's recommendation for those members that have 
instituted a ban on ownership of securities covered by an analyst and 
that have instituted a specific, periodic divestiture schedule.
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    \6\ See Securities Exchange Act Release No. 45908, 67 FR 34968 
(May 16, 2002).
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    NASD Rule 2711(b) contains provisions that generally restrict the 
relationship between the research and investment banking departments, 
including ``gatekeeper'' provisions that require a legal or compliance 
person to intermediate certain communications between the research and 
investment banking departments. NASD Rule 2711(b)(1) prohibits a 
research analyst from being under the control or supervision of any 
employee of the investment banking department. NASD Rule 2711(b)(2) 
prohibits employees in

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the investment banking department from reviewing or approving any 
research reports prior to publication. NASD Rule 2711(b)(3) creates an 
exception to (b)(2) to allow investment banking personnel to review a 
research report prior to publication to verify the factual information 
contained therein and to screen for potential conflicts of interest. 
Any permissible written communications must be made through an 
authorized legal or compliance official or copied to such official. 
Oral communications must be made through, or in the presence of, an 
authorized legal or compliance official and must be documented.
    Similarly, NASD Rule 2711(c) restricts communications between a 
member and the subject company of a research report, except that a 
member may submit sections of the research report to the company to 
verify factual accuracy and may notify the subject company of a ratings 
change after the ``close of trading'' on the business day preceding the 
announcement of the ratings change. Submissions to the subject company 
may not include the research summary, the rating or the price target, 
and a complete draft of the report must be provided beforehand to legal 
or compliance personnel. Finally, any change to a rating or price 
target after review by the subject company must first receive written 
authorization from legal or compliance.
    As the Commission noted in its approval order of NASD Rule 2711, 
several commenters argued that the gatekeeper provisions would impose 
significant costs, especially for smaller firms that would have to hire 
additional personnel. Commenters also noted that personnel often wear 
multiple hats in smaller firms, thereby causing a greater burden to 
comply with the restriction on supervision and control by investment 
banking personnel over research analysts. These comments raised the 
prospect that the rules might force some firms out of business or 
reduce important sources of capital and research coverage for smaller 
companies and companies of regional or local interest.
    NASD shares the concern raised by these commenters. To that end, 
NASD has been exploring with the SEC possible exemptions or 
accommodations that can be made while preserving the purposes of the 
rule. In SR-NASD-2002-87, NASD sought comment on whether the parameters 
set forth above to be eligible for delayed implementation of Rules 
2711(b) and (c) should be made permanent or whether another approach 
should be considered. Moreover, in July 2002, NASD issued Notice to 
Members 02-44, which similarly sought comment on whether certain 
members should be exempted from certain provisions of the Rule and what 
criteria should be employed to fashion such an exemption. NASD received 
10 comments in response to the Notice to Members.\7\ Generally, the 
comments emphasized the financial and administrative burdens imposed by 
NASD Rule 2711 to implement the gatekeeper provisions and to structure 
firms so that research personnel are not subject to supervision by 
investment banking personnel. Commenters argued that the conflicts 
addressed by NASD Rule 2711 are less pronounced with respect to smaller 
firms and that the burdens of compliance could force firms to 
discontinue their research business.
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    \7\ Letter from David Amster, CRT Capital Group, dated August 
19, 2002; Letter from Peter V.B. Unger, Fulbright & Jaworski, LLP, 
dated August 30, 2002; Letter from First Analysis Securities Corp., 
dated August 30, 2002; Letter from Scott Cleland and John Eade, 
Investorside Research Association, dated August 29, 2002; Letter 
from W. Gray Medlin, The Carson Medlin Co., dated August 29, 2002; 
Letter from Cathryn Streeter, BioScience Securities, Inc., dated 
August 28, 2002; E-mail from James Nelson, Minnesota Valley 
Investments, dated July 31, 2002; E-mail from Joe B. Kercheville, 
Kercheville & Company, dated August 28, 2002; E-mail from Ray Chin, 
DBS Vickers Securities (USA) Inc., dated July 29, 2002; Letter from 
Stuart J. Kaswell, Securities Industry Association, dated August 30, 
2002.
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    According to NASD, the enactment of Sarbanes-Oxley has further 
complicated the picture with respect to small firms. NASD believes 
that, while the provisions of Sarbanes-Oxley related to analyst 
conflicts closely parallel NASD Rule 2711 in many respects, they also 
require the SEC or self-regulatory organizations, such as NASD and 
NYSE, to promulgate additional--and sometimes more burdensome--rules on 
firms to further limit the influence of investment banking on research 
and increase analyst accountability. Notably, Sarbanes-Oxley makes no 
explicit exception for small firms. NASD is currently assessing, with 
the SEC and NYSE, the implications of Sarbanes-Oxley generally and its 
impact on small firms, specifically.
    Meanwhile, compliance with NASD Rules 2711(b) and (c) continues to 
pose financial and administrative challenges for certain smaller firms. 
As such, NASD believes it appropriate to extend the effective date of 
those provisions for the limited class of members cited above, so that 
NASD may fully explore with the SEC the treatment of small firms that 
is consistent with the mandates of Sarbanes-Oxley, the purposes of NASD 
Rule 2711 and the best interests of the markets and the investing 
public. Therefore, NASD proposes to delay the effective date of NASD 
Rules 2711(b) and (c) until May 5, 2003 for those members that over the 
previous three years, on average per year, have participated in 10 or 
fewer investment banking transactions or underwritings as manager or 
co-manager and generated $5 million or less in gross investment banking 
revenues from those transactions.
    As a further condition for the delayed implementation date, those 
firms that meet the eligibility requirements outlined above would be 
required to maintain records of communications that would otherwise be 
subject to the gatekeeper provisions of Rules 2711(b) and (c).
2. NASD's Statutory Basis
    NASD believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\8\ which requires, among 
other things, that NASD's rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. NASD believes that this proposed rule change would 
reduce or expose conflicts of interest and thereby significantly 
curtail the potential for fraudulent and manipulative acts. NASD 
further believes that the proposed rule change will provide investors 
with better and more reliable information with which to make investment 
decisions.
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    \8\ 15 U.S.C. 78o-3(b)(6).
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3. NYSE's Purpose
    The Exchange is filing the proposed rule change to establish May 5, 
2003, as the effective date for: NYSE Rules 472(b)(1), (2) and (3), 
subject to certain conditions, for members and member organizations 
that over the previous three years, on average, have participated in 
ten or fewer underwritings as manager or co-manager and generated $5 
million or less in gross investment banking revenues from those 
transactions.
    On May 10, 2002, the Commission approved amendments to NYSE Rules 
351 (``Reporting Requirements'') and 472, which place prohibitions and/
or restrictions on Investment Banking Department, Research Department 
and Subject Company relationships and communications and impose new 
disclosure requirements on members and member organizations and their 
associated persons.\9\ At the same time, the Commission also approved a

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staggered implementation period for the Rules. Most provisions of the 
Rules became effective on July 9, 2002, including those that restrict 
supervision and control of associated persons by the investment banking 
department and those that require disclosure of investment banking 
compensation received from a subject company. The ``gatekeeper'' 
provisions, described below, became effective September 9, 2002.
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    \9\ See Securities Exchange Act Release No. 45908, 67 FR 34968 
(May 16, 2002).
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    On July 9, 2002, the Exchange filed, for immediate effectiveness, 
SR-NYSE-2002-23 \10\ that extended the effective date of September 9, 
2002 for certain provisions of NYSE Rule 472. Specifically, November 6, 
2002 was established as the effective date for NYSE Rules 472(b)(1), 
(2) and (3) (``Gatekeeper Provisions'') for members or member 
organizations that over the previous three years, on average, have 
participated in 10 or fewer investment banking transactions as manager 
or co-manager and generated $5 million or less in gross investment 
banking revenues from those transactions.
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    \10\ See Securities Exchange Act Release No. 46182 (July 11, 
2002), 67 FR 47013 (July 17, 2002).
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Small Firm Relief

    NYSE Rule 472 contains provisions that generally restrict the 
relationship between the research and investment banking departments, 
including ``gatekeeper'' provisions that require a legal or compliance 
person to intermediate certain communications between the research and 
investment banking departments. NYSE Rule 472(b)(1) prohibits an 
associated person (also referred to throughout this filing as a 
``research analyst'') from being under the control or supervision of 
any employee of the investment banking department.
    NYSE Rule 472(b)(1) also prohibits the investment banking 
department from reviewing or approving any research reports prior to 
distribution. NYSE Rule 472(b)(2) creates an exception to the 
prohibition of (b)(1) to allow investment banking personnel to review a 
research report prior to publication to verify the factual information 
contained therein and to screen for potential conflicts of interest. 
Any permissible written communications must be made through an 
authorized legal or compliance official or copied to such official. 
Oral communications must be made through, or in the presence of, an 
authorized legal or compliance official and must be documented.
    Similarly, NYSE Rule 472(b)(3) restricts communications between a 
member or member organization and the subject company of a research 
report, except that a member or member organization may submit sections 
of the research report to the subject company to verify factual 
accuracy and may notify the subject company of a ratings change after 
the ``close of trading'' on the business day preceding the announcement 
of the ratings change. Submissions to the subject company may not 
include the research summary, the rating or the price target, and a 
complete draft of the research report must be provided beforehand to 
legal or compliance personnel. Finally, any change to a rating or price 
target after review by the subject company must first receive written 
authorization from a legal or compliance official.
    As the Commission noted in its approval order,\11\ several 
commenters argued that the ``gatekeeper'' provisions would impose 
significant costs, especially for smaller firms that may have to hire 
additional personnel to comply with the requirements. Commenters also 
noted that personnel often wear multiple hats in smaller firms, thereby 
causing a greater burden to comply with the restriction on supervision 
and control by investment banking personnel over research analysts. 
These comments raised the prospect that the Rules might force some 
firms out of the investment banking or research business and/or reduce 
important sources of capital and research coverage for smaller 
companies.
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    \11\ See Securities Exchange Act Release No. 45908 (May 10, 
2002), 67 FR 34968 (May 16, 2002).
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    In order to provide time to review those issues, the Exchange is 
proposing to delay implementation of NYSE Rules 472(b)(1), (2), and (3) 
until May 5, 2003 for members and member organizations that over the 
previous three years, on average, have participated in 10 or fewer 
underwritings as manager or co-manager and generated $5 million or less 
in gross investment banking revenues from those transactions.
    Those members or member organizations that meet the eligibility 
requirements outlined above for the delayed implementation date, would 
be required to disclose in research reports that they are delaying 
implementation of this Rule provision until May 5, 2003. Further, they 
would also be required to maintain records of communications that would 
otherwise be subject to the gatekeeper provisions of NYSE Rules 
472(b)(2)(i) and (ii).
    The Exchange believes it appropriate to extend until May 5, 2003, 
the effectiveness of this provision for small firms that meet the 
requirements described above. The Exchange believes that for these 
members and member organizations, provided they comply with the 
conditions described, the temporary relief from these provisions will 
not adversely impact the spirit or intent of the Rule initiative.
4. NYSE's Statutory Basis
    The Exchange believes that the statutory basis for the proposed 
rule change is Section 6(b)(5) of the Exchange Act \12\ which requires, 
among other things, that the rules of the Exchange be designed to 
prevent fraudulent and manipulative acts and practices, to promote just 
and equitable principles of trade and in general to protect investors 
and the public interests.
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    \12\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organizations' Statement on Burden on Competition

    NASD and the NYSE do not believe that the proposed rule changes 
will result in any burden on competition that is not necessary or 
appropriate in furtherance of the purposes of the Act, as amended.

C. Self-Regulatory Organizations' Statement on Comments on the Proposed 
Rule

    NASD and the NYSE have neither solicited nor received written 
comments on the proposed rule changes.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    The proposed rule changes have been filed by NASD and NYSE as 
stated policies, practices, or interpretations with respect to the 
meaning, administration, or enforcement of an existing rule series 
under Rule 19b-4(f)(1) under the Act.\13\ Consequently, they have 
become effective pursuant to Section 19(b)(3)(A) of the Act and Rule 
19b-4(f)(1) thereunder.
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    \13\ 17 CFR 240.19b-4(f)(1).
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    At any time within 60 days of this filing, the Commission may 
summarily abrogate these proposals if it appears to the Commission that 
such action is necessary or appropriate in the public interest, for the 
protection of investors, or otherwise in furtherance of the purposes of 
the Act.\14\
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    \14\ For SR-NASD-2002-161, the 60-day period would run from the 
date of filing of Amendment No. 1.
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing,

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including whether the proposed rule changes, as amended, are consistent 
with the Act. Persons making written submissions should file six copies 
thereof with the Secretary, Securities and Exchange Commission, 450 
Fifth Street, NW., Washington, DC 20549-0609. Copies of the submission, 
all subsequent amendments, all written statements with respect to the 
proposed rule changes that are filed with the Commission, and all 
written communications relating to the proposed rule changes 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 in the Commission's Public 
Reference Room. Copies of such filings will also be available for 
inspection and copying at the principal offices of the NASD and NYSE. 
All submissions should refer to the file numbers SR-NASD-2002-161 and 
SR-NYSE-2002-60 and should be submitted by January 2, 2003.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\15\
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    \15\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-31199 Filed 12-10-02; 8:45 am]
BILLING CODE 8010-01-P