[Federal Register Volume 69, Number 169 (Wednesday, September 1, 2004)]
[Notices]
[Pages 53474-53478]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E4-1984]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-50259; File No. SR-NASD-2004-124]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by National Association of Securities Dealers, Inc. To Provide 
an Exception From Shareholder Approval Requirements When Officers, 
Directors, Employees or Consultants Participate in a Discounted Private 
Placement

August 25, 2004.
    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 
August 13, 2004, the National Association of Securities Dealers, Inc. 
(``NASD''), through its subsidiary, The Nasdaq Stock Market, Inc. 
(``Nasdaq''), filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I, II, 
and III below, which Items have been prepared by the Nasdaq. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    Nasdaq proposes to provide an exception from shareholder approval 
requirements when officers, directors, employees or consultants 
participate in a discounted private placement.
    Below is the text of the proposed rule change. Proposed new 
language is italicized; proposed deletions are in brackets.\3\
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    \3\ The proposed rule change is marked to show changes to NASD 
Rule 4350(i) and to Interpretive Material (``IM'') 4350-1, 4350-3 
and 4350-5 as currently reflected in the NASD Manual available at 
www.nasd.com. No other pending or recently approved rule filings 
would affect the text of this Rule or the IMs.
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* * * * *

4350. Qualitative Listing Requirements for Nasdaq National Market and 
Nasdaq SmallCap Market Issuers Except for Limited Partnerships

    (a)-(h) No Change.
    (i) Shareholder Approval.
    (1) Each issuer shall require shareholder approval prior to the 
issuance of designated securities under subparagraph (A), (B), (C), or 
(D) below:
    (A) when a stock option or purchase plan is to be established or 
materially amended or other equity compensation arrangement made or 
materially amended, pursuant to which options or stock may be acquired 
by officers, directors, employees, or consultants, except for:
    (i) Warrants or rights issued generally to all security holders of 
the company or stock purchase plans available on equal terms to all 
security holders of the company (such as a typical dividend 
reinvestment plan); or
    (ii) Tax qualified, non-discriminatory employee benefit plans 
(e.g., plans that meet the requirements of Section 401(a) or 423 of the 
Internal Revenue Code) or parallel nonqualified plans, provided such 
plans are approved by the issuer's independent compensation committee 
or a majority of the issuer's independent directors; or plans that 
merely provide a convenient way to purchase shares on the open market 
or from the issuer at fair market value; or
    (iii) Plans or arrangements relating to an acquisition or merger as 
permitted under IM-4350-5; or
    (iv) Issuances to a person not previously an employee or director 
of the company, or following a bonafide period of non-employment, as an 
inducement material to the individual's entering into employment with 
the company, provided such issuances are approved by either the 
issuer's independent compensation committee or a majority of the 
issuer's independent directors. Promptly following an issuance of any 
employment inducement grant in reliance on this exception, a company 
must disclose in a press release the material terms of the grant, 
including the recipient(s) of the grant and the number of shares 
involved; or
    (v) Sales by the issuer to officers, directors, employees or 
consultants as part of, or in connection with, sales to third parties 
that do not involve any public offering, where:
    a. The sales are at prices less than the greater of book or market 
value of the company's stock (``discounted sales'');
    b. The sales to officers, directors, employees or consultants are 
at the same price and on the same terms as the sales made to the third 
parties in the transaction;
    c. The total number of shares sold or to be sold to all such 
officers, directors, employees or consultants, either individually or 
in the aggregate, is less than five percent of the total number of

[[Page 53475]]

shares issued or to be issued in the transaction; and
    d. The total number of shares issued or to be issued to all 
officers, directors, employees, or consultants in the transaction, 
aggregated with all other discounted sales to officers, directors, 
employees, or consultants during the preceding 12-month period, does 
not exceed one percent of the total number of shares outstanding at the 
beginning of the 12-month period.
    (B) When the issuance or potential issuance will result in a change 
of control of the issuer;
    (C) In connection with the acquisition of the stock or assets of 
another company if:
    (i) Any director, officer or substantial shareholder of the issuer 
has a 5% or greater interest (or such persons collectively have a 10% 
or greater interest), directly or indirectly, in the company or assets 
to be acquired or in the consideration to be paid in the transaction or 
series of related transactions and the present or potential issuance of 
common stock, or securities convertible into or exercisable for common 
stock, could result in an increase in outstanding common shares or 
voting power of 5% or more; or
    (ii) Where, due to the present or potential issuance of common 
stock, or securities convertible into or exercisable for common stock, 
other than a public offering for cash:
    a. The common stock has or will have upon issuance voting power 
equal to or in excess of 20% of the voting power outstanding before the 
issuance of stock or securities convertible into or exercisable for 
common stock; or
    b. The number of shares of common stock to be issued is or will be 
equal to or in excess of 20% of the number of shares or common stock 
outstanding before the issuance of the stock or securities; or
    (D) In connection with a transaction other than a public offering 
involving[:]
    [(i)] The sale, issuance or potential issuance by the issuer of 
common stock (or securities convertible into or exercisable for common 
stock) at a price less than the greater of book or market value which 
alone, or together with sales by officers, directors, employees, 
consultants, or substantial shareholders of the company, equals 20% or 
more of the common stock or 20% or more of the voting power outstanding 
before the issuance. For sales of discounted stock made to officers, 
directors, employees, or consultants of the company, see Rule 
4350(i)(1)(A)(v). [; or
    (ii) The sale, issuance or potential issuance by the company of 
common stock (or securities convertible into or exercisable common 
stock) equal to 20% or more of the common stock or 20% or more of the 
voting power outstanding before the issuance for less than the greater 
of book or market value of the stock.]
    (2)-(6) No change.

Cross Reference--IM-4350-1, Future Priced Securities
Cross Reference--IM-4350-2, Interpretative Material Regarding the use 
of Share Caps to Comply with Rule 4350(i)
Cross Reference--IM-4350-3, Definition of Public Offering
Cross Reference--IM-4350-5, Shareholder Approval for Stock Option Plans 
or Other Equity Compensation Arrangements
Cross Reference--IM-4350-7, Code of Conduct
Cross Reference--Rule 4350(h), Conflicts of Interest

    (j)-(n) No change.
* * * * *

IM-4350-1. Interpretive Material Regarding Future Priced Securities

    Summary No change.

How the Rules Apply

Shareholder Approval

    NASD Rule 4350(i)(1)(D) provides, in part:
    Each issuer shall require shareholder approval [* * *] prior to the 
issuance of designated securities * * * in connection with a 
transaction other than a public offering involving [* * *] the sale, 
issuance or potential issuance by the issuer of common stock (or 
securities convertible into or exercisable for common stock) at a price 
less than the greater of book or market value which alone, or together 
with sales by officers, directors, employees, consultants, or 
substantial shareholders of the company, equals 20% or more of the 
common stock or 20% or more of the voting power outstanding before the 
issuance.\1\ For sales of discounted stock made to officers, directors, 
employees, or consultants of the company, see Rule 4350(i)(1)(A)(v).
* * * * *
    Voting Rights No change.
    The Bid Price Requirement No change.
    Listing of Additional Shares No change.
    Public Interest Concerns No change.
    Reverse Merger No change.
    Footnotes to IM-4350-1. No change.
* * * * *

IM-4350-3. Definition of a Public Offering

    [Rule 4350(i)(1)(D) provides that shareholder approval is required 
for the issuance of common stock (or securities convertible into or 
exercisable for common stock) equal to 20 percent or more of the common 
stock or 20 percent or more of the voting power outstanding before the 
issuance for less than the greater of book or market value of the 
stock. Under this rule, however, shareholder approval is not required 
for a ``public offering.'']
    Rule 4350(i) contains several references to a ``public offering.'' 
Issuers are encouraged to consult with Nasdaq staff in order to 
determine if a particular offering is a ``public offering'' for 
purposes of the shareholder approval rules. Generally, a firm 
commitment underwritten securities offering registered with the 
Securities and Exchange Commission will be considered a public offering 
for these purposes. Likewise, any other securities offering which is 
registered with the Securities and Exchange Commission and which is 
publicly disclosed and distributed in the same general manner and 
extent as a firm commitment underwritten securities offering will be 
considered a public offering for purposes of the shareholder approval 
rules. However, Nasdaq staff will not treat an offering as a ``public 
offering'' for purposes of the shareholder approval rules merely 
because they are registered with the Commission prior to the closing of 
the transaction.
    When determining whether an offering is a ``public offering'' for 
purposes of these rules, Nasdaq staff will consider all relevant 
factors, including but not limited to:
    (i) The type of offering (including whether the offering is 
conducted by an underwriter on a firm commitment basis, or an 
underwriter or placement agent on a best-efforts basis, or whether the 
offering is self-directed by the issuer);
    (ii) The manner in which the offering is marketed (including the 
number of investors offered securities, how those investors were 
chosen, and the breadth of the marketing effort);
    (iii) The extent of the offering's distribution (including the 
number and identity of the investors who participate in the offering 
and whether any prior relationship existed between the issuer and those 
investors);
    (iv) The offering price (including the extent of any discount to 
the market price of the securities offered); and
    (v) The extent to which the issuer controls the offering and its 
distribution.
* * * * *

[[Page 53476]]

IM-4350-5. Shareholder Approval for Stock Option Plans or Other Equity 
Compensation Arrangements

    Employee ownership of company stock can be an effective tool to 
align employee interests with those of other shareholders. Stock option 
plans or other equity compensation arrangements can also assist in the 
recruitment and retention of employees, which is especially critical to 
young, growing companies, or companies with insufficient cash resources 
to attract and retain highly qualified employees. However, these plans 
can potentially dilute shareholder interests. As such, Rule 
4350(i)(1)(A) ensures that shareholders have a voice in these 
situations, given this potential for dilution.
    Rule 4350(i)(1)(A) requires shareholder approval when a plan or 
other equity compensation arrangement is established or materially 
amended. For these purposes, a material amendment would include, but 
not be limited to, the following:
    (1) Any material increase in the number of shares to be issued 
under the plan (other than to reflect a reorganization, stock split, 
merger, spinoff or similar transaction);
    (2) Any material increase in benefits to participants, including 
any material change to: (i) Permit a repricing (or decrease in exercise 
price) of outstanding options, (ii) reduce the price at which shares or 
options to purchase shares may be offered, or (iii) extend the duration 
of a plan;
    (3) Any material expansion of the class of participants eligible to 
participate in the plan; and
    (4) Any expansion in the types of options or awards provided under 
the plan.
    While general authority to amend a plan would not obviate the need 
for shareholder approval, if a plan permits a specific action without 
further shareholder approval, then no such approval would generally be 
required. However, if a plan contains a formula for automatic increases 
in the shares available (sometimes called an ``evergreen formula''), or 
for automatic grants pursuant to a dollar-based formula (such as annual 
grants based on a certain dollar value, or matching contributions based 
upon the amount of compensation the participant elects to defer), such 
plans cannot have a term in excess of ten years unless shareholder 
approval is obtained every ten years. However, plans that do not 
contain a formula and do not impose a limit on the number of shares 
available for grant would require shareholder approval of each grant 
under the plan. A requirement that grants be made out of treasury 
shares or repurchased shares will not alleviate these additional 
shareholder approval requirements.
    As a general matter, when preparing plans and presenting them for 
shareholder approval, issuers should strive to make plan terms easy to 
understand. In that regard, it is recommended that plans meant to 
permit repricing use explicit terminology to make this clear.
    Rule 4350(i)(1)(A) provides an exception to the requirement for 
shareholder approval for warrants or rights offered generally to all 
shareholders. In addition, an exception is provided for tax qualified, 
non-discriminatory employee benefit plans as well as parallel 
nonqualified plans as these plans are regulated under the Internal 
Revenue Code and Treasury Department regulations. An equity 
compensation plan that provides non-U.S. employees with substantially 
the same benefits as a comparable tax qualified, non-discriminatory 
employee benefit plan or parallel nonqualified plan that the issuer 
provides to its U.S. employees, but for features necessary to comply 
with applicable foreign tax law, are also exempt from shareholder 
approval under this section.
    Further, there is an exception for inducement grants to new 
employees because in these cases a company has an arm's length 
relationship with the new employees. Inducement grants for these 
purposes include grants of options or stock to new employees in 
connection with a merger or acquisition. The rule requires that such 
issuances must be approved by the issuer's independent compensation 
committee or a majority of the issuer's independent directors. The rule 
further requires that promptly following an issuance of any employment 
inducement grant in reliance on this exception, a company must disclose 
in a press release the material terms of the grant, including the 
recipient(s) of the grant and the number of shares involved.
    In addition, plans or arrangements involving a merger or 
acquisition do not require shareholder approval in two situations. 
First, shareholder approval will not be required to convert, replace or 
adjust outstanding options or other equity compensation awards to 
reflect the transaction. Second, shares available under certain plans 
acquired in acquisitions and mergers may be used for certain post-
transaction grants without further shareholder approval. This exception 
applies to situations where the party which is not a listed company 
following the transaction has shares available for grant under pre-
existing plans that meet the requirements of this Rule 4350(i)(1)(A). 
These shares may be used for post-transaction grants of options and 
other equity awards by the listed company (after appropriate adjustment 
of the number of shares to reflect the transaction), either under the 
pre-existing plan or arrangement or another plan or arrangement, 
without further shareholder approval, provided: (1) The time during 
which those shares are available for grants is not extended beyond the 
period when they would have been available under the pre-existing plan, 
absent the transaction, and (2) such options and other awards are not 
granted to individuals who were employed by the granting company or its 
subsidiaries at the time the merger or acquisition was consummated. 
Nasdaq would view a plan or arrangement adopted in contemplation of the 
merger or acquisition transaction as not pre-existing for purposes of 
this exception. This exception is appropriate because it will not 
result in any increase in the aggregate potential dilution of the 
combined enterprise. In this regard, any additional shares available 
for issuance under a plan or arrangement acquired in a connection with 
a merger or acquisition would be counted by Nasdaq in determining 
whether the transaction involved the issuance of 20% or more of the 
company's outstanding common stock, thus triggering the shareholder 
approval requirements under Rule 4350(i)(1)(C).
    Moreover, Rule 4350(i)(1)(A)(v) provides a de minimis exception to 
the requirement for shareholder approval for sales by the company to 
officers, directors, employees, or consultants at a price less than the 
greater of book or market value of the stock, also known as discounted 
private placements. Discounted private placements made to officers, 
directors, employees, or consultants of the company are to be 
considered ``compensation'' for purposes of Rule 4350(i)(1)(A) and 
would require shareholder approval. A de minimis exception to this 
requirement is provided solely in the limited circumstance where 
officers, directors, employees, or consultants are sold discounted 
stock as part of, or in connection with, sales to third parties, at the 
same price and on the same terms, and that do not involve any public 
offering. In addition, this exception requires that the total number of 
shares sold to all such officers, directors, employees or consultants, 
either individually or in the aggregate, be less than five percent of 
the total

[[Page 53477]]

shares to be issued in the transaction, and that the shares issued or 
to be issued in the transaction aggregated with all other discounted 
sales to officers, directors, employees, or consultants during the 
preceding 12-month period not exceed one percent of the total shares 
outstanding at the beginning of the 12-month period. Nasdaq intends 
that this exception be used solely in the situation where third parties 
that are considering investing in a company require a minimum level of 
participation in the company by officers, directors, employees, or 
consultants as a condition to their investment.
    Inducement grants, tax qualified non-discriminatory benefit plans, 
and parallel nonqualified plans are subject to approval by either the 
issuer's independent compensation committee or a majority of the 
issuer's independent directors. It should also be noted that a company 
would not be permitted to use repurchased shares to fund option plans 
or grants without prior shareholder approval.
    For purposes of Rule 4350(i)(1)(A) and IM-4350-5, the term 
``parallel nonqualified plan'' means a plan that is a ``pension plan'' 
within the meaning of the Employee Retirement Income Security Act 
(``ERISA''), 29 U.S.C. Sec.  1002 (1999), that is designed to work in 
parallel with a plan intended to be qualified under Internal Revenue 
Code Section 401(a), to provide benefits that exceed the limits set 
forth in Internal Revenue Code Section 402(g) (the section that limits 
an employee's annual pre-tax contributions to a 401(k) plan), Internal 
Revenue Code Section 401(a)(17) (the section that limits the amount of 
an employee's compensation that can be taken into account for plan 
purposes) and/or Internal Revenue Code Section 415 (the section that 
limits the contributions and benefits under qualified plans) and/or any 
successor or similar limitations that may thereafter be enacted. 
However, a plan will not be considered a parallel nonqualified plan 
unless: (i) It covers all or substantially all employees of an employer 
who are participants in the related qualified plan whose annual 
compensation is in excess of the limit of Code Section 401(a)(17) (or 
any successor or similar limitation that may hereafter be enacted); 
(ii) its terms are substantially the same as the qualified plan that it 
parallels except for the elimination of the limitations described in 
the preceding sentence; and, (iii) no participant receives employer 
equity contributions under the plan in excess of 25% of the 
participant's cash compensation.
* * * * *

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

    In its filing with the Commission, Nasdaq 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 IV below. Nasdaq 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
    Nasdaq is proposing amendments to NASD Rule 4350(i)(1)(A) and IM 
4350-5 relating to shareholder approval requirements for certain stock 
issuances to officers, directors, employees or consultants, when such 
issuances are not made as part of a public offering and are for less 
than the greater of book value or market value of the stock.\4\ The 
proposed rule change provides a de minimis exception to the requirement 
for shareholder approval for sales by the company to officers, 
directors, employees, or consultants at a price less than the greater 
of book or market value of the stock, also known as discounted private 
placements. Discounted private placements made to officers, directors, 
employees, or consultants of the company are to be considered 
``compensation'' for purposes of NASD Rule 4350(i)(1)(A) and would 
require shareholder approval. A de minimis exception to this 
requirement is provided solely in the limited circumstance where 
officers, directors, employees, or consultants are sold discounted 
stock as part of, or in connection with, sales to third parties, at the 
same price and on the same terms, and that do not involve any public 
offering. In addition, this exception requires that the total number of 
shares sold to all such officers, directors, employees or consultants, 
either individually or in the aggregate, be less than five percent of 
the total shares to be issued in the transaction, and that the shares 
issued or to be issued in the transaction aggregated with all other 
discounted sales to officers, directors, employees, or consultants 
during the preceding 12-month period not exceed one percent of the 
total shares outstanding at the beginning of the 12-month period. 
Nasdaq intends that this exception be used solely in the situation 
where third parties that are considering investing in a company require 
a minimum level of participation in the company by officers, directors, 
employees, or consultants as a condition to their investment.\5\
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    \4\ Nasdaq is also proposing amendments to its IM-4350-1 and IM-
4350-3 that are not substantive and are intended to conform the 
language of these two IMs to the proposed substantive amendments 
described herein.
    \5\ Nasdaq also believes that the scope of this de minimis 
exception is sufficiently narrow as to encourage the third-party 
investors to be actively involved in the negotiation of the 
investment terms, thus allaying concerns of self-dealing by any 
officer or director participants in the investment. However, to 
further alert companies to self-dealing concerns and to remind them 
of their obligations in related party transactions, Nasdaq proposes 
to include cross references to NASD Rule 4350(h), which sets forth 
review and approval requirements for certain related party 
transactions, and to IM-4350-7, which discusses a code of conduct 
applicable to officers, directors and employees, and specifically 
highlights the harm that results when such individuals receive 
improper personal benefits.
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    Nasdaq also notes that, while NASD Rule 4350(i)(1)(A) does not 
generally require shareholder approval of any issuances that are made 
as part of a public offering and of any issuances at a price at or 
above book and market value, shareholder approval may still be required 
for such issuances under other provisions of NASD Rule 4350(i) (for 
example, in the event of a change of control of the company) or under 
other rules.
2. Statutory Basis
    Nasdaq believes that the proposed rule change is consistent with 
the provisions of Section 15A of the Act,\6\ in general and with 
Section 15A(b)(6) of the Act,\7\ in particular, in that the proposal is 
designed to prevent fraudulent and manipulative acts and practices, 
and, in general, to protect investors and the public interest.
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    \6\ 15 U.S.C. 78o-3.
    \7\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    Nasdaq does not believe that the proposed rule change will result 
in 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, Participants or Others

    Written comments were neither solicited nor received.

[[Page 53478]]

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

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve such proposed rule change, or
    (B) Institute proceedings to determine whether the proposed rule 
change should be disapproved.

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. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an e-mail to [email protected]. Please include 
File Number SR-NASD-2004-124 on the subject line.

Paper Comments

     Send paper comments in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., 
Washington, DC 20549-0609.
    All submissions should refer to File Number SR-NASD-2004-124. This 
file number should be included on the subject line if e-mail is used. 
To help the Commission process and review your comments more 
efficiently, please use only one method. The Commission will post all 
comments on the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). 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 in the Commission's Public Reference Section, 450 Fifth 
Street, NW., Washington, DC 20549. Copies of such filing also will be 
available for inspection and copying at the principal office of NASD. 
All comments received will be posted without change; the Commission 
does not edit personal identifying information from submissions. You 
should submit only information that you wish to make available 
publicly. All submissions should refer to File Number SR-NASD-2004-124 
and should be submitted on or before September 22, 2004.


    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\8\
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    \8\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
 [FR Doc. E4-1984 Filed 8-31-04; 8:45 am]
BILLING CODE 8010-01-P