[Federal Register Volume 79, Number 101 (Tuesday, May 27, 2014)]
[Notices]
[Pages 30217-30219]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-12072]



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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-72193; File No. SR-FINRA-2014-006]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Instituting Proceedings To Determine Whether To 
Approve or Disapprove a Proposed Rule Change Relating to per Share 
Estimated Valuations for Unlisted DPP and REIT Securities

May 20, 2014.

I. Introduction

    On January 31, 2014, the Financial Industry Regulatory Authority, 
Inc. (``FINRA'') (f/k/a National Association of Securities Dealers, 
Inc. (``NASD'')) 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 
thereunder,\2\ a proposed rule change to amend provisions in the NASD 
and FINRA rulebooks addressing per share estimated valuations for 
unlisted direct participation program (``DPP'') and real estate 
investment trust (``REIT'') securities. The proposed rule change was 
published for comment in the Federal Register on February 19, 2014.\3\ 
The Commission received eighteen (18) comment letters in response to 
the proposed rule change.\4\ On March 14, 2014, FINRA extended the time 
period in which the Commission must approve the proposed rule change, 
disapprove the proposed rule change, or institute proceedings to 
determine whether to approve or disapprove the proposed rule change to 
May 20, 2014. The Commission is publishing this order to institute 
proceedings pursuant to Section 19(b)(2)(B) of the Act \5\ to determine 
whether to approve or disapprove the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Release No. 34-71545 (Feb. 12, 2014), 79 FR 9535 (Feb. 
19, 2014) (Notice of Filing of Proposed Rule Change Relating to Per 
Share Estimated Valuations for Unlisted DPP and REIT Securities) 
(``Notice of Filing''). The comment period closed on March 12, 2014.
    \4\ Letters to Elizabeth Murphy, Secretary, SEC, from Mark 
Goldberg, Chairman, Investment Program Association, dated February 
5, 2014; David Bellaire, Executive Vice President and General 
Counsel, Financial Services Institute, dated February 5, 2014; Mark 
Kosanke, President, Real Estate Investment Securities Association, 
dated February 11, 2014; Steven Wechsler, President and CEO, 
National Association of Real Estate Investment Trusts, dated 
February 14, 2014; Kirk Montgomery, Head of Regulatory Affairs, CNL 
Financial Group, LLC, dated March 12, 2014; Dechert LLP, dated March 
12, 2014 (``Dechert Letter''); Jeff Johnson, CEO, Dividend Capital 
Diversified Property Fund Inc., dated February 28, 2014; David 
Bellaire, Executive Vice President and General Counsel, Financial 
Services Institute, dated March 12, 2014 (``FSI Letter''); Mark 
Goldberg, Chairman, Investment Program Association, dated March 12, 
2014 (``IPA Letter''); Michael Crimmins, CEO and Managing Director, 
KBS Capital Markets Group, dated February 28, 2014; Steve Morrison, 
Senior Vice President and Associate Counsel, LPL Financial, dated 
March 12, 2014; Steven Wechsler, President and CEO, National 
Association of Real Estate Investment Trusts, dated March 12, 2014 
(``NAREIT Letter''); Martel Day, Principal, NLR Advisory Services, 
LLC, dated March 12, 2014; Scott Ilgerfritz, Immediate Past-
President, Public Investors Arbitration Bar Association, dated March 
11, 2014; Mark Kosanke, President, Real Estate Investment Securities 
Association, dated March 12, 2014 (``REISA Letter''); Thomas Price, 
Managing Director, Securities Industry and Financial Markets 
Association, dated March 12, 2014; David Hirschmann, President and 
CEO, U.S. Chamber of Commerce, Center for Capital Markets 
Competitiveness, dated March 12, 2014 (``Chamber of Commerce 
Letter''); Jacob Frydman, Chairman and CEO, United Realty Trust 
Incorporated, dated March 12, 2014.
    \5\ 15 U.S.C. 78s(b)(2)(B).
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    Institution of proceedings does not indicate that the Commission 
has reached any conclusions with respect to the proposed rule change, 
nor does it mean that the Commission will ultimately disapprove the 
proposed rule change. Rather, as discussed below, the Commission seeks 
additional input from interested parties on the issues presented by the 
proposal.

II. Description of the Proposed Rule Change

NASD Rule 2340 (Customer Account Statements)

    NASD Rule 2340 generally requires that general securities members 
\6\ provide periodic account statements to customers, on at least a 
quarterly basis, containing a description of any securities positions, 
money balances or account activity since the last statement. As further 
described in the Notice of Filing, FINRA proposes to amend NASD Rule 
2340 to eliminate the requirement contained in paragraph (c) that a 
general securities member disclose in a customer's account statement a 
per share estimated value of the customer's unlisted DPP or REIT 
securities holdings, provided that such a value is reflected in the 
DPP's or REIT's annual report. Thus, under the proposal, a general 
securities member would no longer be required to include a per share 
estimated value for an unlisted DPP or REIT security in a customer 
account statement, but any member may do so if the value has been 
developed in a manner reasonably designed to ensure that it is 
reliable, the member has no reason to believe that it is unreliable, 
and the account statement includes certain disclosures. FINRA proposes 
two methodologies under which an estimated value would be presumed to 
have been developed in a manner reasonably designed to ensure that it 
is reliable: (1) The net investment methodology; and (2) the 
independent valuation methodology.
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    \6\ NASD Rule 2340(d)(2) defines ``general securities member'' 
as any member that conducts a general securities business and is 
required to calculate its net capital pursuant to the provisions of 
Rule 15c3-1(a) under the Act. A member that does not carry customer 
accounts and does not hold customer funds or securities is exempt 
from the definition.
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    The net investment methodology would reflect the ``net investment'' 
disclosed in the issuer's most recent periodic or current report. The 
``net investment'' would be based on the ``amount available for 
investment'' percentage in the ``Estimated Use of Proceeds'' section of 
the offering prospectus or, where ``amount available for investment'' 
is not provided, another equivalent disclosure.\7\ The per share 
estimated value also must deduct the portion, if any, of cumulative 
distributions per share that exceeded Generally Accepted Accounting 
Principles (``GAAP'') net income per share for the corresponding 
period, after adding back depreciation and amortization or depletion 
expenses. Moreover, the deduction for each distribution would be 
limited to the full amount of the distribution.
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    \7\ FINRA states that this disclosure is typically included in 
the prospectus for REIT offerings and is described in the SEC's 
Securities Act Industry Guide 5 (Preparation of registration 
statements relating to interests in real estate limited 
partnerships). FINRA states that it would permit the use of 
equivalent disclosure in DPP offerings if the disclosure provides a 
percentage amount available for investment by the issuer after 
deduction of organizational and offering expenses.
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    The independent valuation methodology would consist of the most 
recent valuation disclosed in the issuer's periodic or current reports. 
It would also require that a third-party valuation expert or experts 
determine, or provide material assistance in the process of 
determining, the valuation.\8\
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    \8\ According to FINRA, valuation definitions and methodologies 
for real estate investments generally use GAAP (ASC 820) as a 
standard. Performance reporting for institutional real estate 
investments also relies on GAAP as its foundational basis. See 
Investment Program Association Practice Guidelines 2013-01, entitled 
``Valuations of Publicly Registered Non-Listed REITs'' (Apr. 29, 
2013).
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FINRA Rule 2310 (Direct Participation Programs)

    FINRA Rule 2310 generally provides that no member is permitted to 
participate in a public offering of DPP or REIT securities unless the 
general partner or sponsor will disclose in each annual report 
distributed to investors

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pursuant to Section 13(a) of the Act: (1) A per share estimated value 
of the securities; (2) the method by which the estimated value was 
developed; and (3) the date of the data used to develop the estimated 
value.\9\
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    \9\ FINRA Rule 2310(b)(5) (Valuation for Customer Account 
Statements).
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    As further described in the Notice of Filing, FINRA proposes to 
amend FINRA Rule 2310 to provide that a member may not participate in a 
public offering of a DPP or REIT security unless: (A) A per share 
estimated value is calculated on a periodic basis in accordance with a 
methodology disclosed in the prospectus, or (B) the general partner or 
sponsor has agreed to disclose in the first periodic report filed 
pursuant to Section 13(a) or 15(d) of the Act after the second 
anniversary of breaking escrow: (1) A per share estimated value of the 
DPP or REIT calculated by, or with the material assistance of, a third-
party valuation expert; (2) an explanation of the method by which the 
per share estimated value was developed; (3) the date of the valuation; 
and (4) the identity of the third-party valuation expert used. In 
addition, the general partner or sponsor of the DPP or REIT must have 
agreed to ensure that the valuation is conducted at least once every 
two years; is derived from a methodology that conforms to standard 
industry practice; and is accompanied by a written opinion to the 
general partner or sponsor of the DPP or REIT that explains the scope 
of the review, the methodology used to develop the valuation, and the 
basis for the per share estimated value.

III. Summary of Comments

    While the commenters to the Notice of Filing generally expressed 
support for the goals of the proposed rule change, they raised a number 
of concerns regarding various aspects of the proposal. For instance, 
several commenters opposed the deduction of offering and organizational 
costs from the share price under the net investment methodology, citing 
difficulties in accurately determining those expenses.\10\ A number of 
commenters also opposed the net investment methodology's deduction of 
``over-distributions'' from the share value, arguing, among other 
things, that such a requirement was unprecedented and would have severe 
implementation challenges, as well as unintended negative consequences, 
such as actually reducing the level of investor understanding regarding 
the sources of distributions.\11\
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    \10\ See, e.g., REISA Letter.
    \11\ See, e.g., IPA Letter.
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    Many commenters opposed the elimination of any requirement to 
include a per share valuation of unlisted DPP or REIT securities in 
customer account statements. Commenters stated that FINRA, in its 
proposal, put forth two valuation methodologies that it deems 
presumptively reliable, and allowing an unlisted DPP or REIT security 
to nevertheless be shown as ``not priced'' in customer account 
statements would deprive investors of useful information and be viewed 
as a retreat from a policy of transparency.\12\
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    \12\ Id.
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    In addition, some commenters raised concerns about the proposed 
rule change's anticipated implementation period.\13\ These commenters 
favored a longer period in order to minimize investor confusion and 
avoid market disruption as the industry develops the appropriate 
controls and procedures to comply with the rule.
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    \13\ See, e.g., NAREIT Letter.
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    Commenters further questioned, among other things, the timing of 
the initiation of valuations for unlisted DPP and REIT securities under 
FINRA Rule 2310; \14\ the frequency with which valuations are estimated 
under FINRA Rule 2310; \15\ the effect of the proposed rule change on 
business development companies and daily NAV REITs; \16\ and the lack 
of an economic analysis.\17\
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    \14\ See, e.g., IPA Letter.
    \15\ See, e.g., FSI Letter.
    \16\ See, e.g., Dechert Letter.
    \17\ See, e.g., Chamber of Commerce Letter.
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    On May 16, 2014, FINRA noted that it is still considering the 
points raised by commenters and anticipates filing an official response 
in the near future.\18\
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    \18\ See Letter from Matthew Vitek, Assistant General Counsel, 
FINRA, to Kevin O'Neill, Deputy Secretary, SEC, dated May 16, 2014. 
Any FINRA response will be included in the comment file for this 
rule filing.
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IV. Proceedings To Determine Whether To Approve or Disapprove SR-FINRA-
2014-006 and Grounds for Disapproval Under Consideration

    The Commission is instituting proceedings pursuant to Section 
19(b)(2)(B) of the Act to determine whether the proposed rule change 
should be approved or disapproved.\19\ Institution of such proceedings 
appears appropriate at this time in view of the legal and policy issues 
raised by the proposal. As noted above, institution of proceedings does 
not indicate that the Commission has reached any conclusions with 
respect to any of the issues involved. Rather, the Commission seeks and 
encourages interested persons to comment on the issues presented by the 
proposed rule change and provide the Commission with arguments to 
support the Commission's analysis as to whether to approve or 
disapprove the proposal.
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    \19\ 15 U.S.C. 78s(b)(2). Section 19(b)(2)(B) of the Act 
provides that proceedings to determine whether to disapprove a 
proposed rule change must be concluded within 180 days of the date 
of publication of notice of the filing of the proposed rule change. 
The time for conclusion of the proceedings may be extended for up to 
an additional 60 days if the Commission finds good cause for such 
extension and publishes its reasons for so finding or if the self-
regulatory organization consents to the extension.
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    Pursuant to Section 19(b)(2)(B) of the Act,\20\ the Commission is 
providing notice of the grounds for disapproval under consideration. In 
particular, Section 15A(b)(6) of the Act \21\ requires, among other 
things, that FINRA 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. In addition, Section 15A(b)(9) of the Act \22\ 
requires that FINRA rules not impose any unnecessary or inappropriate 
burden on competition.
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    \20\ 15 U.S.C. 78s(b)(2)(B).
    \21\ 15 U.S.C. 78o-3(b)(6).
    \22\ 15 U.S.C. 78o-3(b)(9).
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    The Commission believes FINRA's proposed rule change raises 
questions as to whether it is consistent with the requirements of 
Section 15A(b)(6) and 15A(b)(9) of the Act.

V. Request for Written Comments

    The Commission requests that interested persons provide written 
submissions of their views, data, and arguments with respect to the 
issues raised by the proposed rule change. In particular, the 
Commission invites the written views of interested persons concerning 
whether the proposed rule change is inconsistent with Sections 
15A(b)(6) and 15A(b)(9), or any other provision, of the Act, or the 
rules and regulations thereunder.
    Although there do not appear to be any issues relevant to approval 
or disapproval which would be facilitated by an oral presentation of 
views, data, and arguments, the Commission will consider, pursuant to 
Rule 19b-4, any request for an opportunity to make an oral 
presentation.\23\ Interested persons

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are invited to submit written data, views, and arguments by June 26, 
2014 concerning whether the proposed rule change should be approved or 
disapproved. Any person who wishes to file a rebuttal to any other 
person's submission must file that rebuttal by July 11, 2014. Comments 
may be submitted by any of the following methods:
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    \23\ Section 19(b)(2) of the Act, as amended by the Securities 
Acts Amendments of 1975, Public Law 94-29, 89 Stat. 97 (1975), 
grants the Commission flexibility to determine what type of 
proceeding--either oral or notice and opportunity for written 
comments--is appropriate for consideration of a particular proposal 
by a self-regulatory organization. See Securities Acts Amendments of 
1975, Report of the Senate Committee on Banking, Housing and Urban 
Affairs to Accompany S. 249, S. Rep. No. 75, 94th Cong., 1st Sess. 
30 (1975).
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Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to [email protected]. Please include 
File Number SR-FINRA-2014-006 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2014-006. This 
file number should be included on the subject line if email 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 Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Copies of such filing also will be available 
for inspection and copying at the principle office of FINRA. 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 publicly available.
    All submissions should refer to File Number SR-FINRA-2014-006 and 
should be submitted on or before July 11, 2014. If comments are 
received, any rebuttal comments should be submitted by July 11, 2014.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\24\
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    \24\ 17 CFR 200.30-3(a)(12); 17 CFR 200.30-3(a)(57).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-12072 Filed 5-23-14; 8:45 am]
BILLING CODE 8011-01-P