Self-Regulatory Organizations; National Association of Securities Dealers, Inc.; Order Approving Proposed Rule Change and Amendment Nos. 1 and 2 Thereto Relating to NASD Rule 2790, 46557-46558 [E5-4327]

Agencies

• SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 70, Number 153 (Wednesday, August 10, 2005)]
[Notices]
[Pages 46557-46558]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E5-4327]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-52209; File No. SR-NASD-2004-165]


Self-Regulatory Organizations; National Association of Securities 
Dealers, Inc.; Order Approving Proposed Rule Change and Amendment Nos. 
1 and 2 Thereto Relating to NASD Rule 2790

August 4, 2005.

I. Introduction

    On October 29, 2004, the National Association of Securities 
Dealers, Inc. (``NASD'') filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') a proposed rule change, pursuant 
to section 19(b)(1) of the Securities Exchange Act of 1934 (``Act'') 
and Rule 19b-4 thereunder to, among other things, amend the definition 
of ``new issue'' under NASD Rule 2790. On February 1, 2005, NASD 
submitted Amendment No. 1 to the proposed rule change.\1\ On April 18, 
2005, NASD submitted Amendment No. 2 to the proposed rule change.\2\ 
The proposed rule change, as amended, was published for comment in the 
Federal Register on June 1, 2005.\3\ The Commission received eight 
comment letters on the proposal, as amended.\4\ On July 18, 2005, the 
NASD submitted a response to comment letters.\5\ This order approves 
the proposed rule change, as amended.
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    \1\ Amendment No. 1 included minor changes to the rule text of 
the proposed rule change.
    \2\ Amendment No. 2 included minor changes to the proposed rule 
change including clarifying that most REITs have invested assets at 
the time of their initial public offering.
    \3\ See Securities Exchange Act Release No. 51735 (May 24, 
2005), 70 FR 31554 (June 1, 2005).
    \4\ Letter from Hines Real Estate Securities, Inc. to Jonathan 
G. Katz, SEC, dated June 14, 2005 (``Hines''); Letter from 
Investment Program Association to Jonathan G. Katz, SEC, dated June 
22, 2005 (``IPA''); Letter from Hong Kong Investment Funds 
Association to Jonathan G. Katz, SEC, dated June 22, 2005 
(``HKIFA''); Letter from Investment Management Association to 
Jonathan G. Katz, SEC, dated June 22, 2005 (``IMA''); Letter from 
Investment Company Institute to Jonathan G. Katz, SEC, dated June 
22, 2005 (``ICI''); Letter from Dechert LLP to Jonathan G. Katz, 
SEC, dated June 22, 2005 (``Dechert''); Letter from The Investment 
Trusts Association, Japan, to Jonathan G. Katz, SEC, dated June 22, 
2005 (``ITA''); and Letter from T. Rowe Price Associates, Inc. to 
Jonathan G. Katz, SEC, dated June 23, 2005 (``T. Rowe Price'').
    \5\ Letter from Gary L. Goldsholle, Associate Vice President and 
Associate General Counsel, NASD to Katherine A. England, Assistant 
Director, Division of Market Regulation, Commission (July 18, 2005).
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II. Description of Proposed Rule Change

A. Securities Offerings of BDCs, DPPs, and REITs

    The proposals would amend subparagraph (i)(9) of NASD Rule 2790 to 
exclude from the definition of ``new issue'' securities offerings of a 
business development company (``BDC'') as defined in section 2(a)(48) 
of the Investment Company Act,\6\ a direct participation program 
(``DPP'') as defined in NASD Rule 2810(a)(4), and a real estate 
investment trust (``REIT'') as defined in section 856 of the Internal 
Revenue Code (the ``Code'').\7\
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    \6\ 15 U.S.C. 80a-2(a)(48).
    \7\ 26 U.S.C. 856.
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B. Foreign Investment Company Exemption

    The proposals would include a technical change to the exemption for 
foreign investment companies in subparagraph (c)(6)(A) of NASD Rule 
2790 to clarify the scope of the exemption as reflected in a recent 
NASD staff memorandum dated August 6, 2004 ( ``Staff Memorandum'').\8\ 
Currently, subparagraph (c)(6) exempts from the Rule sales to and 
purchases by an investment company organized under the laws of a 
foreign jurisdiction, provided that: (1) the investment company is 
listed on a foreign exchange or authorized for sale to the public by a 
foreign regulatory authority; and (2) no person owning more than 5% of 
the shares of the investment company is a restricted person. In the 
Staff Memorandum, among other things, NASD staff explained that the 
exemption for foreign investment companies extends only to an 
investment company organized under the laws of a foreign jurisdiction 
that is either ``listed on a foreign exchange for sale to the public'' 
or ``authorized for sale to the public,'' and that does not have any 
restricted person that beneficially owns more than 5% of the company's 
shares. Accordingly, the proposal would amend the rule text to clarify 
the scope of the exemption so that investment companies listed on a 
foreign exchange must be ``for sale to the public.''
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    \8\ The Staff Memorandum is available on the NASD's Web site at 
https://www.nasd.com.
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C. Information Required To Be Filed

    The proposals would amend NASD Rule 2790 to codify the requirement 
for the book-running managing underwriter to file distribution 
information as announced in a Notice to Members.\9\ In 2004, to 
coincide with the implementation of NASD Rule 2790, NASD initiated a 
new system for members to submit new issue distribution information 
named ``IPO Distribution Manager.'' \10\ Through IPO Distribution 
Manager, the lead managing underwriters of offerings involving a ``new 
issue'' as defined in Rule 2790 will be required to make two filings 
with the Corporate Financing Department. In the initial filing, which 
must be filed on or before the offering date, the managing underwriter 
must submit the initial list of distribution participants and their 
commitment and retention amounts. In the final filing, which must be 
filed no later than three days after the offering date (T + 3), the 
managing underwriter must submit the final list of distribution 
participants and their commitment and retention amounts.
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    \9\ See Notice to Members 04-20 (March 2004) (``NtM 04-20'').
    \10\ See Id.
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III. Discussion

    The Commission received eight comment letters on the proposed rule 
change, two of which supported the proposal,\11\ and six of which did 
not address the substance of the proposed rule change. After careful 
review, the Commission finds, as discussed more fully below, that the 
proposed rule change, as amended, is consistent with the requirements 
of the Exchange Act and the rules and regulations thereunder applicable 
to a national securities association. The Commission finds specifically 
that the proposed rule change is consistent with sections 15A(b)(6) and 
15A(b)(9) of the Exchange Act.\12\
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    \11\ See Hines and IPA.
    \12\ 15 U.S.C. 78o-3(b)(6) and (b)(9).
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    Section 15A(b)(6) requires that the rules of a registered national 
securities association be designed to prevent fraudulent and 
manipulative acts and practices, to promote just and equitable 
principles of trade, to foster cooperation and coordination with 
persons engaged in regulating, clearing, settling, processing 
information with respect to, and facilitating transactions in 
securities, 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.

[[Page 46558]]

 Section 15A(b)(9) requires that the rules of an association not impose 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Exchange Act.
    Section 3(f) of the Exchange Act directs the Commission to 
consider, in addition to the protection of investors, whether approval 
of a rule change will promote efficiency, competition, and capital 
formation.\13\ In approving the proposed rule change, the Commission 
has considered its impact on efficiency, competition, and capital 
formation.
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    \13\ 15 U.S.C. 78c(f).
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A. Securities Offerings of BDCs, DPPs, and REITs (NASD Rule 
2790(i)(9)(J))

    The proposal would amend NASD Rule 2790(i)(9) to exclude from the 
definition of ``new issue'' securities offerings of BDCs, DPPs, and 
REITs. The NASD staff has found that, historically, most of these 
offerings do not commence trading at a substantial premium. 
Accordingly, NASD believes that including such offerings within the 
scope of NASD Rule 2790 would do little to further the purposes of the 
Rule and, moreover, may impair the ability of such companies to obtain 
capital. One commenter that supported the proposed rule change agreed 
that it is highly unlikely for shares in a REIT to commence trading at 
a significant premium.\14\ Another commenter in support of the proposed 
rule change also noted its belief that the inclusion of DPP and REIT 
securities within the definition of ``new issue'' does little to 
further the purpose of Rule 2790 and has a negative impact on the 
ability of DPPs and REITs to raise capital.\15\
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    \14\ See Hines.
    \15\ See IPA.
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    The Commission believes it is appropriate for the NASD to exclude 
from the definition of ``new issue'' BDCs, DPPs, and REITs because 
these products historically commence trading at their public offering 
price and premiums, if any, tend to be very small. We believe that the 
proposed rule change, in carving-out these securities offerings, is 
reasonable in that it, among other things, does not impede the ability 
of BDCs, DPPs, and REITs in raising capital, while preserving the 
rule's investor protection goals. We also note that NASD has stated 
that, if warranted by future developments in the trading pattern of 
BDCs, DPPs, or REITs, NASD staff would reconsider the appropriateness 
of the exclusion for offerings of these types of securities. Thus, the 
Commission believes that the proposed rule change to exclude BDCs, 
DPPs, and REITs from the definition of ``new issue'' is consistent with 
Sections 15A(b)(6) and 15A(b)(9) of the Exchange Act.

B. Foreign Investment Company Exemption (NASD Rule 2790(c)(6)(A))

    The proposal would include a technical change to the exemption for 
foreign investment companies in subparagraph (c)(6)(A) of NASD Rule 
2790 to clarify the scope of the exemption as reflected in the Staff 
Memorandum. NASD believes this technical change is important because 
the purposes of NASD Rule 2790 could easily be frustrated by purchases 
of large quantities of a new issue by a foreign investment company 
listed on a foreign exchange that is owned entirely or principally by 
broker-dealer personnel (or other restricted persons).
    Of the six commenters that did not support approval of the proposed 
rule change, all focused on the Rule's existing exemption for foreign 
investment companies in subparagraph (c)(6)(B), which provides that a 
foreign investment company is eligible for an exemption from the Rule 
if, among other things, no person owning more than 5% of the shares of 
the investment company is a restricted person.\16\
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    \16\ See HKIFA, IMA, ICI, Dechert, ITA and T. Rowe Price.
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    The Commission notes that the proposed rule change to subparagraph 
(c)(6)(A) of the Rule is intended to clarify the scope of the exemption 
so that investment companies listed on a foreign exchange must be ``for 
sale to the public.'' As noted above, several commenters expressed 
concern regarding the 5% threshold in subparagraph (c)(6)(B) of the 
Rule. We note however, that this restriction is not a part of the 
current proposals, but has been in place since 1998 (as part of the 
predecessor to Rule 2790, the Free-Riding and Withholding 
Interpretation).\17\ We therefore agree with the NASD that the concerns 
expressed by commenters in this regard are not germane to the current 
proposals.\18\
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    \17\ See Securities Exchange Act Release No. 40001 (May 18, 
1998), 63 FR 28535 (May 26, 1998).
    \18\ One commenter, Dechert, on behalf of six Canadian mutual 
funds, alleged that the NASD's treatment of foreign entities in NASD 
Rule 2790 unduly burdened these Canadian mutual funds in violation 
of North American Free Trade Agreement (``NAFTA''). However, the 
Commission believes that the Rule is grounded in investor protection 
concerns and is not intended to unduly burden foreign investment 
companies.
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    We also understand that NASD intends to continue to consider the 
concerns raised by commenters regarding the 5% limitation in 
subparagraph (c)(6)(B) of the Rule and to have further discussions with 
the industry regarding the Rule and whether additional amendments are 
appropriate. We urge the NASD to continue in these discussions with the 
industry in order to determine whether additional amendments to the 
Rule are appropriate. Thus, we find that the proposed rule change to 
clarify that, to satisfy the conditions of the exemption, a foreign 
investment company must, among other things, be ``for sale to the 
public,'' is reasonable and consistent with Sections 15A(b)(6) and 
15A(b)(9) of the Exchange Act.

C. Information Required To Be Filed (NASD Rule 2790(j))

    The proposals would amend NASD Rule 2790 to codify the requirement 
for the book-running managing underwriter to file distribution 
information as announced in NtM 04-20. None of the commenters 
specifically addressed this aspect of the proposed rule change. The 
Commission believes this proposal is appropriate in order to provide 
clarity to the industry regarding new issue distribution data. 
Accordingly, the Commission believes this proposal is consistent with 
sections 15A(b)(6) and 15A(b)(9) of the Exchange Act.

D. Implementation

    The NASD suggests that the proposed rule change become effective 45 
days after approval by the Commission and the Commission believes that 
this is reasonable.

IV. Conclusion

    It is therefore ordered, pursuant to section 19(b)(2) of the 
Exchange Act,\19\ that the proposed rule change (SR-NASD-2004-165), as 
amended, is approved.
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    \19\ 15 U.S.C. 78s(b)(2).
    \20\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\20\
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E5-4327 Filed 8-9-05; 8:45 am]
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