Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend FINRA Rule 5130 (Restrictions on the Purchase and Sale of Initial Equity Public Offerings) and FINRA Rule 5131 (New Issue Allocations and Distributions), 39029-39037 [2019-16942]
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Federal Register / Vol. 84, No. 153 / Thursday, August 8, 2019 / Notices
to the public. On August 2, 2019, the
Commission published notice of the
Committee meeting (Release No. 33–
10666), indicating that the meeting is
open to the public and inviting the
public to submit written comments to
the Committee. This Sunshine Act
notice is being issued because a majority
of the Commission may attend the
meeting.
The agenda for the meeting includes
matters relating to rules and regulations
affecting small and emerging companies
under the federal securities laws.
CONTACT PERSON FOR MORE INFORMATION:
For further information, please contact
Vanessa A. Countryman from the Office
of the Secretary at (202) 551–5400.
Dated: August 6, 2019.
Vanessa A. Countryman,
Secretary.
[FR Doc. 2019–17103 Filed 8–6–19; 4:15 pm]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–86558; File No. SR–FINRA–
2019–022]
Self-Regulatory Organizations;
Financial Industry Regulatory
Authority, Inc.; Notice of Filing of a
Proposed Rule Change To Amend
FINRA Rule 5130 (Restrictions on the
Purchase and Sale of Initial Equity
Public Offerings) and FINRA Rule 5131
(New Issue Allocations and
Distributions)
August 2, 2019.
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 July 26,
2019, Financial Industry Regulatory
Authority, Inc. (‘‘FINRA’’) filed with the
Securities and Exchange Commission
(‘‘SEC’’ or ‘‘Commission’’) the proposed
rule change as described in Items I, II,
and III below, which Items have been
prepared by FINRA. The Commission is
publishing this notice to solicit
comments on the proposed rule change
from interested persons.
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I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
FINRA is proposing to amend FINRA
Rule 5130 (Restrictions on the Purchase
and Sale of Initial Equity Public
Offerings) and FINRA Rule 5131 (New
Issue Allocations and Distributions) to
exempt additional persons from the
scope of the rules, modify current
exemptions to enhance regulatory
consistency, address unintended
operational impediments and exempt
certain types of offerings from the scope
of the rules.
Specifically, the proposed rule change
would: (1) Incorporate the definitions of
‘‘family member’’ and ‘‘family client’’
under the Investment Advisers Act of
1940 (‘‘Advisers Act’’)3 and the rules
promulgated thereunder 4 into the
definition of ‘‘family investment
vehicle’’ under FINRA Rule 5130(i)(4);
(2) exclude sovereign entities that own
broker-dealers from the categories of
restricted persons under FINRA Rule
5130(i)(10)(E); (3) exempt foreign
employee retirement benefits plans that
meet specified conditions from FINRA
Rules 5130 and 5131(b) (Spinning); (4)
provide alternative conditions for
satisfying the foreign investment
company exemption under FINRA Rule
5130(c)(6); (5) exclude offerings that are
conducted pursuant to Regulation S
under the Securities Act of 1933
(‘‘Securities Act’’) 5 and other offerings
outside of the United States and its
territories from the definition of ‘‘new
issue’’ in FINRA Rules 5130 and 5131;
(6) align FINRA Rule 5130(d) (IssuerDirected Securities) with a similar
provision in FINRA Rule 5131.01 (Issuer
Directed Allocations); (7) exclude
unaffiliated charitable organizations
from the definition of ‘‘covered nonpublic company’’ in FINRA Rule
5131(e)(3); and (8) add an anti-dilution
provision for purposes of FINRA Rule
5131(b), similar to the provision in
FINRA Rule 5130(e) (Anti-Dilution
Provisions).
The text of the proposed rule change
is available on FINRA’s website at
https://www.finra.org, at the principal
office of FINRA and at the
Commission’s Public Reference Room.
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission,
FINRA 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. FINRA has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such statements.
3 15
U.S.C. 80b–2(a)(11)(G).
CFR 275.202(a)(11)(G)–1.
5 17 CFR 230.901, et seq.
1 15
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
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A. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
1. Purpose
FINRA Rule 5130 protects the
integrity of the public offering process
by ensuring that: (1) Members make
bona fide public offerings of securities
at the offering price; (2) members do not
withhold securities in a public offering
for their own benefit or use such
securities to reward persons who are in
a position to direct future business to
members; and (3) industry insiders,
including members and their associated
persons, do not take advantage of their
insider position to purchase new
issues 6 for their own benefit at the
expense of public customers. Paragraph
(a) of Rule 5130 provides that, except as
otherwise permitted under the rule: (1)
A member (or an associated person) may
not sell a new issue to an account in
which a restricted person 7 has a
beneficial interest; 8 (2) a member (or an
associated person) may not purchase a
new issue in any account in which such
member or associated person has a
beneficial interest; and (3) a member
may not continue to hold new issues
acquired as an underwriter, selling
group member, or otherwise.
FINRA Rule 5131 addresses abuses in
the allocation and distribution of new
issues. Among other things, the rule
prohibits the practice of ‘‘spinning,’’
which is the allocation of new issues by
a firm to executive officers and directors
of the firm’s current, former or
prospective investment banking clients.
In April 2017, FINRA published
Regulatory Notice 17–14 (Capital
Formation) seeking comment on the
effectiveness and efficiency of its rules,
operations and administrative processes
governing broker-dealer activities
related to the capital-raising process and
their impact on capital formation.9 In
6 ‘‘New issue’’ means any initial public offering
(‘‘IPO’’) of an equity security as defined in Section
3(a)(11) of the Act, made pursuant to a registration
statement or offering circular, subject to some
exceptions. See FINRA Rules 5130(i)(9) and
5131(e)(7).
7 The term ‘‘restricted person’’ includes the
following categories of persons: (1) Broker-dealers;
(2) broker-dealer personnel; (3) finders and
fiduciaries; (4) portfolio managers; and (5) persons
owning a broker-dealer. See FINRA Rule
5130(i)(10).
8 ‘‘Beneficial interest’’ means any economic
interest, such as the right to share in gains or losses.
The receipt of a management or performance based
fee for operating a collective investment account, or
other fees for acting in a fiduciary capacity, is not
considered a beneficial interest in the account. See
FINRA Rule 5130(i)(1).
9 The comment period closed on May 30, 2017.
FINRA received 11 comment letters in response to
Continued
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Federal Register / Vol. 84, No. 153 / Thursday, August 8, 2019 / Notices
response to the Notice, two commenters
requested that FINRA consider
amending Rules 5130 and 5131 to
remove certain impediments to capital
formation that are unnecessary to
protect investors.10 In addition, based
on FINRA’s experience with the rules
since their adoption, FINRA believes
that amendments to Rules 5130 and
5131 are appropriate to address the
impact of the rules on family offices,
sovereign entities, foreign employee
retirement benefits plans, foreign
investment companies and executive
officers and directors of charitable
organizations. FINRA is proposing to
amend Rules 5130 and 5131 in response
to the comments it received based on
Regulatory Notice 17–14 as well as
FINRA’s experience with the rules.
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Family Offices
The definition of ‘‘restricted person’’
in FINRA Rule 5130 includes portfolio
managers, who are persons with the
authority to buy or sell securities for,
among other entities, a collective
investment account.11 The term
‘‘collective investment account’’ 12
currently excludes a ‘‘family investment
vehicle,’’ which, in turn, is defined as
a legal entity that is beneficially owned
solely by immediate family members.13
Accordingly, under the rule, a person
with the authority to buy or sell
securities for an account that is
beneficially owned only by ‘‘immediate
family members,’’ as defined, is not
considered a portfolio manager based
solely on that investment authority and,
therefore, is not a restricted person.
FINRA excluded such persons from the
definition of ‘‘portfolio manager’’
because family investment vehicles are
often established for tax and estate
the Notice. The Notice and the comment letters are
available at https://www.finra.org/industry/notices/
17-14.
10 Sean Davy, Managing Director, Capital Markets
Division, Securities Industry and Financial Markets
Association (‘‘SIFMA’’) and Sullivan & Cromwell
LLP (‘‘Sullivan & Cromwell’’).
11 See FINRA Rule 5130(i)(10)(D) (Portfolio
Managers). The definition of ‘‘portfolio manager’’
also includes any immediate family member of a
portfolio manager who materially supports, or
receives material support from, the portfolio
manager. The term ‘‘material support’’ is defined as
directly or indirectly providing more than 25
percent of a person’s income in the prior calendar
year. Members of the immediate family living in the
same household are deemed to be providing each
other with material support. See FINRA Rule
5130(i)(8).
12 See FINRA Rule 5130(i)(2).
13 See FINRA Rule 5130(i)(4). The term
‘‘immediate family member’’ is defined as a
person’s parents, mother-in-law or father-in-law,
spouse, brother or sister, brother-in-law or sister-inlaw, son-in-law or daughter-in-law, and children,
and any other individual to whom the person
provides material support. See FINRA Rule
5130(i)(5).
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planning purposes and do not manage
money for unrelated persons.14
FINRA is proposing to expand the
definition of ‘‘family investment
vehicle’’ under Rule 5130 to include
entities that are beneficially owned
solely by ‘‘family members’’ and ‘‘family
clients,’’ which are terms used in the
family office context and are defined in
Advisers Act Rule 202(a)(11)(G)–1.15
FINRA believes that an expansion that
will further regulatory consistency
without undermining investor
protection is appropriate. As a result,
the proposed rule change will
incorporate these definitions into the
definition of ‘‘family investment
vehicle’’ under Rule 5130, subject to
some limitations.
Family offices are entities established
by families to manage their wealth and
provide other services to family
members and are excluded from the
definition of ‘‘investment adviser’’ and,
thus, are not subject to regulation under
the Advisers Act.16 The Advisers Act
defines a ‘‘family office’’ as a company
that, among other conditions, is wholly
owned by family clients.17 The term
‘‘family client’’ 18 includes, among other
defined persons, ‘‘family members’’ 19 as
well as ‘‘key employees’’ 20 of the family
office.
14 See Securities Exchange Act Release No. 42325
(January 10, 2000), 5 FR 2656, 2660 (January 18,
2000) (Notice of Filing File No. SR–NASD–99–60)
(‘‘Notice of New Issue Rule Filing’’).
15 See 17 CFR 275.202(a)(11)(G)–1.
16 See 15 U.S.C. 80b–2(a)(11)(G); Family Offices,
Advisers Act Release No. 3220 (June 22, 2011), 76
FR 37983 (June 29, 2011).
17 17 CFR 275.202(a)(11)(G)–1(b)(2).
18 17 CFR 275.202(a)(11)(G)–1(d)(4).
19 The term ‘‘family member’’ is defined as all
lineal descendants (including by adoption,
stepchildren, foster children, and individuals that
were a minor when another family member became
a legal guardian of that individual) of a common
ancestor (who may be living or deceased), and such
lineal descendants’ spouses or spousal equivalents;
provided that the common ancestor is no more than
10 generations removed from the youngest
generation of family members. See 17 CFR
275.202(a)(11)(G)–1(d)(6).
20 The term ‘‘key employee’’ is defined as any
natural person (including any key employee’s
spouse or spouse equivalent who holds a joint,
community property, or other similar shared
ownership interest with that key employee) who is
an executive officer, director, trustee, general
partner, or person serving in a similar capacity of
the family office or its affiliated family office or any
employee of the family office or its affiliated family
office (other than an employee performing solely
clerical, secretarial, or administrative functions
with regard to the family office) who, in connection
with his or her regular functions or duties,
participates in the investment activities of the
family office or affiliated family office, provided
that such employee has been performing such
functions and duties for or on behalf of the family
office or affiliated family office, or substantially
similar functions or duties for or on behalf of
another company, for at least 12 months. See 17
CFR 275.202(a)(11)(G)–1(d)(8).
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Although they overlap in significant
respects, differences exist between a
family investment vehicle under FINRA
Rule 5130 and the family office concept
under the Advisers Act. These
differences create inconsistencies,
which do not further the purposes of
FINRA Rule 5130, with respect to the
treatment of family offices under the
two regimes. For example, the definition
of ‘‘immediate family member’’ under
FINRA Rule 5130 includes a person’s
parents, mother-in-law or father-in-law,
spouse, brother or sister, brother-in-law
or sister-in-law, son-in-law or daughterin-law and children, whereas the
definition of ‘‘family member’’ under
the Advisers Act includes lineal
descendants of a common ancestor and
the lineal descendants’ spouses or
spousal equivalents.21 As a result, and
by way of example, the inclusion of
grandchildren or grandparents in a
collective investment account will not
disqualify the account from the family
office designation under the Advisers
Act on that basis, but would cause such
an account to fall outside of the
definition of ‘‘family investment
vehicle’’ under FINRA Rule 5130.
Another difference is that the terms
‘‘immediate family member’’ and
‘‘family client’’ each address categories
of non-family members; however, they
do so in different ways. Specifically, the
definition of ‘‘immediate family
member’’ under FINRA Rule 5130
includes any individual to whom the
person provides material support,
which could encompass non-family
members.22 The definition of ‘‘family
client’’ under the Advisers Act includes
key employees of the family office,
which may also cover non-family
members but not necessarily only those
non-family members who receive
material support.23 As a result of this
difference, a person who has the
authority to buy or sell securities for an
account that is beneficially owned by
family clients could be considered a
portfolio manager based exclusively on
that investment authority, and thus a
restricted person under FINRA Rule
5130.
Given the significant overlap between
these concepts, and FINRA’s belief that
the differences do not serve the
purposes of the rule, FINRA is
proposing to incorporate the definitions
of ‘‘family member’’ and ‘‘family client’’
under the Advisers Act into the
definition of ‘‘family investment
vehicle’’ under Rule 5130, subject to
21 See 17 CFR 275.202(a)(11)(G)–1(d)(6); supra
note 19.
22 See supra note 13.
23 See supra note 20.
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some limitations. Specifically, the
proposed rule change would amend
FINRA Rule 5130(i)(4) to define a
‘‘family investment vehicle’’ as a legal
entity that is beneficially owned solely
by one or more of the following persons:
(1) ‘‘Immediate family members’’ as
defined under FINRA Rule 5130(i)(5);
(2) ‘‘family members’’ as defined under
Advisers Act Rule 202(a)(11)(G)–1(d)(6);
or (3) ‘‘family clients’’ as defined under
Advisers Act Rule 202(a)(11)(G)–
1(d)(4); 24 provided, however, that
where the beneficial owners of such an
entity include family clients, the person
who has the sole authority to buy or sell
securities for such an entity is an
‘‘immediate family member’’ as defined
in FINRA Rule 5130(i)(5) or a ‘‘family
member’’ as defined in Advisers Act
Rule 202(a)(11)(G)–1(d)(6).
The first category would preserve the
current exception in FINRA Rule 5130
and would provide relief from portfolio
manager status under the rule for a
person who has the authority to buy or
sell securities for an account that is
beneficially owned only by immediate
family members. The second category
would provide relief from portfolio
manager status under the rule for a
person who has the authority to buy or
sell securities for an account that is
beneficially owned only by ‘‘family
members,’’ as defined in the Advisers
Act. The third category would provide
relief from portfolio manager status
under the rule for a person who has the
authority to buy or sell securities for an
account that is owned only by ‘‘family
clients,’’ as defined in the Advisers Act.
In addition, the proposed rule change
would provide relief to a legal entity
that is beneficially owned by any
combination of these categories.
However, the proposed rule change
contains an important caveat where the
beneficial owners are not solely
immediate family members or family
members under FINRA Rule 5130(i)(5)
or Advisers Act Rule 202(a)(11)(G)–
1(d)(6), respectively. Specifically, in
such cases, the proposed rule change
would only provide relief from portfolio
manager status if the person who has
the authority to buy or sell securities for
the account is an ‘‘immediate family
member,’’ as defined in FINRA Rule
5130, or a ‘‘family member,’’ as defined
in the Advisers Act.25 FINRA believes
24 As noted above, the term ‘‘family client’’
includes not only family members but others,
including key employees. See 17 CFR
275.202(a)(11)(G)–1(d)(4). Therefore, a family
investment vehicle that is beneficially owned solely
by family clients may include beneficial owners
that are not family members.
25 Further, the proposed relief is only with respect
to a person’s status as a portfolio manager under
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that it is necessary to impose this
condition to safeguard against the
abuses the rule is designed to address
and to ensure that, for purposes of Rule
5130, the person who has the authority
to buy or sell securities for the account
is more closely aligned with the family
than with key employees or others
associated with the family office. FINRA
believes that the proposed rule change
strikes the proper balance between the
treatment of family investment vehicles
in FINRA Rule 5130 and the recognition
of the family office exemption under the
Advisers Act.
Sovereign Entities
The definition of ‘‘restricted person’’
in FINRA Rule 5130 includes, among
others, direct and indirect owners of
broker-dealers that are listed, or
required to be listed, on Schedules A
and B of Form BD (Uniform Application
for Broker-Dealer Registration) and that
have an ownership interest above
specified thresholds.26 The definition of
‘‘restricted person’’ includes owners of
broker-dealers because the prohibition
on purchases of new issues by a brokerdealer could be circumvented if the
owners of a broker-dealer were
permitted to purchase new issues.27
A sovereign wealth fund (‘‘SWF’’) is
a pool of capital or an investment fund
owned or controlled by a sovereign
nation and created for the purpose of
making investments on behalf of the
sovereign nation.28 Occasionally, an
SWF or sovereign nation (collectively, a
‘‘sovereign entity’’) may acquire a direct
or an indirect ownership stake in a
registered broker-dealer, requiring the
sovereign entity to be listed on Schedule
A or B of Form BD. Moreover, the
sovereign entity’s ownership interest
FINRA Rule 5130. The proposed relief does not
extend to a person who has a beneficial interest in
a family investment vehicle and is a restricted
person based on his or her other activities, such as
an associated person of a member.
26 See FINRA Rule 5130(i)(10)(E) (Persons
Owning a Broker-Dealer). FINRA Rule 5130 also
provides an exception for an owner of a ‘‘limited
business broker-dealer,’’ which is defined as a
broker-dealer whose authorization to engage in the
securities business is limited solely to the purchase
and sale of investment company/variable contracts
securities and direct participation program
securities. See FINRA Rules 5130(i)(7) and
5130(i)(10)(E).
27 See Securities Exchange Act Release No. 48701
(October 24, 2003), 68 FR 62126, 62133 (October 31,
2003) (Order Approving File No. SR–NASD–99–60)
(‘‘New Issue Rule Approval Order’’).
28 There is no standard definition of the term
‘‘sovereign wealth fund,’’ and the term is not
defined under the federal securities laws. See, e.g.,
Celeste Cecelia Moles Lo Turco, Sovereign Wealth
Funds: From Transparency to Sustainability,
Sovereign Wealth Funds Law Centre, Bi-Annual
Legal Report, October 2013 (noting the absence of
a commonly accepted definition of ‘‘sovereign
wealth fund’’).
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39031
could exceed the specified thresholds in
FINRA Rule 5130(i)(10)(E), which
would make the sovereign entity a
restricted person.
Rule 5130(i)(10)(E) was not intended
to encompass sovereign entities that
acquire an ownership interest in a
registered broker-dealer. Instead, as
discussed above, the inclusion of
owners of broker-dealers in the
categories of restricted persons was
intended to prevent circumvention of
the prohibition on purchases of new
issues by broker-dealers. FINRA
believes that sovereign entities are
unlikely to circumvent the rule’s
prohibition by reallocating new issue
shares to broker-dealers and are
inherently not designed for such a
purpose. Further, FINRA notes that
significant investments by sovereign
entities currently are subject to distinct
legal and regulatory requirements.29
To address the unintended
application of FINRA Rule 5130 to
sovereign entities, the proposed rule
change would exclude sovereign entities
from the scope of owners of brokerdealers under Rule 5130(i)(10)(E). The
proposed exclusion would not apply to
affiliates of sovereign entities that are
otherwise restricted. Accordingly, while
a sovereign entity that owns a brokerdealer would not be considered a
restricted person under the proposed
rule change, the broker-dealer would
continue to be a restricted person under
FINRA Rule 5130.
The proposed rule change would also
amend FINRA Rule 5130(i) (Definitions)
to define the term ‘‘sovereign entity’’ for
purposes of the rule as ‘‘a sovereign
nation or a pool of capital or an
investment fund owned or controlled by
a sovereign nation and created for the
purpose of making investments on
behalf of the sovereign nation.’’ The
proposed rule change would further
define the term ‘‘sovereign nation’’ as ‘‘a
sovereign nation or its political
subdivisions, agencies or
instrumentalities.’’
Foreign Employee Retirement Benefits
Plans
FINRA Rule 5130(c)(7) provides a
general exemption from the rule’s
prohibitions for an Employee
Retirement Income Security Act
29 For example, specific investments by sovereign
entities in the United States that raise national
security concerns are subject to review by the
Committee on Foreign Investment in the United
States (CFIUS). CFIUS is an interagency committee
of the federal government chaired by the
Department of the Treasury and authorized to
review transactions that could result in control of
a U.S. business by a foreign person to determine the
effect of such transactions on the national security
of the United States. See 31 CFR 800.
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(‘‘ERISA’’) benefits plan that is qualified
under Section 401(a) of the Internal
Revenue Code (‘‘IRC’’), provided that
the plan is not sponsored solely by a
broker-dealer. Employee retirement
benefits plans that are organized under
and governed by foreign laws, even
when similar to qualifying ERISA plans
in all material respect, are not subject to
ERISA and do not qualify for the
exemption in FINRA Rule 5130(c)(7).30
Because foreign employee retirement
benefits plans may invest in assets on
behalf of potentially hundreds of
thousands of participants and
beneficiaries, such plans may be unable
to determine whether persons with a
beneficial interest are restricted persons
under FINRA Rule 5130. As a result,
such plans may find it impossible to
assess whether they may permissibly
invest in new issues. Currently, FINRA
Rule 5130 does not include a general
exemption for foreign employee
retirement benefits plans, although
FINRA has previously acknowledged
that such an exemption may be
appropriate.31
In recent years, FINRA staff has
granted several requests for exemption
from the rule for foreign employee
retirement benefits plans.32 In each case,
the foreign employee retirement benefits
plans were organized under and
governed by foreign laws, had an
extensive number of participants and
beneficiaries and significant assets in
the employer’s retirement fund or
family of retirement funds, and were
administered by trustees and managers
that have a fiduciary obligation to
administer the funds in the best
interests of the participants and
beneficiaries. Under these
circumstances, the plans stated that the
funds plainly could not serve as a
conduit for restricted persons to
30 ERISA explicitly excludes from coverage
employee benefit plans that are ‘‘maintained
outside of the United States primarily for the
benefit of persons substantially all of whom are
nonresident aliens.’’ 29 U.S.C. 1003(b)(4).
31 See Restrictions on the Purchase and Sale of
Initial Equity Public Offerings Amendment No. 3,
File No. SR–NASD–99–60 (March 19, 2001), https://
www.finra.org/sites/default/files/RuleFiling/
p000150.pdf.
32 See Letter from Gary L. Goldsholle, FINRA, to
Edward A. Kwalwasser, Proskauer Rose LLP, dated
December 7, 2010, https://www.finra.org/industry/
exemptive-letters/december-7-2010-1200am; Letter
from Afshin Atabaki, FINRA, to Christopher M.
Wells, Proskauer Rose LLP, dated November 2,
2012, https://www.finra.org/industry/exemptiveletters/november-2-2012-1200am; Letter from
Meredith Cordisco, FINRA, to Amy Natterson Kroll,
Morgan, Lewis & Bockius LLP, dated July 23, 2015,
https://www.finra.org/industry/exemptive-letters/
july-23-2015-1200am; and Letter from Meredith
Cordisco, FINRA, to Amy Natterson Kroll, Morgan,
Lewis & Bockius LLP, dated April 16, 2018, https://
www.finra.org/industry/exemptive-letters/april-162018-1200am.
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purchase new issues. FINRA staff agreed
that the concerns underlying the rule
were not served in light of those
circumstances and, as such, FINRA staff
granted exemptions from FINRA Rule
5130 in connection with the foreign
employee retirement benefits plans.
FINRA is proposing to codify this
position by amending FINRA Rule
5130(c) (General Exemptions) to provide
an exemption for an employee
retirement benefits plan organized
under and governed by the laws of a
foreign jurisdiction, provided that such
a plan or family of plans: (1) Has, in
aggregate, at least 10,000 participants
and beneficiaries and $10 billion in
assets; (2) is operated in a nondiscriminatory manner insofar as a wide
range of employees, regardless of
income or position, are eligible to
participate without further amendment
or action by the plan sponsor;33 (3) is
administered by trustees and managers
that have a fiduciary obligation to
administer the funds in the best
interests of the participants and
beneficiaries; and (4) is not sponsored
by a broker-dealer. Under these
conditions, FINRA believes that the
plan(s) are not likely to serve as a
conduit for circumventing the rule. In
addition, FINRA believes that the
rationale for exempting ERISA benefits
plans applies equally to foreign benefits
plans when these conditions are met,
and such plans should be afforded
similar treatment under the rule.
Finally, FINRA Rule 5131(b)(2) sets
forth the exemptions applicable to the
spinning provision. The exemptions
generally correspond to those under
FINRA Rule 5130(c). Therefore, in
conjunction with adding foreign
employee retirement benefits plans to
Rule 5130(c), FINRA is also proposing
to amend Rule 5131(b)(2) to add a
corresponding exemption to that rule.
This proposed change will minimize
unnecessary regulatory burdens without
undermining the rule’s stated objective,
as the practice of spinning is unlikely to
occur in connection with a covered
person’s beneficial interest in a foreign
employee retirement benefits plan.
Alternative Conditions for Foreign
Investment Company Exemption
Paragraph (c)(6) of FINRA Rule 5130
currently exempts sales to and
33 The definition of ‘‘broad-based foreign
retirement plan’’ under Section 409A of the IRC
includes a substantially similar condition. See 26
CFR 1.409A–1(a)(3)(v)(A). Section 409A imposes
restrictions on the deferral of compensation by
employees, directors and independent contractors.
Section 409A provides an exemption for
compensation deferred under certain broad-based
foreign retirement plans.
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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 for sale to the public
or authorized for sale to the public by
a foreign regulatory authority; and (2) no
person owning more than five percent of
the shares of the investment company is
a restricted person. The foreign
investment company exemption is
intended to apply to foreign investment
companies that are similar to U.S.
registered investment companies, which
are currently exempt from FINRA Rule
5130’s prohibitions.34
The purpose of the five percent
condition is to prevent purchases of
new issues by foreign investment
companies with concentrated
ownership interests of restricted
persons.35 However, based on FINRA’s
experience with the rule, including
informal discussions with industry
groups and market participants in the
years since the rule’s adoption, FINRA
understands that it is operationally
impractical for a foreign investment
company to determine whether an
investor owns more than five percent of
its shares where the investor acquires
his or her interest through an
intermediary that then holds the shares
for multiple investors in an omnibus or
nominee account as distinguished from
an account that holds shares of a single
investor. Further, an investor may
acquire shares of a foreign investment
company through multiple
intermediaries or through multiple
omnibus or nominee accounts at the
same intermediary. In such cases,
foreign investment companies are not
able to satisfy the five percent
condition.
When FINRA (then NASD) originally
proposed the foreign investment
company exemption as part of NASD
Rule 2790 (Restrictions on the Purchase
and Sale of Initial Equity Public
Offerings), the exemption included an
additional condition that required the
foreign investment company to have 100
or more investors.36 During the
rulemaking process, however, FINRA
determined to simplify the exemption
by eliminating the 100 investor
requirement because the condition
addressed the same concerns about
concentration of ownership as the five
percent condition.37
Given the operational issues raised by
the five percent condition, FINRA is
34 See
FINRA Rule 5130(c)(1).
New Issue Approval Order, 68 FR at 62138.
36 See Notice of New Issue Rule Filing, 5 FR at
2657.
37 See New Issue Approval Order, 68 FR at 62137.
35 See
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proposing to amend Rule 5130(c)(6) to
provide the following two alternative
methods to establish that a foreign
investment company is widely held for
purposes of the rule: (1) The investment
company has 100 or more direct
investors; or (2) the investment
company has 1,000 or more indirect
investors.38 FINRA believes that
satisfying either of these two conditions
would also assuage concerns about
concentration of ownership. The
proposed rule change would also add a
condition to paragraph (c)(6) to ensure
that the foreign investment company is
not formed for the specific purpose of
investing in new issues.
Therefore, as proposed, paragraph
(c)(6) of FINRA Rule 5130 would
exempt 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
for sale to the public or authorized for
sale to the public by a foreign regulatory
authority; (2) no person owning more
than five percent of the shares of the
investment company is a restricted
person, the investment company has
100 or more direct investors, or the
investment company has 1,000 or more
indirect investors; and (3) the
investment company was not formed for
the specific purpose of investing in new
issues.39
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Exclusion for Foreign Offerings
As noted above, for purposes of
FINRA Rules 5130 and 5131, the term
‘‘new issue’’ means any IPO of an equity
security as defined in Section 3(a)(11) of
the Act, made pursuant to a registration
statement or offering circular, subject to
some exceptions.40 Currently, the
definition is not expressly limited to
domestic securities offerings.
Accordingly, the rules could apply to
foreign offerings, even if a safe harbor is
available for those offerings under the
Securities Act, to the extent that a
38 As noted above, in some jurisdictions, investors
may invest through layers of intermediaries, with
the legal ownership held by nominees. FINRA
believes that a foreign investment company would
be considered to be widely held on an indirect basis
if it has 1,000 or more indirect investors.
39 The proposed rule change also impacts an
identical exemption cross referenced in paragraph
(b)(2) of FINRA Rule 5131. The proposed rule
change would not undermine the objectives of the
spinning provision, as spinning would be unlikely
to occur in connection with a foreign investment
company when the proposed conditions are met.
40 See Rules 5130(i)(9) and 5131(e)(7). The
definition of ‘‘new issue’’ does not include, among
others, offerings made pursuant to an exemption
under Section 4(1), 4(2) or 4(6) of the Securities Act,
or Securities Act Rule 504 if the securities are
‘‘restricted securities’’ under Securities Act Rule
144(a)(3), or Rule 144A or Rule 505 or Rule 506
adopted thereunder. See Rule 5130(i)(9)(A).
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member or an associated person is
participating in the offering or receiving
allocations of new issues as an
investor.41
In connection with Regulatory Notice
17–14, SIFMA and Sullivan & Cromwell
requested that FINRA expressly exclude
from Rules 5130 and 5131 offerings that
are conducted pursuant to Regulation S,
which provides a safe harbor from the
registration requirements of the
Securities Act for offshore offers and
sales of securities. SIFMA suggested that
FINRA’s goals of investor protection and
fostering fair public capital markets are
not present when members are
participating in transactions conducted
wholly offshore, and Sullivan &
Cromwell stated that such a carve-out
would provide clarity to the industry.42
Some foreign jurisdictions may not
restrict market participants, such as
broker-dealers, from purchasing IPO
shares for their own account. By
prohibiting members and associated
persons from purchasing IPO shares in
foreign offerings, the current rule may
indirectly impede the capital formation
process in those foreign jurisdictions.
Further, Regulation S offerings are
currently excluded from the definition
of ‘‘public offering’’ for purposes of
FINRA Rules 5110 (Corporate Financing
Rule—UnderwritingTerms and
Arrangements) and 5121 (Public
Offerings of Securities With Conflicts of
Interest). FINRA believes that an
exclusion from Rules 5130 and 5131 for
Regulation S offerings is also
appropriate. In addition, FINRA
believes that the exclusion should be
extended to other offerings made
outside of the United States or its
territories and not just those that are
expressly designated as Regulation S
offerings.
Issuer-Directed Securities
41 See Notice to Members 03–79 (December 2003)
at n.13.
42 See SIFMA at 8; Sullivan & Cromwell at 7–8.
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these provisions.43 FINRA agrees that a
conforming change to FINRA Rule
5130(d) to more closely align the rule
with the issuer-directed provision in
FINRA Rule 5131.01 will provide
regulatory consistency without
negatively impacting investor protection
or the integrity of the market for new
issues and would not impact the
spinning provision of Rule 5131.
Specifically, the proposed rule change
would amend paragraphs (d)(1) and
(d)(2) of Rule 5130 to expand the
exemption for issuer-directed securities
to allocations directed by affiliates and
selling shareholders of the issuer. The
change will also clarify that the
exemption applies to shares that are
specifically directed in writing by the
issuer.
Exclusion for Unaffiliated Charitable
Organizations
As noted above, paragraph (b) of
FINRA Rule 5131 prohibits the practice
of ‘‘spinning,’’ which is the allocation of
new issues to executive officers and
directors of current and certain former
or prospective investment banking
clients. The spinning provision provides
that no member or person associated
with a member may allocate shares of a
new issue to any account in which an
executive officer or director of a public
company 44 or a covered non-public
company,45 or a person materially
supported 46 by such executive officer or
director, has a beneficial interest: 47 (1)
If the company is currently an
investment banking services client of
the member or the member has received
compensation from the company for
investment banking services in the past
12 months; (2) if the person responsible
for making the allocation decision
knows or has reason to know that the
43 See
FINRA Rules 5130(d) and 5131.01
each contain exemptive provisions for
new issue allocations that are directed
by an issuer, when specified conditions
are met, because the regulatory concerns
that the rules are designed to address
are not present with respect to
allocations of securities that are not
controlled by an underwriter. However,
these exemptions are not identical, in
that FINRA Rule 5131 exempts
allocations directed by affiliates and
selling shareholders, while FINRA Rule
5130 does not.
In response to Regulatory Notice 17–
14, SIFMA requested better alignment of
39033
SIFMA at 7, n.10.
Rule 5131(e)(1) defines ‘‘public
company’’ as ‘‘any company that is registered under
Section 12 of the Exchange Act or files periodic
reports pursuant to Section 15(d) thereof.’’ See
FINRA Rule 5131(e)(1).
45 The term ‘‘covered non-public company’’
means any non-public company satisfying the
following criteria: (1) Income of at least $1 million
in the last fiscal year or in two of the last three fiscal
years and shareholders’ equity of at least $15
million; (2) shareholders’ equity of at least $30
million and a two-year operating history; or (3) total
assets and total revenue of at least $75 million in
the latest fiscal year or in two of the last three fiscal
years. See FINRA Rule 5131(e)(3).
46 Similar to the definition in FINRA Rule
5130(i)(8), FINRA Rule 5131 defines ‘‘material
support’’ to mean directly or indirectly providing
more than 25 percent of a person’s income in the
prior calendar year. Persons living in the same
household are deemed to be providing each other
with material support. See FINRA Rule 5131(e)(6).
47 The term ‘‘beneficial interest’’ has the same
meaning as in FINRA Rule 5130. See FINRA Rule
5131(e)(2).
44 FINRA
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member intends to provide, or expects
to be retained by the company for,
investment banking services within the
next three months; or (3) on the express
or implied condition that such
executive officer or director, on behalf
of the company, will retain the member
for the performance of future investment
banking services.
Because executive officers and
directors are often in a position to hire
members on behalf of the companies
they serve, allocating new issues to such
persons creates the appearance of
impropriety and has the potential to
divide the loyalty of the executive
officers and directors from the company
on whose behalf they must act. Industry
groups and market participants have
noted that these same concerns are not
implicated in the case of executive
officers and directors of charitable
organizations. However, due to their
asset size, some charitable organizations
fall within the definition of a covered
non-public company, making executives
or directors of such organizations the
subject of the rule’s prohibition. FINRA
believes that charitable organizations
are not likely to generate significant
investment banking business and, thus,
there is a low risk, if any, that improper
incentives would motivate a member’s
or an associated person’s decision to
allocate shares to the account of
executive officers or directors of such
organizations.
FINRA is proposing to amend
paragraph (e)(3) of Rule 5131
(Definitions) to exclude unaffiliated
charitable organizations, as that term is
elsewhere defined in the rule,48 from
the definition of ‘‘covered non-public
company.’’ As a result of this proposed
amendment, an executive officer or
director of a charitable organization that
is not affiliated with the member
allocating IPO shares would not become
the subject of the rule’s spinning
provision solely on the basis of that
service.
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Addition of Anti-Dilution Provision to
FINRA Rule 5131
FINRA Rule 5130 allows restricted
persons that are existing equity owners
of an issuer to purchase shares of the
issuer in a public offering in order to
maintain their equity ownership
48 An ‘‘unaffiliated charitable organization’’ is a
tax-exempt entity organized under Section 501(c)(3)
of the IRC that is not affiliated with the member and
for which no executive officer or director of the
member, or person materially supported by such
executive officer or director, is an individual listed
or required to be listed on Part VII of Internal
Revenue Service Form 990 (i.e., officers, directors,
trustees, key employees, highest compensated
employees and certain independent contractors).
See FINRA Rule 5131(e)(9).
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position. However, FINRA Rule 5131
currently does not include a similar
anti-dilution provision for executive
officers and directors who are subject to
the prohibition on spinning set forth in
Rule 5131(b). In response to Regulatory
Notice 17–14, SIFMA urged FINRA to
create symmetry between the rules by
adding an anti-dilution provision for
purposes of Rule 5131(b).49 FINRA
agrees that executive officers and
directors of public companies and
covered non-public companies who are
subject to Rule 5131’s spinning
provision should be able to maintain the
same equity ownership level that they
held prior to the offering. Accordingly,
the proposed rule change would amend
Rule 5131 to add an anti-dilution
provision to the rule similar to the one
in Rule 5130(e), and would thus allow
an executive officer or director of a
public company or a covered non-public
company (or a person materially
supported by such a person) to retain
the percentage equity ownership in the
issuer at a level up to the ownership
interest as of three months prior to the
filing of the registration statement,
provided that the other conditions are
met.
If the Commission approves the
proposed rule change, FINRA will
announce the effective date of the
proposed rule change in a Regulatory
Notice to be published no later than 60
days following Commission approval.
The effective date will be no later than
30 days following publication of the
Regulatory Notice announcing
Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule
change is consistent with the provisions
of Section 15A(b)(6) of the Act,50 which
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. FINRA believes that the
proposed rule change will further these
purposes by promoting capital
formation and aiding member
compliance efforts, while maintaining
49 See SIFMA at 7, n.10. In addition, SIFMA
requested that FINRA consider amending Rule
5131(d)(3) (Agreement Among Underwriters)
relating to the treatment of returned shares to allow
members the option of selling such shares in the
secondary market and donating profits
anonymously to an unaffiliated charity when a
syndicate short position exists, consistent with a
similar option when no syndicate short position
exists. See SIFMA 8–9. FINRA considered this
comment and has determined not to proceed with
any changes to Rule 5131(d)(3).
50 15 U.S.C. 78o–3(b)(6).
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the integrity of the public offering
process and investor confidence in the
capital markets.
B. Self-Regulatory Organization’s
Statement on Burden on Competition
FINRA 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.
Economic Impact Assessment
FINRA has undertaken an economic
impact assessment, as set forth below, to
further analyze the regulatory need for
the proposed rule change, the economic
baseline of analysis, the economic
impact and the alternatives considered.
1. Regulatory Need
Based upon FINRA’s experience with
Rules 5130 and 5131, as well as input
from industry groups and market
participants regarding practical and
operational issues relating to the rules,
FINRA is proposing amendments to
reduce the regulatory burden on firms
and remove certain impediments to
capital formation without impacting
investor protection. The proposed rule
change aims to foster capital formation
and to bring regulatory clarity and
consistency. Specifically, FINRA is
proposing to exempt additional persons
from the scope of the rules, modify
current exemptions to enhance
regulatory consistency, address
unintended operational impediments
and exempt certain types of offerings
from the scope of the rules.
2. Economic Baseline
The economic baseline for the
proposed rule change is the current
requirements and provisions of FINRA
Rules 5130 and 5131, which are
intended to protect the integrity of the
public offering process. To this end,
Rule 5130 sets forth categories of
persons that are restricted from
purchasing new issues. In addition,
Rule 5131 places restrictions on the
allocation of new issues to executive
officers and directors of a member’s
current, former or prospective
investment banking clients.
To assess the current economic
baseline, FINRA has analyzed the
current groups potentially affected by
the various aspects of the proposed rule
change. FINRA believes that there are
thousands of family offices that, along
with the family members and family
clients served by those offices, are
potentially impacted by the proposed
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rule change.51 With respect to sovereign
entities, there are approximately 195
independent states in the world,52 many
of which operate one or more sovereign
wealth funds, and the number is
believed to be on the rise.53 FINRA
understands that there are thousands of
foreign pension plans (including both
state- and privately-operated foreign
plans) as well as millions of
beneficiaries and participants of those
plans. Similarly, FINRA understands
that there are thousands of foreign
investment companies and millions of
investors in such companies. As of
2013, there were over one million
organizations with Section 501(c)(3)
status in the United States, though the
number of charitable organizations that
are large enough to fall within the
current definition of ‘‘covered nonpublic company’’ in Rule 5131(e)(3) is
likely smaller than that figure.54
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3. Economic Impact
For purposes of this discussion,
FINRA has identified the potentially
material impacts of the proposed
amendments on the affected parties.
FINRA believes that the proposed
amendments to Rules 5130 and 5131
will remove unnecessary impediments
to capital formation and lessen burdens
in the public offering process. The
proposed amendments will generally
have a beneficial impact on issuers,
underwriters and selling group members
and certain categories of investors.
FINRA believes that a significant
impact of the proposed amendments
will be a reduction in both the costs and
uncertainty in determining whether an
investor is subject to the restrictions of
Rules 5130 and 5131. The proposed rule
change also may increase the pool of
investors eligible to purchase new
issues and, thus, encourage capital
formation. FINRA believes that the
proposed amendments would not alter
the original purpose of Rules 5130 and
5131 in ensuring the integrity of a
public offering.
FINRA Rule 5130 restricts members
and associated persons from purchasing
new issues for their own account or
51 The exact number of family offices in the
United States is not known; however, it is estimated
that there are between 3,000 and 5,000 single family
offices operating in the United States. See, e.g.,
Mary Pollack, Family Office Exchange, https://
www.familyoffice.com/insights/how-many-familyoffices-are-there-united-states.
52 See U.S. Department of State, Fact Sheet,
Bureau of Intelligence and Research, Independent
States in the World, https://www.state.gov/s/inr/rls/
4250.htm.
53 See Sovereign Wealth Fund Institute, Sovereign
Wealth Fund Rankings, https://www.swfinstitute.org/
sovereign-wealth-fund-rankings/.
54 See National Center for Charitable Statistics,
https://nccs.urban.org.
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selling new issues to an account in
which other restricted persons have a
beneficial interest. Currently the
definition of ‘‘restricted person’’ in Rule
5130(i)(10) captures certain persons that
were not intended to be included in the
definition. To address this issue, the
proposed rule change would exempt
from the definition of ‘‘restricted
person’’: (1) A person with the authority
to buy or sell securities for an account
beneficially owned by a family office,
subject to specified conditions; and (2)
sovereign entities that acquire an
ownership interest in a registered
broker-dealer. These persons would
benefit from the proposed rule change
by eliminating their restrictions from
purchasing new issues, thus increasing
their set of potential investments. To the
extent that new issues provide a unique
risk-return profile from other types of
securities investments, the inclusion of
them in these persons’ portfolios would
be value enhancing. The proposed rule
change would also better align with the
Advisers Act’s treatment of family
offices.
FINRA Rule 5130 currently does not
include a general exemption for foreign
employee retirement benefits plans.
Rather, FINRA staff has granted
exemptive relief to certain foreign
employee retirement benefits plans that
have demonstrated that they cannot
serve as a conduit for restricted persons
to purchase new issues. The proposed
rule change codifies the criteria upon
which the staff granted exemptive relief.
The proposed rule change would allow
plans that meet specified criteria to
invest in new issues without having to
determine the eligibility of hundreds of
thousands of participants and
beneficiaries. By providing such plans
additional flexibility to invest in new
issues, the proposed rule change would
enhance the investment options for their
equity portfolios. The codification of the
criteria would also improve regulatory
uniformity and reduce compliance
costs.
The foreign investment company
exemption in FINRA Rule 5130(c)(6) is
intended to apply to foreign investment
companies that are similar to U.S.
registered investment companies, which
are currently exempt from FINRA Rule
5130’s prohibitions. In order to satisfy
the current exemption, the foreign
investment company, among other
conditions, must establish that no
person owning more than five percent of
the shares of the investment company is
a restricted person. However, where an
investor acquires his or her interest in
a foreign investment company through
an intermediary that then holds the
shares for multiple investors in an
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39035
omnibus or nominee account, the
foreign investment company may not be
able to determine whether the investor
owns more than five percent of its
shares. The proposed rule change would
address this operational issue and create
two alternative conditions that the
foreign investment company have 100
or more direct investors or 1,000 or
more indirect investors. The proposed
alternative conditions would provide
additional flexibility to foreign
investment companies to demonstrate
their eligibility for the exemption, and
thereby enhance their ability to
purchase new issues.
FINRA Rules 5130 and 5131 are
primarily concerned with fostering fair
public capital markets within the
United States. However, because the
definition of ‘‘new issue’’ is not
expressly limited to domestic offerings,
the rules could apply to foreign
offerings, even if a safe harbor is
available for those offerings under the
Securities Act, if a member or an
associated person is participating in the
offering or receiving allocations as an
investor. The proposed rule change
would clarify the scope of Rules 5130
and 5131 by excluding Regulation S
offerings and other offerings made
outside of the United States or its
territories from the scope of the rules.
The proposed rule change would also
harmonize Rules 5130 and 5131 with
other FINRA rules relating to securities
offerings, FINRA Rules 5110 and 5121,
which currently exclude foreign
offerings. FINRA believes that the
proposed rule change will remove the
burdens associated with complying with
both U.S. and foreign regulatory regimes
relating to public offerings and will lead
to an increase in the pool of eligible
investors for offshore offerings of new
issues without undermining the fairness
of U.S. public capital markets. Further,
an increase in the pool of eligible
investors could lead to a lower cost of
capital for issuers engaged in foreign
offerings.
The issuer-directed provisions in
FINRA Rules 5130 and 5131 are similar,
but have differences that do not further
the purposes of the rules. The proposed
rule change would better align the
issuer-directed provisions of Rules 5130
and 5131, provide regulatory
consistency across the rules and remove
the compliance costs of applying
different standards, without negatively
impacting the purposes of the rules.
Charitable organizations may not
generate significant investment banking
business. However, due to their asset
size, some charitable organizations may
fall within the definition of a ‘‘covered
non-public company’’ under FINRA
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Rule 5131, making executives or
directors of such organizations the
subject of the rule’s prohibition. FINRA
believes that the concerns addressed by
the rule are not implicated with respect
to executive officers or directors of
charitable organizations that are not
affiliated with a member. The proposed
rule change, therefore, would exclude
‘‘unaffiliated charitable organizations,’’
as currently defined in Rule 5131, from
the definition of ‘‘covered non-public
company.’’ FINRA believes that this
proposed change will ease the burden
on firms as they will no longer be
required to consider whether an
investment banking relationship exists
vis-a`-vis the member and an unaffiliated
charitable organization when an
individual with a beneficial interest in
an account is an executive officer or
director (or materially supported by
such a person) of such an organization.
FINRA believes that the proposed rule
change would provide benefits by
reducing the uncertainty of whether a
particular relationship is problematic
and by reducing the time and costs
associated with making that
determination. The proposed rule
change will also impact individuals
who are executive officers or directors
of unaffiliated charitable organizations
(and those materially supported by such
individuals) as they will no longer be
subject to the rule’s prohibitions on that
basis. Finally, the proposed rule change
will benefit issuers by increasing the
pool of prospective investors, thus
potentially leading to a lower cost of
capital for the issuers.
Finally, the anti-dilution provision of
FINRA Rule 5130 allows restricted
persons to maintain the equity
ownership interest they had before a
public offering, but FINRA Rule 5131
has no similar provision. An
unintentional result of this is that
officers or directors of public companies
and covered non-public companies may
experience diminished ownership
interest upon a public offering and a
transfer of wealth from them to those
investors that are able to purchase
shares in the new offering. The
proposed rule change would add an
anti-dilution provision to Rule 5131
similar to that of Rule 5130 and
ameliorate this inconsistency. This
would reduce the regulatory uncertainty
and create a level playing field for all
investors.
4. Alternatives Considered
FINRA considered various
alternatives to the proposed rule change.
When assessing foreign pension plans,
FINRA considered whether to impose a
requirement that the plan, or family of
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16:51 Aug 07, 2019
Jkt 247001
plans, have a greater number of
participants and beneficiaries than the
proposed 10,000. However, the 10,000
participants and beneficiaries figure is
appropriate, particularly when viewed
along with the condition that the plan
have at least $10 billion in assets, and
exceeds participant thresholds
contained in other parts of the rule.55
With respect to the foreign investment
company exemption, FINRA considered
allowing foreign investment companies
to establish dilution of the fund solely
by satisfying the current five percent
condition. However, allowing the
foreign investment company to satisfy
either the five percent condition, the
100 or more direct investor condition, or
the 1,000 or more indirect investor
condition, in addition to the other
conditions, achieves the purpose of the
rule while providing greater flexibility
for foreign investment companies to
meet the conditions of the exemption.
In assessing the appropriateness of an
exclusion for charitable organizations
from the definition of ‘‘covered nonpublic company’’ in Rule 5131(e)(3),
FINRA considered whether to extend
the exclusion to all nonprofit
organizations, including, for example,
civic leagues or social welfare entities
organized pursuant to other sections of
the IRC.56 However, FINRA determined
not to extend the definition in this
manner and notes that, unlike Section
501(c)(3) organizations, such
organizations are not prohibited from
substantially engaging in other
activities. In addition, limiting the
exclusion to Section 501(c)(3) charitable
organizations is consistent with the
treatment of such entities in the context
of other provisions of Rules 5130 and
5131.57
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 on the proposed
rule change. As noted above, in April
2017, FINRA published Regulatory
Notice 17–14 seeking comment on the
effectiveness and efficiency of its rules
55 See, e.g., Rule 5130(c)(3)(A) (exempting sales to
and purchases of new issues by an insurance
company general, separate or investment account,
provided that, among other conditions, the account
is funded by premiums from 1,000 or more
policyholders).
56 Civic leagues and social welfare organizations
may be organized pursuant to Section 501(c)(4) of
the IRC.
57 See, e.g., Rule 5130(c)(9) (exempting Section
501(c)(3) tax exempt charitable organizations from
Rule 5130); Rule 5131(e)(9) (defining unaffiliated
charitable organization as a tax-exempt entity
organized under Section 501(c)(3) of the IRC).
PO 00000
Frm 00110
Fmt 4703
Sfmt 4703
relating to the capital-raising process,
including FINRA Rules 5130 and 5131
generally, and, in response, two
commenters requested that FINRA
consider certain amendments to Rules
5130 and 5131.58
In addition to comments received in
response to Regulatory Notice 17–14,
FINRA has experience with the rules
since their adoption that has informed
the proposed rule change. During that
time, FINRA has generally engaged in
discussions with industry groups and
market participants regarding: (1)
Persons with authority to buy or sell
securities on behalf of accounts
beneficially owned by family offices; (2)
sovereign entities that own brokerdealers; (3) foreign employee retirement
benefits plans; (4) executive officers and
directors of unaffiliated charitable
organizations; and (5) foreign
investment companies whose shares are
held in omnibus or nominee accounts.
The proposed rule change also reflects
FINRA’s experience and years of
informal discussions with market
participants.
FINRA believes that the proposed rule
change strikes the appropriate balance
by promoting capital formation and
aiding member compliance efforts while
maintaining the protections that Rules
5130 and 5131 are designed to provide,
as discussed above.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
Within 45 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 or disapprove
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:
58 See
E:\FR\FM\08AUN1.SGM
supra notes 9 and 10.
08AUN1
Federal Register / Vol. 84, No. 153 / Thursday, August 8, 2019 / Notices
Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include File Number SR–
FINRA–2019–022 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.
jbell on DSK3GLQ082PROD with NOTICES
All submissions should refer to File
Number SR–FINRA–2019–022. 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 website (https://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 website 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
a.m. and 3 p.m. Copies of such filing
also will be available for inspection and
copying at the principal office of
FINRA. All comments received will be
posted without change. Persons
submitting comments are cautioned that
we do not redact or edit personal
identifying information from comment
submissions. You should submit only
information that you wish to make
available publicly. All submissions
should refer to File Number SR–FINRA–
2019–022 and should be submitted on
or before August 29, 2019.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.59
Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2019–16942 Filed 8–7–19; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
Sunshine Act Meetings
Notice is hereby given,
pursuant to the provisions of the
Government in the Sunshine Act, Public
Law 94–409, that the Commission will
host the SEC Government-Business
Forum on Small Business Capital
Formation on Wednesday, August 14,
2019 beginning at 9:00 a.m. (CT).
PLACE: The forum will be held at
Creighton University, Hixson-Lied
Auditorium in the Mike and Josie
Harper Center, 602 North 20th Street,
Omaha, NE 68178. The panel
discussions will be webcast on the
Commission’s website at www.sec.gov.
STATUS: This meeting will be open to the
public.
MATTERS TO BE CONSIDERED: The forum
will include remarks by SEC
Commissioners and panel discussions
that Commissioners may attend. The
panel discussions will explore capital
formation in the Silicon Prairie area and
the Commission’s request for public
comment on ways to harmonize private
securities offering exemptions. This
Sunshine Act notice is being issued
because a majority of the Commission
may attend the meeting.
CONTACT PERSON FOR MORE INFORMATION:
For further information, please contact
Vanessa A. Countryman from the Office
of the Secretary at (202) 551–5400.
TIME AND DATE:
Dated: August 6, 2019.
Vanessa A. Countryman,
Secretary.
[FR Doc. 2019–17120 Filed 8–6–19; 4:15 pm]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–86556; File No. SR–NSCC–
2019–002]
Self-Regulatory Organizations;
National Securities Clearing
Corporation; Notice of Filing of a
Proposed Rule Change To Amend
Procedure VII With Respect to the
Receipt of CNS Securities and Make
Other Changes
August 2, 2019.
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 July 22,
2019, National Securities Clearing
Corporation (‘‘NSCC’’) filed with the
1 15
59 17
CFR 200.30–3(a)(12).
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16:51 Aug 07, 2019
2 17
Jkt 247001
PO 00000
U.S.C. 78s(b)(1).
CFR 240.19b–4.
Frm 00111
Fmt 4703
Sfmt 4703
39037
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 clearing agency. The Commission
is publishing this notice to solicit
comments on the proposed rule change
from interested persons.
I. Clearing Agency’s Statement of the
Terms of Substance of the Proposed
Rule Change
The proposed rule change would
amend Procedure VII of NSCC’s Rules &
Procedures (‘‘Rules’’) 3 with respect to
the receipt of securities from NSCC’s
Continuous Net Settlement (‘‘CNS’’)
System 4 and make technical changes, as
described in greater detail below.
II. Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
In its filing with the Commission, the
clearing agency 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. The
clearing agency has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such statements.
(A) Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
1. Purpose
The purpose of this proposed rule
change is to amend Procedure VII (CNS
Accounting Operation) with respect to
the receipt of securities from the CNS
System in order to reflect a change in
the allocation algorithm used during the
night cycle.5 The proposed rule change
would also make technical changes.
(i) Background
NSCC’s CNS System is an automated
accounting and securities settlement
system that centralizes and nets the
settlement of compared and recorded
securities transactions and maintains an
orderly flow of security and money
balances. The CNS System provides
clearance for equities, corporate bonds,
3 Capitalized terms not defined herein are defined
in the Rules, available at https://www.dtcc.com/∼/
media/Files/Downloads/legal/rules/nscc_rules.pdf.
4 The CNS System and its operation are described
in Rule 11 (CNS System) and Procedure VII (CNS
Accounting Operation) of the Rules. Id.
5 Night cycle is sometimes also referred to as
‘‘evening cycle’’ in the Rules. To ensure consistent
terminology usage, NSCC is proposing technical
changes to replace references to ‘‘evening cycle’’
with ‘‘night cycle’’ as described in greater detail
below.
E:\FR\FM\08AUN1.SGM
08AUN1
]]>Agencies
[Federal Register Volume 84, Number 153 (Thursday, August 8, 2019)]
[Notices]
[Pages 39029-39037]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-16942]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-86558; File No. SR-FINRA-2019-022]
Self-Regulatory Organizations; Financial Industry Regulatory
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend
FINRA Rule 5130 (Restrictions on the Purchase and Sale of Initial
Equity Public Offerings) and FINRA Rule 5131 (New Issue Allocations and
Distributions)
August 2, 2019.
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 July 26, 2019, Financial Industry Regulatory Authority, Inc.
(``FINRA'') filed with the Securities and Exchange Commission (``SEC''
or ``Commission'') the proposed rule change as described in Items I,
II, and III below, which Items have been prepared by FINRA. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------
I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
FINRA is proposing to amend FINRA Rule 5130 (Restrictions on the
Purchase and Sale of Initial Equity Public Offerings) and FINRA Rule
5131 (New Issue Allocations and Distributions) to exempt additional
persons from the scope of the rules, modify current exemptions to
enhance regulatory consistency, address unintended operational
impediments and exempt certain types of offerings from the scope of the
rules.
Specifically, the proposed rule change would: (1) Incorporate the
definitions of ``family member'' and ``family client'' under the
Investment Advisers Act of 1940 (``Advisers Act'')\3\ and the rules
promulgated thereunder \4\ into the definition of ``family investment
vehicle'' under FINRA Rule 5130(i)(4); (2) exclude sovereign entities
that own broker-dealers from the categories of restricted persons under
FINRA Rule 5130(i)(10)(E); (3) exempt foreign employee retirement
benefits plans that meet specified conditions from FINRA Rules 5130 and
5131(b) (Spinning); (4) provide alternative conditions for satisfying
the foreign investment company exemption under FINRA Rule 5130(c)(6);
(5) exclude offerings that are conducted pursuant to Regulation S under
the Securities Act of 1933 (``Securities Act'') \5\ and other offerings
outside of the United States and its territories from the definition of
``new issue'' in FINRA Rules 5130 and 5131; (6) align FINRA Rule
5130(d) (Issuer-Directed Securities) with a similar provision in FINRA
Rule 5131.01 (Issuer Directed Allocations); (7) exclude unaffiliated
charitable organizations from the definition of ``covered non-public
company'' in FINRA Rule 5131(e)(3); and (8) add an anti-dilution
provision for purposes of FINRA Rule 5131(b), similar to the provision
in FINRA Rule 5130(e) (Anti-Dilution Provisions).
---------------------------------------------------------------------------
\3\ 15 U.S.C. 80b-2(a)(11)(G).
\4\ 17 CFR 275.202(a)(11)(G)-1.
\5\ 17 CFR 230.901, et seq.
---------------------------------------------------------------------------
The text of the proposed rule change is available on FINRA's
website at https://www.finra.org, at the principal office of FINRA and
at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, FINRA 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. FINRA 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
FINRA Rule 5130 protects the integrity of the public offering
process by ensuring that: (1) Members make bona fide public offerings
of securities at the offering price; (2) members do not withhold
securities in a public offering for their own benefit or use such
securities to reward persons who are in a position to direct future
business to members; and (3) industry insiders, including members and
their associated persons, do not take advantage of their insider
position to purchase new issues \6\ for their own benefit at the
expense of public customers. Paragraph (a) of Rule 5130 provides that,
except as otherwise permitted under the rule: (1) A member (or an
associated person) may not sell a new issue to an account in which a
restricted person \7\ has a beneficial interest; \8\ (2) a member (or
an associated person) may not purchase a new issue in any account in
which such member or associated person has a beneficial interest; and
(3) a member may not continue to hold new issues acquired as an
underwriter, selling group member, or otherwise.
---------------------------------------------------------------------------
\6\ ``New issue'' means any initial public offering (``IPO'') of
an equity security as defined in Section 3(a)(11) of the Act, made
pursuant to a registration statement or offering circular, subject
to some exceptions. See FINRA Rules 5130(i)(9) and 5131(e)(7).
\7\ The term ``restricted person'' includes the following
categories of persons: (1) Broker-dealers; (2) broker-dealer
personnel; (3) finders and fiduciaries; (4) portfolio managers; and
(5) persons owning a broker-dealer. See FINRA Rule 5130(i)(10).
\8\ ``Beneficial interest'' means any economic interest, such as
the right to share in gains or losses. The receipt of a management
or performance based fee for operating a collective investment
account, or other fees for acting in a fiduciary capacity, is not
considered a beneficial interest in the account. See FINRA Rule
5130(i)(1).
---------------------------------------------------------------------------
FINRA Rule 5131 addresses abuses in the allocation and distribution
of new issues. Among other things, the rule prohibits the practice of
``spinning,'' which is the allocation of new issues by a firm to
executive officers and directors of the firm's current, former or
prospective investment banking clients.
In April 2017, FINRA published Regulatory Notice 17-14 (Capital
Formation) seeking comment on the effectiveness and efficiency of its
rules, operations and administrative processes governing broker-dealer
activities related to the capital-raising process and their impact on
capital formation.\9\ In
[[Page 39030]]
response to the Notice, two commenters requested that FINRA consider
amending Rules 5130 and 5131 to remove certain impediments to capital
formation that are unnecessary to protect investors.\10\ In addition,
based on FINRA's experience with the rules since their adoption, FINRA
believes that amendments to Rules 5130 and 5131 are appropriate to
address the impact of the rules on family offices, sovereign entities,
foreign employee retirement benefits plans, foreign investment
companies and executive officers and directors of charitable
organizations. FINRA is proposing to amend Rules 5130 and 5131 in
response to the comments it received based on Regulatory Notice 17-14
as well as FINRA's experience with the rules.
---------------------------------------------------------------------------
\9\ The comment period closed on May 30, 2017. FINRA received 11
comment letters in response to the Notice. The Notice and the
comment letters are available at https://www.finra.org/industry/notices/17-14.
\10\ Sean Davy, Managing Director, Capital Markets Division,
Securities Industry and Financial Markets Association (``SIFMA'')
and Sullivan & Cromwell LLP (``Sullivan & Cromwell'').
---------------------------------------------------------------------------
Family Offices
The definition of ``restricted person'' in FINRA Rule 5130 includes
portfolio managers, who are persons with the authority to buy or sell
securities for, among other entities, a collective investment
account.\11\ The term ``collective investment account'' \12\ currently
excludes a ``family investment vehicle,'' which, in turn, is defined as
a legal entity that is beneficially owned solely by immediate family
members.\13\ Accordingly, under the rule, a person with the authority
to buy or sell securities for an account that is beneficially owned
only by ``immediate family members,'' as defined, is not considered a
portfolio manager based solely on that investment authority and,
therefore, is not a restricted person. FINRA excluded such persons from
the definition of ``portfolio manager'' because family investment
vehicles are often established for tax and estate planning purposes and
do not manage money for unrelated persons.\14\
---------------------------------------------------------------------------
\11\ See FINRA Rule 5130(i)(10)(D) (Portfolio Managers). The
definition of ``portfolio manager'' also includes any immediate
family member of a portfolio manager who materially supports, or
receives material support from, the portfolio manager. The term
``material support'' is defined as directly or indirectly providing
more than 25 percent of a person's income in the prior calendar
year. Members of the immediate family living in the same household
are deemed to be providing each other with material support. See
FINRA Rule 5130(i)(8).
\12\ See FINRA Rule 5130(i)(2).
\13\ See FINRA Rule 5130(i)(4). The term ``immediate family
member'' is defined as a person's parents, mother-in-law or father-
in-law, spouse, brother or sister, brother-in-law or sister-in-law,
son-in-law or daughter-in-law, and children, and any other
individual to whom the person provides material support. See FINRA
Rule 5130(i)(5).
\14\ See Securities Exchange Act Release No. 42325 (January 10,
2000), 5 FR 2656, 2660 (January 18, 2000) (Notice of Filing File No.
SR-NASD-99-60) (``Notice of New Issue Rule Filing'').
---------------------------------------------------------------------------
FINRA is proposing to expand the definition of ``family investment
vehicle'' under Rule 5130 to include entities that are beneficially
owned solely by ``family members'' and ``family clients,'' which are
terms used in the family office context and are defined in Advisers Act
Rule 202(a)(11)(G)-1.\15\ FINRA believes that an expansion that will
further regulatory consistency without undermining investor protection
is appropriate. As a result, the proposed rule change will incorporate
these definitions into the definition of ``family investment vehicle''
under Rule 5130, subject to some limitations.
---------------------------------------------------------------------------
\15\ See 17 CFR 275.202(a)(11)(G)-1.
---------------------------------------------------------------------------
Family offices are entities established by families to manage their
wealth and provide other services to family members and are excluded
from the definition of ``investment adviser'' and, thus, are not
subject to regulation under the Advisers Act.\16\ The Advisers Act
defines a ``family office'' as a company that, among other conditions,
is wholly owned by family clients.\17\ The term ``family client'' \18\
includes, among other defined persons, ``family members'' \19\ as well
as ``key employees'' \20\ of the family office.
---------------------------------------------------------------------------
\16\ See 15 U.S.C. 80b-2(a)(11)(G); Family Offices, Advisers Act
Release No. 3220 (June 22, 2011), 76 FR 37983 (June 29, 2011).
\17\ 17 CFR 275.202(a)(11)(G)-1(b)(2).
\18\ 17 CFR 275.202(a)(11)(G)-1(d)(4).
\19\ The term ``family member'' is defined as all lineal
descendants (including by adoption, stepchildren, foster children,
and individuals that were a minor when another family member became
a legal guardian of that individual) of a common ancestor (who may
be living or deceased), and such lineal descendants' spouses or
spousal equivalents; provided that the common ancestor is no more
than 10 generations removed from the youngest generation of family
members. See 17 CFR 275.202(a)(11)(G)-1(d)(6).
\20\ The term ``key employee'' is defined as any natural person
(including any key employee's spouse or spouse equivalent who holds
a joint, community property, or other similar shared ownership
interest with that key employee) who is an executive officer,
director, trustee, general partner, or person serving in a similar
capacity of the family office or its affiliated family office or any
employee of the family office or its affiliated family office (other
than an employee performing solely clerical, secretarial, or
administrative functions with regard to the family office) who, in
connection with his or her regular functions or duties, participates
in the investment activities of the family office or affiliated
family office, provided that such employee has been performing such
functions and duties for or on behalf of the family office or
affiliated family office, or substantially similar functions or
duties for or on behalf of another company, for at least 12 months.
See 17 CFR 275.202(a)(11)(G)-1(d)(8).
---------------------------------------------------------------------------
Although they overlap in significant respects, differences exist
between a family investment vehicle under FINRA Rule 5130 and the
family office concept under the Advisers Act. These differences create
inconsistencies, which do not further the purposes of FINRA Rule 5130,
with respect to the treatment of family offices under the two regimes.
For example, the definition of ``immediate family member'' under FINRA
Rule 5130 includes a person's parents, mother-in-law or father-in-law,
spouse, brother or sister, brother-in-law or sister-in-law, son-in-law
or daughter-in-law and children, whereas the definition of ``family
member'' under the Advisers Act includes lineal descendants of a common
ancestor and the lineal descendants' spouses or spousal
equivalents.\21\ As a result, and by way of example, the inclusion of
grandchildren or grandparents in a collective investment account will
not disqualify the account from the family office designation under the
Advisers Act on that basis, but would cause such an account to fall
outside of the definition of ``family investment vehicle'' under FINRA
Rule 5130.
---------------------------------------------------------------------------
\21\ See 17 CFR 275.202(a)(11)(G)-1(d)(6); supra note 19.
---------------------------------------------------------------------------
Another difference is that the terms ``immediate family member''
and ``family client'' each address categories of non-family members;
however, they do so in different ways. Specifically, the definition of
``immediate family member'' under FINRA Rule 5130 includes any
individual to whom the person provides material support, which could
encompass non-family members.\22\ The definition of ``family client''
under the Advisers Act includes key employees of the family office,
which may also cover non-family members but not necessarily only those
non-family members who receive material support.\23\ As a result of
this difference, a person who has the authority to buy or sell
securities for an account that is beneficially owned by family clients
could be considered a portfolio manager based exclusively on that
investment authority, and thus a restricted person under FINRA Rule
5130.
---------------------------------------------------------------------------
\22\ See supra note 13.
\23\ See supra note 20.
---------------------------------------------------------------------------
Given the significant overlap between these concepts, and FINRA's
belief that the differences do not serve the purposes of the rule,
FINRA is proposing to incorporate the definitions of ``family member''
and ``family client'' under the Advisers Act into the definition of
``family investment vehicle'' under Rule 5130, subject to
[[Page 39031]]
some limitations. Specifically, the proposed rule change would amend
FINRA Rule 5130(i)(4) to define a ``family investment vehicle'' as a
legal entity that is beneficially owned solely by one or more of the
following persons: (1) ``Immediate family members'' as defined under
FINRA Rule 5130(i)(5); (2) ``family members'' as defined under Advisers
Act Rule 202(a)(11)(G)-1(d)(6); or (3) ``family clients'' as defined
under Advisers Act Rule 202(a)(11)(G)-1(d)(4); \24\ provided, however,
that where the beneficial owners of such an entity include family
clients, the person who has the sole authority to buy or sell
securities for such an entity is an ``immediate family member'' as
defined in FINRA Rule 5130(i)(5) or a ``family member'' as defined in
Advisers Act Rule 202(a)(11)(G)-1(d)(6).
---------------------------------------------------------------------------
\24\ As noted above, the term ``family client'' includes not
only family members but others, including key employees. See 17 CFR
275.202(a)(11)(G)-1(d)(4). Therefore, a family investment vehicle
that is beneficially owned solely by family clients may include
beneficial owners that are not family members.
---------------------------------------------------------------------------
The first category would preserve the current exception in FINRA
Rule 5130 and would provide relief from portfolio manager status under
the rule for a person who has the authority to buy or sell securities
for an account that is beneficially owned only by immediate family
members. The second category would provide relief from portfolio
manager status under the rule for a person who has the authority to buy
or sell securities for an account that is beneficially owned only by
``family members,'' as defined in the Advisers Act. The third category
would provide relief from portfolio manager status under the rule for a
person who has the authority to buy or sell securities for an account
that is owned only by ``family clients,'' as defined in the Advisers
Act. In addition, the proposed rule change would provide relief to a
legal entity that is beneficially owned by any combination of these
categories.
However, the proposed rule change contains an important caveat
where the beneficial owners are not solely immediate family members or
family members under FINRA Rule 5130(i)(5) or Advisers Act Rule
202(a)(11)(G)-1(d)(6), respectively. Specifically, in such cases, the
proposed rule change would only provide relief from portfolio manager
status if the person who has the authority to buy or sell securities
for the account is an ``immediate family member,'' as defined in FINRA
Rule 5130, or a ``family member,'' as defined in the Advisers Act.\25\
FINRA believes that it is necessary to impose this condition to
safeguard against the abuses the rule is designed to address and to
ensure that, for purposes of Rule 5130, the person who has the
authority to buy or sell securities for the account is more closely
aligned with the family than with key employees or others associated
with the family office. FINRA believes that the proposed rule change
strikes the proper balance between the treatment of family investment
vehicles in FINRA Rule 5130 and the recognition of the family office
exemption under the Advisers Act.
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\25\ Further, the proposed relief is only with respect to a
person's status as a portfolio manager under FINRA Rule 5130. The
proposed relief does not extend to a person who has a beneficial
interest in a family investment vehicle and is a restricted person
based on his or her other activities, such as an associated person
of a member.
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Sovereign Entities
The definition of ``restricted person'' in FINRA Rule 5130
includes, among others, direct and indirect owners of broker-dealers
that are listed, or required to be listed, on Schedules A and B of Form
BD (Uniform Application for Broker-Dealer Registration) and that have
an ownership interest above specified thresholds.\26\ The definition of
``restricted person'' includes owners of broker-dealers because the
prohibition on purchases of new issues by a broker-dealer could be
circumvented if the owners of a broker-dealer were permitted to
purchase new issues.\27\
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\26\ See FINRA Rule 5130(i)(10)(E) (Persons Owning a Broker-
Dealer). FINRA Rule 5130 also provides an exception for an owner of
a ``limited business broker-dealer,'' which is defined as a broker-
dealer whose authorization to engage in the securities business is
limited solely to the purchase and sale of investment company/
variable contracts securities and direct participation program
securities. See FINRA Rules 5130(i)(7) and 5130(i)(10)(E).
\27\ See Securities Exchange Act Release No. 48701 (October 24,
2003), 68 FR 62126, 62133 (October 31, 2003) (Order Approving File
No. SR-NASD-99-60) (``New Issue Rule Approval Order'').
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A sovereign wealth fund (``SWF'') is a pool of capital or an
investment fund owned or controlled by a sovereign nation and created
for the purpose of making investments on behalf of the sovereign
nation.\28\ Occasionally, an SWF or sovereign nation (collectively, a
``sovereign entity'') may acquire a direct or an indirect ownership
stake in a registered broker-dealer, requiring the sovereign entity to
be listed on Schedule A or B of Form BD. Moreover, the sovereign
entity's ownership interest could exceed the specified thresholds in
FINRA Rule 5130(i)(10)(E), which would make the sovereign entity a
restricted person.
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\28\ There is no standard definition of the term ``sovereign
wealth fund,'' and the term is not defined under the federal
securities laws. See, e.g., Celeste Cecelia Moles Lo Turco,
Sovereign Wealth Funds: From Transparency to Sustainability,
Sovereign Wealth Funds Law Centre, Bi-Annual Legal Report, October
2013 (noting the absence of a commonly accepted definition of
``sovereign wealth fund'').
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Rule 5130(i)(10)(E) was not intended to encompass sovereign
entities that acquire an ownership interest in a registered broker-
dealer. Instead, as discussed above, the inclusion of owners of broker-
dealers in the categories of restricted persons was intended to prevent
circumvention of the prohibition on purchases of new issues by broker-
dealers. FINRA believes that sovereign entities are unlikely to
circumvent the rule's prohibition by reallocating new issue shares to
broker-dealers and are inherently not designed for such a purpose.
Further, FINRA notes that significant investments by sovereign entities
currently are subject to distinct legal and regulatory
requirements.\29\
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\29\ For example, specific investments by sovereign entities in
the United States that raise national security concerns are subject
to review by the Committee on Foreign Investment in the United
States (CFIUS). CFIUS is an interagency committee of the federal
government chaired by the Department of the Treasury and authorized
to review transactions that could result in control of a U.S.
business by a foreign person to determine the effect of such
transactions on the national security of the United States. See 31
CFR 800.
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To address the unintended application of FINRA Rule 5130 to
sovereign entities, the proposed rule change would exclude sovereign
entities from the scope of owners of broker-dealers under Rule
5130(i)(10)(E). The proposed exclusion would not apply to affiliates of
sovereign entities that are otherwise restricted. Accordingly, while a
sovereign entity that owns a broker-dealer would not be considered a
restricted person under the proposed rule change, the broker-dealer
would continue to be a restricted person under FINRA Rule 5130.
The proposed rule change would also amend FINRA Rule 5130(i)
(Definitions) to define the term ``sovereign entity'' for purposes of
the rule as ``a sovereign nation or a pool of capital or an investment
fund owned or controlled by a sovereign nation and created for the
purpose of making investments on behalf of the sovereign nation.'' The
proposed rule change would further define the term ``sovereign nation''
as ``a sovereign nation or its political subdivisions, agencies or
instrumentalities.''
Foreign Employee Retirement Benefits Plans
FINRA Rule 5130(c)(7) provides a general exemption from the rule's
prohibitions for an Employee Retirement Income Security Act
[[Page 39032]]
(``ERISA'') benefits plan that is qualified under Section 401(a) of the
Internal Revenue Code (``IRC''), provided that the plan is not
sponsored solely by a broker-dealer. Employee retirement benefits plans
that are organized under and governed by foreign laws, even when
similar to qualifying ERISA plans in all material respect, are not
subject to ERISA and do not qualify for the exemption in FINRA Rule
5130(c)(7).\30\ Because foreign employee retirement benefits plans may
invest in assets on behalf of potentially hundreds of thousands of
participants and beneficiaries, such plans may be unable to determine
whether persons with a beneficial interest are restricted persons under
FINRA Rule 5130. As a result, such plans may find it impossible to
assess whether they may permissibly invest in new issues. Currently,
FINRA Rule 5130 does not include a general exemption for foreign
employee retirement benefits plans, although FINRA has previously
acknowledged that such an exemption may be appropriate.\31\
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\30\ ERISA explicitly excludes from coverage employee benefit
plans that are ``maintained outside of the United States primarily
for the benefit of persons substantially all of whom are nonresident
aliens.'' 29 U.S.C. 1003(b)(4).
\31\ See Restrictions on the Purchase and Sale of Initial Equity
Public Offerings Amendment No. 3, File No. SR-NASD-99-60 (March 19,
2001), https://www.finra.org/sites/default/files/RuleFiling/p000150.pdf.
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In recent years, FINRA staff has granted several requests for
exemption from the rule for foreign employee retirement benefits
plans.\32\ In each case, the foreign employee retirement benefits plans
were organized under and governed by foreign laws, had an extensive
number of participants and beneficiaries and significant assets in the
employer's retirement fund or family of retirement funds, and were
administered by trustees and managers that have a fiduciary obligation
to administer the funds in the best interests of the participants and
beneficiaries. Under these circumstances, the plans stated that the
funds plainly could not serve as a conduit for restricted persons to
purchase new issues. FINRA staff agreed that the concerns underlying
the rule were not served in light of those circumstances and, as such,
FINRA staff granted exemptions from FINRA Rule 5130 in connection with
the foreign employee retirement benefits plans.
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\32\ See Letter from Gary L. Goldsholle, FINRA, to Edward A.
Kwalwasser, Proskauer Rose LLP, dated December 7, 2010, https://www.finra.org/industry/exemptive-letters/december-7-2010-1200am;
Letter from Afshin Atabaki, FINRA, to Christopher M. Wells,
Proskauer Rose LLP, dated November 2, 2012, https://www.finra.org/industry/exemptive-letters/november-2-2012-1200am; Letter from
Meredith Cordisco, FINRA, to Amy Natterson Kroll, Morgan, Lewis &
Bockius LLP, dated July 23, 2015, https://www.finra.org/industry/exemptive-letters/july-23-2015-1200am; and Letter from Meredith
Cordisco, FINRA, to Amy Natterson Kroll, Morgan, Lewis & Bockius
LLP, dated April 16, 2018, https://www.finra.org/industry/exemptive-letters/april-16-2018-1200am.
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FINRA is proposing to codify this position by amending FINRA Rule
5130(c) (General Exemptions) to provide an exemption for an employee
retirement benefits plan organized under and governed by the laws of a
foreign jurisdiction, provided that such a plan or family of plans: (1)
Has, in aggregate, at least 10,000 participants and beneficiaries and
$10 billion in assets; (2) is operated in a non-discriminatory manner
insofar as a wide range of employees, regardless of income or position,
are eligible to participate without further amendment or action by the
plan sponsor;\33\ (3) is administered by trustees and managers that
have a fiduciary obligation to administer the funds in the best
interests of the participants and beneficiaries; and (4) is not
sponsored by a broker-dealer. Under these conditions, FINRA believes
that the plan(s) are not likely to serve as a conduit for circumventing
the rule. In addition, FINRA believes that the rationale for exempting
ERISA benefits plans applies equally to foreign benefits plans when
these conditions are met, and such plans should be afforded similar
treatment under the rule.
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\33\ The definition of ``broad-based foreign retirement plan''
under Section 409A of the IRC includes a substantially similar
condition. See 26 CFR 1.409A-1(a)(3)(v)(A). Section 409A imposes
restrictions on the deferral of compensation by employees, directors
and independent contractors. Section 409A provides an exemption for
compensation deferred under certain broad-based foreign retirement
plans.
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Finally, FINRA Rule 5131(b)(2) sets forth the exemptions applicable
to the spinning provision. The exemptions generally correspond to those
under FINRA Rule 5130(c). Therefore, in conjunction with adding foreign
employee retirement benefits plans to Rule 5130(c), FINRA is also
proposing to amend Rule 5131(b)(2) to add a corresponding exemption to
that rule. This proposed change will minimize unnecessary regulatory
burdens without undermining the rule's stated objective, as the
practice of spinning is unlikely to occur in connection with a covered
person's beneficial interest in a foreign employee retirement benefits
plan.
Alternative Conditions for Foreign Investment Company Exemption
Paragraph (c)(6) of FINRA Rule 5130 currently exempts 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 for sale to the public or authorized for
sale to the public by a foreign regulatory authority; and (2) no person
owning more than five percent of the shares of the investment company
is a restricted person. The foreign investment company exemption is
intended to apply to foreign investment companies that are similar to
U.S. registered investment companies, which are currently exempt from
FINRA Rule 5130's prohibitions.\34\
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\34\ See FINRA Rule 5130(c)(1).
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The purpose of the five percent condition is to prevent purchases
of new issues by foreign investment companies with concentrated
ownership interests of restricted persons.\35\ However, based on
FINRA's experience with the rule, including informal discussions with
industry groups and market participants in the years since the rule's
adoption, FINRA understands that it is operationally impractical for a
foreign investment company to determine whether an investor owns more
than five percent of its shares where the investor acquires his or her
interest through an intermediary that then holds the shares for
multiple investors in an omnibus or nominee account as distinguished
from an account that holds shares of a single investor. Further, an
investor may acquire shares of a foreign investment company through
multiple intermediaries or through multiple omnibus or nominee accounts
at the same intermediary. In such cases, foreign investment companies
are not able to satisfy the five percent condition.
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\35\ See New Issue Approval Order, 68 FR at 62138.
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When FINRA (then NASD) originally proposed the foreign investment
company exemption as part of NASD Rule 2790 (Restrictions on the
Purchase and Sale of Initial Equity Public Offerings), the exemption
included an additional condition that required the foreign investment
company to have 100 or more investors.\36\ During the rulemaking
process, however, FINRA determined to simplify the exemption by
eliminating the 100 investor requirement because the condition
addressed the same concerns about concentration of ownership as the
five percent condition.\37\
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\36\ See Notice of New Issue Rule Filing, 5 FR at 2657.
\37\ See New Issue Approval Order, 68 FR at 62137.
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Given the operational issues raised by the five percent condition,
FINRA is
[[Page 39033]]
proposing to amend Rule 5130(c)(6) to provide the following two
alternative methods to establish that a foreign investment company is
widely held for purposes of the rule: (1) The investment company has
100 or more direct investors; or (2) the investment company has 1,000
or more indirect investors.\38\ FINRA believes that satisfying either
of these two conditions would also assuage concerns about concentration
of ownership. The proposed rule change would also add a condition to
paragraph (c)(6) to ensure that the foreign investment company is not
formed for the specific purpose of investing in new issues.
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\38\ As noted above, in some jurisdictions, investors may invest
through layers of intermediaries, with the legal ownership held by
nominees. FINRA believes that a foreign investment company would be
considered to be widely held on an indirect basis if it has 1,000 or
more indirect investors.
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Therefore, as proposed, paragraph (c)(6) of FINRA Rule 5130 would
exempt 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 for sale to the public or
authorized for sale to the public by a foreign regulatory authority;
(2) no person owning more than five percent of the shares of the
investment company is a restricted person, the investment company has
100 or more direct investors, or the investment company has 1,000 or
more indirect investors; and (3) the investment company was not formed
for the specific purpose of investing in new issues.\39\
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\39\ The proposed rule change also impacts an identical
exemption cross referenced in paragraph (b)(2) of FINRA Rule 5131.
The proposed rule change would not undermine the objectives of the
spinning provision, as spinning would be unlikely to occur in
connection with a foreign investment company when the proposed
conditions are met.
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Exclusion for Foreign Offerings
As noted above, for purposes of FINRA Rules 5130 and 5131, the term
``new issue'' means any IPO of an equity security as defined in Section
3(a)(11) of the Act, made pursuant to a registration statement or
offering circular, subject to some exceptions.\40\ Currently, the
definition is not expressly limited to domestic securities offerings.
Accordingly, the rules could apply to foreign offerings, even if a safe
harbor is available for those offerings under the Securities Act, to
the extent that a member or an associated person is participating in
the offering or receiving allocations of new issues as an investor.\41\
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\40\ See Rules 5130(i)(9) and 5131(e)(7). The definition of
``new issue'' does not include, among others, offerings made
pursuant to an exemption under Section 4(1), 4(2) or 4(6) of the
Securities Act, or Securities Act Rule 504 if the securities are
``restricted securities'' under Securities Act Rule 144(a)(3), or
Rule 144A or Rule 505 or Rule 506 adopted thereunder. See Rule
5130(i)(9)(A).
\41\ See Notice to Members 03-79 (December 2003) at n.13.
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In connection with Regulatory Notice 17-14, SIFMA and Sullivan &
Cromwell requested that FINRA expressly exclude from Rules 5130 and
5131 offerings that are conducted pursuant to Regulation S, which
provides a safe harbor from the registration requirements of the
Securities Act for offshore offers and sales of securities. SIFMA
suggested that FINRA's goals of investor protection and fostering fair
public capital markets are not present when members are participating
in transactions conducted wholly offshore, and Sullivan & Cromwell
stated that such a carve-out would provide clarity to the industry.\42\
Some foreign jurisdictions may not restrict market participants, such
as broker-dealers, from purchasing IPO shares for their own account. By
prohibiting members and associated persons from purchasing IPO shares
in foreign offerings, the current rule may indirectly impede the
capital formation process in those foreign jurisdictions. Further,
Regulation S offerings are currently excluded from the definition of
``public offering'' for purposes of FINRA Rules 5110 (Corporate
Financing Rule--UnderwritingTerms and Arrangements) and 5121 (Public
Offerings of Securities With Conflicts of Interest). FINRA believes
that an exclusion from Rules 5130 and 5131 for Regulation S offerings
is also appropriate. In addition, FINRA believes that the exclusion
should be extended to other offerings made outside of the United States
or its territories and not just those that are expressly designated as
Regulation S offerings.
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\42\ See SIFMA at 8; Sullivan & Cromwell at 7-8.
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Issuer-Directed Securities
FINRA Rules 5130(d) and 5131.01 each contain exemptive provisions
for new issue allocations that are directed by an issuer, when
specified conditions are met, because the regulatory concerns that the
rules are designed to address are not present with respect to
allocations of securities that are not controlled by an underwriter.
However, these exemptions are not identical, in that FINRA Rule 5131
exempts allocations directed by affiliates and selling shareholders,
while FINRA Rule 5130 does not.
In response to Regulatory Notice 17-14, SIFMA requested better
alignment of these provisions.\43\ FINRA agrees that a conforming
change to FINRA Rule 5130(d) to more closely align the rule with the
issuer-directed provision in FINRA Rule 5131.01 will provide regulatory
consistency without negatively impacting investor protection or the
integrity of the market for new issues and would not impact the
spinning provision of Rule 5131. Specifically, the proposed rule change
would amend paragraphs (d)(1) and (d)(2) of Rule 5130 to expand the
exemption for issuer-directed securities to allocations directed by
affiliates and selling shareholders of the issuer. The change will also
clarify that the exemption applies to shares that are specifically
directed in writing by the issuer.
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\43\ See SIFMA at 7, n.10.
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Exclusion for Unaffiliated Charitable Organizations
As noted above, paragraph (b) of FINRA Rule 5131 prohibits the
practice of ``spinning,'' which is the allocation of new issues to
executive officers and directors of current and certain former or
prospective investment banking clients. The spinning provision provides
that no member or person associated with a member may allocate shares
of a new issue to any account in which an executive officer or director
of a public
company \44\ or a covered non-public company,\45\ or a person
materially supported \46\ by such executive officer or director, has a
beneficial interest: \47\ (1) If the company is currently an investment
banking services client of the member or the member has received
compensation from the company for investment banking services in the
past 12 months; (2) if the person responsible for making the allocation
decision knows or has reason to know that the
[[Page 39034]]
member intends to provide, or expects to be retained by the company
for, investment banking services within the next three months; or (3)
on the express or implied condition that such executive officer or
director, on behalf of the company, will retain the member for the
performance of future investment banking services.
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\44\ FINRA Rule 5131(e)(1) defines ``public company'' as ``any
company that is registered under Section 12 of the Exchange Act or
files periodic reports pursuant to Section 15(d) thereof.'' See
FINRA Rule 5131(e)(1).
\45\ The term ``covered non-public company'' means any non-
public company satisfying the following criteria: (1) Income of at
least $1 million in the last fiscal year or in two of the last three
fiscal years and shareholders' equity of at least $15 million; (2)
shareholders' equity of at least $30 million and a two-year
operating history; or (3) total assets and total revenue of at least
$75 million in the latest fiscal year or in two of the last three
fiscal years. See FINRA Rule 5131(e)(3).
\46\ Similar to the definition in FINRA Rule 5130(i)(8), FINRA
Rule 5131 defines ``material support'' to mean directly or
indirectly providing more than 25 percent of a person's income in
the prior calendar year. Persons living in the same household are
deemed to be providing each other with material support. See FINRA
Rule 5131(e)(6).
\47\ The term ``beneficial interest'' has the same meaning as in
FINRA Rule 5130. See FINRA Rule 5131(e)(2).
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Because executive officers and directors are often in a position to
hire members on behalf of the companies they serve, allocating new
issues to such persons creates the appearance of impropriety and has
the potential to divide the loyalty of the executive officers and
directors from the company on whose behalf they must act. Industry
groups and market participants have noted that these same concerns are
not implicated in the case of executive officers and directors of
charitable organizations. However, due to their asset size, some
charitable organizations fall within the definition of a covered non-
public company, making executives or directors of such organizations
the subject of the rule's prohibition. FINRA believes that charitable
organizations are not likely to generate significant investment banking
business and, thus, there is a low risk, if any, that improper
incentives would motivate a member's or an associated person's decision
to allocate shares to the account of executive officers or directors of
such organizations.
FINRA is proposing to amend paragraph (e)(3) of Rule 5131
(Definitions) to exclude unaffiliated charitable organizations, as that
term is elsewhere defined in the rule,\48\ from the definition of
``covered non-public company.'' As a result of this proposed amendment,
an executive officer or director of a charitable organization that is
not affiliated with the member allocating IPO shares would not become
the subject of the rule's spinning provision solely on the basis of
that service.
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\48\ An ``unaffiliated charitable organization'' is a tax-exempt
entity organized under Section 501(c)(3) of the IRC that is not
affiliated with the member and for which no executive officer or
director of the member, or person materially supported by such
executive officer or director, is an individual listed or required
to be listed on Part VII of Internal Revenue Service Form 990 (i.e.,
officers, directors, trustees, key employees, highest compensated
employees and certain independent contractors). See FINRA Rule
5131(e)(9).
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Addition of Anti-Dilution Provision to FINRA Rule 5131
FINRA Rule 5130 allows restricted persons that are existing equity
owners of an issuer to purchase shares of the issuer in a public
offering in order to maintain their equity ownership position. However,
FINRA Rule 5131 currently does not include a similar anti-dilution
provision for executive officers and directors who are subject to the
prohibition on spinning set forth in Rule 5131(b). In response to
Regulatory Notice 17-14, SIFMA urged FINRA to create symmetry between
the rules by adding an anti-dilution provision for purposes of Rule
5131(b).\49\ FINRA agrees that executive officers and directors of
public companies and covered non-public companies who are subject to
Rule 5131's spinning provision should be able to maintain the same
equity ownership level that they held prior to the offering.
Accordingly, the proposed rule change would amend Rule 5131 to add an
anti-dilution provision to the rule similar to the one in Rule 5130(e),
and would thus allow an executive officer or director of a public
company or a covered non-public company (or a person materially
supported by such a person) to retain the percentage equity ownership
in the issuer at a level up to the ownership interest as of three
months prior to the filing of the registration statement, provided that
the other conditions are met.
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\49\ See SIFMA at 7, n.10. In addition, SIFMA requested that
FINRA consider amending Rule 5131(d)(3) (Agreement Among
Underwriters) relating to the treatment of returned shares to allow
members the option of selling such shares in the secondary market
and donating profits anonymously to an unaffiliated charity when a
syndicate short position exists, consistent with a similar option
when no syndicate short position exists. See SIFMA 8-9. FINRA
considered this comment and has determined not to proceed with any
changes to Rule 5131(d)(3).
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If the Commission approves the proposed rule change, FINRA will
announce the effective date of the proposed rule change in a Regulatory
Notice to be published no later than 60 days following Commission
approval. The effective date will be no later than 30 days following
publication of the Regulatory Notice announcing Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule change is consistent with the
provisions of Section 15A(b)(6) of the Act,\50\ which 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. FINRA believes that the proposed rule change will
further these purposes by promoting capital formation and aiding member
compliance efforts, while maintaining the integrity of the public
offering process and investor confidence in the capital markets.
---------------------------------------------------------------------------
\50\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition
FINRA 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.
Economic Impact Assessment
FINRA has undertaken an economic impact assessment, as set forth
below, to further analyze the regulatory need for the proposed rule
change, the economic baseline of analysis, the economic impact and the
alternatives considered.
1. Regulatory Need
Based upon FINRA's experience with Rules 5130 and 5131, as well as
input from industry groups and market participants regarding practical
and operational issues relating to the rules, FINRA is proposing
amendments to reduce the regulatory burden on firms and remove certain
impediments to capital formation without impacting investor protection.
The proposed rule change aims to foster capital formation and to bring
regulatory clarity and consistency. Specifically, FINRA is proposing to
exempt additional persons from the scope of the rules, modify current
exemptions to enhance regulatory consistency, address unintended
operational impediments and exempt certain types of offerings from the
scope of the rules.
2. Economic Baseline
The economic baseline for the proposed rule change is the current
requirements and provisions of FINRA Rules 5130 and 5131, which are
intended to protect the integrity of the public offering process. To
this end, Rule 5130 sets forth categories of persons that are
restricted from purchasing new issues. In addition, Rule 5131 places
restrictions on the allocation of new issues to executive officers and
directors of a member's current, former or prospective investment
banking clients.
To assess the current economic baseline, FINRA has analyzed the
current groups potentially affected by the various aspects of the
proposed rule change. FINRA believes that there are thousands of family
offices that, along with the family members and family clients served
by those offices, are potentially impacted by the proposed
[[Page 39035]]
rule change.\51\ With respect to sovereign entities, there are
approximately 195 independent states in the world,\52\ many of which
operate one or more sovereign wealth funds, and the number is believed
to be on the rise.\53\ FINRA understands that there are thousands of
foreign pension plans (including both state- and privately-operated
foreign plans) as well as millions of beneficiaries and participants of
those plans. Similarly, FINRA understands that there are thousands of
foreign investment companies and millions of investors in such
companies. As of 2013, there were over one million organizations with
Section 501(c)(3) status in the United States, though the number of
charitable organizations that are large enough to fall within the
current definition of ``covered non-public company'' in Rule 5131(e)(3)
is likely smaller than that figure.\54\
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\51\ The exact number of family offices in the United States is
not known; however, it is estimated that there are between 3,000 and
5,000 single family offices operating in the United States. See,
e.g., Mary Pollack, Family Office Exchange, https://www.familyoffice.com/insights/how-many-family-offices-are-there-united-states.
\52\ See U.S. Department of State, Fact Sheet, Bureau of
Intelligence and Research, Independent States in the World, https://www.state.gov/s/inr/rls/4250.htm.
\53\ See Sovereign Wealth Fund Institute, Sovereign Wealth Fund
Rankings, https://www.swfinstitute.org/sovereign-wealth-fund-rankings/.
\54\ See National Center for Charitable Statistics, https://nccs.urban.org.
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3. Economic Impact
For purposes of this discussion, FINRA has identified the
potentially material impacts of the proposed amendments on the affected
parties.
FINRA believes that the proposed amendments to Rules 5130 and 5131
will remove unnecessary impediments to capital formation and lessen
burdens in the public offering process. The proposed amendments will
generally have a beneficial impact on issuers, underwriters and selling
group members and certain categories of investors.
FINRA believes that a significant impact of the proposed amendments
will be a reduction in both the costs and uncertainty in determining
whether an investor is subject to the restrictions of Rules 5130 and
5131. The proposed rule change also may increase the pool of investors
eligible to purchase new issues and, thus, encourage capital formation.
FINRA believes that the proposed amendments would not alter the
original purpose of Rules 5130 and 5131 in ensuring the integrity of a
public offering.
FINRA Rule 5130 restricts members and associated persons from
purchasing new issues for their own account or selling new issues to an
account in which other restricted persons have a beneficial interest.
Currently the definition of ``restricted person'' in Rule 5130(i)(10)
captures certain persons that were not intended to be included in the
definition. To address this issue, the proposed rule change would
exempt from the definition of ``restricted person'': (1) A person with
the authority to buy or sell securities for an account beneficially
owned by a family office, subject to specified conditions; and (2)
sovereign entities that acquire an ownership interest in a registered
broker-dealer. These persons would benefit from the proposed rule
change by eliminating their restrictions from purchasing new issues,
thus increasing their set of potential investments. To the extent that
new issues provide a unique risk-return profile from other types of
securities investments, the inclusion of them in these persons'
portfolios would be value enhancing. The proposed rule change would
also better align with the Advisers Act's treatment of family offices.
FINRA Rule 5130 currently does not include a general exemption for
foreign employee retirement benefits plans. Rather, FINRA staff has
granted exemptive relief to certain foreign employee retirement
benefits plans that have demonstrated that they cannot serve as a
conduit for restricted persons to purchase new issues. The proposed
rule change codifies the criteria upon which the staff granted
exemptive relief. The proposed rule change would allow plans that meet
specified criteria to invest in new issues without having to determine
the eligibility of hundreds of thousands of participants and
beneficiaries. By providing such plans additional flexibility to invest
in new issues, the proposed rule change would enhance the investment
options for their equity portfolios. The codification of the criteria
would also improve regulatory uniformity and reduce compliance costs.
The foreign investment company exemption in FINRA Rule 5130(c)(6)
is intended to apply to foreign investment companies that are similar
to U.S. registered investment companies, which are currently exempt
from FINRA Rule 5130's prohibitions. In order to satisfy the current
exemption, the foreign investment company, among other conditions, must
establish that no person owning more than five percent of the shares of
the investment company is a restricted person. However, where an
investor acquires his or her interest in a foreign investment company
through an intermediary that then holds the shares for multiple
investors in an omnibus or nominee account, the foreign investment
company may not be able to determine whether the investor owns more
than five percent of its shares. The proposed rule change would address
this operational issue and create two alternative conditions that the
foreign investment company have 100 or more direct investors or 1,000
or more indirect investors. The proposed alternative conditions would
provide additional flexibility to foreign investment companies to
demonstrate their eligibility for the exemption, and thereby enhance
their ability to purchase new issues.
FINRA Rules 5130 and 5131 are primarily concerned with fostering
fair public capital markets within the United States. However, because
the definition of ``new issue'' is not expressly limited to domestic
offerings, the rules could apply to foreign offerings, even if a safe
harbor is available for those offerings under the Securities Act, if a
member or an associated person is participating in the offering or
receiving allocations as an investor. The proposed rule change would
clarify the scope of Rules 5130 and 5131 by excluding Regulation S
offerings and other offerings made outside of the United States or its
territories from the scope of the rules. The proposed rule change would
also harmonize Rules 5130 and 5131 with other FINRA rules relating to
securities offerings, FINRA Rules 5110 and 5121, which currently
exclude foreign offerings. FINRA believes that the proposed rule change
will remove the burdens associated with complying with both U.S. and
foreign regulatory regimes relating to public offerings and will lead
to an increase in the pool of eligible investors for offshore offerings
of new issues without undermining the fairness of U.S. public capital
markets. Further, an increase in the pool of eligible investors could
lead to a lower cost of capital for issuers engaged in foreign
offerings.
The issuer-directed provisions in FINRA Rules 5130 and 5131 are
similar, but have differences that do not further the purposes of the
rules. The proposed rule change would better align the issuer-directed
provisions of Rules 5130 and 5131, provide regulatory consistency
across the rules and remove the compliance costs of applying different
standards, without negatively impacting the purposes of the rules.
Charitable organizations may not generate significant investment
banking business. However, due to their asset size, some charitable
organizations may fall within the definition of a ``covered non-public
company'' under FINRA
[[Page 39036]]
Rule 5131, making executives or directors of such organizations the
subject of the rule's prohibition. FINRA believes that the concerns
addressed by the rule are not implicated with respect to executive
officers or directors of charitable organizations that are not
affiliated with a member. The proposed rule change, therefore, would
exclude ``unaffiliated charitable organizations,'' as currently defined
in Rule 5131, from the definition of ``covered non-public company.''
FINRA believes that this proposed change will ease the burden on firms
as they will no longer be required to consider whether an investment
banking relationship exists vis-[agrave]-vis the member and an
unaffiliated charitable organization when an individual with a
beneficial interest in an account is an executive officer or director
(or materially supported by such a person) of such an organization.
FINRA believes that the proposed rule change would provide benefits by
reducing the uncertainty of whether a particular relationship is
problematic and by reducing the time and costs associated with making
that determination. The proposed rule change will also impact
individuals who are executive officers or directors of unaffiliated
charitable organizations (and those materially supported by such
individuals) as they will no longer be subject to the rule's
prohibitions on that basis. Finally, the proposed rule change will
benefit issuers by increasing the pool of prospective investors, thus
potentially leading to a lower cost of capital for the issuers.
Finally, the anti-dilution provision of FINRA Rule 5130 allows
restricted persons to maintain the equity ownership interest they had
before a public offering, but FINRA Rule 5131 has no similar provision.
An unintentional result of this is that officers or directors of public
companies and covered non-public companies may experience diminished
ownership interest upon a public offering and a transfer of wealth from
them to those investors that are able to purchase shares in the new
offering. The proposed rule change would add an anti-dilution provision
to Rule 5131 similar to that of Rule 5130 and ameliorate this
inconsistency. This would reduce the regulatory uncertainty and create
a level playing field for all investors.
4. Alternatives Considered
FINRA considered various alternatives to the proposed rule change.
When assessing foreign pension plans, FINRA considered whether to
impose a requirement that the plan, or family of plans, have a greater
number of participants and beneficiaries than the proposed 10,000.
However, the 10,000 participants and beneficiaries figure is
appropriate, particularly when viewed along with the condition that the
plan have at least $10 billion in assets, and exceeds participant
thresholds contained in other parts of the rule.\55\
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\55\ See, e.g., Rule 5130(c)(3)(A) (exempting sales to and
purchases of new issues by an insurance company general, separate or
investment account, provided that, among other conditions, the
account is funded by premiums from 1,000 or more policyholders).
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With respect to the foreign investment company exemption, FINRA
considered allowing foreign investment companies to establish dilution
of the fund solely by satisfying the current five percent condition.
However, allowing the foreign investment company to satisfy either the
five percent condition, the 100 or more direct investor condition, or
the 1,000 or more indirect investor condition, in addition to the other
conditions, achieves the purpose of the rule while providing greater
flexibility for foreign investment companies to meet the conditions of
the exemption.
In assessing the appropriateness of an exclusion for charitable
organizations from the definition of ``covered non-public company'' in
Rule 5131(e)(3), FINRA considered whether to extend the exclusion to
all nonprofit organizations, including, for example, civic leagues or
social welfare entities organized pursuant to other sections of the
IRC.\56\ However, FINRA determined not to extend the definition in this
manner and notes that, unlike Section 501(c)(3) organizations, such
organizations are not prohibited from substantially engaging in other
activities. In addition, limiting the exclusion to Section 501(c)(3)
charitable organizations is consistent with the treatment of such
entities in the context of other provisions of Rules 5130 and 5131.\57\
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\56\ Civic leagues and social welfare organizations may be
organized pursuant to Section 501(c)(4) of the IRC.
\57\ See, e.g., Rule 5130(c)(9) (exempting Section 501(c)(3) tax
exempt charitable organizations from Rule 5130); Rule 5131(e)(9)
(defining unaffiliated charitable organization as a tax-exempt
entity organized under Section 501(c)(3) of the IRC).
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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 on the
proposed rule change. As noted above, in April 2017, FINRA published
Regulatory Notice 17-14 seeking comment on the effectiveness and
efficiency of its rules relating to the capital-raising process,
including FINRA Rules 5130 and 5131 generally, and, in response, two
commenters requested that FINRA consider certain amendments to Rules
5130 and 5131.\58\
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\58\ See supra notes 9 and 10.
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In addition to comments received in response to Regulatory Notice
17-14, FINRA has experience with the rules since their adoption that
has informed the proposed rule change. During that time, FINRA has
generally engaged in discussions with industry groups and market
participants regarding: (1) Persons with authority to buy or sell
securities on behalf of accounts beneficially owned by family offices;
(2) sovereign entities that own broker-dealers; (3) foreign employee
retirement benefits plans; (4) executive officers and directors of
unaffiliated charitable organizations; and (5) foreign investment
companies whose shares are held in omnibus or nominee accounts. The
proposed rule change also reflects FINRA's experience and years of
informal discussions with market participants.
FINRA believes that the proposed rule change strikes the
appropriate balance by promoting capital formation and aiding member
compliance efforts while maintaining the protections that Rules 5130
and 5131 are designed to provide, as discussed above.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 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 or disapprove 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:
[[Page 39037]]
Electronic Comments
Use the Commission's internet comment form (https://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-FINRA-2019-022 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-2019-022. 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 website (https://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 website 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 a.m. and 3
p.m. Copies of such filing also will be available for inspection and
copying at the principal office of FINRA. All comments received will be
posted without change. Persons submitting comments are cautioned that
we do not redact or edit personal identifying information from comment
submissions. You should submit only information that you wish to make
available publicly. All submissions should refer to File Number SR-
FINRA-2019-022 and should be submitted on or before August 29, 2019.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\59\
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\59\ 17 CFR 200.30-3(a)(12).
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Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2019-16942 Filed 8-7-19; 8:45 am]
BILLING CODE 8011-01-P
