

[Federal Register: August 1, 2007 (Volume 72, Number 147)]
[Notices]               
[Page 42169-42190]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr01au07-130]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-56145; File No. SR-NASD-2007-023]

 
Self-Regulatory Organizations; National Association of Securities 
Dealers, Inc.; Order Approving Proposed Rule Change To Amend the By-
Laws of NASD To Implement Governance and Related Changes To Accommodate 
the Consolidation of the Member Firm Regulatory Functions of NASD and 
NYSE Regulation, Inc.

July 26, 2007.

I. Introduction

    On March 19, 2007, the National Association of Securities Dealers, 
Inc. (``NASD'') filed with the Securities and Exchange Commission 
(``Commission'' or ``SEC'') pursuant to section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to amend the By-Laws of NASD 
(``NASD By-Laws'') to implement governance and related changes to 
accommodate the consolidation of the member firm regulatory functions 
of NASD and NYSE Regulation, Inc. (``NYSE Regulation''), a wholly-owned 
subsidiary of New York Stock Exchange LLC (``NYSE LLC''). The proposed 
rule change was published for comment in the Federal Register on March 
26, 2007.\3\ The Commission received 80 comment letters from 72 
commenters on the proposed rule change.\4\ The NASD filed a response to 
comments on May 29, 2007 and a supplemental response to comments on 
July 16, 2007.\5\ This order approves the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 55495 (March 20, 
2007), 72 FR 14149 (``Notice'').
    \4\ A list of commenters on the rule proposal, whose comments 
were received as of July 16, 2007, is attached as Exhibit A to this 
Order. The public file for the proposal, which includes comment 
letters received on the proposal, is located at the Commission's 
Public Reference Room located at 100 F Street, NE., Washington, DC 
20549. The comment letters are also available on the Commission's 
Internet Web site (http://www.sec.gov/rules/sro.shtml).

    \5\ See Letter from Patrice M. Gliniecki, Senior Vice President 
and Deputy General Counsel, NASD, to Nancy M. Morris, Secretary, 
Commission, dated May 29, 2007 (``NASD Response Letter'') and Letter 
from T. Grant Callery, Executive Vice President and General Counsel, 
NASD, to Nancy M. Morris, Secretary, Commission, dated July 16, 2007 
(``NASD Supplemental Response Letter''). NASD Dispute Resolution 
also filed two letters in response to comments. See Letter from 
Linda D. Fienberg, President, NASD Dispute Resolution, to the Public 
Members of SICA, dated January 26, 2007 (``NASD Dispute Resolution 
Letter I'') and Letter from Linda D. Fienberg, President, NASD 
Dispute Resolution, to Nancy M. Morris, Secretary, Commission, dated 
May 29, 2007 (``NASD Dispute Resolution Letter II''). NASD submitted 
an opinion of counsel regarding the approval by NASD members of 
proposed amendments to the NASD By-Laws and the amount of the 
payment to NASD members under Delaware Law. See Letter from William 
J. Haubert, Richards, Layton & Finger, to Nancy M. Morris, 
Secretary, Commission, dated July 16, 2007 (``RLF Letter''). NASD 
also submitted an opinion of counsel describing generally the case 
law, statutory provisions, and guidance published by the Internal 
Revenue Service (``IRS'') relevant to the disclosure in the NASD's 
proxy statement to members. See Letter from Mario J. Verdolini, 
Davis Polk & Wardwell, to Nancy M. Morris, Secretary, Commission, 
dated July 16, 2007 (``DPW Letter'').

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[[Page 42170]]

II. Description of the Proposed Rule Change

    In November 2006, NASD and NYSE Group, Inc. (``NYSE Group'') \6\ 
announced their plan to consolidate their member regulation operations 
into a single self-regulatory organization (``SRO'') that would provide 
member firm regulation for securities firms that do business with the 
public in the United States (``Transaction''). Pursuant to the 
Transaction, the member firm regulation and enforcement functions and 
employees from NYSE Regulation would be transferred to NASD, and NASD 
would adopt a new corporate name. In the proposed rule change, the NASD 
proposes to amend the NASD By-Laws to implement governance changes that 
are integral to the Transaction. The proposed rule change and this 
Order refer to the NASD, whose name would be changed to the Financial 
Industry Regulatory Authority, as the ``New SRO'' and the amended NASD 
By-Laws as the ``New SRO By-Laws.''
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    \6\ NYSE Group recently combined with Euronext N.V. 
(``Euronext'') to form a single, publicly traded holding company 
named ``NYSE Euronext.'' NYSE Group and Euronext became separate 
subsidiaries of NYSE Euronext. The corporate structure for the 
businesses of NYSE Group (including the businesses of the NYSE LLC 
and NYSE Arca, Inc., a registered national securities exchange) 
remained unchanged following the combination. Specifically, NYSE LLC 
remains a wholly-owned subsidiary of NYSE Group. NYSE Market remains 
a wholly-owned subsidiary of the NYSE LLC and conducts NYSE LLC's 
business. NYSE Regulation remains a wholly-owned subsidiary of NYSE 
LLC and performs the regulatory responsibilities for NYSE LLC 
pursuant to a delegation agreement with NYSE LLC and many of the 
regulatory functions of NYSE Arca pursuant to a regulatory services 
agreement with NYSE Arca. See Securities Exchange Act Release No. 
55293 (February 14, 2007), 72 FR 8033 (February 22, 2007).
    Commenters on the proposed rule change generally referred to 
NYSE Group as ``NYSE.''
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    The New SRO would be responsible for regulatory oversight of all 
securities firms that do business with the public; professional 
training, testing and licensing of registered persons; arbitration and 
mediation; market regulation by contract for The NASDAQ Stock Market, 
Inc., the American Stock Exchange LLC, and the International Securities 
Exchange, LLC; and industry utilities, such as Trade Reporting 
Facilities and other over-the-counter operations. NASD represents that 
none of NASD's current functions and activities would be eliminated as 
a result of the Transaction.
    The closing of the Transaction (``Closing'') and the consolidation 
of the member firm regulatory functions of the NASD and NYSE Regulation 
are subject to the execution of definitive agreements between NASD and 
NYSE Group, the Commission's approval of the proposed rule change, and 
certain additional regulatory approvals.\7\ The effective date of the 
proposed rule change would be the date of the Closing. There would be a 
transitional period commencing on the date of the Closing and ending on 
the third anniversary of the date of the Closing (``Transitional 
Period'').
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    \7\ On March 7, 2007, NASD and NYSE Group filed notification 
reports with the Department of Justice and the Federal Trade 
Commission under the Hart-Scott-Rodino Antitrust Improvements Act of 
1976. NASD represented that the waiting period for such a filing 
expired on April 6, 2007. NASD also represented that it received a 
favorable ruling by the IRS that the Transaction would not affect 
the tax-exempt status of NASD or NASD Regulation. See NASD 
Supplemental Response Letter, supra note 5, at 3.
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    A description of the most significant changes to the NASD By-Laws 
follows.

A. Composition of the New SRO Board

    The proposed rule change would implement a governance structure 
that includes both public and industry representation, and designates 
certain Governor \8\ positions on the New SRO Board of Governors (``New 
SRO Board'') to represent member firms. Members would not have the 
ability to elect all Governors of the New SRO Board, but would have the 
ability to elect Governors that are from member firms that are similar 
in size to their own firms. All other Governors would be appointed, as 
described below. All members would continue to have the ability to vote 
on any future amendments to the New SRO By-Laws,\9\ to petition to 
propose amendments to the New SRO By-Laws,\10\ to vote in district 
elections,\11\ and to petition to nominate a candidate for the Governor 
position(s) they are entitled to elect.\12\
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    \8\ A ``Governor'' is a member of the Board of Governors of the 
New SRO. See New SRO By-Laws, Article I(q).
    \9\ See New SRO By-Laws, Article XVI, Section 1.
    \10\ Id.
    \11\ See Article VIII of the NASD Regulation, Inc. By-Laws 
(``NASD Regulation By-Laws'').
    \12\ See New SRO By-Laws, Article VII, Section 10.
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1. Composition of New SRO Board During the Transitional Period
    During the Transitional Period, the New SRO Board would consist of 
23 Governors as follows: (a) Eleven Governors would be ``Public 
Governors;'' \13\ (b) ten Governors would be ``Industry Governors''; 
\14\ and (c) two Governors initially would be Richard G. Ketchum, 
currently Chief Executive Officer (``CEO'') of NYSE Regulation and Mary 
L. Schapiro, currently CEO of NASD. Mr. Ketchum would serve as Chair of 
the New SRO Board (``Chair'') \15\ for a term of three years.\16\ Ms. 
Schapiro would serve as CEO of the New SRO.
    Initially, five Public Governors would be appointed by the Board of 
Directors of NYSE Group (``NYSE Group Board''); five Public Governors 
would be appointed by the NASD Board of Governors in office prior to 
the Closing (``NASD Board''); and one Public Governor would be 
appointed jointly by the NYSE Group Board and the NASD Board (the 
``Joint Public Governor''). A Public Governor must not have any 
material business relationship with a broker or dealer or an SRO 
registered under the Exchange Act (other than serving as a public 
director of such an SRO).\17\
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    \13\ A ``Public Governor'' means any Governor who is not the 
Chief Executive Officer of the New SRO or, during the Transitional 
Period, the CEO of NYSE Regulation, who is not an Industry Governor 
(as defined below) and who otherwise has no material business 
relationship with a broker or dealer or an SRO registered under the 
Exchange Act, other than as a public director of such an SRO. See 
New SRO By-Laws, Article I(tt).
    \14\ An ``Industry Governor'' is the Floor Member Governor (as 
defined below), the Independent Dealer/Insurance Affiliate Governor 
(as defined below), the Investment Company Affiliate Governor (as 
defined below) or any other Governor (excluding the CEO of the New 
SRO and, during the Transitional Period, the CEO of NYSE Regulation) 
who: (a) Is or has served in the prior year as an officer, director 
(other than as an independent director), employee or controlling 
person of a broker or dealer, or (b) has a consulting or employment 
relationship with or provides professional services to an SRO 
registered under the Exchange Act, or has had any such relationship 
or provided any such services at any time within the prior year. See 
New SRO By-Laws, Article I(t).
    \15\ See infra text accompanying notes 63 to 65 for a more 
detailed description of the Chair.
    \16\ During the Transitional Period, Mr. Ketchum, the current 
CEO of NYSE Regulation, would serve as the Chair so long as he 
remains a Governor. See New SRO By-Laws, Article XXII, Section 2(b).
    \17\ See supra note 13.
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    The ten Industry Governors would consist of: (a) Three Governors 
who are

[[Page 42171]]

registered with members that employ 500 or more registered persons 
(``Large Firm Governors''); (b) one Governor who is registered with a 
member that employs at least 151 and no more than 499 registered 
persons (``Mid-Size Firm Governor''); (c) three Governors who are 
registered with members that employ at least one and no more than 150 
registered persons (``Small Firm Governors'' and, together with the 
Large Firm Governors and the Mid-Size Firm Governors, ``Firm 
Governors''); (d) one Governor who is associated with a floor member 
(or a firm in the process of becoming a floor member) of the New York 
Stock Exchange (``Floor Member Governor''); \18\ (e) one Governor who 
is associated with an independent contractor financial planning member 
firm or an affiliate of an insurance company (``Independent Dealer/
Insurance Affiliate Governor''); \19\ and (f) one Governor who is 
associated with an affiliate of an Investment Company (``Investment 
Company Affiliate Governor'').\20\ During the Transitional Period, the 
three Small Firm Governors would be nominated by the NASD Board and 
elected by members that have at least one and no more than 150 
registered persons, although members of that size also would have the 
right to nominate opposing candidates for the Small Firm Governor 
position. The one Mid-Size Firm Governor would be nominated jointly by 
the NYSE Group Board and the NASD Board and elected by members that 
have at least 151 and no more than 499 registered persons, although 
members of that size also can nominate opposing candidates for the Mid-
Size Firm Governor position. The three Large Firm Governors would be 
nominated by the NYSE Group Board and elected by members that have 500 
or more registered persons, although members of that size also can 
nominate opposing candidates for the Large Firm Governor position. In 
addition, the one Floor Member Governor would be appointed by the NYSE 
Group Board; the one Independent Dealer/Insurance Affiliate Governor 
would be appointed by the NASD Board; and the one Investment Company 
Affiliate Governor would be appointed jointly by the NYSE Group Board 
and the NASD Board.\21\
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    \18\ See New SRO By-Laws, Article I(n).
    \19\ See New SRO By-Laws, Article I(r). See infra text 
accompanying note 213 for additional discussion regarding the 
definition of Independent Dealer/Insurance Affiliate Governor.
    \20\ See New SRO By-Laws, Article I(w). See infra text 
accompanying note 213 for additional discussion regarding the 
definition of Investment Company Affiliate Governor.
    \21\ See New SRO By-Laws, Article XXII, Sections 3 and 4.
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    To implement the New SRO Board structure described above, the NYSE 
Group Board and the NASD Board would appoint the Public Governors and 
Industry Governors that they, either individually or jointly, have the 
power to appoint, effective as of the Closing. The Public Governors, 
the Floor Member Governor, the Investment Company Affiliate Governor, 
and the Independent Dealer/Insurance Affiliate Governor would hold 
office for the three-year Transitional Period. The three Small Firm 
Governors, three Large Firm Governors, and one Mid-Size Firm Governor 
would be elected as Governors at the first annual meeting of members of 
the New SRO following the Closing, which is expected to be held within 
ninety days after the Closing, and would hold office until the first 
annual meeting of members of the New SRO following the Transitional 
Period.\22\ During the interim period from the Closing until the first 
annual meeting of members, the Small Firm Governor, Large Firm 
Governor, and Mid-Size Firm Governor seats would be filled by three 
interim Industry Governors appointed by the NASD Board from industry 
governors currently on the NASD Board, three interim Industry Governors 
appointed by the NYSE Group Board, and one interim Industry Governor 
jointly appointed by the NYSE Group Board and the NASD Board, in each 
case prior to the Closing.\23\
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    \22\ Id.
    \23\ See New SRO By-Laws, Article XXII, Section 2(a).
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2. Composition of the New SRO Board after the Transitional Period
    The composition of the New SRO Board would remain the same after 
the Transitional Period, except that the term of office of the CEO of 
NYSE Regulation as a member of the New SRO Board would automatically 
terminate at the end of the Transitional Period. Thus, the authorized 
number of members of the New SRO Board would be reduced by one.\24\ 
Other changes after the Transitional Period are described below.
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    \24\ Under New SRO By-Laws, Article VII, Section 4 (Composition 
and Qualification of the Board), the total number of Governors is 
determined by the Board of Governors, with such number being no 
fewer than 16 nor more than 25 Governors. The number of Public 
Governors must exceed the number of Industry Governors. As a 
practical matter, the New SRO Board cannot have fewer than 22 
Governors due to the number of designated Industry Governor 
positions and the requirement that the number of Public Governors 
must exceed the number of Industry Governors. Thus, absent the 
filing of a proposed rule change under Section 19(b) of the Exchange 
Act, there would be a minimum number of ten Industry Governors, 
eleven Public Governors, plus the CEO of the New SRO. See NASD 
Response Letter, supra note 5, at 3.
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    As of the first annual meeting of members following the 
Transitional Period, the Large Firm Governors, the Mid-Size Firm 
Governor, and the Small Firm Governors would be divided into three 
classes.\25\ The composition of the classes would be arranged as 
follows: \26\
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    \25\ See New SRO By-Laws, Article VII, Section 5.
    \26\ Id.
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     First class: Consisting of one Large Firm Governor and one 
Small Firm Governor, who would be elected for a term of office expiring 
at the first succeeding annual meeting of members;
     Second class: Consisting of one Large Firm Governor, one 
Mid-Size Firm Governor, and one Small Firm Governor, who would be 
elected for a term of office expiring at the second succeeding annual 
meeting of members; and
     Third class: Consisting of one Large Firm Governor and one 
Small Firm Governor, who would be elected for a term of office expiring 
at the third succeeding annual meeting of members.
    While these classes are designed to ensure staggered board seats, 
at no time would there be less than ten Industry Governor positions on 
the New SRO Board. At each annual election following the first annual 
meeting of members after the Transitional Period, Large Firm Governors, 
Small Firm Governors, and Mid-Size Firm Governors would be elected for 
a term of three years to replace those Governors whose terms have 
expired.\27\ These Governors would serve until a successor is duly 
appointed and qualified, or until death, resignation, disqualification 
or removal. A Governor elected by the members may not serve more than 
two consecutive terms.
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    \27\ Governors would be elected by a plurality of the votes of 
the members of the New SRO present in person or represented by proxy 
at the annual meeting of the New SRO and entitled to vote for such 
category of Governors. See New SRO By-Laws, Article VII, Section 13.
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    As of the first annual meeting of members following the 
Transitional Period, the Public Governors, the Floor Member Governor, 
the Independent Dealer/Insurance Affiliate Governor, and the Investment 
Company Affiliate Governor (``Appointed Governors'') would be divided 
by the New SRO Board into three classes, as equal in number as 
possible, with the first class holding office until the first 
succeeding annual meeting of members, the second class holding office 
until the second succeeding annual meeting of members, and the third 
class holding office until the third succeeding annual meeting of 
members. Each class would initially contain as equivalent a number as 
possible of Appointed Governors who

[[Page 42172]]

were members of the New SRO Board appointed or nominated by the NYSE 
Group Board or are successors to such Governor positions, on the one 
hand, and Appointed Governors who were members of the New SRO Board 
appointed or nominated by the NASD Board or are successors to such 
Governor positions, on the other hand, to the extent the New SRO Board 
determines such persons are to remain Governors after the Transitional 
Period. At each annual election following the first annual meeting of 
members following the Transitional Period, Appointed Governors would be 
appointed by the New SRO Board for a term of three years to replace 
those whose terms expire. These Governors would serve until a successor 
is duly appointed and qualified, or until death, resignation, 
disqualification or removal. No Appointed Governor may serve more than 
two consecutive terms.\28\
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    \28\ See New SRO By-Laws, Article VII, Section 5.
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B. Governor Vacancies

1. During the Transitional Period
    As noted above, the CEO of NYSE Regulation would be a Governor and 
the Chair during the Transitional Period. In the event of a vacancy in 
the Governor position held by Mr. Ketchum (or his successor) during the 
Transitional Period, the new CEO of NYSE Regulation would serve as a 
Governor for the remainder of the Transitional Period. If Mr. Ketchum 
ceases to occupy the office of Chair for any reason during the 
Transitional Period, then his successor as Chair would be selected by 
the NYSE Group Committee,\29\ from among its members, with the 
exception that those Governors who also serve as NYSE Group directors 
may not become Chair nor may Mr. Ketchum's successor as CEO of NYSE 
Regulation become Chair.\30\
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    \29\ ``NYSE Group Committee'' means a committee of the New SRO 
Board composed of the five Public Governors and the Floor Member 
Governor appointed as such by the Board of NYSE Group, and the Large 
Firm Governors which were nominated for election as such by the 
Board of NYSE Group, and in each case their successors. See New SRO 
By-Laws, Article I(pp).
    \30\ See New SRO By-Laws, Article XXII, Section 2(b).
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    In the event of any vacancy among the Large Firm Governors, the 
Mid-Size Firm Governor, or the Small Firm Governors during the 
Transitional Period, (a) Such vacancy would be filled, and nominations 
for persons to fill such vacancy would be made, by the NYSE Group 
Committee in the case of a Large Firm Governor vacancy; (b) such 
vacancy would be filled by the Board, and nominations for persons to 
fill such vacancy would be made by the New SRO's Nominating Committee 
in the case of a Mid-Size Firm Governor vacancy; and (c) such vacancy 
would be filled, and nominations for persons to fill such vacancy would 
be made by the NASD Group Committee \31\ in the case of a Small Firm 
Governor vacancy.\32\ In the event the remaining term of office of any 
such Governor is more than twelve months, nominations would be made as 
set forth above, but such vacancy would be filled by the New SRO 
members entitled to vote on such Governor position at a meeting of 
members called to fill the vacancy.\33\
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    \31\ ``NASD Group Committee'' means a committee of the New SRO 
Board composed of the five Public Governors and the Independent 
Dealer/Insurance Affiliate Governor appointed as such by the NASD 
Board in office prior to the Closing, and the Small Firm Governors 
which were nominated for election as such by the NASD Board in 
office prior to the Closing, and in each case their successors. See 
New SRO By-Laws, Article I(jj).
    \32\ See New SRO By-Laws, Article XXII, Section 3.
    \33\ Id.
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    In the event of any vacancy among the Floor Member Governor, the 
Investment Company Affiliate Governor, or the Independent Dealer/
Insurance Affiliate Governor during the Transitional Period, (a) Such 
vacancy would be filled by, and nominations for persons to fill such 
vacancy would be made by the NYSE Group Committee in the case of a 
Floor Member Governor vacancy; (b) such vacancy would be filled by the 
New SRO Board, and nominations for persons to fill such vacancy would 
be made by the New SRO's Nominating Committee in the case of an 
Investment Company Affiliate Governor vacancy; or (c) such vacancy 
would be filled by, and nominations for persons to fill such vacancy 
would be made by, the NASD Group Committee in the case of an 
Independent Dealer/Insurance Affiliate Governor vacancy.\34\
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    \34\ Id.
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    In the event of any vacancy among those Public Governors appointed 
by the NYSE Group Board (or their successors), such vacancy would be 
filled by, and nominations for persons to fill such vacancy would be 
made by, the NYSE Group Committee. In the event of any vacancy among 
those Public Governors appointed by the NASD Board (or their 
successors), such vacancy would be filled by, and nominations for 
persons to fill such vacancy would be made by, the NASD Group 
Committee. In the event of any vacancy of the Public Governor position 
jointly appointed by the NYSE Group Board and the NASD Board (or their 
successors), such vacancy would be filled by the New SRO Board, and 
nominations for persons to fill such vacancy would be made by the New 
SRO's Nominating Committee.\35\
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    \35\ Id.
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2. After the Transitional Period
    In the event of any vacancy among the Large Firm Governors, the 
Mid-Size Firm Governor, or the Small Firm Governors, such vacancy would 
be filled by the Large Firm Governor Committee \36\ in the case of a 
Large Firm Governor vacancy, the New SRO Board in the case of a Mid-
Size Firm Governor vacancy, or the Small Firm Governor Committee \37\ 
in the case of a Small Firm Governor vacancy; provided, however, that 
in the event the remaining term of office of any Large Firm, Mid-Size 
Firm, or Small Firm Governor position becomes vacant for more than 
twelve months, such vacancy would be filled by the members of the New 
SRO entitled to vote thereon at a meeting thereof convened to vote 
thereon.\38\ Whether a vacancy is filled by the appropriate committee 
for a position that is vacant for twelve months or less or by election 
if the vacancy is greater than twelve months, nominations would be made 
by the Nominating Committee as described below.\39\
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    \36\ ``Large Firm Governor Committee'' means a committee of the 
Board composed of all of the Large Firm Governors. See New SRO By-
Laws, Article I(aa).
    \37\ ``Small Firm Governor Committee'' means a committee of the 
Board composed of all the Small Firm Governors. See New SRO By-Laws, 
Article I(yy).
    \38\ If a Governor is appointed to fill a vacancy of an elected 
Governor position for a term of less than one year, the Governor may 
serve up to two consecutive terms following the expiration of the 
Governor's initial terms. See New SRO By-Laws, Article VII, Section 
5.
    \39\ See New SRO By-Laws, Article VII, Sections 5 and 9.
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    In the event of any vacancy among the Public Governors or among the 
Floor Member Governor, the Investment Company Affiliate Governor, or 
the Independent Dealer/Insurance Affiliate Governor after the 
Transitional Period, such vacancies would be filled by the New SRO 
Board from candidates recommended to the Board by the Nominating 
Committee.\40\
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    \40\ Id. If a Governor is appointed to fill the vacancy of an 
Appointed Governor position for a term of less than one year, the 
Governor may serve up to two consecutive terms following the 
expiration of the Governor's initial terms. See New SRO By-Laws, 
Article VII, Section 5.
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C. Committees of the New SRO Board

1. Committees Generally
    a. During the Transitional Period.
    During the Transitional Period, the New SRO is required to have the 
following committees of the Board \41\:

[[Page 42173]]

The NASD Group Committee; the NYSE Group Committee; the Small Firm 
Governor Committee, and the Large Firm Governor Committee. The New SRO 
also is required to have an Audit,\42\ Finance,\43\ and Nominating 
Committees and, during the first year of the Transitional Period, or as 
may be extended thereafter by the Board, an Integration Committee.\44\ 
In addition, the New SRO would have an Investment Committee, which 
would not be a committee of the Board.\45\
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    \41\ See New SRO By-Laws, Article IX, Section 1(a). These 
committees play a role in the filling of vacancies on the Board and 
appointing the Chair of the Board of the New SRO. See New SRO By-
Laws, Article XXII, Section 3.
    \42\ The Audit Committee would consist of four or five 
Governors, none of whom would be officers or employees of the New 
SRO. The Audit Committee would perform the following functions: (i) 
Ensure the existence of adequate controls and the integrity of the 
financial reporting process of the New SRO; (ii) recommend to the 
New SRO Board, and monitor the independence and performance of, the 
certified public accountants retained as outside auditors by the New 
SRO; and (iii) direct and oversee all the activities of the New 
SRO's internal review function, including, but not limited to, 
management's responses to the internal review function. See New SRO 
By-Laws, Article IX, Section 5.
    \43\ The Finance Committee would consist of four or more 
Governors, including the CEO of the New SRO. A Finance Committee 
member would hold office for a term of one year. The Finance 
Committee would advise the Board with respect to the oversight of 
the financial operations and conditions of the New SRO, including 
recommendations for the annual operating and capital budgets and 
proposed changes to the rates and fees charged by the New SRO. See 
New SRO By-Laws, Article IX, Section 6(a)-(c).
    \44\ The Integration Committee would have a term not to exceed 
one year from the Closing, unless continued for a longer period by 
resolution of the Board. The Chair of the Board would be the Chair 
of the Integration Committee unless, in the case of the Integration 
Committee continuing beyond one year after the Closing, otherwise 
determined by the Board. See New SRO By-Laws, Article IX, Section 7.
    \45\ The majority of the Investment Committee during the 
Transitional Period would be composed of members of the Investment 
Committee immediately prior to the Closing, unless otherwise 
determined by the NASD Group Committee, and a minority of the 
Investment Committee during the Transitional Period would be 
composed of members of the NYSE Group Committee. See New SRO By-
Laws, Article IX, Section 6(d).
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    Unless otherwise provided in the New SRO By-Laws, any other 
committee having the authority to exercise the powers and authority of 
the New SRO Board must have a number of Public Governors that is 
greater than the number of Industry Governors.\46\ In addition, any 
committee of the New SRO Board having the authority to exercise the 
powers and authority of the Board (with the exception of the Large Firm 
Governor Committee, the Small Firm Governor Committee, the NASD Group 
Committee, and the NYSE Group Committee) also must have: (i) A 
percentage of members (to the nearest whole number of committee 
members) that are members of the NASD Group Committee at least as great 
as the percentage of Governors on the Board that are members of the 
NASD Group Committee; and (ii) a percentage of members (to the nearest 
whole number of committee members) that are members of the NYSE Group 
Committee at least as great as the percentage of Governors on the Board 
that are members of the NYSE Group Committee.\47\
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    \46\ See New SRO By-Laws, Article IX, Section 1(b).
    \47\ Id.
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    The New SRO Board may appoint an Executive Committee which can 
exercise all the powers and authority of the New SRO Board in the 
management and affairs of the New SRO between meetings of the New SRO 
Board, subject to the limitations in the New SRO's Certificate of 
Incorporation \48\ and applicable state law.\49\ The Executive 
Committee would consist of no fewer than five and no more than eight 
Governors. The Executive Committee would include the CEO of the New SRO 
and the Chair of the New SRO Board.\50\
---------------------------------------------------------------------------

    \48\ NASD will be submitting a proposed rule change to amend its 
Certificate of Incorporation to reflect the New SRO By-Laws.
    \49\ See New SRO By-Laws, Article IX, Section 4(a).
    \50\ See New SRO By-Laws, Article IX, Section 4(b).
---------------------------------------------------------------------------

    b. After the Transitional Period.
    After the Transitional Period, the New SRO is required to have the 
following committees of the Board: The Small Firm Governor Committee 
and the Large Firm Governor Committee. New SRO also is required to have 
Audit, Finance, and Nominating Committees. The structure and 
composition of the Executive Committee, and any other committee having 
the authority to exercise the powers and authority of the Board, 
remains unchanged from that described above for the Transitional 
Period.
2. Nominating Committee
    The Nominating Committee would be a committee of the New SRO Board 
and would replace the NASD's National Nominating Committee.\51\
---------------------------------------------------------------------------

    \51\ See New SRO By-Laws, Article I(oo) and Article VII, Section 
9.
---------------------------------------------------------------------------

    a. During the Transitional Period.
    For the first annual meeting following the Closing, nominations for 
the seven elected industry seats would not be made by the Nominating 
Committee. Instead, the NASD Board would make nominations for the Small 
Firm Governors positions, the NYSE Group Board would make nominations 
for the Large Firm Governors positions, and the NASD Board and NYSE 
Group Board jointly would make the nominations for the Mid-Size Firm 
Governor position.\52\ In addition, prior to the Closing, the NASD 
Board would identify and appoint five Public Governors and the 
Independent Dealer/Insurance Affiliate Governor; the NYSE Group Board 
would identify and appoint five Public Governors and the Floor Member 
Governor; and the NASD Board and the NYSE Group Board would jointly 
identify and appoint one Public Governor and the Investment Company 
Affiliate Governor.\53\
---------------------------------------------------------------------------

    \52\ See New SRO By-Laws, Article XXII, Section 4.
    \53\ See New SRO By-Laws, Article XXII, Section 3.
---------------------------------------------------------------------------

    During the Transitional Period, members of the Nominating Committee 
would be appointed jointly by the New SRO CEO and the CEO of NYSE 
Regulation as of Closing (or his duly appointed or elected successor as 
Chair of the New SRO Board), subject to ratification of the appointees 
by the New SRO Board.\54\ The Nominating Committee would be responsible 
solely for nominating persons to fill vacancies in Governor positions 
for which the New SRO Board has the authority to fill, namely, the Mid-
Size Firm Governor position, the Investment Company Affiliate Governor 
position, and the one Public Governor position that is initially 
appointed jointly by the NYSE Group Board and the NASD Board in office 
prior to the Closing.\55\
---------------------------------------------------------------------------

    \54\ See New SRO By-Laws, Article XXII, Section 1.
    \55\ See New SRO By-Laws, Article XXII, Section 3.
---------------------------------------------------------------------------

    b. After the Transitional Period.
    Following the Transitional Period, the members of the Nominating 
Committee would be determined by the New SRO Board.\56\ At all times, 
the number of Public Governors on the Nominating Committee must equal 
or exceed the number of Industry Governors on the Nominating 
Committee.\57\ In addition, the Nominating Committee must at all times 
be composed of a number of Governors that is a minority of the entire 
New SRO Board.\58\ The New SRO CEO may not be a member of the 
Nominating Committee. The Nominating Committee would be responsible for 
nominating persons for appointment or election to the New SRO Board, as 
well as nominating persons to fill vacancies in appointed or elected 
Governor seats.\59\
---------------------------------------------------------------------------

    \56\ See New SRO By-Laws, Article VII, Sections 9(b) and 9(c).
    \57\ See New SRO By-Laws, Article VII, Section 9(b). At least 
20% of the Nominating Committee is expected to be composed of 
Industry Governors. See NASD Response Letter, supra note 5, at 7.
    \58\ Id.
    \59\ See New SRO By-Laws, Article VII, Section 9(a).

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[[Page 42174]]

D. Additional Changes

1. Annual Meetings
    a. During the Transitional Period.
    Except for the first annual meeting following the Closing at which 
Large Firm Governors, the Mid-Size Firm Governor, and Small Firm 
Governors would be elected, there would be no annual meetings of 
members during the Transitional Period.\60\ At such first annual 
meeting, Small Firm members would be entitled to vote for the election 
of Small Firm Governors, Mid-Size Firm members would be entitled to 
vote for the election of the Mid-Size Firm Governor, and Large Firm 
members would be entitled to vote for the election of Large Firm 
Governors.\61\
---------------------------------------------------------------------------

    \60\ See New SRO By-Laws, Article XXI, Section 1.
    \61\ Id. See also New SRO By-Laws, Article XXII, Section 3.
---------------------------------------------------------------------------

    b. After the Transitional Period.
    An annual meeting of members of the New SRO would be held on a date 
and at a place as the New SRO Board designates.\62\ The business of the 
annual meeting includes the election of the Small, Mid-Size, and Large 
Firm Governors of the New SRO Board. Small Firm members would be 
entitled to vote for the election of Small Firm Governors, Mid-Size 
Firm members would be entitled to vote for the election of the Mid-Size 
Firm Governor, and Large Firm members would be entitled to vote for the 
election of Large Firm Governors.
---------------------------------------------------------------------------

    \62\ Id. See also New SRO By-Laws, Article XXI, Section 1.
---------------------------------------------------------------------------

2. Chair
    During the Transitional Period, the Chair would be the CEO of NYSE 
Regulation as of the Closing as long as he remains a Governor of the 
New SRO.\63\ In the event the CEO of NYSE Regulation as of the Closing 
ceases to be the Chair during the Transitional Period, subject to the 
New SRO Certificate of Incorporation and the By-Laws, the Chair would 
be selected by the NYSE Group Committee from among its members, 
provided that the Chair so selected may not be a member of the Board of 
Directors of NYSE Group nor may the successor CEO of NYSE Regulation 
serve as Chair.\64\
---------------------------------------------------------------------------

    \63\ See New SRO By-Laws, Article XXII, Section 2(b).
    \64\ Id.
---------------------------------------------------------------------------

    After the Transitional Period, the Chair would be elected by the 
New SRO Board from among its members.\65\
---------------------------------------------------------------------------

    \65\ See New SRO By-Laws, Article VII, Section 4(b).
---------------------------------------------------------------------------

3. Lead Governor
    The New SRO Board would have a Governor who would preside over 
executive sessions of the New SRO Board in the event the Chair is 
recused (``Lead Governor'').\66\
---------------------------------------------------------------------------

    \66\ See New SRO By-Laws, Article I(bb) and Article VII, Section 
4(b).
---------------------------------------------------------------------------

    a. During the Transitional Period.
    During the Transitional Period, the Lead Governor would be selected 
by the New SRO Board, after consultation with the New SRO's CEO, but 
cannot be a member who is concurrently serving on the NYSE Group 
Board.\67\ The New SRO Board, the CEO, the Chair, and the Lead Governor 
of the New SRO each would have the authority to call meetings of the 
New SRO Board.\68\ Both the CEO and Chair, and for matters from which 
the CEO and Chair are recused from considering, the Lead Governor, 
would have the authority to place items on the New SRO Board 
agendas.\69\
---------------------------------------------------------------------------

    \67\ See New SRO By-Laws, Article I(bb) and Article XXII, 
Section 1.
    \68\ See New SRO By-Laws, Article VII, Section 8.
    \69\ Id.
---------------------------------------------------------------------------

    b. After the Transitional Period.
    After the Transitional Period, the New SRO Board would continue to 
have a Lead Governor who would preside over executive sessions of the 
New SRO Board in the event the Chair is not present or recused.\70\ The 
Lead Governor would be elected by the Board but cannot be a member who 
is concurrently serving on the NYSE Group Board.\71\ The New SRO Board, 
the New SRO CEO, the Chair, and the Lead Governor would have the 
authority to call meetings of the New SRO Board.\72\ Both the New SRO 
CEO and the Chair, and for matters from which the New SRO CEO and the 
Chair are recused from considering, the Lead Governor, would have the 
authority to place items on the New SRO Board agenda.\73\
---------------------------------------------------------------------------

    \70\ See New SRO By-Laws, Article VII, Section 4(b).
    \71\ See New SRO By-Laws, Article I(bb).
    \72\ See New SRO By-Laws, Article VII, Section 8.
    \73\ Id.
---------------------------------------------------------------------------

4. Definition of Disqualification
    The New SRO By-Laws also include changes or additions to certain 
defined terms. In addition to changes to accommodate the New SRO's new 
governance structure, the proposed rule change would amend the 
definition of ``disqualification'' in the NASD By-Laws to conform to 
the federal securities laws, such that any person subject to a 
statutory disqualification under the Exchange Act also would be subject 
to disqualification under NASD rules.\74\
---------------------------------------------------------------------------

    \74\ NASD represented that it will file a proposed rule change, 
which will be reviewed by the Commission pursuant to Section 19(b) 
of the Exchange Act, to address the applicable eligibility 
proceedings for persons subject to disqualification as a result of 
the proposed change in definition. See Notice, supra note 3.
---------------------------------------------------------------------------

5. References to the NASD
    In addition, NASD proposes other technical changes to its By-Laws. 
For example, each reference to ``NASD'' in the NASD By-Laws would be 
replaced with ``Corporation'' in contemplation of the change in the 
name of the Corporation. In addition, each reference to the ``Rules of 
the Association'' in the NASD By-Laws would be replaced with ``Rules of 
the Corporation.''
6. Proposed Changes to NASD Regulation By-Laws
    In 2000, NASD created a subsidiary for its mediation and 
arbitration functions, NASD Dispute Resolution, pursuant to the Plan of 
Allocation and Delegation of Functions by NASD to Subsidiaries 
(``Delegation Plan''). NASD proposes to make limited conforming changes 
to the NASD Regulation By-Laws solely to reflect the proposed 
governance structure of the New SRO Board.
    First, in light of the new proposed composition of the New SRO 
Board, the proposed rule change would amend Section 5.2 of the NASD 
Regulation By-Laws (Number of Members and Qualifications of the 
National Adjudicatory Council (``NAC'')) to eliminate the reference 
that the Chairman of the NAC would serve as a Governor of the NASD 
Board for a one-year term. Second, because the Chairman of the NAC may 
continue to serve as a Director of the NASD Regulation Board, the 
proposed rule change would eliminate the requirement in Section 4.3 of 
the NASD Regulation By-Laws (Qualifications) that only Governors of the 
NASD Board are eligible for election to the NASD Regulation Board. 
Finally, NASD proposes to amend the statement in Section 4.3 of the 
NASD Regulation By-Laws that provides that the CEO of NASD would be an 
ex-officio non-voting member of the NASD Regulation Board, to reflect 
that Ms. Schapiro would occupy both the position of CEO of the New SRO 
and the President of NASD Regulation. In particular, the proposed rule 
change would clarify that where the CEO of the New SRO also serves as 
President of NASD Regulation, then the person would have all powers, 
including voting powers, granted to all other Directors of NASD 
Regulation pursuant to applicable law, the Certificate of Incorporation 
of NASD Regulation, the Delegation Plan, and the NASD Regulation By-
Laws.

[[Page 42175]]

III. Summary of Comments on the Proposal

    The Commission received a total of 80 comment letters from 72 
commenters on the proposal.\75\ Seventeen commenters supported the 
proposed New SRO By-Laws,\76\ some of whom believed that the 
consolidation proposal would streamline regulation and simplify 
compliance with a uniform set of regulations.\77\ Forty-four commenters 
urged the Commission not to approve the proposal, generally arguing 
that the proposed New SRO By-Laws do not protect investors or provide 
enough representation for industry members or smaller member firms.\78\ 
Three commenters supported the consolidation but opposed the New SRO 
By-Laws primarily because of the member voting provisions.\79\ Other 
commenters were concerned about the fairness and independence of the 
arbitration process and the loss of an arbitration forum resulting from 
the consolidation which would allocate sole responsibility for 
arbitration and mediation to the New SRO.\80\ One commenter provided 
copies of an amended complaint and an order relating to a lawsuit filed 
by an NASD member firm against NASD, NYSE Group and certain NASD 
officers.\81\ Four commenters raised additional issues relating to the 
proposed rule change.\82\ The commenters generally addressed issues 
falling into one or more of the categories discussed below.
---------------------------------------------------------------------------

    \75\ Exhibit A to this Order contains a list of comment letters 
received by the Commission on the proposal as of July 16, 2007, 
including the citations to the comment letters referenced in this 
Order.
    \76\ See Vanguard Letter, Kirk Letter, SIFMA Letter, Casady 
Letter, Moloney Letter, Stringer Letter, Alsover Letter, Johnstone 
Letter, Castiglioni Letter, Robertson Letter, Pictor Letter, NAIBD 
Letter, FSI Letter, Bakerink Letter, NSCP Letter, Mungenast Letter, 
and NASAA Letter.
    \77\ See Vanguard Letter, SIFMA Letter, Castiglioni Letter, FSI 
Letter, NSCP Letter, and Bakerink Letter.
    \78\ See Mortarotti Letter, Lek Letter, Darcy Letter, Jordan 
Letter, Blumenschein Letter, Kosinsky Letter, Roberts Letter, Botzum 
Letter, Busacca Letter, RKeenan Letters I & II, King Letter, Flater 
Letter, Hebert Letter, Schunk Letter, Arnold Letter, High Letter, 
Eitel Letters I & II, Cohen Letter, Vande Weerd Letter, Jester 
Letters I & II, Schultz Letter, Benchmark Letter, Benchmark/Standard 
Letter I, de Leeuw Letter, Elish Letter, Hanson Letter, Horney 
Letter, Mayfield Letter, Solomon Letter, Patterson Letter, Daily 
Letter, Cray Letter, Biddick Letter, Penrod Letter, Spindel Letter, 
Isolano Letter, Lundgren Letters I & II, Haney Letter, Schooler 
Letter, Callaway Letter, John Q Letter, Miller Letters, JKeenan 
Letter, and Massachusetts Letter.
    \79\ See Kramer Letter, IASBDA Letter, and Wachtel Letter.
    \80\ See e.g., Public Members of SICA Letter, Greenberg Letters 
I & II, and Caruso Letter. One commenter who objected to the 
consolidation also argued that investor rights would be reduced by 
cutting the number of arbitration venues in half. See Lundgren 
Letter I. As discussed below, NASD Dispute Resolution responded 
directly to one commenter. See NASD Dispute Resolution Letter I, 
supra note 5.
    \81\ See Johnny Q Member Letters I & II. The Commission also 
received a letter on behalf of Benchmark Financial Services, Inc. 
(``Benchmark'') and Standard Investment Chartered, Inc. 
(``Standard''), forwarding certain documents and pleadings relating 
to the lawsuit filed by Standard against the NASD, the NYSE, and 
three individuals defendants (Mary L. Schapiro, NASD's CEO; Richard 
F. Brueckner, Presiding Governor of the NASD Board of Governors; and 
Barbara Z. Sweeney, NASD's Senior Vice President and Corporate 
Secretary) (collectively, with NASD and NYSE, the ``Defendants'') in 
the U.S. District Court for the Southern District of New York 
(``Standard Lawsuit''). See Benchmark/Standard Letter I.
    The Court recently granted the Defendants' motion to dismiss, 
finding that Standard had failed to exhaust its administrative 
remedies. See Standard Investment Chartered, Inc. v. National 
Association of Securities Dealers, Inc., No. 07-CV-2014 (S.D.N.Y.), 
2007 WL 1296712 (May 2, 2007). On July 13, 2007, the Court denied 
Standard's motion for reconsideration. See Standard Investment 
Chartered, Inc. v. National Association of Securities Dealers, Inc., 
No. 07-CV-2014 (S.D.N.Y.) (July 13, 2007) (denying Plaintiff's 
Motion for Reconsideration of the Court's May 2, 2007 Opinion and 
Order). Standard's complaint alleged seven state law claims: (1) 
That the individual Defendants breached fiduciary duties to the 
proposed class in negotiating the proposed Transaction and failing 
to disclose all material facts in the proxy statement; (2) that the 
Defendants engaged in negligent misrepresentation with respect to 
the proxy statement; (3) that the NYSE and the individual Defendants 
will be unjustly enriched by the Transaction; (4) that NASD members 
have been denied their right to elect Governors of the NASD in 
violation of Section 211 of the Delaware General Corporation Law, 8 
Del. C. section 211(a); (5) that the Defendants have improperly 
converted or, if the Transaction is effected, will have taken the 
prospective class members' assets and/or ``Member's Equity''; (6) 
that the Defendants have caused a substantial diminution in the 
value of NASD membership, with imminent completion of such 
diminution; and (7) that the Defendants have deprived the 
prospective class members of their voting membership.
    \82\ See Harriman-Thiessen Letter (requesting that the 
Commission determine why NASD member firms voted the way they did), 
Judith Schapiro Letter (see text accompanying infra note 105), 
Schriner Letter (not opposed to reducing regulatory redundancies but 
believes that the proposed combination does not satisfy standards of 
``just and equitable principles of fair trade''), and Hawks Letter 
(see infra note 88).
---------------------------------------------------------------------------

A. Fair Representation

1. Classification of Member Governors
    Some commenters argued that the New SRO should retain the NASD's 
current ``one firm, one vote'' election process, whereby each NASD 
member is currently entitled to vote for the election of all NASD 
Governors (other than the CEO of NASD, the President of NASD 
Regulation, the Chair of the NAC, and, if applicable, a second officer 
of NASD).\83\ In this regard, several commenters argued that the 
proposal would dilute the voting rights of members in New SRO Board 
elections, particularly with respect to small member firms.\84\ These 
commenters also expressed concern that the New SRO By-Laws would result 
in the New SRO's Board being dominated by the large firms at the 
expense of the views and concerns of the small firms.
---------------------------------------------------------------------------

    \83\ See Lek Letter, Kosinsky Letter, Roberts Letter, RKeenan 
Letter II, Miller Letters, Blumenschein Letter, Eitel Letter II, de 
Leeuw Letter, Elish Letter, Patterson Letter, Callaway Letter, 
Isolano Letter, Hebert Letter, Biddick Letter, John Q Letter, and 
Schriner Letter.
    \84\ See Mortarotti Letter, Jordan Letter, Roberts Letter, 
Botzum Letter, Arnold Letter, High Letter, Eitel Letter I, Cohen 
Letter, JKeenan Letter, Schultz Letter, Benchmark Letter, Benchmark/
Standard Letter I (adding Standard to the Benchmark Letter to be an 
additional objector), Solomon Letter, Isolano Letter, Haney Letter, 
Callaway Letter, Cray Letter, Blumenschein Letter, Biddick Letter, 
and Wachtel Letter.
---------------------------------------------------------------------------

    One commenter stated that there has been insufficient review to 
address the concerns of small independent broker-dealers.\85\ One 
commenter maintained that the current NASD By-Laws state that firms, 
not the number of representatives or revenues collected, dictate the 
``one firm, one vote rule.'' \86\ Other commenters argued that the 
proposal is designed to prevent the voices of the small member firms 
from being heard \87\ or to eliminate small firms by escalating the 
cost of doing business.\88\ Commenters also believed that there is no 
rational connection between the ``one firm, one vote'' policy and the 
consolidation of regulatory rules and procedures, arguing that ``the 
NASD Board has used this regulatory consolidation * * * as a means of 
consolidating its power and, in turn, limiting the power of an 
institution that has wholly democratic origins.'' \89\
---------------------------------------------------------------------------

    \85\ See Horney Letter.
    \86\ See Blumenschein Letter.
    \87\ See Callaway Letter.
    \88\ See Haney Letter (defining ``small'' firms as those firms 
with one to ten representatives). Four commenters were concerned 
about burdensome regulation of small broker-dealers generally. See 
Penrod Letter (stating that small broker-dealers might be better off 
forming another organization designed for small broker-dealers), 
Hawks Letter, Roberts Letter, and Callaway Letter.
    \89\ See Benchmark Letter and Benchmark/Standard Letter I 
(adding Standard to the Benchmark Letter to be an additional 
objector). The Benchmark Letter also noted that it does not dispute 
that the regulatory consolidation has some merit. See also Busacca 
Letter (arguing that there was no specific reason given by the NASD 
or NYSE for ``member firms * * * surrender[ing] their right to vote 
for their Board of Governors'').
---------------------------------------------------------------------------

    The FSI, along with two other commenters, expressly supported the 
proposed New SRO By-Laws, noting that the New SRO By-Laws would provide 
for effective, diverse representation of all members of the securities 
industry on the New SRO Board.\90\ These commenters believed that the 
proposal is a reasonable way to maintain proper representation on the

[[Page 42176]]

New SRO Board. The FSI also believed that the New SRO's governance 
structure is designed to insure that neither the largest nor the 
smallest broker-dealer firms can dominate the New SRO Board.\91\ 
Another commenter, which identified itself as a small broker-dealer, 
supported the proposal and argued that small members would have 
increased representation on the New SRO Board as a result of the 
increase in their representation to three seats from the current one 
seat.\92\
---------------------------------------------------------------------------

    \90\ See Castiglioni Letter, FSI Letter, and Bakerink Letter.
    \91\ See FSI Letter.
    \92\ See Moloney Letter.
---------------------------------------------------------------------------

2. Appointed Governors
    Commenters were concerned that the majority of the Governors 
serving on the New SRO Board would be appointed by the New SRO Board 
itself and would not be elected by member firms.\93\ Similarly, some 
commenters objected to members no longer having the right to vote for 
all Governors.\94\ In addition, one commenter argued that the New SRO 
Board structure could create a ``self-perpetuating'' club in which the 
New SRO Board's Governors would not be held accountable to serve the 
members' needs.\95\
---------------------------------------------------------------------------

    \93\ See Lek Letter, RKeenan Letters I & II, Hebert Letter, 
Mayfield Letter, Blumenschein Letter, Eitel Letter II, de Leeuw 
Letter, Elish Letter, Patterson Letter, Schriner Letter, Roberts 
Letter, and Biddick Letter.
    \94\ See Kramer Letter and Hebert Letter.
    \95\ See Wachtel Letter.
---------------------------------------------------------------------------

    Some of these commenters maintained that the appointment of 
Governors is contrary to good corporate governance and questioned the 
independence and accountability of the appointed Governors.\96\ Another 
commenter was concerned that the Public Governors would be appointed by 
the securities industry representatives on the Board.\97\ This 
commenter believed that Public Governors should be chosen by the 
investing public or their representatives which would ensure that the 
views of investors would be heard and that their interests would be 
protected.\98\
---------------------------------------------------------------------------

    \96\ See Mayfield Letter, Isolano Letter, Hebert Letter, Wachtel 
Letter, and Lek Letter.
    \97\ See Massachusetts Letter.
    \98\ Id.
---------------------------------------------------------------------------

3. Industry Representation
    A number of commenters objected to the proposed composition of the 
New SRO Board for failing to include more industry representatives to 
serve as Governors.\99\ These commenters stated that the ten Governor 
positions allocated to industry representatives are insufficient. These 
commenters also opined that the lack of industry representatives on the 
Board would defeat the purpose of self-regulation.
---------------------------------------------------------------------------

    \99\ See, e.g., Roberts Letter, Busacca Letter, Blumenschein 
Letter, and Miller Letters.
---------------------------------------------------------------------------

    In contrast, one commenter stated that the New SRO Board structure 
would have too many industry representatives and not enough Public 
Governors.\100\ This commenter noted that, because the New SRO Board 
would include ten Industry Governors as well as representatives of the 
NASD and NYSE Group on an ex officio basis, Governors who are from the 
securities industry would outnumber the Public Governors on the New SRO 
Board. Another commenter added that, because the current NASD 
definition of Public Governors would be amended, any ex-industry 
official or ex-industry regulator would be eligible to be a Public 
Governor, thereby biasing the New SRO Board toward industry 
interests.\101\
---------------------------------------------------------------------------

    \100\ See Massachusetts Letter.
    \101\ See Blumenschein Letter.
---------------------------------------------------------------------------

    Several commenters supported the regulatory consolidation, noting 
that the proposed amendments are intended to maintain adequate 
representation on the New SRO Board for industry members.\102\ Two 
commenters noted that the proposed composition of the industry members 
on the New SRO Board and in New SRO Board committees appears to promote 
diversity among industry representation on the Board.\103\ Another 
commenter indicated that balanced representation of industry and non-
industry members, as well as large and small firms, would reflect a 
broad spectrum of industry experience and would preserve the 
constructive feedback of non-industry participants.\104\
---------------------------------------------------------------------------

    \102\ See NAIBD Letter, Vanguard Letter, Moloney Letter, and FSI 
Letter.
    \103\ See NAIBD Letter and FSI Letter.
    \104\ See Vanguard Letter.
---------------------------------------------------------------------------

    One commenter noted confusion about the proposed rule change 
regarding the eligibility for the ``Independent Dealer/Insurance 
Affiliate Governor'' and ``Investment Company Affiliate Governor'' 
positions.\105\
---------------------------------------------------------------------------

    \105\ See Judith Schapiro Letter.
---------------------------------------------------------------------------

B. State Law and Proxy

1. Timing
    Several commenters claimed that the proxy process was rushed, which 
forced members to make quick and uninformed decisions.\106\ Other 
commenters stated that the proxy process was deceptive because it was 
held over the holiday season and involved alleged procedural omissions 
and coercive tactics by the NASD, including the threat of Commission 
action if the By-Law revisions were not approved.\107\ Another 
commenter did not dispute the results of the vote but expressed 
concerns about the lack of discussion of alternative ways to structure 
the New SRO Board.\108\
---------------------------------------------------------------------------

    \106\ See Mortarotti Letter, Jordan Letter, Busacca Letter, 
Schunk Letter, and Cray Letter.
    \107\ See Benchmark Letter, Benchmark/Standard Letter I (adding 
Standard to the Benchmark Letter to be an additional objector), 
Daily Letter, Cray Letter, Eitel Letter I, Miller Letters, and John 
Q Letter.
    \108\ See IASBDA Letter.
---------------------------------------------------------------------------

    In addition, a few commenters claimed that the NASD did not present 
the New SRO By-Laws to the NASD membership for a vote quickly enough, 
thereby violating current NASD By-Laws that require a membership vote 
within 30 days of the submission of the proposal to the 
membership.\109\
---------------------------------------------------------------------------

    \109\ See Jester Letter I, Miller Letters, and Blumenschein 
Letter. In response to the NASD Response Letter, Jester submitted a 
supplemental comment letter, asserting that the NASD was still 
required to comply with Article XVI of the NASD By-Laws which 
requires that By-Law amendments must be approved within 30 days of 
the submission of the proposal to the membership, even if the By-Law 
amendments are approved at a special meeting. See Jester Letter II.
---------------------------------------------------------------------------

2. Disclosure
    Several commenters questioned the adequacy of the proxy 
statement.\110\ These commenters indicated that oral statements made by 
NASD staff were not contained in the proxy statement, such as 
representations that the Commission would force consolidation in the 
event the members did not support the proposal \111\ and that the NYSE 
required the New SRO By-Law provisions.\112\ Two other commenters 
stated that the proxy statement failed to explain why the merger is 
connected to the governance changes, specifically the one firm, one 
vote policy.\113\ These commenters also believed that the transaction 
is unfair to the NASD members who are not also NYSE members.\114\ 
Another commenter objected to the proposed payments to the NYSE and 
believed that proposed

[[Page 42177]]

consolidation needed more study by the current NASD members.\115\
---------------------------------------------------------------------------

    \110\ See Darcy Letter, Roberts Letter, Busacca Letter, 
Benchmark Letter, Benchmark/Standard Letter I (adding Standard to 
the Benchmark Letter to be an additional objector), Benchmark/
Standard Letter II, Cray Letter, Spindel Letter, and Schriner 
Letter.
    \111\ See Roberts Letter, Blumenschein Letter, Eitel Letter II, 
de Leeuw Letter, Elish Letter, Patterson Letter, Biddick Letter, 
Wachtel Letter, Isolano Letter, and Miller Letters.
    \112\ See Wachtel Letter.
    \113\ See Benchmark Letter and Benchmark/Standard Letter I 
(adding Standard to the Benchmark Letter to be an additional 
objector). Some commenters also noted that they were unable to get 
answers to their questions about the consolidation from the NASD. 
See, e.g., Miller Letters.
    \114\ Id.
    \115\ See Kramer Letter.
---------------------------------------------------------------------------

3. Payment of $35,000
    Several commenters questioned the calculation and origin of the 
$35,000 one-time payment to the NASD members.\116\ Two commenters 
specifically posited whether the representation by the NASD that the 
payment came from reduced costs is misleading.\117\ Other commenters 
expressed concern that the $35,000 amount appears arbitrary and may 
have been calculated based on financial information the NASD knows 
about its member firms.\118\ One commenter believed that the $35,000 is 
a fraction of the value of the NASD,\119\ while other commenters wanted 
an explanation as to why a larger payment to members is not 
possible.\120\ One of these commenters submitted a supplemental comment 
letter in response to the discussion of the proposed $35,000 payment to 
NASD members in the NASD Response Letter.\121\ This commenter stated 
that, from the perspective of an NASD member, the focus of the proxy 
statement was ``the fundamental change in members' voting rights and 
the $35,000 that each member is to receive in exchange for 
`surrendering' members' equity valued at as much as $300,000, or more, 
per NASD member.'' \122\ The commenter believed that the discussion of 
the $35,000 in the proposed rule change was inadequate, and stated that 
the Commission ``should disapprove the rule change, re-notice the issue 
properly or limit its findings to the issues it noticed.'' \123\
---------------------------------------------------------------------------

    \116\ See Kosinsky Letter, Busacca Letter, Benchmark Letter, 
Benchmark/Standard Letter I (adding Standard to the Benchmark Letter 
to be an additional objector), Benchmark/Standard Letter II, Daily 
Letter, Miller Letters, Wachtel Letter, John Q Letter, and Schriner 
Letter.
    \117\ See Busacca Letter and Schriner Letter.
    \118\ See Isolano Letter, Blumenschein Letter, Eitel Letter II, 
de Leeuw Letter, Elish Letter, Patterson Letter, and Biddick Letter.
    \119\ See Lundgren Letter I.
    \120\ See Benchmark Letter, Benchmark/Standard Letter I (adding 
Standard to the Benchmark Letter to be an additional objector), and 
Benchmark/Standard Letter II.
    \121\ See Benchmark/Standard Letter II.
    \122\ Id. (also noting that at least 22 comments mentioned or 
raised issues relating to the $35,000 payment, which, according to 
the commenter, ``clearly demonstrate the materiality of the 
representations about the $35,000 payment'').
    \123\ Id.
---------------------------------------------------------------------------

    Some commenters questioned whether the payment was an improper 
inducement to members in order to obtain their vote.\124\ One commenter 
expressed its concern that NASD member firms would receive funds for 
voting in favor of the consolidation, while public investors would not 
receive any financial benefit from the anticipated cost savings.\125\ 
Commenters also inquired whether a fairness opinion was done in 
connection with the consolidation or the $35,000 payment \126\ and 
whether the Internal Revenue Service gave a legal opinion on this 
payment.\127\
---------------------------------------------------------------------------

    \124\ See Eitel Letter II, Blumenschein Letter, Busacca Letter, 
Isolano Letter, Spindel Letter, Elish Letter, de Leeuw Letter, 
Patterson Letter, and Biddick Letter.
    \125\ See Caruso Letter.
    \126\ See Cohen Letter, Lundgren Letter I, and Miller Letters.
    \127\ See Daily Letter.
---------------------------------------------------------------------------

    Two commenters believed that the monetary aspect of the proposed 
consolidation is simply a return of monies to the members for increased 
efficiency.\128\ One of these commenters, which identified itself as a 
small NASD member firm, believed that the $35,000 payment would benefit 
many of the small firms financially.\129\ This commenter did not 
believe that members' votes were bought or that members had given up 
voting rights because members retain a vote on any future By-Law 
changes.\130\
---------------------------------------------------------------------------

    \128\ See Moloney Letter and FSI Letter.
    \129\ See Moloney Letter.
    \130\ Id.
---------------------------------------------------------------------------

4. Delaware Law
    One commenter argued that the proposal violates Delaware law 
because the omission in the proxy materials of the merger contract 
between NYSE and NASD makes the transaction illegal.\131\ This 
commenter further believed that the proposed merger may have violated 
Delaware law by providing a proxy statement that allegedly had 
conclusory, one-sided statements.\132\
---------------------------------------------------------------------------

    \131\ See Cray Letter.
    \132\ Id.
---------------------------------------------------------------------------

    Another commenter argued that NASD violated Delaware law because it 
has not held an annual meeting in 13 months, which, according to the 
commenter, is required under Delaware law.\133\ Another commenter 
stated that the proposed combination, ``by combining under current 
unknown By-Laws,'' violates the NASD's charter as stated on August 7, 
1936.\134\
---------------------------------------------------------------------------

    \133\ See John Q Letter.
    \134\ See Blumenschein Letter.
---------------------------------------------------------------------------

5. Antitrust Laws
    Some commenters posited that the proposal violates antitrust 
laws.\135\
---------------------------------------------------------------------------

    \135\ See Blumenschein Letter, Eitel Letter II, de Leeuw Letter, 
Elish Letter, Patterson Letter, and Biddick Letter.
---------------------------------------------------------------------------

C. Efficiency and Investor Protection

1. Efficiency
    Some commenters explicitly questioned the benefits of the proposed 
consolidation.\136\ Three commenters argued that the consolidation 
would benefit mainly the larger firms;\137\ two commenters noted 
specifically that firms should not have to incur costs to make changes 
in advertising, letterhead, and signage because the proposal mainly 
would benefit the larger firms.\138\ Several commenters argued that the 
proposal would benefit the larger firms, while being disruptive to 
small broker-dealers.\139\
---------------------------------------------------------------------------

    \136\ See RKeenan Letter I, Mayfield Letter, and Schooler 
Letter.
    \137\ See Vande Weerd Letter, Isolano Letter, and Eitel Letter 
II.
    \138\ See Flater Letter (also noting that the $35,000 payment 
does not cover the cost of these changes) and Vande Weerd Letter.
    \139\ See Schooler Letter, Biddick Letter, de Leeuw Letter, 
Eitel Letter II, Elish Letter, Blumenschein Letter, Isolano Letter, 
and Patterson Letter.
---------------------------------------------------------------------------

    One commenter did not believe that the merger would be effective in 
reducing duplicative regulation because there are only about 170 firms 
subject to both NASD and NYSE rules.\140\ The commenter believed that 
it would be easier for those 170 firms to be regulated by NYSE than to 
effect the consolidation solely for the benefit of those 170 
firms.\141\ One commenter argued that the merger is unnecessary because 
most firms already belong to the NASD.\142\
---------------------------------------------------------------------------

    \140\ See Spindel Letter.
    \141\ Id.
    \142\ See Hebert Letter.
---------------------------------------------------------------------------

    Commenters who supported the proposal believed that the proposed 
consolidation would benefit investors by streamlining regulation and 
simplifying compliance with a uniform set of regulations \143\ or by 
increasing efficiency.\144\ In this regard, some of these commenters 
believed that the use of two distinct rulebooks has caused unnecessary 
redundancy, complication, and conflict, which in their view undermines 
basic SRO objectives of effectively and efficiently protecting the 
capital markets and investors.\145\ In addition, two commenters 
believed that combining the conflicting rules of the two SROs into one 
set of rules and

[[Page 42178]]

eliminating inconsistent interpretations would be benefit both large 
and small firms.\146\
---------------------------------------------------------------------------

    \143\ See Vanguard Letter, SIFMA Letter, Stringer Letter, 
Bakerink Letter, NSCP Letter, and FSI Letter. In addition, six 
commenters stated their agreement with SIFMA's Letter. See Casady 
Letter, Alsover Letter, Johnstone Letter, Robertson Letter, 
Mungenast Letter, and Pictor Letter.
    \144\ See Moloney Letter, Kirk Letter, Castiglioni Letter, and 
NAIBD Letter.
    \145\ See Vanguard Letter, SIFMA Letter, and NSCP Letter. In 
addition, seven commenters stated their agreement with SIFMA's 
Letter. See Casady Letter, Alsover Letter, Johnstone Letter, 
Robertson Letter, Mungenast Letter, Stringer Letter, and Pictor 
Letter.
    \146\ See Bakerink Letter and Vanguard Letter.
---------------------------------------------------------------------------

2. Investor Protection
    Some commenters noted that having one less regulator overseeing the 
securities firms that deal with the public would harm investors.\147\ 
One commenter likened the regulatory consolidation to reducing the 
number of ``police departments'' that oversee the markets.\148\ Another 
commenter stated that the proposal would remove any competitiveness 
between the two SROs and any choice that firms would have.\149\ Yet 
another commenter added that having two independent regulatory entities 
would create advantages from a regulatory point of view.\150\ This 
commenter noted that the NASD and NYSE are able to bring distinct 
perspectives to regulating their member firms and that such 
independence is vital to preventing SROs and other regulators from 
becoming myopic about certain regulatory issues. On the other hand, one 
commenter believed that the proposed structure would offer the best 
opportunity for balanced and effective regulation in furtherance of 
customer protection.\151\
---------------------------------------------------------------------------

    \147\ See King Letter, Eitel Letter II, de Leeuw Letter, Elish 
Letter, Patterson Letter, Biddick Letter, and Massachusetts Letter.
    \148\ See King Letter.
    \149\ See Schooler Letter.
    \150\ See Massachusetts Letter.
    \151\ See FSI Letter.
---------------------------------------------------------------------------

    Other commenters believed that the proposal overlooked investor 
interests because of the failure to include investors in the merger 
talks,\152\ the lack of accountability and control over NASD/NYSE 
management by owners,\153\ and the conflict of interest on the part of 
the NASD management because of benefits they may receive in connection 
with the merger.\154\ Other commenters questioned the effectiveness of 
the regulatory oversight of a board whose members are directly funded 
by the persons they are regulating.\155\
---------------------------------------------------------------------------

    \152\ See King Letter. One commenter who supported the 
consolidation urged that compliance professionals be included in the 
consolidation process. See NSCP Letter.
    \153\ See Lundgren Letter I.
    \154\ See Lundgren Letter II, Eitel Letter II, de Leeuw Letter, 
Biddick Letter, Elish Letter, Isolano, and Patterson Letter. Several 
commenters also questioned the compensation packages of the NASD 
management. See, e.g., Isolano Letter, Mayfield Letter, and Daily 
Letter.
    \155\ See Biddick Letter, de Leeuw Letter, Eitel Letter II, 
Elish Letter, Isolano Letter, and Patterson Letter.
---------------------------------------------------------------------------

D. Arbitration

    Five commenters focused on the effects the merger may have on the 
arbitration of customers' disputes with their brokers.\156\ One 
commenter urged the Commission to disapprove the merger, stating that 
it would reduce investor rights ``by cutting the number of major 
available arbitration venues in half.''\157\ Another recommended that 
the Commission consider holding public hearings to discuss anticipated 
benefits and detriments of consolidating the NASD and NYSE dispute 
resolution forums before approving the merger.\158\
---------------------------------------------------------------------------

    \156\ See Caruso Letter, Greenberg Letters I & II, Lundgren 
Letter, Massachusetts Letter, and Public Members of SICA Letter.
    \157\ See Lundgren Letter.
    \158\ See Caruso Letter.
---------------------------------------------------------------------------

    One commenter expressed the view that a single SRO arbitration 
forum will heighten public investors' suspicion that SRO arbitration is 
``less than independent and hence less than fair.'' \159\ This 
commenter suggested either creating an ``independent securities 
arbitration forum, with SEC oversight and public investor and 
securities industry participation'' or providing that public investors 
may choose between resolving their disputes in court or in arbitration. 
In addition, this commenter stated that the role of the Securities 
Industry Conference on Arbitration (``SICA'') should be strengthened 
and that public members should compose at least one half of the voting 
members of SICA.
---------------------------------------------------------------------------

    \159\ See Public Members of SICA Letter.
---------------------------------------------------------------------------

    Another commenter cited those views with approval, stating that 
combining the NASD and NYSE arbitration forum is ``not desirable'' and 
called for changes in the arbitration system ``to make it fairer to 
investors'' including the elimination of ``industry'' arbitrators.\160\ 
This commenter also expressed concern about the use of dispositive 
motions in SRO arbitration and stated that the New SRO should 
incorporate the relevant NYSE rule rather than the NASD rule in its 
arbitration code.
---------------------------------------------------------------------------

    \160\ See Massachusetts Letter.
---------------------------------------------------------------------------

    One commenter noted that the NASD and NYSE forums have different 
rules, procedures, and administrative practices, and stated this ``can 
often have a significant procedural impact on an arbitration 
proceeding.'' \161\ Expressing skepticism that a single forum will 
provide ``any recognizable benefits'' for public customers, this 
commenter stated that a ``notable portion of the anticipated cost 
savings'' from the regulatory consolidation should be allocated toward 
the reduction of public investors' filing, administrative and forum 
fees.
---------------------------------------------------------------------------

    \161\ See Caruso Letter.
---------------------------------------------------------------------------

    As discussed more fully below, NASD responded to comments, in part, 
by citing studies and reports analyzing its arbitration forum, and 
noting that it is subject to SEC oversight, including through 
inspections and the rule approval process.\162\ One commenter 
questioned the methodology and impartiality of the studies and reports, 
as well as the efficacy of SEC oversight.\163\ This commenter also 
noted that he had filed a petition for rulemaking with the Commission 
calling for a number of changes in arbitration rules and stated that 
these changes would ``correct many aspects of the arbitration process, 
which make the process unfair to the investing public.'' \164\
---------------------------------------------------------------------------

    \162\ See NASD Dispute Resolution Letter, supra note 5.
    \163\ See Greenberg Letters I & II.
    \164\ Id. See also Request for rulemaking under the Securities 
Exchange Act of 1934 concerning arbitration sponsored by NASD 
Dispute Resolution, Submitted by Les Greenberg, Esq., File No. 4-502 
(May 13, 2005).
---------------------------------------------------------------------------

E. Other Matters

1. Request for Delay
    Several commenters argued that the proposal should be put on hold 
for one year,\165\ while two other commenters \166\ suggested tabling 
the proposal until after the resolution of the Standard Lawsuit.\167\ 
Another commenter suggested that the Commission could approve the 
consolidation but require another vote in three years on the 
composition of the New SRO Board, after the firms and the public have 
had a chance to evaluate the effects of the merger.\168\ This commenter 
did not express concern about the voting results

[[Page 42179]]

but about the lack of any discussion of other alternatives to the New 
SRO Board's composition.\169\
---------------------------------------------------------------------------

    \165\ See Busacca Letter. Three commenters argued that the 
proposal should be put on hold and membership should be consulted 
and given the opportunity for input. See also Miller Letters, Kramer 
Letter, and Hebert Letter.
    \166\ See Benchmark Letter and Benchmark/Standard Letter I 
(adding Standard to the Benchmark Letter to be an additional 
objector).
    \167\ The Court recently granted the Defendants' motion to 
dismiss, finding that Standard had failed to exhaust its 
administrative remedies. See Standard Investment Chartered, Inc. v. 
National Association of Securities Dealers, Inc., No. 07-CV-2014 
(S.D.N.Y.), 2007 WL 1296712 (May 2, 2007). According to the 
Benchmark/Standard Letter II, the Plaintiffs filed a motion for 
reconsideration on May 17, 2007. See supra note 81. On July 13, 
2007, the Court denied Standard's motion for reconsideration. See 
Standard Investment Chartered, Inc. v. National Association of 
Securities Dealers, Inc., No. 07-CV-2014 (S.D.N.Y.) (July 13, 2007) 
(denying Plaintiff's Motion for Reconsideration of the Court's May 
2, 2007 Opinion and Order).
    \168\ See IASBDA Letter. This commenter argued that a 
reassessment in three years might ``possibly calm the concerns of a 
large number of small firms. . .which feel disenfranchised by a 
process that shows no discussion of alternatives.''
    \169\ Id. A commenter suggested that, in lieu of this proposed 
rule change, it would be ``easier for those firms that are currently 
regulated by NYSE to simply not be regulated by NASD at all and to 
instead be regulated by NYSE staff using current SEC and NYSE rules 
which could be supplemented by NYSE adopting many of the current 
NASD rules to which the large New York Stock Exchange member 
organizations must currently comply, since they are also NASD 
members.'' See Spindel Letter.
---------------------------------------------------------------------------

    Other commenters believed that the proposed regulatory 
consolidation should occur as soon as practicable or in the timeframe 
announced by the NASD and NYSE Group.\170\ One of these commenters 
believed that the regulatory consolidation should proceed because a 
majority of the members already have given their approval to the 
proposed regulatory consolidation.\171\
---------------------------------------------------------------------------

    \170\ See Johnstone Letter, Casady Letter, SIFMA Letter, Moloney 
Letter, Stringer Letter, Alsover Letter, Robertson Letter, and 
Pictor Letter.
    \171\ See Moloney Letter.
---------------------------------------------------------------------------

2. Public Hearing
    Two commenters urged the Commission to consider the proposal at a 
public hearing.\172\ As noted above, one of these commenters 
recommended that the Commission consider holding public hearings to 
discuss anticipated benefits and detriments of consolidating the NASD 
and NYSE dispute resolution forums before approving the 
consolidation.\173\ Another commenter stated that the Commission and 
government oversight committees should be part of the discussion of the 
consolidation.\174\
---------------------------------------------------------------------------

    \172\ See Harriman-Thiessen Letter and Caruso Letter.
    \173\ See Caruso Letter.
    \174\ See Darcy Letter.
---------------------------------------------------------------------------

IV. NASD Response to the Comment Letters

    NASD submitted two letters to respond to issues raised by the 
commenters, including the proposed governance structure, the proxy 
statement, the approval process for the By-Law amendments, and the 
$35,000 payment.\175\ NASD also submitted two letters providing 
opinions of counsel with respect to the approval process of the By-Law 
amendments and the $35,000 payment.\176\ In two separate letters, NASD 
Dispute Resolution responded to comments regarding the effects of the 
consolidation on arbitration of customers' disputes with member firms.
---------------------------------------------------------------------------

    \175\ See NASD Response Letter and NASD Supplemental Response 
Letter, supra note 5.
    \176\ See RLF Letter and DPW Letter, supra note 5.
---------------------------------------------------------------------------

A. Fair Representation

    NASD stated that the proposed rule change was designed to provide a 
``carefully balanced and calibrated governance structure that was 
approved by a majority of the membership,'' rather than the existing 
NASD governance structure preferred by a number of commenters.\177\ 
NASD stated that the proposed By-Law changes satisfy the statutory 
requirement for ``fair representation'' pursuant to Section 15A(b)(4) 
of the Exchange Act.\178\
---------------------------------------------------------------------------

    \177\ NASD Response Letter, supra note 5, at 4.
    \178\ Id. at 4-5.
---------------------------------------------------------------------------

1. Industry Representation and Classification of Governors
    In response to commenters who contended that the New SRO Board 
would have insufficient industry representation, NASD stated that the 
proposal ``ensures substantial industry representation, while still 
maintaining the overall independence of the New SRO Board and the 
numerical dominance of Public Governors'' and ``comfortably fits within 
the parameters the Commission has previously articulated to comply with 
the fair representation requirement.'' \179\ Specifically, NASD noted 
that 40% of the New SRO Board would be composed of industry 
representatives.\180\ NASD also noted that the member representation on 
the New SRO Board would exceed the member representation of The NASDAQ 
Stock Market LLC (``Nasdaq'') (whose Board is composed of 20% member 
representatives), NYSE LLC (whose Board is wholly independent), NYSE 
Regulation (whose Board is wholly independent \181\), and would be 
comparable to member representation of the Chicago Stock Exchange 
(``CHX'') (twelve directors, of which five are ``participants'') and 
the International Securities Exchange LLC (``ISE'') (14 directors, of 
which six are market participants allocated by business types).\182\
---------------------------------------------------------------------------

    \179\ Id. at 5.
    \180\ Id.
    \181\ The Commission notes that all of the directors on the 
Board of NYSE Regulation, with the exception of the Chief Executive 
Officer, must qualify as independent under the independence policy 
of the board of directors of NYSE Euronext. See Second Amended and 
Restated By-Laws of NYSE Regulation, Inc., Article III, Section 1.
    \182\ NASD Response Letter, supra note 5, at 5-7. In addition to 
the 14 directors cited in the NASD Response Letter, the Commission 
notes that the President and CEO of ISE also serves on the ISE Board 
of Directors for a total of 15 directors. See ISE Constitution, 
Article III, Section 3.2.
---------------------------------------------------------------------------

    In response to commenters who stated that the proposed rule change 
would abolish the current ``one-member-one-vote'' governance structure 
and the existing right to elect all of the NASD Board seats (with the 
exception of the Chair of the National Adjudicatory Council and the 
NASD CEO, who hold seats based on position), NASD stated that the 
proposed governance structure ensures diversity of member 
representation on the New SRO Board by guaranteeing certain seats for 
different size firms and those with particular business models.\183\ In 
this regard, NASD noted that small firm representation would increase 
from one to three guaranteed seats.\184\ NASD also noted that the 
``proposed composition of and selection process for the Small Firm 
Governors and Large Firm Governors are identical, ensuring fairness and 
balance between those firms that make up the largest percentage of 
membership and those firms that employ the largest percentage of the 
registered representative population.''\185\
---------------------------------------------------------------------------

    \183\ NASD Response Letter, supra note 5, at 5.
    \184\ Id.
    \185\ Id.
---------------------------------------------------------------------------

    NASD noted that the ``New SRO intends to maintain additional member 
involvement in the administration of the New SRO's affairs through 
representation on District Committees, Standing Committees, the 
Advisory Council (consisting of the Chairs of the District Committees 
and the Market Regulation Committee), the Small Firm Advisory Board, 
disciplinary panels and the National Adjudicatory Council.'' \186\ NASD 
also noted that the amended By-Law changes would maintain a one-member-
one-vote-system for all future By-Law changes.\187\
---------------------------------------------------------------------------

    \186\ Id. at 6.
    \187\ Id. at 5.
---------------------------------------------------------------------------

    Finally, NASD noted its belief that the presence of no fewer than 
eleven Public Governors, none of which may have a material relationship 
with a broker or dealer or registered SRO, satisfies the requirement to 
have at least one director representative of issuers and 
investors.\188\
---------------------------------------------------------------------------

    \188\ Id.
---------------------------------------------------------------------------

2. Appointed Governors
    In response to commenters who objected to the number of Governors 
who would be appointed rather than elected, NASD believed that these 
commenters failed to appreciate that the proposed governance structure 
``strikes a balance between the necessity of overall independence and 
the desire for substantial, meaningful and diverse industry 
representation.'' \189\ NASD noted that the proposal provides for the

[[Page 42180]]

``Small Firm, Mid-Size Firm, and Large Firm Governors to be elected by 
firms of corresponding size, each with an equal vote.'' NASD also noted 
that the proposal exceeds the representation and participation 
requirements of other SROs whose governance rules have previously been 
approved by the Commission. Specifically, NASD noted that the business 
combination between New York Stock Exchange, Inc. (``NYSE Inc.'') and 
Archipelago Holdings, Inc. satisfied a parallel fair representation 
standard pursuant to Section 6(b)(3) of the Exchange Act with the 
requirement that members could elect 20% of the boards of New York 
Stock Exchange LLC and NYSE Regulation and a provision allowing members 
to nominate directly candidates for those seats through a petition 
process.\190\ NASD stated that the New SRO By-Laws would allow members 
to elect at least 28% of the total number of directors on the 
Board.\191\ NASD noted that members may petition to place alternative 
candidates on the ballot for their respective member-elected seats.
---------------------------------------------------------------------------

    \189\ Id. at 6.
    \190\ Id. at 5.
    \191\ Id.
---------------------------------------------------------------------------

    NASD noted that the proposed rule change provides for three 
additional industry seats, namely, the Investment Company Affiliate 
Governor, Independent Dealer/Insurance Affiliate Governor, and Floor 
Member Governor.\192\ Moreover, NASD has committed that the Charter of 
the New SRO's Nominating Committee provides that at least 20% of the 
Committee will be composed of Industry Governors that are associated 
with New SRO members.\193\ According to NASD, as a trade-off to 
substantial industry participation on the Board and to maintain its 
overall independence, ``it is reasonable and sensible to ensure that 
public members are selected by a nominating committee and that the 
Board is not dominated by the industry.'' \194\ NASD noted that the 
three appointed Industry Governors represent seats with distinct 
business models and that are important in informing the Board's 
deliberations.\195\
---------------------------------------------------------------------------

    \192\ Id. at 7.
    \193\ NASD Supplemental Response Letter, supra note 5, at 4. 
NASD also noted that the proposal establishes a Nominating Committee 
that would nominate candidates for each seat other than that of the 
CEO. The Nominating Committee would be a subset of the Board 
determined in number and composition by the Board from time to time, 
provided that the number of Public Governors on the committee must 
always exceed the number of Industry Governors on it. NASD Response 
Letter, supra note 5, at 6.
    \194\ NASD Response Letter, supra note 5, at 7.
    \195\ Id.
---------------------------------------------------------------------------

B. State Law and Proxy

    In response to some commenters who contended that NASD failed to 
follow its existing procedures for adopting By-Law amendments, 
specifically obtaining approval within the 30-day timeframe as set 
forth in Article XVI of the NASD By-Laws,\196\ NASD stated that it 
acted in a manner consistent with state law, which provides alternative 
means to propose and adopt certain corporate governance changes. NASD 
stated that Article XVI of the NASD By-Laws is not an exclusive means 
by which member approval of amendments to the By-Laws can be obtained. 
NASD noted that ``[m]embers of a Delaware non-stock corporation, 
including NASD, may take action at an annual or special meeting held 
pursuant to 8 Del. C. Sec.  211(a) or, unless otherwise restricted by 
such corporation's certificate of incorporation, by written consent 
pursuant to 8 Del. C. Sec.  228.'' NASD explained that, under this 
authority, it convened a special meeting of NASD members pursuant to 
Article XXI of the NASD By-Laws at which the New SRO By-Law amendments 
were approved.\197\ In addition, to further support its position, NASD 
submitted an opinion of counsel that, under Delaware law, ``it is 
within the authority of the Members to approve proposed amendments to 
the By-Laws * * * at a special meeting held more than thirty days after 
the proposed By-Laws had been submitted to the Members,'' and that the 
vote of NASD members ``was a valid exercise'' of the members'' 
franchise rights and authorized by Delaware law.\198\
---------------------------------------------------------------------------

    \196\ Article XVI of the NASD By-Laws provides that amendments 
to the NASD By-Laws could become effective as of a date prescribed 
by the NASD Board, if the amendment is approved by a majority of the 
members voting within 30 days after the date of submission to the 
membership, and is approved by the Commission.
    \197\ See NASD Response Letter, supra note 5, at 7.
    \198\ See RLF Letter, supra note 5.
---------------------------------------------------------------------------

    NASD took issue with the view of several commenters that the proxy 
was incomplete or that certain statements by NASD management regarding 
the potential consequences of failing to approve the proposed By-Law 
changes were misleading.\199\ NASD noted that all the issues raised by 
the commenters were subject to lively debate in advance of the member 
vote. Specifically, members received communications from both the NASD 
and groups opposing the transaction over a five week period that 
included ``28 town hall meetings, conference calls, mailings, emails, 
and telephone calls.'' \200\ NASD stated that it ``provided access to 
its members contact list to groups opposing the transaction, and 
thereby afforded these groups the opportunity to raise all of the 
issues to the membership,'' who approved the By-Law amendments after 
considering all of these arguments.\201\ In addition, NASD noted that 
the ``proxy statement contained an extensive discussion of the 
negotiations with NYSE Group, the rationale for the $35,000 payment, 
and how the By-Law changes would affect the voting rights of NASD 
members.'' \202\ NASD maintained that the statements made prior to the 
member vote were consistent with the proxy statement.\203\
---------------------------------------------------------------------------

    \199\ See NASD Response Letter, supra note 5, at 8-9.
    \200\ Id. at 9.
    \201\ Id.
    \202\ Id.
    \203\ Id.
---------------------------------------------------------------------------

    In response to commenters' concerns regarding the amount of the 
$35,000 payment to be made to members upon the Closing of the 
Transaction, NASD noted that the proxy statement disclosed that the 
$35,000 payment was based on the expected future incremental cash flows 
that would result from the regulatory consolidation and was consistent 
with public guidance from the Internal Revenue Service (``IRS'').\204\ 
In the NASD Supplemental Response Letter, NASD stated that its 
Certificate of Incorporation prohibits NASD from paying dividends to 
its members, and that doing so would result in forfeiture of NASD's 
tax-exempt status under Section 501(c)(6) of the Internal Revenue 
Code.\205\ NASD also explained that the proposed $35,000 member 
payments did not constitute a prohibited dividend or comparable 
distribution, because they ``are based on (and limited by) expected 
future incremental cash flows that would result from the regulatory 
consolidation.'' \206\ Further, NASD stated that ``any direct payment 
unrelated to those efficiencies would be inconsistent with NASD's tax-
exempt status.'' \207\ NASD determined that ``$35,000 was the maximum 
member payment that the IRS could be expected, with a sufficient degree 
of confidence, to approve within the timeframe

[[Page 42181]]

contemplated for the transaction.'' \208\ NASD requested a private 
letter ruling from the IRS approving the proposed regulatory 
consolidation, including the $35,000 payment, and, according to NASD, 
``[i]t was on this basis that the IRS agreed to issue such a ruling.'' 
\209\ NASD explained that ``the proxy materials accurately state that 
member payments in excess of $35,000 could not be possible because such 
a payment, without the IRS's approval, could `seriously jeopardize' 
NASD's tax-exempt status.'' \210\ To further support its position, NASD 
submitted an opinion of its outside tax counsel that described 
generally the case law, statutory provisions, and guidance published by 
the IRS relevant to the disclosure in the NASD's proxy statement, and 
concluded that if NASD had increased the amount of the $35,000 payment, 
there would have been a ``serious risk'' that the IRS would not have 
issued the rulings and that NASD could be found to violate the 
prohibition against private inurement.\211\ In addition, NASD's outside 
Delaware counsel stated that, because the NASD's Certificate of 
Incorporation contains a prohibition against inurement, any payment 
that violates the federal tax code prohibition against inurement would 
also be void under Delaware law.\212\
---------------------------------------------------------------------------

    \204\ Id.
    \205\ See NASD Supplemental Response Letter, supra note 5, at 2 
(citing 26 U.S.C. 501(c)(6) (requirement that ``no part'' of an 
exempt entity's net earnings inure to any private shareholder or 
individual); I.R.S. Gen. Couns. Mem. 39862 (November 22, 1991) 
(``There is no de minimis exception to the inurement 
prohibition.''); see also Spokane Motorcycle Club v. United States, 
222 F. Supp. 15 1, 153-54 (E.D. Wash. 1963) (refreshments provided 
at no cost to club members invalidated tax exemption)).
    \206\ See NASD Supplemental Response Letter, supra note 5, at 2.
    \207\ Id. at 3.
    \208\ Id.
    \209\ Id.
    \210\ Id.
    \211\ See DPW Letter, supra note 5.
    \212\ See RLF Letter, supra note 5, at 5.
---------------------------------------------------------------------------

    In response to a commenter's question about the eligibility for the 
positions of the Investment Company Affiliate Governor and the 
Independent Dealer/Insurance Affiliate Governor, respectively, NASD 
stated that the ``proposed rule change is intended to continue the 
presence on the New SRO Board of representatives from the particular 
business models of independent dealers/insurance companies and 
investment companies and to provide the Nominating Committee the 
flexibility to fill those Board seats with the best available 
candidates affiliated with a firm from those industry segments.'' \213\
---------------------------------------------------------------------------

    \213\ See NASD Response Letter, supra note 5, at 8.
---------------------------------------------------------------------------

C. Efficiency and Investor Protection

    NASD stated that the commenters who stated that the consolidation 
would result in less investor protection by reducing the number and 
diversity of regulators overseeing the industry overstated the value of 
a second, duplicative regulator and understated the benefits of the 
regulatory consolidation.\214\ NASD stated that the combination would 
achieve ``greater efficiencies, clarity and cost savings in the 
regulation of the financial markets'' and that the ``investor 
ultimately would be better protected by a single, more efficient 
regulator administering a single streamlined set of rules with the 
combined resources'' of the two organizations.\215\
---------------------------------------------------------------------------

    \214\ Id.
    \215\ Id.
---------------------------------------------------------------------------

D. Arbitration

    NASD separately addressed comments regarding the merger of the NASD 
and NYSE arbitration forums.\216\ It highlighted the results of studies 
commissioned by NASD\217\ and the Commission\218\ during the past 
decade, which focused on forum users' perceptions of fairness, as well 
as two General Accounting Office reports.\219\ In NASD's view, ``it is 
the quality of the forum that dictates fairness rather than an 
investor's ability to select one dispute resolution forum over 
another.'' \220\ NASD also noted that it currently administers over 94% 
of investor disputes with broker-dealers and that over the past decade 
the Commission has approved consolidation of the arbitration programs 
of other SROs with NASD with no adverse effects.\221\
---------------------------------------------------------------------------

    \216\ See NASD Dispute Resolution Letters I & II, supra note 5.
    \217\ NASD Dispute Resolution Letter I, supra note 5 (citing G. 
Tidwell, K. Foster and M. Hummell, Party Evaluations of Arbitrators: 
An Analysis of Data Collected from NASD Regulation Arbitrations 
(August 5, 1999) http://www.nasd.com/web/groups/med_arb/documents/mediation_arbitration/nasdw_009528.pdf
).

    \218\ NASD Dispute Resolution Letter I, supra note 5 (citing M. 
Perino, Report to the SEC Regarding Arbitrator Conflict Disclosure 
Requirements in NASD and NYSE Securities Arbitrations (November 4, 
2002) http://www.sec.gov/pdf/arbconflict.pdf).

    \219\ NASD Dispute Resolution Letter I, supra note 5 (citing 
Actions Needed to Address Problem of Unpaid Awards, GAO/GGD-00-115 
(June 2000); Securities Arbitration: How Investors Fare, GAO/GGD-92-
74 (May 11, 1992)).
    \220\ See NASD Dispute Resolution Letter I, supra note 5.
    \221\ Id. (citing Securities Exchange Act Release No. 53128 
(January 13, 2006), 71 FR 3550 (January 23, 2006) (approving 
consolidation with Nasdaq); Securities Exchange Act Release No. 
45094 (November 21, 2001), 66 FR 60230 (December 3, 2001) 
(International Securities Exchange); Securities Exchange Act Release 
No. 40622 (October 30, 1998), 63 FR 59819 (November 5, 1998) 
(American Stock Exchange); Securities Exchange Act Release No. 40517 
(October 1, 1998), 63 FR 54177 (October 8, 1998) (Philadelphia Stock 
Exchange); Securities Exchange Act Release No. 39378 (December 1, 
1997), 62 FR 64417 (December 5, 1997) (Municipal Securities 
Rulemaking Board)).
---------------------------------------------------------------------------

    With respect to the independence of its forum--and the suggestion 
for creating an ``independent'' forum--NASD stated that it ``is an 
independent forum.'' \222\ NASD explained that the majority of its 
Dispute Resolution Board and its National Arbitration and Mediation 
Committee are public representatives. It also noted that it is a member 
of SICA. In addition, NASD stressed that it is financially self-
sufficient in that it is funded by fees charged to users of the forum--
broker-dealers, their associated persons, and investors.\223\ In this 
regard, NASD also stated that although the consolidation should result 
in economies of scale and increased efficiencies in administering the 
New SRO arbitration forum, investors do not contribute toward 
administrative costs.\224\ Rather, NASD stated that investors ``pay 
only the marginal (that is, direct) costs attached to their particular 
claim.'' \225\
---------------------------------------------------------------------------

    \222\ NASD Dispute Resolution Letter I, supra note 5.
    \223\ Id.
    \224\ NASD Dispute Resolution Letter II, supra note 5.
    \225\ Id.
---------------------------------------------------------------------------

    Responding to the suggestion that NASD rules provide that public 
investors may choose between resolving their disputes in court or in 
arbitration, NASD cited Shearson/American Express, Inc. v. McMahon\226\ 
and subsequent cases in which the Supreme Court upheld the use of pre-
dispute arbitration agreements. In NASD's view, the commenter's 
proposal ``seeks to overturn federal case law dating back 20 years.'' 
\227\ Moreover, NASD stated that ``[w]hen investors (and other parties) 
were offered a choice of another arbitration forum under the 2000 SICA 
Pilot, there was little interest.'' \228\
---------------------------------------------------------------------------

    \226\ 482 U.S. 220 (1987).
    \227\ NASD Dispute Resolution Letter I, supra note 5.
    \228\ Id. In particular, NASD noted ``[t]he SICA Twelfth Report 
sums up the pilot's results this way: `From its inception, few 
investors (or their attorneys) elected to proceed at a non-SRO 
forum.' Based upon responses to a survey of investors, SICA reported 
that investors' main reasons for not using the alternative forums 
were the higher fees at non-SRO forums, and a general degree of 
comfort with existing and more familiar procedures.''
---------------------------------------------------------------------------

    NASD also noted that it ``continues to make significant 
improvements to the dispute resolution forum to make the process more 
transparent, fair, and efficient for investors and others who use the 
forum.'' \229\ With respect to a comment on the composition of 
arbitration panels, NASD noted that current NASD and NYSE rules provide 
that customer arbitrations are resolved either by a single public 
arbitrator or by a panel of two public and one non-public 
arbitrator.\230\ Moreover, NASD

[[Page 42182]]

stated that it and NYSE are working to harmonize their definitions of 
``public'' and ``non-public'' arbitrators, and any resulting proposed 
rule changes would be filed with the Commission and subject to public 
comment at that time.\231\ With respect to the comments regarding the 
use of dispositive motions at NASD and NYSE, NASD stated that it 
understands that NYSE arbitrators determine whether such motions will 
be heard at a hearing as well as the timing of the hearing. In 
contrast, NASD proposed a specific rule regarding dispositive 
motions.\232\ NASD indicated that it will consider the comments 
pertaining to dispositive motions in the context of that specific rule 
proposal ``and may further amend the proposal.'' \233\
---------------------------------------------------------------------------

    \229\ Id.
    \230\ NASD Dispute Resolution Letter II, supra note 5.
    \231\ Id.
    \232\ Id. (citing Securities Exchange Act Release No. 54360 
(August 24, 2006), 71 FR 51879 (August 31, 2006) (File No. SR-NASD-
2006-088)).
    \233\ NASD Dispute Resolution Letter II,supra note 5.
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V. Discussion

    After careful review, and consideration of commenters' views and 
the NASD's correspondence responding to comments, the Commission finds 
that the proposed rule change is consistent with the requirements of 
the Exchange Act and the rules and regulations thereunder applicable to 
a national securities association.\234\ In particular, the Commission 
finds that the proposed rule change is consistent with Section 
15A(b)(2) of the Exchange Act,\235\ which requires a national 
securities association to be so organized and have the capacity to 
carry out the purposes of the Exchange Act and to enforce compliance by 
its members and persons associated with its members with the provisions 
of the Exchange Act. The Commission also finds that the proposed rule 
change is consistent with Section 15A(b)(4) of the Exchange Act, which 
requires that the rules of a national securities association assure the 
fair representation of its members in the selection of its directors 
and administration of its affairs, and provide that one or more 
directors shall be representative of issuers and investors and not be 
associated with a member of the exchange, broker, or dealer.\236\ 
Further, the Commission finds that the proposed rule change is 
consistent with Section 15A(b)(6) of the Exchange Act,\237\ in that it 
is designed, among other things, to prevent fraudulent and manipulative 
acts and practices; to promote just and equitable principles of trade; 
to remove impediments to and perfect the mechanism of a free and open 
market and a national market system; and, in general, to protect 
investors and the public interest.
---------------------------------------------------------------------------

    \234\ In approving this proposed rule change, the Commission 
notes that it has considered the proposed rule's impact on 
efficiency, competition, and capital formation. See 15 U.S.C. 
78c(f).
    \235\ 15 U.S.C. 78o-3(b)(2).
    \236\ 15 U.S.C. 78o-3(b)(4).
    \237\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

    Self regulation is the cornerstone of the regulatory system 
governing the U.S. securities markets. Over the years, the self-
regulatory system has functioned effectively and has served investors, 
the securities industry, and the government well. However, NASD and 
NYSE and many of their members believe that the current self-regulatory 
system as it applies to member regulation should be simplified and 
duplicative rules and conflicting interpretations of such rules should 
be eliminated. To that end, NASD and NYSE Group have agreed to 
consolidate their regulation of member firms. The proposal before the 
Commission, which would amend the NASD By-Laws to establish the By-Laws 
of the New SRO, is a key component in effectuating this regulatory 
consolidation. These amendments would establish the structure of the 
New SRO, which, among other things, would be responsible for reviewing 
and harmonizing the duplicative NASD and NYSE rules governing member 
firm regulation and conflicting interpretations of those rules. NASD 
stated that it expects the New SRO to submit to the Commission within 
one year of the date of the Closing proposed rule changes that would 
constitute a significant portion of a harmonized rulebook, with the 
remaining rules being submitted to the Commission within two years of 
the Closing.\238\ The Commission has requested that the New SRO provide 
the Commission with quarterly progress reports on the harmonization 
project. In the Commission's view, the consolidation of NASD and NYSE 
member firm regulation should help reduce unnecessary regulatory costs 
while, at the same time, increase regulatory effectiveness and further 
investor protection.
---------------------------------------------------------------------------

    \238\ See NASD Supplemental Response Letter, supra note 5.
---------------------------------------------------------------------------

    The Commission discusses below the significant aspects of the 
proposed amendments to the NASD By-Laws.

A. Fair Representation of Members

1. Introduction
    Section 15A(b)(4) of the Exchange Act \239\ requires that the rules 
of a national securities association assure the fair representation of 
its members in the selection of its directors and administration of its 
affairs. This requirement helps to assure that members have a stake in 
the governance of the national securities association, which is charged 
with self-regulatory responsibilities under the Exchange Act. Under the 
New SRO By-Laws, the New SRO Board initially would consist of eleven 
Public Governors and ten Industry Governors, including a Floor Member 
Governor, an Independent Dealer/Insurance Affiliate Governor, an 
Investment Company Affiliate Governor, three Small Firm Governors, one 
Mid-Size Firm Governor, and three Large Firm Governors.\240\ The CEO of 
the New SRO and, during the Transitional Period, the CEO of NYSE 
Regulation, also would be Governors on the New SRO Board.\241\ The 
three Small Firm Governors, the one Mid-Size Firm Governor, and the 
three Large Firm Governors (collectively, ``Firm Governors'') would be 
elected by the members of the New SRO.\242\ 39 42
---------------------------------------------------------------------------

    \239\ 15 U.S.C. 78o-3(b)(4).
    \240\ See New SRO By-Laws, Article VII, Section 4 and Article 
XXII, Section 2(a).
    \241\ See New SRO By-Laws, Article VII, Section 4, and Article 
XXII, Section 2.
    \242\ See New SRO By-Laws, Article I(z), Article I(dd), Article 
I(xx), and Article VII, Section 4(a).
---------------------------------------------------------------------------

2. Board Composition
i. Classification of Member Governors
    A number of commenters, who are NASD members, argued that the New 
SRO should retain the NASD's current ``one firm, one vote'' election 
process. These commenters contended that they would be disenfranchised 
by the New SRO By-Laws because, instead of being allowed to elect all 
Governors, New SRO members would be allowed to elect only those 
Governors who are from member firms that are comparable in size to 
their own firm.\243\ Other commenters believed that the New SRO By-Laws 
would provide for effective, diverse representation of all members of 
the securities industry on the New SRO Board.\244\ In response, NASD 
stated that the proposed governance structure ensures a diversity of 
member representation on the New SRO Board by guaranteeing certain 
seats for different size firms and for those firms with particular 
business models.\245\NASD also noted that small firm representation on 
the Board would increase from one to three guaranteed

[[Page 42183]]

seats.\246\ The Commission finds that the structure of the New SRO 
Board--specifically the requirement that three Governors be elected by 
Small Firm members, one Governor be elected by Mid-Size Firm members, 
and three Governors be elected by Large Firm members \247\--is 
consistent with the fair representation requirement of the Exchange 
Act. In the Commission's view, this structure is a reasonable method to 
assure the fair representation of the New SRO's members on the New 
SRO's Board by affirmatively providing various New SRO constituencies 
with representation on the New SRO Board.\248\ As a result, neither the 
largest nor the smallest firms would be able to dominate the New SRO 
Board. Moreover, issues or concerns of a particular New SRO 
constituency could be brought to the attention of, and considered by, 
the New SRO Board.
---------------------------------------------------------------------------

    \243\ See, e.g., Lek Letter, Kosinsky Letter, Roberts Letter, 
RKeenan Letter II, Miller Letters, Blumenschein Letter, Eitel Letter 
II, de Leeuw Letter, Elish Letter, Patterson Letter, Callaway 
Letter, Isolano Letter, Hebert Letter, Biddick Letter, John Q 
Letter, and Schriner Letter.
    \244\ See Castiglioni Letter, FSI Letter, and Bakerink Letter.
    \245\ See NASD Response Letter, supra note 5, at 5.
    \246\ Id.
    \247\ See New SRO By-Laws, Article I(z), Article I(dd), Article 
I(xx), and Article VII, Section 4(a).
    \248\ NASD noted that the proposed composition of and selection 
process for the Small Firm Governors and Large Firm Governors are 
identical, ensuring, according to the NASD, fairness and balance 
between those firms that comprise the largest percentage of 
membership and those firms that employ the largest percentage of the 
registered representative population. See NASD Response Letter, 
supra note 5, at 5.
---------------------------------------------------------------------------

    The Commission notes that it has previously approved a governance 
structure in which members are entitled to elect only those directors 
that are from the same class as the member.\249\ Specifically, Primary 
Market Makers, Competitive Market Makers, and Electronic Access Members 
on the ISE are entitled to elect two directors each to represent these 
categories of ISE's members on the ISE Board.\250\ In approving the 
governance structure of the ISE, the Commission found that the 
composition of the ISE Board and the selection of directors of ISE 
satisfied the fair representation requirement of Section 6(b)(3) \251\ 
of the Exchange Act.\252\ The Commission believes that New SRO having 
Governor positions based on the size of a firm is not dissimilar to the 
governance structure of the ISE, which allocates rights to elect Board 
seats based on the nature of the member's business.
---------------------------------------------------------------------------

    \249\ See Securities Exchange Act Release No. 53705 (April 21, 
2006), 71 FR 25260 (April 28, 2006) (relating to the reorganization 
of the ISE into a holding company structure, whereby ISE Holdings, 
Inc. would be the publicly-traded holding company of ISE, the SRO) 
(``Release No. 53705'').
    \250\ The holders of ``PMM Rights,'' which Primary Market Makers 
must hold to obtain trading rights on the ISE, are entitled to elect 
two directors. The holders of ``CMM Rights,'' which Competitive 
Market Makers must hold to obtain trading rights on the ISE, are 
entitled to elect two directors. The holders of ``EAM Rights,'' 
which Electronic Access Members must hold to obtain trading rights 
on the ISE, are entitled to elect two directors. Id.
    \251\ 15 U.S.C. 78f(b)(3). Section 6(b)(3) of the Exchange Act 
is identical to Section 15A(b)(4) of the Exchange Act, except that 
Section 6(b)(3) applies to national securities exchanges and Section 
15A(b)(4) applies to national securities associations.
    \252\ See Securities Exchange Act Release No. 53705 (April 21, 
2006), 71 FR 25260 (April 28, 2006) (noting that the ISE's proposed 
governance structure was substantially the same as that of its 
predecessor entity). In approving the governance structure of the 
predecessor entity, the Commission found that the selection of six 
of the 15 directors on the predecessor entity's board, and the 
manner in which such directors are nominated and selected, satisfied 
the fair representation requirement of Section 6(b)(3) of the 
Exchange Act. See Securities Exchange Act Release No. 45803 (April 
23, 2002), 67 FR 21306 (April 30, 2002) (approving the predecessor 
entity's governance structure).
---------------------------------------------------------------------------

ii. Appointed Governors
    Several commenters expressed concern that, because some Governors 
would be appointed, member firms would not have the right to elect all 
New SRO Governors.\253\ NASD, however, stated that these commenters 
``fail[ed] to appreciate that the proposed governance structure strikes 
a balance between the necessity of overall independence and the desires 
for substantial, meaningful and diverse industry representation.'' 
\254\ NASD noted that, under the proposed New SRO By-Laws, members not 
only would be entitled to elect at least 28% of the total number of 
Governors, but also would be represented through three additional 
Industry Governor positions and the potential for member-elected 
Governors to serve on the Nominating Committee.\255\ NASD also noted 
that the Commission previously approved governance structures that 
provided for a lower threshold of member representation regarding the 
selection of an SRO's directors and administration of its affairs than 
in the proposed New SRO By-Laws. Specifically, NASD noted that the 
Commission found consistent with the fair representation requirement 
the governance structure of NYSE LLC, whereby members elect 20% of the 
wholly independent board of directors of NYSE LLC and have the right to 
nominate directly candidates through a petition process.\256\ NASD also 
noted that the Commission found that the governance structure of the 
Nasdaq, whose Board of Directors also is composed of 20% member 
representatives, satisfies the fair representation standard of the 
Exchange Act, and that member representation on the proposed New SRO 
Board would exceed that of the Nasdaq's Board of Directors.\257\
---------------------------------------------------------------------------

    \253\ See Lek Letter, RKeenan Letter I & II, Hebert Letter, 
Mayfield Letter, Blumenschein Letter, Eitel Letter II, de Leeuw 
Letter, Elish Letter, Patterson Letter, Schriner Letter, Roberts 
Letter, and Biddick Letter. See also Johnny Q Member Letters I & II, 
Benchmark/Standard Letter I, and Benchmark Letter, which referred to 
the Standard Lawsuit, supra note 81.
    \254\ See NASD Response Letter, supra note 5, at 6.
    \255\ Id. at 7.
    \256\ Id. at 5 (citing Securities Exchange Act Release No. 53382 
(February 27, 2006), 71 FR 11251 (March 6, 2006) (relating to the 
NYSE's business combination with Archipelago Holdings, Inc.) 
(``Release No. 53382'')).
    \257\ Id. at 6 (citing Securities Exchange Act Release No. 53128 
(January 13, 2006), 71 FR 3550 (January 23, 2006)). NASD also stated 
that member representation on the New SRO Board is comparable to 
member representation on the Chicago Stock Exchange (twelve 
directors, of which five are members) and the International 
Securities Exchange (14 directors, of which six are members). Id.
---------------------------------------------------------------------------

    The Commission finds that the structure of the New SRO Board, in 
which specified Governors are appointed and Firm Governors are elected, 
is consistent with the Exchange Act. The Commission notes that New SRO 
members will have the right to elect a total of seven Firm Governors 
out of 23 Governors (22 after the Transitional Period), or 
approximately 30% of all Governors. The Commission previously approved 
structures in which members were not guaranteed the right to elect all 
directors.\258\ For example, the Commission approved ISE governance 
documents that provide that the holding company for ISE, not ISE 
members, would elect eight non-industry directors. In addition, 
Nasdaq's governance documents provide that Nasdaq members would have 
the right to elect 20% of Nasdaq's directors, while the holding company 
for Nasdaq would have the right to elect the remaining directors.\259\ 
The Commission does not believe that the statute's standard of fair 
representation requires

[[Page 42184]]

that members have the opportunity to vote for all SRO directors.
---------------------------------------------------------------------------

    \258\ See, e.g., Release No. 53705, supra note 249 (approving 
the proposal to allow ISE Holdings, Inc. to elect eight non-industry 
directors of ISE, the holders of PMM Rights to elect two directors 
of ISE, the holders of CMM Rights to elect two directors of ISE, and 
the holders of EAM Rights to elect two directors of ISE).
    \259\ See Limited Liability Company Agreement of The NASDAQ 
Stock Market LLC, Section 9.
    Similarly, the Board members of the Boston Options Exchange 
Regulation, LLC (``BOXR'') are not directly elected by options 
participants at the Boston Options Exchange, LLC (``BOX''). BOXR's 
by-laws provide that all of the BOXR board of director positions are 
appointed by the Boston Stock Exchange, Inc. (``BSE'') Board, 
subject to two of the positions on the BOXR board being nominated by 
BOX options participants. BOXR has regulatory oversight authority 
over BOX, which is the exchange facility for BSE for the trading of 
standardized equity options securities. BSE is the sole shareholder 
of BOXR. See Securities Exchange Release No. 49065 (January 13, 
2004), 69 FR 2768 (January 20, 2004) (SR-BSE-2003-04) (approving the 
creation of BOXR).
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3. Industry Representation
    Several commenters argued that the New SRO Board lacks sufficient 
industry representation.\260\ In contrast, one commenter argued that 
the New SRO Board would have too many industry representatives,\261\ 
and other commenters supported the proposed balance between Industry 
Governors and Public Governors.\262\ In response, NASD noted that the 
proposed governance structure ensures that at least 40% of the New SRO 
Board would be composed of industry representatives, which, according 
to the NASD, ``ensures substantial industry representation, while still 
maintaining the overall independence of the New SRO Board and the 
numerical dominance of Public Governors.'' \263\
---------------------------------------------------------------------------

    \260\ See, e.g., Roberts Letter, Busacca Letter, Blumenschein 
Letter, Eitel Letter II, and Miller Letters.
    \261\ See Massachusetts Letter.
    \262\ See NAIBD Letter; see also FSI Letter.
    \263\ See NASD Response Letter, supra note 5, at 5.
---------------------------------------------------------------------------

    The Commission believes that the requirement that the number of 
Public Governors exceed the number of Industry Governors on the New SRO 
Board is consistent with the Exchange Act.\264\ Specifically, the 
Commission believes that this requirement represents a reasonable 
method to permit the New SRO Board to consider the needs of the entire 
SRO community, including large and small investors, issuers, and 
securities firms, while at the same time broadly assuring the 
independence of the regulatory function. The Commission notes that 
under the by-laws of certain other SROs and the current NASD By-Laws, 
the number of non-industry Governors must equal or exceed the number of 
industry governors (excluding the CEO).\265\ In fact, the Commission 
has previously stated its belief that the fair representation 
requirement would not prohibit exchanges and associations from having 
boards of directors composed solely of independent directors (other 
than the CEO), and that in such case, the candidate or candidates 
selected by members would have to be independent.\266\
---------------------------------------------------------------------------

    \264\ See New SRO By-Laws, Article VII, Section 4(a).
    \265\ See, e.g., Philadelphia Stock Exchange (``Phlx'') 
Certificate of Incorporation, Article FOURTH (b)(iii)(A) and Phlx 
By-Laws, Article I, Sections 1-1(o) and (p) and Article IV, Section 
4-1 (providing that Phlx board will have a total of 23 governors, 
including twelve independent governors); and ISE Constitution, 
Article III, Section 3.2 (providing that the ISE Board will consist 
of 15 directors, including eight non-industry directors, of which 
two must be public representatives). Article VII, Section 4(a) of 
the current NASD By-Laws also provides that, if the number of 
Industry and Non-Industry Governors is 13-15, the Board shall 
include at least four Public Governors. If the number of Industry 
and Non-Industry Governors is 16-17, the Board shall include at 
least five Public Governors. If the number of Industry and Non-
Industry Governors is 18-23, the Board shall include at least six 
Public Governors. In the instant proposal, NASD proposes to 
eliminate the Non-Industry Governor category and, thus, the New SRO 
Board would be composed of only Industry Governors, Public 
Governors, the CEO of the New SRO, and, during the Transitional 
Period, the CEO of NYSE Regulation.
    \266\ See Release No. 53382, supra note 256.
    The Commission previously approved NYSE Inc. governance changes 
that established a fully independent board (other than the CEO), 
finding that such a board was consistent with the Exchange Act. See 
Securities Exchange Act Release No. 48946 (December 17, 2003), 68 FR 
74678 (December 24, 2003) (relating to the amendment and restatement 
of the NYSE Constitution to reform the governance and management 
architecture of the NYSE).
---------------------------------------------------------------------------

4. Nominating Committee
    The New SRO would have a Nominating Committee that, during the 
Transitional Period, would be responsible for nominating persons to 
fill vacancies in Governor positions for which the full New SRO Board 
has the authority to fill.\267\ Following the Transitional Period, the 
Nominating Committee would be responsible for nominating persons for 
appointment or election to the New SRO Board, as well as nominating 
persons to fill vacancies in appointed or elected Governor 
positions.\268\
---------------------------------------------------------------------------

    \267\ See New SRO By-Laws, Article XXII, Section 3. During the 
Transitional Period, the full New SRO Board would have the authority 
to fill vacancies in the Investment Company Affiliate Governor 
position and in the Joint Public Governor position.
    \268\ See New SRO By-Laws, Article VII, Section 9.
---------------------------------------------------------------------------

    During the Transitional Period, the Nominating Committee would not 
nominate candidates for the seven Firm Governor positions to be elected 
at the first annual meeting following the Closing.\269\ Instead, the 
NASD Board as constituted prior to the Closing would make nominations 
for the Small Firm Governors, the NYSE Group Board as constituted prior 
to the Closing would make nominations for the Large Firm Governors, and 
the NASD Board and NYSE Group Board jointly would make the nominations 
for the Mid-Size Firm Governor. In addition, prior to the Closing, the 
NASD Board and the NYSE Group Board would identify and appoint the 
eleven Public Governors and the three remaining Industry Governors. The 
Commission believes that the process for nominating the Industry 
Governors to be elected by the New SRO members at the first annual 
meeting, to be held during the Transitional Period, is a reasonable 
transitional measure that combines the input of the NASD Board (which 
includes member representatives) and the NYSE Group Board. Accordingly, 
the Commission finds that this transitional nominating process is 
consistent with the fair representation requirements of the Exchange 
Act.
---------------------------------------------------------------------------

    \269\ See New SRO By-Laws, Article XXII, Section 4.
---------------------------------------------------------------------------

    The Nominating Committee would be composed of a number of Governors 
that is a minority of the entire New SRO Board.\270\ During the 
Transitional Period, members of the Nominating Committee would be 
appointed jointly by the New SRO CEO and the CEO of NYSE Regulation as 
of Closing (or his duly appointed or elected successor as Chair of the 
New SRO Board), subject to ratification by the New SRO Board.\271\ 
Following the Transitional Period, the composition of the Nominating 
Committee would be determined by the New SRO Board. The number of 
Public Governors on the Nominating Committee must equal or exceed the 
number of Industry Governors on the Nominating Committee.\272\
---------------------------------------------------------------------------

    \270\ NASD represented that a minority of the entire New SRO 
Board means ``at least one less than half of the New SRO Board.'' 
See NASD Response Letter, supra note 5, at 6. In addition, the 
number of Public Governors on the Nominating Committee must equal or 
exceed the number of Industry Governors on the Nominating Committee, 
and the New SRO CEO may not be a member of the Nominating Committee. 
See New SRO By-Laws, Article VII, Section 9(b).
    \271\ See New SRO By-Laws, Article XXII, Section 1.
    \272\ See New SRO By-Laws, Article VII, Section 9.
---------------------------------------------------------------------------

    The Commission believes that, to satisfy the Exchange Act's fair 
representation requirement, the New SRO must assure that its members 
have a say in the nomination of Governors for the New SRO Board. Other 
SROs have satisfied this requirement by having at least 20% member 
representation on their nominating committees.\273\ In this regard, 
NASD has committed that the Charter of the New SRO's Nominating 
Committee provides that at least 20% of the Committee will be composed 
of Industry Governors that are associated with New SRO members.\274\ 
The inclusion on the Nominating Committee of Industry Governors who are 
New SRO members should help to ensure that the input of members will be 
considered by the Nominating Committee when selecting nominee(s). 
Accordingly, the Commission finds that the structure and composition of 
the Nominating Committee are consistent

[[Page 42185]]

with the fair representation requirements in Section 15A(b)(4) of the 
Exchange Act.
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    \273\ See, e.g., Securities Exchange Act Release No. 53734 
(April 27, 2006), 71 FR 26589 (May 5, 2006) (SR-Phlx-2005-93); Phlx 
By-Laws Article X, Section 10-19(a).
    \274\ See NASD Supplemental Response Letter, supra note 5, at 4.
---------------------------------------------------------------------------

5. Petition Process
    The New SRO By-Laws contain a petition process that would allow 
Small, Mid-Size, and Large Firms to nominate one or more candidates 
whose name(s) would be placed on the ballot in addition to the 
candidates selected by the Nominating Committee.\275\ Specifically, a 
candidate could be included on the ballot if at least three percent of 
the members entitled to vote for such candidates' election (in other 
words, three percent of the members entitled to vote for the Small Firm 
Governor, Mid-Size Firm Governor, and Large Firm Governor, 
respectively) petitions for the inclusion of such candidate.\276\ In 
the case of petitions in support of more than one candidate for a 
Governor position, petitions would be required to be submitted by at 
least ten percent of the members entitled to vote for such nominees' 
election. The New SRO By-Laws also provide that the New SRO would 
provide administrative support to the candidates in a contested 
election by sending up to two mailings of materials prepared by the 
candidates.
---------------------------------------------------------------------------

    \275\ See New SRO By-Laws, Article VII, Section 10.
    \276\ The Secretary of the New SRO also would be required to 
certify that: (i) The petitions are duly executed by the Executive 
Representatives of the requisite number of members entitled to vote 
for such nominee's/nominees' election, and (ii) the candidate(s) 
satisfies/satisfy the classification (Large Firm, Mid-Size Firm or 
Small Firm) of the position(s) to be filled, based on such 
information provided by the candidate(s) as is reasonably necessary 
to make the certification. See New SRO By-Laws, Article VII, Section 
10.
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    The Commission notes that other SROs also have comparable petition 
processes that allow their members to nominate opposing 
candidates.\277\ The Commission finds that the proposed petition 
process, coupled with the New SRO By-Law provisions on Board and 
Nominating Committee composition, should help ensure that all New SRO 
members are assured fair representation in the selection of Governors 
of the New SRO Board and therefore is consistent with the Exchange Act.
---------------------------------------------------------------------------

    \277\ See, e.g., ISE Constitution, Article III, Section 3.10 
(providing that persons entitled to elect an ISE director also would 
be able to nominate rival candidates) and Phlx By-Laws, Article III, 
Section 3.7 (providing that Phlx member organizations will be 
permitted to make independent nominations for designated Phlx 
governors, which consist of the two member governors, the two 
designated independent governors, and the one Philadelphia Board of 
Trade governor)
---------------------------------------------------------------------------

6. Future By-Law Amendments
    The New SRO By-Laws contain a provision that would give members a 
voice in proposing changes to the New SRO By-Laws.\278\ Specifically, 
amendments to the New SRO By-Laws could be proposed by a Governor or a 
committee appointed by the New SRO Board or any 25 members of the New 
SRO by petition signed by such members. Any such proposed amendment 
would be required to be considered by the Board. The Board, upon 
adoption of any such amendment to the By-Laws (except as to spelling or 
numbering corrections or as otherwise provided in the By-Laws) by a 
majority vote of the Governors then in office, would be required to 
submit the proposed amendments to the New SRO's members for approval. 
If the amendment was approved by a majority of the members voting 
within 30 days after the date of submission to the membership, and were 
approved by the Commission as provided in the Exchange Act, it would 
then become effective as of a date prescribed by the Board. The 
Commission believes that the procedures governing amendments to the New 
SRO By-Laws should help ensure that all New SRO members are assured 
fair representation in the administration of the New SRO's affairs and 
therefore is consistent with the Exchange Act.
---------------------------------------------------------------------------

    \278\ See New SRO By-Laws, Article XVI, Section 1.
---------------------------------------------------------------------------

7. Member Participation on Committees
    In addition, the Commission finds that New SRO members' 
participation on various committees further provides for the fair 
representation of members in the administration of the affairs of an 
SRO, particularly with respect to participation on committees relating 
to rulemaking and relating to the disciplinary process.\279\ In this 
regard, NASD noted that New SRO will continue extensive member 
involvement in the administration of its affairs through representation 
on various subject matter committees, disciplinary hearing panels, and 
the National Adjudicatory Council.\280\ Such member participation 
includes, depending on the particular Committee or group, having input 
on the New SRO's rulemaking process and involvement in the disciplinary 
process.\281\
---------------------------------------------------------------------------

    \279\ See Release No. 53382, supra note 256, at 11260 (stating 
that the Commission believes that members' participation on various 
committees, including the Market Performance Committee of the NYSE 
Market, and the Regulatory Advisory Committee and Committee for 
Review of NYSE Regulation, further provides for the fair 
representation of members in the administration of the affairs of 
the exchange, including rulemaking and the disciplinary process, 
consistent with Section 6(b)(3) of the Act).
    \280\ See NASD Supplemental Response Letter, supra note 5, at 4.
    \281\ Id.
---------------------------------------------------------------------------

B. Representation of Issuers and Investors

    Section 15A(b)(4) of the Exchange Act \282\ requires that the rules 
of an association provide that one or more directors be representative 
of issuers and investors and not be associated with a member of the 
association or with a broker or dealer. In the NASD Response Letter, 
NASD stated that it believes that the presence of no fewer than eleven 
Public Governors, none of which may have a material relationship with a 
broker or dealer or registered SRO, satisfies the requirement to have 
at least one director representative of issuers and investors.\283\ The 
Commission believes that the inclusion of public, non-industry 
representatives on New SRO Board is critical to an SRO's ability to 
protect the public interest.\284\ Further, public representatives help 
to ensure that no single group of market participants has the ability 
to systematically disadvantage other market participants through the 
SRO governance process. The Commission believes that the New SRO 
Board's Public Governors could provide unique, unbiased perspectives 
that could enhance the ability of the New SRO's Board to address issues 
in a non-discriminatory fashion.
---------------------------------------------------------------------------

    \282\ 15 U.S.C. 78o-3(b)(4).
    \283\ See NASD Response Letter, supra note 5, at 5.
    \284\ See Regulation of Exchanges and Alternative Trading 
Systems, Securities Exchange Act Release No. 40760 (December 8, 
1998), 63 FR 70844 (December 22, 1998) (stating that 
``representation of the public on an oversight body that has 
substantive authority and decision making ability is critical to 
ensure that an exchange actively works to protect the public 
interest and that no single group of investors has the ability to 
systematically disadvantage other market participants through use of 
the exchange governance process'').
---------------------------------------------------------------------------

    The Commission finds that the composition of the New SRO Board is 
consistent with the issuer and investor representation requirement of 
Section 15A(b)(4) of the Exchange Act.\285\
---------------------------------------------------------------------------

    \285\ 15 U.S.C. 78o-3(b)(4).
---------------------------------------------------------------------------

C. State Law, Proxy, and Other Issues Raised by Commenters \286\
---------------------------------------------------------------------------

    \286\ Commenters also stated that the regulatory consolidation 
would violate the antitrust laws. See supra Section III.B.5. With 
respect to the alleged violation of the antitrust laws, the 
Commission notes that NASD and NYSE Group filed notification reports 
with the Department of Justice and the Federal Trade Commission 
under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, and 
the waiting period for such a filing expired on April 6, 2007. See 
supra note 7.
---------------------------------------------------------------------------

    NASD filed the proposed rule change on Form 19b-4, which provides, 
in Instruction E thereto, that ``[t]he

[[Page 42186]]

Commission will not approve a proposed rule change before the self-
regulatory organization has completed all action required to be taken 
under its constitution, articles of incorporation, bylaws, rules, or 
instruments corresponding thereto* * * '' \287\ In addition, Section 
19(b)(2) of the Exchange Act \288\ requires that the Commission approve 
an SRO's proposed rule change only if it finds that the proposal is 
consistent with the requirements of the Exchange Act, and the rules 
thereunder applicable to the SRO. Among other things, national 
securities associations are required under Section 15A(b)(2) of the 
Exchange Act \289\ to comply with their own rules. Thus, if NASD has 
failed to complete all action required to be taken under, or to comply 
with, its own Certificate of Incorporation or By-Laws, which are rules 
of the association, the Commission could not approve the proposed rule 
change under Section 19 of the Exchange Act.\290\
---------------------------------------------------------------------------

    \287\ 17 CFR 249.819. However, the SRO is not required to 
complete all actions specified in any such constitution, articles of 
incorporation, bylaws, rules, or instruments with respect to (i) 
compliance with the procedures of the Exchange Act or (ii) the 
formal filing of amendments pursuant to state law prior to 
Commission approval. Id.
    \288\ 15 U.S.C. 78s(b)(2).
    \289\ 15 U.S.C. 78o-3(b)(2).
    \290\ 15 U.S.C. 78s.
---------------------------------------------------------------------------

    A number of commenters expressed concern about the approval process 
for the proposed amendments to the NASD By-Laws.\291\ Some of these 
commenters argued that NASD violated various aspects of Delaware law, 
particularly with respect to obtaining member approval within the 30-
day timeframe as set forth in Article XVI of the NASD By-Laws.\292\ 
Other commenters questioned the adequacy of the disclosures in the 
proxy statement, particularly with respect to the proposed $35,000 
payment by NASD.\293\ In addition, the plaintiff in the Standard 
Lawsuit, as well as another entity, Benchmark Financial Services, Inc., 
through their attorneys, submitted a comment letter contending that, 
from the perspective of an NASD member, the focus of the proxy 
statement was ``the fundamental change in members' voting rights and 
the $35,000 that each member is to receive in exchange for 
`surrendering' members' equity valued at as much as $300,000, or more, 
per NASD member.'' \294\ Specifically, the Benchmark/Standard Letter II 
alleged an inconsistency between the statements in the proxy statement 
and the statements in the NASD Response Letter regarding the $35,000 
payment \295\ and concluded that ``[t]he SEC cannot approve the $35,000 
payment without determining whether the statements with respect to the 
Proxy Statement were truthful and complete.'' \296\ The Benchmark/
Standard Letter II also argued that the discussion of the $35,000 in 
the proposed rule change was inadequate because neither the proposed 
rule change nor the Notice ``mentioned or invited comment from the 
public or NASD members about the $35,000 payment.'' \297\ Accordingly, 
the Benchmark/Standard Letter II argued that the Commission ``should 
disapprove the rule change, re-notice the issue properly or limit its 
findings to the issues it noticed.'' \298\ The Benchmark/Standard 
Letter I also quoted a statement in the district court's opinion in the 
Standard Lawsuit in which the court responded to Standard's contention 
that its lawsuit should not be dismissed for failure to exhaust 
administrative remedies because the Commission is an unsuitable forum 
in which to challenge the truthfulness of the proxy statement. The 
letter quoted from the district court decision as follows:
---------------------------------------------------------------------------

    \291\ See supra notes 106 through 134 and accompanying text.
    \292\ See supra notes 131 through 134 and accompanying text.
    \293\ See, e.g., Johnny Q Member Letters I & II, Benchmark/
Standard Letters I & II, and Benchmark Letter.
    \294\ See Benchmark/Standard Letter II.
    \295\ The Benchmark/Standard Letter II noted that the proxy 
statement ``unequivocally states that a payment larger than $35,000 
`is not possible;' that it will be `funded by--and therefore limited 
by--the expected value of the incremental cash flows that will be 
produced by the consolidation transaction' and that if the `payment 
was higher, it could seriously jeopardize NASD's status as a tax-
exempt organization.'' ' The Benchmark/Standard Letter II then 
stated that the discussion of the $35,000 payment in the NASD 
Response Letter--specifically the NASD's statement that the $35,000 
``payments would fall within public IRS guidance, and the proxy 
statement made clear that the payments would be made by NASD''--is 
inconsistent with the proxy statement . See Benchmark/Standard 
Letter II.
    \296\ See Benchmark/Standard Letter II.
    \297\ Id.
    \298\ Id.
---------------------------------------------------------------------------



    The Court is incredulous that the SEC would endorse proposed SRO 
rule changes that [as alleged in the Amended Complaint] were 
approved by the membership pursuant to a ``proxy statement that 
could not possibly pass [muster] under the nation's securities laws 
and the disclosure requirements of the SEC's own rules (see, e.g., 
Sec.  14(a) of the Securities Exchange Act of 1934 and Rule 14a-9 
promulgated thereunder by the SEC and applicable Supreme Court 
precedent).'' (Am. Compl. ] [4]) \299\
---------------------------------------------------------------------------

    \299\ See Benchmark/Standard Letter I (quoting Standard Lawsuit, 
2007 WL 1296712 at *8) (first alteration added in the Benchmark/
Standard Letter I, second alteration in court decision, third 
alteration added here to correct the Benchmark/Standard Letter I's 
omission of paragraph number).
---------------------------------------------------------------------------

    To the extent the Benchmark/Standard Letters suggested that the 
proxy statement delivered by the NASD to its members was not in 
compliance with the federal securities laws, the Commission notes that 
Rule 14a-9 under the Exchange Act \300\ applies only to the 
solicitation of proxies with respect to securities registered pursuant 
to Section 12 of the Exchange Act and that none of the membership 
interests in NASD are so registered.\301\
---------------------------------------------------------------------------

    \300\ See 17 CFR 240.14a-9.
    \301\ See also Rule 14a-2 under the Exchange Act, 17 CFR 
240.14a-2.
---------------------------------------------------------------------------

    Whether an SRO failed to complete all action required to be taken 
under its constitution, articles of incorporation, bylaws, rules, or 
similar instruments ordinarily is not an issue before the Commission at 
the time it considers whether to approve a proposed rule change. 
However, in instances where there is a dispute about whether the SRO 
has failed to complete all necessary action prior to Commission 
approval, or where there is an alleged defect in such action, the 
Commission generally requests the SRO to supplement the proposed rule 
change to address issues raised by commenters. Accordingly, the 
Commission requested that NASD provide additional information about the 
disclosures regarding the $35,000 payment noted in the proxy statement, 
as well as about the fact that the time period between the submission 
of the proxy statement to members and the vote by members exceeded 30 
days.
    In response to the Commission's request, NASD submitted a 
supplemental response letter providing additional information about its 
disclosures in the proxy statement regarding the $35,000 payment and 
the propriety of its decision to call a special meeting of members to 
amend the NASD By-Laws.\302\ Specifically, NASD stated that ``the proxy 
materials accurately state that member payments in excess of $35,000 
would not be possible because such a payment, without the IRS's 
approval, could `seriously jeopardize' NASD's tax-exempt status.'' 
\303\ In support of its contention, NASD stated that Section 501(c)(6) 
of the Internal Revenue Code and its Certificate of Incorporation 
prohibit it from paying any dividends to its members.\304\ NASD 
explained that

[[Page 42187]]

any member payments in connection with the Transaction are ``based on 
(and limited by) expected future incremental cash flows that would 
result from the regulatory consolidation.'' \305\ Therefore, based on 
``public IRS guidance, the terms of the initial agreement between NASD 
and NYSE Group, Inc., and the importance of preserving NASD's tax-
exempt status, NASD concluded that $35,000 was the maximum member 
payment that the IRS could be expected, with a sufficient degree of 
confidence, to approve within the timeframe contemplated for the 
transaction.'' \306\ NASD stated that it reached this conclusion, and 
decided to request the IRS's approval of the regulatory consolidation 
with a $35,000 payment, ``through the exercise of business judgment by 
its disinterested Board of Governors.'' \307\ According to NASD, NASD 
Board members ``fully informed themselves concerning the economics of 
the transaction (in particular the projected cost savings), the 
practical need for IRS approval, and the likelihood of obtaining that 
approval before determining that $35,000 was the maximum sum for which 
NASD could seek and expect to obtain approval from the IRS'' and that 
``the Board's decision was taken in good faith and in full compliance 
with the Board members' fiduciary duties, and the resulting business 
judgment is entitled to deference.'' \308\ NASD then noted that, 
pursuant to this business judgment, ``NASD requested a private letter 
ruling from the IRS approving the proposed regulatory consolidation, 
including a one-time payment [of $35,000] * * * based on the expected 
future incremental cash flows, examined in conjunction with other costs 
attributable to the transaction (including future dues rebates to be 
considered annually by the NASD Board over the following five years).'' 
\309\ NASD further noted that ``[i]t was on this basis that the IRS 
agreed to issue such a ruling.'' \310\ Thus, NASD believes that the 
proxy materials accurately stated that payments in excess of $35,000 
per member would not be possible because any such payment, without IRS 
approval, could ``seriously jeopardize'' NASD's tax-exempt status.\311\
---------------------------------------------------------------------------

    \302\ See NASD Supplemental Response Letter, supra note 5.
    \303\ See NASD Supplemental Response Letter, supra note 5, at 3.
    \304\ Id. In response to the statement that NASD members would 
be ``surrendering members' equity valued at as much as $300,000'' in 
the Benchmark Standard Letter II, NASD stated that the ``combined 
effect of the prohibition against inurement to members of a tax-
exempt organization (as outlined in [DPW Letter, supra note 5]) and 
of the certificate provision [which states that `no part of its net 
revenues or earnings shall inure to the benefit of any individual, 
subscriber, contributor, or member'] (as described in [the RLF 
Letter, supra note 5]) makes such an `equity' distribution 
impermissible.'' See NASD Supplemental Response Letter, supra note 
5, at 2.
    \305\ See NASD Supplemental Response Letter, supra note 5, at 2.
    \306\ Id. at 3.
    \307\ Id. at 3. NASD stated that (a) a majority of the NASD 
Board is drawn from outside the securities industry, (b) no NASD 
Board member had any material conflict in connection with the 
proposed regulatory consolidation; and (c) no NASD Board member was 
dominated by anyone else with such a conflict. Id.
    \308\ Id.
    \309\ Id.
    \310\ Id.
    \311\ Id.
---------------------------------------------------------------------------

    In addition, NASD furnished two opinions of outside counsel, one 
from NASD's tax counsel \312\ and one from NASD's Delaware 
counsel.\313\ With respect to the $35,000 member payment and pertinent 
to the commenters' argument that NASD could pay members more than 
$35,000 based on ``member's equity valued at as much as $300,000, or 
more, per NASD member,'' \314\ NASD's outside tax counsel described 
generally the case law, statutory provisions, and guidance published by 
the IRS relevant to the disclosure in the NASD's proxy statement. This 
letter concluded that if NASD had increased the amount of the proposed 
$35,000 payment, there would have been a serious risk that the IRS 
would not have issued the rulings to NASD and NASD Regulation, Inc. 
that the proposed Transaction, which includes the $35,000 payment, 
would not affect the tax-exempt status of NASD and NASD Regulation. 
This letter stated that NASD ``could be found to violate the 
prohibition against private inurement if it went forward with the 
proposed [$35,000 payment] without the benefit of a ruling.'' \315\ 
Specifically, NASD's outside tax counsel noted that ``tax law contains 
an absolute prohibition on a distribution of assets by tax exempt 
organizations, including the NASD, to their members'' but that there 
are limited exceptions to that prohibition for rebates of dues or 
fees,\316\ distributions upon liquidation, and reasonable and 
appropriate expenses.\317\ NASD's outside tax counsel discussed each 
exception and concluded that ``[n]one of these exceptions clearly 
authorizes the proposed [$35,000 payment]'' and that ``the only way 
that NASD could make the proposed [$35,000 payment] was by securing a 
private letter ruling from the IRS.'' \318\ With respect to the 
determination of the amount of the payment to members, NASD's outside 
tax counsel stated that the proposed payment ``was supported 
economically by the present value of the expected incremental future 
cash flows attributable to the Proposed Transaction after taking into 
account transaction costs, including future rebates and other 
reductions in fees that were described in the Proxy Statement.'' \319\ 
Thus, according to NASD's outside tax counsel, the IRS approved the 
proposed Transaction, including the payment, ``because of (i) the 
importance of the payment to the Proposed Transaction as a whole; (ii) 
the financial data presented by NASD explaining that the amount of the 
[$35,000 payment] is expected to be paid out of the value of expected 
incremental future cash flows, rather than the value of NASD's equity; 
and (iii) the unique facts and circumstances of the Proposed 
Transaction, including the [$35,000 payment].'' \320\
---------------------------------------------------------------------------

    \312\ See DPW Letter, supra note 5.
    \313\ See RLF Letter, supra note 5.
    \314\ See supra note 304.
    \315\ See DPW Letter, supra note 5, at 4-5.
    \316\ NASD's outside tax counsel noted that ``[a]lthough the 
aggregate amount of the proposed Member Payments fits within the 
amount of allowable rebates, the rebate exception does not squarely 
apply here because a $35,000 payment would far exceed the $1,200 of 
current-year paid-in dues of those NASD members subject to the 
lowest annual payments'' and ``[u]nder the published rulings, a 
payment of $35,000 could not be made to those small members without 
risking the loss of NASD's tax exemption.'' Thus, based on these 
published rulings, if NASD had utilized the rebate of dues and fees 
exception, small-firm members would receive a rebate in the range of 
$1,200, while large-firm members would receive a much larger rebate. 
Id. at 3.
    \317\ Id. at 1-4.
    \318\ Id. at 1-2.
    \319\ Id. at 4.
    \320\ Id. at 4-5.
---------------------------------------------------------------------------

    NASD's outside Delaware counsel addressed both the comment that a 
larger member payment could have been made based on ``member's equity'' 
and the comment that NASD should have obtained approval of the By-Law 
amendments within the 30-day timeframe as set forth in Article XVI of 
the NASD By-Laws.\321\ With respect to the $35,000 payment, NASD's 
outside Delaware counsel stated that the language in Article 4 of 
NASD's Certificate of Incorporation tracks that of the Internal Revenue 
Code in that no part of the organization's net earnings may inure to 
the benefit of any private shareholder or individual.\322\ NASD's 
outside Delaware counsel stated that any action in contravention of the 
Internal Revenue Code's prohibition on inurement would also be in 
contravention of the prohibition against inurement set forth in NASD's 
Certificate of Incorporation and thus would be void under Delaware 
law.\323\ With respect to the 30-day timeframe, NASD's outside Delaware 
counsel confirmed NASD's analysis that Article XVI of the NASD By-Laws 
provides a

[[Page 42188]]

non-exclusive means by which member approval of amendments to the By-
Laws can be obtained.\324\
---------------------------------------------------------------------------

    \321\ See RLF Letter, supra note 5.
    \322\ Id. at 4-5.
    \323\ Id. at 5.
    \324\ See RLF Letter and NASD Response Letter, supra note 5.
---------------------------------------------------------------------------

    The Commission ordinarily does not make determinations regarding 
state law issues but, when required to do so because state law 
necessarily informs its findings under the Exchange Act, it relies on 
the conclusions of experts or other authorities. In this regard, the 
Commission has relied on analysis by NASD's Delaware counsel that the 
vote of NASD's members at the special meeting approving the proposed 
amendments to the By-Laws ``was a valid exercise of the Member's 
franchise rights and authorized by Delaware law.'' \325\ With respect 
to the adequacy of the proxy statement, the Commission has considered 
the NASD's explanation regarding the proxy statement's representations 
about the $35,000 payment. The Commission believes that NASD has made a 
prima facie showing that these representations were not misleading and 
that NASD's explanation is uncontradicted by the commenters' 
submissions regarding this matter. Accordingly, after reviewing the 
record in this matter, the Commission believes that NASD has provided 
sufficient basis on which the Commission can find that, under the 
Exchange Act, NASD complied with its Certificate of Incorporation and 
By-Laws with respect to the proxy approval process and that the 
proposed amendments to its By-Laws were properly approved by NASD 
members.
---------------------------------------------------------------------------

    \325\ See RLF Letter, supra note 5.
---------------------------------------------------------------------------

D. Approval of NASD Regulation By-Laws

    The NASD Regulation By-Laws contain provisions that conflict with 
the proposed amendments to the NASD By-Laws.\326\ Accordingly, NASD 
proposes to conform those provisions of the NASD Regulation By-Laws to 
the relevant provisions in the New SRO By-Laws. Because the proposed 
NASD Regulation By-Law changes conform to and reflect the proposed 
governance structure set forth in the New SRO By-Laws, the Commission 
finds that the amendments to the NASD Regulation By-Laws are consistent 
with the Exchange Act.
---------------------------------------------------------------------------

    \326\ See Section II.D.6, supra, for a description of these 
provisions.
---------------------------------------------------------------------------

E. Efficiency and Investor Protection

    Some commenters explicitly questioned the benefits of the proposed 
consolidation,\327\ and other commenters noted that having one less 
regulator overseeing the securities firms that deal with the public 
would harm investors.\328\ NASD stated that the consolidation is 
intended, among other things, to increase efficient, effective, and 
consistent regulation of securities firms, provide cost savings to 
securities firms of all sizes, and strengthen investor protection and 
market integrity. NASD also stated that the consolidation would 
streamline the broker-dealer regulatory system, combine technologies, 
and permit the establishment of a single set of rules and a single set 
of examiners with complementary areas of expertise within a single SRO. 
The Commission believes that NASD's expectations are reasonable. In the 
Commission's view, the consolidation of NASD and NYSE member firm 
regulation is intended to help reduce unnecessary regulatory costs 
while, at the same time, increase regulatory effectiveness and further 
investor protection. The Commission notes that the Transaction holds 
the potential to reduce unnecessary regulatory costs because New SRO 
firms would deal with only one group of examiners and one enforcement 
staff for member firm regulation.
---------------------------------------------------------------------------

    \327\ See RKeenan Letter I, Mayfield Letter, and Schooler 
Letter.
    \328\ See King Letter, Eitel Letter II, de Leeuw Letter, Elish 
Letter, Patterson Letter, Biddick Letter, and Massachusetts Letter.
---------------------------------------------------------------------------

F. Arbitration

    Section 15A(b)(6) of the Exchange Act \329\ provides that the rules 
of an association must be designed, among other things, 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. The Commission finds that NASD's proposal to 
consolidate the NASD and NYSE arbitration forums is consistent with the 
Act because it will maintain a fair arbitration forum available for all 
NYSE arbitration claims, while continuing to maintain a fair forum for 
NASD claims and claims that it already administers on behalf of other 
SROs.\330\ Merging the NYSE arbitration program with the NASD 
arbitration program takes advantage of economies of scale, particularly 
in light of the NYSE's comparatively small caseload. Moreover, as NASD 
noted, it has a decade of experience in administering arbitrations on 
behalf of other SROs.
---------------------------------------------------------------------------

    \329\ 15 U.S.C. 78o-3(b)(6).
    \330\ In considering proposed arbitration rules and rule 
changes, the Commission considers their effect on the fairness of 
the forum. See generally Securities Exchange Act Release No. 55158 
(January 24, 2007). See also Section 15A(b)(6) of the Exchange Act.
---------------------------------------------------------------------------

    Commenters' suggestions for creating a separate securities 
arbitration forum, or providing that public investors may choose 
between resolving their disputes in court or in arbitration, are 
outside the scope of the proposed rule change. The Commission notes, 
however, that the Supreme Court upheld the use of pre-dispute 
arbitration agreements to resolve securities disputes in Shearson/
American Express, Inc. v. McMahon \331\ and subsequent cases.
---------------------------------------------------------------------------

    \331\ 482 U.S. 220 (1987).
---------------------------------------------------------------------------

    NASD has the ability to impose sanctions against its members for 
failing to submit a dispute to arbitration, failing to comply with 
provisions of the NASD Code of Arbitration Procedure for Customer 
Disputes, and failing to honor an award.\332\ In light of the policy 
supporting arbitration evinced by the Federal Arbitration Act \333\ and 
Supreme Court precedent upholding securities industry arbitration 
agreements,\334\ and the requirements of Section 19(b)(2) of the 
Exchange Act, the Commission cannot find as a matter of law that 
consolidation of the NASD and NYSE arbitration forums must be 
conditioned on providing customers with a choice of another dispute 
resolution forum.
---------------------------------------------------------------------------

    \332\ NASD Rule IM-12000.
    \333\ 9 U.S.C. 1-14.
    \334\ In 1987, the Supreme Court decided Shearson/American 
Express, Inc. v. McMahon, 482 U.S. 222 (1987), which determined that 
customers who sign predispute arbitration agreements with their 
brokers may be compelled to arbitrate claims arising under the 
Exchange Act. In a companion case, Perry v. Thomas, 482 U.S. 483 
(1987), the Court concluded that an employee of a broker-dealer 
could be compelled to arbitrate disputes by virtue of the employee 
having signed a Form U-4 and because the NYSE had rule in place 
requiring arbitration. Two years later, the Supreme Court applied 
the reasoning of McMahon to compel arbitration of claims arising 
under the Securities Act of 1933. Rodriguez de Quijas v. Shearson/
American Express, Inc., 490 U.S. 477 (1989).
    Thereafter, in Gilmer v. Interstate/Johnson Lane, Corp., 500 
U.S. 20 (1991), the Supreme Court determined that statutory civil 
rights claims may be subject to compulsory arbitration, provided 
that a valid arbitration agreement exists between the registered 
representative and the firm. Specifically, the Gilmer Court stated 
that ``by agreeing to arbitrate a statutory claim, a party does not 
forgo the substantive rights afforded by the statute; it only 
submits to their resolution in an arbitral, rather than a judicial 
forum.'' Id. at 26 (quoting Mitsubishi Motors Corp. v. Soler 
Chrysler-Plymouth, Inc., 473 U.S. 614, 628 (1985)). The Court 
stressed that ``so long as the prospective litigant effectively may 
vindicate [his or her] statutory cause of action in the arbitral 
forum, the statute will continue to serve both its remedial and 
deterrent function.'' Id. at 28 (quoting Mitsubishi Motors Corp. v. 
Soler Chrysler-Plymouth, Inc., 473 U.S. 614, 637 (1985)).
---------------------------------------------------------------------------

    NASD has committed to consider the comments regarding the use of 
dispositive motions in connection with its pending rule filing in this 
area.\335\ With respect to other comments

[[Page 42189]]

concerning the classification of arbitrators, NASD stated that it is 
working with the NYSE to harmonize their rules and that any resulting 
rule changes will be filed for Commission consideration, subject to 
notice and comment.\336\
---------------------------------------------------------------------------

    \335\ NASD Dispute Resolution Letter II, supra note 5.
    \336\ Id.
---------------------------------------------------------------------------

VI. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Exchange Act, that the proposed rule change (SR-NASD-2007-023) is 
approved.

    By the Commission.
Nancy M. Morris,
Secretary.

EXHIBIT A--List of Comment Letters as of July 16, 2007

    1. Letter from Franco Mortarotti, Zermatt Capital Management, dated 
December 11, 2006 (``Mortarotti Letter'').
    2. Letter from Samuel F. Lek, Lek Securities Corporation, to 
Christopher Cox, Chairman, Commission, dated December 15, 2006 (``Lek 
Letter'').
    3. Letter from Mary S. Darcy, Managing Partner, The Darcy Group 
LLC, dated December 21, 2006 (``Darcy Letter'').
    4. Letter from Michael Jordan, Control Officer/Securities Industry, 
dated April 4, 2007 (``Jordan Letter'').
    5. Letter from Joseph Kosinsky, NASD Member, dated April 2, 2007 
(``Kosinsky Letter'').
    6. Letter from Judith Schapiro, dated March 30, 2007 (``Judith 
Schapiro Letter'').
    7. Letter from Daniel W. Roberts, NASD District One Committee 
Member, dated March 29, 2007 (``Roberts Letter'').
    8. Letter from Charles Botzum, III, dated March 29, 2007 (``Botzum 
Letter'').
    9. Letter from John B. Busacca, III on behalf of North American 
Clearing, Inc., The Financial Industry Association, dated March 28, 
2007 (``Busacca Letter'').
    10. Letters from Robert Keenan, CEO, St Bernard Financial Services, 
Inc., dated March 28, 2007 and April 13, 2007 (``RKeenan Letter I'' and 
``RKeenan Letter II,'' respectively).
    11. Letter from Bob and Linda King, dated April 7, 2007 (``King 
Letter'').
    12. Letter from Joel Blumenschein, President, EZ Stocks, Inc., 
dated March 29, 2007 (``Blumenschein Letter'').
    13. Letter from Peter J. Chepucavage, General Counsel, Plexus 
Consulting, dated March 26, 2007 (on behalf of the International 
Association of Small Broker Dealers and Advisers) (``IASBDA Letter'').
    14. Letter from Donald R. Hawks, Commander, Retired, USN; 
President, Registered Principal, Alpha Business Control Systems Inc., 
dated March 28, 2007 (``Hawks Letter'').
    15. Letter from the Public Members of the Securities Industry 
Conference on Arbitration to Christopher Cox, Chairman, Commission, 
dated January 12, 2007 (``SICA Public Members Letter'').
    16. Letter from Gretchen Harriman-Thiessen to Christopher Cox, 
Chairman, Commission, dated April 4, 2007 (``Harriman-Thiessen 
Letter'').
    17. Letters from Les Greenberg, Attorney, Law Offices of Les 
Greenberg, to Nancy M. Morris, Secretary, Commission, dated April 8, 
2007 and April 11, 2007 (``Greenberg Letter I'' and ``Greenberg Letter 
II,'' respectively).
    18. Letter from Ari Gabinet, Principal, Securities Regulation, The 
Vanguard Group, Inc., to Nancy M. Morris, Secretary, Commission, dated 
April 11, 2007 (``Vanguard Letter'').
    19. Letter from Douglas W. Schriner, CEO, Harrison Douglas, Inc., 
dated April 11, 2007 (``Schriner Letter'').
    20. Letter from Gary L. Flater, CEO, dated April 12, 2007 (``Flater 
Letter'').
    21. Letter from Chester Hebert, President, CIM Securities, LLC, to 
the Commissioners, dated April 12, 2007 (``Hebert Letter'').
    22. Letter from Luke C. Schunk, Registered Representative, dated 
April 12, 2007 (``Schunk Letter'').
    23. Letter from Eric B. Arnold, President, Fenwick Securities, 
Inc., dated April 12, 2007 (``Arnold Letter'').
    24. Letter from Kevin J. High, Managing Director, dated April 12, 
2007 (``High Letter'').
    25. Letters from Mary M. Eitel dated April 12, 2007 and April 16, 
2007 (``Eitel Letter I'' and ``Eitel Letter II,'' respectively).
    26. Letter from Martin J. Cohen, dated April 12, 2007 (``Cohen 
Letter'').
    27. Letter from Sennett Kirk, Kirk Securities Corporation, dated 
April 12, 2007 (``Kirk Letter'').
    28. Letter from Alan Vande Weerd, CFP, Eagle One Investments, LLC, 
dated April 12, 2007 (``Vande Weerd Letter'').
    29. Letters from Jack D. Jester, to Nancy M. Morris, Secretary, 
Commission, dated April 5, 2007 and June 4, 2007 (``Jester Letter I'' 
and ``Jester Letter II,'' respectively).
    30. Letter from Francis D. de Leeuw, dated April 13, 2007 (``de 
Leeuw Letter'').
    31. Letter from Jerome S. Keenan, Vice President, International 
Equities Services Inc., dated April 13, 2007 (``JKeenan Letter'').
    32. Letter from Wayne A. Schultz, Esq., dated April 13, 2007 
(``Schultz Letter'').
    33. Letter from Peter M. Elish, President, Elish Elish, Inc., dated 
April 13, 2007 (``Elish Letter'').
    34. Letter from Edward A. H. Siedle, President, Benchmark Financial 
Services, Inc., to Christopher Cox, Chairman, Commission, dated April 
13, 2007 (``Benchmark Letter'').
    35. Letter from Jonathan W. Cuneo, and Richard D. Greenfield, dated 
May 4, 2007 and June 11, 2007, with attachments (``Benchmark/Standard 
Letter I'' and ``Benchmark/Standard Letter,'' respectively, and, 
collectively, the ``Benchmark/Standard Letters'').
    36. Letter from Tom Hanson, VP of Operations and Compliance, dated 
April 13, 2007 (``Hanson Letter'').
    37. Letter from Warren R. Horney, Vice President, WFP Securities 
Corporation, dated April 13, 2007 (``Horney Letter'').
    38. Letter from Dan Mayfield, dated April 13, 2007 (``Mayfield 
Letter'').
    39. Letter from Sam P. Solomon, dated April 13, 2007 (``Solomon 
Letter'').
    40. Letter from Ronald Patterson, President, Southcoast Investment 
Group Inc., to Christopher Cox, Chairman, Commission, dated April 13, 
2007 (``Patterson Letter'').
    41. Letter from Steven B. Caruso, President, Public Investors 
Arbitration Bar Association, dated April 16, 2007 (``Caruso Letter'').
    42. Letter from Mark S. Casady, Chairman and Chief Executive 
Officer, Linsco/Private Ledger Financial Services, to Nancy M. Morris, 
Secretary, Commission, dated April 16, 2007 (``Casady Letter'').
    43. Letter from Charlie Cray, Director, Center for Corporate 
Policy, dated April 16, 2007 (``Cray Letter'').
    44. Letter from Ira D. Hammerman, Senior Managing Director and 
General Counsel, Securities Industry and Financial Markets Association 
(``SIFMA''), to Nancy M. Morris, Secretary, Commission, dated April 16, 
2007 (``SIFMA Letter'').
    45. Letter from I. P. Daily, dated April 15, 2007 (``Daily 
Letter'').
    46. Letter from Albert Kramer, President of Kramer Securities 
Corporation, dated April 16, 2007 (``Kramer Letter'').
    47. Letter from E. John Moloney, President and Chief Executive 
Officer, Moloney Securities Co., Inc., dated April 16, 2007 (``Moloney 
Letter'').
    48. Letter from David Stringer, President, Prospera Financial 
Services, Inc., to Nancy M. Morris, Secretary, Commission, dated April 
16, 2007 (``Stringer Letter'').

[[Page 42190]]

    49. Letter from Deborah Castiglioni, Chief Executive Officer, 
Cutter & Company, to Nancy M. Morris, Secretary, Commission, dated 
April 16, 2007 (``Castiglioni Letter'').
    50. Letter from Bonnie K. Wachtel, dated April 16, 2007 (``Wachtel 
Letter'').
    51. Letter from Lisa Roth, Chairman, National Association of 
Independent Broker/Dealers (``NAIBD''), to Nancy M. Morris, Secretary, 
Commission, dated April 16, 2007 (``NAIBD Letter'').
    52. Letter from William C. Alsover, Chairman, Centennial Securities 
Company, LLC, to Nancy M. Morris, Secretary, Commission, dated April 
16, 2007 (``Alsover Letter'').
    53. Letter from Craig M. Biddick, President, Mission Securities 
Corp., dated April 16, 2007 (``Biddick Letter'').
    54. Letter from Donald R. Penrod, President, Penrod and Company, 
dated April 16, 2007 (``Penrod Letter'').
    55. Letter from Howard Spindel, Senior Managing Director, 
Integrated Management Solutions USA, LLC, to Nancy M. Morris, 
Secretary, Commission, dated April 16, 2007 (``Spindel Letter'').
    56. Letter from William A. Johnstone, President and CEO, D.A. 
Davidson & Co., to Nancy M. Morris, Secretary, Commission, dated April 
16, 2007 (``Johnstone Letter'').
    57. Letter from David Isolano, Chief Executive Officer, Max 
International Broker Dealer Corp., dated April 16, 2007 (``Isolano 
Letter'').
    58. Letters from Kathryn L. Lundgren, dated April 16, 2007 
(``Lundgren Letter I'') and April 17, 2007 (``Lundgren Letter II'').
    59. Letter from Gary L. Haney, Chief Executive Officer, United 
Insurance Group, Inc., dated April 14, 2007 (``Haney Letter'').
    60. Letter from John E. Schooler, President, WFP Securities, dated 
April 13, 2007 (``Schooler Letter'').
    61. Letter from Corey N. Callaway, President, Callaway Financial 
Services, Inc., dated April 13, 2007 (``Callaway Letter'').
    62. Letters from Johnny Q. Member, to Nancy M. Morris, Secretary, 
Commission, dated April 16, 2007, with attachments (``Johnny Q. Member 
Letter I'' and ``Johnny Q. Member Letter II,'' respectively).
    63. Letter from John Q., NASD Member, dated April 13, 2007 (``John 
Q. Letter'').
    64. Letters from Mike Miller, President, Miller Financial Corp., 
dated April 15, 2007, with attachment (``Miller Letters'' 
collectively).
    65. Letter from Dale E. Brown, Executive Director and CEO, 
Financial Services Institute, to Nancy M. Morris, Secretary, 
Commission, dated April 16, 2007 (``FSI Letter'').
    66. Letter from William R. Pictor, President, Trubee, Collins & 
Co., Inc., to Nancy M. Morris, Secretary, Commission, dated April 16, 
2007 (``Pictor Letter'').
    67. Letter from Walter S. Robertson, III, President and CEO, Scott 
& Stringfellow, Inc., to Nancy M. Morris, Secretary, Commission, dated 
April 16, 2007 (``Robertson Letter'').
    68. Letter from M. LaRae Bakerink, CEO, WBB Securities, LLC, to 
Christopher Cox, Chairman, Commission, dated April 16, 2007 (``Bakerink 
Letter'').
    69. Letter from William F. Galvin, Secretary of the Commonwealth, 
Commonwealth of Massachusetts, to Nancy M. Morris, Secretary, 
Commission, dated April 18, 2007 (``Massachusetts Letter'').
    70. Letter from Joseph P. Borg, President, North American 
Securities Administrators Association, Inc., and Director, Alabama 
Securities Commission, to Nancy M. Morris, Secretary, Commission, dated 
April 17, 2007 (``NASAA Letter'').
    71. Letter from Joan Hinchman, Executive Director, President and 
CEO, National Society of Compliance Professional Inc., to Nancy M. 
Morris, Secretary, Commission, dated April 26, 2007 (``NSCP Letter'').
    72. Letter from Michael J. Mungenast, CEO and President, 
Proequities, to Nancy M. Morris, dated April 23, 2007 (``Mungenast 
Letter'').

 [FR Doc. E7-14855 Filed 7-31-07; 8:45 am]

BILLING CODE 8010-01-P
