Legal & Compliance
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In response to questions by members, issuers, and the legal community, the NASD is issuing this Notice to Members to address frequently raised questions regarding Schedule H, Section 4 of the NASD By-Laws relating principally to compliance with Securities and Exchange Commission (Commission or SEC) Rule 15c2-11. This section of Schedule H is described in Notice to Members 90-40. It requires broker/dealers to submit information to the NASD gathered pursuant to SEC Rule 15c2-11 before initiating or resuming a quotation of a non-Nasdaq over-the-counter equity security in any quotation medium. Section 4 also requires members to specify the basis and factors considered in establishing their initial priced entries for a non-Nasdaq over-the-counter equity security before such entry may be published in any quotation medium. In preparing this Notice, the NASD has received comments from the staff of the Division of Market Regulation of the SEC; however, the views expressed in this Notice represent those of the NASD.
SEC Rule 15c2-11 governs the submission and publication of quotations by brokers and dealers for certain non-Nasdaq over-the-counter equity securities. Specifically, the rule applies to a broker/dealer's initiation or resumption of quotations for such securities in any interdealer quotation medium, including the NASD's OTC Bulletin Board" and National Quotation Bureau, Inc.'s "Pink Sheets" ("pink sheets"). Pursuant to the rule, brokers and dealers are required to review and maintain specified information about the issuer of the security before publishing a quotation for that security.
Unless an exception to Rule 15c2-11 is available, the rule can be satisfied in one of only five ways: (1) the broker/dealer must have in its possession a prospectus specified by Section 10(a) of the Securities Act of 1933 (Securities Act) that has been filed with the Commission and which has been in effect less than 90 calendar days; or (2) the broker/dealer must have a copy of the offering circular provided for under Regulation A of the Securities Act and the effective date must be within the preceding 40 days; or (3) the issuer must be current in its filings with the Commission and the broker/dealer must have in its possession the issuer's latest Form 10-K and all subsequent Form 10-Qs and Form 8-Ks; or (4) the issuer must be exempt from Section 12(g) of the Securities Exchange Act of 1934 (Exchange Act) pursuant to Rule 12g3-2(b) and the broker/dealer must have in its possession all the information furnished to the Commission during the issuer's last fiscal year; or (5) the broker/dealer must have in its possession 16 items of information about the issuer, including financial information which shall be reasonably current in relation to the day the quotation is submitted.
Paragraph (g)(1) of Rule 15c2-11 provides that the required financial information with respect to the issuer will be presumed to be reasonably current, unless the broker/dealer has information to the contrary, if the balance sheet is as of a date less than 16 months before the submission or publication of the quotation; the statements of profit and loss and retained earnings are for the 12 months preceding the date of such balance sheet; and, if such balance sheet is not as of a date less than six months before the submission or publication of the quotation, is accompanied by additional statements of profit and loss and retained earnings for the period from the date of such balance sheet to a date less than six months before the submission or publication of the quotation.
Information that does not satisfy the time frame of paragraph (g)(1) of Rule 15c2-11, is presumptively not reasonably current. Broker/dealers seeking to rely on information outside of the time frame must affirmatively establish that the financial information is reasonably current.
Documentation compiled by a member pursuant to Rule 15c2-11 must be filed with the NASD pursuant to Schedule H, Section 4 of the By-Laws together with a completed Form 211 at least three business days prior to entering a quotation in a quotation medium. Upon receipt, the NASD conducts a substantive review of the material and within three business days, notifies the broker/dealer whether the application has cleared such that quotation activity may begin or, alternately identifies deficiencies in the submission which must be resolved prior to a member being permitted to enter a quotation in a quotation medium.
The following is a compilation of questions and answers relative to SEC Rule 15c2-11, the NASD's OTC Bulletin Board, and Schedule H of the NASD By-Laws.
Rule 15c2-11, Informational Requirements
Question #1: What degree of scrutiny must a broker/dealer give the required Rule 15c2-11 documentation prior to submitting the information to the NASD seeking clearance to publish a quotation?
Answer: Prior to submitting the information to the NASD, a broker/dealer must have a reasonable basis for believing that the information is accurate in all material respects and is obtained from a reliable source.
Question #2: What steps should a broker/dealer take to have a reasonable basis to believe that the information is accurate in all material respects?
Answer: A broker/dealer must review the material for obvious errors, internal inconsistencies, and questionable disclosures. This review must be in the context of all other information about the issuer in the broker/dealer's knowledge or possession, including the information required by paragraph (b).
Question #3: What are the requirements of Rule 15c2-11 paragraph (b)?
Answer: Paragraph (b) requires a broker/dealer to have in its possession: (1) A record of the circumstances surrounding the quotation request, including the identity of the person for whom the quotation is being submitted, (2) a copy of the trading suspension order or the Commission release announcing the suspension if the security has been suspended by the Commission during the last 12 months, and (3) a copy or written record of other material information, including adverse information, that the broker/dealer becomes aware of prior to publishing a quotation.
Question #4: What steps should a broker/dealer take to have a reasonable basis to believe that the information is obtained from a reliable source?
Answer: Generally, a broker/dealer can be satisfied that information is obtained from a reliable source if it is received from the issuer or its agents, or was obtained from an independent information service such as the Commission's public reference room. If a broker/dealer receives information about an issuer from another market maker or someone other than an agent of the issuer, the broker/dealer should verify the validity of the information with the issuer. Agents do not include promoters or others outside the issuer that may have a personal or an indirect interest in the security.
Question #5: Under what circumstances would a broker/dealer be required to take further steps to have a reasonable basis to believe that the information is accurate in all material respects and the sources of the information are reliable?
Answer: Ordinarily the broker/dealer need not do any further review unless a potential material deficiency has been detected. Examples of potential material deficiencies are material inconsistencies in the information or between the information and other information in the broker/dealer's possession, a qualified auditor's report, a recently acquired asset that materially enhances the financial condition of the issuer, or a material asset listed on the balance sheet that is unrelated to the issuer's business.
Question #6: What should a broker/dealer do if a potential material deficiency is detected in the documents?
Answer: A broker/dealer's specific efforts to satisfy itself with respect to the accuracy of the information if a potential material deficiency has been detected will vary with the circumstances, and may require the broker/dealer to obtain additional information or seek to verify existing information. For example, the broker/dealer may be satisfied that the information is correct after questioning the issuer, or the broker/dealer may need to consult an independent source, such as an attorney or accountant. Regardless of the methodology used to review a potential material deficiency, members are required to maintain in their records any other material information (including adverse information) regarding the issuer which comes to the member's knowledge or possession before the publication or submission of the quotation. Members are also strongly urged to document the manner in which the material deficiencies are resolved.
Question #7: May a broker/dealer satisfy its obligation to review the required information and have a reasonable belief as to its accuracy and the reliability of its source solely because its documentation has been reviewed by the NASD?
Answer: No. A broker/dealer must independently satisfy the requirements of Rule 15c2-11. Clearance by the NASD to initiate quotations in a quotation medium is not a substitute for this review.
Question #8: Are a wholesale market maker's obligations under Rule 15c2-11 any different than a retail market maker's obligations?
Answer: No. Commission Release No. 34-29094 states that the rule is directed at the fraudulent, deceptive, or manipulative potential of a broker/dealer's quotations, and does not focus on whether the broker/dealer also engages in retail activity.
Question #9: Can a supplemental prospectus satisfy Rule 15c2-11(a)(1)?
Answer: Yes. As long as the supplemental prospectus is filed pursuant to Section 10(a) of the Securities Act and includes sufficient information about the issuer to enable the broker/dealer to satisfy its obligation under Rule 15c2-11, i.e., it contains the types of information described in Rule 15c2-11(a)(5). However, if the issuer meets the requirements of Rule 15c2-11(a)(3), the broker/dealer must obtain the documents required by Rule 15c2-11(a)(3).
Question #10: Is the issuer required to be current in its filings with the Commission in order for the broker/dealer to utilize Rule 15c2-11(a)(3)?
Answer: Yes. Issuers that meet the requirements of Rule 15c2-11(a)(3) are those issuers that report to the Commission and are current in their reports. The broker/dealer must have the issuer's latest Form 10-K and all subsequent Form 10-Qs and those Form 8-Ks filed within five business days prior to publication or submission of the quotation. If the issuer has not filed a Form 10-K, the broker/dealer must have a copy of the prospectus, which has been in effect less than 16 months, and all subsequent Form 10-Qs and Form 8-Ks. If a filing is due at the Commission prior to the NASD's clearance of the Form 211 application, that filing must also be submitted with the application.
Question #11: What happens if an issuer is not current in its filings with the Commission?
Answer: If the issuer is not current in its filings with the Commission, the broker/dealer can seek to satisfy another subsection of the rule. Usually this would be Rule 15c2-11(a)(5). However, the fact that the issuer is not current in its filings may bear upon the determination of whether the available information is materially accurate.
Question #12: Can banks that file Form 10-Ks and Form 10-Qs with the Office of Thrift Supervision or other bank regulators satisfy Rule 15c2-11(a)(3)?
Answer: If the reports are filed pursuant to Section 13 or 15(d) of the Exchange Act with bank regulators, the reports will satisfy Rule 15c2-11(a)(3).
Question #13: What information is required to be submitted under Rule 15c2-11(a)(4) relating to certain foreign issuers which are exempt from the periodic reporting requirements of Section 12(g) of the Exchange Act?
Answer: The broker/dealer is required to submit all the information that the issuer has furnished during its past fiscal year to the Commission in order for the issuer to maintain its Rule 12g3-2(b) exemption.
Question #14: Must the financial information required under Rule 15c2-11(a)(5) be independently audited?
Answer: No. Rule 15c2-11(a)(5) does not require audited financials. However, a broker/dealer would ordinarily be required to review unaudited financial statements more closely than if the statements were independently audited. Nevertheless, simply because the statements have been audited, a broker/dealer cannot avoid its responsibility to review the financial statements in order to have a reasonable basis to believe that the information is accurate.
Question #15: If an issuer has filed a Form 10-K or a prospectus with the Commission and the issuer is current in its reports to the Commission, can the broker rely on Rule 15c2-11(a)(5)?
Answer: No. If an issuer has filed a 10-K or prospectus with the Commission and is current in its reports, the broker must file under, and have in its possession the information required by, Rule 15c2-11(a)(3).
Question #16: What are the requirements for a broker/dealer if the issuer or its predecessor has been the subject of a Commission trading suspension during the preceding year?
Answer: An SEC trading suspension should alert the broker/dealer to the possibility that information in its possession concerning the issuer may no longer be current or accurate. The broker/dealer must be particularly cautious when seeking to reinstate quotations following an SEC trading suspension. The member must obtain a copy of the Commission trading suspension order or the Commission release announcing the trading suspension. A broker/dealer should, at a minimum, receive assurances or additional information with respect to matters cited in the suspension order or with respect to other matters affecting the broker/dealer's reasonable belief as to the accuracy of the information. Reliance on new information or assurances from prior sources of information in these circumstances, however, requires caution. In exceptional cases, where the source is unable to provide reasonable assurances about the reliability of the information, consultation with an independent accountant or attorney may be warranted. All information gathered in the broker/dealer's investigation of the issues must accompany the Form 211 application.
Rule 15c2-11 Exceptions
Question #17: Are there any exceptions from the informational requirements of Rule 15c2-11?
Answer: Yes. If a broker/dealer can meet one of the exceptions of Rule 15c2-11, it is not required to maintain or submit to the NASD any documents required by Rule 15c2-11. These exceptions primarily relate to instances where a broker/dealer wishes to quote a security that: is traded on a national securities exchange in the United States; represents unsolicited customer interest; has been the subject of regular and continuous quotations for the past 30 days; or is traded on Nasdaq.
Question #18: When does the Rule 15c2-11(f)(1) "exchange" exception apply?
Answer: The exchange exception applies to securities that are traded on a United States national securities exchange on the same day or the business day prior to the day the application is made to the quotation medium.
Question #19: If the common stock of an issuer trades on the New York Stock Exchange, are the warrants of the same issuer exempt from Rule 15c2-11?
Answer: No. The exception relates only to specific securities and not to the issuer. Each security must independently meet the requirements of the exception.
Question #20: If trading in a security is halted or suspended on Nasdaq or an exchange, but the security has not been officially delisted from Nasdaq or the exchange, can it be listed on the OTC Bulletin Board?
Answer: No. The OTC Bulletin Board is only for non-Nasdaq, non-U.S. exchange-listed securities. Dual listing is not permitted. Until a security is officially delisted from an exchange or Nasdaq, it cannot be entered on the OTC Bulletin Board.
Question #21: If the broker/dealer is claiming the Rule 15c2-11(f)(2) "unsolicited customer interest" exception of Rule 15c2-11, can the broker/dealer publish quotations for the security in a quotation medium for its own account?
Answer: No. If the broker/dealer claims the unsolicited customer interest exception, it can only publish or submit a quotation for that customer account. If the broker/dealer wishes to publish or submit a quotation for its own account or any other accounts, it must comply with Rule 15c2-11. Paragraph (f)(2) of Rule 15c2-11 does not apply to a quotation consisting of both a bid and an offer, each at a specified price, unless the quotation medium specifically identifies the quotation as representing a customer's unsolicited indication of interest.
Question #22: Will the NASD be monitoring the broker/dealer's compliance with the unsolicited customer interest exception?
Answer: Yes. The NASD monitors all aspects of broker/dealer compliance with Rule 15c2-11, including a quotation utilizing the unsolicited customer interest exception. The NASD may require the broker/dealer to produce its trading records and other documents to determine whether the broker/dealer traded for any account other than the indicated customer.
Question #23: What are the requirements of Rule 15c2-11(f)(3), the "piggyback" exception?
Answer: If a broker/dealer is relying on the Rule 15c2-11(f)(3) exception, the security must be quoted in the same interdealer quotation medium as the intended quotation during the past 30 calendar days, and that during those 30 days the security had to be quoted on at least 12 days without more than four consecutive business days without quotations.
Question #24: Do "name only" quotations satisfy the piggyback exception requirement that the security be quoted in the quotation medium?
Answer: Yes. The information requirements of Rule 15c2-11 apply to name only as well as priced quotations. Both types of quotations can be used to satisfy the piggyback exception. It should be noted, however, that each broker/dealer submitting a quotation must satisfy the informational requirements of Rule 15c2-11 until all of the requirements of the piggyback exception, including the 30-day quotation period, have been satisfied.
Question #25: What happens when a security is no longer quoted by a broker/dealer in the quotation medium?
Answer: If a security is not quoted by any broker/dealer for a period of more than 4 business days, the security no longer qualifies for the piggyback exception. A broker/dealer would be required to comply with Rule 15c2-11 before it could initiate or resume quotation of the security.
Question #26: What constitutes a "business day" for purposes of Rule 15c2-11?
Answer: For purposes of Rule 15c2-11, a "business day" is defined by reference to the quotation medium to which a broker/dealer submits the quotation. Any day that the quotation medium accepts and disseminates quotations would constitute a "business day" under Rule 15c2-11.
Question #27: Must a broker/dealer quote a security for an entire "business day" to qualify for the "piggyback" exception contained in paragraph (f)(3)ofRulel5c2-11?
Answer: Under the "piggyback" exception, a security will be deemed to have been quoted on a business day where a broker/dealer has continuously quoted a security for all or a substantial portion of that day. The existence of closing quotations on the OTC Bulletin Board may be used by the NASD to create a rebuttable presumption that the broker/dealer continuously quoted a security for a substantial portion of the business day.
Question #28: If a security qualifies for the piggyback exception in one quotation medium, does it meet the piggyback exception for other quotation mediums? For example, if a security is quoted in the OTC Bulletin Board, can a market maker quote the security in the "pink sheets" without filing a Form 211 application?
Answer: No. The staff of the SEC takes the position that the piggyback exception does not transfer from one quotation medium to another. Thus, quotations for a security in the OTC Bulletin Board may not be used to satisfy the piggyback requirements for the "pink sheets."
Question #29: What are the requirements of Rule 15c2-11(f)(5), the "Nasdaq" exception?
Answer: In order for a broker/dealer to rely on the Nasdaq exception, the security must be authorized for quotation on Nasdaq and the authorization must not be suspended, terminated, or prohibited.
Question #30: Can a broker/dealer publish a quotation on the OTC Bulletin Board for a security that is currently traded on Nasdaq?
Answer: No. The OTC Bulletin Board does not allow quotations for Nasdaq securities.
Question #31: If the common stock and units of an issuer are already quoted on the OTC Bulletin Board, does a Form 211 application need to be submitted for the warrants of the same issuer?
Answer: Yes. Rule 15c2-11 applies to securities, not issuers. Quotations for the common stock and units may be in compliance with Rule 15c2-1 1, but that does not qualify any other securities of the issuer. Accordingly, a completed Form 211 and the Rule 15c2-11 information would have to be submitted for the warrants. However, if the broker/dealer has previously submitted documents relating to the issuer that continue to meet the requirements of Rule 15c2-11, it need not refile identical documents. The broker/dealer need only submit a completed Form 211 alone or with any additional documents needed to comply with Rule 15c2-11.
Schedule H and OTC Bulletin Board Questions
Question #32: What must be included in the basis and factors for a broker/dealer's initial priced entry?
Answer: A broker/dealer's basis and factors should relate to the price that the broker/dealer is proposing. The statement on the Form 211 must be concise and directly related to the proposed bid and/or offer. The basis and factors should not be broad generalized statements but should articulate how the priced quotation was determined, including the factors taken into consideration. The NASD is not conducting merit review but must be able to clearly understand the basis for the initial priced entry.
Question #33: If a broker/dealer's Rule 15c2-11 documentation has been cleared by the NASD, but the broker/dealer did not request clearance for a priced quotation, is the broker/dealer required to file anything additional when it changes its unpriced quotation to a priced quotation?
Answer: Yes. The broker/dealer must supplement its original application with the Form 211 indicating the intended priced entry and the basis and factors even if other broker/dealers are publishing priced quotations for the security or a piggyback exception has become available.
Question #34: Can Form 211 applications be faxed to the NASD?
Answer: No. The original Form 211 must be mailed and requires original signatures.
Question #35: If a security on the OTC Bulletin Board appears in the "eligible" status, can a broker/dealer enter quotations without filing a Form 211 application?
Answer: No. The "eligible" status on the OTC Bulletin Board indicates that another broker/dealer has been cleared to quote the security, but the piggyback exception of Rule 15c2-11 has not been met. When the status for a security on the OTC Bulletin Board is "active" a broker/dealer may enter quotes without filing the Form 211 application.
Question #36: What are the filing requirements of Schedule H if another security of the issuer is trading on Nasdaq, i.e., if a broker/dealer wishes to quote the warrants of an issuer that has a common stock listed on Nasdaq?
Answer: Since an issuer that has a security trading on Nasdaq will be a reporting company, the broker/dealer need only submit the Form 211 and indicate on the Form 211, under Rule 15c2-11(a)(3), the reports that the broker/dealer has in its possession. These reports would include the issuer's latest Form 10-K and all subsequent Form 10-Qs and Form 8-Ks. In this case the Form 211 can be faxed to the NASD.
Question #37: Is there an expedited procedure for listing recently delisted Nasdaq securities on the OTC Bulletin Board?
Yes. On February 28, 1992, the SEC granted an exemption from Rule 15c2-1 1 for securities that will be delisted from Nasdaq due to the revised listing and maintenance requirements for the Nasdaq Small-Cap Market.SM
When these securities are delisted, they will automatically be eligible to quote on the OTC Bulletin Board or any other quotation medium the next business day
without the filing of a Form 211, as long as the following requirements are met:
(1) The security must have been traded on Nasdaq for the past 30 days;
(2) The issuer must not be subject to bankruptcy proceedings;
(3) The issuer must be current in its SEC reporting requirements; and
(4) The broker/dealer relying on this exception must have been a market maker in the subject security during the 30 days prior to delisting.
Question #38: Can more than one security of an issuer be included on a Form 211?
Answer: Yes. More than one security for a single issuer may be requested on a single Form 211.
Question #39: Can a broker/dealer accept payment to make a market in an issuer's securities?
Answer: No. A market maker cannot accept any form of compensation, including cash, securities, products, or services, for the purposes of making a market, to cover out-of-pocket expenses for making a market, or for submitting an application to make a market in an issuer's securities. This activity was addressed in Notice to Members 75-16 in 1975.
Question #40: Can a broker/dealer rely on the inside market (high bid, low ask prices) calculated on the OTC Bulletin Board in executing retail transactions?
Answer: No. Broker/dealers cannot execute transactions in non-Nasdaq over-the-counter equity securities based on the prices of any non-validated quotations. Members should be aware that the best indication of the prevailing market price is the actual trades that are occurring in the marketplace and not the quotations appearing on the OTC Bulletin Board or other quotation mediums. As the Commission stated in the leading decision of Alstead, Dempsey & Company, Incorporated (SEC Release No. 34-20825, April 5, 1984): "By their very nature, quotations only propose a transaction: they do not reflect the actual result of a completed arms-length sale. Thus, as we have frequently pointed out, quotations for obscure securities with limited inter-dealer trading activity may have little value as evidence of the current market." (See Notice to Members 92-16).
Question #41: If the OTC Bulletin Board displays three firm quotations, is a broker/dealer required by Article III, Sections 1 and 21 (b) of the NASD Rules of Fair Practice, to call the market makers to verify their quotations appearing on the OTC Bulletin Board?
Answer: No. The broker/dealer does not have to call the three market makers to verify the firm quotations that are displayed on the screen. A broker/dealer need only note on the order ticket the identity of the broker/dealers and the firm quotations obtained from the OTC Bulletin Board.
Question #42: If the OTC Bulletin Board has one firm quote and two name only quotations, is the broker/dealer required to call the name-only market makers to determine their quotations?
Answer: Yes. If there are fewer than three firm quotations on the OTC Bulletin Board, the broker/dealer must call the name-only market makers to obtain the three required quotations.
Question #43: What is the broker/dealer's obligation if the OTC Bulletin Board has fewer than three market makers listed?
Answer: The broker/dealer must check the "pink sheets" or any other quotation medium for additional market makers. A market maker in these quotation mediums must be contacted to obtain its current quotations. If three market makers cannot be found, then the broker/dealer need only contact the one or two that were found.
Question #44: If the OTC Bulletin Board has three non-firm priced quotations in a foreign security, must a broker/dealer contact each market maker?
Answer: Yes. Non-firm quotations on the OTC Bulletin Board cannot be used to satisfy the requirement that quotations be obtained from other market makers.
Question #45: Does Rule 15c2-1 1 and Schedule H apply to secondary market transactions in direct participation program securities?
Answer: Yes. Both Rule 15c2-11 and all of the sections of Schedule H apply. Pursuant to Schedule H, Section 4, members are required to submit their Rule 15c2-11 information to the NASD prior to publishing quotations. Moreover, members must report their volume in secondary market transactions, and certain pricing information in direct participation program trading as required by Schedule H, Section 2 of the NASD By-Laws. For more information on trade reporting for these securities, please call Automated Reports at (301) 590-6887. In addition, a separate Notice will be issued addressing this subject.
Question #46: Where can a broker/dealer get more information on the subjects discussed in this Notice?
Answer: All interested broker/dealers should read Rule 15c2-11, Commission Release No. 34-29094, Schedule H, Section 4 of the NASD By-Laws, and Notice to Members 90-40. Additionally, the Compliance Division's OTC Compliance Unit (202) 728-8149 is available throughout the business day and by voice mail during non-business hours to respond to inquiries or to direct the caller to the appropriate party. We encourage members to call with their questions and inquiries.
For more information contact Daniel M. Sibears, Director, Compliance Division, at (202) 728-8959 or Ken Worm, Manager, OTC Compliance Unit, at (202) 728-8149. Also, broker/dealers with questions regarding Rule 15c2-11 may contact the Office of Trading Practices, Division of Market Regulation, Securities and Exchange Commission at (202) 272-2848.