[Federal Register Volume 76, Number 107 (Friday, June 3, 2011)]
[Notices]
[Pages 32248-32255]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-13752]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-64564; File No. SR-MSRB-2011-03]
Self-Regulatory Organizations; Municipal Securities Rulemaking
Board; Notice of Filing of Amendment No. 1 and Order Granting
Accelerated Approval of a Proposed Rule Change, as Modified by
Amendment No. 1, to Amend Rule G-23, on Activities of Financial
Advisors
May 27, 2011
On February 9, 2011, the Municipal Securities Rulemaking Board
(``Board'' or ``MSRB'') filed with the Securities and Exchange
Commission (``Commission''), 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 MSRB Rule G-23, on
activities of financial advisors. The Commission published the proposed
rule change for comment in the Federal Register on February 28, 2011
(the ``Commission Notice'').\3\ The Commission received eighteen
comment letters.\4\ On May 27,
[[Page 32249]]
2011, the MSRB filed an amendment (``Amendment No. 1'') to the proposed
rule change.\5\ The Commission is publishing this notice and order to
solicit comments on Amendment No. 1 and to approve the proposed rule
change, as modified by Amendment No. 1.
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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. 63946 (February 22,
2011), 76 FR 10926.
\4\ See letter from F. John White, Chief Executive Officer,
Public Financial Management, Inc., dated February 25, 2011 (``PFM
Letter''); e-mail to Mary N. Simpkins, Senior Special Counsel,
Commission, from Patricia Bowen, Vice President, Eastern Bank, dated
March 2, 2011 (``Eastern Bank Letter''); letter from Robert W. Doty,
President, American Governmental Financial Services, dated March 10,
2011 (``AGFS Letter''); letter from Hill A. Feinberg, Chairman and
CEO, First Southwest Company, dated March 16, 2011 (``First
Southwest Letter''); letter from Carl Giles, dated March 16, 2011
(``Giles Letter''); letter from Keith Kolb, Managing Director,
Director of Baird Public Finance, Robert W. Baird & Co.
Incorporated, dated March 18, 2011 (``Baird Letter''); letter from
Joy A. Howard, Principal, WM Financial Strategies, dated March 18,
2011 (``Joy Howard Letter''); letter from Christopher Hamel, Head of
Municipal Finance, RBC Capital Markets, LLC, dated March 21, 2011
(``RBC Letter''): letter from Nathan R. Howard, Municipal Advisor,
WM Financial Strategies, dated March 21, 2011 (``Nathan Howard
Letter''); letter from Mike Nicholas, Chief Executive Officer, Bond
Dealers of America, dated March 21, 2011 (``BDA Letter''); e-mail
from David A. Wagner, Senior Vice President and Financial Advisor,
Ehlers Associates, Inc., dated March 21, 2011 (``Ehlers Letter'');
letter from Colette J. Irwin-Knott, President, National Association
of Independent Public Finance Advisors, dated March 21, 2011
(``NAIPFA Letter''); letter from Steve Apfelbacher, President,
Ehlers Associates, Inc., dated March 21, 2011 (``Apfelbacher
Letter''): letter from Leslie M. Norwood, Managing Director and
Associate General Counsel, The Securities Industry and Financial
Markets Association, dated March 21, 2011 (``SIFMA Letter''); letter
from Larry Kidwell, President, Kidwell & Company Inc., dated March
21, 2011 (``Kidwell Letter''); e-mail from Robert J. Stracks,
Counsel, BMO Capital Markets GKST Inc., dated March 22, 2011 (``BMO
Letter''); letter from Susan Gaffney, Director, Federal Liaison
Center, Government Finance Officers Association, dated March 21,
2011 (``GFOA Letter''); letter from Thomas M. DeMars, Managing
Principal, Fieldman, Rolapp & Associates, dated March 23, 2011
(``Fieldman Letter'').
\5\ Amendment No. 1 partially amends the text of the original
proposed interpretive notice to: (i) Clarify that Rule G-23 is
solely a conflicts rule; (ii) eliminate the rebuttable presumption
that a dealer providing certain advice is a financial advisor; (iii)
emphasize that Rule G-23(b) does not require a writing in order for
a financial advisory relationship to exist; (iv) provide additional
clarity as to when a dealer will be deemed to be ``acting as an
underwriter'' and not as a financial advisor for purposes of Rule G-
23(b); and (v) provide guidance on certain activities (in addition
to underwriting activities) in which a dealer may engage without
violating Rule G-23(d).
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I. Description of Proposed Rule Change and Summary of Comments
As described in the Commission Notice, the MSRB is proposing to
amend its Rule G-23, on activities of financial advisors. Proposed Rule
G-23 would, subject to limited exceptions, (i) prohibit a dealer
financial advisor with respect to the issuance of municipal securities
from acquiring all or any portion of such issue directly or indirectly,
from the issuer as principal, or acting as agent for the issuer in
arranging the placement of such issue, either alone or as a participant
in a syndicate or other similar account formed for that purpose; (ii)
apply the same prohibition to any dealer controlling, controlled by, or
under common control with the dealer financial advisor; and (iii)
prohibit a dealer financial advisor from acting as the remarketing
agent for such issue. In addition, the proposed interpretive guidance,
as amended, would provide guidance on when a dealer that renders advice
would be considered to be ``acting as an underwriter'' rather than as a
financial advisor for purposes of proposed Rule G-23.
The proposed rule change resulted from a concern that a dealer
financial advisor's ability to underwrite the same issue of municipal
securities, on which it acted as financial advisor, presented a
conflict that is too significant for the existing disclosure and
consent provisions of Rule G-23 to cure. Even in the case of a
competitive underwriting, the perception on the part of issuers and
investors that such a conflict might exist was sufficient to cause
concern that permitting such role switching was not consistent with ``a
free and open market in municipal securities,'' which the Board is
mandated to perfect.\6\ Of the eighteen comment letters received on the
proposed rule change,\7\ eleven commenters expressed some support for
the proposed rule change, including the general principle that prompted
the proposed rule change, but these commenters also suggested certain
changes to or exemptions from the proposed rule change.\8\ Seven
commenters objected to all or part of the proposed rule change.\9\
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\6\ See Commission Notice, supra note 3 at 10927.
\7\ See supra note 4.
\8\ See PFM Letter, AGFS Letter, First Southwest Letter, Joy
Howard Letter, Nathan Howard Letter, Ehlers Letter, NAIPFA Letter,
Apfelbacher Letter, Kidwell Letter, GFOA Letter and Fieldman Letter.
\9\ See Eastern Bank Letter, Giles Letter, Baird Letter, RBC
Letter, BDA Letter, SIFMA Letter and BMO Letter.
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The MSRB's responses to comments and changes to the proposed rule
change made by Amendment No. 1 are described below.
A. Scope of ``Acting as an Underwriter'' and Rule G-23(b)
Several commenters stated that the proposed rule change would
preserve the general confusion between the role of a financial advisor
and the role of an underwriter and preserve historically abusive market
practices.\10\ One commenter expressed concern that the exemption for
underwriters under the proposed interpretive guidance is inconsistent
with the underwriter exemption provided under the Dodd-Frank Act and
the Commission's proposed rules,\11\ and would help underwriters evade
fiduciary duties.\12\ Another commenter stated that the proposed rule
change: (i) Undermines the will of the Exchange Act to adhere to clear
lines between interests that are public and interests that are private;
(ii) perpetuates a culture of conflict that the Exchange Act intended
to eliminate; (iii) creates loopholes for bank/broker dealers to
continue to serve in multiple roles and represent conflicting interests
in transactions; (iv) avoids the intent of the Exchange Act to impose
fiduciary duties on municipal advisors who are bank/broker dealers; (v)
creates confusion and perplexity as opposed to clarity and precision as
a baseline for interpretation of the rules; (vi) invites opportunity
for continued abuses of municipal issuers; and (vii) conflicts with the
stated mission of the MSRB to protect the interests of issuers,
investors, and the public trust, and not those of the bank/broker
dealer community.\13\
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\10\ See Joy Howard Letter at 1-2. See also Kidwell Letter at 2-
3 and Nathan Howard Letter at 1. One commenter expressed the belief
that the current financial crisis was caused in part by the acts of
financial advisors who engaged in conflicts of interest that were
either undisclosed, or disclosed and misunderstood, by debt issuers,
borrowers, and investors. See id. at 2.
\11\ See Exchange Act Release No. 63576 (December 20, 2010), 76
FR 824 (January 6, 2011) (``Municipal Advisor Registration Proposing
Release'').
\12\ See PFM Letter at 2-4.
\13\ See Kidwell Letter at 4. This commenter stated that state
and local governments and their instrumentalities should be held to
a different and higher standard than individuals or corporations
because the risk associated with loss due to a conflict of interest
is of public monies, where the officials responsible for the
allowance of the conflict bear no personal financial responsibility
in association with such actions. See id. at 3.
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Another commenter stated that it has asked the MSRB, on various
occasions, to consider whether it is appropriate for a broker-dealer to
provide the kind of advice that financial advisors typically
provide.\14\ This commenter stated that the MSRB has failed to
recognize the distinction between providing advice and acting as an
underwriter, and objected to the exemption from the definition of
municipal advisor for underwriters that render ``advice to an issuer,
including advice with respect to the structure, timing, terms and other
similar matters concerning the issuance of municipal securities.''\15\
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\14\ See NAIPFA Letter at 1.
\15\ Id. at 2.
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Other commenters expressed concern that the lack of distinction
between the ``advice'' provided by municipal advisors and the
``advice'' provided by underwriters will reduce market transparency and
the distinction between the roles, and as such will confuse market
participants, including small infrequent municipal issuers.\16\
Specifically, one commenter stated that because the proposed rule
change uses the term ``advice'' to describe both the actions of
financial advisors and underwriters, market participants will be
confused as to the type of services that may be provided.\17\ This
commenter suggested using the term ``recommendation or guidance'' in
the context of municipal advisors, and the term ``information'' in the
context of underwriters.\18\
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\16\ See Joy Howard Letter at 8 and Nathan Howard Letter at 1.
\17\ See Nathan Howard Letter at 1.
\18\ See id. at 1-4.
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Several commenters suggested enhanced disclosure by dealers who act
as underwriters. According to one commenter, with regard to negotiated
sales, dealers, in their course of engagement as underwriters,
typically provide input regarding matters related to the structure,
timing, and terms of the
[[Page 32250]]
bonds.\19\ The commenter stated its belief that this input should not
be substituted for advice the issuer receives from a financial
advisor.\20\ This commenter also suggested that when the issuer is
represented by a financial advisor, this underwriter input should not
be seen as violating the intent of Rule G-23.\21\ However, when the
issuer is not so represented, such input provided by the underwriter
becomes the issuer's sole source of financial advice, and this may
cause the underwriter to be the de facto financial advisor to the
issuer.\22\ The commenter suggested that the latter relationship should
be prohibited by Rule G-23.\23\ As such, this commenter suggested that
the proposed interpretive guidance should at least require the
underwriter to disclose that it is not serving as the issuer's
financial advisor, and has no fiduciary obligation to act in the best
interest of the issuer.\24\ This commenter further stated that
``[i]ssuers need to clearly understand that their underwriter is not
their financial advisor and that they are not discouraged from hiring a
financial advisor because of a loophole in the proposed Guidance that
suggests the underwriter can perform both roles.'' \25\
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\19\ See GFOA Letter at 2.
\20\ See id.
\21\ See id..
\22\ See id.
\23\ See id.
\24\ See id.
\25\ Id.
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Another commenter stated that if the Commission adopts the
expansive view of what constitutes ``acting as an underwriter'' as
proposed by the MSRB, the underwriters acting as financial advisors
should be required to decide the role they wish to play before they
talk with the issuer and affirmatively disclose the conflicts inherent
in their underwriting role to the issuer, if that is the role they
decide to pursue.\26\ Further, this commenter stated that any contract
that the underwriter had for acting as an advisor for an issuer must be
terminated when the firm is hired or seeks to be hired as an
underwriter to the issuer, or in any other role that is inconsistent
with the role of a fiduciary.\27\ Another commenter stated that a firm
should disclose in writing, prior to beginning any work for a municipal
issuer, whether it will be working as a broker-dealer or as a municipal
advisor so as to allow a municipality to make an informed decision to
use a broker-dealer instead of a municipal advisor.\28\
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\26\ See NAIPFA Letter at 7-8. This commenter also noted the
extensive affirmative disclosure obligations the MSRB is seeking to
impose on municipal advisors, and the lack of similar disclosure
required of dealers. See id. As such, this commenter suggested that
dealers providing advice should be required to do more than merely
state that they are acting as an underwriter to avoid being deemed a
financial advisor. See id. at 8. Rather, the commenter suggested
that disclosure similar to that proposed for municipal advisors
should be required for underwriters. See id.
\27\ See NAIPFA Letter at 8.
\28\ See Ehlers Letter.
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Another commenter generally expressed support for the proposed rule
change and the proposed interpretive guidance.\29\ With respect to the
proposed interpretive guidance, the commenter pointed out that it is
possible that a dealer may make representations or engage in conduct at
the outset of a relationship that leads a municipal entity to believe
that the dealer, even though labeled as ``underwriter,'' is providing
advice in the municipal entity's best interests.\30\ Moreover, the
commenter stated that the ``advice'' offered to a municipal entity may
have other functions than being offered in an issuer's best
interests.\31\ Further, this commenter pointed out that even if a
direct explicit representation is not made, there are a variety of
methods to lead a municipal entity to believe that an underwriter's
advice places the entity's interests first.\32\ In addition, this
commenter expressed skepticism that merely informing an issuer that a
dealer will be an underwriter is sufficient to ``whitewash the dealer's
advice to the issuer'' because many issuers do not know the difference
between an underwriter and a financial advisor.\33\ As such, this
commenter suggested that the dealer be required to inform the issuer
that the advice is not offered in a fiduciary capacity, with an
explanation of what that means.\34\ Lastly, this commenter suggested
that dealers serving as underwriters should engage in discussions with
issuers underscoring the non-fiduciary character of the relationship
and state in bond purchase agreements atypical facts and circumstances
in which underwriters do assume fiduciary roles.\35\
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\29\ See AGFS Letter at 1.
\30\ See id.
\31\ See id.
\32\ See id.
\33\ See id. at 2. See also Kidwell Letter at 2-3 (stating that
while conflicts of interest may have been disclosed to issuers, many
may not fully understand how their interests could be adversely
affected by permitting such conflicts of interest to exist).
\34\ See AGFS Letter at 2.
\35\ See id. at 2-3. The commenter also pointed out that the
discussions should occur at the outset of the relationship, and
prior to the time that issuers commit themselves to particular
courses of action. See id. at 3.
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On a similar note, five commenters \36\ suggested amending or
deleting paragraph (b) of Rule G-23 in order to reduce confusion about
the scope of the role of an underwriter and the role of a financial
advisor. One of these commenters stated that under the Exchange Act, an
individual acts as a municipal advisor if it provides ``advice with
respect to the structure, timing, terms and other similar matters
concerning such financial products or issues,'' and a ``broker, dealer,
or municipal securities dealer serving as an underwriter'' is excluded
from the definition of a municipal advisor.\37\ This commenter then
pointed out that ``[t]he definition of `underwriter' under Section
2(a)(11) of the Securities Act of 1933 does not include `a person that
provides advice to or on behalf of a municipal entity or obligated
person with respect to municipal financial products or the issuance of
municipal securities, including advice with respect to the structure,
timing, terms, and other similar matters concerning such financial
products or issues.' '' \38\ As such, the commenter stated that
proposed Rule G-23 confuses the distinction between municipal advisors
and underwriters, thereby making the market less transparent and more
susceptible to conflicts of interest and abuse and that proposed Rule
G-23 would be less ambiguous if paragraph (b) was deleted in its
entirety.\39\ Another commenter suggested that the last sentence of
paragraph (b) of proposed Rule G-23 be revised to read:
``Notwithstanding the foregoing, for purposes of this rule, a financial
advisory relationship shall not be deemed to exist when, in the course
of acting as an underwriter, a broker, dealer or municipal securities
dealer provides information to an issuer relating to the sale of the
securities to investors such as transactional structures, the
underwriter's capabilities to sell various securities, how particular
terms of a security structure may affect rates and yields, and matters
incidental to the underwriting of a new issue of municipal
securities.'' \40\
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\36\ See PFM Letter, Joy Howard Letter, Nathan Howard Letter,
NAIPFA Letter and Kidwell Letter.
\37\ See Joy Howard Letter at 2.
\38\ Id.
\39\ See id.
\40\ NAIPFA Letter at 6.
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In response, in Amendment No. 1, the MSRB stated that, in order for
a dealer to be considered to be acting as an underwriter under Rule G-
23(b), it must clearly identify itself, in writing, as an underwriter
and not as a financial advisor from the earliest stages of the
[[Page 32251]]
relationship and, in the proposed interpretive guidance, as amended by
Amendment No. 1, the MSRB provides additional examples of what the
earliest stage of a relationship may be. Amendment No. 1 would also
amend the proposed interpretive guidance to provide that the required
disclosure must make clear that the primary role of an underwriter is
to purchase, or arrange the placement of, securities in an arm's-length
commercial transaction between the issuer and the underwriter and that
the underwriter has financial and other interests that differ from
those of the issuer. Additionally, as amended, the proposed
interpretive guidance would provide that the dealer must not engage in
a course of conduct that is inconsistent with an arm's length
relationship with the issuer in connection with such issue of municipal
securities or the dealer will be deemed to be a financial advisor with
respect to that issue and precluded from underwriting that issue by
Rule G-23(d). The MSRB is of the view that these disclosures would be
adequate to alert the issuer to the role of the dealer as an
underwriter with respect to an issue, especially when coupled with the
requirement that the dealer's course of conduct must not be
inconsistent with its disclosures if it is to avoid being considered a
financial advisor.
The Commission understands commenters' concerns regarding clarity
of the roles of an underwriter and a financial advisor and believes
that the requirement under the proposed rule, as amended, that a firm
wishing to serve as an underwriter must make a written disclosure of
its proposed role with respect to an issuance at the earliest stages of
its relationship with the issuer and continue to engage in a course of
conduct consistent with that role in connection with such issue, will
help achieve that clarity. In addition, the Commission notes that a
variety of facts and circumstances, including the presence or absence
of another firm serving as a financial advisor with respect to that
issuance, may ultimately inform any review of whether or not a dealer
has engaged in a course of conduct consistent with the role of an
underwriter with respect to that issue.
As discussed above, several commenters expressed concern that the
proposed rule conflicted with the provisions of Section 15B(c)(1) of
the Exchange Act \41\ which provides that ``municipal advisors have a
fiduciary duty to their municipal entity clients.'' \42\ The Commission
notes that the proposed rule, as amended, explicitly does not define
``whether provision of the advice permitted by Rule G-23 would cause
the dealer to be considered a `municipal advisor' under the Exchange
Act.'' In addition, the proposed interpretive guidance, as amended,
clarifies that ``Rule G-23 is only a conflicts-of-interest rule and
does not set normative standards for dealer conduct. In particular,
Rule G-23, as amended, would not address whether the provision of any
of the advice permitted by Rule G-23 would subject the dealer to a
fiduciary duty as a `municipal advisor.' '' \43\ The Commission further
notes that although it shall not be a violation of Rule G-23(d) for a
dealer acting as an underwriter to give advice with respect to the
investment of the proceeds of the issue, municipal derivatives
integrally related to the issue or other similar matters concerning the
issue, as proposed in the Municipal Advisor Registration Proposing
Release, such dealer would be required by the Commission to register as
a municipal advisor with respect to such advice.\44\ Since October 1,
2010, municipal advisors, and any persons associated with a municipal
advisor, have had a fiduciary duty to any municipal entity for whom the
municipal advisor acts as a municipal advisor. In addition, the
Commission notes that a dealer acting as an underwriter who must also
register as a municipal advisor may be subject to additional rules
(including, but not limited to, limitations on unmanageable conflicts
or additional disclosures regarding compensation and conflicts of
interest) based upon fiduciary duty or other laws or rules.
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\41\ 15 U.S.C. 78o-4(c)(1).
\42\ See, e.g., PFM Letter, Joy Howard Letter, NAIPFA Letter and
Kidwell Letter.
\43\ See Amendment No. 1 at 4.
\44\ See Municipal Advisor Registration Proposing Release, supra
note 11.
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B. Rebuttable Presumption of Financial Advisor Status
Several commenters objected to the rebuttable presumption in the
proposed interpretive guidance, which stated that a dealer that
provides advice to an issuer with respect to the issuance of municipal
securities will be presumed to be a financial advisor with respect to
that issue and suggested that the presumption be eliminated. One
commenter suggested that the interpretive guidance does not provide any
clarity because it states that an underwriter could still be considered
a financial advisor by engaging in certain unspecified subsequent
actions.\45\ This commenter opined that rather than using presumptions,
the rule should be that if a party is engaged by an issuer as a
financial advisor, then it is a financial advisor; and if a party is
engaged by an issuer as an underwriter, then it is an underwriter.\46\
This commenter further stated that if the Commission does not believe
issuers can understand the differences between those roles, it can
prescribe disclosures to make the differences clear.\47\
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\45\ See BDA Letter at 3.
\46\ See id.
\47\ See id.
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Another commenter expressed concerns with the ability of
underwriters to advise issuers in connection with an offering in the
context of the proposed rebuttable presumption.\48\ The commenter
stated that, in connection with the solicitation of municipal
underwriting business, prospective underwriters are frequently asked by
issuers about structuring and strategic alternatives, comparative
analyses and general market intelligence, and other relevant ideas, and
this dialogue provides an important informational foundation for many
issuers in the financing process.\49\ As such, this commenter stated
that the presumption that dealers are financial advisors would chill or
eliminate this pre-engagement exchange, particularly because even if a
dealer had properly alerted the issuer that it was acting solely as an
underwriter, its subsequent course of conduct may still cause it to be
considered a financial advisor and thus be precluded from participating
in the underwriting.\50\ The commenter stated that this problem is
exacerbated because of the proposed deletion of the reference to
compensation in Rule G-23(b), which has provided a bright line for
determining whether a person is a financial advisor.\51\ Consequently,
the commenter suggested that the presumption be eliminated, and
instead, the interpretive guidance should provide that dealers
intending to act solely as underwriters make clear and unambiguous such
intentions in their initial communications with the issuer.\52\ Another
commenter objected to
[[Page 32252]]
the proposed presumption and stated that underwriter conduct is clearly
discernible because such transactions are formally concluded by a bond
purchase agreement.\53\
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\48\ See SIFMA Letter at 3.
\49\ See id. at 4.
\50\ See id.
\51\ See id.
\52\ See id. This commenter further suggested that the proposed
interpretive guidance should provide that a written agreement
between the prospective underwriter and municipal issuer reflecting
such understanding would, in fact, establish a presumption that the
underwriter will continue to act in such role throughout the
pendency of the offering. See id. at 4-5.
\53\ See BMO Letter.
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On the other hand, several commenters requested more guidance about
the content of the actions necessary to rebut the presumption of
financial advisory status.\54\ One commenter stated that ``[t]o give
the Rule any substantive meaning, the timing and content of a rebuttal
of a municipal advisory relationship must be well defined * * * It is
particularly important that the rebuttal be clear about the broker-
dealer's role and its limits in the context of a negotiated transaction
in which there is no municipal advisor.'' \55\
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\54\ See Joy Howard Letter at 5-8 and Fieldman Letter. For
example, one commenter raised questions about the meaning of the
phrases ``in the course of acting as an underwriter'' and ``clearly
identify itself as an underwriter'' as they are used in the proposed
interpretive guidance. See Joy Howard Letter at 5-8.
\55\ Fieldman Letter. This commenter suggested that the rebuttal
must state that the underwriter broker-dealer is not serving as a
municipal advisor; that the underwriter also represents interests
that may conflict with those of the issuer; and that the broker-
dealer does not owe a fiduciary duty and duties of loyalty and care
to the issuer. See id. This commenter also suggested that the
rebuttal must be in writing and acknowledged by the issuer, and must
be provided prior to the beginning of any work for the issuer. See
id.
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In response, in Amendment No. 1, the MSRB noted that Amendment No.
1 would amend the proposed interpretive guidance by removing the
rebuttable presumption language and replacing it with language that a
financial advisory relationship will be deemed to exist whenever a
dealer renders the types of advice provided for in proposed Rule G-
23(b), because the revised language is more consistent with the
language of proposed Rule G-23(b).
C. Section 23(c): Writing Requirement for Financial Advisors
One commenter recommended that Rule G-23(c) be deleted or revised
\56\ because it is no longer necessary.\57\ This commenter stated that
the Dodd-Frank Act provided a definition of ``municipal advisor'' and
the Commission's proposing release on the registration of municipal
advisors made it clear that an individual will be treated as a
municipal advisor regardless of whether these services are free.\58\ As
such, the commenter opined that a written agreement is unnecessary for
determining whether the broker-dealer is a financial advisor.\59\
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\56\ See Joy Howard Letter at 3-4. This commenter suggested that
the rule be modified such that a broker-dealer that intends to serve
as an underwriter would be required to submit to the municipal
entity a written document that defines the broker-dealer's role as
an underwriter, and indicates that the underwriter is not serving as
an advisor and is not serving as a fiduciary. See id. at 4.
\57\ See id. at 3.
\58\ See id.
\59\ See id.
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In response, in Amendment No. 1, the MSRB noted that Amendment No.
1 would amend the proposed interpretive guidance to reiterate what Rule
G-23 has always provided: it is not necessary to have a writing in
order for a financial advisory relationship to exist. Instead, Rule G-
23(c) provides that a writing must be entered into prior to, upon or
promptly after the inception of the financial advisory relationship.
The Commission believes that the change in Amendment No. 1 clarifying
that it is not necessary to have a written agreement for a financial
advisory relationship to exist is consistent with the provisions of the
Exchange Act.
D. Small and/or Infrequent Issuers
Several commenters \60\ stated that the proposed amendments to Rule
G-23 would harm small and infrequent issuers, with one commenter \61\
specifically calling for an exemption for ``Small Issue Deals'' or
``offerings under $5 million in aggregate principal amount'' and
another commenter \62\ calling for an exemption for ``issuances under
$10 million.''
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\60\ See e.g., RBC Letter, First Southwest Letter, BDA Letter
and SIFMA Letter. See also Eastern Bank Letter.
\61\ See First Southwest Letter at 1-2.
\62\ See SIFMA Letter at 5.
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One commenter expressed concern that the proposed rule change will
adversely impact small municipal bond transactions because it will
eliminate an already limited number of potential underwriters for such
transactions, resulting in decreased competition, decreased choice, and
increased costs to issuers.\63\ Several other commenters expressed
similar concerns about decreased competition, decreased choice, and
increased costs.\64\ Further, one commenter stated that it is unaware
of any history of abuse in simple fixed rate bonds that make up most of
the small issuances, and that any concern relating to potential abuse
by financial advisors is addressed through federal and state fiduciary
duties imposed on financial advisors.\65\ One commenter suggested that,
if the proposed rule change is approved, the MSRB carefully monitor the
impact of the rule change on small and/or infrequent issuers and revise
the rule if needed to increase market accessibility.\66\
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\63\ See First Southwest Letter at 1.
\64\ See SIFMA Letter at 5 and BDA Letter at 2.
\65\ See SIFMA Letter at 5.
\66\ See BDA Letter at 2.
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On the other hand, one commenter that supported the proposed
amendments to Rule G-23 did not support an exception to the proposed
amendments for small and/or infrequent issuers.\67\ This commenter
noted that small and infrequent issuers will be the primary
beneficiaries of the revised Rule G-23 because these issuers are the
least likely to understand the conflicts of interest that arise when a
financial advisor switches to serving as an underwriter.\68\
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\67\ See Joy Howard Letter at 10.
\68\ See id.
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In Amendment No. 1, the MSRB stated that it believes that the
potential negative impact on fees and market accessibility for small
and/or infrequent issuers would be minimal compared to the protections
that will be afforded to such issuers. The MSRB stated that it was
persuaded by arguments that small and/or infrequent issuers are, in
many cases, unable to appreciate the difference in the nature of the
roles of a financial advisor and an underwriter and did not believe
that exceptions should be provided for smaller offerings as suggested
by several commenters. The Commission agrees that it is appropriate to
apply the protections of proposed Rule G-23 to small and/or infrequent
issuers.
E. Competitive Bid Offerings
Six commenters \69\ supported changes to the proposed amendments
that would exempt some or all competitively bid transactions from the
proposed rule change. Several commenters stated that there has been no
history of abuse by dealers that had previously served as financial
advisors in competitive bids.\70\ One commenter pointed out that the
competitive bidding process for municipal issues has become almost
exclusively electronic, and the electronic process provides for a
[[Page 32253]]
completely transparent, highly efficient and tamper proof process.\71\
Another commenter stated that the municipal underwriting market is
competitive, and competition and transparency resulting from a free and
open market would prohibit inappropriate or unethical behavior by
financial advisors acting as underwriters.\72\ One other commenter
stated that financial advisors would have no practical opportunity in
these straightforward, simple contexts to structure an offering that
might give them any competitive advantage.\73\ Several commenters also
expressed concern that by prohibiting the bid of financial advisors
under the proposed rule change, issuers may end up being locked out of
the market, or the lowest bid would be removed from the process,
harming particularly the smaller issuers.\74\ Moreover, some commenters
stated that concerns relating to potential abuse by financial advisors
would be addressed through their fiduciary duties under federal and
state law.\75\
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\69\ See Giles Letter, BDA Letter, Baird Letter, RBC Letter,
SIFMA Letter and First Southwest Letter. One commenter stated that
except for municipal bond transactions under $5 million, the
commenter does not believe there should be an exception for
competitively bid transactions. See First Southwest Letter at 1.
\70\ See RBC Letter at 2. This commenter stated that there is no
evidence that financial advisors structure transactions to give
themselves an advantage, or are not diligent in seeking other
bidders in order to improve their chances of being the successful
bidder. See id. See also Baird Letter at 3; SIFMA Letter at 3; and
Giles Letter at 1 (stating that the proposed rule change is based on
the ``specious argument'' that ``a conflict of interest might exist
when a financial advisor acts as an underwriter,'' and that there is
no tangible proof that an actual conflict of interest exists or that
such conflict of interest has resulted in wrongdoing).
\71\ See RBC Letter at 2. See also SIFMA Letter at 3 (stating
that ``competitively bid, non rated, non credit-enhanced, fixed rate
municipal debt issuances in which the issuer utilizes an electronic
bidding platform'' should be exempt from the proposed rule change in
order to ensure continued unfettered access to the credit markets
for municipal issuers).
\72\ See Giles Letter at 2. See also BDA Letter at 2 (stating
that potential conflicts of interest for financial advisors who act
as underwriters are eliminated in a fairly run, competitively bid
offering of securities) and Giles Letter at 1 (stating that ``any
conflict of interest that might exist would be erased by permitting
competitive bidding'').
\73\ See SIFMA Letter at 3.
\74\ See RBC Letter at 2. This commenter opined that this
proposed rule change would create an additional artificial barrier
to entry to the market by non-rated competitive issuers because such
issuers have historically depended on ``bidders that are willing to
do their homework in order to bid,'' such as financial advisors. See
id. at 3. See also SIFMA Letter at 3 and Giles Letter at 2 (stating
that the proposed rule change could be economically harmful to
taxpayers by eliminating competitive bidders and precluding best
execution for the issuer).
\75\ See SIFMA Letter at 3. See also RBC Letter at 3.
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On the other hand, one commenter expressed support for the absence
of an exception for competitive sales in the proposed rule change
because this would ensure that financial advisors aggressively work to
secure the largest number of bids possible.\76\ This commenter
acknowledged that there could be instances where a small issuer
experiences difficulty in obtaining bids.\77\ However, the commenter
stated that if a financial advisor is allowed to switch roles to become
an underwriter, the financial advisor would effectively be allowed to
breach its fiduciary duty by structuring and marketing the transaction
in a fashion to insure their success as the winning bidder rather than
seeking to obtain the largest number of bids possible.\78\
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\76\ See Joy Howard Letter at 10.
\77\ See id.
\78\ See id.
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In Amendment No. 1, the MSRB stated that it does not believe that
the use of electronic bidding platforms mitigates the conflict of
interest posed by a dealer financial advisor's switching to an
underwriter role, in part, because such platforms are not necessarily
available to all issuers. Further, in the Commission Notice, the MSRB
stated its belief that involvement in this process provides a dealer
financial advisor with information that can provide an unfair advantage
when such dealer participates in a competitive bid transaction. The
Commission believes that the MSRB's proposed rule change helps prevent
potential conflicts of interest and/or unfair competition issues that
could arise when a dealer financial advisor participates in a
competitive bid transaction without limiting access to potential
purchasers of an issuance of municipal securities.
F. Effective Date
Several commenters suggested that the six-month transition period
provided in the proposed rule change should be extended. Commenters
suggested various transitional timeframes to allow market participants
adequate time to comply with any changes.\79\ One commenter suggested a
transitional period of one year to allow issuers, dealers, and
financial advisors sufficient time to take action to comply with the
rules.\80\ Another commenter expressed concern that the six-month
implementation period proposed by the MSRB for the proposed rule change
is insufficient to avoid market disruption.\81\ One commenter suggested
incorporating a grandfather clause that would allow current Rule G-23
to continue to apply to financial advisory relationships that are in
place at the time the proposed rule change is adopted.\82\
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\79\ See BDA Letter, Baum Letter and SIFMA Letter.
\80\ See BDA Letter at 3.
\81\ See SIFMA Letter at 6.
\82\ See id.
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On the other hand, several commenters suggested that the transition
period should be shortened or eliminated. One commenter suggested that
in order to clarify and enforce the fiduciary duty of financial
advisors, there should not be a transition period for prohibiting role
switching from financial advisor to underwriter.\83\ Another commenter
stated that because municipal advisors had a fiduciary duty under
federal law effective October 1, 2010, any role switching that occurred
after that date is a violation of the Exchange Act.\84\
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\83\ See Joy Howard Letter at 9. This commenter stated that in
MSRB Notice 2010-42, dated October 1, 2010, the MSRB stated that
financial advisors are subject to a federal fiduciary duty to their
municipal entity clients as of October 1, 2010, even before MSRB
rulemaking on the subject. See id. As such, this commenter stated
that any broker-dealer that has served as a financial advisor on or
after October 1, 2010 and subsequently switched to serving as an
underwriter has already violated its fiduciary duty. See id.
\84\ See NAIPFA Letter at 8.
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In response, in Amendment No. 1, the MSRB stated that it does not
recommend changing the current proposal that the rule change be made
effective for new issues for which the Time of Formal Award (as defined
in MSRB Rule G-34) occurs more than six months after Commission
approval. In addition, the MSRB does not recommend a grandfather
provision, as the MSRB has determined that the effective date described
above provides an ample time period for issuers of municipal securities
to finalize any outstanding transactions that might be affected by the
proposed rule change. The Commission believes that the proposed
effective date for proposed Rule G-23 is appropriate.
G. Other Comments
Several commenters expressed concern that the MSRB never published
the proposed interpretive guidance to proposed Rule G-23 for public
comment before it was filed with the Commission, as it did with other
amendments to Rule G-23.\85\ In response, in Amendment No. 1, the MSRB
noted that it filed the proposed rule change with the Commission in
accordance with the requirements of Section 19(b) of the Exchange Act,
which generally provides for a 21-day comment period following
publication in the Federal Register of a rule change proposed by a
self-regulatory organization.
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\85\ See e.g., PFM Letter at 1-2 and GFOA Letter at 2.
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Two commenters objected to the part of the proposed rule change
that would allow for a dealer to serve as a financial advisor on one
transaction and serve as the underwriter on a separate transaction for
the same issuer.\86\ One commenter suggested that proposed Rule G-23 be
revised such that it would force the underwriter acting as an advisor
to decide which role they will play for the issuer and prohibit the
firm from playing both roles at the same
[[Page 32254]]
time.\87\ This commenter suggested a one year cooling off period from
the time an advisor terminates its role as a municipal advisor and the
time the advisor would be allowed to negotiate an issue with the issuer
or act in any other role that is inconsistent with the role of a
fiduciary.\88\ One commenter raised a concern that some broker-dealers
serve as financial advisors with the objective of establishing a
relationship with the issuer that will ultimately enable the company to
serve as the underwriter for subsequent transactions, and that the
proposed rule change does not resolve this conflict of interest.\89\ As
such, this commenter suggested that Rule G-23 require a two-year period
after a financial advisory relationship has expired before a broker-
dealer serving as a financial advisor can switch to serving as an
underwriter.\90\
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\86\ See NAIPFA Letter at 9 and GFOA Letter at 1.
\87\ See NAIPFA Letter at 9.
\88\ See id.
\89\ See Joy Howard Letter at 9.
\90\ See id. at 10.
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In response, in Amendment No. 1, the MSRB noted that it has
determined to continue to apply Rule G-23 on an issue-by-issue basis.
The proposed amendments would not prohibit a dealer financial advisor
from providing financial advisory services on one issue and then
serving as underwriter on another issue, even if the two issues were in
the market concurrently. The Commission believes that applying proposed
Rule G-23 on an issue-by-issue basis is consistent with the Exchange
Act in light of the requirements in the proposed rule that a dealer
clearly identify its role as an underwriter and engage in a course of
conduct not inconsistent with that role.
Another commenter expressed concern about the requirement that a
dealer may not act as a remarketing agent with respect to an issue for
one year following the termination of an advisory relationship in
connection with such issue.\91\ This commenter opined that the one-year
period is arbitrary and unnecessarily long, and should be no longer
than three months.\92\ In response, the MSRB noted in Amendment No. 1
that it has previously stated that it does consider it to be
appropriate to impose a one-year cooling off period during which a
dealer financial advisor could not serve as remarketing agent for the
same issue of municipal securities. The MSRB stated that the one year
period is a significant timeframe that would more adequately address
any potential or actual conflicts of interest than the three month
timeframe. The Commission agrees with the MSRB that a one-year cooling
off period is appropriate.
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\91\ See SIFMA Letter at 5-6.
\92\ See id.
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One commenter stated that current Rule G-23 has provided balanced
guidance to financial advisors who seek to act as underwriters without
any history of abuse.\93\ As such, the commenter suggested that the
Commission consider sunsetting the proposed rule change two years after
its implementation, which would allow the MSRB to assess the impact of
the proposed rule change and would ensure reconsideration of the actual
need for its continuance at such time.\94\ In response, the MSRB stated
in Amendment No. 1 that it does not recommend a sunset provision, as
the MSRB and Commission comment periods have provided ample opportunity
for public comment and considerations of those comments on the proposed
rule change. The Commission agrees with the MSRB that a sunset
provision is not appropriate. In particular, the Commission notes the
importance of the protections that will be provided by proposed Rule G-
23, as amended, and believes it is appropriate to have those
protections on a going-forward basis and not to sunset the Rule after a
specified period of time.
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\93\ See id. at 6.
\94\ See id. See also BMO Letter.
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II. Discussion and Commission's Findings
The Commission has carefully considered the proposed rule change,
the comment letters received, and Amendment No.1 and finds that the
proposed rule change, as amended, is consistent with the requirements
of the Exchange Act and the rules and regulations thereunder applicable
to the MSRB.\95\
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\95\ 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).
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In particular, the Commission finds that the proposed rule, as
amended, does not conflict with Section 15B(e)(4)(A) of the Exchange
Act,\96\ which defines the term ``municipal advisor,'' because the
proposed rule, as amended, explicitly does not state whether provision
of the advice permitted by proposed Rule G-23, as amended, would cause
the dealer to be considered a ``municipal advisor'' under the Exchange
Act.
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\96\ 15 U.S.C. 78o-4(e)(4)(A).
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The Commission also finds that the proposed rule, as amended, does
not conflict with the provisions of Section 15B(c)(1) of the Exchange
Act,\97\ which provides that ``[a] municipal advisor * * * shall be
deemed to have a fiduciary duty to any municipal entity for whom such
municipal advisor acts as a municipal advisor'' because, as the MSRB
notes in Amendment No. 1, the proposed rule, as amended, does not set
normative standards for dealer conduct. The Commission notes that other
laws or rules may set the normative standards for the activities
allowed by the proposed rule, as amended.
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\97\ 15 U.S.C. 78o-4(c)(1).
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The Commission believes that the proposed rule, as amended, is
consistent with Section 15B(b)(2) of the Exchange Act \98\ and, in
particular, Section 15B(b)(2)(C) of the Exchange Act,\99\ which
provides that the rules of the MSRB shall:
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\98\ 15 U.S.C. 78o-4(b)(2).
\99\ 15 U.S.C. 78o-4(b)(2)(C).
be designed to prevent fraudulent and manipulative acts and
practices, to promote just and equitable principles of trade, to
foster cooperation and coordination with persons engaged in
regulating, clearing, settling, processing information with respect
to, and facilitating transactions in municipal securities and
municipal financial products, to remove impediments to and perfect
the mechanism of a free and open market in municipal securities and
municipal financial products, and, in general, to protect investors,
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municipal entities, obligated persons, and the public interest.
The proposed rule change, as amended, is consistent with Section
15B(b)(2) of the Exchange Act because it will help prevent potentially
fraudulent and manipulative acts and practices caused by a dealer
financial advisor serving as underwriter or placement agent for an
issue of municipal securities for which it provided financial advisory
services. Accordingly, the proposed rule change, as amended, will help
protect municipal entities and help to perfect the mechanism of a free
and open market in municipal securities to the benefit of investors,
municipal entities, and the public interest.
Furthermore, the Commission finds that the proposed rule, as
amended, is consistent with Section 15B(b)(2)(L)(iv) of the Exchange
Act,\100\ which requires that rules adopted by the MSRB:
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\100\ 15 U.S.C. 78o-4(b)(2)(L)(iv).
not impose a regulatory burden on small municipal advisors that is
not necessary or appropriate in the public interest and for the
protection of investors, municipal entities, and obligated persons,
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provided that there is robust protection of investors against fraud.
The Commission believes that the proposed rule, as amended, would
principally affect dealer financial advisors that are not small
municipal
[[Page 32255]]
advisors. Furthermore, it is likely that those dealer financial
advisors that are small municipal advisors primarily serve as financial
advisors to issuers of municipal securities that do not access the
capital markets frequently and, when they do so, issue securities in
small principal amounts. Those issuers may be less likely than larger,
more frequent issuers to understand the conflict presented when their
financial advisors also underwrite their securities. The Commission
believes it is appropriate for the prohibitions in the proposed rule,
as amended, to also apply to those dealer financial advisors that are
small municipal advisors.
III. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether Amendment No. 1
to the proposed rule change is consistent with the Exchange Act.
Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
Send an e-mail to [email protected]. Please include
File Number SR-MSRB-2011-03 on the subject line.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-MSRB-2011-03. This file
number should be included on the subject line if e-mail is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all
written statements with respect to the proposed rule change that are
filed with the Commission, and all written communications relating to
the proposed rule change between the Commission and any person, other
than those that may be withheld from the public in accordance with the
provisions of 5 U.S.C. 552, will be available for Web site viewing and
printing in the Commission's Public Reference Room, 100 F Street, NE.,
Washington DC 20549, on official business days between the hours of 10
a.m. and 3 p.m. Copies of such filing also will be available for
inspection and copying at the principal office of the MSRB. All
comments received will be posted without change; the Commission does
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly. All
submissions should refer to File Number SR-MSRB-2011-03 and should be
submitted on or before June 24, 2011.
IV. Accelerated Approval of Proposed Rule Change, as Modified by
Amendment No. 1
The Commission finds good cause for approving the proposed rule
change, as modified by Amendment No. 1, before the 30th day after the
date of publication in the Federal Register. The Commission notes that
the proposal was published for notice and comment, and the Commission
received eighteen comment letters, which comments have been discussed
in detail above.
The Commission believes that Amendment No.1 is consistent with the
requirements of the Exchange Act and finds good cause, consistent with
Section 19(b)(2) of the Act,\101\ to approve the proposed rule change,
as modified by Amendment No. 1, on an accelerated basis.
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\101\ 15 U.S.C. 78s(b)(2).
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V. Conclusion
For the foregoing reasons, the Commission finds that the proposed
rule change, as modified by Amendment No. 1, is consistent with the
requirements of the Exchange Act and the rules and regulations
thereunder applicable to the MSRB, and in particular, Sections
15B(b)(2),\102\ 15B(c)(1),\103\ and 15B(e)(4)(A) \104\ of the Exchange
Act. The proposal will become effective for new issues for which the
Time of Formal Award (as defined in MSRB Rule G-34(a)(ii)(C)(1)(a))
occurs more than six months after the date of this order.
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\102\ 15 U.S.C. 78o-4(b)(2).
\103\ 15 U.S.C. 78o-4(c)(1).
\104\ 15 U.S.C. 78o-4(e)(4)(A).
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It is therefore ordered, pursuant to Section 19(b)(2) of the
Exchange Act,\105\ that the proposed rule change (SR-MSRB-2011-03), as
modified by Amendment No. 1, be, and hereby is, approved on an
accelerated basis.
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\105\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\106\
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\106\ 17 CFR 200.30-3(a)(12).
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Cathy H. Ahn,
Deputy Secretary.
[FR Doc. 2011-13752 Filed 6-2-11; 8:45 am]
BILLING CODE 8011-01-P