Notice To Members 86-73

Effectiveness of Exemption from NASD Board of Governors' Free-Riding Interpretation for Conversions of Savings and Loan Associations and Certain Other Organizations

Published Date:

TO: All NASD Members and Other Interested Persons

EXECUTIVE SUMMARY

Effective with the SEC's approval on September 25, 1986, an amendment to the NASD Board of Governors' Free-Riding Interpretation provides limited exemption for certain persons purchasing "hot issue" securities in connection with the conversion to stock ownership of mutual savings and loan associations, savings banks and certain other organizations.

BACKGROUND

On September 25, 1986, the Securities and Exchange Commission (SEC) approved an amendment to the Board of Governors' Interpretation with respect to Free-Riding and Withholding (Interpretation). The amendment provides an exemption, subject to compliance with specified conditions, from the Intepretation for sales of "hot issue" securities 1/ made in connection with the conversions of savings and loan associations, savings banks and certain other organizations from the mutual form to the stock form of ownership. The amendment became effective upon approval by the SEC. 2/

The amendment, as originally proposed, was published by the NASD for comment in Notice to Members 85-81 (December 2, 1985). In response to the comments received and following further consideration by the NASD Board of Governors, a revised proposal was published for comment in Notice to Members 86-26 (April 8, 1986). The revised amendment was subsequently filed with and approved by the SEC.

The amendment provides limited exemptive relief from the provisions of the Interpretation, which otherwise prohibit or restrict the ability of certain persons, if they come within any of the classes of persons covered by the Interpretation, from exercising their subscription rights or otherwise purchasing securities directly from a converting savings and loan association or other converting institution.

The Interpretation prohibits a member and associated persons of a member from selling securities that are part of a "hot issue" to persons associated with members, their immediate family members, with certain exceptions, and to accounts in which members or associated persons of members have a beneficial interest ("prohibited persons").3/The Interpretation also prohibits sales by members and associated persons of members to senior officers and certain employees of specified financial institutions, including savings and loan associations, banks and insurance companies, their immediate family members and accounts in which such persons have a beneficial interest ("restricted persons").4/ Such sales are not prohibited, however, if the purchaser has an investment history with the member making the sale, the total amount sold by the member to all persons covered by the Interpretation is insubstantial and not disproportionate, and the amount sold to any one such "restricted person" is insubstantial. Previously under the Interpretation, members and associated persons of members were responsible for assuring compliance with these prohibitions and restrictions with respect to sales made by the issuer on a non-underwritten basis. 5/

The amendment changes the application of these prohibitions and restrictions of the Interpretation by establishing an exemption for sales of securities in a "conversion offering" made directly by the converting institutions to persons who are otherwise restricted or prohibited under the Interpretation. 6/ The amendment does not cover nonconversion offerings made by savings and loan associations, savings banks or other institutions nor does it cover the underwritten portion of conversion offerings where sales are made directly by members. Such offerings continue to be subject to the restrictions and prohibitions of the Interpretation.

The exemption is available only if specified conditions are satisfied, which are determined by whether the purchaser comes within one of the prohibited classes under the Interpretation or within one of the classes of restricted persons. In the case of purchasers who were previously prohibited under the Interpretation, such as associated persons of members, three conditions must be met for an effective exemption:

1. The purchaser must be an "eligible purchaser."7/
2. The securities being acquired must be restricted against sale or transfer for 150 days.
3. The purchase must be reported in writing to the person's employer- member within one day of payment.

In the case of purchasers who were previously restricted under the Interpretation, such as senior officers of the converting savings and loan association or other institution, the sole condition for effective exemption is that they meet the definition of "eligible purchasers."

* * *

A more detailed discussion of the purposes and background of the amendment is contained in the notices to members noted previously. The text of the amendment is attached to this notice. It will appear as new language at the end of the Interpretation. The revised Interpretation will be published by Commerce Clearing House, Inc., in the October 1986 supplement to the NASD Manual.

Any questions concerning this notice or the amendment may be directed to either Dennis C. Hensley or John F. Mylod, Jr., NASD Office of General Counsel, at (202) 728-8294.

Sincerely,

Frank J. Wilson
Executive Vice President and General Counsel

Attachment

AMENDMENT TO FREE-RIDING INTERPRETATION*

Effective September 25, 1986

SALES BY ISSUERS IN CONVERSION OFFERINGS

Definitions

(a) For purposes of this subsection, the following terms shall have the meanings stated:
(1) "Conversion offering" shall mean any offering of securities made as part of a plan by which a savings and loan association or other organization converts from a mutual to a stock form of ownership.
(2) "Eligible purchaser" shall mean a person who is eligible to purchase securities pursuant to the rules of the Federal Home Loan Bank Board or other governmental agency or instrumentality having authority to regulate conversion offerings.

Conditions for Exemption

(b) This Interpretation shall not apply to a sale of securities by the issuer on a non-underwritten basis to any person who would otherwise be prohibited or restricted from purchasing a hot issue security if all of the conditions of this subsection (b) are satisfied.
(1) Sales to Members, Associated Persons of Members and Certain Related Persons
If the purchaser is a member, person associated with a member, member of the immediate family of any such person to whose support such person contributes, directly or indirectly, or an account in which a member or person associated with a member has a beneficial interest:
(A) the purchaser shall be an eligible purchaser;
(B) the securities purchased shall be restricted from sale or transfer for a period of 150 days following the conclusion of the offering; and
(C) the fact of purchase shall be reported in writing to the member where the person is associated within one day of payment.
(2) Sales to Other Restricted Persons
If the purchaser is not a person specified in subsection (b)(l) above, the purchaser shall be an eligible purchaser.

1/ The Interpretation defines a "hot issue" to be securities of a public offering that trade at a premium in the secondary market, whenever such secondary market begins. Interpretation, NASD Manual, p. 2040.

2/ Securities Exchange Act Release No. 23645 (September 25, 1986).

3/ Interpretation, paragraphs 2 and 5, NASD Manual, p. 2041.

4/ Interpretation, paragraphs 4 and 5, NASD Manual, p. 2041.

5/ Interpretation, "Issuer Directed Securities," NASD Manual, p. 2043.

6/ The term "conversion offering" is defined by the amendment to mean any offering made as part of a plan by which a savings and loan association or other organization converts from a mutual form to a stock form of ownership. See section (a)(l).

7/ The term "eligible purchaser" is defined to mean a person who is eligible to purchase pursuant to the rules of the Federal Home Loan Bank Board or other agency having authority to regulate conversion offerings. See section (a)(2).

* This text is added to the end of the Interpretation.