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IMPORTANT MAIL VOTE
EXECUTIVE SUMMARY
The WASL invited to Article III, Section 27 ID flutes of Fair Practice and planS: .Amendment to Article 1 of the NASD 5. The proposed amendments to Article III, Section 27 would (1) prescribe specific supervisory partices and precdures for all member firms to derrttions of "office of supervisory jurisdcation"(OSJ) and "branch office".The confirming amendment would delete the present definition of "branch office" from the By-Laws. The texts of the proposed amendments follow this notice.
BACKGROUND
In recent years, the NASD has become increasingly concerned that some persons associated with members may be engaging in the offer and sale of securities to the public without adequate ongoing supervision. In particular, the potential for significant regulatory problems exists when registered representatives conduct business at locations that are not subject to regular examination by the member and operate without direct oversight of qualified supervisory personnel.
In addition to these concerns, the NASD has considered whether certain aspects of a firm's business should be subject to on-site supervision by a registered principal so that the member can properly discharge its regulatory obligations. Further, the NASD has from time to time considered whether the definition of "branch office" in the By-Laws should be revised.
The NASD's concern about off-site employment was discussed in detail in Notice to Members 86-65 (September 12,1986), which emphasized existing NASD rules that most directly apply to off-site employment That notice stated that the NASD was continuing to study the need to revise requirements for designating offices of supervisory jurisdiction and branch offices and for on-site supervision by registered principals.
On June 29, 1987, the NASD issued Notice to Members 87-41, which requested comments on (1) proposed amendments to the definitions of "office of supervisory jurisdiction" and "branch office" and (2) proposed requirements for on-site registered principals at a business location based upon the number of persons and the extent to which such location was advertised or otherwise designated as an office of the member.
As a result of the comments received in response to these proposals, the NASD issued Notice to Members 88-11 on February 8,1988, requesting comments on proposed amendments to Article HI, Section 27 of the Rules of Fair Practice that set forth specific minimum requirements for supervisory practices and procedures for NASD members and redefinitions of "office of supervisory jurisdiction" and "branch office."
The proposed amendments set forth herein are substantially similar to the proposals set form in Notice to Members 88-11.
PROPOSED AMENDMENTS
Supervision Rules
The proposed amendments substantially expand the specificity of Article m, Section 27 of the NASD Rules of Fair Practice with respect to a member's supervisory obligations. The NASD believes that the new provisions will assist members in ensuring compliance with applicable laws, regulations, and rules by requiring that firms review their businesses and construct and document a supervisory system that is reasonably designed to achieve compliance with the securities laws and regulations and NASD rules applicable to the various areas of the securities business in which NASD members are engaged.
The proposals also contain certain minimum required supervisory procedures and practices that tine NASD believes to be necessary in any firm, regardless of size or type, in order to supervise adequately an investment Kinking aivl'or securities business.
The amendments require each firm to establish and maintain supeivisory procedures and practices that provide for, at a minimum, the following:
(1) Establishment and maintenance of written supervisory and review procedures as specified in the projxised amendments;
(2) Designation of appropriately registered principals for each type of business in which the firm engages to carry out the firm's supervisory obligations;
(3) Designation as an OS J for each location that meets the OSJ definition and any other locations for which such designation is appropriate to enable the firm to supervise properly, viewed in light of certain factors enumerated in the proposed amendments;
(4) Designation of one or more appropriately registered prindpal(s) in each OSJ, including the main office, and one or more appropriately registered representative(s) or principal(s) in each branch office to carry out the supervisory responsibilities and activities assigned to that office by the member,
(5) Assignment of each registered person to a supervisor,
(6) Reasonable efforts to ensure that all supervisory personnel are property qualified;
(7) Participation of each registered representative, individually or collectively and not less than annually, at an interview or meeting at which compliance matters relevant to the activities of such representan've(s) are discussed;
(8) Designation and identification to the NASD of one or more principals who shall review the firm's supervisory practices and procedures and take or recommend to senior management appropriate action reasonably designed to achieve the member's compliance with applicable securities laws and regulations and with the rules of the NASD; and
(9) Establishment of a schedule for examining the firm's branch offices that takes into account the nature of the activity, volume of business, and number of persons at each office.
The proposed amendments would require that each firm maintain written supervisory procedures that describe the supervisory system implemented according to the above requirements and that list the titles, registration statuses, and locations of the required supervisory personnel and the specific responsibilities assigned to each. A copy of the member's supervisory procedures, or the relevant parts thereof, would be required to be kept and maintained at each OSJ and at each other location where supervisory activities are conducted on behalf of the member. The member would be required to amend its written supervisory procedures, as appropriate, within a reasonable time after changes occur in applicable laws, regulations, and rules, and in the firm's supervisory system, and to communicate these changes throughout its organization.
Members also would be required to conduct a review, at least annually, of the businesses in which it engages for purposes of detecting and preventing violations of, and achieving compliance with, applicable laws, regulations, and rules. At a minimum, this would include: (1) periodic examination of customer accounts to detect and prevent irregularities and abuses; (2) annual inspection of each OSJ; and (3) inspection of branch offices in accordance with a schedule to be set forth in the member's supervisory procedures. The member would be required to retain a written record of the dates upon which each inspection and review was conducted.
In addition to the foregoing, the amendments would also revise and clarify certain existing provisions of Section 27.
Definitions of "Office of Supervisory Jurisdiction" and "Branch Office"
An "office of supervisory jurisdiction" (OSJ) is currently defined in Article in, Section 27 of the NASD Rules of Fair Practice as "...any office designated as directly responsible for the review of the activities of registered representatives or associated persons in such office and/or any other offices of the member." Under the proposed amendments, an OSJ would be any business location of a member firm at which one or more of the following functions take place:
(1) Order execution and/or market making;
(2) Structuring of public offerings or private placements;
(3) Maintaining custody of customers' funds and/or securities;
(4) Finai acceptance (approval) of new accounts on behalf of the member,
(5) Review and endorsement of customer orders pursuant to the provisions of proposed Article HI, Section 27(d);
(6) Final approval of advertising or sales literature for use by persons associated with the member, pursuant to Article m, Section 35(b)(l) of the Rules of Fair Practice; or
(7) Responsibility for supervising the activities of persons associated with the member at one or more other offices of the member.
The term "branch office" is currently defined in Article I, Section (c) of the NASD By-Laws as"... an office which is owned or controlled by a member, and which is engaged in the investment banking or securities business." An Explanation of the Board of Governors in Schedule C to the NASD By-Laws reiterates this definition and also provides that a place of business of a person associated with a member is considered a branch office if the member (1) directly or indirectly contributes a substantial portion of the operating expenses of such place of business; and/or (2) authorizes a listing in any publication or other media, including a professional dealers digest or telephone directory, that designates a place as an office or if the member designates any such place as an office to another organizatioan
The proposed amendment would define "branch office" as any business location of the member identified to the public or customers by any means as a location at which the investment banking or securities business is conducted on behalf of the member, excluding any location identified solely in a telephone directory line listing or on a business card or letterhead, which listing, card, or letterhead also sets forth the address and telephone number of the office of the member responsible for supervising the activities of the identified location.
Conforming Amendments to NASD By-Laws
Article I of the NASD By-Laws sets form certain definitions applicable to terms used in the By-Laws and the Rules of Fair Practice. Section (c) defines "branch office" and would be amended to reflect that the term is now to be defined Article IE, Section 27 of the Rules.
Effective Date
If the foregoing proposals are approved by the membership and by the Securities and Exchange Commission (SEC), the Board of Governors believes that it is appropriate to provide members with a period of time following SEC approval to bring their supervisory practices and procedures into compliance. The Board has concluded, therefore, that the amendments will take effect six months following SEC approval.
Comments Received
The NASD received 44 comment letters in response to Notice to Members 88-11. After a review and discussion of the comments, the Board made certain modifications that are reflected in the attached text of the proposed amendments. The most significant of these are:
(1) The enumeration of certain factors relevant tn the determination of the need to designate additional OSJs for general supervisory purposes (see proposed Section 27(a)(3)).
(2) Clarification of certain matters regarding the annual compliance meeting or interview required for all registered representatives {see proposed Section 27(a)(7)).
(3) The deletion of the reference to a "compliance" principal in proposed Section 27(a)(8).
(4) The substitution of "titles" for "names" of persons identified in the firm's written procedures as part of its supervisory "chain of command," with the addition of a requirement to make and keep a separate record of all persons designated as supervisory personnel (see proposed Section 27(b)(2)).
(5) The codification of the NASD' s position that the required review of all transactions and correspondence be conducted by a registered principal {see proposed Section 27(d)).
(6) The deletion of approval of correspondence from the enumeration of functions giving rise to the OSJ definition {see proposed Section 27(f)(1)).
(7) The addition of a requirement that telephone directory line listings, business cards, and letterhead identifying non-branch locations also set forth the address and telephone number of the firm's office responsible for supervising the identified location {see proposed Section 27(f)(2)).
The Board of Governors believes that the proposed amendments are necessary and appropriate and recommends that members vote their approval.
Please mark the attached ballot according to your convictions and return it in the enclosed, stamped envelope to "The Corporation Trust Company." Ballots must be postmarked no later than August 1,1988.
Questions concerning this notice can be directed to Dennis C. Hensley, NASD Vice President and Deputy General Counsel, at (202) 728-8245, or Jacqueline D. Whelan, Senior Attorney, NASD Office of General Counsel, at (202) 728-8270.
PROPOSED AMENDMENTS TO ARTICLE III, SECTION 27 OF THE NASD RULES OF FAIR PRACTICE
Note: New language is underlined; deleted language is in brackets.
Sec. 27.
[Written procedures
(a) Each member shall establish, maintain and enforce written procedures which will enable it to supervise properly the activities of each registered representative and associated person to assure compliance with applicable securities laws, rules, regulations and statements of policy promulgated thereunder and with the rules of this Association.]
Supervisory system
(a) Each member shall establish and maintain a system to supervise the activities of each registered representative and associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with the rules of this Association. Final responsibility for proper supervision shall rest with the member. A member's supervisory system shall provide, at a minimum, for the following:
(1) The establishment and maintenance of written procedures as required by paragraphs (b) and (c) of this section
(2) The designation, where applicable, of an appropriately registered principal^) with authority to carry put the supervisory responsibilities of the member for each type of business in which it engages for which registration as a broker-dealer is required.
(3) The designation as an office of supervisory jurisdiction C'OSJ") of each location that meets the definition contained in paragraph (f) of this Section. Each member shall also designate such other OSJs as it determines to be necessary in order to supervise its registered representatives and associated persons in accordance with the standards set forth in this Section. taking into consideration the following factors:
(i) whether registered persons at the location engage in retail sales or other activities involving regular contact with public customers:
(ii) whether a substantial number of registered persons conduct securities activities at. or are otherwise supervised from, such location;
(iii) whether the location is geographically distant from another OSJ of the firm:
(iv) whether the member's registered persons are geographically dispersed; and
(v) whether the securities activities at such location are diverse and/or complex.
(4) The designation of one or more appropriately registered principals in each OSJ. including the main office, and one or more appropriately registered representatives or principals in each non-OSJ branch office with authority to carry out the supervisory responsibilities assigned to that office by the member.
(5) The assignment of each registered person to an appropriately registered representative(s) and/or principal(s) who shall be responsible for supervising that person's activities.
(6) Reasonable efforts to determine that all supervisory personnel are qualified by virtue of experience or training to carry out their assigned responsibilities.
(7) The participation of each registered representative, either individually or collectively, no less than annually, in an interview or meeting conducted by persons designated by the member at which compliance matters relevant to the activities of the representative(s) are discussed. Such interview or meeting may occur in conjunction with the discussion of other matters and may be conducted at a central or regional location or at the representative's place of business.
(8) Each member shall designate and specifically identify to the Association one or more principals who shall review the supervisory system, procedures, and inspections implemented by the member as required by this Section and who shall take or recommend to senior management appropriate action reasonably designed to achieve the member's compliance with applicable securities laws and regulations, and with the rules of this Association.
[Responsibility of member
(b) Final responsibility for proper supervision shall rest with the member. The member shall designate a partner, officer or manager in each office of supervisory jurisdiction, including the main office, to carry out the written supervisory procedures. A copy of such procedures shall be kept in each such office.]
Written procedures
(b)
(1) Each member shall establish, maintain and enforce written procedures to supervise the types of business in which it engages and to supervise the activities of registered representatives and associated persons that are reasonably designed to achieve compliance with applicable securities laws and regulations, and with the applicable rules of this Association.
(2) The member's written supervisory procedures shall set forth the supervisory system established bv the member pursuant to Section 27(a) above, and shall include the titles, registration status and locations of the required supervisory personnel and the responsibilities of each supervisory person as these relate to the types of business engaged in. applicable securities laws and regulations, and the rules of this Association. The member shall maintain on an internal record the names of all persons who are designated as supervisory personnel and the dates for which such designation is or was effective. Such record shall he preserved by the member for a period of not less than three years, the first two years in an easily accessible place.
(3) A copy of a member's written supervisory procedures, or the relevant portions thereof, shall be kept and maintained in each OSJ and at each location where supervisory activities are conducted on behalf of the member. Each member shall amend its written supervisory procedures as appropriate within a reasonable time after changes occur in applicable securities laws and regulatioas. including the rules of this Association. and as changes occur in its supervisory system, and each member shall he responsible for communicating amendments through its organization.
[Written approval
(c) Each member shall be responsible for keeping and preserving appropriate records for carrying out the member's supervisory procedures. Each member shall review and endorse in writing, on an internal record, all transactions and all correspondence of its registered representatives pertaining to the solicitation or execution of any securities transaction.]
Internal inspections
(c) Each member shall conduct a review, at least annually, of the businesses in which it engages, which review shall he. reasonably designed to assist in detecting and preventing violatioas of and achieving compliance with applicable securities laws and regulatioas. and with the rules of this Association. Each member shall review the activities of each office , which shall include the periodic examination of customer accounts to detect and prevent irregularities or abuses and at least an annual inspection of each office of supervisory jurisdiction. Each branch office of the member shall be inspected according to a cycle which shall be set forth in the firm's written supervisory and inspection procedures. In establish-ing such cycle, the firm shall give coasideration to the nature and complexity of the securities activities for which the location is responsible, the volume of business done and the number of associated persoas assigned to the location. Each member shall retain a written record of the dates upon which each review and inspection is conducted
[Review of activities and annual inspection
(d) Each member shall review the activities of each office, which shall include the periodic examination of customer accounts to detect and prevent irregularities or abuses and at least an annual inspection of each office of supervisory jurisdiction.]
Written approval
(d) Each member shall establish procedures for the review and endorsement by a registered principal in writing, on an internal record, of all traasactions and all correspondence of its registered representatives pertaining to the solicitation or execution of any securities transaction.
Qualifications investigated
(e) Each member shall have the responsibility and duty to ascertain by investigation the good character, business repute, qualifications and experience of any person prior to making such a certification in the application of such person for registration with this Association.
["Office of supervisory jurisdiction"
(f) "Office of supervisory jurisdiction" means any office designated as directly responsible for the review of the activities of registered representatives or associated persons in such office and/or in other offices of the member.]
Definitions
(f)
(1) "Office of Supervisory Jurisdiction" means any office of a member at which any one or more of the following functions take place:
(i) order execution and/or market making:
(ii) structuring of public offerings or private placements.
(iii) maintaining custody of customers' funds and/or securities:
(iv) final acceptance (approval) of new accounts on behalf of the member
(v) review and endorsement of customer orders, pursuant to paragraph (d) above;
(vi) final approval of advertising or sales for use by persons associated with the member, pursuant to Article III. Section 35(b)(1) of the Rules of Fair Practice: or
(vii) responsibility for supervising the activities of persons associated with the member at one or more other branch offices of the member.
(f)
(2) "Branch Office" means any location identified by any means to the public or customers as a location at which the member conducts an investment banking or securities business, excluding any location identified solely in a telephone directory line listing or on a business card or letterhead, which listing, card, or letterhead also sets forth the address and telephone number of the branch office or OS J of the firm from which the person(s) conducting business at the non-branch location is directly supervised.
PROPOSED AMENDMENT TO ARTICLE I OF THEN BY-LAWS
Note: New language is underlined; deleted language in brackets.
When used in these By-Laws, and any rules of Corporation, unless the context otherwise requires, term:
•
•
•
(c) "branch office" means an office [located in United States which is owned or controlled by a member, and which is engaged in the investment banking securities business;] defined as a branch office in Art III. Section 27 of the Rules of Fair Practice.
