regulatory organizations; proposed rule changes: Chicago Board Options Exchange, Inc.,

[Federal Register: October 25, 1999 (Volume 64, Number 205)]

[Notices]

[Page 57499-57502]

From the Federal Register Online via GPO Access [wais.access.gpo.gov]

[DOCID:fr25oc99-108]

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-4206; File No. SR-CBOE-99-43]

Self-Regulatory Organizations; Order Approving a Proposed Rule Change and Notice of Filing and Accelerated Approval of Amendment Nos. 1, 2, and 3 to the Proposed Rule Change by the Chicago Board Options Exchange, Inc. To amend Its Constitution Pertaining to Corporate Governance

October 18, 1999.

1. Introduction

   On August 6, 1999, the Chicago Board Options Exchange, Inc. (``CBOE'' or ``Exchange'') submitted to the Securities and Exchange Commission (``SEC'' or ``Commission''), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act''), \1\ and Rule 19b-4 thereunder,\2\ a proposed rule change to amend certain provisions of its constitution pertaining to the governance of the Exchange. The proposed rule change was published in the Federal Register on September 7,

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   1999.\3\ On September 24, 1999, the Exchange submitted an amendment to the proposed rule change.\4\ On September 28, 1999, the Exchange submitted a second amendment to the proposed rule change.\5\ The Exchange also submitted an amendment on October 15, 1999.\6\ The Commission did not receive any comments on the proposed rule change. This order approves the proposed rule change and approves on an accelerated basis and solicits comment on Amendment Nos. 1, 2, and 3 to the proposed rule change.

   \1\ 15 U.S.C. 78s(b)(1).

   \2\ 17 CFR 240.19b-4.

   \3\ Securities Exchange Act Release No. 41791 (August 25, 1999), 64 FR 48682.

   \4\ Letter from Debora Barnes, Senior Attorney, CBOE, to Richard Strasser, Division of Market Regulation (``Division''), SEC, dated September 23, 1999 (``Amendment No. 1''). Amendment No. 1 contained grammatical changes to the proposed rule language and contained a chart describing the composition of CBOE's Board of Directors during the transition period when the proposed changes are implemented.

   \5\ Letter from Debora Barnes, Senior Attorney, CBOE, to Richard Strasser, Division, SEC, dated September 24, 1999 (``Amendment No. 2''). Amendment No. 2 made further grammatical corrections to the proposed rule language.

   \6\ Letter from Arthur B. Reinstein, Assistant General Counsel, CBOE, to Richard Strasser, Assistant Director, Division, SEC, dated October 14, 1999 (``Amendment No. 3''). In Amendment No. 3, the Exchange proposes to amend CBOE Rule 8.80(b)(1), which provides for the composition and election of the MTS Appointments Committee (``MTS Committee''). Amendment No. 3 reflects changes proposed by the Exchange in an earlier filing submitted to the Commission for approval. See Securities Exchange Act Release No. 41325 (April 22, 1999), 64 FR 23691 (May 3, 1999) (File No. SR-CBOE-98-54).

2. Description of the Proposed Rule Change

   1. Board of Directors

      The proposed rule change would alter the composition of the Exchange's Board of Directors (``Board''). For example, CBOE proposes to increase the number of public representatives on the Board from four to eight. In addition, CBOE proposes to add a seat on the Board to represent owner/lessor members.\7\

      \7\ An owner/lessor member includes those members that own a CBOE membership but are not actively engaged in business as a broker-dealer. These owner/lessors are also referred to as ``passive lessors.''

      To accommodate these new Board members, CBOE proposes other changes to the composition of the Board. For example, the proposal would increase the total size of the Board from 21 to 23 directors. In addition, the number of floor directors on the Board would be reduced from six to four and the president of the Exchange, who is currently a member of the Board, will no longer be a Board member.

      The number of off-floor firm directors and at-large directors will remain unchanged at six and three, respectively. In addition, the Chairman of the Exchange will continue to serve as a director.

      Directors will continue to be elected for three-year terms, with all categories of directors to be elected by the members of the Exchange.\8\ During the transition, each director currently serving on the Board will be permitted to complete their current terms of office.

      \8\ Currently, public directors are appointed by the Chairman of the Exchange.

   2. Qualifications of Directors and Officers

      The proposed rule change also clarifies certain requirements applicable to specific categories of directors and officers. For example, in addition to the current requirement that floor directors be primarily engaged in business on the floor of the Exchange, the proposal specifies floor directors must be ``on a seat'' (i.e., acting in the capacity of a member by actively trading securities) in connection with their floor activity. In addition, the proposal clarifies the current requirement that a floor director must own or control a membership by specifying that a floor director may own a membership indirectly through an interest in a corporation, partnership, limited liability company, trust, or other entity that owns one or more memberships directly. A floor director with such indirect control, however, must have the sole and exclusive right to vote the membership and control its sale, and must possess all of the risks and rewards of a direct owner of at least 50% interest in a membership.

      The proposed rule change also specifies an additional requirement for the Vice-Chairman of the Exchange, who is also the Chairman of the Executive Committee.\9\ The proposal would require the Vice-Chairman of the Exchange to be primarily engaged in business on the floor of the Exchange. The current constitution requires only that the Vice-Chairman own a CBOE membership.

      \9\ The Exchange Committee is responsible for managing the business and affairs of the Exchange.

   3. Nominating Committee

      The proposed rule change would increase the size of the Nominating Committee from seven to ten members to accommodate adding representatives of retail firms, lessors and the public. The Nominating Committee is the Exchange committee that determines which candidates are qualified for election to the Board and other Exchange committees. As proposed, the Nominating Committee will consist of four floor members (except during the transition years, when the number of floor directors will first be six and then five), two members who represent firms that primarily conduct a public customer business, two members who are lessors of their memberships (at least one of whom must be a ``passive'' lessor),\10\ and two public members.

      \10\ See supra note 6.

      All members of the Nominating Committee will be elected by the membership and will serve three-year terms.\11\ The Nominating Committee that will serve with respect to the 1999 annual election meeting shall include two lessor members, two firm members, and two public members. The Chairman of the Executive Committee, with the approval of the Board, shall appoint these new committee members for the 1999 annual election meeting. Thereafter, the new committee members shall be elected in the same process as other Nominating Committee members.

      \11\ During the transition period, some members may be elected for shorter terms.

      The Nominating Committee will judge the qualifications of all candidates for election to the Board or the Nominating Committee that are nominated by that Committee. The Executive Committee will judge the qualifications of candidates who are nominated by petition.

   4. Other Changes

      The proposed rule change also would modify the timetable for various election matters that are specified in the constitution. For example, the Exchange proposes to advance the time by which the Chairman of the Executive Committee (the Vice-Chairman of the Exchange) is selected by a few weeks to enable the Vice-Chairman to complete the process of selecting chairpersons of various Exchange committees by the end of the year. In addition, CBOE proposes to move the annual meeting of members from the second Monday in December to the third Friday in November. Finally, petitions for nominations of candidates for the Board or the Nominating Committee would be required to be submitted by the Monday preceding the first Friday in November, instead of the current November 15 deadline.

      The proposed rule change also would delete those provisions that refer to ``special members'' because there are no longer members in this category. Finally, the proposal contains conforming amendments made necessary by the proposal's substantive changes.

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   5. CBOE Rule 8.80(b)(1)

      In Amendment No. 3, the Exchange proposes to amend CBOE Rule 8.80, which, among other things, governs the composition and election of the Modified Trading System (``MTS'') Committee.\12\ The MTS Committee governs the Exchange's designated primary market maker (``DPM'') program. The changes proposed in Amendment No. 3 were originally submitted by the CBOE in File No. SR-CBOE-98-54.\13\

      \12\ See Amendment No. 3, supra note 6.

      \13\ See Securities Exchange Act Release No. 41325 (April 22, 1999), 64 FR 23691 (May 3, 1999).

      The proposed changes to Rule 8.80(b)(1) provide for the election of MTS Committee members, which are currently appointed by the Nominating Committee with the approval of the Board. The election procedures proposed would be the same as those used for the election of the Exchange's directors. Accordingly, the election process would begin in October of each year when the Nominating Committee selects nominees to fill expiring terms and vacancies. The proposal also provides that MTS Committee members will serve three-year terms, which is an increase from the current two-year terms requirement. The Exchange proposes to add Amendment No. 3 to this proposal because of the election process time-line.

3. Discussion

   After careful review, the Commission finds that the proposed rule change is consistent with the requirements of the Act and the rules and regulations thereunder applicable to national securities exchange.\14\ In particular, the Commission believes that the proposal is consistent with Section 6(b)(3) of the Act.\15\

   \14\ In approving this proposal, the Commission has considered its impact on efficiency, competition, and capital formation. 15 U.S.C. 78c(f)

   \15\ 15 U.S.C. 78f(b)(3).

   One of the requirements of Section 6(b)(3) of the Act provides that one or more directors of an exchange shall be representative of issuers and investors and not be associated with a member of the exchange, broker, or dealer. The Commission has consistently stated its belief that representation of the public on exchange oversight committees that have decision-making authority is critical to ensuring that the exchange works to protect the public interest.\16\ Further, public representation helps to ensure that no single group of investors has the ability to systematically disadvantage other market participants through the exchange governance process.

   \16\ See, e.g., Securities Exchange Act Release No. 40760 (December 8, 1998), 63 FR 70844 (December 22, 1998).

   The proposed rule change amends the composition of the Board by increasing the number of public directors from four to eight. As a result, public directors will compromise nearly 35 percent of the Board, compared to the current 19 percent public representation. The Commission believes that this increase should substantially increase the public's voice on CBOE's Board, which is consistent with Section 6(b)(3) of the Act.\17\ Public directors should bring knowledge of the interests of investors to the governance of the Exchange and provide a balance to the composition of the Board. They should possess a unique perspective, which should enhance the ability of the Board to address exchange issues in a non-discriminatory fashion.

   \17\ The Commission notes that currently the American Stock Exchange, National Association of Securities Dealers and its subsidiaries, and the Chicago Stock Exchange each have composed their boards so that industry directors do not out number the remaining directors. In addition, the Pacific Exchange, PCX Equities and the International Securities Exchange (``ISE'') have each filed proposals that provide for the composition of their boards to include at least 50 percent public representation. See File No. SR- PCX-99-33 (proposing to amend the constitution of the Pacific Exchange); SR-PCX-99-39 (proposing to establish PCX Equities); and Securities Exchange Act Release No. 41439 (May 24, 1999), 64 FR 29867 (June 1, 1999) (the ISE application for exchange status).

   In addition to increasing the number of public directors on the Board, the proposal adds two public members to the Nominating Committee. By adding public members to the Nominating Committee, the proposal should help to ensure that a fair and broad cross-section of members and the public are represented in the administration of the affairs of the Exchange.

   The second requirement of Section 6(b)(3) of the Act \18\ states that the rules of an exchange must assure a fair representation of its members in the selection of its directors and administration of its affairs This requirement seeks to ensure that an exchange is administered in a way that is equitable to all market members and participants. A registered exchange is not solely a commercial enterprise. It has significant regulatory responsibilities with respect to its members, such as the responsibility to act fairly in adjudicating disciplinary proceedings against members. Therefore, the statute seeks to ensure that members' interests are adequately represented and protected.

   \18\ 15 U.S.C. 78f(b)(3).

   The proposed rule change provides for the election for public directors. Currently, public directors are appointed by the Chairman of the Board and approved by the full Board. Public directors will now go through the full nominating and election process. This amendment provides members with agreater role in the administration of the Exchange and allows them to have a greater impact on the composition of their governing body.

   The composition of the Board was further amended by the proposal to include the owner/lessor member community. Currently, approximately 85 percent of CBOE's memberships are leased.\19\ By including lessor directors on the Board, the CBOE recognizes this large segment of its member population and provides it with a greater voice in the administration of the Exchange's affairs.

   \19\ Telephone call between Debra Barnes, Senior Attorney, CBOE and Kelly Riley, Attorney, SEC, on October 7, 1999. As of September 30, 1999, CBOE and 931 memberships of which 794 are leased.

   To accommodate the new owner/lessor director and the additional public directors, the proposal decreases the number of floor directors on the Board from six to four. The Commission finds that in light of the amount of lessor members and the public interest served by adding public directors this reduction is reasonable.\20\

   \20\ Upon approval of this proposal and the subsequent elections to implement these changes, the Board will consist of eight public directors, six off-floor firm directors, four floor directors, three at-large directors, one owner/lessor director, and the Chairman of the Board.

   The qualifications of floor directors also were amended by the proposed rule change. Floor directors will be required to be ``on a seat'' (i.e., acting in the capacity of a member by actively trading securities) to be qualified for a director position. This new requirement, in addition to the current requirement that floor directors be primarily engaged in business on the floor of the Exchange, should ensure that floor members' interests are adequately supported. This new requirement should ensure that floor directors have a full appreciation and understanding of the issues that are of concern to floor members.\21\

   \21\ The Commission notes that an owner/lessor of multiple seats might qualify under more than one category of director.

   The qualifications of the Vice-Chairman of the Board were also clarified to explicitly require that the Vice-Chairman be primarily engaged in business on the floor of the Exchange. By adding this requirement, the Vice-Chairman should be equipped with an in-depth knowledge of the business of the Exchange, which will enable him or her to make decisions and implement

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   policies that are in the best interest of the Exchange and its members.

   The proposal also amended the composition of the Nominating Committee to include representatives of retail firms, lessors and the public. Floor members will continue to be represented. The new composition should provide the differing member communities with a voice in the candidates presented for election to the Board and other Exchange committees, which should ensure that a fair cross-section of qualified candidates are presented to members for election. By providing a balanced committee that is composed of the diverse member constituencies of the Exchange, the proposal should prevent the discriminatory exclusion of qualified candidates.

   Finally, the Commission finds good cause to accelerate approval of Amendment Nos. 1, 2, and 3 to the proposed rule change prior to the thirtieth day after publication in the Federal Register. Amendment Nos. 1 and 2 proposed grammatical changes to the original filing. As Amendment Nos. 1 and 2 were merely technical in nature and do not raise any novel issues of regulatory concern, the Commission finds good cause to accelerate their approval.

   Amendment No. 2 provides for the election of MTS Committee members, which are currently appointed by the Nominating Committee. The MTS Committee is charged with governing the DPM program on the floor of the Exchange. By allowing members to elect the members of this committee, the amendment enables Exchange members to be more actively involved in the administration of the Exchange. Moreover, the Commission finds that extending the MTS Committee members' terms of office to three years should enhance continuity in the application of Exchange rules and policies and should increase the expertise of the MTS Committee in addressing issues related to the DPM program. The Commission finds good cause to accelerate Amendment No. 3 because the election process for the Exchange is scheduled to begin in October and the Commission believes that it would be beneficial for members to elect the new MTS Committee members in the 1999 election. Further, the Commission notes that the proposed changes were published for public comment in the Federal Register and that no comments were received on the proposed changes.\22\ Therefore, the Commission believes that good cause exists, consistent with Section 6(b)(3) of the Act \23\ and Section 19(b) \24\ of the Act, to approve Amendment Nos. 1, 2, and 3 on an accelerated basis.

   \22\ See supra note 6.

   \23\ 15 U.S.C. 78f(b)(3).

   \24\ 15 U.S.C. 78s(b).

4. Solicitation of Comments

   Interested persons are invited to submit written data, views and arguments concerning Amendment Nos. 1, 2, and 3, including whether Amendment Nos. 1, 2, and 3 are consistent with the Act. Persons making written submissions should file six copies thereof with the Secretary, Securities and Exchange Commission, 450 Fifth Street, NW, Washington, DC 20549-0609. Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filedwith 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 inspection and copying in the Commission's Public Reference Room. Copies of such filing will also be available for inspection and copying at the principal office of the CBOE. All submissions should refer to File No. SR-CBOE-99-43 and should be submitted by November 15, 1999.

5. Conclusion

   It is therefore ordered, pursuant to Section 19(b)(2) of the Act,\25\ that the amended proposed rule change (SR-CBOE-99-43) is approved.

   \25\ 15 U.S.C. 78s(b)(2).

   For the Commission, by the Division of Market Regulation, pursuant to delegated authority.\26\

   \26\ 17 CFR 200.40-3(a)(12).

   Margaret H. McFarland, Deputy Secretary.

   [FR Doc. 99-27715Filed10-22-99; 8:45 am]

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