[Federal Register: January 20, 2004 (Volume 69, Number 12)]
[Notices]
[Page 2761-2767]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr20ja04-70]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-49067; File No. SR-BSE-2003-19]
Self-Regulatory Organizations; Order Granting Approval to
Proposed Rule Change and Notice of Filing and Order Granting
Accelerated Approval of Amendments No. 1 and 2 Thereto by the Boston
Stock Exchange, Inc. Relating to the LLC Operating Agreement of the
Proposed New Exchange Facility To Be Operated by the Boston Options
Exchange Group LLC
January 13, 2004.
On October 16, 2003, the Boston Stock Exchange, Inc. (``BSE'' or
``Exchange'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a
proposal to establish, through an operating agreement among its owners,
a Delaware limited liability company known as the Boston Options
Exchange Group LLC (``BOX LLC''). BOX LLC would operate a new options
trading facility of the Exchange. On October 23, 2003, the Commission
published the proposal in the Federal Register.\3\ The Commission
received one comment on the proposal.\4\ On November 14, 2003, BSE
submitted Amendment No. 1 to the proposal.\5\ On January 9, 2004, BSE
submitted Amendment No. 2 to the proposal.\6\ This order approves the
proposed rule change, issues notice of and solicits comment on
Amendments No. 1 and 2, and approves Amendments No. 1 and 2 on an
accelerated basis.
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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. 48650 (October 17,
2003), 68 FR 60731 (``Notice'').
\4\ See infra Section II.
\5\ See letter from George W. Mann, Jr., General Counsel, BSE,
to Nancy Sanow, Division of Market Regulation (``Division''),
Commission, dated November 13, 2003 (``Amendment No. 1''). In
Amendment No. 1, BSE proposes a technical change to substitute the
term ``BSE'' for the phrase ``Regulatory Services Provider and its
Affiliates.''
\6\ See letter from George W. Mann, Jr., General Counsel, BSE,
to Nancy Sanow, Division, Commission, dated January 9, 2004
(``Amendment No. 2''). In Amendment No. 2, BSE proposes to clarify
the restrictions on the Transfer of BOX LLC units and to clarify the
Commission's jurisdiction over the owners of BOX LLC.
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I. Description of the Proposal
A. Corporate Organization of BOX LLC
Through a series of related filings, BSE is proposing to establish
a new options trading facility \7\ to be known as the Boston Options
Exchange (``BOX'').\8\ In this filing, BSE is seeking the Commission's
approval of the operating agreement of BOX LLC (the ``LLCOA''). Unlike
a corporation's charter or bylaws, the LLCOA is a signed contract
between the owners of BOX LLC
[[Page 2762]]
(``unitholders'').\9\ BSE has asserted that certain provisions of the
LLCOA do not constitute ``rules of an exchange'' within the meaning of
Section 3(a)(27) of the Act \10\ and Rule 19b-4. Accordingly, BSE did
not file, and the Commission is not addressing, these provisions.
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\7\ See Section 3(a)(2) of the Act, 15 U.S.C. 78c(a)(2).
\8\ Today the Commission is approving three other BSE proposals
that together establish the BOX facility. See Securities Exchange
Act Release Nos. 49066 (January 13, 2004) (SR-BSE-2003-17)
(establishing fee schedule for proposed BOX facility); 49065
(January 13, 2004) (SR-BSE-2003-04) creating Boston Options Exchange
Regulation LLC to which BSE would delegate its self-regulatory
functions with respect to BOX facility); and 49068 (January 13,
2004) (SR-BSE-2002-15) (approving trading rules for BOX facility)
(``BOX Rules''). In addition, the Commission previously approved BSE
rules providing for the allocation of market maker appointments in
the BOX facility. See Securities Exchange Act Release No. 48644
(October 16, 2003), 68 FR 60423 (October 22, 2003) (SR-BSE-2003-13).
\9\ While ownership interests in a corporation are generally
referred to as ``shares'' or ``stock,'' ownership interests in an
LLC are referred to as ``units.'' Therefore, the owners of BOX LLC
are referred to as ``unitholders.''
\10\ 15 U.S.C. 78c(a)(27).
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B. Current Ownership and Control of BOX LLC
Currently, there are three unitholders who have a direct
controlling interest in BOX (``direct controlling parties''): Bourse de
Montr[eacute]al Inc. (``Bourse'') (31.27%), the largest derivatives
exchange in Canada; BSE (26.89%); and Interactive Brokers Group LLC
(``IBG'') (22.41%), a registered broker-dealer that intends to apply to
be an Option Participant in the BOX facility.\11\ None of the remaining
unitholders holds more than a 5% interest in BOX LLC. There is one
person that has an indirect controlling interest in BOX LLC (i.e., is
an ``indirect controlling party''): Mr. Thomas Peterffy, who holds a
controlling interest in IBG, which has a direct controlling interest in
BOX LLC. No person or entity has a controlling interest in either BSE
or Bourse.
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\11\ An Options Participant is a firm or organization that is
registered with the Exchange to participate in options trading on
BOX as an order flow provider and/or as a market maker. See BOX
Rules, Chapter I, Section 1(a)(40).
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C. Changes in Ownership of BOX LLC
Section 8.1(a) of the LLCOA defines a Transfer broadly to be any
disposition of, sale, assignment, exchange, participation,
subparticipation, encumbrance, or other transfer of units, and provides
that, except in certain limited circumstances, no Person may directly
or indirectly Transfer any BOX LLC units, or any rights arising
thereunder, without the prior approval of the board of directors of BOX
LLC.\12\ To be eligible for such approval, the proposed transferee must
be: (1) Of high professional and financial standing; (2) able to carry
out its duties as a unitholder under the LLCOA; and (3) under no
regulatory or governmental disqualification. Section 8.1(b) provides,
in addition, that a Person shall be admitted to BOX only if such
Person, among other things, accepts in writing the terms and provisions
of the LLCOA and the BOX Board accepts it by resolution. Section 8.4(a)
provides that no Transfer of BOX LLC units shall take place if such
transaction is prohibited by the LLCOA or any state, federal, or
provincial securities law. Section 8.4(d) provides that any Transfer of
BOX LLC units that contravenes Article 8 of the LLCOA shall be void and
ineffectual and shall not bind or be recognized by BOX LLC.
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\12\ In Amendment No. 2, the BSE filed changes to Article 8 to
enhance BOX's ability to prevent Transfers of BOX LLC units in
contravention of the LLCOA. See Amendment No. 2, supra note .
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Section 8.4(e) of the LLCOA provides that, beginning after
Commission approval of this proposed rule change, BOX LLC must provide
the Commission with written notice ten days prior to the closing date
of any acquisition that results in a unitholder's percentage ownership
interest in BOX LLC, alone or together with any affiliate,\13\ meeting
or crossing either the 5%, 10%, or 15% thresholds. Section 8.4(f)
provides that any Transfer of BOX LLC units that results in the
acquisition and holding by any unitholder, alone or together with any
affiliate, of an interest that meets or crosses the 20% threshold or
any successive 5% threshold (i.e., 25%, 30%, etc.), would trigger an
amendment to the LLCOA that would constitute a proposed rule change
that BSE would have to file with the Commission under Section 19(b) of
the Act.\14\ In addition, Section 8.4(f) provides that an amendment to
the LLCOA resulting from a Transfer of BOX LLC units that reduces BSE's
ownership in BOX LLC to below the 20% threshold would constitute a
proposed rule change under Section 19(b) of the Act.
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\13\ The term ``affiliate'' is defined in Section 1.1 of the
LLCOA and means, with respect to any person, any other person
controlling, controlled by, or under common control with, such
person. As used in this definition, the term ``control'' means the
possession, directly or indirectly, of the power to direct or cause
the direction of the management and policies of a person, whether
through the ownership of voting securities, by contract or otherwise
with respect to such person. A person is presumed to control any
other person, if that person: (1) Is a director, general partner, or
officer exercising executive responsibility (or having similar
status or performing similar functions); (2) directly or indirectly
has the right to vote 25% or more of a class of voting security, or
has the power to sell or direct the sale of 25% or more of a class
of voting securities of the person; or (3) in the case of a
partnership, has contributed, or has the right to receive upon
dissolution, 25% or more of the capital of the partnership.
\14\ For example, assume that a unitholder owns a 28% interest
in BOX LLC and buys units constituting an additional 3%. Because the
unitholder would cross the 30% ownership threshold, the acquisition
would trigger an amendment to the LLCOA that BSE would have to
submit as a proposed rule change. However, an acquisition of an
additional 3% that would raise the unitholder's interest from 31% to
34% would not trigger a proposed rule change.
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Section 8.4(g) of the LLCOA provides for indirect changes in
control of BOX LLC. Any person that acquires a controlling interest
(i.e., an interest of 25% or greater) in a unitholder that holds 20% or
more of the BOX LLC units would be required to agree to become a party
to the LLCOA and abide by its terms.\15\ The amendment to the LLCOA
caused by the addition of the indirect controlling party would trigger
a proposed rule change that BSE would have to file with the Commission
pursuant to Section 19(b) of the Act. The rights and privileges of the
direct controlling party would be suspended until this proposed rule
change becomes effective under the Act or until the indirect
controlling party ceases to have a controlling interest in the direct
controlling party.
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\15\ For example, assume Company XYZ owns a 25% interest in BOX
LLC and Firm ABC acquires 35% of Company XYZ. Firm ABC must execute
an amendment to the LLCOA whereby Firm ABC agrees to become a new
party to the agreement and abide by all of its provisions.
Furthermore, a person could become subject to Section 8.4(g) of the
LLCOA if it acquires an indirect controlling interest in a direct
controlling party of BOX LLC.
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In addition to the requirements for proposed rule changes relating
to direct and indirect changes in control of BOX LLC, Section 4.3(b) of
the LLCOA prohibits unitholders from entering into voting trust
agreements with respect to their ownership interests in BOX LLC.
D. Commission Jurisdiction Over Owners of BOX LLC
In Section 19.6(a), each unitholder of BOX LLC acknowledges that,
to the extent that they are related to BOX activities, the books,
records, premises, officers, directors, agents, and employees of the
unitholder shall be deemed to be the books, records, premises,
officers, directors, agents, and employees of BSE for the purpose of
and subject to oversight pursuant to the Act. In Section 19.6(b), each
unitholder and the officers, directors, agents, and employees thereof
irrevocably submit to the exclusive jurisdiction of the U.S. federal
courts, the Commission, and BSE \16\ for the purposes of any suit,
action, or proceeding pursuant to the U.S. federal securities laws and
the rules or regulations thereunder, arising out of or relating to BOX
activities or Section 19.6(a). Also as provided in Section 19.6(b) of
the LLCOA, each unitholder and the officers, directors, agents, and
employees thereof waive, and agree not to assert by way of motion, as a
defense or otherwise in any such suit, action, or proceeding, any claim
that they are not personally subject to the jurisdiction of the
[[Page 2763]]
Commission; that the suit, action or proceeding is an inconvenient
forum; that the venue of the suit, action, or proceeding is improper;
or that the subject matter of the suit, action, or proceeding may not
be enforced in or by such courts or agency.
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\16\ Such jurisdiction includes Delaware for matters relating to
the organization or internal affairs of BOX LLC, provided that such
matter is not related to trading on, or the regulation of, the BOX
Market. See Section 19.6(b) of the LLCOA; see also Amendment No. 2,
supra note.
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Section 19.6(c) of the LLCOA provides that the BSE and each
unitholder shall take such action as is necessary to ensure that such
unitholder's officers, directors, and employees consent to the
application of Section 19.6 with respect to their BOX-related
activities.\17\ Finally, Section 19.6(c) further provides that the
Bourse and the BSE shall take such action as is necessary to ensure
that, with respect to their BOX-related activities, the Bourse's
officer, directors, and employees consent to the communication of their
``personal information'' by the Bourse to the Commission and the BSE
and agree to waive the protection of such ``personal information'' that
is provided by the Act Respecting the Protection of Personal
Information in the Private Sector, R.S.Q.c.P-39.1 (``Private Sector
Privacy Act'').\18\
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\17\ See Amendment No. 2, supra note.
\18\ Id.
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E. Governance of BOX LLC
Section 4.2(b) of the LLCOA gives the board of directors of BOX LLC
the power and responsibility to manage the business of BOX LLC, select
and evaluate the performance of the Senior Executive, and establish and
monitor capital and operating budgets. Section 4.1(a) provides that the
board of BOX LLC will consist of between six and 13 directors. Section
4.1(b) provides that, initially, Bourse, BSE, and IBG will be entitled
to designate two directors each. Moreover, for as long as BOX remains a
facility of the Exchange, BSE has the right to designate at least one
director. Section 4.1(c) provides that any new unitholder that acquires
a prescribed percentage interest in BOX LLC also would be entitled to
designate one director. Section 4.8 provides that, except as otherwise
expressly provided in the LLCOA or as requested by the board, no
unitholder shall take part in the day-to-day management or operation of
the business or affairs of BOX LLC.
Pursuant to Section 4.1(d) of the LLCOA, a director shall be
terminated by the board: (i) In the event such director has violated
any provision of the LLCOA; or (ii) if the board determines that such
action is necessary or appropriate in the public interest or for the
protection of investors. In addition, Section 4.2(a) requires each
director to comply with the federal securities laws and the rules and
regulations thereunder and to cooperate with the Commission and BSE
pursuant to their regulatory authority. Section 4.2(a) also requires
each director to take into consideration whether his or her actions as
a director would cause BOX LLC to engage in conduct that fosters and
does not interfere with its ability to prevent fraudulent and
manipulative acts and practices; promote just and equitable principles
of trade; foster cooperation and coordination with persons engaged in
regulating, clearing, settling, processing information with respect to,
and facilitating transactions in securities; remove impediments to and
perfect the mechanism of a free and open market and a national market
system; and, in general, protect investors and the public interest.
F. Regulation of BOX
BSE will operate BOX as a facility of the Exchange. Accordingly,
BSE has responsibility under the Act for the BOX facility. In this
regard, Sections 12.1 and 15 of the LLCOA each provide that the books,
records, premises, officers, directors, agents, and employees of BOX
shall be deemed to be the books, records, premises, officers,
directors, agents, and employees of BSE for the purpose of and subject
to oversight pursuant to the Act. Moreover, under Section 5.3 of the
LLCOA, each unitholder agrees to comply with the federal securities
laws and the rules and regulations thereunder; to cooperate with the
Commission and BSE pursuant to their regulatory authority and the
provisions of the LLCOA; and to engage in conduct that fosters and does
not interfere with BOX LLC's ability to prevent fraudulent and
manipulative acts and practices; promote just and equitable principles
of trade; foster cooperation and coordination with persons engaged in
regulating, clearing, settling, processing information with respect to,
and facilitating transactions in securities; remove impediments to and
perfect the mechanism of a free and open market and a national market
system; and, in general, protect investors and the public interest.
Section 5.9 of the LLCOA further provides that, after appropriate
notice and opportunity for hearing, the board, by a two-thirds vote,
including the affirmative vote of BSE and excluding the vote of the
unitholder subject to sanction, may suspend or terminate a unitholder's
voting privileges or ownership: (i) In the event such unitholder is
subject to a statutory disqualification, as defined in Section 3(a)(39)
of the Act; (ii) in the event such unitholder has violated any
provision of the LLCOA or any federal or state securities law; or (iii)
if the board determines that such action is necessary or appropriate in
the public interest or for the protection of investors.
In addition, Section 4.4(a) of the LLCOA provides that BOX LLC may
not take any major action unless such action is approved by a majority
of the board, including the affirmative vote of all of the directors
designated by BSE. A ``major action'' is defined in Section 4.4(b) to
include, among other things, a merger or consolidation involving BOX
LLC, a sale of any material portion of its assets, the dissolution or
winding-up of BOX LLC, entry by BOX into any line of business other
than that set forth in the LLCOA, entering into any agreement,
commitment, or transaction with an affiliate of a unitholder that is
not on commercially reasonable terms, and the purchase of any units of
BOX LLC.
Section 16.2(a) of the LLCOA generally provides that a unitholder
may not disclose any confidential information of BOX LLC to any person,
except as expressly provided by the LLCOA. However, Section 16.2(b)
provides exceptions for, among other things, disclosure required by the
federal securities laws or in response to a request by the Commission
pursuant to the Act or by the BSE. Similarly, Section 16.5 of the LLCOA
provides that nothing in the LLCOA should be interpreted as to limit or
impede the rights of the Commission, BSE, or BOXR to access or examine
BOX Confidential Information, or to limit or impede the ability of
unitholders, or their officers, directors, agents, or employees, to
disclose BOX Confidential Information to the Commission, BSE, or
BOXR.\19\
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\19\ See Amendment No. 2, supra note .
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G. Ownership Restrictions on BOX Unitholders Who Are Also Options
Participants
Section 8.4(h) of the LLCOA imposes a ``voting collar'' on any
unitholder who, alone or together with an affiliate, has an interest in
BOX LLC in excess of 20% and is also an Options Participant in the BOX
market. The interests owned by such a unitholder in excess of 20% are
deemed ``excess units.'' No unitholder who is also an Options
Participant is permitted to vote or give proxy rights to vote with
respect to any excess units. However, Section 8.4(h) further provides
that the excess units would be considered for quorum purposes of any
meeting of the board, and the person presiding over quorum and vote
matters would vote the excess
[[Page 2764]]
units in the same proportion that the units held by the other
unitholders are voted.
BSE is proposing a temporary exemption until January 1, 2014 from
the voting collar provisions of Section 8.4(h) for IBG, a unitholder
that is also an Options Participant. Under the second paragraph of
Section 8.4(h), IBG is permitted to vote its excess units, but only
with respect to any vote regarding a merger, consolidation, or
dissolution of BOX LLC or any sale of all or substantially all of the
assets of BOX LLC.
II. Comment Received
The Commission received one comment letter on the proposal, from
the Chicago Board Options Exchange (``CBOE'').\20\ CBOE's principal
concern is that BSE and its partners propose to create a new securities
exchange to act as a market for the trading of standardized securities
options without registering the new exchange as a national securities
exchange. Moreover, CBOE questions whether ``a web of undertakings and
provisions embodied in various complex and apparently overlapping
agreements (not all of which have been filed with the Commission) will
be sufficient to assure the adequacy of regulation and of the
Commission's jurisdiction over BOX and its owners,'' and questions
``how the independence of BOX's governance will be assured'' and ``the
conflicts between its for-profit structure and its regulatory
obligations will be resolved.''
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\20\ See letter from William J. Brodsky, Chairman and Chief
Executive Officer, CBOE, to Jonathan G. Katz, Secretary, Commission,
dated November 20, 2003.
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In addition, CBOE criticizes the manner in which BSE presented the
LLCOA to the Commission for its review under Section 19(b) of the Act,
arguing that BSE should have filed the LLCOA in its entirety, rather
than in redacted form. In support of that view, CBOE likens an LLCOA to
the articles of incorporation of a corporation and claims that, if an
entity organized as a corporation applied for registration as a
national securities exchange, it would be required to provide its
articles in their entirety. CBOE argues, in addition, that ``the filing
does not present a comprehensive description of who are the owners of
BOX,'' noting that only the three controlling unitholders that
collectively have an ownership interest of 80.67% were listed. CBOE
notes that its concerns about the ownership and control of BOX LLC were
``heightened by the fact that BOX's largest single owner is a non-U.S.
person.'' CBOE also objects to redactions to the LLCOA regarding the
``major actions'' over which BSE had veto power, arguing that a proper
analysis of BOX's governance and regulation could not be performed
without the redacted information. CBOE concludes that ``the idea that
an applicant can pick and choose which provisions of the [LLCOA] of an
exchange to submit for review is wholly inconsistent with the statutory
scheme of exchange regulation provided for in the Exchange Act.''
III. Discussion
After careful consideration of the proposal and the comment letter
submitted by CBOE, the Commission finds that the proposed rule change,
as amended, is consistent with the Act and the rules and regulations
thereunder applicable to a national securities exchange.\21\ In
particular, the Commission finds that the proposal is consistent with
Section 6(b)(1) of the Act,\22\ which requires a national securities
exchange to be so organized and have the capacity to be able to carry
out the purposes of the Act. The Commission also finds that the
proposal is consistent with Section 6(b)(5) of the Act,\23\ which
requires, among other things, that the rules of an exchange be designed
to promote just and equitable principles of trade; to facilitate
transactions in securities; to remove impediments to and perfect the
mechanisms of a free and open market and a national market system; and,
in general, to protect investors and the public interest.
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\21\ In approving the proposed rule change, the Commission has
considered its impact on efficiency, competition, and capital
formation. See 15 U.S.C. 78c(f).
\22\ 15 U.S.C. 78f(b)(1).
\23\ 15 U.S.C. 78f(b)(5).
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A. BOX as a Facility of the Exchange
The Commission believes that the proposed rule change is consistent
with Section 6(b)(1) of the Act \24\ in that, upon establishing the BOX
facility, BSE will remain so organized, and have the capacity to be
able, to carry out the purposes of Act. Moreover, the Commission
believes that the BSE's proposal to operate BOX as its facility is
properly filed under Section 19(b) of the Act and Rule 19b-4
thereunder, and that BOX is not required, separate from BSE, to apply
for registration as a national securities exchange pursuant to Section
6(a) of the Act.\25\
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\24\ 15 U.S.C. 78f(b)(1).
\25\ 15 U.S.C. 78f(a).
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BOX LLC is the limited liability company established under Delaware
law that will operate the BSE's proposed options trading facility.\26\
The BSE is a registered exchange and, therefore, an SRO with
obligations to comply with the Act and to enforce compliance by its
members and persons associated with its members with the Act, the rules
thereunder, and its own rules. As the CBOE points out in its comment
letter, the rules of an exchange, as defined in Section 3(a)(27) of the
Act, include the constitution, articles of incorporation, bylaws, and
rules. Thus, any changes to these BSE instruments would have to be
filed pursuant to Section 19(b) of the Act and Rule 19b-4 thereunder.
The LLCOA, however, is the organizational document of the BOX LLC, not
the BSE.
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\26\ The Commission notes that the BOX facility includes the
server, its hardware and software, wherever located.
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Nevertheless, certain provisions in the LLCOA may be rules of an
exchange if they are the stated policies, practices, and
interpretations, as defined in Rule 19b-4 of the Act, of the BSE. Any
proposed rule or any proposed change in, addition to, or deletion from
any such rules of an exchange must be filed pursuant to Section 19(b)
of the Act and Rule 19b-4 thereunder. In its comment letter, the CBOE
contends that the BSE should have filed the entire LLCOA. The
Commission, however, does not believe that Section 19(b) of the Act and
Rule 19b-4 thereunder requires that all provisions of a document must
be filed solely because some provisions of that document are rules of
the exchange.\27\
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\27\ The CBOE also states that it assumed that the BSE would
only file changes to those provisions of the operating agreement
included in this filing. In this regard, the Commission clarifies
that whether or not a proposed rule change must be filed under
Section 19(b) of the Act is not determined solely on the basis of
whether the original rule was filed.
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BSE has filed the proposed rule change to establish BOX LLC as the
operator of one of its facilities, despite the fact that BSE does not
hold the largest ownership interest in BOX LLC. As a preliminary
matter, the Commission does not believe that the ownership structure of
BOX LLC precludes approval of this proposal. The Act does not require
that an SRO have any ownership interest in the operator of one of its
facilities.
In a similar prior case involving the establishment of ArcaEx as a
facility of the Pacific Exchange (``PCX''), the Commission determined
that a national securities exchange need not have a significant
ownership interest in the operator of one of its facilities.\28\ This
[[Page 2765]]
determination was predicated on the extent to which PCX, as the SRO,
regulates and oversees ArcaEx, notwithstanding its limited ownership
interest in the operator of the facility. As the Commission stated in
the PCX/ArcaEx Approval Order: ``the PCX will be fully responsible for
all activity that takes place through ArcaEx, including its regulation
and oversight, because ArcaEx is a part of the Exchange.''\29\
Similarly, the Commission believes that BOX LLC can be approved as the
operator of the BOX facility on the same basis that it approved Arca
LLC as the operator of the ArcaEx facility. BSE will be the SRO for the
BOX facility, and BOX LLC will conduct the facility's business
operations in a manner consistent with the regulatory and oversight
responsibilities of BSE.\30\
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\28\ See Securities Exchange Act Release No. 44983 (October 25,
2001), 66 FR 55225, 55229-30 (November 1, 2001) (approving SR-PCX-
00-25) (``PCX/Arca Approval Order''). ArcaEx is operated by
Archipelago Exchange LLC (``Arca LLC''). At the time of this
approval, PCX's ownership interest in Arca LLC consisted solely of a
10% interest in Archipelago Holdings LLC, the parent company of Arca
LLC. See 66 FR at 55225.
\29\ Id. at 66 FR at 55229 (citation omitted). PCX established a
new subsidiary, PCX Equities Inc. (``PCXE''), to which it delegated
its authority as an SRO to surveil and regulate the PCX's trading
functions. In its approval order, the Commission noted that PCX
retained ultimate responsibility for the operation, administration,
rules, and regulation of PCXE. The Commission added that PCX must
review rulemaking and disciplinary decisions of PCXE and direct PCXE
to take action that may be necessary to effectuate the purposes and
functions of the Act. See id.
\30\ BSE--through a newly established wholly owned subsidiary,
Boston Options Exchange Regulation LLC (``BOXR'') `` will assume all
regulatory responsibilities under the Act for the BOX facility. See
SR-BSE-2003-04, supra note.
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Although BOX LLC itself will not carry out any regulatory
functions, all of its activities must be consistent with the Act. Under
Section 5.3 of the LLCOA, each unitholder of BOX LLC agrees to comply
with federal securities law; to cooperate with the Commission and BSE
pursuant to their regulatory authority and the provisions of the LLCOA;
and to engage in conduct that fosters and does not interfere with BOX
LLC's ability to prevent fraudulent and manipulative acts and
practices; promote just and equitable principles of trade; foster
cooperation and coordination with persons engaged in regulating,
clearing, settling, processing information with respect to, and
facilitating transactions in securities; remove impediments to and
perfect the mechanism of a free and open market and a national market
system; and, in general, protect investors and the public interest.
Section 4.2(a) of the LLCOA imposes similar obligations on each
director of BOX LLC. Section 4.2(a) also requires each director to
cooperate with the Commission and BSE in carrying out their regulatory
responsibilities. These provisions reinforce the notion that BOX, as a
facility of an exchange, is not solely a commercial enterprise; it is
an integral part of an SRO registered pursuant to the Act and, as such,
is subject to obligations imposed by the Act.
These obligations endure so long as BOX is a facility of the
Exchange, regardless of the size of BSE's ownership interest in BOX
LLC, the operator of that facility. The BSE currently owns a
controlling interest in the operator of the facility and if, in the
future, it wishes to reduce its interest in BOX LLC to below 20%, the
amendments to the LLCOA to effect such a Transfer of units would,
pursuant to Section 8.4(f)(ii) of the LLCOA, have to be filed as a
proposed rule change under Section 19(b) of the Act. The Commission
believes that this is a reasonable measure to alert the Commission to a
significant reduction of BSE's interest in BOX LLC. Such a reduction
could warrant additional review of the LLCOA to ensure that BSE's
responsibilities as the SRO of the BOX facility are not compromised.
The LLCOA includes additional provisions that make special
accommodations for BSE as the SRO of the BOX facility. For example,
Section 4.4(a) of the LLCOA provides that BOX LLC may not take any
major action unless such action is approved by a majority of the BOX
LLC board, including the affirmative vote of all of the directors
designated by BSE.\31\ Section 4.1(b) of the LLCOA provides that, with
its present ownership interest, BSE is entitled to two seats on the
board. Section 4.1(b) also gives BSE a perpetual right to designate at
least one director on the BOX LLC board regardless of whether it
maintains any ownership interest. In addition, Section 5.2 of the LLCOA
allows BSE to act on behalf of BOX LLC in regulatory matters, despite a
general prohibition against unitholders committing or acting on behalf
of BOX LLC.\32\ Finally, as provided in Amendment No. 2, Sections
16.2(b) and 16.5 of the LLCOA allows BSE, and the other unitholders,
their officers, directors, agents, and employees, to disclose to the
Commission Confidential Information of BOX.\33\
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\31\ CBOE objects to the fact that BSE redacted from the
published version of the LLCOA certain of the major actions over
which the controlling unitholders and BSE (regardless of whether it
remains a controlling unitholder) will have veto power. BSE is not
required to file these portions of Section 4.4(b) under Section
19(b) of the Act and Rule 19b-4 thereunder if they do not constitute
a material aspect of the operation of the BOX facility, or are
otherwise rules of, or stated policies, practices or
interpretations, of the exchange. See Section 3(a)(27) of the Act,
15 U.S.C. 78c(a)(27). See also 17 CFR 240.19b-4(b).
\32\ In the event that BSE ceases to be a unitholder of BOX LLC
at some future date, the Commission would have to consider whether
this provision should be amended so that BSE could continue to carry
out its regulatory responsibilities with respect to BOX.
\33\ See Amendment No. 2, supra note.
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Because the BSE has proposed to operate BOX as its facility, the
BSE's obligations under the Act extend to its members' activities on
BOX, as well as to the operation and administration of BOX. The
Commission believes that Section 19 of the Act affords the Commission
the ability to determine whether the BSE's proposal is consistent with
the Act, as would a separate application by BOX to register as a
securities exchange.\34\ More specifically, the Commission believes
that these provisions described above are consistent with the Act and
enhance the ability of BSE to carry out its self-regulatory
responsibilities with respect to its BOX facility.
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\34\ This is consistent with the Commission's approval of ArcaEx
as the equities trading facility of PCX pursuant to a rule filing
submitted by the PCX under Section 19(b)(1) of the Act, 15 U.S.C.
78s(b)(1), and Rule 19b-4 hereunder, 17 CFR 240.19b-4. See PCX/Arca
Approval Order, supra note.
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B. Changes in Control of BOX LLC
The Commission believes that the restrictions in the LLCOA on
direct and indirect changes in control of BOX LLC are sufficient so
that BSE is able to carry out its self-regulatory responsibilities and
that the Commission can fulfill its responsibilities under the Act.
Schedule D of the LLCOA lists all unitholders of BOX LLC, the number of
units each holds, and the percentage of ownership in BOX LLC that such
units represent. A change to this schedule (as well as to any other
provision of the LLCOA) would have to be filed with the Commission if
so required under Section 19(b) of the Act and Rule 19b-4 thereunder.
In addition, Section 8.4(f) of the LLCOA provides that BSE must file
with the Commission as a proposed rule change any amendment to the
LLCOA resulting from a proposed acquisition of BOX LLC units that would
cause the acquirer to meet or cross the 20% ownership threshold or any
subsequent 5% ownership threshold (e.g., 25%, 30%, 35%, etc.).
Furthermore, Section 8.4(e) of the LLCOA requires BSE to inform the
Commission in writing at least ten days before any proposed acquisition
of BOX LLC units that would result in the acquirer meeting or crossing
the 5%, 10%, or 15% ownership thresholds. The Commission believes that
this approach is consistent with the Act in that it is analogous to the
ongoing reporting
[[Page 2766]]
requirements of Form 1,\35\ the application for (and amendments to the
application for) registration as a national securities exchange.
Exhibit K of Form 1 requires any exchange that is a corporation or
partnership to list any persons that have an ownership interest of 5%
or more in the exchange;\36\ and Rule 6a-2(a)(2) under the Act \37\
requires an exchange to update its Form 1 within ten days after any
action that renders inaccurate the information previously filed in
Exhibit K.
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\35\ 17 CFR 249.1 and 17 CFR 249.1a.
\36\ This reporting requirement applies only to exchanges that
have one or more owners, shareholders, or partners that are not also
members of the exchange. See Form 1, Exhibit K. Exhibit K applies
only to the exchange itself, not to entities that operate facilities
of the exchange.
\37\ 17 CFR 240.6a-2(a)(2).
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Exhibit K imposes no obligation on an exchange to report parties
whose ownership interest in the exchange is less than 5%. Similarly,
Section 8.4(e) of the LLCOA requires BSE to notify the Commission of an
interest in BOX LLC only when that interest reaches 5% or more. The
Commission does not believe that the identity of a party that has less
than a 5% interest in a facility of a national securities exchange is a
``rule of the exchange'' that must be filed pursuant to Section 19(b)
and Rule 19b-4(b) thereunder. In this regard, the Commission does not
agree with CBOE's comment that the filing ``does not present a
comprehensive description of who are the owners of BOX.''
In addition, Section 8.4(g) of the LLCOA would require an indirect
controlling party to join the LLCOA. This amendment to the agreement
would trigger a proposed rule change that BSE must file with the
Commission pursuant to Section 19(b) of the Act. The proposed rule
change would alert the Commission to the existence of a proposed
indirect controlling party and present the Commission and BSE with an
opportunity to determine what additional measures, if any, might be
necessary to provide sufficient regulatory jurisdiction over the
proposed indirect controlling party.\38\ The Commission understands
that Section 8.4(g) of the LLCOA would apply to any ultimate parent of
BOX LLC, no matter how many levels of ownership are involved, provided
that a controlling interest exists between each link of the ownership
chain.
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\38\ BOX LLC currently has an indirect controlling party, Mr.
Thomas Peterffy, who holds a controlling interest in IBG. Under
Section 19.6(a) of the LLCOA, IBG acknowledges that, to the extent
that they are related to BOX activities, the officers and directors
of IBG are deemed to be the officers and directors of BSE for the
purpose of and subject to oversight pursuant to the Act. Because Mr.
Peterffy is an officer and director of IBG, he is deemed, with
respect to IBG's BOX activities, to be an officer and director of
BSE itself, thereby subjecting him to Commission authority under
Section 19(h)(4) of the Act, 15 U.S.C. 78s(h)(4). Furthermore, under
Section 19.6(b) of the LLCOA, IBG and its officers and directors
(including Mr. Peterffy) irrevocably submit to the jurisdiction of
the U.S. federal courts, the Commission, and BSE for the purposes of
any suit, action, or proceeding pursuant to the U.S. federal
securities laws arising out of or relating to their BOX activities.
In addition, as a registered broker-dealer, IBG is subject to
Commission authority pursuant to Section 15(b)(4) of the Act, 15
U.S.C. 78o(b)(4). Also, a ``person associated with a broker or
dealer'' is defined in Section 3(a)(18) of the Act, 15 U.S.C.
78c(a)(18), to include in part an officer or director of a broker or
dealer, as well as any person directly or indirectly controlling
such broker or dealer. Under Section 15(b)(6) of the Act, 15 U.S.C.
78o(b)(6), the Commission has the authority to censure a person
associated with a broker or dealer, place limitations on such
person's activities or functions, suspend such person for a period
not exceeding twelve months or bar such person from being associated
with a broker or dealer. Mr. Peterffy, as an officer and director
of, and the holder of a controlling interest in, IBG, falls within
the definition of ``person associated with a broker or dealer'' and
therefore is subject to the Commission's authority under Section
15(b)(6) of the Act.
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In conclusion, the Commission believes that Sections 8.4(e), (f),
and (g) of the LLCOA, together with the requirements of Section 19(b)
of the Act and Rule 19b-4 thereunder, provide the Commission with
sufficient authority over changes in control of BOX LLC to enable the
Commission to carry out its regulatory oversight responsibilities with
respect to BSE and the BOX facility.
C. Regulatory Jurisdiction Over Owners of BOX LLC
The Commission believes that the terms of the LLCOA provide the
Commission and BSE with sufficient regulatory jurisdiction over the
controlling parties and other unitholders of BOX LLC to carry out their
responsibilities under the Act. In Section 19.6(a), each unitholder of
BOX LLC acknowledges that--to the extent that they are related to BOX
activities--the books, records, premises, officers, directors, agents,
and employees of the unitholder are deemed to be the books, records,
premises, officers, directors, agents, and employees of BSE itself for
the purpose of and subject to oversight pursuant to the Act. Moreover,
in Sections 12.1 and 15 of the LLOCA, all of the BOX LLC unitholders
acknowledge that the books, records, premises, officers, directors,
agents, and employees of BOX are deemed to be the books, records,
premises, officers, directors, agents, and employees of BSE for the
purpose of and subject to oversight pursuant to the Act. These
provisions would enable the Commission to exercise its authority under
Section 19(h)(4) of the Act \39\ with respect to the officers and
directors of BOX LLC and of all unitholders of BOX LLC, since all such
officers and directors--to the extent that they are acting in matters
related to BOX activities--would be deemed to be the officers and
directors of BSE itself. Furthermore, the records of any unitholder--to
the extent that they are related to BOX activities--are subject to the
Commission's examination authority under Section 17(b)(1) of the
Act,\40\ as these records would be deemed to be the records of BSE
itself.
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\39\ 15 U.S.C. 78s(h)(4). Section 19(h)(4) authorizes the
Commission, by order, to remove from office or censure any officer
or director of a national securities exchange if it finds, after
notice and an opportunity for hearing, that such officer or director
has: (1) Willfully violated any provision of the Act or the rules
and regulations thereunder, or the rules of a national securities
exchange; (2) willfully abused his or her authority; or (3) without
reasonable justification or excuse, has failed to enforce compliance
with any such provision by a member or person associated with a
member of the national securities exchange.
\40\ 15 U.S.C. 78q(b)(1).
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In addition, in Section 19.6(b) of the LLCOA, each unitholder--and
each officer, director, agent, and employee thereof--irrevocably
submits to the exclusive jurisdiction of the U.S. federal courts, the
Commission, and BSE for the purposes of any suit, action, or proceeding
pursuant to the U.S. federal securities laws and the rules or
regulations thereunder, arising out of or relating to BOX activities.
In addition, each unitholder--and each officer, director, agent, and
employee thereof--waives, and agrees not to assert by way of motion, as
a defense or otherwise in any such suit, action, or proceeding, any
claim that it is not personally subject to the jurisdiction of the
Commission; that the suit, action or proceeding is an inconvenient
forum; that the venue of the suit, action, or proceeding is improper;
or that the subject matter of the suit, action, or proceeding may not
be enforced in or by such courts or agency. Moreover, pursuant to
Section 19.6(c) of the LLCOA, the BSE and each unitholder are required
to take such action as is necessary to ensure that such unitholder's
officers, directors, and employees consent to the application of these
requirements with respect to their BOX-related activities. Section
19.6(c) further requires the Bourse and the BSE to take such action as
is necessary to ensure that the Bourse's officers, directors, and
employees consent to the communication of their personal information to
the Commission and the BSE and agree to waive the protection of such
personal information that is provided by the Private Sector Privacy
[[Page 2767]]
Act. Finally, under Section 5.3 of the LLCOA each unitholder of BOX LLC
agrees to cooperate with the Commission and BSE pursuant to their
regulatory authority.
The Commission also notes that, even in the absence of these
provisions of the LLCOA, Section 20(a) of the Act \41\ provides that
any person with a controlling interest in BOX LLC would be jointly and
severally liable with and to the same extent that BOX LLC is liable
under any provision of the Act, unless the controlling person acted in
good faith and did not directly or indirectly induce the act or acts
constituting the violation or cause of action.
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\41\ 15 U.S.C. 78t(a).
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The Commission believes that, together, these provisions grant the
Commission sufficient jurisdictional authority over the controlling
parties and other unitholders of BOX LLC. Moreover, BSE is required to
enforce compliance with these provisions because they are ``rules of
the exchange'' within the meaning of Section 3(a)(27) of the Act.\42\ A
failure on the part of BSE to enforce its rules could result in
suspension or revocation of registration under Section 19(h)(1) of the
Act.\43\
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\42\ 15 U.S.C. 78c(a)(27).
\43\ 15 U.S.C. 78s(h)(1).
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D. Ownership Restrictions on BOX Option Participants
The Commission believes that the restriction on voting trust
agreements in Section 4.3(b) of the LLCOA is reasonable and consistent
with the Act. In the absence of such a provision, unaffiliated parties
could act in concert and evade the LLCOA's provisions regarding changes
in control of BOX LLC.\44\ A voting trust agreement would not
necessarily be inconsistent with the Act, but any unitholders wishing
to establish a voting trust agreement would first have to amend the
LLCOA to enable them to do so. Such amendment would trigger a proposed
rule change, thus affording the Commission an opportunity to review the
matter.
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\44\ However, the LLCOA treats as belonging to a single
unitholder any BOX LLC units held by affiliated parties of the
unitholder. See Sections 8.4(e)-(g) of the LLCOA.
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In addition, the Commission believes that the voting collar
provision that prevents a unitholder that is also a BOX Options
Participant from voting any excess units of BOX LLC (i.e., units in
excess of a 20% aggregate interest) is reasonable and consistent with
the Act. It is common for members who trade on an exchange to have
ownership interests in the exchange. However, a member's interest could
become so large as to cast doubt on whether the exchange can fairly and
objectively exercise its self-regulatory responsibilities with respect
to that member. A member that is also a controlling shareholder of an
exchange might be tempted to exercise that controlling influence by
directing the exchange to refrain from diligently surveilling the
member's conduct or from punishing any conduct that violates the rules
of the exchange or the federal securities laws. An exchange also might
be reluctant to surveil and enforce its rules zealously against a
member that the exchange relies on as its largest source of capital.
The Commission believes that a limited temporary exemption for IBG
from the voting collar provision is justified and consistent with the
Act. The exemption is designed to afford IBG some ability to protect
its investment but also to limit the possibility that the Exchange's
ability to carry out its self-regulatory responsibilities would be
impaired. Under the exemption, IBG would be permitted to vote its
excess units, but only with respect to a merger, consolidation, or
dissolution of BOX LLC or a sale of all or substantially all of the
assets of BOX LLC. This exemption is substantially similar to an
exemption granted to founder members of the International Securities
Exchange (``ISE'').\45\
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\45\ See Securities Exchange Act Release Nos. 45803 (April 23,
2002), 67 FR 21306, 21307 (April 30, 2002) (approval of SR-ISE-2002-
01) (conversion of ISE from an LLC to a corporation); and 42455
(February 24, 2000), 65 FR 11388, 11391-92 (March 2, 2000) (File No.
10-127) (approval of registration of ISE as a national securities
exchange).
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E. Accelerated Approval
Pursuant to Section 19(b)(2) of the Act,\46\ the Commission may not
approve any proposed rule change, or amendment thereto, before the
thirtieth day after publication of notice of the filing thereof, unless
the Commission finds good cause for so doing and publishes its reasons
for making that finding. The Commission hereby finds good cause for
approving Amendments No. 1 and 2, prior to the thirtieth day after
publishing notice of these amendments in the Federal Register.
Amendment No. 1 makes only one technical change to the rule text.
Amendment No. 2 merely clarifies the restrictions on the Transfer of
BOX LLC units and the Commission's jurisdiction over BOX LLC
unitholders. The Commission believes that no purpose would be served by
delaying approval of the amended proposal, particularly in light of the
fact that only one comment letter was received in response to the
original notice. Therefore, the Commission finds that good cause exists
to accelerate approval of Amendments No. 1 and 2 to the proposed rule
change, pursuant to Section 19(b)(2) of the Act.
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\46\ 15 U.S.C. 78s(b)(2).
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IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning Amendments No. 1 and 2, including whether
Amendments No. 1 and 2 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. Comments also may be submitted electronically at the
following e-mail address: rule-comments@sec.gov. All submissions should
refer to File No. SR-BSE-2003-19. This file number should be included
on the subject line if e-mail is used. To help us process and review
your comments more efficiently, comments should be sent in hardcopy or
by e-mail but not by both methods. 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 inspection and copying in the Commission's Public
Reference Room. Copies of such filings will also be available for
inspection and copying at the principal office of the Exchange. All
submissions should be submitted by February 10, 2004.
V. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\47\ that the proposed rule change (SR-BSE-2003-19) is approved,
and Amendments No. 1 and 2 to the proposed rule change are approved on
an accelerated basis.
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\47\ 15 U.S.C. 78s(b)(2).
By the Commission.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 04-1114 Filed 1-16-04; 8:45 am]
BILLING CODE 8010-01-P