[Federal Register Volume 62, Number 168 (Friday, August 29, 1997)]
[Notices]
[Pages 45904-45907]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-23009]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-38960; File No. SR-PHLX-97-31]


Self-Regulatory Organizations; Philadelphia Stock Exchange, Inc.; 
Order Granting Approval to Proposed Rule Change Relating to Amendments 
to Certificate of Incorporation and By-Laws

August 22, 1997.

I. Introduction

    On June 25, 1997, the Philadelphia Stock Exchange, Inc. (``Phlx'' 
or Exchange''), pursuant to Section 19(b)(1) of the Securities Exchange 
Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ filed with the 
Securities and Exchange Commission (``SEC'' or ``Commission'') a 
proposed rule change to amend its Certificate of Incorporate and By-
Laws.
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    \1\ 15 U.S.C. Sec. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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    The proposed rule change was published for comment in the Federal 
Register on July 10, 1997.\3\ No comments were received on the 
proposal. This order approves the proposed rule change.
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    \3\ Securities and Exchange Act Release No. 38809 (July 1, 
1997), 62 FR 37109.
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II. Description of the Proposal

    On May 21, 1997, the Phlx Board of Governors approved draft 
amendments to the Phlx Certificate of Incorporation and By-Laws that 
are designed to promote an enhanced governance structure for the 
Exchange. Thereafter, with the Phlx Board's endorsement, the amendments 
were announced to the membership in accordance with Exchange By-Law 
Article XXII, Section 22-2.\4\
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    \4\ In accordance with Phlx By-Law Article XXII, Section 22-2, 
the membership was notified of the proposed amendment by a 
memorandum dated June 4, 1997, and no written request for a special 
meeting of the Exchange membership was filed within the 10 day 
period allowed by the By-Law. Thereafter, on June 18, 1997, a 
membership petition was received by the Board pursuant to Phlx By-
Law Article XXII, Section 22-1, which offered, in writing, certain 
proposed amendments to the By-Laws. On August 1, 1997, the petition 
was submitted to the membership for vote. The petition failed for 
lack of the required quorum.
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    As no written request was made requesting a special meeting of the 
Exchange membership to consider the amendments, the Phlx Board on June 
18, 1997 unanimously approved the proposed amendments for filing with 
the Commission.
    Two of the most significant proposed changes to the By-Laws are 
reducing the size of the Board from 30 to 22 Governors and changing the 
composition of the Board to: 11 non-industry Governors, of whom at 
least 5 must be public Governors; 10 industry Governors; \5\ and a 
Chairman of the Board who will be the full time, paid Chief Executive 
Officer of the Exchange.\6\
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    \5\ See By-Law Article I, Section 1-1 (defining ``industry,'' 
``non-industry,'' and ``public'').
    \6\ See By-Law Article IV, Section 4-1 and By-Law Article V, 
Section 5-1. Various other amendments to the By-Laws have been made 
in connection with these changes. For instance, references to 
``President'' have been changed to refer to the ``Chief Executive 
Officer'' or ``Chairman of the Board'' and revisions to the number 
of Board members necessary to effect certain Board actions have been 
made, e.g., in most cases where the affirmative vote of 15 of the 
current 30 Governors was required, the By-Law is changed to state 
that a majority vote is required.
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    The proposed By-Law amendments specify the composition of the 10 
industry Governors as follows: 2 Equity Floor Industry Governors, 1 
Equity Options Floor Specialist Governor and 1 Equity Options Floor 
Registered Options Trader Governor (all of whom must work on the 
Exchange Floor or be a general partner, executive officer or member 
associated with a member organization primarily engaged in business on 
the Exchange Floor); 1 Equity Options Floor Broker Governor (who must 
work on the Equity Options Floor); and 5 Off-Floor Governors.\7\ Except 
for the Chairman of the Board, all Governors are subject to term limits 
of two consecutive three year terms.\8\
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    \7\ See By-Law Article IV, Section 4-1.
    \8\ See By-Law Article IV, Section 4-3.
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    The manner in which the Vice-Chairmen of the Board are selected 
also has been changed. Instead of the Vice-

[[Page 45905]]

 Chairmen being elected by the membership, the Board will now appoint 
the Off-Floor Vice-Chairman from among the Off-Floor Governors, and the 
On-Floor Vice-Chairman from among the On-Floor Governors. If there is a 
contest for On-Floor Vice-Chairman, a membership election will be held 
solely for the On-Floor Vice-Chairman.\9\
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    \9\ See By-Law Article IV, Section 4-2.
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    The proposed By-Law amendments make significant changes to the 
Nominating Committee's charter. The amendments specify that a majority 
of the Committee be non-industry Governors and authorize the Committee 
to select non-industry and public Governors, nominees for the industry 
Governor, committee chairs, and the Nominating Committee's successors, 
and to fill vacancies on the Board, all subject to Board approval.\10\
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    \10\ See By-Law Article III, Section 3-5.
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    The number of members required to file independent Governor 
nominations will be increased from 10 to 50 members for an individual 
nomination, and 30 to 75 members for nominating an entire slate or 
portion thereof.\11\
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    \11\ See By-Law Article III, Section 3-7.
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    Substantial amendments relating to the Exchange's standing 
committees are proposed, including adding new standing committees of 
Automation, Compensation and Quality of Markets; reducing the size of 
standing committees to no more than 9 members except for floor 
committees, which may have no more than 12 members; requiring the 
committee chair and at least one other member to be a Governor; and 
revising the charter and composition of certain existing committees. Of 
particular note, the Executive Committee will be authorized, with Broad 
approval, to appoint committee members other than committee chairs, and 
to act on behalf of the Board when the Broad is not in session.\12\
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    \12\ See By-Law Article X, Section 10-14.
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    The Arbitration Committee's composition will be reduced from 25 to 
4 members and member controversies will be handled in the same fashion 
as public customer controversies.\13\
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    \13\ See By-Law Article X, Section 10-8
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    The Audit Committee will be composed of 3 public Governors and the 
Committee's charter will be significantly expanded to authorize the 
Committee's inquiries into all aspects of the Exchange's operations and 
finances, including regulatory matters.\14\
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    \14\ See By-Law Article X, Section 10-9.
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    Business Conduct Committee (``BCC'') appeals will be taken directly 
to the Board and the Disciplinary Review Committee will be 
eliminated.\15\ The Exchange Enforcement staff will be entitled to 
petition the Board to appeal a BCC decision.\16\
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    \15\ See By-Law Article X, Section 10-11.
    \16\ See By-Law Article XI, Section 11-3.
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    Board Advisory Committees that hear appeals of standing committee 
decisions and are composed of 3 Governors, will now include at least 1 
public Governor.\17\
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    \17\ See By-Law Article XI, Sections 11-1 and 11-2.
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    By-Law Article IV, Section 4-8, is proposed to be amended so that 
no person shall participate in the ``determination'' as opposed to 
``adjudication'' of any matter in which he is personally interested. 
This change is intended to expand the coverage of this provision, which 
pertains to disqualification of Governors from participation in Board 
actions. In addition, the Phlx is proposing to replace in its entirety 
Article XIV of the Certificate of Incorporation with a current 
provision of the Delaware General Corporation Law regarding contracts 
and transactions entered into by the Phlx in which a Governor, 
director, or officer has a financial interest.
    Certain provisions of the Phlx Certificate of Incorporation and By-
Laws are being amended in order to attract qualified candidates to 
serve on the Phlx Board and committees, and to clarify the 
responsibilities and obligations of those who are appointed. In this 
regard, new Article XVIII to the Phlx Certificate of Incorporation will 
limit the legal liability of Phlx Governors, as permitted under the 
Delaware General Corporation Law. In addition, current By-Law Article 
IV, Section 4-18, will be replaced entirely by a provision that 
provides broad and comprehensive indemnification coverage and rights to 
Governors, committee members and officers of the Exchange, and provides 
discretionary authority for the Board to indemnify agents and employees 
of the Exchange.
    A number of other revisions to the By-Laws are proposed for the 
sake of organization or accuracy. For instance, the term 
``Corporation'' has been changed throughout the By-Laws to 
``Exchange,'' and By-Law Articles VI and VII regarding Vice-Chairmen of 
the Board of Governors and Officers of the Corporation are being 
deleted in their entirety with the relevant sections being moved into 
Article V.

III. Discussion

    After careful consideration, the Commission finds that the proposed 
rule change is consistent with the requirements of the Act and the 
rules and regulations thereunder applicable to the Exchange. The 
Commission is approving this rule change proposal in order to enable 
the Phlx to better fulfill its responsibilities as a self-regulatory 
organization. The proposal institutes or strengthens existing 
provisions that should help the Phlx maintain and promote the highest 
ethical standards among its members and staff. The Commission finds 
that the proposed amendments to Phlx's By-Laws and Certificate of 
Incorporation are designed to assure fair representation of the 
Exchange's members in the selection of its directors and the 
administration of its affairs, and that the changes will enable the 
Exchange to better comply with the requirements of Section 6 in 
particular and the Act in general. Specifically, the Commission 
believes that the proposed rule change is consistent with Section 
6(b)(5) of the Act \18\ in that it is designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade and in general to protect investors and the public 
interest.\19\
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    \18\ 15 U.S.C. Sec. 78f(b)(5).
    \19\ In approving the proposal, the Commission has considered 
the proposal's impact on efficiency, competition, and capital 
formation. 15 U.S.C. Sec. 78c(f).
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    The Commission finds consistent with the Act the Phlx's reduction 
in size of the Board of Governors from 30 to 22 and changing the 
composition of the Board to: 11 non-industry governors (at least 5 of 
whom must be public Governors); 10 industry Governors; and a Chairman 
of the Board who will be the paid, full-time Chief Executive Officer of 
the Exchange. This change is consistent with Section 6(b)(3) of the Act 
\20\ in that the Board will be more representative of the various 
constituencies that comprise the Exchange or are affected by its 
activities. The substantial revisions to the Phlx corporate governance 
structure are a result, in part, of an inquiry by a special outside 
committee charged with reviewing the organizational and governance 
structure of the Phlx. In addition, events at the Phlx over the past 
year have evidenced a need for a less insular and more diverse 
governance and committee structure for the Exchange to perform 
adequately its self-regulatory obligations.\21\ The above

[[Page 45906]]

noted changes, along with the increase in public representation on the 
Board, should enhance the Phlx's ability to uphold its responsibilities 
as a self-regulatory organization, and to act in a manner more 
consistent with the public interest. In addition, the amendment to 
reduce the size of the Board from 30 to 22 governors will enable the 
Board to perform its duties in a more efficient manner.
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    \20\ 15 U.S.C. Sec. 78f(b)(3).
    \21\ See Phlx Appoints Special Committee to Investigate Casella-
Ashton Ties, Securities Week, September 23, 1996, at 1; Phlx 
Chairman's Resignation May Have Raised More Questions than it 
Answered, Securities Week, October 21, 1996, at 1. See also 
Securities Exchange Act Release No. 38918 (August 11, 1997), In the 
Matter of Stock Clearing Corporation of Philadelphia and 
Philadelphia Depository Trust Company, Respondents, Order 
Instituting Proceedings Pursuant to Sections 19(h) and 21C of the 
Securities Exchange Act of 1934, Making Findings and Imposing 
Remedial Sanctions (finding that the Stock Clearing Corporation of 
Philadelphia (``SCCP'') and Philadelphia Depository Trust Company 
failed to comply with their respective rules and procedures, failed 
to file necessary proposed rule changes with the Commission, and, in 
the case of SCCP, violated Regulation T).
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    The Commission believes that the amendment to require 50% 
representation by public governors on the Board is particularly 
important in addressing the Exchange's governance problems, and should 
ensure better protection of investors and the public interest. Public 
governors are likely to have little or no stake in internal Exchange 
politics, and, if carefully selected, public governors should bring 
diverse experience and increased ethical sensitivity to the Board, thus 
enhancing the confidence of members and of the public in the Exchange's 
ability to govern its members and discharge its regulatory obligations 
appropriately.
    The Exchange will continue the practice of having two Vice-
Chairmen. However, one Vice-Chairman will now be appointed by the Board 
from among the Off-Floor Governors, and the other will be appointed by 
the Board from among the On-Floor Governors. Previously, these 
positions were elected by the membership. This change is a reasonable 
method of ensuring that there is balanced representation of two groups 
that can have divergent interests.
    The Phlx is increasing the number of members required to support 
independent governor nominations from 10 to 50 for an individual 
nomination and from 30 to 75 members for nomination of a whole or 
partial slate. The Commission believes that this change will benefit 
the election process by requiring significant membership interest prior 
to a nomination.
    The Phlx is changing the manner of the appointment of members to 
standing committees of the Board, designating the composition of 
certain committees, and creating new committees. The changes to 
committee structure and procedures are important components of 
addressing the governance problems of the Exchange. Committees often 
are charged with implementing Board policies and directives, and they 
develop recommendations for Board consideration. An overhaul of the 
Board structure, without reform of the committee structure, would only 
partially rectify the governance problems at the Phlx. The proposed 
committee changes, discussed below, are designed to complement the 
Board changes by improving the structure of committees and selection of 
committee members. First, members of standing committees previously 
were selected by the Chairman of the Board with the approval of the 
Board of Governors. Under this proposal, members of standing committees 
will be selected by the Executive Committee, with the approval of the 
Board. The Commission believes that this method will better ensure the 
selection of qualified members of standing committees by removing 
selection from the sole control of the Chairman and vesting it in a 
more diverse group.
    The charter and composition of the Nominating Committee has been 
changed to reduce its size from nine to seven members, with four of 
those members being non-industry governors, and at least two of the 
four being public governors (including the chair of the committee). The 
balance of the committee will comprise two floor governors and one off-
floor governor. The Commission believes that the proposed change in 
composition and number of members on this committee strikes an 
appropriate balance in attempting to fairly represent the various 
interests of the Phlx membership and trading community, including 
investors.
    The size of the Arbitration Committee has been reduced 
significantly from twenty-five members to four. Two of the committee 
members will be non-industry governors, with at least one being a 
public governor and one being the chair of the committee. The two other 
members will be an off-floor member and an on-floor member. Member 
controversies will be handled in the same fashion as public customer 
controversies. The Commission considers these changes to the 
Arbitration Committee to be an improvement over the Exchange's prior 
system of member dispute resolution, which at times resulted in delay 
in the resolution of disputes. While the streamlined committee should 
provide an effective forum for the resolution of member disputes, the 
Commission intends to monitor the impact of these changes on 
arbitration at the Exchange.
    The Commission finds consistent with the Act the significant 
expansion of the charter of the Audit Committee, authorizing this 
committee to inquire into all aspects of the Exchange's operations and 
finances, including regulatory matters. The committee will be composed 
of three public Governors. The expansion of the audit committee's 
charter will authorize the investigation and resolution of allegations 
of misconduct by governors, committee members, and Exchange staff. The 
Commission believes that it is important for the Phlx to have a 
committee with such broad investigatory powers, and approves the 
expansion of the committee's charter. A committee that is small and 
composed of independent governors should be better able to reach quick 
and unbiased decisions regarding alleged misconduct, or other matters 
pertinent to the Audit Committee's mission.
    The Business Conduct Committee monitors compliance with the Act and 
the rules and regulations thereunder, as well as the rules and 
regulations of the Exchange. The Commission is approving the 
elimination of the Disciplinary Review Committee, in order that appeals 
from the Business Conduct Committee may be taken directly to the Board 
of Governors. In the Commission's view, this change eliminates an 
unnecessary level of appeal. The Commission also is approving an 
amendment to the By-Laws to include at least one public governor on the 
Advisory Committees that hear appeals of standing committee decisions 
because of the importance of having balanced views on these committees.
    The Commission approves the creation of three Quality of Markets 
Committees representing the equity, equity and index option, and 
foreign currency option trading floors. The committees will provide 
advice and guidance to the Board on the Exchange's competitive position 
in new and existing markets, and the quality and depth of markets. The 
committees also will provide advice and guidance on issues relating to 
the fairness, integrity, efficiency, and competitiveness of the 
information, order handling, and execution mechanisms of the Exchange 
and systems operated by the Exchange. The Commission believes that the 
existence of these committees is an important improvement in the Phlx's 
review mechanism for assuring sound, fair markets.
    The Exchange has modified the Certificate of Incorporation to 
include a

[[Page 45907]]

provision of the Delaware General Corporation Law requiring disclosure 
of certain information where a governor, director, or officer has a 
financial interest in a contract or transaction entered into by the 
Phlx. Pursuant to this provision, if appropriate disclosure is made, 
the contract entered into by the Phlx is not void or voidable solely by 
reason of the financial interest. The Exchange also has amended its by-
laws to clarify when governors must be disqualified from participation 
in Board actions. Whereas previously governors were prohibited from 
participating in the ``adjudication'' of any matters in which they were 
personally interested, the applicable by-law now uses the term 
``determination.'' The use of this term is intended to broaden the 
universe of matters from which a governor could potentially be 
disqualified. While these amendments represent a first step in the 
clarification of the Exchange's conflict of interest rules, the 
Commission expects that the Exchange will further amend its by-laws to 
add more specific provisions that contain clear and detailed recusal, 
disclosure, and conflict of interest procedures for Board and committee 
members.
    The Commission understands that the Phlx is formulating various 
orientation and educational materials, as well as a code of conduct, in 
order to brief persons who serve the Exchange in any official capacity, 
including governors, committee members, officers, employees, agents, 
members, member organizations, and persons affiliated with a member or 
member organization. The code of conduct reiterates the principles of 
business conduct which the Phlx expects to be maintained and followed, 
with the core principles being that the Exchange should conduct every 
aspect of its business in a fair and lawful manner, and that the 
Exchange should maintain a climate which encourages the fair and lawful 
conduct of business. These principles include the conduct of business 
in accordance with the federal securities laws and other applicable 
rules and regulations, the proper use of confidential information, 
disclosure of information and recusal from decision making, where 
appropriate, and provision of information to the Exchange where such 
information is reasonably requested.
    The Commission supports the Phlx's strengthening of orientation and 
education materials in order that these persons better understand their 
mission, duties, and appropriate standards of conduct. The Commission 
understands that the Phlx is considering amending its by-laws to 
include compliance with the code of conduct, which at this time is 
merely an Exchange policy. The Commission encourages the Phlx to submit 
such an amendment in order to formally reflect the important principles 
contained in the code of conduct, and looks forward to reviewing such 
an amendment.
    Finally, The Commission approves the amendment of the by-laws and 
Certificate of Incorporation to include indemnification provisions, and 
supports the Exchange's goal of attracting qualified candidates for the 
Phlx Board of Governors through the inclusion of such provisions. The 
Commission also approves all non-substantive by-law changes made for 
the sake of organization and accuracy.

IV. Conclusion

    It Is Therefore Ordered, pursuant to Section 19(b)(2) of the 
Act,\22\ that the proposed rule change (SR-PHLX-97-31) is approved.
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    \22\ 15 U.S.C. Sec. 78s(b)(2).

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\23\
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    \23\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-23009 Filed 8-28-97; 8:45 am]
BILLING CODE 8010-01-M