==========================================START OF PAGE 1====== SECURITIES AND EXCHANGE COMMISSION Washington, D.C. SECURITIES EXCHANGE ACT OF 1934 Rel. No. 37601 \ August 26, 1996 Admin. Proc. File No. 3-8650 _______________________________________________ : In the Matter of the Application of : : ESCALATOR SECURITIES, INC. : 624 East Tarpon Avenue : Tarpon Springs, FL 34689-4202 : : and : : HOWARD A. SCALA : : For Review of Disciplinary Action Taken by the : : NATIONAL ASSOCIATION OF SECURITIES DEALERS, INC. : _________________________________________________: OPINION OF THE COMMISSION REGISTERED SECURITIES ASSOCIATION -- REVIEW OF DISCIPLINARY PROCEEDINGS Violations of Rules of Fair Practice Conduct Inconsistent with Just and Equitable Principles of Trade Excessive and Fraudulent Markups Where member of registered securities association, acting through its general securities principal, effected securities transactions at unfair and fraudulent prices, held, association's findings of violation sustained in part and set aside in part and the sanctions it imposed sustained, except order of restitution remanded for further findings. APPEARANCES: Edwin B. Kagan, of Edwin B. Kagan, P.A., for Applicants. T. Grant Callery and Shirley H. Weiss, for the National Association of Securities Dealers, Inc. ==========================================START OF PAGE 2====== Appeal filed: March 23, 1995 Last brief received: July 18, 1995 ==========================================START OF PAGE 3====== I. Escalator Securities, Inc. ("Escalator" or the "Firm"), a registered broker-dealer and member of the National Association of Securities Dealers, Inc. ("NASD"), and Howard A. Scala, president and general securities principal of the Firm (collectively, Applicants ), appeal from NASD disciplinary action. The NASD found that Applicants violated Article III, Sections 1, 4, and 18 of the NASD's Rules of Fair Practice (the "Rules") by effecting transactions at unfair and, in many instances, fraudulent prices. -[1]- The NASD censured Applicants; fined them jointly and severally $50,000; barred Escalator from executing principal transactions in equity securities with retail customers, except for unsolicited liquidating transactions; barred Scala from associating with any member of the Association or any member firm in any principal, proprietary, or supervisory capacity; and ordered Escalator to pay restitution in the amount of $119,335.90. -[2]- Our findings are based on an independent review of the record. II. The NASD examined Escalator's retail transactions during 1991 and 1992 in a number of securities. -[3]- For each ---------FOOTNOTES---------- -[1]- Section 1 requires adherence to "high standards of commercial honor and just and equitable principles of trade." NASD Manual (CCH) 2151. Section 4 requires that prices charged in transactions with customers be "fair, taking into consideration all relevant circumstances." NASD Manual (CCH) 2154. Section 18 provides that "[n]o member shall effect any transaction in, or induce the purchase or sale of, any security by means of any manipulative, deceptive or fraudulent device or contrivance." NASD Manual (CCH) 2168. -[2]- The NASD required Escalator to provide the NASD staff with satisfactory proof of restitution within 60 days of the decision and pay 9 percent per annum on the restitution amount until paid. In the event that a customer could not be located, the amount to be paid in restitution was ordered added to the fine. The NASD also assessed costs. -[3]- Count I involved markups in 7 securities traded in the summer and fall of 1991. Count II alleged violations with respect to the 1991 transactions in the convertible subordinated debentures of Semicon, Inc. Count III involved markups in 5 securities sold in 1992. ==========================================START OF PAGE 4====== security, the NASD determined whether Escalator was a market maker. If it found that Escalator made a market in the particular security, the NASD assessed the Firm's markups on the basis of the price received by Escalator in its contemporaneous sales to other dealers, if any. If there were no contemporaneous wholesale sales, the NASD calculated the prevailing market price based on the Firm's contemporaneous wholesale cost. In those securities for which Escalator did not make a market, the NASD found that the best evidence of prevailing market price was Escalator's contemporaneous cost. In the absence of contemporaneous wholesale purchases by the Firm, the NASD looked to other evidence of the prevailing market price. -[4]- The NASD found that markups in excess of 5 percent were excessive. A. The NASD found that, from July 8 through October 16, 1991, Escalator, acting through Scala, charged unfair and fraudulent markups in principal sales to public customers of the common stock of seven issuers: 1) Abex, Ltd. ( Abex ); 2) Eco Holdings, Inc. ( Eco Holdings ); 3) Filmvest International, Inc. ( Filmvest International ); 4) Genesis Capital, Inc. ( Genesis Capital ); 5) Serena Health Services, Inc. ( Serena Health Services ); 6) Sierra Tech, Inc. ( Sierra Tech ); and 7) Tensiodyne Corporation ( Tensiodyne ). -[5]- The securities at issue were listed in the National Quotation Bureau, Inc.'s Pink Sheets ("Pink Sheets") and on the Over-the-Counter Bulletin Board ("OTCBB"). Although Escalator ---------FOOTNOTES---------- -[4]- The NASD obtained "blue sheets" for these securities. Blue sheets consist of information from broker-dealers, generally market makers, setting forth the firm's inter-dealer and agency trades in a subject security or securities by date, price, size, and contra-party. Where inter-dealer trading occurred away from Escalator contemporaneously with the Firm's retail sales, the NASD did not use those inter-dealer trades away from Escalator as evidence of the prevailing market price. The NASD determined that the evidence of inter-dealer trades in the market was incomplete, and it could not conclude whether additional inter-dealer trades might have occurred on those dates. -[5]- The NASD found that all but one of these transactions occurred at fraudulent prices. The NASD determined that, during this period, the Firm made a market in Sierra Tech and Tensiodyne. ==========================================START OF PAGE 5====== listed its name in the Pink Sheets, Escalator did not enter quotes for these securities in the Pink Sheets, nor did it enter its name on the OTCBB. The markups at issue ranged from 8.3 percent to 267.6 percent. -[6]- B. The NASD determined that, between February 6 and July 16, 1992, Escalator, acting through Scala, charged unfair and fraudulent markups in 33 principal sales to public customers of the common stock of five issuers: 1) Abex; 2) Bora Capital, Inc. ( Bora Capital ); 3) Dini Products, Inc. ( Dini Products ); 4) Exten Industries, Inc. ( Exten Industries ); and 5) Filmvest International. Except for Exten Industries, all of these ---------FOOTNOTES---------- -[6]- The NASD found excessive markups as follows: Security # of Markups Markup % Abex 6 93.5% 3 36.8% 1 26.8% 1 8.3% Eco Holdings 1 267.6% 1 204.9% 1 25.0% Filmvest International 5 80.0% Genesis Capital 3 126.7% 1 111.8% 1 100.0% Serena Health Services 1 233.3% Sierra Tech 2 33.3% Tensiodyne 8 50.0% 2 29.2% 1 25.0% 3 11.1% We note that, in most instances, the NASD specified by transaction number the transactions that it affirmed and those that it dismissed. Three transactions in Tensiodyne, however, were not denominated as either affirmed or dismissed. We accordingly deem that those transactions were dismissed. In addition, we note that, although the NASD stated that it determined that there were 40 violative transactions, it appears the NASD found a total of 41 violations in count I. ==========================================START OF PAGE 6====== securities were traded in the Pink Sheets and on the OTCBB. -[7]- Escalator did not enter quotes in any quotation medium for these securities. The NASD found that the markups in these securities ranged from 8.5 percent to 350.2 percent. -[8]- C. The NASD concluded that, from August 2 through October 29, 1991, Escalator, acting through Scala, charged unfair and fraudulent markups in 18 principal sales of Semicon, Inc. ( Semicon ) convertible subordinated debentures to public customers. While Escalator was listed in the National Quotation Bureau, Inc.'s Yellow Sheets ("Yellow Sheets") with respect to ---------FOOTNOTES---------- -[7]- Exten Industries was listed in the Pink Sheets and on the Philadelphia Stock Exchange. The NASD found that the Firm was a market maker in Exten Industries. -[8]- The NASD found excessive markups as follows: Security # of Markups Markup % Abex 1 168.1% 1 147.5% 1 62.2% 1 59.8% 1 56.8% 1 53.0% 1 33.0% 1 24.4% 1 23.7% 1 9.0% 1 8.5% Bora Capital 5 45.6% Dini Products 1 350.2% 2 348.3% 3 347.3% 1 346.8% 3 265.9% 1 268.1% 1 264.5% Exten Industries 2 20.4% 1 20.2% Filmvest International 1 81.2% 1 51.2% ==========================================START OF PAGE 7====== Semicon, the Firm did not publish quotes for that security. -[9]- On one occasion, Escalator purchased Semicon at $7.00 from a dealer. It purchased the remainder of its supply at $28.50 (and in one instance, $5.00) from retail customers. -[10]- One of the Firm's initial retail purchases of Semicon at $28.50 was made from a Scala family account. That family account had purchased Semicon at $5.25 five days earlier from Escalator. During most of the period at issue, the Firm sold Semicon to its customers at $30.00. -[11]- Prices in the inter-dealer market for Semicon, which was inactive, generally ranged from $2.00 to $5.00, with a few sales occurring at $8.00 and $10.00. -[12]- ---------FOOTNOTES---------- -[9]- In addition to Escalator, two other dealers in Semicon were listed in the Yellow Sheets: Murphy & Durieu ("M&D") and William V. Frankel & Co. ("Frankel"). There were certain discrepancies in the blue sheet information relating to Semicon. The NASD examiner testified that the Frankel computer had difficulty generating accurate bond price information. The NASD examiner entered Frankel's prices and trade information based on subsequent, explanatory conversations with Frankel employees. There was also a discrepancy with respect to a Semicon transaction between M&D and Waterhouse Securities, Inc. ("Waterhouse"). M&D reported a purchase from Waterhouse of 33,000 bonds. Waterhouse, however, reported that it did not have any trades in Semicon bonds during the period at issue. At the National Business Conduct Committee hearing, the NASD's staff provided M&D's settlement statements that verified that this transaction, as well as five others reported by M&D, had, in fact, occurred. -[10]- Except for the one purchase at $7.00 from a dealer, the Firm made no other inter-dealer trades in Semicon. -[11]- Order tickets show that Escalator generally quoted Semicon at $5.00 bid, $30.00 offer. On one occasion, on July 23, the Firm reduced its offer to $15.00. -[12]- Excerpts from Standard and Poors Bond Guide report that, during a 10-month period in 1991 including the period at issue, prices for Semicon ranged between a low of $2.00 and a high of (continued...) ==========================================START OF PAGE 8====== The NASD determined that Escalator created a market in Semicon that had no relationship to the prices at which other dealers were buying and selling the debentures in the inter- dealer market. -[13]- The NASD further concluded that the Firm could have purchased Semicon bonds in the inter-dealer market at prices ranging from $2.00 to $10.00. Accordingly, the NASD found that markups on the transactions at issue in Semicon ranged from a low of 200 percent to a high of 1400 percent. III. Under Article III, Section 4 of the NASD's Rules, Applicants were required to charge Escalator's customers a price that is fair. -[14]- The NASD has made clear that a fair price is one that is reasonably related to the wholesale market price. -[15]- Applicants claim that the Firm was an integrated dealer and acted as a market maker for all of the subject securities. -[16]- They further assert that, as a market maker, Escalator was entitled to use quotations in its pricing. ---------FOOTNOTES---------- -[12]-(...continued) $10.00. Where there were no contemporaneous inter-dealer trades in Semicon, the NASD used $10.00 as the prevailing market price. -[13]- The NASD concluded that, while the effect of Escalator's pricing "was to give the firm's selling customers an extraordinarily good price, thereby presumably giving them the impression that their investment had held its value, the firm's buying customers were buying at an unnecessarily inflated price." -[14]- Thomas F. White & Co., Inc., 51 S.E.C. 932, 934 (1994), aff'd without opinion, 68 F.3d 482 (9th Cir. 1995). -[15]- Mark-Up Policy, NASD Manual (CCH) at 4351. -[16]- Applicants assert that the Firm was willing to buy and sell in the inter-dealer market, but could not attract sales from other broker-dealers because it was a small firm and did not pay for order flow. The NASD determined that there was no evidence in the record to substantiate this contention. We agree. Other than Scala's assertion, there is no information from which we can conclude that payment for order flow affected Escalator's activities. ==========================================START OF PAGE 9====== In support of their assertion that Escalator was a market maker, Applicants note that Escalator was listed in the Pink Sheets or, in the case of the Semicon debentures, in the Yellow Sheets. The NASD responds that Escalator did not provide quotes in either the Pink Sheets or in the Yellow Sheets, nor was the Firm listed in the OTCBB. -[17]- Scala testified, however, that Escalator provided quotes for each of the subject securities upon telephone inquiry. In addition, Applicants assert that the Firm carried long and short positions in the subject securities and held itself out as a market maker on customer confirmations. -[18]- Section 3(a)(38) of the Securities Exchange Act of 1934 defines, in pertinent part, a market maker as "any dealer who, with respect to a security, holds himself out (by entering quotations in an inter-dealer communications system or otherwise) as being willing to buy and sell such security for his own account on a regular or continuous basis." -[19]- As we have previously stated, in order for a dealer to meet the statutory definition of market maker, the dealer must in fact be willing both to buy and sell the security in the inter-dealer market. -[20]- The NASD found that Escalator was a market ---------FOOTNOTES---------- -[17]- Applicants further assert that Escalator did not enter quotes because the Pink Sheets' quotations are out-dated and unreliable. Even if we accept this assertion, it does not change our conclusions. -[18]- Applicants also contend that Escalator should be recognized as a market maker in the subject securities because the NASD treated it as a market maker for net capital purposes. We disagree. The fact that the NASD may have treated Escalator as a market maker for net capital purposes does not necessarily compel the conclusion that the Firm was a market maker with respect to a particular security at a particular point in time, or that it made a market in every security that it traded as a principal. -[19]- 15 U.S.C.  78c(a)(38). -[20]- Adams Securities, Inc., 51 S.E.C. 311, 313-14 (1993). See also Century Capital Corp. of South Carolina, 50 S.E.C. 1280, 1281 n.5, aff'd, 22 F.3d 1184 (D.C. Cir. 1994) (Table) ("In order to be treated as a marketmaker for markup purposes, a dealer must be engaged in actual wholesale trading activity in the security in question, i.e., (continued...) ==========================================START OF PAGE 10====== maker in Sierra Tech, Tensiodyne, and Exten Industries as a result of Escalator's activity in the inter-dealer market. -[21]- We agree that, given the apparently inactive nature of these markets, the Firm was a market maker in these securities. ---------FOOTNOTES---------- -[20]-(...continued) regularly or continuously buying the security from other dealers at or around its bid quotation and selling it to other dealers at or around its ask quotation.") -[21]- The NASD found that Escalator was a market maker in Sierra Tech because it participated in 7 out of a total of 17 inter-dealer trades. Six of the Firm's trades were inter-dealer sales. The NASD found that, out of a total of 19 inter-dealer trades in Tensiodyne during the review period, the Firm participated in 11 inter-dealer transactions (5 sales and 6 purchases), and that, as a result, Escalator was a market maker. The NASD also found that Escalator was a market maker in Exten Industries since it had almost an equal number of inter-dealer purchases and sales (5 sales and 6 purchases). ==========================================START OF PAGE 11====== A market maker, however, may not use ask quotations in determining prevailing market prices unless there exists an active, independent market and the reliability of quoted offers can be validated by comparing them with actual inter-dealer transactions during the periods at issue. -[22]- Based on the record before us, including Escalator's order tickets, the trade records, and the blue sheets for each security at issue, we find that the ask quotations for these securities were not validated. -[23]- The NASD correctly used Escalator's contemporaneous sales to other dealers or, in the absence of sales, Escalator's contemporaneous wholesale costs to determine the prevailing market price. -[24]- The NASD held that Escalator did not make a market in Abex (in both 1991 and 1992), Eco Holdings, Filmvest International (in 1991), and Bora Capital. -[25]- The NASD recognized that ---------FOOTNOTES---------- -[22]- See, e.g., Century Capital, 50 S.E.C. at 1281; Alstead, Dempsey & Company, Inc., 47 S.E.C. 1034, 1036-37 (1984). As we have previously observed: [Q]uotations only propose a transaction and do not reflect the actual result of a completed arms-length sale. Thus, quotations for obscure securities with limited inter- dealer trading activity may have little value as evidence of the current market. They often show wide spreads between the bid and ask prices and are likely to be subject to negotiation. (citation omitted) Century Capital, 50 S.E.C. at 1281. -[23]- Scala testified that he recorded the current quotations on each order ticket. -[24]- See Alstead, Dempsey, 47 S.E.C. at 1036. There is no claim in the record that Escalator dominated or controlled the market for any of these securities. -[25]- The NASD found that Escalator was not a market maker in Abex because it participated in only 1 inter-dealer sale and 6 wholesale purchases out of approximately 63 inter-dealer transactions. The NASD found that the Firm's participation in 3 inter-dealer sales and 7 purchases out of a total of 25 inter-dealer trades in Eco Holdings did not warrant the conclusion that the Firm was a market maker. (continued...) ==========================================START OF PAGE 12====== the Firm did make inter-dealer sales of these securities. However, the NASD concluded that the overall level of inter- dealer activity was low; the Firm maintained little inventory; and the ratio of inter-dealer purchases to inter-dealer sales by Escalator was high. -[26]- We previously have held that activity involving inter-dealer purchases of a security for retail sale are not indicative of market maker activity. -[27]- Certainly, a high ratio of inter-dealer purchases to sales is more suggestive of purchasing for resale to retail customers. Even if we were to accept Applicants' argument that the Firm was a market maker in these securities, however, we conclude that the Firm could not use ask quotations as the basis for its markups. The record establishes that the quotations were not properly validated. Except as described infra, we have looked to Escalator's contemporaneous transactions with other dealers in evaluating the Firm's markups. The NASD found that Escalator was not a market maker in the remaining securities: Genesis Capital, Serena Health Services, Semicon, Dini Products, and Filmvest International (in 1992). We agree with the NASD's conclusions. In each of these securities, the Firm's inter-dealer transactions were limited to purchases of the securities. Escalator, in turn, sold these securities to its ---------FOOTNOTES---------- -[25]-(...continued) The NASD determined that Escalator was not a market maker in Filmvest International because it participated in a single inter-dealer sale and 2 wholesale purchases out of a total of 18 inter-dealer transactions. The NASD found that the Firm participated in only 1 inter-dealer sale and 2 wholesale purchases in Bora Capital and therefore was not a market maker. -[26]- The ratios of inter-dealer purchases to sales for these securities ranged from 2:1 to 6:1. The ratios themselves, however, exaggerate the occurrence of purchases over sales because of the relatively low numbers of total trades by Escalator (ranging from 3 to 18 trades during a 2- or 3-month period, depending on the security) and the overall illiquidity of the markets. -[27]- See, e.g., R.B. Webster Investments, Inc. and Robert Bruce Orkin, Securities Exchange Act Rel. No. 35754 (May 23, 1995), 59 SEC Docket 1194, 1197; Network 1 Fin. Sec., Inc., Securities Exchange Act Rel. No. 34930 (Nov. 3, 1994), 57 SEC Docket 2824, 2826; Century Capital Corp. of South Carolina, 50 S.E.C. 1280, 1281 n.5 (1992), aff'd, 22 F.3d 1184 (D.C. Cir. 1994) (Table). ==========================================START OF PAGE 13====== retail customers and did not engage in any sales to other dealers. We have repeatedly held that, where a dealer is not a market maker, the best evidence of the prevailing market price is the dealer s contemporaneous cost, in the absence of countervailing evidence. -[28]- The contemporaneous cost standard recognizes that the purchase price paid to other broker- dealers in actual transactions closely related in time to the retail sales at issue is a highly reliable indication of the prevailing market. -[29]- In this instance, the NASD correctly calculated the markups on the basis of the Firm's contemporaneous transactions. With respect to the Semicon debentures, we conclude that Escalator created a wholly artificial market for these debentures by purchasing Semicon from its retail customers at $28.50 and selling it at $30.00. Scala admits that he made an initial retail purchase of the debentures at $5.00; he claims that he erred in pricing this original purchase. Scala asserts that he believed, at that time, that the debentures were worth more because Semicon had announced that it would redeem the debentures. Semicon was, in fact, paying only $6.25 to redeem the debentures, a fact of which Scala was aware. On one occasion, Escalator paid $7.00 to purchase Semicon in the inter- dealer market. Although the Semicon market was illiquid, inter- dealer transactions were effected at prices ranging from $2.00 to $10.00, certainly not at the artificially-inflated $28.50 to $30.00 range at which the Firm was effecting retail transactions. The Firm's pricing pattern in Semicon is particularly questionable since one of Escalator's initial purchases of Semicon from a so-called retail customer at $28.50, in fact, was made from a Scala family account that had bought the debentures from the Firm at $5.25 five days earlier. Escalator s customers paid a great deal more. Scala argues that, while retail purchasers of Semicon may have paid too much for the debentures, retail sellers of the debentures profited. However, the Firm's obligation is both to buy and sell securities at prices ---------FOOTNOTES---------- -[28]- See, e.g., R.B. Webster Investments, 59 SEC Docket at 1198; Hibbard, Brown & Co., Inc., Securities Exchange Act Rel. No. 35476 (Mar. 13, 1995), 58 SEC Docket 2769, 2776. This standard has been accorded judicial approval. Barnett v. United States, 319 F.2d 340, 344 (8th Cir. 1963). -[29]- See, e.g., R.B. Webster Investments, 59 SEC Docket at 1198; Hibbard, Brown, 58 SEC Docket at 2776; Network 1, 57 SEC Docket at 2827. ==========================================START OF PAGE 14====== reasonably related to the prevailing market price. -[30]- Applicants' behavior demonstrates a grave lack of understanding of their obligation to the Firm's retail customers to sell at a fair price. Applicants also contend that countervailing evidence exists for many of the transactions at issue. In particular, Applicants assert that there is no assurance that any of the prevailing market prices used by the NASD staff are accurate because the requests for blue sheets were improperly limited. Applicants note that at least one Abex trade between Escalator and another dealer, G.K. Scott, Inc., is not in the summary of the blue sheets, although it is reflected in a chart summarizing Escalator's trades. The NASD sent blue sheet questionnaires to as many firms as it could identify as market makers or that had a high probability of trades in a security. -[31]- The NASD conceded that it may not have sought or received blue sheets from every firm that traded in the wholesale market. -[32]- ---------FOOTNOTES---------- -[30]- The NASD Interpretation of the Board of Governors of NASD Mark-Up Policy provides that "[i]t shall be deemed conduct inconsistent with just and equitable principles of trade for a member to enter into any transaction with a customer in any security at any price not reasonably related to the current market price of the security." NASD Markup Policy, Interpretation of the Board of Governors, Art. III,  4 of the Rules. NASD Manual (CCH) 2154. -[31]- The NASD examiner stated that she sent requests for blue sheets to the firms listed in the Pink Sheets, the OTCBB, and the Yellow Sheets. The examiner admitted that it was possible that some dealers did not respond to the blue sheet questionnaires and were not included in the summaries. The blue sheets for count I are not in the record before us, and the letters requesting blue sheets for count I could not be located by the NASD. The examiner, however, testified that the results from tabulating the blue sheets were assembled into a chart introduced as Complainant's Exhibit 13. Applicants have not challenged the accuracy of the contents of Exhibit 13, only its completeness. The blue sheets for the remaining counts are in the record. -[32]- The NASD noted that the trading summaries did not necessarily include all inter-dealer trades that might validate the ask quotations or encompass the (continued...) ==========================================START OF PAGE 15====== As we have stated previously, we do not believe that it is appropriate to dictate the specific type of evidence that the NASD must use in a particular proceeding. -[33]- It appears here that the NASD made inquiry of the majority of the market participants. Applicants have not sought to introduce any evidence that would indicate a different prevailing price in any of these markets. In addition, the NASD responded to the deficiencies in the blue sheets by dismissing those markup transactions that would have been deemed excessive based on prices determined by the blue sheets. We believe that, in certain common stock transactions at issue in parts II. A. and B. of this opinion, it would be appropriate to give Escalator the benefit of the doubt with respect to inter-dealer trades away from the Firm that are reported on the trading summaries. While we recognize that not all inter-dealer trades were represented in the blue sheets included in the record, we have reduced markups where there are inter-dealer trades that validate Escalator's price. -[34]- Accordingly, we hereby dismiss 13 of the NASD's findings of violation as reflected in the chart attached to this opinion. -[35]- ---------FOOTNOTES---------- -[32]-(...continued) complete level of trading activity in a given security. It expressed the view that, given the pattern of trading reflected in the summary, additional information would not be likely to alter the overall picture of these markets. -[33]- See generally, U.S. Sec. Clearing Corp., Securities Exchange Act Rel. No. 35066 (Dec. 8, 1994), 58 SEC Docket 548. -[34]- Testimony concerning the blue sheets was not always clear. For example, the NASD examiner stated that transactions with a $000 net amount meant that no money passed hands. There was also speculation before the NASD about whether "$000" meant that the transaction had been canceled. The examiner, however, testified that a canceled trade was represented by a buy/sell code of XS or XB. We have given the Firm the benefit of the doubt in instances where the meaning of a character on the blue sheets is unclear. -[35]- The inter-dealer trades reflected in the blue sheets suggested that the Firm's markups in these transactions were 5% or less. In addition, we have reduced the markups in an additional 5 transactions, as reflected in the attached chart. ==========================================START OF PAGE 16====== Scala has admitted that he was responsible for the markup policy and its implementation at Escalator. The Firm's pattern of trading seriously disadvantaged its customers who purchased securities at grossly overpriced rates. Moreover, Scala indicates that Escalator, under his direction, purposefully engaged in this pattern of trading in order to "be fair to both sides." Applicants have been disciplined twice previously for excessive and unfair pricing. We conclude that the record before us supports a finding of scienter. Given this finding and the levels of these markups, we conclude that Escalator, acting through Scala, charged unfair and fraudulent markups in the subject securities in violation of Article III, Sections 1, 4, and 18 of the NASD's Rules. ==========================================START OF PAGE 17====== IV. Applicants contend that sanctions the NASD assessed were unduly harsh and excessive, and that the restitution order is improper. While we have reduced the number of violative transactions, Applicants engaged in serious violations in several securities over an extended period of time. The markups at issue here ranged from 8 percent to 1400 percent. Furthermore, Applicants have twice been disciplined for similar misconduct, and have demonstrated a complete unfamiliarity with their obligations to price securities fairly. Under the circumstances, with the exception of the restitution order, we do not find that the NASD's sanctions are either excessive or oppressive. In light of our determination to reduce the number of violative transactions, we remand the proceedings to the NASD for the purpose of recalculating the amount of restitution. We note that only the Firm was ordered to make restitution. However, any restitution that is not paid because a customer cannot be located is to be added to the fine, which is assessed jointly against Scala and Escalator. We believe it is improper to increase the amount of the fine, on which Scala is jointly liable, by any unpaid restitution, for which Escalator is solely liable. -[36]- On remand, we direct the NASD to consider the remaining arguments that Escalator has made concerning restitution, as well as any evidence the Firm presents concerning the proper amount of restitution and the Firm's ability to pay. An appropriate order will issue. -[37]- By the Commission (Chairman LEVITT and Commissioners JOHNSON and HUNT); Commissioner WALLMAN not participating. Jonathan G. Katz Secretary ---------FOOTNOTES---------- -[36]- We reject Escalator's assertion that it may not be liable for restitution in excess of the amount that the Firm was enriched. Toney L. Reed, 51 S.E.C. 1009, 1013-14 (1994). -[37]- All of the contentions advanced by the parties have been considered. The contentions are rejected or sustained to the extent that they are inconsistent or in accord with the views expressed herein. UNITED STATES OF AMERICA before the SECURITIES AND EXCHANGE COMMISSION SECURITIES EXCHANGE ACT OF 1934 Rel. No. 37601 \ August 26, 1996 Admin. Proc. File No. 3-8650 _________________________________________________ : In the Matter of the Application of : : ESCALATOR SECURITIES, INC. : 624 East Tarpon Avenue : Tarpon Springs, FL 34689-4202 : : and : : HOWARD A. SCALA : : For Review of Disciplinary Action Taken by the : : NATIONAL ASSOCIATION OF SECURITIES DEALERS, INC. : _________________________________________________: ORDER SUSTAINING DISCIPLINARY ACTION TAKEN BY REGISTERED SECURITIES ASSOCIATION On the basis of the Commission's opinion issued this day, it is ORDERED that the disciplinary action taken by the National Association of Securities Dealers, Inc. against Escalator Securities, Inc. and Howard A. Scala, and the Association's assessment of costs, be, and they hereby are, sustained, except that the Association's order of restitution is remanded to the Association for a determination of findings consistent with the Commission's opinion. By the Commission. Jonathan G. Katz Secretary