April 15, 2002
By Hand and Electronically
Jonathan G. Katz, Secretary
Securities and Exchange Commission
450 Fifth Street, N.W.
Mail Stop 6-9
Washington, D.C. 20549
Re: Commission File Nos. SR-NASD-2002-21 and SR-NYSE-2002-09
Dear Mr. Katz:
We submit these comments on behalf of First Call and the Investment Management Group of Thomson Financial Inc. ("Thomson Financial") regarding the above-referenced proposals which the National Association of Securities Dealers Inc. (the "NASD") through its wholly owned subsidiary, NASD Regulation, Inc. and the New York Stock Exchange Inc. ("NYSE" or "Exchange;" collectively, the "SROs") have made to address research analyst conflicts of interest.
First Call is part of the Thomson Financial family of companies. Thomson Financial is a US$1.6 billion provider of data, analysis and information tools to the global investment community, and is a subsidiary of The Thomson Corporation, a leading global provider of integrated information solutions for business and professional customers. First Call applauds the SROs' efforts to eliminate research analyst conflicts of interest to the extent possible and to require meaningful disclosure of all conflicts that remain. However, for the reasons explained below, First Call submits that the scope of the proposed definition of "research report" and the technical specifications for the price charts that are proposed to be required therein will have the collateral effect of drastically limiting the dissemination of timely market information to investors. First Call respectfully requests that the Commission not approve the pending proposals until this unintended negative consequence is satisfactorily addressed.
Description of First Call's Products and Services
First Call has provided the investment management community with electronic access to commingled financial research since 1984. Today, First Call distributes institutional-quality research on more than 34,000 companies in over 130 countries. This global information originates from 800 contributing firms, corporate documents and public filings. Roughly 98% of U.S. institutional money managers (as measured by actively managed equity assets) rely on some form of First Call information. Thomson Financial distributes First Call data through LAN-based applications,Internet-based applications, customer-configured Web-based solutions, leased lines, application program interfaces (APIs), file transfer protocol (FTP) sites and wireless devices. These data are also available on the platforms of 35 third-party distributors worldwide, including Bloomberg, Reuters/Bridge and S&P. Finally, selected First Call content reaches millions of readers and investors through Thomson's Media Program, which is currently utilized by more than 600 media outlets around the world.1
The company's seminal service is First Call Notes.TM This service delivers analyst morning meeting notes, intraday research broadcasts and commentary from global sell-side institutions within minutes of the information's release. Hundreds of analysts, -- including those from all of Institutional Investor's top 20-ranked brokerage firms -- contribute an average of 3,000 notes per day to the service. During earnings reporting periods, this daily volume swells to 6,000 notes.
First Call Notes subscribers may search the database by broker, ticker symbol, company name, portfolio, region, country, industry, headline subject or date range. Among the service's other features are the ability to create up to 200 portfolios which can track up to 2000 ticker symbols each; alerts notifying subscribers of headlines for the ticker symbols the subscribers have preselected; and real-time financial and investor-related press releases. First Call Notes are received by more than 50,000 portfolio managers and buy-side analysts in the United States, representing over 2000 firms, with trillions of dollars in aggregate assets under management.2
Another of First Call's flagship products is First Call Real-Time Estimates, which provides access to the forecast measures of more than 775 brokerage firms world-wide. Included in this product are median estimates of analysts' 5-year growth rate forecasts for subject companies; analyst-by-analyst and consensus buy/hold/sell recommendations;3 quarterly, fiscal-year and calendar-year analyst-by-analyst and consensus estimates; actual reported earnings; and company-issued guidelines and footnotes that define the basis for estimates. All estimates are delivered in real-time, as the analysts make revisions. During the height of the earnings reporting period, First Call receives and distributes nearly 12,500 estimate revisions per day. In addition to being delivered to 31,000 buy-side users, these consensus estimates are the industry benchmark used by media outlets such as Dow Jones News Service, Bloomberg News, Reuters, The New York Times and CNBC.
Along with these time-sensitive "snapshot" information services, First Call also offers a product known as First Call Research Direct,® which delivers commingled, full-text equity research reports from more than 600 brokerage firms in real time. These reports, which are available in English, Japanese, Spanish, Portuguese and Korean, are exact replicas of those which the broker-dealers otherwise would send to their clients by mail, including all text and associated graphs, tables, spread-sheets, color and artwork.
First Call, alone or in conjunction with other Thomson Financial businesses, also offers a number of other "downstream" products and services that are prepared by Thomson Financial staff using the analysis and other data derived from the Notes, Estimates and Research Direct full-text reports. These include, for example, Thomson's Broker Summary Reports. Delivered through Nelson's Headline Products, these Summary Reports identify the date of a research report and the identity of the company that is the subject of the report; the name of the firm and individual analyst issuing the report; the analyst's rating and the First Call consensus rating for the same security, and analyst's earnings estimates along with the corresponding First Call consensus estimates.
As these product descriptions show, the value First Call brings to the institutional investment community lies in the rapid dissemination of commingled research in several formats. While some of the content First Call supplies consists of in-depth analysis (like Research Direct's full-text reports), much of the content (like Notes, Estimates and Broker Summary Reports) is designed to supply quick views of the equity markets at discrete points in time. For the reasons explained below, First Call respectfully submits that the SROs' analyst conflict rules as they are currently proposed, are so broad and rigidly constructed that they would eliminate investors' access to much of this critical and time-sensitive information.
The Scope of the Proposed Definition of Research Report Is Overbroad
A central focus of the SROs' proposals is controlling the production and dissemination of research reports. In this regard, the rules limit research analysts' pre-release communications with their investment banking departments and the companies who are the subjects of reports; impose quiet periods during which reports may not be issued; and require that a host of specific disclosures accompany each report. For the reasons explained below, First Call respectfully submits that as the proposals are currently drafted, the concept of "research report" is so broad that it could encompass the thousands of analyst notes and estimates that pass through First Call's systems daily. Because such an interpretation would hinder or destroy analysts' ability to continue to deliver time-sensitive data to investors, First Call requests that the definition of research report be narrowed, or at least that the practical issues of disclosure be addressed.
The restrictions imposed on research reports under the NASD's and the NYSE's proposals are virtually identical; however, the proposals' definitions of this term are not.
A "research report" is defined under the NASD's proposed new Rule 2711 as:
a written or electronic communication that the member has distributed or will distribute with reasonable regularity to its customers or the general public, which presents an opinion or recommendation concerning an equity security.4
The NYSE, on the other hand, proposes to amend its current Rule 472, which governs communications with the public, to define a research report to include, but not be limited to:
an analysis of equity securities of individual companies or industries, which provide[s] information reasonably sufficient upon which to base an investment decision and include[s] a recommendation.5
The NYSE proposes a different definition for purposes of Rule 472(a)(2), which requires research reports to be prepared or approved in advance by a supervisory analyst acceptable to and approved by the Exchange.6 Here, a research report would include, but not be limited to reports which recommend equity securities or derivatives thereof, fixed-income securities, single stock futures products and other investment vehicles subject to market risk.7
The Exchange's proposed redefinition of the term "research report" must be read in conjunction with its proposed new definition of "market letter." This latter term includes, but is not limited to:
any written comments on market conditions, individual securities or other investment vehicles. . . . [as well as] 'follow-ups' to research reports . . . . 8
First Call respectfully submits that the foregoing definitions are problematic for a number of reasons. First, having the NASD and the Exchange ascribe different meanings to the term "research report" in rules that otherwise are virtually identical would be confusing for broker-dealers who are subject to both requirements. These disparate definitions would do nothing, moreover, to advance the cause of investor protection. In fact, the opposite could be true. The appearance of conflict disclosures in one firm's communications but not in another's could derive from differences in the two disclosure rules rather than differences in the firms' respective conflicts, a fact that would not be obvious to the reader.
Second, to the extent the NASD's definition can be read to encompass each routine communication from a broker that presents an opinion or recommendation concerning an equity security, the definition is overbroad. Such a reading would transform every morning note, every intraday commentary and every earnings estimate delivered to institutional investors through First Call into a separate research report, subject to the full panoply of Rule 2711(h)'s disclosure requirements. Having to append price charts (which, as described below, also present technical problems), ratings definitions, ratings distribution information, valuation methodology descriptions, continuously updated ownership information for the broker and its affiliates, and other mandatory information to each of the thousands of notes and estimates that pass through First Call on a daily basis would be so burdensome that a broker's continued ability to deliver this timely data to investors could be hindered or destroyed. This problem would be compounded for communications like industry notes, that may entail recommendations or opinions about multiple issuers.
Furthermore, even if notes and estimates could still be delivered, receiving a full package of disclosure with each opinion or recommendation from a broker would be of limited utility to the institutions who subscribe to First Call's services. By their very nature, notes and estimates are brief communications; in many cases, the disclosure mandated by Rule 2711(h) (which could include up to twelve separate items) would be longer than the information to which that disclosure is attached.9 Burying the substantive content of notes and estimates in a sea of mandatory verbiage would impede institutions' ability to review these communications efficiently, thereby diminishing their value to investors.
The NYSE's proposed definition of research report is troublesome as well. Although for purposes of the disclosure requirements, the rule "generally" defines a research report as an analysis that includes a recommendation and provides enough information to give a reader a reasonably sufficient basis on which to make an investment decision, this definition is not exclusive.10 Moreover, although by defining market letters to include written comments on market conditions and "follow-ups" to research reports, the Exchange appears to be saying that brief communications like notes and estimates are not research reports, the distinction between a research report and a market letter is far from clear. To the extent that the Exchange definition of research report could be construed to include snapshot communications like notes and estimates, this definition would have the same unfortunate ramifications as the NASD's definition.
The Exchange's proposal to expand the definition of research report for purposes of requiring the communication to be prepared or preapproved by a certain type of supervisory analyst could also pose a problem. Were notes and estimates construed as market letters, they could, under Rule 472(a)(1), be preapproved by any member, allied member, supervisory analyst or other qualified person.11 Reclassifying these items as research reports would reduce the pool of acceptable reviewers,12 thereby potentially jeopardizing the broker's ability to disseminate the communications in a timely fashion.
For all of these reasons, First Call respectfully submits that research reports should be defined the same way under both NASD Rule 2711 and NYSE Rule 472, and that this uniform definition should expressly exclude abbreviated types of communications such as analyst notes and earnings estimates. In the alternative, the rules should be amended to permit broker-dealers to satisfy their disclosure requirements in connection with notes, estimates and other snapshot communications by referring readers to a centralized set of disclosures available elsewhere. Where the brief communications are follow-ups to full research reports, readers could be directed to those full reports; alternatively, disclosure could be made available on the broker-dealers' websites.13 Finally, in order to make such centralized disclosure workable, the ownership disclosure information mandated by NASD Rule 2711(h)(1)(B) and Exchange Rule 472(k)(1)(i)a should be required to be current only as of the end of the most recent calendar quarter (with a grace period of fifteen days given for updating the information), instead of the five-business-day computation period set forth in the current proposals.14
The Technical Requirements For The
Proposed Price Charts Are Unnecessarily Rigid
In addition to hindering the dissemination of timely information to investors by sweeping too many kinds of communications into the concept of research report, the proposed rules also would limit institutions' access to critical information by virtue of the rules' disclosure format requirements. The historical "Price Chart" provisions found in proposed NASD Rule 2711(h)(6) and NYSE Rule 472(k)(2)(v) are of particular concern. Because it is technically impossible for text-based products to comply with these requirements, the proposals will, in their current form, have the collateral effect of eliminating investors' access to an enormous amount of critical information.
As proposed, the SRO rules would require that each research report concerning an equity security on which the broker-dealer has assigned any rating for at least one year include a line graph of the security's daily closing prices and the dates of each rating or price target assigned or changed by the member firm, along with a depiction of such ratings and price targets.15 This information would have to be supplied for the entire period during which the broker-dealer has assigned any rating or for a three-year period, whichever is less.16
While from a technical standpoint it may be possible for some types of publications to comply with the proposed price chart requirements, compliance is not possible for text-only products that do not support graphical presentations. Such is the case with First Call Notes. Unlike other First Call products that are produced and distributed through methods and media that permit the inclusion of full text and graphics, the Notes system utilizes an ASCII format that was designed for universal acceptance across a wide range of platforms. Thomson Financial estimates that over one million research notes will be produced this year in text-only format via First Call Notes. Moreover, the existing Notes system is embedded into the systems of 100,000 end users. In addition to subscribers who receive Notes via First Call proprietary platforms, there are more than 15,000 end users who receive Notes via third party redistributors.
The process used to produce First Call Real-Time Estimates is equally incompatible with presentation of graphic price charts. The information that comprises this service is either derived from the Notes or is transmitted by the analysts in a database-file format, similar to an Excel spreadsheet.
If, notwithstanding the earlier discussion in this letter, analyst notes and estimates are to be regulated as research reports, the technical requirements for price charts currently set forth in the proposed rules would threaten the continued viability of First Call Notes and First Call Real-Time Estimates, as well as the many other Thomson Financial services that are based on the late-breaking information contained in the Notes and Estimates. Ironically, while the current price chart requirements would wreak havoc on First Call's ability to supply investors with real-time market information, these requirements would do little, if anything, to advance the goal of analyst conflict disclosure. The proposed chart requirements do not link information on changes in ratings or price targets to any actual or potential conflicts on the part of the research analyst or member firm issuing the report, and they apply equally to firms that have conflicts and those that do not. In view of the fact that the other provisions of the proposed rules effectively address analyst conflicts of interest, the price charts -- which do no more than show the accuracy of a particular analyst's forecasts with the benefit of hindsight -- would seem to do more harm than good.
In light of the technical issues described above and the questionable link between the proposed price charts and the worthy goal of controlling analyst conflicts of interest, First Call respectfully submits that the requirement be eliminated from the rule proposals altogether. In the alternative, as suggested above,17 First Call requests that the proposals be amended to clarify the fact that the price chart requirements can be met by referring readers to a centralized set of disclosures available elsewhere. Finally, if the Commission determines that there really is no alternative to presenting the information directly through a text-only or database product, then Thomson Financial asks that the rule proposals be modified to allow the dissemination of such information in text format, such as through a text-based table rather than a graphical chart.
First Call respectfully requests that the Commission not approve the SROs' proposed analyst disclosure rules until the rules are modified to address the practical issues discussed in this letter. First Call appreciates this opportunity to comment on these very important proposals.
Very truly yours,
cc: Hon. Harvey Pitt
Hon. Isaac C. Hunt, Jr.
Hon. Cynthia A. Glassman
Alan L. Beller
Mary L. Schapiro
Edward A. Kwalwasser
|1||These include Associated Press, Barron's, The Boston Globe, Business Week, The Chicago Tribune, CNBC, CNN, Dow Jones New Service, Financial Post, The Financial Times, The New York Times, Reuters, USA Today, The Wall Street Journal and The Washington Post. All media outlets, large and small, are eligible to access selected First Call information free of charge.|
|2||Adding in sell-side and global users brings the subscriber base to more than 100,000.|
|3||In order to portray consensus recommendations, First Call has devised a recommendation scale, from one to five, one being a buy recommendation and five being a sell. First Call maps each contributing broker's buy, hold or sell recommendation (as set forth in their research notes) onto this scale so that the consensus can be reported in a simplified and standardized manner.|
|4||Proposed Rule 2711(a)(8).|
|5||Rule 472, Supplementary Material, section .10(2).|
|6||An acceptable supervisory analyst for this purpose would have to pass all of an Exchange Supervisory Analysts exam, or a part of that exam and a specified level of the Chartered Financial Analysts exam. Rules 472(a)(2), and 344. Furthermore, Rule 472(a)(2) provides that if a firm does not have a qualified supervisory analyst, the report must be approved by a qualified supervisory analyst in another member organization by arrangement between the two firms.|
|7||Rule 472, Supplementary Material, section .10(2).|
|8||Id., at Section .10(4).|
|9||This would certainly be the case with notes concerning multiple issuers, where separate disclosure would be required for each issuer.|
|10||The proposed amendment to Section .10(2) of the Supplementary Material to Rule 472 says that "'Research Reports' are generally defined as, but are not limited to . . . ."|
|11||This requirement is roughly analogous to NASD Rule 2210(b), which requires that sales literature -- which includes research reports, market letters and other communications distributed to clients or the public -- be approved by a registered principal of the broker-dealer.|
|12||See note 6 and accompanying text, supra.|
|13||In connection with this change, section (h)(10) of NASD Rule 2711 and section (k)(2) of Exchange Rule 472 could be amended to require notes and estimates to prominently identify the location of the centralized disclosure.|
|14||This approach would be consistent with the timeframe applicable to the disclosure requirements regarding ratings distributions. NASD Rule 1127(h)(5) and Exchange Rule 472(k)(2)(iv) and Section .70 of the Supplementary Material thereto.|
|15||See Exhibit 3 to NASD Rule Proposal.|
|16||Furthermore, the information in the graph must be current as of the end of the most recent calendar quarter (or the second most recent calendar quarter if the publication date is less than 15 days after the most recent calendar quarter).|
|17||See the discussion at page 6, supra.|