From: Norman B. Arnoff
Sent: September 4, 2016
Subject: Comment-Release No.34-7791;File No.SR-DTC-2016-003
Comment-Release No.34-7791;File No.SR-DTC-2016-003;
Comment By Norman B. Arnoff Esq.
Dear Secretary Fields.
The undersigned represented IPWG post imposition of the chill that resulted from Signature Leisure removing restrictive legends from IPWG shares. Notwithstanding being duly noticed, DTC would and did not cease to maintain a blanket chill on the entire float because it took the position that some (but not all of the shares in the float) should not have had the restrictive legends removed by persons other than the issuer, its personnel, and innocent shareholders. Since the legends were removed and the shares in the float were fungible there was no alternative, according to the DTC; other than to impose a blanket chill to prevent the offer and sale of unregistered shares. The blanket chill resulted in serious economic harm to an innocent issuer and its overwhelming number of innocent shareholders.
No procedures were in place consistent with the remedial purposes of the federal securities laws to prevent harm to the issuer or its innocent shareholders and this despite the critical function performed by the DTC in the clearance and settlement process in our capital markets. Further the SEC did not consistent with the remedial purposes of the federal securities laws i.e. the laws are to be interpreted and applied in such a way to prevent and correct harm to public investors; grant a no-action letter request that likely would have mitigated some of the harm. The primary and remedial purpose of the laws and rulemaking that Congress through the Federal Statutes have commissioned the SEC to carry out, was not under any circumstances achieved. The blanket chill has remained in effect from 2009 through date.
To a great degree, the fair notice and opportunity to challenge procedures now incorporated within the Rule are salutary and will allow issuers to prevent and mitigate harm not only to the issuer but its innocent shareholders as well. Hopefully these fair notice and opportunity to challenge procedures will prevent the irreparable harm experienced by IPWG and its innocent investors from the blanket chill that still is in effect.
The Proposed Rule does not address, however; a set of circumstances where the DTC is negligent in not having had or not having adequate procedures to prevent or mitigate harm to issuers and/or innocent investors. What if any remedies should be accorded to the innocent issuer and its investors? It will be argued that the DTC had and will have qualified immunity as a quasi-government agency , but that argument is incorrect and not necessary to protect the DTC against indeterminate liability to an indeterminate group of investors. The Court in Weissman v. National Association of Securities Dealers Inc. ,500 F.3d1293 (US Court of Appeals, Eleventh Circuit 2007) held:
"..........NASDAQ moved to dismiss, asserting absolute immunity from suit on the grounds that the conduct alleged in the complaint was undertaken pursuant to its quasi governmental role as a market regulator under the Securities and Exchange Act ("SEA"),15 USC Section 78 et.seq. The district court rejected the contention, explaining that while NASDQ does enjoy absolute immunity for statutorily-delegated regulatory or disciplinary functions, it is not entitled to immunity in this case because Weissman's complaint relates to private commercial conduct not delegated by the Act. We affirm the decision of the district court." (Emphasis Added)
A fortiori , the settlement and clearance function is private commercial conduct and the DTC has to remain civilly liable for its material errors and omissions. While the DTC may be considered to perform some governmental functions in connection with rule-making by way of example, it does perform a "'critical function' in the National Clearance and Settlement System" and that is definitely the performance of a non-governmental settlement and clearance function in which any kind of governmental immunity (i.e. absolute or limited) does not apply,
Further, like any market professional or their organization; a professional or business judgment rule would and should apply if the conduct is reasonable and in good faith. The professional and/or the service provider does not have to be right ,only reasonable. Thus indeterminate and undue liability exposure did not and will not exist if the DTC had and will put in place fair notice and opportunity to challenge procedures. The SEC 's Release made it clear that no procedures were in place in respect to IPWG and the Commission remanded the matter that such procedures would be established. Exchange Act Release No.666611, stated:
"Denial of Access to Services
Registered clearing agency suspended book-entry clearing and settlement services. Held, suspension constitutes denial or limitation of clearing agency's services with respect to any person, and proceeding is remanded to clearing agency in order to provide the requisite fair procedure."
Neither immunity nor waiver is or should be applicable where DTC materially breaches its services contract as it did in the IPWG fact scenario. The Release should make clear that if DTC cannot establish its good faith and reasonable conduct it will without question have civil liability. See Section 29(a) of the Securities Exchange Act of 1934, the non-waiver provision, that rule violations cannot be waived in advance. Hopefully, and going forward the establishment and compliance with fair procedures will allow DTC to avoid liability. Where it has not and will not have such procedures or compliance there needs to be civil liability as an effective deterrent and the Rule changes with respect to fair procedures should make that clear. Further since infallibility does not exist in any context and a risk of error must always be present, errors and omissions insurance should be mandated both to protect innocent issuers and their investors but add an additional dimension of loss prevention.
The proposed rule or a supplement should clarify that the DTC has not and will not be acting in a governmental capacity in the settlement and clearance process and therefore DTC is without immunity from civil liability; good faith and rational judgment can insulate DTC from inadvertent and good faith errors; and mandatory errors and omissions insurance will give issuers and their investors protection where inevitable mistakes in a complex settlement and clearance process will occur. In the IPWG scenario a fair regulatory and self-regulatory framework will require civil liability because the DTC cannot be excused where it had no justification in what it did and did not do with respect to innocent investors.
Other than the foregoing comments, I fully endorse the rule changes in respect to the settlement and clearance process supervised and operated by the DTC. Thank you for your consideration of my comments.
Norman B. Arnoff Esq.