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Daily Rules, Proposed Rules, and Notices of the Federal Government

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-45644; File No. SR-NYSE-2001-53]

Self-Regulatory Organizations; Order Approving Proposed Rule Change and Amendment No. 1 Thereto by the New York Stock Exchange, Inc. Amending Its Rules Regarding the Transmission of Proxy and Other Shareholder Communication Material and the Proxy Reimbursement Guidelines Set Forth In Those Rules, and Requesting Permanent Approval of the Amended Proxy Reimbursement Guidelines

On December 21, 2001, the New York Stock Exchange, Inc. ("NYSE" or "Exchange") filed with the Securities and Exchange Commission ("SEC" or "Commission"), pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 ("Act"),1 and Rule 19b-4 thereunder,2 a proposed rule change to amend the NYSE's proxy fee schedule guidelines under its current pilot program, and to seek permanent approval of the pilot program. On January 9, 2002, the NYSE filed Amendment No. 1 to the proposed rule change.3 The proposed rule change and Amendment No. 1 were published in theFederal Registeron January 16, 2002.4 Eight comments were received on the proposed rule change, as amended.5 The NYSE responded to the comments on March 5, 2002.6 This order approves the proposed rule change, as amended.
II. Background

NYSE member organizations that hold securities for beneficial owners in street name7 solicit proxies from, and deliver proxy and issuer communication materials to, beneficial owners on behalf of NYSE issuers. For this service, issuers reimburse NYSE member organizations for out-of-pocket, reasonable clerical, postage and other expenses incurred for a particular distribution, pursuant to guidelines for reimbursement of these expenses as set forth in NYSE Rules 451 and 465, and Paragraph 402.10(A) of the NYSE'sListed Company Manual, (collectively "Rules").8

Since the late 1960s, NYSE member firms increasingly have outsourced their proxy delivery obligations to contractors rather than handling proxy processing internally. According to the NYSE, the primary reason for this shift was that member firms believed proxy distribution was not a core broker-dealer business and that capital could be better used elsewhere. Since 1993, Automatic Data Processing, Inc. ("ADP") has distributed close to 100 percent of all proxies sent to beneficial owners holding shares in street name.9

On March 14, 1997, the Commission approved an NYSE proposal that significantly revised the NYSE reimbursement guidelines set forth in the NYSE Rules and established a pilot fee structure ("Pilot Program" or "Pilot").10 Under the Pilot Program, the NYSE established guidelines for the amounts that NYSE issuers should reimburse member organizations for the distribution of proxy materials and other issuer communications to security holders whose securities are held in street name. The Pilot Program was designed to address many of the functional and technological changes that had occurred in the proxy distribution process since the NYSE Rules were last revised in 1986. The fee structure under the Pilot Program reduced certain fees, increased the fee for proxy fights, and created several new fees.11 The Pilot Program was originallyset to expire on May 13, 1998; however, pursuant to Commission extensions of its initial approval, the Pilot Program has remained in effect since then with some slight modifications.12

III. Description of the Proposed Rule Change

The NYSE's current pilot fee structure, incorporated in the NYSE's Rules and guidelines pursuant to the Pilot Program,13 is set to expire on April 1, 2002.14 In this proposed rule change, as amended, the Exchange proposes to amend certain reimbursement fees under the Pilot Program and has requested permanent approval. The proposed amendments seek to decrease the basic mailing fees paid by large issuers by 5C/ (from 50C/ to 45C/) and to cut in half (from 50C/ to 25C/) the incentive "suppression" fee that large issuers15 pay to member organizations that succeed in reducing the number of sets of material that need to be distributed, such as by sending one set of materials to a household holding multiple positions in the issuer's securities.16

The following sets forth the background that led to the proposed rule change, as provided by the NYSE in its filing.

A. Permanent Approval

Over the last year, the NYSE has participated on the Proxy Voting Review Committee (the "Committee"), a private initiative that was set up to review the proxy process. It includes SROs, representatives of the securities industry, corporate issuers, and institutional investors, as well as ADP, the largest provider of proxy intermediary services. In a letter to Richard Grasso, the Chairman of the Committee stated that the purpose of the Committee was to (i) consider the appropriateness of the current pilot proxy fee schedule, and to (ii) develop a deregulated structure that would allow for broader competition.17

According to the NYSE, the Committee's experience gained from the Pilot Program convinced the Committee that the guidelines have been instrumental in setting at fair and reasonable levels the costs that issuers incur in having member organizations and intermediaries transmit proxy and other materials to security holders. For that reason, the Committee unanimously voted, with one abstention,18 to recommend that the NYSE seek permanent approval of the Pilot Program guidelines, as modified by this proposed rule change. As a result, the Exchange filed this proposed rule change, which incorporates the Committee's recommendations and requests permanent approval of the Pilot Program, which is scheduled to end on April 1, 2002.

B. Guideline Changes

In addition to seeking permanent approval of the Pilot Program guidelines, the Exchange proposes the following amendments to its Rules and guidelines:

(i) Reduce the suggested rate of reimbursement for initial mailings of each set of material (i.e.,proxy statement, form of proxy, and annual report when mailed as a unit) from 50C/ to 40C/.

(ii) Increase the suggested per-nominee fee for intermediaries that coordinate the proxy and mailing activities of multiple nominees. The nominee coordination fee is currently $20 per nominee. The proposal would raise it by 10C/ per set of material required for "Small Issuers," defined as issuers whose shares are held in fewer than 200,000 nominee accounts, or 5C/ per set of material required for "Large Issuers," defined as issuers whose shares are held in at least 200,000 nominee accounts.

(iii) Reduce from 50C/ to 25C/ the incentive fee for initial mailings of the materials of Large Issuers. As a result, the incentive fee for Large Issuers will decrease by 25C/ and the incentive fee for Small Issuers will remain at 50C/.

The Exchange represents that the net effect of clauses (i) and (ii) is to decrease the effective mailing fee by 5C/ for Large Issuers, but not for Small Issuers. ADP projected for the Committee that the combination of that decrease and the decrease in the incentive fee for Large Issuers will decrease the total fees that issuers pay to have materials distributed to shareholders by almost $11 million.19 The NYSE relied on this projection to support its proposal.

The NYSE Rules and guidelines currently subject Small Issuers and Large Issuers to the same rates. According to the NYSE, the Committee designed the proposed revamped fee schedule to allocate more fairly the costs of distributing proxy and other material between Large Issuers and Small Issuers. The Committee's, and ultimately the NYSE's, proposal is based on the premise that economies of scale create overall per-account cost savings for Large Issuers and that those savings justify lower fees for Large Issuers. Based on this, the Exchange believes that reducing the rates applicable to Large Issuers relative to the ratesapplicable to Small Issuers is fair, reasonable, and appropriate.20

According to the Exchange, the difference between Large and Small Issuers is based on the recognition that a member organization typically spends less in transmitting material to the nominee account of a Large Issuer than in transmitting material to the nominee account of a Small Issuer because economies of scale apply to many of the tasks of processing material for distribution, and of collecting voting instructions. For instance, the NYSE represents that processing search dates and record dates, logging receipt of materials, coding proxies, reporting voting results, and invoicing fees payable involve costs that are essentially fixed. As a result, the NYSE believes that the per-account cost for these tasks decreases in relation to the number of accounts in which the issuer's shares are held. Consequently, the NYSE believes that the per-account cost is therefore lower with respect to a Large Issuer than with respect to a Small Issuer.

In addition, according to the NYSE, modern data processing and mailing techniques reduce the amount of human intervention involved in the process, driving down the actual per-account cost of handling mailings in large volume. The NYSE notes that the Committee found that the actual cost incurred with respect to Large Issuers in handling mailings was lower than the reimbursable amount that results from adherence to the current NYSE guidelines. On the other hand, the Committee found the actual cost of handling mailings for Small Issuers far exceeded the fees set forth in the current NYSE guidelines.21 The Exchange believes that these factors justify reducing the incentive fee from 50C/ to 25C/ for Large Issuers, but not reducing the 50C/ fee for Small Issuers. They also justify the 5C/ difference in the per-set-of-material per-nominee fee for Large Issuers and Small Issuers.

In applying the proposed revamped fee schedules to the NYSE Rules and guidelines, the NYSE decided to establish a line of demarcation that separates Large Issuers from Small Issuers in accordance with the Committee's recommendations. Under the NYSE's proposal, an issuer having 200,000 nominee accounts would qualify as a Large Issuer. As a result, the NYSE believes only the largest issuers, currently fewer than 200 overall, fall within that definition. The NYSE represents that beneficial owners' positions in shares of those Large Issuers account for approximately 50 percent of the number of positions that all beneficial owners maintain in the shares of all issuers. The Exchange therefore adopted the 50 percent mark as an appropriate place at which to draw the line.

The Exchange further states in its proposal that it views the fee-setting process as an ongoing matter. The Exchange represents that even if the Commission grants permanent approval to the proposed fee reductions under the guidelines, the Exchange intends to continue to meet with the Committee to evaluate and fine tune the guidelines and to consider possible approaches to broader reform of the proxy distribution system.

IV. Summary of Comments

The Commission received eight comment letters in response to the propose rule change, as amended,22 the majority of which supported the approval of the proposed rule change.23 In general, these commenters believed that the proposed fee reductions would give some immediate relief to large issuers. One commenter stated that the proposed fee changes were a good first step.24 Another commenter stated that the proposed rule change should be approved immediately and enacted for the 2002 proxy season.25 Only one commenter stated that the proposed rule change should not be approved on a permanent basis because the proposed fee reductions do not address the issue of competition in the proxy process.26

Several commenters, although urging approval of the current proposal, were critical of the current proxy fee structure, and also raised concerns regarding the need for competition in the proxy distribution system and the issuer's ability to choose service providers.27 These commenters urged continuing review of the proxy fee structure. Two commenters suggested a review of fees in a deregulated proxy distribution system, stating that prices might be lower if competition and market forces (rather than regulators) determined fees.28 In addition, one commenter, while supporting approval, noted that the guidelines have not been measured against market-based rates, which are significantly lower than those being proposed.29 In addition, one comment letter, jointly sent by three issuers, was critical of the lack of issuer control over service providers for distribution of proxy and other materials to beneficial holders whose shares are held in street name, noting that on the registered side, issuers have the right to choose service providers at a much lower cost.30

Concerns were also raised by three commenters about the composition of the Committee, who noted that not all parties affected by this proposed fee reduction were represented on the Committee.31 Some commenters stated that a more independent "formally-sanctioned" committee with official standing and of balanced representation, rather than a private initiative, was needed to further evaluate proxy issues.32 Other commenters wanted to participate on any future committee formed to address other concerns regarding the proxy distribution system.33

In addition, two commenters addressed the 200,000 nominee accounts cut-off that distinguishesbetween large and small issuers for purposes of the proposed fee reduction, stating that the cut-off was arbitrary and without any factual economic backing.34

One commenter suggested an overall 10C/ reduction from the basic mailing fee rather than a 5C/ reduction for large issuers.35 The commenter also stated that the fees should not be greater than those paid by issuers on the registered side.

Finally, one commenter, while supporting the proposal, urged the Commission to require the NYSE in its ongoing review to obtain and evaluate financial information of the proxy distribution firms and review ADP's fee sharing arrangements with brokers, which suggest the fees may be too generous.36

Separately, certain members of the Committee submitted letters to the NYSE endorsing the Committee's recommendations and proposed fee reductions, as well as permanent approval of the NYSE's Pilot Program.37

V. Discussion

After careful review, the Commission finds that the proposed rule change, as amended, is consistent with the requirements of the Act and the rules and regulations thereunder applicable to a national securities exchange.38 In particular, the Commission believes that the proposed rule change is consistent with section 6(b)(4) of the Act,39 which provides that an exchange have rules that provide for the equitable allocation of reasonable dues, fees and other charges among its members and other persons using its facilities. In addition, the Commission believes that the proposed rule change is consistent with section 6(b)(5) of the Act,40 which requires, among other things, that the rules of an exchange be designed to promote just and equitable principles of trade, to remove impediments to and perfect the mechanism of a free and open market, and to protect investors and the public interest. Furthermore, the Commission believes that the proposed rule change is consistent with section 6(b)(8) of the Act,41 which prohibits any exchange rule from imposing any burden on competition that is not necessary or appropriate in furtherance of the Act.

The Commission finds that the proposed amendments to NYSE Rules and guidelines governing proxy fees and permanent approval of the amended Pilot Program for the proxy fee reimbursement guidelines should help establish a more practical and organized proxy reimbursement structure. More specifically, the Commission finds that the Committee's recommended fee reductions, as reflected in the NYSE's proposal, are reasonable and should help to alleviate the burden and cost that large issuers currently bear in the proxy distribution process and more fairly allocate the cost among large issuers and small issuers. The Commission notes that the NYSE's proposed fee reductions will result in a decrease in the basic mailing fee from 50C/ to 40C/, an increase in the nominee coordination fee of 10C/ for Small Issuers, as defined by the NYSE above, and 5C/ for Large Issuers, as defined by the NYSE above, and a cut from 50C/ to 25C/ in the incentive/suppression fee that Large Issuers currently pay. Thus, fees for Small Issuers under the proposed rule change are not increased and stay the same, while fees for Large Issuers are reduced overall by 5C/ for the basic mailing fee and by 25C/ for the suppression fee. The NYSE has provided information to show that the cost to service Large Issuers is cheaper than for Small Issuers because of economies of scale. The Commission notes that the differentiation between Large and Small Issuers of 200,000 accounts is based on a 50 percent cut-off, as discussed above, and believes that this is a fair place to draw the line. The Commission therefore believes, as discussed in more detail below, that these proposed fee changes are reasonable and fairly allocated, do not discriminate among issuers, and do not impose any unnecessary burdens on competition.

A. Background

As noted above, since March 1997, NYSE member organizations have charged NYSE issuers proxy reimbursement fees in accordance with a Commission-approved Pilot Program that was recently extended until April 1, 2002.42 At the time of adoption of the Original Pilot Program, the Commission received some negative comments regarding the proposed fees, in particular the nominee coordination fee, the incentive fee, as well as the overall impact of the new fee structure on small issuers. While the Commission recognized that the fees could have a greater impact on small issuers than large to mid-sized issuers, the Commission found that the Pilot Program proxy fee structure, which included reduced mailing costs, was, on balance, positive and provided some cost savings. However, because of concerns raised about the impact and reasonableness of the fees and the difficulty in assessing cost savings that might occur as a result of the incentive fee to reduce mailings, among other things, the new proxy fee structure was approved on a pilot basis and the NYSE committed to conduct an independent audit of the pilot fee structure.

Since then, the Pilot Program has been extended numerous times.43 Within this time, NYSE has conducted two audits of the pilot fee structure.44 In addition, Commission staff undertook an in-depth review, interviewing numerous proxy industry participants to gather information and views on the proxy system and pilot fee structure.45 As a result of these reviews, the Pilot has been modified twice. The first revision was a 5C/ reduction in mailing costs for initial proxies and annual reports.46 The second revision amended the Pilot to set forth the minimum services an intermediary must perform in order to receive the nominee coordination fee.47

Over the course of the Pilot Program, some issuers, while indicating that they are satisfied with the level of service for the distribution of proxies, havecontinued to raise concerns about the fees. Generally, larger issuers have objected to the proxy fee structure because they are not able to enjoy economies of scale, which could result in cost savings to them. These issuers appear to be more inclined to favor a tiered fee structure that could reduce their costs. Smaller issuers, however, could be substantially impacted by a tiered fee structure that could result in increased costs, making it difficult to pay for the proxy process.

During the course of the Pilot Program, the Commission has consistently encouraged the Exchange, issuers, and member firms to consider long-term solutions and to develop an approach that would foster competition so that market forces can determine reasonable rates of reimbursement rather than the NYSE Rules and guidelines. While the Commission today has determined to approve the Pilot Program on a permanent basis, the Commission continues to believe that ultimately market competition should determine reasonable rates and expects the NYSE to continue its ongoing review of the proxy fee process, including considering alternatives to SRO standards that would provide a more efficient, competitive, and fair process. As noted above, the NYSE has indicated its commitment to continue to meet with the Committee to consider broader reforms in this area. The Commission recognizes that the proxy distribution process raises difficult issues, and that the NYSE must balance competing concerns of the issuers who must pay for the proxy distributions and the brokers who must be assured of adequate reimbursement for making such distributions. The Commission believes that permanent approval of the current proxy fee structure will permit the NYSE and other interested parties to focus on a long-term solution that would allow market forces rather than SRO rules to set rates.

B. Specific Comments

As noted above, although the majority of commenters supported the proposal, the comment letters raised specific concerns about the proposed rule change for the pilot fee structure. The Commission believes that the NYSE has adequately responded to the comments.48

Commenters raised concerns, for example, over issuers' lack of control over service providers and the higher cost for distribution of proxy and other materials to beneficial holders whose shares are held in street name, compared to issuers on the registered side, which have the right to choose service providers at a lower cost.49 The NYSE stated that, although the proposed fees will be approved on a permanent basis, it views the guideline-setting process as an ongoing matter and will continue to meet with the Committee to evaluate and fine tune the proposed fees under the guidelines. The Commission notes that, over the next year, the Committee, with the NYSE as a member, intends to consider the remaining issues, as raised by the commenters, regarding the need for more competition and to allow issuers the ability to choose among various service providers. The Committee will also consider the possibility of a deregulated proxy distribution system, which would remove the Commission from the rate-making process.

In response to concerns regarding the composition of the Committee, the NYSE stated that it did not select the members comprising the original Committee and indicated that, going forward, the Committee should be both diverse and balanced. The Commission believes that it is important that affected parties be afforded the opportunity to participate in future discussions regarding reformation of the proxy distribution system, and encourages the NYSE to ensure that the Committee has balanced representation.

Furthermore, the NYSE addressed the concerns regarding the use of 200,000 nominee accounts as a cut-off to distinguish between large and small issuers. The NYSE stated that the Committee arrived at the 200,000 figure because issuers with more than 200,000 nominee accounts accounted for approximately 50 percent of the number of positions that all beneficial owners maintain in the shares of all issuers. The NYSE further stated that, although this is an estimation, the Committee unanimously agreed with this 50 percent cut-off. While the Commission recognizes that it is difficult to draw lines, the Commission believes that the NYSE's use of 200,000 nominee accounts as a measure to distinguish between large issuers and small issuers appears reasonable and should more fairly allocate the costs associated with proxy processing and distribution among large and small issuers.

The Commission notes that the Committee, which was comprised of groups representing both large issuers and small issuers, as well as institutional shareholders, unanimously approved (with one abstention) the proposed fee reductions incorporated in the NYSE's proposal. While the Commission recognizes that some commenters voiced concerns about the composition of the Committee, the Commission believes that the NYSE's proposal is a good first step. As noted above, the NYSE has committed to establish a diversified and balanced Committee as it considers other changes. The Commission is therefore approving these changes to the NYSE Pilot Program so that they are in place by the upcoming 2002 proxy season. In addition, for the reasons stated above, the Commission is approving the Pilot Program on a permanent basis.

C. Summary

In summary, while the Commission has decided to approve the revised proxy fees under the Pilot Program on a permanent basis, the Commission stresses that permanent approval does not end the discussion of proxy fee reform. The main goal is to ensure protection of shareholder voting rights in a competitive marketplace for proxy distribution, where market forces operate freely to set competitive and reasonable rates. The Commission urges the NYSE and the Committee to identify various ways to achieve these goals. As long as the NYSE's proxy fee structure remains in place, the Commission expects the NYSE to periodically review these fees to ensure they are related to "reasonable expenses" of the NYSE's member brokers in accordance with the Act,50 and propose changes where appropriate. Such monitoring of fees is essential, especially in light of technological advances such as electronic proxy delivery and voting, which should help to reduce the cost issuers will bear in the future in the proxy distribution process.

VI. Conclusion

For the foregoing reasons, the Commission finds that the NYSE's proposal to amend its Rules and guidelines for proxy fee reimbursement, as amended, is consistent with the requirements of the Act and rules and regulations thereunder. Therefore, the Commission is approving the NYSE's Pilot Program for proxy fee reimbursement, as amended by this proposed rule change, on a permanent basis.

It is therefore ordered,pursuant to section 19(b)(2) of the Act,51 that the proposed rule change (SR-NYSE-2001-53), as amended, is approved.

For the Commission, by the Division of Market Regulation, pursuant to delegated authority.52

5217 CFR 200.30-3(a)(12).

Margaret H. McFarland, Deputy Secretary.
ACTION: 5115 U.S.C. 78s(b)(2).