April 16, 1998
Jonathan G. Katz, Esq.
Secretary
Securities and Exchange Commission
450 Fifth Street, NW
Washington, D.C. 20549
RE: SEC Release No. 34-39726; File: S7-8-98
Dear Mr. Katz:
The staff of The National Association of Securities Dealers, Inc. (NASD®) would like to take this opportunity to comment on the Securities and Exchange Commission’s (SEC) Proposed Amendment to SEC Rule 17a-5 (Proposed Amendment) regarding Year 2000 Reports to be made by certain brokers and dealers. The NASD staff commends the SEC and its staff for addressing the critical issues that may arise because of the Year 2000 business problem and for proposing additional steps to minimize risks to the industry and investors globally. Our comments are based on our experience with the Year 2000 issue, discussions with others in the industry, and the results of our survey of NASD member firms on Year 2000 earlier this year. We look forward to a continuing dialogue with the SEC and others regarding the Year 2000 readiness of the securities industry.
We believe that the Proposed Amendment is a useful addition to the regulatory and industry Year 2000 initiatives now underway and that it provides an excellent framework for mapping Year 2000 compliance in the industry and informing investors and other market participants of broker/dealer Year 2000 readiness. The Proposed Amendment also will elicit greater industry attention to the critical importance of industry-wide Year 2000 compliance.
I. Overview of the Proposed Amendment.
The Proposed Amendment would require certain brokers and dealers to file two Year 2000 reports. Every broker/dealer with a minimum net capital requirement of $100,000 or more as of December 31, 1997, must file a first report that describes its preparation for the Year 2000 and the steps it is taking to avoid Year 2000 problems. This report must be filed with the SEC and the broker/dealer’s designated examining authority (DEA) no later than 45 days after the rule amendments are adopted by the SEC. A second report must be filed by every broker/dealer with a minimum net capital requirement of $100,000 or more as of its fiscal year-end 1998 and by every broker/dealer that was required to file the first report. The second report must be filed with the SEC and the broker/dealer’s DEA within 90 days after the date of the broker/dealer’s 1998 fiscal year-end financial statements.
At a minimum, the broker/dealer must discuss the following information in both its first and second reports:
1. Whether its board of directors (or similar body) has approved and funded plans for preparing and testing its computer systems for potential Year 2000 problems.
2. Whether its plans exist in writing and address all major computer systems throughout the world.
3. Whether it has assigned existing employees, hired new employees, or engaged third parties to provide help in avoiding Year 2000 problems and, if so, what work these individuals have done as of the date of the reports.
4. Current progress with each stage of its preparation for the Year 2000 with the stages identified as:
• awareness of potential Year 2000 problems;
• assessment of steps necessary to avoid Year 2000 problems;
• implementation of necessary steps to avoid Year 2000 problems;
• internal testing of software designed to avoid Year 2000 problems, including the number and nature of the exceptions resulting from testing;
• integrated or industry-wide testing with other broker/dealers, other financial institutions, customers, and vendors, including the number and nature of the exceptions resulting from testing; and
• implementation of tested software that avoids Year 2000 problems.
5. Whether written contingency plans have been drafted in the event that it has computer problems caused by the Year 2000 after December 31, 1999.
6. What levels of management are responsible for addressing potential Year 2000 problems, including a description of individual Year 2000 responsibilities and a percentage estimate of the time spent by each individual on Year 2000 issues during the preceding 12-month period.
7. Identification of the contact person for Year 2000 matters.
The Proposed Amendment also provides that each broker/dealer will be required to file with its second report an attestation from an independent public accountant containing an opinion regarding whether there is a reasonable basis for the assertions made by the broker/dealer in its second report.
The SEC also advises that a broker/dealer with computer problems caused by the Year 2000 may be deemed in violation of Rule 17a-3’s requirement to have accurate books and records. Moreover, any broker/dealer that fails to make and keep current books and records would be required to notify the SEC under Rule 17a-11.
II. NASD Comments
The Year 2000 problem, if not effectively addressed, has the potential to disrupt the efficient operation of securities markets, cause inaccurate or misleading information to be distributed to investors, and threaten the ability of market participants to meet their obligations. Regulatory action along the lines of the Proposed Amendment is a considered and warranted response to these risks. We believe that the Proposed Amendment would be better positioned to achieve its regulatory objectives if the following issues are addressed:
1. $100,000 Net Capital Reporting Threshold
We believe that the Proposed Amendment should require that all broker/dealers that deal with the public file the specified Year 2000 reports provided that differing levels of attestation are adopted (se item 2. "Attestation"). All such broker/dealers should have plans in place to prepare their organization for the Year 2000 and should report on those plans to the SEC and their DEA. Further, information about their plans should be publicly available to investors and other market participants.
We base this recommendation on an analysis of NASD member firms and the effect of the $100,000 net capital reporting threshold. At this threshold, less than 30 percent (30%) of our membership would be required to file the Year 2000 reports. Lowering the threshold, for example to $50,000, does not resolve this issue, as only 38 percent (38%) of our membership would be covered at this amount. The exclusion, under both thresholds, of a large number of broker/dealers that have public customers and that could impact other market participants if they are not Year 2000 compliant is not a desirable result. Therefore, we recommend that all broker/dealers that deal with the public should be covered by the Proposed Amendment’s reporting requirements.
2.Attestation
We recommend that the Proposed Amendment provide three levels of attestation. This would balance the demands placed upon broker/dealers with their likely impact on investors and markets. We recommend that the smallest broker/dealers (those with a net capital requirement under $50,000) be required to submit their Year 2000 reports under the original signature of their Chief Executive Officer. Those broker/dealers with a net capital requirement between $50,000-$100,000 should be required to submit their Year 2000 reports under the original signature of their Chief Executive Officer, and for publicly held firms, a signature from the Chairman of the Board of Directors. The largest broker/dealers (those with a net capital of $100,000 or more) should be required to comply with the attestation specified in the Proposed Amendment.
3.Report Content and Format
We agree with the SEC’s approach of requiring broker/dealers to report on their Year 2000 readiness. We recommend that the proposed reports be structured in a defined format, as opposed to open narrative, in order to produce quicker results with improved accuracy. This would decrease the amount of time it would require to summarize, track, analyze, and report the data. In addition, it would provide the basis for a consistent baseline for measuring progress towards Year 2000 compliance. We propose that such a standard format be embodied in a standard reporting form.
Based on the proposed report criteria, we have attached a sample reporting form. This form collects the data items identified in the Proposed Amendment. In place of the request for the "number and nature of exceptions found during internal testing," we used multiple questions to gather measurable information regarding the firm’s progress and readiness. The form is divided into two parts. The first part is a brief narrative that allows broker/dealers to state their Year 2000 initiatives, goals, and progress. The second part gathers quantitative information for monitoring industry-wide progress. We suggest that firms be allowed to update, as desired, either part of their report since, as discussed below in item 4 "Availability of Reports," we agree that the information should be made publicly available.
With the volume of reports that would be required, and in view of the limited time remaining to address Year 2000 issues, we believe that the reporting process should be automated. Information could be gathered and published digitally to expedite the process. For example, an on-line (Web-based) or other automated method of collecting data could be used. Automation would be of particular importance to encourage firms to update their reports.
4. Availability of Reports
We believe that the reports should be made available to the public. This information will be invaluable to investors and other market participants that must assess the Year 2000 preparedness of the entities with which they do business. We further suggest publishing the reports via a Web site as a means to provide ready access to current information.
Questions regarding this response should be directed to Lyn Kelly, National Association of Securities Dealers, Inc., Year 2000 Program Director, at (301) 590-6342, or via e-mail to y2k@nasd.com.
Sincerely,
Elisse B. Walter
Attachment: Sample Reporting Form
Firm Reporting Form
Part I: Narrative description provided by member firm regarding their Year 2000 initiatives, goals, and progress. This narrative should discuss how the firm could be impacted by the Year 2000-related concerns and what the firm is doing to manage any risk. The narrative should be written to provide investors with a summary of the firm’s status and goals. The narrative should contain information on who the investor can contact at the firm for additional information or follow-up concerns.
Part II: Please complete the following statement which reports your firms progress relative to recognizing and addressing the Year 2000 issues in your organization. Select the appropriate response for each section:
Section I: Planning and Responsibility
[ ] Yes, we have developed a Year 2000 plan for our organization. The plan is: (Check all that apply )
[ ] Written
[ ] Approved by Our Board or Directors
[ ] Approved by:___________
[ ] Adequately funded
[ ] Addresses our international locations and business
[ ] We have no international locations or affiliations
[ ] No: We have not yet completed a plan for Year 2000. We:
(Check all that apply)
[ ] are developing a written plan. It will be completed by: MM/DD/YYYY
[ ] are not developing a written plan because we do not plan to be conducting business on or after January 1, 2000.
[ ] have reviewed our business structure and due to the nature of our business, we will neither impact nor be impacted by Year 2000.
Section II: Staffing
[ ] Yes, we have done the following to staff our plan and execute to its milestones. (Check all that apply):
[ ] Assigned internal staff
[ ] Hired external staff to assist us
[ ] No, we have not yet completed staffing. We are: (Check all that apply)
[ ] defining resources. This will be completed by: MM/DD/YYYY.
[ ] unable to find resources to help us.
[ ] handling the staffing as part of our ongoing business operation.
Section III: Current Progress in Each Stage
We report the following progress for each stage of preparation:
1. Awareness of potential Year 2000 problems:
[ ] Yes, we are aware of the severity of the Year 2000 to our organization and industry.
[ ] No, we are not aware of how the Year 2000 may affect us or the industry.
2. Assessment of steps necessary to avoid Year 2000 problems;
[ ] Yes, we are actively completing or have completed ______% of our assessment efforts. Based on our assessments we found:
_____ Number of mission-critical systems needing repair/replacement to handle the Year 2000 correctly.
_____ Number of non-mission critical systems needing repair/replacement to handle the Year 2000 correctly.
[ ] Yes, our assessment included:
[ ] Third-party vendors and service providers.
[ ] Facilities and communications systems.
[ ] PCs and servers used by our business.
[ ] No, we have not completed an assessment of our systems and business processes relative to Year 2000 impacts.
3. Implementation of necessary steps to avoid Year 2000 problems including internal testing;
[ ] Yes, we are actively completing the steps necessary to avoid Year 2000 problems in our firm. From the items identified in our assessment, following are the completion rates by percentage:
____ Percentage of mission-critical systems currently ready to handle the Year 2000 correctly.
____ Percentage of non-mission-critical systems currently ready to handle the Year 2000 correctly.
____ Percentage of our third-party vendors and service providers that have provided statements assuring us of their Year 2000 readiness.
____ Percentage of our facilities and communications systems that have been deemed ready for the Year 2000.
____ Percentage of our PCs and servers used for business functions are ready to and will operate correctly in the Year 2000.
[ ] Yes, we are testing our systems for the following dates. (Check all that apply):
[ ] Rollover from 12/31/1999 to 1/1/2000
[ ] First business date of 1/3/2000
[ ] Correct leap year processing on 2/28/2000 and 2/29/2000
[ ] No, we are not completing any steps to avoid Year 2000 problems in our firm because:
________________________________________________
4. Integrated or industry-wide testing with other broker/dealers, other financial institutions, customers, and vendors:
[ ] Yes, we are planning to or are currently testing our mission-critical systems with the following groups external to our firm:
[ ] Clearing firm or clearing bank.
[ ] Third-party vendors and service providers.
[ ] Our customers.
[ ] As part of the SIA-sponsored industry test.
[ ] With the NASD.
[ ] No, we are not completing any external testing.
5. Implementation of tested software that avoids Year 2000 problems.
[ ] Yes, we have ______% of our mission-critical systems tested and in use at this time.
[ ] No, we have not begun replacing any of our existing systems with Year 2000-compliant systems.
This above information represents _____Firm Name_________ reporting to the SEC and our DEA of our progress relative to Year 2000. I understand that this information will be made publicly available.
CEO Name:________________Signature:___________________________Date:_________
Chairman of the Board of Directors Signature: ___________________Date:_________
Firm CRD # ____________________________________________________________
Address: _____________________________________________________________