MSRB Amends Proposal on Priority of Orders in Primary Offerings

On August 4, 2010, the Municipal Securities Rulemaking Board (MSRB) filed with the Securities and Exchange Commission (SEC) a partial amendment (Amendment No. 1)[1] to its original proposed rule change[2] concerning priority of orders in primary offerings. 

Amendment No. 1 partially amends the text of the original proposed rule change to clarify that (i) amended MSRB Rule G-8(a)(viii) requires that records must be kept of whether there was a retail order period, regardless of whether the issuer required that there be one; (ii) the term “priority provisions” as used in amended Rule G-8(a)(viii)(A) includes both the customer priority provisions set forth in amended Rule G-11(e) and any other priority provisions of the syndicate (e.g., those included in an agreement among underwriters); (iii) the recordkeeping requirements of amended Rule G-8(a)(viii) concerning deviations from the customer priority provisions and the specific reasons for them are the same for both sole underwriters and syndicate managers; and (iv) the customer priority requirements of the interpretive notice are the same as those of amended Rule G-11(e).  Amendment No. 1 also corrects a typographical error in amended Rule G-11(e)(ii). 

To allow brokers, dealers, and municipal securities dealers time to amend their procedures to comply with the proposed rule change, the MSRB requested that the proposed rule change become effective for new issues of municipal securities for which the Time of Formal Award (as defined in Rule G-34(a)(ii)(C)(1)(a)) occurs more than 60 days after approval of the proposed rule change by the SEC.

Questions about this notice may be directed to Peg Henry, Deputy General Counsel, at 703-797-6625.

TEXT OF REVISED PROPOSED AMENDMENTS[3]

Rule G-8: Books and Records to be Made by Brokers, Dealers and Municipal Securities Dealers

(a) Description of Books and Records Required to be Made. Except as otherwise specifically indicated in this rule, every broker, dealer and municipal securities dealer shall make and keep current the following books and records, to the extent applicable to the business of such broker, dealer or municipal securities dealer:

(i) – (vii) No change.

(viii) Records Concerning Primary Offerings. 

(A) For each primary offering for which a syndicate has been formed for the purchase of municipal securities, records shall be maintained by the syndicate manager showing the description and aggregate par value of the securities; the name and percentage of participation of each member of the syndicate; the terms and conditions governing the formation and operation of the syndicate; a statement of all terms and conditions required by the issuer (including whether the issuer has required there was a retail order period and the issuer’s definition of “retail,” if applicable); all orders received for the purchase of the securities from the syndicate; all allotments of securities and the price at which sold; those instances in which the syndicate manager allocated securities in a manner other than in accordance with the priority provisions, including those instances in which the syndicate manager or accorded equal or greater priority over other orders to orders by syndicate members for their own accounts or their respective related accounts; and the specific reasons for doing so why it was in the best interests of the syndicate to do so; the date and amount of any good faith deposit made to the issuer; the date of settlement with the issuer; the date of closing of the account; and a reconciliation of profits and expenses of the account.

(B) For each primary offering for which a syndicate has not been formed for the purchase of municipal securities, records shall be maintained by the sole underwriter showing the description and aggregate par value of the securities; all terms and conditions required by the issuer (including whether the issuer has required there was a retail order period and the issuer’s definition of “retail,” if applicable); all orders received for the purchase of the securities from the underwriter; all allotments of securities and the price at which sold; those instances in which the underwriter accorded equal or greater  priority over other orders for its own account or its related accounts, and the specific reasons for doing so; the date and amount of any good faith deposit made to the issuer; and the date of settlement with the issuer.

(ix) - (xxiv) No additional changes.

(b) - (g) No additional changes.

Rule G-11: Primary Offering Practices

(a) - (e)(i) No additional changes.

(e)(ii) In the case of a primary offering for which a syndicate has not been formed,

unless otherwise agreed to be with the issuer, the sole underwriter shall give priority to customer orders over orders for its own account or orders for its related accounts, to the extent feasible and consistent with the orderly distribution of securities in the offering.

(f) - (j) No additional changes.

*  *  *  *  *  *  *  *  *

Interpretation on Priority of Orders for Securities in a Primary Offering under Rule G-17

On December 22, 1987, the MSRB published a notice[1] interpreting the fair practice principles of Rule G-17 as they apply to the priority of orders for new issue securities (the “1987 notice”). The MSRB wishes to update the guidance provided in the 1987 notice due to changes in the marketplace and subsequent amendments to Rule G-11.

Rule G-11(e) requires syndicates to establish priority provisions and, if such priority provisions may be changed, to specify the procedure for making changes.  The rule also permits a syndicate to allow the syndicate manager, on a case-by-case basis, to allocate securities in a manner other than in accordance with the priority provisions if the syndicate manager determines in its discretion that it is in the best interests of the syndicate.  Under Rule G-11(f), syndicate managers must furnish information, in writing, to the syndicate members about terms and conditions required by the issuer,[2] priority provisions and the ability of the syndicate manager to allocate away from the priority provisions, among other things. Syndicate members must promptly furnish this information, in writing, to others upon request. This requirement was adopted to allow prospective purchasers to frame their orders to the syndicate in a manner that would enhance their ability to obtain securities since the syndicate’s allocation procedures would be known. 

In addition to traditional priority provisions found in syndicate agreements, municipal securities underwriters frequently agree to other terms and conditions specified by the issuer of the securities relating to the distribution of the issuer’s securities.  Such provisions include, but are not limited to, requirements concerning retail order periods.  MSRB Rule G-17 states that, in the conduct of its municipal securities business, each broker, dealer, and municipal securities dealer (“dealer”) shall deal fairly with all persons and shall not engage in any deceptive, dishonest or unfair practice.  These requirements specifically apply to an underwriter’s activities conducted with a municipal securities issuer, including any commitments that the underwriter makes regarding the distribution of the issuer’s securities.  An underwriter may violate the duty of fair dealing by making such commitments to the issuer and then failing to honor them.  This could happen, for example, if an underwriter fails to accept, give priority to, or allocate to retail orders in conformance with the provisions agreed to in an undertaking to provide a retail order period.  A dealer who wishes to allocate securities in a manner that is inconsistent with an issuer’s requirements must not do so without the issuer’s consent.  

Except as otherwise provided in this notice, Pprinciples of fair dealing generally will require the syndicate manager to give priority to customer orders over orders for its own account, orders by other members of the syndicate for their own accounts, orders from persons controlling, controlled by, or under common control with any syndicate member (“affiliates”) for their own accounts, or orders for their respective related accounts,[3] to the extent feasible and consistent with the orderly distribution of securities in a primary offering.  This principle may affect a wide range of dealers and their related accounts given changes in organizational structures due to consolidations, acquisitions, and other corporate actions that have, in many cases, resulted in increasing numbers of dealers, and their related dealer accounts, becoming affiliated with one another.

Rule G-17 does not require the syndicate manager to accord greater priority to customer orders over orders submitted by non-syndicate dealers (including selling group members).  However, prioritization of customer orders over orders of non-syndicate dealers may be necessary to honor terms and conditions agreed to with issuers, such as requirements relating to retail orders.  

The MSRB understands that syndicate managers must balance a number of competing interests in allocating securities in a primary offering and must be able quickly to determine when it is appropriate to allocate away from the priority provisions, to the extent consistent with the issuer’s requirements.  Thus, Rule G-17 does not preclude the syndicate manager or managers from according equal or greater priority to orders by syndicate members for their own accounts, affiliates for their own accounts, or their respective related accounts if, on a case-by-case basis, the syndicate manger determines in its discretion that it is in the best interests of the syndicate. However, the syndicate manager shall have the burden of justifying that such allocation was in the best interests of the syndicate.  Syndicate managers should ensure that all allocations, even those away from the priority provisions, are fair and reasonable and consistent with principles of fair dealing under Rule G-17.

It should be noted that all of the principles of fair dealing articulated in this notice extend to any underwriter of a primary offering, whether a sole underwriter, a syndicate manager, or a syndicate member.

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[1]  MSRB Notice of Interpretation Concerning Priority of Orders for New Issue Securities: Rule G-17 (December 22, 1987).

[2]  The requirements of Rule G-11(f) with respect to issuer requirements were adopted by the MSRB in 1998.  See Exchange Act Release No. 40717 (November 27, 1998) (File No. SR-MSRB-97-15).

[3]  “Related account” has the meaning set forth in Rule G-11(a)(xi).