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1970

Mr. Thomas. Well, I think one of the main reasons on this, and it goes back-Herman Bevis probably said it the other day-our 12 banks alone, as I testified, hold 2.8 billion shares of stock for our customers. That is $108 billion. We have a fiduciary responsibility there. These are not our securities. In the process of each day's trading back and forth we get into figures that are astronomical. One of the functions that is most important in any depository, in addition to the immobilization of the certificate by book entry, is the settlement in dollars: at the end of the day. Unless we can be assured that within this function when we have sold securities and directed the book entry from us to somebody else, we are going to get our money, and this is our customers' money, that is why we like the framework of a bank as a depository rather than just some organization.

Mr. Curtis. It is å measure then of your sense of fiduciary responsibility?

Mr. THOMAS. That is correct.

Mr. CURTIS. That you believe you could not participate in a depository unless it was organized and regulated as a bank.

Mr. THOMAS. I didn't say we could not.

Mr. CURTIS. Is there a legal requirement or impediment to your participating in a depository which was not organized as a bank?

Mr. THOMAS. No there is not. There is not. The UCC in New York permitted a securities depository by CCS and as a matter of fact the New York banks have taken the first step, first when it was CCS Incorporated and now the Depository Trust Company and we put 60 million shares in there.

Mr. CURTIS. When you took the first step as CCS and deposited shares with it it was not organized as a bank.

Mr. THOMAS. No; but we knew it would be and it would be a transition from CCS to CCS Incorporated and then to the Depository Trust Company.

Mr. CURTIS. Thank you, sir.

Mr. Moss. Now it isn't the format of organization but rather the regulatory pattern that creates the confidence in the bank as a depository particularly as a matter under fiduciary, is that correct.

Mr. THOMAS. I would say that is so, Mr. Moss. Mr. Moss. And therefore it becomes basically a question of the adequacy of regulation.

Mr. THOMAS. And the adequacy also of investigation and examination.

Mr. Moss. Well, I would envision that adequate regulation is adequate investigation.

Mr. THOMAS. Yes.
Mr. Moss. At least I have not seen successful regulation without it.
Mr. THOMAS. Adequate examination.
Mr. Moss. That is correct.
Are there further questions?

Gentlemen, I do want to express the appreciation of the committee. You have the distinction of closing the hearings on what has been a very lengthy hearing and inquiry process by this committee. We have no further witnesses scheduled. The committee has a target date of the 9th of October to commence its first markup session on the legislation. Prior to that time we will attempt to have a hearing record published and available.

Mr. THOMAS. In the meantime, Mr. Moss, if you or Mr. Curtis or anybody else wants additional information, we would be glad to attempt to get it for you.

Mr. Moss. I appreciate that. You have indeed been most cooperative with the committee as have been all who have participated in these hearings and to you and to them the Chair extends the thanks of the committee.

Mr. THOMAS. Thank you.
Mr. Moss. With that we stand adjourned.
(Whereupon, at 11:33 a.m. the hearings were adjourned.]

[The following statements, comments, and letters were received for the record.]

STATEMENT OF CORPORATE FIDUCIARY AsSOCIATION OF ILLINOIS TRANSFER AGENCY

AND REGISTRAR COMMITTEE

The Corporate Fiduciaries Association of Illinois is comprised of 61 banks, both large and small, who render trust services in Illinois to corporations and individuals. The Transfer Agencies and Registrarships Committee of that Association is composed of representatives from banks and trust companies which render the services of transfer agent and registrar of securities.

It is obvious that the proposed legislation contained in H.R. 5050 will profoundly affect the entire financial and business community, but we respectfully submit our comments regarding only part of the bill entitled Title IV–SECURITIES PROCESSING.

We do not wish to burden this Committee with a recital of the accomplishments of the banking and securities industries to avoid another paper crunch. Suffice it to say that we agree wholeheartedly that the private sector has made tremendous steps to avoid another such occurrence.

Both from an economic and an operational standpoint, it would appear to be more appropriate to have the present bank regulatory authorities charged with the examination of bank transfer agents. They have the trained manpower and have developed sophisticated systems to conduct proper examinations. In order to properly discharge this duty, the bank regulatory authorities should be given the opportunity, in cooperation with the Securities and Exchange Commission, to shape the manner of regulation. It would also seem feasible to take this approach in connection with depositories inasmuch as banks undoubtedly will become members of depositories. Furthermore, depositories in existence and in the planning stages are being developed as limited trust companies, subject to the jurisdiction of state banking authorities and the Federal Reserve Board.

The proposed Amendment to Section 2 of the Securities Exchange Act of 1934 contained in Section 401 stating, "and to provide for the development of an integrated national system for the prompt and accurate processing and settlement of security ransactions”, we believe to be restrictive that it appears to mandate the imposition of a preconceived system upon all parts of the securities community. We believe it is imperative that the Committee, in its deliberations and its proposals for new legislation, does not propose a set of laws which would be either so severely restrictive in nature or prove to be so expensive as to create havoc among transfer agents and corporations. If large capital expenses are necessary to adapt to a system, many banks would undoubtedly resign their accounts and transfer activities would be concentrated in the hands of a smaller number of processors who would probably be the largest transfer agents. Conceivably, this would produce the same climate which existed during the paper crunch era. If, as we believe, it is more advantageous to have transfer activity dispersed around the country for operational and economic reasons, the proposed Amendment should be amplified to provide for flexibility in the national system which would allow smaller transfer agents and corporations to compete and serve effectively. An inflexible approach to the form of stock certificate could also mitigate against transfer agents in the same manner.

There would appear to be certain areas of the Bill which might be confusing and lead to disagreement as to meaning. Specifically, we refer to the Amendment to Section 3(a) of the Securities Exchange Act of 1934 contained in Sec. 402, under (D) (25) (C), the definition of a transfer agent as “registering the transfer of such securities”. Does this refer to a corporation which does not provide its own transfer facilities but does post to its books the changes in ownership and maintains the consolidated shareholder records, or does it refer to the entity whic processes the daily transfers and prepares a report sheet showing changes in ownership which is later used by the corporation to post the shareholder records?

Unless the regulatory authorities are given a directive, under Sec. 17A (a) (1) the Amendment to the Securities Exchange Act of 1934 Sec. 404, as to the time by which they must have published regulations concerning the registration of transfer agents, it would seem inappropriate to make the effective date of the registration provisions 180 days after the effective date of the Amendment.

The use of the word "banks” under Sec. 17A (C) (6) and (7) as an Amendment to the Securities Exchange Act of 1934 Sec. 404, without limitation can further confuse. As an example, the rules of a securities depository are to be designed to foster cooperation and co-ordination with various entities, including banks. This would lead to the assumption that a bank that is a participant in a securities depository and is also acting as a transfer agent is included in that function. If this is correct, the rules would provide that a securities depository could discipline a "bank” as to its depository function, if in effect the "bank” was only in violation of its transfer agent function.

We are not convinced that total elimination of the stock certificate, as suggested under Sec. 17A (r) as an Amendment to the Securities Exchange Act of 1934 Sec. 404, is the answer to the paper handling problem even though we do concur that a study would be helpful. Many of the individual investors, estimated to total 30,850,000 persons in the New York Stock Exchange 1970 Census of Shareholders, have evidenced a distinct preference for the certificate as tangible proof of ownership. An immediate objective should be to immobilize activity by the development of a system of regional depositories where all shares of active traders for issues on major stock exchanges and over-the-counter would be stored. Maximum benefit can be gained by eliminating traders' certificate flow on the entire market.

The requirement proposed in Amendment (k) to the Securities Exchange Act of 1934 Sec. 406, Section 12, that the same person should, in all cases, be both transfer agent and registrar should be re-examined. The Congress should not legislate away the right of an issuer and the public's right to safeguard against fraud. We think it is of the utmost importance that legislation not permit an issuer, acting as its own transfer agent, to function without an independent registrar.

It is respectfully requested that we be given the opportunity to appear before your Committee when hearings commence, in order that we may expand these comments on the proposed bill.

L. E. HOFFMAN, Chairman.

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STATEMENT OF BERNARD O'CONNOR, SENIOR VICE PRESIDENT, THE U.S.

BANKNOTE CORP. This statement relates to those provisions of H.R. 5050 which direct the SEC by the end of 1976, to take such steps as are within its power to bring about the elimination of the negotiable stock certificate as a means of settlement among brokers or dealers of transactions consummated on national securities exchanges or by means of instrumentalities of interstate commerce; directs the SEC to study the “street name” registration problem and empowers it to prescribe the form or format of the stock certificate.

These provisions parallel similar legislation in Senate Bill 2058 which passed the Senate on August 1, 1973. Therefore, I ask that my statement before the Subcommittee on Securities of the Senate Committee on Banking, Housing and Urban Affairs on July 12, 1973, attached, be regarded as included in my presentation to your Subcommittee at this time.

The important, yet simple, thrust of what we have consistently advocated is that the investor must be protected like any other consumer in his inherent right to receive, promptly, whatever he purchases. He is entitled to no less protection in his security dealings than he has in the general consumer fraud area.

I would like to relate two additional significant developments since my July 12, 1973 statement which I would underscore at this time:

First: The Senate Committee Report relating to “Elimination of Stock Certificate", as provided for in S2058, shows that the individual investor can merely “ask for" his certificates. A similar provision in their last year's Report called for their “demanding” the certificates.

Secondly: The colloquy between Senators Jackson and Williams as reported in the Congressional Record-Senate Pages S15246 and $15247 has been submitted to your Subcommittee.

I would like to direct the Committee's attention to this significant exchange, particularly Senator Jackson's summation in which he says: “All our Members would be well advised to instruct their constituents who are investors to help Congress protect them by advising them to get their certificates."

Our position on this proposed legislation is now as it was in the past:

1. We urge the adoption of our proposal that individual investors be given the statutory right to receive their certificates.

2. No elimination of any certificates in broker-dealer transactions should be permitted until the "street name” study of the SEC has been made.

3. We suggest that any change in the form or format of the stock certificate be required to be reported to your Committee, prior to adoption—in the public interest.

Senate Bill #2058, in part, directs the SEC by the end of 1976, to take such steps as are within its power to bring about the elimination of the negotiable stock certificate as a means of settlement among brokers or dealers of transactions consumated on national securities exchanges or by means of instrumentalities of interstate commerce; directs the SEC to study the “street name" registration problem and empowers it to prescribe the form or format of the stock certificate.

While we do not object to the overall goal of this proposed legislation, we do wish to call attention to segments which could adversely affect the investor.

I will subsequently, in my testimony, discuss measures that are necessary to protect the individual investor.

We last appeared before your subcommittee on September 30, 1971. At that time we pointed out:

1) The stock certificate, a readily negotiable instrument, is a permanent authentic detailed record of shareholder ownership. Today we reaffirm that position.

An investor having the stock certificate need not be concerned if his broker fails or even if any computer fails. He is assured of receiving-directly from the issuing corporation—all communications including those required by the SEO. A recent article in the New York Times touched on other reasons why the stock certificate is desirable the pride of possession-using stock for collateral.

Many brokers urge their customers to take delivery so the brokers can avoid the responsibility of dividends, proxies, safe storage and monthly statements.

The distrust because of continuing failures and threats of failures in the Street is heightened just by reading the newspapers. For example the Wall Street Journal reported on June 11, 1973 that, as an aftermath of the Weis Securities fiasco, the SEC met privately with Exchange officials to review the Exchange's surveillance program (or Early Warning System). A SEC enforcement official was quoted as saying “If you've got fraudulent statements, I guess a guy can beat the system”.

This meeting wasn't an "alarmist step” indicating any failure of the Exchange's Early Warning System. Eleven days later, on June 22, 1973, the New York Times reported that “nine member firms have been placed under special, intensive surveillance by the New York Stock Exchange because of financial difficulties and some of them probably will have to be liquidated" according to a big board official. These nine firms were among sixty eight member firms that had been placed on the Early Warning List.

In the same article it was reported that one member firm allegedly spread false rumors about another member firm's financial condition.

This environment demands the protection of the small investor--not with SIPC, but with his stock certificate!

2) In 1971 we pointed out the vulnerability of the computer particularly in two areas: fraud and manipulation. I suppose this point could be currently confirmed just by Equity Funding. However, now some 140 cases of computer abuse have been documented by a specialist in computer-related crime. These 1974

cases included vote fraud, manipulation for profit, manipulation for theft of services, theft of confidential information and vandalism. The perpetrators or susr were a policeman, claims and welfare oployees, private citizen, elected official and Electronic Data Processing employees. Interestingly-not one computer abuse was discovered through routine audits or checkups. Every time, the guilty party was uncovered through some chance event-like the teller for a sav. ings bank in New York charged with embezzling $1,500,000. He was discovered when police raided a bookmaking operation and found his name as a $30,000 a day bettor.

(3) In our previous appearance here, we pointed out that the Depository concept as well as the proposed certificateless society poses serious problems. One involves "street name" layering superimposed on the present nominee practice. This will further remove and alienate the investor from the corporation (or corporations) in which he owns stock, and make a mockery of shareholder democracy. This problem, acknowledged in your proposed legislation requiring a study by the SEC, makes the retention of the stock certificate increasingly important.

(4) In 1971 we proposed, as a feasible and sensible intermediate paperwork system, the adoption of a man and machine readable stock certificate-readable by means of optical scanning—together with standardization of supplementary forms involved in the stock processing procedure. It is interesting to note that the New York Depository now is using the optical scanning technique for the control and movement of stock certificates in its possession.

As we emphasized before—and our viewpoint applies more so today—in any of the studies relating to the securities industry problems there has been little, if any, representation by corporations or the average shareholder. Recently, at the initiative of the American Stock Exchange Listed Company Advisory Committee, corporations have organized to make known their concern about the withdrawal of the small investor from the marketplace, the ever shrinking number of stockholders, the liquidity of the stock market, and the drying up of the new issue market.

The fact is that in this intervening period the market has been inactive_small investors have looked elsewhere and the new issue market is at its lowest'ebb for many years.

The small investor unfortunately has no organized representation and while many reasons are given for his absence from the market the fact remains that he has deserted it. The Exchanges and some member firms are developing public relations programs to bring him back.

In this connection, let me quote a few pertinent excerpts from a recent study on small investors conducted for the New York Stock Exchange. The study points out-among other facts—tha Small investors tend view the securities industry with an air of caution, particularly in regard to the industry's financial stability-Two thirds feel that their stock certificates are safer in their own hands than in their brokers' custody—(emphasis added).

We strongly suggest that one way to bring the small investor back is to assure him that he will receive his evidence of proprietary ownership, the stock certificate, and not be at the mercy of irresponsible brokers and computers. Computers have yet to convince us that they are fraud proof.

Speaking directly to your proposed legislation—(1) You direct the SEC to bring about the elimination of the stock certificate as a means of settlement in brokers or dealers transactions. Your introductory statement to the legislation says that this provision would in no way preclude the individual shareholders from demanding and receiving certificates as proof of ownership of the shares. This legislation, in our opinion, falls short in one important aspect. The legislation must spell out the automatic right of the investor to receive his stock certificate. I respectfully submit that such language must be a part of any legislation that is ultimately developed. The reasons are real. Under the provision related to the elimination of certificates in broker or dealer transactions, the investor will be “induced" not to take his stock certificate, particularly by those broker-dealers who become members of depositories. If this be so then this legislation will be misused to accomplish the immediate transition to a certificateless society. In reality the selling investor will give up his certificate for cancellation and the buying investor will be "induced” to leave his stock with his broker. So the "street" will be able, unless specifically regulated, to effect by indirection what obviously is not intended by your proposed legislation. This is similar to the use of tax loophole laws for benefits beyond which they were intended at the time of passage.

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