On February 20, 2003, the SEC adopted Regulation AC requiring that brokers, dealers and certain associated persons include
in research reports certifications by the research analyst that (1) the views expressed in the report accurately reflect his
or her personal views and (2) that the analyst did or did not, as the case may be, receive compensation or other payments
in connection with his or her specific recommendations or views.
[fn1] Broker-dealers would also be required to obtain quarterly certifications by research analysts in connection with the analyst's
public appearances. Other than the obligations to provide these certifications, Regulation AC does not impose substantive
requirements on broker-dealers regarding the contents of their research reports or the compensation of their research analysts.
Initially proposed prior to Congress' enactment of the Sarbanes-Oxley Act of 2002 (the "Act"), Regulation AC partially implements
Section 501 of the Act.
Timeline for Compliance
Regulation AC takes effect on April 14, 2003.
Required Certifications in Connection with Research Reports
Regulation AC (for "analyst certification") requires broker-dealers and certain other "covered persons" that provide research
reports to include in those research reports:
- a certification by the research analyst that the research report accurately reflects the analyst's personal views about the
subject securities and issuers; and
- a certification by the research analyst either:
- that no part of his or her compensation was, is or will be directly or indirectly related to the specific recommendations
or views contained in the research report; or
- that part or all of his or her compensation was, is or will be directly or indirectly related to the specific recommendations
or views contained in the research report.
If the analyst's compensation was, is or will be directly or indirectly related to the specific recommendations or views contained
in the research report, the statement must include the source, amount and purpose of the compensation and state that it may
influence the recommendation in the research report.
All certifications must be clear and prominent. Distribution by a broker-dealer of a report that fails to include a certification
that the information is an accurate reflection of the analyst's personal views would be a violation of the Securities Exchange
Act of 1934 (the "Exchange Act"). Similarly, distribution by a broker-dealer of a report that fails to include one of the
two alternative compensation certifications would be a violation of the Exchange Act.
The Regulation AC certification as to the analyst's personal views applies to summary ratings and recommendations as well
as the more fully elaborated analysis provided in the report. Thus, the analyst's certification could be rendered false if
the summary rating or recommendation contradicts the analysis because the analyst's certification covers both the analysis
as well as the rating. In addition, the SEC pointed out that, if the analysis contradicts the summary rating or recommendation,
the analyst and the firm could be in violation of the anti-fraud provisions of the federal securities laws.
Required Certifications in Connection with Public Appearances
Under Regulation AC, if a broker-dealer or certain "covered persons" provide research reports prepared by one of its research
analysts and the research analyst makes specific public appearances the broker-dealer must make a record, within 30 days after
the quarter in which the public appearance was made, that includes:
- A statement by the research analyst attesting that the views expressed by the research analyst in all public appearances during
the calendar quarter accurately reflected the research analyst's personal views at that time about any and all of the subject
securities or issuers; and
- A written statement by the research analyst certifying that no part of such research analyst's compensation was, is or will
be directly or indirectly related to any specific recommendations or views expressed in any such public appearance.
Regulation AC does not require that these certifications be provided
during the analysts' public appearances. However, failure to obtain these statements from the analyst within the required period
following the public appearance will obligate the broker-dealer to disclose, under Section 17 of the Exchange Act, that the
analyst did not provide the required certification.
The new regulation requires that the analyst or analysts primarily responsible for the preparation of the content of a research
report comply with the certification requirements. Certification by junior analysts is not necessary, though junior analysts
would be required to comply with the anti-fraud provisions of the federal securities laws.
Certain Definitions
Under Regulation AC, the phrase "research report" is defined as a written communication that includes an analysis of a security
or an issuer and provides information reasonably sufficient upon which to base an investment decision. According to the Release,
research reports include (1) research regarding debt securities as well as equity securities and (2) written communications
transmitted electronically.
Regulation AC applies to broker-dealers and certain "covered persons." The Release explains that the SEC seeks to focus on
research that appears most susceptible to pressures that may compromise its integrity. Consequently, Regulation AC defines
"covered person" as all associated persons of the broker-dealer[fn2] unless:
- the associated person shared no officers that could influence the activities of research analysts or the content of research
reports and written policies were maintained to preserve the independence of the research analysts; or
- the associated person is an investment adviser not required to be registered with the SEC.
The new rules include a narrow exception for foreign persons. Regulation AC will not apply to research analysts that (1) are
located outside of the U.S. and (2) are not associated with a registered broker-dealer that prepares and provides research
on foreign securities to major U.S. institutions in the U.S.
Regulation AC does not cover research prepared by a "third party research analyst." With respect to a covered person, a "third
party research analyst" is any research analyst not employed by the covered person, by the broker or dealer with whom that
covered person is associated or by any other associated person of the broker or dealer with whom that covered person is associated.
Also, the new rules do not apply to publishers of any newspaper, news magazine or business or financial publication in general
circulation that is not required to be registered with the SEC as a broker-dealer or investment adviser.
Regulation AC will not apply to investment advisers that are prohibited under the Investment Advisers Act of 1940 from registering
with the SEC as investment advisers and not otherwise registered or required to be registered as broker-dealers.
Conclusion
Unlike many of the regulations adopted by the SEC under the Act, the full impact Regulation AC on the U.S. securities markets
and on corporate issuers will not be immediately apparent. Regulation AC is a disclosure requirement, and it does not, strictly
speaking, require research analyst independence. In addition to Regulation AC, however, research analysts will need to comply
with the more stringent independence requirements of the NASD and the NYSE. As approaches to this new regulatory environment
evolve over time, research analysts, investment banks and corporate issuers may confront novel and perhaps competing concerns.
We are available to assist you with any questions you may have about Regulation AC and the impact it will have on your business
or any transaction in which you are involved.
Footnotes
1: See Release Nos. 33-8193, 34-47384 (the "Release").
2: The phrase "associated person of a broker or dealer" is defined in Exchange Act § 3(a)(18) as any partner, officer, director,
or branch manager of such broker or dealer (or any person occupying a similar status or performing similar functions), any
person directly or indirectly controlling, controlled by, or under common control with such broker or dealer, or any employee
of such broker or dealer, except that any person associated with a broker or dealer whose functions are solely clerical or
ministerial shall not be included in the meaning of such term for purposes of section 15(b) (other than paragraph (6) thereof).
