# Oversight of Credit Rating Agencies Registered as Nationally Recognized Statistical Rating Organizations

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URL: https://www.frixlaw.com/law-library/documents/fr%3AE7-11166

## Record

- **Collection:** Federal Register
- **Document type:** Rule
- **Published:** June 18, 2007
- **Citation:** 72 FR 33564

## Text

SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 240 and 249b
[Release No. 34-55857; File No. S7-04-07]
RIN 3235-AJ78
Oversight of Credit Rating Agencies Registered as Nationally Recognized Statistical Rating Organizations

AGENCY:

Securities and Exchange Commission (“Commission”).

ACTION:

Final rule.

SUMMARY:

The Commission is adopting rules to implement provisions of the Credit Rating Agency Reform Act of 2006 (the “Rating Agency Act”), enacted on September 29, 2006. The Rating Agency Act defines the term “nationally recognized statistical rating organization,” provides authority for the Commission to implement registration, recordkeeping, financial reporting, and oversight rules with respect to registered credit rating agencies, and directs the Commission to issue final implementing rules no later than 270 days after its enactment (or by June 26, 2007). The rule and form prescribing the process for a credit rating agency to apply for registration are immediately effective. The remaining rules are effective on June 26, 2007.

EFFECTIVE DATES:

June 18, 2007, except that §§ 240.17g-2, 240.17g-3, 240.17g-4, 240.17g-5, and 240.17g-6 are effective on June 26, 2007.

FOR FURTHER INFORMATION CONTACT:

Michael A. Macchiaroli, Associate Director, at (202) 551-5525; Thomas K. McGowan, Assistant Director, at (202) 551-5521; Randall W. Roy, Branch Chief, at (202) 551-5522; Rose Russo Wells, Attorney, at (202) 551-5527; Sheila D. Swartz, Attorney, at (202) 551-5545, Division of Market Regulation, Securities and Exchange Commission, 100 F Street, NE., Washington, DC 20549-6628.

SUPPLEMENTARY INFORMATION:

I. Background

The term
nationally recognized statistical rating organization
(“NRSRO”) is used in federal and state statutes and regulations to confer regulatory benefits or prescribe requirements based on credit ratings issued by credit rating agencies identified as NRSROs.
1

The process of identifying NRSROs has historically been undertaken by the Commission staff through the issuance of no-action letters where the staff has determined, among other things, that the credit rating agency is recognized nationally by the predominant users of credit ratings as issuing credible and reliable ratings.
2

The Rating Agency Act replaces the no-action letter process—which has been criticized as lacking transparency—with a registration program and Commission oversight of credit rating agencies that choose to be treated as NRSROs.

1

See, e.g.
, federal statutes: 15 U.S.C. 78c(a)(41) (defining the term “mortgage related security”); 15 U.S.C. 78c(a)(53)(A) (defining the term “small business related security”); 15 U.S.C. 80a-6(a)(5)(A)(iv)(I) (exempting certain companies from the provisions of the Investment Company Act of 1940”); Gramm-Leach-Bliley Act, Pub. L. No. 106-102 (1999); Transportation Equity Act for the 21st Century, Pub. L. No. 105-178 (1998); Reigle Community Development and Regulatory Improvement Act of 1994, Pub. L. No. 103-325 (1994); Department of Commerce, Justice, and State, The Judiciary, and Related Agencies Appropriations Act, FY2001, Pub. L. No. 106-553 (2000); Higher Education Amendments of 1992, Pub. L. No. 102-325 (1992); Housing and Community Development Act of 1992, Pub. L. No. 102-550 (1992); Federal Deposit Insurance Corporation Improvement Act of 1991, Pub. L. No. 102-242 (1991); and Financial Institutions Reform, Recovery, and Enforcement Act of 1989, Pub. L. No. 101-72 (1989); Commission rules: 17 CFR 228.10(e), 229.10(c), 230.134(a)(14), 230.436(g), 239.13, 239.32, 239.33, 240.3a1-1(b)(3), 240.10b-10(a)(8), 240.15c3-1(c)(2)(vi)(E), (F), and (H), 240.15c3-1a(b)(1)(i)(C), 240.15c3-1f(d), 240.15c3-3a, Item 14, Note G, 242.101(c)(2), 242.102(d), 242.300(k)(3) and (l)(3), 270.2a-7(a)(10), 270.3a-7(a)(2), 270.5b-3(c), and 270.10f-3(a)(3); and state rule: Cal. Ins. Code 1192.10.

2

See
letter from Nelson S. Kibler, Assistant Director, Division of Market Regulation, Commission, to John T. Anderson, Esquire, of Lord, Bissell & Brook, on behalf of Duff & Phelps, Inc. (February 24, 1982); letter from Michael A. Macchiaroli, Assistant Director, Division of Market Regulation, Commission, to Paul McCarthy, President, McCarthy, Crisanti & Maffei, Inc. (September 13, 1983); letter from Michael A. Macchiaroli, Assistant Director, Division of Market Regulation, Commission, to Robin Monro-Davies, President, IBCA Limited (November 27, 1990); letter from Michael A. Macchiaroli, Assistant Director, Division of Market Regulation, Commission, to David L. Lloyd, Jr., Dewey Ballentine, Bushby, Palmer & Wood (October 1, 1990); letter from Michael A. Macchiaroli, Assistant Director, Division of Market Regulation, Commission, to Gregory A. Root, President, Thomson BankWatch, Inc. (August 6, 1991); letter from Michael A. Macchiaroli Assistant Director, Division of Market Regulation, Commission, to Lee Pickard, Pickard and Djinis LLP (January 25, 1999); letter from Annette L. Nazareth, Director, Division of Market Regulation, Commission, to Mari-Anne Pisarri, Pickard and Djinis LLP (February 24, 2003); letter from Mark M. Attar, Special Counsel, Division of Market Regulation, Commission, to Arthur Snyder, President, A.M. Best Company, Inc. (March 3, 2005); letter from Erik R. Sirri, Director, Division of Market Regulation, Commission, to Neal E. Sullivan, Bingham McCutchen LLP (May 21, 2007); letter from Erik R. Sirri, Director, Division of Market Regulation, Commission, to Yoshihiro Saito, Perkins Coie LLP (May 23, 2007).

The Rating Agency Act implements the program for NRSRO registration and oversight by adding definitions to Section 3 of the Securities Exchange Act of 1934 (“Exchange Act”),
3

creating a new Section 15E of the Exchange Act,
4

and amending Section 17 of the Exchange Act.
5

Under these new statutory provisions, a credit rating agency seeking to be treated as an NRSRO must apply for, and be granted, registration with the Commission, make public in its application certain information to help persons assess its credibility, and implement procedures to manage the handling of material nonpublic information and conflicts of interest. In addition, the Rating Agency Act provides the Commission with rulemaking authority to prescribe: the form of the application (including requiring the furnishing of additional information); the records an NRSRO must make and retain; the financial reports an NRSRO must furnish to the Commission on a periodic basis; the specific procedures an NRSRO must implement to manage the handling of material nonpublic information; the conflicts of interest an NRSRO must manage or avoid altogether; and the practices that an NRSRO must not engage in if the Commission determines they are unfair, coercive, or abusive.

3
15 U.S.C. 78c.

4
15 U.S.C. 78o-7.

5
15 U.S.C. 78q.

II. Timing of Final Rules

On February 2, 2007, the Commission proposed a package of rules pursuant to these grants of rulemaking authority.
6

The rules published today incorporate many of the proposed provisions but also include significant revisions based on the comments received.
7

The Commission, in adopting these rules today, intends that Rule 17g-1 (17 CFR 240.17g-1), Form NRSRO, and 17 CFR 249b.300 be issued in final form and be effective on the date of their publication in the
Federal Register
. The Commission further intends that Rules 17g-2 (17 CFR 240.17g-2), 17g-3 (17 CFR 240.17g-3), 17g-4 (17 CFR 240.17g-4), 17g-5 (17 CFR 240.17g-5), and 17g-6 (17 CFR 240.17g-6) be issued in final form on June 26, 2007 and become effective on that date.

6

See
Exchange Act Release No. 55231 (February 2, 2007), 72 FR 6378 (February 9, 2007) (“Proposing Release”).

7
These comments are available on the Commission's Internet Web site, located at
http://www.sec.gov/comments/s7-04-07/s70407.shtml,
and in the Commission's Public Reference Room in its Washington, DC headquarters.

III. Effective Date

Section 553(d) of the Administrative Procedure Act generally provides that, unless an exception applies, a substantive rule may not be made effective less than 30 days after notice of the rule has been published in the

Federal Register
.
8

One exception to the 30-day requirement is an agency's finding of good cause for providing a shorter effective date.
9

8
5 U.S.C. 553(d).

9

Id.

The Rating Agency Act provides that the new program for NRSRO registration and oversight shall apply on the earlier of the date on which regulations are issued in final form under Section 15E(n) of the Exchange Act, or 270 days after the enactment of the Rating Agency Act, which will be June 26, 2007.
10

The Rating Agency Act voids existing Commission staff no-action letters on and after the effective date of the new program for NRSRO registration and oversight, but creates a transitional measure allowing credit rating agencies with existing no-action letters to continue to act as NRSROs “during Commission consideration of the application, if such entity has furnished an application for registration.”
11

Consequently, as noted above, the Commission intends that Rule 17g-1 and Form NRSRO be effective immediately upon publication. Further, the Commission intends that the remaining rules, Rule 17g-2 through Rule 17g-6, be effective on June 26, 2007, the statutory deadline.

10
15 U.S.C. 78o-7(p).

11
15 U.S.C. 78o-7(l).

Immediate effectiveness of Form NRSRO and Rule 17g-1 is necessary to allow credit rating agencies that are currently the subject of staff no-action letters identifying them as NRSROs to have a period of time to submit applications for registration as NRSROs before the provisions of the Rating Agency Act and the recordkeeping, reporting, and conduct rules issued under the Rating Agency Act become effective, and thus before the no-action letters become void. This will avoid a gap in time when no NRSROs exist, which would disrupt the regulatory use of that term in applicable statutes and regulations, resulting in uncertainty in the marketplace for all persons that rely upon credit ratings issued by NRSROs. Further, this result would be inconsistent with Congressional intent in creating the transitional measure. Finally, the accelerated effectiveness for the remaining rules, Rule 17g-2 through Rule 17g-6, is necessary to meet the statutory deadline.

The primary purpose of the 30-day delayed effectiveness requirement is to give affected parties a reasonable period of time to adjust to the new rules. Here, the existing NRSROs would not be harmed by immediate effectiveness, and would in fact benefit from the opportunity to utilize the transitional measure Congress provided. Further, an entity would not be required to comply with Rule 17g-2 through Rule 17g-6 until its voluntary registration has been approved.

The Commission acted expeditiously in proposing and adopting these rules under a very tight, statutorily-imposed deadline. The Rating Agency Act was enacted on September 29, 2006. Just over four months later, on February 2, 2007, the Commission voted to propose the new rules and form, which were designed to comply with the statutory mandate to establish an entirely new regulatory regime for NRSROs. The Commission voted to adopt these rules and Form NRSRO on May 23, 2007, over a month before the statutory deadline. In doing so, the Commission carefully responded to industry, user, and investor perspectives to ease the transition to a new, Congressionally-created registration and regulatory scheme.

Failure to accelerate effectiveness of Rule 17g-1 through Rule 17g-6 and Form NRSRO could interfere with the goals of the Rating Agency Act. For these reasons, the Commission finds that good cause exists for Rule 17g-1 and Form NRSRO to be immediately effective upon publication, and for Rule 17g-2 through Rule 17g-6 to be effective on June 26, 2007.

IV. Review of Commission Rules

Section 15E(n)(2) of the Exchange Act requires the Commission to review its existing rules using the term “NRSRO” within 270 days of its enactment.
12

The statute further provides that the Commission shall amend or revise the rules in accordance with Section 15E(n)(2) of the Exchange Act.
13

The Commission has reviewed all of its rules using the term “NRSRO.” The Commission does not believe these rules need to be amended at this time. The term “NRSRO” in each rule will refer to an “NRSRO” as that term is defined in the Rating Agency Act when the statutory provisions become effective.
14

For example, Commission Rule 15c3-1 (the broker-dealer net capital rule) uses the term “nationally recognized statistical rating organization” to prescribe the amount a broker-dealer must haircut proprietary corporate debt securities when computing its regulatory capital.
15

The rule does not otherwise define the term “nationally recognized statistical rating organization.” Consequently, after the effective date of the NRSRO regulatory program, the term, as used in this rule, will refer to a credit rating agency that is an NRSRO as determined by the provisions of the Rating Agency Act.
16

12
15 U.S.C. 78o-7(n)(2).

13

Id.

14

See
Sections 3(a)(62) and 15E(l)(2) of the Exchange Act (15 U.S.C. 78c(a)(62) and 15 U.S.C. 78o-7(l)(2)).

15

See
17 CFR 240.15c3-1(c)(2)(vi)(F).

16

See
Sections 3(a)(62) and 15E(l)(2) of the Exchange Act (15 U.S.C. 78c(a)(62) and 15 U.S.C. 78o-7(l)(2)).

The Commission notes that several commenters raised potential concerns about how other Commission rules may operate after the NRSRO registration and oversight program takes effect.
17

These commenters suggested that requirements in Rule 2a-7
18

under the Investment Company Act of 1940,
19

which regulates the operation of money market funds, may need to be modified depending on the number of credit rating agencies that become registered as NRSROs.
20

For example, one commenter noted that Rule 2a-7(c)(6)(i)(A)(2) requires a money market fund to re-assess the minimal credit risk of its portfolio whenever it becomes aware that any unrated or second tier security held by the fund has been given a credit rating by any NRSRO below the NRSRO's second highest category.
21

Another commenter noted that Rule 2a-7 prescribes that money market funds determine whether a security is eligible for purchase based on whether it has received a credit rating in one of the two highest categories from any NRSRO.
22

This commenter was concerned that this might lead to money market funds filling portfolios that most NRSROs consider third tier.
23

One of the these commenters also expressed concern that the proposal did not require that an NRSRO have a particular number of credit rating categories or that the categories of one NRSRO might not correspond to those of another NRSRO.
24

Based on the uncertainty of how many credit rating agencies ultimately will register as NRSROs, the Commission intends to monitor for now how the NRSRO regulatory program impacts Rule 2a-7 and the Commission's other rules using the term “NRSRO.” As the program develops, the

Commission will evaluate whether modifications to these rules would be appropriate.

17

See
letter dated March 12, 2007 from Elizabeth Krentzman, General Counsel, Investment Company Institute (“ICI Letter”); letter dated March 12, 2007 from Stephen A. Keen, Attorney, on behalf of Federated Investors, Inc. (“FI Letter”); letter dated April 4, 2007 from Charles S. Morrison, Senior Vice President and Money Market Group Leader, Fidelity Management and Research Company (“FMRC Letter”).

18
17 CFR 270.2a-7.

19
15 U.S.C. 80a-1
et seq.

20

See
ICI Letter; FI Letter; FMRC Letter.

21

See
FI Letter.

22

See
FMRC Letter.

23

Id.

24

See
FI Letter.

V. The Final Rules

A. Rule 17g-1—Registration Requirements

The Rating Agency Act, through the enactment of new Section 15E of the Exchange Act, provides the Commission with rulemaking authority with respect to the process for applying for registration as an NRSRO, keeping an NRSRO registration current, and withdrawing an NRSRO registration.
25

The Commission proposed to implement its rulemaking authority in these areas through a new rule, Rule 17g-1. The provisions of proposed Rule 17g-1 would have prescribed: How a credit rating agency must apply to be registered as an NRSRO; the form of the application; how an NRSRO must make non-confidential information in the application public; how an NRSRO must apply to be registered in an additional class of credit ratings; how an NRSRO must update its application; how an NRSRO must annually certify that the information and documents in its registration continue to be accurate; and how an NRSRO must provide notice of the withdrawal of its registration.

25
15 U.S.C. 78o-7.

As discussed below, the Commission is adopting Rule 17g-1 with certain modifications that address issues raised by commenters, restructure the order of the paragraphs, and remove text that was unnecessary. Any textual changes not specifically discussed are non-substantive and designed to make the rule text more cohesive and consistent both within the rule and across the other NRSRO rules published today.

1. Paragraph (a) of Rule 17g-1

As adopted, paragraph (a) of Rule 17g-1 provides that a credit rating agency applying to register with the Commission as an NRSRO must furnish an application on Form NRSRO. Section 15E(a)(1)(A) of the Exchange Act provides that a credit rating agency applying for registration must furnish the Commission with an application in a form prescribed by Commission rule.
26

Paragraph (a) of Rule 17g-1, as proposed, similarly provided that a credit rating agency applying to be registered with the Commission as an NRSRO must furnish the Commission with an application on Form NRSRO that follows all instructions for the Form. The Commission did not receive any comments on the proposed rule text of this paragraph and is adopting it substantially as proposed with one modification. Specifically, there is no longer a reference in the text to the “credit ratings described in section 3(a)(62)(B) of the [Exchange] Act (15 U.S.C. 78c(a)(62)).” This reference to a component of the statutory definition of “NRSRO” in the proposed rule was redundant and unnecessary. A credit rating agency, by statutory definition, must apply to be registered in one or more of the classes of credit ratings identified in section 3(a)(62)(B) of the Exchange Act.
27

26
15 U.S.C. 78o-7(a)(1)(A).

27

See
15 U.S.C. 78c(a)(62).

2. Paragraph (b) of Rule 17g-1

As adopted, paragraph (b) of Rule 17g-1 provides a mechanism for an NRSRO registered for fewer than the five classes of credit ratings identified in the definition of NRSRO to apply to be registered in an additional class.
28

Specifically, the NRSRO must apply by furnishing an amendment on Form NRSRO.
29

This provision was proposed in paragraph (e) of Rule 17g-1.

28

See
15 U.S.C. 78c(3)(a)(62)(B).

29
This provision further implements Section 15E(a)(1) of the Exchange Act, which requires the Commission, by rule, to prescribe the form of an application for registration (15 U.S.C. 78o-7(a)(1)).

Section 15E(a)(1)(B) of the Exchange Act, prescribes certain minimum information the credit rating agency must provide in its application for registration as an NRSRO.
30

This includes information regarding the classes of credit ratings set forth in the definition of “NRSRO” in Section 3(a)(62)(B) of the Exchange Act with respect to which the credit rating agency “intends to apply for registration.”
31

A credit rating agency may apply to be registered for fewer than all five classes of credit ratings described in Section 3(a)(62)(B) of the Exchange Act.
32

Accordingly, this provision provides a mechanism for an NRSRO to apply to be registered in an additional class.
33

30
15 U.S.C. 78o-7(a)(1)(B).

31

See
Section 15E(a)(1)(B)(vii) of the Exchange Act (15 U.S.C. 78o-7(a)(1)(B)(vii)).

32
15 U.S.C. 78c(a)(62)(B).

33
This provision further implements Section 15E(a)(1) of the Exchange Act, which requires the Commission, by rule, to prescribe the form of an application for registration (15 U.S.C. 78o-7(a)(1)).

The application to register for an additional class will be subject to the requirements in Section 15E of the Exchange Act
34

applicable to an application to be registered as an NRSRO. This means the time periods for the Commission to act on the application set forth in Sections 15E(a)(2)(A) and (B) of the Exchange Act also will apply to an application to be registered in an additional class of credit ratings.
35

34
15 U.S.C. 78o-7.

35
15 U.S.C. 78o-7(a)(2)(A) and (B).

Finally, the provisions of paragraphs (c) and (h) respectively, regarding the requirement to notify the Commission and amend the application prior to final Commission action and when an application is deemed to have been furnished to the Commission also apply to these applications.

The Commission did not receive any comments on these provisions. The Commission is adopting them substantially as proposed with several technical modifications. The rule text is modified to delete language instructing the NRSRO to indicate where appropriate on the form the additional class of credit ratings for which it is applying for registration. In its place, the rule text provides that the NRSRO must follow all applicable instructions for the Form, which include an instruction to indicate where appropriate on the Form the additional class of credit ratings for which registration is sought. The Commission is adopting the provision with the modifications discussed above.

3. Paragraph (c) of Rule 17g-1

As adopted, paragraph (c) of Rule 17g-1 provides that an applicant for registration and an NRSRO applying to be registered in an additional class of credit ratings must promptly furnish the Commission with a notice if information in the application becomes, or is found to be, materially inaccurate before the Commission has granted or denied the application. Thereafter, the applicant will be required to update the application with complete and accurate information by submitting an amended application on Form NRSRO.
36

36
This provision is being implemented under the Commission's authority in Section 15E(a)(1)(A) of the Exchange Act to prescribe the form of the application (15 U.S.C. 78o-7(a)(1)(A)).

These provisions were proposed in paragraphs (c) and (e) of Rule 17g-1 for initial applicants and for NRSROs applying to be registered in an additional class of credit ratings, respectively. The notification provision is designed to alert the Commission as soon as possible that the application under consideration is materially inaccurate. The intent is to avoid situations where the Commission continues to review an application that is no longer materially accurate. The Commission has modified Form NRSRO to further clarify how a pending application should be updated using Form NRSRO. Specifically, the Form now has a check box for “Application Supplement” and specific instructions

about how to complete the Form in this instance. The Commission did not receive any comments on these provisions and is adopting them with the modifications discussed above.

4. Paragraph (d) of Rule 17g-1

As adopted, paragraph (d) of Rule 17g-1 provides a mechanism for an entity that has applied to be registered as an NRSRO, or an NRSRO that has applied to be registered in an additional class of credit ratings, to withdraw the registration application before the Commission takes final action on the application.
37

Specifically, it requires the applicant to furnish the Commission with a written notice of withdrawal executed by a duly authorized person.

37
The withdrawal of a granted registration is discussed separately below.

The application provisions were proposed in paragraphs (b)(2) and (e) of Rule 17g-1 for initial applicants and for applications to be registered in an additional class of credit ratings, respectively. The requirement for execution by a duly authorized person is designed to ensure that the withdrawal notice reflects the intent of the credit rating agency. The Commission did not receive any comments on these provisions and is adopting them substantially as proposed.

5. Paragraph (e) of Rule 17g-1

As adopted, paragraph (e) of Rule 17g-1 provides that an NRSRO updating its application for registration pursuant to Section 15E(b)(1) of the Exchange Act
38

must promptly furnish the amendment to the Commission on Form NRSRO.
39

Section 15E(b)(1) of the Exchange Act requires an NRSRO to promptly update its application for registration if, after registration, any information or document provided as part of the application becomes materially inaccurate.
40

The statute further provides that the information on credit ratings performance statistics (discussed below) must only be updated on an annual basis and that the certifications from qualified institutional buyers (QIBs), discussed below, are not required to be updated.
41

This provision was proposed in paragraph (f) of Rule 17g-1.

38
15 U.S.C. 78o-7(b)(1).

39
The Commission is implementing this provision under Section 15E(a)(1) of the Exchange Act (15 U.S.C. 78o-7(a)(1)), which requires the Commission, by rule, to prescribe the form of an application for registration.

40
15 U.S.C. 78o-7(b)(1).

41

Id.

The Commission has added in the instructions to Form NRSRO a description of this statutory requirement as a means to alert NRSROs that they must promptly update information or a document submitted on or with their Form NRSRO that has become materially inaccurate.

The Commission is not defining the term “promptly” as used in Section 15E(b)(1) of the Exchange Act.
42

The Commission, however, did express its view in the proposing release that meeting the statutory requirement to update a registration when information becomes materially inaccurate should not take more than two days. In response, five commenters stated that it would be unreasonable to expect an NRSRO to submit an amendment in two days.
43

Three commenters proposed that the Commission define the term “promptly” to mean 10 days.
44

One commenter suggested 20 days.
45

Another commenter suggested the Commission use a facts and circumstances standard for determining whether an amendment was “promptly” furnished.
46

The Commission agrees that the analysis of whether an amendment is furnished promptly will depend on the facts and circumstances. For example, if an NRSRO changes its principal business address, it should not take more than a few days to complete Form NRSRO (inputting the new information), have the Form executed, and furnish the Form to the Commission. On the other hand, it may take a few days longer to complete the Form if the information or documents in an Exhibit become materially inaccurate.

42

Id.

43

See
letter dated March 12, 2007 from William G. Connolly, on behalf of A.M. Best Company, Inc. (“A.M. Best Letter”); letter dated March 12, 2007 from Yasuhiro Harada, President, Ratings & Investment Information (“R&I Letter”); letter dated March 12, 2007 from Jeanne M. Dering, Executive Vice President, Moody's Investors Services (“Moody's Letter”); letter dated March 12, 2007 from Kent Wideman, Group Managing Director, and Mary Keogh, Managing Director, Dominion Bond Rating Service (“DBRS Letter”); letter dated March 12, 2007 from Charles D. Brown, General Counsel, Fitch Ratings (“Fitch Letter”).

44

See
R&I Letter; A.M. Best Letter; and Fitch Letter.

45

See
Moody's Letter.

46

See
DBRS Letter.

One commenter also stated that the rule should require an update of the registration application only when the information in the current registration application becomes “materially inaccurate.”
47

In response, the Commission notes that the requirement to update an application arises from Section 15E(b)(1) of the Exchange Act, which provides, in pertinent part, that an NRSRO shall promptly update its application for registration “if any information or document provided therein becomes materially inaccurate.”
48

As noted above, the instructions to Form NRSRO have been modified to include a description of this statutory provision.

47

See
Moody's Letter.

48
15 U.S.C. 78o-7(b)(1).

In all other respects, the Commission is adopting the provision substantially as proposed.

6. Paragraph (f) of Rule 17g-1

As adopted, paragraph (f) of Rule 17g-1 provides that an NRSRO updating its application for registration pursuant to Section 15E(b)(2) of the Exchange Act
49

(the annual certification) must furnish the amendment to the Commission on Form NRSRO.
50

Section 15E(b)(2) of the Exchange Act requires an NRSRO to furnish the Commission with an amendment to its registration not later than 90 days after the end of each calendar year.
51

This section further provides that the amendment must (1) certify that the information and documents provided in the application for registration (except the QIB certifications) continue to be accurate and (2) list any material change to the information and documents during the previous calendar year.
52

49
15 U.S.C. 78o-7(b)(2).

50
The Commission is implementing this provision under Section 15E(b)(2) of the Exchange Act (15 U.S.C. 78o-7(b)(2)), which requires the Commission, by rule, to prescribe the form of the annual certification.

51
15 U.S.C. 78o-7(b)(2).

52

Id.

This provision was proposed in paragraph (g) of Rule 17g-1. A commenter suggested that the proposed provision should be revised to permit the filing of the annual certification within 90 days after the end of an NRSRO's fiscal year (if different than the end of the calendar year).
53

However, as noted, the calendar year requirement is statutory. The instructions to Form NRSRO have been modified from those proposed to include a description of this statutory provision. In all other respects, the Commission is adopting the provision substantially as proposed.

53

See
Fitch Letter.

7. Paragraph (g) of Rule 17g-1

As adopted, paragraph (g) of Rule 17g-1 provides that an NRSRO withdrawing its registration pursuant to Section 15E(e)(1) of the Exchange Act
54

must furnish the Commission with a notice of withdrawal on Form NRSRO. The rule further provides that the withdrawal becomes effective 45

calendar days after the furnishing of the form. Section 15E(e)(1) of the Exchange Act
55

provides that an NRSRO may withdraw from registration, subject to such terms and conditions the Commission may establish as necessary in the public interest or for the protection of investors, by furnishing the Commission with a written notice of withdrawal.
56

The rule text references this statutory standard.

54
15 U.S.C. 78o-7(e)(1).

55

Id.

56

Id.

This provision was proposed in paragraph (h) of Rule 17g-1 without specifying the form of the notice or the conditions for withdrawal. A commenter suggested that the withdrawal provision be modified to provide that the withdrawal of the registration becomes effective within 90 days of the notice and that the notice be provided through an amendment to registration furnished on Form NRSRO.
57

The Commission did note in the proposing release that the conditions for withdrawal potentially could include a requirement that the NRSRO provide public notice that its credit ratings will cease to be eligible for regulatory use.

57

See
Moody's Letter.

The Commission agrees with the commenter that the notice should be furnished on Form NRSRO. This provides for public notice of the withdrawal, since the current Form NRSRO must be made publicly available pursuant to Section 15E(a)(3) of the Exchange Act
58

and Rule 17g-1(i) discussed below. The Commission also agrees with the commenter that in the normal course an NRSRO's withdrawal of registration should become effective within a prescribed time period. This will provide a degree of certainty to the NRSRO as to when it will no longer be subject to the Commission's regulatory program. It also will be consistent with withdrawal requests by certain other regulated entities. For example, a broker-dealer's request for withdrawal of its registration becomes effective within 60 days of the filing of the appropriate form.
59

The Commission also believes users of credit ratings should have adequate prior notice of an NRSRO's intent to withdraw its application. This will give them notice that they will no longer be able to rely on the entity's credit ratings to meet statutory or regulatory requirements using the term “NRSRO.” It also will provide them with notice that the entity will no longer be subject to the Commission's oversight, including requirements to disclose information about its performance, methodologies, procedures, and organization.

58
15 U.S.C. 78o-7(a)(3).

59

See
17 CFR 240.15b6-1.

The Commission believes the 45 calendar day time period for the withdrawal to become effective is necessary in the public interest or for the protection of investors for several reasons. First, as discussed below, pursuant to paragraph (i) of Rule 17g-1, an NRSRO must make its current Form NRSRO publicly available within 10 business days of being furnished to the Commission. Consequently, notice of an NRSRO's withdrawal will be made publicly available at least 30 calendar days before becoming effective. This notice will provide users of credit ratings with time to prepare for the NRSRO's withdrawal. Second, subject to certain limited exceptions, an entity acting as a “broker” or “dealer” as defined in Sections 3(a)(4) and (5) of the Exchange Act
60

respectively must register with the Commission.
61

Conversely, an entity may act as a “credit rating agency” as defined in Section 3(a)(61) of the Exchange Act
62

without being required to register with the Commission. In this sense, registration as an NRSRO is more voluntary than registration as a broker-dealer. Therefore, a shorter time period to withdraw an NRSRO registration is appropriate.

60
15 U.S.C. 78c(a)(4) and (5).

61

See
Section 15 of the Exchange Act (15 U.S.C. 78o).

62
15 U.S.C. 78c(a)(61).

Form NRSRO has been modified to include a checkbox to indicate when the Form is being furnished to withdraw a registration and the instructions for the Form have been modified from those proposed to include an explanation of how to complete the Form in this case. Specifically, an NRSRO would complete each Item on the Form, except Item 6, and have the Form executed.

For these reasons, the Commission is adopting the provision in Rule 17g-1 concerning a withdrawal of registration with the modifications described above.

8. Paragraph (h) of Rule 17g-1

As adopted, paragraph (h) of Rule 17g-1 provides that a Form NRSRO submitted to the Commission pursuant to any provision in Rule 17g-1 will be deemed furnished to the Commission on the date that the Commission receives a complete and properly executed Form NRSRO that follows all applicable instructions for the form.
63

The requirement for completeness comports with the requirements imposed on other types of registrants under the Exchange Act.
64

In addition, Section15E(a)(2)(A) of the Exchange Act requires the Commission to grant an application for registration as an NRSRO or commence proceedings on whether to deny the application within 90 days from the date the application is furnished to the Commission or a longer period if the applicant consents.
65

Further, if proceedings are commenced, Section 15E(a)(2)(B) of the Exchange Act
66

requires the Commission to conclude them within 120 days of the date the application is furnished to the Commission.
67

These statutory requirements make it necessary for the Commission to receive a complete initial application before the 90-day and 120-day periods begin to run.

63
This provision is adopted under the Commission's authority in Section 15E(a)(1)(A) of the Exchange Act to prescribe the form of the application (15 U.S.C. 78o-7(a)(1)(A)).

64

See, e.g.
, 17 CFR 240.15b1-1 and 17 CFR 240.15b3-1 (broker-dealers); 17 CFR 240.15Ba2-1 (municipal securities dealers); 17 CFR 240.17Ab2-1 (clearing agencies); and 17 CFR 240.17Ac2-1 (transfer agents).

65
15 U.S.C. 78o-7(a)(2)(A).

66
15 U.S.C. 78o-7(a)(2)(B).

67
Under Section 15E(a)(2)(B)(iii) of the Exchange Act, the Commission can extend this period for an additional 90 days for good cause or for such other period as the applicant consents (15 U.S.C. 78o-7(a)(2)(B)(iii)). An applicant will be required to consent to extend both the period for the Commission to make the initial determination and the 120-day period to conclude proceedings; since the 120-day period begins when the application is furnished to the Commission, not when the Commission determines to commence proceedings.

Rule 17g-1, as proposed, explicitly applied the standard described above for when a Form NRSRO would be deemed “furnished” for submissions of the Form to apply for registration and to add a class of credit ratings to an existing registration. The Commission did not receive any comments on these provisions as proposed.

Rule 17g-1, as adopted, clarifies that the “when furnished” standard also applies to furnishings of Form NRSRO to update a registration, make the annual certification, and withdraw a registration. As discussed above, amendments to update materially inaccurate information must be furnished promptly, annual certifications must be furnished within 90 days of the end of the calendar year, and withdrawals of registration become effective in 45 calendar days. Therefore, a Form NRSRO submitted for these purposes will be deemed “furnished” upon the submission of a complete and properly executed form.

Rule 17g-1(h), as adopted, contains a provision stating that the Commission will, to the extent permitted by law, keep confidential information that is furnished on a confidential basis and requested to be kept confidential. As in

any situation where a person wishes to obtain confidential treatment for information provided to the Commission, an applicant and NRSRO must comply with the requirements of the Exchange Act governing confidential treatment.
68

This provision has been added to highlight for credit rating agencies and NRSROs the fact that information required by Form NRSRO includes information that will be furnished “on a confidential basis.”
69

Some of the information to be furnished to the Commission “on a confidential basis” in the Form is required by Section 15E(a)(1)(B) of the Exchange Act,
70

and the Commission will consider requests for confidential treatment for that information. In addition, certain other information also is required in the Form and it may be appropriate for the Commission to provide confidential treatment to some of this information. The Commission will evaluate all requests for confidential treatment under the existing rules governing confidential treatment for information furnished to the Commission.
71

68

See, e.g.
, Section 24 of the Exchange Act (15 U.S.C. 78x), 17 CFR 240.24b-2, 17 CFR 200.80 and 17 CFR 200.83.

69

See, e.g.
, Section 15E(a)(1)(B)(viii) of the Exchange Act.

70

See
Sections 15E(a)(1)(B)(viii) and (ix) of the Exchange Act (15 U.S.C. 78o-7(a)(1)(B)(viii) and (ix)).

71

See
17 CFR 200.80 and 17 CFR 200.83.

For these reasons, the Commission is adopting the provision in Rule 17g-1 concerning when a Form NRSRO will be deemed to have been furnished with the modifications described above.

9. Paragraph (i) of Rule 17g-1

As modified, paragraph (i) of Rule 17g-1 requires that an NRSRO make its current Form NRSRO and information and documents submitted in Exhibits 1 though 9 publicly available within 10 business days of being granted an initial registration or registration in an additional class of credit ratings and within 10 business days of furnishing an update to amend information on the form, to provide the annual certification, and to withdraw a registration. Section 15E(a)(3) of the Exchange Act provides that the Commission, by rule, shall require an NRSRO, after registration, to make the information submitted in its application and any amendments publicly available on its Web site or through another comparable, readily accessible means.
72

The 10 business day period is intended to provide the NRSRO with sufficient time to make the information public and designed to ensure that users of credit ratings have access to the information within a reasonably short timeframe.

72
15 U.S.C. 78o-7(a)(3).

This provision was proposed in paragraph (d) of Rule 17g-1, except that the time period to make the information publicly available was proposed to be five business days. The Commission received three comments on the five business day time period. Two commenters stated that five business days was not enough time to make their application information publicly available, given the volume of information.
73

They commented that the time period should be 15 and 20 business days, respectively.
74

The third commenter stated that the five business day time period should not be lengthened as the information is an important way for users of credit ratings to become familiar with a new NRSRO.
75

73

See
DBRS Letter; Fitch Letter.

74

See
Fitch Letter and DBRS Letter, respectively.

75

See
ICI Letter.

The Commission agrees with the third commenter that making the information publicly available as soon as possible will be an important means for users of credit ratings to understand the methodologies, procedures, and business models of new NRSROs. At the same time, the Commission agrees with the two other commenters that larger more complex NRSROs could have substantial amounts of information in their applications, which may make it difficult to provide all this information in a publicly available format in five business days. Therefore, the Commission is lengthening the time period to ten business days. This is shorter than the 15 and 20 day periods advocated by the two commenters. However, as discussed below, Form NRSRO has been modified in ways that reduce the volume of information that must be made publicly available. Consequently, the Commission believes 10 business days will be a sufficient amount of time.

Finally, while Section 15E(a)(3) of the Exchange Act
76

does not address whether an application to register as an NRSRO shall be made publicly available prior to registration, this type of information typically would be made available by the Commission to members of the public before the application is acted on by the Commission.
77

Two commenters, both current NRSROs, stated that the Commission should not make information in the application available to the public until after registration was granted.
78

The Commission notes that an applicant can seek confidential treatment for information in the application under existing laws and rules governing confidential treatment.
79

The Commission will accord this information confidential treatment to the extent permitted by law. This is consistent with how the Commission treats applications of other entities.

76
15 U.S.C. 78o-7(a)(3).

77

See
17 CFR 200.80(b)(4) and 17 CFR 200.80a. 17 CFR 200.80a contains a compilation of records generally available at the public reference room in the principal office of the Commission, including, for example, applications for registration as a broker-dealer or investment adviser.

78

See
DBRS Letter; A.M. Best Letter.

79

See
17 CFR 200.80 and 17 CFR 200.83.

B. Form NRSRO

The Commission proposed Form NRSRO to serve four functions: For a credit rating agency to apply for registration as an NRSRO; for an NRSRO to apply to be registered in an additional class of credit ratings; for an NRSRO to update public information required to be disclosed and kept accurate on the Form; and for an NRSRO to make an annual certification. Proposed instructions for the Form described how an applicant, and after registration, an NRSRO, should complete the Form in each of these circumstances.

The Commission believes that having just one form (and one set of instructions) will reduce the burden on applicants, NRSROs, and Commission staff. For example, it will reduce the complexity of having different forms for the application, amendments, and annual certification. Using one form also will allow NRSROs to more quickly become familiar with the Form and its instructions, which will reduce the potential for making mistakes in completing the Form. It also will assist users of credit ratings in understanding the Form and public Exhibits and where to look on the Form for specific information.

As discussed below, the Commission is adopting Form NRSRO with substantial modifications that address issues commenters raised and allow the Form to be used to furnish a notice of withdrawal of registration. Much of the information elicited in the Form is required to be submitted to the Commission pursuant to Section 15E(a)(1)(B) of the Exchange Act.
80

The Commission, under authority in Section 15E(a)(1)(B)(x), is requiring certain additional information.
81

The Commission believes this additional information elicited in the Form is necessary or appropriate in the public

interest or for the protection of investors because, as discussed below, it will: (1) Assist the Commission in making the findings required in Section 15E(a)(2)(C) of the Exchange Act with respect to whether an applicant should be granted registration as an NRSRO;
82

(2) assist the Commission in making the findings required in Section 15E(d) of the Exchange with respect to whether the Commission should censure, place limitations on the activities, functions or operations of, suspend for a period not exceeding 12 months, or revoke the registration of an NRSRO;
83

(3) assist the Commission in reviewing whether an NRSRO is complying with Section 15E of the Exchange Act
84

and the Commission's rules thereunder; and (4) provide users of credit ratings with information that will assist them in comparing NRSROs and understanding how a given NRSRO conducts its activities.

80
15 U.S.C. 78o-7(a)(1)(B).

81
15 U.S.C. 78o-7(a)(1)(B)(x).

82
15 U.S.C. 78o-7(a)(2)(C).

83
15 U.S.C. 78o-7(d).

84
15 U.S.C. 78o-7.

1. Checkboxes Indicating Nature of Submission

The first entry an applicant or NRSRO must make on Form NRSRO is to indicate, by checking the appropriate box, the reason the form is being furnished: To apply for registration as an NRSRO; to apply to be registered in an additional class of credit ratings; to supplement either type of application while the application is pending; to update public information on the Form that has become materially inaccurate; to make the annual certification; and to provide notice of a withdrawal of registration. If the Form is furnished to supplement an application or update a registration, the NRSRO also must identify by number the specific items or Exhibits on the form that are being supplemented or amended. For example, if the NRSRO is furnishing an update to its registration because its address and organizational structure have changed, the NRSRO is required to enter “Item 1C” and “Exhibit 4” in the appropriate field on the Form. The Form, as proposed, required a brief description of the nature of the amendment. This requirement has been eliminated to simplify the process of completing the Form.

The Commission also has added two checkboxes that were not on the proposed version of the Form. The first new checkbox—“Application Supplement”—is for when a credit rating agency applying for registration as an NRSRO or an NRSRO applying to be registered in an additional class of credit ratings must furnish an amendment to its application because information submitted in the application is or has become materially inaccurate. As proposed, an NRSRO would have checked the more generic “Amendment” checkbox. The Commission added a separate checkbox to distinguish amendments relating to a pending application from other amendments, which will make the reason for the furnishing of the Form more transparent.

Second, the Commission added a checkbox to indicate when the Form is being furnished to withdraw a registration in light of the change to Rule 17g-1 requiring the notice of withdrawal to be furnished on Form NRSRO.

2. Item 1 (Identifying Information)

As adopted, Item 1 requires an applicant and NRSRO to enter on to Form NRSRO identifying information about itself and its contact person. The instructions for Form NRSRO provide that the individual listed as the contact person must be authorized to receive all communications and papers from the Commission and will be responsible for their dissemination within the NRSRO. One commenter suggested that Item 1 require the telephone number, fax, and email address of the contact person.
85

The Commission elicits the telephone number for broker-dealer contact persons.
86

The number of NRSROs will be substantially smaller than the number of registered broker-dealers. The Commission believes at this time it will be able to easily obtain the contact information for the contact person without the necessity of having the information disclosed on the Form.

85

See
DBRS Letter.

86

See
Form BD—Uniform Application for Broker-Dealer Registration.

The instructions to Item 1 of Form NRSRO indicate that the name entered on Line A of Item 1 must be the “person” that is applying for registration or registered as the NRSRO. The instructions further clarify through the definition of “person” that a separately identifiable department or division of a corporation or company may be registered as an NRSRO. This clarification had been made because certain credit rating agencies provide their credit rating services through operating divisions that may be a part of a larger legal entity or encompass several different legal entities located throughout the world.
87

In an effort to more narrowly tailor the requirements for registration, the Commission believes it is appropriate in these circumstances to permit the operating division to register as the NRSRO as opposed to the larger legal entity that may engage in activities not intended to be regulated under the Rating Agency Act. Similarly, the Commission believes it is appropriate that the registered operating division include each separate legal entity that provides credit rating services, provided the operating division treats the credit ratings of the separate legal entities as its own and has global procedures, methodologies, policies, and controls that apply to the separate legal entities.

87

See, e.g.
, letter dated March 12, 2007 from Vickie A. Tillman, Executive Vice President, Standard & Poors (“S&P Letter”); DBRS Letter; Fitch Letter; Moody's Letter.

The instructions to Form NRSRO now include a definition of “separately identifiable department or division” that is designed with these goals in mind.
88

The first component of the definition is that the operating division must be a unit of a corporation or company that is under the direct supervision of an officer or officers designated by the board of directors of the corporation as responsible for the day-to-day conduct of the corporation's credit rating activities for one or more affiliates, including the supervision of all employees engaged in the performance of such activities. The second component of the definition is that all of the records relating to the operating division's credit rating activities must be separately created or maintained in or extractable from its own facilities or the facilities of the corporation, and such records must be maintained or otherwise accessible to permit independent examination for, and enforcement by, the Commission of Section 15E of the Exchange Act
89

and rules and regulations promulgated thereunder.

88

See
15 U.S.C. 80b-2 for a similar definition of separately identifiable departments or divisions of banks.

89
15 U.S.C. 78o-7.

In all other respects, Item 1 to Form NRSRO is being adopted substantially as proposed.

3. Certification

The applicant or NRSRO must have a duly authorized individual execute a certification that the information and statements furnished in the Form NRSRO are accurate in all significant respects. The Commission added the “in all significant respects” language to the certification in response to comments that the certification, as proposed, could have been construed to hold the certifying individual to an unrealistic standard of having to ensure the Form

did not include even trivial inaccuracies.
90

The additional language is intended to allay these concerns. In light of this new language, the instructions for the Form now clarify that the Chief Executive Officer or the President of the applicant or NRSRO, or an individual with similar responsibilities, must execute the certification. This is designed to ensure that the person executing the certification has responsibilities that will make the person aware of the basis for the information being provided in the form.

90

See
Letter dated March 26, 2007 from Vickie A. Tillman, Executive Vice President, Standard & Poors (“S&P 2nd Letter”); Moody's Letter.

In all other respects, the language of the certification is being adopted substantially as proposed.

4. Item 2 (Legal Status, Place of Formation, Fiscal Year End)

As adopted, Item 2 requires an applicant and NRSRO to enter on to Form NRSRO information about its legal status (for example, corporation or partnership), the place and date of its formation, and its fiscal year end. The information with respect to the fiscal year end of the applicant or NRSRO is relevant because Form NRSRO requires applicants to submit audited financial statements with the application and Rule 17g-3 requires NRSROs to annually furnish the Commission with audited financial statements covering the previous fiscal year. The Commission did not receive any comments on this provision and is adopting it substantially as proposed.

5. Item 3 (Credit Rating Affiliates)

As discussed above, commenters with global operations stated that a credit rating agency with separate legal entities in different countries should be able to include them in a single NRSRO registration.
91

The Commission agrees that permitting a single registration is appropriate in that it will lessen the burden of having a parent company register multiple legal entities that make up the parent company's credit rating division. Consequently, an applicant with affiliates that would be, or an NRSRO with affiliates that are, a part of its registered separately identifiable department or division must identify and provide the address of each such affiliate. The instructions to Form NRSRO clarify that any credit rating issued by a credit rating affiliate will be considered a credit rating issued by the NRSRO for purposes of Section 15E of the Exchange Act
92

and the regulations thereunder. For example, the provisions in Rule 17g-5 with respect to issuing or maintaining credit ratings while having certain conflicts of interest will apply.

91

See
DBRS Letter; Fitch Letter.

92
15 U.S.C. 78o-7.

The instructions also provide that an applicant and NRSRO in completing Form NRSRO must incorporate information about the credit ratings, methodologies, procedures, policies, financial condition, results of operations, and organizational structure of each credit rating affiliate identified in Item 3 in the other items and Exhibits. For example, the description of the procedures and methodologies for determining credit ratings in Exhibit 2 must include the procedures and methodologies used by the credit rating affiliates.

For these reasons, the Commission is adopting Item 3 to Form NRSRO as described above.

6. Item 4 (Compliance Officer)

As adopted, Item 4 requires an applicant and NRSRO to provide the name and address of its designated compliance officer required under Section 15E(j) of the Exchange Act.
93

This person is responsible for administering the policies and procedures of the credit rating agency to prevent the misuse of nonpublic information, to manage conflicts of interest, and to ensure compliance with the securities laws and the rules and regulations under those laws. The Commission did not receive any comments on this provision and is adopting it substantially as proposed.

93
15 U.S.C. 78o-7(j).

7. Item 5 (Method of Making Form and Exhibits Publicly Available)

As adopted, Item 5 requires an applicant and NRSRO to describe how it will make, or makes, its current Form NRSRO and Exhibits 1 through 9 publicly available pursuant to Section 15E(a)(3) of the Exchange Act
94

and Rule 17g-1(i) thereunder. As discussed above, paragraph (i) of Rule 17g-1 is being adopted under Section 15E(a)(3) of the Exchange Act, which provides that the Commission shall, by rule, require an NRSRO, upon the granting of its registration, to make the information submitted to the Commission in the initial application, amendments, or annual certifications publicly available on the NRSRO's Web site or through another comparable, readily accessible means.
95

As discussed above, paragraph (i) of Rule 17g-1 requires an NRSRO to make its current Form NRSRO and Exhibits 1 through 9 publicly available within 10 business days after the date of the Commission order granting an initial application and an application to be registered in an additional class of credit ratings and within 10 business days after furnishing the Commission with an amendment on Form NRSRO (including an annual certification and withdrawal of registration). This information elicited in Item 5 will assist the Commission in reviewing whether the NRSRO is complying with this requirement and assist the public in locating the information.

94
15 U.S.C. 78o-7(a)(3).

95

Id.

The Commission did not receive any comments on this provision and is adopting it substantially as proposed.

8. Item 6 (Classes of Credit Ratings for Which Registration Is Sought and QIB Certifications)

An applicant for registration as an NRSRO or an NRSRO applying to add another class of credit ratings to its registration must complete Item 6 of Form NRSRO. This item elicits information about the classes of credit ratings for which the applicant is applying to be registered. It also requires the applicant to attach the requisite number of QIB certifications (two for each class of credit rating for which registration is sought and at least 10 with an initial application).

Item 6 elicits the approximate number of credit ratings issued in each class as of the application date. Commenters objected to the requirement to provide the number of credit ratings in a particular class because it could make it more difficult for new entrants to obtain business.
96

The Commission believes that users of credit ratings will find this information useful in understanding an NRSRO. For example, it will provide information as to how broad an NRSRO's coverage is with respect to issuers and obligors within a particular class of credit ratings.

96

See, e.g.
, A.M. Best Letter.

Item 6 also elicits the date the applicant first began issuing credit ratings in that class on a continuous basis without interruption. The Form, as proposed, required the applicant to provide the number of years it has been issuing credit ratings on a continuous basis. One commenter suggested that an NRSRO be required to provide the date of first issuance, instead of the number of years, to avoid the necessity of having to frequently update the information.
97

The Commission agrees with the commenter that this will make the information submitted on the Form less subject to change and reduce the

requirement to, and burden of, updating the Form. Consequently, the Commission has modified Items 6 and 7 accordingly. The information on how long an NRSRO has issued credit ratings in a particular class will assist users of credit ratings in assessing the NRSRO's level of experience.
98

Section 15E(a)(1)(C) of the Exchange Act also requires that the QIB certifications include a representation that the QIB has used the credit ratings of the applicant in the class of credit ratings for at least the three years immediately preceding the date of the application. The instructions provide that an applicant cannot tack on periods when a credit rating affiliate issued credit ratings in the particular class if the entity was not an affiliate during that time period. This provision is designed to avoid the submission of misleading information by providing that only credit ratings issued by, or on behalf of, the NRSRO are used in determining the start date.

97

See
letter dated March 8, 2007 from Majorie E. Gross (“Gross Letter”).

98
Because Item 7, discussed below, will not be filled out when the NRSRO applies for registration, it will remain blank for a period of time between the granting of an initial registration and the time when the NRSRO furnishes a new Form NRSRO either as an amendment or annual certification. Item 6, however, will have been filled out as part of the application for registration. This item requires the same information as Item 7. Therefore, users of credit ratings will have the access to the information through Item 6 until the NRSRO furnishes an annual certification. Thereafter, the information will be located in Item 7 and updated annually with each new annual certification.

Item 6 also elicits a brief description of how the credit rating agency issues its credit ratings on the Internet or through another readily accessible means, for free or for a reasonable fee. The Commission will use this information to review whether the applicant is in the business of issuing credit ratings on the Internet or through another readily accessible means, for free or for a reasonable fee.
99

The Rating Agency Act does not define “readily accessible.” The information about how an applicant issues credit ratings on the Internet or through another readily accessible means, for free or for a reasonable fee also will inform the public about where and, if applicable, the cost to access an NRSRO's credit ratings.

99
Section 3(a)(61)(A) of the Exchange Act (15 U.S.C. 78c(a)(61)(A)).

Further, the Rating Agency Act does not define “reasonable fee.” In the proposing release, the Commission sought comment on whether it should define “reasonable fee.” In response, four commenters stated that the Commission should not in any way regulate the fees an NRSRO charges for its credit ratings.
100

The Commission has determined not to define “reasonable fee” at this time in order to gain experience on the issue. Item 6 is designed to assist the Commission in gaining this experience.

100

See
letter dated March 12, 2007 from Cate Long, Multiple Markets (“MM Letter”); letter dated March 12, 2007 from Lawrence J. White, Professor of Economics, Stern School of Business (“White Letter”); Letter dated March 12, 2007 from Alex J. Pollack, Resident Fellow, American Enterprise Institute (“AEI Letter”); Gross Letter.

One commenter stated that Item 6, as proposed, does not elicit information that would be helpful in understanding the fees charged for obtaining or accessing credit ratings.
101

The Commission notes that, to the extent that several NRSROs indicate that they make their credit ratings available for free, the Commission will have assurance that regulatory users have ready access to NRSRO credit ratings. However, the Commission believes the form should elicit more information about fees so that the information will be disclosed to users of credit ratings. This will improve price transparency, which may lead to greater competition. Accordingly, the instructions for Item 6 and Item 7 now provide that an applicant that charges a fee for accessing its credit ratings must describe the fee or include a fee schedule in the form.

101

See
Gross Letter.

Finally, Item 6 requires the applicant to provide the QIB certifications mandated pursuant to Section 15E(a)(1)(B)(ix) of the Exchange Act.
102

Under this provision, an applicant must submit a minimum of ten QIB certifications. An NRSRO will not be required to make the QIB certifications publicly available pursuant to Section 15E(a)(3) of the Exchange Act
103

and Rule 17g-1(i) thereunder or update them after registration.
104

Sections 15E(a)(1)(C)(i), (ii), and (iii) further provide, respectively, that: (1) The certifying QIB must not be affiliated with the applicant; (2) the certification may address more than one of the categories of obligors identified in the definition of NRSRO; and (3) at least two of the certifications must address each category of obligor.
105

Section 15E(a)(1)(C)(iv) provides that the QIB must state in the certification that it meets the definition of a “QIB” in Section 3(a)(64) of the Exchange Act
106

and that the QIB has used the credit ratings of the applicant for at least three years immediately preceding the date of the application in the subject category or categories of obligors.
107

The Senate report (“Senate Report”) accompanying the Rating Agency Act explained that the term “used” was intended to mean the QIB “seriously considered the ratings in some of [its] investment decisions.”
108

The Senate Report further explained that “a QIB whose analysts regularly read and consider [a credit rating agency's] ratings in the course of making investment decisions would have “used” them under the meaning of the bill.”
109

The required representation for the QIB certification is that the QIB “has seriously considered the credit ratings of [the credit rating agency] in the course of making some of its investment decisions for at least the three years immediately preceding the date of this certification, in the following classes of credit ratings.” In addition, as a measure designed to ensure the impartiality of the QIB's representation, the QIB must certify that it has not received compensation for providing the certification.

102
15 U.S.C. 78o-7(a)(1)(B)(ix).

103
15 U.S.C. 78o-7(a)(3).

104
An applicant can request that this information be kept confidential to the extent permitted by law.
See
17 CFR 200.80 and 17 CFR 200.83.

105

See
15 U.S.C. 78o-7(a)(1)(C)(i), (ii) and (iii), respectively.

106
15 U.S.C. 78c(a)(64).

107
15 U.S.C. 78o-7(a)(1)(C)(iv).

108

See Report of the Senate Committee on Banking, Housing, and Urban Affairs to Accompany S. 3850,
Credit Rating Agency Reform Act of 2006, S. Report No. 109-326, 109th Cong., 2d Sess. (Sept. 6, 2006) (“Senate Report”). The Senate Report further explained that a QIB whose employees subscribe to or regularly receive the ratings but do not read them or, if they read them, rarely or never consider them in making their investment decisions would not be deemed to have ‘used’ the ratings.”

109

Id
(emphasis added).

The certification must be executed by a person duly authorized by the QIB to make the certification on behalf of the QIB. This is designed to ensure that the certification is that of the QIB and not an employee of the QIB who may have an interest (distinct from that of the QIB) in providing the certification to the applicant. The form of the certification now requires that the printed name and title of the person be provided under the signature. This will clarify the identity and level of responsibility of the person executing the certification.

The Commission did not receive any comments on the form of the QIB certification and is adopting it substantially as proposed with the two modifications described above.

Item 6 of proposed Form NRSRO also requires the applicant to indicate whether it is submitting the QIB certifications and, if so, how many certifications are being submitted or that the applicant is exempt from the requirement to provide the certifications. Under Section 15E(a)(1)(D) of the Exchange Act, a

credit rating agency is not required to submit the QIB certifications if it was identified as an NRSRO in a Commission staff no-action letter issued before August 2, 2006.
110

110
15 U.S.C. 78o-7(a)(1)(D).

For these reasons, the Commission is adopting Item 6 with the modifications discussed above.

9. Item 7 (Classes of Credit Ratings Covered by Current Registration)

As adopted, Item 7 requires an NRSRO to provide information about the classes of credit ratings for which the NRSRO is currently registered, the approximate number of credit ratings issued in each class as of the previous calendar year end, and the date the NRSRO first issued credit ratings in that class on a continuous basis. The NRSRO also must provide information about how the NRSRO makes its credit ratings readily accessible. Item 7 has been modified from the proposed form to make the information provided in the item less subject to change, which will reduce the frequency of having to furnish updated information. Specifically, as discussed above, the number of years the NRSRO has issued credit ratings in a particular class is now indicated by having the NRSRO provide the date it first issued credit ratings in that class. As proposed, the NRSRO would have had to provide the number of years it had issued credit ratings in that class, which would constantly change with the advance of time. Also, the number of credit ratings issued in a particular class is now as of the end of the previous calendar year. Therefore, this information will change once a year and only be required to be updated on an annual basis. The instructions to the Form provide that this update can be made with the annual certification and within the 90-day time period for providing the annual certification.

10. Item 8 (Potential Statutory Disqualifications)

An applicant and NRSRO will be required to disclose, if applicable, if it or any person within its credit rating organization have been, or are, subject to certain legal judgments or orders, or regulatory findings. As explained in the proposing release, Section 15E(a)(2)(C)(ii)(II) of the Exchange Act
111

directs the Commission to deny a credit rating agency's application for registration as an NRSRO if the Commission finds that the applicant, if granted registration, would be subject to suspension or revocation of its registration under Section 15E(d) of the Exchange Act.
112

Section 15E(d) of the Exchange Act
113

provides that the Commission, by order, shall censure, place limitations on the activities, functions, or operations of, suspend for a period not exceeding 12 months, or revoke the registration of an NRSRO, if the Commission finds that the NRSRO or a person associated with the NRSRO has committed or omitted any act, or is subject to an order or finding enumerated in Sections 15(b)(4)(A), (D), (E), (G), or (H) of the Exchange Act,
114

has been convicted of any offense specified in Section 15(b)(4)(B) of the Exchange Act,
115

or is enjoined from any action, conduct, or practice specified in Section 15(b)(4)(C) of the Exchange Act.
116

The Commission also can take these actions if the NRSRO or a person associated with the NRSRO has been convicted of any crime punishable by imprisonment for 1 or more years that is not described in Section 15(b)(4)(B) of the Exchange Act
117

or a substantially equivalent crime in a foreign court of competent jurisdiction, or if a person associated with the NRSRO is subject to any order of the Commission barring or suspending the right of the person to be associated with an NRSRO.
118

Item 8 of Form NRSRO requires an applicant or NRSRO to answer whether the applicant or the NRSRO or any person within their credit rating organizations, is subject to these acts, convictions, or orders described in Section 15E(d) of the Exchange Act.
119

111
15 U.S.C. 78o-7(a)(2)(C)(ii)(II).

112
15 U.S.C. 78o-7(d).

113

Id.

114
15 U.S.C. 78o(b)(4)(A), (D), (E), (G) and (H).

115
15 U.S.C. 78o(b)(4).

116
15 U.S.C. 78o(b)(4)(C).

117
15 U.S.C. 78o(b)(4)(B).

118
15 U.S.C. 78o-7(d).

119

Id.

If an applicant answers “yes” to a question, the credit rating agency is required to provide additional information on a Disclosure Reporting Page (DRP) NRSRO as set forth in the instructions for Form NRSRO. An NRSRO will not be required to make the disclosure reporting pages publicly available pursuant to Section 15E(a)(3) of the Exchange Act
120

and Rule 17g-1(i) thereunder.
121

If an applicant answers “yes” to a question in Item 8, the Commission will use the disclosure reporting pages to evaluate whether the applicant's registration could be granted in light of the disclosure. After registration, if an NRSRO answers “yes” to one of the questions, the Commission will use the disclosure reporting pages to evaluate pursuant to the process under Section 15E(d) of the Exchange Act whether it would be appropriate to issue an order censuring, placing limitations on the activities, functions, or operations of, suspending for a period not exceeding 12 months, or revoking the registration of the NRSRO.
122

120
15 U.S.C. 78o-7(a)(3).

121
An applicant can request that this information be kept confidential to the extent permitted by law.
See
17 CFR 200.80 and 17 CFR 200.83.

122
15 U.S.C. 78o-7(d).

Two commenters stated that Item 8, as proposed, was overly broad because, in asking about any person “associated” with the applicant and NRSRO, it reached employees in areas of a large conglomerate that performed functions wholly unrelated to credit rating services.
123

The Commission notes that its authority under Sections 15E(a)(2)(C)(ii)(II)
124

and 15E(d)
125

of the Exchange Act can be triggered by legal judgments and orders, and regulatory findings involving persons “associated” with the applicant and NRSRO. In considering these comments, the Commission evaluated when a disclosure would be more likely to trigger Commission action. The Commission concluded that it would involve disclosures relating to the credit rating agency and the persons directly involved in providing or supporting credit rating services. Therefore, to lessen the burden on applicants and NRSROs, the Commission believes it is appropriate to narrow the scope of the disclosure requirement to “persons within the credit rating agency,” which the instructions define as the credit rating agency, any credit rating affiliates of the credit rating agency identified in Item 3, and any partner, officer, director, branch manager, or employee of the credit rating agency or credit rating affiliates (or any person occupying a similar status or performing similar functions).

123

See
S&P Letter; Moody's Letter.

124
15 U.S.C. 78o-7(a)(2)(C)(ii)(II).

125
15 U.S.C. 78o-7(d).

One commenter requested that the Commission clarify that the disclosures in Item 8 do not include disclosures relating to accusations or arrests.
126

The Commission notes that the disclosures are triggered by the provisions of Section 15E(d) of the Exchange Act,
127

which refers to convictions (not arrests or accusations). A second commenter suggested that the disclosure item not include the name of the individual.
128

The Commission believes it has reduced this concern, in part, by narrowing the disclosure item to persons within the credit rating agency and by providing

that the disclosure reporting pages are not required to be made publicly available pursuant to Section 15E(a)(3) of the Exchange Act
129

and Rule 17g-1(i).
130

The Commission believes the disclosure of the name of a person providing or supporting credit ratings services will be important as these persons may seek to associate with another NRSRO if they are terminated from or leave the reporting NRSRO. The Commission also notes that the events triggering an Item 8 disclosure generally are matters of public record (
e.g.
, convictions, regulatory orders) and, consequently, there may be a reduced expectation of confidentiality.

126

See
R&I Letter.

127
15 U.S.C. 78o-7(d).

128

See
A.M. Best Letter.

129
15 U.S.C. 78o-7(a)(3).

130
An applicant can request that this information be kept confidential to the extent permitted by law.
See
17 CFR 200.80 and 17 CFR 200.83.

Otherwise, Item 8 is being adopted substantially as proposed.

11. Exhibit 1 (Credit Ratings Performance Statistics)

Section 15E(a)(1)(B)(i) of the Exchange Act requires that an application for registration as an NRSRO contain credit ratings performance measurement statistics over short-term, mid-term, and long-term periods (as applicable).
131

An applicant and NRSRO will provide this information in Exhibit 1 to Form NRSRO. The Exchange Act does not otherwise define or identify the particular credit rating performance statistics to be provided with the application. Credit rating agencies typically generate statistical reports showing historical default and downgrade rates within each credit rating notch or grade.
132

These types of statistics are important indicators of the performance of a credit rating agency in terms of its ability to assess the creditworthiness of issuers and obligors and, consequently, will be useful to users of credit ratings in evaluating an NRSRO.

131
15 U.S.C. 78o-7(a)(1)(B)(i).

132
The credit rating categories of a credit rating agency generally are represented by symbols, numbers or other designations that are used to distinguish the creditworthiness of the obligors, securities and money market instruments the credit rating agency rates. For example, some credit rating agencies use symbols such as AAA, AA, A, BBB, BB, B, CCC, and CC to distinguish the creditworthiness of corporate debt securities. AAA would be the highest rating and CC would be the lowest rating above the default or regulatory supervision of the issuer.

The instructions to Form NRSRO provide that an applicant and NRSRO must include in the Exhibit definitions of the credit ratings (
i.e.
, an explanation of each category and notch) and explanations of the performance measurement statistics, including the metrics used to derive the statistics. One commenter requested that the Commission clarify the instruction with respect to explaining “the metrics used to derive the statistics.”
133

The intent is that the NRSRO explain in general terms how it calculates the default and downgrade rates. The Commission believes that requiring this information is necessary or appropriate in the public interest or for the protection of investors because it will assist users of credit ratings in understanding how the measurements were derived and in making comparisons with the measurement statistics of other NRSROs.
134

133

See
DBRS Letter.

134
Section 15E(a)(1)(B)(x) of the Exchange Act provides that the Commission can require additional information that it finds is necessary or appropriate in the public interest or for the protection of investors (15 U.S.C. 78o-7(a)(1)(B)(x)).

The definitions of the categories and notches will assist the Commission in assessing whether the NRSRO's credit ratings, as a practical matter, can be used for certain Commission rules. For example, paragraph(c)(2)(vi)(F) of Exchange Act Rule 15c3-1 specifies lower haircuts for debt securities that are rated in one of the “four highest rating categories” of at least two NRSROs.
135

This provision was designed based on the practice of many credit rating agencies to have at least eight categories for their debt securities with the top four commonly referred to as “investment grade.” If an NRSRO uses less than eight categories, the Commission will be required to evaluate whether, based on the NRSRO's definitions, securities included in the top four categories would be suitable for the lower haircuts specified in paragraph(c)(2)(vi)(F) of Rule 15c3-1.
136

135
17 CFR 240.15c3-1(c)(2)(vi)(F).

136

Id
.

The Commission requested comment on whether the performance measurement statistics should use standardized inputs, time horizons, and metrics to allow for greater comparability. This request elicited numerous comments.
137

Three commenters supported the use of standardized measures because it would make it easier to compare NRSROs.
138

A number of commenters opposed the use of standardized measures for several reasons, including that such measures would be impractical because credit rating agencies use different methodologies to determine credit ratings and different definitions of default and that the use of such measures could interfere with the methodologies for determining credit ratings.
139

In light of the varying approaches cited in the comments, the Commission is not prepared to prescribe standard metrics at this time. The Commission intends to continue to consider this issue to determine the feasibility, as well as the potential benefits and limitations, of devising measurements that would allow reliable comparisons of performance between NRSROs. As adopted, the Exhibit requires NRSROs to describe how they derive their statistics in sufficient detail to allow users of credit ratings to understand the measures. This will provide users with some basis to compare different NRSROs even if the statistics are not derived from similar measures.

137

See
letter dated March 12, 2007 from Richard M. Whiting, Executive Director and General Counsel, Financial Services Roundtable (“FSR Letter”); letter dated March 12, 2007 from Herwig M. Langohr, Professor, INSEAD Business School, Patricia T. Langohr, Professor, ESSEC Business School (“Langohr Letter”); letter dated March 22, 2007 from George P. Miller, Executive Director, American Securitization Forum (“ASF Letter”); letter dated March 16, 2007 from Makoto Utsumi, President & CEO, Ratings & Investment Information (“JCR 2nd Letter”); ICI Letter; Gross Letter; R&I Letter; MM Letter; White Letter; DBRS Letter; A.M. Best Letter; S&P Letter; AEI Letter; Moody's Letter.

138

See
Gross Letter; ICI Letter; JCR 2nd Letter.

139

See
,
e.g.
, R&I Letter; A.M Best Letter; S&P Letter; Moody's Letter; ASF Letter.

The Commission requested comment on whether other performance measurement statistics would be appropriate as an alternative, or in addition, to historical default and downgrade rates. For example, the Commission requested comment on whether Exhibit 1 should require measurement of the performance of a given credit rating by comparing or mapping it to the market value of the rated security or to extreme declines in the market value of the security after the rating. Although the Commission is not taking action in this regard at this time, the Commission intends to study these issues and consider possible future action.

For these reasons, Exhibit 1 to Form NRSRO and the instructions for the Exhibit are being adopted substantially as proposed.

12. Exhibit 2 (Procedures and Methodologies for Determining Credit Ratings)

Section 15E(a)(1)(B)(ii) of the Exchange Act requires that an application for registration as an NRSRO contain information regarding the procedures and methodologies used by the credit rating agency to determine credit ratings.
140

An applicant and NRSRO will provide this information in Exhibit 1 to Form NRSRO. The Exchange Act does not otherwise define

or identify the procedures and methodologies that must be provided under this section.
141

However, the definition of “credit rating agency” in Section 3(a)(61) of the Exchange Act provides that a “credit rating agency” is an entity that, among other things, “employ[s] either a quantitative or qualitative model, or both, to determine credit ratings.”
142

140
15 U.S.C. 78o-7(a)(1)(B)(ii).

141

See
15 U.S.C. 78a
et seq.

142

See
particularly, Section 3(a)(61)(B) of the Exchange Act (15 U.S.C. 78c(a)(61)(B)).

Credit rating agencies may establish procedures and methodologies for determining credit ratings in the following areas: The determination of whether to initiate a credit rating; the use of public and non-public sources of information to perform credit rating analysis, including information and analysis provided by third-party vendors; the use of quantitative and qualitative models and metrics to determine credit ratings; the interaction with the management of a rated obligor or issuer of rated securities; the establishment of the structure and voting process of committees that review or approve credit ratings; the notification of rated obligors or issuers of rated securities about credit rating decisions and for appeals of final or pending credit rating decisions; the monitoring, reviewing, and updating of credit ratings; and the withdrawal, or suspension of the maintenance, of a credit rating.

The list identifies areas where a credit rating agency may establish procedures and methodologies for determining credit ratings. The applicability of certain areas to a particular credit rating agency will depend on whether it uses subjective qualitative analysis, purely quantitative models, or a combination of both.
143

Consequently, a credit rating agency might not establish a procedure or methodology in a given area if doing so would not be relevant to how the credit rating agency determines credit ratings.

143

See
Section 3(a)(61) of the Exchange Act defining the term “credit rating agency” (15 U.S.C. 78c(a)(61)).

In addition, credit rating agencies that issue “unsolicited” credit ratings may establish procedures and methodologies in the areas described above that are unique for such ratings. Credit rating agencies that use a subscription fee based business model may only issue unsolicited ratings because that business model does not rely on fees charged issuers, obligors, and underwriters to determine specific credit ratings (issuers, obligors, and underwriters, however, may subscribe to receive the credit ratings of such credit rating agencies). The procedures and methodologies these credit rating agencies employ, in some respects, may be unique to this business model.

Credit rating agencies that are paid by issuers, obligors, and underwriters to determine specific credit ratings sometimes also issue unsolicited credit ratings. This practice has led to concerns that unsolicited ratings may be used to coerce issuers and obligors into ultimately paying the credit rating agency to determine and maintain the credit rating. Consequently, credit rating agencies that rely on fees from issuers, obligors, and underwriters to determine specific credit ratings, but also issue unsolicited ratings, often establish procedures and methodologies for determining unsolicited credit ratings that are designed to address this concern and the fact that the issuer or obligor may not have participated in the determination of the credit rating (as is most often the case with a solicited credit rating).

The Commission believes that the information about any procedures and methodologies established in the areas described above, including any with respect to unsolicited credit ratings, will be useful to users of credit ratings. The information will provide them with an understanding of the nature of the credit rating agency (
i.e.
, a user of quantitative models, qualitative analysis, or a combination of both) and how the credit rating agency produces credit ratings. This will provide a basis for comparing NRSROs.

Several commenters stated that the Exhibit should require that an applicant and NRSRO describe its procedures and methodologies rather than submit and disclose each actual procedure and methodology.
144

These commenters pointed out that large credit rating agencies that issue multiple types of credit ratings generally have volumes of detailed procedures that credit analysts must follow in the course of determining a credit rating.
145

They noted that disclosing all this information would be burdensome and could be difficult for users of credit ratings to parse.
146

They also noted that some of the procedures and methodologies may involve the use of proprietary models.
147

144

See
White Letter; DBRS Letter; A.M. Best Letter; Fitch Letter; Moody's Letter.

145

See
,
e.g.
, DBRS Letter; A.M. Best Letter; Fitch Letter; Moody's Letter.

146

Id
.

147

Id
.

The Commission agrees with these commenters that disclosing all the procedures could be burdensome and could result in an overload of information that would be less helpful to users of credit ratings. Therefore, the Commission has modified the instructions to require that the Exhibit contain a description of the procedures and methodologies (not the submission and disclosure of each actual procedure and methodology). The instructions provide that the description must be sufficiently detailed to provide users of credit ratings with an understanding of the processes the applicant or NRSRO employs to determine credit ratings.

As discussed below, rather than have a credit rating agency submit its procedures and methodologies in Exhibit 2, the Commission is adopting a requirement in Rule 17g-2 that an NRSRO must document them internally. Moving this requirement from Exhibit 2 to the recordkeeping rule is designed to reduce the burden on NRSROs, while making these procedures and methodologies available to Commission examination staff. These records are important to the Commission's oversight. For example, Rule 17g-6 prohibits, among other things, an NRSRO from issuing or modifying or threatening to issue or modify a credit rating contrary to the NRSRO's established procedures and methodologies. The Commission's ability to enforce this prohibition will depend on the Commission staff being able to access an NRSRO's documented procedures and methodologies.
148

148

See
letter dated March 12, 2007 from James A. Kaitz, President & CEO, Association for Financial Professionals (“AFP Letter”) stating the importance of monitoring whether an NRSRO adheres to its stated procedures and methodologies for determining credit ratings.

Two commenters also suggested changes to the Commission's description of an “unsolicited credit rating” in the proposed instructions to Form NRSRO as being a credit rating that is not requested by the issuer or underwriter of the rated securities or the rated obligor.
149

The commenters noted that issuers and obligors may consent to the issuance and participate in the determination of a credit rating even if they did not specifically request that the credit rating be issued. As discussed below, the Commission has eliminated the prohibition in Rule 17g-6 relating to unsolicited credit ratings, in part, because of difficulties with defining the term. Therefore, the Commission has removed the definition from the instructions to Exhibit 2. The Commission wants to gain a better understanding through its examination function of how credit rating agencies define “unsolicited credit ratings” and

the practices they employ with respect to these ratings.

149

See
A.M. Best Letter; Moody's Letter.

For these reasons, the Commission is adopting Exhibit 2 and the instructions for the Exhibit with the modifications described above.

13. Exhibit 3 (Procedures To Prevent the Misuse of Material Non-Public Information)

Section 15E(g)(1) of the Exchange Act
150

requires an NRSRO to establish, maintain, and enforce written policies and procedures to prevent the misuse of material, nonpublic information in violation of the Exchange Act.
151

Section 15E(g)(2) of the Exchange Act provides that the Commission shall adopt rules requiring an NRSRO to establish specific policies and procedures to prevent the misuse of material, nonpublic information.
152

As discussed below, Rule 17g-4 requires an NRSRO's policies and procedures established pursuant to Section 15E(g)(1) of the Exchange Act
153

to include certain specific types of procedures.

150
15 U.S.C. 78o-7(g)(1).

151
15 U.S.C. 78a
et seq.

152
15 U.S.C. 78o-7(g)(2).

153
15 U.S.C. 78o-7(g)(1).

Section 15E(a)(1)(B)(iii) of the Exchange Act
154

requires that an application for registration as an NRSRO contain information regarding policies or procedures adopted and implemented by the credit rating agency to prevent the misuse of material, nonpublic information in violation of Exchange Act
155

provisions and rules. An applicant and NRSRO will provide this information in Exhibit 3 to Form NRSRO. Specifically, Exhibit 3 requires a copy of the policies and procedures to prevent the misuse of material, nonpublic information established pursuant to Section 15E(g) of the Exchange Act
156

and Rule 17g-4.

154
15 U.S.C. 78o-7(a)(1)(B)(iii).

155
15 U.S.C. 78a
et seq.

156
15 U.S.C. 78o-7(g).

The Commission received two comments on this Exhibit, as proposed.
157

One commenter stated that the policies and procedures should not have to be made publicly available because they may contain proprietary information and disclosing them could hinder their effectiveness.
158

The Commission agrees that disclosing certain components of these policies and procedures could make it easier for persons to circumvent them. Therefore, the Commission has modified the instructions to provide that the applicant or NRSRO is not required to submit in the Exhibit any specific information in the policies and procedures that is proprietary or would diminish the effectiveness of the policies and procedures if such information is disclosed. The other commenter stated that the procedures should be disclosed on the NRSRO's Web site without further elaboration.
159

The Commission notes that Section 15E(a)(3) of the Exchange Act
160

and Rule 17g-1 thereunder require an NRSRO to make its Form NRSRO and Exhibits 1 through 9 publicly available by posting them on its Web site, or through another comparable, readily accessible means.

157

See
letter dated March 12, 2007 from Ayal Rosenthal (“Rosenthal Letter”); R&I Letter.

158

See
R&I Letter.

159

See
Rosenthal Letter.

160
15 U.S.C. 78o-7(a)(3).

For these reasons, the Commission is adopting Exhibit 3 and the instructions for the Exhibit with the modifications described above.

14. Exhibit 4 (Organizational Information)

Section 15E(a)(1)(B)(iv) of the Exchange Act requires that an application for registration as an NRSRO contain information regarding the organizational structure of the applicant.
161

An applicant and NRSRO will provide this information in Exhibit 4 to Form NRSRO. The Exchange Act does not otherwise define or identify the specific type of organizational information that must be provided under Section 15E(a)(1)(B)(iv) of the Exchange Act.
162

Companies typically create, as applicable, an organizational chart showing ultimate and sub-holding companies, subsidiaries, and material affiliates; an organizational chart showing divisions, departments, and business units within the entity; and an organizational chart showing the management structure and senior management reporting lines within the entity. Users of credit ratings will benefit from this information and, consequently, the Commission proposed that it be provided in this Exhibit. One commenter disagreed that users of credit ratings would find the information helpful in assessing or understanding the NRSRO.
163

For the reasons discussed below, the Commission continues to believe these three charts will be valuable to users of credit ratings and the Commission.

161
15 U.S.C. 78o-7(a)(1)(B)(iv).

162

Id. See also
, 15 U.S.C. 78a
et seq.

163

See
MM Letter.

The first required organizational chart will show the credit rating agency's ultimate and sub-holding companies, subsidiaries, and material affiliates, if applicable. This chart will reveal where potential conflicts of interest relating to the business activities of related companies might arise. Also, the fact that a credit rating agency has a holding company that potentially could provide financial support will be relevant to the Commission's evaluation of whether an applicant or NRSRO has adequate financial resources as required under the Exchange Act.
164

One commenter requested that the Commission define the term “material affiliate.”
165

At present, the Commission believes it is more appropriate to rely on the judgment of the credit rating agency to define its material affiliates, given that the size and complexity of NRSROs could vary widely.

164

See
Sections 15E(a)(2)(C) and 15E(d) of the Exchange Act (15 U.S.C. 78o-7(a)(2)(C) and (d)).

165

See
R&I Letter.

The second organizational chart will show the credit rating agency's divisions, departments, and business units, if applicable. This information will assist users of credit ratings and the Commission in understanding where potential conflicts of interest relating to ancillary business activities might arise.

The third organizational chart will show the credit rating agency's management structure and senior management reporting lines and include in the chart its designated compliance officer under Section 15E(j) of the Exchange Act.
166

The Commission will benefit from this chart as it will assist in evaluating whether an applicant and NRSRO has adequate managerial resources as required under the Exchange Act.
167

Users of credit ratings will be able to use this information to compare the managerial resources of different NRSROs.

166
15 U.S.C. 78o-7(j).

167

See
Sections 15E(a)(2)(C) and 15E(d) of the Exchange Act (15 U.S.C. 78o-7(a)(2)(C) and (d)).

Including the compliance officer in the chart will assist the Commission and users of credit ratings in understanding the degree of the compliance officer's independence from the business managers.
168

The compliance officer's reporting lines are relevant in assessing the integrity of the credit rating process of a particular NRSRO, since the officer is responsible for administering the credit rating agency's policies and procedures required by Sections 15E(g) and (h) of the Exchange Act
169

and for ensuring the NRSRO's compliance with the securities laws and rules and regulations thereunder.
170

In carrying

out these responsibilities, a compliance officer will be required to review activities overseen by senior business managers. The ability of the compliance officer to objectively review an area can be impacted by whether the officer reported to the senior manager responsible for the area. Thus, the relative independence of the compliance officer will be relevant in assessing the NRSRO's ability to ensure compliance with its policies and procedures.

168

See
Section 15E(a)(1)(B)(x) of the Exchange Act (15 U.S.C. 78o-7(a)(1)(B)(x)).

169
15 U.S.C. 78o-7(g) and (h).

170
Section 15E(j) of the Exchange Act (15 U.S.C. 78o-7(j)).

For these reasons, the Commission is adopting Exhibit 4 and the instructions for the Exhibit substantially as proposed.

15. Exhibit 5 (Code of Ethics)

Section 15E(a)(1)(B)(v) of the Exchange Act requires that an application for registration as an NRSRO disclose whether the applicant has a code of ethics in effect or an explanation of why the applicant has not established a code of ethics.
171

Exhibit 5 of Form NRSRO elicits this information by requiring an applicant and NRSRO to attach a copy of any established code of ethics or an explanation of why it does not have a code of ethics. The Commission believes the requirement to include a copy of any established code of ethics in the Exhibit is necessary or appropriate in the public interest or for the protection of investors. A statement that an NRSRO has a code of ethics but no further disclosure would not be particularly useful to users of credit ratings. They would not be able to review the code of ethics and use it as a means of comparing different NRSROs.

171
15 U.S.C. 78o-7(a)(1)(B)(v).

The Exchange Act does not otherwise define or identify the “code of ethics” that should be provided under Section 15E(a)(1)(B)(v).
172

The Commission believes each credit rating agency must have the flexibility to establish a code of ethics appropriate for its business model and organizational structure and, consequently, the Exhibit does not prescribe any specific elements that must be in the code of ethics, if any, furnished in this Exhibit.

172

Id
.

The Commission received several comments on this Exhibit.
173

Most addressed whether the Exhibit also should require the credit rating agency to disclose whether it complies with international principles and codes of conduct related to credit rating agencies.
174

One commenter suggested that the Exhibit not refer to a code of “ethics” but rather to a code of “conduct.”
175

Another commenter requested that the Exhibit not require the credit rating agency to “certify” that it is complying with international principles and codes of conduct because some principles permit an entity to comply or explain.

173

See
letter dated March 12, 2007 from John Grout, Policy and Technical Director, The Association of Corporate Treasurers (“AST Letter”); Gross Letter; DBRS Letter; S&P Letter; Moody's Letter; Langohr Letter; JCR 2nd Letter.

174
A number of these commenters endorsed a requirement that the credit rating agency disclose whether it has adopted a code of conduct consistent with the principles contained in the report:
Statement of Principles Regarding the Activities of Credit Rating Agencies
, Technical Committee, International Organization of Securities Commissions (“IOSCO”) (September 25, 2003).
See also Code of Conduct Fundamentals for Credit Rating Agencies
, Technical Committee of IOSCO (December 2004).

175

See
Moody's Letter.

The Commission reiterates that Exhibit 5 does not prescribe any requirements that must be in an NRSRO's code of ethics and that Section 15E(a)(1)(B)(v) of the Exchange Act does not require an NRSRO to have a code of ethics.
176

An applicant or NRSRO can submit a statement of why it does not have a code of ethics.
177

The Commission believes that the Exhibit should not require the inclusion of any particular type of code of conduct. It could be the case that the code of ethics provided by an applicant or NRSRO is part of a broader code of conduct. For the foregoing reasons, the Commission is adopting Exhibit 5 substantially as proposed.

176
15 U.S.C. 78o-7(a)(1)(B)(v).

177

Id
.

16. Exhibit 6 (Conflicts of Interest)

Section 15E(a)(1)(B)(vi) of the Exchange Act requires that an application for registration as an NRSRO contain information regarding any conflict of interest relating to the issuance of credit ratings by the applicant and NRSRO.
178

The Exchange Act does not otherwise define or identify the types of conflicts of interest that should be disclosed under Section 15E(a)(1)(B)(vi) of the Exchange Act.
179

Exhibit 6, as proposed, would have required an applicant and NRSRO to describe in general terms each type of conflict that arises, or may arise, from its business model and credit rating activities. Thus, if an NRSRO receives payment from issuers to rate their securities, the NRSRO would have been required to disclose that fact. It would not have had to make a disclosure each time it received payment from an issuer. The purpose of the proposed disclosure was to alert users of credit ratings to the NRSRO's business model (subscriber fee-based, issuer fee-based, or a combination of both), and to potential conflicts that arise from the business model.

178
15 U.S.C. 78o-7(a)(1)(B)(vi).

179

Id, see also
15 U.S.C. 78a
et seq.

The Commission continues to believe that disclosing the types of conflicts that arise from an NRSRO's business model will assist the Commission in evaluating whether an applicant has sufficient financial and managerial resources to comply with the procedures for managing conflicts of interest required under Section 15E(h) of the Exchange Act,
180

given the types of conflicts of interest identified by the applicant.
181

The information also will be useful to users of credit ratings in assessing an NRSRO by, for example, comparing the types of conflicts disclosed by the entity in Exhibit 6 with the procedures for managing conflicts of interest disclosed by the entity in Exhibit 7.

180
15 U.S.C. 78o-7(h).

181

See
Section 15E(a)(2)(C) Exchange Act (15 U.S.C. 78o-7(a)(2)(C)).

Exhibit 6 of Form NRSRO, as adopted, requires an applicant and NRSRO to provide a list describing in general terms the types of conflicts of interest that arise from its business activities. The instructions to the Exhibit have been modified to include a list of 10 different generic conflicts of interest that may apply to a credit rating agency based on its business model and activities. These conflicts were included in the proposed instructions as examples of conflicts. These are the types of conflicts that generally arise from the business of issuing credit ratings depending on the business model of the credit rating agency. The instructions further provide that the credit rating agency can use the descriptions provided in the instructions to identify an applicable conflict of interest and is not required to provide any further information. Thus, the credit rating agency can review each item on the list and determine whether it describes an applicable conflict. This modification is intended to make it simpler for the credit rating agency to create the Exhibit since it may rely on the language in the instructions to identify a conflict. A credit rating agency can choose to provide its own description of the conflict or further explanation to one of the descriptions in the instructions.

Several commenters raised concerns with the Commission's identification as a potential conflict the fact that a subscriber may use the entity's credit ratings for regulatory purposes.
182

They

argued that it would be impractical to determine how subscribers might be using their credit ratings.
183

The Commission did not intend to require NRSROs to actively monitor how their subscribers were using their credit ratings. Rather, the intent is to require NRSROs to disclose that subscribers, while they do not pay to have a credit rating issued, may have an interest in a specific credit rating. Therefore, the fact that they compensate the NRSRO could give rise to a conflict of interest. The instructions now describe the conflict as the fact that subscribers
may
use the credit ratings for regulatory purposes. This means that any credit rating agency that charges subscribers to access its credit ratings will be required to identify this conflict. The credit rating agency is not required to determine whether, or how, the subscribers are using the credit ratings to comply with statutes and regulations. The purpose of the disclosure is to alert users of credit ratings to the fact that the NRSRO's business model includes charging subscribers to access its credit ratings and that a subscriber may have an interest in a particular credit rating. For similar reasons, the Commission eliminated a provision in the instructions requiring the identification of associated persons that use credit ratings for regulatory purposes as this would have required an applicant and NRSRO to monitor how another legal entity was using its credit ratings.

182

See, e.g.
, DBRS Letter; S&P Letter.

183

Id
.

A commenter noted that subscribers who manage investment portfolios also may have an interest in a particular credit rating.
184

For example, such a subscriber may be limited to investing in debt securities that have investment grade credit ratings and, consequently, would be required to sell, perhaps at a loss, a debt security that is downgraded below investment grade. The Commission believes that, similar to regulatory users, this type of subscriber could raise a potential conflict of interest. Therefore, this type of conflict is specifically identified in the instructions to the Exhibit.

184

See
DBRS Letter.

The instructions to the Exhibit, as proposed, also required an NRSRO to identify a person associated with the NRSRO that underwrites securities or money market instruments that are subject to a credit rating of the NRSRO. This type of conflict is identified in Section 15E(h)(2)(D) of the Exchange Act.
185

The concerns raised by commenters with respect to monitoring how subscribers use their credit ratings also apply in this context. For example, the provision, as proposed, could be interpreted to require an NRSRO to monitor whether any person associated with the NRSRO is an “underwriter” as that term is defined in Section 2(a)(11) of the Securities Act of 1933.
186

The Commission believes this could impose a very difficult compliance standard in that it would involve continuous monitoring of the securities trading activities of associated persons and legal judgments as to whether they were acting as “underwriters” at any given moment.

185
15 U.S.C. 78o-7(h)(2)(D).

186
15 U.S.C. 77b(a)(11).

At the same time, the Commission believes that where there is a potential affiliation between an NRSRO and a securities underwriter that it is necessary or appropriate in the public interest or for the protection of investors to require it to be disclosed in this Exhibit. Specifically, an affiliation between an NRSRO and a broker or dealer that is in the business of underwriting securities would raise concerns that the NRSRO might be influenced by the affiliation to issue favorable credit ratings for these securities. The Commission further believes that disclosing this type of affiliation does not present the concerns discussed above since most persons associated with an NRSRO likely are not broker-dealers in the business of underwriting securities. Therefore, the NRSRO should be able to identify those associated persons. Further, the requirement to identify these persons is based on being affiliated with such an underwriter that
may
underwrite securities rated by the NRSRO. Thus, the NRSRO will not need to actively monitor whether it currently has rated such securities and update the Exhibit each time this changes. Consequently, the requirement to identify persons associated with the NRSRO that underwrite securities rated by the NRSRO has been narrowed to a requirement to identify any person associated with the NRSRO that is a broker or dealer in the business of underwriting securities or money market instruments.

Finally, the Commission notes that the Exhibit contains a catchall provision requiring the disclosure of any other material conflict of interest. Consequently, the additional conflict added to the instructions is expected to reduce the potential conflicts that must be disclosed under the catchall. With respect to the catchall, the instructions note that a “material” type of conflict will include one that the NRSRO has established specific policies and procedures to address.

For these reasons, the Commission is adopting Exhibit 6 and the instructions for the Exhibit with the modifications described above.

17. Exhibit 7 (Procedures To Manage Conflicts)

An applicant or NRSRO will be required to furnish in Exhibit 7 a copy of the written policies and procedures it establishes, maintains, and enforces to address and manage conflicts of interest pursuant to Section 15E(h) of the Exchange Act.
187

Requiring inclusion of these policies and procedures in the Form is necessary or appropriate in the public interest or for the protection of investors.
188

First, their disclosure will assist the Commission in monitoring whether an NRSRO is complying with Section 15E(h) of the Exchange Act.
189

Second, their disclosure will assist the Commission in evaluating whether an applicant or NRSRO has adequate financial and managerial resources to materially comply with Section 15E(h) of the Exchange Act.
190

Third, their disclosure will allow users of credit ratings to compare an NRSRO's policies and procedures for managing conflicts of interest with the types of conflicts disclosed in Exhibit 7.

187
15 U.S.C. 78o-7(h).

188

See
Section 15E(a)(1)(B)(x) of the Exchange Act (15 U.S.C. 78o-7(a)(1)(B)(x)).

189
15 U.S.C. 78o-7(h).

190

Id
.

One commenter stated that these policies and procedures should not have to be made publicly available because they may contain proprietary information and disclosing them could hinder their effectiveness.
191

As with the Exhibit 3 policies and procedures, the Commission has modified the instructions for this Exhibit to provide that the applicant or NRSRO is not required to submit in the Exhibit any specific information in the policies and procedures that is proprietary or would diminish the effectiveness of the policies and procedures if such information were disclosed.

191

See
R&I Letter.

For these reasons, the Commission is adopting Exhibit 7 and the instructions for the Exhibit with the modification described above.

18. Exhibit 8 (Credit Analyst Information)

Exhibit 8, as proposed, would have required an applicant and NRSRO to provide certain background information (
e.g.
, employment history and education) with respect to each credit analyst and credit analyst supervisor.

Consistent with its reasons for proposing this request, the Commission believes that the ability of a credit rating agency to assess the creditworthiness of an issuer and obligor depends on the competence of the personnel responsible for determining the entity's credit ratings. Further, the Commission believes that information about the responsibilities, experience, and employment history of the credit analysts and supervisors is necessary or appropriate in the public interest or for the protection of investors. The information will assist users of credit ratings in assessing the competence of an NRSRO's credit analysts and, thereby, provide a means for users to compare NRSROs. This information also will assist the Commission in evaluating whether the applicant has adequate managerial resources to consistently produce credit ratings with integrity and to materially comply with its procedures and methodologies.
192

192

See
Sections 15E(a)(2)(C) and (d) of the Exchange Act (15 U.S.C. 78o-7(a)(2)(C) and (d)).

The Commission received numerous comments on Exhibit 8 stating that the requirement to provide information on each credit analyst and credit analyst supervisor was unduly burdensome and unnecessary.
193

Several commenters suggested, as an alternative, that the Exhibit require general information about the education, qualifications, and number of the credit analysts and their supervisors.
194

After considering the comments and the potential burden associated with the proposed requirement, the Commission has modified the Exhibit to only require aggregate information about these employees. Consequently, the Exhibit, as adopted, requires the following information:

193

See
letter dated May 3, 2007 from Barron H. Putnam, Ph.D, Owner and Advisor, LACE Financial Corporation (“LACE Letter”); JCR Letter; R&I Letter; DBRS Letter; A.M. Best Letter; Fitch Letter; S&P Letter; AEI Letter; Moody's Letter.

194

See, e.g.
, DBRS Letter; A.M. Best Letter; Fitch Letter; S&P Letter; Moody's Letter.

• The total number of credit analysts.

• The total number of credit analyst supervisors.

• A general description of the minimum required qualifications of the credit analysts, including education level and work experience (if applicable, distinguish between junior, mid, and senior level credit analysts).

• A general description of the minimum required qualifications of the credit analyst supervisors, including education level and work experience.

The information about the total number of credit analysts and their supervisors will provide the Commission and users of credit ratings with an understanding of the human resources the credit rating agency devotes to determining credit ratings. This will assist the Commission in assessing the managerial resources of an applicant and NRSRO. The information about the qualifications of the credit analysts and their supervisors will be useful to users of credit ratings in assessing the competency of an NRSRO. The Commission believes this modification strikes an appropriate balance between reducing burden and requiring necessary information. Nonetheless, the Commission intends to monitor whether this aggregate approach to the credit analyst information is sufficient to apprise users of credit ratings of the qualifications of a given NRSRO's credit analysts.

For these reasons, the Commission is adopting Exhibit 8 and the instructions for the Exhibit with the modifications described above.

19. Exhibit 9 (Designated Compliance Officer)

As adopted, Exhibit 9 requires an applicant and NRSRO to provide certain background information on the entity's designated compliance officer. Section 15E(j) of the Exchange Act requires every NRSRO to designate an individual responsible for administering the policies and procedures of the credit rating agency to prevent the misuse of nonpublic information, to manage conflicts of interest, and to ensure compliance with the securities laws and the rules and regulations under those laws.
195

The ability of the compliance officer to carry out these statutorily mandated responsibilities will depend, in part, on the officer's experience and qualifications.

195
15 U.S.C. 78o-7(j).

The Commission continues to believe that requiring information about the experience and employment history of the designated compliance officer is necessary or appropriate in the public interest or for the protection of investors. It will assist the Commission in evaluating whether the applicant has adequate managerial resources to consistently produce credit ratings with integrity and to materially comply with its procedures and methodologies.
196

It also will be useful to users of credit ratings because it would provide information regarding the resources an NRSRO devotes to ensuring, among other things, that credit ratings are determined in accordance with the procedures and methodologies the NRSRO makes public in Exhibit 2.

196

See
Sections 15E(a)(2)(C) and (d) of the Exchange Act (15 U.S.C. 78o-7(a)(2)(C) and (d)).

The Exhibit, as proposed, also required information about the compliance personnel responsible for assisting the compliance officer. Several commenters objected to this aspect of the Exhibit as being unduly burdensome, unnecessary, and intrusive.
197

After considering the comments and the potential burden associated with the proposed requirement, the Commission has modified the Exhibit to eliminate the requirement to provide information about the persons that assist the compliance officer. As with the modifications to Exhibit 8, the Commission believes this modification to Exhibit 9 strikes an appropriate balance between reducing burden and requiring necessary information. Nonetheless, the Commission intends to monitor whether information about the designated compliance officer alone is sufficient to apprise users of credit ratings of how this statutorily required compliance function is being addressed by a given NRSRO.

197

See
,
e.g.
, R&I Letter; DBRS Letter; A.M. Best Letter; Fitch Letter; S&P Letter; Moody's Letter.

For these reasons, the Commission is adopting Exhibit 9 and the instructions for the Exhibit with the modifications described above.

20. Exhibit 10 (List of Large Users of Credit Rating Services)

Section 15E(a)(1)(B)(viii) of the Exchange Act requires that an application for registration as an NRSRO include, on a confidential basis,
198

a list of the 20 largest issuers and subscribers that use the credit rating services provided by the credit rating agency by amount of net revenue received by the credit rating agency in the fiscal year immediately preceding the date of submission of the application.
199

This information will be elicited in Exhibit 10 to Form NRSRO. An NRSRO will not be required to make this information publicly available pursuant to Section 15E(a)(3) of the Exchange Act
200

and Rule 17g-1(i) thereunder or update the Exhibit after registration.
201

An NRSRO will be required to update this information in an unaudited financial report that must be furnished to the Commission pursuant

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Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/fr%3AE7-11166. Public record. Not legal advice.