Denying the Motion for Reconsideration of PSE-NOMELEC and Directing It to Pay the PhP1 Million Penalty

July 4, 2011 SEC-MSRD OPINION Philippine Stock Exchange, Inc. PSE Plaza Ayala Avenue Makati City Fax: 891-9004 Attention: PSE-NOMELEC Mr. Remy T. Tigulo, Chairman Atty. Daisy P. Arce Ms. Shirley Y. Bangayan Atty. Monica V. Jacob Mr. Jose Luis S. Javier Independent Director Member Atty. Cornelia T. Peralta Independent Director Member Atty. Aissa V. Encarnacion Non Voting Member cc: PSE Board of Directors Gentlemen : On 26 May 2011, the Market Regulation Department informed PSE/PSE-NOMELEC that the Commission in its meeting held on 19 May 2011 adopted the following resolution: "SEC RES. NO. 226, s. of 2011 RESOLVED, To IMPOSE on PSE/PSE-NOMELEC the penalty of PhP1 Million for its violation of Section 40.2 of the SRC in not complying with its own rules in the evaluation of candidates for the election of directors of the Exchange held on 14 May 2011." In its letters dated 31 May 2011 and 14 June 2011, PSE-NOMELEC sought reconsideration of the foregoing resolution, arguing that: -1- "Nomelec's powers were granted by PSE stockholders, and its duties and functions do not form part of the regulatory functions of PSE as an SRO, over which SEC has supervisory powers." -2- "[T]he Honorable Commission's strict interpretation of Rule 1 and Rule 2 (1) of the 2011 NOMELEC Rules pertaining to the special qualifications of broker candidates and issuer companies, which are patently more stringent that the interpretation consistently adopted by the PSE-NOMELEC, are not in accord with the plain intention of these rules." -3- "[T]he issuer companies and brokerage firms cited in the certifications as having committed violations of SEC and PSE rules, have in fact, already served the penalties imposed upon them in accordance with the rules set out by the SEC and PSE. Evidently, they should no longer be considered "in violation" of SEC and PSE rules for having voluntarily submitted themselves to the sanctions imposed upon them by the PSE." -4- "The fact that these trading participants are currently operating with valid license issued for the year 2011 is sufficient to prove that they are compliant with the rules." -5- "The Nomelec took into consideration the violations of the trading participants represented by the candidates for the preceding year and the fact that the penalty imposed on each of these trading participants was a written reprimand." -6- "Nomelec likewise took into consideration the real intent of the rule which is to ensure that the candidate do not represent trading participants that have been found to have violated ethical rules or committed crimes involving moral turpitude, fraud, estafa, theft, embezzlement as provided in the list of disqualifications attached to the Rules." -7- "The Honorable Commission never conveyed its objection nor raised any issue about this at the time the Rules were approved, nor even prior to Nomelec's evaluation of candidates." -8- "The issue as to whether the Commission correctly interpreted Rule 1 and Rule 2 (1) of the 2011 NOMELEC Rules has been rendered moot and academic with the issuance of the Writ of Preliminary Injunction by the Regional Trial Court, Branch 159, Pasig City in SEC Case No. 10-139 entitled "PASBDI, et al. vs. PSE, et al." We now address these arguments in seriatim . First, the Commission does not share PSE-NOMELEC's view that its powers, duties and functions do not form part of the regulatory functions of PSE as a self-regulatory organization (SRO). The NOMELEC Rules state that PSE-NOMELEC is empowered to: (a) formulate rules and regulations governing the conduct of nominations and elections during the annual stockholders' meeting; (b) screen, review and evaluate the qualifications of directors. The rules were adopted to carry out the provisions of the PSE Manual on Corporate Governance and the requirements of paragraphs f, g and h of Section 33.2 of the SRC which prescribe the composition and qualifications of the members of the Board of Directors of PSE. PSE is a registered exchange and an SRO. Section 33 [Registration on Exchanges] provides that " Any Exchange may be registered as such with the Commission under the terms and conditions hereinafter provided in this Section and Section 40 [Powers With Respect to SRO] hereof, by filing an application for registration in such form and containing such information and supporting documents as the Commission by rule shall prescribe, including the following: (a) An undertaking to comply and enforce compliance by its members with the provisions of this Code, its implementing rules or regulations and the rules of the Exchange ." In addition, Section 40.8 of the SRC provides that " The powers of the Commission under this section [Section 40. Powers With Respect to SRO] shall apply to organized exchanges and registered clearing agencies ". Further, under SRC Rule 39.1 (Registration, Responsibilities and Oversight of SROs) , PSE as an SRO is authorized to prescribe rules governing its organization and governance , qualifications and rights of its shareholders, listing of securities, trading of securities, settlement, qualification of members and other participants, ethical conduct of members and other participants, supervision and control of members, financial and operational responsibility of members and discipline of members and other participants. In short, since PSE is an exchange it is mandated to comply with the terms and conditions required for SROs pursuant to Sections 33 and 40.8 of SRC. On the other hand, PSE-NOMELEC's powers, duties and functions to formulate rules governing the conduct of nominations and elections and evaluate the qualifications of directors emanate from PSE's authority as an SRO pursuant to SRC Rule 39.1, as the said rules pertain to governance of PSE. Besides, the submission of NOMELEC rules to the Commission for prior approval is in accordance with Section 40.3 of SRC which is a requirement for SROs. Necessarily, the Commission has to ensure that these rules are enforced correctly. Second, the Commission did not interpret the rules because there is no need to do so. The Commission only applied the rules in their plain, ordinary and common meaning. It is axiomatic that we should apply the law first, and interpretation comes only after it has been demonstrated that application is impossible. Where the law speaks in clear and categorical language, there is no room for interpretation. There is only room for application. In the case of brokers, the 2011 NOMELEC Rules clearly require that they must be compliant with SEC rules for the preceding calendar year (2010) as certified by the concerned department of SEC which is SEC-MRD. It is not disputed that PSE-NOMELEC did not secure the requisite certification from SEC-MRD. Third, the Commission does not share PSE-NOMELEC's view that firms which have already served the penalties should no longer be treated as "in violation of SEC and PSE rules". Previous infractions will always be part of the disciplinary history of registered persons pursuant to the SRC IRR. Rule 1 and Rule 2 (1) of the 2011 NOMELEC Rules require that issuer companies and brokers must be compliant with PSE and SEC rules for the preceding calendar year (2010) as certified by the concerned departments of PSE and SEC. So the violations for that particular year must be taken into account. If PSE NOMELEC prefers to dispense with this requirement, the remedy is to amend the rules. Fourth, the fact that a broker has a license and is operating is different from the broker's record of compliance with the PSE and SEC rules for 2010. The reason is that violations of PSE and SEC rules may have been committed after the issuance of the license, and not all violations may result in the suspension or revocation of license. So, a broker may have violated some rules and sanctioned by PSE and/or SEC and yet remain a licensed broker. Having a license is one thing, not having complied with the rules is another. Records show that many brokerage companies violated or were not compliant with PSE and SEC rules in 2010, but they remain licensed brokers. The PSE-MRD certifications indicate that broker X "has been admitted and is currently authorized to operate as a PSE trading participant; has no outstanding liabilities as of December 31, 2010". The certifications further state that " broker X was found to be compliant with the provisions of SRC and IRR as a result of the 2010 annual audit , EXCEPT for the following VIOLATIONS (enumerated). It is incredulous for PSE-NOMELEC to accept only the first portion of the certifications that "broker X was found compliant", and ignore the latter part stating that "broker X has the following violations". Even assuming that PSE-NOMELEC is correct in declaring the brokers as compliant with PSE rules, PSE-NOMELEC has no basis to declare that the brokers were compliant with SEC rules in 2010. Even the SEC-CRMD Director on 20 April 2011 wrote PSE-NOMELEC " to directly coordinate with SEC-MRD for the certification on the matter of compliance of broker-dealers ". But PSE-NOMELEC did not do so. Fifth, the penalty of "written reprimand" should not be trivialized because all the violations of the subject brokers are not "minor violations" but are in fact categorized under PSE rules as Major and Grave violations. Significantly, no Minor violation was committed. It must be understood that under the PSE rules, a first Grave violation is penalized with "written reprimand" and fine. A first Major violation is penalized with "written reprimand". A first Minor violation merits a written warning and a second Minor violation is penalized with "written reprimand". For better appreciation, the violations committed by trading participants (TPs) with candidates in the May 14, 2011 elections are shown below: Trading Violation Classification of Violation per PSE Rules Participants BA Securities, Inc. SRC Rule 52.1-10 and MAJOR Violation similar to making Amended Market untrue statements or omission Regulation Rules of material fact in a CAIF, reports, records, books and documents submitted to the MRD for such not to be misleading. Lucky Securities, SRC Rule 52.1-1 MAJOR Violation similar to making Inc. Books and Records untrue statements or omission Rule of material fact in a CAIF, reports, records, books and SEC Memorandum documents submitted to the Circular No. 7 MRD for such not to be Series of 2006 Rules misleading. on Securities Borrowing and Lending/PSE Rules GRAVE Unauthorized use or disposition on Securities of funds or securities entrusted Borrowing and Lending by a client to a Trading Participant in the source of its trading business including violation of securities and borrowing lending rules. SRC Rule 30.2-6 MAJOR Violation of Ethical Standards (Supervision) Rule SRC Rule 34.1-2 MAJOR Encompasses violation of (Segregation of Ethical Standards Rule Functions Chinese on conflict of interest Wall Rule) The First SRC Rule 52.1-1 MAJOR Violation similar to making Resources Books and untrue statements or omission Management & Records Rule of material fact in a CAIF, Securities reports, records, books and Corporation documents submitted to the MRD for such not to be misleading. SRC Rule 49.3 (Lending and GRAVE Trading related irregularities Voting Customers Securities) Venture SRC Rule 52.1-1 MAJOR Violation similar to making Securities, Inc. Books and untrue statements or omission Records Rule of material fact in a CAIF, reports, records, books and documents submitted to the MRD for such not to be misleading. Astra Securities SRC Rule 49.2.4 MAJOR Violation of SRC Rule 49.2 on Corporation Special Reserve Customer Protection Reserves Bank Account for and Custody of Securities. the Exclusive Benefit of Customers RTG & Company, SRC Rule 49.2.4 MAJOR Violation of SRC Rule 49.2 Inc. Special Reserve on Customer Protection Reserves Bank Account for the and Custody of Securities. Exclusive Benefit of Customers Summit SRC Rule 30.2 MAJOR Violation of Ethical Standards Securities, Inc. Transactions and Rule. Responsibilities of Brokers and Dealers SRC Rule 52.1-6 MAJOR Encompasses violation of Ethical Customer Account Standards Rule on information Information Rule about clients. SRC Rule 52.1-8 MAJOR Encompasses violation of Ethical Customer Account Standards Rule on information Statements for clients Asia Pacific SRC Rule 52.1-1 MAJOR Violation similar to making Capital Equities (Books and untrue statements or omission and Securities Records Rule) of material fact in a CAIF, Corporation reports, records, books and SRC Rule 49.2-1 documents submitted to the (Physical Possession MRD for such not to be or Control of Securities) misleading. for discrepancies noted on the number MAJOR Violation of SRC Rule 49.2 on of shares per its Stock customer Protection Reserves Position Report and and Custody of Securities. PDTC's Stock Position Report. SEC Memo Circular MAJOR Violation of capitalization No. 16 (2004) requirements of a Trading Adoption of the RBCA Participants for Broker-Dealers SRC Rule 28.1 GRAVE Trade-related irregularities (Registration of Brokers and Dealers) Sixth, contrary to the PSE-NOMELEC's suggestion that the TPs did not violate "ethical rules", the table above reveals that many violations constitute breach of ethical standards rules which are Major violations. Some are trade related irregularities which are Grave violations. These matters could have been brought to the attention of PSE-NOMELEC had PSE-NOMELEC coordinated with SEC-MRD and secured the certification of compliance of brokers. Considering the said violations, it is doubtful if indeed PSE-NOMELEC took into consideration the real intent of the rule which, according to it, is to ensure that candidates do not represent trading participants that had been found to have violated ethical rules. Seventh, what is at issue here is 2011 NOMELEC Rules, not the 2010 NOMELEC Rules. Every year, there are changes in the NOMELEC rules and every year these rules are submitted to the Commission for approval. The reason why SEC-MRD wrote PSE-NOMELEC on 14 April 2011 is precisely to remind PSE-NOMELEC about the requirement for certification of compliance from SEC departments as required under the 2011 NOMELEC Rules. What was done in 2010 was wrong. As previously pointed out, even the SEC-CRMD Director advised PSE-NOMELEC "to directly coordinate with SEC-MRD for the certification on the matter of compliance of broker-dealers" . PSE-NOMELEC could have corrected itself. However, PSE-NOMELEC did not ask SEC-MRD for the brokers' certificate of compliance with SEC rules for 2010. Eight, the issue on the application Rule 1 and Rule 2 (1) of the 2011 NOMELEC Rules was not raised in the application for injunction. The only issue in the PASBDI's petition is the Commission's restriction of brokers voting rights. In view of the foregoing, the Commission in its meeting held on 23 June 2011 resolved to DENY the motion for reconsideration of PSE-NOMELEC. Accordingly, the PSE/PSE-NOMELEC is directed to pay the subject penalty to the Commission within five (5) days from receipt of this order. For the Commission: (SGD.) JOSE P. AQUINO Director