Bradford National Clearing Corporation and Bradford Securities Processing Services, Inc. v. Securities and Exchange Commission, New York Stock Exchange, Inc., National Securities Clearing Corporation, Intervenors. Bradford National Clearing Corporation and Bradford Securities Processing Services, Inc. v. Securities and Exchange Commission, National Securities Clearing Corporation, Intervenor

These two unconsolidated direct review proceedings involve challenges by subsidiaries of Bradford National Clearing Corporation to successive orders of the Securities and Exchange Commission (SEC or the Commission). In No. 77-1199, petitioners ask this court to set aside the Commission's conditional approval of the application of intervenor National Securities Clearing Corporation (NSCC) for registration as a clearing agency pursuant to section 17A(b) of the Securities Exchange Act, 15 U.S.C. § 78q-1(b). In re The Application of Nat'l Securities Clearing Corp. for Registration as a Clearing Agency (hereinafter Order I ), SEC Securities Exchange Act Release No. 13,163 (Jan. 13, 1977), 42 Fed.Reg. 3916 (1977). No. 77-1547 seeks reversal of a subsequent SEC order under section 19(b) of the Securities Exchange Act, 15 U.S.C. § 78s(b), allowing NSCC to adopt two self-regulatory rules that are purportedly aimed at meeting the conditions set by the Commission in approving NSCC's registration as a clearing agency. In re Nat'l Securities Clearing Corp. (hereinafter Order II ), SEC Securities Exchange Act Release No. 13,456 (Apr. 21, 1977), 42 Fed.Reg. 21881 (1977).

In light of the significant overlap in the issues involved in the two petitions, we have decided to treat both in the same opinion. The order involved in No. 77-1199 is affirmed, except insofar as the Commission approved NSCC's use of "geographic price mutualization" and its mode of allocating its facilities management contract. As to those issues the case is remanded to the SEC for further consideration. The order under review in No. 77-1547 is affirmed.

* Much of the historical and statutory background for this suit is laid out in considerable detail in Order I.1 From 1934 to the present, the Commission has exercised regulatory jurisdiction over transactions in major securities markets under the Securities Exchange Act of 1934 (hereinafter 1934 Act), 15 U.S.C. § 78a Et seq. For most of that period, the SEC's attention was directed to the registration and oversight of the major classes of participants in those markets, and particularly to the prevention of certain manipulative and abusive practices. In carrying out these duties, the SEC took the securities markets essentially as it found them, and attempted to establish and preserve a high degree of openness and fairness. See generally section 2 of the 1934 Act, 15 U.S.C. § 78b.

In the 1960's and early 1970's, however, more attention began to be paid to the possibility of changing the overall structure of the securities industry in order to make it more competitive, national, and efficient. Of particular relevance in this suit, the late 1960's saw the breakdown of the efficient functioning of brokers' "back offices" I. e., of the segment of the industry that effectuates trades after they are initially negotiated on an exchange or in the over-the-counter market.2 As a result of this "paperwork crisis," many purchasers never actually received their stock certificates nor sellers their money. Moreover, a goodly number of brokers, faced with liability for these incomplete transactions, went bankrupt.

In response to these "operational breakdowns and economic distortions," Congress and the Commission undertook "the most searching reexamination of the competitive, statutory, and economic issues facing the securities markets, the securities industry, and . . . public investors, since the 1930's." House Comm. of Conference, Conference Report on the Securities Acts Amendments of 1975, H.Rep.No.229, 94th Cong., 1st Sess. 91 (1975), U.S.Code Cong. & Admin.News 1975, pp. 179, 322 (hereinafter referred to as Conf.Rep.). The outgrowth of these investigations, See note 1 Supra, was the Securities Acts Amendments of 1975 (1975 Amendments), Pub.L. 94-29, 89 Stat. 141 (1975). With this legislation, the SEC's regulatory authority under the 1934 Act was expanded to enable it to effect major changes in the method of handling securities transactions.

Two such changes bear directly on the issues raised by the petitions. Most critically, in terms of these petitions, Congress recognized the need for a "(n)ational system for clearance and settlement of securities transactions," the objective of which is to interconnect all American clearing agencies and place them under uniform rules, so that together they can provide prompt, safe, and efficient clearance facilities that take full advantage of modern data processing and communications technology. Section 17A(a)(1) of the 1934 Act, 15 U.S.C. § 78q-1(a)(1). The 1975 Amendments direct the Commission to "facilitate the establishment" of this national system "in accordance with" the objective paraphrased above and "having due regard for" several other concerns, including the "maintenance of fair competition among brokers and dealers, clearing agencies, and transfer agents." Id. § 17A(a)(2), 15 U.S.C. § 78q-1(a)(2).3

To carry out this broad directive, Congress gave the SEC authority to register clearing agencies that meet certain specified criteria, including an ability to clear and settle securities transactions promptly and accurately and an absence of rules that impose "any burden on competition not necessary or appropriate in furtherance of the purposes" of the 1934 Act. Without such registration, or an SEC exemption therefrom, it is illegal to operate such an agency. Id. § 17A(b), 15 U.S.C. § 78q-1(b).4

That Congress conceived of the registration process as a means toward the end of a Commission-generated national clearing system is apparent from that process.5 Rather than mandating an adjudicatory procedure, as might be expected of an administrative mechanism aimed at conferring a government license, Congress made the process distinctly legislative in nature. After the application is filed, the agency must publish it and receive public comments thereon. The Commission may then grant registration, or institute proceedings to determine whether the application should be denied. Id. § 19(a), 15 U.S.C. § 78s(a).6 The quasi-legislative nature of registration decisions is further indicated by congressional references to the informal rulemaking provision in the Administrative Procedure Act and to the need to preserve the SEC's rulemaking authority in the clearing area,7 and by the fact that judicial review of the SEC's decision, while controlled by the "substantial evidence" rule in its factual aspects, is otherwise left unspecified, and, therefore, is apparently limited to review for arbitrariness, caprice, and abuse of discretion. Id. § 25(a)(4), 15 U.S.C. § 78y(a)(4). See generally Industrial Union Dep't v. Hodgson, 162 U.S.App.D.C. 331, 499 F.2d 467 (1974).

Congress further cemented the SEC's control over the shape of the clearing industry by requiring its approval of any new or modified rules adopted by a clearing agency. A similarly quasi-legislative procedure is established for the Commission's consideration of such rules, and its decision is judicially reviewable under the same provision governing review of its registration decisions. Id. §§ 19(b), 25(a)(4), 15 U.S.C. §§ 78s(b), 78y(a)(4).8

The second major accomplishment of the 1975 Amendments, as relevant here, is the granting of responsibility to the SEC to facilitate the establishment of a "(n)ational market system for securities." Id. § 11A, 15 U.S.C. § 78k-1. The goal of this system is to use modern communication and data processing equipment to link all securities markets nationwide, so that (i) information is equally available, and securities transactions may be completed equally cheaply and easily, anywhere in the nation, and (ii) "fair competition" may exist between all investors, brokers, dealers, and securities markets, no matter where they are located. Id. § 11A(a)(1), 15 U.S.C. § 78k-1(a)(1). Once again the Commission is "directed" to carry out this objective, and is given several types of authority toward that end, including the authority and responsibility to register and regulate "securities information processors." Id. §§ 11A(a)(2), (b), (c), 15 U.S.C. §§ 78k-1(a)(2), (b), (c).9

The drafters of the 1975 Amendments assumed that the national market and national clearing systems would reinforce each other. See House Comm. on Interstate and Foreign Commerce, Securities Reform Act of 1975, H.Rep.No.123, 94th Cong., 1st Sess. 44, 51 (1975) (hereinafter referred to as H.Rep.). Together, they would allow an investor anywhere in the United States to initiate and then complete a securities transaction with the aid solely of a local broker of his choice, dealing on a regional exchange and clearing through a regional agency also of his choosing, and having available throughout the process the most complete and up-to-date national information possible. See S.Rep., Supra note 1, at 7. See also Section 2, 15 U.S.C. § 78b. Moreover, as to both of the projected systems Congress self-consciously refused to determine "the merits of any particular system." S.Rep., Supra note 1, at 5, U.S.Code Cong. & Admin.News 1975, p. 184. Instead, it hoped that the impetus for both would come from the private sector and it provided the Commission with "intentionally broad" and "clear power" and "discretion" to shape the developing systems.10 As to both systems, the Commission's primary directive from Congress was to be "bold and effective" and to act quickly. Id. at 55.

Despite their interdependence and their common subjection to broad SEC authority, the national market and clearing systems were not perceived by Congress as identical pillars supporting the legislators' conception of a modernized approach to securities marketing. Most importantly, Congress' directives to the Commission with respect to the two systems vary slightly but significantly. Although in facilitating the establishment of both systems, the SEC is required to adhere to "the findings and to carry out the objectives set forth" in the first subsection of each of the two relevant provisions, those findings and objectives are not entirely parallel. Sections 11A(a), 17A(a), 15 U.S.C. §§ 78k-1(a), 78q-1(a); See notes 3 & 9 supra. Thus, while both lists of objectives include the full exploitation of technological advances in communication and data processing equipment, efficiency, and the linkage of all relevant facilities nationally, only the national market system objectives include the "enhance(ment)" of "fair competition among brokers and . . . exchange markets . . . "11 and only the national clearing system objectives include promptness and the development of uniform standards and procedures. Id. § 11A(a)(1), 17A(a)(1), 15 U.S.C. §§ 78k-1(a)(1), 78q-1(a)(1).12

At the time of the passage of the 1975 Amendments, a separate clearing agency owned by each of the national and regional stock exchanges, and one owned by the National Association of Securities Dealers (NASD) which operates the over-the-counter (hereinafter "OTC") market performed all of the clearing services for transactions initiated on the exchange or in the market with which it was affiliated.13 Recently, petitioner Bradford National Clearing Corp. (BNCC) has made inroads into the clearing industry by competitively bidding on and winning two facilities management contracts under which it operates the clearing agencies owned by the Pacific Stock Exchange one of the regional exchanges and by NASD.14

In the past, the rigid division of the clearing market along the lines of the various trading markets virtually precluded any competition between clearing agencies. This division stemmed in large part from rules promulgated by each of the exchanges and by NASD that required brokers trading in that market to utilize only the clearing agency affiliated therewith.

Even before the 1975 Amendments passed, Congress, representatives of various exchanges, NASD, and independent associations of brokers and dealers had begun exploring the possibility of dramatically centralizing the clearing facilities in this country. The initial efforts in this discretion began in earnest in the fall of 1973 and contemplated the merger of several existing clearing agencies, including those owned by NYSE, AMEX, NASD, and most of the regional exchanges. The impetus for merger came from the expectation that by the elimination of duplicative services and facilities the clearing industry would reduce costs and avoid a recurrence of the "paperwork crisis." The negotiators particularly those representing brokers and dealers apparently concentrated on finding a way to combine the three clearing agencies (NYSE's SCC, AMEX's ASECC, and NASD's NCC (hereinafter, "the New York clearing agencies") then operating virtually identical facilities located within a few blocks of each other in downtown New York.15

Actually, NYSE and AMEX had already pioneered the merger approach by jointly establishing the Securities Industry Automation Corp. (SIAC), and by contracting with SIAC to operate the two clearing corporations (SCC and ASECC) affiliated with the two parent exchanges. Nevertheless, the NYSE-AMEX "merger" was not complete because SIAC continued to operate the two clearing corporations separately, and the exchanges continued to enforce their rules that tied each of their trading facilities to their clearing facilities. The 1973-74 merger negotiations seem to have contemplated an expansion of SIAC not only to take over the operation of all of the merged clearing agencies, but also to integrate them fully. Nonetheless, these negotiations proved unsuccessful and were discontinued in mid-1974.

Soon after passage of the 1975 Amendments, NYSE, AMEX, NASD, and committees made up of their member-brokers renewed their efforts to negotiate a merger of the New York clearing agencies. These efforts came to fruition on July 15, 1975 when representatives of NYSE, AMEX, and NASD signed an agreement in principle to establish a jointly owned entity to which would be transferred the operations of the three New York clearing corporations. The agreement further provided for participant control of the new entity by way of a board of directors composed in the main of brokers and dealers,16 although its structure and rules would be designed to "avoid any loss (of revenues) to the respective parent companies (NYSE, AMEX, NASD)."17

In addition, the agreement in principle specified that SIAC would act as facilities manager and processor for the new entity. The parties included this last provision in their agreement despite the fact that during these latest negotiations BNCC offered to bid competitively against SIAC for the management-processing contract with the new entity. The parties to the agreement informed BNCC that its offer was premature, because negotiations were still going on, and they refused to honor BNCC's request for information on which to base its bid. In the negotiators' eyes, however, the time for BNCC's proposal apparently never matured, as they accepted SIAC as the manager-processor without further exploration of BNCC's counter proposal.18

Final negotiations continued throughout 1975 and into 1976, leading in March of that year to the incorporation of the National Securities Clearing Corp. (NSCC), the entity into which the three New York clearing organizations were to be merged, and to the filing with the Commission of NSCC's application for registration as a clearing agency under sections 17A(b), 19(a)(1), 15 U.S.C. §§ 78q-1(b), 78s(a)(1). See notes 4-5 Supra.

In summary, NSCC's application contemplated that the merger would be accomplished in two phases. During Phase I, projected to last approximately four months,19 NSCC, through SIAC,20 would operate the three merged New York clearing agencies as separate divisions, and the rules tying each of the two parent exchanges and NASD's over-the-counter market to one of those divisions would be retained.

In Phase II, NSCC would convert the three New York clearing operations into a single system capable of providing its participants with all of the services that previously were provided by at least one of the New York clearing agencies. At this point, of course, the rules tying trading markets to clearing agencies, if still intact, But see note 25 Infra, would become obsolete. Moreover, NSCC's plan called for its services to be made available not only to the current participants in the three New York clearing agencies but also to certain other (financially responsible and otherwise qualified) entities.

Nonetheless, even during Phase II, NSCC proposed to restrict its "comparison" services, See note 2 Supra, and thus the possibility of "one-shot" clearing and settlement, to (1) its participants located in New York who submit NYSE, AMEX, or OTC transactions for comparison, (2) its participants located outside of New York insofar as (a) they act through the regional network formerly operated by NCC, See note 15 Supra, and (b) the transactions submitted for comparison occurred over the counter. Only later would it compare NYSE and AMEX transactions through its regional offices. Hence, its restrictions on comparison facilities even in Phase II assured that only NYSE, AMEX, and OTC traders in New York, OTC traders outside of New York, and eventually NYSE and AMEX traders outside of New York would have direct access to its one-shot comparison, clearing, and settlement services.21 As in Phase I, a nonparticipant in NSCC, even if trading NYSE, AMEX, or OTC securities and even if trading with an NSCC participant, would not have access to NSCC's comparison facilities. Nor, of course, would anyone participant or nonparticipant in NSCC have such access if the trade took place on a regional exchange.

In both phases, NSCC proposed to base its fees to participants on the total cost of providing its services. See also note 17 Supra. The fees charged individual participants in a transaction, however, would not necessarily reflect the cost of that transaction. Instead, the merged entity would design its fee structure so that participants in New York and those outside of New York who utilized the regional network formerly operated by NCC, See note 15 Supra, would pay the same clearing fees, even though, as was likely, at least in the early stages, the New York transactions cost less. This pricing scheme, "geographic price mutualization," was designed to allow greater "competition" between brokers in and outside of New York.22

As required by statute, the SEC made NSCC's proposal the subject of public notice, and received comments thereon from various parties.23 In addition, the full Commission held informal hearings at which twenty-three organizations were represented. The SEC explicitly expanded the time and fora available for public comment as well as the substantive scope thereof beyond that required by the statute and traditionally afforded by the agency for registration applications. It did so in recognition of the "likely . . . determinative impact" this particular application would have on its accomplishment of its duty to facilitate the establishment of a national clearing system. See note 5 Supra.

In general, NSCC registration was supported by brokers and dealers whether located in New York or elsewhere. Opposing registration were the regional exchanges and their affiliated clearing agencies, as well as petitioners and the Antitrust Division of the Justice Department (hereinafter, the Justice Department). In November 1976, the Commission again issued a public notice soliciting comments this time concerning its tentative decision to approve registration contingent upon NSCC's meeting four conditions designed to ameliorate the anticompetitive effects that NSCC's opponents feared. Although most commentators reiterated their earlier positions, the opposition to registration softened somewhat, and on January 13, 1977, the Commission, in a lengthy order, granted NSCC registration with four conditions.

Under Condition 1, NSCC must, before Phase II begins, establish "full interfaces" or "appropriate links" with several specified clearing agencies most particularly, those affiliated with the regional exchanges, including one operated by petitioner BNCC.24 Other clearing agencies, including petitioners herein, have been offered the right to like interfaces as soon as they have the capability of offering minimally adequate clearing services.25 NSCC must offer these interfaces without any charges amounting to a fee for moving data through an interface. Consequently, all users of NSCC will help fund its establishment and maintenance of the interfaces.26

Condition 2 requires NSCC, before inaugurating Phase II, to provide at cost facilities to which other clearing agencies as well as its own branch offices may forward trade data for comparison. See note 21 Supra. Together, Conditions 1 and 2 assure that any clearing agency in which a broker chooses to participate either (1) may clear and settle that broker's transaction after the parties to it have compared their trade themselves through NSCC, or (2) may itself submit the broker's data to NSCC for comparison, and then complete the clearing and settlement functions. In either case, the agency may represent any broker no matter what clearing agency serves the broker or the other side of the transaction, what kind of security is traded, and what market or exchange is involved.

Under Condition 3, NSCC must share with any competing clearing agency that comes forward the operation (and expenses) of the regional branches that NCC has operated in the past. See note 15 Supra. By this mechanism, a regional clearing agency located in one city might find it easier to compete with NSCC in other cities as well.

Finally, Condition 4 attempts to fill the void created by NSCC's refusal to compare OTC trades between nonparticipants and between a participant and a nonparticipant. Under this requirement, NSCC (1) must, without charge, share its computer program technology with any clearing agency that proposes to compare OTC transactions between that agency's participants, and it (2) must convince some other clearing agency, or must itself offer, to compare OTC transactions between participants in different clearing agencies.

The upshot of the four conditions plus NSCC's proposal is that, for purposes of comparing NYSE and AMEX transactions, NSCC is essentially a public utility that is afforded a monopoly but must offer its services to all qualified customers (its own participants or other clearing agencies) at cost. NSCC (or some other clearing agency, if one comes forward) must also serve this utility function for purposes of making OTC comparisons for participants in different clearing agencies. By contrast, as to the remaining clearing functions, NSCC is perceived by the Commission as in competition with all other agencies offering like services. Given NSCC's geographic monopoly in New York as well as its established set of regional branches, however, the Commission realized that NSCC would be "likely to achieve a dominant position" as to All "securities processing" functions. Release No. 12,489, Supra note 5, at 2. Consequently, in order partially to blunt that competitive edge, the SEC insisted that NSCC allow full interfaces with other qualified clearing agencies so that they can clear and settle any of their customers' transactions even if an NSCC participant is on the other side of the trade. It also encouraged other agencies to expand their portion of the market at NSCC's expense by requiring the latter to share with them its computer program technology and its branch office facilities.

Several months after securing registration, NSCC once again approached the Commission concerning actions it desired to take in the clearing field. In this case, NSCC desired to initiate two new rules that it portrayed as necessary to aid it in achieving the conditions imposed on its registration by the SEC, and thus to move a couple of steps closer to Phase II. It sought the SEC's approval under section 19(b)(1), 15 U.S.C. § 78s(b)(1). See note 8 Supra. Here again, the Commission accepted public comments on the rules, and it made them the subject of a meeting before some of the Commissioners. Securities Exchange Act Release Nos. 13,308, 13,318 (Feb. 28, 1977). On the same day as the meeting, the Commission issued an order approving the proposed rules with minor modifications. Order II.

The first rule, the "Bond Rule," allowed NSCC, during Phase I, to transfer the clearing function for bonds traded on AMEX from its ASECC to its SCC division. In other words, it made its division that formerly was the sole clearing facility for all securities traded on the NYSE the sole clearing facility, in addition, for all debt securities traded on the AMEX. It argued that a further consolidation of services and data processing facilities in the SCC division, which already operates the limited RIO interfaces, See note 26 Supra, would enable it more easily to establish the full interfaces with other clearing agencies as required by Condition 1 in Order I.27

The second rule, the "Special Representative Rule," is much more complicated, but essentially takes some additional tentative steps in the direction of fully interfacing NSCC with other clearing agencies and of streamlining its own operations. In part, the rule expands the number of brokers and securities that are allowed access to the experimental interface program (RIO) begun in 1975 by SCC and several of the regional clearing agencies. See note 26 Supra. As a result, more nonparticipants in NSCC can use the regional clearing agency in which they do participate to clear NYSE and AMEX transactions, and they can do so even if they do not participate in the same clearing agency as the brokers on the other side of their trades.28

After each of the two SEC orders at issue here was issued by the Commission, petitioners brought separate direct actions for review. This court set both petitions down for argument on the same day before the same panel, in light of their related nature. Bradford Nat'l Clearing Corp. v. SEC, Nos. 77-1199, 77-1547 (D.C.Cir. Jan. 10, 1978).

During the spring of this year after the briefing of these cases the SEC held a series of hearings and received public comments exploring the reasons for NSCC's delay in meeting the four conditions imposed by the Commission and thus in inaugurating Phase II of its operations. SEC Securities Exchange Release Act No. 14,648 (April 11, 1978); SEC Securities Exchange Act Release No. 14,411 (Jan. 25, 1978); See note 19 Supra. Although in announcing these hearings, the Commission clearly broached the possibility of modification of Order I in light of the actual operation thereof, it made clear that it ordered the hearings not because it has lost confidence in its registration decision, but in order to carry out the expansive oversight role that it explicitly accepted for itself when it approved registration. Order I, at 111-12. Accordingly, we denied petitioners' pre-argument motion to remand these cases or hold them in abeyance pending the outcome of the current proceedings before the Commission.29

Petitioners' challenges in No. 77-1199 to Order I have a common theme that NSCC's clearing operation, as approved by the SEC, has anticompetitive effects that frustrate the provisions and policies of the 1975 Amendments. Petitioners argue both that the SEC misinterpreted the statute by underemphasizing the importance of enhancing and maintaining a competitive clearing environment, and that its predictions about the competitive and anticompetitive impact of registering NSCC do not have substantial support in the record and are arbitrary and capricious.

Before examining petitioners' specific arguments, a word is necessary about the narrowness of our review function. An overview of the administrative authority and action in this case reveals a broad statutory directive and informal administrative proceedings leading to predictive judgments about a variety of relevant factors, such as rapidity of development, geographically national access, and centralization of planning, as well as competition. In the interpretation of that statutory directive, the courts share an important responsibility and expertise with the agency. SEC v. Sloan, 436 U.S. 103, 98 S.Ct. 1702, 1712, 56 L.Ed.2d 148 (1978), but the latter's interpretation is worthy of significant deference insofar as it is contemporaneous with passage of the statute being interpreted, Norwegian Nitrogen Co. v. United States, 288 U.S. 294, 315, 53 S.Ct. 350, 77 L.Ed. 796 (1933), and insofar as its course of consideration envinces "specific attention" to that statute, Adamo Wrecking Co. v. United States, 434 U.S. 275, 98 S.Ct. 566, 570 n.5, 54 L.Ed.2d 538 (1978). See United States v. NASD, 422 U.S. 694, 719, 95 S.Ct. 2427, 45 L.Ed.2d 486 (1975).

This deference increases and becomes less qualified when courts are reviewing the exercise of administrative discretion and especially, when, as here, the agency's decision partakes primarily of "prediction(s) based upon pure legislative judgment." Industrial Union, supra, 162 U.S.App.D.C. at 338, 499 F.2d at 474; Accord, FCC v. National Citizens Comm. for Broadcasting,436 U.S. 775, 98 S.Ct. 2096, 2122, 56 L.Ed.2d 697 (1978); Braniff Airways, Inc. v. CAB, 126 U.S.App.D.C. 399, 409, 379 F.2d 453, 463 (1967). Even when faced with the perplexing combination of informal agency action and "substantial evidence" review that Congress occasionally includes in specific pieces of delegative legislation, including the 1975 Amendmen