plans can also be an incentive to increase the risks of the stockholder for the benefit of the management. And, without full information concerning the operation of a bank, a stockholder cannot tell if this is the incentive that the option is providing.

WHAT PRICE OPTIONS?

If option plans are not to reduce the safety of investment, the need for full disclosure to the stockholder can be seen from another point of view. For in accordance with such plans the directors will recommend the price at which shares will be available under the option. The bill enacted by the New York State Legislature in April provides for determination of price at "not less than 85 percent of the fair market value or the book value, whichever is greater or whichever may be more accurately determined. * But we are speaking of 145 State-chartered banks and not merely of that small number whose shares are publicly quoted and continuously traded, whose market values are already solidly established and whose book values can be reckoned from easily available and unambiguous information. For all too many banks, true book value and market value are indeterminate. How then shall a stockholder know whether to approve options for stock?

The option price should reflect an informed valuation of the bank, assessed with knowledge of its earnings, reserves, the character of its loans and investments and its prospects for the future. But, to repeat, New York's State banks are not required to provide this knowledge to their stockholder owners. Of course, many banks voluntarily provide such information. The voluntarily offered reports of some banks are models of informativeness and candor. Many banks do not report, and a great many provide only inadequate or incomplete information stated in unclear terms. But, even if all banks voluntarily reported to their stockholders and reported well, even if all did this, stock option plans would tend to reduce the safety of bank stock investments until the stockholders' possession of information, crucially important for determining the correctness of an option proposal, becomes a right guaranteed by statute or regulation and not a favor granted by management.

The safety that can be offered to the investor is the safety of knowledge. Without that safety, stock options can be a means of segregating shareholders into two classes: those who know and those who do not know. And the majority, the second class, the uninformed stockholders, will be asked to pass on option plans for the fully informed class. They will be urged to approve plans while being denied the knowledge which makes an informed judgment possible. The attitudes of banks toward disclosure cover a wide spectrum. At one end there are those who endorse and practice full disclosure for stockholders, auditing by independent accountants and the use of uniform auditing and reporting standards and unequivocal terminology.

"UNNECESSARY PAPERWORK"

Unfortunately this viewpoint is not representative of bankers generally. When the Advisory Committee to the Comptroller of the Currency polled 1,500 national banks in preparing its report, most of the bankers supported stock options but the majority of respondents did not think banks should be required to provide more information for their stockholders. They expressed views that have long been traditional for the bankers' associations. Information for the stockholder was characterized as "redtape" and "unnecessary paperwork." It was also urged that the affairs of banks are "confidential" and that too much knowledge for stockholders might lead to public criticism and irreverent discussion of management policies. And all of this could not fail to undermine public confidence.

Under the best circumstances stock option programs may not have the results that are intended. Substantial appreciation in his stock may tempt an executive to sell it and take his profit even though he might have to give up his job as well. He may have an opportunity to reinvest in lower priced stock under the option plan that will go with a new post. Executive personnel agents report that just this pattern is often realized in industries wherein stock option plans are now common practice. As a consequence of the possibility of losing executive personnel through option plans these have been called "incentives in reverse."

In spite of real and potential drawbacks a stock option program may be useful and desirable for a bank. Such a program can help to align stockholder and management interests which deviate too often. Whether options will have

this rather than other effects remains to be seen. To reduce future disappointments, the New York State Legislature should incorporate in State banking law the stockholder's right to knowledge about his bank. Meanwhile, the New York State Banking Board has the opportunity to issue regulations in connection with the adoption of stock option plans to make appropriate disclosure mandatory.

LISTING BANK STOCKS ON THE EXCHANGES

There has been some talk that if this bill becomes law, and the differences between listed and unlisted corporations with respect to disclosure be eliminated, many of the larger banks will apply for listing on the New York Stock Exchange. Whether banks will apply for listing remains to be seen.

Listing of bank stocks may have some unforeseen and possibly adverse results which I believe should be brought to the committee's attention. Normally, members of the New York Stock Exchange may not deal with nonmembers in executing customers' orders. If this same rule were to be applied to transactions in bank stocks, customers of member firms would be deprived of access to a substantial and highly competitive portion of the over-the-counter market, namely, the negotiated market for bank stocks.

As an example of the extent of the competition which this negotiated market provides, on a typical trading day the "pink sheets" published by the National Quotation Bureau, Inc., show that there were 20 dealer firms competing in the primary market for Bank of America shares, 15 firms were trading Bankers Trust stock, 14 were in First National Bank of Chicago, 12 in First National Bank in Dallas, and 15 in First National City Bank of New York. On the other hand, under the specialist system of the New York Stock Exchange, the maintenance of a market for a listed issue is generally entrusted to only one man or firm. The specialist has no direct access to the investing public and is therefore unable to seek out buyers or sellers as in the case of the dealer firms with their wide coverage.

Of course, the New York Stock Exchange could put bank stocks in the same category as U.S. Government bonds, corporate bonds, and public utility and industrial preferred stocks-the so-called exempt list. This is a group of securities which, although fully listed, are exempt from the restrictive trading rules of the exchange, and therefore member firms are free to choose the best market, auction or negotiated, to execute their customers' orders.

If banks stocks should be listed, it would be desirable that they be placed in the "exempt" category. This would result in a lively and healthy competition between the auction and the negotiated markets for these stocks. Otherwise, the listing of bank shares on the exchange would limit free choice and tend to monopolization in this portion of the securities field.

At present certain member firms contribute importantly as dealers in the negotiated over-the-counter market for bank stocks. If bank stocks were listed, under the present rules of the New York Stock Exchange these member firms would be automatically excluded from competing as dealers in the primary markets for these bank stocks. From my 36 years of experience in the bank stock field, I believe that this exclusion would be detrimental to the best interests of the investing public in the purchase and sale of bank stocks.

To encourage and develop the broadest competitive markets for bank stocks and provide the widest choice for member firms to execute their customers' orders on the most favorable terms, I believe it would be most helpful if the exchange permitted member firms to continue their dealer functions in this basic and vital field of investment.

The CHAIRMAN. The next witness is Mr. Ralph P. Coleman, Jr., publisher of Over-the-Counter Securities Review.

Mr. Coleman, you may put your full statement in the record. Time is very limited and if you will summarize your statement it will be greatly appreciated.

STATEMENT OF RALPH P. COLEMAN, JR., PUBLISHER AND EDITOR OF OVER-THE-COUNTER SECURITIES REVIEW

Mr. COLEMAN. My name is Ralph P. Coleman, Jr., of Jenkintown, Pa. I am publisher and editor of Over-the-Counter Securities Review, a monthly magazine devoted to the over-the-counter securities market. I have testified twice before in regard to these various bills which have been before the Congress.

I would like to state that I am in general agreement with a number of proposals made by the SEC in regard to strengthening the ethical and financial standards of the securities industry. I feel that there is considerable merit in many of these proposals, and I am sure that this subcommittee will view them in this light.

As a financial publisher for the last 12 years, I have had an intimate interest in seeing over-the-counter companies provide full information to their stockholders. And, going back to 1951, I believe I can safely say that most OTC corporations have made giant stridesvoluntarily and on their own-in providing stockholders and the financial community with meaningful, accurate reports on their opera

tions and finances.

Because of this fact and the succeeding reasons which I will discuss I must state my opposition to the SEC's proposals to bring several thousand additional over-the-counter companies under its regulatory purview.

I am not in agreement with the methods the SEC has proposed for accomplishing full disclosure, although philosophically I am in favor of the objectives of full disclosure.

On balance, I feel that the additional time, expense, and administrative and legal difficulties inherent in the Commission's proposals outweigh any advantages that could flow from these proposals.

The SEC presently has authority over approximately 4,000 companies 2,500 listed companies and almost 1,500 OTC companies which have issued new securities. The new proposals submitted by the SEC would bring an additional minimum of 3,600 over-the-counter companies and perhaps over 4,000 companies under its control.

The CHAIRMAN. Off the record.

(Remarks off the record.)

Mr. COLEMAN. The first point I make is that incorporation is a State rather than a Federal function. Now, I say why not let the States where the companies are incorporated enforce full disclosure rules therein?

I believe this is in keeping with States rights principles, and we talk much about States rights. This would appear to me to be an opportunity to exercise this in a very effective and economical fashion.

Now, the SEC's proposal would double the number of companies under SEC supervision. Now, have there been any figures as to what additional budget would be required to service these additional companies in terms of money and manpower?

I understand a figure of $600,000 had been estimated by the SEC. That would be about $150 per company per year.

I might point out that in bringing these companies in that the over-the-counter companies will be time consuming and expense consuming, because this is the first time they have filed under these various rules and regulations.

I submit that it is quite possible that the expense might be considerably above that amount.

I believe that the Commission is to be congratulated in the fact that it had contacted the NASD, the various other groups, the Association of Stock Exchanges, and the Investment Bankers Association. However, I understand there was no attempt made to contact executives of over-the-counter corporations who would be most affected by this legislation.

I believe this is a very important point. These people who are the most affected by it should at least have the opportunity to consult with the SEC about the regulations that would be required of them.

Now, the arbitrary minimum of 500 stockholders and $1 million in assets will not bring under SEC supervision most of the "junk" and "penny" stocks which are part and parcel of the over-the-counter market and which have caused the most grief to stockholders and which have most often violated the concept of full disclosure.

We have made companies, and the SEC knows these companies_as well as I do if not better, that because of their size would not be under the SEC purview, and these are precisely the companies that cause the difficulties in regard to full disclosure. And because of the large number of them it is impractical.

In the United States in 1961 over 1.1 million corporations filed Federal income tax returns. Now, how can the SEC be sure only 4,000 would be subject to its regulation? And that is an indication of the vast scope of the over-the-counter market.

I think there is cause for reflection in the fact that one of the biggest cases of stock manipulation and investor loss in the past decade was a company listed on the New York Stock Exchange, United Dye & Chemical Corp., which was subject to SEC full disclosure requirements.

I think in considering this bill we must remember that some companies with approximately 750 or 500 stockholders might very well try to freeze the number of stockholders in the company at a figure below the minimum in order to avoid SEC regulation. This would result in contraction and concentration of stock ownership which is hardly a healthy trend.

I think in that connection that we must give full consideration to that aspect of it and also to consider if a company, say, has 750 stockholders and it drops below that figure whether they are then not subject to SEC regulation. I have not seen it spelled out in the regulations as to whether they are then under the regulations or not. And, finally, the SEC has made its proposals to Congress without having the benefit of all of the material on the over-the-counter market developed by the Cohen special study group.

It would seem to me that Congress having authorized the expenditure of $1 million for a study of the stock market is entitled to see all of the relevant material about the over-the-counter market developed by that study before being asked to pass legislation which would have a sweeping effect on that market.

Specifically, I am concerned that chapter VII, which deals exclusively with the over-the-counter market, has not been published. Mr. Milton H. Cohen, director of the special study, stated in a talk before the Practicing Law Institute in New York that his chapter discusses the over-the-counter markets, their wholesale and retail components, the quotation systems, and present controls over all of them.

Surely it is not the essence of logic to ask the Congress to pass legislation about the over-the-counter market without having before it the conclusions reached in this vital segment of the study which is concerned exclusively with the subject of the SEC's proposals.

Chapter VIII, Mr. Cohen states, is concerned with the various interrelationships among trading markets, including patterns of distribution among exchange and over-the-counter trading in listed securities. This interrelationship is particularly vital in Mr. Cohen's view as is emphasized in his statement that originally he did not perceive just how closely the various subjects in the stock market study were interwoven in an endless web.

I submit that because we do not have this important chapter VII which deals exclusively with the over-the-counter market that consideration be given to reconsidering this bill after the receipt of that material and its consumption not only by the Congress but by the investment industry.

The CHAIRMAN. Did you read in the morning paper the bills the President asked us to give priority to over this SEC bill?

Mr. COLEMAN. Yes.

The CHAIRMAN. Well, that will take a little while, will it not?
Mr. COLEMAN. I believe so.

The CHAIRMAN. I expect this chapter of the Cohen report will be available before we finish here.

Mr. COLEMAN. I believe that that would be most helpful.

The CHAIRMAN. It is entirely possible, yes.

Mr. COLEMAN. SEC's proposals at least to the public have been made without having the benefit of that particular chapter and the succeeding chapter which also discusses the over-the-counter market.

The CHAIRMAN. Now, you make reference to the fact that the biggest flimflam of an over-the-counter company had to make disclosure to the SEC.

Senator BENNETT. A listed company?

The CHAIRMAN. A listed company, yes.

Mr. COLEMAN. Yes.

The CHAIRMAN. You are arguing then that because the law will sometimes be violated, we should not have any law? Is that your position?

Mr. COLEMAN. I would only indicate that under the circumstances that there are investors who believe that simply because a stock is listed on an exchange that that will prevent any management manipulation. And I think there is a certain false sense of security that occurs under that condition.

The CHAIRMAN. Do you not think that the more times SEC discloses flimflams, the more likely investors will be to look before they leap? Mr. COLEMAN. Well, yes I think that that is certainly true, but I do not believe that this bill before us would particularly accomplish that aim. In other words, I feel that if management is so minded it can circumvent these things.