Nanopierce Tech. v. Depository Trust

• Decision Date: 20 September 2007
• Docket Number: No. 45364.,45364.
• Citation: 168 P.3d 73
• Parties: NANOPIERCE TECHNOLOGIES, INC., a Nevada Corporation; Stephen Seitz, an Individual; Jane Seitz, an Individual; Kathy Knight-McConnell, an Individual; James Stock, an Individual; Maureen O'Sullivan, an Individual; and Helen Kolada, an Individual, Appellants, v. The DEPOSITORY TRUST AND CLEARING CORPORATION; The Depository Trust Company; and the National Securities Clearing Corporation, Respondents.
• Court: Nevada Supreme Court

168 P.3d 73

NANOPIERCE TECHNOLOGIES, INC., a Nevada Corporation; Stephen Seitz, an Individual; Jane Seitz, an Individual; Kathy Knight-McConnell, an Individual; James Stock, an Individual; Maureen O'Sullivan, an Individual; and Helen Kolada, an Individual, Appellants, v. The DEPOSITORY TRUST AND CLEARING CORPORATION; The Depository Trust Company; and the National Securities Clearing Corporation, Respondents.

No. 45364.

Supreme Court of Nevada.

September 20, 2007.

Lionel Sawyer & Collins and David N. Frederick, Samuel S. Lionel, and Dan C. Bowen, Reno, for Appellants.

Laxalt & Nomura, Ltd., and Daniel T. Hayward, Bruce R. Laxalt, and Don Nomura, Reno; Proskauer Rose LLP and Gregg M. Mashberg and Karen D. Coombs, New York, New York; William E. Cooper Law Offices and William E. Cooper Jr., Las Vegas, for Respondents.

Bailey Merrill and Dennis L. Kennedy and Sarah E. Harmon, Las Vegas; Rex Staples, General Counsel, Stephen W. Hall, Deputy General Counsel, and Joseph Brady and Lesley M. Walker, Associate Counsel, Washington, D.C., for Amicus Curiae North American Securities Administrators Association, Inc.

Brian G. Cartwright, General Counsel, Jacob H. Stillman, Solicitor, Mark Pennington, Assistant General Counsel, and Michael L. Post, Senior Counsel, Washington, D.C., for Amicus Curiae SEC.

Woodbury & Kesler and Nicholas E. Hales, Salt Lake City, Utah, for Amicus Curiae National Coalition Against Naked Shortselling.

BEFORE THE COURT EN BANC.

OPINION

By the court, SAITTA, J.:

This case arises from respondents' use of the Stock Borrow Program to facilitate clearing and settling certain broker-to-broker securities transactions. "Clearing and settling" essentially refers to the process by which record ownership of securities is exchanged for funds when sellers transfer securities to purchasers. Respondents are a holding company and its two subsidiary clearing agencies. The clearing agencies and the Stock Borrow Program were created under federal Securities Exchange Commission (Commission) guidelines to expedite the clearing and settling process that, when performed on the scale that respondents perform it—millions of transactions daily— would otherwise be cumbersome, confusing, and costly.

According to appellants Nanopierce Technologies, Inc., and some of its shareholders, respondents' use of the Stock Borrow Program impermissibly decreased Nanopierce's stock value, irrespective of normal market forces. Consequently, appellants instituted the case below, asserting state law challenges to respondents' operation, and representation to participants, of the Stock Borrow Program. The district court ultimately dismissed the action, concluding that federal law in the area of clearing and settling securities transactions preempted appellants' claims. This appeal followed.¹

The question presented is whether section 17A of the Securities Exchange Act of 1934 preempts appellants' state law claims for damages. We agree with the district court that appellants' state law challenges related to the Stock Borrow Program are preempted by federal statutes and regulations. Specifically, we conclude that, because the state law on which appellants base their claims poses an obstacle to respondents' accomplishment of congressional objectives as explicitly stated in and gleaned from the Securities Exchange Act's framework, and because respondents' compliance with both state and federal requirements concerning the securities transactions at issue in this case is impossible, section 17A of the Securities Exchange Act preempts appellants' claims.

In explaining that determination, we initially set forth a somewhat detailed discussion of respondents' and the Stock Borrow Program's federally enacted roles in clearing and settling broker-to-broker securities transactions, as necessary to understand appellants' causes of action. We then generally set forth the various preemption analyses, before determining the preemption analytical framework necessary to address appellants' causes of action. Finally, we analyze appellants' causes of action in light of that framework to determine whether federal enactments with respect to clearing and settling securities transactions preempt appellants' state law causes of action.

OVERVIEW

The Stock Borrow Program and its primary clearing agencies—The Depository Trust Company and The National Securities Clearing Corporation

The Stock Borrow Program is principally a result of difficulties that arose under the Securities Exchange Act of 1934, which Congress enacted generally to regulate and control securities transactions in interstate commerce, and specifically to "remove impediments to and perfect the mechanisms of a national market system for securities and a national system for the clearance and settlement of securities transactions."² In 1975, to modernize the system in light of technical advances, Congress amended the Securities Exchange Act of 1934 to add section 17A, which directed the Commission to establish a national system "to facilitate" the efficient clearance and settlement of securities transactions, including registering and regulating clearing agencies.³

The primary clearing agencies that the Commission registered, under section 17A, are respondents The Depository Trust Company (DTC) and The National Securities Clearing Corporation (NSCC),⁴ subsidiaries of respondent The Depository Trust and Clearing Corporation. With respect to registering the NSCC, the Commission specifically determined that the NSCC's "by-laws, rules, procedures, and systems," including the Stock Borrow Program, were consistent with the Commission's standards and requirements.⁵ The DTC and the NSCC are also registered with the Commission as self-regulatory organizations; the Commission has effectively delegated some of its authority to regulate the clearance and settlement of securities transactions to respondents.⁶ Respondents thus stand in the Commission's shoes when performing their functions.⁷

Together, the DTC and NSCC, as regulated by the Commission, provide automated clearance and settlement of broker-to-broker securities transactions.⁸

The DTC

The DTC, for its part in facilitating the clearance and settlement of securities transactions, acts as a stock depository, retaining in its vaults the physical stock certificates that a broker has deposited with it on behalf of an investor. Any broker deposit is reflected as a credit in that broker's corresponding DTC account. Although brokers deposit the physical stock certificates with the DTC on behalf of individual investors, all certificates are held in the DTC's vaults in the name of the DTC's nominee, Cede & Co. Thus, once deposited, stock certificate ownership changes are merely recorded electronically in the brokers' respective DTC accounts—no movement of the physical stock certificates occurs.

The NSCC

While the DTC's role in clearing and settling securities transactions essentially includes only retaining the physical stock certificates and updating brokers' DTC accounts to reflect transfers of stock ownership, the NSCC facilitates the actual clearance and settlement of the securities by (1) acting as an intermediary between brokers engaged in a securities transaction, and (2) tracking, over a designated trading period, a broker's transactions with respect to a specific security.

In its role as an intermediary, the NSCC assumes the payment and delivery obligations of the buying and selling brokers, respectively. As regards the NSCC's tracking function, the NSCC keeps track of all of a broker's transactions with respect to a specific security over a designated trading period. This function allows a broker to deliver to or receive from the NSCC, which as noted has assumed the broker's purchase and delivery obligations, the net amount resulting from his purchase and sales of that particular security at the end of the designated trading period.

After the NSCC calculates a broker's payment or delivery obligation with respect to a specified security for a designated trading period, the broker normally owes or is owed shares of that security. The NSCC then transmits that information to the DTC for processing. For the selling broker, the DTC compares the broker's share delivery obligation, if any, to the amount of that share held in the broker's DTC account, to determine whether the broker possesses enough shares to fulfill his delivery obligation. If enough shares are present in the selling broker's DTC account to fulfill that delivery obligation, delivery of those shares occurs by sending the shares through the NSCC to the DTC account of the party owed the securities, the buying broker. If, however, the selling broker does not have enough shares in his DTC account to cover the obligation, i.e., the broker has sold more shares than he possesses, two options for covering the unfilled obligation generally exist: (1) the buying broker, who is owed the shares, after notifying the NSCC, may purchase in the open market the number of shares owed to him—so-called buying-in; or (2) the buying broker simply can wait for the amount of shares owed to him to become available as other securities transactions are processed through the NSCC. According to appellants, these two options were available to a broker before the NSCC implemented the Stock Borrow Program.

Stock Borrow Program

Apparently to obviate the need for a buying broker to exercise either of the two aforementioned options, i.e., to reduce the instances of a buying broker failing to receive the shares owed to him, the NSCC implemented the Stock Borrow Program. The Stock Borrow Program enables NSCC and DTC brokers to lend shares from their DTC accounts to cover another broker's failure to deliver shares to the NSCC, before any actual failure to deliver occurs. The Stock Borrow Program essentially operates by allowing brokers, otherwise unrelated to the securities transaction that resulted in the...