Nasdaq OMX Group Inc (NDAQ) plans to pay out $62 million in cash to firms that lost money in Facebook Inc's (FB.O) bungled initial public offering in May, modifying an earlier plan that drew intense criticism from market makers and other exchanges.
The plan, which Nasdaq filed with regulators late Friday, is $22 million larger than originally proposed in June. All accommodations will be paid in cash, a departure from the prior proposal, in which Nasdaq would have mostly compensated firms through trading credits or rebates.
All payouts are expected to occur within six months for firms that qualify and agree not to pursue legal action against Nasdaq, the filing said.
U.S. exchanges match hundreds of billions of dollars of securities transactions every day.
"If exchanges could be called upon to bear all costs associated with system malfunctions and the varying reactions of market participants taken in their wake, the potential would exist for a single catastrophic event to bankrupt one or multiple exchanges," Nasdaq said in the filing.
Liabilities at U.S. exchanges are capped in most instances. Nasdaq's cap is $3 million and the plan filed with the SEC is meant to increase that in this specific instance. But a firm could sue in the case of gross negligence, one legal source said.
Market makers, which facilitate trades for brokers, lost upward of $200 million in the IPO as technical glitches on Nasdaq's systems delayed the offering, and then left many investors in the dark for more than two hours as to whether their orders had gone through.
The market makers said Nasdaq's original plan fell far short. Some said they were weighing their legal options.
In its filing, Nasdaq said market makers that, on the day of the Facebook IPO, had covered client orders that were canceled but not confirmed in a reasonable amount of time, should bear some of the losses themselves. Nasdaq's plan calls for the market makers to bear 30 percent of the losses in these cases.
Orders are usually confirmed within seconds, but in this case, many orders made between 11:11 a.m. and 11:30 a.m. when the stock began trading, were not confirmed or processed until 1:50 p.m. That left market makers and other customers unsure of what they owned or whether their buy, sell and cancel orders had gone through. Some orders were lost altogether.
During the chaotic hours after Facebook debuted, market makers say they tried in vain to reach contacts at Nasdaq to find out about their positions in Facebook. They were also calling the SEC to make sure the regulator understood the gravity of the situation.
Nasdaq faces regulatory investigations into its systems and actions.
The botched IPO has been a communications nightmare for Nasdaq, which prides itself on its technology.
It is also a black eye for an exchange industry already suffering from lost investor confidence after both the financial crisis and the "flash crash" in May 2010, when $1 trillion in shareholder equity was temporarily wiped out in minutes.
"We deeply regret the problems encountered during the initial public offering of Facebook," Nasdaq CEO Robert Greifeld said in a statement. "We failed to meet our own high standards based on our long history of providing outstanding technology to our members and exchange customers."
Greifeld said the exchange has learned from the experience and will continue improving its trading platform.
The Financial Industry Regulatory Authority, Wall Street's self-regulator, has agreed to evaluate claims submitted under the program. The filing of the accommodation program with the SEC begins a comment period, Nasdaq said.
Facebook's $16 billion IPO was to have been the culmination of years of breakneck growth for a social network that became a cultural and business phenomenon.
But the shares of the eight-year-old company founded by Mark Zuckerberg in his Harvard dormitory room have sagged since going public at $38 a share.
Facebook shares fell 0.8 percent on Friday to close at $28.76.
Nasdaq's four largest market makers in the $16 billion Facebook IPO -- UBS (UBSN.VX), Knight Capital Group (KCG), Citadel Securities, and Citigroup's Automated Trading Desk (C.N) -- have estimated that they lost $200 million from Facebook trades entered May 18.
In addition, news reports have said UBS may have lost considerably more, perhaps $350 million.
Knight Capital and UBS have hinted that they could bring legal action against Nasdaq if the compensation does not cover their losses.
Citadel said it had no comment on the new plan, while the other market makers were not immediately available for comment.
The original plan also drew the ire of other exchanges, which said the idea of rebates -- which were scrapped in the new plan -- would force the firms to trade on Nasdaq.
NYSE Euronext and BATS Global Markets on Friday declined to comment on the new proposal.
Nasdaq said in its filing that 45 minutes after all of the confirmations were sent out at 1:50 p.m. on the day of the Facebook IPO "would have been ample time for a reasonably diligent member to have identified any unexpected customer losses or unanticipated customer positions, and taken steps to mitigate or liquidate them" before trading closed at 4 p.m.
Using that timeframe, Nasdaq established a benchmark price of $40.527 as a maximum loss price parameter for determining accommodation payments. Losses over that benchmark price, regardless of their cause, are the responsibility of the member firm under the plan.
For orders that were placed to sell at the open that did not go through until later, when Facebook's share price had dropped, resulting in a lost, Nasdaq proposed in its plan, using $40.527 as the benchmark price, compensating a maximum of $1.473 per share per order.