In a concession to the rapidly modernizing world of stock trading, the
New York Stock Exchange
announced plans Wednesday to merge with electronic competitor
, ending the NYSE's 212-year history as a private institution.
The two exchanges will form a publicly traded company that is 70% owned by the Big Board and 30% owned by Archipelago, the electronic exchange that was founded nine years ago and currently operates the ArcaEx trading network.
A Wall Street analyst says the new company, which will be called NYSE Group, will have a market value of $3.05 billion, based on those terms.
Sandler O'Neill analyst Richard Repetto says Archipelago shares should be worth about $19.27 apiece. The thinly traded stock closed at $18.76 on Tuesday. In premarket trading Thursday, shares of Archipelago were trading far above Repetto's price estimate, recently changing hands at $26.50, up $7.74, or 41%.
The price could indicate that Wall Street expects a bidding war to break out. That seems unlikely, however, since the only other likely buyer is the
Nasdaq Stock Market
, which is said to be close to reaching a deal to buy
Of course, the surge might just reflect investor enthusiasm for the new company and the NYSE's formal embrace of more efficient electronic trading -- a move many say is overdue.
The merger, which is expected to be completed in 12 months, follows the
Securities and Exchange Commission's
approval on April 6 of new rules designed to ensure that stock trades occur at the best available price. While the final version of the overhaul was seen as a compromise that spared the NYSE's open-auction specialist system from extinction, it effectively required the Big Board to adopt a much broader system of electronic trading or see its market share poached by other exchanges.
More broadly, the deal is another step in a series of reforms designed to restore the exchange's reputation in the wake of scandals including former chairman Richard Grasso's pay flap and a two-year-old investigation of specialist trading violations.
As part of the proposed transaction, the NYSE will split off its regulatory functions into a separate, nonprofit entity. The merger is subject to approval by NYSE members, Archipelago shareholders and financial regulators.
Combined with Archipelago, the NYSE will be able to tap into the world of electronic trading and options exchange and electronically traded funds and derivatives -- Archipelago's strong suits -- noted Thain.
"This transaction is an essential step to maintaining global competitiveness and leadership," Thain said.
Likewise, the deal gives Archipelago access to the market for NYSE stocks. The company's network handles about 25% of the trades in stocks listed on the Nasdaq Stock Market, but it has a much smaller dent in NYSE orders, where more than 80% of listed stocks trade on the floor of the exchange in a specialist-managed auction.
Word of the deal comes as a separate takeover drama plays out at one of Archipelago's main electronic competitors, Instinet.
Reports last week said the Nasdaq market, which recently completed a secondary stock offering and greatly increased its available public shares, is nearing a deal to buy the pioneering crossing network, which is majority-owned by
Terry Hendershott, an assistant professor at the Haas School of Business at the University of California at Berkeley, says it is unclear how the Big Board will integrate Archipelago's exchange and technology into its own operations.
"It's difficult to know what the NYSE floor and protocols are going to be like a year from now," Hendershott says. "It's hard to know what
the merger is going to mean."
The move could be good for investors and the broader financial market, Hendershott says. There have clearly been too many markets and trading systems, he added, forcing regulators into an ungainly hierarchy of rules to tie together all of the markets.
"As long as it doesn't hurt competition too much, having them all merge with each other would solve many of these problems," Hendershott says. "At some point, though, you have to wonder if regulators and the buy side are going be concerned" with the consolidation of the markets, he added.
Under the terms of the deal, the two companies will form a publicly held holding company called NYSE Group. Owners of NYSE seats will receive 70% of the stock in the new company and about $300,000 in cash, Thain said. All told, the NYSE will be handing out about $400 million to seat-holders, he said. Archipelago shareholders will hold about 30% of the stock in the new company.
Thain will become CEO of the new entity, while Archipelago CEO Jerry Putnam will become one of the new body's co-presidents, along with current NYSE Co-Presidents Catherine R. Kinney and Robert G. Britz.
Although the NYSE will move into electronic trading with the merger, the deal will not eliminate floor trading, Thain emphasized. Instead, investors will be able to conduct transactions via the floor, electronic trading via Archipelago or through the Big Board
hybrid marketplace. Still in development, hybrid trading at the NYSE would rely on floor traders generally at times of high volatility or low liquidity.
Critics have charged that floor traders are inefficient, don't always give investors the best price and put their own interests ahead of investors'. Last week, for instance, federal prosecutors indicted 15 current or former NYSE traders, or specialists, on charges of securities fraud, and the SEC filed civil charges against those traders and five more. Meanwhile, the NYSE, to settle charges that it had inadequately policed floor traders, agreed to set aside $20 million to pay for future audits of its regulatory division.
While recognizing a need for change, the NYSE has defended its system, noting that floor traders fill a critical need by being the buyers or sellers of last resort for stocks.
While the merger won't thrust the NYSE completely into the world of electronic trading, it will address some of the outstanding criticism of the exchange that came to light in the Grasso pay scandal. Among the reforms suggested in the wake of that episode was that the NYSE should separate its exchange from its regulatory powers and that the Big Board should de-emphasize the role of the floor traders.
Investors have long had a problem with the NYSE's exchange and regulatory body being part of the same organization, says Pat McGurn, special counsel at proxy adviser Institutional Shareholder Services. The NYSE changed its structure in 2003, so that the regulatory division no longer reported to the CEO, but to a chief regulatory officer that reported to the board. Still, even with those changes, the feeling among investors was that the exchange faced a conflict, McGurn says, between policing listed companies and looking after its own commercial interests in ensuring that as many companies are listed as possible.
Separating those two functions "has to be a positive from an investor standpoint," he says.
The only concern about the split is whether the exchange or the regulatory body will control listing standards in the future, McGurn says.
The NYSE regulatory division currently governs listing standards, says Ray Pellecchia, a spokesman for the exchange. "I don't see any indication that we're going to do anything differently" after the separation of the regulatory and exchange functions, he says.
The move into electronic trading is part of the ongoing modernization of the NYSE that's been forced upon it by competitors and investors, says McGurn.
"Dick Grasso won a lot of plaudits for keeping the horse and buggy whip system alive," he says. "This
deal probably pushes them the final step along the way" toward modernization
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