and depth of the expertise, and the diversity of viewpoints, of the
Advisory

Committee's membership.\808\ A larger and more diverse Advisory
Committee may have better access to expertise and diversity of
viewpoints from among members for use in advising the Operating
Committee.\809\ But, members of a larger and more diverse Advisory
Committee would face potentially greater difficulties in working among
themselves to identify and convey the information that is available to
them. The Plan balances these considerations by providing the Advisory
Committee with sufficient membership to be able to generate useful
information and advice for the Operating Committee, while being at a
sufficiently low size and diversity level to permit the members to be
able to work together without undue obstacles that could otherwise
limit the Advisory Committee's effectiveness in conveying their
views.\810\
---------------------------------------------------------------------------

    \808\ In a role similar to that of the Advisory Committee,
outsiders on corporate boards of directors can bring expertise and
independence to board actions, thereby enhancing board
effectiveness. Trade-offs in determining the optimum size and
composition of boards is the subject of extensive academic research.
For example, Lehn, Kenneth, Sukesh Patro, and Mengxin Zhao, 2009,
``Determinants of the size and structure of corporate boards: 1935-
2000,'' Financial Management, 747-780, consider the size and
composition of the board to be determined by trade-offs associated
with the information the directors bring to boards, which facilitate
their monitoring and advisory role, and the coordination costs and
free-rider problems associated with their presence. Harris, Milton
and Raviv, Artur, 2008, ``A Theory of Corporate Control and Size,''
21 Review of Financial Studies, 1797-1832, model the trade-off
between benefits of greater expertise that outside directors bring
versus the costs of an aggravated free-rider problem to arrive at
the optimum number of outside directors on the board. Collective-
action and communication problems can limit the effectiveness of a
board as it gains members as explored by Harris and Raviv (2008) and
Lehn, Patro, and Zhao (2009), in addition to Raheja, Charu, 2005.
``Determinants of Board Size and Composition: A Theory of Corporate
Boards,'' 40 Journal of Financial and Quantitative Analysis, 283-
306, and Yermack, David, ``Higher Market Valuation for Firms with a
Small Board of Directors,'' Journal of Financial Economics, XL
(1996), 185-211; see also Jerayr Haleblian and Sydney Finkelstein,
``Top Management Team Size, CEO Dominance, and Firm Performance: The
Moderating Roles of Environmental Turbulence and Discretion,'' The
Academy of Management Journal, Vol. 36, No. 4 (August, 1993), 844-
863.
    \809\ For related literature that expressly examines trade-offs
and consequences of ``diverse'' boards, see Baranchuk, Nina, and
Phil Dybvig, 2009, ``Consensus in diverse corporate boards,'' Review
of Financial Studies 22(2), 715-747; and Malenko, Nadya, 2014,
``Communication and Decision-Making in Corporate Boards,'' Review of
Financial Studies 27(5), 1486-1532.
    \810\ Another factor that may bear on the Advisory Committee's
ability to assemble a diverse range of views is the Plan's
provisions that Advisory Committee members sit in their individual
capacity, rather than as a representative of their employer. This
may give Advisory Committee members greater freedom to speak to
issues common to similarly-situated entities (e.g., large broker-
dealers), rather than potentially-idiosyncratic views of the
individuals' employers, which broader views in turn could better
inform the Operating Committee about issues or impacts associated
with the operation of the CAT.
---------------------------------------------------------------------------

    Another factor in the ability of the Advisory Committee to advise
the Operating Committee is whether the Advisory Committee, having
assembled a diverse set of views, could effectively communicate those
views to the Operating Committee. Two Plan provisions, relating to the
staggering of member terms and the limits on participation of the
Advisory Committee under Rule 613(b)(7)(ii), bear on this
communication.\811\
---------------------------------------------------------------------------

    \811\ See CAT NMS Plan, supra note 3, at Section 4.13(b) and
(c).
---------------------------------------------------------------------------

    First, the Plan provides for Advisory Committee members to serve
for staggered three-year terms in order to provide ``improved
continuity given the complexity of CAT processing.'' \812\ Staggering
of terms would prevent the entire Advisory Committee or large numbers
of its members from turning over in any given year, which could enhance
the cohesion of the Advisory Committee, and thereby its effectiveness
in communicating member viewpoints to the Operating Committee. Second,
the Plan gives the Advisory Committee varying roles with respect to the
different actions to be taken by the Operating Committee. While the
Advisory Committee members may attend meetings and submit views to the
Operating Committee on matters prior to a decision by the Operating
Committee, the Operating Committee may exclude Advisory Committee
members from Executive Sessions.\813\
---------------------------------------------------------------------------

    \812\ See id. at Section 4.13(c); Appendix C, Section D.11(b)
(``Governance of the CAT . . . Industry Members also recommended a
three-year term with one-third turnover per year . . . to provide
improved continuity given the complexity of CAT processing.'').
    \813\ See CAT NMS Plan, supra note 3, at Section 4.13(d).
---------------------------------------------------------------------------

    An additional factor that bears on the ability of the Advisory
Committee to advise the Operating Committee is a feedback loop: Whether
the Advisory Committee could receive sufficiently detailed information
on the operations of the Plan so that the Advisory Committee members
can, in turn, provide decision-useful information to the Operating
Committee. Here, the Plan specifies that the Advisory Committee has the
right to receive from the Operating Committee information necessary and
appropriate to the fulfillment of its functions, but that the scope and
content of the information is to be determined by the Operating
Committee.\814\ Thus, the Commission notes that the Operating Committee
could act to limit the effectiveness of the Advisory Committee--for
example, if the Operating Committee were to fail to provide Advisory
Committee members with notice of the items to be deliberated and voted
upon by the Operating Committee with sufficient time and particularity
for the Advisory Committee to be able to adequately fulfill its
function, or fail to provide other pathways for Advisory Committee
members to become aware of topics of interest or concern to the
Operating Committee.
---------------------------------------------------------------------------

    \814\ Id. at Section 4.13(e).
---------------------------------------------------------------------------

    One other determinant bears on the effectiveness of the Advisory
Committee in ensuring that the Operating Committee makes decisions in
light of diverse information--whether the Operating Committee actually
takes into account the facts and views of the Advisory Committee before
making a decision. Although the Plan expressly provides for Advisory
Committee input, it does not contain a mechanism--such as requiring the
Operating Committee to respond to the Advisory Committee's views,
formally or informally, in advance of or following a decision by the
Operating Committee--to ensure that the Operating Committee considers
the views of the Advisory Committee as a part of the Operating
Committee's decision-making process.
(3) Conclusion
    The Commission preliminarily believes that the governance
provisions discussed above, which the Commission identified as being
``important to the efficient operation and practical evolution of the
[CAT], and . . . responsive to many commenters' concerns about
governance structure, cost allocations, and the inclusion of SRO
members as part of the planning process,'' could help promote better
decision-making by the relevant parties. These provisions thus could
mitigate concerns about potential uncertainty in the economic effects
of the Plan by giving the Commission greater confidence that its
expected benefits would be achieved in an efficient manner and that
costs resulting from inefficiencies would be avoided.
4. Request for Comment on the Benefits
    The Commission requests comment on all aspects of the discussion of
the potential benefits of the CAT NMS Plan. In particular, the
Commission seeks responses to the following questions:
    257. Do Commenters agree with the Commission's assessment of the
potential benefits of the CAT NMS Plan? Why or why not?
    258. To what extent do the uncertainties related to future
decisions about Plan implementation impact the

assessment of potential benefits of the Plan? Please explain.
    259. Do Commenters agree that the inclusion of the data fields in
one centralized data source in the CAT NMS Plan described above would
result in more complete data than what is currently available to
regulators? Which elements of the Plan would deliver improvements to
completeness? Are there any elements of the Plan that would degrade the
completeness of regulatory data? Please explain.
    260. The Commission reviewed gap analyses that examine whether the
CAT Data would contain all important data elements in current data
sources \815\ and concluded that certain information is not included
(e.g., OATS data fields that allow off-exchange transactions to be
matched to their corresponding trade reports at trade reporting
facilities and certain EBS elements). Please identify any such data
elements that are missing under the Plan.
---------------------------------------------------------------------------

    \815\ See SEC Rule 613--Consolidated Audit Trail (CAT) OATS--CAT
Gap Analysis and SEC Rule 613--Consolidated Audit Trail (CAT)
Revised EBS--CAT GAP Analysis, available at http://www.catnmsplan.com/gapanalyses/index.html. The Commission
acknowledges that the Participants are continuing to study gaps
between current regulatory data sources and the Plan as filed. CAT
NMS Plan, supra note 3, at Appendix C, Section C.9
---------------------------------------------------------------------------

    261. The Commission also seeks comment on the significance of the
gaps identified in the analyses. If there are particular fields that
are identified in the gap analyses that should not be incorporated into
CAT, please identify them and explain.
    262. The Commission expects that, pursuant to the requirements of
the Plan,\816\ any missing elements that are material to regulators
would be incorporated into CAT Data prior to the retirement of the
systems that currently provide those data elements to regulators. Do
you agree? Why or why not? Do you agree that CAT Data would include the
audit trail data elements that currently exist in audit trail data
sources? Why or why not?
---------------------------------------------------------------------------

    \816\ The Plan requires that, prior to the retirement of
existing systems, the CAT Data must contain data elements sufficient
to ensure the same regulatory coverage provided by existing systems
that are anticipated to be retired. See CAT NMS Plan, supra note 3,
at Appendix D, Section 3.
---------------------------------------------------------------------------

    263. Do Commenters agree that the CAT NMS Plan would improve the
accuracy of the data available to regulators? Which elements of the
Plan would deliver these improvements? Are there any elements of the
Plan that would degrade the accuracy of regulatory data relative to
today? Are there any elements of the Plan that would prevent or limit
improvements in the accuracy of regulatory data? Are the provisions of
the Plan related to accuracy appropriate and reasonable in light of the
goal of improving data quality? Please explain.
    264. Do Commenters believe that procedural protections in the Plan,
such as the requirement that the Technical Specifications be
``consistent with [considerations and minimum standards discussed in]
Appendices C and D,'' the requirement to provide the initial Technical
Specifications and any Material Amendments thereto to the Operating
Committee for approval by Supermajority Vote,\817\ and the requirement
that all non-Material Amendments and all published interpretations be
provided to the Operating Committee in writing at least ten days before
publication,\818\ can mitigate uncertainty regarding future decisions
and help promote accuracy? Please explain.
---------------------------------------------------------------------------

    \817\ Id. at Section 6.9(a). The Commission notes that the
standards in Appendices C and D do not cover all decisions that
would affect the accuracy of the data.
    \818\ See CAT NMS Plan, supra note 3, at Section 6.9(c)(i).
---------------------------------------------------------------------------

    265. Do Commenters believe that the Error Rate, validations, and
error resolution processes described in the CAT NMS Plan would provide
improvements in accuracy? Are these processes appropriate and
reasonable in light of the goal of improving data quality? Please
explain.
    266. The Plan specifies an error correction process after initial
reports are received and indicates that practically all errors
identifiable by the validations used in the error correction process
would be corrected by 8:00 a.m. Eastern Time on day T+5, stating that
errors are expected to be ``de minimis'' after the error correction
period.\819\ Do Commenters believe that this is a reasonable
conclusion? Please explain.
---------------------------------------------------------------------------

    \819\ See id. at Appendix C, Section A.3(b) n.102. ``De
minimis'' is not defined and no numerical Error Rate is given. The
Plan also includes a compliance program intended to help achieve
this goal.
---------------------------------------------------------------------------

    267. Do Commenters believe that the provisions in the CAT NMS Plan
related to event sequencing would provide improvements in accuracy? To
what degree does the 50 millisecond clock synchronization requirement
enable or prevent regulators' ability to sequence events that occur in
different Execution Venues? Are the provisions of the Plan related to
event sequencing appropriate and reasonable in light of the goal of
improving data quality? Please explain.
    268. The Plan does not specify the approach that would be used to
sequence events when time stamps are identical. Do Commenters believe
that there is a way for the Plan Processor to sequence events with
identical time stamps? How would this process, or the lack of a
process, affect the quality of the CAT Data?
    269. The Plan states that ``the Participants plan to require that
the Plan Processor develop a way to accurately track the sequence of
order events [of a particular order] without relying entirely on time
stamps.'' \820\ Do Commenters believe it is feasible to properly
sequence the events of a simple or complex order without relying
entirely on time stamps? Please explain. If such a procedure could be
developed, how accurate would it be?
---------------------------------------------------------------------------

    \820\ See CAT NMS Plan supra note 3 at Appendix C, Section
A.3(c).
---------------------------------------------------------------------------

    270. The Plan further states, ``For unrelated events, e.g.,
multiple unrelated orders from different broker-dealers, there would be
no way to definitively sequence order events within the allowable clock
drift as defined in Article 6.8.'' \821\ Do Commenters believe it would
be feasible for the Plan Processor to develop a way to accurately
sequence such unrelated orders given the time stamp and clock
synchronization requirements of the Plan? Please explain. If such a
procedure could be developed, how accurate would it be?
---------------------------------------------------------------------------

    \821\ See id. at Appendix C, Section A.3(c) n.110.
---------------------------------------------------------------------------

    271. Do Commenters agree with the Commission's data analysis of the
clock synchronization improvements from the Plan? If not, how could the
Commission improve the data analysis? Do Commenters have their own data
analysis that informs on the expected improvements from the Plan? If
so, please provide. Do Commenters agree that the improvements to the
percentage of sequenceable order events by Plan standards are modest
and the requirements of the Plan may not be sufficient to completely
sequence the majority of market events relative to all other events?
    272. Do Commenters agree with the Plan's assessment of the industry
standard for clock synchronization? Does this reflect the standards for
all CAT Reporters, including exchanges, ATSs, and other broker-dealers?
If not, what would be a more appropriate way to define the industry
standard for clock synchronization?
    273. Do Commenters believe that the provisions in the CAT NMS Plan
related to linking data would result in improvements to the accuracy of
the data available to regulators? Would the process for linking orders
across market participants and SROs improve accuracy compared to
existing data? Would the Plan Processor be able to

develop expertise in linking data more efficiently than the regulatory
staff members from each entity could on their own? Please explain.
    274. Would the Error Rates associated with the linking process
represent improvements to data accuracy? Would Approach 1 to data
conversion result in a lower Error Rate than Approach 2? Would the
Approach affect the Plan Processor's ability to build a complete and
accurate database of linked data? Are the Error Rates associated with
the linking process appropriate and reasonable in light of the goal of
improving data quality? Please explain.
    275. Do Commenters believe that the inclusion of unique Customer
and Reporter Identifiers would increase the accuracy of information in
data regulators use and provide benefits to a broad range of regulatory
activities that involve audit trail data? Please explain.
    276. Do Commenters agree that the CAT Data would provide less
aggregated allocation information and less aggregated issuer repurchase
information? Why or why not? Would these changes significantly affect
regulatory activities?
    277. Do Commenters agree that the CAT NMS Plan would improve the
accessibility of the data available to regulators? Which elements of
the Plan would deliver these improvements? Are there any elements of
the Plan that would degrade the accessibility of regulatory data
relative to today? Are there any elements of the Plan that would
prevent or limit improvements in the accessibility of regulatory data?
    278. Do Commenters believe that the minimum requirements for direct
access ensure that the Plan would improve access to current data,
including the process of requesting data? Would the direct access
facilitated by the Plan provide sufficient capacity and functionality?
Would direct access reduce the number of ad hoc data requests?
    279. Do Commenters agree that the CAT NMS Plan would improve the
timeliness of the data available to regulators? Which elements of the
Plan would deliver these improvements? Are there any elements of the
Plan that would degrade the timeliness of regulatory data relative to
today? Are there any elements of the Plan that would prevent or limit
improvements in the timeliness of regulatory data?
    280. Do Commenters believe that the CAT NMS Plan will facilitate
the ability of each national securities exchange and national
securities association to comply with the requirement in Rule 613(f)
that they develop and implement a surveillance system, or enhance
existing surveillance systems, reasonably designed to make use of the
consolidated information contained in the consolidated audit trail? If
not, why not?
    281. Do Commenters agree that the CAT NMS Plan will facilitate the
ability of regulators to conduct risk-based examinations? Why or why
not? How significantly would the Plan improve risk-based examinations?
Please explain.
    282. Do Commenters agree that the CAT NMS Plan will improve the
efficiency of regulators' enforcement activities? Why or why not? Which
specific regulatory activities would be most improved by the CAT NMS
Plan? Please explain.
    283. Do Commenters agree that the CAT NMS Plan will improve the
ability for regulators to determine the credibility of tips and
complaints? Please explain.
    284. Overall, do Commenters agree that the surveillance,
examination, and enforcement activities of regulators would improve
with the CAT NMS Plan? Please explain. Would these improvements be
significant enough to deter violative behavior? Please explain. What
would be the economic effect of this deterrence?
    285. Would such improvements reduce the percentage of activities
that generate false positives (i.e., detection of behaviors that are
not violative) and/or reduce the percentage of activities that are
false negatives (i.e., not detecting behaviors that are violative)?
Please explain. What would be the economic effect of any changes in
false positives or false negatives?
    286. Do Commenters agree with the Commission's assessment of the
economic effects of the improvements to surveillance, examinations, and
enforcement from the CAT NMS Plan? Please explain.
    287. Do Commenters agree that the CAT NMS Plan would improve the
efficiency and effectiveness of regulators conducting analysis and
reconstruction of market events? Please explain. Do Commenters agree
with the Commission's assessment of the benefits to investors and the
market of more efficient and effective analysis and reconstruction of
market events? Please explain.
    288. Do Commenters agree that the CAT NMS Plan would facilitate
market analysis and research that would improve regulators'
understanding of securities markets? Please explain. Do Commenters
agree with the Commission's assessment of the benefits to investors and
the markets from regulators having a better understanding of the
markets? Please explain.
    289. Do Commenters believe that there are other features of the CAT
NMS Plan uniquely applicable to a consolidated audit trail that
increase the likelihood that the potential benefits of the CAT NMS Plan
would be realized? Please identify these features and explain.
    290. Do Commenters agree that provisions of the Plan related to
future upgrades, promoting accuracy, and promoting timeliness increase
the likelihood that the potential benefits of the CAT NMS Plan would be
realized? Do current regulatory data sources have provisions similar to
ones the Commission analyzed? If so, please describe such provisions.
    291. Do Commenters believe that provisions of the Plan provide
incentives to reduce reporting errors for a CAT Reporter that has an
Error Rate that does not exceed the thresholds that would trigger fines
under the Plan or possible enforcement actions by regulators? If so,
what are the incentives? Could the Plan provide different incentives to
reduce reporting errors? Please explain.
    292. Under the Plan, proposals to adjust the maximum allowable
Error Rate are to originate from the Plan Processor. Do Commenters
agree with this approach? Please explain. Should others, such as the
Operating Committee, or Advisory Committee be able to originate changes
to the Error Rate? Please explain.
    293. Do Commenters agree that communication of data feed delays for
public consumption is beneficial to the operation and effectiveness of
the CAT? If so, in what ways? What are the benefits and costs of such
public disclosure?
    294. Do Commenters agree that the governance provisions identified
in the Rule 613 Adopting Release continue to be important to the
efficient operation and practical evolution of the Plan, and therefore
to the achievement of the Plan's benefits? Are there other aspects of
the Plan's governance that might enhance (or detract from) the Plan's
ability to achieve its intended benefits? Are there other governance
aspects that the Plan does not address that might enhance, if included
(or detract from, if not remedied) the Plan's ability to achieve its
intended benefits? Please identify these other features and explain how
they enhance (or detract from) the Plan's ability to achieve its
intended benefits.
    295. The Commission's analysis of the provisions of the Plan
relating to voting assumes that these provisions will

promote the benefits sought to be achieved by the Plan because, by
assigning different voting thresholds to different actions, the Plan
seeks to address potential conflict of interest and holdout problems,
balancing dissenters' rights with the need to move forward with needed
changes. Is this a complete and accurate list of the factors that could
bear on whether the voting provisions of the Plan will promote the
benefits sought to be achieved by the Plan, and did the Commission
correctly weigh these factors in preliminarily concluding that the
Plan's voting provisions could help promote better Plan decision-making
and, thus, improve achievement of the Plan's goals? If the Commission
should have considered other factors or weighed the identified factors
differently, please explain how, and what the costs and benefits of an
alternative approach would be.
    296. The Plan provides that ``[a]ll votes by the Selection
Committee shall be confidential and non-public.'' \822\ What are the
effects of confidential voting as a means of limiting conflicts of
interest and promoting accountability? Would expanding confidentiality
in voting to other situations help or hinder the effectiveness of the
Operating Committee and its Subcommittees in achieving the regulatory
objectives of the Plan? Please explain and provide supporting examples
and evidence, if available.
---------------------------------------------------------------------------

    \822\ See CAT NMS Plan, supra note 3, at Section 5.1(b)(v).
---------------------------------------------------------------------------

    297. Do Commenters believe that the size, membership, and tenure of
Advisory Committee members is appropriately tailored to encourage the
effective accumulation and communication of Advisory Committee member
views to the Operating Committee, thereby improving Plan decision-
making? If not, why not? Are there other factors that could bear on
whether the provisions of the Plan relating to the Advisory Committee
will promote better decision-making? If so, what other factors?
    298. Are there any alternatives for Advisory Committee involvement
that could increase the effectiveness of its involvement? What benefits
would these achieve in terms of improving the Operating Committee's
efficiency? Would these alternatives increase or decrease costs?
    299. What obstacles to information-sharing between individual
members of the Operating Committee and the Commission, if any, are
likely to limit the Plan's effectiveness in meeting its regulatory
objectives? Is there any information, such as regarding individual SRO
clock synchronization standards, that members would need to share
within the Operating Committee to achieve plan regulatory objectives
but may be uncomfortable sharing with one another (or more comfortable
sharing with the Commission than with one another)? Please be specific
and explain what, if any, changes to the plan could mitigate obstacles
from inadequate information-sharing.
    300. Are there any other factors relating to the operation and
administration of the Plan that the Commission should consider as part
of determining whether to approve the Plan? If so, what are those
factors and how could they influence the costs and benefits of the
Plan? Does the Plan currently address these factors? If not, how could
the Plan address these factors and what would be the relative costs and
benefits of any changes to the Plan?

F. Costs

    As noted above, at the time of the Adopting Release the Commission
deferred its economic analysis of the creation, implementation, and
maintenance of CAT until after submission of the CAT NMS Plan.\823\
Accordingly, the Commission deferred its detailed analysis of costs
associated with CAT. In light of the SROs having submitted the CAT NMS
Plan, this Section sets forth the Commission's preliminary analysis of
the expected costs for creating, implementing, and maintaining the CAT,
as well as the associated reporting of data.
---------------------------------------------------------------------------

    \823\ See Adopting Release, supra note 9, at 45789.
---------------------------------------------------------------------------

    As discussed in detail below, the Commission has preliminarily
estimated current costs related to regulatory data reporting,
anticipated costs associated with building and maintaining the Central
Repository, and the anticipated costs to report CAT Data to the Central
Repository. These preliminary estimates are calculated from information
provided in the CAT NMS Plan as well as supplemental information.
Currently, the 20 Participants spend $154.1 million annually on
reporting regulatory data and performing surveillance.\824\ The
approximately 1,800 broker-dealers anticipated to have CAT reporting
responsibilities currently spend $1.6 billion annually on regulatory
data reporting.\825\ If the Plan is approved, the Commission
preliminarily estimates that the cost of the Plan would be
approximately $2.4 billion in initial aggregate implementation costs
and $1.7 billion in ongoing annual costs.\826\ Furthermore, the Plan
anticipates that market participants would have duplicative audit trail
data reporting responsibilities for a period of up to a maximum of 2.5
years, preceding the retirement of potentially duplicative regulatory
data reporting schemes.\827\ Duplicative audit trail data reporting
could cost broker-dealers $1.6 billion per year or more and could cost
the Participants up to $6.9 million per year. The Commission
preliminarily believes that the primary component of costs for CAT's
estimated annual costs would be the estimated aggregate broker-dealer
data reporting costs of $1.5 billion per year, whereas the Central
Repository build costs are preliminarily estimated by the Participants
to be no more than $92 million, with annual operating costs of no more
than $135 million.
---------------------------------------------------------------------------

    \824\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(ii)(B)(1).
    \825\ See Section IV.F.1.c(2), infra.
    \826\ See Section IV.F.2, infra.
    \827\ See id.
---------------------------------------------------------------------------

    As explained in detail below, the Commission believes, however,
that there is significant uncertainty surrounding the actual
implementation costs of CAT and the actual ongoing broker-dealer data
reporting costs if the Plan were approved. Methodology and data
limitations used to develop these preliminary cost estimates could
result in imprecise estimates that may significantly differ from actual
costs. The Commission has used its best judgment, however, in obtaining
and assessing available information and data to provide the analysis
and estimates included in this Notice. The Commission is also
requesting comment on the methodology and any additional data
Commenters believe should be considered.
    Furthermore, the Commission notes that because some CAT design
decisions (such as setting forth detailed Technical Specifications)
have been deferred until the selection of the Plan Processor, the
associated cost uncertainties could cause the actual costs to vary
significantly from the estimates set forth in this analysis.
    The Commission notes that the cost estimates set forth in this
analysis are updated from the cost estimates provided in the Proposing
Release. In the Proposing Release, the Commission estimated $4.3
billion in initial implementation costs and $2.3 billion in ongoing
annual costs.\828\ The

Commission has now updated its analysis and estimates $2.4 billion in
initial implementation costs and $1.7 billion in ongoing annual costs.
The Commission believes that several factors drive differences in cost
estimates from the Proposing Release to the current cost estimates in
this analysis. First, the scope of CAT as contemplated in the Proposing
Release is different than the scope of CAT Data as would be implemented
by the CAT NMS Plan.\829\ For example, the Commission notes that,
unlike CAT Data envisioned in the Proposing Release, the proposed Plan
includes OTC Equity Securities, which if included in CAT would
facilitate the possible retirement of OATS as an audit trail data
reporting system at a relatively earlier date. While the Commission's
cost estimates do not explicitly incorporate cost savings from systems
retirement, cost estimates provided in the Plan and based on surveys of
broker-dealers, participants and service providers may reflect some of
these savings. For example, because respondents anticipate
incorporating resources that would be devoted to OTC equity data
reporting to CAT reporting, cost estimates may be lower than they would
be if OTC equity data were excluded from CAT but were still reported to
OATS on an ongoing basis. Thus, after all CAT Reporters start reporting
to the Central Repository and the resolution of any data gaps between
OATS and CAT, FINRA would not need to maintain OATS solely to fulfill
its regulatory responsibilities relating to OTC Equity Securities.\830\
Additionally, the Commission's updated cost estimates are based on data
submitted with the Plan, which was unavailable when the Commission
first estimated the costs of CAT in the Proposing Release,\831\ as well
as certain additional information obtained by Commission Staff.\832\
Furthermore, the Plan also integrates exemptive relief extended to the
Participants regarding (1) Options Market Maker quotes; (2) Customer-
IDs; (3) CAT-Reporter-IDs; (4) linking of executions to specific
subaccount allocations on Allocation Reports; and (5) time stamp
granularity for Manual Order Events. The Commission preliminarily
believes that this exemptive relief contributes to reductions in cost
of the Plan relative to those estimated in the Proposing Release. The
Commission has incorporated this additional information into its
current cost analysis.\833\
---------------------------------------------------------------------------

    \828\ See Proposing Release supra note 9, at 32596-602. The $4.3
billion and $2.3 billion cost estimates can be calculated using
individual cost estimates from the Proposing Release. The Proposing
Release expressed some cost estimates on a per-Participant basis.
The Plan, however, breaks out costs to Participants by (i) single-
exchange-operating Participants and (ii) Affiliated Participants
that operate multiple exchanges. To validly compare the Commission's
preliminary cost estimates to the cost estimates set forth in the
Plan, the Commission's analysis aggregates costs to all Participants
for these cost estimates. The Proposing Release anticipated 1,114
SRO members would report data to the Central Repository directly,
and 3,006 broker-dealers would report data through a service
provider. The Plan anticipates that approximately 1,800 broker-
dealers would have CAT reporting obligations; the Commission
preliminarily believes that the majority of these broker-dealers
would rely on service bureaus to perform their regulatory data
reporting. Again, to validly compare the different cost estimates,
the Commission aggregates the cost estimates across all broker-
dealer CAT Reporters.
    \829\ Similarly, in the Adopting Release, the Commission
explained that ``the methodology that the Commission used in the
Proposing Release to estimate the costs of creating, implementing,
and maintaining a consolidated audit trail may no longer be
suitable'' and that certain ``assumptions may no longer be valid
since several of the specific technical requirements underlying the
Proposing Release's approach have been substantially modified.'' See
Adopting Release, supra note 9, at 45781.
    \830\ If FINRA were unable to retire OATS, the costs of
duplicative reporting (discussed in Section IV.F.2, infra), would
continue indefinitely. The Commission preliminarily believes this
outcome is unlikely because the Plan discusses the Participants'
plans to retire OATS if the Plan is approved. See CAT NMS Plan,
supra note 3, at Appendix C, Section C.9.
    \831\ See Proposing Release, supra note 9, at 32601-02.
    \832\ As discussed further below, the Commission's analysis also
incorporates data obtained from FINRA and information from
discussions with broker-dealers and service bureaus arranged by FIF
and staff. See infra notes 880 and 899.
    \833\ The Commission's revised cost estimates are generally
substantially lower than those presented in the Proposing Release.
See Proposing Release, supra note 9, at 32601-02. The Proposing
Release's estimate of total industry implementation costs is 40.45%
higher than the current estimate, and the Proposing Release's
estimate of ongoing total industry costs is 57.99% higher than the
current estimate. Reductions in cost estimates are primarily driven
by lower broker-dealer implementation and ongoing reporting costs
that are largely attributable to a reduction in the number of
broker-dealers anticipated to incur CAT reporting responsibilities,
as the Proposing Release assumed that all 4,120 broker-dealers would
be CAT Reporters but the Plan estimates that only 1,800 broker-
dealers would incur CAT reporting responsibilities. The Proposing
Release also presented higher estimates of the number of broker-
dealers that are likely to be insourcers; these broker-dealers have
significantly higher implementation and ongoing costs that
outsourcing broker-dealers. The Proposing Release estimated Central
Repository implementation costs that are 23.33% higher than current
estimates; ongoing Central Repository costs were lower by 33.56%;
SRO implementation costs were 82.21% higher in the proposing
release; SRO ongoing costs were estimated to be 31.79% lower than
current estimates. The Proposing Release did not recognize costs to
Service Bureaus related to CAT.
---------------------------------------------------------------------------

1. Analysis of Expected Costs
    The Plan provides estimates of the expected costs associated with
the Plan, including costs to build and operate the Central Repository
and costs to Participants and CAT Reporters to implement and maintain
CAT reporting.\834\ As explained below, the Commission has thoroughly
reviewed the cost estimates contained in the Plan and other relevant
information to develop the Commission's preliminary estimate of
expected costs of the Plan. The Commission preliminarily believes that
in some cases the estimates provided in the Plan are reliable estimates
of the potential costs of certain aspects of the Plan. The Commission
preliminarily believes, however, that in other cases the data and
methodology underlying certain Plan estimates are unreliable and, in
such cases, the Commission has preliminarily evaluated and provided
separate estimates based on alternative data or a different
methodology.\835\
---------------------------------------------------------------------------

    \834\ Because the Plan does not provide data that permit
partitioning costs associated with the Central Repository between
Participants and broker-dealer CAT Reporters, this analysis
discusses the Central Repository costs separately.
    \835\ For example, the Commission preliminarily believes that
cost estimates in the Plan relating to the costs that would be borne
by broker-dealers are unreliable due to limitations of certain
survey response data. These limitations and the Commission's
alternative cost estimate are discussed in detail below. See Section
IV.F.1.c, infra.
---------------------------------------------------------------------------

    In this Section, the Commission provides preliminary estimates of
the individual elements that constitute the estimated expected total
cost associated with implementing and maintaining the CAT, including
the costs of operating and building the Central Repository, the costs
to Participants, the costs to broker-dealers, and other costs
considered in the CAT NMS Plan.
a. Costs of Building and Operating the Central Repository
    The Plan's estimates of the costs to build the Central Repository
are based on Bids that vary in a range as high as $92 million. The
Plan's estimates of annual operating costs are based on Bids that vary
in a range up to $135 million. The eventual magnitude of Central
Repository costs is dependent on the Participants' selection of the
Plan Processor, and may ultimately differ from estimates discussed in
the Plan if Bids are revised as the bidding process progresses. The
Plan discusses these costs both as (i) one-time and ongoing costs as
well as (ii) a five-year total cost, to help evaluate economic trade-
offs between initial build costs and operating costs. The Plan
anticipates that Participants and their members would bear the costs of
building and operating the Central Repository. The Commission
preliminarily believes that these estimates are reliable because they
are the result of a competitive bidding process, although the
Commission recognizes that the Bids are not legally binding on bidders.
In particular, the Commission preliminarily believes that a Bidder
would not likely decline a

contract to be Plan Processor that was based on the Bid it submitted
because that Bidder might lose future business due to reputational
consequences of its actions. Furthermore, Bidders have invested
considerable time and effort in evaluating the RFP and preparing their
Bids and thus if a Bidder were unwilling to serve as Plan Processor
according to the terms outlined in its Bid, the time and effort
expended to prepare the Bid would be wasted resources. As explained
further below, however, the Commission believes that these cost
estimates associated with building and operating the Central Repository
are subject to a number of uncertainties.
    To estimate the one-time total cost to build the Central
Repository, the Plan uses the Bids of the final six Shortlisted
Bidders.\836\ The Bidders' implementation cost estimates range from $30
million to $91.6 million, with a mean of $53 million and a median of
$46.1 million.\837\ The Plan also estimates the ongoing costs of the
Central Repository. The Bids of the final six Shortlisted Bidders
estimate annual costs to operate and maintain the Central Repository
range from $27 million to $135 million, with a mean of $51.1 million
and a median of $42.2 million.\838\ The Plan's summary statistics show
that annual costs are not expected to be constant year-over-year for
all Bidders, but the Plan does not provide further details on how the
costs are expected to evolve over time or how many of the Bids have
time-varying annual costs.\839\ Although the Commission preliminarily
believes that costs provided by Bidders are reliable, the Commission
recognizes that these ongoing costs could increase over time due to
inflation or changes in market structure such as a significant increase
in message traffic. It is also possible these costs could decrease due
to improvements in technology, reductions in message traffic, and
innovation by the Plan Processor.
---------------------------------------------------------------------------

    \836\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(i)(B). The Plan does not reflect any more specific cost
ranges that result from narrowing the range of Bidders from six to
three. See supra note 35.
    \837\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(i)(B).
    \838\ Id.
    \839\ Id.
---------------------------------------------------------------------------

    The Plan also provides information based on the Bids on the total
five-year operating costs for the Central Repository because the annual
costs to operate and maintain the Central Repository are not
independent of the build cost. In particular, it is plausible that the
Bidders with the lowest build costs trade off lower build costs for
higher recurring annual costs. To account for this possibility, the
Plan presents the range of total five-year costs across Bidders using
the Bids of the final six Shortlisted Bidders.\840\ The methodology
takes the sum of the annual recurring costs over the first five years
(discounted to the present with a discount rate of 2%) and adds the
upfront investment. Across the six Shortlisted Bidders, the total five-
year costs to build and maintain CAT range from $159.8 million to
$538.7 million.\841\ This information is less granular than other
Bidder cost information provided in the Plan, and no mean or median is
provided or can be calculated with the information provided.
---------------------------------------------------------------------------

    \840\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(i)(B). The five-year presentation of Central Repository costs
is converted into implementation and annual costs by using the
maximum build cost and maximum annual operating cost over the five
year period in the Bids. The Commission preliminarily believes that
this presentation is conservative in the sense that it avoids
underestimating the Central Repository costs that must be borne by
industry. However, the Commission preliminarily believes that it is
likely that this presentation overestimates the actual Central
Repository costs because most individual Bids forecast variation in
operating expenses year by year, with costs in some years lower than
the maximum used in this presentation. Because the Central
Repository costs are, in aggregate, significantly lower than the
aggregate costs broker-dealers would incur in reporting CAT Data,
the Commission preliminarily believes that this overestimation would
not materially affect the magnitude of aggregate costs for the Plan
to industry.
    \841\ See supra note 836, and CAT NMS Plan, supra note 3, at
Appendix C, Section B.7(b)(i)(B).
---------------------------------------------------------------------------

    The Plan provides that costs associated with building and operating
the Central Repository would be borne by both Participants and their
members.\842\ In particular, the Plan provides for fixed-tiered fees
based on ranges of activity levels to be levied on Execution Venues
(i.e., the Participants (including a national securities association
with trade reporting facilities, and ATSs)) based upon the Execution
Venue's market share of share volumes, with options and equity venue
fees determined by separate schedules set by CAT's Operating
Committee.\843\ Furthermore, the Plan provides for fixed-tiered fees
for Industry Members (broker-dealers) based on the message traffic
generated by the member, including message traffic associated with an
ATS operated by the member.\844\ The Plan also provides for the
establishment of other fees for activities such as late, inaccurate, or
corrected data submission by CAT Reporters.\845\ The Plan does not
present information on the potential magnitude of these fees, but the
Commission preliminarily believes they are likely to be a minor expense
for CAT reporters, who should be able to avoid these fees by fulfilling
their normal reporting responsibilities under the Plan. The Plan does
not provide information on the relative allocation of these fees
between transaction-based fees, message traffic-based fees, and other
fees.\846\
---------------------------------------------------------------------------

    \842\ See CAT NMS Plan, supra note 3, at Section 11.
    \843\ See id. at Section 11.3.
    \844\ See id. at Section 11.3(b).
    \845\ See id. at Section 11.3(c).
    \846\ The economic analysis treats estimates of costs associated
with building and operating the Central Repository separately from
estimates of costs to Participants and other CAT Reporters to report
CAT Data. While the costs of building and operating the Central
Repository would be borne by the Participants and Industry Members,
the allocation of the costs between and among those entities would
be determined by the CAT Funding Model, which has not yet been
finalized. See Section IV.C.2, supra. However, these costs are
included in the Commission's estimate of the total costs to industry
if the Plan is approved.
---------------------------------------------------------------------------

    The Commission believes that a range of factors would drive the
ultimate costs associated with building and operating the Central
Repository and who would bear those costs. The Plan explains that the
major cost drivers identified by Bidders are (1) transactional volume,
(2) technical environments, (3) likely future growth in transactional
volumes, (4) data archival requirements, and (5) user support/help desk
resource requirements.\847\ The Plan does not present information on
how sensitive the cost estimates are to each of these factors. Further,
how Bidders propose to satisfy the RFP requirements could materially
affect the ultimate cost to the industry to operate the Central
Repository and who would bear those costs. For instance, some Bids may
provide more extensive user support from the Plan Processor than
others, effectively shifting user support costs from CAT Reporters to
the Plan Processor, where such support might be more efficiently
provided. However, the Plan does not provide information about how the
Bidders propose to address each of the RFP requirements; thus,
uncertainties exist around who would bear certain costs and how such
costs could change if each Bidder's proposal related to these factors
change.
---------------------------------------------------------------------------

    \847\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(i)(B).
---------------------------------------------------------------------------

    The Commission is mindful that the cost estimates associated with
building and operating the Central Repository are subject to a number
of additional uncertainties. First, the Participants have not yet
selected a Plan Processor, and the Shortlisted Bidders have submitted a
wide range of cost estimates for building and operating the Central

Repository. Second, the Bids submitted by the Shortlisted Bidders are
not yet final. Participants could allow Bidders to revise their Bids
before the final selection of the Plan Processor. Third, neither the
Bidders nor the Commission can anticipate the evolution of technology
and market activity with complete prescience. Available technologies
could improve such that the Central Repository would be built and
operated at a lower cost than is currently anticipated. On the other
hand, if anticipated market activity levels are materially
underestimated, the Central Repository's capacity could need to
increase sooner, increasing the actual costs to operate the Central
Repository than currently anticipated in the Bids. The Commission notes
that costs to build and operate the Central Repository are relatively
small compared to total industry costs if the CAT NMS Plan were
approved; consequently, the Commission preliminarily believes that
these uncertainties are unlikely to materially affect the final cost of
the Plan to industry, if it is approved.
b. Costs to Participants
    The Commission preliminarily believes that the Plan's estimates for
Participants to report CAT Data are reliable because all of the SROs
provided cost estimates, and most SROs have experience collecting audit
trail data as well as expertise in the both the requirements of CAT as
well as their current business practices. The Plan provides estimated
costs for the Participants to report CAT Data.\848\ These estimates are
based on Participant responses to the Costs to Participants Study
(``Participants Study'') \849\ that the Participants collected to
estimate SRO CAT-related costs for hardware and software, full-time
employee staffing (``FTE costs''), and third-party providers.\850\
Respondents to the Participants Study also estimated the costs
associated with retiring current regulatory data reporting systems that
would be rendered redundant by CAT.\851\
---------------------------------------------------------------------------

    \848\ See id. at Appendix C, Section B.7(b)(iii)(B)(2). In
addition to the costs the Participants would incur implementing and
maintaining CAT, the Participants would also incur and would
continue to incur costs associated with developing the CAT NMS Plan.
The Participants estimate such costs to be $8,800,000. The
Commission does not include these costs in its estimates of the
costs associated with CAT if the CAT NMS Plan is approved because
these costs have already been incurred and would not change
regardless of whether the Commission approves or disapproves the CAT
NMS Plan. Further, the Commission assumes that the CAT NMS Plan's
implementation cost estimates include any additional CAT NMS Plan
development costs that would be incurred by Participants if the CAT
NMS Plan were approved.
    \849\ The Participants Study delineates Participant responses
into two groups. The first group consists of affiliated
Participants, which includes single entities that hold self-
regulatory licenses for multiple exchanges. The second group
consists of Participants that hold a single self-regulatory license,
including FINRA, the sole national securities association. Id. at
Appendix C, Section B.7(b)(i)(A)(1).
    \850\ Third-party provider costs are generally legal and
consulting costs but may include other outsourcing. The template
used by respondents is available at http://catnmsplan.com/PastEvents/ under the Section titled ``6/23/14'' at the ``Cost Study
Working Template'' link.
    \851\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(iii)(B)(2).
---------------------------------------------------------------------------

    The Plan estimates costs for the Participants as an aggregate
across all Participants (the six single-license Participants and the
five Affiliated Participant Groups).\852\ The implementation cost
estimate for Participants is $17.9 million, including $770,000 in legal
and consulting costs and $10.3 million in full-time employee costs for
operational, technical/development, and compliance-type functions.\853\
Annual ongoing costs are estimated to be $14.7 million, including
$720,000 in legal and consulting costs and $7.3 million in full-time
employee costs.\854\ Other than legal and consulting costs and full-
time employee costs, the Plan does not specify the other categories of
implementation and ongoing costs, but based on discussion with the
Participants, the Commission preliminarily believes that much of the
remaining costs would be attributed to IT infrastructure, including
hardware and software costs.
---------------------------------------------------------------------------

    \852\ Id. at Appendix C, Section B.7(b)(iii)(B)(2).
    \853\ Id.
    \854\ Id.
---------------------------------------------------------------------------

    The Plan also provides estimates of the costs Participants
currently face in reporting regulatory data.\855\ The Plan anticipates
that some, but not all, of these reporting systems would be retired
after implementation of the Plan.\856\ The Plan reports that aggregate
annual costs for current regulatory data reporting systems are $6.9
million across all Participants.\857\
---------------------------------------------------------------------------

    \855\ Id.
    \856\ Id. As required by Rule 613(a)(1)(ix), 17 CFR
242.613(a)(1)(ix), the CAT NMS Plan includes a plan to eliminate
existing rules and systems that would be rendered duplicative under
CAT. Id. at Appendix C, Section C.9. Among other things, this plan
requires that within 18 months after Industry Members are required
to begin reporting data to the Central Repository, each Participant
will complete an analysis of whether its rules and systems related
to monitoring quotes, orders, and executions collect information
that is not rendered duplicative by CAT. Id. Each Participant must
also analyze whether any such non-duplicative information should
continue to be separately collected, incorporated into CAT, or
terminated. Id. Therefore, depending on the results of these
analyses, some existing regulatory reporting systems may continue to
be in place after the implementation of CAT.
    \857\ Id. at Appendix C, Section B.7(b)(ii)(B)(1).
---------------------------------------------------------------------------

    In addition to data reporting costs, Participants face costs
associated with developing and implementing a surveillance system
reasonably designed to make use of the information contained in CAT
Data as required by Rule 613(f).\858\ The Plan provides estimates of
the costs to Participants to implement surveillance programs using data
stored in the Central Repository. Participants would incur expenses,
including full-time employee (``FTE''), legal, consulting and other
costs to adapt their surveillance systems to utilize data in the
Central Repository. The Plan provides an estimate of $23.2 million to
implement surveillance systems for CAT, and ongoing annual costs of
$87.7 million.\859\ The Plan does not provide information on why
Participants' data reporting costs would substantially increase if the
Plan were approved, nor does it provide information on why surveillance
costs would decrease.
---------------------------------------------------------------------------

    \858\ See 17 CFR 242.613(f).
    \859\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(iii)(B)(2). Rule 613 requires the SROs to file updated
surveillance plans within 14 months of CAT implementation. 17 CFR
242.613(f). The Commission assumes that the CAT NMS Plan's estimate
is limited to adapting current surveillance programs to the Central
Repository. The Commission believes this is a conservative
assumption because if other expenses were included in the estimate,
the Commission would be overestimating the costs Participants would
incur to implement and operate CAT if the CAT NMS Plan is approved.
---------------------------------------------------------------------------

    The Commission preliminarily believes the data reporting cost
estimates are reasonable because the Commission expects that
Participants would be required to implement new technology
infrastructure to report data to the Central Repository and support
specialized personnel to maintain this infrastructure and respond to
inquiries from the Plan Processor and users of CAT Data. The Commission
likewise preliminarily believes that the surveillance cost estimates
are reasonable, even though the annual estimate of $87.7 million is
lower than the $147.2 million Participants, in aggregate, currently
spend on surveillance programs annually \860\ because Participants
could realize efficiencies from having data standardized and centrally
hosted that could allow them to handle fewer ad hoc data requests. In
addition, the Plan could allow Participants to automate some
surveillance processes that may currently be labor intensive or
processed on legacy systems, which

could reduce costs because the primary driver of these costs is FTE
costs.
---------------------------------------------------------------------------

    \860\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(ii)(B)(1).
---------------------------------------------------------------------------

    Table 6 summarizes the Participants' estimated costs, both current
and CAT-related, that are set forth in the Plan. Currently,
Participants spend approximately $154 million per year on data
reporting and surveillance activities. The Participants estimate that
they would incur $41 million in CAT implementation costs, and $102
million annually in ongoing costs to report CAT Data and perform
surveillance as mandated under Rule 613.

                                      Table 6--Participants' Cost Estimates
----------------------------------------------------------------------------------------------------------------
                                                       Current         CAT implementation        CAT ongoing
----------------------------------------------------------------------------------------------------------------
Data Reporting................................            $6,900,000           $17,900,000           $14,700,000
Surveillance..................................           147,200,000            23,200,000            87,700,000
rrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrrr
    Total.....................................           154,100,000            41,100,000           102,400,000
----------------------------------------------------------------------------------------------------------------

c. Costs to Broker-Dealers
(1) Estimates in the Plan
    The Plan estimates total costs for those broker-dealers expected to
report to CAT. In particular, the Plan relies on the Costs to CAT
Reporters Study (``Reporters Study''), which gathered from broker-
dealers the same categories of cost estimates used in the Participants
Study--i.e., the hardware and software costs, full-time employee
staffing costs, and third-party provider costs that CAT Reporters would
incur if the Commission approves the Plan.\861\ The Reporters Study
surveyed broker-dealers to respond to two distinct approaches for
reporting CAT Data to the Central Repository.\862\ Approach 1 assumes
CAT Reporters would submit CAT Data using their choice of industry
protocols. Approach 2 assumes CAT Reporters would submit data using a
pre-specified format. The Participants distributed the Reporters Study
to 4,406 broker-dealers and received 422 responses, of which the
Participants excluded 180 deemed materially incomplete and 75
determined to be erroneous.\863\ The Plan's cost estimate calculations
are based on the remaining 167 responses. In aggregating the cost
estimates across all broker-dealers expected to report CAT Data to the
Central Repository, the Plan assumed that the characteristics of survey
respondents (firm size and OATS reporting status) were representative
of the approximately 1,800 broker-dealers expected to have CAT
reporting obligations.\864\
---------------------------------------------------------------------------

    \861\ See id. at Appendix C, Section B.7(b)(i)(A)(2).
    \862\ See id.
    \863\ See id.
    \864\ Not all broker-dealers are expected to have CAT reporting
obligations; the Participants report that approximately 1,800
broker-dealers currently quote or execute transactions in NMS
Securities, Listed Options or OTC Equity Securities and would likely
have CAT reporting obligations. The Commission understands that the
remaining 2,338 registered broker-dealers either trade in asset
classes not currently included in the definition of Eligible
Security or do not trade at all (e.g., broker-dealers for the
purposes of underwriting, advising, private placements). The Plan
describes the process of determining that 1,800 broker-dealers would
report to the Central Repository in Appendix C. See CAT NMS Plan,
supra note 3, at Appendix C, Section B.7(b)(ii)(B)(2).
---------------------------------------------------------------------------

    Based on the Reporters Study survey data, the Plan estimates
implementation costs of less than $740 million for small firms \865\
and approximately $2.6 billion for large firms, for a total of $3.34
billion in implementation costs for broker-dealers.\866\ For annual
ongoing costs, the Plan estimates costs of $739 million for small firms
and $2.3 billion for large firms, for a total of $3.04 billion in
annual ongoing costs for broker-dealers.\867\ For both large and small
broker-dealers, the Plan suggests that the primary cost driver for
projected CAT reporting costs for broker-dealers is costs associated
with full-time employees.\868\ For the reasons discussed below, the
Commission preliminarily believes that the broker-dealer cost estimates
in the Plan are in part unreliable, based on limitations with the
Plan's underlying data in estimating costs. As discussed below, the
Commission preliminarily believes that cost estimates in the Plan for
large broker-dealers may be reliable, and the Commission has
incorporated large firm data from the Plan into the Commission's
estimates outlined below.\869\
---------------------------------------------------------------------------

    \865\ Survey respondents were instructed to classify themselves
as ``small'' if their Total Capital (defined as net worth plus
subordinated liabilities) was less than $500,000. See CAT NMS Plan,
supra note 3, at Appendix C, Section B.7(b)(ii)(C) n.188. This is
consistent with the definition of ``small business'' or ``small
organization'' used with reference to a broker or dealer for
purposes of Commission rulemaking in accordance with provisions of
Chapter Six of the Administrative Procedure Act (5 U.S.C. 601 et
seq.). See 17 CFR 240.0-10(c).
    \866\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(iv)(A)(3).
    \867\ Id.
    \868\ See id. at Appendix C, Section B.7(b)(iii)(C)(2).
    \869\ While the estimates presented in the Plan assume that the
proportion of large versus small broker-dealers that responded to
the Reporters Study is representative of the relative number of
large versus small broker-dealers that are expected to incur CAT
reporting obligations, the Commission's cost estimates do not embed
this assumption. Instead, the Commission relies on data from FINRA
to determine which firms are likely to outsource, and models those
firms' costs based on information gleaned from FIF-organized
discussions with industry. This is discussed further below, but this
estimation results in relatively fewer firms' costs being estimated
using ``large'' firm cost estimates presented in the Plan.
---------------------------------------------------------------------------

    The Commission preliminarily believes, however, that the cost
estimates for small broker-dealers provided in the Plan, which are
based upon responses set forth in the Reporters Study, do not prove
reliable estimates of smaller CAT Reporter costs for a number of
reasons. First, some respondents classified as small in the Reporters
Study appear to have responded numerically with incorrect units, with
such responses resulting in annual estimated cost figures that would be
1,000 times too large. Second, maximum responses in certain categories
of costs suggest that some large broker-dealers may have misclassified
themselves as small broker-dealers.\870\ Third, methods used to remove
outliers are likely to have introduced significant biases. Finally, the
response rate to the Reporters Study survey was low and is likely to
have oversampled small broker-dealers who currently have no OATS
reporting obligations.\871\
---------------------------------------------------------------------------

    \870\ The Plan presents summary statistics such as average,
median and maximum for each survey response. See CAT NMS Plan supra
note 3, at Appendix C, Section B(7)(b)(ii)(C), Table 5. In the left
most column, $14 million is the maximum response for ``Hardware/
Software Current Cost.''
    \871\ In reaching these preliminary conclusions, the Commission
reviewed the detailed discussions of the Reporters Study survey
methodology in the Plan and the survey form and instructions
provided to respondents. See 6/23/14 entry on CAT NMS Plan Web site,
available at http://www.catnmsplan.com/pastevents/index.html. The
Commission staff also discussed with the Participants potential
methodology adjustments in aggregating the CAT Reporters Study data.
After Commission staff discussions with the Participants, the
Commission concluded that no methodology could address these
fundamental issues with the survey data.
---------------------------------------------------------------------------

    First, the Commission preliminarily believes that the respondents
to the Reporters Study survey are likely to have used different units
in their responses and that the survey precision is materially affected
because

inconsistent use of reporting units across respondents introduces an
upward bias to the Reporters Study's findings. The survey collected
cost estimates in $1,000 increments; however, there is evidence that
some respondents did not provide estimates in $1,000 increments as
requested. Rather, survey results in the Plan reveal, for example, that
one small firm reported current annual hardware/software costs for
current regulatory data reporting to be $14,000,000 per year.\872\
Because small firms responding to the survey by definition have no more
than $500,000 in total capital, an annual $14,000,000 estimate for
hardware/software costs for current data reporting seems
unreasonable.\873\ Furthermore, a small survey respondent cited
$3,500,000 in hardware/software retirement of systems costs, which
seems unreasonable for a broker-dealer with less than $500,000 in total
capital. These are only a few examples, but they raise the question of
how many other respondents recorded incorrect units in their responses,
particularly if screening methodologies have difficulty detecting such
incorrect units. In light of these unreasonable results, the Commission
preliminarily believes that the Plan's cost estimates for small broker-
dealers reporting data to CAT has an upward bias because some firms did
not correctly respond to the survey in $1,000 increments.
---------------------------------------------------------------------------

    \872\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.(7)(b)(ii)(C), Table 5.
    \873\ The Plan notes that it is possible that the firm intended
to report that it had $14,000 in annual expenses for hardware/
software. See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7(b)(ii)(C), n.193.
---------------------------------------------------------------------------

    Because of errant responses of this type, the Plan recommends using
medians instead of averages; \874\ however, for nearly all estimated
cost categories in the Reporters Study, the median response was zero,
which the Commission believes underestimates the costs that CAT
Reporters are likely to face in most categories of costs. Consequently,
the Commission is unable to adjust for these biases.
---------------------------------------------------------------------------

    \874\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.7.(b)(ii)(C), n.194.
---------------------------------------------------------------------------

    In addition, the Commission preliminarily believes that the small
firm cost survey information in the Reporters Study is unlikely to be
representative of the small broker-dealers that would have CAT
reporting responsibilities in part because the Commission also believes
preliminarily that some survey respondents misclassified their firm's
size, which renders the Plan's separate presentation of results for
large and small broker-dealers imprecise. In particular, the Commission
believes that at least one large firm misclassified itself as a small
firm. The CAT NMS Plan Table 6 reveals that one firm designated as a
small firm responded to the Reporters Study survey with it having 68
full-time employees dedicated to performing regulatory data reporting
activities for a yearly cost of $27,300,000.\875\ The Commission
believes, however, that a firm with 68 full-time employees reporting
regulatory data could not be small (again, as defined by the survey to
include firms with less than $500,000 in total capital) because such a
firm would lack the working capital to support that level of employee
expense.\876\ The presence of large-firms with significantly higher
costs in the small-firm sample significantly biases the small-firm cost
estimates upward.
---------------------------------------------------------------------------

    \875\ See id. at Appendix C, Section B.(7)(b)(ii)(C), Table 6.
    \876\ See id. at Appendix C, Section B.7.(b)(i)(C), n.188.
---------------------------------------------------------------------------

    Moreover, the Commission preliminarily believes that the
methodologies implemented to remove outliers in the Reporters Study
introduce cost estimate biases.\877\ Based on discussions with the
Participants, the Commission understands that to identify and remove
outliers, the Participants first determined if each survey item's
maximum response was a potential outlier because it was more than twice
the value of the next highest response; the Participants then
individually reviewed potential outliers and omitted those deemed
errant. While the Commission recognizes that this methodology may
mitigate the precision bias discussed above by removing a single
response that is 1,000 times too high, it may not remove such outliers
when two or more firms errantly report values 1,000 times too high, in
which case an upward bias to the cost estimates would remain.
Furthermore, if one firm genuinely incurs expenses that are more than
twice those of the next highest respondent, such survey response might
be removed under this methodology, even though such a response may
accurately identify expenses expected by the respondent, which in turn
introduces a downward bias to the cost estimates. For example, only 21
large OATS reporting firms are represented in the Reporters Study
survey responses. If most of these 21 firms perform the majority of
their regulatory data reporting functions in house, but one firm
outsources all of its regulatory data reporting, that single firm could
have outsourcing costs far higher than its peers. Under the Plan's cost
estimate methodology, this outsourcing response in the Reporters Study
might be removed as an outlier, unless another large, OATS reporting
firm responded to the Reporters Study with at least half of the
outsourcing costs. The Commission considered whether to request that
the Participants provide updated cost estimates under a methodology
that did not remove Reporters Study outlier responses, but the
Commission preliminarily believes that this approach would exacerbate
the precision problem discussed above and possibly increase the number
of errant responses that are 1,000 times too high to the cost estimate
data set.
---------------------------------------------------------------------------

    \877\ See id. at Appendix C, Section B.7.(b)(i)(B)(ii)(C).
---------------------------------------------------------------------------

    Finally, the Commission believes that the Reporters Study response
rate is not adequate to be representative of the population of broker-
dealers that would report to CAT. The survey was delivered to 4,025
broker-dealers. After removing erroneous and materially incomplete
responses, only 167 responses remained of the 4,025 broker-dealers who
were sent the survey. To be representative of the broker-dealers that
would report to CAT, a final response rate of 4.15% seems low
considering the diversity of these broker-dealers. The majority of
broker-dealers are small and smaller broker-dealers are diverse along
many dimensions relevant to the likely magnitude of their expected CAT
costs, including business practices; tendency to centralize technology;
specialization in market segments, such as options versus equities; and
the range of products and markets in which individual broker-dealers
participate. Because broker-dealer diversity is great, a survey of
expected broker-dealer costs would ideally have a higher response rate
to ensure a representative sample. Furthermore, of the 167 responses
incorporated into the Plan's cost estimates, 118 respondent firms were
classified as small in the Reporters Study, and 88 of these 118 small
firms were identified as having no current OATS reporting
responsibilities.\878\ The Commission preliminarily believes that small
firms that anticipate limited CAT reporting responsibilities may have
been oversampled by the Reporters Study survey because for nearly all
categories of cost estimates, the median small firm response was zero,
suggesting that they do not expect to have CAT reporting
responsibilities. Consequently, the

Commission preliminarily believes that the small firms that responded
to the study cannot be statistically representative of the small firms
that would incur CAT reporting obligations, because the Commission
believes that most small broker-dealers would incur significant costs
in reporting to CAT.\879\ These costs are estimated below.
---------------------------------------------------------------------------

    \878\ Small firms may have no OATS reporting responsibilities
because they do not engage in activities that would incur OATS
reporting obligations, or they may be excluded or exempted under
FINRA's OATS reporting rules. See Section IV.D.2.b(1)A, supra.
    \879\ The Commission notes that small firms currently excluded
from OATS reporting due to their size would have CAT reporting
responsibilities under the Plan because the Plan makes no provision
to exempt or exclude them, as FINRA does with OATS reporting. The
Commission preliminarily believes that these firms are likely to
experience higher implementation costs than other small firms
because CAT reporting would likely necessitate establishing business
relationships with service providers if they do not already have
such relationships. The Commission preliminarily believes that most
small firms that would have CAT reporting obligations but do not
currently have OATS reporting obligations would not have the IT and
regulatory personnel infrastructure to accomplish this reporting in-
house. The Commission's estimation of these firms' costs to
implement CAT includes higher estimates of employee costs to
implement CAT to account for this increased burden.
---------------------------------------------------------------------------

    Although the Commission has preliminarily concluded that the small
broker-dealer cost estimates presented in the Plan are unreliable, the
Commission also preliminarily believes that the cost estimates in the
Plan for large broker-dealers may be reliable. The Commission
preliminarily believes that problems with the Reporters Study data are
less likely to affect the Plan's large broker-dealer cost estimates for
several reasons. First, if a large broker-dealer were to respond to the
Reporter Study survey with the incorrect level of units (resulting in
estimates that were 1,000 times too large as was the case for some
small broker-dealer responses), then these errant cost survey responses
would result in estimates that likely would be denominated in billions
of dollars. The maximums presented in the Plan's tables describing the
Reporters Study data do not include responses denominated in billions;
notably, under the Plan's cost estimate methodology, if such responses
were generated, these responses likely would have been removed as
outliers. Second, although it is possible that small broker-dealers
misclassified themselves as large broker-dealers in the Reporters Study
data, such misclassification does not seem to have biased the cost
estimate results for large broker-dealers to the degree that the
Commission preliminarily believes has occurred for the small broker-
dealer Reporters Study data. Cost estimates for large broker-dealers,
particularly those that do not have current OATS reporting obligations,
are not inconsistent with information gathered by the Commission in
discussions with broker dealers and service providers,\880\ although
the Commission preliminarily believes that averages presented in the
Plan generally fall between the expenses that a very large and complex
broker-dealer would experience and those of a more typical broker-
dealer in the same category. For example, the Plan estimates that the
average large OATS-reporting broker-dealer currently spends $8.7
million annually to comply with current data reporting
requirements.\881\ The Commission preliminarily believes that this
estimate is likely to be substantially lower than the actual data
reporting costs incurred by the largest and most complex broker-dealers
that currently report to OATS; these very large and complex firms are
assumed to spend far more than this estimate. There are, however, only
a limited number of exceptionally large OATS-reporting broker-dealers.
Similarly, the Plan's estimate is likely to significantly overestimate
the costs incurred by the majority of firms classified as large by the
Plan because most large firms are not as large or as complex as these
limited number of exceptionally large broker-dealers. Summary
statistics on activity levels of OATS reporting firms are discussed in
detail below.
---------------------------------------------------------------------------

    \880\ FIF arranged a group discussion with a small number of
broker-dealers whose identities were not provided to Commission
staff and individual discussions with five service bureaus whose
identities were not provided to Commission staff. Also, staff
arranged individual discussions with five additional broker-dealers.
When market participant identities were unknown, FIF provided
demographic information that allowed Commission staff to gauge a
firm's size, complexity, and general market activities. Broker-
dealers outside of the group discussion and service bureaus were
asked for specific cost information that related to their regulatory
data reporting costs; most broker-dealers and some service bureaus
shared general estimates, particularly of staffing levels, and
provided information on cost drivers and obstacles that firms face
in accomplishing their regulatory data reporting, particularly
challenges that they face in implementing changes to these
requirements. Most, but not all, firms participating in discussions
with Commission staff discussed OATS as their most challenging data
reporting requirement. Some firms named LOPR and EBS as additional
sources of regular challenges and significant costs. It is our
understanding from these discussions, that some data reporting
requirements, such as Rule 605 and Rule 606 reporting, are nearly
always outsourced.
    \881\ See infra note 882.
---------------------------------------------------------------------------

    The Plan presents cost estimates for large broker-dealers' current
regulatory data reporting costs and costs they would incur to implement
and maintain CAT Data reporting. The Plan estimates that an OATS-
reporting large broker-dealer has current data reporting costs of $8.7
million per year.\882\ A non-OATS reporting large broker-dealer is
estimated to spend approximately $1.4 million annually.\883\ The Plan
estimates that OATS-reporting large broker-dealers would spend
approximately $7.2 million to implement CAT Data reporting, and $4.8
million annually for ongoing costs.\884\ For non-OATS reporting large
broker-dealers, the Plan estimates $3.9 million in implementation costs
and $3.2 million in annual ongoing costs.\885\ According to the Plan,
the magnitude of each of these cost estimates is primarily driven by
FTE costs.
---------------------------------------------------------------------------

    \882\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.(7)(b)(ii)(C), Table 3. The $8.7 million figure was calculated by
summing the average hardware/software cost, third party/outsourcing
cost, and full-time employee costs using the Commission's estimated
cost per employee of $424,350.
    \883\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.(7)(b)(ii)(C), Table 4. The $1.4 million figure was calculated by
summing the average hardware/software cost, third party/outsourcing
cost, and full-time employee costs using the Commission's estimated
cost per employee of $424,350.
    \884\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.(7)(b)(iii)(C)(2)a., Table 9; and at Appendix C, Section
B.(7)(b)(iii)(C)(2)b., Table 15.
    \885\ See CAT NMS Plan, supra note 3, at Appendix C, Section
B.(7)(b)(iii)(C)(2)a., Table 10; and at Appendix C, Section
B.(7)(b)(iii)(C)(2)b., Table 16.
---------------------------------------------------------------------------

(2) Commission Cost Estimates
    The Commission's broker-dealer cost estimates incorporate some
broker-dealer data from the Plan, but to address issues in the Plan's
Reporters Study data, the Commission's cost estimates also include
other data sources.\886\ As previously discussed, the Commission
preliminarily believes that the small firm cost estimates presented in
the Reporters Study are unreliable. As a result, the Commission has re-
estimated the costs that broker-dealers likely would incur for CAT
implementation and ongoing reporting. As with the Plan's cost
estimates, the Commission's re-estimation relies on classifying broker-
dealers based on whether they currently report OATS data. However, the
re-estimation further classifies broker-dealers, as in the Commission's
cost estimates presented in the Proposing Release, based on whether the
firm is likely to use a service bureau to report its regulatory data,
or, alternatively, whether the firm might choose to self-report its
regulatory data. In this updated analysis, the Commission preliminarily
estimates that the 1,800 broker-dealers expected to incur CAT reporting
obligations currently spend approximately $1.6 billion annually to
report regulatory data.\887\ If the CAT NMS Plan is

approved, the Commission preliminarily believes that these broker-
dealers would incur approximately $2.2 billion in implementation costs
and $1.5 billion in ongoing data reporting costs.\888\
---------------------------------------------------------------------------

    \886\ Discussions below present information on data obtained
from FINRA and gleaned from discussions with broker-dealers and
service bureaus arranged by FIF and staff. See supra notes 880 and
899.
    \887\ To the extent that the CAT NMS Plan underestimates the
number of broker-dealers that would incur CAT reporting obligations,
the Commission's updated estimates understate the actual costs
Reporters would face if the CAT NMS Plan is approved.
    \888\ These figures cover only broker-dealer costs. Industry-
wide costs are summarized below in Section IV.F.2.
---------------------------------------------------------------------------

    The Commission preliminarily believes classifying broker-dealers
based on their manner of reporting provides a more accurate estimate of
the costs firms will incur because, as noted below, costs differ based
on whether the firm insources or outsources reporting responsibilities
and insourcing/outsourcing does not necessarily correlate with firm
size. Accordingly, the Commission begins its estimation of costs using
the number of OATS Reportable Order Events (``ROEs'') reported by firms
that report to OATS. The Commission preliminarily believes that because
OATS reportable events, such as order originations, routes, and
executions are also CAT Reportable Events, these two measures are
likely to be highly correlated, making the number of OATS records a
proxy for the anticipated level of CAT reporting.\889\ Based on
discussions with broker dealers and service providers, however, the
Commission preliminarily believes that firms that report high numbers
of OATS ROEs decide to either self-report their regulatory data or
outsource their regulatory data reporting based on a number of
criteria, including potential costs.\890\ Thus, simply using the number
of OATS ROEs as a proxy for firm size may not provide an accurate
picture of the reporting costs for such firms. As a result, the
Commission goes a step further in its estimation of costs by segmenting
firms into two groups--those that insource and those that outsource
their regulatory data reporting--and estimates costs separately for
each group. Empirical evidence supporting this approach is detailed
further below.\891\
---------------------------------------------------------------------------

    \889\ In other words, the Commission preliminarily believes that
the higher the number of OATS ROEs reported, the higher the
anticipated number of CAT records to report. As noted below,
however, the Commission anticipates that the number of CAT records
would exceed the number of OATS ROEs.
    \890\ As explained further below, the Commission believes that
firms reporting relatively few OATS ROEs would be unlikely to have
the infrastructure and specialized employees necessary to insource
regulatory data reporting and would almost certainly outsource their
regulatory data reporting functions.
    \891\ The Commission in its cost calculation uses the number of
OATS ROEs as a measure of firm size, rather than traditional
measures of firm size based on a single metric, such as capital
level, or OTC dollar volume. The Commission preliminarily believes
that the use of OATS ROEs provides a more accurate predictor of firm
reporting behavior. Data provided by FINRA, for example, reveals
that some firms with extremely high levels of OATS reporting
activity have relatively low capital levels; furthermore, many firms
that report exceptionally high numbers of OATS ROEs have no OTC
dollar-volume. See infra note 893.
---------------------------------------------------------------------------

    The Plan also separates industry costs of current OATS reporting
firms from those that currently have no OATS reporting obligations,
recognizing that the group of non-OATS reporting firms are diverse in
size and scope of activities. The Commission maintains this approach in
its re-estimation, as firms that do not currently report to OATS would
face a different range of costs to implement and maintain CAT reporting
because firms that currently do not report to OATS may have little to
no regulatory data infrastructure in place. Broker-dealers that do not
currently report to OATS may have higher or lower costs than firms that
do report to OATS, depending on whether they do not report because of
SRO membership status or lack of equity market activity or because of
size and scope of activity within equity markets. For example, an
electronic liquidity provider (``ELP'') may trade extensively both on
and off-exchange, yet not report to OATS because it is not a FINRA
member; such a firm could incur high data reporting costs under CAT
because it has a high volume of records to report. Conversely, a small
equity trading firm might be excluded or exempted from OATS reporting
due to its size and scope of activities; such a firm could have
relatively low CAT reporting costs, although still higher than its
existing regulatory reporting costs, because it has few Reportable
Events and is assumed to outsource its reporting responsibilities.
Recognizing this diversity in non-OATS firms, the Commission's re-
estimation anticipates a large range of firm activity levels in non-
OATS CAT reporters and treats them differently when estimating their
costs.\892\ This is discussed further below.
---------------------------------------------------------------------------

    \892\ The Commission's re-estimation of costs assumes that firms
that are currently excluded or exempted from OATS reporting are
Outsourcers. By definition, OATS-reporting Outsourcers report fewer
than 350,000 OATS ROEs per month. However, firms that are not FINRA
members are not assumed to be Outsourcers; many of these firms are
in the business of proprietary trading as ELPs or are Options Market
Makers, which are assumed to be typical of large non-OATS reporters
discussed in the Plan. The identification of these firms and their
estimated costs of CAT reporting are discussed further in Section
IV.F.1.c(2)B.i, infra.
---------------------------------------------------------------------------

    In sum, the framework for the Commission's re-estimation is as
follows. First, the Commission identifies those OATS-reporting firms
that insource (``Insourcers'') and those that outsource based on an
analysis of the number of OATS reporting ROEs combined with specific
data provided by FINRA on how firms report. Furthermore, the Commission
identifies firms that do not currently report to OATS but are likely to
insource based on their expected activity level by identifying Options
Market Makers and ELPs. Based on that analysis, the Commission
preliminarily estimates that there are 126 OATS-reporting Insourcers
and 45 non-OATS reporting Insourcers; these estimates are discussed
further below. The Commission's re-estimation classifies the remaining
1,629 broker-dealers that the Plan anticipates would have CAT Data
reporting obligations as ``Outsourcers,'' based on outsourcing
practices observed in data obtained from FINRA and discussed further
below. The Commission preliminarily believes that most of these firms
would accomplish their CAT Data reporting through a service bureau.
Next, to determine costs for Insourcers, the Commission relies upon
cost estimates for firms classified as ``large'' in the Reporters
Study. For Outsourcers, the Commission uses a model of ongoing
outsourcing costs (``Outsourcing Cost Model'') to estimate both current
regulatory data reporting costs and CAT-related data reporting costs
Outsourcers would incur if the CAT NMS Plan were approved.
A. Broker-Dealer Reporting Practices
    Although the Commission's analysis segregates broker-dealers into
two groups (Insourcers and Outsourcers), within those groups, broker-
dealer data reporting methods currently vary widely across firms, and
these varied methods affect the data reporting costs that broker-
dealers incur. As discussed previously, depending on the business in
which broker-dealers participate, broker-dealers can have a wide range
of reporting responsibilities.
    There are two primary methods by which broker-dealers accomplish
data reporting: Insourcing, where the firm reports data to regulators
directly; and outsourcing, where a third-party service provider
performs the data reporting, usually as part of a service agreement
that includes other services. Firms that outsource retain
responsibility for complying with rules related to outsourced activity.
Based on data from FINRA and conversations with market participants,
the Commission preliminarily believes that the vast majority of broker-
dealers outsource most of their regulatory data reporting

functions to third-party firms. Data provided by FINRA shows that 932
broker-dealers reported at least one OATS ROE between June 15 and July
10, 2015.\893\ Of these 932 firms, 799 reported at least 90% of their
OATS ROEs through a service bureau. Broker-dealers generally used a
single service bureau (497 firms) to report OATS, but some broker-
dealers used multiple service bureaus (up to 9 service bureaus).
---------------------------------------------------------------------------

    \893\ The Commission analyzed data on broker-dealer OATS
reporting received from FINRA. This data source included the number
of OATS ROEs reported by each individual broker-dealer, as well as
counts of how many ROEs were reported by the firm directly and how
many ROEs were reported through service bureaus, and the number of
service bureaus that reported data for the firm. The dataset
includes the firms' minimum net capital required and actual net
capital as well as the number of registered persons associated with
the firm. Factors that affect broker-dealers' insourcing/outsourcing
decision are discussed below. Because market activity is highly
correlated with volatility, this four-week period was chosen to have
a typical level of volatility (as measured by VIX level) for the
period September 16, 2010 through September 15, 2015.
---------------------------------------------------------------------------

    Often, service bureaus bundle regulatory data reporting services
with an order-handling system service that provides broker-dealers with
market access and order routing capabilities. Sometimes regulatory data
reporting services are bundled with trade clearing services. A broker-
dealer's decision to insource/outsource these functions and services
can be complex, and different broker-dealers reach different solutions
based on their business characteristics. To illustrate, some broker-
dealers self-clear trades but outsource regulatory data reporting
functions; some broker-dealers have proprietary order handling systems,
self-clear trades, and outsource regulatory data reporting functions.
Other broker-dealers outsource order-handling, outsource clearing
trades, and self-report regulatory data. The most common insource/
outsource service configuration, however, for all but the most active-
in-the-market broker-dealers is to use one or more service bureaus to
handle all of these functions.
    In most, but not all, cases, service bureaus host their client
broker-dealer's order-handling system on the service bureau's servers
while the broker-dealer has software serving as a ``front end'' for
this system running on the broker-dealers' local IT infrastructure. For
broker-dealers whose order-handling systems are thus hosted on their
service bureau's servers, their service bureaus would handle many
elements of CAT implementation, including clock synchronization. These
broker-dealers would still incur some CAT implementation costs because
some CAT Data, such as Customer information (including PII), is likely
to reside outside of the broker-dealer's order handling system;
consequently, such broker-dealers would need to develop technical and
regulatory infrastructure to provide such CAT Data to its service
bureaus. Further, broker-dealers that outsource could still need to
adapt their in-house software systems to address order-management
system changes. In addition to the resources needed to reprogram the
system, any order-handling system change is likely to require
significant staff training. Furthermore, broker-dealers that outsource
would need to update their internal monitoring of their service
bureau's reporting to ensure it meets the requirements of the Plan.
    In discussions arranged by FIF, broker-dealers cited a number of
factors that influence a broker-dealer's decision on whether to handle
regulatory data reporting in-house. Generally, smaller broker-dealers
(with relatively few registered persons and limited capital) do not
have the business volume required to support the IT infrastructure and
specialized staff that is necessary to perform in-house regulatory data
reporting; these broker-dealers may have no business choice but to rely
upon third-party service providers to provide order handling and market
connectivity, as well as clearing services.\894\ For larger broker-
dealers, outsourcing is more likely to be a discretionary business
decision. In discussions with staff, larger broker-dealers cited a
number of reasons to outsource. First, it may be a strategic choice;
some broker-dealers view regulatory data reporting as a function that
offers no competitive advantages and a costly distraction from other
business activities, as long as an alternative solution satisfies
reporting requirements. For these firms, compliance might be achieved
at a lower-cost in-house, but the firms prefer to outsource the data
reporting function to focus key resources on business functions.
Second, some broker-dealers outsource these functions to reduce costs
associated with demonstrating regulatory compliance. Multiple broker-
dealers stated that using a regulatory reporting service that was
familiar to regulators allowed more efficient regulatory examinations,
because an in-house regulatory reporting system might require more
staff time invested in facilitating examinations and demonstrating
compliance. Third, some broker-dealers cited that keeping current with
regulatory requirements drove their decision to outsource. These
broker-dealers may have insourced initially, but they relayed that over
time they experienced accelerating regulatory rule changes, which led
to an escalation in their compliance costs. For these firms, the pace
of regulatory rule changes drove the decision to outsource where they
had at one time insourced, because the firm could fulfill its
regulatory responsibilities at a lower cost by outsourcing and
monitoring the service bureau's compliance.\895\
---------------------------------------------------------------------------

    \894\ In conversations with market participants, several broker-
dealers suggested that for very small firms, establishing these
service bureau relationships could be difficult. These firms might
``piggy back'' on another broker-dealer's infrastructure,
essentially relying on them to act as an introducing broker. This
would generally add another cost layer for these very small firms
but could be more cost effective than establishing stand-alone
service bureau relationships.
    \895\ The Commission notes that an Industry Member CAT Reporter
remains responsible for compliance with the requirements of the CAT
NMS Plan and Rule 613, as reflected in the Compliance Rule of the
SRO(s) of which it is a member, regardless of whether it has
outsourced some or all of its regulatory data reporting functions to
a third party.
---------------------------------------------------------------------------

    On the other hand, some broker-dealers choose to insource their
regulatory data reporting functions. In discussions arranged by FIF,
broker-dealers cited a number of reasons supporting their decision to
self-report. First, some broker-dealers cited ancillary benefits to
constructing the IT infrastructure necessary to accomplish their
regulatory data reporting. Data collected in a central location for
regulatory data reporting and the software necessary to manipulate the
regulatory data facilitates self-monitoring and business reporting,
providing other benefits to the firm. Second, some broker-dealers cited
protecting their proprietary strategies as a motivator to self-report
regulatory data. These broker-dealers felt that sharing their trading
data with a service bureau was potentially too revealing of their
proprietary trading strategies. Third, some broker-dealers cited
operational complexity as a driver of their insourcing decision. For
these very large broker-dealers that traded in a wide range of assets,
outsourcing would involve multiple service provider contracts. At least
one broker-dealer stated that it did not believe service bureaus could
meet all of its requirements due to its complexity. Finally, while some
broker-dealers preferred to outsource to reduce the costs of
demonstrating compliance, others stated that outsourcing would increase
compliance costs because they could not conduct their own compliance
checks to ensure the reports comply with relevant regulations.

    Current costs of outsourcing regulatory data reporting vary widely
across broker-dealers. Whether data reporting is provided on behalf of
a broker-dealer by the provider of an order-management system or
another third-party firm, a broker-dealer generally enters into long-
term agreements with its service provider to obtain a bundle of
services that includes regulatory data reporting, and costs to change
service bureaus are high. Furthermore, based on discussions with
service providers, the Commission understands that switching service
bureaus can be costly and involve complex onboarding processes and
requirements, and that systems between service bureaus may be
disparate; furthermore, changing service bureaus may require different
or updated client documentation.\896\ The Commission preliminarily
believes that annual costs for provision of an order-handling system
(including market connectivity, routing and regulatory data reporting)
range from $50,000 to $180,000 annually for very small broker-dealers.
Costs for very large broker-dealers that outsource these functions
begin at $1 million to 2.4 million annually.\897\
---------------------------------------------------------------------------

    \896\ See Section IV.G.1.d, infra, for a discussion of the
potential effects of the Plan on the market to report regulatory
data.
    \897\ These estimates are based on Staff discussions with
service bureaus that were arranged by FIF. See supra note 895 and
accompanying text. The $1 million per year figure contemplated a
very large broker-dealer that provided its own order management
system and market connectivity, so it likely represents a rough
estimate of the regulatory data reporting costs of a very large
firm. Because service bureaus did not provide an OATS activity level
corresponding to ``very large,'' the Commission relies on an
analysis of FINRA data on OATS reporting to calibrate its definition
of ``very large'' in terms of OATS activity level and seeks comment
on what activity level should correspond to cost estimates for
``very large'' broker-dealers. The Commission notes that because
there are relatively few broker-dealers that report at medium
activity levels, the Commission's estimation of outsourcing costs is
not particularly sensitive to this definition because most broker-
dealers whose costs are estimated using the Outsourcing Cost Model
have very low OATS reporting levels. Finally, estimates of total
reporting costs include provision of an order-management system and
market connectivity.
---------------------------------------------------------------------------

    For broker-dealers that perform regulatory data reporting in-house,
implementation costs are likely to vary widely. Some very large broker-
dealers that self-report regulatory data have a centralized IT
infrastructure and trade in relatively few asset classes. Some of these
broker-dealers carry no customer accounts, simplifying their regulatory
data reporting obligations. The Commission preliminarily believes that
such broker-dealers could incur relatively low CAT implementation costs
because they have a centralized IT infrastructure that captures all
broker-dealer activity and specialized personnel who are dedicated to
broker-dealer-wide data reporting. At the other end of the spectrum,
large broker-dealers may be very complex, facilitating complex multi-
leg transactions and operating within a non-centralized structure.
These broker-dealers would be likely to experience CAT implementation
costs far higher than broker-dealers with less complex structures for
several reasons. First, some of these broker-dealers do not have a
centralized IT infrastructure; instead, orders could originate from
many locations in the broker-dealer and may be handled by diverse
legacy systems, each of which the broker-dealer would need to adapt for
CAT Data reporting.\898\ Second, broker-dealers that accommodate more
complex transactions that involve multiple asset classes would likely
need to invest more time in understanding new regulatory requirements.
In discussions with market participants, several broker-dealers noted,
among other concerns, that determining the correct regulatory treatment
for unusual trades can be a significant cost-driver in implementing
regulatory rule changes and can delay implementation of system changes
or precipitate a second round of changes once regulatory treatment of
these trades is clarified. Third, broker-dealers that lack a
centralized IT infrastructure would likely incur higher costs to comply
with clock synchronization requirements because more servers may be
handling orders than in firms with a more centralized IT
infrastructure.
---------------------------------------------------------------------------

    \898\ In discussions with market participants, some broker-
dealers indicated that they operate more than a dozen instances of a
third-party's order handling system, suggesting they originate
orders at more than a dozen places within the broker-dealer, yet
they handle data reporting in-house. Firms such as these are likely
to incur far higher costs to implement CAT compared to broker-
dealers with a centralized IT infrastructure and fewer legacy
systems because there are more systems that require changes to
comply with new data reporting requirements.
---------------------------------------------------------------------------

B. Re-Estimation
i. Count of Firms Likely To Rely Upon Service Bureaus for Data
Reporting
    To separately examine the costs to broker-dealers that outsource
and to aggregate those costs across all broker-dealers, Commission
Staff first established a count of CAT Reporters likely to outsource
their regulatory data reporting functions. For this, the Commission
analyzed data provided by FINRA.\899\
---------------------------------------------------------------------------

    \899\ See supra note 893 and accompanying text.
---------------------------------------------------------------------------

    The FINRA data allows the Commission to examine how broker-dealers'
current outsourcing activities vary with the number of ROEs reported to
OATS. Figure 1 shows the percentage of OATS ROEs that are self-reported
for five size categories of broker-dealers with the following OATS
reporting activity levels for a four-week period from June 15-July 10,
2015: More than 1 billion records; 1 million to 1 billion records;
350,000 to 1 million records; 100,000 to 350,000 records; and 100,000
records or fewer.\900\ The bars for each category represent the
percentage of total OATS ROEs reported by broker-dealers in the
category that were reported directly by the broker-dealers.
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    \900\ The group that reports one billion records or more
comprises 77.90% of OATS records; the group that reports one million
records to one billion comprises an additional 22.05% of OATS
records. The remaining three groups comprise just 0.05% of all OATS
records. Overall, firms self-report 65.44% of OATS ROEs.

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[GRAPHIC] [TIFF OMITTED] TN17MY16.329

    Based on this analysis of FINRA data, the Commission preliminarily
believes that the 126 broker-dealers that reported more than 350,000
OATS ROEs between June 15 and July 10, 2015 make the insourcing-
outsourcing decision strategically based on the broker-dealer's
characteristics and preferences, while the remaining OATS reporters are
likely to utilize a service bureau to accomplish their regulatory data
reporting.\901\ The categories of broker-dealers assumed to outsource
their data reporting are marked with an asterisk (*) in Figure 1.
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    \901\ The Commission preliminarily believes this decision is
strategic and discretionary because FINRA data reveals that while
many broker-dealers at these activity levels self-report most or all
of their regulatory data, other broker-dealers outsource most or all
of their regulatory reporting at these activity levels. At lower
activity levels, most, but not all, broker-dealers outsource most if
not all of their regulatory data reporting. The Commission is
cognizant that some broker-dealers reporting fewer than 350,000 OATS
ROEs per month can and do opt to self-report their regulatory data.
However, based on conversations with broker-dealers, the Commission
preliminarily believes that most broker-dealers at these activity
levels do not have the infrastructure and specialized staff that
would be required to report directly to the Central Repository, and
electing to self-report would be cost-prohibitive in most but not
all cases. See Section IV.F.1.c(2)A, supra.
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    As seen in Figure 1, broker-dealers in the highest OATS-reporting
category insourced reporting for more than 60% of the OATS ROEs
reported. More specifically, the FINRA data shows that 16 broker-
dealers reported more than a billion OATS ROEs each between June 15 and
July 10, 2015; most of these broker-dealers (11) self-reported nearly
all of their regulatory data, but 3 used service bureaus for 100% of
their OATS reporting.
    Figure 1 also shows that broker-dealers that report between 1
million and 1 billion OATS ROEs during the four-week period insourced
reporting for more than 70% of the OATS ROEs they reported in
aggregate. Thirty-six of these 89 broker-dealers used service bureaus
to report at least 90% of their OATS data while 42 of these 89 broker-
dealers self-reported over 99% of their regulatory data.
    For the 21 broker-dealers that reported more than 350,000 but fewer
than 1 million OATS ROEs during the sample period, Figure 1 shows that
they insource approximately 27% of their aggregate OATS ROEs reporting.
Thirteen of these broker-dealers use service bureaus for more than 99%
of their OATS reporting while 7 of these 21 broker-dealers self-
reported more than 98% of their OATS data.
    For the 806 broker-dealers that reported fewer than 350,000 OATS
ROEs during the sample period, approximately 88.9% of those OATS ROEs
were reported through service bureaus, with 730 broker-dealers
reporting more than 99% of their OATS ROEs through one or more service
bureaus.\902\ These broker-dealers are represented in the two right-
most bars in Figure 1 that are identified with asterisks (*) in their
labels. Because of the extensive use of service bureaus in these
categories of broker-dealers, the Commission assumes that these broker-
dealers are likely to use service bureaus to accomplish their CAT Data
reporting.
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    \902\ Although most of these broker-dealers report nearly all of
their ROEs through a service bureau, there are broker-dealers, both
large and small, that self-report nearly all of their OATS data at
all activity levels, including a broker-dealer that self-reported
two OATS ROEs during the sample. Despite this variation, the
Commission believes that its assumptions regarding which firms are
likely to outsource and which firms have discretion are appropriate
because (1) small firms that insource likely do so because it is
less costly so the assumption simplifies the analysis and
overestimates costs and (2) the cost information for the other firms
already accounts for both insourcing and outsourcing.
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ii. Estimation of Outsourcing Costs
    The Commission has estimated ongoing costs for outsourcing firms
using a model based on data gleaned from discussions with service
bureaus and broker-dealers and implementation costs using information
learned in conversations with industry.\903\ Service bureaus that
provide order-handling systems, market connectivity and regulatory data
reporting services estimated that a very small broker-dealer was likely
to currently spend $50,000-$180,000 per year for these services; they
suggested that current annual costs for very large broker-dealers would
likely be $1,000,000-$2,400,000 but could be greater in some
cases.\904\ The Commission assumes that a very small broker-dealer
would report a single OATS ROE per month and a very large broker-dealer
would report 100 million OATS ROEs per month.\905\
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    \903\ See supra note 880.
    \904\ Estimates are based on FIF-arranged conversations with
service bureaus. See supra note 880.
    \905\ The Commission preliminarily believes that firms that
report more than 350,000 OATS ROEs per month outsource on a
discretionary basis. If the estimate of activity level for very
large firms is too large (100 million ROEs is used in the model
estimation), the Commission's model would underestimate the costs of
all firms that report fewer than 350,000 OATS ROEs per month
currently. The Commission preliminarily believes the 100 million
ROEs per year size estimate to be reliable because although most
firms at activity levels between 40 million and 300 million OATS
ROEs (15 firms) self-report, several use service bureaus.

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[GRAPHIC] [TIFF OMITTED] TN17MY16.330

    Based on discussions with market participants, the Commission
assumes that the cost function for outsourcing is concave.\906\ This
type of function is appropriate when costs increase as activity level
increases, but the cost per unit of activity (e.g., cost per report)
declines as activity increases. Volume discounts can create such cost
functions. Alternatively, if the Commission estimates outsourcing costs
as a linear function using the two point-estimates (very small firms
and very large firms) obtained from service bureaus, that outsourcing
cost model would underestimate the costs of broker-dealers that are
neither very large nor very small due to the concavity of the function.
As shown in Figure 2, a concave function is greater than the linear
function that connects its endpoints. To illustrate the underestimation
concern, if the estimated pricing function was a straight line but the
actual pricing function was concave, the estimates would be too low.
Lacking data on outsourcing costs faced by broker-dealers with activity
levels that are neither very small nor very large, which would assist
the Commission in estimating the degree of concavity of the pricing
function, the Commission's estimation assumes that service bureau
pricing functions are similar in concavity to equity exchange pricing
functions.\907\
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    \906\ The Commission preliminarily believes that service bureau
pricing functions are concave based on discussions with service
bureaus arranged by FIF. See supra note 897.
    \907\ The Commission relies on exchange pricing functions
because the data is publicly available and because a broker-dealer's
activity level on exchanges is correlated with the quantity of
regulatory data it generates. If the pricing function for service
bureau services is more concave than exchange pricing functions, the
Commission's preliminary model would underestimate costs for broker-
dealers that are neither very small nor very large because an
increase in concavity would increase the distance between the
concave and linear functions in Figure 2.
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    The Commission relies on a schedule of average charges to access
liquidity and rebates to provide liquidity from four non-inverted
exchanges to estimate the concavity of the exchange pricing function,
which the Commission uses to approximate the concavity of the
outsourcing cost model.\908\ On such exchanges, the party receiving
liquidity in the transaction generally pays a fixed fee to do so; the
party providing liquidity receives a rebate from the exchange. This
rebate often marginally increases with the market participant's
aggregate volume on the exchange.\909\ For liquidity providing firms,
this pricing scheme would imply a concave function of the cost
differential between taking and providing liquidity, which informs the
Commission's estimation of the degree of concavity of the outsourcing
cost model. The Commission preliminarily believes that estimating the
shape of the function \910\ using exchange pricing functions is a
reasonable approach because the same

activities that determine a broker-dealer's access fees on exchanges--
such as executing orders and the activities such as order submission
that are requisite to those executions--would affect the broker-
dealer's impact on a service bureau's infrastructure and thus the fee
that a service bureau is likely to charge to provide services to the
broker-dealer.
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    \908\ On many exchanges, the party posting a resting order earns
a rebate when his order is executed. His counterparty, whose order
immediately executes, pays a fee to the exchange, which exceeds the
rebate the liquidity-providing party earned. The difference between
the rebate and the fee represents the cost a market participant
would incur to fill a resting order on the exchange, then
immediately trade out of the position--a so-called ``round-trip''
cost. The magnitude of this round-trip cost is often a function of
the market participant's trading activity on the exchange, with more
active traders paying lower round-trip costs. On ``inverted''
exchanges, the party with the resting order pays a fee while her
counterparty that receives immediate execution earns a rebate. The
Commission's estimate of concavity relies on data from exchanges
that do not feature inverted pricing.
    The Commission obtained public fee schedule data from Web sites
for NASDAQ, PSX, NYSE, and ARCA during October, 2015. For NASDAQ,
the differential between access fees and liquidity rebates was
calculated using the universal ``take fee,'' and rebates were for
shares trading at greater than $1.00 per share (http://www.nasdaqtrader.com/Trader.aspx?id=PriceListTrading2. For PSX,
calculations used the Tape C remove charge less rebate to add
displayed liquidity (http://www.nasdaqtrader.com/Trader.aspx?id=PSX_Pricing). For NYSE, calculations used the
``Providing Tier 3/2/1'' rebates versus the universal ``take fee''
(NYSE Trading Fees). For ARCA, calculations used charges and rebates
for midpoint passive liquidity orders available at https://www.nyse.com/publicdocs/nyse/markets/nyse-arca/NYSE_Arca_Marketplace_Fees.pdf.
    \909\ See supra note 908 for examples of exchange pricing
schedules.
    \910\ This estimation affects the shape of the function, and
thus the relative prices that are estimated for each broker-dealer;
the absolute level of prices is determined through the function's
calibration, which is described below.
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    The Commission's estimation of the outsourcing cost model begins
with construction of a tiered function based on the exchange pricing
function; the incorporation of the exchange pricing function is the
source of the concavity in the model.\911\ The Commission's estimation
of exchange pricing assumes four activity level categories.\912\ The
Commission preliminarily mapped OATS reporting activity levels to
exchange fee break points, with the assumptions that only a very small
minority of firms would qualify for the lowest-fee tier of services and
all of the firms that reported so few OATS ROEs to be assumed to be
Outsourcers would be at the highest-cost tier of service.\913\
Consequently, the Commission assumed the first fee break-point to be
350,000 OATS messages per month. A firm with 1 million messages per
month is assumed to qualify for the third pricing tier. To qualify for
the most favorable pricing tier, a firm would need to report more than
100 million OATS messages per month. The model is fitted by adding a
constant to the implied cost of message traffic to bring firms with a
single OATS ROE to the minimum $50,000 annual fee discussed by service
bureaus. The fee for very large firms (for purposes of this model, 100
million plus records per month) is calibrated by multiplying the
estimated exchange fee tiered function by a constant scale factor of
30. With these adjustments, the tiered function implies a firm with
20,000 OATS ROEs per month would incur a service bureau fee of $50,705
annually; a firm with 100 million OATS ROEs per month would incur a
service bureau fee of $1.175 million annually; and a firm with 1
billion OATS ROEs per month firm would incur a service bureau fee of
$11.3 million annually.\914\
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    \911\ A tiered function often looks like a set of steps with
points of discontinuity where the function appears to suddenly move
up or down. Often, a tiered function's behavior is determined by the
range of its independent variable (input value). For example, a firm
that charges $1 per unit for orders of 100 units or less, or $.80
per unit for orders of more than 100 units prices according to a
step function, with the number of units ordered being the
independent variable. On exchanges, the round trip cost (access fee
less rebate) is often a step function based on the firm's activity
level during a given calendar period.
    \912\ The Commission chose four tiers to strike a balance
between incorporating as much information from exchange pricing
models and having to extrapolate information from them. NASDAQ and
PSX have five activity level tiers, while NYSE and ARCA have three
activity level tiers. Building a model with only three tiers would
ignore potentially significant information from NASDAQ and PSX while
building a model with five tiers would require extrapolating
information on nonexistent tiers on NYSE and ARCA, which adds
imprecision to the function. For NASDAQ and PSX, the Commission used
prices for the four most active tiers in the analysis; for NYSE and