Galen Stops gives his take on the five key questions to be asking following the announcement of LSEG’s proposed acquisition of Refinitiv.
The news that London Stock Exchange Group (LSEG) is set to acquire Refinitiv in a deal worth $27 billion certainly caused a lot of excitement and intrigue within the financial services industry when it was announced on August 1.
“This is big. I mean, this is like the deal of the century,” enthuses one investment banker in New York.
Of course, “big” doesn’t necessarily equate to “good” when it comes to M&A activity and there are still a lot of unanswered questions surrounding this deal. Here are five important ones to consider going forward:
1.Will this deal spark off a new spurt of M&A activity?
One question being widely asked in the wake of LSEG’s proposal to buy Refinitiv is whether this deal might trigger more M&A activity.
The immediate question being asked in many quarters was whether the Intercontinental Exchange (ICE) might be tempted to step in and try to scupper the deal by making a bid for LSEG. ICE has a history of spending big for assets that it wants, and LSEG is clearly an asset that it would like to own, given that it made a $15 billion all cash offer for the firm in 2016 at a time when LSEG was trying to complete its so-called “merger of equals” with Deutsche Boerse Group.
LSEG’s data businesses would help diversify and complement the data businesses that ICE already owns, but according to one market source “ICE doesn’t want the equities business, LCH is really the jewel that it wants”.
Whilst distinctly refusing to categorically rule out an ICE bid for LSEG, however, a number of sources have indicated that such a deal would be hard to get through, given that it would most likely be a hostile approach. In addition, the deal between LSEG and Refinitiv includes a hefty £198.3 million break fee should the former renege on the deal for any reason. Moreover, these sources point out that LSEG’s share price today is over double what it was three years ago, especially as it has spiked since news of its approach for Refinitiv broke. This means that ICE would now have to be willing to write a much, much larger cheque than in 2016.
The LSEG/Refinitiv deal could also spark off M&A activity elsewhere though, with some market sources suggesting that any sizable information businesses are likely to be targets for exchange groups. “Exchanges are buying data companies because they need growth. Large information businesses are scarce. Expect to see a lot more consolidation on the heels of the Refinitiv and London Stock Exchange Group merger,” says the head of alternative data at one large financial services firm.
Meanwhile, it seems to be widely acknowledged that fixed income is a market ripe for further electronification, as witnessed by Tradeweb, an electronic fixed income and derivatives trading platform, raising $1.1 billion from its IPO earlier this year. Tradeweb was previously majority owned by Refinitiv, and while the whole would have been a significant prize for the LSEG, it is worth noting that Refinitiv continues to hold a sizable number of shares in the firm.
“The transaction business is not making as much money as it used to so the exchanges are looking for other assets but there are just not many available of sufficient size”
Tradeweb then, might be a more difficult – and expensive – purchase post-IPO, so some sources are speculating that large firms looking for new revenue opportunities might start turning their attention to MarketAxess, another platform offering electronic fixed income trading.
Another point to remember is that Deutsche Boerse was in talks to buy at least part of the FX businesses owned by Refinitiv prior to the LSEG announcement, so it is clearly in the market for more FX assets. Could it look elsewhere for them? The problem is, as the investment banker notes, there simply aren’t a lot of assets available that would really move the needle for a large exchange group like Deutsche Boerse.
“Part of the problem is that you’re just running out of independent assets of meaningful size,” the banker says. “The transaction business is not making as much money as it used to so the exchanges are looking for other assets but there are just not many available of sufficient size now that CME has NEX, State Street has Currenex and it looks like Refinitiv is going to LSE.”
Of course, this brings us onto……
- Where does this leave Deutsche Boerse’s FX strategy?
The obvious and short answer to this question is: pretty much where it was before the deal for Refinitiv’s FX platform(s) fell through.
The exchange group is still pursuing the model of becoming a “one-stop-shop” for FX, offering all of the pre-trade, execution and post-trade services and infrastructure required for trading FX across all the various product segments in this asset class. The key gaps that Deutsche Boerse needs to fill are still the same – it has to build out trading on its central limit order book (CLOB) and FX futures, which it is trying to do through GTX and Eurex, respectively.
The problem is, CME Group appears to be pursuing a similar model following its acquisition of NEX Group and, all told, it has the larger FX franchise right now – and size matters when you’re trying to be a one-stop-shop for anything.
As I argued earlier this year, when I ranked Deutsche Boerse as the most likely buyer of Refinitiv (yes, I had LSEG way down at number five): “Buying Refinitiv, or at least part of the company, would tip the scales back in Deutsche Boerse’s favour…buying Matching would not only fill the gap that still exists in this part of the firm’s FX franchise, but slingshot it past CME Group in terms of spot volumes. Or indeed, buying FXall could be seen as complementary to its existing business, further expanding the amount of business that it sees from certain buy side client segments.”
“Thomson Reuters made a number of acquisitions that are US-based and so if the LSE can provide a distribution channel for these products and services in Europe that will be a big growth area for them”
If the LSEG purchase of Refinitiv goes through, this leaves Deutsche Boerse playing catch up again. Further, some have claimed that integrating a firm as big as NEX into CME will take much time and effort on both sides, something which could distract from the day-to-day running of the FX businesses or, at the very least, slow the pace of innovation. As a logical consequence of this, I’ve heard it suggested that Deutsche Boerse has some time to build out the weaker parts of its FX franchise to match the CME before the latter has all of its FX ducks in a row, so to speak. Even if you buy this argument, however, this grace period won’t last forever.
It is worth pointing out, though, that there is something of a counter-argument to this. Whereas 360T’s FX offering has traditionally been strong amongst buy side firms and less so in the interbank market, the reverse is true of the combined CME/NEX businesses. In a video interview with Profit & Loss last year Carlo Koelzer, CEO of 360T and global head of FX at Deutsche Boerse Group, made the case that it is much easier to build out an FX business amongst banks and professional trading firms, where a relatively small number of players produce the majority of flows, compared to buy side firms such as corporates, where FX activity is diffused amongst a much wider universe of firms. From this perspective it can be argued that the hill Deutsche Boerse has to climb on the FX side is not as steep as the one facing CME.
So where does the German exchange group go from here?
P&L’s managing editor Colin Lambert wrote in this recent column, “It could be that Deutsche Boerse now looks to seriously beef up its technology and resource spend on GTX to make that platform the serious CLOB it wants. Equally it may decide that the spot business is no longer a priority and prefer to focus on catching the really big fish still in the water in FX swaps.”
Personally, I’d put my money on the former ahead of the latter.
- Will new revenues offset the debt LSEG is taking on to push this deal through?
LSEG as a company was valued in the region of £20 billion prior to this deal and it is buying Refinitiv for $27 billion. In order to do this it is taking on a sizable amount of debt, over $12 billion – but can it really squeeze enough new revenue from this deal to justify this?
Tradweb would have been a great new asset but, as already noted, it went public earlier this year. FXall and Matching are fine assets to own but the past few years have hardly been a vintage period for FX transaction volume growth and thus they’re unlikely to provide the kind of revenue boost that LSEG will be looking for post-acquisition. Meanwhile, the challenges and potential headwinds to the desktop business have been well documented and Refinitiv is still very much second best to Bloomberg on that front in any case.
“What on the surface looks like an eminently suitable match hides the fact that the streamline LSE business is merging with an entity which is worth way less than the sum of its parts”
So then plan from LSEG appears to try and squeeze a lot of value out of the combined data that it will own after it the deal goes through.
“They’re betting on putting a lot of things together,” says one US-based consultant. “Thomson Reuters made a number of acquisitions that are US-based and so if the LSE can provide a distribution channel for these products and services in Europe that will be a big growth area for them.”
Further, combining a firm that produces or owns a lot of data, like LSEG, with one that distributes data on a global scale, like Refinitiv, is on paper a powerful combination and it’s not hard to see how synergies and increased revenues could result from this, and although some of the transaction businesses that LSEG will acquire as part of the Refinitiv deal might not have a huge direct impact on top line revenues, the consultant argues that they could still prove strategically significant acquisitions as they mean the exchange now has a much broader reach across different asset classes.
Now, given the ever-increasing importance of data for investing and trading in today’s financial markets this may very well prove to be an incredibly astute bet, but it is simply not a given that having this collection of data-focused businesses under its roof will lead to a sizeable increase in profits, LSEG needs to have a clear idea of how to maximise the impact of them to its existing business lines.
This argument is also put forward by Keiren Harris, CEO of DataCompliance, in his analysis of the deal. “What on the surface looks like an eminently suitable match hides the fact that the streamline LSE business is merging with an entity which is worth way less than the sum of its parts (perhaps that is indeed the rationale). Even Mary Shelley could not have envisaged a creature with as many disparate businesses welded together in such haphazard fashion. Frankenstein’s monster was put together better,” he says in a research note published online.
“People get enamoured by these big deals, but just buying businesses that could go together doesn’t mean that they will. If they handle this acquisition like Thomson Reuters used to handle its acquisitions, it will be a disaster”
Harris also points out that Refinitiv is a significantly larger organisation than LSEG, with a global reach and presence, but argues that it carries “a lot of baggage” within its bulk. In addition, he highlights that Refinitiv is the only major financial services data vendor to have seen its revenues decline since 2010. “Significant investment needs to be made in technology, what exists is antiquated, and facing challenges from new sources and new tech. TREP (Thomson Reuters Enterprise Platform) is the past and Eikon terminal a distant second to Bloomberg,” he adds. “The LSE needs to understand exactly what it is getting itself into, develop coherent and realistic strategies, focus on core competencies, turn forgotten subsidiaries into clients, and most importantly rediscover existing clients.”
The investment banker also adds a note of caution regarding the deal. “It’s not guaranteed by any means that this will be a success. People get enamoured by these big deals, but just buying businesses that could go together doesn’t mean that they will. If they handle this acquisition like Thomson Reuters used to handle its acquisitions, it will be a disaster. Thomson Reuters used to buy assets and then just let them hang, and sometimes it worked and sometimes it didn’t and they ended up selling it off. Someone at the LSE needs to own this deal.”
When considering profits it’s also worth noting that the Blackstone-led consortium made a tidy sum of money less than two years after it closed on a 55% stake of Thomson Reuters’ Financial and Risk (F&R) division for $17 billion. This is a fact that in turn prompted another question from one person that I spoke to: why didn’t LSEG just buy Thomson Reuters’ Financial & Risk division back then?
- What are the implications of Blackstone’s stake in LSE?
One part of this deal which, rather curiously, hasn’t seemingly garnered much scrutiny in the general news media and I haven’t heard much about in my preliminary conversations with people, is that the Blackstone consortium will be left ultimately holding an economic interest in LSEG equal to approximately 37 per cent and slightly less than 30 per cent of the total voting rights of LSEG. This means that it will have a considerable amount of sway at LSEG going forward. Will the aims and goals of a private equity consortium naturally align with those of the exchange group? How much influence will it be able to actually exert?
“They will be exerting a lot of pressure on the LSE to slim down and cut costs wherever they can,” is the assessment from the investment banker.
Also, consider this – the business model for these private equity firms is generally not to hold assets over a long period of time, but rather to buy an asset that they think will naturally appreciate in value or can be made more valuable (whether by stripping costs or increasing revenues) and then sell for a profit. So the Blackstone consortium may not be holding onto the shares that it is receiving, so when does it get out and what will be the significance of its exit?
“Red flags about conflict of interest here. LSE – a trading venue; Refinitiv, provider of pricing information among other things. The regulators will scrutinise this one”
Consider this segment from the announcement outlining the terms of the proposed deal: “Refinitiv Holdings and ConsortiumCo have agreed to be subject to a lock-up for the first two years following Completion. The lock-up arrangements will apply to all of the consideration shares issued by LSEG, with the exception of 5,781,285 shares, which will be tradeable at any time after 30 days from Completion to allow the Refinitiv Shareholders to fund certain Transaction-related expenses. In each of years three and four following Completion, Refinitiv Holdings and ConsortiumCo will become entitled to sell in aggregate one-third of the shares issued to them. The lock-up arrangement will terminate on the fourth anniversary of Completion.”
The consortium is also restricted from acquiring further shares or making a takeover offer for LSEG for three years after the deal closes, which raises another interesting question, in a few years does this private equity group sell off its stake in LSEG or try to double down on its investment?
- Will it get past regulators?
Just a casual glance across social media channels reveals a significant amount of concern that the LSEG/Refinitiv tie-up could yet be scuppered by regulators. The last big deal that LSEG tried for – merging with Deutsche Boerse Group – was killed by regulators, but this is a very different deal involving very different businesses.
While there is less of an issue of monopoly at play here, regulators might see some significant conflicts of interest emerging were these two entities to combine. Once it acquires Refinitiv, LSEG will now compete with its top content distributors and Refinitiv with its suppliers, while Securities and Exchange Commission (SEC) rules mean that exchanges have to treat themselves like any other vendor.
“Red flags about conflict of interest here. LSE – a trading venue; Refinitiv, provider of pricing information among other things. The regulators will scrutinise this one,” says one market source.
Another point of contention would be whether this deal will mean that access to LSEG’s data becomes more costly and less available for firms not accessing it through Refinitiv’s products. At a time when concerns around the rising costs of market data are becoming more acute, expect there to be lots of conversations around this issue as the deal progresses.
The European Commission will be analysing the deal, and a source at one legal firm indicates that although data will be a key focus point for this analysis, they don’t believe at this point that the Commission will move to stop it. The source further points out that LSEG data is primarily proprietary index-related or transactions like stock trades, while that sold by Refinitiv is based on sources like financial institutions and databases. In addition the source highlights other examples of exchange groups acquiring data distribution businesses – ICE buying Interactive Data for $5.2 billion in 2015 being the most prominent example.