The London Stock Exchange Group (LON: LSE) – market cap as of 01/08/2019: £30.05bn
Introduction
On August 1st 2019, the London Stock Exchange Group (LSE) announced it had come to terms with Refinitiv shareholders to acquire the business in an all-share transaction for a total enterprise value of around $27bn. LSEs purchase of the data provider company from Blackstone and Thomas Reuters could mark the end of Michael Bloomberg’s dominance in the global financial market infrastructure (FMI) sector. Additionally, it will provide LSE with financial market data as a new source of sales to stock brokerages and institutions, which will reduce their reliance on transaction revenues from its UK and European business.
About Refinitiv
Refinitiv was formed on October 1st 2018 when Thomas Reuters sold a 55% stake in its Financial & Risk unit to Blackstone Group LP in a deal valuing the entire unit at $20bn. The company came to life as a spin-off and a sign of Thomas Reuters’ pivot towards news and media, as well as a divergence from the financial market infrastructure largely dominated by Bloomberg. The business is led by CEO David Craig and as of today serves 40,000 institutions in over 190 countries while employing about 18,500 people.
The company provides over 130 financial technology analytics, data, trading and risk assessment tools. Among its best know is its Eikon division which provides desktop data terminals that give users access to financial data and enable message exchange with other users. Its biggest competitor is, of course, the Bloomberg terminal, which is estimated to control a third of the market. Reuters, however, owned just over a fifth of the financial data provider industry. The World-Check tool provides a risk intelligence database aimed at financial crime legislation compliance, which tracks over 3m individuals and entities daily that can pose a potential risk to the international business community. Their bond-trading platform Tradeweb supports $600bn in trading daily. The currency trading platform FXall records over $400bn in daily trades and provides unparalleled access to deep liquidity, which makes it the largest global professional FX community with more than 1,700 institutional clients and 160 providers. Among its other tools, Refinitiv also provides the following: execution management systems, macro-analysis software, cloud Quantitative Analytics and AutoAudit, a system which improves the efficiency of internal audit processes and offers enterprises a structured approach to scoping and conducting audits. Refinitiv also maintains an M&A database with over a million records covering corporate finance deals spanning over 40 years. The data provider supports 5,000 investment firms and hedge funds with over 400,000 end-users worldwide.
According to Thompson Reuters’ annual report, Refinitiv recorded $1.6bn in revenues in Q4 2018 and $6.1bn in revenues for the entirety of 2017.
About The London Stock Exchange Group
The LSE is one of the world’s oldest and most prominent stock exchanges; its history can be traced back more than 300 years. The LSE group was formed in October 2007 when the London Stock Exchange merged with the Milan Stock Exchange, creating Europe’s most diversified exchange group. In 2009, the Group acquired MillenniumIT, a premier technology solutions provider serving the global capital markets industry. In December 2011, the LSE Group acquired the outstanding 50% of FTSE International Limited, giving the group 100% ownership and strategic control. Up until 2017, LSE’s most pronounced strategy was seeking exchange mergers and maximizing transaction volumes in EU and UK markets.
In 2017, a potential merger with Deutsch Borse failed due to EU competition regulators concluding the merger would create a “de facto monopoly in the markets for clearing fixed income instruments”. Another reason for this decision might be that the EU refuses to have its leading stock exchange in a post-Brexit Britain. After the deal fiasco proved that there is little space to further scale their strategy, the company turned its attention to transforming its business into more financial data services which would allow them to compete with large US exchange operators, hence the decision to acquire Refinitiv. However, only over a month later the LSE itself became a target of a $40bn bid by the Hong Kong Exchanges and Clearing, which posed a potential threat to the Refinitiv mega merger. However, on September 13th the LSE rejected HKEX’s offer, further solidifying the Londoner’s commitment to closing the acquisition of Refinitiv (still awaiting shareholder approval), which is set to invigorate deal-making in the industry.
As of April 2018 former Goldman Sachs banker David Schwimmer was hired as Chief Executive Officer of the LSE Group, replacing the ousted Xavier Rolet. The new CEO was quoted saying “…we will transform our position as a leading global financial markets infrastructure group”, further underlining the Groups new FMI oriented strategy.
There are currently 2,600 companies from over 60 countries listed on the London Stock Exchange with around 5,000 employees in the group. In 2017 the LSE’s total revenue was $2.2bn and growing at 17% a year. Its EBITDA margin was improving with sales, reaching around 50%, while debt fell to 1.7 times earnings. Together, the LSE and Refinitiv had $7.3bn in sales last year.
Industry Overview
The financial data industry utilizes many instruments and hundreds of different markets for investment, resulting in a universe of data that is exceptionally vast and complex. The types of data supplied vary by vendor; however, through M&A and the increasing globalization of world markets, many vendors identify as universal. Currently, the industry is dominated by four large vendors: Bloomberg, S&P, FactSet, and Thomson Reuters’ Eikon. All four promise to provide a one-stop-shop platform including all types of financial data services. At 32.5%, Bloomberg continues its leading role in highest revenue share, increasing terminal counts by over 5,000 users between 2017 and 2018. Refinitiv also had record-breaking organic revenue growth of 9%, overcoming their 2008 revenue growth record due to their launch of the new AI-powered products that were developed in-house.
In the financial information market, it is harder for management to generate adequate returns with low levels of product and content integration. The provision of financial information is unbelievably disparate, and that is displayed in the product suites and the contents of those suites. Revenue growth is centralized on proprietary and specialist data providers due to market saturation in the supply of pure price data. The rising demand for value-added services, analytics, financial benchmarks and the requisite to fulfil regulatory and client reporting creates high margin services, which are hard to replicate or displace. On the contrary, data providers whose main business is data aggregation performed poorly. The terminal business faces a long-term decline since technological progression brings shortcuts to complex data analysis.
Amongst the main challenges facing all the vendors is managing and keeping up with technology. Legacy technology is infrastructure-heavy and inefficient in resources, thus the more legacy systems are marketed the harder it is to transition and adapt for the vendors. Technology brings disintermediation to the market, providing global access that creates new channels for data sources. This reduces entry barriers, promotes fragmentation, and expands consumer choice.
Content is king in the industry of data. Micro-monopolies create a sort of data which once ingested into client systems or used as benchmarks, become sticky and tough to displace, making it very unique. As a result, Data Source Owners will become much more aggressive to protect IPRs in the FinTech world through watertight license agreements and usage policies. The growth of micro-monopolies caused by incremental M&A activity is threatening the market. Global vendors will invest and grow their micro-monopolies to create differentiation.
Deal Structure
Under proposed terms of sale, the all-share deal values Refinitiv at $27bn, including the debt of the firm. LSE finances this deal by issuing 14.5bn new shares and 12.5bn of existing debt. The exchange’s net debt to adjusted earnings before interest, tax, depreciation and amortization is expected to rise 3.5 times after the deal has been issued. Although, LSE promises to reduce the debt below two times in under 30 months of finalizing the takeover. Additionally, Blackstone led a consortium to complete a leveraged buyout of Refinitiv from Thomson Reuters about 10 months ago. If a deal is struck, LSE will be responsible to pay off the buyout with a minimum of $325m per year for 30 years. The all-share deal will make Refinitiv’s owners, Blackstone and Thomson Reuters, LSE’s biggest shareholder. Together they will own 37% of LSE’s shares and control nearly 30% of its voting rights. Blackstone and other minority investors, such as CPPIB, will own two board seats, while Thomson Reuters will control one board seat. LSE has announced the closing date of the deal to be in the second half of next year.
Deal Rationale
The deal represents a consolidation of LSE’s shift into data services that began two years ago with the acquisition of Russell Investments and FTSE International, and a radical change in the strategy it was seeking just two years ago with the attempted merger with Deutsche Borse that ultimately failed due to antitrust concerns. While at the time LSE was seeking exchange mergers and clearing house deals to maximize transaction volumes and efficiencies, now its strategy has shifted to recognize that data drives transactions, especially as trading becomes more algorithm-driven. The main advantage of the deal will arise from network effects amplified by aggregation in two different dimensions. The first one, horizontal, is the addition of foreign exchange and fixed-interest trading platforms to a business already strong in equities and derivatives. The second one, vertical, will allow an algorithmic hedge fund to use LSE data and analytics to trigger trades in stocks and bonds on LSE platforms, then to settle via LSE’s clearing house and after to measure its return against LSE indices, thus creating something similar to an “everything store” and deterring competition. On the other hand, the deal is not likely to bring antitrust concerns over network effects, which aren’t considered an issue by regulators; but there is the possibility that LSE would gain pricing power over consumers, thus raising antitrust issues. The acquisition of Refinitiv will also allow LSE to be more global, with revenues from Asia, emerging markets and North America. The transaction will target annual cost savings of £350m within five years of the deal closing, to be added to the gains that the combined group would seek to capitalize from cross-selling opportunities. The cost-savings envisaged by LSE are worth around £2.8bn, taxed and capitalised, while the £5bn uplift in LSE’s market price since the news of the deal may represent the value of revenue synergies. According to Arnaud Giblat at Exane BNP Paribas, Refinitiv could boost earnings per share at LSE by about 21% in the first year of the deal, with the potential for that to climb to more than 30%.
Although LSE has a great upside, the clear winner of the transaction is Blackstone. Along with co-investors Canada Pension Plan Investment Board and Singapore’s GIC state fund, the group put $3bn of equity and $1bn in preferred debt to acquire 55% of the financial and risk division of Thomson Reuters, subsequently rebranded Refinitiv. This $4bn bet will be now worth roughly $8bn, allowing the Blackstone-led consortium to double its money in only 18 months.
Market reaction
The London Stock Exchange Group’s shares surged to their biggest gain in more than a decade as investors welcomed the news that exchange was in talks to buy Refinitiv for $27bn. One top-10 LSE shareholder said they were supportive of the deal. Other shareholders such as Royal London Asset Management, one of the top 20 shareholders of the group, welcomed the group’s strategic focus on data but wanted more information on the quality of the assets it would acquire with Refinitiv. Given this reaction, LSE shares closed up 15% at £65.42 on July 29th. But the ride didn’t stop there and the share of LSE, on August 1st, were up 25% since the news of the talks broke due to its closing and the half-year numbers of LSE.
Although Refinitiv is privately held by Blackstone, Thomson Reuters holds a 45% stake in the company and its shares jumped 4.3% in New York trading at the news of the talks.
Financial advisors
According to people involved in the deal, Robey Warshaw, Goldman Sachs, Morgan Stanley and Barclays acted as financial advisors for LSE, while Evercore, Canson Capital Partners and Jefferies acted as financial advisors for Refinitiv’s majority owner Blackstone Group. Thomson Reuters instead hired Guggenheim Securities, Centerview and Canada’s Toronto-Dominion Bank as financial advisors for the deal. From a legal perspective, Freshfields Bruckhaus Deringer advised LSE, Allen & Overy advised Thomson Reuters and Simpson Thacher & Bartlett advised Blackstone.
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