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The potential merger between the London Stock Exchange Group PLC (LSE) and the Deutsche Börse AG (DB) is one of the hottest topics for investors. Given the political tension that lingers over Europe in this period, it is clear that the deal is drawing attention not only because of its strategic relevance but also for the political implications and regulatory concerns that could spring from it.
With unfavourable movements in the LSE share price beginning mid-February, and growing rumours about a potential deal, an announcement was due pursuant to rule 2.2 of the UK City Code on Takeovers and Mergers. On 23rd February, the two exchanges declared that they are discussing an “all-share merger of equals”, the key terms of which were specified a few days later by DB in a press release. At the time of writing, there is no certainty that any transaction will occur, but the proposed structure of the deal would entail the creation of a holding company domiciled in UK, while the LSE and DB will retain their brand names, acting as subsidiaries that continue to operate their key businesses in London and Frankfurt. DB shareholders will own 54.4 % of the combined company while LSE shareholders will own the remaining 45.6 %. The “NewCo” would have a unitary board composed of equal numbers of LSE and DB directors, with Carsten Kengeter – current CEO of DB – as CEO and Donald Brydon – current Chairman of LSE – as Chairman of the new board.
Now that the offer period has officially begun, the so-called “put up or shut up” rule kicks in. Deutsche Börse is now required, by no later than March 22, to announce a firm intention to make an offer or to step back and refrain from another offer for the next 6 months. Meanwhile, other big exchanges could step in and start a takeover battle with uncertain outcomes. The International Exchange Inc. (ICE) – the owner of the New York Stock Exchange – has already showed its interest and now must make an offer for LSE no later than March 29.
There is a strong rationale behind this transaction, but this is not the first attempt to tie the knot for LSE and DB: with previous failures in 2000 and 2004. The deal, which currently has an estimated value of more than £20bn, aims to achieve substantial synergy between the key businesses of the two exchanges. This means creating extra revenues and higher trading volumes, cutting costs and implementing a common technology platform for every line of business. The parties revealed that one of the key points of the deal is the creation of a pan-European central clearing counterparty (CCP) for derivatives. This aspect is also extremely important because the EU Commission, which is currently working with the US Commodity Futures Trading Commission (CTFC) in order to establish a common approach to the regulation and supervision of global derivatives markets, has recently adopted a new set of rules that will require certain over-the-counter (OTC) derivatives to be cleared through CCPs. Hence, the goal for LSE and DB is to become more attractive in the eyes of customers by lowering costs and capital requirements for their trades. It’s a move that could reward the parties with a competitive advantage: a key element in every successful M&A transaction.
In the turmoil that is currently characterizing the EU political scenario, establishing a bridge between Frankfurt and London could amount to a much needed political sign. There are, however, a number of potential obstacles along the way.
The first one is related to regulatory concerns. Due to the fact that the merger will amount to a concentration in the Community, EU regulators will assess if the deal could give rise to competition issues or impose excessive systemic risks on the financial system as a whole. The head of the Minneapolis Federal Reserve, Neel Kashkary, recently stated that banks are still ‘too big to fail’ and that they are as dangerous as ‘nuclear reactors’: given the enormous amount of derivatives traded and their complexity, this metaphor fits also for CCPs.
The second big concern is related to the possibility that the UK might leave the EU as a result of the referendum scheduled for June. It is difficult to assess what impact a “Brexit” could have in areas such as UK trade, labour, or immigration. Nevertheless, it could adversely affect the creation of a truly integrated European capital market. As former minister Alan Johnson declared, leaving the EU could amount to a leap in the dark for Britain. This issue and the uncertainty that stems from it, which will last until the vote (if not beyond), is so pressing that the parties have explicitly appointed a “Referendum Committee”, with advisory tasks on this political risk. Right now, the only certainty is the high volatility that markets will face over the coming months.
Author: Marcello Tumino
Course: LLM International Corporate Governance and Financial Regulation