With the London Stock Exchange Group (LSEG) announcing the acquisition of Citigroup's Yield Book fixed-income analytics service and related indexing business for $685 million (c.£532m) in cash, the bourse’s first big deal since its merger with Deutsche Boerse collapsed this March, one wonders if shares in the LSE are a buy?
The shares, which closed this past Friday at £34.83 a pop and up 41p (+1.19%) on the day, aren’t exactly cheap. presently a touch off their 52-week high of £34.93, the stock is some 54% higher than the 52-week low of £22.59, putting the LSE’s market capitalization at a tad over £12.13 billion (bn).
The City was positive over the deal, which reflects the LSEG’s on-going commitment to expanding the capabilities of its Information Services Division, and follows the acquisition of the Russell indices business in 2014 and Mergent Inc. in 2016.
Patrick L. Young, a seasoned exchange sector commentator who publishes Exchange Invest newsletter and a critic of the rationale behind the LSE/Deutsche Boerse (DBAG) merger having predicted its collapse virtually from the outset, remarked: “An interesting deal as LSE looks to bulk up FTSE Russell by adding more fixed-income content. [It was] presumably a deal which was already in the offing before the merger of ‘Equal Desperation’ fell apart.”
Bulking up on bond analytics/indices by the LSE follows InterContinental Exchange’s (ICE) Interactive Data Corporation integration in October 2015, an acquisition by that network of exchanges and clearing houses which was valued at the time at around $5.2bn. Data could be said to be the new oil.
Shares in LSE, which dipped on the demise of the deal with the German exchange operator in Frankfurt have though recovered and are up around 14% since the DBAG merger deal was blocked by EU regulators over competition issues over a potential monopoly in the processing of fixed-income trades.
It seems strange that both exchanges could not have seen this coming given the amount of boardroom time and expenses that would have been racked up in the M&A process. That would have been substantial. But still deals go on.
The deal to acquire The Yield Book and Citi Fixed Income Indices - both leading providers of fixed-income indices and analytics globally - from Citi, includes the World Government Bond Index (WGBI), and is subject to regulatory clearance and other customary closing conditions.
Anticipated to close during the second half of 2017, the transaction was touted by exchange based at Paternoster Square near St. Paul’s as “enhancing and complementing” LSEG’s Information Services data and analytics offering, building on FTSE Russell’s US market presence and fixed-income client base globally.
The exchange said that the Citi acquisition would help ramp up the size and capabilities of its FTSE Russell indexes business, taking assets under management (AUM) using its indexes to around $15 trillion (trn).
According to a communiqué from the LSE it “allows FTSE Russell to capitalize further on key industry trends including strong growth in multi-asset solutions and passive investment strategies.”
Revenue and cost synergies through the deal of $30m and $18m respectively, were pencilled in to be achieved through new product opportunities and operational efficiencies.
The Yield Book’s highly respected analytics platform is now operating in its third decade and serves around 350 institutions globally including investment management firms, banks, central banks, insurance companies, pension funds, broker-dealers, hedge funds and investment management firms.
Its products offer analytical insights into a broad array of fixed- income instruments with specific focus on mortgage, government, corporate and derivative securities. Citi’s Fixed Income Indices include some 200 buy-side fixed-income asset managers and asset owners.
In the year to 31 December 2016, the acquired combined Business generated revenue of $107m and EBITDA of $46m (implying an EV/2016 EBITDA of 14.9x), based on a pro-forma estimate of the central costs to be allocated to the business under LSEG’s ownership.
According to Bloomberg data, US-listed information services companies trade at around 16x 2016A EBITDA and around 14x 2017E EBITDA. And, broker RBC Capital Markets posited that the “LSEG paid a reasonable multiple for this business.”
Mark Makepeace, Group Director of Information Services and CEO of FTSE Russell, commenting in the wake of the deal said: “The acquisition represents a significant step for FTSE Russell to acquire a world-class fixed income analytics and index business, enhancing our ability to provide customers with broader multi-asset capabilities and a deeper data and analytics offering.”
Further M&A In The Pipe?
It was also hinted that further acquisitions might be initiated by the LSE, the head of FTSE Russell said. However, the focus for now will be on developing the business it already has. That said, Makepeace added that: “Anything that we can acquire at a fair price, we will look at. But first and foremost we will focus on the organic growth.”
Clients of the LSE increasingly want a multi-asset approach to benchmarking who want to get equities, fixed-income and other asset classes from a single provider.
The deal will also enable the LSE compete better with rival index compilers MSCI and S&P, with FTSE International projected to have more assets under management using its indexes than MSCI’s $11trn and S&P’s $10trn, Mr Makepeace pointed out.
Stock Analysts
According to the consensus forecast from 14 investment analysts canvassed who cover LSEG’s stock as at the end of this May, the view was that the exchange group will outperform the market.
Seven among this group currently rated it an ‘Outperform’ (versus five an ‘Underperform or ‘Sell’, three a ‘Buy’ (up from two a year ago), seven an ‘Outperform’ (versus five). None rated it either an ‘Underperform or ‘Sell’.
As to the share price forecast, of twelve analysts offering a 12-month price target (PT) for the stock there is a median PT of £36.12 (a single-digit percentage increase over closing price last Friday), with a high estimate of £38.25 and a low estimate of £28.00.
Peter Lenardos, an analyst at RBC Capital Markets who rates the LSE an ‘Outperform’, said in a broker note: “We believe this is another clever transaction by LSEG, one that few had on their radar screens. The transaction makes financial and strategic sense.”
He added that this is a “profitable, high-margin, fast-growing business that is complementary to its existing benchmark portfolio, and is an effective use of surplus capital.”
With the acquisition being funded from existing cash resources and credit facilities, RBC Capital Markets was of the opinion too that The Yield Book also “helps to strengthen LSEG’s presence in the US” as well as ISD's global distribution capabilities, and “provides strong connectivity with the asset owner community in North America and Asia.”
The broker projected that the transaction should add between 6.2p (pre-synergies) and 9.2p (full-run rate synergies) to LSEG’s 2018E fully diluted EPS, which is “4% to 6% accretive.”
Another house, Bank of America Merrill Lynch (BAML), noted that the Citi deal was “strategically positive” and “earnings accretive”, estimating it will be “low single-digits accretive immediately.”
In their comments following the deal their analysts stated: “We think this underlines our view that the LSE is a natural acquirer of index assets; index is a high multiple business, with rival MSCI trading on 28x FY 17 Bloomberg consensus.”
Previously the investment house had highlighted the opportunity for FTSE-Russell to “build on its multi asset capacity by “buying an investment bank fixed-income business”, particularly so given that BAML regard indices as “an excellent, high multiple business.”
Putting LSE/DBAG Merger Behind It
In relation to the collapsed merger with Deutsche Boerse following intervention by the European regulator, BAML’s note said: “We still regret the failure of the LSE/DB1 merger. However, this deal shows that the LSE has a clear strategy as a stand-alone business, as well as the ability to execute accretive M&A.” As such, they maintain a ‘Buy’ rating on the stock.
That said, it added: “On 20 times next year’s earnings, it’s not a cheap stock, but it is an excellent business, and deserves a premium rating.”
Meanwhile brokers at JP Morgan stated: “We expect the acquisition to be earnings accretive in the first full year post completion. The LSE expects revenue and cost synergies of $30m (1.7% of combined 2016 total income) and $18m (c.2.5% of combined 2016 adjusted EBITDA), respectively, over the first three years.”
This house estimated that the deal to provide c.5% earnings accretion in the first full year post completion, based on 2016 financials. Further, in terms of leverage, JP Morgan sees the combined group “reaching 1.8x-1.9x net debt/EBITDA on a pro-forma basis, based on 2016 financials.”
In 2016, the LSE Group posted a dividend of £0.43, which represented a 20% increase over the previous year. Of the twelve analysts covering the exchange company they expected dividends of £0.49 for the upcoming fiscal year - an increase of 12.73%.
Not exactly a stellar yield at just 1.4%, but this a premium brand in the exchanges space. And, despite the failed merger with the Frankfurt exchange the LSE could make further bolt-on acquisitions to drive growth.
Then of course, if the LSEG was again in the frame and on the receiving end of a takeover bid who knows where this would take the price. But given so many failures in the past to consummate a deal - that has included the German exchange twice and Sweden's OMX Group (now part of Nasdaq) - and the regulatory hurdles that would be encountered, the proverbial jury seems out on that. But don't discount it either.
