Bloomberg News

Sprecher Commitment to NYSE Seen Receding Amid Cost Cuts

March 13, 2013

Jeffrey Sprecher, who built the second-largest U.S. futures market, will likely focus on reducing costs after acquiring NYSE Euronext even if that means separating the 220-year-old New York Stock Exchange.

While Sprecher, the ICE chief executive officer who agreed to buy NYSE Euronext in December, has committed to revitalizing the equity venue, he will probably end up selling it to focus on derivatives, according to Diego Perfumo, who advises hedge funds on exchanges at Equity Research Desk LLC. The potential to streamline the NYSE is shrinking after expenses (NYX:US) were cut in half since 2008, according to data compiled by Bloomberg.

History shows the 58-year-old CEO is willing to carve up businesses. Sprecher closed trading floors at the New York Board of Trade and International Petroleum Exchange less than five years after buying them in the last decade, moving their operations to all-electronic platforms. The NYSE will be expendable should Sprecher fail to find ways to improve its prospects, said Thomas Caldwell, chairman of Caldwell Securities Ltd. in Toronto.

“With exchanges, a merger is all about getting costs down,” said Caldwell, whose firm owns 1.5 million shares of NYSE. “Where ICE can do easy consolidations of systems they’re likely to do it, but there’s not much duplicative between a commodities exchange and cash equities,” he said. “A few years from now, if he can’t make headway, he may sell NYSE.”

Derivatives Exchange

NYSE Euronext’s allure for Sprecher is its London-based derivatives business, Europe’s second biggest, where ICE will eliminate millions of dollars in expenses by handling its clearing and expanding in an industry where trading fees are three times as much as stocks, according to government filings.

The Atlanta-based company earns more per derivative contract traded than NYSE does on in equities in either the U.S. or Europe. ICE averaged $1.07 per energy contract, $2.59 per agricultural future trade, and $1.03 on its financial contracts. That’s higher than NYSE’s 4 cents for 100-share units in the U.S. and 58 cents for European equities.

Transaction volume of U.S. exchange-listed stocks tumbled 34 percent since 2009, according to data compiled by Bloomberg. Competition and the worst financial crisis in seven decades cut the sales contribution of equity trading to less than 15 percent from 33 percent in 2008, according to earnings reports and regulatory filings.

Buying NYSE

ICE said on Dec. 20 it would buy NYSE Euronext for $8.2 billion after its own shares surged sixfold since going public in 2005. Sprecher will lead the company, with NYSE’s Duncan Niederauer becoming president. ICE is learning how the NYSE equities business works and hasn’t formulated a cost-reduction strategy, according to a person familiar with the matter who asked not to be named because the deliberations are private.

“The New York Stock Exchange is an unbelievable business,” Sprecher said March 12 at a conference in Boca Raton, Florida. “There’s a really good business there that’s been hard to see inside the way it’s currently organized. Hopefully as a bigger group we’ll be able to put more transparency on it and organize it in a way that you’ll be able to see the value of that franchise, which I think is high.”

Kelly Loeffler, an ICE spokeswoman, declined to comment on the company’s plans, as did Eric Ryan of NYSE Euronext in New York. ICE’s takeover of NYSE Euronext is subject to antitrust review by regulators in Europe, who blocked a bid last year by NYSE to merge with Deutsche Boerse AG.

‘Bought Liffe’

“Sprecher bought Liffe,” said Perfumo, an analyst at Greenwich, Connecticut-based Equity Research Desk, whose clients include fund managers who invest in exchanges. “It came with businesses ICE typically would not buy. Those are businesses he has to run through a filter of whether he can operate them more efficiently than someone else. If not, he’ll need to sell them.”

Acquiring Liffe would add interest-rate products to the derivatives ICE offers on European energy commodities such as Brent crude, natural gas and heating oil in London. In the U.S., it provides futures on agricultural commodities such as coffee, cocoa and sugar as well as Russell Investments stock indexes and currencies at ICE Futures U.S. The company owns the world’s largest clearinghouse for credit-default swaps, ICE Clear Credit LLC.

The potential for cost reductions at NYSE Euronext is limited in equities after years of competition among exchanges, alternative trading platforms and dark pools. Operating expenses excluding transaction rebates and fees have declined in three of the past four years, with 2012’s $1.715 billion representing less than half the 2008 level, according to annual reports.

Probably Sell

ICE will probably sell NYSE and the company’s other stock and options exchanges, possibly to CBOE Holdings Inc. (CBOE:US), Perfumo said. Gail Osten, a spokeswoman for CBOE, declined to comment.

ICE shut floor-trading operations and shifted to electronic platforms following two of its largest acquisitions, the International Petroleum Exchange in 2001 and the New York Board of Trade in 2007.

Floor trading at the IPE in London ceased in 2005 as all buying and selling became electronic. The next fiscal year, ICE’s revenue (ICE:US) doubled to $313.8 million and operating expenses rose 37 percent to $109 million, according to data compiled by Bloomberg. After the company shut floor trading at Nybot in 2008, revenue jumped 22 percent to $994.8 million in 2009 during the depths of the financial crisis. Operating expenses surged 49 percent to $476 million in 2009.

Power Plants

ICE plans to maintain dual headquarters including the Big Board’s building in lower Manhattan, Sprecher said when the deal was announced in December. He also said on a conference call that day that “everything will be on the table” and ICE’s shareholders (ICE:US) weren’t interested in “slow growth or no growth or low-margin businesses.”

Units that could be cleaved from NYSE Euronext include the two data centers the company built in Mahwah, New Jersey, and Basildon, outside London, Perfumo said. Niederauer told analysts and shareholders last month that the company has been looking for “ways to monetize” the data centers since before the ICE deal was announced.

ICE will explore a sale of the Euronext group of stock exchanges in Paris, Amsterdam, Brussels and Lisbon through an initial public offering, Sprecher said when the deal was announced. An IPO “unlocks value for our shareholders while rationalizing our combined businesses,” Scott A. Hill, ICE’s CFO, said on the conference call the same day.

Cost Savings

The ICE-NYSE combination will create about $450 million in estimated annual cost savings with 80 percent of that achievable in 2015, ICE said in a regulatory filing. It’s expected to increase earnings (ICE:US) by more than 15 percent in the first year. Shifting Liffe products cleared by LCH.Clearnet Ltd. and NYSE Liffe Clearing in London to ICE Clear Europe will save money and yield new growth opportunities, the filing said.

ICE must decide what to do with NYSE Liffe U.S., owned in part by six brokers including Citadel LLC, Goldman Sachs Group Inc. and Morgan Stanley. The exchange began trading futures on Eurodollars and U.S. Treasuries in 2011 to compete with CME Group (CME:US) Inc., which dominates those markets.

NYSE Liffe U.S. executes about 1 percent of CME’s volume in Eurodollar futures and has 5 percent of its open interest or number of active contracts, according to NYSE Euronext. The exchange appealed to futures brokers and dealers by enabling them to offset derivatives against cash products and reduce the collateral they supply to back trades. It did this through New York Portfolio Clearing, a joint venture owned in equal portions by NYSE Euronext and the Depository Trust & Clearing Corp.

As ICE assesses that business, there may be a shuffle of participants at NYPC, the person familiar with the matter said.

Index Contracts

ICE is likely to move trading and clearing for NYSE Liffe U.S. contracts in interest rates, MSCI Inc. equity indexes and other products to its own futures exchange and systems to save money, according to Niamh Alexander, a New York-based analyst at KBW Inc. If dealers and customers want to continue to get margin reductions with the offset against cash Treasuries, the company may find a way to maintain the arrangement while cutting expenses, she said.

New York Portfolio Clearing said last year it’s in discussions with LCH.Clearnet, the London-based owner of the world’s largest interest-rate swap clearinghouse, to add swaps to the types of transactions it will allow to lower margin costs in a venture known as Project Trinity. The presence of ICE rival LCH within NYPC makes that a difficult relationship to maintain, the person with knowledge of ICE’s thinking said.

Value Proposition

“New York Portfolio Clearing is in an interesting position,” Ian Axe, chief executive officer of LCH.Clearnet, said in a Feb. 27 interview at the company’s New York offices. “We’re still working with them. We think the partnership has a unique value proposition.” He declined to comment on what the ICE purchase of NYSE Euronext could mean for NYPC.

If ICE keeps NYPC, executives may push the U.S. Securities and Exchange Commission to allow cross-margining for futures and securities products held by broker-dealers’ customers, Perfumo said. That would boost NYPC’s value by improving its ability to yield cost savings, he said. ICE may also urge the SEC to approve a link between European and U.S. clearinghouses so offsetting positions can reduce the collateral institutional clients trading in different regions must post, Perfumo said.

NYSE Euronext, with almost three times as many employees as ICE, (ICE:US) is the Atlanta company’s biggest takeover and its many businesses make it more complex than previous purchases, Richard Repetto, an analyst at Sander O’Neill & Partners LP in New York, said by phone. Sprecher should be up to the task, he said.

“There would be no ICE if he didn’t effectively acquire companies like the IPE and Nybot,” Repetto said. “He’ll take a hard look at any asset that’s not producing.”

To contact the reporters on this story: Nina Mehta in New York at nmehta24@bloomberg.net; Matthew Leising in New York at mleising@bloomberg.net

To contact the editors responsible for this story: Lynn Thomasson at lthomasson@bloomberg.net; Alan Goldstein at agoldstein5@bloomberg.net


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