Nasdaq Falls Most Since 2008 as ESpeed Buy Adds Credit Risk
Nasdaq OMX Group Inc. shares declined the most since November 2008 after the acquisition of eSpeed, an electronic platform for trading U.S. Treasury bonds, raised concern about its credit rating.
Shares of the second-biggest operator of U.S. equity exchanges fell 13 percent to $27.91. The company agreed yesterday to acquire eSpeed from BGC Partners Inc. (BGCP) for as much as $1.23 billion, depending on sales goals. Moody’s Investors Service and Standard & Poor’s warned the debt rating may be lowered.
Robert Greifeld, Nasdaq’s chief executive officer, is joining other exchange executives using takeovers to boost profit amid declines in stock trading. While Nasdaq has long sought to expand into interest rates, the purchase will limit its ability to do other things such as buybacks, according to Paul Gulberg, a New York-based analyst at Portales Partners LLC
“It’s strategically positive but financially questionable in the near term,” Gulberg said in a telephone interview. “That’s why the stock is reacting.”
BGC shares rose 49 percent to $5.72, the biggest gain since its initial public offering in 1999. Nasdaq will pay $750 million in cash for eSpeed and exchange about 15 million common shares over 15 years, it said yesterday. ESpeed, founded by Cantor Fitzgerald LP in 1996, is used by banks worldwide to trade bonds and currencies.
The transaction, along with the purchase of a shareholder- relations unit of Thomson Reuters Corp. in December, will add about $1 billion to Nasdaq OMX’s debt, according to the statement by Moody’s. It placed Nasdaq’s senior rating of Baa3 on review for a possible downgrade.
“Moody’s will examine the capacity of Nasdaq OMX to reduce leverage which is partly a function of the execution risks facing the firm as it integrates these two acquisitions at virtually the same time,” Moody’s wrote. The company has “repeatedly shown a willingness to increase leverage” and will face more such decisions “in an industry prone to consolidation,” it wrote.
S&P put Nasdaq’s BBB rating on CreditWatch negative, the New York-based firm said today.
Moody’s and S&P “will come to their own conclusions” and Nasdaq has “communicated our commitment to maintaining our investment grade status,” Lee Shavel, the chief financial officer, said in a conference call with analysts yesterday. The company plans to reduce leverage over time and suspended guidance on its share buyback program, he said.
“We also get credit for being operationally strong and for integrating our transactions well,” he said. “Hopefully all these elements will come into play here.”
The acquisition price is about 10.9 times eSpeed’s earnings before interest, taxes, depreciation and amortization in the past 12 months, compared with Nasdaq’s valuation of 8.1 times, Shavel said. The multiple is similar to exchange companies with the fastest growth, such as derivatives venues, he said.
Swings in government bonds have been “artificially depressed” by Federal Reserve asset purchases, Nasdaq said in the release. Volatility in Treasuries as measured by Bank of America Merrill Lynch MOVE index has averaged 58.74 this year, down from 79.42 in the first three months of 2012.
Fully electronic volume on the eSpeed and BGC Trader system, including new products, was $48.2 trillion for the year ended December 31, 2012, down 15.7 percent from $57.2 trillion for 2011, BGC said in an annual regulatory filing. Combined voice-assisted and screen-assisted volume for the year for 2012 was $190.7 trillion, down 1.8 percent from 2011.
ESpeed will be a core asset for Nasdaq and allow the exchange operator to expand into other areas of fixed income, Greifeld said on the conference call. While the company expects the transaction to add to earnings in a year, that wasn’t the rationale for buying it, he said.
“We have a tremendous opportunity to cross-sell within our existing customer base that did not exist as eSpeed is buried into BGC,” he said. “The margins are high, so we don’t have to grow revenue by some ungodly amount to have a tremendous return for our shareholders.”
The company will move the eSpeed platform into its data center in Carteret, New Jersey, to reduce technology and operational costs, Greifeld said. It will continue to use the platform’s technology for Treasuries, he said.
Nasdaq OMX’s share of trading in equities has fallen since 2007, when 46.1 percent of volume in Nasdaq-listed companies occurred on its main market. About 23.3 percent was done on its main market in the last quarter, according to data compiled by Bloomberg. Altogether, Nasdaq OMX had 18.4 percent of U.S. equities trading across its three exchanges in the first three months of this year.
While shares of Nasdaq climbed 41 percent since the end of 2009, they remained down 44 percent from their 2007 high of $50 on Dec. 26, 2007. Evercore Partners Inc. (EVR) in New York cut its rating on Nasdaq shares to equal-weight, the equivalent of neutral, from overweight, according to a report dated yesterday.
The deal is a departure from the company’s effort to reduce its reliance on volume-based businesses, Chris Allen, an analyst at Evercore, wrote in the report. While the purchase may benefit Nasdaq over the longer term, the stock is “likely to be dead money in the near-term,” he wrote.
Cantor Fitzgerald LP founded eSpeed during the dot-com rally of the late 1990s and took it public in 1999. BGC Partners was created in April 2008 when Cantor combined eSpeed with its London-based broker-assisted bond trading unit.
BGC’s stock dropped 46 percent over the last two years, according to data compiled by Bloomberg.
The electronic trading platform for on-the-run U.S. Treasuries, including related market data and co-location businesses that Nasdaq is buying, generated about $100 million of revenue last year, less than 6 percent of BGC’s total, Howard Lutnick, its chief executive officer, said in the company’s statement yesterday. The total sale may be about as large as BGC’s fully-diluted market value, he said.
“We think that the market was clearly under-valuing the assets of the company,” Lutnick said. “This transaction should better enable investors and analysts to place an accurate valuation on BGC’s assets post-closing.”
BGC, part-owned by Cantor Fitzgerald, has been diversifying into commercial real-estate by buying a series of brokerages as bond trading slows. It will keep its voice and hybrid brokerage and electronic business for off-the-run Treasuries and other fixed-income products, the company said.
“For BGC, this is a huge deal because their all-in price was higher than the market capitalization was,” Jillian Miller, an Atlanta-based exchange analyst at BMO Capital Markets, said in a telephone interview. “BGC saw this as an opportunity to sell off this piece that isn’t affected by the regulatory environment and realize some value for it.”
Fully electronic volume in the rates market, which includes Treasuries and European and Canadian sovereign debt as well as overnight repurchase agreements, interest-rate swaps and futures on eSpeed, declined 19.8 percent for the last three months of 2012 from the same period the year before to $9.7 trillion, according to BGC’s 10-K report filed March 12.
Total volume, including electronic and so-called hybrid volume conducted by BGC brokers, rose 15.6 percent to $44.4 trillion during the same period, the report said.
The number of fully electronic transactions in Treasuries declined 35 percent to 3.2 million in the last three months of 2012 from the same period the year before, while hybrid transactions grew 15.5 percent to 619,000 during the period.
The purchase comes as Greifeld seeks to push into European derivatives, dominated by Deutsche Boerse AG and NYSE Euronext (NYX) Liffe exchange. The company is setting up a London market called NLX, buying a 25 percent stake in The Order Machine, a Dutch alternative securities-trading system focused on stocks and equity derivatives, and seeking a greater share of energy products in Germany.
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