Finance

Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

It wasn't meant to be this way. By now, Xavier Rolet was supposed to be planning for his next gig.

The CEO of London Stock Exchange Group Plc had been due to step down when its merger with Germany's Deutsche Boerse AG was consummated. With that deal looking set to founder, the biggest risk for LSE's investors is Rolet starts to look for acquisitions.

The Deutsche Boerse merger would have enabled the combined company to sell itself as a bridge between London and Europe's capital markets following Brexit. Without it, the British exchange has to find other ways to continue its transformation from being more than just a venue for trading British shares.

Rising Above Brexit
LSE shares have beaten UK stocks since the Deutsche Boerse merger plan leaked
Source: Bloomberg

Rolet has always got this. He attempted a merger with TMX Group Inc., the operator of the Canadian exchange, in the hope of creating the world's top venue for natural resources stocks. That effort failed amid political opposition. Then he led a jumbo rights offering to fund the acquisition of Frank Russell Co., as well as buying a majority of clearing house LCH Clearnet.

Rolet is as open as ever about the need for exchanges to consolidate and for the LSE to fill gaps in its empire. Potentially, that means deals in listed futures, indices, and trade settlement. The British company still suffers for having lost the auction of the London futures exchange, Liffe, to Euronext in 2002.

LSE has the financial resources to do something. The business is humming along, judging by the full-year earnings released on Friday: organic revenue was up 7 percent (after adjustments for currency moves) while operating profit, before one-time items, was up 10 percent.

Net debt totaled just 1.1 times Ebitda. Lifting that to 2.5 times -- admittedly beyond LSE's target range of one to two times -- would, roughly, give the exchange an additional 1 billion pounds of firepower for deals.

Rolet says the LSE was mulling other acquisitions even while it was working on the Deutsche Boerse merger. Being able to fund deals with cash means almost anything he buys would boost earnings per share -- regardless of whether it would generate a satisfactory return on investment.

Reassuringly Expensive?
LSE trades at a notable premium to peers on a price to forward earnings basis
Source: Bloomberg

LSE shares have fared well since the German tie-up was announced, advancing 35 percent. At 21 times forward earnings, the stock trades above its historical average and at a significant premium to European peers.

Thus far, the LSE has looked like a one-way bet, supported either by the synergies of the Deutsche Boerse deal or the possibility of a takeover by a U.S. exchange. 

But investors should adjust to a new reality -- an acquisitive, ambitious CEO with an incomplete legacy, financial flexibility and something to prove.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Chris Hughes in London at chughes89@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net