You may have read on the news last week, before last Friday and yesterday’s market debacle took the headlines by storm, that private equity firm Blackstone (NYSE:BX), along with a couple of investors, made a bid for Thomson Reuters’ (TSE,NYSE: TRI) Financial and Risk business (F&R).
Upon announcement, Thomson Reuters’ stock jumped to $48.09 – over 10% on the previous day’s close of $43.45. All gains were wiped out by the following day, and by Thursday, the stock had reached 52-week low of $41.41 or a good 13.89% off its highs two days earlier. The stock closed the week at $42.34, still over one point below the pre-announcement closing price.
What happened? Did shareholders suddenly get cold feet? or was it a case that, as more information was made available, the more unreasonable Blackstone’s game plan seemed. Let’s check out what was the background to this deal:Then:
In 2007, Canada based and family controlled Thomson Corporation (TSE, NYSE: TOC) made a $17.2 billion bid for news agency and financial information provider Reuters Group, PLC (LSE:RTR, NASDAQ:RTRSY). The fit seemed perfect: while Thomson was an expert in professional services, and economic and long term data, Reuters was a news mammoth, and had a very competitive financial information service specializing in FX.
The new company’s main competitor – privately held Bloomberg had a very strong foothold in the fixed income markets, providing an integrated “all-in-one-box” approach to buy and sell-side traders, and an incredibly sticky and resilient messaging app.
Funny enough, Reuters’ messaging app predates that of Bloomberg by nearly a decade, from back in the days when Reuters Dealing system was the backbone of the Cable traders community in the City of London. Except that while Bloomberg grew aggressively developing its market, Reuters slept in its laurels.
Whereas in the early 2000s banks used to have a dual-screen setup; the financial crisis, towards the latter part of the decade, forced banks to make their traders choose one. Most chose Bloomberg. In the meantime, Thomson Reuters was making further inroads with in the back-end, ensuring their infrastructure was tied up with their clients’ systems, making it neither cheap nor easy to untangle.
As most trading happens electronically, and the need for live feeds for human traders decreases, the demand for desktop trading systems evaporates. Do I believe the trading terminal is dead? of course not. Do I believe it has past its prime? absolutely.
Blackstone’s strategy is quite simple: they are planning to use their influence as a major market participant to encourage the banks they give the bulk of their business to, to use Eikon (Thomson Reuters’ desktop terminal). That is a great plan, until you talk to the end users.
For years Thomson Reuters has struggled to displace Bloomberg as the main desktop provider. It wasn’t because of a lesser product (that may have been true in the days of 3000 Xtra, but Eikon proved to be a rather good piece of kit), and it was certainly not because of an incompetent sales force. The key issue was the community built around Bloomberg’s messaging tool, and nowhere is this more evident than in the corporate bond trading market. Let me share an anecdote with you:
Back in the year two thousand and doesn’t matter, Thomson Reuters entered into an all-you-can eat deal with a major global bank. As part of this deal, the bank could help itself to any of Thomson Reuters’ products or services for a period of 3 years for a single fee. With such a favorable deal, the bank was keen to push as many Eikon terminals to its users as possible. So the market data people approached a certain unnamed credit trader, and the conversation went something like:
MD: “Next week you are getting a new Eikon.”
CT: “A what?”
MD: “A new trading terminal”
CT: “F#(% Off!”
MD: “Well, you see, we have our orders from senior management that we need to replace all Bloomberg terminals with Eikon”
CT: “F#(% off!”
The market data guy spoke to the trader’s manager who basically gave him the same 4-letter word, so it was escalated to the COO…
COO: “You need to change your terminal”
COO: “Because we will be saving money”
CT: “How much?”
COO: “$2,000 a month”
At this point the trader pulled out his checkbook, wrote a check for $50,000 and handed it over to the COO saying:
CT: “Here, this should cover me for 2 years. Now, F#(% Off and let me work!”
This shows you how entrenched the Bloomberg terminals are in the credit trading community, which makes me believe Blackstone is going to have a hard time pushing Eikons down credit traders throats.
The other options include rates traders, who generally use Traderweb, but the lack of integration to the desktop has proven to be a hard sell. My hunch is, it’s the data business Blackstone are really after, and that could become the golden-egg hen.
Anyway, I don’t expect Blackstone to make back their investment via desktop terminal sales, and I seriously don’t expect them to be able to muster any power over the banks to push them to take Eikons instead of Bloombergs.
Blackstone is paying $3 billion for a 55% controlling stake of Thomson Reuters’ F&R. The new company will raise $14 billion of debt to complete the leveraged buyout, valuing the new business at around $20 billion. Additionally, the new company will pay Thomson Reuters around $325 million annually for the next 30 years to maintain access to Reuters news.
Thomson Reuters is expected to use the proceeds to maintain its dividend, repurchase stock and retire debt. Having gotten rid of the slowest growing business, Thomson Reuters can focus on its high margin, high growth businesses, but is getting rid of the cash cow a wise decision? and will Blackstone bring the much needed investment into the desktop business, or will it continue to decline at the expense of the enterprise business. There are many questions, but one thing is for sure, Blackstone will have a much harder time than expected placing Eikons.
$10 billion worth of buybacks should do the stock price some good. I am a bit concerned about the free cash flow. By getting rid of 55% of F&R, the cash generation can be jeopardized, which in turn may result in pressure on the liquidity and coverage ratios, which could have potential negative effects on the dividends. On the other hand, Blackstone should be able to put the necessary investments to make the business competitive again.