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Autopsy: The Deutsche Börse/London Stock Exchange Merger Andrzej Kmiecik Partner, Van Bael & Bellis, Brussels

Competition Law in the Financial Services Sector (London, 30 May 2017)

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/ Previous Failed Mergers (I)

2000 Deutsche Börse (DB) fails to acquire London Stock Exchange (LSE) in context of rival hostile takeover LSE got cold feet and withdrew.

2005

DB or Euronext – LSE merger: UK competition concerns solved by remedies

Each acquisition expected to result in a substantial lessening of competition within the UK market for on-book equities trading services through the ability and incentive of the merged entity to foreclose other providers of trading services given its control over clearing.

UK Competition Commission (CC) accepted structural and behavioural remedies offered by DB and Euronext:

o DB’s primary obligation – no DB member to have qualifying interest in LSE clearing provider

without prior consent of CC. o Euronext to eliminate direct influence over LSE’s existing clearing provider, LCH.Clearnet.

BUT

DB got cold feet and withdrew. Euronext did not finally bid.

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/ Previous Failed Mergers (II)

2012 European Commission blocks DB/NYSE Euronext merger

Main concerns: elimination of competition between the parties in European exchange-traded interest rate derivatives, exchange-traded single stock equity derivatives, and equity index derivatives.

Key to this conclusion: exchange-traded derivatives (ETDs) and over-the-counter (OTC) derivatives are not substitutes. o So, LSE’s strength in OTC interest rate derivatives would not constrain the merged entity.

High barriers to entry, including in obtaining access to margin pools at clearing level.

Efficiencies defence failed:

o Parties: less collateral needed to clear transactions lower implicit trading costs. o Commission: some efficiencies proven, but not enough to offset merger-induced price increase.

Remedies offered not sufficient to create effective competition. Later NYSE merges with ICE:

o Euronext spun off.

DB (Eurex)

LSE (Curve Global)

CLEARING

TRADING

/ Main Players – Europe’s Largest Exchange Operators

Euronext

Listed Derivatives OTC Derivatives Bonds / Repos

ICE (Liffe)

DB (Eurex)

LSE (LCH

Swapclear)

LSE (MTS)

Broker Tec

DB (Eurex)

LSE (LCH)

ICE DB (Eurex)

LSE (CC&G, LCH)

DB (Clear

stream)

Settlement, Custody, Collateral

Management

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Other CSDs

DB (Eurex)

DB Group LSE Group

LSE Monte Titoli

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16 March 2016 Agreement on terms of “all-share merger of equals”, with UK holding company with headquarters in Frankfurt and London.

4 May 2016 ICE decided not to pursue LSE offer it had been considering.

23 June 2016 Brexit vote UK – DB and LSE restated full commitment to merger terms.

July 2016 Requisite majorities of LSE and DB shareholders voted in favour of deal.

24 August 2016 Merger notified to European Commission.

28 September 2016

Commission opened Phase II investigation: concerns in clearing of derivatives, bonds and repos featured among 12 potential areas of concern. LSE announced intention to explore potential sale of LCH SA “to address proactively anti-trust concerns raised by the European Commission”.

/ LSE / DB – Timeline (I)

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14 December 2016 Parties confirm receipt of Statement of Objections (not made public). Press reports speculate Commission concerns focused on clearing of derivatives, bonds and repos.

3 January 2017 LSE announced irrevocable offer from Euronext to buy LCH SA for €510 million, conditional on closing of DB-LSE merger.

6 February 2017 DB and LSE decided to formally submit the divestment of LCH SA as a remedy to address the Commission’s concerns.

26 February 2017 LSE announced “unexpected” concerns from the Commission about sale of LCH SA as a remedy. Commission had requested divestment of MTS - LSE refused.

29 March 2017 European Commission blocks merger, citing primarily de facto monopoly in fixed income clearing (bonds and repos).

/ LSE / DB – Timeline (II)

Eurex Clearing

Clearstream

LCH.Clearnet (London & Paris)

CC&G (Rome)

Competing CSDs, incl. Euroclear

CLEARING

Settlement, Custody, Collateral

Management

Transaction feeds diverted

MTS

Eurex TRADING

/ Fixed Income Concerns: Clearing and Downstream Markets

FORECLOSURE

De facto monopoly

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DB Group LSE Group

Eurex Clearing

LCH.Clearnet SA (Paris)

Euronext

Vertical concerns: Reliance of Euronext on LCH for clearing creates risk of foreclosure for Euronext post-merger.

TRADING

CLEARING

/ Single Stock Equity Derivatives – Horizontal & Vertical Concerns xxxxxx(Belgian, Dutch and French)

Eurex

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DB Group LSE Group

?

Horizontal concerns: Eurex competing with bundled product (trading and clearing) offered by Euronext and LCH.Clearnet. Post-merger less incentive for LCH.Clearnet to compete with Eurex.

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/ Proposed Remedy (I)

Divestment of LCH. Clearnet SA (Paris) – offered by LSE Commission not convinced that LCH.Clearnet SA would be an effective competitor in fixed

income clearing post-merger, as it would be dependent on trading feeds from MTS, which would be owned by the merged entity.

LCH.Clearnet SA (Paris)

MTS

Merged Entity

Trading feeds diverted

Commission’s solution divest MTS.

/ Proposed Remedy (II)

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LSE declines

The merger parties presented an improved and clear-cut structural remedy to complement the divestment of LCH SA, which addressed the Commission’s specific concerns. This improved remedy was, in the parties’ view, effective and capable of ready implementation, but it was rejected by the Commission.

Taking all relevant factors into account, and acting in the best interests of shareholders, the LSEG Board today concluded that it could not commit to the divestment of MTS. LSEG will therefore not be submitting a remedy proposal with respect to MTS. Based on the Commission's current position, LSEG believes that the Commission is unlikely to provide clearance for the Merger. (LSE Press Release, Update on European Commission Phase II Proceedings, 26 February 2017)

Commission responds to perceived criticism

There was a solution to that problem. The London Stock Exchange could have sold MTS, which is a small business compared to the overall size of the two companies. But in the end, the London Stock Exchange decided not to do that.

Instead, they submitted an alternative offer at a very late stage of the procedure. This alternative offer consisted of a complex bundle of behavioural measures in addition to the divestment of LCH.Clearnet SA. But the parties were unable to demonstrate that these measures would have been effective. (Statement by Commissioner Vestager, Brussels, 29 March 2017)

/ Final thoughts Very few major players in main European markets for good economic reasons (network

effects), meaning classic horizontal competition concerns often arise when they try to merge – advantage for non-European acquirors.

Was LSE/DB fail bound to fail? No – it very nearly succeeded: initial derivatives concerns apparently resolved, and fixed income concerns came down to MTS.

Complex remedies unlikely to succeed – strong preference for straight divestments.

Very hard to prove sufficient compensating efficiencies to resolve serious concerns.

Greater consolidation of trading and clearing in same group possible provided sufficient independent choice of CCPs continues to exist.

Are/will regulatory market access rules reduce competition law obstacles to mergers?

Role of politics – but the national interest is not necessarily clear.

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/ Will opportunities be greater after Brexit? ICE / Trayport Key points: prohibition based only on vertical foreclosure and prohibition of a completed transaction. ICE active in clearing and trade execution services (energy trading); Trayport supplies software used in

these services. 11 December 2015 - ICE completed purchase of Trayport. 3 May 2016 - completed acquisition referred for investigation and report by the CMA.

17 October 2016 - final CMA report. CMA concluded transaction likely to result in a substantial

lessening of competition within the markets for the supply of trade execution services to energy traders and trade clearing services to energy traders in the EEA, including to UK based customers.

o Dependence of ICE’s competitors on Trayport created a risk of foreclosure in these markets.

CMA required the full divestiture of Trayport by ICE.

ICE challenged CMA findings before the Competition Appeal Tribunal (CAT).

CAT upheld CMA’s findings that ICE must sell the Trayport business.

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Andrzej Kmiecik

VAN BAEL & BELLIS

Glaverbel Building Chaussée de La Hulpe • 166 • Terhulpsesteenweg

1170 Brussels • Belgium Tel. + 32(0)2.647.73.50 • Fax. + 32(0)2.640.64.99

akmiecik@vbb.com • www.vbb.com