The crucial decision to be made at the Clearstream board meeting today is whether it clears the way for formal talks with Euroclear. So it was not surprising that Euroclear raised the value of its offer for the Luxembourg-based ICSD by a handsome 10 percent the day beforehand. The first offer made by Euroclear on 31 October was clearly designed to tempt Clearstream into full-blown merger negotiations. However, it received such a cool reception in the Grand Duchy that the Euroclear board, meeting on Wednesday, elected to raise it by Euro 250 million to a new total of Euro 2.65 billion. The new offer assumes that Euroclear shareholders will have a 65 per cent stake in the merged entity and Clearstream shareholders 35 per cent, with Deutsche Borse having 5 per cent of the smaller figure if it so desires. The idea is to fund the offer with a mixture of cash and securities, but use the cash exclusively to get Deutsche Borse off the shareholder register and offer the old Cedel shareholders paper only. It is unclear how Euroclear will find the money. Although it has Euro 1 billion on the balance sheet, spending this would put its AA+ credit rating under threat, and the funding of the bid will be an important part of its credibility.
This improved offer follows a decision by Clearstream to share financial information with the Brussels-based clearing house for the first time, but Euroclear is at pains to emphasise that the new offer remains subject to proper due diligence once merger negotiations start in earnest. Whether Deutsche Borse can actually afford to allow Euroclear to get to that point is debatable: once Euroclear knows everything about Clearstream, it will be able to compete its business away even if its bid fails. Indeed, the chief curiosity of the current bidding process is that the alternative buyer to Euroclear already owns half of Clearstream and a board seat (currently occupied by Deutsche Borse CEO Werner Seifert) and has no incentive to share detailed cost and revenue data with its rival – at least in the role of bidder. Of course, as a shareholder, Deutsche Borse ought to be interested chiefly in the price at which Clearstream can be sold. If it is not exactly a conflict of interest, being a buyer and a seller at the same time must at least feel uncomfortable for Deutsche Borse. Its own bid is thought to value the half of Clearstream which it does not own at around Euros 1.1-1.2 billion, or Euros 2.2-2.4 billion in total, which makes the revised Euroclear offer look generous if it is remembered that Deutsche Borse has access to full information about the real financial condition of Clearstream.
For its part, Euroclear must also feel uncomfortable sharing information about its plans with its rival. But the principal antagonists are not the only people feeling awkward. As the table below shows, BNP Paribas, Citibank, Deutsche Bank, Goldman Sachs, Merrill Lynch, JP Morgan/Chase, Morgan Stanley, Nomura and UBS all have seats on the boards of both Clearstream and Euroclear. There are also some amusing personal links: both Jacques-Philippe Marson of BNP Paribas and James Tomkinson of Nomura have both worked at Clearstream, albeit some time ago. But personal links between the two clearing houses are surprisingly extensive – last year, for example, Geoff Doubleday resigned from the board of Euroclear to take a job as head of industry projects at Clearstream – and perhaps do most to illustrate why the biggest players in the European securities industry see a merger between Clearstream and Euroclear as a no-brainer. Indeed, it is probably safe to assume that the firms which have seats on both boards are probably those most in favour of a merger between Euroclear and Clearstream – including, ironically enough, Deutsche Bank.
Yet there are real differences between the bids apart from the price. Deutsche Borse will run Clearstream for the benefit of its shareholders – indeed, it has ruled out a minority stake in a Euroclear-Clearstream merger if the merged companies are not run purely for the benefit of shareholders – while Euroclear is proposing a profit-making company owned and governed by users, who would decide the division of the spoils between rebates and tariff reductions, dividends to user-shareholders and retained earnings. But the raw politics of business failure and success may in the end be the decisive factor in this battle. Under Seifert Deutsche Borse has talked a better game than it has played, failing to secure a majority of Clearstream, and letting both the London Stock Exchange and LIFFE escape its grasp. The Germans badly need to win this one, but the received wisdom in the world of major league investment banking (if not of smaller players in national markets) is against the “vertically integrated” solution which its success would entail. With the publication last month of the first half of the Giovannini report, and the power-that-be within the European Union taking an ever-closer interest in the contribution infrastructure can make to a single European capital market, this preference for a “horizontal” solution is fast achieving the status of Holy Writ.
The extent to which purely monetary considerations will outweigh the fact that the Cedel shareholders know their decision will shape the future of the securities market infrastructure in Europe to a far greater extent than any of the previous mergers of trading platforms and settlement utilities, remains to be seen. It is clear only that Deutsche Borse is now in a bidding war, in which victory more or less necessitates over-paying, and the battles for London Stock Exchange and LIFFE suggest its shareholders have a limited appetite for overpayment. One weapon Deutsche Borse does have – in addition to quoted shares with which to pay – is the unwillingness of Clearstream customers, especially in Germany, to bankroll a shift to yet another securities processing platform if Euroclear wins. Which is why, as part of its revised bid, Euroclear has offered German users of Clearstream a time-limited veto over the timing of any migration to a platform other than CREATION. Since domestic German securities have yet to transfer to CREATION, postponing the rationalisation of platforms in this way may be enough to allay any fears among German users of additional costs. However, Euroclear is also planning to offer users who have already switched their international securities to CREATION financial compensation for switching to a unified platform.