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LSE needs to sweeten to have a good shot at TMX vote win Add to ...

If London Stock Exchange Group Plc wants a real shot at winning TMX Group Inc., it's going to have to get creative with its proposal and consider sweetening the offer for shareholders and regulators.

Right now, it's a toss-up which of the two bids in the market wins TMX Group Inc.

In fact, there is probably only 50-50 odds that anybody at all gets to go home with TMX at the end of the dance because of the peculiar nature of the situation. A shareholder vote June 30 will decide whether TMX investors want to pair off with LSE or Maple Group, the bank-backed group that's made a rival bid. But then the parents get to weigh in, in the form of regulators who will have to approve whichever suitor shareholders pick. There's every chance that shareholders will make their decision, only to have it nixed on regulatory grounds, as I wrote in Monday's Streetwise column in the Globe and Mail's print edition.

On June 30, shareholders are going to have to cast their ballots with both price and regulatory risk in mind.

So for London to improve its odds, it needs to do something to ensure it survives the shareholder vote. That means improving not just the price, but the governance terms so that LSE gains the perception that it is best-positioned to survive regulatory review.

Tactically, a substantial alteration of its bid might also be a smart play from London as it would put the Maple structure to the test. Can the 13-member consortium react quickly to a new offer from London? Putting Maple together has taken months, and there are different motivations among the 13 in the group. A little pressure might reveal cracks.

The first issue LSE would have to address to improve its chances is price. As Bloomberg News reported Tuesday after talking to shareholders, the perception is that nobody is a clear leader on price.

At the moment the all-stock LSE bid is worth about $45.50, while Maple says its bid is worth $48.

On price, London's strategy has been to argue that it's closer than it looks because you can't believe the $48 from Maple. Maple has about $33.50 in cash and the rest in stock of the post-merger Maple-TMX, which the LSE has been arguing is overvalued. Plus, LSE argues that Maple is essentially paying TMX investors with their own money, because the company will be levered up with an extra $1-billion to increase returns and pay for the cash portion.

Maybe shareholders buy the arguments, maybe not. But the reality for many investors is the numbers are pretty close, but Maple has cash and LSE doesn't, so go with the cash.

One of the attributes of the LSE-TMX proposal is a bigger, relatively clean balance sheet. If management is willing to sully that just a touch, it can up the ante with cash. Borrowing something like 250-million pounds, roughly $400-million Canadian dollars, would enable LSE to add $5 a share in cash without putting LSE-TMX's leverage anywhere near that of Maple-TMX.

On governance, the notion that TMX is still giving up too much is still troubling to many, and if it bothers regulators, then then deal will die in the regulatory approval stages. One way to address that is to even out the board so that Canadians get equal representation, instead of being one seat in the minority.

There's a third possibility that LSE could consider to try to smooth the way with regulators, especially in Ottawa.

The influential Bank of Canada governor Mark Carney has been silent on the situation in public. In private, there's a sense among those working on the transaction that he favours the Maple bid, because it keeps control of a big chunk of the clearing system Canadian owned. TMX's derivatives clearing business is a big part of the country's financial plumbing, and could be key in Canada's efforts to meet international commitments to make the financial system safer. (You can read about that in a previous column, here) LSE could consider spinning off the clearing business of TMX post-merger to a Canadian ownership group to keep Mr. Carney from agitating in favour of Maple.

None of this is going to be attractive to LSE head Xavier Rolet. He's going to be paying a control premium and getting even less control, and fewer assets if the derivatives clearing spinoff is done. But that may be the price of doing business on this transaction.

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