Tom Kloet, the chief executive officer of TMX Group Inc., and Xavier Rolet, the CEO of the London Stock Exchange Group PLC, piled up thousands of air miles a week criss-crossing Canada to sell their merger plan. By mid-March, the executives and their helpers had already racked up 600 meetings as they tried to persuade Canadians that the combination of TMX and LSE will create a bigger, better competitor and defuse fears that all the good things Canada's markets have built, like a world-leading franchise in mining finance, will be spirited away to London if the deal is approved.
The two men embody the era of denationalized business. Kloet is a gangly Midwesterner who moved to Canada from Chicago in 2008 to take the job of running the TMX. He spends what spare time he has watching baseball. Rolet is a debonair, multilingual Frenchman who raises bees and makes wine at his estate in the south of France when he isn't in London running the LSE's business.
Erman: There's been 10 years of huge change in your world. Exchanges started out as monopolies owned mostly by brokerages, then became public companies, then had to face competition, and now they're frantically merging. Where does it all end?
Xavier Rolet: It's hard to say whether it will be four or six or eight, but a number of exchanges will emerge on the global scene to respond to the internationalization of regulation.
You have to choose whether you want to play there or not. You will be affected. Because if the other exchanges do [get bigger] at some stage it will affect you. Capital does move freely. Shareholders do move freely. The largest shareholder of TMX Group is not a Canadian investor. The largest shareholder of LSE Group is not a British investor.
Erman: What's your thought on the end point, Tom?
Tom Kloet: Exchange organizations are going to eventually fall into one of three groups. There will be large international ones where companies will have global reach-to realize economies of scale, and to have global distribution of products. Group two would be some economies that will decide that their exchange is a strategic asset. They will protect their institution as a protected monopoly. Whether there will be competitive stock exchanges in some Asian countries, I have my doubts. The third group is places where you have multiple competitors in an open market, not protected from competition. Then your positioning is limited, because you don't have the scale and breadth, and you probably operate in a hypercompetitive environment.
Erman: Isn't that basically where you are now, with TMX Group facing new alternative trading systems that are stealing your business and hurting profits by cutting fees? Your monopoly is long gone.
Kloet: And the question is whether that's where you want to be. Or do you want to be part of a group-one exchange?
Freedom of competition creates a freedom to look at how to grow the organization. You can't have it both ways.
Rolet: Exchanges are internationalizing, and so is the competition that is facing exchanges-the so-called ATSs [alternative trading systems]in North America. We call them MTFs [multilateral trading facilities]in Europe.
If these guys who operate on extremely narrow budgets and cost base, and who have contributed to the complete repricing [of trading]through very, very aggressive pricing structures, if they feel the need to internationalize, then there's a real economic issue.
It goes beyond the political and stakeholder issue of what is under the influence and control of national authorities. If [internationalization] doesn't happen, and everyone else is doing it, including these new streamlined competitors, where do your economics go? Could you-by staying put, regardless of whether you get regulatory or political support to strike alliances-in the medium term potentially endanger your very survival?
When you open a business to competition, by definition you make a choice that this business has got to grow and survive on the basis of its economic performance.
Erman: Many who support the deal say that if you don't do it, TMX will be marginalized by bigger competitors and Canada will lose out. Some, like the three big banks that have opposed the deal, say that if you do do it, jobs and influence will filter away to London and Canada will lose out. Have you been surprised at the polarization?
Kloet: For the most part, no. Despite the fact that we operate in the competitive environment, there is a public interest in what we're about and we understand that. We announced the transaction in early February, and we said we hope to close it in the end of the third or the fourth quarter. That length of time shows that we anticipated that we'd be in a process. It's a good process. We want to have a chance to communicate what we're trying to do.
Erman: My sense is that people are starting to listen to your answers, unlike when you first announced the transaction and there was a lot of fear but not much listening.
Rolet: It was emotional.
Kloet: When we meet with people who are concerned about what we're doing, it's hard to get what that tangible concern is, other than the fear of the unknown.
Erman: Why do you think that the idea that this is a merger of equals, as you have billed it, has run into so much trouble?
Kloet: There's an inference that there's a mysterious guiding hand out there somewhere. That's not how companies work. The guiding hand for the institution is going to be a board of directors that is made up of seven Canadians, five British nationals, three Italian nationals, with the chairman being Canadian. There's not somebody back there behind that guiding or orchestrating something we don't see.
It became emotional. People were concerned by the creation of the Venture Exchange [merging the Western Canadian exchanges, eventually under the control of the Toronto Stock Exchange] Was there going to be a mysterious hand that doesn't support the Venture Exchange? Last year, the exchange raised $10 billion compared to $1 billion 10 years ago, and we recently had a day with 600 million shares traded. The Venture Exchange has flourished in the institution, and there's not been a guiding hand to push it back.
Rolet: Which, by the way, is what we get paid to do-to ensure that all parts of the organization flourish. It's not like we're going to get an extra bonus if one bit flourishes and another one diminishes.
Erman: There are so many tensions in this industry. There's the tension between being a publicly traded, profit-seeking company and the public-interest mandate. You're also in an industry where your clients, the banks and investment dealers, are your competitors, and your investors, the big mutual and pension funds, are your users. They want big profits but they don't want to fund them through their fees. Then there's nationalism. Given all that, did we make a mistake letting exchanges go public as for-profit companies, starting this whole consolidation ball rolling?
Kloet: It would be hard to talk a guy who's a committed free-market thinker into thinking that would be a mistake. There are some of those complex relationships in other institutions. The art is in trying to manage those relationships.
Rolet: In my opinion, it's an aporia, a contradiction.
Kloet: What was the word?
Rolet: Aporia.
Kloet: That's great. I love it because he's got a better English vocabulary than I do. It's a constant source of embarrassment for me.
Rolet: When you don't have it at birth, with a passport, you've got to work harder to get it.
At the core, the best way to maximize liquidity for all users and clients when the asset is a commodity, like gold, like a stock, is to concentrate it. Fragmentation [multiple markets]mathematically is the opposite of optimization from a liquidity standpoint. It's a contradiction that cannot actually be resolved.