NYSE Deal Raises Pressure on Nasdaq

It needs to find its own mate to keep pace with its rival.
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Updated from 7:44 a.m. EDT

With its two biggest rivals set to be married, pressure is building on the

Nasdaq

to find a mate of its own.

Late Thursday,

NYSE Group

(NYX)

and Euronext, the operator of several European exchanges, announced they reached a definitive agreement to merge, creating the world's biggest stock market.

The $10 billion pact follows a month of jockeying for Euronext between the NYSE and German exchange operator Deutsche Boerse, which could still make a counteroffer. For the Nasdaq, which has spent two months building a 25% stake in the London Stock Exchange, the question is how to respond.

A Nasdaq spokeswoman declined to comment.

A minority stake in the LSE might be good enough for now, according to Phil Guziec equity analyst at Morningstar. The Nasdaq is the LSE's biggest shareholder and has the muscle to influence its decisions.

"The sense of urgency for the exchanges came from staking out the rare opportunities, and less from actually executing them," Guziec said. "This whole rush was more of a land grab, and they do have a pretty good hook in the LSE. So the NYSE/Euronext merger doesn't mean that it's a matter of the

Nasdaq's business model blowing up."

But others disagree. They say the Nasdaq has cornered itself by taking a stake in the LSE, and now it has to execute a transaction.

"The Nasdaq has to get to closure with the LSE," said Bill Lupien, founder of Instinet. "They are hamstrung if they don't go forward because they have leveraged themselves up, they've already downgraded their debt, and they've spent basically all the cash they have.

"They are financially quite weakened to do anything else with their business."

The LSE and Nasdaq seem to be in a sticky spot. While the two other major European exchanges and the other New York competitor all jockey for one position, the LSE and Nasdaq are sitting on the sidelines. Experts say it's about time they make a decision.

"Where else is the LSE going to go?" Lupien said. "You have the Nasdaq with a 25% position. They are forced to move forward on the LSE with a negotiated transaction in the next few months."

Others say that won't be easy.

"In London's case, they were always more interested in a tie-up with the Euronext or NYSE," said Michael Long, an analyst at Keefe Bruyette & Woods in London. "And the LSE seems to be set in just going along."

The LSE could wait to see how the Euronext merger plays out. If a marriage with the NYSE is finalized, the LSE might consider the combined company a more attractive suitor. If Deutsche Boerse prevails, then the NYSE could re-enter the London fray, Long notes.

On Friday, the Deutsche Boerse issued a statement that said it "will continue to work towards a combination with the Euronext" and reiterated that it "continues to believe in the substance and value of a transaction with Euronext."

Shares of the LSE slipped about 0.8% in Friday trading as the company disclosed plans for a European bond sale. Shares of the Nasdaq, which to date has spent $1.37 billion to acquire 57.8 million LSE shares, fell 7 cents to $30.04 Friday, down about 25% since the start of April.

Shares of the NYSE rose $1.78, or 2.85%, to $64.23.

Late Thursday, NYSE Group and Euronext agreed to the merger that will create a trans-Atlantic exchange of listed companies with a total market cap of $27 trillion.

The new company, to be called NYSE Euronext, will be a U.S. holding company with shares listed on the New York Stock Exchange, the companies said in a statement. The company also will be listed on Euronext Paris, trading in euros.

Euronext operates stock exchanges in Paris, Amsterdam, Brussels and Lisbon, and a derivatives exchange in London. Although NYSE was thought to be its preferred merger partner, the company also held strong negotiations with German stock exchange operator Deutsche Borse.

Under the terms of the agreement, each share of NYSE will be converted into one share of NYSE Euronext.

Euronext shareholders will be offered the right to exchange each of their shares for 0.98 shares of NYSE Euronext and 21.32 euros in cash, and will be able to elect to receive all shares or all cash through a "mix and match" procedure.

The companies said the merger will create substantial value for all shareholders through realizing annual pretax savings of $375 million, much of which will be gained by consolidating IT systems and platforms.

NYSE CEO John A. Thain will become CEO of NYSE Euronext; Jean-Francois Theodore, currently CEO of Euronext, will be deputy CEO and head of international operations. The board will initially comprise 20 directors -- 11 designated by the NYSE and nine by Euronext.

The NYSE Euronext exchange offer for Euronext shares is expected to be launched within six months, following the satisfaction of certain conditions, including receipt of regulatory approvals, and NYSE and Euronext shareholder approval.

The parties say they are confident that the transaction raises no competition issues -- at least none that regulators will oppose. Still, some analysts believe this announcement is more formality than done deal, and that a Deutsche Boerse counter bid is likely.

On Thursday, at the NYSE's annual shareholder meeting, Thain said that the NYSE was in a "competitive situation" that could continue even after the definitive agreement is signed.

For the Nasdaq, the prospect of a transatlantic exchange open for as many as 12 hours a day is reason for concern, particularly as profit margins slide on its main business.

Sources said Nasdaq CEO Bob Greifeld spent several days last week meeting with shareholders of his own company. In those discussions, Greifeld indicated he has been exploring new ways of financing a possible bid for the LSE.

Sources familiar with the shareholder discussions said Greifeld mentioned two objectives with regard to the LSE: engage in friendly conversations with management now, or launch a hostile takeover in the fall, after the six-month grace period required by British securities laws. Those sources believe that it is really not a matter of "whether, but when" the Nasdaq will take over the LSE.

Nasdaq's current ownership percentage in the LSE gives it a so-called blocking stake, where other companies could not successfully form a merger with the LSE. The company will also receive a hefty balance sheet gain from the LSE, given that it owns more than 20% of the exchange.