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NYSE Safer at Home

With the Nasdaq dropping out, the battle for the LSE could fizzle.

Playing hard-to-get is risky, particularly in a multibillion-dollar takeover battle.

But it's a risk the London Stock Exchange chose to take, and now that the



has walked away from a $4.2 billion hostile offer, shareholders might have to wait a while before another suitor materializes.

Over the past month, New York and London have buzzed with speculation that

NYSE Group


would try to up the Nasdaq's ante with its own proposal for the LSE. With the pressure now off, however, the NYSE -- which came public this month through a merger with Archipelago -- can afford to take its time.

Moreover, a bid from the NYSE would be fraught with hurdles, first among them the high price the LSE seems bent on collecting in any transatlantic transaction. In addition, the NYSE is still trying to integrate its own merger and is considered a virgin issuer in U.S. debt and equity markets. Another problem could be a shareholder base that includes one owner that has not shown a fondness for exchange mergers in the past: hedge fund Atticus Capital.

Last May, Atticus, along with other shareholders, helped stop the Deutsche Borse from pursuing its own bid for the LSE. The shareholders' aggressive stance, which went against dowdy German etiquette, turned into an ugly battle that ended with exchange Chairman Rolf Breuer leaving his post.

Atticus owns its stake in the NYSE because of shares it acquired in Archipelago last year. Its exposure was once 6% of Archipelago, but is probably lower now due to the dilution created by the merger, which closed March 8. The position is also somewhat exotic. Atticus raised its stake in Archipelago last fall through a series of total-return equity swaps that enables the fund to participate in the stock through a derivative contract. By the end of last year Atticus owned 5.6 million shares of Archipelago but had an interest in an additional 1.5 million notional shares of the company through the equity swap.

Atticus declined to comment for this story. Still, it's reasonable to reckon that what drew it to the NYSE are the same things that have made it a major owner of securities exchanges over the past several years.

Besides liking the exchange business model, Atticus has historically taken a keen interest in companies with low leverage -- a quality that both the Deutsche Borse and the NYSE possess. In the past, Atticus has urged management to use excess cash to buy back public shares, often suggesting that management issue debt to do so. Such a tactic recently led to a public battle with mining company

Phelps Dodge

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One thing Atticus has not gladly suffered is pricey acquisitions, as evidenced in the Deutsche Borse drama. And although nobody knows its motives with its NYSE stake, it's possible the hedge fund would pose an impediment if the Big Board wanted to move on its U.K. counterpart.

Even if the NYSE's shareholders are OK with an offer, acquisition of the LSE is far from a sure thing. As its previous suitors discovered, winning over Clara Furse, chief executive of the LSE, will be an uphill battle. Shortly after the Nasdaq's bid, the outspoken Furse published an editorial in the U.K.'s

Daily Mail

arguing that British companies deserve a higher premium than their German and French counterparts because the U.K. economy has been growing faster. "The relative underperformance

from the other countries still doesn't explain why U.K. companies and investors appear so ready to sell out, rather than fight their corner or go on the offensive," she wrote.

Furse also decided to bring the Nasdaq's bid for the LSE public in early March, when she deemed the 950-pence-per-share price inadequate. The Nasdaq hung on to its offer for about three weeks, but decided in the end that a bruising battle in the press wasn't worth the reward.

The same conclusion could easily be forced on the NYSE by its owners, which in addition to Atticus include a cadre of dilution-wary securities professionals who exchanged their board seats for stock. The Nasdaq's withdrawn bid represented a 70% premium to the price of the LSE as recently as last August; topping it would require a bid in the neighborhood of half the NYSE's market cap.

Without considering price, the NYSE has other challenges that could make acquisitions problematic. The company is trying to integrate its hybrid platform in a predominantly electronic industry. It also must become accustomed to answering to investors and

Securities and Exchange Commission

requirements, something new for the now for-profit entity.

As with the Nasdaq bid, an acquisition of LSE would require significant financing. The NYSE, a new issuer in both the equity and debt market, will have to take significant marketing initiatives and undergo heavy corporate due diligence -- a process that is both costly and lengthy. The upcoming secondary, from which the NYSE will receive no proceeds, is already going to be a proxy for the future performance of the group.

The stock does provide a significant currency for the company right now, but the price after the upcoming secondary has the potential to drastically fall, considering the company's small float. Getting Wall Street to underwrite another big slug of loans at that point might be difficult.

NYSE CEO John Thain has said publicly that he wants to make acquisitions. His comments following the Nasdaq's bid left the market to assume he would at least consider courting the LSE. But as seen with the LSE's prior suitors, desire alone won't be enough to get this deal done.