The London Stock Exchange's (LSE) proposed acquisition of Refinitiv reflects increased M&A interest in data and analytics due to the increasing strategic value of data layers to customers and the margin and cash flow benefits of subscription-based business models, says Fitch Ratings. The acquisition may also reflect broadening demand for data and analytics within the global financial services industry that could result in rising valuations for data analytics and processing (DAP) firms. Strategically motivated and private equity sponsored M&A in DAP may continue, given secular growth and potential opportunities to aggressively cut costs, increase cash flow, delever and create value.

The agreement to buy Refinitiv for $27 billion inclusive of $13.5 billion of debt, which LSE intends to refinance, values the company at approximately 12.3x LTM EBITDA including cost savings delivered as of second-quarter 2019, adjusted for savings achieved in 2018. The consortium that acquired 55% of Refinitiv from Thomson Reuters last year for approximately $20 billion valued Refinitiv at 8.2x Fitch-calculated LTM EBITDA with full realization of Fitch-expected synergies. The consortium's purchase was majority debt financed, leaving Refinitiv's leverage at 7.5x total debt/EBITDA. Refinitiv's leverage may partially explain LSE's all stock terms but we believe recurring, subscription-based revenue and high margins support higher leverage.

Refinitiv has strong positions in data feeds, desktop, trading venues, and compliance and risk services. LSE expects the acquisition to transform its position as a leading global financial markets infrastructure group, enhance its customer proposition in data and analytics, create a global multi-asset capital markets business and deepen its relationships with customers. The combined company is expected to deliver more than GBP350 million of cost and GBP225 million of revenue synergies, generate CAGR revenue growth of 5%-7% over the first three years post completion with circa 70% recurring subscription-based revenue. LSE is targeting an adjusted EBITDA margin of around 50% and leverage, as defined by LSE, of 1.0x-2.0x versus about 3.5x at closing within 24-30 months.

"We believe companies offering data and analytics will continue to benefit from the increased strategic value placed by customers on data layers and the associated need to integrate sophisticated analytics into central workflows on a systematic basis, resulting in mid-to-high single-digit growth over the intermediate term," said Fitch. "DAP business models are defensible due to barriers to entry in the form of proprietary datasets and analytics, which are critical to customers' workflows, leading to high switching costs, increased customer retention and pricing power."

Significant operating leverage also accrues to DAP companies. Fitch-rated companies, inclusive of S&P Global, Moody's, Thomson Reuters, RELX, Verisk Analytics, IHS Markit, Refinitiv and Dun & Bradstreet, all have 25%-50% operating EBITDA margins. We have viewed the opportunity for margin expansion at Refinitiv as substantial, given the company's standalone operating EBITDA margin was at the low end of its peer set at 28% in 2017. The current owner consortium was targeting USD650 million in run-rate synergies by 2020, which we viewed as attainable. Refinitiv's cost savings goal has progressed as expected, given 420bps of margin expansion in first-half 2019,

In addition to the acquisition of Refinitiv, Dun & Bradstreet was acquired last year by an investor group for USD6.9 billion. LSE expects to complete the deal by second-half 2020, upon receipt of shareholders' and regulators' approval, but the transaction could undergo a lengthy regulatory review with potential heightened focus on data. However, consolidation of data management platforms may lead to increased regulatory scrutiny for transactions. The European Commission stated it wants market competition and cheaper data feeds. Asset managers are also concerned consolidation of data providers will reduce competition and increase pricing.