A $10 billion surprise

The historic merger agreement between Chicago's two leading futures exchanges, the Merc and the Board of Trade, went up for grabs Thursday after a surprise $9.9 billion bid from an out-of-town rival who says the city would be better off keeping its crosstown competition alive.

Atlanta-based IntercontinentalExchange Inc. on Thursday proposed combining with the Chicago Board of Trade in an all-stock transaction said to provide a 10 percent premium over the offer on the table from the Chicago Mercantile Exchange. Board of Trade shareholders would retain majority control, and the merged company would remain headquartered in Chicago.

IntercontinentalExchange, or ICE, is a far smaller player in the futures market and an upstart--it's about 7 years old. With its last-minute offer, made three weeks before the Board of Trade's scheduled vote to approve the Merc merger, ICE threatens to shake up one of Chicago's most storied industries just as it was reinventing itself.

The Merc and Board of Trade want to team up so they can better compete in the globalized business of trading commodities and financial instruments electronically. ICE sees the same opportunities but argues it would make a better partner.

Ensuring that Chicago retains two competing exchanges "will go a long way" to resolving antitrust concerns that regulators and industry officials have raised about the Merc's proposed acquisition of its longtime rival, said Jeffrey Sprecher, chairman and chief executive of ICE. "From a regulatory standpoint, this is a clean deal."

It also would perpetuate a tradition of sometimes bitter divisions between the Merc and the Board of Trade, two local institutions whose leaders have feuded over matters big and small for generations. The bickering has subsided in recent years, as both exchanges went public and their market value soared. Even though the Merc would be taking over the Board of Trade, a tough pill for some old-timers, analysts had expected shareholder approval by a wide margin at a vote scheduled for April 4.

Though CBOT Holdings Inc. said it will proceed with the vote, its plan may change if a bidding war erupts. Wall Street analysts say the Merc has the financial muscle to top the ICE offer. And while the New York Stock Exchange or others might jump in, "my gut feeling is there will not be another bidder," said Chris Allen, analyst at Banc of America Securities. "It's going to be a two-way battle."

The Merc needs the Board of Trade more than ICE does, because an acquisition is "the mainstay of at least their near-term strategy," said Richard Repetto, a principal at Sandler O'Neill & Partners. "I still think the CME is the front-runner."

Yet ICE laid out a compelling case for the acquisition, said Repetto, who rated the likelihood of the upstart energy exchange completing the deal at 25 percent, up from a 5 percent long shot when he first heard of its bid Thursday morning.

On Wall Street, investors took the offer seriously. Board of Trade shares closed at $194.95, a gain of more than 17 percent, while stock of ICE and the Merc declined. ICE shares closed at $128.10, down about 3 percent; Merc shares fell 5.5 percent to close at $534.23.

For Board of Trade members who each have retained the 27,338 shares of stock they received in the exchange's public offering, Thursday's rally represented a $628,000 gain, said Chicago trader Jon Najarian, who through a trust owns seats at the NYSE, CBOT and Chicago Board Options Exchange. "There were high-fives all around the trading floor today."

The momentum in favor of the Merc's acquisition has given way to uncertainty, added Chris Hehmeyer, chief executive of Chicago trading firm Penson GHCO and a longtime Board of Trade member. "This changes everything. It throws everything into question."

The Board of Trade said it would review the bid but declined to comment on it, and executives from both exchanges mostly dodged questions here at the futures industry's annual conference in Florida.

At a Board of Trade press conference scheduled weeks ago for Thursday morning, scrambled eggs and bacon were delivered to an empty table as exchange brass, stunned by the unexpected bid, huddled in seclusion. One CBOT executive heard about the proposal at 7 a.m. when ICE slipped a letter under his hotel-room door.

A Merc executive speaking on a panel with ICE boss Sprecher deflected questions about the deal, drawing a laugh from a crowd of industry insiders when he said his exchange would respond by no longer serving ice in its drinks at the events it sponsors here.

Under the proposed transaction, ICE would issue 1.42 of its shares for each CBOT Class A common share, valued at $187.34 per Board of Trade share as of Wednesday. That represented a 12.8 percent premium to CBOT's closing share price Wednesday. It also represented a 39.3 percent premium to its share price on Oct. 16, the day before its merger agreement with the Merc, ICE said. The bid topped a Merc offer valued at $8.96 billion, or $169.53 per share.

The steep valuations drew skepticism from some futures experts. "It's a little like we saw in 2000 with the Internet bubble," said Patrice Blanc, chairman and chief executive of Fimat International Bank, a big player in the futures markets. "On the pure business side, is it making sense? I don't know."

CBOT shareholders would own 51.5 percent of the combined company, and ICE said it would commit to the same terms as the Merc regarding preservation of Chicago's traditional open outcry trading floors.

In a conference call with investors Thursday morning, Sprecher said his plan would help preserve the Board of Trade's "heritage" for Chicago. Because the ICE deal does not involve a change in control, it also may improve the chances of Board of Trade members retaining their rights to trade at the Chicago Board Options Exchange, Sprecher added.

The CBOE has said those rights would be eliminated under the proposed Merc deal.

Sprecher moved from the power plant business to trading in 2000 and built ICE into a force quickly. It owns London's International Petroleum Exchange and operates an electronic energy marketplace, franchises that could help boost the Board of Trade's efforts to develop a contract on ethanol, the corn-based fuel, said Board of Trade member Hehmeyer said.

Sprecher agreed that "energy and ags are a very good fit together. They cater to the same customer."

Yet others say the Merc and Board of Trade make a neater fit. "There is more logic between the CBOT and CME," said Blanc. Those similarities raised antitrust concerns, given the 85 percent or higher U.S. market share that the combined futures market would control. Cost savings would play a big role in either deal.

ICE said that in addition to cost cuts and the revenue opportunities available to the combined company, it would provide a comprehensive system for matching and guaranteeing trades. The Board of Trade's deal with the Merc for those so-called clearing services is set to end in January 2009.

On Jan. 12, ICE acquired the New York Board of Trade, a small exchange trading coffee, cocoa and other commodities, obtaining its clearing system in the process. Sprecher said his board gave him the go-ahead to make a Board of Trade bid because that transaction went so smoothly, and antitrust scrutiny of the Merc's bid was intensifying.

"We don't have overlapping products. We have a relationship with the Department of Justice," Sprecher said. "We're definitely the higher bidder. Anyone can counter with a higher price for a deal they can't get done."