Credit Suisse is upgrading CBOE Holdings (NASDAQ:CBOE) to Outperform from Neutral with a $32 target (prev $25) noting they see a high likelihood of the exchange being bought in the coming months.
Historically, exchange consolidation has come in waves, and CSFB sees a high likelihood of at least 1-2 more deals over the coming months. Among the major U.S. financial exchanges, they see CBOE as the most likely near-to-intermediate term takeout candidate. What makes the CBOE franchise attractive? Firm views the company’s fast-growing U.S. options footprint, flagship proprietary index options business (SPX, VIX), meaningful post-demutualization earnings ramp-up and opportunity to realize economies of scale as all reasons why CBOE should be a participant in this round of industry consolidation.
What makes CBOE attractive to potential acquirers? Ability to leverage the combined organization’s scale through consolidation of trading platforms and redundant technology operations to realize cost synergies. In addition, they believe a combination with CBOE would also give the pro forma company exposure to the fast growing, albeit highly competitive, U.S. options market. Specific to CBOE, CSFB believes potential partners would derive the most strategic benefit in the exchange’s proprietary index options business given its strong defensibility and the potential to broaden into new product arenas. To this end, the franchise is on the verge of launching Gold Volatility Index options and futures pending regulatory approval. Volatility product traction has been robust (VIX futures and options averaging 435,000 contracts as of last update in early February, up 64% from 265,000 in 2010).
What Could a NDAQ-CBOE Deal Look Like?
Strategic Rationale—Improved Revenue Growth Profile, Realize Scale Efficiencies
CSFB believes a NDAQ-CBOE combination would have strong strategic merits for both companies. Specifically, for NASDAQ OMX a merger would further diversify its revenue base away from the more mature and intensely competitive cash equities businesses by increasing its exposure to the much faster growing, but also somewhat competitive, U.S. options market. In particular, they see the addition of CBOE’s flagship proprietary index contracts (SPX, VIX) as helping to improve NASDAQ OMX’s revenue growth prospects.
Raising target price. Firm’s revised $32 per share target price (old: $25) reflects a blend of their revised $27 standalone value (18x 2011 EPS) and a $35 per share take out value. They ascribe a 60% probability to their takeout scenario and 40% to their DCF-derived standalone target price. Credit Suisse believes ascribing a higher takeout probability implies fair value of $33-$35 target price..
Notablecalls: This call could get attention as exchange mergers are the talk of the day. Credit Suisse highlights CBOE as a target, gives a possible time frame & even the valuation.
CBOE will trade toward $29 level today, I suspect.
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