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Fitch Affirms NEX Group plc's Subsidiaries and TP ICAP on Transaction Completion
January 10, 2017 / 4:56 PM / a year ago

Fitch Affirms NEX Group plc's Subsidiaries and TP ICAP on Transaction Completion

(The following statement was released by the rating agency) LONDON, January 10 (Fitch) Fitch Ratings has affirmed ICAP Plc's (ICAP) and TP ICAP plc's (TP ICAP) Long-Term Issuer Default Ratings (IDRs) at 'BBB' and 'BBB-' respectively. The Outlooks on the Long-Term IDRs are Stable. A full list of rating actions is at the end of this rating action commentary. The affirmations follow the completion on 30 December 2016 of the sale of NEX Group plc's (NEX) global voice and hybrid broking business to TP ICAP (formerly Tullett Prebon plc). The transaction also includes the transfer of a number of related businesses, including the information sales business related to global broking; i-Swap, ICAP's electronic trading platform for over-the-counter interest rate derivatives; and ICAP Fusion, an electronic screen which provides access to ICAP's electronic platforms. Following the sale, NEX's strategy is to focus primarily on electronic broking and post-trade services. NEX is now the group's ultimate parent and a holding company that wholly owns ICAP Plc. We expect other group entities to follow similar rebranding exercises shortly. With the transaction, the former Tullett Prebon plc has acquired the rights to the ICAP brand and has started operating as TP ICAP. KEY RATING DRIVERS IDRs AND SENIOR DEBT ICAP ICAP's ratings reflect the group's strong franchise in selected electronic broking platforms, risk mitigation and regulatory reporting solutions. ICAP's BrokerTec platform is the leading electronic venue for trading on-the-run US Treasuries, while the group's foreign currency trading platform's (EBS) market share in certain foreign currency pairs has grown rapidly, notably in Chinese renminbi. The group's post-trade division is geared towards capitalising on growing regulatory reporting requirements for OTC derivatives and risk mitigation, and has to date seen sound growth. We view ICAP's business model as being reliant on transactional and bank client revenues, which introduce earnings volatility as banks' trading appetite varies with macroeconomic conditions and regulatory capital constraints. We expect the disposal of the voice broking business to result in improved revenue stability, wider EBITDA margins and a larger proportion of subscription revenues. The ratings also reflect our view that ICAP's leverage, as measured by gross debt-to-EBITDA, is likely to be at the upper end of the range commensurate with investment-grade ratings in the medium term. At end-September 2016, pro forma gross debt for NEX stood at GBP515m, or 3.0x 2015/16 EBITDA, but we expect the ratio to be closer to 2.5x in the medium term as cash proceeds from the transaction are partly used to repay outstanding short-term liabilities. This would bring gross debt closer to GBP439m. The profitability of ICAP's continuing businesses is, in our view, strong. In 1H16, Electronic Markets posted a resilient performance despite revenue falls resulting from lower trading activity in foreign currencies, and the Post-Trade Risk & Information division posted 6% revenue growth at constant currencies. We view operational risk as increasingly relevant for ICAP, given the importance of system resilience for its continuing operations. Despite the disposal of the voice broking business, which in our view reduces the potential for litigation-related losses, ICAP remains liable for the outcome of the Commodity Futures Trading Commission's (CFTC) investigation into the setting of USD ISDAfix rates. The ratings also reflect ICAP's healthy funding, liquidity and interest coverage, with EBITDA covering around 9.2x interest expense in the financial year to March 2016. We expect interest coverage for continuing operations to be slightly weaker but still above the 6.0x threshold typical for a 'BBB' rating category. Following the completion of the transaction with Tullett Prebon and the reimbursement of GBP330m debt from Tullett Prebon to ICAP Group Holdings plc (IGHP), we expect the cash surplus above operational requirements to be around GBP200m. We view this cash buffer as credit-neutral as we expect it will largely be reinvested in the business or used for acquisitions. We do not expect NEX to be subject to consolidated regulatory capital requirements. IGHP is a wholly-owned non-operating subsidiary of ICAP and the obligor of the group's bank facilities, loans and debt, with the exception of the group's retail bond, a EUR15m senior note and ICAP's European commercial paper programme (unutilised at end-September 2016). IGHP's senior notes contain a financial covenant that ensures IGHP consolidates at least 85% of the group's EBITDA, supporting the alignment of its ratings with ICAP's. TP ICAP TP ICAP's ratings reflect our view that the transaction results in TP ICAP's company profile benefitting from a much-enlarged global franchise in voice and hybrid brokerage. This should improve the institution's economies of scale and mitigate sector-wide earnings pressure on voice and hybrid broking revenue. TP ICAP is the largest traditional inter-dealer broker by financial broking revenue with a strengthened franchise in the US where its operations have been sub-scale in recent years. The ratings also take into account TP ICAP's increased leverage (gross debt/adjusted EBITDA) which based on our assumptions is likely to peak at 2.4x in 2017, just below our 2.5x 'BBB' threshold for negative rating action. We view leverage under 2.5x as commensurate with TP ICAP's ratings, but achieving cost savings will be important in underpinning debt sustainability. The transaction has been financed with the issuance of new TP ICAP shares and a GBP470m drawing on a debt facility, which TP ICAP intends to refinance by issuing senior debt of a similar amount by end-2017. The rest of TP ICAP's outstanding gross debt relates to a GBP80m note maturing in 2019. We view TP ICAP's profitability as adequate, and the acquisition should in the medium-term be supportive of TP ICAP's EBITDA margin (EBITDA/revenue of 18% in 1H16). However, front-loaded costs to achieve post-transaction savings, notably with regard to support function and IT systems, will likely lead to a reduced EBITDA margin in 2017 before recovering in 2018 and beyond. Given the complementary nature and considerable size of the acquired businesses, planned cost synergies (and associated costs-to-achieve) are sizeable compared with TP ICAP's pre-transaction EBITDA. Cyclical (eg. low interest rates) and structural (eg. deleveraging of banks) factors will, in our view, continue to exert pressure on TP ICAP's core revenue in traditional broking in the medium-term. In addition, TP ICAP remains less diversified than its peers and thus more reliant on developments in traditional broking businesses. TP ICAP's risk appetite is low and we do not expect the acquired businesses to materially alter the company's risk profile. TP ICAP's broking businesses are predominately transacted on a "name give-up" basis which does not expose TP ICAP to counterparty risk ("matched principal" and "execution only" transactions which give rise to counterparty and settlement risks accounted for a moderate 20% and 5% of brokerage revenue in 2015). Operational risk, while more significant than credit or market risk, is well-controlled and litigation exposure is in line with peers. The transaction includes a warranty from ICAP that covers the potential exposure to the outcome of the US dollar ISDAfix rates investigation. However, at least during the early stages of the integration period, we view execution and operational risk as elevated. TP ICAP operates with an investment firm consolidation waiver, which requires it to meet consolidated capital requirements at waiver expiry. We expect the terms of the new waiver (necessary following the acquisition) to include similar requirements to reduce a wider capital deficit, defined as the shortfall between its capital resources and its consolidated capital requirements (excess goodwill). We view the requirement to shrink the shortfall as positive for creditors as it will require TP ICAP to improve the quality and size of its capital base. RATING SENSITIVITIES IDRs AND SENIOR DEBT ICAP ICAP's ratings are sensitive to material deviation from our expectation that gross debt/adjusted EBITDA will reduce from its high post-transaction levels. Such slippage in reducing leverage could arise from higher-than-expected revenue pressure, unsustainably high investment costs or a loss of franchise. Given ICAP's renewed focus and reliance on electronic platforms, the ratings could come under pressure in the event of material operational losses. This could arise from a failure to maintain system resilience resulting in a loss of franchise or revenue, or from business restrictions or outsized financial penalties following legal or regulatory actions. The outcome of the CFTC's investigation into the setting of USD ISDAfix rates is, in our view, the most significant legal contingent liability for the group. Upside is limited in light of ICAP's reliance on electronic platforms, but could result from a reduced reliance on transactional and bank revenue, materially lower leverage or a longer track record of stable and sound profitability. TP ICAP TP ICAP's ratings are sensitive to larger-than-expected revenue declines or material delays in realising cost synergies, which would negatively affect EBITDA. Should TP ICAP's gross-debt/adjusted EBITDA exceed 2.5x on a sustained basis, this would put pressure on the Long-Term IDR. A material delay in refinancing the bridge facility post-transaction, which could indicate expectation of higher interest expenses and lower EBITDA coverage, would also be rating-negative. In the medium-term, inability to eliminate excess goodwill in line with expectations, for instance, due to earnings pressure in conjunction with an unchanged dividend policy, could also lead to a downgrade. Similar to all IDB peers, TP ICAP's ratings are also sensitive to outsized operational losses and negative repercussions from regulatory or legal investigation. Upside to the ratings is limited given higher leverage following the transaction and our view of continuing pressure on traditional broking revenues. The rating actions are as follows: ICAP Plc Long-Term IDR affirmed at 'BBB'; Outlook Stable Short-Term IDR and commercial paper programme affirmed at 'F3' Senior debt affirmed at 'BBB' ICAP Group Holdings plc Long-Term IDR affirmed at 'BBB'; Outlook Stable Short-Term IDR affirmed at 'F3' Senior debt affirmed at 'BBB' TP ICAP plc (formerly Tullett Prebon plc) Long-Term IDR affirmed at 'BBB-'; Outlook Stable Senior debt affirmed at 'BBB-' Contact: Primary Analyst Christian Kuendig Senior Director +44 20 3530 1399 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Luis Garrido Analyst +44 20 3530 1631 Committee Chairperson Christian Scarafia Senior Director +44 20 3530 1012 Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email: elaine.bailey@fitchratings.com. 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