Another week, another set of signs that the London Stock Exchange (LSE) is running aground. Two medium-sized listed businesses are selling out to US rivals: tech-testing firm Spirent Communications, based Crawley, West Sussex, is being bought by Viavi Solutions for around £1 billion, while west country logistics-provider Wincanton is going to GXO Logistics for around £750 million.
Meanwhile, Leicester-based wealth manager Mattioli Woods is departing the exchange via a takeover by London private equity group Pollen Street Capital for £432 million. None of these pieces of business may seem spectacular, but they are part of a wider exodus with a common cause: the very low valuations of LSE-listed companies, particularly compared with their counterparts in the US.
These valuations are an “absurdity”, according to JO Hambro Capital, a leading shareholder in electrical goods retailer Currys. Currys, which is also LSE-listed, has itself just fended off a takeover bid a from US investment, group Elliott.
Various other UK companies have been defending themselves from predatory moves by relisting elsewhere, commonly in the US. Recent examples include building materials companies CRH and Kingspan and betting company Flutter, while office co-working group IWG seems set to follow suit. New listings such as the Cambridge-based chip designer Arm Holdings are heading stateside too.
The UK government is sufficiently concerned about losing tax income that Chancellor Jeremy Hunt announced several measures in his March budget. UK taxpayers are being given an extra tax-free savings allowance of £5,000 a year to invest in British businesses, while UK pension funds are going to have to publish the proportion of their investments that are UK-based each year.
However, this pensions move has been criticised for unfairly interfering in investment activity, while few seem to think the savings allowance will make much difference.
So what is behind the LSE’s problems and what might move the dial?
Five key problems
1. Investor preferences
Institutional investors and funds are putting their money into better-performing markets like the US because the UK economy has struggled due to things like Brexit and poor productivity. Lately, UK companies have been reduced to bargain-basement level thanks to the current recession. Take pharmaceutical companies, for instance. They trade on a price to earnings ratio of 13.7 in the UK compared with 22 in the US.
As well as making takeover bids more likely, this may well be affecting the number of advisers supporting listed businesses in London, such as consultants, lawyers, accountants and brokers. Their numbers are all declining, though it’s difficult to say how much is due to the valuations problem as opposed to other issues like Brexit.
2. Private equity and not enough flotations
Private equity firms aim to buy, improve and sell businesses at a profit, and have been ever more deal-hungry in recent years. In 2021, for instance, they conducted one third of all mergers and acquisitions around the world, threatening stock exchanges everywhere.
The LSE is not seeing the same number of flotations as its rivals to offset the phenomenon. Most new listings are heading to the US, particularly in technology, while the UK is becoming a backwater. The number of UK-listed firms has shrunk 25% in the last decade and 40% since 2008.
3. The LSE-Refinitiv deal
One cause of the problem is probably the LSE’s £20 billion acquisition of US data giant Refinitiv in 2021. Since then, one suspects that the LSE management has been distracted. Indeed, Chief Executive David Schwimmer made it clear recently that he saw the future in data rather than trading exchanges. If he were doing more to fight the LSE’s corner by persuading investors to back the exchange, and government to relax some regulations, it might help the situation.
4. Regulations
UK listing requirements preclude companies from issuing classes of shares that carry different voting rights. In the US, founders commonly use this to retain control of the business through having, for example, 20 votes for each share they hold, compared with one vote for other investors. Many US technology firms have this structure, including Meta, Google and Snapchat.
5. Salary distractions
For UK companies, relisting in the US has the added attraction that top CEOs earn far more running S&P 500 companies than FTSE 100 equivalents. The difference can be as much as US$10 million (£7.9 billion) a year, according to the FT.
What can be done
Jeremy Hunt’s budget announcements are certainly welcome, but neither encouraging savers nor putting pressure on pension funds is likely to make a huge difference. Having said that, the alternative solutions would not be plain sailing.
One is to increase the pay of directors of UK-listed companies. Indeed, some senior UK executives are pushing for rebasing director pay to be more comparable to US levels. Yet investors are not exactly enthusiastic, and it’s hard to imagine the public being supportive after so many years of wages barely rising once you strip out inflation. Another possibility is to split the LSE from Refinitiv to ensure more focus on the exchange, but it is not clear the mechanism exists to do this.
Alternatively, the UK government could allow multiple share classes to make it easier for founders to keep control of businesses. That would certainly help, particularly with tech listings, though investors would have less protection against founders running their businesses badly.
Similarly, the US allows what are known as special purpose acquisition companies or Spacs. Often referred to as “blank cheque companies”, these list to raise funds from investors to buy a business, and are able to avoid many of the reporting requirements associated with other types of listing. However, the outcome for investors has been almost universally poor.
That said, this is a race to the bottom. Lifting these investor protections may be the most effective solution – barring a turnaround in the economy. It would lead to better returns, but the risks for the unwary will be significant. This is something that both the main political parties ought to reflect on as the general election draws nearer.