Why Is Ameritrade Acquiring Scottrade?

TD Ameritrade (NASDAQ: AMTD) recently announced that it plans to acquire Scottrade, in a deal valued at $4 billion. We believe this is a defensive measure to counter challenging market conditions where margins are thin and scaling up has become necessary to remain competitive. The U.S. brokerage industry has  been facing headwinds of late, amid reduced trading volumes and intense competition between full-service brokerages and discount brokerages, with the latter gaining market share. With investors shifting towards cheaper index-based funds instead of owning company stocks, and robo-advisory in order to reduce management fees, brokerages have witnessed reduction in revenues and margins.

With low margins, acquisitions seem to have become the go-to strategy for brokerages. This can be witnessed from Ameritrade’s intention to acquire Scottrade for $4 billion in a cash and stock deal that would bring together two of the biggest U.S. discount brokerages. Earlier in the year,  E*Trade Financial (NASDAQ:ETFC) also announced its intention to acquire OptionsHouse in order to strengthen its equity options trading capabilities.  In the months since, its stock price has risen by more than 12%.

Scale Is The Key When Margins Are Shrinking

Ameritrade will benefit primarily from Scottrade’s widespread network, which will enhance its retail business, apart from the addition of Scottrade’s customer assets and trading volumes. With around 500 Scottrade branches and 100 of its own, Ameritrade plans to consolidate them into 450 locations across the country in order to cater to both the companies’ clients. For Scottrade, customers will have access to Ameritrade’s diverse financial products, tech-enhanced platforms and effective investor guidance. For the fiscal year ended September 2016, the companies together handled an average of 600,000 client trades per day, $944 billion in client assets and 10 million funded client accounts. The company has indicated that with the acquisition, it will strengthen its position in broker fees competition.  Schwab, which was way ahead of its competitor brokerages with 554,000 trades, $2,604 billion assets and 12 million accounts, is likely to receive tough competition from Ameritrade post acquisition.

Terms Of The Deal

The agreement involves multiple transactions in which TD Bank Group, which acquire a large stake in TD Ameritrade, will first acquire Scottrade Bank for $1.3 billion, and Scottrade Bank will merge into TD Bank. Additionally, TD Bank Group will purchase $400 million in new common equity from TD Ameritrade to fund a part of the Scottrade acquisition.

Following the Scottrade bank acquisition, TD Ameritrade will acquire Scottrade for $2.7 billion. This amount comprises of $1.0 billion in new common equity issued to Scottrade shareholders and $1.7 billion in cash. The cash includes TD Ameritrade cash ($900 million), a new debt offering ($400 million), and the proceeds from the sale of shares worth $400 million to TD Bank Group. The deal is expected to be completed by Sept. 30, 2017. The companies expect $450 million in annual cost savings, with a quarter of that coming in the first year after the close.

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