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close print back < index > cover search view today’s top stories from the deal pipeline MONDAY OCTOBER 1, 2012 VOLUME 23 ISSUE 189 FULL STORY > High-frequency trading created a new industry, which is now hurtling toward consolidation Feeding the need For speed By aaron timms

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    t o d ay s t o p s t o r i e s f r o m t h e d e a l p i p e l i n e

    MONDAY

    OCTOBER 1, 2012

    VOLUME 23 ISSUE 189

    FULL STORY >

    High-frequency trading created a new industry, which is now hurtling toward consolidation

    Feeding the need For speed

    By aaron timms

  • close print back < index > cover search view

    INDEX

    TOP STORYThe advent of high-frequency trading has created a new industry, which is now hurtling toward consolidation page 5

    mOvERS & ShakERSPersonnel changes at Morgan Stanley, HSBC, State Street Global Advisors and other firms page 13

    bRIEflY NOTEDBPReliance Industries, SonyOlympus, SciQuestSpend Radar page 14

    lawBank of America agrees to pay $2.43 billion to settle shareholder litigation over its 2009 purchase of Merrill Lynch & Co. page 14

    vENTuRE caPITalAs flash memory deployments increase in data centers and corporate networks, money is flowing to companies developing the technology page 15

    aRbITRaGEInvestors are having a hard time understanding the per share value of the merger between Columbia Banking System and West Coast Bancorp page 16

    PRIvaTE EquITYLed by David Wilton, the International Finance Corp. is going to markets where most institutional capital fears to tread page 17

    REGulaTIONWellPoint will sell all of Amerigroups managed care operations

    in Virginia to Inova Health System to address Department of Justice antitrust concerns about the $4.9 billion merger of WellPoint and Amerigroup page 18

    SafE haRbORA recent Delaware ruling should provide derivative plaintiffs with an incentive to file carefully page 19

    fEEDbackTell us whats on your mind page 20

    cOmPaNY INDEXpage 21

    aucTION blOckInformation on companies in new, developing and recently closed auctions; upcoming events and deadlines; news on companies seeking acquisitions; and the outlook for those dealing with activist shareholders page 22

    ThE DEal PIPElINELinks to current content page 3

    ThE DaIlY DEalSFor a summary of current risk arbitrage situations, click here

    correctionA story titled Distressed and liking it (Sept. 24, page 13) incorrectly rendered the name of Patrick Boyces firm. The correct name is Highland Capital Management LP.

    NE

    WSC

    OM

    2 ThE DaIlY DEal m O N D aY O c TO b E R 1 2 0 1 2

    http://pipeline.thedeal.com/tdd/ViewArbChart.dl

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    THE DEAL PIPELINE

    Top acquisitions in the past week

    Target: Fugro NV (Geoscience division)Acquirer: CGGVeritasDeal value: $1.56 billionAnnounced: Sept. 24

    Target: Kazzinc Ltd. (18.9%)Acquirer: Glencore International AGDeal value: $1.4 billionAnnounced: Sept. 25

    Target: Mediq NVAcquirer: Advent International Corp.Deal Value: $1.33 billionAnnounced: Sept. 24

    Target: Sealy Corp.Acquirer: Tempur-Pedic International Inc.Deal value: $1.3 billionAnnounced: Sept. 27

    Target: Tomkins plc (Air distribution division)Acquirer: Canada Pension Plan Investment BoardDeal value: $1.1 billionAnnounced: Sept. 21

    Source: The Deal Pipeline

    Ahead of the newsAn executive summary of events impacting the markets tomorrowBuyout firms likely suitors for Valero stations; valuation could hit $4.5B Click here

    Daily updates on new and ongoing deals. Easy to search and download data

    Exclusive VideoOMelvenys Laco on Cnoocs M&A strategy OMelveny & Myers John Laco discusses changes in Cnoocs cross-border acquisition strategy between the offers for Unocal and Nexen.

    DEAL DASHBOARDFind a deal

    More intelligence is available to you in The Deal Pipeline at www.thedeal.com/pipeline

    >Click here

    >

    View all videos

    Forgot your login? Click here or contact customer service at 1-888-667-3325

    MOST RECENT AuCTiONS Metro Fuel Oil Corp. - 09/27/2012 Post Holdings Inc. - 09/27/2012 Scottish Power Energy Networks

    - 09/27/2012

    MOST RECENT BANKRupTCy Southern Air Holdings Inc. -

    Filing - 09/28/2012 Medisafe 1 Technologies Corp. -

    Warning - 09/28/2012 Barossa Coffee Co. - Warning -

    09/27/2012

    MOST RECENT M&A Physicians Formula Holdings Inc.

    - 09/27/2012 Sealy Corp. - 09/27/2012 American Greetings Corp. -

    09/26/2012

    MOST RECENT FiNANCiNGS Southern Air Holdings Inc. - DIP

    - 09/28/2012 Metro Fuel Oil Corp. - DIP -

    09/27/2012 Mainstay Medical Ltd. - VC -

    09/27/2012

    3 THE DAILy DEAL M o N D Ay o c To b E r 1 2 0 1 2

    http://pipeline.thedeal.com/tdd/today/ViewVBlog.dlhttp://pipeline.thedeal.com/tdd/ViewArticle.dl?id=10005752529http://pipeline.thedeal.com/search/AdvanceDataSearch.dlhttp://www.thedeal.com/pipelinehttp://pipeline.thedeal.com/employee_forgot_password_page.dl

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    TOP STORY

    Jock Percy sits in his makeshift office in a shopworn, prewar office building in down-town Manhattan fondling a small piece of fiber-optic cable. Isnt it beautiful? he asked, forcing the theatricality of the scene with a small petting motion. This is what it all rests on. With augmentation of wire-less [technology] on both sides, well be below 60 milliseconds round trip between London and New York.

    Percy is the CEO and founder of Perseus Telecom, a boutique telecommunications company that is one of the few players in a game where milliseconds, microseconds and chunks of fiber-optic cable form the

    object of fevered devotion: the increasingly fractious, increasingly frantic, and always entertaining infrastructure arms race to serve the worlds top high-frequency trad-ing firms. His plan, already under way but due to become fully operational by early next year, is to provide the fastest exist-ing fiber-optic cable route between the exchanges in London and New York. To do this, Perseus has acquired a portion of an existing trans-Atlantic subsea cable and made a number of improvements to it to increase speed. In comparison to the worlds biggest telcos, were small, Percy said. But we serve a highly specialized market.

    Perseus, though, does have competition. Hibernia Atlantic has announced plans to lay an entirely new cable across the Atlan-tic that will be more direct, more resilient, andthe company promisesfaster than anything that has come before. The project will cost $300 million and is due to be de-livered in September 2013.

    Today, data takes about 64 milliseconds to complete the round trip between Lon-don and New York along the fastest cable currently in existence, the AC-1, which was built in the late 1990s. As a rough compari-son, the human brain can react at speeds at

    By AAron Timms

    Feeding the need for speedHigh-frequency trading created a new industry, which is now hurtling toward consolidation

    CONTINUED >

    5 ThE DaIlY DEal M O N D aY O C TO b E R 1 2 0 1 2

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    TOP STORY

    a floor of 110-120 milliseconds; the blink of an eye takes 200 milliseconds. Percy said his route will get the round trip latencythe time needed to get from one point to anotherdown below 60 milliseconds. Hibernia said the latency of its route, given the appropriately gee-whiz brand name Project Express, will be even lower than that. Between New York and Chicago, an even more congested trading corridor, a rash of new carriers has emerged, touting routes in both fiber-optic cable and wire-less technology that push the latency argu-ment even closer to its theoretical limit: the speed of light. Many of those networks are, likewise, not yet fully operational. For now, the industry is at an impasse: every com-pany claims its system will be fastest, but none has any compelling public evidence to prove it.

    A lot of the players in this space are like that line from Top Guntheir egos

    are writing checks that their bodies cant cash, Percy said. If this is an arms race, its a contest in which press releases feature as the primary weapons.

    Now, however, this highly specialized family of bespoke network providers seems poised for a shakeout. Amid increased regulatory uncertainty, and as the launch dates for many of the projects along these pipelines approach, the trading firms that are the core customers in the space will finally get to see for themselves whether different networks in fact perform at their advertised latencies, and once that moment arrives, many industry participants are bracing for a wave of M&A activity. High-frequency trading is a winner-takes-all game, said Stephane Tyc, co-founder of McKay Brothers LLC, a firm that has built a wireless microwave network connecting New York and Chicago. Many industry observers argue that its the same for the network providers that serve the trading firms; if these people are right, the winners

    will emerge over the next 24 months.As the fiction around the different net-

    works purported speeds settles into the hard fact of how they perform in reality, dealmaking will be driven by a number of complementary factors. First, there are the basic efficienciesin terms of cost, size of customer base, and ease of deployment and coordination of technologythat come from operating as a monopoly or duopoly. Second, heavy saturation along the main trading corridors in frequency and infra-structure means there is little space for new entrants. Third, the decline in trad-ing volumes and order flow, combined with heightened regulatory static around elec-tronic trading more generally, means that trading firms are likely to be far more cau-tious with their technology spend, poten-tially squeezing revenue for the network providers and forcing laggards toward an exit. For many, however, it is above all the

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    TOP STORY

    pure logic of speed that is driving the in-dustry toward a rationalization. In this game, you have to be the fastest, said Mike Persico, CEO of Anova Technologies, an-other firm active in the wireless space. In an environment where the only real prize is for first place, consolidation appears in-evitable.

    To understand why any of this matters, we have to go back to the core business that ultra-low latency networks serve: high-frequency trading. According to Tabb Group LLC, a financial markets research firm, HFT today accounts for 55% of U.S. equity market turnover by volume; other estimates put the proportion as high as 75%. As its name implies, high-frequency trading gains value from the speed at which it is conducted; trading firms make money by being the fastest to act on pricing infor-

    mation and disparities in the market. The firms employ algorithms, which are pro-grammed to react at high speed in a certain fashionby posting orders related to dif-ferent securities, across a number of asset classes including futures, equities, com-modities, and foreign exchangebased on what the market is doing at any given mo-ment. Different algorithms represent dif-ferent strategies: Some will seek arbitrage opportunities based on pricing disparities for matched securities on linked exchang-es; others perform something akin to tra-ditional market making by posting buy and sell orders for the same security in the hope of making the bid-ask spread between the two. Speed is essential: Arbitrage opportu-nities may exist for a fraction of a second, and orders are executed by the exchange according to time rank, which means that if your market-making algorithm zips into the exchanges order book first, you stand to make a much chunkier spread than an algorithm lagging further back in line.

    At the core of this exercise is the recep-tion and transmission of market data and orders, from and to the exchanges where trades are executed. Thats where the network providers come in. Because the exchanges are separated by physical dis-tance, the speed at which the algorithms can receive and transmit data is essential to the success of trading strategy in HFT. Latency is introduced at various points of the pipeline, from the exchange through the algorithm itself.

    Until around 2009, the race to be king in HFT was fought mainly as a battle between the algorithms, as firms sought to opti-mize their computer programs to be faster, smarter and more efficient than those of their competitors. To that point, the data underlying the trades was shot across ex-isting fiber-optic cable networks managed, for the most part, by the major telecom-munications carriers. In 2010, however,

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    the landscape changed dramatically when Spread Networks LLC, a Chicago-based firm started by former Netscape CEO Jim Barksdale, announced that it had dug a path and laid cable from scratch along the New York-Chicago corridor, and that it had configured the path to be more directtherefore, fasterthan any other existing network. The project, which cost $300 million and involved painstaking negotia-tion and acquisition of rights of way across multiple states to secure as direct a path as possible, was done on the sly, reportedly with the backing of a major trading firm frustrated by the big players reluctance to optimize their existing New York-Chicago paths. The space is, by consensus, too spe-cialized to be of any genuine interest to the telecom giants.

    Spreads unveiling of its new network in mid-2010 constituted an operatic coup de grce, and drew a flood of new entrants into the market aiming to build the fastest, most direct route between New York and Chicago. Indeed, many trading firms have tried to build proprietary paths themselves, in addition to signing up for the products of bespoke service providers. In 2008-2009, firms would tell you: I need to be fast, but I dont need to be the fastest because my algo is better than yours, said Jake Zoldan, CEO of Newgig Networks, a microwave network provider that was one of the many players to emerge in the wake of what he terms the Spread revolution.

    But from 2010, the network became more critical than the algoall of a sud-den you had to be in the top five percentile from a speed perspective, no matter how good your algo was. The network trumped the algos.

    What is the value of one millisecond to an HFT firm? Some experts claim that each millisecond reduction in latency will earn the firms on that network $1 million in annual revenue. The math can be disput-ed but the point is the same: A millisecond is worth a lot. Spread advertised its round trip latency between Chicago and New York at 13.1 millisecondsan improve-ment on the 14.5 to 16 millisecond latency of most existing networks that was at once mathematically minor and commercially

    immense. Suddenly, there was a target to aim for. Suddenly, an industry was born.

    I dont want you to use my name, said the respected industry insider, arriving late for lunch at a nonde-script sports bar. I dont want to be associated with anything thats being written about HFT. HFT, following the Flash Crash of 2010 and, more recently, the Knight Capital debacle, has become a lodestar for some of the financial indus-trys most trenchant criticsand even though ultra-low latency networks them-selves did not directly cause either of those market spasms, the service providers are perhaps understandably twitchy about be-ing tainted by association with the broader industry, but that only partly explains the reticence of my lunch companion. The fi-nancial technologists who occupy this spacemany of them former engineers, physicists, traders, and telecom geeksare of a piece with the trading firms they serve: ferociously competitive and highly secre-tive. Participants in the industry regularly talk of entering and exiting stealth mode, as if theyre submarines on missions criti-cal to national security. We dont com-municate with each other, said NexxCom Wireless CEO Sal Benti of the industrys main players.

    The industry insider shifts in his stool and stabs at his wan-looking cheddar leek omelette. Beyonc is playing on the TV. Lots of people saw it as a gold rushas an easy chance to make money, he said, sur-veying this very small industrys very rapid evolution over the past two years. But there is very little money in the industry now.

    His prognosis is bleak: The great burst of commercial creativity unleashed by the Spread revolution has turned into a grim dogfight among a handful of remaining players to wring latency down to the speed of light and bring the arms race to its con-clusion.

    Not everyone in the business shares this view, however, and many think there is still good money to be made. For one thing, new entrants are unlikely to elbow their way into the market now that it has reached some point of relative maturity. Between New York and London, Hiber-

    nia and Perseus are the two firms operat-ing at the pointy end of innovation. In the busy New York-Chicago corridor, the field, beyond the trading firms (including be-hemoths such as Citadel LLC and Getco LLC as well as smaller boutique outfits) that have gone it alone and built networks themselves, appears settled around a hand-ful of specialist providers: McKay Broth-ers, Windy Apple Technologies, Newgig, NexxCom Wireless, Anova, Tradeworx Inc., and Spread Networks. Spread has a fiber-optic network that runs through the ground; the rest have wireless networks. Here, the industry insiders prognosis may be accurate.

    Everybody compares themselves to fiber right nowbut in my mind, this in-dustry is hurtling toward the largest firms not competing with wireless against fiber, but wireless against wireless, said Persico, CEO of Anova. Because the propagation of radio waves through free air is much faster than the propagation of light through a fiber-optic cable, wireless networks offer a speed advantage that Spread freely admits it cannot currently match. This means that the round trip latency between New York and Chicago can be wrung down below 9 millisecondsextremely close to the speed of light, which is around 8 milliseconds. Of the only two firms that have completed their networks and made them available for use by trading clients, Windy Apple said its network runs a touch over 9 milliseconds in latency, while McKay Brothers, whose network deviates from the perfect geo-desic path of roughly 760 miles between New York and Chicago by four miles, is between 8 and 9, but I wont say exactly where, according to Stephane Tyc. (Be-cause our competitors would have some-thing to aim for, he explained, in a typi-cal flourish.) The remaining players in the microwave spaceNewgig, NexxCom and Tradeworxall claim they will have their networks up and running later this year or early next, and they will all offer round trip latency of around 8.5 milliseconds.

    Radio waves attenuate over distance: Microwave signals need to be refreshed every 30 miles or so. As a result, these paths can only be completed in a series of hops,

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    which means that each network requires the installation of a string of radios and an-tennas on towers and buildings across the corridor. This process is a complex one in-volving the acquisition of space on suitably placed towers (many of which are owned by dedicated companies such as Crown Castle and American Tower Co.), as well as the reservation and coordination of fre-quency licenses with the Federal Commu-nications Commission. The frequencies are extremely congested, Tyc said. It was already a very busy corridor, but its gone totally crazy since the advent of high-fre-quency trading firms trying to do this. We squeezed in and got an unbelievably good route, but there wont be many extremely good routes. The firms whose networks are not operational are still, apparently, coming to grips with this regulatory and logistical tangle, while scrambling to stay in the game; one local zoning board in New

    Jersey recently heard the application of eight different companies trying to put mi-crowave radios on a single tower. With the FCC not expected to make more spectrum available in the relevant frequencies any time soon, scenarios like this seem increas-ingly likely as the service providers race to complete their networks.

    Still, the pain is worth it. A microwave network typically costs $5 million to $10 million to build (versus $300 million for Spreads underground cable); an FCC li-cense in the frequency bands most applica-ble for these technologies runs for 10 years and costs little more than $500. Mean-while, trading firms currently pay between $50,000 and $100,000 a month to lease dis-crete slices of bandwidth along the wire-less providers networks. More bandwidth means a higher fee: fiber optic has virtually no bandwidth restrictions, so firms pay up to $300,000 a month for Spreads cable of-fering. Across all these networks, firms generally sign up for multiyear contracts.

    Put all those ingredients together and you have the makings of a gourmet business model. The traders are willing to pay more because its not a cost center for themits a profit center, explained Mitch True-lock, managing director at Roth Capital Partners, who is advising Newgig on its growth strategy. While its a little niche, the business metricshuge margins, long-term contracts, great cash flowmake it a very attractive proposition. The business model is hands down one of the best in the industry.

    Still, microwave networks pose two problems: extreme sensitivity to fog, snow and other weather extremes (which makes them reliable only 99.5% of the time, versus 99.99% for fiber-optic technology), and the fact that they can transmit only relatively light payloads of data (which means you can usually fit only five or six users on a single route). Millimeter wave technology

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    is similarly allergic to weather, but offers higher bandwidth: Whereas microwave ra-dios can only transfer 150 megabits of data per second, millimeter wave links support up to two gigabits of data16 times the mi-crowave payload.

    This really is VHS versus beta, said Mike Persico of Anova, which has built out its millimeter wave network in the metro-politan areas of Chicago and New York/New Jersey and hopes to have a complete long-haul path between the two regions completed next year. We lift the band-width constraint but keep the speed advan-tages. Lifting the bandwidth constraint matters because it allows the network pro-vider to fit more traders on the route, and the traders can receive biggerand more usefulchunks of market data.

    To critics of millimeter wave technology, who complain of its unreliability in inclem-ent weather (especially rain) and its funda-mental unsuitability for long-haul use (it needs even more links to make a complete path), Persico offers a brave riposte: In Oc-tober, Anova will launch a product he calls high-availability gear. The network, due to be completed by mid-2013, will maintain the speed advantages of millimeter wave and microwave but remain impervious to rain, snow and fog, operate at 99.99% reli-ability, and allow for the transfer of up to 12 gigabits of dataa payload comparable to fiber optic. Persico is keeping the exact nature of the technology he will use to build the network pinned to his chest, but he insists it will not be a millimeter wave network in the conventional sense. We believe in disrupting ourselves, he said. I dont want to have to wait for another firm in a years time that looks and feels like we did in 2010 to come along and circumvent and supersede everything that weve done. If microwave is beta and millimeter wave is VHS, whats the equivalent of the DVD? Its this.

    Thats all very tantalizing in a world where people still watch DVDs, but whats the equivalent of Netflix, or Bit Torrent, or nabbing a pinch of your neighbors Wi-Fi to stream the match day footage live off a dodgy Russian file-sharing website? Manoj Narang thinks he has the answer.

    Tradeworx, which he heads, is a propri-etary trading firm whose mission has al-ways been to use technology to democra-tize the market. To that end, Tradeworx plans to commercialize the technology and network underlying its own trading op-erations, as the basis for what Narang de-scribes as a product that will be not just a game changer, but a game ender.

    Each of the technologies deployed in the ultra-low latency arms race to this point has, essentially, involved the con-struction of exclusive networks accessible only to those willing to pay a premium for their use; firms unable or unwilling to meet these networks lofty leasing costs have es-sentially been priced out of the market. Its arguable that weve reached a strange point in the evolution of thinking about social justice and finance when the violins of pity sound a lament for high-frequency trading firms; and some, not surprisingly, dismiss concerns over access within the space. Theres no need to have an Occupy Cielo Networks movement here, said Gor-don Moller of Cielo Networks, a radio sup-plier to several firms in the space, because were just humble developers of technol-ogy. Theres no social justice issue here.

    For Narang, however, there is a social justice issue, and theres a very strong busi-ness case that harmonizes with his ambi-tion to do something about it. His plan, essentially, is to sell not bandwidth, as the other service providers do, but data: for around $300,000 a year, traders will re-ceive a continuous feed of pricing and mar-ket data; every one of the firms leasing space on other networks today already uses those paths to transmit the same data. Instead of giving you a slice of the network, which is very exclusive, because theres limited bandwidth, literally there can be unlimited subscribers to the data, Narang explained. It is not a closed offering. Firms will still want access to their own, exclusive ultra-low latency network for order execution (which typically requires a far smaller data load than the transfer of market data), but Tradeworxs wager is that its data feeds will prove so comprehensive and so cost-effective that a large part of the ultra-low latency network industrys reason for be-ing will evaporate. Narang is not alone in having this idea: McKay Brothers and

    Windy Apple are planning to offer similar data feeds, but Narang is the most bullish on the ideas implications: The arms race is destructive to the industryits a net tax on the industry. The setup we have come up with augurs the end of the arms race.

    To summarize: there is micro-wave, which will perhaps be trumped by millimeter wave, which will perhaps be trumped by Anovas forthcoming high-availability gear and all of that could in turn be ren-dered irrelevant by the democratizing data feeds of Tradeworx and others. Mean-while, Spread, which kicked off the arms race two years ago, is still back under the ground, helping its customers send orders along its fiber-optic cable at the now prehis-toric-seeming latency of 13.1 milliseconds. Does that mean the mother of the revolu-tion has now been eaten by its young? Da-vid Barksdale, the CEO of Spread, does not surprise with his response: I dont think fiber and wireless are really in competition until wireless comes up with a way to be bandwidth competitive. I see them as com-plementary; but theyre two different types of networks. Nor does he think much of his competitors in the wireless space who are yet to prove their products: My feel-ing is that a lot of the commenters who are most public about their networks are the least likely to pull them off. Nobody whos issuing press releases do I consider to be a serious player.

    Others in the industry keep their coun-sel on the second point (or perhaps, better still, issue a press release on it), while sup-plying broad agreement on the first: Wire-less may be in front when it comes to pure speed, but Spread still sets the standard when it comes to reliability and bandwidth. Besides, different trading strategies, even in the arena of high-frequency trading, call for different speeds. Clearly, there is a market for fastest, fastest and fast, Persico said. So its not a death match. But theres the most competition at the pyramideverybody wants to be the fastest because thats where the most money is. But there can only be one. And the rest of the opera-tors, who used to be fastest but no longer

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    TOP STORY

    are, will either have to retool their product as a commodity-based offering and reduce their prices, or fold up shop and go home.

    Yes, different strategies call for dif-ferent speeds: Not every algorithm will require the fastest connectivity. But the strategies that seek the greatest profit, ar-guably, will. Pure latency-based arbitrage is not possible if the trading algorithm that is programmed to react to price asymme-tries between exchanges is hooked to a network that is only third or fourth fastest; nor will market making be as profitable. However, being third or fourth fastest, ac-cording to the respected industry insider who does not wish to be named, still guar-antees you a seat at the table. You can pick out crumbs, you are still able to trade and compete. And thats the point: most trad-ing firms will not settle for crumbs. Most will not be content merely to sit at the table and watch in genial silence as the tastiest trade morsels are parcelled off to the faster, more dominant of their competitors. They will take their seat at the table and bang on that table, greedily, until those opportu-nities are within their grasp. The urge to be fastest among the network providers is driven by the traders own urge to be first to every trade.

    That terminal logic of competition at the pyramid of the spacethe notion that there can be only oneis part of the rea-son the industry appears ripe for consoli-dation. There are other forces at work, too. The inherent logic of the sector is centripe-tal, compelling the actors toward a rational-ization. Historically, telecom companies have always wanted to be in a monopoly, or at the very least a duopoly, Percy ex-plained. This space is no different. In addition, the technology has international potential; the model works anywhere that any trading firm active in disparate finan-cial centers needs to be connected. As such, the race to build the fastest and most reli-able network between New York and Chi-cago or New York and London can be seen as the race to prove a concept for global ad-aptation. Once you prove out one route, it becomes much easier to say, I can replicate this fairly easily across a number of other routes, argued Truelock of Roth Capital.

    And thats when M&A gets to be a lot more interesting.

    At the same time, overall trading vol-umes and volatility, which are the oxy-gen of high-frequency trading, have been steadily decreasing, making the trading space that ultra-low latency networks serve less profitable than it used to be. That thin layer of rich cream that could be skimmed off by the fastest players is no longer there, said Alex Tabb, CEO of Tabb Group, which forecasts a continuing decline in HFTs share of overall trading volume. Nor are the prevailing regulatory and political winds, particularly in the U.S., especially favorable to the industry. Depending on how an election breaks here or in Europe, sure, I could see how this whole thing could change, Moller said. HFT could get lumped into the same greed-monger-ing, credit default swap, phony mortgage, too big to fail bank stuff, and they could regulate the whole thing away. Following the Knight Capital debacle in August, in which a software glitch caused the market maker to lose $440 million in under half an hour, the Security Exchange Commission has scheduled a roundtable, due to meet on Oct. 2, to discuss measures to make the high-speed market less susceptible to tech-nology errors.

    Although no one expects the agency to make wholesale changes to the mar-ket structure or do anything to crimp the advantages of pure speed, the heightened regulatory scrutiny of the space, com-bined with the squeezing of order flow and profits, are causing a reassessment among trading firms of the outlay on high-cost, high-risk products such as those offered by the ultra-low latency network providers. Weve come to a nexus where the technol-ogy spend is 100% being looked at by the board of directors of every finance com-pany, Percy said.

    This is a textbook environment for ra-tionalization. Indeed, the trend has al-ready begun, in other, related corners of the financial technology universe. In July, TS Associates, a supplier of equipment to measure and monitor latency on high-speed trading networks, acquired Corre-lix, one of its competitors in the space. Cor-relix, which was venture capital-funded to the tune of $25 million, had exhausted

    its funding and lost key customers, but the two companies, according to TS Associates CEO Henry Young, had complementary products and customer bases, making a tie-up attractive. Young wont disclose the size of the deal, but insists it was well below Correlixs total funding base; now there is a two-horse race between TS Associates and its larger competitor, Corvil Ltd., in the latency monitoring game, confirm-ing Percys dictum about the duopolizing logic of the telecommunications business. Elsewhere, Zayo Group, the Denver-based fiber behemoth, has been busy confirming that logic on a much larger scale, embark-ing on a vigorous spree of acquisitions that crested, most recently, with the $2.3 billion purchase of AboveNet in July [See Gath-ering the orphans, Sept. 24.]

    The stage, then, is set. The space is al-ready attracting the interest of private eq-uity funds and strategic investors, but most industry observers feel the rationalization on the network side thats expected over the next 1224 months will take place via the time-honored channel: with bigger players swallowing their smaller competi-tors. The big companies buy networkthey dont want to have to go and buy $50 million of connectivity and then hope that the customers then come, Persico argued. Because they have greater means at their disposal, theyd rather pay $250 million and buy the network and the customers at the same time.

    Spread, as the heaviest hitter in the New York-Chicago corridor, is the candi-date most often mentioned as a potential acquirer of wireless network assets, but Barksdale, the CEO, insists the company is working on its own wireless offering, and the company refuses to be drawn on M&A plans. Spread, in this sense, remains faithful to the abracadabra approach to product publicity that it pioneered with its original fiber-optic network: You dont talk about the rabbit youve got in your hat until youve pulled it out of the hat.

    Other players are more open about how they are jockeying for position within the starting gates of the approaching M&A race. No one in the space goes so far as to brazenly erect a for sale sign; many of the

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    main players speak with a kind of prurient disdain of competitors that manage to Ebitda and build only to sell, as if the in-dustry were a quaint Victorian supper soci-ety devoted to the edification of public mo-rality. Theres a party line to maintain, and the party line is that you have to be in the race for the duration, not for the quick flip, to win it; but under that umbrella, the ap-proaches vary. Newgig, which according to CEO Zoldan will be embarking on a road-show with their advisers in October, seems open to a broad range of investment oppor-tunities, whereas Zoldan said a company such as Anova would only be interested in smart moneymeaning, money from a strategic investor thats already oriented in the space and could afford access to other-wise impenetrable markets that are of in-terest to the firm for its global expansion, such as India. That money would be very attractive to us. But a family office sitting in New York and scratching off a check for 10 million dollarsthat does nothing for us. Its money, and moneys useful, but its not strategic.

    Meanwhile, as the arms race speeds to its conclusion and the acquisition proposi-tion takes shape, Zayothe reigning cham-pion of global telecommunications M&Ais watching in engaged silence from the sidelines, its gargantuan appetite for new companies appropriately whetted. Weve tracked the space, admitted Zach Neber-gall, senior director of Zayos wavelength product group. But if you look at the his-tory of our M&A strategy, typically where we have our bread and butter acquisition strategy is in long-term durable revenue thats fairly sticky and fiber-based.

    Nebergall argued that with many HFT firms building latency out clauses into their contracts with the service provid-ersallowing them to terminate their leases, following the expiry of a brief cure period, if the latency performance of the particular network is not at the advertised levelthe stickiness and durability of the revenue in this space is not yet assured. Thats undoubtedly the case along many of the wireless networks, but along the fi-ber routes the argument loses some of its power. Zayo refuses to be drawn on any

    specific acquisition plans, but Nebergall leaves no doubt that there is a synergy be-tween the companys M&A strategy and a proven performer with a powerful revenue stream such as Spread. Im not sure that theyre looking to sell, but thats definitely close to the type of thing that wed look at, is his coy and diplomatic assessment. The key drivers, as Nebergall sees it, of the ra-tionalization ahead will be the eventual la-tency performance of each of the networks, the extent to which the revenue model sta-bilizes (will traders continue to be willing to pay a premium for this type of service, or will the revenue cushion prove to be all hot air?), and any further volatility in the political and regulatory static surround-ing HFT. But in terms of what Id expect to see from Zayo, I think the fiber acquisi-tions will still be top of the line for where our focus will be.

    No matter how the shakeout falls, the fundamental attractiveness of the business models in the spaceonce the networks are all built out, their speed is proven, and the revenue potential of the companies is realized, of courseseems likely to guar-antee chunky purchase price multiples in the event of any acquisitions. An analysis of four of the acquisitions made by Zayo over the past three yearsall of them completed in a space with a similar level of specializa-tion to this oneshowed that the company was, on average, happy to pay 13 or 14 times Ebitda for each purchase: The $117 million purchase of FiberGate in July was report-edly effected at 11 times Ebitda. Industry participants expect multiples in this space to fall into a similar range, which should give deal sizes a floor of around $100 mil-lion to $150 million.

    But the race does not end herewith dirty back-of-the-envelope multiple math and a quick dash for the exit. Even as the space seems headed toward an M&A reckoning, many are already grasping for the next frontier in technology. Spread, everyone claims (on a strictly not-for-attribution ba-sis), is working on building so-called hollow core fiber capabilities along its path, a tech-nology that will allow data to be transmit-ted through its underground cable at close to the speed of light. (Spread, not surpris-

    ingly, refuses to comment on the rumor.) Elsewhere, grand claims are being made about the possibilities that drones, blimps and satellites might bring to the arena. Persico argued that wireless radio technol-ogy will not remain terrestrially bound. This means that what has happened along the New York-Chicago land routea series of ultra-fast wireless competitors enter-ing the market to steal the dominant fiber players lunchcould potentially happen across the oceans.

    There are ways to go over water with radio technology, Anovas Persico insisted, without providing specifics of exactly what the radios would be tethered to to complete the required links across a whole ocean. If somebody will spend $400 million on a cable, why wouldnt they spend $100 mil-lion, $200 million or just as much to build a radio system?

    Mike Saunders and Jock Percy, whose firms (Hibernia Atlantic and Perseus Tele-com, respectively) are two of the more ag-gressive trans-Atlantic cable operators, naturally scoff at this suggestion. Yet many of the actors I spoke to, while pouring wa-ter on some of the more extravagant sug-gestions (strings of radio-equipped drones across the Atlantic, floating data centers, neutrinos shot through the earths crust), admit that they are actively working on prototypes to make some of the science fic-tion suggestions viable, cost-effective op-tions in this space. This stuff is far off, but its going to happen, Persico said. Finance has become a pull center for technological innovation.

    A few weeks after I first spoke to Percy, I contacted him again, on a weekend, to see if we could speak briefly to check a few facts. He immediately fired back a message. Sure, now is ok. Just dropping off a stut-tering Lamborghini at the club. He means the Manhattan Car Club.

    Im left with the image of Percy navigat-ing Saturday afternoon traffic in Manhat-tan with a speed machine built for open stretchesa neat analogy for where the in-dustry finds itself today. Even as consolida-tion beckons, the fantasists, fabulists, geeks and Top Gun aficionados that populate the space remain transfixed by the next fron-tier in speed: One eye is on the bottom line, the other is on the sky. n

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    Former Morgan Stanley banker Tony DAndraia launched Hyaline Capital Managements macro-driv-en long/short equity strategy fund. He is CEO while co-founder Justin Meadlin is chief operating officer and head of business development. Meadlin was previously a managing director at FBR Capital Markets Corp.

    HSBC plc named former Credit Suisse Group chief financial officer Renato Fassbind as an independent nonexecu-tive director, effective Jan. 1. Narayana Murthy will retire as a director on Dec. 31.

    State Street Global Advisors added Jacqueline Pang as head of capital markets for SPDR exchange traded funds, Asia-Pacific. Prior to joining SSgAs Hong Kong office, Pang ran the capital markets business at Amundi Investment Solution.

    Avalon Lake Partners named Harris Bogner as head of its compliance services group. Prior to launching Avalon Lake, Bog-ner was a director with WTP Advisors capital markets division, focusing on outsourced chief compliance officer and compliance support. Previously, he was CCO of Cadogan Management LLC and compliance manager at Bessemer Trust.

    The reasoning behind the move is that second-round filers are now confronted with filing Form PF, the firm said. Avalon added that in addition to addressing the Form PF filing, investment ad-visers have a greater amount of regulatory demands due to other new regulations since Congress passed the Dodd-Frank Act.

    Avalon Lake Partners recently spun out from WTP Advisors to provide advisory services to hedge funds, private equity firms and family offices.

    The Canadian government named John Pecman as interim Commissioner of Competition for up to one year following the resignation of Melanie Aitken. Pecman was most recently senior deputy commissioner in the criminal matters branch, where his duties included combating price fixing and bid-rigging. He has worked for Canadas Competition Bureau for almost 30 years and has served in every enforcement branch.

    Kevin Ackhurst, a lawyer at Norton Rose Canada LLP, said in a blog that Pecman has significant merger enforcement experience. Ackhurst noted that in the absence of a commissioner of competition, the senior deputy commissioner of the merg-ers branch traditionally serves as interim commissioners, but the current mergers chief, Kelly McKinnon, has only been in that post since early August. Pecmans appointment is a sound choice, Ackhurst said. He is an experienced manager with a solid enforcement record, is known to be pragmatic and practical, and is well regarded both domestically and internationally, Ack-hurst said. He also noted that the decision to appoint Pecman for up to one year suggests that the government might be planning a lengthy search for the next commissioner. William McConnell

    Private equity firm August Equity LLP hired Stuart Quin as an investment director, focusing on the health-care sector. Quin was most recently lead healthcare investor at 3i Group plc in the U.K. Prior to this, he was a manager in Accentures health and life sciences strat-egy consulting practice, based in Washington.

    PNC Financial Services Group appointed Ryan Tiz-zard as vice president of business development for the Western Canadian prairie region. Based in Calgary, Alberta, Tizzard provides lending support to midmarket clients in the Alberta and Saskatchewan provinces. He spent more than eight years with Deloitte & Touche Corporate Finance Canada, advising clients in the oil and gas, construction, transportation, manufac-turing and food and beverage sectors.

    Orrick, Herrington & Sutcliffe LLP announced that David Concannon joined the firm as a partner in its emerging compa-nies group, resident in New York. Formerly with Andrews Kurth LLP, Concannon covers general corporate and securities work, focusing on capital markets, mergers and acquisitions, and ven-ture capital transactions for technology companies.

    King & Spalding LLP added Mark Polston as a partner in its Washington healthcare practice. Polston joins the firm from the U.S. Department of Health and Human Services, where for the past seven years he was deputy associate general counsel for litigation in the office of general counsel, CMS division.

    Christopher Casamassima joined Wilmer Cutler Pickering Hale and Dorr LLPs Los Angeles office as a member of the litigation/controversy and regulatory and government affairs departments and the business trial and antitrust and competi-tion practices. Casamassima was previously at Kirkland & Ellis LLP.

    The management committee of K&L Gates LLP voted unani-mously to elect Peter Kalis to a fifth consecutive term as the firms chairman and global managing partner. He has held the role since 1997, when the firm was known as Kirkpatrick & Lock-hart, and will serve through February 2017. Kalis guided the firm through eight mergers. The firm reached more than $1 billion in revenue for the third straight year in 2011.

    Separately, the firm added Hugh Ma-tsubayashi as a Seattle partner in the intellectual property procurement and portfolio management practice. Matsubayashi joins K&L Gates from Neu-roVista Corp., where he was vice president of legal affairs and intellectual property. He was a partner at intellectual property law firm MacPherson Kwok Chen & Heid LLP (now Haynes and Boone LLP). Earlier, he was a patent associate at Morrison & Foerster LLP and senior patent counsel for Sun Microsystems Inc. n

    MOVERS & SHAKERScompiled by baz Hiralal

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    BRIEFLY NOTEDEDITED by ThE DaIly DEal sTaff

    bp sells acid business to reliance for $230MBP plcs sweeping disposals program continued Friday, when the London-based oil company said it had sold a Malaysian acid maker to a unit of Indian conglomerate Reliance Industries Ltd. for $230 million. The deal boosts BPs asset sales to about $33 billion since the start of 2010, leaving it $5 billion short of its goal of raising $38 billion by the end of 2013. The BP unit, BP Chemicals (Malay-sia) Sdn Bhd, can produce as much as 610,000 tons per year of terephthalic acid, used to produce polyester for clothes and polyethylene terephtha-

    late, or PET, bottles. BP ac-counts for about 20% of global terephthalic acid production and said the sale was part of a shuffling of assets to focus on higher growth markets such as China. The sale is expected to complete before the end of the year. Paul Whitfield

    sony takes olyMpus stake worth $644M, forMs JVJapanese consumer elec-tronics maker Sony Corp. said Friday it would pay 50 billion ($644 million) for an 11.3% stake in struggling cam-era and medical devices group Olympus Corp. Sony will spend 1,454 per Olympus share, buying almost 38.4 mil-

    lion shares in two tranches. The companies will also by year-end form a joint venture to focus on medical technolo-gy, a market that Sony, which will own 51% of the venture, had earlier said it wants to enter. They also plan to look at ways to combine their digital camera businesses. Olympus last year admitted to a long-running accounting fraud, restated five years of earnings and wrote down $1.3 billion of net assets. Olympus shares closed up 26 at 1,520, giv-ing the company a market value of 412.4 billion. Sony was worth 923.3 billion as of Fridays close in Tokyo.Laura Board

    sciQuest acQuires spend radar in $17.5M dealCary, N.C., business sup-ply management software company SciQuest Inc. said Friday it had acquired spending analysis software company Spend Radar LLC of Chicago for up to $17.5 mil-lion. SciQuest is buying Spend Radar for $8 million in cash and $2 million of common stock. The deal also includes a $7.5 million earnout con-sisting of cash and stock if Spend Radar achieves certain revenue performance targets over the next five quarters. The deal should close on or about Oct. 1. n Thomas Zadvydas

    Bank of America Corp. agreed Friday to pay $2.43 billion to settle shareholder litigation over its 2009 purchase of Mer-rill Lynch & Co.

    U.S. District Court judge Kevin Castel must approve the settlement.

    Bank of America still faces two cases arising from the deal, one a shareholder derivate suit before Chancellor Leo E. Strine Jr. of the Delaware Court of Chan-cery, the other a matter brought by the New York attorney general in State Su-preme Court.

    In February 2010 the bank paid $150 million to settle a case in which the Secu-rities and Exchange Commission claimed that Bank of America failed to disclose material information to its shareholders about losses at Merrill and bonuses to be paid to its bankers before the sharehold-ers voted to approve the deal.

    Jed Rakoff, a colleague of Castels on the U.S. District Court in Manhat-tan, rejected the agencys initial settle-

    ment with Bank of America and only reluctantly approved the revised set-tlement.

    All four cases stem from Bank of Americas $19 billion acquisition of Mer-rill Lynch, a deal struck on the same September 2008 weekend that Lehman Brothers Holdings Inc. failed amid a deepening financial crisis.

    Bank of Americas CEO at the time, Kenneth Lewis, came under intense criticism for agreeing to the deal and re-signed in October 2009.

    The $2.43 billion settlement is mas-sive by just about any measure.

    According to a statement from one of the plaintiffs in the case, Dutch pension fund PGGM Vermogensbeheer BV, its one of the four largest payouts by a single corporate defendant for violations of the federal securities laws and the largest in which there was no financial restatement or criminal convictions related to the al-leged misconduct.

    Bank of America also agreed to imple-

    ment or extend various corporate gov-ernance measures as part of the settle-ment.

    Lawyers from three firms took the lead for the shareholder plaintiffs: Max Berger and Steven Singer of Bernstein Litowitz Berger & Grossmann LLP in New York; Robert Kaplan and Frederic Fox of Kaplan Fox & Kilsheimer LLP in New York; and Darren Check and Da-vid Kessler of Barroway Topaz Kessler Meltzer & Check LLP in King of Prus-sia, Pa.

    Bank of America Corp. also used law-yers from three outside law firms: Theo-dore Wells Jr., Brad Karp, Daniel Kramer, Walter Rieman, Marc Falcone and Audra Soloway of Paul, Weiss, Rifkind, Whar-ton & Garrison LLP; Mitchell Lowen-thal, Lewis Liman and Jennifer Kennedy Park of Cleary Gottlieb Steen & Hamil-ton LLP; and Peter Hein and Eric Roth at Wachtell, Lipton, Rosen & Katz, which advised Bank of America on the deal it-self. n

    BofA to pay $2.4B in suit arising from Merrill dealby DavID Marcus

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    VENTURE CAPITALmore at the deal PiPeline > Quarterly trends fundings, all rounds fundings, by industry co-investor listings

    As flash memory deployments increase in data centers and corporate networks, capi-tal is flowing to companies developing the technology.

    In September, flash company Virident Systems Inc. announced a $26 million round of venture financing and Nimble Storage, of San Jose, Calif., tapped $40.7 million in mezzanine funding.

    They are part of what Robert W. Baird & Co. technology banker John Moriarty described as an emerging wave of high-performance companies in flash that could become candidates for buyouts or initial public offerings.

    In addition to Virident and Nimble Stor-age, Moriarty points to Pure Storage Inc., Violin Memory Inc., Nimbus Data Sys-tems Inc. and Fusionio Inc., which went public last year and has a market cap of nearly $3 billion.

    With big data, more virtualization and social media requiring Web-scale infra-structure, the amount of data being stored is bigger and bigger, Moriarty said. It also needs to be higher performance.

    He draws a parallel to a series of transac-tions from a previous spate of storage buy-outs.

    Storage company EMC Corp. outbid NetApp Inc. with a $2.2 billion takeout of data archiving company Data Domain Inc. Hewlett-Packard Co. trumped Dell Inc. with a $2.3 billion acquisition of data stor-age provider 3Par Inc. in 2010. Hitachi Ltd. purchased network storage equipment maker BlueArc Corp. in 2011

    They were also focused on handling large amounts of data at scale, Moriarty said.

    Solid-state flash drives, which oper-ate electronically, without moving parts, perform better than magnetic drives with spinning disks. For fifty years all storage systems have been built around magnetic

    or mechanical disk drives, Nimble Storage CEO Suresh Vasudevan said. This is the first time we have another form of stable storage media.

    The process has been evolutionary.Seven or eight years ago, Vasudevan said,

    flash memory became suitable for consum-er devices such as iPhones, iPods and lap-tops. Apple Inc. was a driving force. It was appealing because drives were small, drew limited battery power and could survive handling and drops.

    With widespread use in consumer de-vices, prices went down, which helped open the enterprise market. The performance was always there but the price point was high enough that it was not commercially viable, he explained.

    Nimble has raised $98 million, including the mezzanine funding from Sequoia Cap-ital, Accel Partners, Lightspeed Venture Partners, Artis Capital Management and GGV Capital in September.

    Nimble has deployed close to 1,200 sys-tems over the past two years, nearly half in the past six months.

    We believe that over the next decade

    in enterprise storage, which is roughly a $30 billion hardware market, not counting software, almost every product line will go from traditional disk drives to flash or a combination of flash and disk drives, Va-sudevan said.

    Along with its D round of financing, Vir-ident has brought in CEO Mike Gustafson, who led BlueArc when the company sold to Hitachi.

    Most of the enterprise customers today, the people who are the largest spenders on IT, and the movers of tech adoption, are thinking about this in a big enough way that every storage company has to think, What is my strategy? Gustafson noted.

    He suggested flashs performance and other benefits would change the architec-ture of data centers, which have grappled with sprawling servers and high-power consumption as data usage has grown.

    The demand could lead to partnerships between companies in different segments of networking and storage, Gustafson said, if not immediate M&A. The company has

    By chris Nolter

    News on flashAs demand grows, funds flow into companies providing high-performance storage technology

    NImbLE sToRAgE CEo sUREsh VAsUdEVANVIRIdENT CEo mIkE gUsTAfsoN

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    ARBITRAGERegulatoRy updates poison pills all M&a ytdmore at the deal PiPeline >

    The terms of Columbia Banking System Inc.s $450 million acquisition of West Coast Bancorp have been difficult to parse since its announcement Sept. 26.

    The regional bank merger combines op-erations in the Pacific Northwest and re-quires regulatory approvals in Oregon and Washington as well as from the Federal Re-serve and Federal Deposit Insurance Corp. The deal likely will close in March 2013.

    Based on the conference call announcing the transaction, it seems that West Coast may not have been thoroughly shopped, but the prospects for a spoiler bid in a banking deal are quite slim.

    The arb question, at least initially, has been what the transaction is worth on a per share basis for West Coast investorsbasi-cally, how to play it.

    The terms and structure of the deal were difficult to divine on the announcement. The call by Columbia Banking was of little assistance and a slide presentations failed to clearly explain the mechanics.

    The companies expect that the merger agreement, which should fill in some gaps,

    will be filed either late Friday or Monday.It appears, however, that the transac-

    tion will include a pricing period designed to present West Coast shareholders with a cash and stock election where the choice of either consideration is as close in value as possible on the day of the election. These details were not provided on the deal an-nouncement, but are logical presumptions based on what information was provided.

    Columbia is acquiring West Coast for a set amount of cash and stock: $246.47 mil-lion cash and slightly more than 12.8 mil-lion Columbia shares. That consideration is fixed. What is not certain, and could not be explained by the companies on the deal call, is what, on a per share basis, West Coast is worth in the deal. Because the cash and stock consideration is fixed and West Coasts diluted share count is 21.9 million, the terms on a per share basis should be simple arithmetic. Apparently, that is not the case.

    On a prorated basis assuming a 50-50 split between cash and stock, West Coast shares could be worth about 0.5849 of a Columbia Banking share and $12.07 in

    cash. Based on those terms and excluding dividends, which are practically a wash, the deal spread Friday was 45 cents, or 2.2%. Assuming a March 1 close, that represents an annualized return of 5%.

    But the deal will be structured with a pricing period for the trading of Columbia shares to set the value of West Coast based on the aggregate cash and stock to be issued in the deal. West Coast shareholders would be allowed to receive either a cash payout or a relatively equal value in Columbia shares based on the pricing period. This is not an unusual deal structure, but it was not ex-plained in the deal announcement.

    The effect of the structure is to have shareholders make their cash or stock elec-tion when the value of each is relatively equal. Under a more fixed scenario, if Co-lumbias shares sank before the election deadline, more West Coast shareholders would likely choose the cash option, which would limit the amount of cash available in the proration. This structure then could benefit larger shareholders in West Coast who may like to cash out of the stock as much as possible with the deal close. n

    by Scott Stuart

    Columbia-West Coast deal leaves investors guessingBanks have not been helpful in setting the transactions value on a per share basis

    struck agreements with EMCs VMware, for example.Virident has raised a total of $76 million. Mitsui Global Invest-

    ments led its latest round, with Hercules Technology Growth Capital, Globespan Capital Partners, Sequoia Capital and Arti-man Ventures.

    Among other flash companies, Pure Storage raised $40 million in August from a group including Swiss venture capital firm Index Ventures, Greylock Partners, Redpoint Ventures, Sutter Hill Ventures, VMware and DataDomain.

    Violin Memory had targeted an IPO in 2012, but now declined to comment. In April, the Mountain View, Calif., company raised $50 million and said that the investment valued the entire business at $800 million.

    Salt Lake City flash company Fusionio went public in 2011. In its first year as a public company, revenue increased 82% to $360 million.

    There are many others.Vasudevan estimates that from 2008 to 2010, as many as 30 to

    40 flash memory companies were started. Some have struggled to reach 100 product deployments. Many could flame out or be ac-quired, Vasudevan suggested.

    In fact, some deals have already gone down. IBM Corp. bought Houston flash developer Texas Memory Systems in August. EMC announced the purchase of Israeli firm XtremIO in May.

    IBM and EMC could still be acquirers, Moriarty said. And Dell has aggressively used M&A to build its services for corporations and other large organizations, going back to its $3.9 billion purchase of Perot Systems Corp. in 2009. The company won a bidding war for Quest Software Inc. earlier this year with a $2.4 billion offer.

    Moriarty suggested that Hewlett-Packard and NetApp could also acquire flash companies.

    With all that potential dealmaking, the industry could change in the blink of an eye. n

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    PRIVATE EQUITYripe pe candidates by industry pe auction bidder listings pe auctions latest sellersassetsmore at the deal PiPeline >

    On a recent Friday evening, as David Wil-ton prepared for back-to-back trips to Eu-rope and India, the chief investment officer for International Finance Corp.s private equity division took time out to figure one needling question: Just how many coun-tries has the IFC touched through portfolio investments by PE funds it has backed?

    Get a pen and pad and every time I say a new [country] name, score it, he instructed a reporter, deciding the old-fashioned way in this case beats an Excel spreadsheet.

    Wilton moves chronologically, from the time in 2000 when he took over and completely revamped the way IFC, as a fund-of-funds, fashioned its investments. (Another IFC division makes direct equity investments in emerging markets compa-nies themselves.) The first few names are emerging markets stalwarts: China, Russia, Thailand, Brazil, India and South Africa. By the time he nears the end of the list, Wilton is in the farthest reaches of frontier mar-kets: Tunisia, Trinidad and Tobago, Tanza-nia and Togo, just to recount the Ts.

    The final tally: 67 countries.Youre kidding, Wilton said. I didnt

    know were that diversified.When it comes to emerging markets

    fund-of-funds, the IFC is pillar, pioneer and trendsetter. Its charter is to go where other institutional capital fears to tread and, once the private equity markets are established, get out of the way.

    However, Wilton maintained that being invested in such a huge swath of the world actually helps the returns profile.

    Diversification has paid off, Wilton said, adding the IFC scores returns num-bers with less volatility than the Cambridge Associates Emerging Markets Venture Capital and Private Equity Index, the stan-dard benchmark for emerging markets in-vestments.

    From 2000 until June 2012, IFCs in-

    ternal rate of return stood at 19.7%. Thats down from 22.2% from 2000 until June 2011, but compares well with the Cambridge Index, which shows an 11.2% IRR and a top quartile of 14.6% for the 10 years ended Dec. 31, 2011.

    The IFC beats the Cambridge Index de-spite a far heavier weighting in Africa24% as opposed to the Cambridge Indexs 6%and far less in Asia30% as opposed to 65% for the Cambridge Index.

    Whats more, Wilton said, the IFC com-mits each year to some newly conceived funds that are expected to do no more than repay the investment.

    According to Wilton, investments from the vintage years 2000 to 2005 have pretty much been realized. That return cash-on-cash multiple is two, he said.

    To date, the IFC has invested a total of

    about $3.5 billion in approximately 185 pri-vate equity funds. On average, the agency invests $400 million to $500 million a year in anywhere from 20 to 25 funds. Of those, IFC selects five to seven funds that focus strictly on environmental/climate change-related investments.

    Another three each year target the emerging markets outermost reaches. In March, for example, the IFC announced it would invest up to $10 million in Leopard Capitals Haiti Fund, the corporations first foray into Haiti.

    Even some of the corporations invest-ments in funds that target the bigger emerg-ing markets such as India and Brazil are now geared toward far-flung provinces and cities. Its not so much hanging around in Rio and So Paulo, Wilton said.

    Typical investment size is about $20 mil-lion, although the IFC has invested as little as $2 million. Last year, the IFC invested $100 million in China-ASEAN Investment Cooperation Fund, which matches its larg-est commitment ever.

    The IFC juggles several goals through its investments.

    Our primary concern, when we started out, was to get proof of concept that private equity actually worked in emerging mar-kets, Wilton began. Thats a strictly com-mercial undertaking.

    But the IFC exits funds once they dont need us anymore, generally when they get to fund three or four and theyre raising about several hundred million dollars, Wilton continued. That means the IFC al-most by default backs smaller funds that tend to invest more in small and medium-sized enterprises. These smaller companies have a different kind of risk/return profile, although the IFC maintains they are not as risky as commonly perceived. Some of these individual portfolio companies have values

    By matt miller

    Helping markets emergeLed by David Wilton, the IFC goes where most institutional capital fears to tread

    InTERnATIonAl fInAncE cIo dAVId wIlTon

    conTInUEd >

    17 ThE dAIlY dEAl M o n d AY o c To b E R 1 2 0 1 2

    http://pipeline.thedeal.com/rpec?s=ddpdfhttp://pipeline.thedeal.com/peab?s=ddpdfhttp://pipeline.thedeal.com/pea?s=ddpdfhttp://pipeline.thedeal.com/lsa?s=ddpdf

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    REGULATION

    WellPoint Inc. will sell all of Amerigroup Corp.s managed care operations in Virgin-ia to Fairfax, Va.s Inova Health System to address Department of Justice antitrust concerns about the $4.9 billion merger of WellPoint and Amerigroup.

    The sale of Amerigroup Virginia Inc. is conditioned on the closing of WellPoints takeover of the Amerigroup parent compa-ny, officials of the merging companies said Friday.

    The sale of the Virginia subsidiary will not require any change to the WellPoint merger agreement and both transactions are expected to close concurrently in the fourth quarter.

    WellPoint had disclosed previously that the DOJs merger investigation was limited

    to the Virginia market, a sign investors took to mean that the antitrust review would be little threat to the deal.

    WellPoint already has three compa-nies doing business in VirginiaAnthem Health Plans, Healthkeepers and Uni-Care Life and Health Insuranceand they hold a combined 50% market share in Virginia, according to a 2011 report from the Virginia Corporations Commis-sions Bureau of Insurance. WellPoints companies cover more than 1 million peo-ple in the state and collected $4.1 billion in premiums in 2011.

    Indianapolis-based WellPoint, formed by the 2004 merger of WellPoint Health Networks and Anthem Inc., is also the larg-est national insurer in the Blue Cross and Blue Shield Association.

    Although Amerigroup is based in Vir-ginia Beach, Va., and was formed in 1994, it did not offer coverage in Virginia until 2005. Currently, it serves 41,000 individu-als in the state.

    One of the reasons the WellPoint-Ameri-group merger came about was because af-ter Amerigroup chairman and CEO James Carlson received expressions of interest from other carriers, as well as WellPoint, his board decided the WellPoint offer posed the least antitrust risk among the viable op-tions.

    According to Amerigroups securities filings, only one other possible buyer, un-named in the filings but reportedly Vir-ginias No. 2 health carrier, CareFirst Inc., had the interest or financial wherewithal to make a competing bid. n

    by bill Mcconnell in Washington

    WellPoint to shed Amerigroups Virginia unitDivestiture meant to secure DOJ approval for $4.9 billion merger

    of just $500,000 to $1 million.Along with financial returns, Wilton and

    his team must ascertainand report to the boardthe gains each portfolio company investment makes in terms of specific social benefits, development indicators and envi-ronmental benchmarks. So, for example, the IFC requires investments that translate into job creation at more than the rate of gross domestic product growth.

    The desired end result, Wilton said, is that theyre remunerative and they have good impact.

    More than half the funds the IFC invests in are first-time offerings. The IFC plays a role similar to that of an anchor investment in a traditional fund, although it doesnt demand preferential terms as anchor LPs often do.

    The IFC pretty much wrote the book on emerging markets private equity. Wilton, now 51 and a New Zealand native, wrote the IFC playbook. He came to the World Bank subsidiary in 2000 from the World Bank it-self, where he was managing private equity

    investments for the banks pension fund. The IFC had started to invest in private

    equity funds a decade earlier. That experi-ment fizzled. The original model was the U.S. private equity practitioner and the big-impact, leveraged buyout. The likes of Kohlberg Kravis Roberts & Co. LP and Blackstone Group LP, however, just didnt translate well to emerging markets. Returns were subpar and investments were eating up the IFCs own capital, as leverage wasnt readily available.

    We confused total demand for equity fi-nance with the availability of private equity dealflow, and theyre not the same thing at all, Wilton explained.

    Buyout opportunities lagged intent. Wed backed funds in countries that had inadequate dealflow, so there wasnt enough selectivity, Wilton said. Either the guys failed to invest and we were paying fees on money that was never invested or else to-ward the end of the funds life theyd panic and just stuff it full of rather weak invest-ments.

    After Wilton moved to the IFC, he reset the private equity program. Wilton insisted

    on emphasizing what he calls a bottom-up approach to emerging markets private eq-uity. This doesnt so much focus on the mac-roeconomics of a particular country, but on the reservoir of individual, high-growth-potential companies and on what a partic-ular private equity team could offer, most notably the potential for further growth through everything from improvements in distribution networks and supply chains to markets expansion.

    That expertise is a necessary calling card because in most cases, emerging markets private equity translates into a minority stake, not a buyout, and in equity, not debt.

    The key, Wilton maintained, is to find a private equity team with operational tal-ent. Investment bankers are great at finan-cial structuring, but financial structuring isnt that important in most countries for emerging markets private equity, he said. If youve got people whove got corporate operating experience, theyve managed di-visions or theyve been entrepreneurs, they can get alongside the majority owner of the company and really help them build the business. n

    < PREVIOUS

    18 ThE dAILy dEAL M O N d Ay O c TO b E R 1 2 0 1 2

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    J. Travis Laster has shown a keen interest in the mechanics of share-holder litigation in his three years on the Delaware Court of Chancery, and that theme continued on Sept. 25 with a 41-page opinion in South v. Baker, a derivative suit against Hecla Mining Co. The Delaware vice chancellor un-derscored his wish that shareholder plaintiffs file only derivative com-plaints supported by a strong factual basis in holding that a plaintiff who had instead rushed to court with slap-dash papers acted disloyally and was not an adequate fiduciary for the corporation.

    The judges decision is one more impetus for plaintiffs to request a companys books and records related to a potential complaint under Section 220 of Delawares corporate code be-fore filing an action. In the other im-portant element of the decision, Last-er held that his dismissal of the suit would not preclude other Hecla shareholders from bringing simi-lar claimsarising from a series of mine accidentsif the share-holders offer evidence that the Hecla board knew of the companys lax safety standards and failed to push for greater compliance with applicable regulations. (In a derivative suit, a shareholder sues on behalf of the company and alleges that directors and officers wrongfully damaged it.)

    Thompson Bayliss, a partner at Abrams & Bayliss LLP in Wilmington, said in a memorandum to clients that Lasters de-cision might change the way derivative litigation is conducted in Delaware: The South opinion could end the recurring pattern in which derivative plaintiffs race to the courthouse, file weak com-plaints, obtain a claim-preclusive dismissal order, and thereby block subsequent stockholders from asserting demand futility al-legations, even where the later claims are bolstered by adequate investigation.

    Instead, Bayliss wrote, the decision could convert the race to the courthouse into a race to seek books and records, which are typically provided under a confidentiality agreement, which often includes a forum selection clause. That in turn could reduce the likelihood of litigation in multiple jurisdictions.

    Hecla, which is based in Coeur dAlene, Idaho, and incorporated in Delaware, had three significant mining accidents last year and

    in January announced that the U.S. Mine Safety and Health Administra-tion had ordered it to close one of its two silver mines pending removal of sand and concrete that had accumu-lated over a number of years. Hecla complied and as a result lowered its estimated silver production for 2012 from 9.5 million ounces to 7 million ounces. Seven derivative actions soon followed, three of them brought in Idaho federal court, three in Idaho state court, and one in the Delaware Court of Chancery.

    Laster focused on the Delaware plaintiffs failure to make a deliber-ate and thorough pre-suit investiga-tion before filing their suit. The judge is alert to the ways in which the inter-ests of a shareholder plaintiff and his or her lawyers can diverge, and in the Hecla case, he wrote in the opinion: The plaintiffs counsel confirmed

    that he filed when he did because of the pressures described in the Allergan decision and the fear that plaintiffs who moved more quickly in Idaho might gain control of the suit.

    In a decision arising from derivative litigation against Allergan Inc. that Laster issued in June, he painstakingly analyzed the per-verse incentives at play in such cases. There, he declined to dismiss derivative litigation against Allergan, the maker of Botox, even though a California federal judge dismissed a suit against the com-pany arising from the same set of facts because Laster was suspi-cious of the way the California plaintiffs litigated their case.

    Allergan is now on appeal to the Delaware Supreme Court, and, Laster noted, good faith disagreements exist about whether the prejudicial dismissal of a derivative suit brought by one sharehold-er should bar others from bringing a similar suit undergirded with better factual support. Laster referenced Allergan seven times in the Hecla opinion, and to bolster his position, he made even more frequent mention of the Delaware Supreme Courts two decisions in King v. VeriFone Holdings Inc., which involved the same issue.

    Bayliss noted that Lasters holding on the non-preclusive effect of his dismissal could complicate efforts by derivative defendants to advance dismissal practice in one jurisdiction, obtain a dismiss-al ruling, and then invoke that rulings claim-preclusive effect to block potentially more dangerous derivative suits elsewhere. n

    By DaviD Marcus

    No early dismissalA recent Delaware ruling should provide derivative plaintiffs with an incentive to file carefully

    SAFE HARBOR

    vicE cHAncEllOR j. tRAviS lAStER

    19 tHE dAily dEAl M O n d Ay O c tO B E R 1 2 0 1 2

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    COMPANY INDEX

    A-k

    Abrams & Bayliss LLP . . . . . . . . . . . . . . . . . . 19

    Accel Partners . . . . . . . . . . . . . . . . . . . . . . . . . 15

    Accenture . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13

    Allergan Inc . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19

    American Tower Co . . . . . . . . . . . . . . . . . . . . . 9

    Amerigroup Corp . . . . . . . . . . . . . . . . . . . . . . . 18

    Amundi Investment Solution . . . . . . . . . . . 13

    Andrews Kurth LLP . . . . . . . . . . . . . . . . . . . 13

    Anova Technologies . . . . . . . . . . . . . . . . . . . . . 7

    Apple Inc . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

    Artiman Ventures . . . . . . . . . . . . . . . . . . . . . . 16

    Artis Capital Management . . . . . . . . . . . . . . 15

    August Equity LLP . . . . . . . . . . . . . . . . . . . . . 13

    Avalon Lake Partners . . . . . . . . . . . . . . . . . . . 13

    Bank of America Corp . . . . . . . . . . . . . . . . . . 14

    Barroway Topaz Kessler

    Meltzer & Check LLP . . . . . . . . . . . . . . . . . 14

    Bernstein Litowitz

    Berger & Grossmann LLP . . . . . . . . . . . . . 14

    Bessemer Trust . . . . . . . . . . . . . . . . . . . . . . . . 13

    Blackstone Group LP . . . . . . . . . . . . . . . . . . . 18

    BP plc . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14

    Cadogan Management LLC . . . . . . . . . . . . 13

    CareFirst Inc . . . . . . . . . . . . . . . . . . . . . . . . . . . 18

    Cielo Networks . . . . . . . . . . . . . . . . . . . . . . . . . 10

    Citadel LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8

    Cleary Gottlieb Steen

    & Hamilton LLP . . . . . . . . . . . . . . . . . . . . . . 14

    Columbia Banking System Inc . . . . . . . . . . 16

    Corvil Ltd . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11

    Credit Suisse Group . . . . . . . . . . . . . . . . . . . . 13

    Crown Castle . . . . . . . . . . . . . . . . . . . . . . . . . . . 9

    Dell Inc . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

    Deloitte & Touche

    Corporate Finance Canada . . . . . . . . . . . . 13

    EMC Corp . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

    FBR Capital Markets Corp . . . . . . . . . . . . . . 13

    Fusionio Inc . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

    Getco LLC . . . . . . . .