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April 30, 2002

Instinet Faces Rocky Times: An Executive Departure Highlights Woes

By Gregory Bresiger

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  • Instinet Faces Rocky Times: An Executive Departure Highlights Woes

Whither Instinet? The prob lems of this ECN are about the same as those other alternative trading systems are facing these days: low trading volumes, declining profit margins, a stock market that has turned sour on the once strong stock and a new trading platform that many ECN officials fear will hurt them.

"They're in a tough spot. There's no doubt about that," according to Adam Townsend, a securities industry analyst with J.P. Morgan.

Instinet Group LLC., once the Hertz but now the Avis of electronic communications networks, has competitive and technological challenges like Nasdaq. It has become a problem child for its parent, Reuters Group, which recently removed Doug Atkin, the longtime president and chief executive of Instinet. These problems have been building for several years.

But they came to a head with the introduction of decimal pricing. That's when profits also tumbled among Nasdaq market makers, a group that has been a major supplier of Instinet order flow and business. The reduced margins among dealers forced Instinet in turn to reduce its own pricing.

"While Instinet has an advantage over other ECNs in market penetration and liquidity depth for institutional order flow, it also faces challenges similar to Nasdaq as it attempts to upgrade its technology and compete with smaller, innovative competitors," Meridien Research wrote in a report in 2000. Those challenges have come to pass.

In short, say observers of the trading industry, Instinet, the first ECN in 1997, is experiencing the problems of a relatively old business. It is the granddaddy of the ECN business. And granddaddy is feeling his age these days.

In January, Instinet was relegated to the position of the Avis of the ECN business when it was passed by Island. Over the past year, Instinet has lost some 20 percent of its market share, which now stands at about 11 percent of Nasdaq trade volume. And this comes at a time when all ECNs are facing pressure because Nasdaq, which itself is under competition from new sources, is about to launch its SuperMontage.

The latter, Nasdaq critics charge, is a scheme designed to eliminate ECNs by penalizing those that don't use its new system or only use it for a part of their executions.

"I think Instinet, along with the other ECNs, is going to have a lot of problems surviving. It is going to have many problems. The numbers have been bad," according to Julian Rainero, a securities industry attorney in New York. These numbers have shown up already.

Hard Times

Profits took a dive last year, according to company figures. Although revenues rose in 2001 by eight percent to $5.6 billion, the bottom line was a disappointment. Operating profits were down by 26 percent in contrast to the previous year to $438 million. (Compare this to the 1995-1999 period when profits were consistently rising).