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* Deal will strengthen Jefferies' balance sheet
* Leucadia will be able to use tax benefits
* Expected to close in Q1 2013
* Jefferies' shareholders will end up with 35 pct of Leucadia
By Jed Horowitz and David Henry
Nov 12 (Reuters) - Investment company Leucadia National Corp said it will buy Jefferies Group Inc in a deal that values the investment bank at $3.6 billion.
Leucadia, which has been called a mini Berkshire Hathaway for its holdings ranging from real estate to mining, already owns about 29 percent of Jefferies.
The deal is aimed at strengthening Jefferies' balance sheet and bolstering investor confidence because of the company's relatively high risk profile. The bank has been trying to turn itself into a full-service investment bank instead of a niche player that focused on areas like underwriting junk bonds.
But its balance sheet has held it back, particularly in areas like trading. Moody's Investors Service downgraded Jefferies in October to just a step above junk status, saying its growth has added to its risk.
Under the agreement, Jefferies shareholders will receive 0.81 of a Leucadia share for each Jefferies share held, valuing Jefferies at $17.66 per share, a premium of 24 percent to its Friday closing price of $14.27.
The deal will provide Jefferies with "greater balance sheet resilience" and allow it to better handle volatile markets, the companies said in press release Monday morning.
The deal will also result in lower taxes on Jefferies' profits by using income tax benefits Leucadia holds from past operating losses in companies it owns, they said. Jefferies can utilize the benefits because it consistently generates more taxable income than Leucadia.
In no longer having to pay dividends, Jefferies also builds cash to bolster its balance sheet and fund its trading, the companies said. Leucadia said it will convert from paying an annual dividend to the quarterly schedule currently used by Jefferies.
"This will allow us to play offense at Jefferies," its chief executive Richard Handler said on the call. "It will allow Lecuadia a way to invest its excess liquidity."
Jefferies' credit rating was cut on Oct. 16 to Baa3, one notch above junk, or speculative grade, by Moody's Investors Service. Moody's cited the investment bank's aggressive growth strategy and increased challenges of operating an investment bank in the face of capital market risks.
Moody's on Monday affirmed Jefferies' ratings and put the junk-rated Leucadia on review for possible upgrade.
Jefferies shares jumped by 12 percent in early morning trading Monday.
Jefferies Chief Executive Richard Handler will retain his title at the combined company. Leucadia Chairman and Chief Executive Ian Cumming will retire.
The deal, expected to close during the first quarter of 2013, will leave Jefferies shareholders owning about 35 percent of Leucadia's common stock.
With Leucadia's 29 percent of shares and another 11 percent held by Handler and Jefferies President Brian Friedman, shareholder approval is all but guaranteed and competitive outside bids are "highly unlikely," JMP Securities analyst David Trone wrote in a note to clients.
Jefferies was founded in 1962 in Los Angeles to trade large stock orders for investors away from the New York Stock Exchange. It evolved from a so-called third market firm when Handler--who earlier traded junk bonds under Drexel Burnham Lambert's Michael Milken--joined in 1990 to build its bond trading prowess.