MarketAxess Holdings Inc. — Q1 2012 Form 10-Q
Reporting period: Three months ended March 31, 2012; comparisons are with Q1 2011 unless otherwise noted. Financial statements are unaudited. MarketAxess operates an electronic platform for trading corporate bonds and other fixed-income instruments, with commissions as its primary revenue source.
Financial performance and position
| Metric | Q1 2012 | Q1 2011 / comparison |
|---|---|---|
| Revenue | $50.7 million | $43.6 million; up 16.3% |
| Commissions | $44.9 million | $37.8 million; up 18.8% |
| Total expenses | $28.0 million | $25.9 million; up 7.9% |
| Income before taxes | $22.7 million | $17.7 million; up 28.8% |
| Net income | $13.5 million | $10.8 million; up 25.1% |
| Diluted EPS | $0.35 | $0.27 |
| Operating cash flow | $13.4 million | $1.1 million |
Net margin was approximately 26.6%, versus 24.7% in Q1 2011; pretax margin was approximately 44.8%, versus 40.5%. The effective tax rate increased to 40.7% from 39.0%, which management attributed primarily to a lower share of income from foreign operations. Dividends declared were $0.11 per share, versus $0.09.
Total trading volume rose 16.9% to $158.0 billion. U.S. high-grade volume increased 15.4%, and estimated MarketAxess share of FINRA TRACE U.S. high-grade volume increased to 11.4% from 9.9%. Other product volume grew 21.4%; Eurobond volume grew 12.6%. Commissions benefited from higher volume and higher average transaction fees in U.S. high-grade and other products; European dealer distribution fees and Eurobond transaction fees declined.
At March 31, cash and cash equivalents were $119.8 million and available-for-sale securities were $60.1 million, or $179.9 million combined. Combined cash and securities were $247.7 million at December 31, 2011. The company reported no short- or long-term debt other than $0.6 million of capital lease obligations and said it had no bank credit lines. Total liabilities were $25.6 million. Q1 cash decreased $49.8 million: operating activities provided $13.4 million, investing activities provided $15.9 million, and financing activities used $78.7 million. Financing cash use included $71.1 million for share repurchases and $4.2 million in dividends. Trailing-12-month free cash flow, a non-GAAP measure defined as operating cash flow less capital expenditures and capitalized software costs, was $70.0 million versus $60.2 million.
Material changes and unusual items
- Revenue growth was led by commissions, which represented 88.5% of revenue. U.S. high-grade market share gains and greater volumes in emerging markets and high-yield bonds contributed to the increase.
- Expenses grew more slowly than revenue. General and administrative expense rose 110.5%, partly because Q1 2011 included a $0.7 million sales-tax reimbursement and Q1 2012 had a higher bad-debt provision. Marketing expense increased 48.6%, primarily due to promotion of credit-default-swap trading capabilities.
- On February 28, JPMorgan Chase sold 3,597,333 shares in a secondary offering; MarketAxess received no proceeds. MarketAxess also repurchased 1,821,730 non-voting shares from JPM for $52.9 million, and JPM ceased to be a related party after that date. The company reported $71.1 million of Q1 cash used for share repurchases. Its separate $35.0 million repurchase authorization had $9.8 million remaining at March 31.
- Accrued employee compensation declined to $5.8 million from $19.4 million at year-end; management noted annual bonus payments of $18.2 million in Q1.
Outlook, risks and contingencies
The filing provides no specific revenue or earnings guidance. Management stated that available resources were adequate for liquidity needs and capital expenditures for at least the next 12 months, while noting that future requirements depend on product development, expansion and potential acquisitions or investments. Management expected higher cash income-tax payments after fully using its unrestricted U.S. net operating loss carryforward in 2011. It also expected to continue regular dividends, subject to board discretion.
Management described plans, subject to Dodd-Frank rulemaking, to establish and operate a swap execution facility and/or security-based swap execution facility; such facilities could require additional regulatory capital. Risks include market-driven trading-volume declines, competition and pricing pressure, dependence on clients’ continued platform use, technology and security failures, regulatory change, and counterparty default. The company acts as counterparty in certain riskless-principal trades; its clearing broker may charge it for client failures, with no stated cap on those losses. No related liability was recorded at quarter-end.
Other disclosed commitments include $19.2 million of future operating lease payments, $0.6 million of capital lease payments, $1.7 million in standby letters of credit for landlords, and contingent exposure of $1.4 million on an assigned lease. The company said indemnification exposure was not quantifiable but expected loss to be remote. No legal proceedings were reported, and the filing said there were no material changes to the risk factors in its 2011 Form 10-K.
Important facts for investors to verify
- Whether U.S. high-grade market-share gains and growth in other products persist, and how much commission growth reflects volume versus fee changes.
- The effect of reduced European dealer distribution fees and weaker Eurobond transaction fees on future revenue.
- The cash and capital impact of share repurchases, dividends, higher cash taxes and any new trading facilities.
- Client and counterparty exposure: no client exceeded 10% of revenue, but one client represented 14.3% of trading volume in Q1 2012; clearing-related counterparty losses are not capped.
- Progress and costs associated with Dodd-Frank implementation, potential additional regulatory-capital requirements and any eventual swap execution facility.