INTL FCStone Inc. (now StoneX Group Inc.) — Form 10-Q summary
Business context and reporting period
The filing covers the quarter and nine months ended June 30, 2012, compared with the same 2011 periods; the company’s fiscal year ends September 30. INTL FCStone is a diversified financial-services firm serving commodity, foreign-exchange, securities, and clearing customers. Its reported total revenue includes large gross physical-commodity sales, so operating revenue and net revenue are more informative measures of underlying activity.
Financial performance and liquidity
| Metric | Quarter ended June 30 | Nine months ended June 30 |
|---|---|---|
| Total revenue | $17.351 billion, down 15.7% from $20.573 billion | $51.593 billion, up 0.3% from $51.427 billion |
| Operating revenue | $123.8 million, up 17%; prior year $105.4 million | $339.7 million, up 8%; prior year $315.1 million |
| Net revenue | $121.2 million, up 17% from $103.4 million | $331.4 million, up 8% from $306.0 million |
| Income before tax | $5.9 million vs. $17.3 million | $8.8 million vs. $46.5 million |
| Net income attributable to common stockholders | $4.7 million vs. $10.4 million; diluted EPS $0.23 vs. $0.55 | $6.7 million vs. $29.8 million; diluted EPS $0.33 vs. $1.57 |
| Operating cash flow | Nine-month use of $81.6 million vs. $79.6 million provided in 2011 |
Non-interest expenses rose 34% to $115.3 million in the quarter and 24% to $322.6 million year to date, driven by compensation, clearing costs, and expansion-related expenses. Income before tax was about 4.9% of net revenue for the quarter and 2.7% year to date, versus 16.7% and 15.2%, respectively, in 2011.
At June 30, cash and cash equivalents were $213.7 million, total assets $2.734 billion, total liabilities $2.423 billion, and equity $311.5 million. Borrowings under credit facilities were $175.4 million, compared with $77.4 million at September 30, 2011. The company reported $335 million of committed facilities, plus an uncommitted $50 million commodity facility, and said it was compliant with its financial covenants. Customer and regulatory-segregated balances are substantial and should not be treated as unrestricted corporate cash.
For the nine months, investing activities used $18.2 million, including $11.7 million for acquisitions; financing activities provided $93.5 million, including a $98.0 million increase in lender borrowings. Cash declined $6.9 million over the period. FCStone, LLC reported $39.9 million of segregated assets in excess of segregated liabilities.
Material changes and management commentary
- Quarterly operating revenue increased as Clearing and Execution Services (CES) benefited from higher exchange volumes and the core Commodity and Risk Management Services (C&RM) business benefited from OTC activity and agricultural-market volatility. CES operating revenue rose 74%; C&RM rose 2% on a GAAP basis.
- Year-to-date revenue growth in foreign exchange, securities, CES, and Other was partly offset by a 3% decline in C&RM operating revenue. C&RM segment income fell to $50.0 million from $69.8 million, while total segment income declined to $80.1 million from $99.4 million.
- The company attributed higher costs to acquisitions and expansion, including the MF Global UK metals team, Ambrian, and TRX. The metals team contributed $6.9 million of operating revenue in the quarter and $13.8 million year to date. MF Global customer transfers also supported CES volume growth.
- Management cited low short-term interest rates as a constraint on C&RM and CES profitability. Average customer exchange-traded margin deposits fell 18% year to date, though they recovered somewhat in the third quarter. Management primarily evaluates commodity results on a marked-to-market basis because GAAP may recognize inventory and derivative gains or losses in different periods. On that non-GAAP basis, quarterly adjusted net income was $5.3 million versus $9.2 million; year-to-date adjusted net income was $6.7 million versus $27.4 million.
- The company gave no specific earnings or revenue guidance. It said it expected to renew or replace a $140 million facility due to expire in fiscal 2012, but noted renewal was not guaranteed. It also expected to register INTL Hanley LLC as a swap dealer as Dodd-Frank requirements took effect.
Risks, contingencies, and unusual items
- Operating cash flows and liquidity are exposed to customer margin requirements, market volatility, counterparty defaults, and movements in segregated balances. Derivative and short-position fair values can change materially; financial instruments sold, not yet purchased totaled $176.5 million at quarter-end.
- The CFTC was reviewing the legacy energy-trading-account matter; the company said it was cooperating and could not predict the review’s outcome, including possible penalties. The SEC had closed its investigation without enforcement action. A securities-litigation settlement was agreed in principle, subject to court approval, and the Sentinel bankruptcy trustee sought approximately $15.5 million; trial was set for October 2012.
- The LME’s proposed sale was approved by shareholders on July 23, 2012, after quarter-end. The company’s LME shares were valued at $8.4 million at June 30 and included a $6.1 million after-tax unrealized gain in other comprehensive income, to be recognized in earnings if the sale closed.
- Acquisition-related contingent liabilities were $20.7 million, with estimated cash payments of $6.2 million for the remainder of fiscal 2012. The company also disclosed a Thai hotel debenture dispute, with no additional impairment recorded in the current periods.
- Market-making and commodity activity expose the company to price, interest-rate, foreign-exchange, liquidity, and credit risks. Interest-rate swaps had approximately $765 million notional outstanding and a nine-month weighted-average life; they were not designated for hedge accounting, so valuation changes affect earnings.
Investor verification priorities
- Reconcile quarterly and year-to-date GAAP earnings declines with higher operating revenue, substantially higher expenses, and the company’s marked-to-market non-GAAP adjustments.
- Assess the sustainability and funding of the $175.4 million in borrowings, facility renewals, covenant headroom, and the distinction between corporate cash and restricted customer funds.
- Track CFTC and Sentinel proceedings, the securities-litigation settlement approval, and any resulting payments or changes in contingencies.
- Verify completion and earnings recognition of the LME sale, including release of the $6.1 million after-tax unrealized gain from accumulated other comprehensive income.
- Monitor acquisition integration costs, contingent consideration, customer-volume retention, and the effects of low interest rates and new derivatives regulation on segment profitability.