Virtu Financial, Inc. — FY2016 Form 10-K Summary
Business context and reporting period
Virtu is a technology-enabled market maker and global liquidity provider operating in more than 12,000 instruments, over 235 venues and 36 countries. Its principal revenue source is capturing bid/ask spreads across equities, commodities, currencies, options, fixed income and other securities. The filing covers the year ended December 31, 2016, with unaudited quarterly data for the fourth quarter.
The Company operates as a single reportable segment. Virtu Financial, Inc. is a holding company that consolidated Virtu Financial LLC and owned approximately 29.6% of its economic interests at year-end; the remaining interests are reported as noncontrolling interests.
Key financial metrics
| Metric | FY2016 | FY2015 | Change |
|---|---|---|---|
| Total revenue | $702.3 million | $796.2 million | Down 11.8% |
| Trading income, net | $665.5 million | $757.5 million | Down 12.1% |
| Adjusted Net Trading Income | $414.1 million | $500.7 million | Down 17.3% |
| Operating expenses | $522.7 million | $580.3 million | Down 9.9% |
| Income before taxes | $179.6 million | $215.9 million | Down 16.8% |
| Net income | $158.3 million | $197.5 million | Down 19.8% |
| Net income attributable to common stockholders | $33.0 million | $20.9 million | Up 58.0% |
| Basic and diluted EPS | $0.83 | $0.60 basic; $0.59 diluted | Improved |
| Adjusted EBITDA | $268.3 million | $352.4 million | Down 23.9% |
| Operating cash flow | $239.6 million | $260.3 million | Down 8.0% |
Adjusted Net Trading Income per trading day was $1.65 million, compared with $1.99 million in 2015. Reported net income margin, as defined by management using Adjusted Net Trading Income plus technology services revenue, was 37.3%; EBITDA margin was 57.3% and Adjusted EBITDA margin was 63.2%.
At December 31, 2016, cash and cash equivalents were $181.4 million, total assets were $3.69 billion and total equity was $534.4 million. Long-term borrowings were $565.0 million on the balance sheet, including $540.0 million of senior secured term debt and approximately $29.9 million of SBI bonds, net of deferred financing costs and discounts. Principal long-term debt outstanding was approximately $569.9 million.
- Short-term credit facilities had $493.0 million of borrowing capacity and $309.1 million outstanding.
- Broker-dealer credit facilities had $200.0 million of capacity and $25.0 million outstanding.
- The $100.0 million long-term revolving facility was undrawn.
- Domestic broker-dealers had excess regulatory capital of approximately $73.5 million and $7.9 million, respectively.
- Management stated that available cash, operating cash flow and committed borrowing capacity were adequate for expected needs for more than the next twelve months.
Material changes versus the prior comparable period
- Lower market volume and volatility reduced performance in Americas equities, EMEA equities, global commodities and global currencies.
- Adjusted Net Trading Income declined in Americas equities by $11.4 million, EMEA equities by $14.1 million, global commodities by $11.4 million, global currencies by $44.8 million, and options, fixed income and other securities by $3.9 million. APAC equities increased by $5.0 million.
- Operating expenses benefited from the absence of the $5.4 million AMF legal reserve recorded in 2015 and the substantial reduction in IPO-related share-based compensation, from $44.2 million to $1.8 million.
- Expenses increased by $5.6 million for accelerated debt refinancing costs, communication and data processing costs rose 3.5%, and interest and dividends expense rose 8.0%.
- The Company refinanced its senior secured credit facility in October 2016 with a $540.0 million term loan maturing in October 2022 and retained a $100.0 million revolving facility.
- Virtu invested approximately $38.8 million for an additional minority interest in SBI Japannext and issued Japanese yen bonds to partially finance the investment.
- Cash flow from operations decreased by $20.7 million, while investing cash outflow increased primarily because of the SBI investment. Financing cash outflow was $161.2 million, including $163.0 million distributed from Virtu Financial to noncontrolling interests and $37.8 million of dividends.
- Fourth-quarter 2016 revenue was $170.6 million, operating income was $38.6 million, net income was $34.7 million and net income attributable to Virtu Financial, Inc. was $7.2 million, or $0.18 per diluted share.
Guidance, outlook, management commentary, risks and unusual items
The filing does not provide formal quantitative earnings or revenue guidance. Management expects liquidity needs to be driven primarily by margin requirements associated with trading activity and believes current resources are sufficient for more than twelve months. The Company intends to continue quarterly dividends and targets aggregate annual dividends of 70% to 100% of net income, subject to board discretion, debt covenants, regulatory capital requirements and operating conditions.
- Results are highly sensitive to trading volume, volatility, bid/ask spreads, competition and market structure changes.
- Key operating risks include technology or cybersecurity failures, system capacity constraints, dependence on exchanges, clearing houses, prime brokers and other counterparties, and risks from self-clearing.
- Regulatory risks include evolving electronic-trading, market-access, capital, derivatives and European MiFID II/MiFIR requirements. The Company also reported ongoing SEC and New York Attorney General information requests.
- The Company is appealing a €5.0 million AMF fine, approximately $5.4 million, related to alleged price manipulation and rule violations by a subsidiary before its acquisition. The related reserve was recorded in 2015; management believes other known matters are not probable to have a material adverse effect, although individual periods could be affected.
- Tax receivable agreement obligations were $231.4 million at year-end. The agreements generally require payments equal to 85% of realized cash tax savings, and estimated future payments related to existing transactions were approximately $231.4 million over the next 15 years, subject to assumptions and additional exchanges.
- The Company is controlled by the Founder Post-IPO Member, which holds approximately 93.1% of combined voting power. This creates control, related-party and minority shareholder risks.
- The October 2016 refinancing generated $5.6 million of accelerated debt issuance cost expense. No goodwill impairment was recognized.
- After year-end, the Company reported a planned acquisition of selected telecommunications assets from Teza Technologies, pending regulatory approval, and declared a $0.24 per-share dividend payable in March 2017.
- The 10-K corrected previously released 2016 attributable net income and EPS from $34.7 million and $0.88 to $33.0 million and $0.83 because of a finalized transfer-pricing-related tax provision.
Most important facts for investors to verify
- Whether trading volumes, volatility and spreads recover sufficiently to offset the 2016 decline in Adjusted Net Trading Income.
- The terms, covenants, interest rates and amortization schedule of the refinanced senior secured credit facility, including the effect of variable rates.
- The liquidity impact of $231.4 million of tax receivable agreement obligations and any acceleration provisions upon a change of control.
- The status and potential financial or reputational consequences of the AMF appeal and other regulatory inquiries.
- The sustainability of dividends given the holding-company structure, distributions from Virtu Financial, broker-dealer capital requirements and debt restrictions.
- The carrying value and performance of the SBI Japannext investment, including its Level 3 valuation assumptions and yen exposure.
- The treatment of noncontrolling interests when assessing consolidated earnings versus earnings attributable to Virtu Financial, Inc. shareholders.
- The Company’s reliance on proprietary trading systems, exchanges, clearing organizations, prime brokers and cybersecurity controls.