Interactive Brokers Group, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; financial statements are unaudited. Interactive Brokers is a global electronic broker and market maker. The public company owns approximately 16.6% of IBG LLC; the remaining 83.4% is held by IBG Holdings LLC and reported as noncontrolling interests.
Financial performance and position
| Metric | Q1 2017 | Q1 2016 / comparison |
|---|---|---|
| Total revenue | $409 million | $507 million |
| Net revenue, after interest expense | $374 million | $489 million; down 24% |
| Income before taxes | $213 million | $337 million; down 37% |
| Consolidated net income | $195 million | $310 million |
| Net income attributable to noncontrolling interests | $171 million | $277 million |
| Net income available to common stockholders | $24 million | $33 million |
| Diluted EPS | $0.34 | $0.51 |
| Pre-tax margin | 57% | 69% |
| Net interest income | $142 million | $127 million; NIM was 1.12% versus 1.14% |
| Operating cash flow | $(209) million | $122 million |
Non-interest expenses rose 6% to $161 million. At March 31, total assets were $56.3 billion, liabilities $50.2 billion, and total equity $6.0 billion. Cash and cash equivalents were $1.7 billion, down from $1.9 billion at year-end 2016. Short-term borrowings were $38 million, compared with $74 million at year-end. Management stated that 99.1% of assets were considered liquid and that cash, operating cash flows and available borrowings should meet liquidity needs for more than 12 months. Aggregate excess regulatory capital was $4.1 billion; all regulated operating companies were compliant.
Changes versus the prior-year quarter
- Trading gains fell 96% to $2 million; commissions and execution fees decreased 7% to $154 million. Other income fell 47% to $76 million.
- Higher benchmark rates and customer balances lifted net interest income 12%. Average customer margin loans increased $4.2 billion and average customer credit balances increased $5.9 billion year over year.
- Electronic brokerage net revenue declined 10% to $314 million and pre-tax income fell 21% to $185 million; its pre-tax margin narrowed to 59% from 68%.
- Market making net revenue declined 86% to $8 million, and the segment recorded a $22 million pre-tax loss versus $20 million income. Corporate net revenue fell to $52 million from $83 million.
- Customer accounts grew 18% to 406,000 and customer equity rose 38% to $96.8 billion, while total customer DARTs decreased 12% to 657,000. The average VIX fell 43% year over year to 11.7.
Outlook, management commentary and risks
- On March 8, 2017, the company announced it would discontinue global options market making and expected to phase out those operations substantially over the coming months. Management estimated approximately $25 million of one-time restructuring costs: about $2 million cash, mainly severance, and $23 million non-cash, mainly impairment and stock-based compensation. Approximately $1 million was recorded in Q1. The company expects the electronic brokerage segment to absorb about $39 million in annual expenses after the wind-down. It plans to retain certain stock and related trading activities.
- Management attributed weak market-making results to lower volumes, low volatility and a lower actual-to-implied volatility ratio. It said losses had occurred in the segment through the wind-down announcement and meaningful profitability was not expected; the rate of continuing losses had fallen after wind-down actions began.
- The currency diversification strategy increased comprehensive earnings by $73 million in Q1, as the value of the 15-currency basket rose about 1.27% against the U.S. dollar from year-end. A revised 14-currency basket took effect at quarter-end; management said about 30% of equity would be denominated in non-U.S. currencies under the new composition.
- Management’s interest-rate sensitivity estimate: a 0.25 percentage-point increase would add approximately $36 million to net interest income in the first year and $49 million annualized after full reinvestment; a 0.25-point decrease was estimated to add about $2 million annualized. These estimates assume reinvestment of maturing instruments; fixed-rate government securities may incur mark-to-market losses if rates rise.
- Risks include market, currency, interest-rate and margin-credit exposures; customer defaults and potentially illiquid collateral; and off-balance-sheet obligations. Management described automatic margin monitoring and liquidation controls, while noting that these may not work in illiquid markets. The company also reported approximately $118 million of cumulative net losses from the 2015 Swiss-franc event, net of hedging and collection efforts, and continues debt collection.
- Pending litigation includes a patent dispute with Trading Technologies and a customer class-action matter. The company said it could not estimate potential losses for certain proceedings; litigation reserves were not material. It reported no material credit-risk concentrations outside the ordinary course of business.
- No specific earnings or revenue guidance was provided. Management said Q1 results excluding currency-strategy effects and U.S. government securities mark-to-market changes were $326 million net revenue and $165 million pre-tax income, down 11% and 24%, respectively, from the prior year.
Important facts for investors to verify
- Track the options market-making wind-down, actual restructuring charges, and the resulting expense allocation to electronic brokerage.
- Assess whether account and customer-equity growth can offset lower DARTs and commissions, and monitor brokerage profitability and expense growth.
- Separate recurring operating performance from currency-diversification gains and government-securities mark-to-market effects.
- Review the drivers of negative operating cash flow, customer balance movements, and the quality and availability of reported liquid assets and regulatory capital.
- Monitor the Swiss-franc receivable recoveries, litigation developments, and customer margin-credit exposures.