MarketAxess Holdings Inc. — Q3 2012 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2012. MarketAxess operates an electronic fixed-income trading platform, earning most revenue from commissions on trades between institutional investors and broker-dealers. Unless otherwise noted, amounts below are U.S. dollars.
Financial performance
| Metric | Three months ended Sept. 30, 2012 | Year-over-year | Nine months ended Sept. 30, 2012 | Year-over-year |
|---|---|---|---|---|
| Revenue | $48.3 million | +3.6% | $147.8 million | +8.7% |
| Commissions | $42.4 million | +6.4% | $130.0 million | +11.4% |
| Expenses | $27.0 million | +11.5% | $82.7 million | +8.6% |
| Income before taxes | $21.2 million | -4.9% | $65.2 million | +8.8% |
| Net income | $13.5 million | +0.3% | $39.6 million | +9.5% |
| Diluted EPS | $0.36 | vs. $0.34 | $1.05 | vs. $0.91 |
Q3 net margin was approximately 27.9% (about 28.9% in Q3 2011); nine-month net margin was approximately 26.8% (about 26.6% in 2011). The Q3 effective tax rate fell to 36.4% from 39.7%, supporting slightly higher net income despite lower pretax income. The nine-month effective rate was 39.2%, versus 39.6%.
Cash flow, balance sheet and capital
- For the first nine months, operating cash flow was $53.3 million, investing cash flow was positive $13.8 million, and financing cash flow was negative $85.6 million. Cash declined $19.5 million to $150.1 million.
- Cash and available-for-sale securities totaled $204.3 million at September 30, 2012. Total assets were $304.9 million; liabilities were $33.0 million and stockholders’ equity was $271.9 million.
- The company reported no short- or long-term debt and no bank credit lines; capital lease obligations were approximately $0.4 million. Reported trailing-12-month free cash flow, a non-GAAP measure, was $61.3 million, compared with $62.8 million.
- Financing cash outflow included $72.6 million of share repurchases and $12.4 million of dividends. The quarterly dividend was raised to $0.11 per share in Q1; another $0.11 dividend was approved in October 2012.
- Regulated subsidiaries had excess net capital of $72.5 million in the U.S., $10.2 million in the U.K. and $0.2 million in Canada.
Changes and operating drivers
- Q3 total trading volume rose 4.6% to $137.8 billion; nine-month volume rose 10.2% to $440.5 billion. U.S. high-grade volume increased 4.9% in Q3 and 10.8% year to date. Estimated U.S. high-grade market share rose to 12.5% in Q3 from 11.6%, and to 12.0% year to date from 10.8%.
- “Other” trading volume, including emerging markets and high-yield bonds, increased 8.7% in Q3 and 13.2% year to date. Eurobond volume declined 20.6% in Q3 and 8.1% year to date amid unfavorable European market conditions and sovereign-debt concerns.
- Commission growth reflected increased U.S. high-grade and other transaction fees, partly offset by lower Eurobond fees and reduced monthly distribution fees for most European broker-dealer market makers, effective March 2012. Technology products and services revenue declined 21.2% in Q3 and 16.2% year to date, mainly due to lower consulting and software-license revenue.
- Q3 expenses grew faster than revenue, particularly professional and consulting fees (+42.5%), technology and communications (+17.7%), and employee compensation (+6.8%). Professional fees included $0.5 million related to the proposed Xtrakter acquisition. Higher data-center costs and investment in product development also contributed.
Outlook, risks and unusual items
- Management stated that existing resources should meet liquidity needs and capital expenditures for at least the next 12 months. No specific revenue or earnings guidance was provided. Management noted expenses may rise with product development and geographic expansion, while expecting operating leverage from growth on existing infrastructure.
- On October 26, 2012, the company agreed to acquire U.K.-based Xtrakter for £26.0 million (approximately $42.0 million) in cash, plus transaction costs, funded from available cash. The deal was subject to regulatory and customary approvals; the company expected completion in Q1 2013.
- Key exposures include trading-volume and market conditions, competition and pricing pressure, reliance on clients’ continued platform use, technology and security risks, regulatory change, and counterparty credit risk in riskless-principal trades. Under clearing agreements, the clearing broker may charge the company for counterparty failures; potential losses are not capped. No related liability was recorded at quarter-end.
- Cash and cash equivalents were primarily held at one major global bank. The company held $54.2 million of available-for-sale securities and disclosed potential market-value sensitivity. Foreign-currency forwards were used to hedge U.K. subsidiary exposure; the company said it did not speculate in derivatives.
- Commitments included operating lease payments of $18.3 million, standby letters of credit of $1.5 million, and contingent liability for an assigned lease with $1.2 million of future obligations. No legal proceedings were reported, and the filing stated there were no material changes to the risk factors in the 2011 Form 10-K.
- JPMorgan sold its company shares in February 2012 and ceased to be a related party. The company repurchased 1.82 million non-voting shares from JPMorgan for $52.9 million, cancelling them; it also repurchased $26.6 million under its public program through September 30.
Important facts for investors to verify
- Whether U.S. high-grade market-share gains and higher transaction fees can continue to offset weakness in Eurobond activity and lower technology-services revenue.
- Whether expense growth, including investment and acquisition-related costs, moderates relative to revenue growth.
- Completion, final cost and integration of the Xtrakter acquisition, and its effect on cash, regulatory capabilities and results.
- The sustainability of cash generation and capital returns after substantial 2012 repurchases, dividends and the planned cash acquisition.
- Potential effects of regulatory developments, platform competition, client concentration in trading volume, and uncapped clearing-related counterparty exposure.