Interactive Brokers Group, Inc. quarterly report, Q2 FY2015

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Interactive Brokers Group, Inc. — Q2 2015 Form 10-Q

Reporting period: Three and six months ended June 30, 2015; unaudited. Interactive Brokers is a global electronic broker and market maker. Public shareholders indirectly held approximately 15% of IBG LLC, with the remaining approximately 85% held by IBG Holdings LLC.

Financial performance and position

  • Q2 revenue and earnings: Total revenues were $405 million and net revenues were $387 million, up 25% from $309 million a year earlier. Pretax income was $240 million (up 38%); net income was $221 million, of which $23 million was available to common stockholders. Diluted EPS was $0.37 versus $0.26. Pretax margin was 62% versus 56%.
  • Six-month results: Net revenues were $559 million versus $664 million; pretax income was $129 million versus $392 million; net income available to common stockholders was $10 million versus $34 million. Diluted EPS was $0.17 versus $0.60. Pretax margin was 23% versus 59%.
  • Revenue drivers: Q2 commissions and execution fees rose 27% to $157 million, and net interest income rose 29% to $108 million. For the six months, commissions rose 17% to $306 million and net interest income rose 28% to $201 million. Six-month trading gains fell 24% to $129 million; other income was a loss of $77 million, largely reflecting currency diversification losses.
  • Segment trends: Q2 electronic brokerage pretax income increased 42% to $188 million, with a 65% margin; customer accounts rose 18% year over year to 310,000, customer equity rose 22% to $66.0 billion, and customer DARTs increased 16% to 616,000. Market-making pretax income rose 15% to $30 million in Q2, but fell 38% to $57 million for the six-month period.
  • Cash flow: For the six months, operating activities used $99 million, investing activities used $17 million, and financing activities used $130 million. Cash and cash equivalents decreased $228 million to $1.041 billion.
  • Balance sheet and liquidity: At June 30, total assets were $45.159 billion, total liabilities $39.925 billion, and total equity $5.234 billion. Cash and securities segregated for regulatory purposes were $16.762 billion; customer receivables were $19.002 billion and customer payables $33.837 billion. Short-term borrowings were $9 million. Management reported $3.259 billion of excess regulatory capital, and all regulated operating companies were compliant. The company stated that available cash, operating cash flows, and borrowings should meet needs for more than 12 months.
  • Dividends and capital: The company paid $0.10 per share in March and June and declared a further $0.10 per-share dividend for September 2015. It repurchased 721,279 shares from employees to cover tax withholding on vested awards; these were not purchases under a publicly announced repurchase program.

Material changes and unusual items

  • Swiss franc event: The January 15, 2015 Swiss franc move caused some customers’ losses to exceed their deposits. The company recorded $137 million of customer bad-debt expense and estimated the loss net of hedging at approximately $119 million; it continued collection efforts. The ultimate impact depends on recoveries. Customer receivables’ allowance for doubtful accounts was $125 million at June 30, compared with $7 million at year-end.
  • Currency diversification: The company holds net worth in a 16-currency basket (“GLOBAL”). Six-month results included a $162 million net loss from the strategy, versus a $41 million gain in the prior-year period. Management said the stronger U.S. dollar reduced the GLOBAL’s U.S.-dollar value about 9% year over year; approximately 58% of equity was denominated in currencies other than the U.S. dollar. In Q2, the strategy increased comprehensive earnings by $53 million as GLOBAL’s dollar value rose about 1% during the quarter.
  • Management’s adjusted comparison, excluding the currency strategy and Swiss-franc customer losses, showed six-month net revenues of $703 million, up 10%, and pretax income of $410 million, up 11%. These are management-presented adjusted figures, not the reported GAAP results.
  • The company acquired Covestor, an online investment marketplace, during Q2. The acquisition contributed to employee growth; total employees were 1,020 versus 922 a year earlier.

Outlook, commentary, and risks

  • No quantitative earnings or revenue guidance was provided. Management described favorable Q2 conditions for electronic brokerage, citing customer growth, activity, and higher margin balances. It noted that market-making performance is sensitive to competition and the relationship between actual and implied volatility; it continued reducing market-making staff.
  • Key exposures include market and currency movements, interest rates, customer margin credit, counterparty defaults, and off-balance-sheet settlement obligations. Management cautioned that customer margin-credit exposure can be substantial and is not quantifiable in extreme market conditions; automated liquidation may not work where markets are illiquid.
  • The company reported pending litigation, including the Trading Technologies patent case, which was stayed while certain patent reviews proceed; Trading Technologies is appealing the stay. Management said litigation outcomes are uncertain, though it did not expect pending matters to materially affect financial condition. Clearing-house guarantees are also disclosed; management characterized the likelihood of payment as remote, while noting potential liability is not quantifiable.
  • Management stated that disclosure controls were effective and that there was no material change in internal control over financial reporting during the quarter. The filing reported no material changes to the risk factors previously disclosed in the 2014 Form 10-K.

Important facts for investors to verify

  1. Recoveries on the Swiss-franc customer receivables and whether the $119 million estimated net loss changes.
  2. The continuing impact of GLOBAL currency movements and the distinction between reported results and management’s adjusted comparisons.
  3. Whether brokerage customer, margin-borrowing, DART, and customer-equity growth continues, and how it affects net interest income and expenses.
  4. Market-making profitability amid competition and low volatility, including the effect of changes in actual versus implied volatility.
  5. Regulatory-capital availability, customer-fund segregation, litigation developments, and any material changes in contingent or off-balance-sheet exposures.