Business context and reporting period
Nasdaq, Inc. filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2016. The company operates four segments: Market Services, Listing Services, Information Services and Technology Solutions. Results include the acquisitions of Nasdaq CXC and Marketwired (February), Boardvantage (May) and International Securities Exchange (ISE; June), limiting comparability with 2015.
Financial performance and liquidity
Amounts are in millions of dollars except per-share data. The three- and nine-month comparisons are to the corresponding 2015 periods.
| Metric | Q3 2016 | Q3 2015 | 9M 2016 | 9M 2015 |
|---|---|---|---|---|
| Total revenue | $929 | $871 | $2,732 | $2,538 |
| Revenue less transaction-based expenses | $585 | $529 | $1,678 | $1,554 |
| Operating income | $233 | $231 | $626 | $475 |
| Net income attributable to Nasdaq | $131 | $138 | $333 | $280 |
| Diluted EPS | $0.77 | $0.80 | $1.97 | $1.63 |
| Operating cash flow | Not separately provided for quarter | $453 | $472 |
Q3 revenue rose 6.7% and revenue less transaction-based expenses rose 10.6%, but operating expenses increased 18.1% to $352 million. Nine-month revenue less transaction-based expenses increased 8.0%; operating expenses fell 2.5%, primarily due to lower restructuring charges. Operating margin on revenue less transaction-based expenses was approximately 39.8% in Q3 2016 versus 43.7% in Q3 2015, and 37.3% for 9M 2016 versus 30.6% for 9M 2015 (calculated from reported figures). Nine-month non-GAAP diluted EPS was $2.71 versus $2.52; the company’s non-GAAP measure excludes specified items and is not a GAAP substitute.
Q3 segment revenue: Market Services $557 million, Listing Services $68 million, Information Services $137 million and Technology Solutions $167 million. Technology Solutions grew 27.5%, led by Corporate Solutions and Market Technology; Market Services growth in net revenue reflected ISE and trade-management contributions, partly offset by weaker cash-equity and fixed-income/commodities activity.
At September 30, cash and cash equivalents were $257 million (down from $301 million at year-end); working capital was $292 million (down from $340 million). Cash provided by operations was $453 million; investing used $1,591 million, principally for acquisitions, and financing provided $1,093 million, including new debt proceeds. Debt obligations were $3,709 million, including $20 million current, versus $2,364 million at December 31, 2015. The company had $734 million available under its $750 million revolving facility and reported compliance with debt covenants. Separately, $181 million of Nasdaq Clearing credit facilities was unused. Clearing-member default funds and margin deposits are matched by corresponding liabilities and should not be viewed as general corporate liquidity.
Material changes and unusual items
- Nasdaq completed four 2016 acquisitions, including ISE for $1.07 billion. Goodwill rose to $6.206 billion from $5.395 billion and net intangible assets to $2.740 billion from $1.959 billion.
- Debt increased to fund acquisitions. The company issued €600 million of 1.75% notes due 2023 and $500 million of 3.85% notes due 2026, and drew a $400 million term loan.
- The 2015 restructuring plan was completed in June 2016, with total pretax charges of $214 million and expected annualized pretax savings of $36 million. Nine-month 2016 restructuring charges were $41 million, compared with $160 million in 9M 2015.
- Q2 2016 included $28 million of net tax expense, or $0.17 per diluted share, following an unfavorable Finnish court ruling. Management expected approximately $1 million of further quarterly net tax expense from that ruling.
- Q3 trading conditions included lower U.S. equity-industry volume and reduced cash-equity market share, while Nasdaq’s combined U.S. options matched share increased substantially, primarily reflecting ISE. U.S. IPOs were 31 versus 35 a year earlier.
Outlook, risks and contingencies
Management described expectations for continued modest annual growth in many non-transaction businesses, while warning that economic, political and market instability could bring volatility, fluctuating trading volumes and more cautious customers. The filing does not provide a clear quantitative 2016 earnings or revenue guidance figure in the supplied text.
Key risks include market-volume and market-share pressure, intense pricing competition, regulatory change, technology reliability and cybersecurity, acquisition integration, foreign-exchange exposure, and the ability to generate cash and manage debt. A hypothetical 100-basis-point rate rise would increase interest expense by about $4 million on outstanding variable-rate facilities; a 100-basis-point rise would reduce the investment portfolio’s fair value by about $5 million. A 10% adverse currency movement was estimated to reduce nine-month revenue less transaction-based expenses by $42 million and operating income by $16 million.
The company continued to contest Swedish tax deductions; if its position is rejected, it estimated a $39 million tax expense, gross of related U.S. tax benefits. It reported ongoing litigation, including appeals in securities-market cases, but stated it could not estimate potential liability in the described matters. The Finnish ruling and the Swedish tax disputes warrant attention. Management reported disclosure controls were effective and no material changes to internal control over financial reporting during the quarter.
Important facts for investors to verify
- How much of 2016 revenue and earnings growth reflects acquisitions versus organic performance, and whether acquired businesses meet expected returns.
- Progress on integration costs, the $36 million restructuring savings target, and ongoing amortization of acquired intangibles.
- Debt repayment capacity, interest costs, covenant headroom and liquidity after acquisition funding and shareholder returns.
- Developments in the Swedish tax appeals and any further effects of the Finnish ruling on tax expense and cash payments.
- Trading-volume and market-share trends, especially U.S. cash equities, options, fixed income and commodities, alongside competitive and regulatory developments.