Virtu Financial, Inc. — Q3 2015 Form 10-Q Summary
Business context and reporting period
Virtu is a technology-enabled, market-neutral market maker and liquidity provider operating in one reportable segment across equities, commodities, currencies, options, fixed income and other securities. It provides quotations in more than 11,000 instruments across more than 225 markets and liquidity pools in 35 countries.
This unaudited Form 10-Q covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods. The April 2015 IPO and reorganization materially affect comparability: Virtu Financial, Inc. consolidated Virtu Financial LLC beginning April 16, 2015, owns approximately 24.8% of Virtu Financial LLC, and records the remaining ownership as noncontrolling interest. Historical pre-IPO results do not reflect the post-IPO corporate tax structure, reorganization, or noncontrolling interests.
Financial performance and key metrics
| Metric | Q3 2015 | Q3 2014 | Change |
|---|---|---|---|
| Total revenue | $215.8 million | $173.2 million | +24.6% |
| Trading income, net | $206.8 million | $162.3 million | +27.4% |
| Adjusted Net Trading Income | $138.6 million | $103.2 million | +34.3% |
| Operating expenses | $136.9 million | $130.6 million | +4.8% |
| Income before taxes and noncontrolling interest | $78.9 million | $42.6 million | +85.3% |
| Net income | $69.5 million | $41.4 million | +67.9% |
| Net income available to common stockholders | $12.3 million | Not applicable for historical pre-IPO period | Post-IPO allocation |
| Diluted EPS | $0.35 | Not applicable for historical pre-IPO period | Post-IPO measure |
| Adjusted EBITDA | $100.7 million | $66.1 million | +52.3% |
Q3 2015 Adjusted Net Trading Income per trading day was $2.17 million, compared with $1.61 million in Q3 2014. Adjusted EBITDA margin was 71.3%, compared with 62.6%; EBITDA margin was 66.8%, compared with 55.9%. These margins are calculated using Adjusted Net Trading Income plus technology services revenue and are non-GAAP measures.
Revenue growth was led by Americas equities, EMEA equities, APAC equities, global commodities, and options, fixed income and other securities. Global currencies declined modestly on an Adjusted Net Trading Income basis. Trading income represented approximately 96% of total revenue in Q3 2015.
| Metric | Nine months 2015 | Nine months 2014 | Change |
|---|---|---|---|
| Total revenue | $619.3 million | $509.5 million | +21.6% |
| Trading income, net | $590.6 million | $480.8 million | +22.8% |
| Adjusted Net Trading Income | $392.9 million | $303.5 million | +29.5% |
| Operating expenses | $450.7 million | $387.5 million | +16.3% |
| Net income | $154.5 million | $121.1 million | +27.6% |
| Net income available to common stockholders | $12.8 million | Not applicable for historical pre-IPO period | Post-IPO allocation |
| Adjusted EBITDA | $280.4 million | $194.6 million | +44.1% |
| Net cash provided by operating activities | $242.0 million | $154.4 million | +56.7% |
For the first nine months, Adjusted Net Trading Income per day increased to $2.09 million from $1.61 million. Adjusted EBITDA margin increased to 70.0% from 62.6%. Income tax expense increased to $14.1 million from $0.8 million, primarily because the post-reorganization corporate structure became subject to U.S. taxes on the Company’s taxable income and because of higher foreign taxable income.
Liquidity, capital and debt
- Cash and cash equivalents were $161.5 million at September 30, 2015, versus $75.9 million at December 31, 2014.
- Total assets were $3.64 billion and total liabilities were $3.11 billion. Total equity was $528.8 million, including $396.4 million of noncontrolling interest.
- Operating cash flow was $242.0 million; investing cash flow was negative $20.6 million, primarily for software development and property and equipment; financing cash flow was negative $136.3 million.
- Short-term borrowings were $28.0 million. The Company also reported approximately $245.0 million outstanding under short-term credit facilities used for trading margin financing, with aggregate availability of $477.0 million. These amounts are reflected in different balance-sheet classifications and should be reconciled carefully.
- Senior secured debt had a principal amount of approximately $501.1 million and a carrying amount of $494.5 million after debt discounts and financing fees. The reported interest rate at September 30, 2015 was 5.25%.
- A $100 million revolving credit facility was available after the IPO and had no outstanding balance at September 30, 2015. Management stated that the Company was in compliance with its debt covenants and expected available cash, operating cash flow and borrowing capacity to meet liquidity needs for more than 12 months.
- Two U.S. broker-dealers maintained regulatory capital substantially above requirements: approximately $63.4 million versus a $1.0 million requirement, and $9.1 million versus a $2.9 million requirement.
Material changes versus the prior comparable period
- Market volumes and volatility contributed to strong growth in trading income and Adjusted Net Trading Income, while operating expenses grew much more slowly than revenue in Q3.
- Nine-month operating expenses included $45.3 million of IPO-related share-based compensation, compared with none in the prior-year period. These charges were substantially non-cash and arose from vesting of pre-IPO awards.
- Income taxes increased substantially following the IPO-related reorganization and the resulting corporate tax obligations.
- Brokerage, exchange and clearance fees increased with market activity, while Q3 communications and data processing expense declined due to termination of historical connectivity contracts.
- The IPO generated gross proceeds of approximately $361.2 million. Approximately $277.2 million was used to purchase shares and Virtu Financial units, and approximately $58.8 million of net proceeds was contributed to Virtu Financial for working capital and general corporate purposes.
- The Company recorded a deferred tax asset of approximately $160.8 million and a tax receivable agreement liability of approximately $184.7 million. The agreements generally require payments equal to 85% of realized cash tax savings, with estimated payments of approximately $7.9 million to $13.6 million annually over the next 15 years.
- Total cash distributions to certain pre-IPO members were $10.0 million during 2015, and the Company expected additional distributions of up to $40.0 million.
Guidance, outlook, commentary, risks and unusual items
The filing does not provide formal revenue, earnings or margin guidance. Management expects results to remain influenced primarily by trading volumes, market volatility, spreads, product mix and geographic activity. Management describes the business as market-neutral and designed to limit directional market exposure through hedging, but acknowledges exposure to market, liquidity, counterparty, foreign exchange and operational risks.
- The Company depends heavily on trading activity and market volumes; lower volatility or reduced volumes could adversely affect revenue.
- Derivative and other off-balance-sheet positions create market and counterparty exposure. Notional amounts may be substantial but do not directly represent amounts at risk.
- Substantially all securities received as collateral were repledged. Securities lending and repurchase activity creates collateral, liquidity and counterparty risks.
- The AMF enforcement committee was considering allegations involving price manipulation and violations of French market rules related to historical trading by an MTH subsidiary. The AMF board sought a penalty of at least €5.0 million; the decision was pending and the filing states that the possible loss could not be estimated.
- The Company reported requests for information and documents from the SEC and the New York Attorney General. Management stated that a material adverse outcome from known matters was not considered probable, although matters could be material in a particular reporting period.
- Debt agreements contain leverage, interest coverage, capital and other covenants, as well as restrictions on dividends, investments, acquisitions and distributions from subsidiaries.
- A dividend of $0.24 per Class A and Class B share was declared after quarter-end, payable December 15, 2015. The Company also announced a November 2015 offering of 6,473,371 Class A shares at $22.15 per share, including 397,534 shares sold by the Company and 6,075,837 shares sold by existing stockholders.
- The filing contains an apparent inconsistency regarding the senior secured facility’s maturity: the debt note presents required principal payments beginning in 2015 and thereafter, while MD&A states that the facility matures in November 2019. The definitive credit agreement and subsequent amendments should be reviewed.
Most important facts for an investor to verify
- Reconcile parent-company earnings and EPS with consolidated Virtu Financial results, the 24.8% parent ownership interest and the large noncontrolling interest.
- Review the composition, maturity and covenant requirements of approximately $501.1 million of senior secured debt and the separate margin-financing facilities.
- Assess the sustainability of elevated trading income and Adjusted Net Trading Income under lower market volumes or volatility.
- Quantify future tax receivable agreement payments and the effect of potential acceleration upon a change of control or other triggering event.
- Follow the AMF proceeding and SEC/NYAG information requests, including potential fines, penalties, restrictions or reputational effects.
- Adjust historical comparisons for the IPO, one-time share-based compensation, new corporate taxes, distributions, and other unusual items.
- Confirm the effect of the November 2015 equity offering and the declared dividend on future share count, ownership and cash distributions.