MarketAxess Holdings Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017; comparisons are with the same periods in 2016 unless otherwise noted. MarketAxess operates an electronic fixed-income trading platform and related data and post-trade businesses, serving more than 1,300 institutional investor and broker-dealer firms. Figures below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $96.7 (+7.1%) | $90.3 | $297.9 (+8.1%) | $275.5 |
| Commissions | $86.3 (+5.9%) | $81.5 | $267.3 (+8.3%) | $246.8 |
| Income before taxes | $47.2 (+1.9%) | $46.4 | $152.4 (+7.9%) | $141.3 |
| Net income | $34.1 (+10.4%) | $30.9 | $114.6 (+23.2%) | $93.0 |
| Diluted EPS | $0.90 | $0.82 | $3.01 | $2.46 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $121.6 | $33.1 |
- Margins: Q3 net margin was approximately 35.3%, versus 34.3%; nine-month net margin was approximately 38.5%, versus 33.8%. The nine-month effective tax rate fell to 24.8% from 34.2%; Q3 rate was 27.7% versus 33.3%.
- Cash and liquidity: Cash and cash equivalents were $139.0 at September 30, 2017, down from $168.2 at year-end 2016. Investments were $237.2, up from $194.4; cash plus investments totaled $376.2. Total assets were $562.3 and total liabilities $51.4.
- Debt and facility: No borrowings were reported. The company had $99.1 of available capacity under its $100 million revolving credit facility, with $0.9 of letters of credit outstanding. The facility was extended in October 2017 to October 2018, with two optional one-year extensions and a possible $50 million increase subject to conditions.
- Cash generation and capital returns: Nine-month investing cash outflow was $67.9 and financing cash outflow was $84.3, including $36.4 of share repurchases and $36.7 of dividends paid. Company-defined free cash flow for the trailing 12 months was $147.5, versus $133.7; this non-GAAP measure excludes net purchases of corporate debt trading investments and deducts capital expenditures and capitalized software costs.
Material changes versus prior periods
- Q3 trading volume grew 7.6% to $346.8 billion; U.S. high-grade volume rose 12.5% and other-credit volume rose 8.9%, while liquid-products volume fell 41.6%. Nine-month total volume rose 13.6% to $1.103 trillion.
- Commission growth lagged volume growth: average variable transaction fees per million declined to $190 from $201 in Q3 and to $194 from $204 for the first nine months. Management cited bond duration, larger trade sizes, product mix and changes to fee plans. Distribution fees increased, partly reflecting clients moving to plans with monthly fees.
- Q3 expenses rose 12.7% to $49.5, faster than revenue, with increases in compensation, professional fees, technology, occupancy and clearing. Nine-month expenses rose 8.4% to $145.5.
- Nine-month net income benefited from $14.8 of excess tax benefits on share-based compensation under an accounting standard adopted January 1, 2017; Q3 included $3.8 of such benefits. The change makes the effective tax rate, net income and diluted EPS more variable.
Outlook, management commentary and risks
- No specific revenue or earnings guidance is provided. Management stated that current resources are adequate for liquidity needs and capital expenditures for at least the next 12 months; future requirements depend partly on product development, expansion and potential acquisitions.
- Management expects expenses to rise with investment in products and geographic expansion, and occupancy expense to increase in 2018 in connection with the new New York headquarters. The approximately 83,000-square-foot, 15-year lease at 55 Hudson Yards is expected to begin upon possession, then anticipated in early 2018; the building was expected to be completed in late 2018.
- Key business sensitivities include fixed-income market activity, interest-rate and credit-market conditions, trading volumes, commission rates, competition, technology execution and broker-dealer market-making capacity. MiFID II/MiFIR implementation was expected in January 2018 and could require significant compliance, technology and operating resources. Brexit may affect access to EU markets; the company was establishing regulated EU subsidiaries.
- MarketAxess acts as matched-principal counterparty on certain trades, exposing it to counterparty and settlement risk. It reported no related losses or liabilities for the periods shown, but states that controls may not fully mitigate exposure. Cash is primarily held at one major global bank, creating deposit concentration risk.
- The company had $144.5 of future minimum operating lease commitments. Legal proceedings and regulatory examinations arise in the normal course; management did not expect currently known matters to have a material adverse financial impact, but ultimate exposure could exceed any reserves. No material changes to the risk factors in the 2016 Form 10-K were reported.
- The board authorized a new $100 million repurchase program in September 2017, commencing in October, and approved a $0.33-per-share quarterly dividend payable in November 2017.
Important facts for investors to verify
- Whether trading-volume growth can continue and translate into commission growth despite lower variable fees per million and weaker liquid-products volumes.
- How much of reported earnings and EPS growth reflects recurring operations versus share-based compensation tax benefits.
- Whether expense growth, regulatory implementation costs and the new headquarters lease affect margins as revenue scales.
- Current status and terms of the amended credit facility, the new repurchase authorization and subsequent dividend payments.
- Developments in MiFID II/MiFIR implementation, Brexit-related EU authorization, counterparty controls and any material legal or regulatory matters.