MarketAxess Holdings Inc. — Q1 2016 Form 10-Q
Reporting period: Unaudited quarter ended March 31, 2016; comparisons are with the quarter ended March 31, 2015 unless noted. MarketAxess operates an electronic fixed-income trading platform and provides related data, analytics, compliance and post-trade services.
Financial results and liquidity
| Metric | Q1 2016 | Prior period / change |
|---|---|---|
| Total revenue | $88.6 million | $76.8 million; up 15.4% |
| Commissions | $79.1 million | $67.0 million; up 18.0% |
| Trading volume | $310.0 billion | $243.7 billion; up 27.2% |
| Total expenses | $44.2 million | $38.3 million; up 15.5% |
| Income before taxes | $44.4 million | $38.5 million; up 15.2% |
| Net income | $29.0 million | $24.6 million; up 17.8% |
| Diluted EPS | $0.77 | $0.65 |
| Cash dividends declared per share | $0.26 | $0.20 |
- Net margin was approximately 32.7%, compared with 32.0% a year earlier; pretax margin was approximately 50.1%, compared with 50.2%. Expenses were 49.9% of revenue in both periods.
- Commissions were 89.3% of revenue. Commission growth was led by other credit, up 30.2%, and U.S. high-grade, up 17.4%. Total volume growth reflected higher U.S. high-grade and other credit volumes; liquid-products volume fell 8.1%.
- Cash and cash equivalents were $138.0 million and investments were $147.2 million at quarter-end, totaling $285.2 million. Total assets were $451.8 million; stockholders’ equity was $410.4 million.
- Operating cash flow was negative $57.4 million, versus positive $10.0 million a year earlier. Management attributed the decline primarily to a $73.2 million increase in corporate debt trading investments. Investing cash flow was positive $6.3 million; financing cash flow was negative $10.7 million. Cash fell $61.7 million during the quarter.
- Management reported trailing 12-month free cash flow of $108.4 million, versus $95.8 million, using a company-defined non-GAAP measure that excludes net purchases of corporate debt trading investments and deducts capital expenditures and capitalized software costs.
- No revolving borrowings were reported; $1.1 million of letters of credit left $98.9 million available under the $100 million credit facility, maturing in October 2017. The company reported compliance with its covenants.
Material changes and management commentary
- Revenue growth reflected a 27.2% rise in trading volume, while average variable transaction fees per million declined from $211 to $204. Management cited fee-plan migrations and a higher mix of lower-fee products.
- Expenses rose mainly due to employee compensation, up $3.4 million, and general and administrative costs, up $1.2 million, primarily from increased matched-principal clearing costs. Employee compensation and benefits remained the largest expense category.
- The effective tax rate decreased to 34.7% from 36.1%, principally because a greater share of income came from lower-tax jurisdictions. The quarter included an out-of-period tax adjustment that reduced deferred tax assets by $3.1 million, reduced other comprehensive income by $2.1 million and increased prepaid expenses and other assets by $1.0 million. Management determined the errors were not material to prior periods.
- Management said existing resources should meet liquidity and capital needs for at least the next 12 months. It provided no specific financial guidance in this filing. The board approved a $0.26-per-share quarterly dividend in April, payable May 26, 2016.
- The company began a new $25 million, two-year share repurchase authorization in January; approximately $23.8 million remained available at March 31, 2016. The previous repurchase program expired February 29, 2016.
Risks, contingencies and unusual items
- Results depend substantially on fixed-income trading activity, market liquidity, interest rates, competitive execution and client participation. Regulatory changes, including MiFID II/MiFIR expected to take effect in January 2018, may increase compliance and technology costs and affect European operations.
- Open Trading matched-principal activity exposes the company to counterparty, settlement and execution-error risks. Clearing brokers may charge the company for counterparty losses without a stated maximum; no related losses were recorded in the quarter. Matched-principal revenue was approximately $7.5 million, versus $3.5 million.
- Investments were primarily corporate debt securities. The filing notes that adverse market movements could cause losses; interest-rate sensitivity estimates include approximately $0.7 million fair-value impact for available-for-sale securities and $0.8 million for trading securities for a 100-basis-point rate move.
- Cash is primarily held at one major global bank. Foreign-currency movements reduced comprehensive income, and the company uses forward contracts to hedge its U.K. net investment.
- Legal proceedings and regulatory examinations were described as not expected to have a material adverse effect based on currently available information, but ultimate exposure could not be determined. Federal tax examinations for 2011–2013 and New York State examinations for 2010–2013 were underway.
- Operating lease commitments totaled $23.0 million; the company was also contingently liable for $1.4 million of future lease obligations on a property assigned to a third party.
Key facts for investors to verify
- Whether higher trading volumes and market share gains persist, and whether lower fees per million or changing product mix temper commission growth.
- How much of the operating cash-flow decline reflects investment purchases versus underlying working-capital or operating trends; reconcile management’s non-GAAP free-cash-flow measure to GAAP cash flows.
- The nature and effects of the out-of-period tax adjustment, including its impact on comparability and foreign-currency hedge accounting.
- Developments in matched-principal exposure, clearing costs and controls as Open Trading activity grows.
- Progress and costs of regulatory implementation, particularly MiFID II/MiFIR, and the outcome of pending tax examinations and legal matters.