Virtu Financial, Inc. 2019 Form 10-K Summary
Business context and reporting period
Virtu Financial is a technology-enabled market maker and execution-services provider operating across equities, ETFs, options, futures, fixed income, foreign exchange and commodities in more than 50 countries. The filing covers the fiscal year ended December 31, 2019; the requested fourth quarter is included in the annual results and supplemental quarterly data.
The company operates through Market Making, Execution Services and Corporate segments. On March 1, 2019, Virtu completed its approximately $1.0 billion all-cash acquisition of Investment Technology Group, Inc. (ITG), with ITG contributing results from the closing date through year-end.
Financial results and key metrics
| Metric | 2019 | 2018 | Change |
|---|---|---|---|
| Total revenue | $1,530.1 million | $1,878.7 million | Down 18.6% |
| Adjusted Net Trading Income | $974.7 million | $1,020.3 million | Down 4.5% |
| Operating expenses | $1,646.1 million | $1,182.4 million | Up 39.2% |
| Net income (loss) | $(103.7) million | $620.2 million | Declined materially |
| Net income (loss) available to common stockholders | $(58.6) million | $289.4 million | Declined materially |
| Diluted EPS | $(0.53) | $2.78 | Declined materially |
| Adjusted EBITDA | $431.9 million | $620.0 million | Down 30.3% |
| Adjusted EBITDA margin | 44.3% | 60.8% | Down 16.5 points |
| Net income margin on Adjusted Net Trading Income | (10.6)% | 60.8% | Down 71.4 points |
Revenue pressure primarily reflected lower trading income from reduced volatility and trading volumes. Trading income, net declined 28.0% to $912.3 million, while commissions, net and technology services increased 170.4% to $498.5 million, primarily because of the ITG acquisition. Other, net fell 96.9% because 2018 included a $337.6 million gain on the sale of BondPoint.
- Market Making revenue was $1,032.1 million, down 25.5%; segment pre-tax income was $109.2 million versus $422.6 million in 2018.
- Execution Services revenue was $493.9 million, broadly unchanged; commissions and technology services grew substantially with ITG, but segment pre-tax results were a loss of $126.9 million versus income of $325.0 million.
- Reported 2019 expenses included $102.8 million of severance, $66.5 million of office-lease termination costs, $41.1 million of debt refinancing and prepayment costs, $26.1 million of transaction advisory fees and $70.6 million of amortization of acquired intangibles and software.
- Normalized Adjusted Net Income was $185.7 million and Normalized Adjusted EPS was $0.96, both non-GAAP measures.
Fourth-quarter results
| Metric | Q4 2019 | Q4 2018 |
|---|---|---|
| Total revenue | $403.3 million | $440.4 million |
| Operating expenses | $430.6 million | $291.6 million |
| Net income (loss) | $(29.4) million | $147.9 million |
| Net income (loss) attributable to Virtu Financial, Inc. | $(17.7) million | $80.9 million |
| Diluted EPS | $(0.16) | $0.74 |
Cash flow, debt and liquidity
- Cash and cash equivalents were $732.2 million at December 31, 2019; cash, cash equivalents and restricted or segregated cash totaled $773.3 million.
- Operating cash flow was $168.8 million, compared with $714.6 million in 2018. Investing cash flow was negative $899.6 million, principally due to $835.6 million of cash consideration for ITG.
- Financing cash flow was positive $769.6 million, primarily reflecting $1.5 billion of long-term borrowings, partly offset by debt repayments, dividends and distributions to noncontrolling interests.
- Long-term debt principal was $1,957.2 million, including $1,925.0 million under the First Lien Term Loan Facility and $32.2 million of SBI bonds. Net long-term borrowings were $1,917.9 million.
- Short-term borrowings were $73.5 million on the balance sheet. Additional short-term credit facilities had $134.3 million outstanding, and the uncommitted broker-dealer facility had $30.0 million outstanding; the $600.0 million committed facility had no borrowings outstanding.
- The First Lien Term Loan Facility matures in March 2026. The company was in compliance with its debt covenants at December 31, 2019 and stated that available cash, operating cash flow and borrowing capacity should meet liquidity needs for more than twelve months.
- Quarterly dividends were $0.24 per share, or $0.96 for the year. The stated policy targets aggregate annual dividends of at least 70% of net income, subject to board discretion, debt covenants and regulatory restrictions.
Material changes versus the prior comparable period
- ITG added $347.9 million of revenue but generated a $64.9 million pre-tax loss during its included 2019 period. ITG contributed $61.8 million of the consolidated net loss, according to the audit report.
- Debt increased materially to fund the ITG acquisition. In October 2019, Virtu borrowed $525.0 million of incremental term loans and used the proceeds and cash to redeem the $500.0 million second-lien notes due 2022.
- Market-making performance weakened with lower volatility and volume. Average daily S&P 500 realized volatility declined 21.5%, implied volatility declined 7.4%, and average daily U.S. over-the-counter equity volume declined 30.0%.
- Execution Services became a larger portion of the business, but integration costs, compensation, amortization and other expenses materially reduced consolidated profitability.
- Total assets increased to $9.6 billion from $7.4 billion, while total equity declined to $1.23 billion from $1.49 billion.
Outlook, commentary, risks and unusual items
The filing provides no formal quantitative 2020 earnings or revenue guidance. Management states that results depend heavily on trading volume, volatility, bid-ask spreads, market structure and client activity. The company expects primary future liquidity needs to include increased margin requirements as trading activity grows and as it enters new markets.
- Management expects integration of ITG to create potential revenue, cost and synergy benefits, but cautions that integration delays, higher costs, employee departures, client losses and assumed litigation or regulatory liabilities could prevent those benefits.
- On January 29, 2020, the company entered into a five-year interest-rate swap fixing $1.0 billion of term-loan principal at 4.9% through January 2025. A subsequent repricing amendment was expected to reduce borrowing spreads by 0.5%, subject to closing conditions, producing an expected blended fixed rate of 4.367% on $1.525 billion of term debt.
- Material risks include lower trading volumes or volatility, competition and spread compression, counterparty and clearing-house defaults, self-clearing and liquidity risk, technology failures, cyberattacks, regulatory capital requirements, legal and regulatory proceedings, foreign exchange exposure and loss of access to important trading venues.
- The company had regulatory reviews and investigations outstanding. The AMF penalty of approximately €3.0 million was fully reserved and expected to be paid in 2020. A FINRA arbitration related to acquired ITG operations resulted in approximately $6.0 million of awards and fees, which the company paid while seeking insurance reimbursement.
- Tax receivable agreement obligations were $269.3 million at year-end. Payments generally equal 85% of realized cash tax savings and could be accelerated upon certain change-of-control events.
- Management and the independent auditor concluded that internal control over financial reporting was effective, but ITG was excluded from the 2019 assessment because it was acquired during the year.
Most important facts for investors to verify
- Whether trading volumes, volatility and spreads recover sufficiently to improve Market Making results.
- Whether ITG integration delivers sustainable recurring revenue, cost reductions and synergies after excluding acquisition and restructuring charges.
- Debt repayment capacity, covenant headroom, variable-rate exposure and the effect of the 2020 repricing and interest-rate swaps.
- The sustainability of dividends given negative 2019 GAAP earnings, holding-company dependence on subsidiary distributions and contractual or regulatory restrictions.
- The ultimate cost and timing of regulatory investigations, litigation, the AMF penalty, assumed ITG and KCG liabilities, and tax receivable agreement payments.
- Whether the $269.3 million tax receivable agreement liability and related deferred tax assets are realized as projected.