MarketAxess Holdings Inc. — Q3 2013 Form 10-Q
Reporting period: Three and nine months ended September 30, 2013. Financial statements are unaudited. MarketAxess operates an electronic fixed-income trading platform and provides market data, post-trade, regulatory reporting and technology services.
Financial performance
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $61.1 million | $46.4 million | $178.3 million | $142.3 million |
| Income from continuing operations | $18.3 million | $13.7 million | $53.1 million | $40.9 million |
| Net income | $18.2 million | $13.5 million | $52.9 million | $39.6 million |
| Diluted EPS | $0.48 | $0.36 | $1.40 | $1.05 |
| Operating cash flow | Not provided by quarter | Not provided by quarter | $67.3 million | $53.3 million |
- Q3 revenue increased 31.7%; commissions rose 22.3% and information and post-trade services rose 275.8%. Xtrakter contributed $5.4 million of Q3 information and post-trade revenue.
- Q3 total expenses increased 39.5% to $34.7 million, faster than revenue. Income before taxes from continuing operations rose 22.7% to $26.4 million. Continuing-operations net margin was approximately 29.9%, versus 29.5% a year earlier.
- For the first nine months, revenue increased 25.3% and expenses increased 27.6%. Continuing-operations net margin was approximately 29.8%, versus 28.7% in 2012. Results include Xtrakter from its February 28 acquisition date.
- Trading volume grew 26.6% in Q3 and 18.6% year to date. U.S. high-grade volume rose 32.7% in Q3 and 21.3% year to date; other-credit volume rose 31.1% and 32.1%, respectively. Liquid-products volume declined 8.5% and 14.6%.
- Cash from operations was $67.3 million for the nine months. Investing used $60.6 million, including $37.8 million net cash for Xtrakter; financing used $15.4 million. Cash from continuing operations was $119.0 million at September 30. Management reported trailing-12-month free cash flow of $79.3 million, up from $61.3 million; this is a non-GAAP measure.
- Cash and cash equivalents plus available-for-sale securities totaled $177.4 million. Total assets were $332.7 million, liabilities $46.1 million and stockholders’ equity $286.6 million. The company reported $49.9 million available under its $50 million revolving credit facility; the filing does not clearly state the outstanding borrowing balance. No long-term debt balance is reported on the balance sheet.
Material changes and unusual items
- Xtrakter acquisition: Acquired for $37.8 million net of acquired cash. The preliminary allocation included $26.2 million goodwill and $13.3 million identifiable intangible assets. Xtrakter contributed $12.8 million revenue and $0.1 million net income from acquisition through September 30. The purchase-price allocation remained subject to finalization.
- Greenline divestiture: A sale agreement was signed September 30 and the sale closed October 8 for $11.0 million cash, subject to a working-capital adjustment. Greenline was reported as discontinued operations; management expected an approximately $7.0 million after-tax gain in Q4. Greenline recorded a $0.2 million net loss for the first nine months.
- Accounting adjustment: A non-cash out-of-period adjustment in Q2 reduced employee expense by $2.9 million and increased depreciation and amortization by $1.3 million, with a $1.6 million increase in capitalized software. Management said it was not material to prior periods or the current year.
- Q3 effective tax rate was 30.8%, down from 36.2%, primarily due to approximately $2.0 million in domestic production activities deduction benefits. Year-to-date rate was 35.6%, versus 39.2%.
- Quarterly dividends declared were $0.13 per share, up from $0.11 a year earlier. The company repurchased no shares in the first nine months of 2013.
Outlook, risks and contingencies
- No specific financial guidance was provided. Management said resources were adequate for liquidity needs and capital expenditure requirements for at least the next 12 months, while noting future needs depend on product development, expansion and business opportunities.
- The company identifies trading activity, interest-rate and credit-market conditions, client participation, competition, technology and cybersecurity, regulatory change, and successful integration of acquisitions as significant risks. It cautions that declining market volumes could materially reduce revenue and profitability.
- MarketAxess SEF Corporation received temporary CFTC registration in September and began operating in October 2013. The filing estimated initial SEF financial-resource requirements at approximately $4 million; some U.S. and European derivatives rules remained unsettled or unimplemented.
- A former employee’s Sarbanes-Oxley whistleblower complaint seeks reinstatement, back pay and damages. The company disputes the allegations, cannot estimate the possible loss range and recorded no accrual.
- Riskless-principal clearing exposes the company to potentially uncapped losses if a counterparty fails to perform. No related liability was recorded at September 30. The company also reported a $14.1 million London office lease commitment through January 2027.
Investor verification priorities
- Separate organic platform growth from Xtrakter’s contribution, particularly its substantial share of information and post-trade revenue.
- Track whether higher trading volumes persist and whether commission yield, including lower U.S. high-grade fees per million, offsets changes in product mix.
- Assess expense growth, acquisition-related costs, amortization and capital spending against revenue growth and cash generation.
- Verify final Xtrakter purchase accounting and the realized proceeds and gain from the Greenline sale.
- Review SEF operating costs and regulatory capital needs, the credit facility’s actual usage and covenant headroom, and developments in the employee complaint and counterparty exposures.