Stonex Group Inc. annual report, FY2018

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INTL FCStone Inc. — FY2018 Form 10-K

Reporting period: Fiscal year ended September 30, 2018. The supplied filing is for INTL FCStone Inc., not a registrant named StoneX Group Inc.; verify the intended issuer. Amounts below are U.S. dollars.

Business context and reporting period

The company is a diversified global brokerage and financial-services firm, serving commercial, institutional and retail clients through five reportable segments: Commercial Hedging, Global Payments, Securities, Physical Commodities, and Clearing and Execution Services (CES). Its activities include trading, execution, clearing, advisory services, foreign-exchange payments and physical commodities. Reported total revenue includes gross physical-commodity sales, while operating revenue deducts the associated cost of sales and is more useful for assessing the company’s underlying revenue scale.

Financial performance and liquidity

  • FY2018: Total revenue was $27.62 billion, down 6% year over year; operating revenue was a record $975.8 million, up 24%; net operating revenue was $581.6 million, up 18%.
  • Profit: Pretax income was $101.5 million versus $15.2 million in FY2017. Net income was $55.5 million versus $6.4 million; diluted EPS was $2.87 versus $0.31. Return on average equity was 11.6%, compared with 1.5%. Net income included an estimated $19.8 million one-time Tax Cuts and Jobs Act charge; management stated income excluding that charge would have been $75.3 million.
  • Margins and expenses: Net income equaled approximately 5.7% of operating revenue; pretax income equaled approximately 10.4%. Compensation and other expenses totaled $482.1 million, up 1%. Variable expenses were 61% of total non-interest expenses, versus 53% in FY2017; the prior-year comparison was affected by a $47.0 million physical-coal bad-debt charge.
  • Revenue drivers: Management attributed growth to renewed market volatility, increased client activity and wider spreads, as well as higher short-term rates and average client balances. Interest income rose 77% to $123.3 million; interest expense rose 92% to $80.7 million. Exchange-traded futures and options volume rose 31%; OTC contract volume rose 12%.
  • Segment income: Commercial Hedging $96.4 million (up 32%); Global Payments $59.8 million (up 18%); CES $48.3 million (up 59%); Securities $40.8 million (down 12%); Physical Commodities $16.6 million versus a $31.4 million loss. Physical Commodities’ improvement chiefly reflects the prior-year coal loss, not solely improved ongoing performance.
  • Cash flow: Cash and cash equivalents increased $27.4 million to $342.3 million. Operating cash flow was negative $74.0 million, investing cash flow negative $15.4 million, and financing cash flow positive $120.9 million, including a net $125.8 million increase in borrowings.
  • Balance sheet and funding: Total assets were $7.82 billion and stockholders’ equity $505.3 million. Loans payable totaled $355.2 million, up from $230.2 million. Four committed facilities provided up to $594.5 million; $336.2 million was outstanding at year-end. Approximately $354.0 million of debt was variable-rate. Management said it intended to renew or replace facilities and believed available cash, operating cash flow and borrowing capacity would meet future needs.
  • Client assets and capital: The firm held $2.6 billion in required U.S. client segregated assets and reported that regulated subsidiaries met capital requirements at September 30, 2018. These client and regulatory balances are not equivalent to freely available corporate liquidity.

Material changes versus prior periods

  • Operating revenue grew across all five segments. CES benefited particularly from a 60% increase in exchange-traded futures and options revenue; Commercial Hedging and Global Payments also reported higher segment income.
  • Securities segment income declined despite higher operating revenue, as increased interest expense in domestic fixed income and weaker Argentine results offset growth elsewhere.
  • The company recorded a $47.0 million physical-coal bad-debt charge in FY2017 and a further $1.0 million in FY2018, and exited that business. A November 2018 client settlement is expected to produce a $1.7 million recovery in the December 2018 quarter.
  • FY2018 included a $2.0 million gain from the final resolution of the Sentinel litigation. The company received $2.0 million from the bankruptcy trustee’s reserve after the Supreme Court declined review.
  • Argentina became a highly inflationary economy for accounting purposes effective July 1, 2018; the company switched its Argentine subsidiaries’ functional currency to the U.S. dollar. It recorded $3.4 million of currency remeasurement losses in the September quarter and $5.5 million of operating revenue from economic hedges for the year.
  • FY2018 acquisitions included PayCommerce Financial Solutions for approximately $3.8 million. The Carl Kliem acquisition closed November 30, 2018, after regulatory approval; its purchase price was based on net tangible book value less restructuring costs and was not expected to be material.

Outlook, risks and unusual items

  • The filing provides no quantified earnings or revenue guidance. Management described FY2018 as a record year for operating revenue and pretax income, but emphasized that results can fluctuate substantially with market volatility, trading volumes, spreads, interest rates, client balances and business mix.
  • A significant subsequent event arose in November 2018: natural-gas price movements led to deficits in approximately 300 customer accounts managed by independent CTA OptionSellers.com. As of December 10, the net receivable was $31.3 million, with no individual account above $1.4 million. Collections were at an early stage; ultimate loss was undetermined and could be material. Management said it did not expect the exposure to impair liquidity, capital or regulatory compliance.
  • Liquidity and refinancing are key risks: $362 million of committed facilities were scheduled to expire within 12 months of the filing date. The business may need to fund margin calls on short notice, and its access to facilities may depend on renewal or replacement.
  • Other material risks include counterparty and client defaults, market and inventory losses, OTC derivative exposure, cyber and systems disruptions, extensive and changing regulation, competition, foreign-exchange movements, Argentina’s inflation and currency risk, Brexit uncertainty, and the possibility of higher funding costs. Precious-metals and energy inventory accounting without hedge accounting can also increase reported earnings volatility.
  • Tax Reform resulted in an $8.6 million deferred-tax remeasurement charge and a provisional $11.2 million repatriation-tax obligation. The filing noted that some tax effects remained subject to estimation and that the company had not yet determined the impact of certain provisions applicable in FY2019.
  • The company had never paid a cash dividend, had no current dividend plan, and its credit agreements prohibited cash dividends. Its authorization to repurchase up to 1.0 million shares expired September 30, 2018; no new authorization had been approved as of the filing date.

Most important facts for investors to verify

  • Confirm the intended issuer and reporting entity: the supplied document names INTL FCStone Inc.; confirm how it relates to the requested Stonex Group Inc.
  • Track collections, reserves and any litigation or arbitration related to the $31.3 million OptionSellers customer receivable, including subsequent-period accounting and regulatory-capital effects.
  • Verify renewal or replacement of the facilities expiring in 2019, borrowing availability, covenant compliance and funding costs.
  • Review subsequent recovery on the exited physical-coal exposure and confirm the expected $1.7 million recovery was recorded.
  • Assess recurring earnings apart from the one-time tax charge, coal-related items, Sentinel gain and Argentina currency effects; compare trading and interest-income growth with the increase in interest expense.
  • Check FY2019 tax outcomes, Argentina’s currency and inflation effects, and subsequent filings for any changes to liquidity, credit exposure or management’s outlook.