MarketAxess Holdings, Inc., Q4 2008 Earnings Call Transcript

Feb. 4.09 | About: MarketAxess Holdings, (MKTX)

MarketAxess Holdings, Inc. (NASDAQ:MKTX)

Q4 2008 Earnings Call

February 4, 2009 8:30 am ET


Richard M. McVey - Chief Executive Officer and Chairman

T. Kelley Millet - President

James N.B. Rucker - Chief Financial Officer

Trey Gregory - Head of Marketing and Communications


Daniel Harris - Goldman Sachs

Hugh Miller - Sidoti & Co.


Welcome to MarketAxess fourth quarter 2008 earnings conference call. (Operator Instructions) I would now turn the call over to Trey Gregory, Head of Marketing and Communications at MarketAxess.

Trey Gregory

Good morning and welcome to the MarketAxess fourth quarter 2008 conference call. For the call this morning, Rick McVey, Chairman and Chief Executive Officer, will review the highlights for the quarter, Kelly Millet, President, will provide an update on trends in our businesses, and then Jim Rucker, Chief Financial Officer will review the financial results.

Before I turn the call over to Rick, let me remind you that today’s call may include forward-looking statements. These statements represent the company’s beliefs regarding future events that by their nature are uncertain. The company’s actual results and financial condition may differ possibly materially from what is indicated in those forward-looking statements. For a discussion of some of those risks and factors that could affect the company’s future results, please see the description of risk factors in our annual report on Form 10-K for the year ended December 31, 2007. I would also direct you to read the forward-looking disclaimers in our quarterly earnings release that was issued earlier this morning and is available on our website.

Now, I would like to turn the call over to Rick.

Richard M. McVey

Thank you for joining us to discuss our fourth quarter and full year 2008 results. Fourth quarter earnings per share were $0.05 versus $0.06 cents in the fourth quarter of 2007. While credit market conditions became progressively worse throughout the year, we have been able to maintain revenue, manage expense, and generate attractive free cash flow.

Specifically, revenues for the fourth quarter were $21.8 million, and for the full year were $93.1 million, just 0.6% below 2007 levels. Expenses were $18.8 million for the quarter, reflecting the benefit of the expense reduction initiatives completed in the third quarter. For the full year, expenses were $80.3 million or 5% above 2007, including the expenses associated with our acquisition of Greenline Financial Technologies.

Other company metrics on investor orders, expansion of dealer participation, and product breadth continue to point to valuable growth of the franchise. Our financial position grew stronger throughout 2008 due to $23.6 million in free cash flow leading to record year end cash balances of $143 million.

As you can see on slide 4, market conditions in the fourth quarter proved to be the most difficult of the year. Benchmark credit spreads as measured by the Credit Suisse LUCI index widened to 541 basis points, up from 359 basis points at the end of the third quarter. Credit spread volatility spiked higher highlighting the extremely difficult trading conditions during the quarter.

Market conditions did improve somewhat toward the end of the quarter and December trace volumes were 30% higher than year ago levels including volume from newly issued FDIC-backed bank bonds.

Bank funding pressures as measured by the TED spread eased substantially during the quarter. Investors’ sentiment improved and risk taking increased toward the end of the quarter resulting in a more balanced buy-sell ratio on our system. Preliminary numbers for January show that our US high-grade market share remained similar to the fourth quarter average and fee capture trends remained positive.

On slide 5 you can see that the MarketAxess network is growing broader and deeper. Investor order count increased by 40% in the fourth quarter compared to a year ago demonstrating that investors continue to rely on MarketAxess as a unique channel to source liquidity in the credit markets.

Balance sheet constraints among the largest dealers have reduced secondary market liquidity causing investors to broaden their group of dealer counterparties. In order to satisfy investor demand on the trading system, we added 19 new dealers in the second half of 2008.

Direct connections to investor order management systems continue to grow rapidly. As you can see from the bottom left hand chart, increasing 48% to 198 at year end. The percentage of trades executed through these direct OMS connections continues to grow as you can see from the bottom right hand chart.

Investor engagement on the platform remains strong. We believe that the decline in trading volume on the system is largely due to lower levels of liquidity in credit markets brought on by balance sheet constraints at most large dealers. As a result, we have expanded our market making community and introduced innovative technology to enable investors to find matches to their orders through our market list open order book functionality.

With that let me turn it over to Kelley to discuss our new initiatives in more detail.

T. Kelley Millet

To address the decline in volumes and market share, we executed new initiatives in the second half of 2008 complementary to our core client to do the business. As you can see from the top right hand chart of slide 6, primary dealer holdings are corporate bonds with more than a year maturity has continued to decline. This indicates the impaired secondary market making capabilities of the large dealers and highlights the importance of the new dealers that we brought on to the platform.

To enable our new regional dealers to have maximum impact, we have to create the point of connection between them and our institutional investors. We’re more than half way through that process.

In October, we introduced innovated new technology that we have called MarketBliss to assist investors in finding matches to their orders. Investors are able to display their orders to the entire MarketAxess trading community including other investors. Effective last week, other investors who had seen one of these public increase had electronically entered an order through a dealer of their choice. Over 18,000 orders were made public in the fourth quarter with a value of approximately $8 billion.

As you can see from the chart at bottom right, the number of orders that do not trade on the platform have been growing.

Our third initiative is references issue by creating a trading and execution services desk. We seek to find matches for those orders that do not trade as well as execute certain other orders on behalf of clients. The fee passer on these types of trades is higher. In addition, like our DealerAxess business, these trades are transacted on a risk-less principle basis with MarketAxess’ counterparty and settled through a third party clearing firm.

Through these initiatives we believe that we’ve taken the right steps to continue to grow our core trading business through challenging market conditions.

In addition to the steps to address market challenges, on slide 7, we outlined the growing diversification through growth in technology and data services. Technology and data accounted for 18% of our revenues in the fourth quarter, up from 7% in the fourth quarter of last year. In November we announced the integration of Markit Quotes into the MarketAxess trading platform.

Markit Quotes is a real time quote parsing service that extracts indicative over-the-counter prices from electronic messages and is most widely used for CDS data. The integration provides clients with CDS click to trade functionality. The integration with Markit Quotes and take up of the product by clients has been good. We see this as an important step in our overall CDS strategy.

We are pleased with the continued growth of Greenline through a very difficult environment with first-line customers in Latin America and the Middle East. Greenline total revenue grew by 64% for the full year 2008 compared to 2007.

During the fourth quarter, we continued to grow our BondTicker data product with the launch of our European BondTicker that displayed market standard pricing data with MarketAxess. The average sales number of BondTicker users grew by 28% during the fourth quarter from a year ago highlighting the importance of transparency and quality market data in the current environment.

On slide 8, we present our trading volumes and fee per million for the fourth quarter. Our volumes are down compared to a year ago, but the quality amidst the business has been more favorable resulting in a higher fee per million captures. Our variable transaction fee grew to $159 per million in the fourth quarter of this year for $113 in the fourth quarter of 2007. The key contributors to the higher fee capture is in the higher variable fees from the new regional dealers, growth of the high yield business, and the introduction of our trading and execution services business.

So, while we’ve experienced the year-over-year decline in volume amidst the difficult market condition, the reduction in commission revenue has been more manageable.

Now, let me turn it over to Jim for review of our earnings.

James N. B. Rucker

Based on slide 9 for our earnings performance, while we’ve not been immune to the current market environment, revenue, earnings, and cash flow have held up well.

Total revenue of $21.8 million for the fourth quarter was down just 2% from a year ago with better revenue diversification. As Kelley mentioned earlier, a higher portion of our revenue is now coming from technology in data with our Greenline acquisition being the key contributor to this.

Investment income which is included in all other revenue category was down 47% from a year ago due to a reduction in yield on our investments.

We have continued to exercise expense discipline, and as a result, net income was up 400,000 from the third quarter and in line with a year ago.

On slide 10, we’ve laid out our commission revenue, trading volumes, and fees per million. Commission revenue was down only 12%, cushioned by better fee capture on the 6-monthly distribution fees in US high-grade and Europe. Total variable transaction fees of $159 per million were up 41% from the fourth quarter of 2007. Fees per million were up across all three categories.

Slide 11 provides you with the expense detail. We have actively managed expenses throughout 2008 resulting in declines for the past 2 quarters. Total expenses for the fourth quarter were down by 2% from the fourth quarter of 2007 reflecting a successful integration of the Greenline business as well as expense reduction initiatives undertaken earlier in the year.

Employee compensation and benefits was of center revenue was 46%, down from 49% in the third quarter, and in line with the fourth quarter of 2007. Employee headcount as of December 31st was 185 compared to 182 at the end of 2007.

Cap-Ex for the full year of 2008 was $4 million.

On slide 12, we have our 2009 expense guidance. We currently expect our 2009 full year expenses to be in the range of $77 to $84 million. The most significant factor impacting any expected increase in 2009 expenses over the Q4 2008 run rate will be a result of the trading and execution services business that Kelley spoke of earlier. Most of the expenses for this business will be employee compensation and benefits and will vary based on the growth in revenues.

We expect our Cap-Ex expenses for 2009 to be in the range of $4 to $7 million. We expect the diluted share count for the first quarter of 2009 to be in the range of 37.3 million to 37.8 million shares. We expect the tax rate for the full year 2009 to be between 41% and 43%.

On slide 13, we highlighted the strength of our balance sheet. We continue to generate strong free cash flow. Free cash flow for 2008 was $23.6 million or three times reported net income and only 3% below the $24.2 million for 2007. Our free cash flow margin for the year was 25%.

Cash, cash equivalents, and securities as of December 31st were $143 million, up from $124 million at year end 2007 and representing $3.81 per share on a diluted basis.

Total shareholders equity as of December 31st was $225 million representing book value on a diluted basis of $6.02. We continue to have no bank debt.

Now, let me turn the call back to Rich for some closing comments.

Richard M. McVey

In conclusion, while credit market conditions were extremely difficult, we feel very good about the expansion of our product capabilities and our trading network during the year. Our revenues held up well, our free cash flow has been strong, and our balance sheet is healthier than ever. We’ve expanded our product offering through new dealers, new services, and innovative new technology solutions. Investor participation on the platform remains strong.

We entered 2009 as a leader in providing new electronic trading solutions to improve liquidity in credit markets and we remain confident that open electronic trading will play a bigger role in the future.

Now, I would be happy to open the line for your questions.

Question-and-Answer Session


(Operator Instructions). You have a question from the line of Daniel Harris from Goldman Sachs.

Daniel Harris - Goldman Sachs

We’ve seen industry cash volumes stabilize and actually move higher here, one of the only asset classes that we’re starting to see year-over-year growth and obviously that was one of the weaker asset classes earlier last year, but what do you guys see as the major drivers to that change recently, how do you see that playing out over the next 6 to 12 months, and is there anything we should be thinking about or looking at outside of the funding cost from the banks or volatility that would help us get a better sense of that?

T. Kelley Millet

There are two factors I think in addition to the macro sense that liquidity and bank funding has improved slightly from its lows. Our view on trade volumes and market volumes overall is that they’ve been effected by two things; overall it has been the emergence of the very robust new issue calendar that improved in the fourth quarter and certainly really demonstrated large growth in the month of January, and within that context, the importance of the FDIC guarantee bank bonds are a significant part of that as well. So, I think the secondary block trading that occurs around the new issues is they’re free to trade, probably has the biggest impact both in outright corporate as well as those FDIC bonds in pushing volumes up certainly towards the end of the fourth quarter and in January.

Richard M. McVey

I think, Daniel, there’s been a clear shift in investor sentiment in the corporate bond markets as valuations reach new lows during the fourth quarter and we’ve seen a shift not only in the institutional market for corporate bonds but also in the retail market. So, demand for our corporate bonds has picked up and we think that that sentiment is partly responsible for the increases we’re starting to see in secondary bond trading as well.

Daniel Harris - Goldman Sachs

And Rick, there’s obviously been a number of rumblings coming out of Washington with regards to CDS trading and potentially an impact on owning the underlying bond in some of the legislation that is being proposed, while obviously we’re probably far from seeing any of that happen, I’d love to get your thoughts on how that would impact the cash market? And just your general views on that type of legislation.

Richard M. McVey

I think it’s a very tricky dynamic with respect to some of the structural changes that are being proposed from the CDS market, and our belief is that the market will benefit from central clearing, it will benefit from greater transparency, but some of the proposals include no naked positions in OTC derivatives and required underlying cash position we think would radically reduce the amount of trading and activity in the OTC derivates markets, and the end would not help the risk management takes place, it’s a fundamental piece of the derivatives markets. I think today we believe that the regulatory initiatives around central clearing and greater transparency are healthy for the market; we support them, but we would prefer not to see some restructural changes that would reduce the amount of risk taking that takes place in the OTC derivatives markets.

Daniel Harris - Goldman Sachs

Yes, that sounds like what we’re thinking too. And then lastly, can you put any color around the participation of the new dealers that you guys have added in the past six months, and whether or not that’s a revenue capture or just revenues, and then taking a step further, is there a similar strategy that you can follow in Europe or other geographies in terms of adding a secondary fleet of the regionals or diversity dealers?

T. Kelley Millet

Let me discuss the US regionals and let Rick comment on Europe. We’re pleased with the progress with the regionals. As I mentioned in my prepared remarks as a fully disclosed, commission-based trading system, we have to work very hard with them to connect with the institutional investors on the system, and as I said earlier, that’s about halfway through, but to give you an idea on both the profitability in those trades as well as where we stand in their reports to the system, those regional dealers in the 1 million and under bucket pay a transactional fee, and obviously then there is the variable transaction fee that’s included in all of the electronic trades. So the fees per million in a regional trade are maturely higher than the average fee capture that we see across the blackboard. In terms of the overall performance, I’ll give it to like this. As a group, they are a top seven dealer now on the system in both volume and count. So, as I said, we’re pleased with the progress to date because a lot of focus in improving and maximizing their connectivity with the institutional investors on the system.

Richard M. McVey

I’d just add to that. I think the liquidity has become so challenging and trade sizes have been reduced across the board; the regionals are playing a more important role, especially in the 1 million and under trade category, which is where they have the biggest impact on our system. We do think, Daniel, there’s an opportunity to transport what we’ve done well with the dealer expansion in the US into the European region. We are talking to additional dealers about joining the market access system in Europe currently, and we also think that there’s application for our market list open order book technology in Europe as there has been here in the US, as the secondary market has really moved much more to an investor order matching market as opposed to a deal principal market. So, both of those things that we’ve done well, we think in the third and fourth quarter in the US, we’re working on for Europe as well.


Your next question comes from the line of Hugh Miller from Sidoti & Co.

Hugh Miller - Sidoti & Co.

I was just wondering if you could just give us a little color on how we should be thinking about the average fee per million as we’re heading into 2009; obviously, as the regional dealers get up to speed, that would be a benefit, but as we possibly see an improvement in the FRN business, that would obviously weigh on things, and obviously the durational play factors; any thoughts on how we should be looking at that as we go forward?

James N. B. Rucker

As Kelley mentioned in his prepared remarked, there are really three things that have been driving the fees per million higher. One is the growth in business done by the regional dealers, the second is that we’ve been seeing growth in the high-yield business that carries high fees per million both the US and Europe, and the third is the execution and training services that Kelley mentioned. So those three things have been driving the fees per million higher, and we expect the trends in those to continue, but having said that, as you mentioned, if market conditions wouldn’t normalize and we had volume growth particularly in areas like FRNs that carry lower fees per million, that could offset the trend from these other factors, but if that is happening, it would be a good problem.

T. Kelley Millet

I don’t see it highly likely that we would see a real significant improvement in the front-end floater liquidity and a significant or material increase in activity on the system certainly through the first half of the year.

Hugh Miller - Sidoti & Co.

Okay, so you think that probably the fourth quarter seems to be a decent benchmark for the next few quarters until we see an improvement in the FRN business.

T. Kelley Millet

Yes, I think we’re going to see a continuation of the trends that we saw in the fourth quarter.

Hugh Miller - Sidoti & Co.

Okay, and I think that you guys had made some comments on the market share in January relatively to TRACE data being expected to be somewhere in the range where you guys were in the fourth quarter, I was wondering if that was a correct statement, and obviously, we saw an improvement throughout the fourth quarter in market share; I was wondering if you were anticipating that that would be somewhere near the December levels or towards the beginning of the quarter in October.

T. Kelley Millet

If you look at January share, it’s in line with the average share that we achieved in the fourth quarter. A couple of things that will impact share in the first quarter; one is the prevalence of the FDIC new issuance, that is a different set of both sell side traders as well as buy side investors. We think this is a great opportunity for us. We’re on everyone’s desk. We think we have a better trading protocol than the competition from the buy-back standpoint. So, we’re working very very hard there, but obviously that’s both our enumerator and trace denominator. The second point is the overall new issue market away from the FDIC business has also been quite robust in January, and we would expect it to continue in the first quarter. As you know, in terms of our business model, we typically don’t capture the large block trades that come off of new issues as they’re free to trade. We’re positively correlated to the new issue business as it provides greater liquidity and two-way flows in the market, but that’s typically on a lag basis. So, I think that gives you a little bit of color and insight in terms of where we think we are in terms of share and what the factors are contributing to that.

Hugh Miller - Sidoti & Co.

Looking at the range you guys have given for capital expenditures, and obviously it is somewhat wide; what would really influence that to be towards the top or the bottom end of that range?

James N. B. Rucker

As a percentage, our Cap-Ex numbers are not that large on absolute terms, the range is only $3 million, but there are a couple of things that would determine whether we end up at the higher or lower end of that range. One is, we have looked at a couple of technology infrastructure projects for the second half of the year that we’ve not yet decided whether to do them or not, that’s one factor that would impact it; and then the second key determinant will be the level of capitalized software development that will be undertaken during the course of the year. Those are the two factors that will have the most significant impact on whether we end up at the high or the low end of the CapEx range.

Hugh Miller - Sidoti & Co.

For the infrastructure projects, would that be something that you would expect would ultimately drive stronger volume or is it just improving the plumbing on the system?

James N. B. Rucker

It’s more improving the plumbing and putting us in a better position to better take care of volumes further down the road.

Hugh Miller - Sidoti & Co.

Okay, and can you talk a little bit about the regional dealers impact on the hit rate whether or not we saw an improvement there for the smaller-size trades in the fourth quarter relative to the third as they’ve come up on the system.

T. Kelley Millet

We’ve seen a modest improvement in hit rate and performance in their selective buckets, so to speak, which is a million and under, and there are two reasons for that. One is, their outright winning of the trade where typically we may not have gotten prices back, and secondly is where they provide, in the sense what would be a cover or a third price where a buy side firm may require at least two if not three prices from a best execution to actually execute that trade. So, our mission or objective is to improve the hit rate which then we think will promote greater increase into that side trade bucket and with the higher fee per million obviously drive incremental revenue from those regional dealers. So, as I said in my prepared remarks, we still have a lot of work to do in connecting them with all of our institutional investors, but there are a lot of positive drivers as we continue to grow in that business.

Hugh Miller - Sidoti & Co.

Okay, and with regard to the technology fees in the fourth quarter relative to the third, if you can give a little color on the trends you’re seeing there and more specifically I guess with the decision with TWS, the services there, just want to know the ASP model and what you guys are seeing.

T. Kelley Millet

As you know, the dominant contributor to our technology services business is Greenline, and in my prepared remarks, we’re pleased with their performance in difficult market conditions. We saw very strong growth year over year. We would expect growth to continue albeit at a lower percentage rate year over year. You are correct with TWS; historically they were focused on the large broker dealers, in a sense more with that product strategy to focus on connectivity with regional dealers in promoting connectivity across various exchanges, thinner TRACE, etc., and the willingness and ability to offer it outright or on a hosted ASP model. So, we’re pleased with the early signs about that change and its impact on revenue and product license success, but again, if you look at the aggregate number, it will be the effective of focus and success of Greenline that would drive the bulk of that in 2009.

Hugh Miller - Sidoti & Co.

Okay, and just one last question, with regards to the cash position; where are you guys staying with that now, with your expectations for using that going forward, whether or not there are any acquisition candidates that you’re seeing that look interesting or if it’s just a matter of holding ground right now and continuing to focus on the current opportunities and improving the current platform?

James N. B. Rucker

Just a couple of comments on that. First of all I think having a strong cash balance is a luxury in a difficult market and a position we’re very pleased to have. So, we like the health of our balance sheet and consider it an important part of our business. With respect to the second question on acquisitions; we’re always looking for complementary technology solutions that would expand our services to the institutional trading markets. Having said that, we started the year incredibly excited about the new initiatives that we have going on organically. We have radically expanded the trading connections on the MarketAxess trading system over the last four months with a growth in dealer market makers on the system and the extension to the open order book through market lists. So, we believe that we’re delivering very important solutions to today’s credit markets, and the company’s primary focus is on executing on those initiatives in order to grow our revenues and grow our earnings throughout 2009.


At this time, there are no further questions in queue. I would now like to turn the call back over to Mr. Rick McVey for closing remarks.

Richard M. McVey

Thank you very much for joining us this morning and we look forward to talking to you next quarter.


Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to All other use is prohibited.


If you have any additional questions about our online transcripts, please contact us at: Thank you!