Trey Gregory – Head of Marketing and Communications
Richard McVey – Chairman, Chief Executive Officer
Kelly Millet – President
James Rucker – Chief Financial Officer
Hugh Miller – Sidoti & Company
Howard Chen – Credit Suisse
MarketAxess Holdings, Inc. (MKTX) Q1 2009 Earnings Call April 29, 2009 8:30 AM ET
Welcome to MarketAxess first quarter 2009 earnings conference call. (Operator Instructions) I would now like to turn the call over to Trey Gregory, Head of Marketing and Communications at MarketAxess.
Good morning and welcome to MarketAxess first quarter 2009 conference call. On the call, Rick McVey, Chairman and Chief Executive Officer will review highlights of 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 belief regarding future events that by their nature are uncertain. The company's actual results and financial conditions may differ, possibly materially from what is indicated in those forward-looking statements.
For a discussion of some of the risk 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, 2008. I'd also direct you to read the forward-looking disclaimers in our quarterly earnings release which was issued earlier this morning and is now available on our website.
Now let me turn the call over to Rick.
Good morning and thank you for joining us to discuss our first quarter 2009 results. First quarter earnings per share rose to $0.08 versus $0.05 in the first quarter of 2008 as revenues grew primarily due to the new business initiatives that were implemented over the past 12 months.
Revenues of $24.6 million were up 7% from a year ago and reflects significantly higher fee capture across all three transaction categories as well as the contribution from technology services. We have continued to maintain expense discipline and as a result, have grown our pre tax operating margin to 19%, up from 13% a year ago.
The credit market showed signs of improvement in the first quarter, leading to an increase in overall U.S. high grade corporate bond secondary volumes. were up 30% from the fourth quarter of '08 and up 21% from a year ago.
Investor engagement on the platform remained strong with total inquiry count of 57% from a year ago demonstrating the value we deliver to investors even through extraordinary market conditions.
Our total trade volume for the quarter grew 39% from the fourth quarter, but was 7% below year ago levels. Key metrics on financial health are significantly stronger than a year ago. EBITDA for the quarter was up 38% to $6.5 million from $4.7 million last year and our cash balance at quarter end was $137 million or $3.66 per diluted share.
We remain focused on helping our clients utilize our trading network to gain access to liquidity in what continues to be a challenging market environment. Kelly will talk in more detail later about the progress we have made with our new initiatives including additional dealers, new market list capabilities and our execution services desk.
As you can see on Slide 4, market conditions in the first quarter showed modest signs of improvement. Significantly higher yields in the corporate bond markets are attracting renewed interest in the sector. There were strong inflows into taxable bond funds and corporate bond ETS during the quarter and the new issue calendar was robust. 42% of the new issues supplied during the quarter was in government guaranteed bank debt.
Benchmark credit spreads as measured by the Currency Index ended the quarter at 453 basis points, 78 basis points tighter than at the end of the fourth quarter and credit spread volatility remains high. Investor inflows, active new issuance, tighter spreads and higher secondary volumes all point to an improvement in overall credit market conditions.
On Slide 5 you can see that investor increase across the platform are at an all time high demonstrating that investors continue to rely on MarketAxess as a unique channel to source liquidity in the credit markets.
Investor overall account increased by 57% in the first quarter compared to a year ago. However, the hit rate or percentage of increase resulting in trades while up from the fourth quarter, remains
well below pre crisis levels. This is a sign that liquidity in the credit markets continues to be negatively impacted by reduced capital for market making among key dealers.
Primary deal holdings of corporate bonds remain at about one-third of pre crisis levels. These current liquidity challenges in credit markets have led to our recent initiatives on expanding our trading network and adding new connectivity solutions.
Now let me turn it over to Kelly to discuss our business initiatives in more detail.
We have been proactive in adjusting our business model to enhance liquidity for investor clients in response to current market conditions. On Slide 6 we provide an update around three key new initiatives.
First, we continue to accelerate our regional dealer effort. A number of investor clients who have accessed the regional dealers having grown from 236 at the end of last year to 276 by the end of this quarter. The majority of our top 100 U.S. investor clients now have access to multiple regional dealers over the platform. Regional dealers are providing an important source of additional liquidity particularly in the smaller size trades.
Second, our efforts around market lists have made good progress during the quarter. This functionality enables institutional investors to display live inquiries to the entire MarketAxess trading community for order matching. We continue to upgrade technology to assist in investors in matching inquiries to their own order books.
Market lists have been well received by our investor base as over 200 investor firms have made at least one list public, up from 120 at the end of last quarter. Furthermore, 31,000 inquiries were submitted to our open order book in the first quarter an increase of 79% over the fourth quarter of 2008.
Third, execution services provides an additional source of liquidity to investor clients. That is essentially a hybrid electronic and voice model that seeks matches for inquiries that are not executed in the fully electronic request for quote process. In the first quarter of 2009, there were almost 50,000 investor inquiries that did not trade.
Our execution services group also provides fixed income expertise and transaction capabilities to investor clients that do not have bond expertise or established dealer relationships and virtually all of these transactions, MarketAxess functioned as a principal for matched pairs of orders which are settled through our clearing partner.
This first full quarter of operations in the executions services group provided invaluable services to both investor and dealer client any source of new revenue to MarketAxess.
Slide 7 provides details regarding the drivers of our commission revenue growth during the quarter. Our total commission revenue grew 6% versus the first quarter of 2008 and over 21% versus the previous quarter. Of particular note was the strength in our variable transaction fees which increased 52% from the fourth quarter and 39% from the first quarter of last year. The increase in transaction fees has more than offset the decline in dealer distribution fees over the last year.
Importantly, we also saw a significant increase in our fee capture per million which was up 23% over the first quarter of 2008. The increase in fees per million was driven by our execution services desk, variable fees on regional dealer transactions and an increase in the percentage of our volume coming from higher fee products giving a high yield.
High yield volumes were up by 94% compared to the first quarter of 2008. Our trading volume for the first quarter were much stronger than in the fourth quarter with increases across all product areas and an overall increase of 39%. They were however, still down from a year ago.
There are two primary drivers of the increased volumes; first the improved market conditions. They're reflected in the 30% increase in the quarterly numbers. Our market share picked up modestly in U.S. hybrid from the fourth quarter of 2008.
Preliminary indications for April show that fee capture and trades volumes trends remain positive. However, estimated U.S. high grade market share is much weaker than the first quarter average. In addition to the normal monthly market share fluctuations we believe this is due to the difficult time institutional investors are having buying corporate bonds.
Please turn to Slide 8 for an update on our European business. Prime engagement on the European platform remains strong. A number of clients that use the platform during the first quarter of 2009 increased 12% compared to the first quarter of last year, and the number of client increase submitted across the platform increased by 147% compared to the first quarter of 2008.
The financial metrics for the European business are also favorable. As with the U.S. Business, fee capture has grown compared to a year ago. The 22% increase in fee capture for the European business has been largely driven by a favorable mix of business towards higher margin products.
Commission revenue has grown 24% from a year ago in local currency terms, but have been impacted by a significant decline in the U.K. pound compared to the U.S. dollar. Within European commissions while dealer distribution fees are flat over last year, fees are up 87% in local currency.
We have both overlap and differences with the U.S. in terms of the initiatives being pursued in Europe. In common with the U.S. we are seeking to add additional dealers and we'll also be rolling out markets lists. A stand alone European initiative, we are also expanding a range of products offered to include capabilities in additional non core currencies.
So with that let me turn the call over to Jim for a financial update.
Please turn to Slide 9 for our earnings performance. Revenue grew by over 7% from a year ago driven by higher commission revenue and the contribution from our technology services business. Expenses were held flat and as a result, we saw a 60% increase in pre tax income and an increase in operating margins from 13% to 19%.
Net income of $2.8 million was up 78% from the first quarter of 2008.
The growth in pre tax income came despite the adverse impact of significantly lower yields on our investment portfolio and the decline of the value of the pound compared to the U.S. dollar. These two factors reduced pre tax income by a combined $1.4 million compared to the first quarter of 2008.
Technology products and services revenue was up significantly from the year ago due to the acquisition of Greenline in March of 2008 but down $400,000 from Q4. Greenline continues to build a strong sales pipeline and robust product offering which positions them well for future growth.
On Slide 10, we've laid out our commission revenue, trading volumes and fees per million. Commission revenue was up 21% from the prior quarter and 6% from the first quarter of 2008. Transaction fees grew strongly and were up 52% from the fourth quarter of 2008 and 39% from a year ago driven by the higher fee capture that Kelly spoke to earlier.
Fees per million were up across all three categories. This was partially offset by a reduction in distribution fees following the consolidations over the past year in the dealer community as well as the exchange rate impacts I mentioned earlier.
Slide 11 provides you with expense detail. Total expenses decreased slightly compared to the first quarter of 2008 but include $1.6 million of incremental operating expenses related to Greenline. Employee compensation and benefits increased by 4% primarily as a result of higher variable incentives and stock based compensation expense.
We continue to expect our 2009 full year expenses to be within the previously stated guidance range of $77 million to $84 million.
On Slide 12, we highlight the strength in our balance sheet. Cash, cash equivalents and securities as of March 31 were $137 million compared to $143 million at year end 2008 and represented $3.66 per share on a diluted basis.
Annual employee cash bonuses accrued during 2008 were paid out in January 2009. Total shareholders equity as of December 31 was $229 million representing book value on a diluted basis of $6.11. We continue to have no bank debt.
Now let me turn the call back to Rick for some closing comments.
In conclusion, the first quarter marked an improvement in the overall credit markets and our financial results. Trading volumes, fee capture and market share all improved from the fourth quarter driving an increase in company revenue and earnings. Importantly, new dealers and new trading activities have created a more diversified revenue base.
Our earnings results for the quarter serve as a reminder of the attractive operating leverage in our business. We are focused on growing revenues while controlling expenses in order to create attractive returns for our shareholders.
Now I will happy to open the line for your questions.
(Operator Instructions) Your first question comes from [Hugh Miller – Sidoti & Company]
Hugh Miller – Sidoti & Company
I was wondering if you could us any update on uses of cash. Obviously you continue to look for acquisition opportunities, but at this point whether or not you're seeing anything that looks attractive and what we should expect going forward.
In terms of the cash on the balance sheet we like having the strong cash balances through the current credit market environment. It does give us the flexibility to be able to look selectively at acquisitions that would help us to fill in the business. Clearly if we didn't have that cash on the balance sheet, in the current environment borrowing would be both difficult and expensive.
Having said that, we also very much like the internal opportunities that we're working on and to be quite honest at this point, we don't see anything attractive on the acquisition front as those internal organic growth opportunities.
Hugh Miller – Sidoti & Company
I was wondering if Kelly could provide us with a little more insight into the up selling of some of the regional dealers to the fixed rate platform and any impact it may have had on the first quarter performance.
We are pleased with the progress as I said in my remarks with the growing importance of the regional dealers. One, they provide a source of additional liquidity especially in the odd lot size category number one, and they also provide based on that financial arrangement a higher fee capture per million.
We are working with a handful of those regional's in that sort of undisclosed non disclose program to step in front of the button as we call it or into a disclosed program where they would pay fixed distribution fees subject to the nature, size and type of inquiry that they see.
So we are making some progress and we feel reasonably optimistic subject to any merger or other crisis events among the dealer community that we can stabilize our fixed distribution fees throughout 2009.
Hugh Miller – Sidoti & Company
Were there any that stepped in front of the button during the first quarter or is this something that you're looking at more second, third quarter and so on.
There are without getting into too much detail, there are several that are now in the disclosed plan but the financial impact in the first quarter from that is relatively muted so if we are going to see some positive impact in stabilizing the fixed distribution fees, we would expect to see that in the later quarters of this year.
Hugh Miller – Sidoti & Company
Obviously you saw a little bit of a compression in the technology service fees relative to the fourth quarter, I was wondering if you could provide us with a little more insight as to what may have transpired during the quarter and what your thoughts are on a go forward basis.
First quarter of 2009 as you can from the numbers was a little more of a difficult environment in technology services and we think that was around budget availability amongst the client base for spending on technology services. The early indication in the second quarter is that things have eased somewhat but it's a little bit too early in the quarter to really make any predictions on where we'll end up.
Hugh Miller – Sidoti & Company
Did you make a comment about market share in April relative to the first quarter and if so, what were those comments?
I did. The two positives that we're seeing in the April month to date results is a continued positive trend in fee capture as well as in overall trace activity. We are seeing a lower market share number for April versus the average share to the first quarter.
As I look at that, we've seen a real dramatic change over the past six months. In our conversations, as you probably recall, go back six months our investors were looking for bids across the system and were unable to get those bids for a number of reasons including reduced inventory that Rick referenced as really lack of risk taking in the broad dealer community.
We find ourselves almost in a polar opposite position reflecting in April where the buyer is looking to go one way which is to offer from the dealer community. Again, given the lack of inventory and our assessment which is a qualitative assessment of the street is not sure, they are having difficulty in sourcing those bonds on an at risk or incent to dealers taking balance sheet risks to short those bonds to the investors.
We are seeing therefore as we look at the trace data a continued trend of bonds crossing on a risk list basis in the old fashioned way of sourcing bonds and selling those bonds without using the balance sheet. And obviously that's one element of our new initiative in trading and execution services which is really an extension of our core business.
Your next question comes from Howard Chen – Credit Suisse.
Howard Chen – Credit Suisse
On the new issuance chart you broke it out with unguaranteed issuance and the government guaranteed issuance. When you think about those two buckets and particularly the government guaranteed issuance, are you seeing anything interesting in terms of trends on the MarketAxess system with respect to those guaranteed bonds?
We have introduced full functionality in trading the FDIC and government guaranteed bonds on our system. You should be aware that the dealer counter parties are trading for the most part those FDIC bonds off of their agency deck and not their corporate credit debts. It's safe therefore to assume that we have a slightly lower market share in that business as we obviously have just launched that initiative over the past six to eight weeks.
One of the things to think about, and at least Rick and I think about this is that assuming that over time markets stabilize and the percentage of total issues as reflected by the graph that shows 42% being FDIC, as that declines we would expect that to have a positive impact on trace overall as banks and other top related entities fund beyond the FDIC guarantee.
That should provide significantly more liquidity in the investment grade non FDIC secondary market so we see that as a positive sign over time as I said earlier, assuming some stability in the overall market conditions.
Howard Chen – Credit Suisse
Historically you talked about clearly you've had a very strong presence in the dealer in the United States. You've broadened into the inter-dealer business and management has spoken about the retail opportunity historically, what do you think about that today and what's going on in the retail market? How alluring do you see that opportunity?
I think it continues to be of interest. As you know retail flows have grown quite significantly in fixed income over the last three or four quarters. We continue to look at ways to participate in the retail business both organically and through acquisitions and quite honestly, even the expansion into the regional dealer community is a step in that direction as those dealers are operating primarily in odd lots on the system and sourcing product from MarketAxess that is then distributed out to retail.
So we continue to be interest in expanding our network into new clients segments including the retail space and it is something that we are focused on.
Howard Chen – Credit Suisse
You touched a little bit on the drivers of the resilience of the revenue capture trends of this quarter but any sense as to the resilience of that as we walk through the year in terms of either customer product mix?
As Kelly mentioned, things that were driving the higher fees was in the new business areas, the regional dealers, the execution service desk as well as a favorable mix and primarily in the high yield business, and all three of those things are sustainable ongoing positive business. So we definitely think that the fee capture trends are sustainable.
I guess the only caveat I would put in there, if we got a return to more normal credit markets and we started to see a return of the shorter duration of floating rate note business, that may well come with a reduction fees but the extra revenue we got from getting back that business will be additive.
There are no questions in queue. I would like to turn the call back over to Mr. Rick McVey, Chairman and CEO for closing remarks.
Thank you for joining us this morning and we look forward to talking to you next quarter.
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