Welcome to the NASDAQ OMX third quarter 2009 earnings results conference call. At this time I would like to turn the conference over to the Vice President of Investor Relations, Mr. Vincent Palmiere. Please go ahead, Sir.
Thanks everyone for joining us this morning to discuss NASDAQ OMX’s our third quarter 2009 earnings results. Joining me are Bob Greifeld, CEO; Adena Friedman, Chief Financial Officer, and Ed Knight, our General Counsel.
Following our prepared remarks, as always, we will open up the line for Q&A. You can access the results and the presentation on our Investor Relations website at www.nasdaqomx.com. We intend to use the website as a means of disclosing material, non-public information and for complying with disclosure obligations under the SEC regulation FD and these disclosures will be included under the Events & Presentations section of the website.
Before I turn the call over to Bob I would like to remind you that certain statements in the prepared presentation and during the subsequent Q&A period may relate to future events and expectations and as such constitute forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The actual results might differ materially from those projected in these forward looking statements. Information concerning factors that could cause actual results to differ from the forward looking statements is contained in our press release and in our periodic reports filed with the SEC.
With that I will turn it over to Bob.
Thank you Vince. I thank everybody for joining us this morning to discuss our third quarter 2009 results. I will take a few minutes to highlight some key accomplishments during the quarter and then update you on the progress of our organic growth initiatives. Adena Friedman, our CFO, will then walk you through the financial results in detail.
Today we reported net income of $60 million or $0.28 per diluted share. However, on a non-GAAP basis, net income was $89 million or $0.42 per share. These results were achieved with headwinds in our cash equity business from both a capture and volume point of view. During the call today I want to emphasize we have taken actions to address these issues and as we exited the third quarter we saw a noticeable improvements in many of the drivers of our cash equity business.
Additionally, we made some changes to our trading fees that increases our capture rate which is intended to increase revenue by as much as $15 million assuming market share and volume constant with October levels in the fourth quarter. Adena will walk you through the specifics of each change in more detail.
On another positive note, we do continue to see improvements in key market trends in all of our U.S. and European marketplaces. This quarter we saw our U.S. cash equity market share continue to improve and at 25% it is nearing levels we haven’t seen since February. Additionally, I have spoken with you before about how we were shifting the mix of our businesses by balancing our fee based businesses with trading services. This shift can be seen in the growth of our access services business during the quarter where for the first time access services was higher than our transaction revenue business. We grew from $32 million to $36 million and we do anticipate additional growth in this business in the fourth quarter.
Within U.S. equity options the average daily volume managed by our systems is improving with October ADV at 2.8 million contracts, up roughly 12% from the ADV of 2.5 that was realized in July and August. In Nordic cash equities overall the market has realized a broad recovery with the OMX 30 index up 43% year-to-date. In October we registered the highest level of activity for the calendar year in both value traded and the number of trades as value traded reached 56 million Euros.
With the recent launch of CCP and the Nordics this past month we will continue to drive growth while expecting increases in trading velocity. During this activity we are pleased to report that our market share has remained around 85%. This is the highest of any of the established European exchanges.
Finally, in the Nordics we are moving forward with the conversion of trading through the INET platform which we expect to complete in early December. Turning to Nordic derivatives, volumes are also at the highest levels of the year reaching 12.9 million contracts up from an average of 10 million for the third quarter of 2009. Growth from new fixed income contracts remains strong and we are continuing the steady migration of EDX contracts to our Nordic platform which is expected to be completed in the fourth quarter.
In our issuer business we are beginning to have a real pick up of new listings as companies are returning to the public markets to raise capital. The number of IPOs has increased as has the number of secondary listings. IPOs grew to 10 in October. We are registering a total of 25 year-to-date and representing significant growth following the 3 IPOs during the first six months of 2009.
Overall, new listings grew to 23 in October registering a total of 99 year-to-date. As many of you are aware we continue to be highly successful with switches from markets that comprise the NYSE with seven in the third quarter alone including R.R. Donnelley, Mattel and TriMas. Year-to-date we have captured 18 switches totaling $135 billion in global market cap with Vodaphone being among the most recent. Truly it is a milestone event when a company with a global market cap over $100 billion switches to the NASDAQ stock market.
Our IPO wins and the success of our switch program are being driven by our corporate services program, the value of which is increasingly the differentiating factor in company listing decisions.
Within market technology we continued to have a healthy pipeline of orders from new clients and from existing partners. Our most recent partners include the Osaka Securities Exchange and the Kuwait Stock Exchange. These are multi-year major contracts which will significantly drive the profitability of market technology in the quarters to come. We are continuing our discussions with BM&FBOVESPA regarding a possible technology cooperation agreement.
I would like to turn my attention now to our new initiatives. At BX, the second cash equity market that we launched earlier this year market share and volume has continued to improve. During the third quarter BX’s market share of U.S. cash equities is 2.7%, up 1% from the second quarter of 2009. Even more impressive than that is the fact that share continued to grow in October and averaged 3.7% with volume averaging 340 million shares per day. This growth continued following our price change at the beginning of September when we shifted our fees to a positive capture rate and this will have a positive impact on our fourth quarter revenue.
With respect to NASDAQ options market we revised fees at the beginning of the second quarter increasing our average capture rate per contract from $0.01 to more than $0.10 per contract. We are pleased obviously so see our market share remain stable as we moved away from the incentive pricing structure that was in place during the second quarter. Given the success of BX and NOM they now have become core to our business operations and will be reported as such in future quarters. They no longer belong in the new initiatives column.
With respect to IDCG, our interest rate swap clearing and settlement sub, interest in this initiative continues to grow and we now have over 20 sell-side, buy-side and GSE market participants that have submitted deals worth more than $850 billion of notional value into our shadow clearing environment up from $450 billion in the second quarter. As I stated previously we believe this to be a nine-figure revenue opportunity and during Adena’s prepared remarks she will outline the size of the market.
On the regulatory front we are pleased with the passage of bills from the House Financial Services Committee and the House Agricultural Committee and are thankful to Chairman Franks and Chairman Peterson for showing leadership as they shepherded the bills through their respective committees.
With respect to our efforts in Norway, in the quarter we were able to grow our share to 2.4% on the region cash equities. A major event occurs in November when we launch CCP for Norwegian Securities. We believe this will provide members with the benefit of lower trading costs and should result in increased trading velocity.
With respect to our efforts in the U.K. power market our planned launch is proceeding towards its November date. This market initially will be a spot market whose objective is to establish a transparent price for U.K. power. We have strong industry support and are working with 19 firms to be on board at the launch date. These firms include major power producers such as German-based producers RWE and E.On, the French utility EDF, Scottish Power and SSE, and all those are among the big six in U.K. power.
With respect to our London-based NTF we continue to grow market share as it recently reached more than 1.5% of Pan European market share, double the average share realized during the third quarter. Our share of the FTSE 100 and the CAC 40 routinely exceeds 2.25% market share. We are clearly pleased with that progress.
Now as we look towards 2010 we obviously will be looking at new initiatives beyond what we have in the pipeline today. We currently have three exchange licenses; NASDAQ, BX and PHLX. There are two ways to leverage each of these assets; either by creating a listings market or launching a trading venue. With NASDAQ we have both. With BX in January we successfully launched our BX trading market and last month we announced our plans to launch a BX listing venue.
Pending SEC approval this market is designed for small companies that aspire to list on a regulated market. With this new market we believe we are filling a necessary need for a well regulated listing venue for companies that otherwise would transfer to or remain on an unregulated or lightly regulated platform.
Finally, with our PHLX license we are launching a new trading platform and are excited to be leveraging our existing technology to introduce new innovations to the marketplace. This market will be a price size priority market and we are working with the SEC to gain approval with the intention of launching it in the second half of 2010.
In conclusion, we feel very good about the progress of our existing businesses. We feel quite pleased with the fact we are gaining market share in our U.S. cash equity business. We see that each and every one of our core businesses is experiencing some macroeconomic tailwinds which we are grateful for and we like our positioning. With respect to our new initiatives our track record is very strong. We are proud to have witnessed the growth of NOM and BX and we certainly have great hope and expectations for the initiatives I previously stated.
At this point I will turn the call over to Adena.
Thanks very much Bob and good morning everyone. Thanks for joining us today. Today we reported net income for the third quarter on a GAAP basis was $60 million or $0.28 per diluted share. The GAAP results include a debt conversion charge, merger related expenses and other expenses and charges that are nonoperational in nature.
Excluding these items our non-GAAP net income for the third quarter of 2009 was $89 million or $0.42 per diluted share, a decrease when compared to pro forma non-GAAP net income of $108 million or $0.51 per diluted share for the third quarter of 2008.
Reconciliations of GAAP to non-GAAP results can be found in the attachments to our press release and in the presentation that is available on our website at IR.nasdaq.com. Throughout my remarks I will refer to several slides in the presentation so you may want to have it open to follow along. Consistent with our prior calls, the remainder of my comments will address our non-GAAP results unless I note otherwise. The GAAP to non-GAAP reconciliation can be found starting on slide 17 on the presentation.
Since much of the detail of our results is included in the press release I will quickly highlight a few important points for the quarter before moving onto other developments. Net exchange revenues were $349 million, a decrease of $62 million or 15% year-over-year. Of this decline approximately $14 million or 23% of the variance is related to changes in the exchange rates of the various currencies as compared to the U.S. dollar. The remainder of the decline is primarily due to fee reductions for U.S. cash equity trading and lower matched share volumes.
As Bob mentioned our market share has been improving and we have also taken steps to address the decline in fees which I will discuss in more detail later in my remarks.
Total expenses were $197 million representing a decline of $25 million or 11% from $222 million in the third quarter of 2008. The primary driver of our expense reductions are synergies resulting from the successful integration of OMX and PHLX. Also contributing to the expense decline is the favorable impact of FX which has the effect of reducing operating expenses by $10 million in the third quarter of 2009 when compared to the third quarter last year. For a more complete bridge of our expenses from Q3 2008 to Q3 2009 please refer to slide 13 in the presentation.
Operating income was $152 million in the quarter with operating margin coming in at 44%. Net interest expense in Q3 2009 was $23 million consistent with interest expense of the third quarter of 2008 and the second quarter of 2009.
Finally on the income statement the effective tax rate for Q3 2008 [sic] was 32% slightly below our normalized rate of 33%.
Now turning briefly to the balance sheet I would like to direct you to slide 14 in the presentation. Cash, cash equivalents and financial investments at quarter end were approximately $781 million. Of this amount approximately $405 million is reserved for regulatory requirements down from $618 million at year-end 2008.
Year-to-date cash flow from operations was approximately $219 million and year-to-date capital spending was $46 million of which $15 million came in the third quarter. Our total debt obligations at the end of the quarter were $2.089 billion reflecting a decline in the total principal amount of our debt obligations of $452 million from 2008 year-end.
Consistent with our plan to reduce debt we paid down $112 million of our term loan during the quarter bringing us to a total repayment of $225 million for 2009 year-to-date. Also at the end of the third quarter Silver Lake converted all of their 3.75% convertible notes into common equity reducing our outstanding debt obligations by $119 million. As I think we have demonstrated to you through our actions in 2009 we continue to take prudent steps to manage our balance sheet. Our progress is evidenced by the fact we now have a very respectable net debt to LTM EBITDA ratio of 2.17 times which is consistent with other peers in the industry.
Now looking forward there are a number of recent developments for the fourth quarter and I will review these in detail to ensure that you understand the impact of each to our financial statement. As I mentioned earlier we have taken steps we believe will have a positive impact on revenues in Q4 and on a go-forward basis in the U.S. cash equities business. They include a change in our BX pricing at the beginning of September to move the capture rate from a negative net capture of $0.06 per 100 shares to a positive capture of $0.02 per 100 shares.
Since the positive capture rate was in place for only one month in the quarter there will be a positive impact to revenues for Q4 as based on October activity levels this will result in approximately $9 million of additional revenues over Q3.
Secondly, earlier this week on November 2 we entered into a revised fee structure for trading on NASDAQ. The new rates raise the [take] fee for high volume customers to $0.28 per 100 shares up from $0.27 while routing fees were increased to $0.29 from $0.26. This reflects a modest change to fees introduced on July 1st and assuming volume and market share remain consistent with October levels the expected two-month impact is $3.5 million and full-quarter net impact is approximately $5 million.
In the third quarter we recognized revenue of $36 million in access services, up $4 million from the second quarter of 2009. This increase is primarily driven by revised fees that we introduced during the third quarter. When combining the full-quarter impact of the Q3 change with increased demand for co-location services, we expect access services to continue to grow by $2-3 million during the fourth quarter to approximately $38-39 million.
In other parts of our business we are also experiencing strong business metrics in the fourth quarter. Specifically in our market technology business we currently have nearly 100% of our fourth quarter revenues fully committed under contract and therefore we can expect revenues to be consistent with our Q3 performance.
Now turning to one of our growth initiatives, Bob referred to our investment in interest rate swaps markets. Slide 11 of the presentation contains specific industry information regarding the total size and average turnover in the market. As of December 2008 it was estimated the total notional value of U.S. dollar denominated interest rate swaps was $328 trillion.
Using April 2007 data, the most recent data available through the Bank for International Settlement website, the average daily turnover is 0.44% of notional value. If you assume that the average clearing fee per contract is $1.00 per side for every $100,000 in notional value, then $1 trillion in notional value cleared assuming average turnover yields total revenue of approximately $1.8 million per month. When doing the math you can see why this opportunity has our interest. Even a small percentage of market share can yield significant revenue opportunities.
Now turning to some divestitures that were recently announced. We sold two businesses at the end of October; our Carpenter Moore Brokerage insurance business and our U.K. broker services business. These asset divestitures will not have a material impact on our bottom line in the fourth quarter. However, you should note there will be a slight loss of revenue and off-setting expenses of approximately $7 million on a full-quarter basis.
Finally let me touch on our expense guidance. We are updating our 2009 full-year expense guidance and now expect total operating expenses to be in a range of $840-850 million. Included in these figures are approximately $50 million of nonrecurring expenses up from $30 million in our prior guidance. Thus leading to recurring expenses of $790-800 million for 2009. This guidance reflects the partial quarter impact of the sale of Carpenter Moore and U.K. Broker Services.
Overall we feel that we are finishing the year in a stronger position in our U.S. trading business as well as in the Nordics with the transformation of the market structure and trading system and we continue to have tremendous performance in our market technology business. As I wrap up I would just like to say that it is a true privilege to take on the responsibilities of CFO at NASDAQ OMX and I am looking forward to getting to know you in the coming months now that I am getting settled in the position.
Thank you very much.
Thank you Adena. We are ready for questions now.
Question and Answer Session
(Operator instructions) The first question comes from the line of Rich Repetto - Sandler O'Neill.
Rich Repetto - Sandler O'Neill
On the incremental revenues you are seeing, or that you expect in 4Q, the only one I wanted to ask a question about was on BX we are seeing a little share deterioration even from October. What is your view the sensitivity of your customers to the price change?
I would direct you back to what we call NASDAQ Classic because that pricing change went into effect November 1 and we have had a slight uptick in market share in the 3-4 days we have had here. Our comments with respect to the BX revenue we feel very comfortable with.
Rich Repetto - Sandler O'Neill
On the regulatory front, the SEC are looking at dark pools and putting the limits on how much the dark pools can trade and a deeper look into IOI’s. Is this all incrementally positive? Is there a negative in here? Is there a negative way some of this stuff could impact you?
I certainly think that it is impossible to predict exactly how regulation would come out but we are comfortable the regulatory discussions ongoing right now will certainly be a significant net positive to NASDAQ OMX.
The next question comes from the line of Dan Fannon – Jefferies.
Dan Fannon - Jefferies
IDCG continues to appear to be at the top end of your initiatives. I was wondering could you help us understand what the next step is going to be as these customers move from kind of shadow or test clearing to real participants. Is that just waiting for regulatory finality and what they are pushing for or is there something else we should be looking for?
I think there are a multitude of factors driving the different participants in the shadow clearing environment. I believe certainly at the extreme people wait for the actual legislation to be put into law but I think the vast majority of folks will move when they see the contours of how the legislation will play out and feel that there is a high degree of certainty around that. So the fact that the bills have moved through committee and now will go to the full house, I think the plan right now is the first week of December, is positive for us.
What we are seeing in the channel clearing environment is the next step where people are meeting each other; where they are putting in contracts against each other and making sure it then meets in the shadow clearing system and they integrate it into their back office systems and the books and records are checking out. Beyond the dollar growth in the third quarter that was I think the substance growth of taking it to the next level of operational readiness.
Dan Fannon - Jefferies
In the slides the break out for market technology discussed segment margins of about 14%. Can you remind us where they have been as I do believe that is an improvement and where you think they can go?
I believe in the second quarter we had margins of 12%. When we first closed on the OMX transaction it was essentially a breakeven business. So we do continue to show progress in our margins and we do believe as we continue to grow the business and achieve our strategic goals as well as continue to drive operational efficiency in the business it can very well be a 30% margin business for us and that is certainly what we are driving to.
I think there was a commitment it will be a 30% margin business. I am looking at [inaudible] as I say that. That’s the first time we said it.
The next question comes from the line of Roger Freeman – Barclays Capital.
Roger Freeman – Barclays Capital
Broadly, the market share trends…across total U.S. equities you are up now, it is obviously early in November, but three months in a row. So is the NYSE and if you look at where that share is coming from and it has been coming out of direct and out of that there has been a little bit of decline and internalization. I am wondering are you seeing any change in behavior in customers maybe around anticipation of changes with respect to like orders. Any change in focus on the part of some of those competitors? Is there anything changing in the competitive environment that makes it more of a trend than a one-off?
I certainly believe the coming demise of flash orders has changed some behavior in the market. I don’t think that has been the biggest contributor or factor there. As you know we have also seen a decline in trading in that limited sub-set of stocks which was a headwind we faced for a period of time. So we have those factors. I also believe when you look at the technology enhancements we have made especially with the INET 2.0 launch and rollout it has been a positive impact to us and to our customers in terms of their interacting with the market. Clearly BX has given our customers a different venue to trade in a different way with a different set of sensitivities. That is I think an enduring value.
Roger Freeman – Barclays Capital
On this new listing can you give us a sense of given whatever standards you are considering, how many companies, what kind of market cap do you think would potentially qualify? Then on IDCG you have a top five dealer shadow clearing there yet?
Let me take the first question. I can’t give you an exact number but let me position the product. The product will be positioned somewhere between the OTCBB/Pinks and NASDAQ Capital Markets. So it will be those companies who want to submit to the regular of a listing standard. These listing standards obviously will be lower but they will be standards. As we have canvassed the marketplace to establish the need we have certainly seen it as a market that numbers in the hundreds of companies that can quality for this. That is as far as I want to go.
With respect to your second question I am not sure of exactly who is in the top five but I would say this, we definitely have several dealers who are in the top 10 who are shadow clearing with us.
The next question comes from the line of Howard Chen – Credit Suisse.
Howard Chen – Credit Suisse
Have you seen a major competitor go down the route of semi-mutualizing some of their exchange businesses and selling space to the dealers? Somewhat different than what we have historically seen in the industry, you have always been close to the customer base and I am curious if you think that this has any impact on the competitive landscape?
I think there is a time and a place for it and you can see it with our endeavors with IDCG. We are trying to do something that has not been done before. We are trying to change a fundamental market structure and we need to do that in partnership with the customers. As we look to establish markets where we currently have 100% equity ownership it is a more nuanced and/or interesting discussion. I think our fundamental viewpoint is if we bring the products to market that allow our customers to trade for their customers and trade for their proprietary accounts and it is effective then the mutualization question really recedes. So we focus on ensuring we are delivering a profitable product. We think we do that and we will be well served.
Howard Chen – Credit Suisse
On the market technology business I have always thought of that business as seasonally stronger in the second and fourth quarters and this quarter’s results were quite stable. Not to get too near-term focused but is that sequential stability primarily driven by the installation of the two wins you spoke about? Are they at full run rate?
I will say one thing and then Adena will handle it. I think it is important to recognize with the market technology business you cannot get too strong of a leap in the seasonality. In the contracts we announced they tend to be large contracts. So we announce contracts that could have a $40-50 million contract value to us over a period of time. There is a natural lumpiness to that. While there is some broad seasonality I would not be too focused on that. It is really how are we doing customer by customer?
I would say specifically looking at one of your questions was is some of the revenue coming from the two wins. The answer is no. Essentially the revenue comes in once we deliver and then it starts to essentially accrue our benefit over the life of the contract. So we sign the contract. We then now have to deliver against them and then we will be able to enjoy the revenues that come from those contracts over time.
Specific to the third quarter, this year in general we have had a lot of what I would call shorter term development work we have been able to accomplish at our clients. We have had a lot of clients ask for upgrades, enhancements and small things they want to achieve in order to continue to improve on our platforms, make it faster and more flexible. So therefore those types of customer requests tend to be a little bit more stable and a little bit less chunky in nature. I think this year has been a really big year for enhancements for our clients so that is what you are really seeing.
The next question comes from the line of Mike Vinciquerra - BMO Capital Markets.
Mike Vinciquerra - BMO Capital Markets
On the expenses you mentioned kind of X some items in the year you are looking for $790-800 million for 2009. Is that a decent run rate to think about for 2010 less I think you said $7 million per quarter for the businesses you just sold.
Generally we have done I think an excellent job of achieving the synergies from the PHLX and OMX deals. We brought down our expenses very aggressively over the last two years. We have essentially achieved the majority of those at this stage. So we are entering a steady state on expenses. We will provide guidance on 2010 expenses on our Q4 call but I can say that we are comfortable with that as our guidance for this year and I think you can assume you are going to see a steadier state from us in 2010.
Mike Vinciquerra - BMO Capital Markets
On the cash equities in the U.S., can you talk about what is driving the pricing changes? Actually calling it NASDAQ Classic, what gives you confidence that it is a good time to actually be raising prices? I am assuming you think the competitive environment is moving more in your favor?
I think as you saw 2009 develop we were obviously losing market share. We took certain pricing actions. Many of them were effective but others we were essentially giving away money that wasn’t having any impact on customer behavior. So this was a process of fine tuning the pricing actions we have taken through 2009. It was done in consultation with our customers and as I said so far in November you can see the results have been quite positive.
The next question comes from the line of Rob Rutschow – CLSA.
Rob Rutschow – CLSA
On the options market you completed the PHLX transaction with new technologies. I am wondering if you have seen any changes in market participation and spreads there? Secondly, how should we think about any cost base from quarter-to-quarter and how that flows through the quarter?
One is we are quite proud the team got that completed in 12 months. It was actually exactly 12 months. I think I have said on a previous call that effort while very positive did have a side effect. The side effect was that we had new enhancements we wanted to make to the product set that had to go necessarily behind the integration project. So the team right now is working hard to bring new functionality to the market which we think will be well received and we expect to see some of that coming on board in the fourth quarter of 2009 with a major impact in the first quarter of 2010.
So we feel very good about that. That is in process. Obviously we are completing the retirement of the old Philadelphia system. It was a fine system, just a victim of numbers. Within the context of our expenses there will be some decline in the support staff associated with that.
Rob Rutschow – CLSA
On IDCG, can you talk about how you are positioning that relative to the incumbents like LCH? Do you anticipate clearing non-dollar denominated swaps?
Our focus clearly is on the dollar swaps at this point in time. It would be reasonable to conclude that assuming success in the dollar currency we will look to expand our viewpoint there but we want to build upon a solid platform. That is how we have run these businesses through the years.
With respect to the competitive differentiation of IDCG I think it is important to recognize we are looking at a new world. There is nobody really doing exactly what we are endeavoring to do at IDCG. We are clearly trying to create an all-to-all market that allows more participants to be able to compete in this market while preserving the ability for the establishing incumbents to obviously continue to provide value to their customers.
We look at the competitive landscape today and there is nobody who is really doing what we are doing at this point in time. That will change in time but we clearly have first move advantage.
The next question comes from the line of David Grossman - Thomas Weisel Partners.
David Grossman - Thomas Weisel Partners
A quick question on Europe. I think in your prepared remarks you said you were pleased with the kind of progress you are making with the EMTF. Is there anything you are thinking of doing differently there that may in fact even accelerate your ability to gain share there? Are you kind of looking at that as a very deliberate strategy where a slow and steady kind of wins earnings?
Well we certainly recognize we are seeing as one of the players who has the ability to ride out the competitive world and in terms of how we run businesses it is hard to get too upset with a business that sets volume records on a regular basis. We set two last week. We for the first time matched over 1 billion Euros and that represented in a span of 30 days almost a 40% increase in that record. We obviously are continuing to gain traction. We are not anywhere near where we want to be in that marketplace but the trend line is positive and we are focused. We have a very capable team on the ground that is building very deep relationships with the customers and is starting to bear fruit.
David Grossman - Thomas Weisel Partners
I just wanted to follow-up with one thing Adena. You mentioned on a run rate basis that the fourth quarter is a reasonable benchmark at least to start thinking about 2010. Is it basically a bunch of puts and takes that get you to the same place or is the base kind of where it needs to be right now to support the revenue levels that you are thinking about over the next 12 months?
I think I would say I do want to be somewhat clear. I didn’t specifically say that the fourth quarter is the run rate going into next year. What I did say was we have substantially achieved our synergies and we have a couple of additional things that will continue to drive us forward particularly as we implement INET in the Nordics. But generally there are going to be some puts and takes as we go into next year. We also are going to want to continue to be able to invest in growth initiatives and we will continue to do that as we did this year. Generally speaking the expenses we are seeing right now do reflect a vast majority of the synergies having come into our business at this point.
The next question comes from the line of Edward Ditmire – Fox-Pitt Kelton.
Edward Ditmire – Fox-Pitt Kelton
I wanted to talk a bit about the U.S. equity dynamics. Based on your guidance it looks like we are looking at getting from the $0.018 per 100 up to something that rounds up towards $0.03 per 100 next quarter, maybe somewhere between $0.025 and $0.03 per 100. Overall since you started this plan it looks like you are cutting pricing net about 20%. You have about 20-25% more market share. Just on the basis of transaction fees the moves are likely to be accretive and then you should have more U.S. [tape data] revenue as well. Any reason to think the U.S. consolidated tape revenue plans shouldn’t increase proportionately and add meaningfully to the revenue run rate that we saw in the third quarter?
I think it is important to note as we gave the very explicit guidance on where we think the revenue will come out in the U.S. transaction business, that was inclusive of positive pick up on the market data side. We have fully contemplated that. I would also direct you to a little bit of a different place on the transaction business. You saw in the third quarter we hit a tipping point where the fixed fee portion of the business exceeded the variable fee. So we grew the access services business from $32 million to $36 million. We expect additional growth in the fourth quarter as I said in my prepared remarks. That has been an important focus for us in 2009 and it will continue to be in 2010. We at NASDAQ are uniquely positioned to bring those incremental services to bear and obviously then have a reduced reliance on the variable point of the revenue.
Edward Ditmire – Fox-Pitt Kelton
Do you think with your higher market share and also some of the pressures the regulators seem to be putting on the non-displayed market that perhaps you will be better positioned with your own non-displayed products and maybe have some pricing levers there?
One, we believe the regulatory efforts will work I think to the benefit of the [LIT] markets and that is probably all I want to say on that. With respect to our reserve orders which you are getting at I think it is important to recognize our reserve orders are only executed after the LIT markets are extinguished. So you have to go through the LIT market to get to the reserve order. We think that paradigm continues post whatever SEC review happens in 2009 and 2010.
The next question comes from the line of Robert Napoli – Piper Jaffray.
Robert Napoli – Piper Jaffray
I just want to be a little more clear on the interest rate swap business and when you expect to start generating revenue and how you convert the shadow to live revenue. Are you suggesting when the bill passes the shadow clearing goes live and the $850 billion which you are starting to generate near $1.8 million of revenue per month relatively quickly from current levels? Is that what you are suggesting?
I am suggesting the revenue comes when there is certainty about the legislative actions. I don’t think the market waits until the President signs the bill into law. I think the action comes when there is great certainty around that.
Robert Napoli – Piper Jaffray
But you are anticipating what is being shadow cleared now converts to live immediately at some point no later than when the bill is signed?
We certainly believe that the customers are putting the business into our shadow clearing environment and are doing it with serious purpose in mind. That or some other portfolio or all portfolios would be fair game for IDCG to be involved with.
Robert Napoli – Piper Jaffray
Do you expect that business the margins to be an investment business for a year or two? Is it dilutive to margins? Accretive to margins? What are your thoughts around the profitability of that business?
I will say this. Right now we have a full staff we have been funding for 2009 and we don’t have any revenue. Any revenue would be welcome. To give you a direct answer this business will become positive to the bottom line very quickly once it goes live.
Robert Napoli – Piper Jaffray
A little more color on access services. Can you give us a little more color on that business and the margins in that business? Isn’t co-location something that maybe is being targeted under regulatory and maybe has some pressure on co-locations?
Co-location services is part of the access services number and it is a large part of the growth of the access services number. We believe that co-location services properly managed represents a positive for the industry. As we have said before we run this business ensuring fair access and we are going to take it to the extreme level where any customer would get the same experience. That is a customer who is five feet from the matching engine versus a customer who is 250 feet from the matching engine will have the virtual identical response time. We are calling it the virtual 100 foot cable. We communicated to the regulators how transparent we are running this service so we feel very comfortable with it being an enduring product for us.
The next question comes from the line of Jonathan Casteleyn – Susquehanna Financial Group.
Jonathan Casteleyn – Susquehanna Financial Group
I was just looking for an update on your OMX trading velocity. I think you are running just under 100% recently on your $500 billion market cap there. I think at one point investors were thinking about a 300% multiple on trading in Europe. I am just wondering is that still a relevant target? How do you get there? Are there any catalysts to increase the trading multiple there?
I think it is a worth budget goal for ongoing 2010. Clearly we see upside in the velocity. I think it is apparent to all and as we go into 2010 I think more people will focus on it. I would again direct you to the fact we are building the necessary infrastructure for that velocity to increase quite dramatically. The team and the community in the Nordics did a tremendous job moving to central counter-party just last month. We are completing it in Finland later this month. That allows all the international players to transact in the Nordics environment with a greatly reduced cost of [post trades]. That was the first effort.
The second was in December we go live with the INET technology. We are aiming to complete that by the end of the year. That will allow all of our international customers who are familiar obviously with [Hitch, Ouch and our Fix] to plus into the wall. We have co-location services available for them in Stockholm where they are obviously welcome to put their computers. We have a double win. We make revenue on co-location and obviously incremental volume from the orders that match against that.
A great growth opportunity for us in 2010. I believe it just has not been recognized by the investment community. It is now clear and present. I do appreciate your question
Jonathan Casteleyn – Susquehanna Financial Group
Is the 300% multiple still relevant do you believe? Is there a way to adjust it?
What I want to say is we have the opportunity to dramatically increase the velocity in the market. We have done the right things in 2009 to create the proper ecosystem for that to happen. I am not going to put an exact number on it.
Jonathan Casteleyn – Susquehanna Financial Group
The several undefined aspects of forthcoming U.S. legislation. Just wondering can you drill it down to what can be the most impactful and does it affect your new swaps business or the core equities business?
The legislation affects the swaps business and is fundamental to it. As I said I believe the market will move as soon as they feel there is legislative certainty. It won’t require the President signing the bill into law. On the regulatory side that is more a U.S. equities issue. When you think about regulation, it is about U.S. equities. Right now the swaps is about legislation.
The next question comes from the line of Justin Schack – Rosenblatt Securities.
Justin Schack – Rosenblatt Securities
I will take one more shot at asking the regulatory question in slightly a different way. With respect to the SEC proposals I know you said you think those are going to be a net positive. Do you see the positive as more hindering the future growth of what happens in the dark or do you think it will be a meaningful transfer of activity from dark to lit?
I don’t want to make any predictions on that. One, we don’t want to get in front of what the SEC is going to do. I think there is an increasing awareness that lit markets provide a value to the community as a whole and the development of price formation and to the extent that too much of the market is dark then you have the ability to have a negative impact on the common good, probably price formation. That is the general trend line. I think it is positive for us. Clearly the elimination of flash orders is positive for us. The elimination of actionable IOIs is positive for us. We just don’t know for sure at what level of positive.
Jonathan Casteleyn – Susquehanna Financial Group
As a follow-up with respect to the pricing you talked about the assumptions you made for IDCG. Where are you getting that dollar per side per hard thousand notional? Is that some estimation as to what the market will bear or should we think about that as what you are going to charge and any color on how that differentiates itself as well?
With regard to the $1 per side per $100,000 we actually do have a pricing schedule that we provide for our clients that gives a different price for the different durations. So it can be as low as $0.19 or as high as $2.80 and I think depending on how long a duration the swap is. In terms of the $1 it is really an average. If you look at both the pricing we are putting into place but also our expectation of where in the duration the majority of the activity will be. So that is all on the contract, as an average based on a pricing sheet we have provided to the customers.
The next question comes from the line of Mike Carrier - Deutsche Bank.
Mike Carrier - Deutsche Bank
A real quick follow-up. On the expense guidance I just want to make sure the businesses that you exited during the quarter when we look at that new run rate that is going to be included in that? So the $7 million reduction?
First you need to realize we closed on those deals at the end of October so we don’t have a full quarter impact from those acquisitions but they were essentially breakeven businesses. What I provided you I basically said it was a partial quarter end impact from the sale of those businesses and it is something less than $7 million.
It is important to recognize that we give, as has been our practice, expense guidance at the beginning of next year. So we are in the middle of developing the budget for 2010 so we are sitting here not knowing where it is at. So we will be happy to give you detailed guidance as we get into 2010.
There are no further questions in queue. I would like to turn the conference back over to Bob Greifeld for any additional or closing remarks.
I do thank everybody for joining us today. As I have said during my opening remarks, we are certainly pleased with our positioning in each of our established businesses. We are happy to welcome BX and NOM to the stable of established businesses. We are incredibly optimistic about our organic growth opportunities and look forward to reporting on that progress in the time to come and also obviously we look forward to moving those organic activities into core activities in the not too distant future. Thank you for your time. Welcome to the call Adena. We look forward to talking to you as the days wear on.
That does conclude today’s conference ladies and gentlemen. Again, we appreciate everyone’s participation today.
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