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Executives

Michael Ptasznik - Chief Financial Officer and Senior Vice President

Paul Malcolmson - Director of Investor and Government Relations

Thomas Kloet - Chief Executive Officer, President and Director

Analysts

Jeff Fenwick - Cormark Securities Inc.

Geoffrey Kwan - RBC Capital Markets, LLC

Richard Repetto - Sandler O'Neill + Partners, L.P.

TMX Group (OTC:TMXGF) Q2 2011 Earnings Call August 5, 2011 8:00 AM ET

Operator

Good morning. My name is Sarah, and I will be your conference operator today. At this time, I would like to welcome everyone to the TMX Group Second Quarter Analyst Call. [Operator Instructions] I would now like to turn the call over to Mr. Paul Malcolmson, Director, Investor and Public Relations for TMX Group. Mr. Malcolmson, you may begin.

Paul Malcolmson

Thank you, operator, and good morning, everyone. Thank you for joining us today for the second quarter 2011 conference call for TMX Group. As you know, we announced our second quarter 2011 results earlier this morning. A copy of the press release is available on our website under tmx.com, Investor Relations. Today, we have with us Tom Kloet, our Chief Executive Officer, and Michael Ptasznik, our Chief Financial Officer. Following the opening remarks from Tom and Michael, we will have a question-and-answer session.

Before I begin, just want to remind you that certain statements made on the call today may be considered forward-looking, and I would refer you to the risk factors contained in today's press release and reports filed by TMX Group with regulatory authorities.

Now I'd like to turn the call over to Tom.

Thomas Kloet

Thank you, Paul, and good morning, everyone, and thank you for attending today's call. The second quarter of 2011 was very successful and very eventful for TMX Group. Our proposed merger with the London Stock Exchange Group certainly dominated the news, but, as our results demonstrate, the vast majority of TMX Group employees remain -- continue to remain focused on operating our business and serving our customers. As a result, our financial and operational performance was very strong this quarter. I'm going to spend a few minutes now on our operational performance highlights before turning it over to Michael to discuss our financial results with you.

Trading volume for the first half of 2011 exceeded 2010 volumes on TMX markets. The TSX Venture Exchange was up 38%, and the Toronto Stock Exchange was up 7%. Montréal Exchange, which set a number of trading volume records during the quarter, was up 41%. NGX energy trading and clearing levels were also up slightly. These are impressive statistics relative to both the global economy and our peer institutions, and they are indicative of the strength of the diverse markets that we operate. Together, Toronto Stock Exchange and TSX Venture Exchange welcomed 208 new issuers in the first half of this year, which represents a 19% increase over the same period of last year. 28 of those companies are based outside Canada. The countries represented include the United States, Australia, Argentina, the U.K., China, Korea, Sweden, Brazil and Switzerland, indicative of our global reach.

Toronto Stock Exchange surpassed an important milestone in June. It listed its 200-list exchange-traded products. The number of exchange-traded products on TSX has doubled in just 2 years, and there were 37 new ETP listings during the first 6 months of this year. If you'll recall that last year, TSX celebrated the 20th anniversary of its creation of the world's first ETF, and we've certainly come a long way since then.

Total equity capital raised on Toronto Stock Exchange and TSX Venture Exchange during the first 6 months of this year was $29.5 billion, which exceeded the first 6 months of 2010 by 15%. The number of financings on the 2 exchanges was 11% ahead of the first half of last year, with over 1,700 financings. We are very proud of our ability to help our listed companies efficiently access the capital they need to achieve their business objectives.

TMX Group also had a successful quarter in terms of our business initiatives across the company. After receiving regulatory approval in June, we launched our new equities alternative trading system, TMX Select, on July 11. We are just completing the rollout of all TSX and TSXV symbols on TMX Select. In addition to providing a new source of liquidity and enhanced functionality, TMX Select features an innovative pricing model in which both sides of the trade are charged the same low fee. This customer-focused model, which is unique in Canada, offers liquidity takers significant savings. TMX Select supports both visible and Dark Orders. We completed the implementation of our new Dark Order types during the second quarter, and they have been steadily gaining traction with our trading customers. These order types help market participants manage their market impact cost in a manner that protects price discovery and preserves market integrity.

On May 3, TMX Group and QuoteMedia launched a new product for Toronto Stock Exchange- and TSX Venture Exchange-listed issuers called TSX InfoSuite. This product, which provides in-depth market data on issuers as well as shareholder and sector information, enhances the value of being listed on TSX and TSXV. Our Information Service area, TMX Datalinx, had a very busy quarter. In June, we entered into an agreement with NASDAQ OMX Global Data Products to provide each marketplace's market data available in our respective co-location facility. This is a value-added service that improves our co-location suite of products. We also expanded our ultra-low latency data network to key U.S. financial centers during the quarter. We were very pleased to announce earlier this week that we completed the acquisition of Atrium Network, which is a leading provider of data network solutions based in Europe. This acquisition enables us to extend our connectivity solutions in New York and significantly expand our U.S. presence ahead of schedule. We have rebranded this business TMX Atrium.

Turning to our Derivatives business. Montréal Exchange launched its new SXM Mini Futures contract on the S&P/TSX 60 index in May. The contract represents one quarter of the value of the current futures contract down to 60. The smaller notional size makes it particularly attractive to individual investors, and it has been gaining acceptance in the market very well. During the second quarter, TMX technology team successfully implemented the SOLA trading platform on the London Stock Exchange Group's Turquoise Derivatives market. SOLA is now fully implemented in 4 European markets. Last month, our Energy business, NGX, opened 2 new trading hubs in the U.S., bringing the total number of physical clearing locations to 37. These initiatives are just a few examples of the hard business-as-usual work that went on throughout the second quarter.

Now let's look ahead a little bit. The successful integration of the Atrium Network business will be a key priority. Also important will be our work to firmly establish TMX Select in the Canadian capital markets. In terms of trading technology, the second phase of our enterprise expansion project is now in client testing. We expect this phase to be complete in the fourth quarter. Our technology team is also heavily focused on research and development of the next-generation trading technology. CDCC continues to make good progress on its work with the dealer and user community to develop the infrastructure for central counterparting services for the Canadian fixed-income market. Phase 1 is scheduled to go live in the fourth quarter of 2011. And of course, the entire company will continue to make customer service and business development key priorities. In other words, TMX Group will continue to focus on the successful operation of our business franchise. Management will also continue to explore all of our growth opportunities. On July 21, we announced that our Board of Directors had authorized management to enter into discussions with Maple Group Acquisition Corp. Those discussions are under way.

TMX Group is a solid company with a very bright future. We have a very strong business plan, and we're driving forward on all cylinders. This drive is very clear from our second quarter financial performance, operating performance and the series of business accomplishments.

I will now turn it over to Michael to review TMX's second quarter financial performance. Michael?

Michael Ptasznik

Thanks, Tom, and good morning, everyone. We're proud of our operational successes in Q2 '11 and the continued growth across the major components of our business during the first half of this year compared with the first half of 2010. Revenue in the second quarter was up 8% compared to the second quarter of 2010. Three key drivers led to this increase. Issuer Services revenue in Q2 '11 was up 17%, reflecting increased revenue from each of our 3 types of listing fees; MX, which, as Tom just mentioned, had another record-setting quarter in terms of volumes, which, along with renewed activity on BOX, led to a 26% increase in Derivatives trading and clearing revenue; and Information Services revenue, which increased 4% due to higher revenue from Co-location services, TMX net and fixed income entities.

Cash market equity data subscriptions were up 6%, and MX data subscriptions were up 9% on average versus Q2 '10. These increases were partially offset by lower equity, fixed-income and Energy trading revenue and lower Technology Services and other revenue. Operating expenses in Q2 '11 were down 3% from Q2 '10, primarily due to the decommissioning of legacy hardware, lower bad debt expenses and lower other corporate development costs. The decrease was somewhat offset by higher cost associated with long-term employee performance incentive plans and higher organizational transition expenses. Despite the increased revenue and lower operating expenses in the second quarter, net income attributable to TMX Group shareholders was down 6% compared with Q2 '10 due to $20.8 million of LSEG and Maple-related costs. Excluding these costs, adjusted earnings per share increased 19% from Q2 2010.

Looking at our sequential performance, revenue was down 3% in Q2 '11 compared with Q1 '11 due to lower revenues from cash markets trading and Energy trading and Clearing, partially offset by higher Technology Services and other revenue and increased revenue from Issuer Services and Information Services. Volumes traded on our equity exchanges were down in Q2 versus Q1, with the majority of the decline in TSX Venture Exchange volumes. The decrease in cash markets trading revenue also reflects price changes this year which took effect March 1 and April 1. Net income attributable to TMX Group shareholders for Q2 '11 decreased sequentially, primarily due to the decreased revenue in LSEG and Maple-related costs, partially offset by lower general administration costs related to commodity tax adjustment and lower compensation and benefit costs.

Cash and marketable securities totaled approximately $454 million at June 30, 2011, an increase of $122 million from December 31, 2010. We generated over $179 million in cash flow from operations in the first half of 2011, a 25% increase over the first half of last year, and we paid $60 million in dividends. We currently have $430 million of debt under a 3-year term loan, which we established on April 30, 2008, when we acquired MX. On March 31, 2011, we extended and amended this facility. It is now due to expire on December 28, 2011, and we'll be addressing this over the coming months. And finally, the board declared a quarterly dividend of $0.40 per common share to be paid on September 2, 2011 to shareholders of record at the close of business on August 19, 2011.

With that, I will turn things back to Paul for the question-and-answer session.

Paul Malcolmson

Thanks, Michael. Sarah, could you please outline the process for the question-and-answer session?

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Jeff Fenwick from Cormark Securities.

Jeff Fenwick - Cormark Securities Inc.

So great quarter. I guess the thing I wanted to ask about first was the cash build in the business. You're sitting on a nice pile of cash there. Obviously, the focus of discussions have been around your discussions with Maple, I think, right now, people are thinking about. But what about other strategic opportunities to deploy that cash? Are you -- you did a small deal, obviously, with the Atrium agreement you announced this week. Is something along those lines? Are you still contemplating opportunities like that, or would you maybe be thinking about the dividend or some sort of special distribution? How should we be viewing that cash position?

Michael Ptasznik

Well, our philosophy with respect to the cash position really hasn't changed. The first and foremost use of the cash is to continue to look for good opportunities like the Atrium opportunity that you've mentioned, and we are currently actively looking at a number of different investment opportunities across the different aspects of the business. So that continues to remain the number one priority with respect to we could deploy the excess cash that we have. Beyond that, obviously, we will look for continued increases in the dividend over time as net income and cash flow continues to grow. So we would look to potentially increase the dividend. And then beyond that, we would potentially look for a way to return that cash to shareholders. Obviously, given the situation that we're in right now, given the Maple offer that's outstanding, that's one of the considerations that we'll take into account as well. But the philosophy with respect to the cash position hasn't changed.

Jeff Fenwick - Cormark Securities Inc.

And I think just speaking of growth -- the number of things you're working on, clearly, but where do you think the most meaningful growth opportunities lie now for TMX? Is it on the data front? It seems like there's a lot going on there. Is this an opportunity for you to begin to move the needle more so out of that area?

Thomas Kloet

Well, there is. And if you look at our data business, Jeff, it's much more than just distributing the last quote or the order book. We continue to extend that. I referenced in my remarks bringing NASDAQ close into our Co-location, enhancing that suite. Sometimes, people overlook the fact that we are actually operating a quasi-hotel business, if you will, with the Co-location business. And it's important that we continue to add value to our Co-location to increase its attractiveness, but we'll look for opportunities around there. We'll look for opportunities to continue to distribute meaningful information, both risk information and analytics information on our listed issuers, and the other products we trade within our entities. And in addition, taking what I would call data and converting it into information, which is a very, very important element of why I think our data suite of products are so important. So it's much more than just distributing that last quote. Moving beyond that, though, to a broader answer to your question, I remain very excited about the opportunities on our derivatives market. The Mini S&P product is yet another example of how we're adding to our suite of retail-oriented futures and options product. As we see interest rate volatility continue, the interest rate elements of MX are very important. Yesterday, I believe, we traded a record back-contract. That day, I think we had almost 285,000 contracts traded in the back. So again, as risk managers see interest rate volatility coming into the equation, they'll come back to the hugely successful set of interest rate products we have. So I'm excited about that. I'm excited about the opportunity to provide the repo clearing to our clients. So we are exploring opportunities all over the place. But I just want to go back and not ignore one of the core elements of our business, which is the Equities business. We have a team that's very dedicated to attracting new listings. I read off a laundry list of countries that we attracted new listings at, or from, I should say. I'm excited to be out on the road with our team to help attract listings and to work with Kevin Cowan and the team in Issuer Services in doing that. We continue to fight for market share. And as Canada continues to look better and better from a global macroeconomic standpoint, I think you're seeing -- you'll see trading volumes in our market continue to expand, and our market viewed as an important place to live. So I gave you a very complete answer there.

Jeff Fenwick - Cormark Securities Inc.

Maybe just one follow-up, though. Given the focus on some of the CBCs [ph] and some concerns around listings from foreign countries like China, are you having discussions with the OSC on that front? What's sort of the risks you -- that corner of your business here that we might start to see some regulatory change that could either slow or somehow materially impact that element of the business?

Thomas Kloet

Well, I think OSC made an announcement that they are looking at some of the elements of the foreign listings, and particularly some of the reverse takeovers. But I think it's important to note that we've had reverse takeovers in our market for a very, very long time. And I think that the issue is less about reverse takeovers and whether or not that's an issue and more about whether companies are doing the right thing with their financial reporting. We remain very confident that we are attracting a high-quality foreign issuer. When you have 3,800 issuers, there are going to be periodic inquiries into a couple, and we get that. But we remain very confident in both the structure of our Issuer Services product and the regulatory environment with which we operate in. So I'm quite confident that we actually have the right suite of products, the right people looking at the right structure around it and the right regulatory oversight into our Listings business. So I don't think there is an issue there, and I think we'll continue to go around the world and attract listings into the Canadian marketplace.

Operator

[Operator Instructions] And your next question comes from the line of Geoff Kwan from RBC Capital Markets.

Geoffrey Kwan - RBC Capital Markets, LLC

Just kind of a few questions, just maybe following on Jeff's original question. With respect to leverage, I mean, you've got a very healthy balance sheet. And obviously, you have some leverage constraints, both from a credit, like a lender perspective as well as regulatory. At what point do you feel the leverage might be -- make you a little bit uncomfortable?

Thomas Kloet

Well, I think, you know, Jeff, let me -- rather than put out a -- I know what you would love is a statement that gave you a particular number to run with on that, but you're not going to get that from me. Instead, you're going to get a qualitative view. As I said publicly in the past, what's really important with respect to the leverage at the group level is how it impacts our Clearing business. Clearing is a credit intermediation business. And I think if you look at the other exchange, universal exchange groups like ourselves that are in both the trading and the clearing business, you'll see a careful degree of leverage in that business. And I think that we'll follow that pattern, because the confidence of ours when it comes to credit intermediation is important. As we extend our business from the traditional futures and options clearing that we have today into things like repo clearing, and, as I'm sure you know, we want to get to that so-called holy grail of OTC clearing eventually, the leverage parameters will be important. So I think you should think about how we look at leverage in terms of how it impacts our Clearing business, given its credit intermediation elements. I don't know, Michael, if you want to add anything to that or not.

Michael Ptasznik

Well, I guess the only thing I'd add is, as you know, we have certain criteria under our recognition orders that we must maintain in that picture, for example, its debt-to-EBITDA ratio is less than 4:1. I'm not saying that, that is the number that we would be comfortable with, but there is a limitation within some of the operating units that we have -- not all of them, but within some of the operating units from our GSX, inc. and MX that we need to maintain. So from that standpoint, there are other aspects or things that we need to consider, and including in our current debt arrangements, there are also criteria that we need to take into consideration as part of that assessment. And it also depends on what that leverage is being put on for, how long it would need for it to be paid down. So those are all the types of considerations that we would have to take into account when considering leverage.

Geoffrey Kwan - RBC Capital Markets, LLC

Okay. The next question I had was on the issuer pipeline. Obviously, the market performance industry [ph] might change some people's minds. But given that we're heading into IPO season next month, I mean, can you kind of talk about how the pipeline looks from your perspective, say, maybe relative to last year or what might be considered a normal year?

Thomas Kloet

Yes, I think the pipeline remains very steady. I think that, naturally, there is some concern about macroeconomic indicators. We're carefully watching that as well. There's obviously concerns about Italy and Greece, as well as the U.S., and we're watching all that. But that said, the files -- the file flow, excuse me, remains steady, and we see in our traditional areas of strength, particularly around resources, continued interest in companies trying to go for financing. So we're still pretty busy, I guess, would be the answer to your question, Geoff.

Geoffrey Kwan - RBC Capital Markets, LLC

Okay. And the last question I have is with respect to BOX, is there any update? Because I think you guys were kind of thinking you might be able to branch out the ownership there. I mean, I take at look at Bounce [ph], I think they started up their trading venue about a year and a half ago. And now, they surpassed a couple other trading venues in terms of market share. So I'm just trying to get a sense of what opportunities there are and the progress on that front.

Thomas Kloet

Yes, and we -- I'm glad you asked about BOX. BOX has had a very good quarter. In fact, yesterday, we did 1,000,003 contracts at BOX, did almost 1 million contracts a couple -- the day before. It's continuing to gain back market share. We passed in -- at various times, a couple of the other venues. But with respect to the specific question you asked, which is on the ownership restructure, there was a period there where I think a lot of the participants we would like to speak to about taking on ownership in BOX and kind of the restructuring of the equity ownership, we're kind of being held up while the SEC was approving the MX transaction. That's now done, so we're kind of back looking at that. I don't have anything specific to report on that, other than we remain interested in redistributing some of the ownership to people to people that have continued to provide share option flow to us. But we're kind of back at the table with that now that the SEC approval with respect to MX is behind us.

Operator

There are no further questions in queue.

Paul Malcolmson

Any questions online? No? All right. Well, thank you very much, everyone, for listening today. The contact information for media as well as for Investor Relations is in today's press release, and we'd be happy to take any further questions. Again, once again -- sorry, someone did join, so -- for one final question. We have time, so let's do that, operator, please.

Operator

And your next question comes from the line of Rich Repetto from Sandler O'Neill.

Richard Repetto - Sandler O'Neill + Partners, L.P.

I guess my question, Tom, this has been -- the new regulation that's been proposed in Canada in regards to dark pools, I guess it was the Canadian Securities Administrators, on having a minimum-sized order to go to dark pools as well as some other, requiring certain price improvement levels, et cetera. I guess, how do you view this regulation? Will it help or impede the progress of dark pools? And is this legislation, as you view it, ahead of or behind the U.S.?

Thomas Kloet

Well, I've been at times critical of our regulatory structures. This is one where I think our regulatory structure did quite a good job, I thought. Both the process it went through and the response of the marketplace for it was timely, effective, and had the right answers. So let me first applaud the CSA and the regulators for that. I think if you're sometimes criticize them, you got to squawk when they do something very well as well, and that was the case here. Our view, Rich, is that the response they came back with balanced the interest of everybody, of keeping both commitment to list markets as the preferred model but yet allows for certain transaction to go through a dark order area. I think they kind of got it right with respect to minimum size and with meaningful price improvements required as well as putting a priority of the visible market over the dark market. So I guess I would say that in my view, the response is very forward-looking, supports the visible market over the dark market, yet provides for the dark market as needed. And I think our regulators are actually at the forefront on this one. And it's very consistent with our approach with our approach, with the non-book, dark order model. So I think it's quite good regulation. And by the way, no problem being a little slow on the number thing today, Rick. That's fine.

Paul Malcolmson

We'll do one more check. Any other questions? We're good. Well, listen, thank you very much, everyone, for joining us today for the call. Again, if you have further questions, we're available all day. And thanks once again. Have a good weekend.

Operator

This concludes today's conference call. You may now disconnect.

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