BGC Partners, Inc. (NASDAQ:BGCP) Q2 2010 Earnings Call Transcript August 4, 2010 9:45 AM ET
Jason McGruder - Head, IR
Howard Lutnick - Chairman & CEO
Shaun Lynn - President
Graham Sadler - CFO
Daniel Harris - Goldman Sachs
Patrick O’Shaughnessy - Raymond James
Rich Repetto - Sandler O'Neill
Niamh Alexander - KBW
Michael Wong - Morningstar
Good day, ladies and gentlemen and welcome to the Q2 2010 BGC Partners, Inc. Earnings Conference Call. My name is Steve and I will be your operator for today. At this time all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of today's conference. (Operator Instructions). As a reminder this conference is being recorded for replay purposes.
I would now like to turn the conference over to your host for today, Mr. Jason McGruder Head of Investor Relations.
Good morning. Before we begin I want to make sure that you know that our third quarter 2010 financial results press release was issued earlier today. It can be found at either the news center or investor relations section of our website at www.bgcpartners.com.
During this call, we will also be referring to a PowerPoint presentation that summarize our results and which includes other useful information. After the conclusion of this call we will also post a copy of the prepared remarks that we are about to give. These can all be found in the Investor Relations section of our site.
Throughout today's call we will be referring to our results only on a distributable earnings basis. Please see the section, financial results release entitled Distributable Earnings and reconciliation of GAAP Income to Distributable Earnings for a definition of these terms and how, when and why management uses them.
Unless otherwise stated whenever we refer to income statement items such as revenues, expenses, pretax earnings or posttax earnings, we are doing so only on a distributable earnings basis. I’ll also refer to the statement entitled discussion of forward-looking statements contained in the press release.
I remind you that the information in the release and on this call contain forward-looking statements within the meaning of section 27A of Securities Act of 1933 as amended and section 21E of the Securities Exchange Act of 1934 as amended. Such forward-looking statements include statements about the outlook and prospects for BGC Partners and industry as well as statements about our future financial operating performance.
That statements are based upon current expectations and involve risks and uncertainties. Actual results performance or achievements could differ materially from those contemplated, expressed or implied because of a number of risks and uncertainties that are included, but limited to risks and uncertainties identified in the earnings release in BGC Partners’ filings with the US Securities and Exchange Commission.
We believe that our forward-looking statements are based upon reasonable assumptions when made. However, precaution it is impossible to take actual results or outcomes or the effect of risks and uncertainties of other factors on expected results or outcomes that accordingly you should not place undue reliance on these statements.
The forward-looking statements speak only as of the date when we make them and we undertake no obligation to update these statements in light of subsequent events or development. Please refer to the complete disclaimer with respect to forward-looking statements set forth in today’s earnings release and the risk factors set forth in our public filings which we incorporate by reference.
I'm now happy to turn the call over to our host, Howard Lutnick, Chairman and CEO of BGC Partners Inc.
Well done, Jason. Good morning and good afternoon to those who are with me in London today. Thank you for joining us for our second quarter conference call. With me today are BGC’s President, Shaun Lynn, our Chief Operating Officer, Sean Windeatt, and our Chief Financial Officer, Graham Sadler.
BGC Partners once again outpaced our peer group in terms of top- and bottom-line growth. Our revenues were up 14.4% to $336.3 million in the second quarter of 2010. Pretax distributable earnings were up 44.7% to $46.5 million or $0.20 per fully diluted share. Our post-tax distributable earnings were up by 63 % to $38.9 million or $0.17 per fully diluted share.
We had strong results across most of our products during the quarter. We again generated double-digit revenue increases in rates, foreign exchange and equities and other asset
I am also pleased to report that our quarterly revenues related to fully electronic trading were up by 40 % as compared to last year. The combination of our unique structure, ongoing partnership enhancement program, continued strong top line growth, and the increasing proportion of our revenues related to fully electronic trading contributed to our 345 basis point year-on-year profit margin expansion. Our pretax distributable earnings per share increased by 33.3 %, while our post-tax distributable earnings per share increased by 54.5 % when compared to the second quarter of 2009.
I am also pleased to announce that our quarterly dividend to common stockholders increased by 55.6 % year-over-year to $0.14 which remains consistent with our first quarter dividend. It is the Company’s intention to maintain this dividend for the remainder of the year.
With respect to the financial reform bill recently passed by Congress and as the exact rules have not yet been promulgated, it’s too early to speak about specific aspects of the
bill. However, we believe that the net impact of the legislation will be positive for BGC.
I’d now like to turn the call over to Shaun Lynn.
Thanks Howard, and hello to everybody. I would like to highlight the continued growth of our brokerage revenues, and the key drivers behind that growth. These were, generally favorable overall market volumes and volatility in BGC’s product categories; BGC’s growing strength in fully electronic trading; and our continued front office headcount growth as we expand the company’s global footprint and global market share.
BGC’s rates revenues increased by 18.6 % in the second quarter of 2010 compared to the year-earlier period. We continue to benefit from the sizable levels of debt issuance by
governments around the world. The earnings presentation and press release tables on our
website show some of these key factors in greater detail, such as the 23.2 % year-over-year increase in quarterly Federal Reserve US Treasury volume.
We outpaced this growth in Fed volumes with 47.5 % year-on-year increase in fully electronic national volumes, driven mainly by BGC’s fully electronic Treasury business.
BGC’s revenues from equities and other asset classes increased by 55.9 % year-over-year, due in part to non-US increases in equity-related volumes and volatility. While overall cash equity volumes were lower year-on-year in the US, they grew by double-digits in Europe. Equity derivatives volumes were up by solid double-digits in the US and Europe industry-wide.
In addition, our energy and commodities businesses performed very well albeit from a comparatively small level. Continued growth and market share gains globally highlights the increasingly diverse nature of our business, the widening of our product categories, and the breadth of our technology.
BGC’s foreign exchange revenues increased by 54.6 % versus last year, due to the ongoing rebound in global volumes and our continuing market share gains. Volumes and revenues for BGC’s fully electronic FX business, which includes both OTC spot and derivatives, more than tripled year-over-year, while FX volumes recently reported by CLS and several major central banks grew by double-digits. Once again, we outpaced strong overall industry volumes.
BGC’s credit revenues decreased by 15 % year-on-year, reflecting an industry-wide softening in corporate bond and credit derivative activity compared to last year. For example, according to SIFMA, US corporate bond issuance was down 37 % year-over-year. However, based on the credit results reported so far, we continue to outperform our peers.
In addition, we once again showed strength in parts of our credit business, for instance, revenues from our sovereign CDS desks and our fully electronic credit business both more than doubled year-over-year. We continue to invest in hybrid and fully electronic technology across our product categories. For example, over the past year, we more than doubled the number of desks with BGC Trader and more than tripled the number with Volume Match.
Now, almost 50 of our approximately 180 desks offer e-broking, and we expect this number to continue to rise. This is largely why BGC’s second quarter fully electronic volumes were up 52.6 % and quarterly revenues related to fully electronic trading increased by 40 % year-on-year to $31.6 million. E-broking represented 9.4 % of total revenues, compared with $22.5 million or 7.7 % of total revenues last year.
This was our best quarterly top line performance in fully electronic trading since the eSpeed merger, both in absolute terms and as a portion of revenues. Our growth from e-
broking was broad based across rates, credit, and FX, and was generated by multiple desks in Europe, the Americas, and Asia.
As we continue to benefit from the tailwind of massive global government debt issuance, and as we roll out BGC Trader and Volume Match to more of our desks, we expect our strong fully electronic trading performance to continue.
As we have said, e-broking growth leads to higher margins and greater profits over time even if overall company revenues remained consistent. We delivered these improvements this quarter, and we expect to see continued margin expansion as we grow fully electronic trading.
The third driver of our revenue growth is front office headcount. As of June 30, 2010, our front office headcount was up by 11.6 % year-on-year to 1,612 brokers and salespeople. Average quarterly revenue per broker/salesperson was approximately $204,000, down slightly from a year ago when it was $210,000. This decline of under 3 % when headcount was up by almost 12 % bodes well for our future productivity.
As we have previously said, BGC’s revenue producers generally achieve higher productivity levels in their second year with the company. We expect the productivity of our newer brokers throughout the company to improve, especially those in our newest offices in Brazil, Russia, and China.
With that, I would now like to turn the call over to Graham.
Thank you Shaun and good morning everyone. For the second quarter of 2010, BGC generated revenues of $336.3 million, up 14.4 % compared with $294 million in the second quarter of 2009. Brokerage revenues were $313.5 million, up 15.8 % versus
$270.7 million for the prior year period. BGC’s revenues from the Americas were up by 59.2 % in the second quarter of 2010. Asia Pacific revenues increased by 34.8 %, and Europe, Middle East, and Africa decreased by 5.5 %, all compared with the second quarter of 2009.
Growth for the Americas was broad-based, driven by our continued investment in a number of asset classes, the addition of BGC Liquidez in Brazil, improved front office productivity as our newer brokers leverage our technology to ramp up production, and growth in fully electronic revenue.
In Asia, the increase was driven primarily by improved broker productivity, and our headcount there remained flat year-on-year. The decline in Europe was due in part to the strengthening of the dollar relative to the euro and the British pound and lower industry-wide activity in certain parts of our European business.
Europe represented 53.1 % of revenues, the Americas 31.4 %, and Asia 15.5 %. In the year-earlier quarter, Europe represented 64.3 % of revenues, the Americas 22.6
%, and Asia 13.1 %
These changes highlight our global diversification and the strengthening of our Americas business. Turning to our monthly revenue figures. BGC’s April 2010 revenues were up approximately 17 % year-over-year to $112 million; up by approximately 25 % to $119
million in May and up by approximately 2 % to $105 million in June.
As many of you know, across the industry June volumes were generally lower than those in May. Comparing the second quarter of 2010 to the second quarter of 2009 rates revenues increased to $139.3 million compared to $117.5 million. Equities and Other asset classes increased to $50.3 million versus $32.2 million.
Foreign exchange revenues rose to $46.8 million compared with $30.3 million and credit revenues declined to $77.1 million versus $90.8 million. Comparing the second quarter of 2010 to the second quarter of 2009 as percentage of revenues, rates represented 41.4 %, compared to 40 %; credit represented 22.9 %, versus 30.9 %; equities and other represented 14.9 %, increasing from 11 % and foreign exchange represented 13.9 %, increasing from 10.3 %.
Moving on to expenses: Total expenses were up year-over-year to $289.8 million in the second quarter of 2010 versus $261.9 million last year, but lower by 290 basis points as a percentage of revenue. Compensation and employee benefits were $184.3 million and represented 54.8 % of revenues in the second quarter of 2010.
This compares with $178.2 million or 60.6 % of revenues in the year earlier period, an
improvement of 580 basis points. This improvement was driven by our partnership
enhancement program and the compensation related impact of our fully electronic revenues. We expect, however, that our compensation ratio may increase somewhat in the third quarter, due in part to seasonally lower third quarter revenues.
We believe that our partnership enhancement program, growth of e-broking revenues, and the overall increase in our top line will enable us to keep our comp ratio well under 60 % for the foreseeable future.
For the second quarter of 2010, non-compensation expenses were $105.5 million or 31.4% of revenues. This compares with $83.7 million or 28.5 % of revenues in the second quarter of 2009. Our non-comp expenses were up in part due to expenses related to our increased broker headcount and the addition of four new offices. We expect non-comp expenses to decline in the third quarter.
In the second quarter of 2010, BGC’s pretax distributable earnings were $46.5 million or $0.20 per fully diluted share, up 44.7 % compared to $32.1 million or $0.15 per fully diluted share in the second quarter of 2009. The company’s pretax distributable earnings margin was 13.8 % in the second quarter of 2010 versus 10.9 % in the prior year period, a 290 basis point improvement.
BGC produced post-tax distributable earnings of $38.9 million or $0.17 per fully diluted share in the second quarter of 2010, up by 63 % compared with $23.8 million or $0.11 per fully diluted share in the second quarter of 2009. Our post-tax distributable earnings margin was 11.6 % in the second quarter of 2010 versus 8.1 % in the prior year period, an almost 350 basis point improvement.
We believe that our structure and business model will enable us to grow our margins as we grow our revenues going forward. Our effective tax rate for distributable earnings was 15.2 % in the second quarter of 2010 compared with 26.5 % in the prior year period. During the second quarter the company continued its partnership enhancement program
As part of this program, the company agreed to grant exchangeability to approximately 6.8 million units during the second quarter. To my knowledge, of those partners granted exchangeability who expressed an interest in selling, the vast majority have already done so.
Under GAAP, the company was required to take a second quarter charge of $23.7 million relating to these grants of exchangeability. We exclude certain charges related to grants of exchangeability from distributable earnings, such as for those that do not reduce cash position, are non-dilutive, and such amounts that would not otherwise have been amortized through distributable earnings. These excluded charges have no economic impact on the company, other than lowering our tax rate.
We expect our tax rate to remain around 15 % for 2010 in the foreseeable future. Because GAAP does not allow for the inclusion of anti-dilutive instruments and calculating earnings per share, our GAAP fully diluted weighted average share count was 226.5
million for the three months ended June 30, 2010.
However, for calculating earnings per share for distributable earnings, we include the 21.5 million shares underlying the convertible senior notes, because their inclusion
would be dilutive, and we exclude the lesser interest charge of the notes. Therefore, our fully diluted weighted average share count for distributable earnings was 248.0 million for the second quarter of 2010, compared to 211.1 million in the second quarter
As of June 30, 2010, the company’s fully diluted share count for distributable earnings was 245.4 million, including the shares underlying the convertible senior notes. Regarding the balance sheet, as of June 30, 2010, the company’s cash position, which we define as cash and cash equivalents, cash segregated under regulatory requirements, and reverse repurchase agreements, was $344.0 million; notes payable and collateralized borrowings were $164.7 million; book value per share was $2.25 and total capital, which we define as redeemable partnership interest, non-controlling interest in subsidiaries, and total stockholders' equity, was $411.4 million.
In comparison, as of December 31, 2009 the company’s cash position was $471.5 million; notes payable and collateralized borrowings were $167.6 million; book value
per share was $2.44; and total capital was $437.9 million.
Between January 1, 2010 and July 31, 2010 BGC repurchased or redeemed approximately 11.2 million shares and units for approximately $66.2 million. The decline in cash from year-end 2009 was due primarily to these repurchases and redemptions of shares and units, the payment of yearend bonuses, and the settlement of payables.
Now I’ll turn the call back over to Howard, who will provide our outlook for the third quarter.
Thank you, Graham. In 2009, BGC generated total revenues of approximately $98 million in July, $82 million in August, and $111 million in September. Our July 2010 revenues were flat year-over-year at approximately $98 million, which reflects 21 trading days this year versus 22 last year, as well as growing through the 9 % increase in the dollar as compared to the euro and the 7 % increase in the dollar versus the British pound year-over-year.
We expect to generate revenues of between $295 million and $315 million in the third quarter of 2010. This would represent an increase of approximately 1% to 8 % over the
$291.2 million we generated during last year’s third quarter. We anticipate pretax distributable earnings to increase by 30% to 47 % and to be in the range of $39 million to $44 million This compares very favorably to the $30 million we earned last year.
We expect post-tax distributable earnings to be between $33 million and $37 million, an increase of approximately 56% to 75% compared to the $21.1 million we earned from last year’s third quarter.
So operator, we would now like to open the call for questions please,
(Operator Instructions). And your first question comes from the line of Daniel Harris with Goldman Sachs.
Daniel Harris - Goldman Sachs
Howard, during the quarter obviously we’ve had a lot of discussions about what financial reform means and I'm just wondering if you can sort of relay what your clients are trying to get in front of ahead of the actual rule making over the next 12 months in terms of how they are trading or how they are looking at pre and post-trade analytics versus what they were thinking before?
I think still it is too early to tell. I think the concept of the ideas and how the rules will be written, we will have yet to see, but I think the concept of how firms will deal with their customer requests on swaps and other credit derivatives I think is very much up in the air and open. Now that whole segment of the market has not been a part of our revenues. So that's why we think to the extent generally things will have either a positive impact, but they shouldn't have any negative impact. So this is all opportunistic or uneventful for us. But generally speaking, everybody awaits how the rules will be written, but everybody understands that what is up in the air is not our current business, but rather how one deals with the customers business and how that is put in a multi-party in up and transparent manner which is exactly what we do for a living.
So we would expect to be under the rules, as if we would expect to be able to do as far as we can tell all of the things that we do now plus others and I think we are well positioned to handle any opportunities that come our way, both, on our own or in partnering with other banks or other institutions. So I think we are well positioned, but we await the rules say, but we view it as generally positive.
Daniel Harris - Goldman Sachs
In terms of your FX market, this is a business that's grown from 11% of your brokerage revenues to 15%. It pretty much grows every quarter. We didn't see any difference in that this quarter. If you had to say the two core drivers for that business that should persist over the next few quarters that would drive it and there's seasonality of course, but on a year-over-year basis, what are the key things you are doing differently than peers or differently than the market that's driving that growth in that business?
We have a superb emerging markets business. Deep, broad and our expansion in Brazil, our expansion in China, our expansion in Russia, these are great places to trade foreign exchange and our business model and business mix really takes advantage of those spot, forward, and foreign exchange options and foreign exchange derivatives.
So we are broad based and we have a very, very strong market presence in emerging markets. So I think when you look at the business you'd see that the strength of our mix is very positive in that regard. Secondarily, the way we've been approaching our fully electronic business in foreign exchange, if you look back we worked on this for years and years to get our foreign exchange fully electronic business right and it took us a long, long time to get it right, but now we do and so you've seen it triple year-over-year.
It's the kind of business that is likely to continue to grow. It's an additive business. It's valuable for its clients. It looks at things in a different manner. We are not yet even back to the pre-crisis levels. So we've got plenty of room to grow and then I think we are going to be well positioned to go well, well beyond our highs of the past. I don't think they will even be a stopping point for us, so I think we are really in a nice spot.
Daniel Harris - Goldman Sachs
Obviously one of the significant upsides to our estimates this quarter was the lower comp rate, a pretty nice drop sequentially and you attributed that both to the partnership enhancement program and the shift to fully electronic revenues?
And then Graham gave guidance it should stay at 60% for sometime. As we continue to see whether or not full electronic triples, but grows substantially faster. I know you talked about that in the past to say around this 55% with some seasonality or can it go even lower than that?
I think maybe the best way to look at it is, after the first half of the year, we are at 58.2. So in any particular quarter there maybe ups and downs, but so far for the year, our comp ratio was 58.2. It is very simple and we've been talking about this for a long time. Fully electronic revenues have a much lower compensation ratio associated with them.
We have said all along that we have the ability to lower our comp ratio with respect to that set of revenues and we have (inaudible) if you will to make sure that our interests are aligned with our brokers and we've been doing that step-by-step. Our brokers are along with us, both for the fact that they understand our work and that they are huge equity holders in the company and they get distribution and dividends from this stock.
So they know that our earnings going up are going to work in their interest. So I think there is room for us to continue to lower our comp ratio from our first half numbers and ultimately I think we will be able to sustain lower comp ratio overtime as I think Graham said.
As our revenue grows we think our comp ratio will decline as fully electronics grows, our comp ratio will decline. I think we can eventually overtime with the right revenues and the right mix of fully electronic trading, can we get to 55% and maintain it. I think the answer prospectively is, yes.
Your next question comes from the line of Patrick O'Shaughnessy with Raymond James.
Patrick O’Shaughnessy - Raymond James
The first question would be around some of the seasonality trends that we've seen certainly industry wide and your competitors we have seen slow June and July. How much of that do you attribute to seasonality, just kind of normal summer doldrums and given all the uncertainty around regulation and all the volatility starting to bleed out in the marketplace, that maybe we are going in for lower volumes in the back half of the year?
It is always the most difficult time for us, this call because we are always smacked in the middle in early August, July is always July. The rest of August, especially when you hold this call from Europe, you know the last two weeks of August are really going to be a big vacation period. We have a great Paris office and there is a lot of vacation time. So it is difficult to project that it is other than seasonality because I always feel this way on that call because there is always seasonality in this period and historically that’s how it has been.
Historically those are the math, you can go back for years and years and years. So I think it feels seasonally slower. It feels slower. At the heat of the seasonal slowness it feels really slow and then Labor Day in America comes and all of a sudden the business starts picking up. Last year our numbers were $82 million in August and $111 million in September and I think you will just see that probably it is just seasonality. Do I have a crystal ball? I don't, but it sure as heck feels like seasonality to me.
Patrick O’Shaughnessy - Raymond James
Graham, can you go into a little more detail on the other expenses line item, kind of what were some of the specific items that caused it to jump so significantly this quarter?
Well, I have said in the past, the other non-comp expenses can get lumpy from time-to-time. Actually if you look in the presentation that we have on our website. You can actually see that over time, our non-comp expenses reduces. Page 22, now down to 28% of total revenues has been dropping down. I would expect that trend to continue as our revenues expand and the firm expands, but we are going to get occasional lumpiness in it.
(Operator Instructions). And your next question comes from the line of Rich Repetto with Sandler O'Neill.
Rich Repetto - Sandler O’Neill
I got to go back to this question on the other expenses. I understand the lumpiness, but to go from $4 million up to $21 million quarter-to-quarter and even last year, being double. Can you give us a little bit of granularity or specifics on that?
I'm not really sure I can add much more than what I have said today to be honest. We think that the non-comp expenses are going to be drifting down.
Rich Repetto - Sandler O’Neill
We are not talking about non-comp, we are talking about the other expense line.
Occasionally we get the odd lumpiness like I’ve said. I'm not sure I can comment on this any more.
Rich Repetto - Sandler O’Neill
Howard, you have talked at the Analyst Day and prior about ELX and, supposedly getting everybody connected and seeing more trading just because once everybody was onboard and just trying to see if I can update on that.
Well, we remain entirely optimistic with respect to ELX. It is driven by the large banks. We have 12 partners who are the drivers of it. We are the providers of technology and to my knowledge the technology is working superbly. So I think the issue is how and exactly when do they pile in and back it in a big way and I think I will leave it to them to announce how and when and where they plan to do that.
But I will say that from my knowledge I remain very, very optimistic about it. Its structure is great. Its value in the world today is I think ever better. It is up to them how and where they want to do it and how and when they want to announce it. But I can only give my personal optimism that I really like our commitment to it and our investment in it and I remain excited to continue to back it. No less so than the first day we started, maybe even more so.
Rich Repetto - Sandler O’Neill
I heard some of your comments, Howard, on financial reform and I guess an incremental opportunity and you possess, a tested and tried and true electronic platform, you do are in the over-the-counter markets and I guess the question is how much dialogue in the space is there right now for partnering with banks?
You would think that the banks given that they weren't undercut dramatically by the bill that they are still going to have a lot of say so. I guess the partnership agreements that you do with ELX and those types of things, could we expect to see a lot of those in the next six to 12 months and the activity level of these types of discussions?
Well, we have superb relationships with our bank clients and we find them to be great partners in the growth and extension of our business. I mean ELX is sort of an example of that. They are connected to our technology. They know our technology perfectly.
And I agree with you. I think the opportunity to work together with banks prospectively is going to be there. I think there were going to be lots and lots of announced kind of startup kind of things and new ideas and new things.
But these are all opportunistic events. These are parts of the business that are not currently part of our revenue. And that any modeling and any partnering much like ELX will only add to the value of our business.
I mean ELX right now does not have any impact on our business. And so it’s really an option, if you will of the upside. And I think the entire financial regulation bill has in fact launched a gargantuan positive option for BGC, what relationships we make and how we do it and where we do it, and really we do not see any downside from it. But what we do see is as you said the possibility of the partnerships, the possibility of the new opportunities. These are just ideas which may well work out for us, but we'll see.
Rich Repetto - Sandler O’Neill
What should the sharecount be in 3Q, you are buying the packaged enhancements, while there could be share movements in and out, I think. So what do you think the share count would be fully diluted for 3Q?
We ended the quarter at 245. Our employees do receive as part of their compensation equity in share count so it will probably rise somewhat and, I don't know that I can sit here and estimate it, but I would say it could rise some, not a huge amount, that’s for sure. So maybe in the 250 range in some shape or form. But I can't say if it would be 252 or some other number, but I'm saying somewhat, but not a large amount.
And your next question comes from the line of Niamh Alexander with KBW.
Niamh Alexander - KBW
If I can go back to ELX, I understand that when the dealers initially kind of brought in or participated in ELX the moneys in the cash flow there was used to help build the system and which also helped to expand the BGC Trader system. Is that cash kind of played out by now or is it kind of due to be re-up soon or some kind of a commitment needed there?
Well, the arrangement primarily was that we contributed the technology. So the money was not necessary to build the technology. As you know BGC has an enormous technological infrastructure, and the best example, I think we used to give a couple of years ago was that we provided the technology to stand up a competitor to the Chicago Mercantile Exchange without significant marginal costs, which is pretty impressive. So with respect to the economics of ELX, as I’ve always said on this call, this is not an ELX call and I have agreed with the board not to use this call as an ELX call.
But I think their financials, I will leave to them. But with respect to the technology, we provide the technology, the technology is robust, operational and does not need modification to operate every day. So I think it’s is in great shape. If there are new things they want to add, they already rolled out euro dollars. If they want add new things, we are ready, willing and able to provide it for them, but so far so good. And the marginal cost for them to adding new products is preciously low. So I think they are in a much better shape than you might imagine.
Niamh Alexander - KBW
I was getting at it from an accounting perspective too because I think there has been either a contract expense or some kind of a benefit flowing through to the electronic trading line. I just wanted to understand if that was still flowing through or if it kind of had run its course.
Everything is still the same. We, we provide the technology primarily without cost and to the extent they use incremental network or other things they just pay for their usage of it. So, it is a very economical model for them and I don't think from an overall perspective it’s not a big deal for us.
Niamh Alexander - KBW
And if I could understand the dealers, we are hearing increasingly that they may need to de-lever even more just because higher their capital requirements at the basal or maybe the US rules. So there could be kind of less trading activity on their part. How is your dialogue with some of the newcomers or the new market makers that are kind of looking to position themselves and maybe more level playing field?
I mean I think you just defined an extraordinary opportunity for us. The number of primary dealers dropped to as low as 18, it’s likely we know. There are number of firms that are applying. There are lots of foreign banks who view this as a great opportunity to come in. I think that number will grow. And as you know, for instance in US treasuries, most of our largest customers have a fixed price deal, so adding new customers who sign new fixed price deals with us just adds our revenues add to fully electronic trading and adds to that percentage and adds to our bottom line. So, all of those new players are great opportunity for us.
The other thing is the concept of de-levering at these gigantic banks. If it means that certain desks like the proprietary trading desk were to depart to get recapitalized as another organization, as a new dealer part of a smaller bank, which is what you are seeing. These are just an amoeba moment where you have one gigantic bank which no matter how much you suggest one of these gigantic banks de-leverages, the amount of volume and trading they do is so large and so impressive that if their proprietary trading desk left and then became a proprietary trading desk with sales and training with salesman and it re-levered the balance sheet, let’s say of a foreign bank you could see just enormous growth.
So, I think from our perspective, they are always going to be hills and valleys, but overall we do not see the world prospectively as other than a place with enormous issuance and enormous volume coming. The enormous issuance that’s coming in the world is going to create enormous volumes.
Look, lower leverage means that they are going to favor the most liquid products, and if you look at our mix, maybe our out-performance has to do with the fact that we are at the right place at the right time in the right markets and they are beneficial.
Niamh Alexander - KBW
Okay. That's helpful, Howard, I appreciate it. And then if I could just you know your compensation ratio guidance, thank you for that, that’s really helpful. The compensation environment, though and because we’re increasingly hearing that dealers are poaching back on sales people from the inter-dealer brokers. Is that something that you are starting to see or you having to maybe pay out a little bit more stock as you try to encourage new people onboard or feel like the biggest part of the hiring’s behind you, so maybe you don't get impacted as much?
Actually that’s rather simple which is there are some people who sought to compete with the dealers, who hired salesmen and were successful in 2009 competing with the dealers, because the dealers were dealing with other issues. That competition is, finding for a new player like that more difficult now. That has nothing to do with us, right. We are in the service business and our salesmen don't go to banks. We hire often salesmen from banks who want to switch and want to change to our side. But it is very rare, indeed, that our sales people go back to the banks. It’s the other way around. So, the answer simply is no, we’ve seen absolutely none of that. It doesn't mean some of our peers don't have the visions that are different from us and that compete with the banks and they’ve suffered that, but that has nothing to do with us.
And your next question comes from the line of Michael Wong with Morningstar.
Michael Wong - Morningstar
Hi. I missed the part of the beginning of the call, so hopefully you haven't hit upon these. In general, do you believe industry wide cash fixed income trading revenues have already reset lower for this cycle and that the fixed income revenue pie is just smaller instead of maybe just shifting to eye banks that are using more of their balance sheet?
Our rates revenues were up 18% to 19% year-over-year. We think, the massive debt issuance coming from the governments of the world is going to create basically a foundation of relentless growth. It doesn't mean that with volatility there, again won't be hills and valleys, but the overall market for fixed income prospectively is great.
So, the credit markets they will again you know there is less issuance in corporate bonds so the credit business might decline, but if you are talking fixed income overall the opportunity for us is great. The rates business I think is very, very well positioned for growth. And I think credit will have hills and valleys, but again to count credit out as a major growing asset class in the world I think is preposterous.
Michael Wong - Morningstar
Okay. And in terms of your general out performance for the second quarter, can you talk about I guess if you didn't hit upon it earlier, the specific revenue lines that may have been affected by the European sovereign debt worries and how it impacted separately FX rates, cash credit and credit derivatives?
Well, we have benefited from a variety of things. So our rates business was up because of the significant issuance of government bonds around the world and the volatility in the quarter. So those are the two things, volatility is a friend for the company, since we are not risk takers as sort of the major part of our business. We make money when there is volumes and volatility, and so both of those worked well for us.
With respect to foreign exchange, what happened during the credit crisis since we have a huge emerging markets business? The credit crisis reduced the volume that the emerging market banks, who are comparatively smaller than the G7 banks, the amount of volume they could trade. And so therefore you saw an unduly large drop in our foreign exchange business for the credit crisis. And as that has dissipated and in fact now I think lots of people speak positively of how the emerging markets are growing.
So the emerging markets are growing. The banks credit comparatively has strengthened. The credit for them, their trading credit lines have dramatically increased and our business is coming back, but as we said it's not even back to the '08 level. So, I think we've got great opportunity in foreign exchange and that will continue to grow, great in rates.
And, yes credit, certain parts of credit are down, but other parts of credit are up, the sovereign. Who would have thought two years ago that sovereign credit default swaps would be a topic worthy of conversation on this phone call. But it's growing and it's interesting and when you put Greece on the front page of every newspaper for three weeks straight, it's going to create volume for us, especially in our Greek business and across our Continental European business.
We did all the big business in Europe. So we are well positioned to handle those issues. We have a big business in emerging markets and we are well positioned to handle those issues as well.
Michael Wong – Morningstar
Okay. And one last question, have you tested OTC clearing options that many of the exchanges are developing and do you have any opinion on which one has the best value proposition at the moment?
Can you say that again?
Michael Wong - Morningstar
Have you been testing the OTC clearing capabilities of the various exchanges in the US and Europe and do you have any opinion on any particular value proposition at them?
No, we tend to being agnostic so we are happy to whichever one our customers want to use or whichever is the cheapest or most efficient. We expect to connect with indifference to all of them, and so far I don't have anything to say. I will just make a quick comment which is, look the opportunity in this new regulation is that there will be a significant amount of new business out there. There will be new competitors that appear and who try to go after that business.
And so you can't really say what that will mean. From my perspective I think there is significant upside and we are well positioned to do it. But of course you are going to see lots of names popping up and we have to see how that goes and how we deal with those but from our position I think we are extremely well positioned and very optimistic.
And we have a follow up question from the line of Patrick O'Shaughnessy with Raymond James.
Patrick O'Shaughnessy - Raymond James
What is the thought process behind coming out and saying that you want to maintain the $0.14 dividend for the next couple quarters. Presumably, if we do have kind of seasonally slow third or fourth quarter as typically has been the case, it’ll be a much higher percentage of your distributable earnings. So can kind of walk through me the thought process there?
Sure. The seasonality in our business is a big first quarter, slightly slower second quarter, slower than third quarter, slower than fourth quarter. Big first quarter again. So this concept of having our dividend sort of declined over the course of the year to then leap higher in the first quarter as it did this year to have a $0.06 dividend in the fourth quarter to rise to $0.14 dividend in the first seems that it is time and we are and we are big enough and strong enough and to have enough visibility into our business. Its our perspective that, we earned $0.17 in the first quarter. We only paid a dividend of $0.14. We earned $0.17 in the second quarter, we only paid $0.14.
As you know in distributable earnings, we count the most dilutive view which is to count the 21.5 million shares from the convertible note even though we are not actually paying that cash out, we are only paying the dividend out. So from a cash perspective, the cash of the company is much higher than the $0.20 because we only have to pay the coupon, but for an earnings per share and as Graham said, the appropriate is to take the most dilutive view of it.
So we should have more cash because of that and we thought if we keep our dividend constant then if you look at it for the overall year, I think we will be well within our parameters. And then I think we will relook at it next year as the first quarter tends to jump up with its seasonality to reevaluate things then.
But, it just seemed to us that we should have a consistent dividend and it is our goal and our intention to try to keep our dividend consistent and then, of course, reviewing it all the time, but for today that seems like that’s how we are going to look at things.
And that concludes the Q&A portion of today's conference. I would like to turn the call back over to Mr. Howard Lutnick for closing remarks.
Well, thank you very much for joining us today. Obviously, we are very optimistic and positive about our business and we look forward to speaking to you again next quarter. So everyone have a good day. The rain has abated in London, so we look forward to speaking to you again next quarter. Thanks, everyone.
And thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.
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