Bgc Group Inc (BGC) 2005 Q2 法說會逐字稿

Good morning and welcome to the eSpeed second quarter 2005 conference call. [OPERATOR INSTRUCTIONS] Today's conference is being recorded. If you have any objections you may disconnect at this time. I would like to introduce the host for today's conference, Mr. Steve Wargo. Sir, you may begin.

Good morning everyone, this is Steve Wargo, eSpeed's Investor Relations coordinator. Before we begin I would like to remind everyone that the information on this conference call contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. Such statements are based upon current expectations and involve risks and uncertainties. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Our actual results and the timing of certain events may differ significantly from results discussed in the forward-looking statements.

Factors that might cause or contribute to such a discrepancy include but are not limited to the costs and expenses of developing, maintaining, and protecting our intellectual property including judgments or settlements paid or received and their related costs, the possibility of future losses and negative cash flow from operations, the effect of market conditions, including trading volume and volatility, our pricing strategy and that of our competitors, our ability to develop new products and services, to enter new markets, to secure and maintain market share, to enter into marketing and strategic alliances, to hire new personnel, to expand the use of our electronic system, to induce clients to use our marketplaces and services and to effectively manage any growth we achieve, the effect of the attacks on the World Trade Center on September 11, 2001, and other factors that are discussed under risk factors in eSpeed's annual report on Form 10-K filed with the Securities and Exchange Commission.

We believe that all forward-looking statements are based upon reasonable assumptions when made. However, we caution that it is impossible to predict actual results or outcomes or the effects of risks, uncertainties, or other factors on anticipated results or outcomes and that, accordingly, you should not place undue reliance on these statements. Forward-looking statements speak only as of the date when made and we undertake no obligation to update these statements in light of subsequent events or developments. Actual results and outcomes may differ materially from anticipated results or outcomes discussed in forward-looking statements. I would now like to turn the call over to our host, Howard Lutnick, Chairman and CEO of eSpeed Incorporated.

Thank you, Steve, and good morning everybody and thank you for joining us to discuss our second quarter 2005 results. Joining me today is eSpeed's management team, Kevin Foley, Paul Saltzman, and Jay Ryan. Jay will review our second quarter financial results after which Kevin will talk about our U.S. treasury business and our new products. Following Kevin I will review our guidance and outlook for the third quarter and the full year 2005. Then we will be available to answer your questions. With that I would like to turn the call over to Jay.

Thanks, Howard. And good morning. The second quarter of 2005 we reported a GAAP net loss of $0.03 per diluted share and a non-GAAP net operating income of $0.04 per diluted share. The difference between non-GAAP net operating income and GAAP net income for the second quarter of 2005 consists of $2.6 million of expenses incurred in our efforts to acquire MTS, 600,000 of expenses incurred for patent litigation related to the 580 patent and trading technologies as well as a non-cash charge of less than 100,000 for business partner securities.

In terms of revenues, we've reported second quarter results of $37.5 million, our marginally lower than expected revenues were primarily due to additional clients moving from variable to fixed price arrangements which Kevin will expand on during his discussion. Our second quarter operating expenses of 34.6 million were unchanged on a sequential basis and in line with our guidance discussed last quarter.

Looking forward to the third quarter of 2005 we expect expenses to rise to approximately $36 million. This increase is primarily due to the full quarterly impact of BGCs acquisition of Maxcor Euro Brokers. eSpeed has assumed responsibility for certain technology costs of Euro Brokers consistent with our relationship with BGC. In return for this service eSpeed receives a share of revenue on voice assisted and screen assisted brokerage transactions of Euro Brokers. As we integrate eSpeed and Euro Brokers technology assets we expect to realize operating synergies. Our revenue for the third quarter is expected to be approximately 37 million. We anticipate that average daily Federal Reserve U.S. Treasury volume will decrease by approximately 8%. Due to our fixed price commission model and our improving market position we expect our fully electronic revenue will decline less than overall market volumes.

Mitigating the decrease in the fully electronic revenue will be an anticipated increase in voice assisted and screen assisted revenue from growth at BGC and its acquisition of Euro Brokers. In terms of cash, we calculate free cash flow as operating cash flow minus cash used for capital expenditures, software development, and intellectual property for the second quarter of 2005, we generated positive free cash flow of $200,000. As of June 30, 2005, our cash position was 182.2 million, down approximately 7.5 million from 189.7 million at March 31, 2005. This decrease was primarily driven by 7.8 million of cash used for the repurchase of approximately 905,000 shares during the second quarter for an average price of $8.65. As of quarter end our weighted average shares of common stock outstanding were approximately 51.1 million shares. We currently have approximately 68.3 million remaining on eSpeed's $100 million share repurchase authorization.

I would now like to discuss certain nonoperating items and insurance proceeds. In the third quarter of 2005 we expect to record nonoperating patent litigation expenses of less than $0.01 per diluted share. With respect to insurance, we still have available to us up to 19.5 million of September 11, related replacement insurance once we exceed 1.1 million of spend that is remaining from the first payment of 20.5 million. Such insurance payments will be recorded as nonoperating gains and we expect to begin recording such gains in the second half of 2005. I would now like to turn the call over to Kevin.

Thanks, Jay. Good morning everyone. In the second quarter eSpeed's volumes increased sequentially. We saw another quarter of improved market position compared to the average daily Federal Reserve U.S. Treasury volume. Fully electronic volume was 7.1 trillion for the second quarter of 2005, an increase of 11.4% compared to 6.4 trillion reported by the Company in the first quarter of 2005. This growth compares favorably to a 6.3% increase in U.S. Treasury volume as reported by the Federal Reserve over the same period.

We believe our volume growth outpaced growth and fed volume because of the incentives to trade more volume built into our new pricing agreements with customers, because of our improved client service, and also because of our introduction of a series of technology solutions requested by our clients. As an example we've enhanced the ability for program traders to enter and exit our market quickly. For keyboard traders where we have made it easier and safer to quickly enter aggressive orders and execute at the correct price.

This focus on blocking and tackling has helped. After two quarters of growth we are optimistic about our U.S. Treasury business going forward and expect our market position to continue to improve in the third quarter. As expected in the second quarter our fully electronic average revenue per transaction declined. With our model as we move large volume clients to fixed component pricing agreements, if we are successful volume with those clients should rise, while not increasing our cost, our revenue per transaction should decline. This has indeed occurred.

In the second quarter we introduced this pricing method to additional customers who have increased their business with us and we are encouraged that our new customers have been growing their business with us significantly enough to warrant the migration of some from variable to fixed components pricing. eSpeed's voice assisted volume for the second quarter 2005 was 7.4 trillion; an increase of 56.6% compared with 4.7 trillion in the first quarter 2005. This significant jump reflects BGCs May 21, acquisition of Maxcor Euro Brokers in particular which added the high volume, low revenue per million repo business to the voice assisted volume numbers. We expect the Euro broker acquisition of BGCs continued expansion to enhance our growth in voice assisted and screen assisted volume. We expect to produce synergies across the Euro Brokers platform while introducing technology improvements and we expect this addition of voice broker revenue will be increasingly profitable for us going forward.

With respect to the third quarter we anticipate market volumes to be seasonally lower than second quarter volumes but we are excited about the things we are doing to bring further improvements to our market position. Among the highlights to watch for: We've begun rolling out to our government bond customers a version of our client software that includes the eSpeedometer, a totally new interface for traders who prefer mouse over keyboard trading. Most importantly it is fully integrated with the ECCO futures platform giving us the opportunity to capture more of a traders government bond business by satisfying the full range of a traders futures trading needs on the same platform. This offering is a triple play. Not only assisting growth in our government bond business but positioning us for monthly subscription revenue from clients who embrace the ECCO futures platform and boosting our offering in futures routing for those clients who choose to rely on our exchange connectivity.

We are also excited by our deal with Nextel; the first wireless government bond trading solution. We will roll it out on BlackBerries in September. Traders will be able to trade anywhere in real time. We've recreated the same code trading application on the BlackBerry. This is precisely the kind of thing that reminds our clients why we at eSpeed are different, what our focus on technology means to them.

In the third quarter we will be introducing more innovations that government traders have asked for and we are increasingly hearing from our clients that they like the client service we are providing behind our technology. That in combination with the volume incentives of our fixed component pricing, we feel we have the strategy in place for further improvement in our market position. We think our fully electronic average revenue per transaction may rise somewhat next quarter due to the impact of seasonal volume. We think over time this figure will gradually decrease as overall volumes and revenues increase. Fully electronic notional volume for new products was 506 billion in the second quarter of 2005, compared to 436 billion in the first quarter of 2005; an increase of 16.1%. The sequential increase we saw this quarter brought us back to our levels in the fourth quarter 2004.

We've done a lot of work during the second quarter to improve our FX platform. And since the beginning of the first quarter. We've introduced new market makers as we said we would. These market makers along with other new customers are helping to create improved liquidity. As we advance our foreign exchange business in the third quarter we expect our financial results to be comparable with the second quarter. We are optimistic about marginal improvements to the financial results in FX in the fourth quarter and we still expect to generate $0.01 per share incremental profit in foreign exchange in the first quarter of 2006. We offer a unique trading platform in the spot FX marketplace, we're the only system out there that offers anonymity, multiple buyer, multiple seller trading, and great technology both for traders who type and for program traders. We have introduced enhancements that improve market maker participation. We have made improvements to our trader interface and we continue to address the needs of various types of spot FX participants positioning us to attract liquidity from many sources.

With respect to equities buying from the eSpeed equities direct access product was 178 million shares in the second quarter 2005, compared with 168 million shares in the first quarter 2005. A final word about eSpeed's future platform, although we have a relatively small futures business at this time we are pleased that our sales are showing momentum. Customer feedback has been very positive and we now have the only platform in the world where certain kinds of trading in cash U.S. governments and futures can be executed simultaneously. We expect to introduce an integrated cash futures platform for spot FX later this year. This is a strategy to increase both distribution and content. We think these integrated platforms will extend our desktop penetration. They will increase the amount of time traders spend using our screens and we think they will increase the breadth and volume of products traded through eSpeed. Now I would like to turn the call back over to Howard for the outlook for the rest of the year.

Thank you, Kevin. For the third quarter 2005, a seasonally slow quarter, eSpeed expects to generate revenues of approximately $37 million and our operating earnings to be in the range of $0.01 to $0.02 per diluted share. This guidance is based on the Company's expectations that the average daily Federal Reserve U.S. Treasury volume will be between 525 and 535 billion for the third quarter of 2005. With volumes lower in the marketplace by approximately 8%, we expect our fully electronic revenue to decline less than the market because we anticipate our market position will continue to improve.

As we look forward to the second half of 2005 we expect the third quarter will be our turning point. We anticipate that the business advancements we've made throughout this year will begin to have a positive impact on our financial results in the fourth quarter. We've lowered our outlook for the full year 2005 and we now expect to generate revenues of approximately $151 million, operating expenses of approximately $141 million, and corresponding operating earnings of $0.12 to $0.14 per share. Our estimates assume that the average daily Federal Reserve U.S. Treasury volume will be between 545 and 555 billion for the full year of 2005.

With the increased fixed price component of our commission arrangements, the variability in the average daily Federal Reserve U.S. Treasury volumes will have less of an impact on our business. We expect that the U.S. Treasury Fed volume impact on eSpeed's earnings is now less than half of what it used to be. With respect to BGCs growth we expect significant opportunities. As BGC transactions migration from open outcry to screen assisted open outcry, to voice assisted, and finally to fully electronic trading our percentage of trading revenue increases from 0to 2.5%, then 7%, and then 65% respectively. So our top and bottom lines will increase as our technology assists the BGC Brokers. This new revenue brings with it incremental margins of 75%. So as the combined BGC Euro Brokers transactions increasingly use eSpeed's technology the growth from our pipeline will be transparent and meaningful.

We have improved our position in our U.S. Treasury business for two straight quarters and believe we are well-positioned for the growth we expect in the overall U.S.Treasury market. We still expect that the volume in U.S. Treasury market will double in size by 2008. And this is primarily due to the increase of computer and algorithmic trading. During the second quarter we saw existing program traders increase volumes with us and new computer traders coming on board. We expect this trend to continue and for program trading to take a larger role in the marketplace overall. We also expect that these traders will create new demand from other traditional trading firms which are the other side of their trades. These new clients won't initially have fixed price arrangements. Therefore their initial growth from these new traders will add volume and variable revenue for us and then they will eventually migrate to the new fixed price components.

We still believe strongly in the opportunities that lie ahead for us in foreign exchange. We continue to make strategic adjustments in FX during the quarter including the addition of new market makers and customers as well as the technology changes and advanced features we have added. We remain convinced our FX platform will ultimately experience significant growth. Whereas the timing of such opportunities is difficult to pinpoint the potential is as clear to us as ever. We remain excited about our futures platform and we are beginning to see positive results from our ECCO acquisition as Kevin mentioned earlier. We are optimistic about the futures business and the enhancements it will also bring to our cash platform.

With respect to our efforts to acquire MPS. The significant amount of time we spent in Europe only served to enhance our relationships with many of our largest global customers and we expect our Europeans business will benefit as a direct result of the time we spent with them in the last few months. Thank you and we would now like to turn the call over to the operator so we can answer your questions.

[OPERATOR INSTRUCTIONS] Our first question comes from Alane Schain, Jay Goldman, you may ask your question.

Hi, how much per quarter are you spending on the FX, the futures, and the equity new initiatives?

I think the best way to look at that is if you went back about a year ago you would see the expenses that we had at that time and then while that difference would not only include the three businesses that you've highlighted, it obviously would include the ECCO acquisition, the hiring of additional salespeople for foreign exchange and the like. So I think the best example of how you could see that would be to look back to, say, the first and second quarter's of 2004 where our expenses were between 26.5 and $27.5 million a quarter.

Just one quick additional question. Why is the implied captures on the voice assisted brokerage transactions falling off so much? I think you might have alluded to it but I'm not sure I understand it.

There was just a brief stub period while the Euro Brokers volumes were added to our volumes and that's because of the BGC acquisition of Euro Brokers. In that period Euro Brokers did a significant amount of business in repos which are overnight, may well be overnight transactions of significant volume. So the volume figures on overnight repos jumped dramatically as compared to, say, let's say volume of transactions of two-year or five-year notes and the revenue capture per million on that business is significantly lower because they are just overnight transactions. They tend to be repetitive into large volumes. So high volume and low price is, that part of it so it's really more a mix issue than that anything actually happened with our existing business. We just added a high volume, low margin business but it also comes without significant marginal cost.

But the absolute revenue actually declined, right, as well.

Yes, yes, it did and that, the numbers, as I said the overall numbers did not move around in a significant way. It's simply I think as we move forward and we have the full quarterly impact I think next quarter will be more clear and then going forward as BGC and Euro Brokers combine their business I think those numbers will stabilize and then with Euro Brokers and BGCs growth will start to improve.

Thanks.

Justin Hughes, Philadelphia Financial.

Good morning, Howard. I was wondering what percentage of your electronic volume now is on the fixed pricing structure?

I don't think we've ever broken it out in that way. But what we've tried to do for you is to go over that, we think the impact of overall market volumes has now decreased by -- basically halved so that in an increasing volume market the additional revenues we'll capture are less than we used to but of course in a quarter like the third quarter the 8% decrease in volume will have a much less impact on our business. So the fixed price components are becoming an ever larger part of our business as new clients, as Kevin mentioned, as new clients move from the variable price and do more business with us and they can then do enough business to do a fixed price arrangement that will become an ever increasing number. So it's substantially grown. It's substantially mitigated our, I guess, our exposure to volume variability. But we still -- new clients still come on variable and we still have -- a significant number of our clients still have variable pricing in there as a component of their commission model.

You said it's come down about half, so roughly about half the volume? It looks like you are moving from a transaction based revenue model to more of a subscription based revenue model?

We are definitely moving -- the latter part of your comment is definitely true. We have definitely moved to -- from a variable fee model to a fixed fee model. That is certainly true. But it's, as you said it's movement towards it, it's not completely. We still do have a significant amount of variable pricing. However, that, that impact per million is now half. So more of our clients have moved to the fixed price model and therefore have mitigated their variability to half. As we've said we have done this in a customized pricing methodology, meaning we don't have a one price fits all pricing. We've really worked with each client to try to customize that percentage that they want to fix, that percentage they want to variable so that we really can help our clients achieve their overall goals as well.

In your prepared comments you talked a little bit -- you gave us some numbers on the potential for Euro Brokers business moving over. You gave some percentages. I didn't follow what those percentages were. I was just wondering if you could walk us through a little more detail on what the potential is there and how much leverage there is given the subscription versus transaction business.

Okay. So just to take a step back in the voice brokerage businesses of BGC Euro Brokers, if the brokers do not use a screen system we don't receive any revenue. If they start using a screen system to assist them we will receive 2.5% of their revenues. If they use a system that can be electronically matched then we receive 7% of the revenue. Finally, if the customer literally types in the transactions then we receive 65% of the revenue. So you can take from the screen assisted line, that's the line where we are only receiving 2.5% of the revenue so that pipeline would be if that business ever became fully electronic, you could just take 2.5% and put that as the denominator over the number and you would see what the opportunity would be if that business went, 100% of that business ever went fully electronic what our earnings would be. In the same model -- and then of course we would get 65% of that revenue.

That same model would be--.

What's that?

It's your historical pricing with Cantor?

Absolutely. It's consistent with the BGC model. So Euro Brokers with its acquisition of BGC just fell into that same model.

Okay. And was Euro Brokers included for the entire quarter in the second quarter?

No. It was just that stub period from May the 21.

So that gives us enough to get to the numbers. Then the last question, how much revenue this quarter came from the Wagner Patent and how much longer will that run?

Jay? Hold on one second.

The Wagner Patent is included in our software solutions from unrelated parties. You see we have about 3.8 million of revenues. Approximately half of that is derived from the Wagner Patents. I can't give you a precise number.

And that runs through?

That runs through February of '07, so through the first quarter of '07.

That has very little variability quarter over quarter.

Thank you very much.

Raj Sharma, Polestar, you may ask your question.

Good morning. My first question is to Jay. Jay, I know you guys mentioned about the Q3 operating expense. What was that number? I missed that number.

The Q2?

Q3 operating expense guidance.

We are looking at 36 million.

36 million. That is primarily, that's gone up primarily because of expenses, BGC related expenses?

I guess more specifically the full quarterly impact of including the Maxcor acquisitions and the technology related assets that we are obligated to assume from them.

The other question is the new product volume, I know that notional volume has gone up. Have revenues gone up as well from new products and what is this increase coming from, which segment of your new products?

Raj, this is Kevin, the revenues at those volume levels are not hugely significant. It's driven by mixture of our futures and our FX volume.

If I wanted to get a sense of did foreign exchange volumes go up in the second quarter?

We publish this stuff in terms of the category of new product volumes to give you an idea of how the future growth area of the Company is doing but we don't break out the individual product categories.

Okay.

To put it in perspective 500 billion for the quarter, we are still talking about small numbers.

Right. I want to get a sense of what the profitability or what the commissions structure of that notional volume is.

Generally speaking we would expect the new product volumes to consistently fall into the categories long term that we receive from our fully electronic revenues. So we don't view the businesses that are currently in our new product segment to have a pricing differential. We do however, expect, as those business start to grow to discount them somewhat to encourage people to use our -- especially the new platform but over time we would expect it to remain consistent with our other revenue capture per million. We don't think it would be materially different.

And my last question is, for the year, the expense guidance, Howard, has essentially stayed the same, your revenue guidance has come down. And that's primarily because you see lower volumes seasonally in Q3 and Q4 than you had expected earlier this year? And what's happening to the -- are the -- is the transition from a variable to a fixed model essentially done now?

Well, with respect to most of our large clients the answer to your last question is yes. We have entered into long-term contracts with many of our clients with respect to U.S. treasuries. So their fixed cost model, those pricings have been completed. As our market share grows and our volumes grow, our average revenue capture per million will decline but that's as Kevin said is as expected. With respect to the third quarter we expect, as Kevin mentioned, our average revenue capture will rise somewhat. Our market share will improve. So both of those things working together. However, we do expect a seasonally slower quarter to produce volumes in U.S. treasuries that are down 8% so we think we will outperform the market from both a revenue capture and market share standpoint but unfortunately that's into a quarter that is slow overall. So it doesn't expose our improving position as much as we would like but that's, of course, for when the volumes come back in the marketplace that we will be there to capture that.

New clients coming on, come on at a variable pricing schedule as they do more and more business with us. They can then move to a fixed price model and then that will then kick back in to the same model. So we think over time our revenue capture per million as the volumes on our system grow will naturally gradually decline simply because you will have a fixed price component over larger volumes. We don't have marginal costs associated with those increased volumes so that's --, the average is not really the number that we look at as an impact but we try to discuss the factors that will change our real revenue capture to give you a a sense of what's happening. So we do not see pricing modification as a significant component going forward in our business. It has been over the last year and then that has caused some of our revenue decline. We don't think that is part -- a significant part of the revenue story going forward and that's why we have our average revenue per million growing and our market share growing both the kind of things that make us feel more confident going forward.

I want to thank you all for joining us this morning. And we look forward, if you have individual questions please don't hesitate to call us and we look forward to speaking to you again next quarter. Thanks everyone.