Marketaxess Holdings Inc (MKTX) 2006 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

And welcome to the MarketAxess second quarter 2006 earnings conference call.

At this time, all participants are in a listen-only mode.

Later, we will conduct and question and answer session.

[OPERATOR INSTRUCTIONS]

As a reminder, this conference is being recorded Wednesday, August 2, 2006.

I would now like to turn the call over to Stephen Davidson, Head of Investor Relations as MarketAxess.

Please go ahead, sir.

Good morning and welcome to the MarketAxess second quarter 2006 conference call.

We issued a press release this morning providing our results for the second quarter 2006.

For the call this morning Rick McVey, Chairman and Chief Executive Officer of MarketAxess, will provide a strategic update for the Company.

And then Jim Rucker, our Chief Financial Officer, will review the financial results for the quarter.

We will then go back to Rick for closing comments before the Q&A session.

Before I turn the call over to Rick, let me remind you that today's call may include forward-looking statements.

These statements represent the Company's beliefs regarding future events that by their nature are uncertain.

The Company's actual results and financial condition may differ, possibly materially, from what is indicated in those forward-looking statements.

For a discussion of some of the risks and factors that could affect the Company's future results, please see the description of risk factors in our current annual report on Form 10-K for the year ended December 31, 2005.

I would also direct you to read the forward-looking disclaimers in our quarterly earnings release.

I would now like to turn the call over to Rick McVey.

Rick?

Thank you, Steve, and good morning everyone.

Thank you for joining us.

The second quarter was gratifying as we are seeing tangible results from our product expansion strategy.

First, DealerAxess represents our entry into the large and growing Dealer-to-Dealer fixed income trading space.

During the second quarter, we secured commitments from 15 major dealers to provide liquidity during the critical first year of trading.

And 17 dealers have already completed trades on the system.

U.S. high-grade market share ended the quarter on a strong note in June and that momentum appears to have carried through in the preliminary estimates for July.

The European region continues to grow strongly with significant expansion in active clients.

In emerging markets, we are seeing continued double-digit growth.

The client footprint for our CDS product is growing and in high yield we are seeing growth and trade increase in market participation.

The volume numbers validate the growth story.

Total trading volume is up 10%.

European volume is up 34%.

And volume in the other category is up 28%.

It is important to note that alongside this product and market share expansion we are also controlling expenses.

On the first quarter '06 call we committed to disciplined expense management.

As such, we reduced headcount slightly in some areas during the quarter and reallocated resources to the most significant growth opportunities.

Expenses related to DealerAxess are already included in our fiscal year 2006 guidance.

Based on these efforts, we see no reason to expect any meaningful change in expenses for the second half of the year.

The Company continues to generate strong cash flow with a total of $116.2 million in cash, up from $112.2 million as of the end of the first quarter.

We have no debt.

And our book value per share is $5.08 as of June 30, '06.

On slide 4 we have the financial summary for the second quarter of 2006.

The short-term results are being impacted by 2 primary factors - first, continued quiet trading conditions in our core high-grade corporate bond market and second, ongoing investment in new products and markets.

Top line revenue growth is modest year-over-year, but reflects growing revenue contribution from new products.

Expenses are up 14% from the second quarter of '05 but down slightly from the first quarter of '06 as a result of our expense management efforts.

Adjusting for FAS 123 options expenses and severance that we incurred in the current quarter, the year-over-year expense growth was 9%.

And Jim will discuss this in more detail shortly.

While we will be continuing to invest in our long-term growth, we are managing our expense base to reflect the realities of current market conditions.

As you can see from slide 5, we continue to see long-term growth in our client franchise across all segments.

Total active institutional investors on the platform increased by 104 firms or 18% as compared to June 30, '05.

Active U.S. institutional investor clients grew 9% year-over-year.

And active European institutional clients grew 39%.

All major global dealers active in credit markets participate on the MarketAxess system today.

This consistent growth in clients on the platform strengthens our network effect and reflects the depth of liquidity on the platform.

It is important to note that we have seen a fourfold increase in client implementations for straight through processing with MarketAxess during the last year.

Straight through processing solutions increase efficiency for our clients and add to the stickiness of our trading system.

Slide 6 shows the progress that we have made toward growing our business and diversifying into new and large markets.

We are currently focused on generating revenue growth in 3 main areas.

First, increasing market penetration in existing credit products.

Client growth and recent estimated market share gains prove that we are on the right path in corporate bonds and emerging markets.

Second, new client segments, DealerAxess, our Dealer-to-Dealer platform, is ahead of our internal expectations in terms of committed dealer participants and trading activity.

In the high-grade market, we estimate that 25% of daily corporate bond volume is conducted between dealers.

And we have established first mover advantage in the electronics space.

Third, new products in the Client-to-Dealer space, CDS and high yield represent our largest opportunities.

CDS take up is slower than expected while high yield is showing positive signs of market acceptance.

A couple of quick highlights in terms of the growth of our client footprint in CDS, we have 14 dealers active on the platform with ongoing discussions with 3 additional dealers.

Dealer approvals for trading with clients in CDX were up 45% during the quarter.

We are continually enhancing our CDS index product to meet market needs while at the same time considering expansion into the single main space.

We have established a leadership position in the electronic markets for U.S. high-grade, eurobonds, and emerging markets.

And we remain confident in our ability to establish the same position in our new products.

On slide 7 we have the DealerAxess value proposition.

We provide value to dealers in 4 main areas.

First, lower trading fees, which are especially important in today's quiet markets with lower market making profitability.

Second, better compliance tracking through improved electronic audit trails for all transactions.

Third, our existing desktop presence in the corporate bond market creates a built in liquidity pool that will increase efficiency and drive down trading costs.

We offer improved trader order control and flexibility through combined voice and electronic communication.

These unique assets have led to broad based support and liquidity commitments from the dealer community.

Slide 8 shows the reach that our new Dealer-to-Dealer platform provides.

Based on the various NASD TRACE tray sized buckets and discussions with dealers, we are able to estimate the percentage of corporate bond volume coming from each client segment.

The contribution from each segment can vary month to month.

Our current estimate is that the institutional Client-to-Dealer space represents approximately 65% of the total market, which includes hedge funds and other leveraged accounts.

The Dealer-to-Dealer we represent at 25% of the total market and the retail space 10%.

With DealerAxess we now estimate that we have access to 90% of the addressable high-grade corporate bond market.

Currently, our Dealer-to-Dealer platform has 17 dealers participating and completing trades with over 80 individual traders in just the first few sectors that we have rolled out.

The pricing for DealerAxess is similar to our Client-to-Dealer pricing with monthly minimums to be phased in and variable fees of approximately $98 to $100 for each side.

We feel very good about the prospects for our Dealer-to-Dealer business based on the early signs in June.

And we see attractive growth options in additional credit products.

On slide 9 we show the quarterly trend in NASD high-grade TRACE volume and market share.

Our percentage of NASD TRACE is up versus the year ago period from approximately 7.1% to 7.6%.

Overall high-grade volume reported by TRACE dropped 9% to $566 billion for the quarter.

Our high-grade market share is roughly in line with the first quarter of '06.

Looking at the second quarter by month, however, we see the combined effect of growing share in our Client-to-Dealer trading business and new share contribution from DealerAxess in the month of June.

Our percentage of TRACE increased to 8.5% in June.

And the early estimates would suggest that our July market share will show another monthly increase.

With that I will turn it over to Jim who will go through the quarterly financial results.

Thank you, Rick.

On slide 10 we've outlined our volumes from 2006 and 2005-second quarters.

Total trading volumes in the second quarter of 2006 were down 6% on the 2006 first quarter but were up 10% when compared to our 2005-second quarter.

Our U.S. high-grade product continues to be adversely impacted by quiet market conditions.

European high-grade volume was 34% above the prior year's second quarter.

The growing client base, as well as the regulatory changes taking place in Europe, are driving the strong performance in our European business.

Other volume was 28% above the second quarter of 2005.

The strong results in our other volumes year-over-year were driven by continued growth in emerging markets volumes and positive momentum in our new product areas that Rick spoke to earlier.

Slide 11 provides revenue detail.

This quarter showed the early results of our goal to diversify revenue streams through the addition of new products and markets.

The revenue contribution from our core U.S. high-grade product has declined from a contribution of 61% of revenue for the first 6 months of 2005 to 54% in the same period of 2006.

Eurobonds and our other products are contributing a greater percentage of our overall revenue, reflecting the growing impact of these growth cylinders.

For the second quarter of 2006 total revenue of $20.1 million was down slightly as compared to 2006 first quarter but up 4% when compared to the second quarter of 2005.

U.S. high-grade commissions were down 5% as compared to second quarter of 2005 on volume declines of 3%.

The average variable fee per million for U.S. high-grade in the second quarter was $89.

The fixed high-grade distribution fees for the quarter were $7.5 million.

The increase in fixed distribution fees was due to another dealer signing on to our new high-grade fee plan that was first rolled out in June of last year.

European high-grade commissions increased by 23% as compared to the second quarter of 2005.

The average fee per million declined from $197 to $179 as a result of a modest change to the European fee schedules in the middle of last year and the mix of business on the European platform.

But we're only slightly down from $181 in the first quarter of 2006.

Other commissions of $2.2 million benefited from the strong quarter-over-quarter emerging markets in high yield growth and the contribution from our CDS platform, which was launched in the second half of last year.

Other revenue, which consists of information and user access fees, license fees, and investment income, increased 12% as compared to the second quarter of 2005 due to an increase in the number of users of our corporate bond ticket service.

Slide 12 provides you with the expense detail.

To reiterate Rick's earlier points, since the second quarter of 2005 we have launched 2 significant new product areas, credit default swaps in September of last year and our DealerAxess, Dealer-to-Dealer trading in June of this year.

Within the context of these 2 significant product launches, total expenses in the second quarter of 2006 increased by 14% from Q2 2005 levels to $18.7 million.

In addition, the non-cash FAS 123R related stock compensation expenses for the quarter were $800,000.

As compared to Q1 2006 expenses decreased by 1% driven largely by lower technology and communications expenses and lower professional and consulting expenses.

Headcount as of June 30, 2006 was 186 compared to 177 as of June 30, 2005, a 5% increase that was the result of the launch of our CDS and DealerAxess businesses.

On slide 13 we show year-to-date actual expenses versus our full-year guidance.

During the second quarter we made a shift of resources from slower growing areas into our new DealerAxess business.

As a result, we were able to implement this significant new product area while reducing expenses slightly from the first quarter.

As a result of these changes, we also incurred $300,000 in severance costs that are reflected in the second quarter expense numbers.

If you back out the $1.1 million in options and severance expenses incurred in the second quarter of 2006 and back out the options expense in the second quarter of 2005, the year-over-year increase in total expenses is in the upper single digits but includes the costs of both CDS and DealerAxess.

Expenses for the first 6 months of 2006 were $37.7 million including $1.8 million in FAS 123R and severance expenses.

Based on this development in the first half of 2006, we would expect full-year 2006 expenses to come in at the low end of the previously indicated guidance range of $76.5 to $79.9 million.

In terms of CapEx expense based on half-year results, we expect CapEx to come in at the upper end of the previously indicated guidance range of $5 to $7 million.

Please turn to slide 14 for our earnings performance.

We reported diluted earnings per share for the second quarter of 2006 of $0.02 and operating margin of 7%.

Down from $0.05 and operating margin of 15% in 2Q '05.

While our short-term earnings have been impacted by softness in our core high-grade market, and our continued investment in new product areas, we believe that the Company is well positioned for future growth.

We have a broad product offering, a leadership position in the credit markets, and have taken the necessary steps to ensure that our expenses are focused on those areas where we believe that we can generate the highest returns for our shareholders.

The effective tax rate for second quarter was 42%.

On slide 15 we have summary balance sheet data.

Cash, cash equivalents, and securities totaled $116 million as of June 30, 2006, up from $112 million at the end of the first quarter of 2006, an increase of $4 million, evidencing the financial strength of the firm and our positive cash generation.

The deferred tax asset was $40 million.

The deferred tax asset benefits the Company's cash flow, as we do not expect to pay cash taxes except for certain state and local taxes until the deferred tax asset is fully utilized.

Total stockholders equity was $178 million representing book value on a fully diluted basis of $5.08 a share.

With that let me turn the call back to Rick for some closing comments before the Q&A.

Thank you, Jim.

In summary, we continue to make positive strides in growing the product and client reach of our Company and diversifying our streams of revenue.

Corporate bond trading remains quiet but market share is growing.

And we believe that cyclical trends will eventually change in our favor.

We have added a Dealer-to-Dealer trading service and have obtained critical mass in participation in just the first few months of trading.

We have first mover advantage in multiple new market segments including emerging markets, CDS, and high yield.

Expenses are expected to stabilize and come in at the low end of guidance for the full year.

We have substantial growth opportunities, a strong balance sheet, and controlled expenses.

With that, I would be happy to open the line for your questions.

Thank you, sir.

[OPERATOR INSTRUCTIONS]

And our first question comes from the line of Daniel Goldberg of Bear Stearns.

Please proceed.

Thanks.

Hi, Daniel.

You've talked I guess extensively about investing in the business.

And I guess at the same time the revenue growth not really being there.

I guess that's reflective of the pre-tax margin of about 7%, which was I guess flat quarter-over-quarter.

But maybe you can give us a sense of once you're through investing in the business and revenues do start to grow where you think that number could really fall out in a more normalized environment and more mature environment?

Hi, Daniel.

It's Jim.

I think as we've said on previous calls, clearly there is a lot of operating leverage in the business.

In general our expenses are a function of the products that we're in.

They don't vary that considerably with additional volume in existing products.

So once we get these new cylinders of growth kicking in, we think that the operating leverage can increase very substantially from the levels it's currently at.

And if we, as we model out the third, fourth quarter and into next year, should we start or when should we start to see that expanding from its current levels?

I mean is next quarter to early?

Or should it be a 2007 event?

I think we're confident that the new product revenue developments will occur in the second half of this year.

There's obviously as you're well aware Daniel, one big variable that we don't control, which is the market volumes overall in the products that we trade.

And the TRACE volumes during the first half of the year declined further from the first half of 2005.

We're in the midst of the summer period currently.

But that variable is the most difficult one for us to predict.

But with respect to revenue developments from the new product areas, we are confident that those areas will show growth in the second half of this year.

Okay, that's helpful.

In terms of consolidation and I guess the competitive landscape, we've seen some recent acquisitions within a fixed income and I guess credit derivatives base.

What are your updated thoughts on the competitive landscape and maybe some possible further consolidation for yourselves or others?

I'll take the first question.

Certainly with respect to competition in our space the short answer is no meaningful change during the quarter.

The one acquisition that, or merger, that was announced last week was in the inter-dealer credit derivatives space that brought together Credit X and Credit Trade.

So that company does not currently overlap with the businesses that we are in.

So the competition within the markets and the products that we operate is unchanged during the course of the quarter.

As we've said in past calls, we are always looking at potential acquisitions that would expand our business profile and diversify our sources of revenue.

But we also have a relatively high threshold point because of the optimism that we have on the organic growth opportunities within the Company.

Okay.

And then just lastly related question in terms of the cash.

Obviously you've built significant amounts of cash.

I think it's approximately 3, over $2.30 a share.

What would be the kind of 1, 2, and 3 uses of that?

I think really Dan to reiterate the comments that Rick has just made.

We do feel good about the organic growth opportunities here.

And that's obviously our number one thrust at this point.

However, we also do like the opportunity that the cash balance gives us where appropriate to make selective acquisitions to compliment in appropriate product areas and augment the organic growth.

So that really is where we see the benefit of the cash balances.

Okay, great.

Thanks a lot.

Thanks Daniel.

[OPERATOR INSTRUCTIONS]

And our next question comes from the line of Howard Chen of Credit Suisse.

Please proceed.

Great.

Good morning, Jim.

Good morning.

A few questions on the numbers, first on the pricing as measured by the average fee per million in the U.S. high-grade business that rebounded a bit this quarter.

Is that increase driven by less in the way of single dealer activity?

Or are we starting to steal some benefit of the Dealer-to-Dealer trading?

Is there higher spreads?

What's going on there?

I think compared to the first quarter, Howard, the all in fee per million U.S. high-grade increased slightly.

We've got a couple of things going on there.

One obviously is this just the function of volume.

But the second we had one remaining major dealer that signed up to a new year, a new 2-year agreement.

So that shows in those numbers and as I mentioned in my prepared remarks, we have higher fixed monthly fees as a result of that.

So those really are the 2 things that were going on there.

Okay, and if going forward, and I haven't cut through all the numbers that you've provided in your slides.

But if DealerAxess really divines ramped up, would we see a material change in that blended U.S. high-grade pricing metric?

Howard, given the fact that we're in the initial stages of the DealerAxess launch, it's too early for me to give out the full product fee schedule.

But I think as Rick said in his remarks we expect the variable transaction fee in DealerAxess to be in the $90 to $100 per million range, which obviously is broadly in line with where we are in the variable fees in the high-grade Client-to-Dealer business.

Okay.

And then the next question I had again I know it's very early in this DealerAxess launch.

But if you excluded the impact of those volumes, do you believe you grew Client-to-Dealer market share during the quarter?

The total quarter of the answer would be that the market share was relatively constant versus the first quarter.

But in the June numbers you're seeing the combined effect of growing share in the Client-to-Dealer business and new volume coming from the Dealer-to-Dealer business.

Okay.

Thanks, Rick.

And any update on the competitive environment within the Client-to-Dealer market share?

No change there.

We're still highly confident in our view that we occupy north of 90% of the E market share in the U.S. high-grade corporate bond business.

And we competitively feel as good as ever about where we stand.

So the key for us is migrating more of the business away from the phone and on to the electronic trading system of MarketAxess.

Okay, and then Jim a question on the expenses and specifically slide 13.

If you annualize that first half expenses of I think it's $37.7 million and you assume no more severance expenses, I guess you come out to around $75 million in full-year expenses for '06.

And that's below the low end of your guidance.

So I guess my question is, is there anything seasonal to the back half expenses?

Is there incremental investments that gets you from that the run rate right now to the low end of your guidance?

There's really nothing seasonal, Howard, in expenses.

I mean it's not really what drives the expenses.

It's really the investments we're making in the products.

What I did in my prepared remarks was to restate that I think we're going come in at the low end of the guidance range.

And I feel very confident that we will meet that.

Okay, great.

And then the last one and I'm sorry if I missed this in the prepared remarks.

But why was share count down this quarter?

And should it be stable going forward?

The share count will be pretty stable going forward.

It is driven to some extent by the share price because of the way we account for options on the treasury assets.

And that's really what we're thinking of what accounts to decrease.

But it's going to be pretty stable going forward.

Okay, great.

Thanks, guys.

Thanks, Howard.

Ladies and gentlemen, this does conclude the question and answer portion of today's conference call.

I'd like to turn the presentation back over to Mr. McVey to close the call out.

Thank you for joining us.

And we look forward to updating you on the business progress next quarter.

Ladies and gentlemen, thank you for your participation in today's conference call.

This does conclude your presentation.

And you may now disconnect.