Marketaxess Holdings Inc (MKTX) 2008 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the MarketAxess fourth quarter 2008 earnings conference call.

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

Later, we will conduct a question-and-answer session.

(Operator Instructions).

As a reminder, this conference is being recorded Wednesday, February 4, 2009.

I would now like to turn the call over to [Trey Gregory], head of Marketing and Communications at MarketAxess.

Please go ahead, Sir.

Good morning and welcome to the MarketAxess fourth quarter 2008 conference call.

For the call this morning, Rick McVey, Chairman and Chief Executive Officer, will review the highlights of the quarter; Kelley Millet, President, will provide an update on trends in our businesses and then Jim Rucker, Chief Financial Officer, will review the financial results.

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 belief regarding future events that, by their nature, are uncertain.

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

For a discussion of some of those risks and factors that could affect the Company's future results please read the Company's description of risk factors in our annual report on Form 10-K in the year ended December 31st, 2007.

I would also direct you to read the forward-looking disclaimers in our quarterly earnings release that was issued earlier this morning and is available on our Web site.

Now I would like to turn the call over to Rick.

Good morning and thank you for joining us to discuss our fourth quarter and full year 2008 results.

Fourth quarter earnings per share were $0.05 versus $0.06 in the fourth quarter of 2007.

While credit market conditions became progressively worse throughout the year, we have been able to maintain revenue, manage expenses and generate attractive free cash flow.

Specifically, revenues for the fourth quarter were $21.8 million and for the full year were $93.1 million, just 0.6% below 2007 levels.

Expenses were $18.8 million for the quarter, reflecting the benefit of the expense reduction initiatives completed in the third quarter.

For the full year expenses were $80.3 million or 5% above 2007, including the expenses associated with our acquisition of Greenline Financial Technologies.

Other Company metrics on investor orders, expansion of dealer participation and product breadth continue to point to valuable growth of the franchise.

Our financial position grew stronger throughout 2008 due to $23.6 million in free cash flow, leading to record year end cash balances of $143 million.

As you can see on slide 4, market conditions in the fourth quarter proved to be the most difficult of the year.

Benchmark credit spreads as measured by the Credit Suisse LUCI index widened to 541 basis points, up from 359 basis points at the end of the third quarter.

Credit spread volatility spiked higher, highlighting the extremely difficult trading conditions during the quarter.

Market conditions did improve somewhat toward the end of the quarter and December trace volumes were 30% higher than year ago levels, including volume from newly issued FDIC-backed bank bonds.

Bank funding pressures as measured by the TED spread eased substantially during the quarter.

Investor sentiment improved, and risk taking increased for the end of the quarter, resulting in a more balanced buy sell on our system.

Preliminary numbers for January show that our US high-grade market share remains similar to the fourth quarter average and fee-captured trends remained a positive.

On slide 5, you can see that the MarketAxess network is growing broader and deeper.

Investor order count increased by 40% in the fourth quarter compared to a year ago, demonstrating that investors continue to rely on MarketAxess as a unique channel to source liquidity in the credit markets.

Balance sheet constraints among the largest dealers have reduced secondary market liquidity, causing investors to broaden their group of dealer counterparties.

In order to satisfy investor demand on the trading system, we added 19 new dealers in the second half of 2008.

Direct connections to investor order management systems continue to grow rapidly, as you can see from the bottom left hand chart, increasing 48% to 198 at year end.

The percentage of trades executed through these direct OMS connections continues to grow as you can see from the bottom right hand chart.

Investor engagement on the platform remains strong.

We believe that the decline in trading volume on the system is largely due to lower levels of liquidity in credit markets, brought on by balance sheet constraints at most large dealers.

As a result, we have expanded our market-making community and introduced innovative technology to enable investors to find matches to their orders through our market lists open orderbook functionality.

With that, let me turn it over to Kelley to discuss our new initiatives in more detail.

Thank you, Rick.

[Progressive decline] in volumes and market share, we executed three important new initiatives in the second half of 2008, complementary to our core clients' dealer business.

As you can see from the top right hand chart on slide 6, primary dealer holdings in corporate bonds with more than a year maturity have continued to decline.

This indicates the impaired secondary market-making capabilities of the largest dealers, and highlights the importance of the new dealers that we brought onto the platform.

To enable our new regional dealers to have maximum impact, we had to create the point of connection between them and our institutional investors.

We are more than halfway through that process.

In October, we introduced innovative new technology that we have called [Market List] to assist investors in finding matches to their orders.

Investors are able to display their orders to the entire MarketAxess trading community, including other investors.

Effective last week, other investors can see one of these public inquiries held at timely [entering] order on a bond through a dealer of their choice.

Over 18,000 orders were made public in the fourth quarter with a value of approximately $8 billion.

As you can see from the chart at bottom right, the number of orders that do not trade on the platform has been growing.

Our third initiative addresses this issue by creating a trading and execution services desk.

[We seek] to find matches for those orders that do not trade as well as execute certain other orders on behalf of clients.

The (inaudible) capture on these types of trades is higher.

In addition like our DealerAxess business, these trades are transacted on a riskless principal basis with MarketAxess's counterparties and settled through a third party clearing (inaudible).

Through these initiatives we believe that we have taken the right steps to continue to grow our core trading business through challenging market conditions.

In addition to the steps to address market challenges, on slide 7 we outline the growing diversification through growth and technology and data services.

Technology and data accounted for 18% of our revenues in the fourth quarter, up from 7% in the fourth quarter of last year.

In November, we announced the integration of Market Quotes into the MarketAxess trading platform.

Market Quotes is a real-time quote parsing service that extracts indicative over-the-counter prices from electronic messages and it's most widely used for CDS data.

The integration provides clients with CES click to trade functionality.

The integration with Market Quotes has gone well and take up for the product by clients has been good.

We see this as an important step in our overall CES strategy.

We are pleased with the continued growth of Greenline through a very difficult environment with first-time customers in Latin America and the Middle East.

Greenline total revenues grew by 64% for the full year 2008 compared to 2007.

During the fourth quarter, we continue to grow our BondTicker Dataproducts with (inaudible) of our European BondTicker that [displaced] market standard pricing data with MarketAxess enrichment.

The average daily number of BondTicker users grew by 28% during the fourth quarter from a year ago, highlighting the importance of transparency and quality market data in the current environment.

On slide 8, we present our trading volumes and fees per million for the fourth quarter.

Our volumes are down compared to a year ago, but the quality and mix of business have been more favorable, resulting in a higher fee per million capture.

Our variable transaction fees grew to $159 per $1 million in the fourth quarter of this year from $113 in the fourth quarter of 2007.

The key contributors to the higher fee capture have been the higher variable sees that we earned from the new regional dealers, growth of the high yield business, and the introduction of our trading and execution services business.

So while we have experienced the year-over-year decline in volumes amidst difficult market conditions, the reduction in commission revenues has been more manageable.

Now let me turn it over to Jim for a review of our earnings.

Thank you, Kelley.

Please turn to slide 9 for our earnings performance.

While we've not been immune to the current market environment, our revenue, earnings and cash flow have held up well.

Our total revenue of $21.8 million for the full quarter was down just 2% from a year ago with better revenue diversification.

As Kelley mentioned earlier, a higher portion of our revenue is now coming from technology and data with our Greenline acquisition being the key contributor to this.

Investment income which is included in the all other revenue category was down 47% from a year ago, due to a reduction in yield on our investments.

We have continued to exercise expense discipline.

And as a result net income was up $400,000 from the third quarter and in line with a year ago.

On slide 10, we've laid out our commission revenue, trading volumes and fees per million.

Commission revenue was down only 12% cushioned by better fee capture and the fixed monthly distribution fees in US high-grade and Europe.

Total variable transaction fees of $159 per million were up 41% from the fourth quarter of 2007.

The fees per million were up across all three categories.

Slide 11 provides you with the expense detail.

We have actively managed expenses throughout 2008 resulting in declines for the past two quarters.

Total expenses for the full quarter were down by 2% from the fourth quarter of 2007, reflecting a successful integration of the Greenline business as well as expense reduction initiatives undertaken earlier in the year.

Employee compensation and benefits as a percent of revenue was 46%, down from 49% in the third quarter and in line with the fourth quarter of 2007.

Employee headcount as of December 31st was 185, compared to 182 at the end of 2007.

CapEx for the full year of 2008 was $4 million.

On slide 12, we have our 2009 expense guidance.

We currently expect our 2009 full year expenses to be in a range of $77 million to $84 million.

The most significant factor impacting any expected increase in 2009 expenses over the Q4 2008 run rate will be a result of the trading and execution services business that Kelley spoke of earlier.

Most of the expenses for this business will be employee compensation and benefits and will vary, based on the growth in revenues.

We expect our CapEx expenses for 2009 to be in the range of $4 million to $7 million.

We expect the diluted share count for the first quarter 2009 to be in the range of 37.3 million to 37.8 million shares.

We expect the tax rate for the full year 2009 to be between 41 and 43%.

On slide 13, we highlight the strength of our balance sheet.

We continue to generate strong free cash flow.

Free cash flow for 2008 was $23.6 million or three times reported net income, and only 3% below the $24.2 million for 2007.

Our free cash flow margin for the year was 25%.

Cash, cash equivalents and securities as of December 31st were $143 million, up from $124 million at year-end 2007 and representing $3.81 per share on a diluted basis.

Total shareholders equity as of December 31st was $225 million, representing book value on a diluted basis of $6.02.

We continue to have no bank debt.

Now let me turn the call back to Rick for some closing comments.

In conclusion, while [credit] market conditions were extremely difficult, we feel very good about the expansion of our product capabilities and our trading network during the year.

Our revenues held up well, our free cash flow has been strong and our balance sheet is healthier than ever.

We have expanded our product offering through new dealers, use services and innovative new technology solutions.

Investor participation on the platform remains strong.

We entered 2009 as a leader in providing new electronic trading solutions to improve liquidity in credit markets and we remain confident that open electronic trading will play a bigger role in the future.

Now I would be happy to open the line for your questions.

(Operator Instructions).

Daniel Harris from Goldman Sachs.

Good morning.

We've seen industry cash volumes stabilize and actually move higher here, one of the only assets that we are starting to see year-over-year growth in and, obviously, that was one of the weaker asset classes earlier last year.

But what do you see as the major drivers to that change recently?

How do see that playing out over the next six to 12 months?

And is there anything we should be thinking about or looking at outside of say, the funding cost from the banks or volatility that would help us get a better sense of that?

There are two factors, I think, in addition to the macro sense that liquidity and bank funding has improved slightly from its lows.

Our view on trades volumes and market volumes overall is that they have been affected by two things.

Overall, it has been the emergence of a very robust new issue calendar that improved in the fourth quarter and certainly really demonstrated large growth in the month of January.

And within that context, the importance of the FDIC guaranteed bank bonds are a significant part of that as well.

So I think the secondary block trading that occurs around new issues as they agree to trade, probably had the biggest impact both in outright corporate as well as those FDIC bonds in pushing volumes up, certainly towards the end of the fourth quarter and in January.

And I think Daniel, too, there has been a clear shift in investor sentiment in the corporate bond markets as valuations reach new lows during the fourth quarter.

And we have seen a shift, not only in the institutional market for corporate bonds, but also in the retail market.

So demand for corporate bonds has picked up; and we think that that sentiment is partly responsible for the increases we are starting to see in secondary bond trading as well.

Okay.

Thanks a lot, Rick.

That's helpful.

And Rick, while I've got you, there's obviously been a number of rumblings coming out of Washington with regards to CDS trading and potentially an impact on owning the underlying bond and some of the legislation that is being in proposed.

While obviously we are probably far from seeing any of that happened, I would love to get your thoughts on how that would impact the cash market and just your general views on that type of legislation?

I think that it's a very tricky dynamic with respect to some of the structural changes that are being proposed for the CDS market.

And our belief is that the market will benefit from central clearing.

It will benefit from greater transparency, but some of the proposals that include no naked positions in OTC derivatives and required underlying cash position, we think would radically reduce the amount of trading and activity in the OTC derivatives markets.

And the end would not help the risk management that takes place.

It is a fundamental piece of the derivatives markets.

So I think today, we believe that the regulatory initiatives around central clearing and greater transparency all are healthy for the market.

We support them, but we would prefer not to see some of the structural changes that would reduce the amount of risk-taking that takes place in the OTC derivatives markets.

Yes.

That sounds sort of what we are thinking too.

And then, lastly for me, can you put any color around the participation of the new dealers that you guys have added in the past six months?

And whether or not that is around revenue capture or just revenues?

And then taking it a step further, is there a similar strategy that you can follow in Europe or other geographies, in terms of adding a secondary fleet of the regional or diversity dealers?

Thanks a lot.

Let me discuss the US regionals and then let Rick comment on Europe.

We are pleased with the progress of the regionals.

As I mentioned in my prepared remarks as a fully disclosed sort of permission-based trading system, we have to work very hard with them to connect with the institutional investors on the system and as I said earlier that's about halfway through.

But to give you an idea on both the sort of profitability of those trades as well as where we stand in their importance to the system, those regional dealers in the $1 million and under bucket pay a transactional fee.

And obviously then, there is the variable transaction fee that is included in all of the electronic trade.

So the fees per million in a regional trade are materially higher than the average fee capture that we see across the platform.

In terms of their overall performance, I'll give it to you like this.

As a group they are a top-selling dealer now on the system in both volume and count.

So as I said, we are pleased with the progress to date, but there is a lot of focus in improving and maximizing their connectivity with the institutional investors on the system.

And I'd just add to that I think as the liquidity has become so challenging and trade sizes have been reduced across the board, the regionals are playing a more important role, especially in the $[1 million] and under trade category which is where they have the biggest impact on our system.

And we do think there is an opportunity to transport what we have done well with the dealer expansion in the US into the European region.

We are talking to additional dealers about joining the MarketAxess system in Europe currently.

And we also think that there's application for our [Markit] list open orderbook technology in Europe as there has been here in the US, as the secondary market has really moved much more to an investor order matching market as opposed to a dealer principal market.

So both of those things that we've done that have done well we think in the fourth quarter -- the third and fourth quarter in the US, we are working on for Europe as well.

Okay.

Thank you.

(Operator Instructions).

[Hugh Miller] from Sidoti & Company.

Good morning.

Was wondering if you could just give us a little color on how we should be thinking about the average fee per million as we are heading into 2009?

I mean, obviously, as the regional dealers get up to speed, that would be of benefit.

But as we possibly see an improvement in the floating -- the FRN business that would obviously weigh on things and, obviously, the average durational play of factors as well, but any thoughts on how we should the looking at that as we go forward?

As Kelley mentioned in his prepared remarks, there are really three things that have been driving the fees per million higher.

One is the growth in business done by the regional dealers.

The second is that we have been seen growth in the high yield business that carries high fees per million both in the US and Europe.

And the third is the execution and trading services business that Kelley mentioned.

So those three things have been driving the fees per million higher and we expect the trends in those to continue.

But having said that, as you mentioned, if market conditions were to normalize and we had volume growth particularly in areas like FRNs that carry lower fees per million, that could offset the trend from these other factors.

But if that was happening it would be a good problem.

Yes and Hugh, as a former trading debt (inaudible) I don't see it highly likely that we would see a real significant improvement in the front end floater liquidity and a significant or material increase in activity on the system certainly through the first half of the year.

So you think that probably the fourth quarter seems to be a decent benchmark for the next few quarters until we see an improvement in the FRN business?

Yes.

I think we are going to see a continuation of the trends that we saw in the fourth quarter.

Okay.

And I think that you guys have made some comments on the market share in January, relative to trace data being expected to be somewhere in the range where you guys were in the fourth quarter.

I was wondering if that was a correct statement.

And obviously we saw improvement throughout the fourth quarter in market share.

I was wondering if you were anticipating that the Dow would the somewhere near the December levels or towards the beginning of the quarter in October?

If you look at January's share in line with the average share that we achieved in the fourth quarter, a couple of things that will impact share in the first quarter.

One is the prevalence of the FDIC new issuance.

That is a different set of both sellside traders as well as buy side investors.

We think there's a great opportunity for us.

We are on everyone's desk.

We think we have a better trading protocol than the competition from the buy side standpoint so we are working very, very hard there.

But, obviously, that's both in our numerator and FINRA TRACE denominator.

The second point is the overall new market, new issue market away from the FDIC business, has also been quite robust in January.

And we would expect it to continue in the first quarter.

As you know in terms of our business model, we typically don't capture the large block trades that come off of new issues as they free the trade.

We are positively correlated to the new issue business as it provides greater liquidity and [AA] flows in the market, but that is typically on a lag to basis.

So I think that gives you a little bit of color and insight in terms of where we think we are in terms of share and what the factors are contributing to that.

Yes.

That's great color.

Thank you.

And looking at the range you guys had given for capital expenditures and can you just talk about -- obviously it's somewhat wide -- what would really influence that to be towards the top or the bottom end of that range?

Yes, I would just add here although it is wide in percentage terms, our CapEx numbers are not that large.

So in absolute terms, the range is only $3 million.

But there are a couple of things that would determine whether we end up at the higher or lower end of that range.

You know, one is we have looked at a couple of technology infrastructure projects for the second half of the year that we have not yet decided whether to do them or not.

That is one factor that would impact it.

And then the second key determinant will be the level of capitalized software development that we undertake during the course of the year.

So it's those two factors that will have the most significant impact on whether we end up at the high or the low end of the CapEx range.

Okay.

And for the infrastructure projects, would that be something that you would expect would ultimately drive stronger volume?

Or is it just proving the kind of plumbing on the system?

It's more improving the plumbing and putting it in a better position that will take care of volumes further down the road.

Okay.

And can you talk a little bit about the regional dealers' impact on the hit rate?

Whether or not we saw improvement there for the smaller size trades in the fourth quarter, relative to the third, as they've come up on the systems?

We have seen a modest improvement in hit rate and performance in their selective buckets, so to speak, which is $1 million and under and there are two reasons for that.

One is their outright winning of the trade where typically we may not have gotten any prices back.

And secondly is where they provide in a sense what would be a cover or a third price on an inquiry where a buy side firm may require at least two if not three prices from a best execution to actually execute that trade.

So our mission, our objective is to improve the hit rate which then, we think, will promote greater inquiry into that size trade bucket and with the higher fee per million obviously drive incremental revenue from those regional dealers.

So as I said in my prepared remarks, we still have a lot of work to do in connecting them with all of our institutional investors.

But there are a lot of positive drivers as we continue to grow that business.

Okay.

And with regards to the technology fees in the fourth quarter relative to the third.

If you can give a little color on the trends you were seeing there and more specifically, I guess, with the decision with TWS, the services there, to switch to an ASP model, and what you guys are seeing?

As you know the dominant contributor to our technology services business is Greenline and in my prepared remarks, we are pleased with their performance in difficult market conditions.

We saw very strong growth year over year.

We would expect growth to continue albeit at a lower percentage rate year over year.

You are correct with TWS.

Historically they were focused on the large broker-dealers.

We in a sense morphed that product strategy to focus on connectivity with regional dealers in promoting connectivity across various exchanges, [thinner ad] trades, etc.

and the willingness and ability to offer it outright or on a hosted ASP model.

So we are pleased with the early signs about that change and its impact on revenue and product license success.

But, again, if you look at the aggregate number, it will be the effect and focus and success of Greenline that will drive the bulk of that in 2009.

One last question with regards to the cash position, where you stand with that now with your expectations for using that to go forward?

Whether or not there are any acquisition candidates that you are seeing that look interesting or if it's just a matter of holding ground right now and continuing to focus on the return opportunities and then improving the current platform?

Sure.

Just a couple of comments on that.

First, I think having a strong cash balance is a luxury in a difficult market and a position we are very pleased to have.

So we like the health of our balance sheet.

It's considered an important part of our business.

With respect to the second question on acquisitions, we are always looking for complementary technology solutions that would expand our services to the institutional trading markets.

Having said that we start the year incredibly excited about the new initiatives that we have going on organically.

We have radically expanded the trading connections on the MarketAxess trading system over the last four months with the growth in dealer marketmakers on the system and the extension through the open orderbook through Markit List.

So we believe that we are delivering very important solutions to today's credit markets.

And the Company's primary focus is on executing on those of initiatives in order to grow our revenues and grow our earnings throughout 2009.

Thanks so much for all the color.

(Operator Instructions).

At this time there are no further questions in queue.

I would now like to turn the call back over to Mr.

Rick McVey for closing remarks.

Thank you very much for joining us this morning and we'll afford to talking to you next quarter.

Thank you for your participation in today's conference.

This concludes the presentation.

You may now disconnect.

Good day.