Source: Nasdaq OMX.
Nasdaq OMX Group (NDAQ 0.10%), which among other services operates the Nasdaq stock exchange, released a credible quarterly earnings report Thursday, posting net income of $133 million, a 32% increase year over year. Diluted net income per share rose by a similar magnitude to $0.77, versus $0.59 in the second quarter of 2014. The company's net revenue decreased 1% to $518 million, which management attributed to foreign currency effects. Below, let's review highlights from the report, as well as an emerging theme for Nasdaq: the creation of new avenues to future revenue.
A quarter marked by high operating margin
Nasdaq was able to boost earnings through fairly efficient operations, more than offsetting the slight decline in its top line. The company cited expense reduction initiatives, as well as positive foreign exchange rate impacts on operating costs, as factors behind its higher profitability.
A review of its income statement indicates that Nasdaq benefited from a reduction in "merger and strategic initiatives" expenses, which declined from $14 million to $3 million. Management also appeared to control general and administrative expenses (exclusive of marketing and compensation), which decreased more than 40%, from $33 million to $19 million.
The combination of foreign exchange rate cost benefits and disciplined operations resulted in an operating income margin of 42%, an increase of 5 percentage points from the comparable 2014 quarter.
IPO activity, while lukewarm, is a positive for Nasdaq
Nasdaq operates in four primary business segments: market services, listing services, information services, and technology solutions. Of these, listing services is often the most visible. The company has listed a number of high-profile, newly public companies this year, including Wing Stop and Etsy.
In general, initial public offering activity has moderated in 2015, after setting a heady pace in the prior two years. Tax and advisory firm BDO has projected that despite a strong second quarter after a slow start to 2015, U.S. IPO aggregate proceeds will end somewhere below $36 billion in 2015 -- the lowest dollar volume of public fundraising since 2009.
Nasdaq is countering the effect of this inevitable moderation in activity by continuing to win the lion's share of domestic IPOs, especially in the biotech and overall tech sectors, in which it excels. Today's report furnished the following statistics: Nasdaq brought 49 IPOs to market out of its total of 79 listings in the second quarter, and captured 70% of all new U.S. IPOs during the period.
The company also realized success in Europe, launching 38 new listings on the continent, its highest quarterly total ever. For the near future, it appears that Nasdaq can counter a decline in aggregate IPO activity by continuing to aggressively win the majority of significant domestic offerings while growing its European business.
An opportunistic attitude to future revenue
As in most quarters, the company's market services segment served as a bedrock for the quarterly income statement. At 36% of total revenue, Nasdaq's equity, derivatives, and fixed income trading services, as well as broker services, provided a base for other business initiatives. Market services revenue declined to $189 million in the current quarter, from $197 million last year, primarily due to unfavorable foreign exchange rates.
While revenue from existing trading platforms is quite dependable, the company has recently turned its attention to strengthening other core competencies and pursuing additional revenue streams. One of the most promising opportunities lies in licensing revenue from the many indexes the Nasdaq creates. Earlier this year, Nasdaq acquired Dorsey Wright & Associates, LLC, a data analytics firm with a focus on indexing strategies.
Dorsey Wright specializes in "smart beta" indexing, a portion of the index business generating immense interest among institutional investors. Smart beta indexes can be constructed on a range of criteria, which differs from the traditional method of building an index based on the weight of each company's market capitalization. Thus, a smart beta index may take into account price to earnings ratios, earnings growth, or a number of other fundamental factors in selecting companies for inclusion.
The acquisition of Dorsey Wright added 17 exchange-traded funds to Nasdaq's 69 ETFs based on smart beta indexing. Post acquisition, Nasdaq reported $29 million of revenue from index licensing and services revenue in the current quarter, a more than fourfold increase over the prior year. While this represents only about 6% of total company revenue, it's a service that will likely grow at a much faster rate than Nasdaq's overall business and one that investors should make a mental note to track in future quarters.
Nasdaq is also entering the energy futures market this week, with its Nasdaq Futures (NFX) exchange, set to launch Friday with 26 initial futures products. The NFX will compete against both the Intercontinental Group and CME Group, the two major providers in this market.
While it jumps into the energy arena against two well-established and robust competitors, Nasdaq has designed its pricing to lure traders to its platform. According to Nasdaq CEO Robert Greifeld, NFX will offer futures contract pricing equivalent to half the price of the incumbents' commission structure.
Initiatives like smart beta indexing and expansion into new types of trading markets should give Nasdaq a pathway to increased revenue in the coming years. Holding to a fairly efficient operational model should also continue to provide the means to return ample capital to shareholders. The company announced today a quarterly dividend of $0.25 per share, continuing the substantial increase that began last quarter. This year's dividend is running 67% ahead of last year's quarterly payout of $0.15 per share.
