CBOT Holdings (NYSE:CBOT), the parent company of the Chicago Board of Trade, reported earnings yesterday, and they were a case study in the power of the "tollkeeper" business model ("tollkeeper" companies generate revenues by collecting an activity-based fee on large amounts of recurring transactions--Inside Value pick MasterCard (NYSE:MA) is another example).
CBOT announced earnings of $0.82 per share, up 130% year on year and comfortably above the consensus estimate of $0.73. Investors rewarded the performance by bidding the shares up on the day by almost 5%. Let's see how CBOT achieved this feat [all percentage changes refer to a year-on-year comparison]:
Total revenues increased 31% to $158.5 million, three-fourths of which were trading and clearing fees CBOT assesses from those who transact on the Board of Trade. Exchange and clearing revenue were up 27%, thanks to record trading volumes across all product categories (average daily trading volume increased 14%) and a 13% increase in the average rate per contract to $0.56.
The momentum builds as we move through the expense line. Approximately three-fourths of CBOT's operating expenses are fixed costs. This creates tremendous operating leverage -- as revenues increase, operating margins expand. For the second quarter, CBOT's operating margin was 46% (which is comparable to Microsoft's (NYSE:MSFT)), up from 28% a year earlier. Operating income was $73 million, up 115%.
Looking at the second half of the year, management expects a 5%-8% increase in the average rate per contract in each of the next two quarters. During the conference call, they also described several initiatives to drive trading volume, including a joint venture with SGX, the Singapore Exchange, to create a commodity products exchange that will launch on Sept. 25.
As you can tell, there's a lot to be enthusiastic about in CBOT, and many people are. At 35 times estimated '07 earnings (based on Thursday's closing price), the stock requires high spirits of its shareholders. Unfortunately, businesses of this quality rarely go on sale -- CBOT's closest comparable company and longtime rival, Chicago Mercantile Exchange Holdings (NYSE:CME), trades at almost 33 times estimated '07 earnings. None of this has gone unnoticed at NYMEX Holdings, the parent of the New York Mercantile Exchange. Last Monday, the company filed its registration documents with the SEC for an IPO.
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Fool contributor Alex Dumortier has a beneficial interest in MasterCard and Microsoft, but none in any of the other companies mentioned in this article. He welcomes your (constructive) feedback. The Motley Fool has a strict disclosure policy.
