Cboe Global Markets, Inc. Q3 FY2023 Earnings Call

Good morning. Thank you for joining us for our third quarter earnings conference call. On the call today, Fred Tomczyk, our Chairman and CEO, and David Howson, our Global President will discuss our performance for the quarter and provide an update on our strategic initiatives. Then Jill Griebenow, our Executive Vice President, Chief Financial Officer, and Chief Accounting Officer will provide an overview of our financial results for the quarter, as well as discuss our 2023 financial outlook. Following their comments, we will open the call to Q&A. Also joining us for Q&A will be Chris Isaacson, our Chief Operating Officer; and our Chief Strategy Officer, John Deters. I would like to point out that this presentation will include the use of slides. We will be showing the slides and providing commentary on each. A downloadable copy of the slide presentation is available on the Investor Relations portion of our website. During our remarks, we'll make some forward-looking statements, which represent our current judgment on what the future may hold. And while we believe these judgments are reasonable, these forward-looking statements are not guarantees of future performance and involve certain assumptions, risks, and uncertainties. Actual outcomes and results may differ materially from what is expressed or implied in any forward-looking statements. Please refer to our filings with the SEC for a full discussion of the factors that may affect any forward-looking statements. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events, or otherwise after this conference call. During the call this morning, we'll be referring to non-GAAP measures as defined and reconciled in our earnings materials. Now, I'd like to turn the call over to Fred.

Thank you, Ken, and thanks everyone for joining the call this morning. Having Cboe’s results I am proud of the Cboe team and our focus on our clients, which has resulted in another strong quarter for the company. For today's call, I will highlight our overall results and share my priorities as Cboe’s new CEO. I am pleased to report record third quarter adjusted earnings for Cboe. During the quarter, we grew net revenue by 9% year-over-year to $481 million and adjusted earnings per share by 18% to $2.06. These results were driven by record activity across our derivatives business and continued growth of our Data and Access Solutions business, lower third quarter operating expenses, and a lowering corporate tax rate. Our derivatives franchise delivered another record quarter as total organic net revenue increased 15%. As the uncertain macro geopolitical environment impacted markets globally, investors and traders relied on our suite of index options and volatility products that help manage risk and generate income in an uncertain environment. We believe our derivatives business remains incredibly resilient, supported by a growing customer base and our options product that is becoming increasingly recurring in nature as the management shifts to shorter duration explorations and more frequently positioned around changing market environments. During the quarter, organic net revenue in our Data and Access Solutions business increased 9%. Net revenue in our cash and spot markets business decreased by 6% during the quarter, reflecting the muted volumes we saw across all global equity markets. These solid results were made possible by the continuing execution of our strategy to build the world's largest derivatives and securities network and positioned Cboe for a strong finish to the year. In my new role, I am primarily focused on three key priorities that I believe will further strengthen Cboe and enhance shareholder value. First, sharpening our strategic focus; second, effective allocation of our capital and training developing talent management succession. I believe our sharpened strategy will help the margin profile of our business and increase shareholder value over the longer term. I will now turn the call over to Dave Howson to talk through how we are driving results within our strategy.

Thanks, Fred. As Fred noted, our strategy yielded solid results during the third quarter as we continued to advance our top strategic growth priorities: Derivatives, Data and Access Solutions, and Digital. Before moving to the record results for our Derivatives and D&A businesses, let me provide an update on our Digital segment. We are working with our customers and the CSEC on final preparation for the planned launch of Margin Futures in the first quarter of 2024, subject to regulatory approvals. We are excited to launch Cboe Digital as the first US regulated crypto native exchange and trading house to offer spot and leverage derivatives on a single platform. Turning to Derivatives and Data and Access Solutions. Last month, we made important leadership changes to further support our global growth strategy. Cathy Clay, who previously led our Data and Access Solutions business, was appointed the Global Head of Derivatives. A new role for the organization as we reorganize the team for the next chapter of global growth. Furthermore, we promoted Adam Inzirillo to Global Head of Data and Access Solutions. By aligning our organizational structure to the global nature of the business, we anticipate harnessing the full strength of Cboe, increasing efficiency and collaboration across business lines and regions, while enabling our competitive, world-class products and services in a globally consistent manner to our clients. Turning to Derivatives, it was another record quarter for the business as traders and investors turned to our flagship S&P 500 and fixed index products while navigating the uncertain macro environment. SPX volumes surged 21% to a record ADV of 2.9 million contracts in the third quarter, while our mini SPX contract SXP jumped 82% year-over-year. The fastest growing segment continued to be the zero-day expiry options, gaining 33% year-over-year. Investors use these for hedging, income generation, expressing views on market direction and more. The diversity of uses is what we expect to continue to see strong and sustainable use of zero DT options regardless of market conditions. However, while the zero DT options are making up a bigger part of the pie, the pie itself is growing, as well. Other expiries are also seeing high volume, including our standard monthly SPX options contracts. We believe bonuses are being used less as we diversify our equity risk, and investors are increasingly turning to options to help hedge their portfolios. That hedging demand helps explain why VIX option volumes have been so strong, with ADVs surging 60% year-over-year even as world VIX levels are steady.

Thanks, Dave. As Fred and Dave highlighted, Cboe posted a record third quarter with adjusted diluted earnings per share increasing by 18% on a year-over-year basis to $2.06. I want to provide some high level takeaways from the record quarter before delving into an assessment of the segment results. Our third quarter net revenue increased 9% to finish at $481 million, driven by strength in our Derivatives Markets categories and solid results from our Data and Access Solutions business. Specifically, Derivatives Markets produced a 15% year-over-year organic net revenue growth in the third quarter as traders saw increasing utility in our toolkit of proprietary products. Data and Access Solutions net revenues increased 9% on an organic basis during the quarter. We are pleased with the revenue growth acceleration we have seen through 2023 and remain excited about the continued momentum into year-end. Cash and Spot Markets net revenues decreased 6% during the quarter, reflecting the trading environment across the globe. Adjusted operating expenses increased modestly by 4% to $180 million, and adjusted EBITDA of $321 million grew a solid 12% versus the prior year. Turning to the key drivers by segment, our press release and the appendix of our slide deck includes information detailing the key metrics for each of our business segments, so I’ll provide some highlights. The Options segment again provided the highest growth for the quarter. Net revenue grew a robust 14% led by strong contributions from our Index business and favorable revenue per contract trends.

In summary, I want to thank the entire Cboe team for the warm welcome and the incredible achievements over the last quarter. Cboe’s success this year and over the last 50 years is a testament to the enduring strengths and resiliency of the team who continue to rise to any occasion and deliver results. I'm very excited about the future of Cboe Global Markets. At this point, we'd be happy to take questions. We ask that you please limit your questions to one per person to allow time to get to everyone. Feel free to get back into the queue, and if time permits, we'll take the second question.

Yes. Good morning. Thanks for taking my question. Fred, I just wanted to dig into the three key priorities you laid out in your prepared remarks. I was hoping you can maybe elaborate on the comments you made about refining the strategic vision. What areas are you focused on? Where do you see the most opportunity for improving efficiencies? And what impact would you expect this to have on your overall expense growth going forward? Thanks.

Thanks Patrick. So, obviously I have been following the strategies from a board level and I'm providing my input comments to the management team through the process. I generally agree with the direction. However, I have been clear that I consider that the current strategy is too broad, covering too many new asset classes and new geographies. I believe a good strategy provides greater direction and focus to an organization. The first step is to have a common frame of reference, where we all agree on what the trends are in the business and where the world's going to. Good competitive analysis and a good SWOT (Strengths, Weaknesses, Opportunities, Threats) analysis of what Cboe is really good at and what it can bring to different parts of the world. From that, we'll outline your key strategic points and the various actions will follow over the next two to three years. When I talk about efficiencies, I recognize that even operating margins have been falling over the last three or four years. But I think we want to stabilize that trend and start turning it around for the future. Does that answer your question?

Thanks. Good morning. Wanted to follow up on that and maybe if you could talk about capital allocation going forward, the authorization last week and then the message we heard this morning sounds similar in terms of how you guys have allocated capital previously, but should given the organic and sharpening focus of the business should we think about buybacks as more of a focus here in the near term.

I would lay it out this way. I would say we'll have discipline, number one. The best use of our capital is to invest in organic initiatives. We've seen some good returns from those initiatives, and so that will continue to be a focus. Secondly, we have the dividend, which we see as something we just have to do, almost like an interest payment to return capital to our shareholders. Third, we've been paying down our floating rate debt given the rise of interest rates. We will look at share repurchases on an opportunistic basis from this point forward. Lastly, I think you should expect to see less M&A going forward with a more focused strategy.

Yeah, morning, everyone. I wanted to follow up on stabilizing EBITDA margins and potential room for improvement there. Any colors in terms of specific opportunities that you see and any color on a timeframe to expect some room for improvement there?

It's been six weeks since I've taken this role, so I think you can ask me that question maybe next quarter. But I've suffice it to say that's certainly an area of focus for me to stabilize those margins and find ways to improve them going forward.

Hi. Good morning and thanks for taking the question. To be original I'm going to continue to follow up on those first three questions. Maybe you talked about narrowing the strategic focus going forward. To what extent could that refer to divestitures as well? It sounds like maybe there was a little bit of disagreement with your predecessor about the breadth of the M&A strategy. So are you talking about being more focused going forward or revisiting the existing portfolio? Are you thinking about balancing those two things?

I wouldn't say it was much of a disagreement between Ed and I, as much as I didn't think the strategy provided enough focus to the organization and focusing where we allocate our capital in terms of M&A. But I don't think there was a difference of opinion on strategies so to speak. It's much more about narrowing it.

In terms of the product lines that we're in, we've got some exciting new events coming up with product launches in our Digital business and Margin Futures in the New Year. We are continuing to integrate and expect to see long-term revenue benefits from recent acquisitions.

Our total adjusted operating expenses were approximately 180 million for the quarter, up 4% compared to last year. The modest increase was the product of higher technology support services and professional services to support some of our key growth initiatives and an increased travel and promotional spend given higher ongoing corporate marketing expenses. Overall, we expect core expenses to grow by 8% in 2023.

In summary, Cboe delivered another outstanding quarter, and we see strong momentum as we head into the final months of the year and into 2024. With our strong foundation of derivatives and Data and Access Solutions, we will continue to harness the power of our markets to deliver innovative products and services to our customers. Thank you and I look forward to seeing everyone in the future.

This concludes today's conference call. Thank you for joining us. You may now disconnect.