CME Group Inc. (NASDAQ:CME) Q3 2023 Earnings Call Transcript

CME Group Inc. (NASDAQ:CME) Q3 2023 Earnings Call Transcript October 25, 2023

CME Group Inc. beats earnings expectations. Reported EPS is $2.25, expectations were $2.21.

Operator: Greetings, and welcome to the CME Group Third Quarter 2023 Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we’ll conduct a question-and-answer session. [Operator Instructions] I would now like to turn the conference over to Adam Minick. Please go ahead.

Adam Minick: Good morning. I hope you’re all doing well today. We will be discussing CME Group’s third quarter 2023 financial results. I’ll start with the safe harbor language then I’ll turn it over to Terry. Statements made on this call and in the other reference documents on our website that are not historical facts are forward-looking statements. These statements are not guarantees of future performance. They involve risks, uncertainties, and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or implied in any statements. Detailed information about factors that may affect our performance can be found in the filings with the SEC, which are on our website. Lastly, on the final page of the earnings release, you will see a reconciliation between GAAP and non-GAAP measures. With that, I’ll turn the call over to Terry.

Terrence Duffy: Thanks, Adam, and thank you all for joining us this morning. We released our executive commentary earlier today, which provides details on the third quarter of 2023. I’ll make a few brief comments on the quarter and current outlook, and Lynne will summarize our financial results. In addition to Lynne, we have other members of our management team present to answer questions after the prepared remarks. Turning to the most recent quarter, average daily volume of 22.3 million contracts was less than 1% off the record Q3 high set in Q3 2022 while our revenue grew 9% to $1.34 billion, which is the highest Q3 revenue in CME Group’s history. As we’ve mentioned throughout this year, we are operating in an environment that unquestionably requires risk management.

With so much uncertainty in the world we live in, we’re continuing to work closely with our clients to help them navigate uncertainty and manage their risks. This is particularly true in the interest rate markets today. We see divergent market views around inflation, unemployment, monetary policy and ongoing geopolitical tensions, all impacting future interest rate expectations. Regardless of whether rates rise, fall or hold steady, the shape of the yield curve and interest rate views continue to shift, and our customers need to manage that risk. As a result, we have continued to see growth on top of the record year end 2022 for our interest rate business. This was our highest Q3 for our interest rates complex, up 6% from the same quarter last year.

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We saw particular strength in the treasury complex, which was up 16% in the quarter and is off to a strong start in Q4 as well. Completing the successful migration of Eurodollars to SOFR, we continue to list other products to complement our interest rate complex today. Our European short-term rate or ESTR contracts traded a record 10,000 contracts per day in September. Our newly listed treasury bill futures launched on October 2, and we have traded over 15,000 contracts in the first three weeks. This is one of the most successful launches of a raised product ever. Our broad product offering and focus on capital efficiencies such as the enhanced cost margining agreement with DTCC going live in January of 2024 continue to enhance the value proposition for our customers using our products to manage their interest rate exposure.

On the commodity side, third quarter 2023 volume was up 15% in total and included the highest ever Q3 volume for our agricultural products. Our energy complex also performed well with volume increasing 16% from last year. We believe the current environment for this asset class will continue to bring new clients as well as existing ones to manage their exposure in our global benchmark. We believe the strong macroenvironment, combined with our diverse set of asset classes and strategic execution across our growth initiatives, positions us well for continued growth in 2023 and beyond. With that, I’ll turn it over to Lynne to cover the third quarter financial results.

Lynne Fitzpatrick: Thanks, Terry. During the third quarter, CME generated $1.34 billion in revenue, up 9% compared with a strong third quarter of last year. Clearing and transaction fees and market data revenue each grew 9% versus Q3 2022. Expenses continue to be very carefully managed and on an adjusted basis, were $448 million for the quarter and $369 million excluding license fees, both lower than the second quarter this year. This quarter, our investment in the cloud migration was approximately $13 million. Our adjusted operating margin for the quarter expanded to 66.5%, up approximately 240 basis points compared with the same period last year. CME Group had an adjusted effective tax rate of 22.8%, which resulted in net income of $818 million and adjusted diluted earnings per share of $2.25, each up 14% from the third quarter last year.

Of the $110 million increase in revenues versus last year, we were able to drive 90% to the bottom-line with adjusted net income up $99 million. As a result of the strong expense discipline throughout the firm, we are lowering our core expense guidance, excluding license fees to $1.475 billion, a $15 million decrease from our original guidance of $1.49 billion. We are maintaining our guidance of $60 million for our cloud migration expense for a total expense guidance of $1.535 billion excluding license fees. We continue to manage our capital expenditures effectively with an eye towards our move to the cloud. As a result, we are lowering our CapEx guidance to $85 million. For the quarter, our capital expenditures were approximately $18 million.

CME paid out $2.8 billion of dividends so far this year and cash at the end of the quarter was approximately $2.5 billion. Our strong financial results this quarter continued to build on the strength achieved in the first half of the year. This quarter, we delivered our ninth consecutive quarter of double-digit adjusted earnings growth. Our global benchmarks, data and strong focus on innovation and execution continue to address the needs of our clients and deliver results for our shareholders. Please refer to the last page of our executive commentary for additional financial highlights and details. We’d now like to open up the call for your questions. [Operator Instructions] Thank you.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question is from the line of Dan Fannon with Jefferies. Please go ahead. Your line is open now.

Dan Fannon: Thanks. Good morning. Terry, a question for you on M&A. You’ve been vocal about your financial capacity to do additional transactions. I was hoping you could talk about kind of the scope and what you’re looking at. And also, in the context of the current environment, why now? Have valuations come in? Are your competitors distracted with other deals or other tasks? So curious about the current backdrop of what you’re thinking about and really the scope and what that may look like?

TerrenceDuffy: Yes. Thanks, Dan. I think that’s the reason why people sometimes need to read the whole story and not just the headline because if you read the whole story, I haven’t said anything different than what I’ve said for several years is, I was only stating facts to the point where our capacity is much greater than everybody else’s because we’ve stayed very disciplined and very focused as it relates to our M&A transactions that we’ve done. I was only referring to our EBITDA being lower than one times compared to some of our competitors who were at multiples of that. When asked the question, if deals are to be offered, I made the reference to the comment that where else would you want to shop something but the CME? It doesn’t mean that CME is interested, but that’s all I was referencing.

So my appetite for this hasn’t changed a bit. We have not looked at anything that I — to a point where I said, okay, we want to do a deal. I was only referencing what I’ve been saying for a number of years. And unfortunately, the headlines say what they’re going to say. So there’s not much more I can say about it than that, Dan. But again, nothing has changed from our discipline. And again, if I — we see something and I said this publicly and I believe this, if we see something that benefits our users and benefits our shareholders, we will take a very strong look at it to build and grow this great company. That’s all I was saying.

Dan Fannon: Great. Thank you.

TerrenceDuffy: Thanks, Dan.

Operator: Thank you. Our next question is from the line of Patrick Moley with Piper Sandler. Please go ahead. Your line is open.

Patrick Moley: Yes. Good morning. Thanks for taking my question. So Terry, I was hoping you can maybe just give us your updated thoughts on the outlook for volumes heading into year-end, just given some of the evolving yield curve dynamics we’ve seen in this kind of heightened geopolitical uncertainty. And then coming into this year, you talked a lot about how great the setup was for CME’s business. So maybe if you could just talk about how that maybe compares now to — or how it’s played out relative to your expectations, and how it maybe compares to the setup we’re now looking at heading into 2024? Thanks.

TerrenceDuffy: Yes. I think the good — and thank you, Patrick. I appreciate it. I think it’s really hard to predict the future, and I try to be careful. But the setups that we saw in 2022, which you’re referring to and 2023 were something so glaring that you had to call it out because of the geopolitical events, what was going on with inflation where people were calling a transitory versus you sprinkle $3 trillion into the American public’s hands, you know that it’s not going to be transitory. So I was only sprinkling out the favorable events that we were seeing fundamentally that I thought was good for every single one of our asset classes. And it was actually very good for us. As you know, with a record year in 2022 and an amazing quarter this quarter in 2023 and as Lynne said, our ninth consecutive quarter of double-digit revenue growth.

So those are all very impressive numbers. We will — I don’t think the setup has changed, Patrick, when you look at what’s going on right now that’s going to be much different for 2024. I think we’re going to see a little bit of the same, but who knows. It’s hard to predict what the volumes would be associated with that, but there is a massive amount of uncertainty out there. When we made comments like we did in 2022 and 2023, we also didn’t have the unfortunate situation we’re seeing in the Middle East today. So there’s another added component going on to that. And then we also have other situations, as I said earlier as it relates to our energy complex, where people are looking for more production coming out of the U.S., and Derek can touch more about that throughout the Q&A.

But again, I think that bodes well for CME’s products. But I’ll — beyond that, I’ll be careful what I say.

Patrick Moley: All right. Great color. Thank you.

TerrenceDuffy: Thanks.

Operator: Thank you. Our next question is from the line of Alex Kramm with UBS. Please go ahead. Your line is open.

Alex Kramm: Yes. Hi. Good morning, everyone. Just quickly on the regulatory side, seems like the SEC is getting closer to mandating treasury clearing on the cash side. Obviously, you have your arrangement with DTCC now in place starting in January. So a good position there, I guess. But like more broadly, just wondering how you think treasury clearing would change the marketplace, both on the cash side and maybe even on the futures side, customer behavior, new customers? Anything — I assume you have some thoughts on it. So anything would be helpful how market structure may change if that happens.

TerrenceDuffy: Yes. No, thank you very much. And it’s a great question because it’s a great unknown too, what’s going on out there. And what is being proposed and what may happen is still being hammered out. I’m going to ask Suzanne Sprague, who is the President of My Clearing House, to give you some comments on the reg side of it. She’s working closely with her team as they’re watching this. And then I’m going to turn it over to Tim McCourt from an opportunity perspective, what he’s seeing as it relates to the complex if, in fact, some of these things happen or even if they don’t. So maybe we’ll give you a little two-part answer here, Alex, if you don’t mind.

Suzanne Sprague: Yes. Thanks, Terry. We do think generally the benefits of central clearing will bring the marketplace into a strong position for things like our cross margining program with the Fixed Income Clearing Corporation. So you are correct to put those dots together that it will potentially enable higher participation in that program. We do today have the program that’s eligible for common clearing members. And so the enhancements will benefit those common clearing members within the program and therefore, increased activity through clearing of treasuries generally should translate to more eligible activity that could benefit from cross margining between CME and the Fixed Income Corporation. So we generally believe the benefits of central clearings plus those enhancements to the cross margin program will position us and the industry well for taking advantage of more capital efficiencies in this space.

I’ll turn it over to Tim McCourt to add anything else as well.