TMX Group Limited (X) Earnings Call Transcript & Summary

Great. Thanks, everyone, for joining our virtual fireside chat. I'm Brian Bedell. I cover the brokers, asset managers and exchanges here at Deutsche Bank. And we are very excited to have the CEO from TMX Group today with us, John McKenzie. John has been the CEO since August of last year and prior to that served as CFO and has been with TMX for over 20 years where he held senior roles, including administrative oversight of TMX's Capital Formation business as well as several acquisitions, including the Maple transaction, the acquisitions of Montréal Exchange and Trayport as well as all the resulting integration initiatives. He also served as President of CDS, Canada's equity and fixed income clearing house, which is a wholly owned subsidiary of TMX. So probably, John, no one knows the company better than you at this stage, so we're very happy to have you here with us today.

Thank you, Brian.

So I'll start out with some questions of my own, and leave some time for questions for the participants. And just instructions on that, you can either email me directly at brian.bedell@db.com or just put it right into the portal, and I can weave that into the conversation. But John, would you like to start out with any introductory remarks before I launch into some questions?

Well, Brian, thank you for that. I appreciate the opportunity. And thanks for having us here today. What I would like to do, actually, before we get actually into the meat of the business review is just reflect on a real tragic story that's actually come to light in Canada this week. And it's actually core to a lot of people at TMX and front of mind for a lot of us. The story is about residential schools. And a few days ago, more than 200 children -- the remains of more than 200 children were found at the site of a former residential school for indigenous youth in Western Canada. It's a tragic and it's a heartbreaking story, and our thoughts go out to all the generations of families that have been impacted by this. And one of the reasons we wanted to raise it today is because these types of historic injustices, they really underscore the need for everyone, for all organizations, to play a part in moving forward and creating a more inclusive and prosperous future for all. And indigenous relations are becoming an important part and an important issue at TMX and a really important issue for our shareholders, who last month just voted 98% in favor of our commitment to improving indigenous relations and inclusions at TMX. So while this is not a solution in its own right, it is certainly a start. And it is part of our broader efforts around ED&I and ESG and making sure that TMX has got a positive impact on the communities and markets that we're involved in. So thank you for that. I would encourage anyone who wants to learn more about what we're doing around ESG to look at our ESG report. Our second edition just came out earlier last month.

Yes. No, that -- I mean, it's a really serious issue. And listen, there's a lot of issues globally with this. So this is a very long-term effort clearly across the board. But that might be a good place to actually start the conversation, your stance on environmental, social and governance. Like you said, you just issued your second annual report on ESG. What do you see as some of the key issues to work on from an ESG perspective? And how are you helping your listed companies improve and measure their progress on ESG going forward?

Well, it's a great place to start. And we very much take the approach of -- as a public company ourselves, we are looking to both lead by example and help and support issuers in terms of leading their ESG journey. So as a reporting issuer ourselves, we are -- we report against SASB. We have for 2 years now. We will be reporting against TCFD this year. We have made a commitment to be carbon neutral by the end of this year. And there's other pieces in there in terms of other pieces that we're advancing around our ESG footprint. But we do recognize that as a market operator, that's where we can make a real difference in terms of actually helping companies and -- communicate with investors, tell their ESG stories in a way that's more effective. And particularly when you think about the mix of companies that TSX and TSX Venture have, because we are very much a small-cap and a mid-cap market and they don't always have the resources to put out a lot of new reporting, so we want to make it easier to -- for them. So we have our ESG 101 hub, which is a mentoring, training and resource materials center, to help understand ESG and how to report against it. We just announced and launched an ISG -- sorry, an ESG reporting repository with our partner IHS Markit, and this will make it easier for issuers to report against these various ESG frameworks and can -- and there is going to continue to be more as this area evolves. So it's been going to be really good to make it easy for them to report against it. And we have a growth accelerator program. So we work with small-cap companies that we mentor and provide assistance to them. We can give them ESG guidance along the way through those vehicles.

Yes. No, that's certainly very interesting. Maybe just to step back for a minute and move to a higher level of view for TMX overall. I mean you've seen the company change dramatically over the past 2 decades. So how would you characterize the evolution of the company since the broad strategic review in 2015? I know that was more of an inflection point for the company more recently, putting TMX on a -- really a different growth path, evolving more towards a technology solutions provider, not -- sort of from a traditional exchange -- now I shouldn't say from, but adding that technology solutions component to the overall business, albeit pretty well diversified across Canada overall. But maybe just talk about that evolution and where you see that going from here.

Yes. The work that we started in 2015 and 2016 was not only just important about what we were going to focus on going forward but also what we were not going to do. So really making strong choices on identifying the parts of the franchise that had growth potential both in Canada and globally and focusing our energy there and moving out of things that weren't scalable. So we did quite a bit of restructuring. We sold off businesses in the network or risk tools. We restructured the organization to get it more integrated the way we went to market, and we cut out spans and layers of the company. Through all this, we actually took about 20% of the cost structure out of TMX at the time. But more importantly, we are focusing the investment on, as I said, the places that had the most growth potential and continue to be those highest-growth levers, which are our Capital Formation franchise, which while is still the traditional realm of a stock exchange, it's something that we do uniquely in the world in terms of being able to raise money for small-cap companies, so we are continuing to work to expand that; our Derivatives franchise, which we knew had global growth potential that hadn't been realized yet; and, as you said, technology, data analytics. And data analytics, both about building out the products we have ourselves but expanding into more aggregated data businesses like we did through our acquisition of Trayport at the end of 2017. And all these pieces are around building a business, like you said, that had a better composition, more balanced business model. We now have over 50% of our revenue comes from recurring run rate sources. So it's more subscription revenues as opposed to being just all transactional. And about 1/3 of our revenue today comes from outside of Canada's borders, and this is an area we want to continue to grow. So we've always talked about Canada is our address, but our -- the globe is our addressable market. So we want to keep pushing out that revenue from outside Canada and make this business more global and more resilient.

Yes. And definitely on a good path for that. So maybe just talk about that as you see it, say, over -- like in the next 5 years. I know that's a ways in the future but just in terms of that longer-term growth path -- the growth plan for growing the recurring revenue business, especially on the technology side. And also, if we can think about Capital Formation like with the AST acquisition. Do you -- it's always hard to predict volumes in the markets obviously. You've talked about retail being a big foundation for market volume growth, and we'll touch on that later as well. But as you think about the game plan for recurring revenue businesses, do you see that growing faster than the trading side of the business over the next 5 years either organically or through acquisition?

Yes. I mean organically, I think both those levers have a lot of growth potential. So we're often asked in terms of what we're trying to grow to in terms of that mix, and I resist answering that, that way because I've got a lot of growth potential in our transaction business, particularly around Derivatives today. And a couple of indicators I'll give for you. I mean our Derivatives franchise has about 40% of our flow comes from outside of our Canadian borders today, and most of our global competitors would see more like 60%. So that's a substantial potential growth opportunity if we have the right products and solutions like our movement into Asian time zone that we're doing later this year. So we are trying to build both those franchises at the same time in terms of the recurring, the subscription revenues. I think where the premium comes in is when you do talk about inorganic and where we want to invest for the future, certainly there is going to be more premium for us, more strategic focus on those businesses that are scalable, run rate, recurring revenue businesses, SaaS models like Trayport. AST, as you mentioned, is a largely recurring revenue business as well. So that is a premium in terms of trying -- what we're building inorganically in the future.

Yes. No, that makes sense. And maybe just to drill down a little bit more into those recurring revenue businesses, maybe let's just start off with Global Solutions, Insights and Analytics, or GSIA, as you call it. That's more than 1/3 of your revenue right now, and I think roughly half of that or nearly half of that is from Trayport, I believe. Just putting Trayport aside for a minute, so we'll touch on that in a couple of minutes, but can you quickly walk us through the main products within the GSIA ex Trayport businesses? And what do you see as some of the growth engines for those?

Yes. So, I mean, the 3 big areas in there, it's your traditional equities, fixed income, derivatives, market data business. So market data feeds and subscriptions associated with that. Highly recurring and an area where we actually are getting some lift in it, even though this is a more mature area, because of the growing demand for those products both internationally and with the domestic growth around volumes. The 2 other areas that are meaningful to -- there is the index businesses. So in this case, this is our partnership with S&P, where we see revenue from our share of the assets under management, of the products that are branded TSX/S&P Index products. And the third piece in that bucket is our colocation business. So we have a colocation facility for clients to locate near our servers which we're actually in the process of expanding today. So we were actually fully sold out as of last year. So we've actually raised the price of that product at the end of last year, and we're adding about 20%, 25% more capacity to it this year, which is -- while it's a nice lift for that business, it's a small business itself. But more importantly, it facilitates more clients that want to access the market. So as we continue to build out with more global clients, important to give them that service so they can connect to us and do the business they want to do with TMX.

Yes. And that's more -- that expansion on that is more global outside of Canada?

I mean it's a domestic product, but the demand is coming globally.

Yes. Yes. Yes.

Yes.

Okay. Great. Maybe just then to shift over to Trayport. This is clearly one of the most important acquisitions ever done by TMX at least in the last several years. I think at the end of 2017 is when you closed that. The platform -- you said before the platform is clearly quite unique in that it competes against in-house solutions. So can you talk about the addressable market for more firms to use Trayport instead of building or having their infrastructure in-house? And how do you see that demand developing for Trayport's algorithms via Joule and I think the recent acquisition you did as well in terms of algorithm trading?

Yes. And with that, it probably helps to separate out how we build out the usage of the platform itself and then the services that we add on to create extra value and extra revenue streams from that. So -- and like you said, the core Joule platform, the trading and data aggregation solution from Trayport, we've been seeing growth in that since we bought it. And the -- and what drives the growth in it is as we add new trading points, geographies, products that people can trade on the solution, that brings more traders into it. And one of the best indicators of growth over time is those trader subscriptions as an indication of long-term revenue. And I believe in the first quarter this year, we were up another 5 points in subscribers and about 9% in revenue, local currency, and 11% in Canadian dollars. So that is an important driver. And the way you continue to grow that is by continuing to add new products to the mix that brings new traders into it. So even in Europe, where we've got -- actually got a large share of the market already, about 80% of the products that trade through Trayport are -- the liquidity is on the screen. So we have about 80% of the market share, what they trade. But we continue to find opportunities to put new things on. As new renewable power comes online, that is a new product you can put on, and that brings new traders in potentially as well. And even at this point, we've had in the first quarter, I think, 6 new clients signed up in Europe who will often take the product with a handful of traders on a renewable license. And when they come to renew, they will expand the usage in their shops. So that's a core piece. You want to keep building it out. And one of the long-term focuses we've got for growth and building out is looking at geographies outside of Europe. North America is the biggest potential market for that. The trading community in North America is -- rivals in size to that of Europe. And very much as you said, it's really serviced by desktop, in-house, multiple screen. There isn't a Trayport solution that's taking all those pools of liquidity and putting it on a single screen. So we began the process of building out the U.S. We did that with our client, Nodal, and we're providing Trayport as the front-end screen to their traders. And over time, we'll add more liquidity pools to bring more traders into the system.

And can that...

Go ahead.

Yes. I was going to say, can that coexist with the current infrastructure in the U.S. between CME and ICE, both having leadership positions in the futures contracts on those energy? Maybe talk about, with your Nodal acquisition or partnership, how you can expand in that North American market and whether the traditional contracts will be part of that or rather new contracts and new products would be the -- more core to that expansion in North America.

Yes. It's such an excellent question because, as you said, ICE and CME have got some very deep liquid products that you can go direct to. . Where Trayport provides real advantage is in markets that are disaggregated, that have multiple pools of liquidity. So it's not Henry Hub gas or West Texas oil, it's regional gas and power, which is what Nodal is very strong in, but also a lot of the refined products. When you have refined oil, you've got all these other products that are normally traded by broker. And so what Trayport -- the value proposition is, when you've got multiple pools of brokered or exchange-traded liquidity, Trayport puts it all onto a single screen and aggregates it and gives you that full view of the marketplace. So those are the products that we're targeting in North America where Trayport will solve a problem for the industry. Our -- another announcement that we had earlier this year was a partnership with one of the larger OTC brokers, and they are now committed to putting refined oil products on the screen in North America and Europe. And again, that's another piece of building new liquidity on. They will use the Trayport screen to get to their traders. And the refined oil products are one that, again, they're brokered by multiple brokers. The more we can bring more brokers onto the screen, the more a trader will be able to see the whole market in one shot. So that's what we're trying to do. But it's something that you build piece by piece and build that liquidity over time.

Yes. I mean so it sounds like that's potentially the fastest-growing secular, at least near term or intermediate term, portion of your recurring revenue stream, that is the continued penetration of Trayport. Would you agree with that statement? Or is it tough to say?

I would. And the other piece that goes with it is -- the other piece you alluded to is we're also enhancing the products that we sell through the Trayport system at the same time. So our VisoTech algorithmic trading solution that we acquired over a year ago, we've integrated that. That's a premium subscription on top of Trayport. We've got a data and analytics product that we built internally. That's a premium subscription on top. And as you indicated, our Tradesignal acquisition, which, while small in terms of dollars for TMX, is really important from a client standpoint because it gives advanced charting and analytic tools that we can deploy across the platform as well. So something that we know we can integrate and we can scale up across the organization. And a product like Tradesignal is actually potentially also used in other parts of TMX because their capabilities are not just unique to energy. We can use it for equities, fixed income and derivative products as well.

Okay. That will be exciting to watch for sure. Maybe shifting to Capital Formation.