"Nasdaq continued to take steps toward strengthening its foundation as we go about the creation of a for-profit, shareholder owned company," noted Wick Simmons, Chairman and Chief Executive Officer. "We reduced the costs of running the business; we took two adjustments related to our investment in Japan and a technology platform originally designed for that market and, finished the testing of SuperMontageSM."
Net Income
Nasdaq continued to manage and streamline its cost structure, focusing on fundamental business operations in anticipation of the launch of the SuperMontage trading platform:
- Net income for the quarter was $8.8 million as compared to $19.6 million in the second quarter of 2001, a decrease of 55.1%.
- Basic and diluted earnings per share were $0.08 versus $0.17 and $0.16, respectively, in the comparable period in 2001.
- Included in net income were after-tax adjustments totaling $10.3 million. These adjustments are the result of the impairment of Nasdaq's investment in Nasdaq Japan and the write-down of a developmental trading platform technology. Net income excluding the adjustments was $19.1 million, essentially flat with the prior year.
- Excluding the adjustments, basic and diluted earnings per share were $0.21. This is an increase from 23.5% in basic earnings per share and 31.3% in diluted earnings per share in the second quarter of 2001. This increase is the result of Nasdaq's repurchase of approximately 33.8 million shares of common stock from the NASD in the first quarter of 2002.
- Total expenses for the quarter, including the adjustments were $190.3 million, about equal to those in the second quarter of 2001. Excluding adjustments, total expenses were $170.2 million, an improvement of 9.8% over the same period last year.
- Net income margin for the quarter was 4.3%. Net income margin, excluding the adjustments, was 9.3% versus 8.9% for the same period last year.
Revenue
Nasdaq's revenue declined in the second quarter reflecting difficult equity market conditions, continued moderation in Nasdaq trading volume and selected responses by Nasdaq to increased competition:
- Revenue for the quarter was $205.3 million versus $221.3 million in the second quarter of 2001, a decrease of 7.2%.
EBITDA
Nasdaq continued to focus on operating performance:
- EBITDA was $39.8 million versus $54.6 million in the same period last year, a decrease of 27.1%.
- EBITDA, excluding the above-mentioned adjustments was $59.9 million, an increase of 9.7% despite the decline in revenue.
"We continue to implement our strategic initiatives. Upon successful completion of user testing, SuperMontage began trading 32 test securities on July 29th to allow our market participants to begin to operate in the SuperMontage trading environment. We continue to roll out PrimexTM and preparing to launch the ViewSuite line of data products associated with SuperMontage. Meanwhile, Nasdaq's Market Intelligence Desk has been expanded to include over 1,400 of our listed companies," continued Mr. Simmons. "The full implementation of SuperMontage in the United States and Nasdaq's expansion in Europe, based on SuperMontage's functionality, will provide all Nasdaq investors opportunities for greater transparency, liquidity and, speed; ultimately leading to better executions." "Due to prolonged difficulties in the Japanese economic environment, on the other hand, we concluded that our investment in Nasdaq Japan will not return value in the foreseeable future. We believe that the impairment we are taking captures Nasdaq's full exposure to the investment," said Mr. Simmons.
Business Line Results
Nasdaq Transaction Services
Transaction services revenue was $103.1 million in the second quarter versus $110.4 million for the same period a year ago, a decrease of 6.6%.
- Access services revenue declined 17.0% primarily due to cost saving initiatives among Nasdaq's market participants and the consolidation of major trading firms, which resulted in fewer subscriber logons to Nasdaq systems.
- Execution services revenue increased 2.6% due to the introduction of a new, incremental fees associated with quote updates in Nasdaq quotation systems.
- Trade reporting revenue declined 4.1% due to the decline in overall share and trade volume and the reporting of trades to regional exchanges.
Underlying this performance during the quarter was a 6.2% decline in average daily share volume in Nasdaq traded securities to an average of 1.8 billion shares per day. Similarly, average daily trade volume decreased 4.6% to 2.5 million trades. Economic and financial market-related instability, and changes in share and trade volume reporting accounted for the declines during the quarter.
Initiatives
- SuperMontage
After successfully completing its user acceptance testing, Nasdaq launched the production version of SuperMontage on July 29, 2002 with 32 test securities, enabling trading firms to gain experience with the system in a production environment. Live trading in SuperMontage is contingent upon the resolution of certain outstanding items pending with the U.S. Securities and Exchange Commission (SEC), including continued evaluation of the NASD's Alternative Display Facility (ADF). The SEC recently approved the ADF pilot and is currently expected to meet in August to determine if the SEC's pre-conditions to operate SuperMontage have been met. Upon resolution of this review, Nasdaq intends to move rapidly to commence live trading in the groundbreaking new SuperMontage environment.
"SuperMontage redefines what is possible for a stock market by bringing new opportunities to investors, market participants and companies," said Richard Ketchum, president and deputy chairman. "We continue to work closely with our customers and vendors to ensure a smooth transition to the new platform once the SEC takes the necessary regulatory action for Nasdaq to launch SuperMontage."
- Primex Auction System
Primex, an electronic auction platform, is designed to provide Nasdaq market participants with a centralized, market-driven price improvement and liquidity facility. Primex is now available to trade Nasdaq and New York Stock Exchange-listed securities. This improved capacity more than doubles the available number of stocks eligible to trade in the system. Primex now trades over 3,000 securities including all components of the Standard & Poors 500 Index, the Dow Jones Industrial Average, the top 1,000 Nasdaq securities based on market capitalization, and three popular exchange traded funds. Nasdaq expects to begin earning revenue from Primex in the third quarter of 2002.
Nasdaq Transaction Services derives revenue primarily from transactions associated with SuperSoes, SelectNet, SOES, trade reporting fees associated with ACT, and system access fees.
Market Information Services
Market Information services revenue declined 10.3% to $49.8 million during the quarter from $55.5 million in the same period last year. The decline in revenue is due to competition for trade reporting with regional exchanges, revenue sharing with member firms and reduced Level I usage resulting from weaker market conditions. Partially offsetting the decline was an increase in revenue generated through Nasdaq's InterMarket trading system.
Developments
Effective June 1, 2002, the SEC abrogated certain market participant tape sharing pilot programs. This action was in response to concerns about the effect of market data rebates on the accuracy of market data and the regulatory functions of self-regulatory organizations. The SEC's action, which Nasdaq supports, allows Nasdaq and competing exchanges to retain tape revenue. Nasdaq continues to share market data revenue with the UTP exchanges based on their respective share of volume and trades of Nasdaq listed securities. In addition, Nasdaq InterMarket continues to share tape revenue with Nasdaq market participants who report trades in NYSE and AMEX listed securities through Nasdaq.
Market Information services derives revenue primarily from Level 1 and Nasdaq Quotation Dissemination Service (NQDS) data, and receipt of CQA/CTA tape revenue for trades processed through the Nasdaq InterMarket.
Corporate Client Group Services
Corporate Client Group services revenue increased 13.4% to $44.0 million for the second quarter, from $38.8 million in the second quarter of 2001. The increase was primarily the result of increases in annual listing fees for Nasdaq-listed companies, implemented at the beginning of 2002.
- During the second quarter, there were 22 initial public offerings versus 15 in the same period last year. Despite a 46.7% increase in initial public offerings during the quarter, year-to-date initial public offerings are relatively flat and historically below average.
- The number of secondary offerings, year-to-date, increased 26.3% to 101, up from 80 as of June 2001. During the quarter, secondary offerings were relatively flat at 47 versus 46 a year ago.
Initiatives
The Corporate Client Group launched the Market Intelligence Desk in June. This new service redefines Nasdaq's Corporate Client Group's offering by providing listed companies with a centralized point-of-contact for detailed information regarding their stocks' trading activity, news coverage, analyst opinion revisions and chat room activity. Initially, 100 Nasdaq-listed companies were being tracked. Currently over 1,400 companies have access to the Market Intelligence Desk. Nasdaq plans to roll the service out to all Nasdaq-listed companies.
Corporate Client Group services revenue is primarily earned through initial listing fees, fees associated with the listing of additional shares, and annual renewal fees for companies listed on Nasdaq. Initial listing fees and fees associated with the listing of additional shares are amortized over six-year and four-year periods, respectively, in accordance with the adoption of SEC Staff Accounting Bulletin 101, applied retroactively as of January 1, 2000.
Other
Other revenue was $8.4 million for the second quarter versus $16.6 million a year ago, a decline of 49.4%. Partially accounting for the decline in the quarter was a decrease in trademark license revenue associated with the exchange-traded fund, QQQ and, in June 2001, a gain on the settlement of certain variable Nasdaq Japan stock based awards. The decline in trademark revenue is effectively offset by the higher tape revenue received by InterMarket as a result of its increased market share.
Nasdaq generates revenue related to the licensing of the Nasdaq-100 IndexÒ for financial products such as the exchange-traded fund, QQQ. The Index, launched in 1985, includes the 100 largest non-financial stocks traded on The Nasdaq Stock Market. The Nasdaq-100 Index has become the basis for a wide variety of financial instruments, including futures contracts, mutual funds, index options, structured products and an exchange traded fund (QQQ). Nasdaq also generated revenue, in the second quarter, associated with Nasdaq Tools, Nasdaq.com, as well as advertising revenue from the MarketSite tower.
Expenses
Total expenses were $190.3 million in the second quarter versus $188.6 million a year ago, relatively flat. Included in total expenses is a pre-tax adjustment of $20.1 million related to:
- A $15.2 million pre-tax impairment of Nasdaq's investment in Nasdaq Japan. This impairment represents a complete write-down of the investment, outstanding and unfunded loans, other receivables, and foreign exchange translation losses; partially offset by a revaluation of certain variable Nasdaq Japan stock based awards. Nasdaq is recognizing this impairment as a result of the depressed level of market activity in Japan, combined with the suspension of the hybrid trading system based on the inability to gain exchange approval of market rules and industry participation. These conditions have lead management to conclude that Nasdaq Japan will not be profitable in the foreseeable future.
- A $4.9 million pre-tax write-down of the development costs related to an developmental trading platform originally designed for Nasdaq Japan and later, the Bulletin Board Exchange in the United States.
Excluding these adjustments, total expenses were $170.2 million, an improvement of 9.8%.
Direct Expenses
Direct expenses increased 5.7% to $172.6 million in the second quarter of 2002 from $163.3 million in the second quarter of 2001. Excluding the pre-tax adjustments, direct expenses were $152.5 million, an improvement of 6.6%.
Nasdaq continued to benefit from initiatives taken to reduce fundamental infrastructure costs, namely:
- An improvement of 23.9%, or $11.1 million in computer operations and data communications expenses resulting from the renegotiation of telecommunication contracts, as well as the decrease in the number of computer trading and presentation devices.
- A reduction of 4.1%, or $1.9 million in compensation expense as the result of rationalization and other cost containment initiatives taken in 2001.
- Other expense improved 9.7% to $10.2 million from $11.3 million in the second quarter. Included in Other expense is the $4.9 million pre-tax write-down of a developmental trading platform technology. Prior year results included a write-off related to the impairment of certain assets related to the MarketSite tower.
Offsetting these efficiencies were:
- Depreciation and amortization which increased $2.9 million due to capacity and technology infrastructure improvements required to support market activity and new initiatives.
- Professional and contract services, which increased $2.3 million due to costs associated with separation from the NASD.
- Provision for bad debt increased $1.5 million or 51.7% to $4.4 million primarily due to an increase in inactive issuers with outstanding account balances. This is a result of the temporary suspension of listing requirements following September 11, 2001. These listing requirements were reactivated on January 1, 2002.
- Occupancy expense which increased $2.8 million due to direct billing of real estate costs associated with the separation from the NASD, previously recorded in support costs.
Support Costs from Related Parties,
Support Costs from related parties decreased 30.0% to $17.7 million from $25.3 million. Two factors contribute to Nasdaq's support costs. The first is related to the regulatory role that NASD Regulation plays in The Nasdaq Stock Market, Inc. The second is related to the support functions that the NASD has traditionally provided Nasdaq. The improvement during the quarter is due to Nasdaq's decreased reliance on the NASD for administrative support functions as Nasdaq continues to develop its independent infrastructure.
Net Income and Earnings Per Share
Net income for the quarter was $8.8 million versus $19.6 million a year ago, a decrease of 55.1%. Net income, excluding the impact of the adjustments was $19.1 million, relatively flat.
Basic and diluted earnings per share was $0.08 versus $0.17 and $0.16, respectively. Excluding adjustments, basic and diluted earnings per share increased 23.5% and 31.3%, respectively to $0.21. The increase is due to Nasdaq's purchase of approximately 33.8 million shares of common stock from the NASD in the first quarter of 2002.
"We have made strong improvements in reducing the effective cost to run our business," noted David Warren, chief financial officer. "Our operating income margin, excluding the outlined adjustments, improved to 17.1% from 14.8% a year ago. We continue to further examine our cost structure to find additional opportunities to efficiently optimize Nasdaq's earnings potential, future growth and shareholder value," continued Mr. Warren.
Conclusion
"Nasdaq continues to take the steps necessary to become a competitive, for-profit company. We believe the launch of SuperMontage and its complementary data products, the Market Intelligence Desk for our listed companies, Nasdaq's initiatives in Europe designed to capture order flow, and our continued focus on expenses are smart investments in the future of our business," concluded Mr. Simmons.
"Also significant for our future is the restoration of investor confidence in the capital markets. At the center of this loss of confidence is the trust investors place in the quality and integrity of financial information, the basis on which good investment decisions are made. Financial and operational information must be truthful and transparent, providing investors with access to all relevant information needed. To aid in this process, Nasdaq has adopted more rigorous corporate governance standards to help ensure that publicly traded companies are run with integrity and honesty. Nasdaq is working with the SEC, its peers and corporate America to implement these, and other initiatives promoting complete transparency and accountability in financial reporting," Simmons stated. "While we continue to work diligently to restore investor confidence, Nasdaq aims to maintain and promote companies' ability to take risks, innovate and redefine the world in which we live."
Year-to-Date Financial Summary
Revenue for the six-month period ending June 30, 2002 was $416.6 million, down 6.2% from $444.1 million for the comparable period in 2001. Total expenses declined 1.7% to $362.9 million from $369.2 million. Net income declined to $30.1 million, or 34.3%, from $45.8 million for the first six-month period versus prior year. Basic earnings per share was $0.28 and diluted earnings per share was $0.27. This compares to both basic and diluted earnings per share for the same comparable period a year ago of $0.37.
. Nasdaq is the world's largest stock market. With approximately 3,800 companies, Nasdaq lists more companies and on average trades more shares per day than any other U.S. market. Over the past five years, Nasdaq has outpaced all other U.S. markets in listing IPOs. It is also home to category-defining companies that are leaders across all areas of business including technology, retail, communications, financial services, media and biotechnology industries. Nasdaq is a key driver of global capital formation.
For more information about Nasdaq, visit the Nasdaq Web site at www.nasdaq.com or the Nasdaq NewsroomSM at www.nasdaqnews.com.
