QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended December 31, 2011
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period From to
Commission File Number 000-23554
____________________
INTL FCStone Inc.
(Exact name of registrant as specified in its charter)
____________________
Delaware
59-2921318
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
708 Third Avenue, Suite 1500
New York, NY 10017
(Address of principal executive offices) (Zip Code)
(212) 485-3500
(Registrant’s telephone number, including area code)
____________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 305 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or smaller reporting company.
Large accelerated filer
o
Accelerated filer
x
Non-accelerated filer
o
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
As of February 3, 2012, there were 18,980,977 shares of the registrant’s common stock outstanding.
Cash, securities and other assets segregated under federal and other regulations (including $105.0 and $22.7 at fair value at December 31, 2011 and September 30, 2011, respectively)
474.1
119.4
Deposits and receivables from:
Exchange-clearing organizations (including $1,013.5 and $1,408.2 at fair value at December 31, 2011 and September 30, 2011, respectively)
1,015.5
1,489.2
Broker-dealers, clearing organizations and counterparties (including $0.4 and $16.2 at fair value at December 31, 2011 and September 30, 2011, respectively)
133.2
146.5
Receivables from customers, net
90.7
115.9
Notes receivable, net
20.4
26.3
Income taxes receivable
9.1
8.8
Financial instruments owned, at fair value
145.7
223.1
Physical commodities inventory
113.6
160.6
Deferred income taxes
21.4
20.7
Property and equipment, net
17.3
15.0
Goodwill and intangible assets, net
56.7
56.1
Other assets
28.8
33.5
Total assets
$
2,414.8
$
2,635.7
LIABILITIES AND EQUITY
Liabilities:
Accounts payable and other accrued liabilities (including $22.9 and $22.3 at fair value at December 31, 2011 and September 30, 2011, respectively)
$
114.5
$
122.0
Payables to:
Customers
1,640.5
1,739.8
Broker-dealers, clearing organizations and counterparties
15.2
3.4
Lenders under loans and overdrafts
115.9
77.4
Income taxes payable
5.0
4.6
Financial instruments sold, not yet purchased, at fair value
226.6
390.9
Total liabilities
2,117.7
2,338.1
Commitments and contingencies (Note 11)
Equity:
INTL FCStone Inc. stockholders’ equity:
Preferred stock, $.01 par value. Authorized 1,000,000 shares; no shares issued or outstanding
—
—
Common stock, $.01 par value. Authorized 30,000,000 shares; 18,919,639 issued and 18,908,082 outstanding at December 31, 2011 and 18,653,964 issued and 18,642,407 outstanding at September 30, 2011
0.2
0.2
Common stock in treasury, at cost - 11,557 shares at December 31, 2011 and September 30, 2011
(0.1
)
(0.1
)
Additional paid-in capital
206.5
205.2
Retained earnings
96.6
97.0
Accumulated other comprehensive loss
(6.1
)
(6.0
)
Total INTL FCStone Inc. stockholders’ equity
297.1
296.3
Noncontrolling interests
—
1.3
Total equity
297.1
297.6
Total liabilities and equity
$
2,414.8
$
2,635.7
See accompanying notes to condensed consolidated financial statements.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Note 1 – Basis of Presentation and Consolidation and Recently Issued Accounting Standards
INTL FCStone Inc., a Delaware corporation, and its consolidated subsidiaries (collectively “INTL” or “the Company”), form a financial services group focused on domestic and select international markets. The Company’s services include comprehensive risk management advisory services for commercial customers; execution of listed futures and options on futures contracts on all major commodity exchanges; structured over-the-counter (“OTC”) products in a wide range of commodities; physical trading and hedging of precious and base metals and select other commodities; trading of more than 130 foreign currencies; market-making in international equities; debt origination and asset management.
The Company provides these services to a diverse group of more than 20,000 customers located throughout the world, including producers, processors and end-users of nearly all widely-traded physical commodities to manage their risks and enhance margins; to commercial counterparties who are end-users of the firm’s products and services; to governmental and non-governmental organizations; and to commercial banks, brokers, institutional investors and major investment banks.
Basis of Presentation and Consolidation
The accompanying condensed consolidated balance sheet as of September 30, 2011, which has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). Certain information and note disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP") have been condensed or omitted pursuant to those rules and regulations. The Company believes that the disclosures made are adequate to make the information presented not misleading. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the condensed consolidated financial statements for the interim periods presented have been reflected as required by Rule 10-01 of Regulation S-X.
Operating results for interim periods are not necessarily indicative of the results that may be expected for the full year. It is suggested that these interim condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and related notes contained in the Company’s Form 10-K for the fiscal year ended September 30, 2011 filed with the SEC.
These condensed consolidated financial statements include the accounts of INTL FCStone Inc. and its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. In accordance with the Consolidation Topic of the Accounting Standards Codification ("ASC"), the Company consolidates any variable interest entities for which it is the primary beneficiary, as defined.
The Company applies the equity method of accounting when the Company does not have a controlling interest in an entity, but exerts significant influence over the entity.
The Company had a majority interest in and was the general partner of the Blackthorn Multi-Advisor Fund, LP (the “Blackthorn Fund”), whose assets, liabilities, income and expenses were included within the Company's consolidated financial statements as of and for the year ended September 30, 2011. During the three months ended December 31, 2011, the Company requested and received approval for the full redemption of its remaining investment in the Blackthorn Fund effective December 31, 2011. As a result of the final redemption, the Company no longer retains any ownership interests in the Blackthorn Fund, has transferred its rights as general partner and deconsolidated its interest in the Blackthorn Fund as of December 31, 2011. The aggregate of the redemption amount and remaining noncontrolling interest less the carrying amount of the net assets of the Blackthorn Fund resulted in a nominal gain and was recorded as a component of trading gains on the consolidated condensed income statement for the three months ended December 31, 2011, as a result of the deconsolidation.
Our fiscal year end is September 30, and our fiscal quarters end on December 31, March 31, June 30 and September 30. Unless otherwise stated, all dates refer to our fiscal years and fiscal interim periods.
The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. The most significant of these estimates and assumptions relate to fair value measurements for financial instruments and investments, revenue recognition, the provision for potential losses from bad debts, valuation of inventories, valuation of goodwill and intangible assets, incomes taxes and contingencies. Although these and other estimates and assumptions are based on the best available information, actual results could be materially different from these estimates.
During the quarter ended March 31, 2011, the Company reclassified give-up fee revenue within the condensed consolidated income statement from 'consulting and management fees' to 'commission and clearing fees'. Reclassification in the amount of $0.9 million has been made to the three month period ended December 30, 2010, to conform to the current period presentation. This reclassification had no effect on previously reported total or net revenues.
To conform to the current presentation of the information concerning the Company's operating segments, the Company has reclassified $1.1 million, for the three months ended December 31, 2010, of costs not allocated to operating segments as non-variable direct segment costs, impacting reported net segment income, see Note 16.
Recent Accounting Pronouncements
In January 2010, new guidance was issued to require new disclosures and clarify existing disclosure requirements about fair value measurements as set forth in the Fair Value Measurements and Disclosures Topic in the ASC. The guidance requires that a reporting entity should disclose separately the amounts of transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers; and in the reconciliation for fair value measurements using significant unobservable inputs, a reporting entity should present separately information about purchases, sales, issuances, and settlements. In addition, the guidance clarifies that for purposes of reporting fair value measurement for each class of assets and liabilities, a reporting entity needs to use judgment in determining the appropriate classes of assets and liabilities; and a reporting entity should provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. This guidance was effective for the Company as of the first interim period beginning after December 15, 2009, except for the detailed level 3 roll forward disclosure, which is effective for fiscal years beginning after December 15, 2010. The Company adopted the requirements of the disclosures during the quarter ended March 31, 2010, except for the detailed level 3 roll forward disclosures. The Company adopted the detailed level 3 roll forward disclosures beginning with the first quarter ended December 31, 2011. The adoption of this guidance did not have a material impact on the Company's disclosures in its condensed consolidated financial statements.
In May 2011, the Financial Accounting Standards Board ("FASB") issued an update to the fair value measurement guidance to achieve common fair value measurement and disclosure requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS"). The amendments in the update change the wording used to describe many of the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements. The amendment is not intended to result in a change in the application of the requirements in the Fair Value Measurements Topic in the ASC. This guidance is effective for interim and annual periods beginning after December 15, 2011. Early application is permitted. The Company adopted this guidance as of the first quarter of fiscal year 2012. The adoption of this guidance did not have a significant impact on the Company's condensed consolidated financial statements.
In June 2011, the FASB issued new guidance on the presentation of comprehensive income. This guidance eliminates the current option to report OCI and its components in the statement of changes in equity. Under this guidance, an entity can elect to present items of net income and OCI in one continuous statement or in two separate, but consecutive, statements. In addition, the guidance requires entities to show the effects of items reclassified from OCI to net income on the face of the financial statements. This guidance is effective for fiscal years beginning after December 15, 2011 and interim and annual periods thereafter. Early adoption is permitted, but full retrospective application is required. This guidance is effective for the Company's fiscal year beginning October 1, 2012 and all interim periods within that fiscal year. In December 2011, the FASB issued guidance that deferred the portion of the original guidance that required a company to separately present within net income reclassification adjustments of items out of accumulated other comprehensive income. The deferral is intended to be temporary until the FASB has time to reconsider these changes. The other provisions of the guidance will become effective as originally planned by the FASB. The Company is expecting to adopt this guidance in the first quarter of fiscal year 2013. As the Company reports comprehensive income within its condensed consolidated statements of stockholders' equity, the adoption of this guidance will result in a change in the presentation of comprehensive income in the Company's condensed consolidated financial statements.
In September 2011, the FASB issued amended guidance on goodwill impairment testing. Under the revised guidance, entities testing goodwill for impairment have the option of performing a qualitative assessment, whether it is more likely than not (a likelihood of more than 50%) that the fair value of a reporting unit is less than its carrying amount, before calculating the fair value of the reporting unit. Because the qualitative assessment is optional, entities may bypass it for any reporting unit in any period and begin their impairment analysis with the quantitative calculation in step 1. The guidance does not change how goodwill is calculated or assigned to reporting units, nor does it revise the requirement to test goodwill annually for impairment. In addition, the guidance does not amend the requirement to test goodwill for impairment between annual tests if events or circumstances warrant, however, it does revise the examples of events and circumstances that an entity should consider. The amended guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted. The Company adopted this guidance at the beginning of fiscal
year 2012.The adoption of this guidance will not have a material impact on the Company's condensed consolidated financial statements.
On December 16, 2011, the FASB issued new guidance on the disclosures about offsetting assets and liabilities. While the FASB retained the existing offsetting models under U.S. GAAP, the new standard requires disclosures to allow investors to better compare and understand significant quantitative differences in financial statements prepared under U.S. GAAP. The new standard is effective for annual periods beginning after January 1, 2013, and interim periods within those annual periods. Retrospective application is required. This guidance is effective for the Company's fiscal year beginning October 1, 2013. The Company is expecting to adopt this guidance starting with the first quarter of fiscal year 2014. The adoption of this guidance is expected to change some of the Company's disclosures within the notes to the condensed consolidated financial statements.
Note 2 – Earnings per Share
The Company presents basic and diluted earnings per share ("EPS") using the two-class method which requires all outstanding unvested share-based payment awards that contain rights to non-forfeitable dividends and therefore participate in undistributed earnings with common stockholders be included in computing earnings per share. Under the two-class method, net earnings are reduced by the amount of dividends declared in the period for each class of common stock and participating security. The remaining undistributed earnings are then allocated to common stock and participating securities, based on their respective rights to receive dividends. Restricted stock awards granted to certain employees and directors and shares held in trust for the Provident Group acquisition contain non-forfeitable rights to dividends at the same rate as common stock, and are considered participating securities.
Basic EPS has been computed by dividing net income by the weighted-average number of common shares outstanding. The following is a reconciliation of the numerator and denominator of the diluted net income per share computations for the periods presented below.
Three Months Ended December 31,
(in millions, except share amounts)
2011
2010
Numerator:
(Loss) income from continuing operations attributable to INTL FCStone Inc. stockholders
$
(0.4
)
$
3.8
Less: Allocation to participating securities
—
(0.1
)
(Loss) income from continuing operations allocated to common stockholders
$
(0.4
)
$
3.7
Loss (income) from discontinued operations
$
—
$
0.2
Less: Allocation to participating securities
—
—
Loss (income) from discontinued operations allocated to common stockholders
$
—
$
0.2
Diluted net (loss) income
$
(0.4
)
$
4.0
Less: Allocation to participating securities
—
(0.1
)
Diluted net (loss) income allocated to common stockholders
$
(0.4
)
$
3.9
Denominator:
Weighted average number of:
Common shares outstanding
18,163,489
17,423,098
Dilutive potential common shares outstanding:
Share-based awards
—
1,001,027
Diluted weighted-average shares
18,163,489
18,424,125
The dilutive effect of share-based awards is reflected in diluted net income per share by application of the treasury stock method, which includes consideration of unamortized share-based compensation expense required under the Compensation – Stock Compensation Topic of the ASC. The dilutive effect of convertible debt is reflected in diluted net income per share by application of the if-converted method.
Options to purchase 2,209,102 and 412,503 shares of common stock for the three months ended December 31, 2011 and 2010, respectively, were excluded from the calculation of diluted earnings per share because they would have been anti-dilutive.
Note 3 – Receivables from Customers and Notes Receivable, net
Receivables from customers, net and notes receivable, net include a provision for bad debts, which reflects our best estimate of probable losses inherent in the receivables from customers and notes receivable. The Company provides for an allowance for doubtful accounts based on a specific-identification basis. The Company continually reviews its provision for bad debts. The allowance for doubtful accounts related to receivables from customers was $3.4 million and $11.8 million as of December 31, 2011 and September 30, 2011, respectively. The allowance for doubtful accounts related to notes receivable was $0.1 million as of December 31, 2011 and September 30, 2011, respectively.
During the three months ended December 31, 2011, the Company recorded bad debt expense, net of recoveries, of $0.1 million. During the three months ended December 31, 2010, the Company recorded bad debt expense, net of recoveries, of $2.4 million including provision increases and direct write-offs of $4.2 million, offset by recoveries of $1.8 million. The provision increases during the quarter ended December 31, 2010 primarily related to a customer to whom the Company had consigned gold, in the C&RM segment, and a clearing customer deficit account in the CES segment. The recorded recoveries during the quarter ended December 31, 2010 included $1.3 million following a settlement relating to a disputed trade that was "given-up" to FCStone, LLC during the quarter ended June 30, 2010 by another futures commission merchant for a customer that held an account with FCStone, LLC.
Activity in the allowance for doubtful accounts and notes was as follows:
(in millions)
Balance, September 30, 2011
$
11.9
Provision for bad debts
0.1
Deductions:
Charge-offs
(8.5
)
Recoveries
—
Balance, December 31, 2011
$
3.5
Additionally, in the normal course of operations the Company accepts notes receivable under sale/repurchase agreements with customers whereby the customers sell certain commodity inventory and agree to repurchase the commodity inventory at a future date at either a fixed or floating rate. These transactions are short-term in nature, and are treated as secured borrowings rather than commodity inventory, purchases and sales in the Company’s condensed consolidated financial statements. As of December 31, 2011 and September 30, 2011, the Company had outstanding notes receivable of $18.5 million and $24.3 million, respectively, related to this program.
Note 4 – Assets and Liabilities, at Fair Value
The Company’s financial and nonfinancial assets and liabilities reported at fair value are included within the following captions on the condensed consolidated balance sheets:
•
Cash and cash equivalents
•
Cash, securities and other assets segregated under federal and other regulations
•
Deposits and receivables from exchange-clearing organizations
•
Deposits and receivables from broker-dealers, clearing organizations and counterparties
•
Financial instruments owned
•
Accounts payable and other accrued liabilities
•
Payables to customers
•
Financial instruments sold, not yet purchased
The table below sets forth an analysis of the carrying value of financial instruments owned and financial instruments sold, not yet purchased as of December 31, 2011 and September 30, 2011. This is followed by tables that provide the information required by the Fair Value Measurements and Disclosures Topic of the ASC for all financial assets and liabilities that are carried at fair value.
Common stock and American Depositary Receipts ("ADRs")
$
24.2
$
11.3
$
46.9
$
23.4
Exchangeable foreign ordinary equities and ADRs
6.9
13.3
9.8
23.8
Corporate and municipal bonds
5.1
—
8.7
—
U.S. government obligations
6.3
—
0.8
—
Foreign government obligations
6.0
—
6.7
—
Derivatives
64.5
62.4
101.9
122.9
Commodities leases and unpriced positions
9.7
139.6
26.1
220.8
Commodities warehouse receipts
18.7
—
16.2
—
Exchange firm common stock
3.6
—
3.7
—
Mutual funds and other
0.7
—
1.0
—
Investment in managed funds
—
—
1.3
—
$
145.7
$
226.6
$
223.1
$
390.9
Fair Value Hierarchy
The majority of financial assets and liabilities on the condensed consolidated balance sheets are reported at fair value. Cash is reported at the balance held at financial institutions. Cash equivalents include the value of money market funds and certificates of deposit. Cash, securities and other assets segregated under federal and other regulations include the value of cash collateral as well as the value of other pledged investments, primarily U.S. Treasury bills and obligations issued by government sponsored entities and commodities warehouse receipts. Deposits with and receivables from exchange-clearing organizations and broker-dealers, clearing organizations and counterparties and payables to customers and broker-dealers, clearing organizations and counterparties include the value of cash collateral as well as the value of money market funds and other pledged investments, primarily U.S. Treasury bills and obligations issued by government sponsored entities and mortgage-backed securities. These balances also include the fair value of exchange-traded futures and options on futures and exchange-cleared swaps and options. Financial instruments owned and sold, not yet purchased include the value of U.S. and foreign government obligations, corporate debt securities, derivative financial instruments, commodities, mutual funds and investments in managed funds. Notes payable and subordinated debt carry variable rates of interest and thus approximate fair value.
The fair value estimates presented in the financial statements are based on pertinent information available to management as of December 31, 2011 and September 30, 2011. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date and current estimates of fair value may differ significantly from the amounts presented in the financial statements.
Cash equivalents, securities, commodities warehouse receipts, derivative financial instruments and contingent liabilities are carried at fair value, on a recurring basis, and are classified and disclosed into three levels within the fair value hierarchy. The Company did not have any fair value adjustments for assets or liabilities measured at fair value on a non-recurring basis during the three months ended December 31, 2011, except as disclosed in Note 14, if applicable. The three levels of the fair value hierarchy under the Fair Value Measurements and Disclosures Topic of the ASC are:
Level 1 - Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
Level 2 - Quoted prices for identical or similar assets or liabilities in markets that are less active, that is, markets in which there are few transactions for the asset or liability that are observable for substantially the full term; and
Level 3 - Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).
The following tables set forth the Company’s financial and nonfinancial assets and liabilities accounted for at fair value, on a recurring basis, as of December 31, 2011 and September 30, 2011 by level within the fair value hierarchy.
Securities and other assets segregated under federal and other regulations
19.8
85.2
—
—
105.0
Money market funds
494.0
—
—
—
494.0
U.S. government obligations
—
675.3
—
—
675.3
Mortgage-backed securities
—
8.0
—
—
8.0
Derivatives
3,677.7
—
—
(3,841.5
)
(163.8
)
Deposits and receivables from exchange-clearing organizations
4,171.7
683.3
—
(3,841.5
)
1,013.5
U.S. government obligations
—
0.1
—
—
0.1
Derivatives
0.5
—
—
(0.2
)
0.3
Deposits and receivables from broker-dealers, clearing organizations and counterparties
0.5
0.1
—
(0.2
)
0.4
Common stock and ADRs
28.9
1.1
1.1
—
31.1
Corporate and municipal bonds
0.3
1.3
3.5
—
5.1
U.S. government obligations
—
6.3
—
—
6.3
Foreign government obligations
6.0
—
—
—
6.0
Derivatives
118.5
389.9
—
(443.9
)
64.5
Commodities leases and unpriced positions
—
11.0
—
(1.3
)
9.7
Commodities warehouse receipts
18.7
—
—
—
18.7
Exchange firm common stock
2.9
0.7
—
—
3.6
Mutual funds and other
0.3
—
0.4
—
0.7
Financial instruments owned
175.6
410.3
5.0
(445.2
)
145.7
Total assets at fair value
$
4,370.3
$
1,178.9
$
5.0
$
(4,286.9
)
$
1,267.3
Liabilities:
Accounts payable and other accrued liabilities - contingent liabilities
$
—
$
—
$
22.9
$
—
$
22.9
Payables to customers - derivatives
3,841.5
—
—
(3,841.5
)
—
Common stock and ADRs
24.2
0.4
—
—
24.6
Derivatives
132.1
356.9
—
(426.6
)
62.4
Commodities leases and unpriced positions
—
289.2
—
(149.6
)
139.6
Financial instruments sold, not yet purchased
156.3
646.5
—
(576.2
)
226.6
Total liabilities at fair value
$
3,997.8
$
646.5
$
22.9
$
(4,417.7
)
$
249.5
(1)
Represents cash collateral and the impact of netting across the levels of the fair value hierarchy. Netting among positions classified within the same level are included in that level.
Securities and other assets segregated under federal and other regulations
19.0
3.7
—
—
22.7
Money market funds
1,193.5
—
—
—
1,193.5
U.S. government obligations
—
470.5
—
—
470.5
Mortgage-backed securities
—
8.5
—
—
8.5
Derivatives
7,227.4
—
—
(7,491.7
)
(264.3
)
Deposits and receivables from exchange-clearing organizations
8,420.9
479.0
—
(7,491.7
)
1,408.2
U.S. government obligations
—
0.1
—
—
0.1
Derivatives
47.3
1,073.5
—
(1,104.7
)
16.1
Deposits and receivables from broker-dealers, clearing organizations and counterparties
47.3
1,073.6
—
(1,104.7
)
16.2
Common stock and ADRs
53.4
2.2
1.1
—
56.7
Corporate and municipal bonds
—
5.1
3.6
—
8.7
U.S. government obligations
—
0.8
—
—
0.8
Foreign government obligations
5.8
0.9
—
—
6.7
Derivatives
210.5
557.6
—
(666.2
)
101.9
Commodities leases and unpriced positions
—
66.3
—
(40.2
)
26.1
Commodities warehouse receipts
16.2
—
—
—
16.2
Exchange firm common stock
3.0
0.7
—
—
3.7
Mutual funds and other
0.6
—
0.4
—
1.0
Investment in managed funds
—
1.3
—
—
1.3
Financial instruments owned
289.5
634.9
5.1
(706.4
)
223.1
Total assets at fair value
$
8,789.4
$
2,191.2
$
5.1
$
(9,302.8
)
$
1,682.9
Liabilities:
Accounts payable and other accrued liabilities - contingent liabilities
$
—
$
—
$
22.3
$
—
$
22.3
Payables to customers - derivatives
6,234.7
—
—
(6,234.7
)
—
Common stock and ADRs
44.9
2.3
—
—
47.2
Derivatives
219.9
1,679.1
—
(1,776.1
)
122.9
Commodities leases and unpriced positions
—
431.9
—
(211.1
)
220.8
Financial instruments sold, not yet purchased
264.8
2,113.3
—
(1,987.2
)
390.9
Total liabilities at fair value
$
6,499.5
$
2,113.3
$
22.3
$
(8,221.9
)
$
413.2
(1)
Represents cash collateral and the impact of netting across the levels of the fair value hierarchy. Netting among positions classified within the same level are included in that level.
Realized and unrealized gains and losses are included within ‘trading gains’ in the condensed consolidated income statements.
Information on Level 3 Financial Assets and Liabilities
The Company’s financial assets at fair value classified within level 3 of the fair value hierarchy as of December 31, 2011 and September 30, 2011 are summarized below:
Level 3 assets for which the Company bears economic exposure
$
5.0
$
5.1
Total assets
$
2,414.8
$
2,635.7
Total financial assets at fair value
$
1,267.3
$
1,682.9
Total level 3 assets as a percentage of total assets
0.2
%
0.2
%
Level 3 assets for which the Company bears economic exposure as a percentage of total assets
0.2
%
0.2
%
Total level 3 assets as a percentage of total financial assets at fair value
0.4
%
0.3
%
The following tables set forth a summary of changes in the fair value of the Company’s level 3 financial assets and liabilities during the three months ended December 31, 2011 and 2010, including a summary of unrealized gains (losses) during the three months on the Company’s level 3 financial assets and liabilities still held as of December 31, 2011.
Level 3 Financial Assets and Financial Liabilities For the Three Months Ended December 31, 2011
(in millions)
Balances at beginning of period
Realized gains (losses) during period
Unrealized gains (losses) during period
Purchases, issuances, settlements
Transfers in or (out) of Level 3
Balances at end of period
Assets:
Common stock and ADRs
$
1.1
$
—
$
—
$
—
$
—
$
1.1
Corporate and municipal bonds
3.6
—
(0.1
)
—
—
3.5
Mutual funds and other
0.4
—
—
—
—
0.4
Investment in managed funds
—
—
—
—
—
—
$
5.1
$
—
$
(0.1
)
$
—
$
—
$
5.0
Liabilities:
Contingent liabilities
$
22.3
$
—
$
0.9
$
(0.3
)
$
—
$
22.9
Level 3 Financial Assets and Financial Liabilities For the Three Months Ended December 31, 2010
(in millions)
Balances at beginning of period
Realized gains (losses) during period
Unrealized gains (losses) during period
Purchases, issuances, settlements
Transfers in or (out) of Level 3
Balances at end of period
Assets:
Common stock and ADRs
$
1.2
$
—
$
—
$
—
$
—
$
1.2
Corporate and municipal bonds
8.0
—
0.1
—
—
8.1
Mutual funds and other
0.4
—
—
—
—
0.4
Investment in managed funds
0.6
—
—
—
—
0.6
$
10.2
$
—
$
0.1
$
—
$
—
$
10.3
Liabilities:
Contingent liabilities
$
32.3
$
—
$
1.4
$
(3.7
)
$
—
$
30.0
The Company is required to make additional future cash payments based on certain financial performance measures of its acquired businesses. The Company is required to remeasure the fair value of the cash earnout arrangements on a recurring basis in accordance with the guidance in the Business Combinations Topic of the ASC. The Company has classified its net liabilities for the contingent earnout arrangements within level 3 of the fair value hierarchy because the fair value is determined using significant unobservable inputs, which include projected cash flows. The estimated fair value of the contingent purchase consideration is based upon management-developed forecasts, a level 3 input in the fair value hierarchy. These cash flows are discounted employing present value techniques in arriving at the acquisition-date fair value. The discount rate was developed using market participant company data, a level 2 input in the fair value hierarchy, and there have been no significant changes in the discount rate environment. From the dates of acquisition to December 31, 2011, certain acquisitions have had changes in the estimates of undiscounted cash flows, based on actual performances fluctuating from estimates. During the three months ended December 31, 2011, the fair value of the contingent consideration changed $0.9 million, with the corresponding amount classified as 'other' within the condensed consolidated income statements.
The Company reports transfers in and out of levels 1, 2 and 3, as applicable, using the fair value of the securities as of the beginning of the reporting period in which the transfer occurred.
The Company did not have any transfers between level 1 and level 2 fair value measurements for the three months ended December 31, 2011.
The Company has recorded unrealized gains of $0.1 million, net of income tax expense of $0.1 million related to U.S. government obligations and corporate bonds classified as available-for-sale securities in OCI as of December 31, 2011. The following tables summarize the amortized cost basis, the aggregate fair value and gross unrealized holding gains and losses of the Company’s investment securities classified as available-for-sale as of December 31, 2011 and September 30, 2011:
December 31, 2011
Amounts included in financial instruments owned:
Amortized
Cost
Unrealized Holding (1)
Estimated
Fair Value
(in millions)
Gains
(Losses)
U.S. government obligations
$
6.0
$
—
$
—
$
6.0
$
6.0
$
—
$
—
$
6.0
(1)
Unrealized gain/loss on financial instruments owned as of December 31, 2011 is less than $0.1 million.
Amounts included in deposits with and receivables from exchange-clearing organizations:
Amortized
Cost
Unrealized Holding
Estimated
Fair Value
(in millions)
Gains
(Losses)
U.S. government obligations
$
637.3
$
—
$
—
$
637.3
Mortgage-backed securities
7.9
0.1
—
8.0
$
645.2
$
0.1
$
—
$
645.3
September 30, 2011
Amounts included in financial instruments owned:
Amortized
Cost
Unrealized Holding (1)
Estimated
Fair Value
(in millions)
Gains
(Losses)
U.S. government obligations
$
0.5
$
—
$
—
$
0.5
Corporate bonds
5.0
—
—
5.0
$
5.5
$
—
$
—
$
5.5
(1)
Unrealized gain/loss on financial instruments owned as of September 30, 2011 is less than $0.1 million.
Amounts included in deposits with and receivables from exchange-clearing organizations:
Amortized
Cost
Unrealized Holding
Estimated
Fair Value
(in millions)
Gains
(Losses)
U.S. government obligations
$
440.6
$
0.1
$
—
$
440.7
Mortgage-backed securities
8.3
0.2
—
8.5
$
448.9
$
0.3
$
—
$
449.2
As of December 31, 2011 and September 30, 2011, investments in debt securities classified as available-for-sale ("AFS") mature as follows:
There were no sales of AFS securities during the three months ended December 31, 2011 and 2010, and as a result, no realized gains or losses were recorded for the three months ended December 31, 2011 and 2010.
For the purposes of the maturity schedule, mortgage-backed securities, which are not due at a single maturity date, have been allocated over maturity groupings based on the expected maturity of the underlying collateral. Mortgage-backed securities may mature earlier than their stated contractual maturities because of accelerated principal repayments of the underlying loans.
The Company has also classified equity investments in exchange firms' common stock not pledged for clearing purposes as available-for-sale. The investments are recorded at fair value, with unrealized gains and losses recorded, net of taxes, as a component of OCI until realized. As of December 31, 2011, the cost and fair value of the equity investments in exchange firms was $4.4 million and $3.7 million, respectively. The Company recorded unrealized losses of $0.5 million, net of income tax benefit of $0.3 million in OCI related to equity investments in exchange firms as of December 31, 2011. The Company monitors the fair value of exchange common stock on a periodic basis, and does not consider any current unrealized losses to be anything other than a temporary impairment.
Note 5 – Financial Instruments with Off-Balance Sheet Risk and Concentrations of Credit Risk
The Company is party to certain financial instruments with off-balance sheet risk in the normal course of its business. The Company has sold financial instruments that it does not currently own and will therefore be obliged to purchase such financial instruments at a future date. The Company has recorded these obligations in the condensed consolidated financial statements as of December 31, 2011 at the fair values of the related financial instruments. The Company will incur losses if the fair value of the underlying financial instruments increases subsequent to December 31, 2011. The total of $226.6 million as of December 31, 2011 includes $62.4 million for derivative contracts, which represent a liability to the Company based on their fair values as of December 31, 2011.
Derivatives
The Company utilizes derivative products in its trading capacity as a dealer in order to satisfy client needs and mitigate risk. The Company manages risks from both derivatives and non-derivative cash instruments on a consolidated basis. The risks of derivatives should not be viewed in isolation, but in aggregate with the Company’s other trading activities. The majority of the Company’s derivative positions are included in the consolidating balance sheets within ‘financial instruments owned, at fair value’, ‘deposits and receivables from exchange-clearing organizations’ and ‘financial instruments sold, not yet purchased, at fair value’.
The Company continues to employ an interest rate risk management strategy, implemented in April 2010, that uses derivative financial instruments in the form of interest rate swaps to manage a portion of the aggregate interest rate position. The Company’s objective is to invest the majority of customer segregated deposits in high quality, short-term investments and swap the resulting variable interest earnings into the medium-term interest stream, by using a strip of interest rate swaps that mature every quarter, in order to achieve the two year moving average of the two year swap rate. The risk mitigation of these interest rate swaps is not within the documented hedging designation requirements of the Derivatives and Hedging Topic of the ASC, and as a result they are recorded at fair value, with changes in the marked-to-market valuation of the financial instruments recorded within 'trading gains' in the condensed consolidated
