OTC Markets Group Inc

OTC:OTCM

Earnings Call Transcript 2023-Q1

[Operator]

Good day and thank you for standing by. Welcome to the OTC Markets Group First Quarter 2023 Earnings Conference Call and Webcast. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded.

I would now like to turn the conference over to your speaker today, Dan Zinn. Please go ahead.

[Dan Zinn, General Counsel and Chief of Staff]

Thank you, operator. Good morning, and welcome to the OTC Markets Group first quarter 2023 earnings conference call. With me today are Cromwell Coulson, our President and Chief Executive Officer; and Antonia Georgieva, our Chief Financial Officer.

Today's call will be accompanied by a slide presentation. Our earnings press release and the presentation are each available on our website. Certain statements during this call and in our presentation may relate to future events or expectations and as such may constitute forward-looking statements. Actual results may differ materially from these forward-looking statements.

Information concerning risks and uncertainties that may impact our actual results is contained in the Risk Factors section of our 2022 annual report, which is also available on our website. For more information, please refer to the Safe Harbor statement on slide three of the earnings presentation.

With that, I'd like to turn the call over to Cromwell Coulson.

[Cromwell Coulson, President and CEO]

Thank you, Dan. Good morning everyone. Thank you for joining us today. I will discuss our financial results at a high level and review our progress on our 2023 strategic initiatives. I will also highlight our areas of focus for the first quarter and the remainder of this year.

Our financial statement saw a fair amount of flux this quarter, largely from the moving parts of our EDGAR Online purchase in November of last year. While the EOL asset purchase agreement did not have a high purchase price, incorporating that business into our company includes both transitional expenses and ongoing operating costs that show up in our income statements.

Our business continued its trend of topline growth during the first quarter with gross revenues and net revenues each up 8% versus last year. Overall expenses have increased this quarter at a higher pace than our revenue growth, which resulted in decreases in net income, earnings per share, and operating margin during the first quarter.

Expenses were driven by a number of factors. These include increased headcount and technology operating costs as well as various one-time acquisition expenses and costs related to moving the EDGAR technology to our cloud environment.

With respect to revenue, our Market Data Licensing business expanded strongly, OTC Link revenue saw modest growth, which was offset by a decrease in Corporate Services revenue.

Our Corporate Services revenues were impacted in part by a reduction in companies using our Disclosure & News Service or DNS to maintain compliance with their ongoing disclosure obligation.

DNS churn is expected between year-end reporting cycles and we have seen an uptick in DNS applications as companies that report their financials on a calendar year basis use the service to publish their annual reports and remain compliant with Rule 2-11.

The Market Data Licensing in business saw a 26% jump in revenue, largely related to our Blue Sky Data Corp and EDGAR Online acquisitions. Certain price increases and organic growth of our existing market data products also played a part in driving revenue this quarter.

OTC Link revenue increased slightly during the quarter with decreased trading volumes, certain price increases, and a greater number of broker-dealer subscribers meeting volume-based pricing thresholds, all playing a role in the results.

As a result of shifting trends across our business lines, Corporate Services now represents approximately 42% of our overall revenue. Market Data Licensing accounts for nearly 39%, and OTC Link accounts for 19%. Antonia will cover our financial results in more detail in a few moments.

During our last earnings call, I introduced our five strategic initiatives for 2023. First, coming together as one team on one platform to build the value of one share. Our technology infrastructure and market data teams successfully completed the move of EDGAR Online's applications from a legacy physical data center to a cloud environment.

We did this while delivering service uptime and retaining key enterprise clients. That collaborative effort not only move key applications to the cloud where the EOL data and technology can be mixed into our products and platform, it also served to help the EOL team to mesh into our own.

Second, commercializing our role as a regulated market operator and delivering visible client value. The EDGAR Online services are a vital component of our 2-11 compliance process and disclosure services. With the EOL subject matter experts and technology applications now in our environment and with our ownership of the trove of structured SEC filing data, we have more data to monetize. Going forward, we will optimize this infrastructure to support our clients, grow our subscription revenues, and strengthen our internal compliance processes.

Third, prioritizing client-facing application development and improving our data. We released a new history server to OTC dealer/subscribers and we'll be creating new products mixing the EOL and Blue Sky data with our own data sets.

Fourth, improving the OTC Link functionality and reducing operational exposure and business risk. Last Friday, we received FINRA approval to permit digital asset securities to be traded by broker-dealers on our OTC Link ATS. While not an immediate revenue generator, we see a long-term opportunity as more digital assets move into entities regulated by the SEC.

The current unregulated monopoly silo model will change to have segmentation between brokers, dealers, custodians, exchanges, and ATSs. We will work to provide value to broker, dealers seeking to legally trade digital asset securities and to issuers wishing to demonstrate their compliance and provide disclosure into the market.

We continue to make reliability and uptime of our core trading platform, a top priority across the company. This initiative also underscores that commitment and extends it to provide an enhanced level of service across our three ATSs. It improves our ability to effectively operate our mission-critical trading systems under SEC rule SCI.

Finally, because we operate as owners and capitalists, creating strong net revenue growth, and delivering to sustainable profitability that increases long-term per share earnings.

Our results in the first quarter show good topline growth. However, we know that the value of each share only increases when revenue growth, expense management, and prudent investment all align and endure.

Our investments in EDGAR Online, Blue Sky Data Corp., and our existing products and services provide fuel in the form of data. Directed towards the right client problem sets, our expanded data sets will drive increased revenue.

As we align the expenses involved in integrating our new business during this year, we approach our strategic plans as commercial operators and stewards of shareholder value, always with a focus on building sustainable net revenue growth, operating profits, and long-term earnings per share. I look forward to reviewing these initiatives in our strategic direction throughout the course of the year and beyond.

In closing, I'm pleased to announce that on May 5th, our Board of Directors declared a quarterly dividend of $0.18 per share, payable in June. This dividend reflects our ongoing commitment to providing superior shareholder returns.

With that, I will turn the call over to Antonia.

[Antonia Georgieva, CFO]

Thank you, Cromwell, and thank you all for joining our call today. I would like to start by thanking our entire OTC Markets team for advancing our strategic priorities, making great progress towards the integration of the EDGAR Online acquisition and providing reliable service and support to our subscribers.

During the first quarter of 2023, various macroeconomic factors impacted our business and affected certain of our business drivers including the number of companies subscribing to our Corporate Services offering.

In addition, our results reflect a full quarter impact of the EDGAR Online acquisition. As I discuss our results for the quarter ended March 31st, 2023, any reference made to prior period comparatives will refer to the first quarter of 2022.

Turning to page seven for review of our first quarter revenues. We generated $28 million in gross revenues, up 8% as compared to the prior year period. Revenues less transaction-based expenses were also up 8%.

OTC Link's gross revenues were essentially flat to the prior year period. A 12% increase in transaction-based revenues from OTC Link ECN and OTC Link NQB as a result of higher fees offsetting lower trading volumes helped to balance out lower revenues from messages on OTC Link ATS and from QAP One Statement fees which decreased 20% and 37% respectively.

OTC Link also benefited from growth in revenue from our subscription-based license to quote and message, primarily driven by fee increases and from our fixed connection services due to higher number of subscribers.

Transaction-based expenses increased 18% due to a larger portion of the subscriber base, reaching volume base pricing thresholds on OTC Link ECN and OTC Link NQB.

OTC Link finished the first quarter with 102 subscribers on OTC Link ECN and 88 subscribers on OTC Link ATS as compared to 98 and 90, respectively at the end of the prior year period.

Trading volumes are highly unpredictable and could vary significantly period-to-period.

Revenues from our Market Data Licensing business were up 26% quarter-over-quarter, primarily due to the contribution of Blue Sky Data Corp. and EDGAR Online, which we acquired in 2022.

Included in our Market Data Licensing results is certain non-recurring revenue related to assumed deferred revenue that comprised a part of the acquired Edgar Online working capital.

Excluding the impact of the acquisitions, Market Data Licensing revenues were up 4%. Pro user accounts were up 1% with the corresponding revenues also up 1%. Revenues from internal system licenses, delayed data licenses, and other data services increased 12% due to growth in subscribers and price increases for certain licenses.

Revenues from Market Data connectivity fees increased 57% as a result of pricing adjustments. Offsetting these increases was a 31% decline in revenues from non-Pro users, in line with a 30% reduction in period end non-professional user count.

Historically and in the normal course of business, we have seen significant changes in the number of non-professional users as market volumes and retail participation in our markets fluctuate and we may experience a further decline in the future.

Corporate Services revenues decreased 2% in the first quarter. We had a higher average number of companies on the OTCQX and OTCQB market, which combined with incremental price increases effective for 2023, drove an increase in OTCQX revenues of 4% and an increase in OTCQB revenues of 1%. Revenue from DNS decreased 12% due to a lower average number of companies subscribing to the product.

In the first quarter, we added 15 OTCQX companies compared to 33 new sales in the prior quarter and finished the period with 593 OTCQX companies, up 4%. For the annual OTCQX subscription period beginning January 1st, 2023, we achieved a 95% retention rate compared to 96% in the prior year.

On OTCQB, we added 49 new companies in the first quarter compared to 112 in the prior year period and had 1,218 OTCQB companies at the end of the quarter down from 1,224 at the end of March 2022.

We had 1,519 companies subscribing to DNS and other products at the end of the first quarter, down 5% from 1,584 at the end of the prior year period.

During the prior year quarter, we saw a significantly higher number of DNS subscribers in connection with the amendment to Rule 15c2-11 becoming effective in September of 2021.

The number of DNS users gradually declined during the second half of 2022 and the first quarter of 2023 with month-to-month variability driven by non-renewals and corporate events.

Turning now to expenses on page 11. On a quarter-over-quarter basis, operating expenses increased 23% including the impact of approximately $900,000 in one-time non-recurring expenses related to the integration of EDGAR Online.

The primary drivers of expense growth were a 17% increase in compensation and benefits, a 35% increase in IT infrastructure and information services costs, and a 34% increase in professional and consulting fees.

The increase in compensation and benefits reflects higher headcount, including 14 new employees from EDGAR Online, annual base salary increases, and an increase in cash and stock-based incentive compensation, partially offset by lower commissions.

Compensation and benefits comprised 64% of our total operating expenses during the first quarter compared to 68% in the prior year period. IT infrastructure and information services costs increased primarily as a result of the acquisition of EDGAR Online as we added the technology, data services, and data center cost supporting the EDGAR Online platform.

Professional and consulting fees increased due to prior spending on external consulting services and also included certain non-recurring expenses related to EDGAR Online.

Further contributing to the growth in operating expenses was a 167% increase in general, administrative, and other costs, primarily due to higher bad debt. Majority of the bad debt provision in the first quarter related to accounts receivable acquired as part of EDGAR Online's working capital and is not expected to recur.

The non-recurring Market Data Licensing revenue stemming from assumed deferred revenue and the increased bad debt provision related to acquired accounts receivable, essentially offset each other and did not materially impact our operating income for the quarter ended March 31, 2023.

Turning to page 12. In the first quarter, income from operations and net income declined 20% and 17% respectively. Operating profit margin contracted to 25.4% compared to 34.4% in the prior year quarter. In addition to certain GAAP and other measures, management utilizes adjusted EBITDA and non-cash measure, which excludes non-cash stock-based compensation expenses.

And adjusted operating margin, which excludes non-recurring one-time items. Our adjusted EBITDA was $9.2 million in the first quarter of 2023 and our adjusted diluted earnings per share were $0.75, down 11% compared to the prior year period. Adjusted operating margin was approximately 29%.

Cash used in operating activities amounted $0.4 million compared to cash provided by operating activities of $0.5 million in the prior year quarter. Free cash flows for the quarter were negative $1.4 million compared to positive $0.3 million in the prior year quarter.

Turning to page 13, during the first quarter of 2023, we returned a total of $5.5 million to investors in the form of dividends and through our stock buyback program, an increase of 13% over the prior year.

We remain focused on growing our business, operating as prudent stewards of shareholder capital, and delivering long-term value to our stockholders.

With that, I would like to thank everyone for your time and pass it back to the operator to open the line for questions.

[Operator]

Certainly. [Operator Instructions]

And our first question will come from Steve Silver of Argus Research. Your line is open.

[Steve Silver, Argus Research]

Thank you, operator, and good morning, everybody, and thanks for taking the questions. In the press release, the release mentions that the company held fewer virtual investor conferences during Q1. I was just curious if there was something seasonal in that result or if there was something more market demand driven in that?

I mean, I know that business is typically not a large revenue generator for the company. But just curious if there's any color on whether the trends in such investor conferences serves as any sort of proxy for the underlying financial health of QX and QB companies given that the macro environment has remained challenging for so many of them?

[Cromwell Coulson, President and CEO]

Thank you. Part of the online conferences was driven by COVID and people are wanting more face-to-face activities as well. So, I think the mixture is going to move virtual and face-to-face. And then we will find what the level is for that side.

We were recently doing more conferences which have both an in-office presence and a broadcast presence in our office. I think that will be part of the mix going forward as well.

[Antonia Georgieva, CFO]

But Steve, there is also a timing aspect to the number of virtual investor conferences per quarter, and we expect the number to normalize throughout the year.

[Steve Silver, Argus Research]

Great. That's helpful. Thank you.

[Cromwell Coulson, President and CEO]

We don't think it's going to be like a Peloton business. But there's -- people are actually getting out and traveling again, which is overall a pretty good thing.

[Steve Silver, Argus Research]

Yes, that makes sense. It's also the remarks you mentioned the drop off in the number of subscribers to DNS only for them to start coming back early in the next year. Has that historically been a trend or is there any reason why companies would let that subscription lapse only to then bring it back a few months later during the annual reporting season?

[Cromwell Coulson, President and CEO]

Yes, it has, because they view it more as a compliance than a disclosure. We're making some changes in how we bill for that product going forward to make it an annual service. And so we will see what happens with that.

Now, on the other side is, we focus our sales activity on the higher quality companies for OTCQX and OTCQB. And the DNS service is really a demand-driven service. We're trying to provide a tool for companies to put a certain amount of disclosure under Rule 15c2-11 into the market. And 15c2-11 is a pretty low bar. So, it's -- it is not as consistent as when you sign up a large global company listed on a leading stock exchange in the world for OTCQX.

[Steve Silver, Argus Research]

Okay, great. Thank you so much and congratulations on the EDGAR Online integration progress.

[Cromwell Coulson, President and CEO]

Thank you, Steve. We still have a lot of work to do there. And -- but we're excited about owning the dataset because the way data works is if you have to buy data from other vendors, their tentacles get much deeper into you. And if you own the data, your opportunity set increases.

[Steve Silver, Argus Research]

Great. Thanks.

[Operator]

Now, our next question is coming from Christopher Nicholson of ACF Equity Research. Your line is open.

[Christopher Nicholson, ACF Equity Research]

Thank you, operator. Good morning Cromwell and Antonia. Thank you for the presentation so far. So, a couple of questions. Going back to slide 10, would be Corporate Services subscribers. I just wanted to see if we can get a bit more color on how much of these numbers are accounted for by migrations between the various products between QX, QB, and Pink?

And how much is new growth? So, for example, is the decline -- what proportion decline from Pink might be allocated to migration to QB? Just a little bit more color on how those numbers for the three products come together?

[Antonia Georgieva, CFO]

Thanks Chris for the question. We have not historical and do not provide that level of specificity around the numbers. But we certainly do continue to see upgrades from QB to QX and those upgrades are part of the new sales that I mentioned and we do see upgrades from DNS to QB.

We also, as I have explained before, see some companies who may not continuously meet the standards for maintaining QX or QB designation that might move to our DNS product during the period and certain companies may subsequently cure their deficiencies. So, there is quite a bit of upwards and downward movements within our tiers per quarter that would be reflected in the numbers.

Just clarify when we speak of new QX companies, those would include upgrades from QB. When we speak of new QB sales, those do not include downgrades from QX. They're entirely new sales.

[Christopher Nicholson, ACF Equity Research]

Okay. Thank you very much, Antonia, for that. And that's clear. I'm sorry, I didn't mean to put you particularly on the spot that as you know I'm fairly new to following the company. So, my second question, if I may, and I accept get the same response from you on this.

In terms of margin, the difference between online conferences and live face-to-face, although I wouldn't necessarily expect you to give me the margin, maybe you could tell us which one is a higher margin product?

[Cromwell Coulson, President and CEO]

Chris, we don't go that deep into the margin side. I mean, this is -- we look at the online conferences as part of the digital disclosure and storytelling and connection to your investor community. So, it's a tool and -- but we're not -- we've always looked at our business as a flywheel where lots of different services energize other services.

And how we -- we've always gone by the idea that people are using the platform, monetizing the platform is not a problem. So, Market Data, Trading Services, Corporate Services, each one adds to the other. And if a company is providing better transparency and distributors disclosure more effectively, that is going to improve the trading business because the market is going to be more efficient, that's going to improve the market data business. So, we don't get down too deep of which margin versus each one because a lot of our businesses are interconnected.

[Christopher Nicholson, ACF Equity Research]

Okay, Cromwell. So, if I understand correctly, do you see that product -- or that product group as driving bigger ticket items essentially?

[Cromwell Coulson, President and CEO]

Yes.

[Christopher Nicholson, ACF Equity Research]

That's great. Thank you very much indeed.

[Cromwell Coulson, President and CEO]

We don't want to lose money on it, but it's not where we're going to get rich. And the whole goal has been with this business is to build diverse revenue lines. So, we're not tied to one set and we have a different set of levers to both add value and move pricing over time.

[Christopher Nicholson, ACF Equity Research]

That's great. Thank you very much. Very clear and we're looking forward to progress with the EDGAR acquisition, which perhaps has to be one of the better ones that companies have made over the last 12 months?

[Cromwell Coulson, President and CEO]

Thank you, Christopher, for your confidence. We still have a lot of optimization and optionality to maximize on this one. But I agree with you, it's got to known downside, which is -- and it has a trove of data that is useful across all three of our business lines.

So, learning both of the revenues that have brought over and the client relationships, but also how we fit that into our platform and to our existing clients, were very early stages.

[Christopher Nicholson, ACF Equity Research]

Thank you very much.

[Operator]

And our next question will come from Brendan McCarthy of Sidoti. Your line is open.

[Brendan McCarthy, Sidoti]

Yes, good morning everybody and thank you for taking my question. My first question here is just regarding the EOL integration process. I'm wondering if you're able to quantify how far along the process your company is through maybe in terms of percentage?

[Cromwell Coulson, President and CEO]

So, I wouldn't do percentage, I'd say legs of the race. We had to close the deal, which went slower than we wanted to, which made the next -- the first part was a sprint, because there was a deadline to get their technology out of the data center into the cloud in a virtualized environment, and that was a rush.

And their engineers were learning along and we have -- so we had expenses from consultants and coaches on how we did it, and we got that out. And the most important part of that was that we didn't have the service fail to lose clients.

And we've been resigning clients because there had been a notification going out of that -- the services were being end of life. And so resigning and signing ongoing clients was a really important thing to do.

Now, there's a second pass of other work in the data center that really has the team, both our infrastructure team and the great engineers we got from EOL, working to get to catch up on some things.

[Brendan McCarthy, Sidoti]

Great. That’s helpful. Thank you.

[Cromwell Coulson, President and CEO]

That's going to take us through the summer. We're then going to have those conversations with clients about what do they want more of. We're also going to have some places where clients don't have a conversation with us and sneak away. And that's going to be really great, too, because we're going to find out which of the products don't have a competitive pricing or market.

So, we're going to learn a lot more over the year, and we're going to take -- and then the second half is figuring out what do we want to do to rest or mod [ph] this. And some of the pieces of technology work. They're like the axle for a car, you don't need to -- you just need to make sure it's not rust, it's well lubricated. Then there's some other pieces which have worn out, and that is like the tires. So, we may need to switch in some tires to make it run efficiently.

And then the real part is, because revenues are the oxygen, and data is the fuel, what do we do, where do we put in the fuel injection, the modern fuel injection system or the turbochargers.

And in some of those, we'll be doing it to create more business other places, we'll do it to be more efficient about carrying a bigger load and other places, because they stick modern fuel injection systems and turbochargers on total econoboxes to try and move people very efficiently. And we may do that and use some of the technology from the cloud.

But we're very early stages, because we need to get the demand right, and then we need to get our internal options right, and then we really need to get to know the technology and what it takes. But it's a great data set to own SEC filings, structured financial data, insider data, and investor data.

[Brendan McCarthy, Sidoti]

Great. That’s very helpful. That’s all for me. Thank you.

[Operator]

Thank you. And I'm showing no further questions. I would now like to turn the conference back to Cromwell Coulson for closing remarks.

[Cromwell Coulson, President and CEO]

Thank you, operator. I would like to make one final point, which is about digital asset securities. Right now, these securities are not legal for broker-dealers to trade within the SEC FINRA regulated structure for the most part.

That said, the tide is shifting. And we believe that we have an opportunity to move where it's going and provide value for broker-dealers and issuers and insiders on the disclosure side to allow for transparent regulated trading and also let issuers provide the ongoing disclosure and demonstrate regulatory compliance for this broad range of securities. But it isn't defined which will be securities, how the disclosure will work best. So, it's very early stages.

However, getting the ability to and start having the conversation with our clients, the broker-dealer community and also issuers and work through the problem sets with regulators are skill sets that we build up through the 2-11 process and through the technology we provide. So, it is going to be an interesting opportunity for us over the next decade, but it is not going to be any immediate revenue, but we are moving to where the puck is going.

I want to thank each of you for joining us today. I would encourage you to read our full first quarter report and the earnings press release. Links to both are available on the Investor Relations page of our website. On behalf of the entire team, we look forward to updating you on key initiatives that continue to shape the integrity and competitiveness of public markets.

[Operator]

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