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FXCM > SEC Filings for FXCM > Form 10-Q on 10-May-2013All Recent SEC Filings

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Form 10-Q for FXCM INC.


Quarterly Report

Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with the unaudited consolidated financial statements of FXCM Inc., and the related notes included elsewhere in this report and our Annual Report on Form 10-K for the fiscal year ended December 31, 2012, filed with the Securities and Exchange Commission on March 18, 2013 ("Annual Report"), including the audited consolidated financial statements and related notes and "Management's Discussion and Analysis of results of Financial Condition and Results of Operations contained therein." The historical consolidated financial data discussed below reflects the historical results and financial position of FXCM Inc. In addition, this discussion and analysis contains forward looking statements and involves numerous risks and uncertainties, including those described under "Cautionary Note Regarding Forward-Looking Statement" and "Risk Factors." Actual results may differ materially from those contained in any forward looking statements.

Unless the context suggests otherwise, references to "FXCM", the "Company", "we", "us", and "our" refer to FXCM Inc. and its consolidated subsidiaries.

Industry Environment

Economic Environment - While the trading environment improved in the first quarter of 2013 when compared to the fourth quarter of 2012, currency volatility is still below historical averages. The JPMorgan Global FX Volatility Index first quarter 2013 average of 8.75 was up 7% when compared to the daily JPMorgan Global FX Volatility Index fourth quarter 2012 average of 8.17. However, the daily JPMorgan Global FX Volatility Index first quarter 2013 average was down 6% when compared to the 2012 full year average.

Volatility in the currency markets significantly impacts customer trading volumes, which in turn impacts our financial performance. In general, in periods of elevated volatility customer trading volumes tend to increase, however, significant swings in market volatility can also result in increased customer trading losses, higher turnover and reduced trading volume. It is difficult to predict volatility and its effects in the foreign exchange ("FX") market.

Competitive Environment - The retail FX trading market is highly competitive. Our competitors in the retail market can be grouped into several broad categories based on size, business model, product offerings, target customers and geographic scope of operations. These include United States ("U.S.") based retail FX brokers, international multi-product trading firms, other online trading firms, and international banks and other financial institutions with significant FX operations. We expect competition to continue to remain strong for the foreseeable future.

Regulatory Environment - Our business and industry are highly regulated. Our operating subsidiaries are regulated in a number of jurisdictions, including the United States ("U.S."), the United Kingdom ("U.K.") (where regulatory passport rights have been exercised to operate in a number of European Economic Area jurisdictions), Hong Kong, Australia and Japan.

Business Strategy

Since our inception, we have pursued a strategy to grow the business to reap the benefits of scale and the protection of diversified sources of revenue.

Increase our Scale

Goal: Operating efficiency, sustainable results, resilience across good/bad markets

Organic growth supplemented by selective acquisitions

Take advantage of market turbulence to increase share

Expand distribution through white labels and similar relationships


Build a Diversified Revenue Base

Goal: Exploit global opportunities, protection against downturns in a geography or segment

Establish/expand presence in best markets globally

Offset declines in one jurisdiction with growth from others

Increase institutional presence to balance our strength in retail

Executive Summary

We are pleased with our first quarter 2013 results given the continued depressed levels of volatility. While JPMorgan Global FX Volatility Index picked up in Q1, growing 7% versus Q4, it was still below the 2012 average and well below the averages we have seen over the past five years. We continue to grow our revenues and profits in these depressed market conditions, because of expansion of our scale, geographic reach, and diverse sources of revenue.

Looking forward, we are optimistic that market conditions will continue to improve and our focus on diversification should translate into higher volumes and ultimately generate better returns. If conditions slow again or adverse regulatory changes are enacted, we believe we can hold our course better than our competitors and continue to gain market share. Regulatory changes have been a constant in our market for the past 4 years and we expect this will continue in 2013. While they can present challenges in different geographies or segments, we continue to believe they present us with more opportunities than obstacles. There are a number of regulations some already enacted, some proposed and some potential, which will impact other assets classes making spot FX more attractive, or impacting other FX brokers presenting opportunities. We believe regulatory changes, market conditions and the importance of scale will continue to fuel consolidation in 2013 across all major geographies. We would expect to continue to be active, but selective, in making acquisitions throughout the upcoming year.

Primary Sources of Revenues

Most of our revenues are derived from fees charged as a markup or commission when our retail or institutional customers execute trades on our platform with our FX market makers. This revenue is primarily a function of the number of active accounts, the volume those accounts trade and the fees we earn on that volume.

Retail Trading Revenue - Retail trading revenue is our largest source of revenue and is primarily driven by: (i) the number of active accounts and the mix of those accounts - high volume accounts are charged a lower markup; (ii) the volume these accounts trade, which is driven by the amount of funds customers have on deposit, also referred to as customer equity, and the overall volatility of the FX market; (iii) the size of the markup we receive, which is a function of the mix of currency pairs traded, the spread we add to the prices supplied by our FX market makers and the interest differential between major currencies and the markup we receive on interest paid and received on customer positions held overnight; and (iv) retail revenues earned from contract for differences ("CFD") trading, fees earned through white label relationships, payments we receive for order flow from FX market makers and income from spread betting. For the quarter ended March 31, 2013 and March 31, 2012, 27% and 26%, respectively, of our retail trading revenues were derived from the activities noted in item (iv).

Institutional Trading Revenue - We generate revenue by executing spot FX trades on behalf of institutional customers through our institutional trading segment, FXCM Pro, enabling them to obtain optimal prices offered by our FX market makers. The counterparties to these trades are external financial institutions that hold customer account balances and settle these transactions. We receive commissions for these services without incurring credit or market risk. We also earn revenues from market making and electronic trading in the institutional FX spot and futures markets through our subsidiary Lucid. The income we earn on market making and electronic trading in FX spot and futures markets represents the spread between the bid and ask price for positions purchased and sold and the change in value of positions purchased and sold.


Other - We are engaged in various ancillary FX related services and joint ventures, including use of our platform and trading facilities, providing technical expertise, and earning fees from data licensing. In addition, through our subsidiary FXCM Securities Limited we earn commission revenues through equity and related brokerage activities.

Primary Expenses

Referring Broker Fees - Referring broker fees consist primarily of compensation paid to our referring brokers and white labels. We generally provide white labels access to our platform, systems and back-office services necessary for them to offer FX trading services to their customers. We also establish relationships with referring brokers that identify and direct potential FX trading customers to our platform. Referring brokers and white labels generally incur advertising, marketing and other expenses associated with attracting the customers they direct to our platform. Accordingly, we do not incur any incremental sales or marketing expense in connection with trading revenue generated by customers provided through our referring brokers and/or white labels. We do, however, pay a portion of the FX trading revenue generated by the customers of our referring brokers and/or white labels and record as Referring broker fees.

Compensation and Benefits Compensation and benefits expense includes employee salaries, bonuses, stock compensation awards, benefits and employer taxes. Changes in this expense are driven by fluctuations in the number of employees, changes in the composition of our workforce, increases in wages as a result of inflation or labor market conditions, changes in rates for employer taxes and other cost increases affecting benefit plans. In addition, the expense associated with our bonus plans can also have a significant impact on this expense category and may vary from period to period.

At the time of our initial public offering ("IPO") and thereafter, we have periodically granted awards of stock options to purchase shares of our Class A common stock pursuant to the our Long-Term Incentive Plan ("LTIP") to certain employees and independent directors. We recorded stock compensation expense of $2.4 million for both quarters ended March 31, 2013 and 2012, respectively, related to these awards which is included in Compensation and benefits. The LTIP also provides for other stock based awards ("Other Equity Awards") which may be granted by our Executive Compensation Committee. We did not incur any expense for our Other Equity Awards for the quarters ended March 31, 2013 and 2012.

The Lucid acquisition resulted in $9.4 million of deferred compensation of which $0.8 million was recognized as expense for the quarter ended March 31, 2013. See "Results of Operations, Lucid Acquisition" for additional details.

Advertising and Marketing - Advertising and marketing expense consists primarily of electronic media, print and other advertising costs, as well as costs associated with our brand campaign and product promotion.

Communications and Technology - Communications and technology expense consists primarily of costs for network connections to our electronic trading platforms, telecommunications costs, and fees paid for access to external market data. This expense is affected primarily by the growth of electronic trading, our network/platform capacity requirements and by changes in the number of telecommunication hubs and connections which provide our customers with direct access to our electronic trading platforms.

Trading Costs, Prime Brokerage and Clearing Fees - Trading costs, prime brokerage and clearing fees primarily represent fees paid to third party clearing banks and prime brokers for clearing foreign exchange spot futures currency and contract transactions, transaction fees paid to exchanges, equity options brokerage activity fees, and fees paid to third party providers for use of their platform for our market making business. Clearing fees primarily fluctuate based on changes in volume, rate of clearing fees charged by clearing banks and rate of fees paid to exchanges.

General and Administrative - We incur general and administrative costs to support our operations, including:

Professional fees and outside services expenses - consisting primarily of legal, accounting and outsourcing fees;

Bank processing fees - consisting of service fees charged by banks primarily related to our customer deposits and withdrawals;


Regulatory fees - consisting primarily of fees from regulators overseeing our businesses which are largely tied to our overall trading revenues; and

Occupancy and building operations expense - consisting primarily of costs related to leased property including rent, maintenance, real estate taxes, utilities and other related costs.

Depreciation and Amortization - Depreciation and amortization expense results primarily from the depreciation of long-lived assets purchased and internally developed software that has been capitalized.

Amortization of purchased intangibles primarily includes amortization of intangible assets obtained through our acquisitions of ODL, FXCM Japan Securities Co., Ltd., Foreland and Lucid.

Income Taxes - FXCM Holdings, LLC ("Holdings") operates in the U.S. as a limited liability company that is treated as a partnership for U.S. federal and state income tax purposes. As result, Holdings' income from its U.S. operations is not subject to U.S. federal income tax because the income is attributable to its members. Accordingly, subsequent to the IPO, our U.S. tax provision is solely based on the portion of Holdings' income attributable to FXCM Inc. and excludes the income attributable to other members of Holding's whose income is included in Net income attributable to non-controlling interest in Holdings in our unaudited condensed consolidated statements of operations. Prior to the IPO, we operated as a limited liability company that was treated as a partnership for U.S. federal income tax. As a result, our income from U.S. operations was not subject to U.S. federal income tax because the income was attributed to its members and included in the tax returns of its members.

In addition to U.S. federal and state income taxes, we are subject to Unincorporated Business Tax which is attributable to Holdings operations apportioned to New York City. Our foreign subsidiaries are also subject to local taxes.


Non-Controlling Interest - As a result of the IPO, FXCM Inc. is a holding company, and its sole material asset is a controlling membership interest in Holdings. As the sole managing member of Holdings, FXCM Inc. operates and controls all of the business and affairs of Holdings and, through Holdings and its subsidiaries, conducts our business. FXCM Inc. consolidates the financial results of Holdings and its subsidiaries, and the ownership interest of the other members of Holdings is reflected as a non-controlling interest in the condensed consolidated financial statements of FXCM Inc. We also consolidate the financial results of Lucid in which we have a 50.1% controlling interest. The 49.9% ownership interest of the other Lucid members is reflected as a non-controlling interest in the unaudited condensed consolidated statements of FXCM Inc.

Segment Information

Accounting Standards Codification ("ASC") Topic 280, Segment Reporting - The Financial Accounting Standards Board ("FASB") establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. Our operations relate to FX trading and related services and operate in two segments - retail and institutional, with different target markets with separate sales forces, customer support and trading platforms. For financial information regarding our segments, see Note 15 to our unaudited condensed consolidated financial statements.

Common Stock Repurchase Program

On May 17, 2011 and October 17, 2011, our Board of Directors approved the repurchase of $30.0 million and $20.0 million of its Class A common stock (the "Stock Repurchase Program"), respectively. On November 7, 2012, our Board of Directors approved a $30.0 million increase in the Stock Repurchase Program for an aggregate of $80.0 million. As of March 31, 2013, we had repurchased 3.2 million shares for $33.8 million under these authorizations.

Pursuant to an agreement between the FXCM Inc. and Holdings, anytime the FXCM Inc. repurchases shares of its Class A common stock Holdings enters into an equivalent Holdings unit transaction with the


FXCM Inc. Therefore, as of March 31, 2013, Holdings has repurchased 3.2 million of Holdings units from FXCM Inc. related to FXCM Inc. Class A common stock repurchases noted above.

Credit Agreement

In December 2011, we entered into a three year credit agreement (the "Credit Agreement") with a syndicate of financial institutions. The Credit Agreement provided for a revolving credit line of up to $75.0 million. The credit facility is guaranteed by certain subsidiaries of ours and is secured by a pledge of all of the equity interests in certain of our domestic subsidiaries and 65% of the voting equity interests in certain of our foreign subsidiaries. On November 8, 2012, we entered into an amendment to the Credit Agreement (the "Amendment"). The Amendment provides us with the ability to increase the credit facility during the term of the Credit Agreement up to a maximum of $175.0 million. Additionally, the Amendment modified certain terms of the Credit Agreement, among other things, to provide additional flexibility regarding financing and investment initiatives. Simultaneously, on November 8, 2012, we received additional commitments from a group of financial institutions, both new and existing lenders, and increased the credit facility to $155.0 million. See "Liquidity and Capital Resources" for more information.

Lucid Acquisition

On June 18, 2012 (the "Acquisition Date"), we acquired a 50.1% controlling interest in Lucid, an electronic market maker and trader in the institutional foreign exchange spot and futures markets headquartered in the U.K., to expand the our presence and capabilities in the institutional marketplace. As consideration, we issued a $71.4 million, 3.5% unsecured promissory note, and 9.0 million unregistered shares of the Corporation's Class A common stock to the Lucid sellers as well as a $15.8 million, 3.5% unsecured promissory note for all liquid assets for a total estimated purchase price of $177.5 million. Any of the Corporation's common shares issuable to a Lucid seller on an anniversary from the Acquisition Date is restricted (the "Lucid Liquidity Restriction") for sale until the eighth anniversary of the Acquisition Date if the recipient ceases to be employed by us.

The assets acquired, liabilities assumed and non-controlling interest were recorded at their estimated fair values at the Acquisition Date. This resulted in the recording of intangible assets of $84.9 million primarily related to proprietary technology, which will be amortized over a weighted average life of 4.1 years. Goodwill of $236.5 million was recorded as the excess over the estimated fair value of the net assets acquired. In addition, the estimated fair value assigned to the Lucid Liquidity Restriction was $9.4 million, which is accounted for as deferred compensation and recognized over a 3 year term.

The Lucid acquisitions will result in a significant increase in amortization of intangible assets in our unaudited condensed consolidated statements of operations as these intangible assets are amortized over their estimated useful lives. In addition, several year over year revenue and operating expense fluctuations highlighted in our results of operations discussion that follows were attributed to Lucid since we begin reporting Lucid revenues and operating expenses as of the Acquisition Date. Therefore, Lucid's revenues and operating expenses are reflected in the quarter ending March 31, 2013 but are not reflected in the quarter ended March 31, 2012.


Quarters Ended March 31, 2013 and 2012

The following table sets forth our consolidated statements of operations and
income for the quarters ended March 31, 2013 and 2012:

[[Image Removed]]                            [[Image Removed]]      [[Image Removed]]
                                                       Quarter Ended March 31,
                                                     2013                   2012
                                                       (Amounts in thousands)
Retail trading revenue                       $        91,254        $        92,726
Institutional trading revenue                         27,556                  5,820
Trading revenue                                      118,810                 98,546
Interest income                                          679                    860
Brokerage interest expense                               (55 )                  (91 )
Net interest revenue                                     624                    769
Other income                                           3,430                  3,274
Total net revenues                                   122,864                102,589
Operating Expenses
Referring broker fees                                 21,350                 20,189
Compensation and benefits                             23,533                 23,217
Advertising and marketing                              7,351                  8,270
Communication and technology                           8,355                  8,380
Trading costs, prime brokerage and                     7,938                  1,313
clearing fees
General and administrative                            12,471                 18,397
Depreciation and amortization                         11,974                  6,181
Total operating expenses                              92,972                 85,947
Total operating income                                29,892                 16,642
Equity investments, loss                                 148                      -
Interest on borrowings                                   817                    269
Income before income taxes                            28,927                 16,373
Income tax provision                                   7,959                  2,367
Net income                                            20,968                 14,006
Net income attributable to non-controlling            10,230                 11,118
interest in FXCM Holdings, LLC
Net income attributable to non-controlling             3,878                      -
interest in Lucid
Net income attributable to FXCM Inc.         $         6,860        $         2,888

Total retail trading volumes increased $56.0 billion or $5.7% to $1,041 billion for the quarter ended March 31, 2013 compared to the quarter ended March 31, 2012. The increase primarily stems from a 4.8% increase in client equity combined with a modest improvement in currency trading volatility. The increase primarily stems from an increase in Yen based trade volumes.

Total trading revenues increased $20.3 million or 20.6% to $118.8 million for the quarter ended March 31, 2013 compared to the quarter ended March 31, 2012 as institutional trading revenues increased with the Lucid acquisition, offset by a decrease of 1.6% in retail trading revenues. Retail trading revenues declined as a result of two less trading days and a decrease in the markup to $88.0 per million traded.

Net income increased 49.7% or $7.0 million to $21.0 million for the quarter ended March 31, 2013 compared to the quarter ended March 31, 2012 as a result of the Lucid acquisition and lower general and administrative expense somewhat offset by an increase in our income tax provision.



[[Image Removed]]                           [[Image Removed]]      [[Image Removed]]
                                                           Quarter Ended
                                               March 31, 2013         March 31, 2012
                                                          (In thousands)
Retail trading revenue                      $        91,254        $        92,726
Institutional trading revenue                        27,556                  5,820
Trading revenue                                     118,810                 98,546
Interest income                                         679                    860
Brokerage interest expense                              (55 )                  (91 )
Net interest revenue                                    624                    769
Other income                                          3,430                  3,274
Total net revenues                          $       122,864        $       102,589
Customer equity (in millions)               $       1,190.4        $       1,135.9
Tradable accounts                                   195,629                200,132
Active accounts                                     173,265                171,296
Total retail trading volume(1) (billions)   $         1,041        $           985
Retail trading revenue per million          $            88        $            94
Institutional Trading Volumes(1)            $           373        $           398
Trading Days                                             63                     65

[[Image Removed]]

(1) Volumes translated into equivalent U.S. dollars

Retail trading revenue decreased by $1.5 million or 1.6% to $91.3 million for the quarter ended March 31, 2013 compared to the quarter ended March 31, 2012 primarily due to two less trading days and a 6.4% decrease in markup to $88.0 per million resulting from a higher proportion of volume coming from higher volume retail clients trading on lower average markups. In particular, in the first quarter of 2013 Yen-based pair trade volumes increased when compared to the first quarter of 2012 and we earn a lower mark-up on these trades. The impact of 2 less trading days and the lower markup was somewhat dampened by higher retail trading volumes.

[[Image Removed]]   [[Image Removed]]       [[Image Removed]]
                           Trading                Retail
Quarter                     Days                  Volume
Q1 2012                          65         $             985
Q2 2012                          65         $             869
Q3 2012                          65         $             862
Q4 2012                          64         $             886
Q1 2013                          63         $           1,041

Institutional trading revenue increased by $21.7 million to $27.6 million for the quarter ended March 31, 2013 compared to the quarter ended March 31, 2012. The net increase of $21.7 million was due to the inclusion of $23.0 million of . . .

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