Pricing Structure Changes Likely To Push CME’s Revenue And Margins Higher

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Last week, CME group (NASDAQ:CME) announced that starting in 2014 it would hike transaction charges for its customers. This marks its first major fee increase since 2009 and bucks the trend of declining transaction fees seen in the U.S. exchange sector over the past several years. The exchange has been reporting record trading volumes in various products over the past several months, and we believe that a fee increase at this point in time is unlikely to cause any major decline in volumes. Derivative volumes have been on an uptrend over the past few quarters due to macroeconomic uncertainty and favorable regulations. [1]

We also expect the new pricing structure to affect CME’s valuation positively. While the impact of fee increase on sales also depends on member-nonmember mix (CME will implement different rate hikes for members and nonmembers), one can rest assured that the action will lend at least some support to revenue and margins. We have a revised price estimate of $73 for the company’s stock, which is still slightly below the current market price.

See our full analysis for CME group

Fee Hike Likely To Increase Revenue

The asset classes in which CME plans to increase transaction fees are treasuries, energy, metals, currencies, and stock-index futures. The fee increases will be of different magnitudes for member and nonmember clients, with nonmember clients facing a steeper increase. For example, in the equity futures segment, member clients will have to pay only 2.5 cents extra while the average increase for nonmember clients is going to be 5 cents. [2] Since member clients trade more often than nonmembers, the overall increase in transaction fees is likely to depend on the CME’s customer mix. However, one can be sure that a fee increase is going to impact revenue positively, given that volumes are unlikely to decline drastically on this account.

Margins Are Also Likely To Increase

With revenue increasing, we also expect CME’s profitability to increase slightly. The company’s business has high operating leverage, meaning that the majority of its operating costs are fixed. Therefore, any revenue increase is likely to impact operating income also. We are increasing our forecast for CME’s EBITDA margin for 2014 by 0.5%, and expect it to reach 73% by the end of this decade as CME keeps its costs under control and its revenue continues to rise on account of volume and transaction fee increases.

Market Data Fees Also Raised

CME also announced recently that it plans to raise its monthly market data subscription fees from $70 to $85 starting next year. Therefore, with the latest announcement it has set the stage of a companywide increase in its pricing-structure. We are forecasting a 20% increase in the exchange’s market data revenue next year due to this price hike. [3]

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Notes:
  1. CME defies trends by hiking trading fees, FT, November 12, 2013 []
  2. CME Group hikes transaction fees for 2014, Reuters, November 12, 2013 []
  3. CME Group Management Discusses Q3 2013 Results – Earnings Call Transcript, SeekingAlpha, November 4, 2013 []