Send me real-time posts from this site at my email
Motley Fool

Nasdaq Reports Strong Q3 Earnings on Trading and Software Revenues

Bull markets are generally good times for the stock exchanges. Unfortunately, bull markets can't last forever. Likewise, stock trading is generally a mature market, and its growth potential is relatively limited.

So the challenge for an exchange manager like Nasdaq (NASDAQ: NDAQ) has been to find additional sources of revenue that have more growth potential than what it currently manages. In its third-quarter earnings report released last week, management provided an update on performance, as well as some strategic and business updates that address how the company is tackling this challenge.

Image source: Getty Images.

Repositioning its operations to focus on the fastest-growing segments

Nasdaq's operations are split into four segments:

  1. Market services encompasses the trading business, where the company earns fees on trades placed on its exchanges.
  2. The corporate platforms business includes a suite of solutions for corporate governance, investor relations, and capital raising.
  3. The investment intelligence segment covers things like market data and indices.
  4. Market technology provides infrastructure for companies that want to access the exchanges.

Recently, Nasdaq has been focusing on a strategic repositioning, spending to build up its faster-growing market technology and investment intelligence lines. It recently enhanced its market technology segment by acquiring Verafin, which develops software to detect financial fraud and money laundering. Nasdaq generated about $357 million from its market technology business in 2020, but given its view that this is a $26 billion addressable market, it sees plenty of room to grow.

Investment intelligence and data analytics represent another big opportunity for the company. Nasdaq sees a $19 billion opportunity in analytics, where it generated about $175 million in revenue last year.

Nasdaq hopes to take advantage of the "flywheel effect" -- using momentum in one business area to help accelerate revenue elsewhere via cross-selling. For example, a company that decides to make its initial public offering on one of its numerous stock exchanges may also find itself in need of environmental and social governance services, which Nasdaq will be able to supply. The goal is to enhance its recurring revenue streams, which over the last 12 months ran to about $1.8 billion -- about 55% of net revenue.

During the third quarter, net revenue (total revenue minus any transaction rebates) grew by 17% year over year. However, the company's expenses rose by 24%. As such, earnings per share only rose by 7% to $1.69. As Nasdaq invests more heavily in growth, it will incur additional expenses. In addition, it has also divested itself of a number of businesses -- and doing that carries costs of its own.

Nasdaq is expected to earn $7.35 per share this year and $7.55 per share in 2022. Its stock trades at just under 27 times expected 2022 earnings per share. That may seem like a pricey valuation given that its earnings are only expected to grow by about 3%.

On the right track, but hard to recommend

That said, Nasdaq has a wide competitive moat. It would be hard for a would-be new entrant to its core business to create an entirely new exchange and attract shares and trading volume to that platform. Equity trading in the United States is more or less a duopoly between Nasdaq and Intercontinental Exchange (NYSE: ICE), which owns the New York Stock Exchange (among other exchanges). Companies with huge strategic advantages generally command higher valuation multiples, and Nasdaq is no exception.

The company is trading toward the high end of its price-to-earnings (P/E) ratio range for the past few years.

NDAQ PE Ratio data by YCharts

While I like the stock in general and think that the company is on the right track, I find it hard to recommend buying shares when it's trading at this premium, especially given that it expects earnings growth will slow down. Nasdaq stock is a hold. If its valuation slips, though, it would probably be worth picking up shares at a P/E multiple in the low 20s.

10 stocks we like better than Nasdaq
When our award-winning analyst team has a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*

They just revealed what they believe are the ten best stocks for investors to buy right now... and Nasdaq wasn't one of them! That's right -- they think these 10 stocks are even better buys.

See the 10 stocks

*Stock Advisor returns as of October 20, 2021

Brent Nyitray, CFA has no positions in the stocks mentioned. The Motley Fool recommends Intercontinental Exchange and Nasdaq. The Motley Fool has a disclosure policy.


Source

Popular posts

Welcome! Is it your First time here?

What are you looking for? Select your points of interest to improve your first-time experience:

Apply & Continue