March 24, 2007, 9:47 pm


Disclosure: at date of post to blog(3/24) does have a position in FCSX.

Original analysis piece for subscribers to was available on 3/8, prior to fcsx 3/16 debut.

FCSX - FCStone Group

FCSX - FCStone Group plans on offering 5.3 million shares (assuming over-allotments) at a range of $21-$24. BMO Capital and Banc of America will be lead managing the deal. William Blair, Raymond James and Sandler O'Neill will be co-managing. BMO is a bit of a wild card here as this will be their first lead slot in a US ipo. BMO Capital was formed as currently constructed in 2006 from BMO Financial and Nesbitt Burns. They've had a hand co-managing a few US and Canadian ipos the past year including MA/AVR.

Post-offering FCSX will have 17.6 million shares outstanding for a market cap of $396 million on a $22 1/2 pricing.

IPO proceeds will be used to redeem a portion of shares outstanding, pay down debt and for general corporate purposes.

Directors and officers will own 16% of FCSX post-ipo.

From the prospectus:

'We are an integrated commodity risk management company providing risk management consulting and transaction execution services to commercial commodity intermediaries, end-users and producers. We assist primarily middle-market customers in optimizing their profit margins and mitigating their exposure to commodity price risk. In addition to our risk management consulting services, we operate one of the leading independent clearing and execution platforms for exchange-traded futures and options contracts.'

'Keywords' that garner immediate attention: commodity, derivatives and the phrase 'clearing and execution platform for exchange traded commodity futures and options.'

FCSX has over 7,500 customers and in FY '06 (ending 8/31/06) executed 50.2 million derivative contracts.

FCSX began as a grain elevator risk management cooperative in 1968. In 2005, FCSX recapitalized from a member-owned cooperative into a stock corporation. While they have four operating segments, 'Commodity & Risk Management Consulting' and 'Trade Execution & Clearing' are the clear profit drivers.

Essentially what we've got here is a company that provides risk management consulting and trade clearing/execution in commodity derivatives. Commodity derivative trading has boomed this decade as evidenced by the success of related ipos- CME / BOT/ NMX / GFIG the past few years. Exchange/OTC commodity derivatives have grown in volume/total derivative value by approximately 25% this decade. Interestingly, the OTC commodity derivative market is 5 X's larger than the exchange traded market. The OTC market reflects the demand for non-standard products and also reflects the need for an expertise company such as FCSX.

What has been driving this growth? FCSX lists a number of reasons, many of which have been outlined in the commodity exchange analysis pieces: 1) Increasing acceptance of market risk has led to increased use of sophisticated hedging with options/futures; 2) higher prices and higher volatility have increased derivative volumes; 3) the shift to electronic trading; 4) Product innovation - in the past 6 years, CME and BOT have doubled their listed derivative product offerings; 5) Proliferation of hedge funds and professional traders; 6) worldwide deregulation.

FCSX business segments

Commodity & Risk Management:

FCSX provides risk management consulting to companies that supply or consume commodities or end-products. Companies that produce or consume hefty quantities of various commodities hire FCSX to implement and execute a successful commodity risk management program. FCSX has 100 risk management consultants that work with customers to mitigate commodity price risks in their business.

End client segments include 1) Commercial Grain - elevators, processors, manufacturers, traders; 2)Energy - focusing on producers, refiners, wholesalers, transportation companies, convenience store chains, auto and truck fleet operators, industrial companies, railroads and municipalities; 3)Introducing Brokers - agricultural producer 'middle-men'; 4) Latin America & Brazil - FCSX has developed a niche in consulting customers involved in all aspects of agribusiness in Mexico and Brazil; 5) China - 'middle men' operations conducting business on the US commodity exchanges as well as agricultural producers; 6) Renewable Fuels - Ethanol. FCSX provides risk management consulting to companies producing over 20% of ethanol in the US; 7) Other - forest products, food services, transportation and weather-related hedging products.

FCSX has their hands in risk management consulting in a number of newer and fast growing customer bases, as well as traditional domestic agriculture and energy. Their business plan is to initially provide full service risk management consulting to new customers and have them execute that plan via FCSX's own commodity derivative execution and clearing platforms. As clients increase their knowledge and acceptance of risk management practices, they become more independent in their hedging decision-making and, in some cases, will transition to fully self-directed trading over a three- to five-year period. Often FCSX will continue to provide some form of consulting service to even long-term clients. FCSX has a nice set-up here. They develop relationships early with participants in emerging commodity risk management sectors, and then provide both risk management and clearing and trade execution to that client long-term. Even if a client eventually gets to the point of having their own in-house risk management team, they still will tend to utilize FCSX trade execution and clearing platforms and services. That is a nice business plan in what has been a booming sector, commodity derivatives.

FCSX's Commodity and Risk Management went ballistic in FY '06, growing approximately 50% in client contract volume. Note that for FCSX much of the growth was driven by specialized OTC risk management products as well as by traditional exchange traded products.

Clearing & Execution Services:

As noted, most of FCSX risk management clients will also utilize FCSX's clearing & execution services to execute their risk management plans. In addition, through their own trading platforms FCSX clears for a variety of institutional and professional traders. FCSX is a member of all major U.S. commodity futures exchanges including the CME, CBOT, NYMEX, COMEX Division of NYMEX, NYBOT, Kansas City Board of Trade and the Minneapolis Grain Exchange. Of note FCSX believes they hold the largest share of the professional floor trader market at the NYBOT and the COMEX Division of NYMEX.

Note - On many of their clearing/execution services involving OTC derivative contracts, FCSX will often take the other side of the trade. They'll then look to offset that risk by laying it off on other participants. OTC trades are those specialized derivative products not listed on one of the major commodity exchanges.

In the past four fiscal years, contract trade volume within FCSX's 'Clearing and Execution' segment has grown an average of 48% annually. Pretty powerful growth.

As noted above, FCSX's revenue/earnings drivers are these two segments above. They also participate in two other business segments: 1) Financial services - Grain financing and facilitation business in which FCSX lends to grain related companies against future grain production. FCSX also participated in energy and renewable fuel financing. 2) Grain Merchandising - FCSX acts as an intermediary to facilitate the purchase and sale of grain. A capital intensive low margin business, FCSX is looking to sell this segment and exit the grain merchandising business.


Approximately $100 million in debt minus cash post-offering. Note that FCSX debt/cash levels tend to shift substantially due to the nature of their business. these cash levels do not take into account the rather significant daily cash on hand levels due to their clearing/trading business. FCSX derives quite a bit more revenues in interest, then their annual debt servicing costs even with the official debt minus cash number.

Dividends - It appears FCSX does plan on paying quarterly dividends. I would anticipate these to be rather small, most likely yielding 1% or less annually for shareholders.

1.3 X's book value on a $22 1/2 pricing.

Note that FCSX fiscal years ends 8/31 annually. FY '07 will end 8/31/07. Also FCSX grain merchandising segment really distorts annual revenues as FCSX takes physical possession of the grains and books all revenues/costs of such. A better indicator of overall revenues is including just net revenues from this low margin business. Doing this does not alter net earnings at all and is more indicative of FCSX's overall revenues and revenue growth. Factor in too, FCSX is looking to exit this grain merchandising segment.

FY '06 - Total revenues were $182 million, approximately 50% growth over FY '05. Exchange contract volume grew 30%, while OTC contract volume doubled. Net margins were 9%, earnings per share were $0.90. On a $22 1/2 pricing, FCSX would be trading 25 X's FY '06 earnings.

FY '07 - Seasonally the first quarter each year tends to be FCSX strongest due to the grain harvest. However the rise in derivative transactions the past few years has smoothed this out a bit. Even for a traditionally strong quarter, FCSX blew out the doors first quarter of FY '07. OTC contract volume tripled from the 11/30/06 quarter, while exchange traded volume rose 25%. Revenues were $57 million, a whopping 46% increase over the same quarter a year earlier. Note that this number excludes the large increase in gross grain sales and only includes the net grain sales of $6 million, compared to $5 million in the 11/30/06 quarter. The growth was fueled by the commodity consulting and clearing/execution segments as well as interest gains. The interest gains were fueled by a 55% increase in customer assets. By any measure, FCSX business is going gangbusters as of 11/30/06. Net margins for the quarter were 12% and earnings per share were $0.38. How to forecast the remainder of the year? The commodities derivative exchanges are all forecasting sustained strong growth through 2007. Let's be very conservative here and assume FCSX just flatlines revenues and earnings quarterly the remainder of FY '07(the final three quarters. If we do so, FCSX should book approximately $240 million in revenues, a 33% increase over FY '06. This is a very conservative number. At that run rate, earnings per share should be in the $1.60 - $1.65 range. Again, this is a number I feel is quite conservative and pretty much eliminates further growth from the blowout first Q '07. On a pricing of $22 1/2, FCSX would be trading 14 X's very conservative FY '07 earnings estimates.

Conclusion - A very strong business model focused squarely on a red hot sector...and coming off a simply blowout first quarter to their 2007 fiscal year. In range, FCSX is being priced for appreciation. Recommend strongly.