GETCO M&A Brings In $128M Net Gain As KCG Releases Amendment To Q3 Earnings

KCG Holdings has today released an amendment to its previously posted figures for Q3 of 2013, to include the non-cash

Knight Capital Group (KCG) has today released a revision to its final quarterly earnings which reflects a one-time, non-cash gain of $128.0 million in the third quarter of 2013,

as a result of GETCO’s investment in the US-based parent company of foreign exchange firm Hotspot FX.

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Subsequent to the transaction between GETCO and KCG, a complete merger took place in July this year, resulting in the company having been rebranded to KCG Holdings.

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According to KCG, prior to the merger, GETCO held the investment in the company at fair value with gains recorded in other comprehensive income within equity. At acquisition date, GETCO reversed the cumulative gains in other comprehensive income and recognized all gains from the investment in the income statement. KCG’s previously announced third quarter earnings did not reflect this accounting gain.

Record Market Share In Commercial FX Activity

At the time that KCG released its figures for the third quarter of this year, it was clear that certain aspects of its business activity other than regular FX order flow has performed remarkably well when considering the overall tailing off of volumes that other companies have experienced in the same period.

Prior to announcing the company’s net gain resulting from GETCO’s investment, KCG’s commercial offerings were producing more than satisfactory results, with record highs for market share in the categories covering algorithmic and EMS U.S. equity execution, institutional spot foreign exchange and inter-dealer corporate bond transactions.

Net Income Adjusted To $226. 8 Million

As a result of the inclusion of this one-time, non-cash gain, KCG reported net income of $226.8 million and diluted earnings per share of $1.98 for the three months ended September 30, 2013 in its Form 10-Q dated November 12, 2013, compared to net income of $98.9 million and diluted earnings per share of $0.86 as originally reported in the third quarter earnings press release dated October 30, 2013.

The gain is included in investment income and other, net within total revenues.

KCG also announced today that it has filed restated historical financial statements of GETCO. The restatements of GETCO’s financial statements are for the years ended December 31, 2012, 2011 and 2010, the nine months ended September 30, 2012 and September 30, 2011, the three and six months ended June 30, 2013 and June 30, 2012, and the three months ended March 31, 2013 and March 31, 2012.

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KCG has detailed publicly that these restatements are due to errors in the presentation of GETCO members’ equity, earnings per unit and cash flows as well as an accounting charge for certain non-cash, merger-related compensation. Accordingly, investors are advised by the company to no longer rely upon previously issued financial statements of GETCO for the relevant periods.

The restatement that related to the presentation of members’ equity resulted from the misclassification of certain equity interests as GETCO members’ equity.

Members’ Equity Reclassified

These interests were redeemable in certain circumstances outside the control of GETCO and have been reclassified as mezzanine equity. The correction impacted all relevant periods covered by GETCO historical results prior to the merger close and resulted in reclassifications to redeemable preferred member’s equity from members’ equity of between $289.6 million and $338.0 million.

This classification error did not result in any changes in reported net income or loss for any of the affected periods; however, the reclassification did result in the restatement of earnings allocated to common units for each such period and related earnings per unit disclosures.

The restatement that related to the presentation of cash flows resulted from the misclassification of cash flows between operating and financing activities related to unit award compensation and members’ distributions.

Operating Cash

The correction resulted in increases in cash used in operating activities of $71.2 million for the nine months ended September 30, 2012, $9.8 million for the nine months ended September 30, 2011 and $12.8 million for the year ended 2011, with offsetting decreases in cash used in financing activities in each period.

The intended effect of the agreement increased the merger conversion ratio of other owners, which included GETCO employees and should have been classified as compensation expenses. The correction resulted in the realization of a non-cash, merger-related compensation charge of $7.1 million for the three and six months ended June 30, 2013, which increased GETCO’s net losses by an equivalent amount for the affected periods.

As a result of these restatements, KCG’s management has concluded that there were material weaknesses in GETCO’s financial statement preparation processes and the related disclosure controls for each of the affected periods.

With respect to the restatements, KCG is filing a Form 8-K today which contains restated consolidated financial statements for the affected periods. The KCG Form 10-Q being filed today includes KCG financial statements for the three and nine months ended September 30, 2013, which reflect the $128 million gain on investment, all serving to confirm that North America’s institutional FX industry is in very good health indeed.

 

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