initiating coverage multi commodity exchange

Edelweiss Research is also available on www.edelresearch.com, Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset. Edelweiss Securities Limited

Promoters*66.8%

MFs, FIs & Banks6.4%

FIIs19.5%

Others7.3%

CommEx: A resilient business model with an active spot market An active spot commodity market in India will give impetus to hedging/arbitrage demand, thereby sustaining commodity futures volumes over long term. Increased participation and continued volatility will further aid volumes. After registering 37% CAGR over FY07‐12, we expect moderate growth in industry‐wide commodity futures volumes in low double‐digit over FY12‐14 against the backdrop of recent price pressure / reduced volatility in some commodities. Multiple levers like option trading; banks, FIIs, MFs participation; and introduction of intangibles can act as additional triggers.

MCX: Firmly entrenched leader shielded by entry deterrents Multi Commodity Exchange (MCX), from inception, has structurally altered dynamics of commodity futures market by introducing global commodities. Driving >90% of incremental growth in futures volume over FY06‐12, it commands 85% market share in India and is the third largest commodity exchange globally. Though there is perceived risk of competition, deterrents acting in its favour are: (a) High/sticky liquidity, lowering impact cost; (b) MCX‐quoted price a benchmark; and (c) shareholding cap.

Technology: Parents domain expertise; lower initial set up cost The exchange draws strong support from Financial Technologies’ (FTIL, MCX’s promoter) technological expertise. While MCX’s operating technology cost, at 13% of revenue, is higher than global exchanges (in absolute terms, <USD20mn compared to USD40‐50mn for global exchanges), initial set up cost was lower at INR800mn. This implies back‐ended nature of technology cost sharing arrangement with FTIL. MCX, pays 12.5% of transaction fee as variable cost, which is due for revision in October, ‘12.

Outlook and valuations: A rare commodity; initiate with ‘BUY’ MCX, with eight years of operating history, is in the growth phase of its life cycle. While structural levers are in place for upward trajectory in volumes over the long term, in the interim, we expect volume growth to moderate. Considering steady yields and higher float income, we expect 10‐12% CAGR in revenue and PAT over FY12-14E. The

stock is currently trading at 14.8x FY13E earnings, 15-20% discount to CommExes

in developing markets. We initiate coverage with ‘BUY/Sector Outperformer’

with TP of INR 1,155. Key risks: (i) regulatory issues (implementation of proposed

measures, imposition of CTT etc); and (ii) higher dependence on few commodities.

INITIATING COVERAGE

MULTI COMMODITY EXCHANGEA rare commodity

EDELWEISS 4D RATINGS

Absolute Rating BUY

Rating Relative to Sector Outperformer

Risk Rating Relative to Sector Medium

Sector Relative to Market Equalweight

MARKET DATA (R: MCEI.BO, B: MCX IN)

CMP : INR 935

Target Price : INR 1,155

52‐week range (INR) : 1,426 / 860

Share in issue (mn) : 50.9

M cap (INR bn/USD mn) : 48 / 860

Avg. Daily Vol.BSE/NSE(‘000) : 707.9

SHARE HOLDING PATTERN (%)

* Promoters pledged shares (% of share in issue)

: NIL

RELATIVE PERFORMANCE (%)

Sensex Stock

Stock Over Sensex

1 month (5.7) (14.6) (8.9)

3 months (7.2) (27.9) (20.7)

12 months (11.8) 0.0 11.8

Kunal Shah +91 22 4040 7579 [email protected] Nilesh Parikh +91 22 4063 5470 [email protected] Suruchi Chaudhary +91 22 6623 3316 [email protected]

India Equity Research| Banking and Financial Services

May 31, 2012

Promoters*26%

MFs, FIs & Banks23%

FIIs33%

Others18%

FinancialsYear to March FY11 FY12 FY13E FY14ERevenues (INR mn) 4,473 6,289 6,789 7,686 PAT (INR mn) 1,757 2,862 3,228 3,728 EPS (INR) 33.9 58.4 63.3 73.1 EPS growth (%) 25.3 72.3 8.4 15.5 PE (x) 27.6 16.0 14.8 12.8 Price to book (x) 5.6 4.8 3.9 3.2 RoE (%) 22.7 31.0 29.1 27.5

Banking and Financial Services

2 Edelweiss Securities Limited

Investment Rationale

CommEx: A resilient business model with an active spot market Moot question on every investor’s mind is whether exchanges make a strong business case for investments. Exchanges (in general) offer unique and resilient business models due to their inherent characteristics such as: (1) sticky liquidity; (2) upward trajectory in volumes over the medium‐to‐long term (though volumes in the interim tend to be volatile across business cycles); (3) annuity income in the form transaction/membership fees; and (4) high operating leverage (40‐70% EBITDA margin) with strong cash generation capabilities. Chart 1: Globally, exchanges reported 20%+ PAT CAGR and 50%+ margin (CY07‐12)

Source: Company, Bloomberg, Edelweiss research

With regard to commodity exchanges (CommEx), our belief is that India with an active spot commodities market makes a strong case for huge growth potential in commodity futures trading. Also, the country is world’s leading producer of several agri commodities and the largest consumer of gold and silver. Volumes in futures markets for any specific commodity tend to be in multiples of the physical production/consumption of that commodity due to hedging/arbitrage/speculative purposes. Table 1: Active spot commodity volumes to support futures trading

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ICE Group CME Group MCX Hongkong Exchange

Singapore Exchange

Bursa Malaysia

(%)(%)

Rev CAGR Op pft CAGR Op margin

Gold (tonnes) Import Consumption MCX volumeFY09 772 630 16,174 FY10 867 748 12,112 FY11 934 1,034 12,890 FY12 1,101 854 16,796

Crude Oil (bbl) Import Production MCX volumeFY08 892 250 1,436 FY09 973 246 2,838 FY10 1,167 247 3,682 FY11 1,199 276 4,631

Exchanges (in general) offer unique and resilient business models due to sticky liquidity, annuity income, high operating leverage and strong cash flow generation capabilities

An active spot commodity market makes a strong case for huge growth potential in commodity futures trading in India

Multi Commodity Exchange


Source: World Gold Council, RBI, MoPNG, Industry Sources, Company, Edelweiss research

There is a strong case for more than 20% growth in commodity futures volumes on national exchanges in India over the long term (higher than an average growth registered by global commodity exchanges) as:

• India’s secular GDP growth of 6% plus will drive underlying demand for physical commodities. This, in turn, will increase the hedging requirement of industry participants and influence derivatives trading volumes.

• Introduction of option trading, launch of new commodity futures (including intangible) and opening up of participation to institutions will also drive growth in futures volume.

• Over a period of time, we also expect migration from unorganised futures market or OTC products to national exchange as products become more standardised.

Globally, CommEx have posted 20% CAGR in volumes over the past 25 years. Since April 2003, when the Indian government permitted futures trading in commodities, domestic commodity exchanges saw multi‐fold increase in value of commodity traded in the futures market (85% CAGR over FY04‐12 and 37% CAGR over FY07‐12 to INR 181 tn). Chart 2: Stupendous growth rate of commodity futures volume in India

Source: FMC, Edelweiss research

We would particularly prefer exchanges with diversified product base, dominant position in early stage of life cycle, and broad‐based membership base, attracting adequate liquidity.

Copper (kt) Consumption MCX volumeCY09 607 29.6 CY10 652 31.3 CY11 714 34.0

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MCX NCDEX NMCE ICEX Others



MCX: Well entrenched market leader shielded by entry deterrents Amongst 21 commodity exchanges (including five national commodity exchanges—MCX, NCDEX, NMCE, ICEX, and ACE), MCX enjoys market leadership with 85% plus share in FY12. Chart 3: MCX enjoys more than 85% market share


Over the past five years, MCX has structurally altered the industry’s dynamics by introducing global commodities and improving market participation, leading to expansion rather than migration of volumes. It has driven more than 90% of incremental growth in industry‐wide commodity futures volume over FY07‐12. Average daily trading volume has grown by 46% CAGR over FY07‐12 to INR 503 bn. Chart 4: MCX has registered more than 40% CAGR in average daily trading volume


Besides having the first mover advantage in launching global commodities, stupendous growth in volumes on MCX is also attributed to: 1) increased volatility; 2) rise in commodity prices, 3) launch of mini futures and 4) increased participation (reflected in growth in terminals).

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MCX has structurally altered the industry’s dynamics by introducing global commodities and improving market participation, driving >90% of incremental growth in industry‐wide commodity futures volume over FY07‐12



Volumes rise in periods of high volatility

While price is an important determinant of overall value traded on any exchange, volume (quantity traded) on CommEx is primarily driven by volatility ‐ higher the volatility, higher the volume and vice versa. The charts below clearly highlight strong correlation between volatility and volume on commodity exchange. Chart 5: Strong correlation between MCX volume (quantity traded) and price volatility

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MCX volume Silver price volatility (RHS)

Volume (quantity traded) on CommEx is primarily driven by volatility ‐ higher the volatility, higher the volume and vice versa



Source: Bloomberg, Company, Edelweiss research

Note: Volatility is calculated as 2‐months rolling standard deviation of daily price changes

Bullion volume growth led by rise in prices, but not so similar trend for other commodities

Over a five‐year period, growth in volumes was led by crude oil (64% CAGR), followed by silver (57%) and base metals and gold in the 25‐35% range. While for precious metals, rise in prices and volatility was key driver of growth, as far as base metals and energy products are concerned, growth was driven by higher volume/participation during volatile period. Trend in price and volume of bullion will be critical indicator of growth forecast for MCX as it accounts for more than 65% of its volume. This is followed by crude oil (at 17‐20%) and copper (at ~10%). While it has introduced many new commodity futures which aids volume growth, these are yet to make a mark in terms of incremental contribution as major global commodities like bullion, base metals, crude oil dominate trading interest . Chart 6: Bullion volume growth primarily led by rise in prices

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Trend in price and volume of bullion will be critical indicator of growth forecast for MCX as it accounts for more than 65% of its volume




Increased participation reflected in growth in terminals

MCX, with its first mover advantage, has garnered significant market share in most global commodities viz., gold, silver, crude oil, natural gas, copper etc. Most retail and corporate customers who trade in global commodities futures either for hedging, arbitrage or speculation have flocked to the MCX franchise (shifting their preference from global exchanges like CME, LME etc., to MCX). This is abundantly evident in terms of expansion in its terminal presence from mere 50k in FY08 to 346k currently and average daily trading volume of INR500bn in FY12. Chart 7: Growing terminal presence – indicator of increased participation

Source: Company, Edelweiss research

With 346k terminal, MCX is still at a nascent stage (when compared globally) and there is huge scope for increasing the presence. It has also touched base only 18% of client base of equity markets which is their immediate target segment. Moreover, more than 150k terminals have been added in last one year which matures in terms of trading volume with a lag (depending on time taken for activation).

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Most retail and corporate customers who trade in global commodities futures have flocked to the MCX franchise shifting their preference from global exchanges to MCX

More than 150k terminals have been added in last one year which matures in terms of trading volume with a lag



Despite limited participation allowed in Indian commodity exchanges (being restricted only to retail and corporate players; institutions, banks, MFs are not permitted), MCX has been able to make a strong mark even globally (it is the third largest commodity exchange in terms of number of future contracts traded in CY11). Compared with global commodity exchanges, MCX has registered largest volumes (in terms of the number of contracts traded) in CY11 in silver and gold, second largest in natural gas and third largest in crude oil and copper.

Table 2: MCX ranks third amongst global commodity exchanges

Source: FIA

Diversity in product profile ensures stability in volumes MCX is one amongst the few exchanges that offer commodities across product baskets i.e. bullion, base metals, energy, agri etc unlike some of the leading global exchanges which are specialized and focused on specific products e.g. CME (precious metals), NYMEX (energy), ICE (energy and agri), LME (base metals) etc. Diversity in commodity verticals lends stability to volumes as volatility across all product baskets does not behave in similar fashion. As the exchange sees lower volatility in some commodities, it gets offset by increased volatility and participation in some other commodities. There are hardly any period when volatility is low across all the product segments. Chart 8: Volumes consistently rising due to diversity in product profile


In April, MCX witnessed a sharp decline in average daily trading volume to INR 425 bn (from average of INR 503 bn in FY12) as volatility across most of the commodities in India was low (refer chart 5). While volatility levels have been higher globally for commodities like gold, silver, crude oil etc, rupee volatility in opposite direction was nullifying the impact and MCX

Rankings among Top Derivatives Exchanges

Commodity Futures Exchange CountryCY11 Volumes (mn contracts)

No. of Commodities traded

2 CME Group (includes CBOT & Nymex) US 677 7411 Zhengzhou Commodity Exchange China 406 79 MCX MCX 346 4112 ICE Group US, UK, Canada 310 1914 Shanghai Futures Exchange China 308 9

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Lower volatility in some commodities gets offset by increased volatility and participation in some other commodities ‐ hardly any period when volatility is low across all the product segments



witnessed lower volatility in rupee terms in prices of these commodities. The volumes towards the last fortnight of May though gained momentum as volatility increased. Chart 9: Average daily trading volume dips in April due to low volatility


Considering lower volatility YTD and pressure on prices in some of the leading commodities (including gold, silver, crude oil), we expect growth in trading volume to moderate to low double‐digit in FY12‐14E.

Table 3: Moderation in volume growth expected over FY12‐14E


Strong liquidity and shareholding cap: Major entry deterrants Though MCX, with more than 85% market share, faces a perceived risk of increased competition, we believe there are a few major deterrents acting as entry barriers for any new player/ existing global exchanges setting up CommEx in India, in favour of MCX:

• Not only high, but also sticky liquidity significantly lowers impact cost: Bid‐ask spread for major commodities on MCX is as low as 2bps.

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Year to March FY10 FY11 FY12 FY13E FY14EAverage Daily Trading Volumes 208.3 320.6 503.1 545.6 623.7 ‐ Gold 62.6 80.4 137.6 149.0 172.2 ‐ Silver 37.2 87.9 186.9 185.2 213.9 ‐ Crude Oil 50.3 66.7 86.9 94.3 105.8 ‐ Agri 2.3 3.7 6.4 9.0 11.7 ‐ Others 55.8 81.7 85.3 108.2 120.2

In April, MCX witnessed a sharp decline in volumes as volatility across most of the commodities in India was low. Higher volatility levels globally for commodities like gold, silver, crude oil etc was offset by rupee volatility

Bid‐ask spread for major commodities on MCX is as low as 2bps



Chart 10: Bid‐ask spread (in bps) of MCX vis‐à‐vis NYMEX

Source: Edelweiss research

• MCX quoted price established as a benchmark for most participants in top five

commodities, renders stickiness to strong liquidity. This acts as an effective entry barrier for other exchanges.

• Shareholding cap: No single exchange/institutions (other than promoters) are permitted to hold more than 5% stake in a commodity exchange. Miniscule economic/financial interest deters any leading industrial group or global CommEx to seriously evaluate launching CommEx in India.

Opportunities abound, but subject to regulatory changes We believe the following regulatory changes can act as key triggers to boost volume growth in commodity exchanges: • Currently, regulations do not permit MFs, FIIs and banks to trade on commodity

exchanges. If allowed, this may drive overall participation in the segment.

Chart 11: Participant members’ profile of CME Group (CY10)

Source: CME Group annual report, Edelweiss research

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Proprietary firm46%

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Non‐member20%

No single exchange/institutions (other than promoters) are permitted to hold more than 5% stake in a commodity exchange



• Commodity options were banned in 1952. Opening up of options trading can significantly boost volumes and overall growth for Indian commodity futures exchanges (in general) and MCX (in particular). Globally, options contribute ~48% of derivatives volume traded on exchanges. MCX has already developed the software technology infrastructure and other in‐house expertise to launch trading in commodities options, when such trading is permitted.

Chart 12: Globally, options almost equivalent to futures volume (CY11)

Source: FIA

• Similarly, intangibles like weather derivates and freight rates are not currently

permitted by the government. Speculators tend to use proxy contracts like guar for weather/rainfall. Introduction of intangibles could enhance participation in commodity exchanges.

• MCX has already developed a composite commodity index, MCX‐COMDEX and other indices, which may be opened for participants when commodity indices are permitted by the regulator.

MCX has invested significant resources in developing strategy in anticipation of certain proposed policy initiatives and intends to capitalise on changes in regulations governing the Indian commodities derivatives industry.

Technology: Promoters domain expertise The success of an exchange is underpinned by technology that creates, integrates, drives and makes market more accessible. MCX launch was promoter Financial Technologies’s (FTIL) forward integration philosophy to leverage on strong technology domain expertise and venture into an exchange space. FTIL’s highly efficient, cost effective and difficult to replicate proprietary exchange solution software provides MCX a key competitive edge. Besides facilitating trading, this technology also serves as an important risk management tool to reduce balance sheet risk. The exchange has entered into various agreements with FTIL for continuous technology support, to facilitate speedy and efficient technology solutions.

Futures52%

Options48%



Table 4: Technology sharing agreements with FTIL

Source: Company

MCX’s current technology infrastructure is sufficient to handle up to 10,000,000 trades per day which is more than 10x the current daily record high of 1,867,712 trades. While MCX has cumulatively paid FTIL INR800mn towards one‐time fees for supply of various technical services, it also has a comprehensive agreement with the parent where it is required to pay INR10mn per month + variable fee of 12.5% of gross transaction fees. As per the agreement, entered into in October 2005, MCX has to pay INR8mn per annum. However, this was renewed in October 2007 to add a variable component of 10% of gross transaction fees, which was further revised in July 2010 to 12.5%. The agreement is due for renewal in October 2012. We believe, the variable fee was revised upwards despite more than 40% CAGR in volumes during FY07‐10 as the technology cost sharing with FTIL was implied to be more back‐ended to make the exchange venture viable in an initial phase. Hence, the set‐up cost (capex) incurred by various exchanges to launch technology platform is large compared with MCX while operating technological cost is a notch higher for the latter than other exchanges. As volumes gained significant scale and operating leverage benefit was reaped, MCX decided to compensate FTIL for technology cost by paying out a higher variable fee. Hence, considering the cumulative technology cost incurred by MCX till date, it still stands at a comfortable position compared to global peers.

AgreementProduct/Services availed under the Agreement

Expenditure (INR mn)

Basis of consideration

Contractual Period

"SDA"dated Feb 27, '03 Integrated online trading, clearing and settlement system.

100 One time 50 years, Automatic renewal for 49 years

"SDA‐1"dated Dec 23, '03 CTCL gateway system. 50 One time 50 years, Automatic renewal for 49 years

Technical services agreement dated Oct 1, '05 and renewed on Oct 10, '06, Oct 31, '07 and July 15, '10

Technical services 10 + 12.5% of gross transaction fees

Montly 5 years

Software development agreement dated Oct 1, '05

Risk management system 100 One time 20 years, Automatic renewal for 20 years

Services agreement dated June 21, '06 amended on Apr 2, '07, Oct. 31, '07, Oct 25, '08 ,Sep 23, '09 ,addendums dated July 2, '10 and May 26, '11

Enhanced version of the client side software

500/active terminal Montly 1 year

Managed services agreement dated Sep 27, '07 amendment on Oct 31, '07 renewed on Apr 9, '08, Sept 23, '09, addendum dated June 7, '10 and June 10, '11

IT support services 125000/person Montly 1 year

Agreement dated February 25, '08 Exchange technology software 200 One time One time payment

"DR License Agreement" Dec 1, '08 licensing agreements for the disaster recovery sites.

100 One time One time payment

Software l icense agreement dated May 23, '11

Alert Management System 150 One time 3 Years

The variable fee was revised upwards despite more than 40% CAGR in volumes during FY07‐10 as the technology cost sharing with FTIL was implied to be more back‐ended to make the exchange venture viable in an initial phase



Chart 13: Lower initial set up cost and higher operating technology cost for MCX


Note: 1) We have included professional fees (for clearing and settlement) while calculating

operating technology cost; 2) In absolute terms, operating technology cost incurred by global

exchanges is in the range of USD40‐50mn while for MCX it is below USD20mn

Float income offsets muted market data related income Interest/dividend income (on deposits/investments of free operating cash flows, trading margin deposit from members, etc.) contributes 10‐16% to revenues of MCX. The company, on its balance sheet, outstanding trading margin from members of INR4.5bn‐5.5bn (~3‐5% of open interest position) in cash while balance is fulfilled by members by way of guarantees etc. Besides this, the exchange will generate annual free cash flow of INR2.5bn‐3.5bn per annum from operating activities over FY12‐14E. Table 5: Cash trading margin from members is ~2‐3% of Open interest (OI) position

Source: Company

Anticipating no major investments either for inorganic growth or technology development or no one‐time dividend payout to shareholders, we expect interest on surplus cash to account for 14% of revenue over FY12‐14E. This offsets not so active market data and information sharing‐related fee income in case of MCX, which forms 10‐12% of revenue globally. This is mainly because only 20% of volumes are based on algorithmic trading and investors in India are not so savvy using paid services for market related data information, which is reflected in this revenue stream being miniscule even in case of stock exchanges. We do not expect market data related charges to make a significant mark in revenue stream in India.

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FY10 FY11 FY12Trading margin (INR mn) 4,082 5,283 5,568 OI (INR mn) 182,159 202,573 257,020 1‐mth avg daily vol (INR mn) 251,161 448,121 475,179 Trading margin/OI (%) 2.2 2.6 2.2 OI/1 mth avg daily vol (%) 72.5 45.2 54.1

Interest/dividend income (on deposits/investments of free operating cash flows, trading margin deposit from members, etc.) contributes 10‐16% to revenues of MCX



Chart 14: Market data related income as a % of revenues for global exchanges

Source: Company

When MCX had to trim its stake in MCX‐SX and Dubai Gold Commodity Exchange (DGCX) to 5% (regulatory requirement), it booked investment profit of INR728mn and INR1.37bn, respectively, in FY09 and FY10 from sale of its strategic stake. Now, MCX holds 634 mn warrants in MCX‐SX at the cost of INR1.28bn, which it may be required to offload in the next three years as per Supreme Court’s order. In our assumptions for FY12‐14, we have not considered any substantial profit or loss on sale of its investments.

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Financial Outlook

Back‐ended technology sharing costs with FTIL offsets op‐lev benefit MCX has posted 25% revenue CAGR over FY07‐12 to INR6.3bn, primarily driven by 36% growth in transaction fees. While an exchange cost structure is relatively fixed in nature and the model provides high operating leverage as it gains scale, MCX’s operating margin has sustained in a narrow range of 65‐70% due to back‐ended nature of technology sharing cost agreement with FTIL. The company’s earnings have posted 25% CAGR over FY07‐12. In the backdrop of lower volatility YTD and pressure in prices of some commodities, we expect growth in volumes to moderate to low double‐digit over FY12‐14. Considering steady commission yields, interest income at 14% of revenue (on annual free operating cash flows of INR2.5bn‐3.5bn), we expect 10‐12% CAGR in revenue and PAT over FY12-14E.

Chart 15: Revenues and PAT CAGR of ~25% over FY07‐12; to moderated over FY12‐14E

Source: Company

Chart 16: Back‐ended technology cost sharing offsets op‐lev benefit

Source: Company

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Considering low double‐digit volume growth, steady commission yields, interest income at 14% of revenue, we expect 10‐12% CAGR in revenue and PAT over FY12-14E



Transaction fees: Growth led by trading volume and increased volatility Facilitating trading is a key function of any exchange and transaction fee is the core of revenue. Transaction fee is a function of an exchange’s ability to generate trading volumes (due to stickiness in liquidity) and increase the number of members/terminals. MCX has grown its transaction fee at 36% CAGR over FY07‐12, led by 46% growth in trading volumes; it accounts for ~80% of the company’s revenue. Chart 17: Transaction fee forms the major chunk of revenues for MCX

Source: Company

Recent growth in trading volume is attributed to increased volatility in commodity prices, launch of mini futures and rise in customer base. Over the 5‐year period, growth in volumes was led by crude oil (64% CAGR), followed by silver (57%) and base metals and gold in the 25‐35% range. Transaction fee charged is also a function of average daily turnover generated by the member in the previous month. On an average, MCX realises INR1.6‐1.8 of transaction for every lakh of turnover. MCX has revised transaction fee slab in November 2009 prior to which the lowest fee charged was INR 0.25 per lakh of turnover and the highest fee at INR 4. Since FMC recommended the ratio of 1:4 at the maximum between the lowest and highest slab, it was revised to INR 1 and INR 2.5 respectively. Average realisation (commission yields) has come off post 2009 from INR2 per lakh as more members have shifted to the high turnover‐low fee slab. Table 6: Transaction fee rates w.e.f. November 2009

Source: Company

0

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3,200

4,800

6,400

8,000


(INR mn)

Transaction Fee Memb Fee Subs Fee Int. & Div. inc Oth. Income Other Op. Inc

Average Daily turnover Transaction fee rates /INR 0.1mn of turnover

Upto INR 2.5 bn INR 2.5

On incremental turnover aboveINR 2.5 bn up to INR 10.0 bn

INR 1.25

On incremental turnover above INR 10.0 bn INR.1.00

MCX has revised transaction fee slab in November 2009 since FMC recommended the maximum ratio of 1:4 for the lowest and highest slab – lowest and highest slab was revised to INR 1 and INR 2.5 per lakh of turnover



Chart 18: Average realization coming off as members tend to trade more


Note: MCX revised transaction fees in November 2009 where the highest slab was bought down

from INR4 to INR2.5 per lakh of turnover Considering YTD reported volumes, lower volatility and pressure on prices in some of the leading commodities (including gold, silver, crude oil), we expect growth in trading volume to moderate to low double digits over FY12‐14E. Stupendous growth in volumes led by sharp rise in prices of commodities and increased volatility further supported increased customer base, was leading to more members falling in high turnover‐low fee slab. Once volumes moderate, we expect average realisation on existing fee structure to be steady. Only once competition rises or institutions are permitted to participate on CommEx, we anticipate some pressure on average realisation. We are building in INR1.6 per lakh of turnover as transaction fee in our estimate.

Membership fees stable; increase terminal presence drives growth MCX has continuously expanded membership base on its platform from 1,762 in FY07 to 2,170 in FY12. Having established a sound membership base in the first six years of launch (FY04‐09), there was only a marginal addition in members over FY10‐12. Following the trend of net addition to membership base over years, MCX’s membership fee (including admission and annual subscription) has remained in the INR200‐250 mn range over FY06‐12. Over FY09‐12, addition has been in the trading member category, where admission fee is INR0.1mn compared with INR0.75‐1.0mn for other categories. Membership will not to be a true indicator of participants as customers are being continuously added at the member level; key will be terminal addition (though fee may not entirely accrue to exchange). MCX has grown its presence from mere 50k terminals in FY08 to ~346k terminals currently. While we are positive on increased participation at MCX, we expect overall membership to remain steady (till institutions are allowed). We are, therefore, building in steady membership fee over FY12‐14. With 346k terminal, MCX is still at a nascent stage (when compared globally) and there is huge scope for increasing the presence. It has also touched base only 18% of client base of equity markets which is their immediate target segment. Moreover, more than 150k

1.0

1.3

1.6

1.9

2.2

2.5

0

1,200

2,400

3,600

4,800

6,000


(per lakh

of T/O

)

(INR mn)

Transaction Fee (INR mn) Commission yields (bps)

Once volumes moderate, we expect average realisation on existing fee structure to be steady. Only once competition rises or institutions are permitted to participate on CommEx, we anticipate some pressure on average realisation



terminals have been added in last one year which will transact optimal trading volume with a lag (depending on time taken for activation). Chart 19: Growing terminal presence; Turnover per terminal is steady

Source: Company

Table 7: Admission fees for all category of participants (INR '000)

Source: Company

Table 8: Participant‐wise break up of membership

Source: Company

Technology and employee costs primary overheads Technology is the backbone of any exchange and significant investments are made in it at the time of setting up an exchange and then for constant upgradation/support. For MCX, technology cost accounted for 12‐14% of revenue over FY10‐12. As technology cost sharing was implied to be more back‐ended to make the exchange venture viable in initial years, technology sharing cost even over the past three years of phenomenal growth has infact jumped as a proportion of revenue. The agreement with FTIL is due for revision in October 2012 and there is limited clarity in which direction fees will be revised. We have factored in current level of 12.5% of gross transaction fees as variable technology cost in our estimates and any change in this structure will consequently lead to revision in our estimates.

0

80,000

160,000

240,000

320,000

400,000

0

500

1,000

1,500

2,000

2,500

FY08 FY09 FY10 FY11 FY12

(Nos.)

(INR mn)

# Terminals (RHS) # Members Turnover/Terminal

Admission fees Since September 1, 2008 to date

TCM (Non‐Deposit Based) 2,500 TCM (Deposit Based) 1,000 ITCM 2,500 PCM 1,000

FY08 FY09 FY10 FY11 FY12‐ TCM (Non‐deposit based) 1,713 1,732 1,721 1,701 1,686 ‐ TCM (Deposit based) 69 69 67 69 77 ‐ ITCM 21 22 24 27 27 ‐ PCM 4 4 4 4 4 ‐ TM 62 210 254 318 359

MCX is still at a nascent stage in terms of number of terminals (when compared globally). It has also touched base only 18% of client base of equity markets which is their immediate target segment



Chart 20: Employee and technology costs are primary expenditure

Source: Company

The company had an employee base of ~225 as at December 31, 2011 and incurred INR280mn expenses in FY12 on same. Employee costs are largely fixed in nature and with increased volumes, the proportion to revenue has come off from 13% in FY08 to 4% in FY12. More than 60% of its employees are deployed for market operations and support functions, 10% each in business development and research/publication. Chart 21: Function‐wise employee break‐up for MCX

Source: Company

0

500

1,000

1,500

2,000

2,500

FY07 FY08 FY09 FY10 FY11 FY12(IN

R mn)

Employee Cost Technololgy Costs

Advt. & Business Development Admin & Other Expenses

Top Man.1%

Business Development

10%

Mkt Oper., Sys. & Networking, Membership

48%Cor. Social Opp.2%

Research, Planning & Strategy10%

Fin. , Acc., Legal and Secretarial

12%

Support17%



Key Risks

Higher regulatory risks due to speculative nature of trades Delay in implementation of proposed policy measures: Trading in commodity futures exchange is regulated by Forward Market Commission (FMC) and Ministry of Consumer Affairs, Government of India. MCX has invested significant resources in developing strategies in anticipation of certain proposed policy initiatives (option trading, institution participation) and intends to capitalise on changes in regulations governing the Indian commodities derivatives industry. Any delay in implementation of the proposed policy measures may adversely impact the company’s revenue. Ban on trading in certain commodities: FMC has occasionally restricted trading in certain commodities such as wheat, rice, urad, tur. chana, soy oil, rubber, and potato. Although it had limited impact on MCX, as agricultural commodities make small contribution to the company’s overall revenue (~<2% in FY10), similar restrictions in non‐agricultural commodities may adversely impact its revenue. Arbitrage/speculative nature of trading poses higher regulatory risk:

• Revision in open position limits in various non‐agri commodities can impact volumes.

• Recent notification pertaining to clubbing of open interest position for entities having common directors with no financial interest had some bearing on volumes.

• Imposition of Commodities Transaction Tax similar to Securities Transaction Tax for equity trading cannot be ruled out. It can significantly impact arbitrage volumes as spreads get narrowed down significantly when the tax is imposed.

• Regulators have imposed higher margin requirement during high volatility in the past.

Growing competition An influx of new players may lead to loss of existing members or make further client acquisition difficult. Currently, large financial institutions like Indiabulls (through ICEX, a JV with MMTC) and Kotak (through NMCE, Ahmedabad) are eyeing the segment, which may impact MCX’s market share.

Significant dependence on a few commodities Top four commodities—gold, silver, crude oil and copper—accounted for more than 85% of total volumes on MCX from CY08. A decline in volatility and prices of these commodities could adversely impact volume of MCX. However, since volatility across these products does not move in similar fashion, diversity in product profile has lent stability to volumes.



Chart 22: Top 4 commodities account for more than 80% of volumes

Source: Company

Long‐term pricing pressure likely in commodities futures MCX has been able to sustain average realisation in the INR1.6‐2.0 per lakh range over the past three‐four years. Though there has been no competitive pressure on transaction charges, lower realisation in the past two years is primarily on account of higher proportion of customers shifting to higher volumes‐low fee band. As participation on the exchange is restricted to only retail and corporate investors (no institution allowed) there is not much concentration of volumes (relatively lower when compared to concentration on National Stock Exchange). However, we believe once institutions are allowed to trade on MCX it may lead to pressure on commissions. With new entrants coming in, despite strength in product innovation, MCX may face pricing pressure in new products it launches. In existing non‐agri products, it enjoys significant barriers to entry because of strong liquidity position it holds. However, over the long term, some pricing pressure is likely in this segment as well.

Revenues tied to transaction fee and market volatility Although MCX has a fairly diversified product mix, its revenue mix remains highly skewed towards transaction fees. As exchanges mature, their dependence on transaction revenue increases. ~80% of the company’s revenue came from transaction fees, where it has limited control.

0.0

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100.0

2008 2009 2010 2011 2012(%)

Gold Silver Crude Oil Copper Other Products



Chart 23: Exchanges derive significant income from transaction fees


Credit risk of members MCX is exposed to credit risk of members as its clearing house guarantees settlement of trades executed through the exchange. This credit risk is managed through appropriate risk management system.

Technology sharing agreement due for revision in October 2012 As technology cost sharing was implied to be more back‐ended to make the MCX venture viable in initial years, technology sharing cost over the past three years has jumped phenomenally as a proportion of revenue. The agreement with FTIL is due for revision in October 2012 and there is limited clarity in which direction fees will be revised. We have factored in the current 12.5% of gross transaction fees as variable technology cost in our estimates and any change in this structure will consequently lead to revision in our estimates.

0.0

20.0

40.0

60.0

80.0

100.0

CME ICE MCX Hong kong exchange

NYSE Euronext

Singapore Exchange

(%)

Transaction Fees/Rev



Valuation We like MCX for its market leadership, early mover advantage, edge in innovation, technology support from FTIL and sticky liquidity. The exchange, with eight years of operating history, is in growth phase of its life cycle with structural levers in place for upward trajectory in volumes over the long term. Recent spurt in trading volume (50% CAGR over FY09‐12) attributed to increased volatility, rise in commodity prices, launch of mini futures and ramp up in customer base, has set a higher base in FY12. With lower volatility in leading commodities YTD and visible pressure in prices of some leading commodities (including gold, silver, crude oil), we expect growth in trading volume to moderate to low double‐digit over FY12‐14E. Until a new player poses stiff competition or institutions are permitted to participate on CommEx, we expect MCX’s commission yields to stabilise. Interest income is estimated at 14% of revenues, primarily on trading margin of INR5bn and annual free operating cash flows of INR2.5bn‐3.5bn. With this, we estimate 10‐12% CAGR in revenue and profits over FY12‐14E. Based on these estimates, the stock is currently trading at 14.8x FY13E earnings. Compared with global peers, MCX’s valuations are at par with matured exchanges of developed nations and at 15‐20% discount to valuations of listed CommExes in developing markets. Our estimates/valuation do not take into consideration the following possibilities: (1) opening of option trading or participation of FIIs, MFs, banks etc; (2) revision in variable fee structure for technology cost sharing with FTIL; and (3) scale up and valuation upside from MCX‐SX. We initiate coverage with a ‘BUY/Sector Outperformer’ recommendation/rating.

Table 8: Valuation metrics of global exchanges

Source: Company, Bloomberg, Edelweiss research

Table 9: Sensitivity analysis of earnings to volume and margin

Source: Edelweiss research

M.Cap Revenue PAT EBITDA PAT

(USD mn) Current 1‐yr fwd Current 1‐yr fwd (USD mn) (USD mn) margin (%) margin (%)

MCX 860 16.0 14.8 4.8 3.9 113 54 69.5 47.3

London Stock Exchange 4,130 5.1 9.6 1.9 1.4 1,255 812 65.9 64.7

NYSE Euronext 6,350 11.1 8.9 1.0 0.9 4,552 619 27.5 13.6

NASDAQ OMX Group 3,778 8.7 7.5 0.7 0.8 3,438 387 24.5 11.3

ICE group 9,101 17.0 14.1 2.7 2.6 1,327 510 70.9 38.4

CME Group 17,534 16.0 13.8 0.8 0.8 3,281 1,812 61.6 55.2

BM&FBOVESPA 9,680 17.9 10.5 1.0 1.0 955 525 61.1 55.0

JSE SOUTH AFRICA 749 12.9 11.0 3.6 3.4 162 41 27.7 25.0

OSAKA SECURITIES EXCHANGE 1,549 19.5 ‐ 2.5 ‐ 290 79 33.6 27.4

Hong Kong Exch. & Clearing 15,469 23.5 21.5 13.1 ‐ 885 656 81.5 74.1

PE (x) PB (x)

(PAT INR mn)Operating margin 400 450 500 550 600 65066% 2,325 2,531 2,739 2,949 3,150 3,36068% 2,432 2,650 2,864 3,080 3,445 3,52070% 2,542 2,766 2,995 3,220 3,590 3,70072% 2,647 2,881 3,120 3,358 3,735 3,83074% 2,752 3,001 3,244 3,490 3,885 3,985

Average Daily Trading Volume (INR bn)

Compared with global peers, MCX’s valuations are almost at par with matured exchanges of developed nations and at 15‐20% discount to valuations of listed CommExes in developing markets



Industry Background

Commodity exchanges offer positive growth outlook Globally, commodity exchanges have posted 20% CAGR in volumes over the past 25 years. India is predominantly a commodity‐centric economy—world’s leading producer of several agri commodities and the largest consumer of gold and silver. The agri sector accounts for 16% of India’s GDP. Government regulated wholesale markets or mandis are the only organised form of spot markets for agri commodities; India has over 7,000 regulated mandis (Source: AGMIN). As of 2011, accumulated gold stock in India is estimated at ~20k tonnes, accounting for 13% of the global gold stock (Source: World Gold Council). Further, Indians account for ~20% of global gold jewellery demand. Silver is also sought as an appealing investment instrument and practical industrial commodity (used in photography, electronic and jewellery). India is also highly exposed to global oil price movements as 76% of the country’s crude oil requirement is met via import (in FY12), India imported 163 mmt and produced 37.7 mmt). Iron & steel, aluminium, and copper are the most consumed metals in the country. Annual aluminium and copper consumption stood at ~1,800k MT and ~700k MT, respectively, for CY11. However, consumption of these metals account for less than 5% of world’s consumption and with secular economic growth, we expect this proportion to rise, going forward (Source: International Aluminium Institute, JPC, World Steel Association and Edelweiss research). Table 10: Active spot commodity volumes to support futures trading

Source: World Gold Council, RBI, MoPNG, Industry Sources, Company, Edelweiss research

Such an active spot commodities market makes a strong case for huge growth potential in commodity futures trading in the country. Globally, volume in futures markets for any specific commodity tends to be in multiples of the physical production/consumption of that commodity.

Gold (tonnes) Import Consumption MCX volumeFY09 772 630 16,174 FY10 867 748 12,112 FY11 934 1,034 12,890 FY12 1,101 854 16,796

Crude Oil (bbl) Import Production MCX volumeFY08 892 250 1,436 FY09 973 246 2,838 FY10 1,167 247 3,682 FY11 1,199 276 4,631

Copper (kt) Consumption MCX volumeCY09 607 29.6 CY10 652 31.3 CY11 714 34.0



Chart 24: Globally traded commodities dominate the turnover pie (9mFY12)


Since April 2003, when the Indian government permitted futures trading in commodities, domestic commodity exchanges saw multi‐fold increase in value of commodity traded in the futures market (85% CAGR over FY04‐12 and 37% CAGR over FY07‐12 to INR 181 tn). This was primarily driven by: (a) expanding commodity basket post FY04 (till FY04, trading was allowed only in agri commodities); (b) launch of demutualised electronic national commodity exchanges MCX, NCDEX, and NMCE (facilitating price discovery); and (c) availability of electronic platform (driving liquidity). There are currently more than 60 commodity futures being traded on Indian exchanges, with gold, silver, crude oil, copper, zinc, nickel and natural gas comprising majority of volumes. During FY06‐12, market share migrated from regional exchanges (more fragmented and illiquid) to national multi‐commodity exchanges, due to higher liquidity, superior price discovery, efficient delivery mechanism and lower transaction cost. Market share of regional exchanges came off from 78% in FY04 to less than 1% in FY12. India’s secular economic growth trend (GDP growth of 8% plus) will drive the underlying demand for physical commodities. Globally, commodity trading volumes are generally in multiple of physical volumes, suggesting huge growth potential for volumes of commodity exchanges. Government of India’s initiatives to modernise the futures market is expected to further stimulate trading interest in commodity futures. Introduction of option trading, launch of new commodity futures (including intangible) and increased investor participation will also drive growth in futures volume. Over a period of time, we also expect migration from unorganised futures market or OTC products to national exchange as products become more standardised. All these make a strong case for more than 20% growth in commodity futures volumes on national exchanges in India.

Gold25%

Silver34%

Crude oil15%

Copper8%

Zinc2%

Nickel2%

Natural gas1%

Guarseed2%

R. Soy Oil2%

Mustard Seed1%

Soybean seed1%

Others7%



Company Description MCX is a demutualised nationwide electronic commodity futures exchange promoted by FTIL and has received permanent recognition from Government of India for facilitating online trading, clearing & settlement operations for futures market across the country. The exchange started operations in November 2003 and within eight years it has emerged the market leader in commodities future industry with 85% plus market share, leveraging on product and service innovations and effective use of technology.

It offers trading in 49 commodity futures and have 2,170 members on its platform, with

over 346,000 terminals including CTCL spread over 1,572 cities and towns across India.

The exchange has also emerged as the third largest and amongst the fastest growing commodity futures exchanges in the world in terms of number of contracts traded in CY11 (Source FIA). MCX has registered largest volumes (in terms of the number of contracts traded) in CY11 in silver and gold, second largest in natural gas and third largest in crude oil and copper. MCX has been certified to three ISO standards, including ISO 9001:2008 Quality Management System standard, ISO 14001:2004 Environmental Management System standard, and ISO 27001:2005 Information Security Management System standard.

Innovation: MCX’s forte Product and service innovation has been MCX’s forte, which has positioned it amongst the leading commodity exchanges in the world and at the forefront of developing the commodity futures industry in India. While the existing national exchanges (NCDEX and NMCE) and regional exchanges are focused on agri commodities, MCX, from inception (as soon as government allowed futures in non‐agri commodities), had its eyes set on global commodities such as gold, silver, metals and energy. Agri constitutes less than 2% of trading volumes while for NCDEX, it is still more than 95% and for NMCE 70%. MCX’s product development team works closely with departments that deal with the physical market and advisory committee members, with the objective of capturing most prevalent parameters and practices in commodities futures contracts. MCX became the first national exchange in India to:

• Offer futures trading in steel, crude oil, plastics, aviation turbine fuel, .995 gold and gold guinea.

• Launch the exchange of futures for physicals (EFP) in December 2009, to enable parties with futures positions to swap their positions in physical market and vice versa.

• Launch indices like MCX‐Agi, MCX‐Energy and MCX‐Metal and three rain indices RAINDEXMUM (Mumbai), RAINDEXIND (Indore) and RAINDEXJAI (Jaipur) (2005) to track progress of monsoon in respective geographical locations.

• Start evening sessions coinciding with trading on exchanges in London, New York and other major international markets.

• Enter into strategic alliance with Chicago Climate Exchange (CCX) to develop carbon credit market in India (2008).

• Offer electricity futures contracts (2009).



• Offer almond futures contracts (May 2009).

• Launch zinc mini and lead mini futures contracts to trade these commodities in smaller lot sizes (May‐June 2010).

• Launch iron ore futures contract designed to be a benchmark for Indian iron ore fines export market (January 2011).

Experienced management to aid in monetising industry potential We believe that MCX management’s knowledge and experience in the exchange industry plays a critical role in bringing product and service innovation, responding to market opportunities and adapting to regulatory changes. Mr. Jignesh Shah, non Executive Vice Chairman, has more than a decade of experience in the securities exchange industry. Mr. Lambertus Rutten, Managing Director and Chief Executive Officer, was formerly the chief of finance, risk management and information in the Commodities Branch of United Nations Conference on Trade and Development. Highly experienced and quality management team and business heads provide comfort on the company’s ability to leverage on emerging opportunities in commodity exchanges to build a scalable and profitable business.

Table 11: Key management team of MCX

Source: Company

Business supplemented by integrated infrastructure and alliance network MCX has developed exchange‐related support infrastructure and a network of alliances to grow its business, penetrate new markets, enhance product offerings and increase market presence. This includes NBHC, a national warehousing and supply chain company providing

Management team Designation Prior experienceMr. Parveen K. Singhal Dy. Managing Director Ex‐Director, Forward Markets Commission

Ex‐Executive Director & CEO, Delhi Stock Exchange Ex‐Division Chief, Securities and Exchange Board of India 34 years of experience in Executive cadre with Bank, Insurance Company, Financial Institution, Capital and Commodity Markets

Mr. Dipak D Shah Chief Market Operations Officer

Earlier associated with United India Insurance Company and GIC Mutual Fund Ex‐Officiating Executive Director of Ahmedabad Stock Exchange. Ex‐MD and CEO of OTC Exchange of India

Mr. Sumesh Parasrampuria

Chief Business Officer Earlier associated with Motilal Oswal SecuritiesOver 10 years of experience in commodities derivatives market

Mr. P. Ramanathan Company Secretary & Chief Compliance Officer

Ex‐Company Secretatry with Herdil l ia Chemicals, Cabot and Financial Technologies

Mr. Mahesh Joshi Chief Financial Officer Ex‐CFO, FTIL

Mr. P. P. Kaladharan Chief Technology Officer Earlier associated with BSE for 15 years

Mr. J.B Ram Head ‐ Membership and inspection

Worked with Edelweiss Capital Ltd. and has around 24 years of experience

Mr. Raghvendra Prasad Vice President ‐ Legal Previously working with RBI and deputed to SEBI as Deputy Legal Advisor19 years of experience in the field of law

Mr. Rajesh Bagwe VP‐ Human resource Previously worked with NSE and with Siemens Limited and has an overall experience of around 18 years



warehouse and collateral management services (discussed in detail in Annexure). This relationship provides the benefit of synergies with respect to physical settlement of commodity futures traded on its exchange. MCX has also formed strategic alliances with business associations like Dal & Besan Millers Association, Solvent Extractors Association, and Bombay Metals Exchange, and international alliances with London Metal Exchange, New York Mercantile Exchange, LIFFE, Baltic Exchange, and Taiwan Futures Exchange.

Fig. 1: MCX forging various domestic and international alliances

Source: Company

Besides, the company has invested in certain exchanges and clearing corporations, which are in different stages of business cycle. It is promoting MCX‐SX to explore opportunities in currency futures in India. MCX‐SX now plans to expand its offering to trading in new asset classes such as equities, debt, interest rates, index and exchange traded fund (discussed in detail in annexure). It has entered into a joint venture to establish Dubai Gold and Commodities Exchange (DGCX), in which it has 5% interest. DGCX, a demutualised fully electronic commodities and currency exchange based in Dubai, will provide strategic opportunities to MCX to expand its reach in the Middle East. It also owns 26% in MCX‐SX CCL, which performs clearing and settlement functions of MCX‐SX.

MCX

DomesticAlliances

International Alliances

Bombay Metals Exchange

Industry association for pulses

The Solvent Extractors Association of India

Dal & Besan Millers Association

Baltic Exchange

NYMEX CME( WTI Crude Oil , Natural Gas )

LME(Aluminium, Lead, Zinc, Tin, nickel )

Taiwan Futures Exchange



Fig. 2: MCX’s interests in various exchanges and clearing corporations

Source: Company

Note: MCX holds 634.2 mn warrants in MCX‐SX

MCX‐SX In FY09, MCX made an investment in MCX‐SX in response to the government’s progressive move of allowing currency derivatives in India. Its currency futures trading platform went live on October 6, 2008, (NSE started currency derivatives in August 2008) and within a short span of time has notched up extraordinary success in currency derivatives with daily trading turnover growing 14x, from INR13bn in FY08 to INR 110 bn currently. MCX‐SX has taken competition head‐on with the undisputed stock exchange leader, NSE, in the currency derivatives market, and now almost shares an equal pie (55:45 in FY10) with it. It has 752 members with terminals spread across 674 cities. To meet shareholding compliance under SEBI (Manner of Increasing and Maintaining Public Shareholding in Recognised Exchanges) Regulations, 2006 (MIMPS Regulations), as per which no single entity (except stock exchanges, depositories, banks, insurance companies and public financial institutions) can hold more than 5% in a stock exchange, MCX and FTIL have divested their stakes in MCX‐SX to 5% each via primary and secondary placements to banks and financial institutions. It also holds 634.2 mn warrants in the company. Supreme Court in its recent decision has asked SEBI to consider afresh amendment to its MIMPS regulation (without being influenced by observations made by Bombay High Court) and re‐consider a plea submitted by MCX‐SX within three months.

NBHC NBHC is an end‐to‐end solutions provider in various commodities and collateral management, including procurement, warehousing, bulk handling, grading and quality certification, commodity care and pest management, audit, accreditation and commodity valuation, trade consultancy and disposal of commodities. As of March 31, 2011, NBHC is one of FTIL’s group companies, with the latter holding 92.7% stake. NBHC manages a

MCX

MCX-SX(5 %)

MCX-SX CCL(26 %)

MCX CCL(100 %)

DGCX(5 %)



network of storage facilities including warehouses and cold storages on a lease and franchisee model across India. As part of its operations, the company issues warehousing receipts that its customers can use as collateral to obtain funding. It provides warehousing and space to MCX for storage of various agricultural commodities.

MCX‐SX Clearing Corporation Having started operations in the first quarter of 2009, it provides clearing services with counter party guarantee. With 57 clearing members, including banks and large corporate members, the new venture clears trades of over 400 members.



Financial Statements

Income Statement (INR mn)Year to March FY10 FY11 FY12 FY13E FY14ERevenues 3,566 4,473 6,289 6,789 7,686‐ Transaction Fee 2,641 3,495 5,065 5,428 6,186‐ Membership Fee/Terminal charges 233 194 197 211 221‐ VSAT Connectivity Inc 63 41 43 44 45‐ Interest & Dividend & Investment Income 467 550 830 945 1,066‐ Other Income 163 193 154 161 168Operating expenses 1,458 1,771 1,915 2,008 2,193‐ Employee Cost 218 264 280 287 328‐ Technololgy Costs 417 573 789 834 933‐ Advt. & Business Development 190 240 156 165 174‐ Admin & Other Expenses 634 695 691 722 758Operating margin 2,109 2,702 4,374 4,781 5,493Depreciation & Amortization 247 247 272 297 316EBIT 1,861 2,455 4,102 4,484 5,178PBT 1,861 2,455 4,102 4,484 5,178Investment Income (Sale of Strategic Investments) 1,369 0 0 0 0PBT including extraordinary income 3,230 2,455 4,102 4,484 5,178Tax 1,024 727 1,125 1,255 1,450PAT 2,206 1,728 2,977 3,228 3,728Impact of prior period (2) 29 (115) ‐ ‐ Net profit (reported) 2,204 1,757 2,862 3,228 3,728Diluted EPS (INR) 27.0 33.9 58.4 63.3 73.1 DPS (INR) 3 5 24 16 18Dividend payout 9 15 41 25 25

Growth ratios (%)Year to March FY10 FY11 FY12 FY13E FY14ERevenue growth 21.7 25.4 40.6 7.9 13.2‐ Transaction fee growth 41.9 32.4 44.9 7.2 14.0Opex growth 7.6 21.5 8.1 4.8 9.2Operating margin growth 33.8 28.1 61.9 9.3 14.9PBT growth 35.3 31.9 67.1 9.3 15.5PAT growth 38.3 (20.3) 62.8 12.8 15.5

Operating ratios (%)Year to March FY10 FY11 FY12 FY13E FY14EOperating margin 59.1 60.4 69.5 70.4 71.5PAT margin 61.9 38.6 47.3 47.6 48.5Employee cost/revenues 6.1 5.9 4.4 4.2 4.3Technology cost/revenues 11.7 12.8 12.5 12.3 12.1Opex/revenues 40.9 39.6 30.5 29.6 28.5Tax rate 31.7 29.6 27.4 28.0 28.0



Note: MCX reversed INR 142 mn of penalties collected from customers in FY12 ‐ mandated by

FMC to be transferred to Investor’s Protection Fund

Balance sheet (INR mn)As on 31st March FY10 FY11 FY12 FY13E FY14ELiabilitiesEquity Capital 408 510 510 510 510Reserves (excluding revaluation reserves) 6,562 7,975 9,460 11,744 14,382Net Worth 6,970 8,485 9,970 12,254 14,892Deferred Tax Liabil ity (Asset) 106 127 151 176 205Total 7,076 8,612 10,121 12,430 15,097‐ Gross Block 2,681 2,917 3,112 3,262 3,407‐ Depreciation 754 964 1,235 1,532 1,848‐ Net Block 1,928 1,953 1,877 1,730 1,559Investment 6,172 8,236 11,502 13,002 15,302Current Assets 4,190 4,808 4,743 5,845 6,872‐ Cash and Bank Balance 479 612 588 961 1,405‐ Fixed Deposits 2,221 2,698 2,598 3,048 3,498‐ Sundry debtors 304 489 514 717 817‐ Loan & advances 1,108 897 906 955 955‐ other current assets 78 113 137 164 197Current Liabil ities 4,914 6,045 6,431 7,002 7,346‐ Security Deposits 113 105 110 110 110‐ Networking Equipment Deposits 26 15 15 15 15‐ Trading Margin from Members 4,082 5,283 5,568 6,102 6,407‐ Other Current l iabil ities 693 642 739 775 814Net Current Assets (724) (1,236) (1,688) (1,157) (474) Provisions 300 341 1,570 1,144 1,290Total 7,076 8,612 10,121 12,430 15,097

Key operating metricsYear to March FY10 FY11 FY12 FY13E FY14EAverage Daily Trading Volumes 208.3 320.6 503.1 545.6 623.7 ‐ Gold 62.6 80.4 137.6 149.0 172.2 ‐ Silver 37.2 87.9 186.9 185.2 213.9 ‐ Crude Oil 50.3 66.7 86.9 94.3 105.8 ‐ Agri 2.3 3.7 6.4 9.0 11.7 ‐ Others 55.8 81.7 85.3 108.2 120.2 Commission yields 2.0 1.8 1.6 1.6 1.6 # of members 2,070 2,119 2,170 2,222 2,286 # of employees 341 333 240 250 250 # of terminals 117,124 194,400 346,000 397,900 437,690

Valuation metricsYear to March FY10 FY11 FY12 FY13E FY14EDiluted EPS (INR) 27.0 33.9 58.4 63.3 73.1 EPS growth (%) 39.6 25.3 72.3 8.4 15.5 Book value per share (INR) 85.4 166.4 195.5 240.3 292.0 RoE (%) 37.0 22.7 31.0 29.1 27.5 Diluted P/E (x) 34.6 27.6 16.0 14.8 12.8 Price/ BV (x) 10.9 5.6 4.8 3.9 3.2 Dividend yield (%) 0.3 0.5 2.6 1.7 2.0


Company Absolute

reco

Relative

reco

Relative

risk

Company Absolute

reco

Relative

reco

Relative

Risk

Allahabad Bank REDUCE SU H Axis Bank BUY SO M

Bank of Baroda HOLD SP L Federal Bank BUY SO M

HDFC HOLD SP L HDFC Bank HOLD SP L

ICICI Bank BUY SO L Indian Overseas Bank HOLD SU H

Infrastructure Development Finance Co

Ltd

BUY SO M ING Vysya BUY SO M

Karnataka Bank BUY SO L Kotak Mahindra Bank REDUCE SU L

LIC Housing Finance HOLD SP M Mahindra & Mahindra Financial

Services

BUY SO M

Manappuram General Finance HOLD SU M Oriental Bank Of Commerce BUY SO H

Power Finance Corp BUY SO L Punjab National Bank REDUCE SU M

Reliance Capital BUY SO M Rural Electrification Corporation BUY SO L

Shriram City Union Finance BUY SO H South Indian Bank HOLD SP M

State Bank of India HOLD SP M Union Bank Of India HOLD SP H

Yes Bank BUY SO M

RATING & INTERPRETATION

ABSOLUTE RATING

Ratings Expected absolute returns over 12 months

Buy More than 15%

Hold Between 15% and - 5%

Reduce Less than -5%

RELATIVE RETURNS RATING

Ratings Criteria

Sector Outperformer (SO) Stock return > 1.25 x Sector return

Sector Performer (SP) Stock return > 0.75 x Sector return

Stock return < 1.25 x Sector return

Sector Underperformer (SU) Stock return < 0.75 x Sector return

Sector return is market cap weighted average return for the coverage universe within the sector

RELATIVE RISK RATING

Ratings Criteria

Low (L) Bottom 1/3rd percentile in the sector

Medium (M) Middle 1/3rd percentile in the sector

High (H) Top 1/3rd percentile in the sector

Risk ratings are based on Edelweiss risk model

SECTOR RATING

Ratings Criteria

Overweight (OW) Sector return > 1.25 x Nifty return

Equalweight (EW) Sector return > 0.75 x Nifty return

Sector return < 1.25 x Nifty return

Underweight (UW) Sector return < 0.75 x Nifty return



Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098. Board: (91‐22) 4009 4400, Email: [email protected]

Vikas Khemani Head Institutional Equities [email protected] +91 22 2286 4206

Nischal Maheshwari Co‐Head Institutional Equities & Head, Research [email protected] +91 22 4063 5476

Coverage group(s) of stocks by primary analyst(s): Banking and Financial Services Allahabad Bank, Axis Bank, Bank of Baroda, Federal Bank, HDFC, HDFC Bank, ICICI Bank, Infrastructure Development Finance Co Ltd, Indian Overseas Bank, Karnataka Bank, Kotak Mahindra Bank, LIC Housing Finance, Manappuram General Finance, Mahindra & Mahindra Financial Services, Oriental Bank Of Commerce, Punjab National Bank, Power Finance Corp, Reliance Capital, Rural Electrification Corporation, State Bank of India, Shriram City Union Finance, South Indian Bank, Union Bank Of India, ING Vysya, Yes Bank

Distribution of Ratings / Market Cap

Edelweiss Research Coverage Universe

Rating Distribution* 104 60 18 183* 1 stocks under review

Market Cap (INR) 114 58 11

Date Company Title Price (INR) Recos

Recent Research

31‐May‐12 Axis Bank The axiom of profitable growth; Visit Note

1,001 Buy

24‐May‐12 Rural Electrification Corporation

In fine fettle, but restructuring rears its head; Result Update

171 Buy

22‐May‐12 Reliance Capital

Stake sale and consolidation boosts PAT; Result Update

308 Buy

> 50bn Between 10bn and 50 bn < 10bn

Buy Hold Reduce Total

Rating Interpretation

Buy appreciate more than 15% over a 12‐month period

Hold appreciate up to 15% over a 12‐month period

Reduce depreciate more than 5% over a 12‐month period

Rating Expected to


Rural Electrification Corporation

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