Q4 2019 Earnings Call
To welcome everyone to the Virtus investment partners.
The conference call. This slide presentation for this call is available in the Investor Relations section of the various website www dot dot com.
This call is also being recorded and will be available for replay on the greatest website.
At this time, all participants I know listen only mode. After the speaker's remarks, there will be question and answer period and instructions will follow at that time.
I'll now turn the conference Dallas, Sean Arc.
Thank you and good morning, everyone on behalf of Virtus investment partners would like to welcome you to the discussion or operating and financial results for the fourth quarter of 29 team.
Our speakers today are Georgia, <unk>, President and CEO will do this.
And Mike Ingersoll, Chief Financial Officer.
Following their prepared remarks, we'll have a Q.
Before we begin I direct your attention to the important disclosures on page two.
Slide presentation that accompanies this webcast.
Certain matters discussed in this call may contain forward looking statements.
Then the meeting of the private Securities Litigation Reform Act of 1995.
And as such are subject to known and unknown risks.
And uncertainties, including but not limited to those factors set forth in today's news release.
Disgusting unless you see filings.
The risks and uncertainties may cause actual results to differ materially from those discussed in the statements.
In addition to results presented on a GAAP basis, we use certain non-GAAP measures to evaluate our financial results for non-GAAP financial measures are not substitutes for GAAP financial results.
It should be read in conjunction with a GAAP results.
Reconciliations of these non-GAAP financial measures to the applicable GAAP measures are included in today's news release and financial supplement.
Which are available on our website.
Now I'd like to turn the call over to George George Thank you, Sean Good morning, everyone.
Our fourth quarter results were strong across the key measures of performance and included positive net flows are highest level of revenues and earnings per share an increased operating margin consistently strong investment performance and increase return of capital and continued reduction in debt levels.
We're especially pleased to be returned to organic growth in the fourth quarter with contributions from retail separate accounts institutional a neat yes.
Coupons weren't outflows due the bank loans.
There were favorable underlying trends, including strong positive net flows in both domestic and international equity.
These trends reflect the distinctive and differentiated nature of our investment strategies, many of which are high conviction or quality oriented portfolios delivering compelling investment performance, making them attractive to retail and institutional clients.
Now, let me turn to results for the quarter.
Long term assets under management reached their highest level at a 107.7 billion due to market appreciation in positive net flows.
Total access which include liquidity strategies ended the period at 108.9 billion.
Total sales of 4.8 billion were unchanged from the prior quarter as higher sales of retail separate accounts institutional money, yes, well offset by lower open end fund sales as a reminder fund sales in the third quarter benefited from model wins, and Reallocations, excluding which phone sales worse sequentially flat.
Total net flows were positive point 3 billion, representing an annualized organic growth rate of 1.3%.
The net flows were significant improvement from net outflows in the third quarter, which were largely due to a single institutional client redemption.
Looking at specific products retail separate accounts have positive net flows in both intermedia resold in private client totaling point 6 billion.
Each media resell channel has now generated 16 consecutive quarters of positive net flows.
Institutional net flows were positive point 1 billion suitable tire sales and lower redemptions significant improvement from net outflows in the prior quarter due to the large client redemption.
He has a positive net flows for the fourth consecutive quarter with strong sequential growth in sales and stable redemptions.
Open end fund net flows as he indicated were negative primarily due to loan strategies, although equity strategies continue to generate positive flows.
In terms, what we're seeing in January.
Equal fund flows turned positive with broad based positive flows equity strategies, and moderating outflows and bank loans.
No we've seen a marked increase in the average daily mutual fund sales over the fourth quarter and daily net flows in the month have been consistently positive.
Favorable trends also continue in retail separate accounts where flows remain positive.
On the institutional side mandates that had been won but not funded currently exceed known redemptions and we're pleased with the increased traction in institutional activities.
As we've noted in the past, we've been making investments in our institutional business, which is contributing to the momentum.
Lastly, the CLL that we indicated was being warehouse during the fourth quarter closed last week and contributed point 4 billion of assets in January.
Moving to the financial results operating income as suggested increased 5% sequentially and the related margin rose 150 basis points to 39%, reflecting strong revenue growth disciplined expense management and the inherent leverage ability of the business.
Earnings per share as adjusted for Dolls, and 32 cents were up 7% in the third quarter with the increase due to both higher investment management fees and lower employment expenses compared with the prior year period fourth quarter earnings per share as adjusted decreased 26%.
Turning now to capital.
We continued our balanced approach to capital management across the priorities of investing in the business returning capital to shareholders and managing our leverage.
During the quarter, we repurchased approximately 86000 common shares were about 1.2% of shares outstanding and continue the consistent pay down of our term loan ending the quarter with net debt to bank EBITDA, a 0.3 times.
And as Mike will discuss in detail or Mandatorily convertible preferred stock will convert to common next week, which will eliminate preferred dividends and increase liquidity ever comes down.
With that I'll turn the call over to Mike to provide more detail on the results Mike.
Thank you George good morning, everyone.
Starting with our results on slide seven assets under management.
At December 31st long term assets were 107.7 billion up 5% from 102.8 billion.
At September Thirtyth.
Up 19% from 19.4 billion in the prior year.
The sequential increase reflected 4.9 billion of market appreciation and point Threebillion of positive net flows.
Assets continued to be diversified by product type with open end funds institutional and retail separate accounts, representing approximately 40%, 30% at 20% respectively.
I would note that retail separate accounts continue to be a significant area of growth.
Up 1.6 billion or 8% sequentially.
At 5.4 billion for 36% over the prior year.
In terms of asset classes market appreciation and positive flows have increased equity assets to 66% them at the total.
With 75% of domestic equity and 25% international.
Domestic equity assets are comprised of diverse strategies.
And a well balanced among large cap mid cabin small cap at approximately 40%, 20% at 40% respectively.
I would point out that mid Cafe, you web continues to grow within the mix.
Increasing 14% sequentially to 11.1 billion.
And 60, 60% over the prior year.
Turning to slide eight asset flows.
Net flows were positive point 3 billion in the fourth quarter, a meaningful improvement from 1.1 billion of net outflows in the third quarter.
Positive net flows were driven by retail separate accounts institutional any T.S., partially offset by open end fund net outflows.
Total sales were 4.8 billion flat sequentially.
As higher sales and retail separate accounts institutional any T.S. were offset by lower open end fund sales.
Fun sale, the 2.3 billion declined point 6 billion or 21% <unk> third quarter sales included approximately point 6 billion of model flows.
Excluding those fund sales were essentially unchanged sequentially.
Retail separate account sales of 1 billion were up 24% sequentially with growth in both the intermediary sold and private client channels.
Institutional sales increased by 8.4 billion or 45% from the third quarter, primarily due to the funding of new mandates across multiple affiliates.
Looking at open end fund flows by asset class.
Equity funds had positive net flows of point 2 billion [laughter] compared with point Threebillion in the third quarter.
Domestic equity net flows are modestly positive similar to last quarter strong net flows for mid cap strategies were partially offset by net outflows in both small and large cap.
Mid cap equity funds generated point 2 billion of positive flows in the quarter, reflecting an annualized organic growth rate of 22%. This continues our strong trend from mid cap products.
International equity funds had positive net flows and point 2 billion due to strong inflows into developed market strategies with developed markets sales up 32% sequentially.
For fixed income funds bank weren't strategies with the primary driver of net outflows of point 6 billion.
[noise], we continue to generate strong relative investment performance across our strategies.
As of December 30, Onest, approximately 86% of rated fund assets had four or five stars.
And 98% of rated retail Sunday, you add more in three four or five stars.
We currently have nine loans with a you and the 1 billion or more.
And all are rated four or five stars repping, representing a diverse set of strategies.
I'm five different affiliates.
In addition to this very strong fund performance, 93% of institutional assets were beating their benchmarks on a five year basis as of December 31st.
And 68% of assets were exceeding the median performance of their peer groups on the same five year basis.
Turning to slide nine.
Revenues as adjusted were 128.4 million up 1.3 million or 1% sequentially.
Investment management fees as adjusted of 113 million increased 1.4 million or 1% sequentially.
And 10 million or 10% from the prior year period.
The sequential increase in investment management fees is due to a 1% increase in long term average assets under management.
Had a modestly higher average fee rate.
Management fees for the quarter included 1.1 million in performance related fees generally consistent with 1.2 million in the prior quarter.
For the full year 2019 performance related fees totaled 2.8 million.
The average fee rate on long term assets for the quarter increased to 47 basis points up 0.1 basis point from 46.9 in the prior quarter.
And up 1.4 basis points from the prior year period.
With respect to open end funds the fee rate increased to 57.4 basis points from 56.6 in the third quarter, reflecting the impact of favorable equity returns on the level of equity assets.
And the ongoing positive fee rate differential between sales and redemptions.
This quarter the blended fee rate on fund sales was 61 basis points, while the rate redemptions was 51 basis points.
[noise]. This marks the 15th consecutive quarter that the rate on fund sales has exceeded the rate on redemptions.
One thing I would point out is that effective this quarter, we have recast investment management fees as adjusted to reflect the pass through nature of some of the fees we are.
The change impacts individual lines within revenues as adjusted but not total revenues as adjusted the changes not economic and has no effect on our non-GAAP measures for operating income the operating margin for earnings per share.
Slide 10 shows the five quarter trend in employment expenses total employment expenses as adjusted of 58.8 million decreased 2% sequentially.
The decrease reflects lower variable incentive compensation in the quarter.
Employment expenses represented 45.8% of revenues as adjusted down 140 basis points sequentially.
A significant portion of the revenue growth in the quarter was attributable to market appreciation.
And therefore had lower levels of variable compensation.
For modeling purposes, we believe employment expenses at a quarterly range of 46% to 48% of revenues as adjusted is reasonable.
All else being equal.
No. This range excludes the impact of first quarter seasonal items.
As a reminder, in the first quarter, we will incur higher levels of payroll taxes and other benefits.
Which may be approximately 10% above the 7.5 million of items recorded in the first quarter last year.
[noise] turning to slide 11, other operating expenses as adjusted were 18.2 million essentially flat compared with the prior quarter and within the range. We had previously cited.
As a percentage of revenues other operating expenses were 15.1% for the full year essentially unchanged with the prior year.
Reflecting a disciplined approach to expense management.
Looking ahead, we believe that a reasonable range for.
2020 operating expenses as adjusted his 18 to 20 million per quarter, reflecting investments in had growth of the business.
For modeling purposes keep in mind that second quarter results are impacted by our annual equity grants to the board of directors.
Slide 12 illustrates the trend in earnings.
Operating income as adjusted of 50.1 million increase 2.4 million four or 5% sequentially, primarily due to higher revenues as adjusted.
At a lower employment expenses as adjusted compared with the third quarter.
The operating margin is adjusted for the quarter was 39%.
An increase of 150 basis points sequentially, and 410 basis points higher than the prior year period.
The effective tax rate as adjusted for the quarter was 27% stable with the prior quarter at a reasonable run rate for modeling purposes.
Yeah.
Net income as adjusted afford Dollarsthirty two cents per diluted share increased 29 cents or 7% sequentially.
Regarding GAAP results fourth quarter net income per share was $2.83 compared with $2.95 in the third quarter.
Fourth quarter net of tax GAAP earnings per share included the following items.
71 cents due to the increase in the liability for the fair value adjustments to the affiliate minority interests in excess of carrying value.
31 cents of net realized and unrealized losses on investments and 11 cents of other costs, primarily comprised of acquisition and integration expenses.
[noise] slide 13 shows the trend of our capital position and related liquidity metrics.
Working capital at December 30, Onest of 160 million increased 2 million or 1% sequentially, primarily reflecting operating earnings partially offset by debt repayments and return of capital to shareholders.
Gross debt outstanding at December 31st was 286 million.
As we repaid 15 million during the quarter.
The net debt to EBITDA ratio of 0.3 times at December 30, Onest was down from 0.5 times at September Thirtyth.
Down from 0.7 times, a year ago due to EBITDA growth at a higher cash balance.
Gross debt to EBITDA was 1.4 times, a year end down from 1.6 times in the prior year period.
Regarding return of capital to shareholders, we repurchased approximately 86000 shares of common stock for 10 million, representing 1.2% of beginning of quarter total outstanding shares.
And that settled an additional 8000 shares for 1 million.
For the full year, we repurchased 372000 shares representing 5.3% of beginning shares outstanding.
On a net basis common shares outstanding declined 2.7%.
During 2019.
One additional item of economic value to note.
Our intangible assets that will continue to provide a cash tax benefit of approximately 10 million per year at current tax rates over the next 14 years.
Finally, as announced in the press release yesterday.
Mandatorily convertible preferred stock will convert to common stock and be available to commence trading on Tuesday February four.
Based on the final conversion rate of 0.7938.
Her preferred share.
Nine isn't 12870 common shares will be issued.
Modestly below the 956000 in our fully diluted share count at year end.
Making pro forma common shares outstanding as adjusted 7.7 to 2 million.
At December 31st.
Importantly, while the conversion has a small favorable impact on the shares used to calculate EPS as adjusted it will increase the market's load of our common shares by approximately 13%.
The conversion will also have the effective increasing our annual available free cash flow by approximately 6 million.
With that let me turn the call back over to George George Thanks, Mike will not take your questions. Joe can you open a blind please.
Thank you to ask a question you will need to press star one on your telephone to withdraw your question press the pound key please stand by Bobby compiled the candidate roster.
Our first question comes from summit multi with Piper sand.
Your line is now open.
Thanks, Good morning, guys.
Good to see a reversal back.
Inflows for the for the institutional products just wanted to get a feel for the pipeline, maybe what you're seeing with gross outflows in particular with this quarter being a bit lower than we've seen.
In the last couple of years, while still including a large client redemption, Howard how you're viewing the expected pace of gross redemption.
The quarters.
Yeah. He just some color that will help might give some detail so.
Our institutional business.
Which we've spent a lot of time and effort and resources due to grow we're starting to see some of the out outcomes and positives of the work in the resource that we put behind it that it is still on a relatively basis more if we see that volatility in terms of the inflows and outflows, which again is inherently me.
Situational and particularly you know at smaller side. So we're happy to see the yield the outflow rates starting to get better and as we sort of indicated the traction we're seeing in terms of mandates on these two final side has been very positive right. So you go back to the last few years you know we would periodically a once in every other core.
Peter speak about one win at one manager than you heard it started to speak about multiple managers.
And now we're seeing more consistency in terms of at least you know the finals, Andy and the semifinals activities, which are obviously precursors ultimately to win so we sort of pleased to see the traction gaining we have still ground you know that we want to cover to get to more consistency, but generally you know that's walden positive Mike Yeah no.
I think you covered a lot I mean, as you know redemptions on institutional do vary significantly from period to period as its an inherently uneven business I think the rate that we've seen over the past four quarters is approximately a 20% redemption rate which is.
It is as good a rate as any from a modeling perspective.
As George indicated I think the traction that we're seeing on the on the pipeline right now is.
Advancing at a bit more positive perspective, then known redemption. So.
We're pleased that they are solid diversity across strategies in affiliate.
Great. Thank you and then just one quick follow up on capital deployment priorities going forward, particularly the M&A considering that debt levels continue to March lower and what's the appetite today, maybe bringing on new affiliates. That's something you guys are considering.
Sure well he just in terms of capital. So what we're continue to generate very strong levels of free cash flow and as we've always said, we're balancing the existing capital that we have on our balance sheet.
In our current very low levels of debt in terms of what is the best opportunity. So you know we've generally approach you know consistently paying down our debt, which was again repeat this quarter in terms of stock repurchases again, you can sort of look through the cycles of what we've done in terms of repurchasing stock in turn.
As of alternative uses which again include you know launching new products and generating future growth to be a one of the things that.
Very very heartening to see is some of our best flows that we've been seeing in the fourth quarter as well as in I alluded to January our products that were ceded not too long ago. So a lot of our revenue in our growth is coming from the appropriate use of capital to generate new capabilities in new products and yours.
You are going to see that in some of the product structures like Usats and obviously, you've seen any T.S. as well in terms of M&A again, our long term success is not predicated upon you know continual M&A. However, we do you have that as a tool available to us in those instances, where there is either a capability that we believe can be.
Additive or there is another transaction that we think can have strategic and financially compelling returns for the shareholders. So we're very disciplined as we look at it again, we look at as many things as anyone else is probably looking at and if the right opportunity arose we would absolutely evaluated.
You know in relation to know any other opportunities that we have.
Hi, great. Thanks, guys I'll hop back in Q.
Thank you.
Thank you next question comes from Jeremy Campbell with Barclays. Your line is now open.
Great. Thanks, guys, George it's going to hop on your color just there for that last question.
Can you, maybe just give a little bit of color about how you're thinking about balancing.
M&A versus now with your increase kind of float in the public shares and maybe like the relative valuations from what you're seeing in the pipe and then crossing the tape in the private markets and what acquisitions, what makes sense versus just sitting here with your cash building and just buying up your stock now, but you have a more public public what more liquidity.
Yeah. So great question. So in terms of you know with the conversion of the preferred as you know there will be about 13 percentage lift in the shares available in the public market again because of our relative size in the amount of shares trading I do think that has had negative impacts you know on the efficiency of the trading of our stock.
And the relative valuation so one of the things that we do out obviously consider as we go through the repurchase decisions is.
Very sensitive to the amount of shares that are available for shareholders should take meaningful positions and then exit them in a reasonable period of time. So the increasing of that will will definitely be beneficial and as you point out you know we are generating cash. We are you know a accumulating cash and working.
Capital on the balance sheet and we've we still haven't we're still in a net debt position a and we do think maintaining very manageable levels of debt is appropriate for probably at the lower end compared to two others at this point, which which again gives us.
The the flexibility protection in terms of down markets as well as flexibility in terms of looking at things and you're also looking through the last one in M&A you know one of the challenges is that the the the public multiples in the private multiples still do have a disconnect.
Which is sort of what I would looting too is we really think about it we really sort of how to think about strategically long term and creating value for those transactions that would make sense. We definitely think about it or you know obviously, obviously our view is that the the multiples that a publicly traded managers are trading at our not in line with historical.
So multiples so we look at it long term, we look at it what is the right way to build value for the future.
In terms of that but again, we're disciplined in terms of out we assess those alternatives.
And then I discussed how would you characterize you know the availability of you know companies coming up for potential transactions on the M&A side is it is stronger so far this year or is that a little bit more faded I mean, just relative to either 2018 or or prior years.
Yes, you know each year is sort of a little different there's always a.
The level of activity going on and they generally will will swing from you know either one asset class a one category to another so there's really two two sides of the equation is the supply and the demand.
I do think that you know you know in any environment, where fees are decreasing costs are increasing right. A lot of firms have to sort of think about particularly in the smaller end you know will they be better or partnering I think the better firms or not and situation, where they have to do something but they'll certainly can consume.
Looking at that and then on the demand side, you know there or are you know probably fewer firms that have the financial flexibility or to be in the market. So you know sort of ebbs and flows but there certainly I you know activity continues in that market, even though you haven't seen a lot of.
Press releases I think there's a lot of dialogues going on and we make sure we're in the flow of everything.
Great. Thanks, a lot.
<unk>.
Thank you.
My there to ask a question you want me to press Star one telephone.
Next question comes from Michael Cypress with Morgan Stanley. Your line is now open.
Hi, this is actually Stephanie filling in for Mike.
We wanted to dig into the operating margins of bad So the margin expansion. This quarter I was a positive surprise and for the past several quarters actually just.
And you get very helpful guidance for 2020 expenses, but just where do you think you can operate over the next year or two how do you think that trends and then maybe more generally how would you framed the flexibility in the cost base. If we start to see a pullback in the markets.
Yes, I'll start.
We haven't got Holistically is is we tried to be very disciplined in terms of managing our expenses right. We don't have any control over the markets and we don't have control over the investor preferences in any given point in time and you know.
In particularly like after the fourth quarter, you know, we tried to be very prudent.
In terms of how we think about investing in the timing of expenditures and all that so and are because costs. Obviously people costs. So I I like to thank you. We are very very prudent in terms of managing those expenses to the extent that we have levels of control, but the same time. The most important thing for US do is to create value and ultimately made.
Investments so so we do sort of.
Look at our margin and make sure that we think it's reasonable given the environment that we're operating in and the growth. We're trying to create so Mike you want to yeah, I think thats a good segue certainly market conditions will albeit driving factor in.
Incremental profitability, if you look at the incremental margins over the last 12 months or so generally in line with a 50, 55% incremental margin level that we've been talking about historically.
We gave some insight into how we're thinking about 2020, and certainly different market environments can have an impact on that as well as other variables like levels of Commissionable sales and.
Some of the investments on the other operating expense line item that we alluded to that we continue to make in the business to.
Address the growth in the business and.
Continued investments in areas to drive efficiency on the cost side.
Great very helpful. Thank you.
Thank you. This concludes our question and answer session I would now like to turn the conference back over to Mr. word.
[noise] Joelle looks like we have one more question.
And our next question will come from Michael Carroll with Bank of America.
And this album.
Hey, good morning, guys. This actually Sameer murukutla on for Michael Sorry, I thought it wasn't the Q a you don't want to piggyback on me and Jeremys question, just a little bit you know how are you guys are allocating your time and resources I guess in terms of products and distribution channel and I and any additional color you gave on maybe.
Sorry gaps of growth opportunities that might be addressed organically or via M&A.
Sure.
A lot of our focus is continuously working on organic opportunities right. So.
Over the if you look as if the landscape of the stuff that we've really focusing on less three or four years, it's always been all about.
Expanding the number of product structures, we have available to to access other potential markets of clients. So the usage the Ts commingled investment trusts, we've been investing in selectively in resources to help support growth of you know our strong strategies in the.
Situational marketplace.
So we always focus on that organic growth of our current affiliates and the support that we concurrently bring to them. So you know we're spending a lot of time that area and if you sort of look at the more active you have less two or three years or has been outside of mutual funds. It's been in the world.
Sure funds, it's been in the institutional so that continues to be great focus, but at any point in time, we are always actively evaluating any kinds of inorganic opportunities to see how they fit right. So it's something that can be additive from the capability that we can then put through the various product structures and distribution.
Rentals is a diversification we we think it's important you know to continue to look to ways to diversify you know our business away from traditional asset classes worker places, where we currently have that so so they're they're always both part and parcel of the process.
Where we spend our time and we're making I personally spend our time, but there's always a huge amount of that time spent on making sure that we have plans in place and our investments are being made continually organically grow the business and then to us the M&A pieces. The complement right that you can sort of add to that we don't want it.
At our future on on the level of it M&A in successive M&A, it's all about having a strategy to grow that which we have.
Perfect and just one follow up.
I understand that that there's a balance between you not being prudent on expenses and investing in the business, but assuming the current environment you guys have though overall long term expense growth that you guys look at that you're comfortable with.
Well, we look at well, it's got a couple ways I mean, a you know going back to the margin question you know I.
I speak for all of US probably we really think a lot about what is the appropriate level of margin that we think that we should be generating for the shareholders right and within that how much of that should be earmarked for the necessary investments in future growth. So you know we sort of try to hopefully you know balance all those things together is to make sure that we're making the.
Right investments in the future of the business in the growth, but the same time.
Having a margin that we think is appropriate given what the expectations would be Mike do you want to add anything so yeah. I think it's again just supporting the earlier discussion around incremental margins and balancing investing in the business.
With that achieving appropriate levels of growth and profitability.
Having the margin expansion, both sequentially and year over year.
We think is reflective of that.
Okay. Thank you.
Thank you. This concludes our question and answer session I would now like to turn the conference back over to Mr. downward.
Thanks, Joel I want to thank everyone today for joining us and encourage you to close we have any further questions. Thank you very much.
This concludes today's call. Thank you for participating you may now disconnect.
[music].