DST SYSTEMS, INC. Taking into account certain non-GAAP adjustments, consolidated net income was $53.9 million ($1.49 per diluted share) for third quarter 2015 compared to $61.2 million ($1.54 per diluted share) for third quarter 2014, and $157.9 million ($4.28 per diluted share) for the nine months ended September 30, 2015 compared to $158.2 million ($3.85 per diluted share) for the nine months ended September 30, 2014.
'We are pleased with our performance during the quarter and are continuing to take steps to enhance our capabilities and create value over the long-term. We remain focused on improving the operating margins in all of our segments through a combination of revenue growth and the realization of operating efficiencies,' said Steve Hooley, Chairman, CEO and President of DST.
'We are confident that we have the right strategy in place and the right team executing in order to deliver on our objectives. We expect to continue to drive revenue growth through our core operations, as well as through targeted acquisitions such as the two completed during the quarter.'
Third quarter 2015 diluted earnings per share, after non-GAAP adjustments, was $1.49, a decrease of $0.05 or 3.2% from third quarter 2014. Significant items impacting the quarterly results include the following:
Consolidated operating revenues (excluding out-of-pocket reimbursements) decreased $7.9 million or 1.5% to $502.6 million as compared to third quarter 2014, primarily due to the sale of DST Global Solutions Ltd. ('Global Solutions') in fourth quarter 2014 and $11.4 million of negative foreign currency movements. Excluding Global Solutions third quarter 2014 operating revenues and foreign currency impacts, consolidated operating revenues increased $22.9 million or 4.7% in third quarter 2015 as compared to 2014.
Consolidated income from operations decreased $10.7 million or 12.4% to $75.7 million as compared to third quarter 2014. The sale of Global Solutions resulted in a decline in income from operations of $4.6 million as compared to prior year results. The remaining decline in operating income is principally from increased costs incurred to expand the Company's service offerings, enhance our security and infrastructure and service new clients.
Weighted average diluted shares outstanding for third quarter 2015 were 36.2 million, a decrease of 3.6 million shares or 9.0% from third quarter 2014, primarily as a result of share repurchases during 2014 and 2015.
Monetization and Share Repurchase ActivityDST received $22.0 million of pretax cash proceeds from the monetization of investment assets during third quarter 2015, consisting of $19.3 million from private equity investment distributions, $2.3 million from the sale of marketable securities and $0.4 million from the sale of real estate assets.
In October 2015, the Company completed the sale and leaseback of three of its U.S. Customer Communications' production facilities and expects to consummate a similar transaction regarding its Canadian production facility. Pretax proceeds from the transactions are expected to total approximately $129.0 million, less closing costs and real estate commissions, and will be used in accordance with the Company's capital plan.
During the third quarter 2015, the Company spent $175.0 million to repurchase approximately 1,550,000 shares of DST common stock. At September 30, 2015, DST had $225.0 million remaining under the existing share repurchase plan.
Recent Business TransactionsOn July 31, 2015, DST acquired asset manager Red Rocks Capital LLC, an asset management leader in listed private equity and other private asset investments, for $45.0 million of upfront cash consideration and up to $20.0 million of performance-related contingent consideration.
On August 21, 2015, DST acquired Wealth Management Systems Inc., a leading provider of technology-based rollover services, for $64.0 million. Wealth Management Systems Inc. automates the migration of assets from retirement plans to investment management platforms, helping asset managers and broker-dealers grow and retain assets in the retirement marketplace.
The following discussion of financial results takes into account the non-GAAP adjustments described in the section entitled 'Use of Non-GAAP Financial Information' and detailed in the attached schedule titled 'Reconciliation of Reported Results to Non-GAAP Results.'
Operating revenues for the Financial Services segment (excluding out-of-pocket reimbursements) for third quarter 2015 decreased $9.3 million or 3.3% to $273.2 million as compared to third quarter 2014. The operating revenue decline is primarily due to the sale of Global Solutions in fourth quarter 2014 and approximately $5.9 million of negative foreign currency movements. Global Solutions contributed $19.4 million of operating revenue in third quarter 2014. Excluding Global Solutions 2014 results and the negative foreign currency impacts during 2015, Financial Services operating revenues increased by $16.0 million or 6.1% in third quarter 2015 as compared to 2014, primarily driven from organic and new client growth within our Retirement and Brokerage Solutions businesses as well as increased professional services revenues associated with our Bluedoor wealth management platform business. In addition, the businesses acquired during 2015 contributed $3.4 million of operating revenues during the third quarter 2015. Software license revenues (excluding Global Solutions) of $8.0 million in third quarter 2015 were $0.3 million higher as compared to third quarter 2014. These increases were partly offset by a decline in mutual fund registered shareowner account processing revenue due to lower registered accounts, primarily as a result of subaccounting conversions.
Financial Services segment income from operations decreased $10.8 million or 18.1% during third quarter 2015 to $49.0 million as compared to third quarter 2014. Global Solutions contributed income from operations of $4.6 million in third quarter 2014. Excluding Global Solutions, income from operations decreased $6.2 million or 11.2% as compared to third quarter 2014. The decrease in income from operations resulted primarily from increased technology, security and regulatory compliance costs, as well as other costs incurred to enhance the network infrastructure utilized across all of our operating businesses.
Additionally, we have higher costs in order to service new Brokerage Solutions customers and expand our Bluedoor wealth management platform into the U.K. market. Also contributing to the decrease in income from operations was the impact of the acquisitions completed during 2015 which have resulted in approximately $2.0 million of incremental expenses related to amortization associated with acquired intangibles and performance-related contingent consideration in the third quarter. The decreases in operating income were partially offset by reduced costs achieved as a result of the restructuring activities undertaken in late 2014. Operating margin for third quarter 2015 was 17.9% as compared to 21.2% in 2014.
Total mutual fund shareowner accounts decreased by 1.0 million to 96.8 million accounts since third quarter 2014. Registered shareowner accounts processed at September 30, 2015 were 66.5 million, a decrease of 0.9 million accounts from June 30, 2015
Conversions of registered accounts to subaccounts for full year 2015 are currently estimated to be approximately 2.5 to 3.5 million accounts which is below the Company's previous guidance of 4.0 to 5.0 million accounts in 2015. The number of accounts estimated to convert from various DST platforms is based upon information obtained from clients. There are a variety of factors that could affect the number and timing of registered accounts converting to subaccounts. Subaccounts processed at September 30, 2015 were 30.3 million, an increase of 0.3 million accounts from June 30, 2015 and an increase of 1.9 million
accounts from September 30, 2014.
Healthcare Services segment operating revenues (excluding out-of-pocket reimbursements) decreased $1.5 million or 1.6% during third quarter 2015 to $94.0 million, primarily due to lower pharmacy claims processing revenues resulting from a previously announced partial client deconversion on January 1, 2015. This decrease is largely offset by increased pharmacy and medical claims transaction volumes due to organic growth as well as higher business process outsourcing revenues.
Healthcare Services segment income from operations decreased $2.4 million or 15.4% during third quarter 2015 to $13.2 million, primarily due to decreased operating revenues and increased staffing costs incurred to expand our clinical, network, and analytic capabilities and enhance client service offerings which focus on addressing the complexities healthcare organizations are facing today. Staffing costs were also higher in order to service growth in our business process outsourcing services which generally require a higher level of support. Operating margin for third quarter 2015 was 14.0% as compared to 16.3% in the third quarter 2014.
On October 19, 2015, we entered into a new multi-year contract with an existing client to provide administrative management of pharmacy claims for the client's commercial plan members. Accordingly, the previously announced deconversion of the client's remaining members scheduled for 2015 and 2016 will not take place, and the client will remain on our pharmacy claims processing platform.
Customer Communications segment operating revenues (excluding out-of-pocket reimbursements) were $153.3 million in third quarter 2015, an increase of $3.2 million from third quarter 2014. Excluding the effect of $5.5 million of unfavorable foreign currency movements, Customer Communications segment operating revenues increased by $8.7 million or 5.8%. North America operating revenues increased $5.0 million or 4.9% to $107.9 million in third quarter 2015 primarily from incremental volumes due to the conversion of previously announced new clients, partially offset by a decline in volumes from certain existing customers and unfavorable foreign currency exchange rate movements of $2.0 million related to our Canadian operations. U.K. operating revenues decreased $1.8 million or 3.8% to $45.4 million in third quarter 2015, primarily from $3.5 million of unfavorable foreign currency exchange rate movements, partially offset by revenue growth from new and existing clients.
Customer Communications segment income from operations increased $2.7 million during third quarter 2015 to $13.2 million. North America operating income increased $3.2 million to $13.5 million as compared to 2014 and U.K. operating income decreased $0.5 million resulting in an operating loss of $0.3 million. Higher operating revenues combined with cost savings achieved from the 2014 closure of certain facilities in North America contributed to the growth in North America operating income. The decrease in U.K. operating income is the result of higher operating costs to service new clients. Customer Communications segment operating margin for third quarter 2015 was 8.6% as compared to 7.0% in 2014. North America operating margin was 12.5% in third quarter 2015 as compared to 10.0% in third quarter 2014, while the U.K. operating margin was negative 0.7% in third quarter 2015 as compared to 0.4% in third quarter 2014.
Investments and Other segment operating revenues for third quarter 2015 decreased $1.4 million as compared to third quarter 2014 to $0.9 million and income from operations decreased $0.2 million to $0.3 million. These decreases are primarily due to the cumulative impact of the sale of real estate assets occupied by third parties.
Other Financial ResultsThe following table summarizes the Company's equity in earnings of unconsolidated affiliates (in millions):
IFDS | $ 8.6 | $ 7.2 | $ 25.6 | $ 10.3 |
BFDS | 1.4 | 1.5 | 3.9 | 4.5 |
Other | 1.8 | 1.5 | 6.4 | 4.7 |
$ 11.8 | $ 10.2 | $ 35.9 | $ 19.5 |
DST's equity in earnings of unconsolidated affiliates increased primarily from higher earnings at IFDS. The increase in IFDS equity in earnings from third quarter 2014 is primarily the result of higher revenues recognized related to the ongoing conversion activities, organic growth at existing customers and new client processing revenues. Partially offsetting the increased revenues are higher operating costs as IFDS expands its infrastructure to prepare for the addition of new clients and associated service offerings as well as negative foreign currency impacts in both the U.K. and Canada.
The multi-year implementation efforts for the previously announced two new clients are continuing to progress and are expected to be completed in phases over the next two years. Beginning in third quarter 2014, IFDS began capitalizing a significant portion of the software development costs being incurred to develop the new wealth management platform for the
U.K. market. As the projects are completed and the underlying modules are placed into production, we expect that IFDS' earnings will be lower due to the amortization of the capitalized software costs coupled with the decline in implementation revenue.
In addition to reporting financial information on a GAAP basis, DST has disclosed non-GAAP financial information which has been reconciled to the corresponding GAAP measures in the following financial schedules titled 'Reconciliation of Reported Results to Non-GAAP Results.' In making these adjustments to determine the non-GAAP results, the Company takes into account the impact of items that are not necessarily ongoing in nature, that do not have a high level of predictability associated with them or that are non-operational in nature. Generally, these items include net gains on dispositions of business units, net gains (losses) associated with securities and other investments, restructuring and impairment costs, and other similar items.
Management believes the exclusion of these items provides a useful basis for evaluating underlying business unit performance, but should not be considered in isolation and is not in accordance with, or a substitute for, evaluating business unit performance utilizing GAAP financial information. Management uses non-GAAP measures in its budgeting and forecasting processes and to further analyze its financial trends and 'operational run-rate,' as well as making financial comparisons to prior periods presented on a similar basis. The Company believes that providing such adjusted results allows investors and other users of DST's financial statements to better understand DST's comparative operating performance for the periods presented.
DST's management uses each of these non-GAAP financial measures in its own evaluation of the Company's performance, particularly when comparing performance to past periods. DST's non-GAAP measures may differ from similar measures by other companies, even if similar terms are used to identify such measures. Although DST's management believes non-GAAP measures are useful in evaluating the performance of its business, DST acknowledges that items excluded from such measures may have a material impact on the Company's financial information calculated in accordance with GAAP. Therefore, management typically uses non-GAAP measures in conjunction with GAAP results. These factors should be considered when evaluating DST's results.
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