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WAD REED FIN 'A' : Waddell & Reed Financial, Inc. Reports Second Quarter Results

07/28/2010 | 07:00am US/Eastern

Waddell & Reed Financial, Inc. (NYSE: WDR) today reported second quarter net income of $34.2 million, or $0.40 per diluted share, compared to net income of $35.9 million, or $0.42 per diluted share, in the first quarter of 2010 and net income of $23.4 million, or $0.27 per diluted share, during the second quarter of 2009.

Business Discussion

Management commentary

?In the context of high market volatility and subdued investor demand for equities, we achieved positive flows in each of our three distribution channels,? said Henry J. Herrmann, chairman and chief executive officer of Waddell & Reed Financial, Inc. ?We believe this reflects the breadth and performance of our products and the ongoing acceptance and demand that has been created among investors for Waddell & Reed and Ivy investment strategies.

?Our business faced two major challenges during the second quarter,? Herrmann added. ?First, financial markets suffered a meaningful pullback as investors around the world questioned the pace of economic recovery. This affected not only the level of assets managed, but also investors' willingness to invest in equities. Second, as of June 30th, year-to-date performance of our funds has been mixed. Almost two-thirds of our mutual funds outperformed their peer group, but performance of our two largest funds remains relatively weak.

?That said,? Herrmann continued, ?we remain well positioned to continue capturing market share.?

Advisors channel

Sales in our Advisors channel during the quarter improved on both a sequential and year-over-year basis. At $954 million, gross sales increased 8% compared to the previous quarter and 22% compared to the same period in 2009. Flows remained positive at $100 million and represent the fifth consecutive quarter of inflows. Our advisors' productivity continues to improve, and their focus on long-term financial planning has once again validated the stability of this channel's distribution model.

Wholesale channel

Considering the volatility in the financial markets and weak performance of our lead fund, Ivy Asset Strategy, sales held up relatively well. At $3.5 billion, gross sales for the quarter were down 20% sequentially and 14% compared to the second quarter of 2009. Flows during the quarter were positive at $388 million, but weaker than previous quarters due to higher redemptions and somewhat lower sales volume. Redemptions, which peaked during the month of May, had meaningfully abated by the beginning of June. Nonetheless, we continue to compare favorably to the industry. The Wholesale channel's organic growth rate for equity assets during the quarter was 1.9% compared with organic decay of 1.4% experienced by the industry.

Sales diversification continues to play a key role in our Wholesale channel. During the quarter, sales of products other than the Asset Strategy and Global Natural Resources funds reached $920 million, or 26% of total sales, including five funds with daily sales in excess of $1 million.

Institutional channel

Gross sales of $768 million during the quarter were solid and flows remained positive. Our subadvisor efforts continue to show promise and are responsible for more than 85% of sales and substantially all of the flows during the quarter. Sales of traditional defined benefit products were more modest, but net flows were positive.

Management Fee Revenue Analysis

We earn management fee revenues by providing investment management services to our retail funds and institutional clients. These revenues are based on the amount of average assets under management and influenced by asset composition, sales, redemptions and financial market conditions.

Average assets under management of $72.6 billion during the quarter increased 2% compared to the previous quarter and 37% compared to the second quarter of 2009. The effective fee rate remained relatively unchanged at 62.5 basis points compared to 62.6 basis points and 62.5 basis points in the first quarter of 2010 and second quarter of 2009, respectively.

Underwriting and Distribution Revenue and Expense Analysis

Advisors channel

Compared to the first quarter of 2010, revenues rose on higher asset allocation product fees and variable annuity commissions while front-load commissions declined. Direct expenses rose in close correlation to revenues. Indirect expenses were lower, largely due to a decline in group insurance and payroll tax costs.

Compared to the same period in 2009, revenues increased due to a combination of higher asset-based Rule 12b-1 and asset allocation product fees. Direct expenses increased in concert with higher revenues. Indirect expenses rose slightly due to higher compensation and information technology charges.

Wholesale channel

Sequentially, revenues increased on higher asset-based service and distribution fees. Direct expenses increased slightly as higher asset-based Rule 12b-1 service and distribution fees were offset by lower wholesaler commissions. Indirect expenses declined slightly.

Compared to the second quarter of 2009, revenues increased on higher asset-based Rule 12b-1 service and distribution fees, and to a lesser degree, higher sales volume at Legend. Direct expenses rose in correlation with higher asset-based fees, and were partly offset by lower wholesaler commissions. Indirect expenses rose largely on higher compensation costs.

Compensation and Related Expense Analysis

Compensation and related costs increased sequential quarterly largely due to higher equity compensation. The increase in incentive compensation was offset by lower payroll taxes as FICA caps were met and lower software development costs.

Compared to the second quarter of 2009, the increase in costs is due to a combination of higher incentive and equity compensation, and to a lesser degree, base compensation.

General and Administrative Expense Analysis

General and administrative costs rose compared to both periods largely due to higher dealer services and fund related expenses as well as higher IT costs.

Subadvisory Fees

Subadvisory fees, which are paid on average asset levels in subadvised funds, fell on a sequential quarter basis, but increased compared to the second quarter of 2009. The change is largely due to changes in assets in the Ivy Global Natural Resources fund. Subadvised average assets under management during the quarter were $6.7 billion.

Investment and Other Income

We recorded an investment loss of $1.6 million, which was largely the result of $2.6 million in losses incurred in our mutual fund trading portfolio during the quarter. These were partly offset by gains of $800 thousand from the sale of available-for-sale mutual fund holdings.

Tax Rate

Our effective tax rate during the current quarter was 40.7%. The increase to our effective tax rate was mainly due to increasing our reserves against capital loss carryforwards as a result of the decline in the market value of our investment portfolio during the quarter. A charge to earnings of $1.8 million, or $0.02 per diluted share, resulted from the increase to these reserves. Our effective tax rate, excluding the impact of tax reserves, was 37.6%. The effective tax rate for future periods (excluding any changes related to the valuation allowance) is anticipated to range between 37.3% and 38.3%.

Balance Sheet Information

As of June 30, 2010, cash and cash equivalents and investment securities were $290 million (excluding $54 million held for the benefit of customers segregated in compliance with federal and other regulations). Short-term debt was $190 million, reflecting the current maturity of our January 2011 senior notes.

Stockholders' equity was $377 million and there were 85.4 million shares outstanding. During the quarter, we repurchased 1.5 million shares on the open market or privately at an aggregate cost of $46.7 million for a total of 1.9 million shares repurchased since the beginning of 2010.

Unaudited Schedule of Operating Data                              
(Amounts in thousands, except for per share data) 2009       2010
  1st Qtr.   2nd Qtr.   3rd Qtr.   4th Qtr. 1st Qtr.   2nd Qtr.   3rd Qtr.   4th Qtr.
Operating Revenues:            
Investment management fees $70,981 $82,566 $94,687 $106,359 $109,663 $113,052
Underwriting and distribution fees 80,715 91,105 96,559 110,299 113,136 114,545
Shareholder service fees 24,976     25,957     26,730     28,155   28,815     29,622          
Total operating revenues 176,672     199,628     217,976     244,813   251,614     257,219          
Operating Expenses:
Underwriting and distribution 98,718 110,781 115,119 125,307 133,866 133,506
Compensation and related costs 25,699 27,399 29,275 42,090 32,925 34,355
General and administrative 13,413 14,503 15,106 15,012 15,686 16,709
Subadvisory fees 4,703 5,485 6,129 6,885 7,072 6,888
Depreciation 3,312     3,444     3,503     3,394   3,445     3,486          
Total operating expenses 145,845     161,612     169,132     192,688   192,994     194,944          
Operating Income: 30,827 38,016 48,844 52,125 58,620 62,275
Investment and other income/(loss) (3,092 ) 2,161 2,316 3,654 891 (1,585 )
Interest expense (3,149 )   (3,150 )   (3,153 )   (3,243 ) (3,558 )   (3,111 )        
Income before taxes 24,586 37,027 48,007 52,536 55,953 57,579
Provision for taxes 9,120     13,653     14,594     19,284   20,044     23,427          
Net Income $15,466 $23,374 $33,413 $33,252 $35,909 $34,152
Net income per share 0.18     0.27     0.39     0.39   0.42     0.40          
Weighted average shares outstanding - diluted 84,910     86,001     85,774     85,482   85,675     86,025          
Operating margin 17.4 %   19.0 %   22.4 %   21.3 % 23.3 %   24.2 %        
 
Underwriting and Distribution                                
(Amounts in thousands) 2009   2010
Advisors Channel 1st Qtr.   2nd Qtr.   3rd Qtr.   4th Qtr. 1st Qtr.   2nd Qtr.   3rd Qtr.   4th Qtr.
Revenues $ 47,413 $ 52,262 $ 53,125 $ 60,458 $ 60,537 $ 61,443
Expenses
Direct 33,309 36,281 36,367 41,512 42,540 43,151
Indirect 21,719     20,938     21,336    

© Business Wire 2010
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