Waddell & Reed Financial, Inc. (NYSE: WDR) today reported third quarter 2014 net income of $74.6 million, or $0.89 per diluted share, compared to net income of $83.0 million, or $0.98 per diluted share, during the previous quarter and net income of $68.4 million, or $0.80 per diluted share, during the third quarter of 2013. During the current quarter, the company recognized an intangible asset impairment charge of $7.9 million ($5.0 million net of taxes, or $0.06 per diluted share) related to a subadvisory agreement to manage certain mutual funds. Excluding this charge and the related tax benefit, net income would have been $79.6 million, or $0.941 per diluted share.2

Operating revenues of $409.6 million rose 2% sequentially and 18% compared to the same period last year. Our operating margin was 30.6% during the quarter, or 32.5% excluding the impairment charge1. This compares favorably to 30.9% during the previous quarter and 29.8% during the same period last year.

On September 30, 2014, assets under management were $128.9 billion, down 5% during the quarter due to a combination of market depreciation and outflows. Compared to September 30, 2013, assets under management rose 13%. Average assets under management were $133.1 billion during the quarter.

Business Discussion

“Headwinds our company has endured these last few months have led to disappointing outflows and detracted from an otherwise solid quarter,” said Hank Herrmann, Chairman and Chief Executive Officer of Waddell & Reed Financial, Inc. “Our operating revenues rose and by keeping expenses in check, our operating margin expanded, after adjusting for the impairment charge. Our investment management professionals remain committed to deliver superior investment performance. For the 3– and 5– year periods, 69% of assets were ranked in the top quartile of Lipper.”

Sales in our Wholesale channel were $4.3 billion, down 12% sequentially and 18% compared to the same period last year. This channel had outflows of $2.6 billion compared to inflows of $104 million during the second quarter and inflows of $1.6 billion during the third quarter of 2013. Outflows in the current quarter were due to a combination of industry-wide outflows in high yield, performance weakness in one of our largest funds and concerns about portfolio manager turnover, which is very unusual for our firm.

The Advisors channel had sales of $1.3 billion, down 9% sequentially and up 6% compared to the same quarter in 2013. The channel experienced inflows of $64 million during the quarter compared to $271 million last quarter and $88 million during the same quarter last year.

Our Institutional channel, lumpy by nature, had outflows of $399 million during the current quarter.

Management Fee Revenue Analysis

Management fees rose 2% sequentially, benefiting from one additional day during the current quarter and higher levels of average assets under management. Compared to the same period in 2013, revenues rose 19% due to higher levels of average assets under management. The effective fee rate remained relatively unchanged across each quarter at 59 basis points.

Underwriting and Distribution Analysis

Wholesale channel

Revenues were largely unchanged compared to the second quarter of 2014 while direct costs declined due to lower commissions paid to wholesalers and third party distributors. Indirect costs increased slightly.

Compared to the same period in 2013, revenues rose primarily due to higher asset-based Rule 12b-1 fees. Direct costs rose in correlation with higher Rule 12b-1 fees and to a lesser degree, commissions paid to wholesalers and third party distributors. Indirect costs rose due to higher marketing costs.

Advisors channel

Sequentially, revenues rose primarily due to asset-based advisory fees and to a lesser degree, due to Rule 12b-1 fees. Direct costs increased in correlation with revenues while indirect costs declined slightly due to a combination of lower marketing costs, payroll taxes and benefits.

Compared to the third quarter of 2013, the increase in revenues was primarily due to higher advisory fees. Higher asset-based Rule 12b-1 fees and to a lesser degree, higher front load commissions, also contributed to the increase in revenues. Direct costs rose with revenues, while indirect costs rose due to higher compensation and sales program costs.

Compensation and Related Expense Analysis

Costs were largely unchanged compared to second quarter levels. Higher incentive compensation costs were offset by lower equity compensation costs and payroll taxes.

Compared to the same period last year, costs declined slightly due to a combination of lower bonuses, pension and equity compensation costs, which were largely offset by higher base salary expense.

General and Administrative Expense Analysis

Costs declined sequentially due to a number of items, including IT consulting, business meeting, travel, and marketing costs. Compared to the same period last year, costs rose primarily due to higher IT consulting, dealer service and legal costs.

Unaudited Balance Sheet Information    
Schedule of Selected Items Quarter ended
    Sept. 30, 2014
(Amounts in millions)
Cash & cash equivalents (unrestricted) $529.0
Investment securities 243.9
Total assets 1,399.0
Long-term debt 190.0
Total liabilities 607.2
Stockholders' equity 791.8
 
Shares outstanding 84.1 million shares
 
Quarter ended Year-to-Date
Sept. 30, 2014 Sept. 30, 2014
 
($ in thousands)
Shares repurchased
Number of shares 614,062 1,522,270
Total cost $34,423 $96,145
 
Dividend paid
Rate per share $0.34 $1.02
Total paid $28,791 $86,754
 
Capital returned to stockholders $63,214 $182,899
 
                           
Unaudited Consolidated Statement of Income
(Amounts in thousands, except for per share data)     2013 2014
    1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr. 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr.
Operating Revenues:
Investment management fees $148,445 $156,219 $165,559 $180,219 $188,037 $193,624 $197,783
Underwriting and distribution fees 135,419 141,597 146,863 158,940 165,267 169,001 173,047
  Shareholder service fees     32,691       33,890       34,667       35,845   37,112       38,009       38,728        
  Total operating revenues     316,555       331,706       347,089       375,004   390,416       400,634       409,558        
Operating Expenses:
Underwriting and distribution 161,571 164,844 169,046 181,252 194,951 195,608 197,246
Compensation and related costs 48,155 47,376 49,472 52,594 50,009 48,589 48,375
General and administrative 16,208 26,938 20,462 22,811 23,756 27,183 24,924
Subadvisory fees 4,484 4,291 1,667 1,778 1,877 2,069 2,203
Depreciation 3,227 3,222 3,172 3,213 3,249 3,541 3,786
  Intangible asset impairment     0       0       0       0   0       0       7,900        
  Total operating expenses     233,645       246,671       243,819       261,648   273,842       276,990       284,434        
Operating Income 82,910 85,035 103,270 113,356 116,574 123,644 125,124
Investment and other income/(loss) 4,377 1,002 5,212 9,313 3,900 6,100 (1,205 )
Interest expense     (2,854 )     (2,858 )     (2,832 )     (2,700 ) (2,755 )     (2,755 )     (2,769 )      
Income before taxes 84,433 83,179 105,650 119,969 117,719 126,989 121,150
Provision for taxes     30,570       31,222       37,231       41,210   42,855       44,001       46,564        
Net Income     $ 53,863       $ 51,957       $ 68,419       $ 78,759   $ 74,864       $ 82,988       $ 74,586        
Net income per share, basic and diluted:     0.63       0.61       0.80       0.92   0.88       0.98       0.89        
Weighted average shares outstanding - basic and diluted     85,593       85,869       85,603       85,294   85,019       85,073       84,242        
  Operating margin     26.2 %     25.6 %     29.8 %     30.2 % 29.9 %     30.9 %     30.6 %      
 
 
 
 
Net Distribution Cost Analysis
(Amounts in thousands)
Wholesale Channel 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr. 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr.
U&D Revenues $48,175 $49,846 $52,472 $56,926 $59,564 $60,237 $59,807
U&D Expenses - Direct (63,548 ) (64,694 ) (67,107 ) (72,698 ) (79,700 ) (76,834 ) (75,775 )
U&D Expenses - Indirect (11,000 )     (11,229 )     (10,409 )     (11,285 ) (11,535 )     (12,791 )     (13,317 )      
Net Distribution (Costs) ($26,373 )     ($26,077 )     ($25,044 )     ($27,057 ) ($31,671 )     ($29,388 )     ($29,285 )      
 
Advisors Channel
U&D Revenues $87,244 $91,751 $94,391 $102,014 $105,703 $108,764 $113,240
U&D Expenses - Direct (59,657 ) (62,794 ) (64,550 ) (69,023 ) (74,697 ) (76,867 ) (79,700 )
U&D Expenses - Indirect (27,366 )     (26,127 )     (26,980 )     (28,246 ) (29,019 )     (29,116 )     (28,454 )      
Net Distribution (Costs)/Excess $221       $2,830       $2,861       $4,745   $1,987       $2,781       $5,086        
 
       
Changes in Assets Under Management 2013   2014
(Amounts in millions) 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr. 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr.
Wholesale Channel                        
Beginning assets $48,930 $53,254 $53,860 $59,661 $67,055 $70,467 $71,671
Sales* 5,042 5,030 5,191 6,148 7,017 4,864 4,269
Redemptions (3,157 ) (3,983 ) (3,723 ) (3,449 ) (3,562 ) (4,363 ) (7,008 )
Net Exchanges 66       61       83       91   112       (397 )     112        
Net flows 1,951 1,108 1,551 2,790 3,567 104 (2,627 )
Market action 2,373       (502 )     4,250       4,604   (155 )     1,100       (2,669 )      
Ending assets $53,254       $53,860       $59,661       $67,055   $70,467       $71,671       $66,375        
   
Advisors Channel
Beginning assets $35,660 $37,915 $38,172 $40,767 $43,667 $44,224 $45,797
Sales* 1,303 1,404 1,242 1,283 1,435 1,457 1,322
Redemptions (1,047 ) (1,083 ) (1,071 ) (1,104 ) (1,106 ) (1,098 ) (1,146 )
Net Exchanges (66 )     (62 )     (83 )     (92 ) (112 )     (88 )     (112 )      
Net flows 190 259 88 87 217 271 64
Market action 2,065       (2 )     2,507       2,813   340       1,302       (953 )      
Ending assets $37,915       $38,172       $40,767       $43,667   $44,224       $45,797       $44,908        
 
Institutional Channel
Beginning assets $11,775 $12,626 $12,312 $13,316 $15,821 $16,692 $18,165
Sales* 430 379 386 1,913 1,554 1,193 328
Redemptions (469 ) (811 ) (550 ) (792 ) (679 ) (851 ) (727 )
Net Exchanges 0       0       0       0   0       485       0        
Net flows (39 ) (432 ) (164 ) 1,121 875 827 (399 )
Market action 890       118       1,168       1,384   (4 )     646       (163 )      
Ending assets $12,626       $12,312       $13,316       $15,821   $16,692       $18,165       $17,603        
 
Consolidated Total
Beginning assets $96,365 $103,795 $104,344 $113,744 $126,543 $131,383 $135,633
Sales* 6,775 6,813 6,819 9,344 10,006 7,514 5,919
Redemptions (4,673 ) (5,877 ) (5,344 ) (5,345 ) (5,347 ) (6,312 ) (8,881 )
Net Exchanges 0       (1 )     0       (1 ) 0       0       0        
Net flows 2,102 935 1,475 3,998 4,659 1,202 (2,962 )
Market action 5,328       (386 )     7,925       8,801   181       3,048       (3,785 )      
Ending assets $103,795       $104,344       $113,744       $126,543       $131,383       $135,633       $128,886        
* Sales is primarily gross sales (net of sales commissions). This amount also includes
net reinvested dividends & capital gains and investment income.
 
                               
Supplemental Information 2013 2014
    1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr. 1st Qtr.     2nd Qtr.     3rd Qtr.     4th Qtr.
Channel highlights
Number of Wholesalers 50 50 49 50 60 60 59
Number of Advisors 1,717 1,734 1,784 1,746 1,737 1,740 1,759
Advisors' Productivity * 50.5 53.1 53.7 57.4 60.9 62.4 64.6
 
Redemption rates - long term assets
Wholesale 24.6% 29.4% 25.7% 21.7% 21.1% 25.1% 40.3%
Advisors 9.4% 9.1% 8.7% 8.5% 8.2% 7.9% 8.2%
Institutional 15.5% 25.5% 17.0% 21.6% 17.0% 19.9% 16.1%
Total 18.0% 21.7% 18.6% 17.1% 16.2% 18.7% 26.1%
 
Operating highlights
Organic growth/(decay) annualized 8.7% 3.6% 5.7% 14.1% 14.7% 3.7% -8.7%
Total assets under management (in millions) 103,795 104,344 113,744 126,543 131,383 135,633 128,886
 
Diversification (Company Total)
As % of Sales
Asset Strategy 33.6% 28.5% 25.9% 27.6% 33.4% 26.3% 24.9%
Fixed Income 30.7% 30.4% 31.8% 24.4% 23.3% 25.4% 28.8%
Other 35.7% 41.1% 42.3% 48.0% 43.3% 48.3% 46.3%
As % of Assets Under Management
Asset Strategy 33.7% 33.4% 33.8% 34.3% 33.9% 32.9% 32.0%
Fixed Income 20.7% 19.9% 19.0% 18.1% 18.6% 18.7% 18.2%
Other 45.6% 46.7% 47.2% 47.6% 47.5% 48.4% 49.8%
 
Operating margin 26.2%     25.6%     29.8%     30.2%     29.9%     30.9%     30.6%      
 
Lipper Fund Rankings     1 Year     3 Years     5 Years
  Funds ranked in top quartile 36%     41%     36%
Funds ranked in top half 58% 61% 61%
 
Assets ranked in top quartile 16% 69% 69%
Assets ranked in top half 34%     77%     82%
* Advisors' productivity is calculated by dividing U&D revenues for the Advisors channel
by the average number of advisors during the period.
 
       
Unaudited Consolidated Statement of Income            
(Amounts in thousands, except for per share data)     Year to Date
    Sep-14     Sep-13     % Change  
Operating Revenues:
Investment management fees $ 579,444 $ 470,223 23.2 %
Underwriting and distribution fees 507,315 423,879 19.7 %
  Shareholder service fees       113,849         101,248       12.4 %
  Total operating revenues       1,200,608         995,350       20.6 %
Operating Expenses:
Underwriting and distribution 587,805 495,461 18.6 %
Compensation and related costs 146,973 145,003 1.4 %
General and administrative 75,863 63,608 19.3 %
Subadvisory fees 6,149 10,442 -41.1 %
Depreciation 10,576 9,621 9.9 %
  Intangible asset impairment       7,900         0       N/M  
  Total operating expenses       835,266         724,135       15.3 %
Operating Income 365,342 271,215 34.7 %
Investment and other income 8,795 10,591 -17.0 %
Interest expense       (8,279 )       (8,544 )     -3.1 %
Income before taxes 365,858 273,262 33.9 %
Provision for taxes       133,420         99,023       34.7 %
Net Income     $ 232,438       $ 174,239       33.4 %
Net income per share, basic and diluted       2.74         2.03       34.8 %
Weighted average shares outstanding - basic and diluted       84,775         85,688       -1.1 %
  Operating margin       30.4 %       27.2 %     11.7 %
 
           
Net Distribution Cost Analysis              
(Amounts in thousands) Year to Date
Wholesale Channel Sep-14   Sep-13   % Change  
U&D Revenues $ 179,608 $ 150,493 19.3 %
U&D Expenses - Direct (232,309 ) (195,349 ) 18.9 %
U&D Expenses - Indirect   (37,643 )       (32,638 )     15.3 %
Net Distribution (Costs)   ($90,344 )       ($77,494 )     16.6 %
   
Advisors Channel
U&D Revenues $ 327,707 $ 273,386 19.9 %
U&D Expenses - Direct (231,264 ) (187,001 ) 23.7 %
U&D Expenses - Indirect   (86,589 )       (80,473 )     7.6 %
Net Distribution (Costs)/Excess $ 9,854       $ 5,912       66.7 %
 
   
Changes in Assets Under Management Year to Date
(Amounts in millions) Sep-14     Sep-13     % Change  
Wholesale Channel        
Beginning assets $67,055 $48,930 37.0 %
Sales* 16,150 15,262 5.8 %
Redemptions (14,933 ) (10,863 ) 37.5 %
Net Exchanges (173 )     211       N/M  
Net flows 1,044 4,610 -77.4 %
Market action (1,724 )     6,121       -128.2 %
Ending assets $66,375       $59,661       11.3 %
   
Advisors Channel
Beginning assets $43,667 $35,660 22.5 %
Sales* 4,214 3,949 6.7 %
Redemptions (3,350 ) (3,201 ) 4.7 %
Net Exchanges (312 )     (211 )     N/M  
Net flows 552 537 2.8 %
Market action 689       4,570       -84.9 %
Ending assets $44,908       $40,767       10.2 %
 
Institutional Channel
Beginning assets $15,821 $11,775 34.4 %
Sales* 3,075 1,195 157.3 %
Redemptions (2,257 ) (1,830 ) 23.3 %
Net Exchanges 485       0       N/M  
Net flows 1,303 (635 ) 305.2 %
Market action 479       2,176       -78.0 %
Ending assets $17,603       $13,316       32.2 %
 
Consolidated Total
Beginning assets $126,543 $96,365 31.3 %
Sales* 23,439 20,406 14.9 %
Redemptions (20,540 ) (15,894 ) 29.2 %
Net Exchanges 0       0       N/M  
Net flows 2,899 4,512 -35.7 %
Market action (556 )     12,867       -104.3 %
Ending assets $128,886       $113,744       13.3 %
* Sales is primarily gross sales (net of sales commissions). This amount also includes
net reinvested dividends & capital gains and investment income.
 

Management believes adjusting results to exclude unusual charges provides investors with important information when comparing our results to prior periods and to the results of other companies. However, adjusted results do not represent and should not be considered as an alternative to net income and net income per diluted share calculated and presented in accordance with U.S. GAAP.

Reconciliation of U.S. GAAP Net Income and Operating Margin to
Adjusted Net Income and Adjusted Operating Margin  
       
3rd Qtr. 2014Per Share
(Amounts in thousand, except per share data)
Net Income, GAAP basis $74,586 $0.89
Add back intangible impairment charge 7,900
Deduct tax benefit from impairment charge (2,920 ) 0.06
Net Income, as adjusted $79,566   $0.94
 
Weighted average shares outstanding - basic and diluted 84,242
 
* Does not foot due to rounding.
 
3rd Qtr. 2014
 
 
Operating Revenues, GAAP basis $409,558
 
Operating Expenses, GAAP basis 284,434
Deduct intangible impairment charge 7,900  
Operating Expenses, as adjusted 276,534
 
Operating Income, as adjusted $133,024
 
Operating Margin, as adjusted 32.5 %
 

Earnings Conference Call

Stockholders, members of the investment community and the general public are invited to listen to a live Web cast of our earnings release conference call today at 10:00 a.m. Eastern. During this call, Henry J. Herrmann, Chairman and CEO, will review our quarterly results. Live access to the teleconference will be available on the “Investor Relations” section of our Web site at www.waddell.com. A Web cast replay will be made available shortly after the conclusion of the call and accessible for seven days.

Web Site Resources

We invite you to visit the “Investor Relations” section of our Web site at www.waddell.com under the caption “Data Tables” to review supplemental information schedules.

Past performance is no guarantee of future results. Please invest carefully.

About the Company

Waddell & Reed, Inc., founded in 1937, is one of the oldest mutual fund complexes in the United States, having introduced the Waddell & Reed Advisors Group of Mutual Funds in 1940. Today, we distribute our investment products through the Waddell & Reed Wholesale channel (encompassing broker/dealer, retirement, and registered investment advisors), our Advisors channel (our network of financial advisors), and our Institutional channel (including defined benefit plans, pension plans and endowments, and our subadvisory partnership with Mackenzie in Canada).

Through its subsidiaries, Waddell & Reed Financial, Inc. provides investment management and financial planning services to clients throughout the United States. Waddell & Reed Investment Management Company serves as investment advisor to the Waddell & Reed Advisors Group of Mutual Funds, Ivy Funds Variable Insurance Portfolios and Waddell & Reed InvestEd Portfolios, while Ivy Investment Management Company serves as investment advisor to Ivy Funds. Waddell & Reed, Inc. serves as principal underwriter and distributor to the Waddell & Reed Advisors Group of Mutual Funds, Ivy Funds Variable Insurance Portfolios and Waddell & Reed InvestEd Portfolios, while Ivy Funds Distributor, Inc. serves as principal underwriter and distributor to Ivy Funds.

Forward-Looking Statements

This press release contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which reflect the current views and assumptions of management with respect to future events regarding our business and industry in general. These forward-looking statements include all statements, other than statements of historical fact, regarding our financial position, business strategy and other plans and objectives for future operations, including statements with respect to revenues and earnings, the amount and composition of assets under management, distribution sources, expense levels, redemption rates and the financial markets and other conditions. These statements are generally identified by the use of such words as "may," "could," "should," "would," "believe," "anticipate," "forecast," "estimate," "expect," "intend," "plan," "project," "outlook," "will," "potential" and similar statements of a future or forward-looking nature. Readers are cautioned that any forward-looking information provided by us or on our behalf is not a guarantee of future performance. Actual results may differ materially from those contained in these forward-looking statements as a result of various factors, including but not limited to those discussed below. If one or more events related to these or other risks, contingencies or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may differ materially from those forecasted or expected. Certain important factors that could cause actual results to differ materially from our expectations are disclosed in the "Risk Factors" section of our Annual Report on Form 10-K for the year ended December 31, 2013, which include, without limitation:

  • The loss of existing distribution channels or inability to access new distribution channels;
  • A reduction in assets under our management on short notice, through increased redemptions in our distribution channels or our Funds, particularly those Funds with a high concentration of assets, or investors terminating their relationship with us or shifting their funds to other types of accounts with different rate structures;
  • The adverse ruling or resolution of any litigation, regulatory investigations and proceedings, or securities arbitrations by a federal or state court or regulatory body;
  • The introduction of legislative or regulatory proposals or judicial rulings that change the independent contractor classification of our financial advisors at the federal or state level for employment tax or other employee benefit purposes;
  • Our inability to provide sufficient capital to support new investment products;
  • The ability of mutual fund and other investors to redeem their investments without prior notice or on short notice;
  • Our inability to implement new information technology and systems, or our inability to complete such implementation in a timely or cost effective manner;
  • Non-compliance with applicable laws or regulations and changes in current legal, regulatory, accounting, tax or compliance requirements or governmental policies;
  • A decline in the securities markets or in the relative investment performance of our Funds and other investment portfolios and products as compared to competing funds; and
  • Our inability to attract and retain senior executive management and other key personnel to conduct our broker/dealer, fund management and investment advisory business.

The foregoing factors should not be construed as exhaustive and should be read together with other cautionary statements included in this and other reports and filings we make with the Securities and Exchange Commission, including the information in Item 1 "Business" and Item 1A "Risk Factors" of Part I and Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" of Part II to our Annual Report on Form 10-K for the year ended December 31, 2013 and as updated in our quarterly reports on Form 10-Q for the year ending December 31, 2014. All forward-looking statements speak only as of the date on which they are made and we undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except to the extent required by law.

1 GAAP EPS of $0.89 plus the $0.06 impairment charge does not foot to the adjusted EPS of $0.94 due to rounding.

2 Reconciliation to GAAP on page 9.