LADENBURG THALMANN FINANCIAL SERVICES (Dollars in thousands, except share and per share amounts)
Overview
We are a diversified financial services company engaged in independent advisory and brokerage services, asset management services, investment research, investment banking, institutional sales and trading, wholesale life insurance and annuity brokerage and trust services through our principal subsidiaries, Securities America, Triad, SSN, Investacorp, KMS, Ladenburg, LTAM,Highland and Premier Trust . Through our acquisitions of Securities America, Triad, SSN, Investacorp and KMS, we have established a leadership position in the independent advisory and brokerage services industry. During the past decade, this has been one of the fastest growing segments of the financial services industry. With approximately 4,400 financial advisors located in 50 states, we have become one of the largest independent advisory and brokerage services networks. 29 -------------------------------------------------------------------------------- We have three operating segments: (i) the independent advisory and brokerage services segment, (ii) the Ladenburg segment and (iii) the insurance brokerage segment. The independent advisory and brokerage services segment includes the investment advisory and brokerage services provided by our independent advisory and brokerage subsidiaries (Securities America, Triad, SSN, Investacorp and KMS) to their independent contractor financial advisors and the wealth management services provided byPremier Trust . The Ladenburg segment includes the investment banking, sales and trading and asset management services and investment activities conducted by Ladenburg and LTAM. The insurance brokerage segment includes the wholesale insurance brokerage activities conducted by Highland, which delivers life insurance, fixed and equity indexed annuities, as well as long-term care solutions to investment and insurance providers, and which provides marketing strategies, product expertise, and back-office processing for fixed and equity-indexed annuities. During the three years endedDecember 31, 2019 , we incurred$5,823 of acquisition indebtedness, related to the acquisitions in 2018 of certain assets of KFG and FSFG. As ofDecember 31, 2019 ,$5,454 of this acquisition-related indebtedness was outstanding. Recent Developments Advisor Group Merger OnNovember 11, 2019 , we entered into the Merger Agreement by and among us,Advisor Group and Merger Sub, a wholly-owned subsidiary ofAdvisor Group , pursuant to which Merger Sub would be merged with and into us. OnJanuary 30, 2020 , our shareholders voted to approve the Merger. OnFebruary 14, 2020 , we announced the successful completion of the Merger. In connection with the closing of the Merger, our common stock was delisted from the NYSE American and was deregistered from registration with theSEC . OnMarch 5, 2020 , our Series A Preferred Stock and Publicly Offered Senior Notes were delisted from the NYSE American and were deregistered from registration with theSEC . The Series A Preferred Stock and Publicly Offered Senior Notes currently trade on the Pink Sheets. As required by the terms of our Series A Preferred Stock, onFebruary 14, 2020 , we provided notice to the holders of our Series A Preferred Stock of their right to convert each share of Series A Preferred Stock owned by them into$25.0389 per share in cash. The conversion right arose from the Merger and the resulting change of control of our company. 12,816,614 shares of Series A Preferred Stock were converted and 4,584,668 shares of Series A Preferred Stock remained outstanding as ofMarch 10, 2020 .
Critical Accounting Policies
General. The preparation of financial statements in conformity with accounting principles generally accepted inthe United States of America , referred to as GAAP, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses. Actual results could differ from those estimates. Revenue Recognition. We have updated our revenue recognition policies in conjunction with our adoption of Accounting Standards Update ("ASU")ASU 2014-09, Revenue from Contracts with Customers and all related amendments ("ASC 606"). We adopted ASC 606 effectiveJanuary 1, 2018 , using the modified retrospective method by recognizing the cumulative effect of initially applying ASC 606 as an adjustment to the opening balance of shareholders' equity and other affected accounts atJanuary 1, 2018 . Therefore, the comparative information has not been adjusted and continues to be reported under the accounting standards in effect for prior periods. The adoption of ASC 606, among other things, impacts the recognition of revenue in both our independent advisory and brokerage services and insurance brokerage segments. Certain independent financial advisors conduct their advisory business through their own registered investment advisory ("RIA") firm, or Hybrid RIA, rather than using one of our corporate RIA subsidiaries. Historically, we have generally recognized advisory fee revenue on a gross basis based on the fees charged by the RIAs to their clients. Commencing in 2018, with the adoption of ASC 606, we no longer recognize revenue on a gross basis where the clients' assets are held by these independent entities, or Hybrid RIAs, which has primary client fiduciary duty under the Investment Advisors Act. In those circumstances, we now recognize the associated advisory revenues on a net basis (after deducting the advisor's compensation). We also collect certain administrative fees for value-added services provided to Hybrid RIAs. Accordingly, our reported advisory revenue and the independent advisor's compensation in our independent advisory and brokerage services segment were materially lower in 2018 as compared to the prior year periods as a result of the adoption of ASC 606, and that reported advisory revenue growth may lag behind the overall growth rate of advisory assets. 30
-------------------------------------------------------------------------------- At our insurance brokerage segment, the adoption of ASC 606 resulted in a material increase in reported insurance commission revenues. Historically, commissions on insurance policies were recognized on a gross or net basis based on how the commissions were received from the insurance carrier. Where the carrier paid us the full commission, and we remitted to the independent producer its portion of the commission, the gross amount of the commission was recognized by us. However, as was more frequently the case, where the carrier paid the independent producer directly and remitted to us only our portion of the commission, we recorded the commission revenue on a net basis (after giving effect to the payment to the producer). With the adoption of ASC 606, we report all insurance commission revenue on a gross basis, regardless of the method of payment by the carrier. Our net income as reported is greater than the net income amounts without the adoption of ASC 606 due to the following: 1) the timing of revenue recognized for commissions on future renewals of insurance policies sold is accelerated, as these future commissions represent variable consideration and are required to be estimated, 2) certain costs to obtain a contract with a customer are now capitalized and have historically been recorded as a period expense, and 3) forgivable loans to independent financial advisors are now amortized over the expected useful lives of their relationship period with our subsidiaries; previously these loans were amortized based on their legal terms. Clearing Arrangements. Our broker-dealer subsidiaries do not carry accounts for customers or perform custodial functions related to customers' securities. Each of our broker-dealer subsidiaries introduces all of its customer transactions, which are not reflected in these financial statements, to its clearing brokers, which maintain the customers' accounts and clear such transactions. Also, the clearing brokers provide the clearing and depository operations for our broker-dealer subsidiaries' proprietary securities transactions. These activities may expose us to off-balance-sheet risk in the event that customers do not fulfill their obligations with the clearing brokers, as we have agreed to indemnify our clearing brokers for any resulting losses. We continually assess risk associated with each customer who is on margin credit and record an estimated loss when we believe collection from the customer is unlikely. We incurred losses from these arrangements, prior to any recoupment from our financial advisors, of$14 ,$8 and$17 for the years endedDecember 31, 2019 , 2018 and 2017, respectively. Customer Claims, Litigation and Regulatory Matters. In the ordinary course of business, our operating subsidiaries have been and are the subject of numerous civil actions and arbitrations arising out of customer complaints relating to their activities as a broker-dealer or investment adviser, as an employer or supervisor and as a result of other business activities. In general, the cases involve various allegations that our employees or independent financial advisors had mishandled customer accounts. Due to the uncertain nature of litigation in general, we are unable to estimate a range of possible loss related to lawsuits filed against us, but based on our historical experience and consultation with counsel, we typically reserve an amount we believe will be sufficient to cover any damages assessed against us. We had accruals of$7,817 atDecember 31, 2019 and$9,869 atDecember 31, 2018 for potential losses. See Note 15, "Commitments and Contingencies," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K. However, in the past we have been assessed damages that exceeded our reserves. If we misjudge the amount of damages that may be assessed against us from pending or threatened claims, or if we are unable to adequately estimate the amount of damages that will be assessed against us from claims that arise in the future and reserve accordingly, our operating income and liquidity would be reduced. Such costs may have a material adverse effect on our future financial position, results of operations and liquidity. Fair Value. "Trading securities owned" and "Securities sold, but not yet purchased" on our consolidated statements of financial condition are recorded at fair value, with related unrealized gains and losses recognized in our results of operations. The determination of fair value is fundamental to our financial condition and results of operations and, in certain circumstances, it requires management to make complex judgments. Fair values are based on listed market prices, where possible. If listed market prices are not available or if the liquidation of our positions would reasonably be expected to impact market prices, fair value is determined based on other relevant factors, including dealer price quotations. Fair values for certain derivative contracts are derived from pricing models that consider market and contractual prices for the underlying financial instruments or commodities, as well as time value and yield curve or volatility factors underlying the positions. Pricing models and their underlying assumptions impact the amount and timing of unrealized gains and losses recognized, and the use of different pricing models or assumptions could produce different financial results. Changes in the fixed income and equity markets will impact our estimates of fair value in the future, potentially affecting principal trading revenues. The illiquid nature of certain securities or debt instruments also requires a high degree of judgment in determining fair value due to the lack of listed market prices and the potential impact of the liquidation of our position on market prices, among other factors. 31
-------------------------------------------------------------------------------- The FASB has issued authoritative accounting guidance that defines fair value, establishes a framework for measuring fair value and establishes a fair value hierarchy which prioritizes the inputs to valuation techniques. The guidance clarifies that fair value should be based on assumptions that market participants would use when pricing an asset or liability. Valuation of Deferred Tax Assets: We account for income taxes under the asset and liability method, which requires the recognition of tax benefits or expense on the temporary differences between the tax basis and book basis of our assets and liabilities as well as tax loss carryforwards. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Net deferred tax liability as ofDecember 31, 2019 , which consists principally of the tax benefit of net operating loss carryforwards, compensation charges related to equity instruments and deferred compensation liabilities, offset by deferred revenue, intangible assets and goodwill, amounted to$12,269 . Each reporting period, we assess the realizability of our deferred tax assets to determine if the deductible temporary differences will be utilized on a more-likely-than-not basis. In making this determination, we assess all available positive and negative evidence to determine if our existing deferred tax assets are realizable on a more-likely-than-not basis. Significant weight is given to positive and negative evidence that is objectively verifiable. We considered the reversal of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operating results. The ultimate realization of a deferred tax asset is ultimately dependent on our generation of sufficient taxable income within the available net operating loss carryforward periods to utilize the deductible temporary differences. Based on the reversal pattern of existing taxable temporary difference coupled with objective evidence of cumulative earnings in recent years, the Company concluded that its deferred tax assets are realizable on a more-likely-than-not basis with the exception of certain separate state net operating loss carryforwards. See Note 13, "Income Taxes," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K. Stock-Based Compensation. Our stock based compensation uses a fair value-based method to recognize non-cash compensation expense for share-based transactions. The accounting guidance requires an entity to measure the cost of employee, officer and director services received in exchange for an award of equity instruments, including stock options and restricted stock, based on the grant-date fair value of the award. The cost is recognized as compensation expense over the service period, which would normally be the vesting period of the options. Compensation expense for share-based awards granted to independent contractors is measured at their vesting date fair value. The compensation expense recognized each period is based on the awards' estimated value at the most recent reporting date. Intangible Assets. We amortize intangible assets over their estimated useful lives generally on a straight-line basis. Intangible assets subject to amortization are tested for recoverability whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. We assess the recoverability of our intangible assets by determining whether the unamortized balance can be recovered over the assets' remaining life through undiscounted forecasted cash flows. If undiscounted forecasted cash flows indicate that the unamortized amounts will not be recovered, an adjustment will be made to reduce such amounts to an amount consistent with forecasted future cash flows discounted at a rate commensurate with the risk associated with achieving future discounted cash flows. Future cash flows are based on trends of historical performance and our estimate of future performances, giving consideration to existing and anticipated competitive and economic conditions.Goodwill .Goodwill is not subject to amortization and is tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset may be impaired. The impairment test consists of a comparison of the fair value of the reporting unit with its carrying amount. Fair value is typically based upon future cash flows discounted at a rate commensurate with the risk involved or market based comparables. If the carrying amount of the reporting unit exceeds its fair value then an analysis will be performed to compare the implied fair value of goodwill with the carrying amount of goodwill. An impairment loss will be recognized in an amount equal to excess of the carrying amount over the implied fair value. After an impairment loss is recognized, the adjusted carrying amount of goodwill is its new accounting basis. Accounting guidance on the testing of goodwill for impairment allows entities the option of performing a qualitative assessment to determine the likelihood of goodwill impairment and whether it is necessary to perform such two-step quantitative impairment test.
Results of Operations
The following discussion provides an assessment of our consolidated results of
operations, capital resources and liquidity and should be read in conjunction
with our audited consolidated financial statements and related notes included
elsewhere in this report. The consolidated financial statements include our
accounts and the accounts of our subsidiaries. The presentation of revenue and
certain related accounts for 2019 and 2018 reflect the adoption of ASC 606,
which may affect the comparability of such information and the related analysis.
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The following table includes a reconciliation of net income attributable to the Company as reported to EBITDA, as adjusted:
Year Ended December 31,
2019 2018 2017
Total revenues $ 1,469,302 $ 1,391,136 $ 1,268,152
Total expenses 1,438,631 1,343,733 1,266,991
Income before income taxes 30,007 47,165 1,180
Net income attributable to the
Company 22,767 33,758 7,697
Reconciliation of net income attributable to the Company to EBITDA, as adjusted: Net income attributable to the Company 22,767 33,758 7,697 Less: Interest income (2,906 ) (2,504 ) (506 ) Change in fair value of contingent consideration 664 238 (19 ) Add: Interest expense 23,119 10,796 2,710 Income tax (benefit) expense 7,282 13,379 (6,502 ) Depreciation and amortization 22,294 24,039 28,835 Non-cash compensation expense 6,106 5,882 5,539 Amortization of retention and forgivable loans 549 417 7,396 Amortization of contract acquisition costs (4) 11,759 9,671 - Financial advisor recruiting expense 55 370
5,721
Acquisition-related expense 5,887 1,010 3,469 Other 3,655 (1) 3,392 (2) 1,661 (3) EBITDA, as adjusted$ 101,231 $ 100,448 $ 56,001 (1) Includes loss on severance costs of$1,697 , excise and franchise tax expense of$548 , compensation expense that may be paid in stock of$1,470 , other legal matters of$215 and reversal of a write-off for a sublease commitment of$(275) . (2) Includes loss on severance costs of$481 , excise and franchise tax expense of$629 , compensation expense that may be paid in stock of$535 and non-recurring expenses related to a block repurchase of our common stock and other legal matters of$1,747 .
(3) Includes loss on severance costs of
(4) See Note 4 to the consolidated financial statements for further information.
Earnings before interest, taxes, depreciation and amortization, or EBITDA, as adjusted for acquisition-related expense, amortization of retention and forgivable loans, amortization of contract acquisition costs, change in fair value of contingent consideration related to acquisitions, non-cash compensation expense, financial advisor recruiting expense and other expense, which includes excise and franchise tax expense, severance cost and compensation expense that may be paid in stock, is a key metric we use in evaluating our financial performance. EBITDA, as adjusted, is considered a non-GAAP financial measure as defined by Regulation G promulgated by theSEC under the Securities Act of 1933, as amended. We consider EBITDA, as adjusted, important in evaluating our financial performance on a consistent basis across various periods. Due to the significance of non-cash and non-recurring items, EBITDA, as adjusted, enables our Board of Directors and management to monitor and evaluate the business on a consistent basis. We use EBITDA, as adjusted, as a primary measure, among others, to analyze and evaluate financial and strategic planning decisions regarding future operating investments and potential acquisitions. 33 -------------------------------------------------------------------------------- We believe that EBITDA, as adjusted, eliminates items that are not indicative of our core operating performance, such as acquisition-related expense, amortization of retention and forgivable loans, amortization of contract acquisition costs, and financial advisor recruiting expenses, or do not involve a cash outlay, such as stock-related compensation. EBITDA, as adjusted, should be considered in addition to, rather than as a substitute for, income (loss) before income taxes, net income (loss) and cash flows provided by (used in) operating activities. EBITDA, as adjusted, for the fiscal year endedDecember 31, 2019 was$101,231 , an increase of$783 (1%), from EBITDA, as adjusted, of$100,448 for the fiscal year endedDecember 31, 2018 . This increase was primarily due to an increase in EBITDA, as adjusted, in our insurance brokerage segment. Our independent advisory and brokerage services segment experienced an increase in EBITDA, as adjusted, of$997 (1%) on increased revenue of$43,283 (4%). EBITDA, as adjusted, in our insurance brokerage segment increased by$3,479 (84%) on increased revenue of$39,084 (27%). EBITDA, as adjusted, in our Ladenburg segment decreased by$1,468 (11%) on decreased revenue of$2,571 (3%). EBITDA, as adjusted, in our Corporate segment decreased by$2,225 (15%) on decreased revenues of$1,630 (33%). Segment Description We have three operating segments. The independent advisory and brokerage services segment includes the investment advisory and brokerage services provided by our independent advisory and brokerage subsidiaries to their independent contractor financial advisors and the wealth management services provided byPremier Trust . The Ladenburg segment includes the investment banking, sales and trading and asset management services and investment activities conducted by Ladenburg and LTAM. The insurance brokerage segment includes the wholesale insurance brokerage activities provided by Highland, which delivers life insurance, fixed and equity indexed annuities and long-term care solutions to investment and insurance providers, and which provides marketing strategies, product expertise, and back-office processing for fixed and equity-indexed annuities. Year Ended December 31, 2019 2018 2017 Revenues: Independent advisory and brokerage services$ 1,204,326 $ 1,161,043 $ 1,140,380 Ladenburg 75,523 78,094 66,680 Insurance Brokerage 186,211 147,127 57,132 Corporate 3,242 4,872 3,960 Total revenues$ 1,469,302 $ 1,391,136 $ 1,268,152 Income (loss) before income taxes: Independent advisory and brokerage services$ 65,517 $ 62,748 $ 19,858 Ladenburg 10,501 11,464 6,346 Insurance Brokerage 4,745 1,983 (5,338 ) Corporate (1) (50,756 ) (29,030 ) (19,686 ) Total income (loss) before income taxes$ 30,007 $ 47,165 $ 1,180 EBITDA, as adjusted (2) Independent advisory and brokerage services$ 99,408 $ 98,411 $ 59,756 Ladenburg 11,498 12,966 8,115 Insurance Brokerage 7,645 4,166 2,698 Corporate (17,320 ) (15,095 ) (14,568 ) Total EBITDA, as adjusted$ 101,231 $ 100,448 $ 56,001 (1) Includes interest expense, compensation, professional fees and other general administrative expenses related to the Corporate segment. 34
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(2) See Note 20, "Segment Information," to the consolidated financial
statements included in Part II, Item 8 of this annual report on Form 10-K
for a reconciliation of income (loss) before income taxes to EBITDA, as
adjusted.
Year ended
For the fiscal year endedDecember 31, 2019 , we had net income attributable to the Company of$22,767 as compared to net income attributable to the Company of$33,758 for the fiscal year endedDecember 31, 2018 . The decrease in net income attributable to the Company was primarily due to an overall increase in total expenses, including approximately$5,863 attributable to the Merger. Our total revenues for 2019 increased by$78,166 (6%) from 2018, resulting primarily from increases in commissions of$28,274 , advisory fees of$36,186 , service fees of$12,599 , principal transactions of$1,780 and other income of$1,222 , partially offset by a decrease in investment banking revenue of$2,213 . Our independent advisory and brokerage services segment revenues increased by$43,283 (4%) from 2018 mainly driven by increases in advisory fees, service fees and other income, partially offset by decreases in commissions. Our Ladenburg segment revenues decreased by$2,571 (3%) from 2018 as a result of lower investment banking revenue primarily due to a decrease in equity capital raising as compared to 2018 and a decrease in commissions, partially offset by an increase in principal transactions. Our insurance brokerage segment revenues increased by$39,084 (27%) in 2019 as compared to the prior year primarily due to the acquisition of certain assets of KFG by Highland inAugust 2018 . Our Corporate segment revenues decreased by$1,630 (33%) from 2018 primarily due to the forgiveness of the forgivable loan byNational Financial Services ("NFS") in 2018. Our total expenses for 2019 increased by$94,898 (7%) from 2018, primarily driven by increases of$35,890 (25%) in our insurance brokerage segment,$40,520 (4%) in our independent advisory and brokerage services segment and$20,096 (59%) in our corporate segment, partially offset by a decrease of$1,608 (2%) in our Ladenburg segment. Expenses for 2019 included increases in commissions and fees expense of$48,960 , compensation and benefits expense of$16,766 , interest expense of$12,323 , other expense of$15,202 , acquisition-related expense of$4,877 , and amortization of contract acquisition costs of$2,088 , partially offset by decreases in professional services expense of$2,524 (which excludes Merger related professional services expense), brokerage, communication and clearance fee expense of$2,031 and depreciation and amortization expense of$1,745 . The$28,274 (4%) increase in commissions revenue for 2019 as compared to 2018 was primarily attributable to an increase in revenue in our insurance brokerage segment of$39,355 (27%) due to the acquisition of certain assets of KFG. This was partially offset by a decrease in commissions revenue in our independent advisory and brokerage services segment of$9,020 (2%) due to the decrease in mutual fund trailing commissions, fewer equity trades and lower alternative investment sales. Also commissions revenue in our Ladenburg segment decreased by$2,061 (18%) due to a decrease in retail and institutional sales. The$36,186 (8%) increase in advisory fees revenue in 2019 as compared to 2018 was primarily attributable to a$35,655 increase in our independent advisory and brokerage services segment, due to higher advisory asset balances as a result of improved market conditions. Beginning in 2018, we stopped recognizing advisory revenue on a gross basis when the client's assets are held at a Hybrid RIA. We now recognize these revenues on a net basis (after deducting the advisor's compensation), but also record administrative services provided to Hybrid RIAs. Advisory fee revenue for a particular period is primarily affected by the level of average advisory assets during the period and market conditions. Advisory fees generally are billed to clients in advance on a quarterly or a monthly basis, and are recognized as revenue ratably during the quarter. Total advisory assets under management atDecember 31, 2019 were approximately$96,700,000 as compared to$72,800,000 atDecember 31, 2018 . The$2,213 (4%) decrease in investment banking revenue for 2019 as compared to 2018 was primarily driven by a$4,258 decrease in capital raising revenue offset by a$2,044 increase in strategic advisory services revenue. We derive investment banking revenue from Ladenburg's capital raising activities, including underwritten public offerings and private placements, and strategic advisory services. Revenue from capital raising activities was$45,778 for the fiscal year endedDecember 31, 2019 as compared to$50,036 for the prior year. Strategic advisory services revenue was$8,265 for 2019 as compared to$6,220 for 2018.
The
The$318 (6%) increase in interest and dividends revenue for 2019 as compared to 2018 was primarily attributable to the Ladenburg and corporate segments and was driven by higher cash balances in the 2019 period. 35 -------------------------------------------------------------------------------- The$12,599 (11%) increase in service fees in 2019 as compared to 2018 was primarily driven by an increase of$12,499 in our independent advisory and brokerage services segment. The total increase was primarily due to increases in cash sweep revenue of$11,566 and advisor affiliation fees of$1,640 , partially offset by a$1,011 decrease in trading services and fees. InMarch 2020 , theFederal Reserve reduced the federal funds target rate to 1.0 - 1.25%. Levels of service fees revenue from our cash sweep programs are dependent upon prevailing interest rates and cash asset levels. AtDecember 31, 2019 , client assets included cash balances of approximately$4,452,000 , including approximately$4,085,000 participating in our cash sweep programs. The$1,222 (3%) increase in other income in 2019 as compared to 2018 was primarily driven by an increase of$4,146 in our independent advisory and brokerage services segment, partially offset by a decrease of$2,686 in our corporate segment. The increase in other income in 2019 was primarily due to increases in deferred compensation revenue of$4,421 , marketing services and product incentives of$1,153 and conference revenue of$861 , partially offset by a decrease in growth incentive credits from one of our clearing firms of$3,210 and forgiveness of debt of$2,222 . The$48,960 (5%) increase in commissions and fees expense for 2019 as compared to 2018 was primarily due to the increase in commissions expense of$26,098 in our insurance brokerage segment due to the acquisition of certain assets of KFG by Highland and the increase in our independent advisory and brokerage services segment of$22,772 . Commissions and fees expense is comprised of compensation earned by the registered representatives who serve as independent contractors in our independent advisory and brokerage services segment and insurance agents who serve as independent contractors in our insurance brokerage segment. These payments to the independent contractor registered representatives and insurance agents are calculated based on a percentage of revenues generated by such persons and vary by product. Accordingly, when our independent contractor registered representatives and insurance agents increase their business, both our revenues and expenses increase because our representatives and agents earn higher compensation based on the higher revenues produced. The$16,766 (9%) increase in compensation and benefits expense for 2019 as compared to 2018 was attributable to an increase of$7,725 in our insurance brokerage segment due to an increase in revenue, an increase of$6,373 in our independent advisory and brokerage services segment and an increase of$3,451 in our corporate segment due to increases in incentive compensation, partially offset by a decrease of$783 in our Ladenburg segment. We recorded severance expense of$1,697 during the year ended 2019. The$2,031 (13%) decrease in brokerage, communication and clearance fees expense for 2019 as compared to 2018 was driven by a decrease of$1,494 in our independent advisory and brokerage services segment. The decrease in expense resulted from increased clearing credits during the 2019 period, which arose in connection with theMay 2018 extension of the term of our clearing agreements with one of our clearing firms.
The
The
The$12,323 (114%) increase in interest expense for 2019 as compared to 2018 resulted from a increased average debt balance and higher interest rates. Our average outstanding debt balance was approximately$304,909 for 2019, as compared to$145,107 for 2018. The average interest rate was 7% for 2019 as compared to 6.6% for 2018. Our outstanding debt balance as ofDecember 31, 2019 primarily included$242,828 of indebtedness due to the issuance of our senior notes (excluding theDecember 2018 Notes),$76,350 of 7.25% Senior Notes due 2028 (the "December 2018 Notes") issued in connection with the repurchase of 50,900,000 shares of our common stock directly from our former principal shareholder,Phillip Frost , M.D., and an entity affiliated withDr. Frost ,Frost Nevada Investments Trust (the "Share Repurchase"), and$5,454 of indebtedness incurred in connection with asset acquisitions in our insurance brokerage segment and$5,172 of indebtedness incurred by Securities America. The$1,745 (7%) decrease in depreciation and amortization expense for 2019 as compared to 2018 was mainly due to a decrease of$2,502 in our independent advisory and brokerage services segment, partially offset by an increase of$740 in our insurance brokerage segment. 36 -------------------------------------------------------------------------------- The$4,877 (483%) increase in acquisition-related expense for 2019 as compared to 2018 was primarily due to an increase of$5,881 in our corporate segment primarily due to expenses related to the Merger withAdvisor Group , partially offset by a decrease of$913 in our independent advisory and brokerage services segment. The$2,088 (22%) increase in amortization of contract acquisition costs for 2019 as compared to the 2018 period was due to an increase in our independent advisory and brokerage services segment as a result of the issuance of loans to newly recruited financial advisors during 2019. The$15,202 (21%) increase in other expense in 2019 as compared to 2018 was primarily driven by increases at our independent advisory and brokerage services segment of$15,371 , our insurance brokerage segment of$1,034 and our Ladenburg segment of$71 , partially offset by a decrease at our corporate segment of$1,274 . The total increase in other expense in 2019 was attributable to increases in deferred compensation expense of$5,519 , settlements expense of$4,830 , software and equipment expense of$3,781 and firm insurance of$1,174 , partially offset by decreases in travel and entertainment of$838 and dues, licenses and registrations of$371 . We had an income tax expense of$7,282 in 2019 as compared to an income tax expense of$13,379 in 2018. See Note 13, "Income Taxes," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K.
Year ended
For the fiscal year endedDecember 31, 2018 , we had net income attributable to the Company of$33,758 as compared to net income attributable to the Company of$7,697 for the fiscal year endedDecember 31, 2017 . The increase in net income attributable to the Company was primarily due to an increase in revenue of$122,984 (10%), partially offset by a$76,742 (6%) increase in total expenses. Our total revenues for 2018 increased by$122,984 (10%) from 2017, resulting primarily from increases in commissions of$160,303 , investment banking revenue of$9,803 , interest and dividends of$2,421 , service fees of$34,100 and other income of$4,049 , partially offset by a decrease in advisory fees of$86,507 due to the change in accounting for revenues under ASC 606, and a decrease in principal transactions of$1,185 . Our independent advisory and brokerage services segment revenues increased by$20,663 (2%) from 2017 mainly driven by increases in commissions, service fees and other income. This was partially offset by decreases in advisory fees due to the change in accounting for revenues under ASC 606. Our Ladenburg segment revenues increased by$11,414 (17%) from 2017 as a result of higher investment banking revenue primarily due to an increase in equity capital raising as compared to 2017. Our insurance brokerage segment revenues increased by$89,995 (158%) in 2018 as compared to the prior year primarily due to the change in accounting for insurance commissions revenue under ASC 606. Our total expenses for 2018 increased by$76,742 (6%) from 2017, primarily driven by increases of$82,653 (133%) in our insurance brokerage segment,$10,256 (43%) in our corporate segment and$6,296 (10%) in our Ladenburg segment, partially offset by a decrease of$22,463 (2%) in our independent advisory and brokerage services segment. Expenses for 2018 included increases in commissions and fees expense of$48,166 , compensation and benefits expense of$22,701 , amortization of contract acquisition costs of$9,671 , interest expense of$8,086 , professional services expense of$2,339 and other expense of$1,085 , partially offset by decreases in amortization of retention and forgivable loans of$6,979 , depreciation and amortization expense of$4,796 , acquisition-related expense of$2,459 and brokerage, communication and clearance fee expense of$2,036 . The$160,303 (30%) increase in commissions revenue for 2018 as compared to 2017 was primarily attributable to an increase in sales of variable annuity, mutual fund, fixed annuity, insurance, fixed income and equity products, and the impact of the adoption of ASC 606. Our independent advisory and brokerage services segment commissions revenue increased by$69,987 (15%) resulting from increased sales of variable annuity, mutual fund, fixed annuity, insurance, fixed income and equity products during 2018. Our insurance brokerage segment commissions revenue increased by$89,936 (165%) in 2018 as compared to the prior year primarily due to the change in accounting for revenues under ASC 606. See Note 4, "Revenue from Contracts with Customers," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K. The$86,507 (15%) decrease in advisory fees revenue in 2018 as compared to 2017 was primarily attributable to a$86,837 decrease in our independent advisory and brokerage services segment, due to the change in accounting for revenues under ASC 606. Beginning in 2018, we stopped recognizing advisory revenue on a gross basis when the client's assets are held at a Hybrid RIA. We now recognize these revenues on a net basis (after deducting the advisor's compensation), but also record administrative services provided to Hybrid RIAs. 37 -------------------------------------------------------------------------------- Advisory fee revenue for a particular period is primarily affected by the level of average advisory assets during the period and market conditions. Advisory fees generally are billed to clients in advance on a quarterly or a monthly basis, and are recognized as revenue ratably during the quarter. Total advisory assets under management atDecember 31, 2018 were approximately$72,800,000 as compared to$72,600,000 atDecember 31, 2017 . Total advisory assets under management atJanuary 31, 2019 increased to approximately$76,700,000 , primarily due to the increase in the equity markets duringJanuary 2019 . We expect that future advisory revenue growth may lag behind the growth rate of advisory assets due to the adoption of ASC 606. The$9,803 (21%) increase in investment banking revenue for 2018 as compared to 2017 was primarily driven by a$11,600 increase in capital raising revenue offset by a$1,797 decrease in strategic advisory services revenue. We derive investment banking revenue from Ladenburg's capital raising activities, including underwritten public offerings and private placements, and strategic advisory services. Revenue from capital raising activities was$50,603 for the fiscal year endedDecember 31, 2018 as compared to$39,003 for the prior year, resulting from a significant increase in equity capital raising for small and mid-cap public companies. Strategic advisory services revenue was$5,653 for 2018 as compared to$7,450 for 2017.
The
The$2,421 (95%) increase in interest and dividends revenue for 2018 as compared to 2017 was primarily attributable to the corporate segment driven by higher cash balances and interest rates in the 2018 period. The$34,100 (40%) increase in service fees in 2018 as compared to 2017 was primarily driven by an increase of$33,510 in our independent advisory and brokerage services segment. The total increase was primarily due to increases in cash sweep revenue of$32,690 , other advisor and client fees of$1,920 , and advisor affiliation fees of$1,665 , partially offset by a$2,156 decrease in trading services and fees. Service fees revenue from our cash sweep programs was$54,819 for 2018 as compared to$22,129 in the comparable 2017 period, reflecting the impact of increases in the target rate for the federal funds effective rate and the implementation of new cash sweep programs during 2018. Future levels of service fees revenue are dependent upon changes in prevailing interest rates and cash assets levels. AtDecember 31, 2018 , client assets included cash balances of approximately$5,204,000 , including approximately$4,838,000 participating in our cash sweep programs. We implemented a new cash sweep program in the first quarter of 2018 for eligible advised IRA accounts. See Item 1A. "Risk Factors - Risk Factors Relating to Our Business - Significant interest rate changes or the termination of our cash sweep agreements could affect our profitability and financial condition" above in this annual report on Form 10-K. The$4,049 (11%) increase in other income in 2018 as compared to 2017 was primarily driven by an increase of$4,024 in our independent advisory and brokerage services segment. The increase in other income in 2018 was primarily due to increases in growth incentive credits from one of our clearing firms of$3,056 , marketing services and product incentives of$2,967 and conference revenue of$1,779 , partially offset by a decrease in deferred compensation investment revenue of$3,252 , miscellaneous revenue of$444 and forgiveness of debt of$215 . The$48,166 (5%) increase in commissions and fees expense for 2018 as compared to 2017 was primarily due to the increase in commissions expense of$83,821 in our insurance brokerage segment, primarily due to the adoption of ASC 606, partially offset by a decrease in our independent advisory and brokerage services segment of$35,468 , primarily due to the adoption of ASC 606. Commissions and fees expense is comprised of compensation earned by the registered representatives who serve as independent contractors in our independent advisory and brokerage services segment and insurance agents who serve as independent contractors in our insurance brokerage segment. These payments to the independent contractor registered representatives and insurance agents are calculated based on a percentage of revenues generated by such persons and vary by product. Accordingly, when our independent contractor registered representatives and insurance agents increase their business, both our revenues and expenses increase because our representatives and agents earn higher compensation based on the higher revenues produced. The$22,701 (13%) increase in compensation and benefits expense for 2018 as compared to 2017 was attributable to an increase of$14,121 in our independent advisory and brokerage services segment, as headcount grew 13% from the prior year, an increase of$3,368 in our insurance brokerage segment due to an increase in revenue, an increase of$2,967 in our Ladenburg segment due to increases in incentive compensation and an increase of$2,245 in our corporate segment due to increases in headcount and incentive compensation. The$343 (6%) increase in non-cash compensation expense for 2018 as compared to 2017 was primarily attributable to an increase in our independent advisory and brokerage services segment of$185 and our corporate segment of$152 . 38 -------------------------------------------------------------------------------- The$2,036 (11%) decrease in brokerage, communication and clearance fees expense for 2018 as compared to 2017 was driven by a decrease of$2,175 in our independent advisory and brokerage services segment. This decrease in expense resulted from increased levels of clearing credits during 2018 and included new annual business credits received during the extension of the term of our clearing agreements with one of or clearing firms entered into inMay 2018 . The$621 (7%) increase in rent and occupancy expense, net of sublease revenue, for 2018 as compared to 2017 was attributable to an increase of$872 in our independent advisory and brokerage services segment and an increase of$111 in our insurance brokerage segment due to rent increases, partially offset by a decrease of$379 in our Ladenburg segment. The$2,339 (12%) increase in professional services expense for 2018 as compared to 2017 was primarily attributable to an increase of$3,778 in our Ladenburg segment due to the change in accounting for underwriting expenses under ASC 606 and an increase in our corporate segment of$2,234 , partially offset by a decrease in professional services expense at our independent advisory and brokerage services segment of$3,488 . The$8,086 (298%) increase in interest expense for 2018 as compared to 2017 resulted from a increased average debt balance and higher interest rates. Our average outstanding debt balance was approximately$145,107 for 2018, as compared to$35,416 for 2017. The average interest rate was 6.6% for 2018 as compared to 6% for 2017. Our outstanding debt balance as ofDecember 31, 2018 primarily included$185,328 of indebtedness due to the issuance of our senior notes (excluding theDecember 2018 Notes),$76,350 ofDecember 2018 Notes issued in connection with the Share Repurchase, and$5,763 of indebtedness incurred in connection with asset acquisitions in our insurance brokerage segment. The$4,796 (17%) decrease in depreciation and amortization expense for 2018 as compared to 2017 was mainly due to a decrease of$5,695 in our insurance brokerage segment due to the reclassification of the renewal intangible for insurance commissions to other receivables based on the adoption of ASC 606. The decrease was partially offset by an increase of$948 in our independent advisory and brokerage services segment.
The
The$6,979 (94%) decrease in amortization of retention and forgivable loans for 2018 as compared to 2017 was driven by the reclassification of notes receivable to contract acquisition costs due to the adoption of ASC 606. See Note 4, "Revenue from Contracts with Customers," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K. The$9,671 increase in amortization of contract acquisition costs for 2018 as compared to the 2017 period was due to the change in accounting for revenues under ASC 606 related to costs to obtain a contract with a customer. The$1,085 (2%) increase in other expense in 2018 as compared to 2017 was primarily driven by increases at our independent advisory and brokerage services segment of$2,658 and our insurance brokerage segment of$1,610 . Our corporate and Ladenburg segment experienced decreases in other expense of$2,730 and$453 , respectively, in 2018. The total increase in other expense in 2018 was attributable to increases in software and equipment expense of$2,184 , conference expense of$2,023 , travel and entertainment expense of$1,322 , dues, licenses and registrations of$824 , advertising of$506 , office expense of$502 and education and seminars expense of$307 , partially offset by decreases in deferred compensation plan expense of$3,260 , legal settlement expense of$2,895 and bad debt expenses of$946 . We had an income tax expense of$13,379 in 2018 as compared to an income tax benefit of$6,502 in 2017. See Note 13, "Income Taxes," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K.
Liquidity and Capital Resources
Approximately 34% and 30% of our total assets atDecember 31, 2019 andDecember 31, 2018 , respectively, consisted of cash and cash equivalents, securities owned and receivables from clearing brokers and other broker-dealers, all of which fluctuate, depending upon the levels of customer business and trading activity. 39
-------------------------------------------------------------------------------- Receivables from broker-dealers, which are primarily from clearing brokers, turn over rapidly. A relatively small percentage of our total assets are fixed. The total assets or the individual components of total assets may vary significantly from period to period because of changes relating to economic and market conditions.
Below is a summary of changes in our cash flow (in thousands):
Year Ended
2019 2018 2017
Net cash provided by (used in): Operating activities$ 54,017 $ 63,372 $ 16,215 Investing activities (13,048 ) (17,808 ) (10,075 ) Financing activities 19,292 (29,146 ) 66,782
Net increase in cash and cash equivalents
$ 72,922 Cash and cash equivalents, beginning of period 189,281 172,863
99,941
Cash and cash equivalents, end of period
Cash provided by operating activities for 2019 was$54,017 , which primarily consisted of our net income of$22,725 adjusted for non-cash expenses, increases in deferred compensation plan, as well as decreases in securities owned and receivables from clearing brokers, partially offset by increases in contract acquisition costs, insurance trailing commissions receivable, notes receivable and cash surrender value. Cash provided by operating activities for 2018 was$63,372 , which primarily consisted of our net income of$33,786 adjusted for non-cash expenses, increases in commissions and fees payable, accounts payable and accrued liabilities, accrued compensation and decreases in receivables from clearing brokers, partially offset by increases in contract acquisition costs, other receivables, securities owned and other assets. Investing activities used$13,048 in 2019, primarily due to the purchase of furniture, equipment and leasehold improvements of$13,044 . Investing activities used$17,808 in 2018, primarily due to the purchase of furniture, equipment and leasehold improvements of$14,502 and the cash paid in the KFG and FSFG acquisitions of$3,300 . Cash provided by financing activities for 2019 was$19,292 in 2019, primarily due to the issuance of senior notes of$55,062 , issuance of Series A Preferred Stock of$9,426 , borrowings on a term note of$7,000 and the issuance of common stock upon option exercises and under our employee stock purchase plan of$2,778 , partially offset by the payment of$34,689 in dividends on our Series A Preferred Stock, repurchases of common stock of$10,880 , the payment of$7,179 in dividends on our common stock and$2,226 in repayments of outstanding indebtedness. The debt repayments of$2,226 include$1,917 in bank loans and revolver payments. Financing activities used$29,146 in 2018, primarily due to repurchases of common stock of$69,746 , the payment of$34,031 in dividends on our Series A Preferred Stock,$21,943 in repayments of outstanding indebtedness, and the payment of$8,794 in dividends on our common stock, partially offset by the issuance of senior notes of$104,375 and the issuance of common stock upon option exercises and under our employee stock purchase plan of$4,266 . The debt repayments of$21,943 included a$6,400 repayment of outstanding notes related to the SSN acquisition, a$2,055 repayment of outstanding notes related to the KMS acquisition, and$6,690 in bank loans and revolver payments.
Operating Capital Requirements
Each of Securities America, Triad, Investacorp, KMS, SSN and Ladenburg is subject to a minimum net capital requirement. Therefore, they are subject to certain restrictions on the use of capital and their related liquidity. AtDecember 31, 2019 , the regulatory net capital of each of our broker-dealer subsidiaries was as follows: Securities America$12,467 , Triad$9,916 , Investacorp$10,079 , KMS$7,240 , SSN$8,149 and Ladenburg$24,883 . Failure to maintain the required net capital may subject our broker-dealer subsidiaries to suspension or expulsion byFINRA , theSEC and other regulatory bodies and ultimately may require their liquidation. The Net Capital Rule also prohibits the payment of dividends, redemption of stock and prepayment or payment of principal of subordinated indebtedness if net capital, after giving effect to the payment, redemption or prepayment, would be less than specified percentages of the minimum net capital requirement. Compliance with the Net Capital Rule could limit Ladenburg's operations that require the intensive use of capital, such as underwriting and trading activities, and also could restrict our ability to withdraw capital from our subsidiaries, which in turn, could limit our ability to pay dividends and repay debt. See Item 1A. "Risk Factors - Risk Factors Relating to the Regulatory Environment - Failure to comply with capital requirements could subject us to suspension, revocation or fines by theSEC ,FINRA or other regulators" above. 40 --------------------------------------------------------------------------------Premier Trust , chartered by the state ofNevada , is subject to regulation by theNevada Department of Business and Industry Financial Institutions Division . UnderNevada law,Premier Trust must maintain stockholders' equity of at least$1,000 , including cash of at least$250 . AtDecember 31, 2019 ,Premier Trust had stockholders' equity of$4,072 , including at least$250 in cash.
Sources of Liquidity
Our primary sources of liquidity include cash flows from operations and sales of securities. We believe that our existing assets and cash flows from operations will provide adequate cash and regulatory capital to fund our current level of operating activities through at leastMarch 2021 . InJune 2018 , we entered into an equity distribution agreement under which we could sell up to 6,832,841 shares of our Series A Preferred Stock in an "at the market" offering under Rule 415 under the Securities Act. This equity distribution agreement replaced our previous equity distribution agreement pursuant to which we could sell up to 8,000,000 shares of our Series A Preferred Stock. During 2019, we sold 389,207 shares of Series A Preferred Stock for gross proceeds of$9,430 pursuant to the "at the market" offering. As ofDecember 31, 2019 , we had 6,443,634 shares of Series A Preferred Stock remaining available for sale under such equity distribution agreement. The equity distribution agreement was terminated in connection with the Merger. OnNovember 21, 2017 , we sold$72,500 principal amount of our 6.5% Senior Notes dueNovember 2027 . Interest on the 6.5% Senior Notes accrues fromNovember 21, 2017 and is paid quarterly in arrears onMarch 31 ,June 30 ,September 30 andDecember 31 of each year. We may redeem the 6.5% Senior Notes in whole or in part on or afterNovember 30, 2020 , at our option, at a redemption price equal to 100% of their principal amount, plus accrued and unpaid interest. During the fourth quarter of 2017, the underwriters exercised their option to purchase an additional$4,069 principal amount of 6.5% Senior Notes. The offering resulted in total gross proceeds of$76,569 , before deducting the underwriting discount paid to unaffiliated underwriters and offering expenses aggregating$3,313 . InFebruary 2018 , we entered into a note distribution agreement under which we could sell up to$25,000 of our 6.5% Senior Notes from time to time in an "at the market" offering. During 2018, we sold$6,240 principal amount of 6.5% Senior Notes pursuant to the "at the market" offering and received net proceeds of$6,058 . No compensation was paid to the agents with respect to such sales. We did not sell any 6.5% Senior Notes pursuant to the "at the market" offering during 2019. The note distribution agreement was terminated in connection with the Merger. OnMay 22, 2018 , we sold$40,000 principal amount of our 7% Senior Notes in an underwritten offering. Interest on the 7% Senior Notes accrues fromMay 30, 2018 and is paid quarterly in arrears onMarch 31 ,June 30 ,September 30 andDecember 31 of each year. We may redeem the 7% Senior Notes in whole or in part on or afterMay 31, 2021 , at our option, at a redemption price equal to 100% of their principal amount, plus accrued and unpaid interest. During the second quarter of 2018, the underwriters exercised their option to purchase an additional$1,412 principal amount of 7% Senior Notes. The offering resulted in total gross proceeds of$41,412 , before deducting (i) the underwriting discount paid to unaffiliated underwriters and offering expenses aggregating$2,020 and (ii)$1,622 of 7% Senior Notes repurchased by Ladenburg. InJune 2018 , we entered into a note distribution agreement under which we could sell up to$25,000 of additional 7% Senior Notes from time to time in an "at the market" offering. In 2018, we sold$2,729 principal amount of 7% Senior Notes pursuant to the "at the market" offering for net proceeds of$2,682 . No compensation was paid to the agents with respect to such sales. We did not sell any 7% Senior Notes pursuant to the "at the market" offering during 2019. The note distribution agreement was terminated in connection with the Merger. OnAugust 9, 2018 , we sold$60,000 principal amount of our 7.25% Senior Notes in an underwritten offering. Interest on the 7.25% Senior Notes accrues fromAugust 16, 2018 and is paid quarterly in arrears onMarch 31 ,June 30 ,September 30 andDecember 31 of each year. We may redeem the 7.25% Senior Notes in whole or in part on or afterSeptember 30, 2021 at our option, at a redemption price equal to 100% of their principal amount, plus accrued and unpaid interest. The offering resulted in total gross proceeds of$60,000 , before deducting the underwriting discount paid to unaffiliated underwriters and offering expenses aggregating$2,135 . OnMay 29, 2019 , we sold$57,500 principal amount of our 7.75% Senior Notes dueJune 2029 in an underwritten offering. Interest on the 7.75% Senior Notes accrues fromMay 29, 2019 and it is paid quarterly in arrears onMarch 31 ,June 30 ,September 30 andDecember 31 of each year. We may redeem the 7.75% Senior Notes in whole or in part on or afterJune 30, 2022 at our option, at a redemption price equal to 100% of their principal amount, plus accrued and unpaid interest. The offering resulted in total gross proceeds of$57,500 , before deducting the underwriting discounts paid to unaffiliated underwriters and offering expenses aggregating$2,068 . 41 --------------------------------------------------------------------------------
Debt
OnNovember 6, 2013 , Securities America entered into a loan agreement (the "SA Loan Agreement") with a third party financial institution for a$1,000 revolving credit facility. Revolving loans bore interest at 5.5% per annum over a 5-year term. OnApril 21, 2017 , the SA Loan Agreement was amended to modify the interest rate for the revolving loans to prime plus 2.25%. The$1,000 revolving credit facility was terminated inFebruary 2019 . OnFebruary 6, 2019 , the SA Loan Agreement was amended to provide for a new term loan in the aggregate principal amount of$7,000 , with interest at the rate of 5.52% per annum. Securities America began monthly payments of principal and interest under the new term loan in the amount of$212 , onMarch 6, 2019 . The term loan maturity date wasFebruary 6, 2022 . The loans were collateralized by Securities America's assets. OnFebruary 14, 2020 , the term loan was repaid in full and the SA Loan Agreement was terminated. OnAugust 31, 2018 , as part of the consideration paid for the acquisition of KFG, an affiliate of Highland issued a promissory note (the "KFG Note") to the former shareholders of KFG in the aggregate principal amount of$5,450 , bearing interest at 4.00% per annum and payable in equal monthly installments beginning onSeptember 15, 2018 , with the final installment being due onNovember 15, 2036 . The KFG Note may be prepaid in full or in part at any time without premium or penalty. The KFG Note contains customary events of default, which if uncured, entitle the holder to accelerate the due date of the unpaid principal amount of, and all accrued and unpaid interest on, the KFG Note. Total interest expense on the KFG Note was$212 for the period endedDecember 31, 2019 . InNovember 2018 , as part of the consideration paid for the acquisition of FSFG, Highland issued two promissory notes in the amounts of$169 and$203 , bearing interest at 3.99% and 4.75%, per annum, respectively. and payable in equal monthly installments. The notes maturity dates wereOctober 1, 2021 andJanuary 15, 2024 , respectively. The notes were prepaid in full without penalty onFebruary 14, 2020 . InDecember 2018 , we issued$76.35 million aggregate principal amount of 7.25% Senior Notes due 2028 (the "December 2018 Notes") toPhillip Frost , M.D., and an entity affiliated withDr. Frost ,Frost Nevada Investments Trust . TheDecember 2018 Notes bear interest fromDecember 24, 2018 at the rate of 7.25% per annum, payable quarterly in arrears onMarch 31 ,June 30 ,September 30 andDecember 31 of each year, commencing onMarch 31, 2019 , and at maturity. TheDecember 2018 Notes mature onSeptember 30, 2028 . InFebruary 2020 , theDecember 2018 Notes were purchased byAdvisor Group , our affiliate, and became an intercompany balance. OnFebruary 13, 2020 ,AG Issuer, LLC ("AG Escrow Issuer") issued$500,000 in aggregate principal amount of 6.25% Senior Secured Notes due 2028 (the "2028 Senior Secured Notes"). The 2028 Senior Secured Notes were issued under an indenture, datedFebruary 13, 2020 (the "Initial Indenture"), by and betweenAG Escrow Issuer andWilmington Trust, National Association , as trustee (the "Trustee") and as notes collateral agent (the "Notes Collateral Agent"). AG Escrow Issuer was merged with and intoAdvisor Group onFebruary 14, 2020 . In connection therewith, we andSecurities America Financial Corporation (together, the "Guarantors") entered into a supplemental indenture, datedFebruary 14, 2020 (the "2028 Senior Secured Notes Supplemental Indenture," and together with the Initial Indenture, the "2028 Senior Secured Notes Indenture"), pursuant to which the Guarantors have agreed to guarantee all ofAdvisor Group's obligations under the 2028 Senior Secured Notes Indenture and the 2028 Senior Secured Notes.
The 2028 Senior Secured Notes bear interest at 6.25% and mature on
Prior toMarch 1, 2023 , the 2028 Senior Secured Notes may be redeemed at any time and from time to time, in whole or in part, at a redemption price equal to 100% of the principal amount of the 2028 Senior Secured Notes, plus accrued and unpaid interest, if any, to, but not including, the redemption date, plus a "make-whole." In addition, at any time prior toMarch 1, 2023 , up to 40% of the aggregate principal amount of the 2028 Senior Secured Notes may be redeemed with an amount not to exceed the net cash proceeds from certain equity offerings at a redemption price of 106.25% of the principal amount of the 2028 Senior Secured Notes to be redeemed plus accrued and unpaid interest, if any, to, but excluding, the redemption date. In addition, untilMarch 1, 2023 , up to 10% of the original aggregate principal amount of the 2028 Senior Secured Notes may be redeemed during the period beginning on the issue date and ending onFebruary 28, 2021 , and on each subsequent twelve month period beginningMarch 1, 2021 andMarch 1, 2022 , at a redemption price of 103% of the principal amount thereof, plus accrued and unpaid interest, if any, to, but excluding, the redemption date. 42
-------------------------------------------------------------------------------- On and afterMarch 1, 2023 , the 2028 Senior Secured Notes may be redeemed at any time and from time to time at the applicable redemption prices set forth in the 2028 Senior Secured Notes Indenture plus accrued and unpaid interest, if any, to, but excluding, the redemption date. The 2028 Senior Secured Notes and related guarantees are secured on a first lien basis by substantially all assets ofAdvisor Group , certain of its subsidiaries and the Guarantors (other than certain excluded assets), which assets secure the Guarantors' obligations under the Senior Secured Credit Facilities (as defined below) on a pari passu basis, subject to permitted liens. The 2028 Senior Secured Notes Indenture contains restrictive covenants that limit, among other things, the ability of the Guarantors to incur or guarantee additional indebtedness or issue disqualified stock or certain preferred stock; pay dividends and make other distributions or repurchase stock; make certain investments; create or incur liens; sell assets; enter into certain transactions with the Guarantors; merge, consolidate or transfer or sell all or substantially all of the Guarantors' assets; and designate restricted subsidiaries as unrestricted subsidiaries. These covenants are subject to a number of important limitations and exceptions. The 2028 Senior Secured Notes Indenture also contains customary events of default which would permit the holders of the 2028 Senior Secured Notes to declare the 2028 Senior Secured Notes to be immediately due and payable if not cured within applicable grace periods. OnFebruary 14, 2020 , the Guarantors entered into a supplemental indenture (the "2027 Senior Notes Supplemental Indenture"), pursuant to which the Guarantors agreed to guarantee all ofAdvisor Group's obligations under the indenture, dated as ofAugust 1, 2019 , amongAdvisor Group , the guarantor parties thereto from time to time, and the Trustee (as supplemented, the "2027 Senior Notes Indenture"), andAdvisor Group's 10.75% senior unsecured notes due 2027 (the "2027 Senior Notes"), which, as ofFebruary 14, 2020 , had an outstanding aggregate principal amount of approximately$350,000 . OnFebruary 20, 2020 , the Guarantors entered into a third supplemental indenture, pursuant to which the Guarantors agreed to guarantee an additional$63,000 in 2027 Senior Notes issued byAdvisor Group . The 2027 Senior Notes mature onAugust 1, 2027 . Interest on the 2027 Senior Notes accrues at a rate of 10.75% per annum and is payable semi-annually in arrears onFebruary 1 andAugust 1 of each year. At any time prior toAugust 1, 2022 , the 2027 Senior Notes may be redeemed, in whole or in part, at a redemption price equal to 100% of the principal amount of such notes plus a make-whole premium, together with accrued but unpaid interest to, but excluding, the redemption date. At any time on or afterAugust 1, 2022 , some or all of the 2027 Senior Notes may be redeemed at any time and from time to time at the applicable redemption prices set forth in the 2027 Senior Notes Indenture plus accrued and unpaid interest, if any, to, but excluding, the redemption date. At any time prior toAugust 1, 2022 , the 2027 Senior Notes may be redeemed with the net cash proceeds received from certain equity offerings at a redemption price equal to 110.750% of the principal amount of such notes, plus accrued but unpaid interest to, but excluding, the redemption date.
The 2027 Senior Notes contain restrictive covenants and other terms that are substantially similar to the 2028 Senior Secured Notes.
OnFebruary 14, 2020 , the Guarantors, as guarantors, entered into a joinder agreement toAdvisor Group's credit agreement with, inter alios, the several lending institutions from time to time party thereto and UBS AG,Stamford Branch , as administrative agent, governing the senior secured credit facilities (the "Senior Secured Credit Facilities"). OnFebruary 14, 2020 , the Senior Secured Credit Facilities consisted of (i) a seven year$1.5 billion senior secured Term Loan B facility (the "Term Loan Facility") and (ii) a$325 million senior secured revolving credit facility (the "Revolving Credit Facility").Advisor Group is the borrower under the Senior Secured Credit Facilities. The Revolving Credit Facility includes sub-facilities for letters of credit and short-term borrowings referred to as swing line borrowings. In addition, the credit agreement governing the Senior Secured Credit Facilities provides thatAdvisor Group has the right at any time, subject to customary conditions, to solicit existing or prospective lenders to provide incremental term loans or incremental revolving credit commitments. The lenders under the Senior Secured Credit Facilities are not obligated to provide any such incremental loans or commitments, and any such addition of or increase in loans will be subject to certain customary conditions precedent and other provisions. Borrowings under the Senior Secured Credit Facilities bear interest, at the option ofAdvisor Group , at a rate per annum equal to certain margins over either (a) a base rate determined by reference to the highest of (i) theU.S. prime rate published inThe Wall Street Journal from time to time, (ii) the federal funds effective rate, plus 1/2 of 1% and (iii) one month LIBOR rate plus 1.00% or (b) a LIBOR rate determined by reference to theLondon interbank offered rate, adjusted for statutory reserve requirements, subject to a zero percent floor. 43
-------------------------------------------------------------------------------- During the continuation of any payment event of default, the interest rate will be, with respect to overdue principal, the applicable interest rate, plus 2.00% per annum and, with respect to any other overdue amount, the interest rate applicable to base rate loans, plus 2.00% per annum (other than to defaulting lenders). A per annum fee equal to the applicable spread over the LIBOR rate under the Revolving Credit Facility in effect from time to time will accrue on the aggregate face amount of outstanding letters of credit under the Revolving Credit Facility, payable in arrears at the end of each quarter after the closing of the Senior Secured Credit Facilities and upon termination of the Revolving Credit Facility. In addition,Advisor Group will pay (a) a fronting fee of 0.125% on the aggregate face amount of outstanding letters of credit under the Revolving Credit Facility, payable in arrears at the end of each quarter after the closing of the Senior Secured Credit Facilities and upon termination of the Revolving Credit Facility and (b) such issuing bank's customary and reasonable issuance and administration fees.Advisor Group will pay to the lenders under the Revolving Credit Facility (other than defaulting lenders) a commitment fee of 0.50% per annum on the undrawn portion (for this purpose, disregarding swingline loans as a utilization of the Revolving Credit Facility) of the commitments in respect of the Revolving Credit Facility, subject to two step-downs of 12.5 basis points based on meeting specified first lien net leverage ratios. All commitment fees are payable quarterly in arrears upon the termination of the commitments. The Senior Secured Credit Facilities contain customary mandatory prepayments, including with respect to excess cash flow (solely with respect to the Term Loan Facility), asset sale and casualty proceeds and proceeds from certain incurrences of indebtedness.Advisor Group may voluntarily repay outstanding loans under the Senior Secured Credit Facilities at any time without premium or penalty, other than reimbursement of redeployment costs with respect to LIBOR loans. Any voluntary prepayment, refinancing or repricing of the term loans under the Term Loan Facility in connection with certain repricing transactions that occur prior to the six-month anniversary of the closing of the Senior Secured Credit Facilities shall be subject to a prepayment premium of 1.00% of the principal amount of the term loans so prepaid, refinanced or repriced (subject to customary exceptions). The Term Loan Facility matures onAugust 1, 2026 and will amortize in equal quarterly installments in an aggregate annual amount equal to 1.00% of its original principal amount (subject to reduction in connection with debt prepayments and debt buybacks), with the balance payable on the final maturity date. The Revolving Credit Facility will terminate on the day that is five years after the closing of the Senior Secured Credit Facilities. All obligations ofAdvisor Group under the Senior Secured Credit Facilities and, at the option ofAdvisor Group , the obligations ofAdvisor Group or any of its restricted subsidiaries under certain hedge agreements and cash management arrangements provided by any lender party to the Senior Secured Credit Facilities or any of its affiliates and certain other persons, are unconditionally guaranteed byAG Parent Corp. ("Holdings") and certain ofAdvisor Group's existing and subsequently acquired or organized direct or indirect material wholly ownedU.S. restricted subsidiaries with customary exceptions including, among other things, for broker dealer subsidiaries and where providing such guarantees is not permitted by law, regulation or contract or would result in adverse tax consequences (other than de minimis) to Holdings,Advisor Group or any of their subsidiaries or any direct or indirect parent thereof. All obligations ofAdvisor Group under the Senior Secured Credit Facilities and, at the option ofAdvisor Group , certain hedge agreements and cash management arrangements provided by any lender party to the Senior Secured Credit Facilities or any of its affiliates and certain other persons, and the guarantees of such obligations, are secured, subject to permitted liens and other exceptions, by (i) a perfected pledge of all the capital stock of each direct, wholly owned material restricted subsidiary held byAdvisor Group, Holdings and each subsidiary guarantor (limited to 65% of the capital stock of certain subsidiaries and subject to customary exceptions) and (ii) a perfected security interest in substantially all other tangible and intangible assets ofAdvisor Group, Holdings and the subsidiary guarantors (subject to customary exceptions). The Senior Secured Credit Facilities contain a number of covenants that, among other things, restrict, subject to certain exceptions,Advisor Group's ability and the ability of the restricted subsidiaries ofAdvisor Group to: incur additional indebtedness and guarantee certain indebtedness; create or incur liens; engage in mergers or consolidations; sell, transfer or otherwise dispose of assets; pay dividends and distributions or repurchase capital stock; prepay, redeem or repurchase certain indebtedness; make investments, loans and advances; and enter into certain transactions with affiliates. The Revolving Credit Facility contains a springing financial covenant requiring compliance with a certain ratio of first lien net indebtedness to consolidated EBITDA. Breaches of this financial covenant are subject to customary "equity cure" rights. 44 -------------------------------------------------------------------------------- The Senior Secured Credit Facilities limit Holdings' activities to being a passive holding company and contain certain customary affirmative covenants and events of default for facilities of this type, including relating to a change of control. If an event of default occurs, the lenders under the Senior Secured Credit Facilities (or, in the case of the springing financial covenant under the Revolving Credit Facility, the lenders under the Revolving Credit Facility) are entitled to take various actions, including the acceleration of amounts due under the Senior Secured Credit Facilities (or the Revolving Credit Facility in the case of such springing financial covenant) and all actions permitted to be taken by secured creditors.
We were in compliance with all covenants in our debt agreements as of
Stock Repurchases InMarch 2007 ,October 2011 ,November 2014 ,November 2016 andApril 2019 , our board of directors authorized in the aggregate the repurchase of up to 37,500,000 shares of our common stock from time to time on the open market or in privately negotiated transactions depending on market conditions. Since inception throughDecember 31, 2019 , 27,226,063 shares of common stock have been repurchased for$73,194 under the program, including 2,041,958 shares repurchased for$7,078 in 2019. The board authorized stock repurchase program expired at the effective time of the Merger as there is no established trading market for shares of our common stock as of the closing date of the Merger.
Lease Agreements
AtDecember 31, 2019 , we were obligated under several non-cancellable lease agreements for office space, which provide for future minimum lease payments aggregating approximately$39,453 throughJanuary 2030 . We have subleased vacant space under subleases to unrelated subtenants, which entitle us to receive rents aggregating approximately$28 throughFebruary 2020 . In connection with a new office lease dated March, 2016, Securities America has exercised an option to lease additional office space, for 12 years and would require the payment of an annual rent of$1,707 plus operating expenses of$537 , subject to certain adjustments.The annual rent plus operating expenses for the first year of the initial term of the lease is$2,244 , payable in monthly installments of$187 . The Company currently expects that this lease would commence in 2020 upon completion of the construction. Such estimated rent amounts are not included in the total minimum lease payments above.
Off-Balance Sheet Arrangements
Each of our broker-dealer subsidiaries, as guarantor of its customer accounts to its clearing broker, is exposed to off-balance-sheet risks in the event that its customers do not fulfill their obligations with the clearing broker. Also, if any of our broker-dealer subsidiaries maintains a short position in certain securities, it is exposed to future off-balance-sheet market risk, since its ultimate obligation may exceed the amount recognized in the financial statements. See Note 16, "Off-Balance-Sheet Risk and Concentration of Credit Risk," to the consolidated financial statements included in Part II, Item 8 of this annual report on Form 10-K. Contractual Obligations The table below summarizes information about our contractual obligations as ofDecember 31, 2019 and the effect these obligations are expected to have on our liquidity and cash flow in the future years. 45 --------------------------------------------------------------------------------
Payments Due By Period
Less than
Total 1 year 1 - 3 years 4 - 5 years After 5 years
Operating leases(1) $ 39,453 $ 8,341 $ 11,408 $ 7,529 $ 12,175
Financing leases (2) 424 209 206 9 -
Deferred compensation plan(3) 27,385 6,177 1,307 1,640 18,261
Note payable under subsidiary's term
loan with bank (4) 5,005 5,005 - - -
Notes payable to Kestler Financial
Group's former shareholders (5) 7,681 689 1,111 845 5,036
Notes payable to Four Seasons
Financial Group's former
shareholders (6) 258 258 - - -
6.5% Senior Notes (7) 125,421 5,383 10,765 10,765 98,508
7% Senior Notes (8) 67,571 2,976 5,953 5,953 52,689
7.25% Senior Notes (9) 98,063 4,350 8,700 8,700 76,313
7.75% Senior Notes (10) 99,834 4,456 8,913 8,913 77,552
7.25% Phillip Frost Note (11) 4,439 4,439 - - -
7.25% Frost Nevada Trust Note (12) 63,345 63,345 - - -
Total $ 538,879 $ 105,628 $ 48,363 $ 44,354 $ 340,534
(1) It does not include lease obligation plus operating expenses of
approximately
building being built for Securities America. This lease obligation
commences in 2020. See Note 6 "Leases" and Note 15, "Commitments and
Contingencies," to the consolidated financial statements included in Part
II, Item 8 of this annual report on Form 10-K.
(2) See Note 6, "Leases" to the consolidated financial statements included in
Part II, Item 8 of this annual report on Form 10-K.
(3) See Note 12, "Deferred Compensation Plan," to the consolidated financial
statements included in Part II, Item 8 of this annual report on Form 10-K.
(4) On
an amendment to its loan agreement with a third-party financial
institution to provide for a term loan in the aggregate principal amount
of
monthly installments. The term loan was prepaid in full, without penalty,
on
financial statements included in Part II, Item 8 of this annual report on
Form 10-K.
(5) Notes bear interest at 4% per annum and mature on November 15, 2036 .Includes annual cash payments to be made on the anniversary of the closing
date for the next two years. See Note 14, "Notes Payable," to the
consolidated financial statements included in Part II, Item 8 of this
annual report on Form 10-K.
(6) Notes bore interest at 3.99% and 4.75% per annum and were scheduled to
mature on October 1, 2021 and January 15, 2024 , respectively. The notes
were prepaid in full, without penalty, on
annual cash payment to be made on the anniversary of the closing date for
the next year. See Note 14, "Notes Payable," to the consolidated financial
statements included in Part II, Item 8 of this annual report on Form 10-K.
(7) Senior notes bear interest at 6.5% per annum and mature onNovember 30 ,
2027. Interest will be paid quarterly in arrears. See Note 14, "Notes
Payable," to the consolidated financial statements included in Part II,
Item 8 of this annual report on Form 10-K.
(8) Senior notes bear interest at 7% per annum and mature on
Interest will be paid quarterly in arrears. See Note 14, "Notes Payable,"
to the consolidated financial statements included in Part II, Item 8 of
this annual report on Form 10-K.
46--------------------------------------------------------------------------------
(9) Senior notes bear interest at 7.25% per annum and mature on
2028. Interest will be paid quarterly in arrears. See Note 14, "Notes
Payable," to the consolidated financial statements included in Part II,
Item 8 of this annual report on Form 10-K.
(10) Senior notes bear interest at 7.75% per annum and mature on
Interest will be paid quarterly in arrears. See Note 14, "Notes Payable,"
to the consolidated financial statements included in Part II, Item 8 of
this annual report on Form 10-K.
(11) Note bears interest at 7.25% per annum and matures on September 30, 2028 .
In
and became an intercompany balance. See Note 14, "Notes Payable," to the
consolidated financial statements included in Part II, Item 8 of this
annual report on Form 10-K.
(12) Note bears interest at 7.25% per annum and matures on September 30, 2028 .
In
and became an intercompany balance. See Note 14, "Notes Payable," to the
consolidated financial statements included in Part II, Item 8 of this
annual report on Form 10-K.
Market Risk
Market risk generally represents the risk of loss that may result from the potential change in the value of a financial instrument as a result of fluctuations in interest and currency exchange rates, equity and commodity prices, changes in the implied volatility of interest rates, foreign exchange rates, equity and commodity prices and also changes in the credit ratings of either the issuer or its related country of origin. Market risk is inherent to both derivative and non-derivative financial instruments, and accordingly, the scope of our market risk management procedures extends beyond derivatives to include all market risk sensitive financial instruments. Current and proposed underwriting, corporate finance, merchant banking and other commitments are subject to due diligence reviews by our senior management, as well as professionals in the appropriate business and support units involved. Credit risk related to various financing activities is reduced by the industry practice of obtaining and maintaining collateral. We monitor our exposure to counter-party risk through the use of credit exposure information, the monitoring of collateral values and the establishment of credit limits.
Interest Rate Risk
We offer our advisors and their clients cash sweep vehicles that are interest rate sensitive. Clients earn interest on balances in cash sweep accounts, and we earn service fee revenue. Our fees from our cash sweep programs are sensitive to prevailing interest rates. We attempt to mitigate interest rate risk and strive to create a net interest margin that is relatively stable and predictable over a wide range of interest rates by structuring the mix of funds indexed to the effective federal funds rate and term swap rates. Changes in interest rates and fees and our hedge profile for our cash sweep programs are monitored by ourFDIC Sweep Steering Committee .
Special Note Regarding Forward-Looking Statements
We and our representatives may from time to time make oral or written "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, including any statements that may be contained in the foregoing discussion in "Management's Discussion and Analysis of Financial Condition and Results of Operations," in this report and in other filings with theSecurities and Exchange Commission and in our reports to shareholders, which reflect our expectations or beliefs with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties and, in connection with the "safe-harbor" provisions of the Private Securities Litigation Reform Act, we have identified under "Risk Factors" in Item 1A above, important factors that could cause actual results to differ materially from those contained in any forward-looking statement made by or on behalf of us. Results actually achieved may differ materially from expected results included in these forward-looking statements as a result of these or other factors. Due to such uncertainties and risks, readers are cautioned not to place undue reliance on such forward-looking statements, which speak only as of the date on which such statements are made. We do not undertake to update any forward-looking statement that may be made from time to time by or on behalf of us, except as may be required by law. 47
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The information in Item 7 under the captions "Management's Discussion and Analysis of Financial Condition and Results of Operations - Market Risk" and "Management's Discussion and Analysis of Financial Condition and Results of Operations - Interest Rate Risk" is incorporated herein by reference.
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