LPL Financial Holdings Inc. — Form 10-Q Summary
Business context and reporting period
LPL Financial provides brokerage, investment advisory, custody, clearing, trust, technology and related services to independent financial advisors, financial institutions and their clients in the United States. The filing covers the three and six months ended June 30, 2013, compared with the corresponding 2012 periods. The financial statements are unaudited.
- Supported 13,409 advisors, up 1.7% year over year.
- Advisory and brokerage assets were $396.7 billion, up 12.4%.
- Advisory assets under custody were $132.4 billion, up 18.9%; net new advisory assets were $6.7 billion for the first half.
- Recurring revenue represented 65.5% of first-half net revenue.
Financial performance and key metrics
| Metric | Q2 2013 | Q2 2012 | Change |
|---|---|---|---|
| Net revenue | $1,018.9 million | $907.8 million | 12.2% |
| Income before taxes | $74.9 million | $67.3 million | 11.3% |
| Net income | $45.1 million | $39.5 million | 14.1% |
| Diluted EPS | $0.42 | $0.35 | 20.0% |
| Adjusted EBITDA | $131.0 million | $111.6 million | 17.4% |
| Adjusted earnings | $65.9 million | $55.0 million | 19.8% |
| Metric | Six months 2013 | Six months 2012 | Change |
|---|---|---|---|
| Net revenue | $1,993.7 million | $1,809.6 million | 10.2% |
| Income before taxes | $165.5 million | $134.2 million | 23.3% |
| Net income | $99.8 million | $80.7 million | 23.7% |
| Diluted EPS | $0.93 | $0.72 | 29.2% |
| Adjusted EBITDA | $267.0 million | $236.5 million | 12.9% |
| Adjusted earnings | $134.0 million | $118.2 million | 13.4% |
Q2 net income margin was approximately 4.4%, compared with 4.4% in the prior-year quarter. First-half net income margin was approximately 5.0%, compared with 4.5% in 2012. Adjusted EBITDA margin increased to 12.9% in Q2 from 12.3% and to 13.4% for the first half from 13.1%.
- Q2 revenue growth reflected higher commission revenue, advisory revenue, transaction activity and alternative-investment marketing allowances.
- First-half commission revenue increased 9.1% and advisory revenue increased 11.6%. Asset-based revenue increased 5.6%, although cash-sweep revenue declined because of lower short-term interest rates and contract repricing.
- The production payout ratio was 87.00% in Q2 and 86.52% for the first half, compared with 86.74% and 86.57%, respectively, in 2012.
- The effective tax rate was 39.8% in Q2 and 39.7% for the first half.
Cash flow, liquidity and debt
- Cash and cash equivalents were $584.9 million at June 30, 2013, compared with $466.3 million at December 31, 2012.
- Operating cash flow was negative $4.3 million for the first half, versus positive $56.1 million in 2012, primarily because client trading and settlement activity used approximately $155.2 million of cash.
- Investing cash flow was negative $33.2 million, including $32.2 million of capital expenditures. No acquisition cash outflow was recorded in 2013, compared with $38.8 million for Fortigent in 2012.
- Financing cash flow was positive $156.1 million, including proceeds from new debt, partially offset by debt repayments, $51.0 million of share repurchases and $28.8 million of dividends.
- Senior secured debt was $1.541 billion, compared with $1.318 billion at December 31, 2012. The carrying value exceeded the current portion of $10.8 million; most principal is due in 2017 and 2019.
- On May 13, 2013, the Company refinanced its credit facilities, increasing Term Loan B to approximately $1.084 billion and repaying $238.9 million of Term Loan A. The refinancing produced $8.0 million of debt-extinguishment expense.
- The $250.0 million revolving facility had $21.4 million committed to letters of credit and $228.6 million undrawn at June 30, 2013. The Company also had three uncommitted lines of credit with no outstanding balances.
- The Company reported compliance with debt covenants. The leverage ratio was 2.50 versus a maximum of 4.00, and interest coverage was 10.57 versus a minimum of 3.00.
- LPL Financial, the broker-dealer subsidiary, had $181.1 million of net capital and $175.1 million of excess net capital against a $6.0 million minimum requirement.
Material changes, outlook and unusual items
- The expanded Service Value Commitment is expected to be completed in 2015. Total estimated charges are approximately $65.0 million; $12.1 million was incurred in the first half of 2013, and management expected approximately $40.0 million for the full year.
- Management expects annual pretax run-rate savings of approximately $30.0 million to $35.0 million by 2015. Certain back-office functions are being outsourced, with initial transitions expected before year-end.
- Restructuring charges were $7.3 million in Q2 and $13.4 million in the first half, compared with $2.1 million and $3.8 million, respectively, in 2012.
- Contingent consideration liabilities increased to $37.1 million. The NRP obligation increased by $4.7 million, while the Concord obligation decreased by $3.8 million during the first half.
- The Company repurchased 1.58 million shares for $57.8 million during the first half. At June 30, $29.2 million remained under the prior plan and $200.0 million was available under the May 2013 plan.
- Quarterly dividends were $0.135 per share in the first and second quarters. On July 30, 2013, the Board declared a subsequent $0.19 per-share dividend payable August 30, 2013.
- Low short-term interest rates continue to pressure cash-sweep revenue and demand for fixed annuities. All $1.5 billion of senior secured debt was exposed to floating-rate risk at June 30, 2013.
- Key risks include market declines affecting asset-based and recurring revenue, advisor recruitment and retention, regulatory actions, technology and operational failures, reliance on outsourced service providers, credit and margin-lending exposure, and the ability to execute the Service Value Commitment.
- The Company stated that pending legal matters were not expected to have a material impact. It reached an agreement with its principal regulator concerning email surveillance and production, and is awaiting final IRS consent regarding a previously accrued withholding-tax matter.
Important facts for investors to verify
- Whether the Service Value Commitment achieves the targeted $30.0 million to $35.0 million of annual pretax savings and remains within the $65.0 million estimated cost.
- The effect of floating-rate debt, low short-term rates and cash-sweep contract repricing on future interest expense and asset-based revenue.
- Cash conversion and working-capital volatility, particularly client settlement activity, given negative operating cash flow in the first half.
- Debt repayment capacity, covenant headroom, refinancing requirements and the concentration of principal maturities in 2017 and 2019.
- Whether growth in advisory assets, net new assets and advisor count continues to offset market volatility and product-mix pressures.
- Future contingent consideration payments related to NRP, Concord and Veritat, as well as the potential impact of regulatory and legal matters.
- The comparability of GAAP results with Adjusted EBITDA and Adjusted Earnings, which exclude restructuring, debt-extinguishment, acquisition, amortization and share-based compensation items.