Virtus Investment Partners, Inc. — Q3 2012 Form 10-Q
Reporting period: Three and nine months ended September 30, 2012; comparative periods ended September 30, 2011. Unaudited interim results.
Business context and operating performance
Virtus provides investment management and related services to retail and institutional clients. Revenue is primarily asset-based. Assets under management (AUM) reached $41.8 billion at September 30, up 26.3% year over year. The company attributed growth to net inflows and market appreciation.
- Q3 total sales were $3.9 billion, up 18.2%; long-term open-end fund sales were $3.3 billion, up 37.5%.
- Q3 net flows were $1.8 billion and market appreciation added $1.4 billion. For the first nine months, net flows were $5.0 billion and appreciation added $3.3 billion.
- Long-term open-end mutual funds were the largest growth driver. Institutional AUM declined to $4.2 billion from $5.5 billion a year earlier.
Financial results and liquidity
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Revenue | $72.0 million | $55.5 million | $201.2 million | $148.5 million |
| Operating income (loss) | $17.8 million | $(2.2) million | $40.0 million | $5.7 million |
| Net income (loss) | $11.6 million | $(2.8) million | $25.5 million | $4.8 million |
| Net income attributable to common stockholders | $11.6 million | $(3.5) million | $25.4 million | $2.2 million |
| Diluted EPS | $1.43 | $(0.56) | $3.15 | $0.31 |
- Q3 operating margin was approximately 24.7%, versus a loss margin in Q3 2011; nine-month operating margin was approximately 19.9%, versus 3.8%. Q3 net margin was approximately 16.2% and nine-month net margin 12.7%.
- Investment management fees rose 29.5% in Q3 and 38.4% for the first nine months. Higher average fee-earning AUM and improved average fee rates contributed.
- Operating cash flow was $14.6 million for the first nine months, versus $6.7 million. Investing cash outflow was $3.2 million and financing cash outflow $13.4 million; cash and cash equivalents at period end were $43.2 million on the cash-flow statement.
- At September 30, cash and cash equivalents on the balance sheet were $42.3 million; working capital was $81.8 million, up from $45.9 million at year-end 2011. Long-term debt was $15.0 million, unchanged.
- The company amended and restated its secured revolving facility in September: five-year term, $75 million capacity, plus a potential $50 million increase subject to lender approval. The September 30 borrowing rate was 2.00%; the company reported compliance with financial covenants.
Material changes, outlook, and risks
- All outstanding Series B preferred shares converted into 1,349,300 common shares in January 2012, eliminating preferred dividends and increasing common shares outstanding.
- Q3 operating expenses fell 6.0% year over year, mainly because the prior-year quarter included $9.6 million of closed-end fund launch costs. Nine-month expenses rose 12.9%, reflecting higher compensation and asset-related distribution costs. Restructuring and severance charges were $0.6 million for Q3 and $1.3 million year to date.
- The effective tax rate was 39.3% for the first nine months of 2012. Operating cash flow included expected use of deferred tax assets to reduce current taxes payable of $16.0 million. The filing notes that the prior-year tax comparison was affected by valuation-allowance accounting.
- On October 1, after quarter-end, Virtus acquired Rampart Investment Management for $0.8 million, including transaction costs. No specific revenue or earnings guidance is provided.
- Management said working capital and operating cash flows should meet short-term needs. Planned cash uses include organic and acquired growth, fund seeding, share repurchases, and infrastructure investment. Results depend on AUM, market conditions, flows, investment performance, and access to financing.
- Key risks include market declines that reduce fee-generating AUM, investment underperformance and resulting outflows, competition and fee pressure, key-person retention, regulatory or legal matters, and compliance with debt covenants. The company reported routine litigation, arbitration, and regulatory matters; it did not expect them, individually or collectively, to materially adversely affect consolidated financial statements, while noting outcomes are uncertain.
- A hypothetical 10% change in the fair value of marketable securities would change net income by approximately $4.9 million; a 300-basis-point interest-rate change would affect interest expense by approximately $0.1 million for Q3 or $0.3 million for the first nine months.
Important facts for investors to verify
- Whether strong long-term mutual fund sales and positive net flows continued after September 30, including concentration in the leading Emerging Markets Opportunities Fund.
- How much of earnings and cash generation is recurring versus driven by market appreciation, investment gains, and deferred-tax-asset utilization.
- The future impact of higher compensation and distribution costs, including RSU tax-withholding cash needs; approximately 138,000 RSUs were expected to vest in March 2013.
- Rampart’s integration, purchase-price allocation, and contribution to AUM and results.
- Available borrowing capacity, covenant headroom, and sensitivity to markets, interest rates, and potential client outflows.