Wisdomtree, Inc. quarterly report, Q3 FY2017

WisdomTree Investments, Inc. — Q3 2017 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2017. Unless otherwise noted, amounts are U.S. dollars; financial-statement amounts are in millions. WisdomTree sponsors and manages exchange-traded products (ETPs), earning primarily advisory fees linked to average assets under management (AUM).

Financial performance and position

Metric	Q3 2017	Q3 2016	Nine months 2017	Nine months 2016
Revenue	$58.0	$51.8	$176.0	$168.6
Advisory fees	$57.6	$51.6	$167.0	$168.1
Pre-tax income	$15.5	$14.2	$52.5	$47.1
Net income	$8.0	$8.0	$27.0	$23.7
Diluted EPS	$0.06	$0.06	$0.20	$0.17

• Q3 revenue rose 12.0%, while expenses increased 13.1% to $42.5 million; net income was essentially flat. Compensation and benefits increased 27.2% to $19.5 million, primarily reflecting incentive compensation and other headcount-related costs.
• Q3 expense-to-revenue ratio was 73.3%, versus 72.5% a year earlier; the corresponding pre-tax margins were approximately 26.7% and 27.5%. For the nine months, the expense ratio was 70.1% versus 72.1%, and pre-tax margin was approximately 29.9% versus 27.9%.
• Nine-month revenue included a $6.9 million noncash Tradeworx settlement gain and $0.8 million of reimbursement for prior-year fund-related costs. Advisory fees declined 0.7% despite higher average global AUM, primarily because of a lower U.S. average advisory fee.
• Nine-month operating cash flow was $31.1 million, compared with $43.9 million. Investing used $17.8 million and financing used $37.0 million; cash and cash equivalents fell $22.5 million to $70.2 million.
• At September 30, cash and cash equivalents were $70.2 million; securities owned at fair value were $68.4 million; held-to-maturity securities totaled $23.3 million; and accounts receivable were $19.7 million. Reported available liquidity, defined as liquid assets less total liabilities, was $137.0 million, down from $143.4 million at year-end 2016.
• Total liabilities were $44.7 million and stockholders’ equity was $203.0 million. The filing reports no borrowings or debt balance. The current ratio was approximately 4.1, based on current assets of $165.7 million and current liabilities of $39.9 million.
• The company declared quarterly dividends of $0.08 per share, unchanged from 2016. It paid $32.8 million in dividends and repurchased $4.2 million of shares during the first nine months; $92.3 million remained under its repurchase authorization.

Business trends and changes versus comparable periods

• Global AUM reached $46.4 billion, up 19.5% from September 2016. Q3 U.S.-listed ETF AUM increased to $44.4 billion from $43.2 billion at June 30, driven by market appreciation of $1.8 billion, partly offset by $619 million of net outflows. Outflows were concentrated in the two largest ETFs, HEDJ and DXJ, and U.S. equity ETFs.
• International products had $332 million of Q3 net inflows; international AUM rose to $2.0 billion from $1.5 billion at June 30, mainly due to inflows. The International Business segment remained loss-making before tax, with a $3.0 million Q3 loss, compared with a $2.8 million loss a year earlier.
• Average U.S. advisory fees were 0.50% in Q3, down from 0.51% a year earlier; for the first nine months they were 0.50%, down from 0.52%. Management attributed the declines to product mix. The Canadian ETF average fee also fell, partly because of rebates to initial seed investors.
• For the first nine months, U.S. ETF net outflows were $72 million, a marked improvement from $12.7 billion of outflows in the comparable 2016 period. Market appreciation contributed $4.3 billion to U.S. ETF AUM in 2017, versus $1.5 billion of market depreciation in 2016.
• Nine-month expenses rose 1.5%. Compensation increased 24.3%; this was partly offset by lower marketing, professional fees, and fund-management costs. The 2016 comparison included a $6.7 million acquisition payment related to the European business.

Outlook, risks, contingencies and unusual items

• No quantified earnings, revenue, or AUM guidance is provided. Management stated that operating cash flows and existing cash should be sufficient to fund operations for at least the next 12 months.
• Management noted that market conditions may remain challenging and volatile. Revenue is sensitive to market levels, currency movements, investor sentiment, and ETP inflows and outflows because advisory fees are based on AUM. The filing says 39% of U.S. AUM was concentrated in HEDJ and DXJ; weakness in European or Japanese equities, or currency movements affecting these strategies, could weigh on results.
• The June 2017 Tradeworx dispute settlement ended related litigation and resulted in preferred shares valued at $6.9 million and a warrant valued as insignificant. The gain is noncash and nonrecurring; the investment is carried at cost and its valuation relies on significant unobservable inputs.
• A proposed acquisition of eight Questrade Canadian ETFs remained subject to unitholder and regulatory approvals. The estimated purchase price was approximately $2.3 million based on September 30 AUM; WisdomTree also guaranteed WTAMC’s indemnification obligations.
• Operating lease commitments totaled $34.9 million, including $18.5 million due after five years. The company disclosed no other off-balance-sheet financing arrangements. It reported no litigation expected to have a material adverse effect and no subsequent events requiring disclosure.
• The effective tax rate was 48.5% in Q3 and 48.7% for the nine months, above the 35% federal statutory rate. Foreign NOL valuation allowances and state and local taxes contributed; the 2017 nine-month rate also reflected $1.3 million of stock-compensation tax shortfalls under newly adopted guidance.
• Management concluded disclosure controls were effective as of September 30, 2017, and reported no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

• Whether U.S. ETF outflows, particularly in HEDJ and DXJ, continue and how much AUM growth depends on market appreciation rather than net inflows.
• Whether advisory-fee pressure from product mix and Canadian seed-investor rebates persists, and whether international inflows translate into improved segment profitability.
• The repeatability of reported earnings after excluding the $6.9 million Tradeworx gain and $0.8 million prior-year cost reimbursement, alongside the elevated tax rate.
• The liquidity impact and closing terms of the Questrade ETF transaction, including required approvals and the final AUM-based purchase price.
• The valuation and impairment assumptions for the Tradeworx and AdvisorEngine investments, and the company’s ability to sustain dividends and repurchases while meeting lease commitments.