Westwood Holdings Group, Inc. — FY2016 Form 10-K Summary
Business context and reporting period
Westwood is a holding company providing investment advisory, trust, custodial and related services through Westwood Management, Westwood International and Westwood Trust. Revenue is primarily based on fees calculated as a percentage of assets under management (AUM). The filing covers the fiscal year ended December 31, 2016; fourth-quarter results are included in the annual filing.
- AUM at year-end: $21.2 billion, up 2% from $20.8 billion.
- Year-end AUM consisted of $11.9 billion institutional, $5.5 billion private wealth and $3.8 billion mutual fund assets.
- Approximately 19% of AUM was managed for non-U.S. clients.
- The company had 174 full-time employees at December 31, 2016.
Financial performance and key metrics
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Total revenue | $123.0 million | $130.9 million | Down 6% |
| Income before income taxes | $34.0 million | $42.2 million | Down 19% |
| Pre-tax margin | 27.6% | 32.2% | Down 4.6 percentage points |
| Net income | $22.6 million | $27.1 million | Down 16% |
| Diluted EPS | $2.77 | $3.33 | Down 17% |
| Economic Earnings | $41.1 million | $46.5 million | Down 12% |
| Operating cash flow | $47.4 million | $55.2 million | Down 14% |
- Asset-based advisory fees were $91.5 million, down 8%; performance-based fees were $0.6 million, down from $2.7 million.
- Trust fees increased 5% to $30.3 million, including a full year of Woodway-related revenue.
- Total expenses were $89.0 million, essentially flat year over year. Information technology expense increased 35% to $7.7 million, including $1.9 million of new platform implementation costs.
- The effective tax rate declined to 33.4% from 35.8%, primarily because 2015 included a charge related to uncertain tax positions.
- Cash and investments totaled $90.2 million at year-end, including $33.7 million of cash and cash equivalents and $56.5 million of investments.
- Working capital was $86.3 million, compared with $72.8 million in 2015. The company had no debt.
- Stockholders’ equity was $146.1 million, up from $134.0 million.
Material changes versus the prior comparable period
- Average AUM declined 2% in 2016, despite year-end AUM growth, contributing to the revenue decline.
- AUM increased through $2.0 billion of market appreciation, partially offset by $1.5 billion of net client outflows. Significant outflows occurred in SMidCap, Income Opportunity, LargeCap Value, AllCap Value and Market Neutral Income strategies.
- Net income and diluted EPS declined primarily because of lower average AUM, lower performance fees and higher technology and infrastructure costs.
- Westwood completed the Woodway acquisition in 2015; 2016 included a full year of Woodway revenue and earnings. The company paid $9.3 million of final contingent consideration during 2016.
- The board increased the quarterly dividend to $0.62 per share in the fourth quarter. Dividends declared totaled $2.33 per share for 2016, compared with $2.07 in 2015.
- The company repurchased 117,552 shares for $5.6 million during 2016. Approximately $9.4 million remained available under the repurchase program at year-end.
- Westwood launched the Select Equity separately managed account strategy and converted the Westwood Dividend Growth Fund into the Low Volatility Equity Fund during December 2016.
Cash flow, liquidity and capital resources
- Operating cash flow of $47.4 million funded operations, capital expenditures, dividends and share repurchases.
- Investing cash flow was negative $1.8 million, primarily due to property and equipment purchases.
- Financing cash flow was negative $34.9 million, primarily reflecting $19.4 million of dividends paid, $5.6 million of share repurchases, $5.6 million of Woodway contingent consideration and $3.9 million of shares withheld for employee tax obligations.
- Management stated that existing cash, short-term investments and operating cash flow should be sufficient for ordinary operating and capital requirements for at least the next twelve months.
- Westwood Trust exceeded its $4.0 million regulatory minimum capital requirement by approximately $13.4 million. Westwood International exceeded its Canadian working-capital requirement by approximately C$35.6 million.
Guidance, outlook, risks and unusual items
The filing does not provide formal quantitative earnings or revenue guidance. Management’s stated growth priorities include expanding existing strategies, growing Westwood Trust and mutual fund distribution, increasing international distribution, attracting and retaining investment professionals, and pursuing strategic acquisitions or new investment strategies.
- Key business risks include market declines, investment underperformance, client withdrawals, competitive fee pressure, passive-investment trends and dependence on a small number of clients. The ten largest clients generated approximately 20% of fee revenue.
- Regulatory risks include the Department of Labor fiduciary rule, evolving domestic and international requirements, and the extensive regulatory oversight applicable to investment advisers, mutual funds and the trust company.
- Approximately 21% of AUM was invested in strategies with significant non-U.S. exposure. Management estimated that a 10% decline in average AUM would have reduced 2016 revenue by approximately $12 million, while a 10% Canadian-dollar devaluation would have reduced pre-tax income by approximately $1.2 million.
- 2016 results included approximately $1.3 million of after-tax one-time information-technology implementation costs, reducing diluted EPS by approximately $0.16.
- Unrecognized tax positions increased to approximately $2.5 million. The company stated that the liability could decrease by as much as $2.5 million within twelve months, potentially reducing tax expense by approximately $1.6 million.
- An Ontario lawsuit brought by AGF remains in discovery. The company cannot estimate the ultimate financial impact; 50% of defense costs for the AGF claims, excluding Westwood’s counterclaim, are covered by insurance. Management does not currently believe the proceedings will be material, but an adverse resolution could materially affect results.
- Contractual obligations included $8.2 million of purchase obligations and $15.0 million of operating lease obligations, with $2.3 million and $2.1 million due within one year, respectively.
- Management and Deloitte & Touche reported effective disclosure controls and internal control over financial reporting. The financial statement audit opinion was unqualified.
Most important facts for investors to verify
- Whether AUM growth can overcome continued net outflows and pressure on average fee-generating assets.
- Investment performance and client flows in the strategies identified as significant sources of outflows.
- The sustainability of the 2016 dividend and share repurchase program given lower earnings and cash flow.
- The effect of technology investments, compensation structure and Woodway-related costs on future operating margins.
- Potential financial or regulatory consequences of the AGF litigation and outstanding uncertain tax positions.
- Exposure to market, foreign-currency and international regulatory risks, particularly through Canadian operations and global and emerging-markets strategies.
- The impact of the Department of Labor fiduciary rule and competitive fee pressure on distribution, fees and margins.