Hennessy Advisors, Inc. — Q2 FY2011 Form 10-Q
Reporting period: Quarter and six months ended March 31, 2011. Financial statements are unaudited; dollar amounts below are in millions unless stated otherwise.
Business context
Hennessy earns primarily investment advisory and shareholder service fees based on average daily assets under management (AUM). It advises ten open-end mutual funds and one private pooled fund. AUM was $915.8 million at March 31, 2011; six-month average AUM was $909.8 million.
Financial performance
| Metric | Three months ended March 31, 2011 | Six months ended March 31, 2011 |
|---|---|---|
| Revenue | $1.979 million, up 4.1% year over year | $3.928 million, up 0.7% |
| Operating income | $581,000; 29.4% margin, versus $383,000 and 20.1% | $1.056 million; 26.8% margin, versus $751,000 and 19.3% |
| Net income | $332,000; 16.8% margin, versus $211,000 and 11.1% | $598,000; 15.2% margin, versus $414,000 and 10.6% |
| Diluted EPS | $0.06, versus $0.04 | $0.10, versus $0.07 |
| Operating cash flow | $511,000 for the six months, versus $475,000 |
For the six months, operating expenses fell 8.8% to $2.872 million. Lower compensation was the largest contributor; compensation and benefits declined 15.9%. Interest expense rose 78.9% to $34,000, primarily following the September 2010 loan amendment and additional borrowing.
Balance sheet, cash flow and capital returns
- At March 31, cash and cash equivalents were $7.622 million; current assets were $8.616 million and current liabilities $1.246 million. Total assets were $31.564 million and stockholders’ equity $24.565 million.
- Bank debt totaled $2.865 million: $625,000 current and $2.240 million long-term. The loan bears interest at prime less 1% (2.25% stated in the filing), is secured by company assets and matures September 30, 2015. The company reported compliance with its covenants.
- Cash declined $432,000 during the six months to $7.622 million. Investing used $25,000; financing used $918,000, including $658,000 of dividends and $260,000 of loan principal payments.
- Two cash dividends were paid during the period: $0.09 and $0.025 per share. The company held a $445,000 investment in the Hennessy Micro Cap Growth Fund, measured using Level 2 inputs.
Material changes and management commentary
- Quarterly revenue growth reflected higher average fund assets and reduced fee waivers. For the six months, average AUM decreased 2.0% year over year to $909.8 million, while revenue increased slightly.
- Compared with March 31, 2010, fund AUM declined $45.0 million, or 4.7%, to $915.8 million. Net outflows of $170.4 million were partly offset by $125.4 million of market appreciation. Monthly redemptions averaged 3.9%, up from 2.6%.
- Management cited investor caution, market volatility, fund performance relative to benchmarks and household withdrawals as factors contributing to redemptions. Nine of ten funds had positive calendar-year-to-date performance through March 31, but fewer than half outperformed their benchmarks.
- Management contracts were renewed for one year on March 2, 2011. Management reported no indicators of impairment as of March 31. The filing states cash and other liquid assets are expected to cover short-term needs; no quantified earnings or AUM guidance was provided.
Risks, contingencies and unusual items
Revenue depends on fund asset levels, investment performance, redemptions, market conditions and the ability to retain managed assets. Management noted that a significant portion of expenses are fixed, so revenue fluctuations can materially affect earnings. The Novato office lease runs through March 2012, with an extension option; the non-cancelable Stamford lease continued to be paid after trading operations moved to Novato in January 2011. U.S. tax years 2006–2009 and California tax years 2003–2009 remained open to examination. Management said disclosure controls were effective and reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether elevated redemptions and net outflows persist, and their effect on AUM, fees and future earnings.
- The filing’s liquidity disclosure: the balance sheet reports $7.622 million of cash and equivalents, while the MD&A separately states cash and cash equivalents of $8.6 million. The text does not clearly reconcile these amounts.
- Future fee-waiver requirements and the effect of the institutional share-class expense limits.
- Debt covenant compliance, repayment schedule and continuing Stamford lease costs.
- Assumptions supporting the $22.284 million management-contract asset and management’s impairment assessment.