Victory Capital Holdings, Inc. quarterly report, Q3 FY2021

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Victory Capital Holdings, Inc. — Q3 2021 Form 10-Q

Business and period: Diversified asset manager reporting the three and nine months ended September 30, 2021; financial statement amounts below are in millions of dollars unless noted. Revenue is primarily tied to assets under management (AUM). Period-end AUM was $159.9 billion, versus $132.7 billion a year earlier.

Financial performance and liquidity

  • Q3 revenue: $226.3, up 20.0% year over year. Investment management fees were $171.4, up 24.9%; fund administration and distribution fees were $54.9, up 6.8%.
  • Q3 earnings: Operating income was $99.0, up from $80.6; net income was $74.2, up from $55.7. Diluted EPS was $1.00 versus $0.76. Operating margin was approximately 43.8%, compared with 42.7%.
  • Nine-month results: Revenue was $661.1 versus $575.0; operating income was $284.0 versus $237.0; net income was $208.6 versus $157.6. Diluted EPS was $2.81 versus $2.14. Operating margin was approximately 43.0%, compared with 41.2%.
  • Adjusted results (non-GAAP): Q3 Adjusted EBITDA was $115.0, or 50.8% of revenue, versus $95.6, or 50.7%. Nine-month Adjusted EBITDA was $334.1, or 50.5%, versus $273.5, or 47.6%. Management cautions that non-GAAP measures supplement, not replace, GAAP results.
  • Flows and fee realization: Q3 net flows were positive $18 million; nine-month net flows were negative $980 million. Q3 revenue on average AUM was 55.3 basis points, down from 56.4 basis points a year earlier.
  • Cash flow: Nine-month operating cash flow was $264.1 versus $182.7. Investing used $11.0; financing used $211.0. Cash increased to $64.7 at September 30 from $22.7 at year-end 2020.
  • Debt and liquidity: Long-term debt, net, was $633.9, down from $769.0 at year-end; term-loan principal was $646.2. The company had no revolver borrowings and approximately $100 million of undrawn revolving capacity at quarter-end, and reported compliance with its financial covenant. Total assets were $1,791.0 and stockholders’ equity was $867.7.

Changes and notable items

  • Q3 AUM fell $2.0 billion from June 30, primarily due to $2.1 billion of market depreciation, partly offset by net inflows. Nine-month AUM rose 8.6% from year-end, mainly due to $13.4 billion of market appreciation, partly offset by net outflows.
  • Higher average AUM supported fee and revenue growth. Investment management fees grew faster than revenue overall, while the effective revenue yield on average AUM declined year over year.
  • Q3 personnel costs rose 17.9% to $55.8, reflecting higher incentive compensation and staffing, including the direct-to-investor digital platform. Nine-month acquisition-related costs increased to $6.3 from $1.1, and the USAA acquisition earn-out remeasurement expense rose to $10.6 from $1.8.
  • Interest and financing costs declined to $5.9 in Q3 and $18.9 for nine months, compared with $8.2 and $29.3, respectively, reflecting lower debt and borrowing rates. The company repaid $142.0 of debt in the first nine months and recorded $4.6 of debt-extinguishment losses.
  • The company completed the THB asset acquisition in March 2021, adding $547 million of AUM. The USAA acquisition contingent-consideration liability was $103.1 at September 30; $37.5 was paid after quarter-end for the second earn-out period.

Outlook, risks, and subsequent events

  • The filing gives no specific financial guidance. Management says results depend substantially on AUM, market performance, client flows, investment performance and fee mix. It reported that COVID-19 had not materially adversely affected results to date, but future effects remained uncertain.
  • Market risk is material because fees largely depend on AUM. The company estimated that a 10% AUM change, proportionately across strategies, would change annualized revenue by approximately $88 million at the quarter’s weighted-average fee rate.
  • Other disclosed risks include client withdrawals and investment underperformance, retention of investment professionals, acquisitions and integration, cybersecurity and technology dependence, regulation and litigation, and substantial indebtedness. A $450 million interest-rate swap fixes the rate on that portion of debt through July 2026; remaining debt is exposed to floating-rate risk.
  • After quarter-end, NEC acquisition closed November 1 for approximately $65 million in cash, partly funded by $7.5 million of revolver borrowing; up to $35 million more may be payable based on revenue growth. The company also agreed to acquire WestEnd for $480 million cash plus up to $320 million of earn-outs. Closing was expected by year-end but remained subject to conditions, including client consents; the company secured commitments for a $505 million incremental term loan.
  • The board proposed eliminating the dual-class share structure, subject to shareholder approval. A registration statement also enabled certain shareholders to resell up to 44,973,804 Class A shares. The company reported no material legal proceedings and effective disclosure controls.

Key facts for investors to verify

  • Whether AUM and net flows improve, and whether lower fee realization persists or reflects asset and client mix.
  • How much earnings and cash generation depend on market appreciation versus organic flows, and the continuing impact of compensation and acquisition-related expenses.
  • Debt repayment, floating-rate exposure, covenant headroom, and the financing and leverage effects of the WestEnd transaction if completed.
  • Actual USAA earn-out payments and the performance-based consideration and integration outcomes for NEC and WestEnd.
  • Shareholder approval and effects of the proposed share-class changes, alongside potential resale activity under the effective registration statement.