Federated Investors, Inc. — 2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014; filed February 20, 2015. The supplied filing is for Federated Investors, Inc., although the request identifies Federated Hermes, Inc. It reports annual results and includes unaudited quarterly data.
Business context
Federated was an investment manager with $362.9 billion in assets under management (AUM) at year-end, down 4% from 2013. It earns most revenue from advisory, administrative and other services priced largely as a percentage of managed assets. Money market funds remained a major business, but equity assets generated the largest share of 2014 revenue.
Financial results and liquidity
| Metric | 2014 | 2013 | Change |
|---|---|---|---|
| Revenue | $859.3 million | $878.4 million | Down 2% |
| Operating income | $237.9 million | $251.7 million | Down 5% |
| Operating margin | 27.7% | 28.7% | Down 1.0 percentage point |
| Net income attributable to Federated | $149.2 million | $162.2 million | Down 8% |
| Diluted EPS | $1.42 | $1.55 | Down $0.13 |
| Net cash from operating activities | $192.5 million | $261.0 million | Down $68.5 million |
| Period-end AUM | $362.9 billion | $376.1 billion | Down 4% |
Net margin was approximately 17.4%, versus 18.5% in 2013. Total fee waivers to maintain positive or zero money-market fund yields reduced 2014 revenue by $410.6 million; related distribution-expense and noncontrolling-interest offsets left a reported pretax income impact of $119.0 million, versus $105.1 million in 2013.
Average AUM fell 3% to $358.5 billion. Average money market assets declined 7%, while average equity assets rose 22% and fixed-income assets were flat. At year-end, money market AUM was $258.8 billion, fixed-income AUM $52.7 billion and equity AUM $51.4 billion. The distressed-securities liquidation portfolio was fully liquidated in Q4.
Cash and cash equivalents were $115.3 million. Management reported $318.7 million in liquid assets, net of noncontrolling interests. Debt totaled $242.3 million, comprising $25.5 million classified as short-term and $216.8 million long-term. The $200 million revolving facility was undrawn and available; Federated reported compliance with debt covenants. The leverage ratio was 0.8 to 1 against a maximum of 3 to 1. Shareholders’ equity was $609.5 million.
Cash used in financing was $165.2 million, including $104.8 million of dividends, $34.0 million of debt repayments and $27.2 million of share repurchases. The company paid $1.00 per share in 2014 dividends. Its 2014 results included no goodwill or intangible-asset impairment; the 2013 comparison included equity-method investment impairment charges.
Material changes versus 2013
- Revenue and earnings declined, principally reflecting lower average money market assets and higher money market fee waivers; growth in equity assets partly offset these pressures.
- Money market assets contributed 32% of 2014 revenue, down from 39%; equity assets contributed 45%, up from 37%.
- Operating expenses declined 1%: distribution expense fell 7%, while compensation and related expense rose 6%.
- Operating cash flow decreased to $192.5 million, partly because 2013 included trading-security cash activity associated with a consolidated investment company that was liquidated in Q4 2013.
- Federated refinanced its credit arrangements in June 2014, extending the credit agreement maturity to June 2019. The interest-rate swap covering part of the term loan was scheduled to expire April 1, 2015.
Outlook, commentary and risks
- Management estimated that, assuming money-market asset levels and mix remained constant, Q1 2015 minimum-yield waivers could have an approximately $28 million negative pretax impact. The estimate was uncertain and dependent on yields, assets, product mix, expenses and intermediary arrangements.
- Management estimated that a 10-basis-point increase in gross money-market portfolio yields could reduce the waiver impact by about 40%, and a 25-basis-point increase by about 65%. It expected to capture approximately 75% of the pretax income going forward once yields rose enough to eliminate waivers; these are estimates, not guidance on earnings.
- SEC money-market reforms adopted in 2014 require floating NAVs for institutional prime and municipal funds, and allow liquidity fees and redemption gates for certain funds. Key compliance dates run from 2015 to October 2016. Federated considered the reforms potentially detrimental and was planning product restructuring, conversions and new offerings, subject to approvals.
- Management cited persistent low rates, potential investor shifts as rates rise, market and AUM volatility, competitive pricing, distribution costs and regulatory changes as risks to revenue and profitability. European money-market reforms and a proposed financial transactions tax were additional uncertainties.
- A former acquisition target, CCM Rochester, sought approximately $37 million plus attorneys’ fees. The court dismissed some claims but allowed a fraud claim to proceed; Federated said it would defend the case, considered material loss remote and stated that no loss was estimable at year-end.
- On February 19, 2015, the board authorized repurchases of up to 4 million additional Class B shares. A $0.25-per-share dividend declared in January was paid in February 2015.
Important facts for investors to verify
- Whether subsequent money-market yields, fee waivers and asset mix matched management’s Q1 2015 assumptions, and how much of waiver-related income was ultimately recovered.
- Actual AUM flows and revenue mix, particularly money market outflows versus equity growth, and the effects of the 2014 SEC reforms on product demand and implementation costs.
- Debt amortization, variable-rate exposure after the April 2015 swap expiry, covenant headroom and use of the available revolving facility.
- Developments and any eventual loss assessment in the CCM Rochester litigation, as well as contingent acquisition and employment-related payments.
- Whether reported liquid assets are readily available for corporate uses, given investments in sponsored funds and possible indirect sovereign and currency exposures.