Westwood Holdings Group, Inc. — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2015. Westwood provides investment advisory, trust and custodial services to institutional, private wealth and financial-intermediary clients. Results are substantially dependent on assets under management (AUM), market performance and client flows. The financial statements are unaudited.
Financial performance and key metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Total revenue | $32.5 million | $28.1 million | $99.4 million | $85.0 million |
| Income before taxes | $10.5 million | $10.6 million | $33.6 million | $32.6 million |
| Net income | $7.0 million | $7.1 million | $22.4 million | $21.3 million |
| Diluted EPS | $0.87 | $0.92 | $2.78 | $2.73 |
| Economic earnings | $12.4 million | $10.9 million | $36.2 million | $31.8 million |
| Economic earnings per diluted share | $1.55 | $1.41 | $4.48 | $4.07 |
- Revenue mix: Q3 asset-based advisory fees were $24.9 million, trust fees were $8.0 million and performance-based fees were zero. For the first nine months, asset-based advisory fees were $76.3 million, performance-based fees were $2.2 million and trust fees were $21.0 million.
- Margins: Net margin was approximately 21.6% in Q3 2015 versus 25.3% in Q3 2014, and approximately 22.6% for the first nine months versus 25.0%. The decline primarily reflects higher compensation, technology, mutual fund, professional service and general and administrative costs.
- AUM: AUM was $20.4 billion at September 30, 2015, up 4% from $19.7 billion at September 30, 2014. Private Wealth AUM increased 33% to $5.2 billion, mutual fund AUM increased 13% to $3.8 billion, while institutional AUM declined 8% to $11.3 billion.
- Cash flow: Operating cash flow was $51.6 million for the first nine months, compared with $20.9 million in the prior-year period. Investing cash outflow was $24.8 million, including $24.1 million for the Woodway acquisition. Financing cash outflow was $18.6 million, primarily dividends and equity-related transactions.
- Liquidity: Cash and cash equivalents were $23.9 million and investments were $56.5 million at September 30, 2015, for combined cash and investments of $80.3 million. Working capital was $75.7 million.
- Debt: The company reported no debt.
- Capital returns: Dividends declared were $1.50 per share for the first nine months, versus $1.32 in the prior-year period. In October 2015, the board declared a quarterly dividend of $0.57 per share, payable January 4, 2016.
Material changes versus the prior comparable period
- Q3 revenue increased 15% and nine-month revenue increased 17%, driven by higher asset-based advisory fees and the Woodway acquisition.
- Trust fees increased 51% in Q3 and 36% for the first nine months, primarily due to Woodway.
- Net income declined 1% in Q3 despite higher revenue, as total expenses increased 25%. For the first nine months, net income increased 5%.
- Employee compensation and benefits increased 18% in Q3 and 22% for the first nine months. Information technology expense increased 101% in Q3 and 61% year-to-date, reflecting a new technology platform, research and support costs and Woodway-related expenses.
- Performance-based advisory fees declined $1.6 million, or 42%, for the first nine months.
- Market depreciation and net outflows reduced Q3 AUM by $2.7 billion, including $2.2 billion of market depreciation and $523 million of net outflows. For the first nine months, AUM increased $208 million, including $1.6 billion attributable to Woodway, partly offset by $1.7 billion of market depreciation and $323 million of net inflows.
- Goodwill increased from $11.3 million to $25.1 million and net intangible assets increased from $3.4 million to $25.9 million, primarily from Woodway. No goodwill or intangible-asset impairment was recorded.
Acquisition, outlook, risks and unusual items
- Westwood completed the acquisition of Woodway Financial Advisors on April 1, 2015. Woodway managed approximately $1.6 billion of assets at December 31, 2014 and contributed $5.2 million of revenue and $1.5 million of net income during the first nine months of 2015.
- Preliminary total acquisition consideration was $39.7 million, including $25.3 million of cash, 109,712 Westwood shares valued at $5.3 million and estimated contingent consideration of $9.1 million. The earn-out is based on post-closing revenue, capped at $15 million, and remains subject to measurement-period adjustments.
- Management stated that existing cash, short-term investments and operating cash flow should be sufficient for ordinary operations and the Woodway earn-out for at least the next twelve months, although additional financing could be required.
- The company has contractual obligations of $24.3 million, consisting of $9.3 million of purchase obligations and $15.0 million of operating lease obligations. The $9.1 million Woodway contingent consideration is excluded from that table.
- Westwood Trust must maintain at least $4.0 million of restricted capital; it had approximately $6.2 million above that minimum at September 30, 2015.
- Pending AGF litigation seeks unspecified damages and punitive damages in Canadian dollars. The company cannot estimate the ultimate financial impact, does not currently believe the proceedings will be material, and warns that an adverse resolution could materially affect results. Fifty percent of certain defense costs is covered by insurance.
- Key business risks include market and AUM volatility, client concentration, competition and fee pressure, personnel retention, acquisition integration, litigation, regulatory requirements, cybersecurity and information systems, conflicts of interest and foreign investments.
- No specific revenue or earnings guidance was provided. Management’s forward-looking statements are subject to the risks identified in the filing.
Investor verification checklist
- Verify the final valuation and allocation of Woodway consideration, including goodwill, acquired intangibles and the earn-out liability.
- Monitor Woodway client retention, AUM trends and the amount ultimately payable under the earn-out.
- Assess whether market depreciation, institutional outflows and mutual fund redemptions continue to pressure AUM and fee revenue.
- Review the sustainability of elevated compensation, technology and integration expenses relative to revenue growth.
- Evaluate liquidity after dividends, contractual obligations, restricted capital requirements and the potential earn-out payment.
- Follow the AGF litigation, insurance recoveries and any related changes in contingencies.
- Distinguish GAAP net income and EPS from management’s non-GAAP Economic Earnings, which adds stock-based compensation, intangible amortization and deferred taxes on goodwill.