Hennessy Advisors, Inc. — Form 10-Q Summary
Business context and reporting period. The unaudited report covers the quarter and six months ended March 31, 2014, the company’s fiscal second quarter. Hennessy provides investment advisory services to 16 open-end mutual funds and shareholder services to some of them. Revenue is primarily based on fund average daily net assets.
Financial performance and position
| Metric | Three months ended March 31, 2014 | Six months ended March 31, 2014 |
|---|---|---|
| Revenue | $8.310 million; up 39.7% year over year | $16.231 million; up 52.4% |
| Operating income | $3.179 million; 38.3% of revenue | $6.254 million; 38.5% of revenue |
| Net income | $1.759 million; up 57.5% | $3.216 million; up 70.6% |
| Diluted EPS | $0.30, versus $0.20 | $0.55, versus $0.33 |
| Operating cash flow | Not presented quarterly | $3.687 million, versus $1.837 million |
- For the six-month period, investment advisory fees were $15.776 million, up 54.4%; shareholder service fees were $0.455 million, up 4.6%.
- Six-month operating expenses rose 42.6% to $9.977 million, but declined as a share of revenue to 61.5% from 65.7%. General and administrative, platform distribution, and sub-advisor costs grew notably.
- Cash and cash equivalents were $4.101 million at March 31, down from $8.406 million at September 30, 2013. Current assets were $7.830 million and current liabilities $6.685 million.
- Bank debt was $28.597 million, comprising $3.750 million current and $24.847 million long-term, versus $16.867 million at September 30. The company reported compliance with loan covenants. The loan bears interest at prime plus 0.75% (4.00% stated effective rate) and is due in October 2017.
- Six-month cash flows: investing outflow of $19.224 million, mainly management-contract purchase payments; financing inflow of $11.232 million, including $13.287 million of amended-loan proceeds. Cash declined by $4.305 million.
Changes, outlook, and risks
- Average assets under management (AUM) were $4.62 billion for the quarter, up 43.2%, and $4.44 billion for the six months, up 56.5%. Period-end AUM was $4.77 billion, up 40.2% year over year. For the year to March 31, growth reflected $726 million in net purchases and $642 million in market appreciation; six-month net inflows were $366 million.
- Management attributed growth to net inflows, market appreciation, fund performance, and marketing and distribution efforts. It expressed confidence in market and corporate fundamentals and said continued equity-market strength was conditional on investors maintaining their current course. No quantified financial guidance was provided.
- Operating leverage improved, but distribution and sub-advisor expenses increased with AUM. Platform-held assets were described as less profitable because of participation fees. The company waived $91,073 of fees under contractual expense-ratio limits during the six months and said it did not anticipate voluntary waivers.
- Six-month income tax expense included a one-time $0.23 million prior-year provision true-up related to compensation deductions under Section 162(m), reducing diluted EPS by about $0.04. The six-month effective tax rate was 43.80%, versus 41.56% a year earlier.
- The company reported no impairment indicators for its $62.5 million of indefinite-lived management-contract assets. Those assets are sensitive to assumptions about AUM growth, market performance, client attrition, and expenses.
- Key risks include fund redemptions, investment-market and interest-rate changes, competition, regulatory costs, and the ability to retain managed assets. Fund management contracts require renewal and may terminate under specified conditions. Management reported no other commitments or contingencies as of March 31.
- All 16 funds became series of Hennessy Funds Trust following an internal reorganization effective February 28, 2014. After quarter-end, on April 28, the company’s shares began trading on the NASDAQ Capital Market under ticker HNNA.
Important facts for investors to verify
- Whether AUM growth and net inflows persist, and how much future revenue growth depends on market appreciation versus net purchases.
- Debt repayment capacity and covenant headroom, given reduced cash balances and the $28.6 million loan balance.
- Whether rising platform-distribution and sub-advisor costs constrain margins as AUM grows.
- The assumptions supporting the carrying value of management contracts and the potential effects of fund outflows or weaker markets.
- The effect of the Section 162(m) tax adjustment on future effective tax rates; the filing identifies this period’s charge as a one-time item.