T. Rowe Price Group, Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; comparisons are with Q1 2015 unless otherwise noted. T. Rowe Price earns most of its revenue from investment advisory fees, which are driven primarily by the value and mix of assets under management (AUM). Amounts below are in U.S. dollars.
Financial performance and liquidity
| Metric | Q1 2016 | Change versus Q1 2015 |
|---|---|---|
| Net revenues | $994.1 million | Down 3.2% |
| Operating expenses | $583.2 million | Up 6.2% |
| Net operating income | $410.9 million | Down 14.0% |
| Operating margin | 41.3% | 46.5% in Q1 2015 |
| Net income attributable to T. Rowe Price Group | $295.2 million | Down 4.6% |
| Diluted EPS | $1.15 | Up 1.8% |
| Average AUM | $728.1 billion | Down 4.1% |
| Ending AUM | $764.6 billion | Up $1.5 billion from December 31, 2015 |
Investment advisory fees were $870.8 million, down 2.9%; the average annualized effective fee rate rose to 48.1 basis points from 47.9 basis points, partly because money-market fee waivers declined. Net income before attribution to redeemable non-controlling interests was $304.4 million. The effective tax rate was 38.6%.
Non-operating income increased to $85.1 million from $26.8 million, including $52.3 million of realized gains on available-for-sale investment dispositions and income recognized from newly consolidated sponsored portfolios. Management said higher realized gains and adoption of the new consolidation guidance together added $0.11 to diluted EPS compared with the prior-year quarter. Excluding these items, reported EPS growth should not be viewed as reflecting equivalent growth in core operating performance.
Net cash provided by operating activities as reported was $63.6 million, versus $543.8 million in Q1 2015. The company said this comparison was materially affected by consolidated sponsored portfolios and their investment activity; operating cash flow attributable to Price Group was $498.5 million, down $45.3 million. Cash and cash equivalents were $1,322.9 million on the company’s balance sheet, excluding $77.5 million held by consolidated portfolios. The company reported no debt and described its liquidity as ample. It held $1.9 billion of cash and discretionary sponsored-portfolio investment holdings, while noting that portfolio assets are not available for general operations or creditors.
Total assets were $6.2 billion at March 31, 2016, including $1.8 billion of consolidated sponsored-portfolio assets; total liabilities were $615.0 million. Redeemable non-controlling interests were $825.1 million. The company repurchased 3.1 million shares for $206.7 million and paid $135.9 million in dividends during the quarter.
Material changes and business developments
- Average AUM fell $30.9 billion year over year, reducing advisory revenue. Q1 net cash flows after client transfers were positive $5.1 billion, partly offset by $3.6 billion of market depreciation, net of income. Ending AUM was slightly higher than at year-end.
- Operating expenses rose $34.0 million. Other operating expenses increased $24.9 million, about half related to BNY Mellon services and transition implementation; the remainder reflected business demand and continued investment. Compensation rose 2.5%, and occupancy plus depreciation and amortization increased $6.2 million.
- Administrative fee revenue declined $3.6 million following the transfer of certain fund accounting and recordkeeping operations to BNY Mellon in 2015; related operating costs generally move in the same direction.
- Effective January 1, 2016, new consolidation guidance led the company to consolidate additional sponsored investment portfolios. Adoption added approximately $1.6 billion of assets, $21.3 million of liabilities and $672.7 million of non-controlling interests at adoption, and required reclassification of $32.5 million from accumulated other comprehensive income to retained earnings. The accounting change increased reported investment income and expenses and made comparisons less straightforward.
Outlook, risks and contingencies
- Management expects full-year 2016 effective tax rate of about 38.7%, advertising and promotion costs comparable to 2015, and property and equipment spending of up to $180 million, about two-thirds planned for technology. It expected money-market fee waivers to continue for the remainder of 2016; Q1 waivers were $4.0 million.
- Management said it plans continued investment in investment talent, strategies and vehicles, technology, and global distribution. It expects to fund planned capital expenditures from operating resources and maintains no external liquidity source.
- Results remain sensitive to market levels and AUM composition, investor flows and sentiment, investment performance, fees, competition, and client decisions about advisory agreements. Expenses, regulation, taxes, currency movements, and third-party service disruptions may also affect results.
- The Department of Labor finalized fiduciary-rule changes in Q1 2016; the SEC was considering a separate proposal. Management said regulatory changes could increase compliance costs and complexity and affect products, services, and distribution.
- The company reported a maximum risk of loss of $140.8 million related to unconsolidated VIEs, including carrying value, unfunded commitments and uncollected fees. Management said the likelihood of a material adverse outcome from ordinary-course claims was remote.
Important facts for investors to verify
- How AUM flows and market performance develop, and whether fee revenue stabilizes after the year-over-year decline in average AUM.
- Whether higher non-operating income and the new consolidation presentation continue to materially affect reported earnings and cash-flow comparisons.
- Whether expense growth, including BNY Mellon transition costs and technology investment, moderates and operating margin improves.
- Whether the projected tax rate, capital spending, advertising costs and continued money-market fee waivers remain consistent with management’s stated expectations.
- Potential business and cost effects of fiduciary regulation, and any changes in the company’s exposure to sponsored portfolios and unconsolidated VIEs.