Westwood Holdings Group, Inc. — Form 10-Q Summary
Business context and reporting period
Quarterly report for the three months ended March 31, 2013. Westwood manages investment assets and provides investment advisory, trust and custodial services through Westwood Management, Westwood Trust and Westwood International. Revenue is primarily based on assets under management (AUM), making results sensitive to market performance, client flows, fee levels and asset mix.
AUM increased 11% year over year to $15.334 billion at March 31, 2013, driven primarily by market appreciation. Westwood International, established in 2012, contributed $1.5 million of revenue and incurred $3.2 million of costs during the quarter.
Financial performance and key metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Total revenue | $20.1 million | $17.9 million | 13% |
| Advisory fees | $15.5 million | $14.1 million | 10% |
| Trust fees | $4.2 million | $3.5 million | 21% |
| Total expenses | $15.4 million | $11.8 million | 31% |
| Income before taxes | $4.7 million | $6.1 million | (22%) |
| Net income | $2.8 million | $3.8 million | (25%) |
| Diluted EPS | $0.38 | $0.52 | (27%) |
| Operating cash flow | $5.3 million | $4.8 million | 9% |
GAAP operating margin was approximately 23.5%, compared with 34.1% in the prior-year quarter. Net margin was approximately 14.1%, compared with 21.2%. The effective tax rate increased to 40.0% from 37.8%.
Economic Earnings, a non-GAAP measure, declined 3% to $5.7 million. Economic Expenses increased 29% to $12.6 million.
At March 31, 2013, cash and cash equivalents were $5.8 million and investments were $48.0 million. Cash and investments totaled $53.8 million. Working capital was $58.5 million. The company had no long-term debt or borrowed-money liabilities. Total liabilities were $11.8 million and stockholders’ equity was $75.8 million.
Cash provided by operating activities was $5.3 million. Investing activities used $247,000, primarily for property and equipment. Financing activities used $3.0 million, principally for treasury-stock purchases, partially offset by tax benefits from equity compensation. The company declared dividends of $0.40 per share and purchased 84,880 treasury shares for $3.7 million.
Material changes versus the prior comparable period
- AUM rose 11% to $15.3 billion, with market appreciation of $1.3 billion and net outflows of $155 million during the quarter.
- Mutual fund AUM increased 30% year over year to $1.9 billion; institutional AUM increased 9% and private wealth AUM increased 6%.
- Revenue growth was more than offset by expense growth, primarily higher compensation and benefits, including $742,000 of performance-based restricted-stock expense, $697,000 of mutual-fund incentive-award expense, higher multi-year bonus amortization and increased salary costs.
- Employee compensation and benefits increased 33% to $11.8 million. Full-time employees increased to 96 from 83.
- Westwood mutual-fund expenses increased 93%, partly because three new mutual funds were launched in the fourth quarter of 2012.
- Restricted-stock expense increased 45% to $2.7 million. The company concluded that applicable performance goals were probable of being met and began recording related expense in the first quarter.
- Cash and investments declined from $63.7 million at December 31, 2012 to $53.8 million at March 31, 2013, principally reflecting investment sales, dividends and treasury-stock purchases.
Guidance, outlook, risks and unusual items
The company stated that current cash, short-term investments and operating cash flow should be sufficient to meet ordinary operating and capital requirements for at least the next twelve months, while noting that additional financing could be required depending on results, capital needs, strategic initiatives and dividend policy.
The 2013 performance-based restricted-stock goal is adjusted pre-tax income of at least $27.0 million. Management determined in the first quarter that the goal was probable of being met; future changes in expected performance could affect compensation expense.
Key risks include market downturns, AUM declines, customer concentration in four customers, client outflows, fee pressure and competition, retention of qualified personnel, execution of new investment strategies, regulatory or legislative changes, interest rates, tax-rate changes and internal-control risks.
AGF Management Limited and AGF Investments Inc. have filed two Canadian lawsuits relating to the hiring of Westwood’s global and emerging-markets investment team and alleged defamatory statements. AGF seeks unspecified damages and significant punitive damages. Westwood has filed counterclaims. The company cannot estimate the ultimate financial impact; it does not currently believe the proceedings will be material, but an adverse resolution could materially affect results.
The company recorded a $227,000 receivable for expected insurance recovery of litigation-related expenses. No material changes to contractual obligations, critical accounting policies or market-risk disclosures were reported. Management concluded that disclosure controls and procedures were effective.
Important facts for investors to verify
- Whether AUM growth can continue without relying primarily on market appreciation, given quarterly net outflows of $155 million.
- Whether compensation, Westwood International costs and mutual-fund operating expenses normalize or continue to pressure margins.
- The probability of achieving the $27.0 million adjusted pre-tax-income performance goal and the resulting stock-based compensation expense.
- The status, insurance coverage and potential exposure from the AGF litigation and related counterclaims.
- The sustainability of dividends and share repurchases relative to operating cash flow and the decline in cash and investments.
- The concentration of revenue among four customers and the sensitivity of fee revenue to market movements and client withdrawals.