Hennessy Advisors, Inc. — Q2 FY2016 Form 10-Q
Reporting period: Quarter and six months ended March 31, 2016; filed May 4, 2016. Unless otherwise noted, financial amounts below are in millions of dollars. The company provides investment advisory services to 16 Hennessy mutual funds and shareholder services to Investor Class shareholders.
Financial performance and position
| Metric | Three months ended Mar. 31, 2016 | Year-ago quarter | Six months ended Mar. 31, 2016 | Year-ago six months |
|---|---|---|---|---|
| Revenue | $12.192 | $10.558 | $25.345 | $20.292 |
| Operating income | $5.452 | $4.420 | $11.713 | $8.182 |
| Net income | $3.283 | $2.594 | $6.933 | $4.660 |
| Diluted EPS | $0.64 | $0.44 | $1.35 | $0.78 |
| Operating margin | 44.7% | 41.9% | 46.2% | 40.3% |
| Net margin | 26.9% | 24.6% | 27.4% | 23.0% |
- Revenue mix and growth: Quarterly advisory fees were $10.991 million, up 10.7%; shareholder service fees were $1.201 million, up 90.0%. For the six months, advisory fees were $22.814 million, up 17.6%, and shareholder service fees were $2.531 million, up 183.4%. The latter increase partly reflects that fees began applying to Investor Class shares of all funds on March 1, 2015.
- Expenses: Six-month operating expenses rose 12.6% to $13.632 million, slower than revenue growth. Compensation and benefits increased 33.7% to $5.856 million, and sub-advisor fees increased 26.1% to $4.204 million. Distribution expense fell 72.2% to $0.451 million, partly because fund-level Rule 12b-1 plans offset some distribution costs previously borne by the company.
- Assets under management: AUM was $6.424 billion at March 31, up 7.3% from September 30, 2015 and 4.8% from March 31, 2015. Over the six-month period, market appreciation added $317 million and net inflows added $119 million. In the quarter, $170 million of market appreciation was partly offset by $70 million of net outflows. Monthly redemptions averaged 3.2% of AUM for the six months, versus 2.6% a year earlier.
- Cash flow and liquidity: Six-month operating cash flow was $7.678 million, investing outflow $0.371 million, and financing outflow $2.897 million; cash increased $4.410 million to $7.496 million. Current assets were $13.831 million and current liabilities $8.616 million. Fee receivables were $4.314 million.
- Debt: Debt totaled $32.813 million at March 31, including $4.375 million current and $28.438 million long-term. The loan is secured by substantially all company assets, with final principal and interest due September 17, 2019. The company converted $32.8 million of principal to a one-month LIBOR rate effective March 1, producing a stated effective rate of 3.4385% at quarter-end; it intended monthly renewals while that rate remained favorable. The company reported compliance with loan covenants.
- Other balance-sheet items: Management contracts, considered indefinite-lived intangible assets, were carried at $62.951 million; management reported no impairment indicators. Total liabilities were $47.731 million and stockholders’ equity $30.030 million.
Material changes and management commentary
- Quarterly revenue increased 15.5% and net income 26.6% year over year; for the six months, revenue increased 24.9% and net income 48.8%.
- Higher average fund assets supported advisory-fee growth. Management reduced advisory fee rates for the Japan Fund and Japan Small Cap Fund from 1.00% and 1.20%, respectively, to 0.80%, effective March 1, 2016.
- For the six months, the Focus Fund had the largest net inflows ($259 million); the Gas Utility Fund had the largest net outflows ($238 million). Management cited strong ongoing marketing and sales efforts, while noting volatile markets and mixed fund performance.
- The company paid $0.709 million in dividends during the six months. Quarterly dividends of $0.06 and $0.08 per share were paid in December 2015 and March 2016, respectively.
- The company’s September 2015 term loan increase helped fund a self-tender offer to repurchase up to 1 million shares at $25 per share. The balance sheet reports 5,066,467 shares outstanding at March 31; weighted average shares were lower than the year-ago period.
Outlook, risks and contingencies
- No quantified earnings, revenue, AUM, or other formal guidance is provided. Management says its strategy emphasizes acquisitions and organic growth through asset retention and fund inflows, and remains focused on fund performance and investor service.
- Results depend on fund average daily assets, which are affected by investment performance, investor purchases and redemptions, market conditions, and marketing effectiveness. Management identifies redemptions, interest-rate movements, competition, regulation, and domestic and international financial conditions as risks; further regulatory requirements may increase administrative and compliance costs.
- Fund management agreements require annual renewal and may terminate on 60 days’ notice; an assignment can also trigger termination. The company’s principal assets include these contracts.
- Office leases include a Novato lease expiring March 31, 2017, with a five-year extension option; the filing reports no material change in lease arrangements. Federal and state tax examinations remain possible for open years.
- Management concluded disclosure controls were effective as of March 31, 2016, and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the $119 million six-month net inflow trend persists, particularly given the rising redemption rate and significant outflows from the Gas Utility Fund.
- How market movements and the investment performance of individual funds affect AUM and recurring advisory-fee revenue.
- Whether distribution-plan offsets continue to reduce company-paid distribution costs, and how fee-rate reductions affect future advisory revenue.
- The company’s debt repayment capacity, covenant headroom, and exposure to changing short-term interest rates under its variable-rate loan.
- Whether the carrying value of management contracts remains supportable and whether the fund advisory agreements are renewed annually.