Business context and reporting period
Artisan Partners Asset Management Inc. (APAM) is an active investment manager. This Form 10-K covers the fiscal year ended December 31, 2017; it is an annual filing, not a standalone fourth-quarter report. The company operated eight autonomous investment teams managing 17 strategies and earned substantially all revenue from investment management fees tied mainly to assets under management (AUM).
Financial and operating performance
| Metric | 2017 | 2016 |
|---|---|---|
| Revenue | $795.6 million | $720.9 million |
| Operating income / margin | $286.4 million / 36.0% | $234.2 million / 32.5% |
| Adjusted operating income / margin | $299.1 million / 37.6% | $262.3 million / 36.4% |
| Net income attributable to APAM | $49.6 million | $73.0 million |
| Adjusted net income (non-GAAP) | $182.1 million | $158.7 million |
| GAAP diluted EPS | $0.75 | $1.57 |
| Adjusted net income per adjusted share (non-GAAP) | $2.41 | $2.13 |
| Operating cash flow | $204.1 million | $270.4 million |
| Cash and cash equivalents at year-end | $137.3 million | $156.8 million |
Year-end AUM was $115.5 billion, up 19.3% from $96.8 billion; average AUM increased 13.0% to $108.8 billion. Market appreciation added $24.1 billion, while net client outflows were $5.4 billion. The weighted-average fee declined to 73.1 basis points from 74.8 basis points, largely reflecting a greater share of lower-fee separate-account assets. APAM declared $2.76 per Class A share in 2017 dividends.
At year-end, borrowings were $200 million in unsecured notes; the $100 million revolving facility was undrawn. The company reported $62.6 million of redeemable noncontrolling interests and a $385.4 million liability under tax receivable agreements (TRAs). It reported compliance with debt covenants; leverage was 0.6x and interest coverage 32.9x.
Material changes versus the prior comparable period
- Revenue rose 10%, principally because average AUM increased, partly offset by the lower weighted-average fee.
- Operating expenses increased 5%, slower than revenue growth, lifting GAAP operating margin by 3.5 percentage points.
- GAAP net income attributable to APAM fell 32%, despite higher operating income. Results included major tax-related and TRA estimate movements: the Tax Cuts and Jobs Act prompted a $352 million reduction in deferred tax assets and a $290 million reduction in the TRA liability. The filing reports a $62 million non-cash net reduction in income from Tax Reform; total GAAP tax provision was $420.5 million, while the TRA remeasurement contributed $290.9 million of non-operating income.
- Operating cash flow decreased by $66.3 million, including $92.5 million of net operating cash used by consolidated investment products.
- APAM’s ownership of Artisan Partners Holdings increased from 57% to 67%, following the 2017 follow-on offering and unit exchanges. The offering issued 5.6 million Class A shares and its proceeds were used to purchase Holdings units.
- In 2017, APAM launched Global Discovery, Thematic and two privately offered strategies, and refinanced $60 million of notes while extending its revolving facility through 2022.
Outlook, management commentary, risks and unusual items
Management described results as potentially “lumpy,” with short-term performance driven substantially by markets and AUM changes. It expects long-term results to depend on investment performance, talent retention, distribution and successful development of strategies. Management expected 2018 GAAP effective tax rates of 14%–17%, an adjusted effective tax rate of 23.5%, and estimated an additional $0.55 of adjusted net income per adjusted share from the lower corporate tax rate. It expected approximately $36 million of TRA payments in 2018. Other anticipated 2018 costs included about $4 million for risk management, regulatory initiatives and a client reporting system, approximately $2 million in annual occupancy cost increases from office moves, and about $4 million of related one-time costs.
Management expected continued net outflows from Non-U.S. Growth, U.S. Mid-Cap Growth and U.S. Mid-Cap Value, and continued inflows to Global Opportunities, Developing World and High Income. These are expectations, not guarantees. The board declared a $0.60 quarterly dividend and a $0.79 special dividend in February 2018; future dividends remain subject to board discretion, liquidity, legal restrictions and debt covenants.
Key risks include investment underperformance and market declines reducing AUM and fees; client withdrawals and persistent outflows; reliance on key portfolio managers, especially in large strategies; fee pressure and competition from lower-cost passive products; foreign-market and currency exposure; regulatory, litigation, cybersecurity and operational risks; and the liquidity implications of TRAs. About 54% of AUM was in strategies primarily investing outside the U.S., and about 47% was invested in non-U.S.-dollar-denominated securities. No material legal proceedings or off-balance-sheet arrangements were reported. The auditor gave unqualified opinions on the financial statements and internal control over financial reporting.
The fourth quarter included a $27.5 million net loss attributable to APAM, compared with positive quarterly income in each of the first three quarters. The filing attributes the unusual annual earnings pattern to tax and TRA accounting effects; quarterly figures are unaudited.
Important facts for investors to verify
- Reconcile GAAP earnings and the 2017 tax/TRA remeasurement, including the $62 million stated net Tax Reform impact, $420.5 million tax provision and $290.9 million TRA-related non-operating gain.
- Review cash flow excluding consolidated investment products and assess the timing and funding of expected TRA payments against the $137.3 million cash balance and $200 million debt.
- Monitor AUM flows by strategy, particularly continued outflows in the three strategies identified by management, and the impact of fee and vehicle mix on revenue.
- Assess concentration in key investment teams and managers, succession plans, and performance relative to benchmarks after fees; disclosed composite returns are generally gross of fees.
- Confirm realization of the projected 2018 tax benefits and adjusted earnings uplift, and track the board’s dividend policy and capacity to pay distributions.