Virtus Investment Partners, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. Virtus provides investment management and related services. Results include RidgeWorth Investments from its June 1, 2017 acquisition; comparisons with 2016 are therefore not fully like-for-like.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $123.7 million | $82.3 million | $297.6 million | $242.7 million |
| Operating income | $16.8 million | $16.5 million | $30.0 million | $38.0 million |
| Net income | $20.5 million | $16.3 million | $34.3 million | $36.8 million |
| Net income attributable to common stockholders | $16.7 million | $15.6 million | $25.3 million | $36.1 million |
| Diluted EPS | $2.21 | $1.99 | $3.52 | $4.39 |
- Q3 operating margin was approximately 13.6%, versus 20.1% a year earlier; nine-month operating margin was approximately 10.1%, versus 15.7%. Higher acquisition-related expenses and amortization contributed to margin pressure.
- Q3 revenue rose 50.2%, principally reflecting $32.5 million of RidgeWorth revenue. Investment management fees increased 61.1%. Management said operating income was nearly flat as higher expenses offset much of the added revenue.
- Q3 net income also reflected $13.5 million of net gains from consolidated investment products (CIPs), compared with $3.7 million a year earlier. These products’ consolidated assets and liabilities are largely attributable to outside investors; the company says its risk is generally limited to its interests in the products.
- For the first nine months, operating expenses increased 30.7%, faster than revenue growth of 22.6%. Common-stockholder income fell 30.0%, including $6.3 million of preferred dividends in 2017.
Assets under management and flows
- Total AUM was $90.6 billion at September 30, up 94.6% from a year earlier. Long-term AUM was $87.1 billion, up 87.2%. RidgeWorth added approximately $40.1 billion at acquisition; market appreciation and flows also contributed to growth from year-end.
- Q3 long-term net flows were positive $234 million, compared with positive $485 million in Q3 2016. Q3 inflows were $4.6 billion. Within the quarter, retail separate-account net flows were positive $224 million, while institutional-account flows were negative $454 million.
- Average fee rate across all products was 43.4 basis points in Q3, down from 51.8 basis points. Management attributed the decline primarily to RidgeWorth’s lower blended fee rate and its mix of fixed-income assets.
Cash, debt and liquidity
- At September 30, corporate cash and cash equivalents were $164.9 million, versus $64.6 million at December 31, 2016; investments were $96.8 million. The balance sheet reports debt of $248.5 million. The company states that $260.0 million was outstanding under its term loan and that its $100 million revolving facility was undrawn.
- Management reported net debt, including $51.7 million of contingent consideration, of $146.8 million and a 0.9x net leverage ratio at quarter-end. The contingent consideration was expected to be paid in Q4 2017. The credit agreement includes a leverage covenant and secured substantially all company and guarantor assets, subject to customary exceptions.
- Nine-month operating cash flow was negative $103.8 million, primarily reflecting net investment purchases by CIPs. Investing cash flow was negative $389.4 million, including $393.4 million of net cash used for the acquisition. Financing cash flow was positive $796.6 million, supported by equity and preferred offerings, term borrowing and CIP financing.
- Cash-flow-statement ending cash of $386.1 million includes CIP cash; it is not the same as the $164.9 million of corporate cash on the balance sheet. CIPs had $1.456 billion of notes payable, generally recourse only to their related assets, and are distinct from Virtus’s corporate debt.
Acquisition, outlook and other notable items
- Virtus acquired RidgeWorth for total consideration of approximately $547.1 million. Purchase accounting remained preliminary for certain intangible-asset and tax estimates. The $51.7 million contingent payment conditions had been met by quarter-end.
- The filing provides no specific earnings or revenue guidance. Management cautions that interim results are not necessarily indicative of full-year results. It identifies AUM levels and flows, markets, client mandate retention, competition, regulation, key personnel and successful acquisition integration among significant business risks.
- Acquisition and integration costs totaled $22.9 million for the first nine months, including severance and restructuring, other operating and employment expenses. Unpaid severance and related charges were $6.8 million, expected to be paid over three years; approximately $0.3 million of additional severance was expected.
- Two securities-related lawsuits concerning former F-Squared-subadvised funds remained pending. The company said it intended to defend them and did not consider a material loss probable and reasonably estimable. In one matter, class certification had been granted and defendants moved for summary judgment; in the other, plaintiffs’ class-certification motion had been denied and a request to amend was pending.
- Management concluded disclosure controls were effective, but excluded RidgeWorth’s internal controls from its assessment while integration review continued. RidgeWorth represented 69.3% of consolidated assets and 26.3% of quarterly revenue, making that exclusion important context.
Important facts for investors to verify
- Whether AUM growth and positive flows are sustainable, particularly given Q3 institutional outflows and negative open-end fund flows.
- How RidgeWorth’s lower fee mix, integration spending, and acquired intangible amortization affect future operating margins and earnings.
- Payment of the $51.7 million contingent consideration, cash available after payment, and compliance with credit-agreement covenants.
- The distinction between corporate liquidity and consolidated investment-product cash, debt, and cash flows.
- Developments in the securities litigation and completion of RidgeWorth’s internal-control integration review.