Victory Capital Holdings, Inc. — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Financial statements are unaudited. Unless noted, dollar amounts are in millions. The USAA AMCO acquisition closed July 1, 2019, so 2020 results include the acquired business while 2019 comparable results do not.
Business context and operating performance
Victory is a diversified asset manager whose revenue is principally based on assets under management (AUM). It reported $129.1 billion of AUM at June 30, 2020, compared with $64.1 billion a year earlier. The USAA acquisition added scale, products and a direct distribution channel; USAA acquired-company revenue was $104.0 million in Q2 and $221.3 million in the first half of 2020.
- Q2 AUM rose $5.3 billion from March 31, as $17.2 billion of market appreciation more than offset $11.9 billion of net outflows. Outflows included $8.4 billion from money-market and short-term assets; the filing attributes these primarily to Charles Schwab’s May 2020 acquisition of USAA’s investment management company.
- For the first half, AUM declined $22.8 billion from year-end 2019, reflecting $14.8 billion of net outflows and $8.0 billion of negative market action.
- Q2 net flows were negative $11.9 billion versus positive $3.7 billion in Q2 2019. First-half net flows were negative $14.8 billion versus positive $2.6 billion in 2019.
Financial results
| Metric | Q2 2020 | Q2 2019 | H1 2020 | H1 2019 |
|---|---|---|---|---|
| Revenue | $181.9 | $91.4 | $386.3 | $178.8 |
| Operating income | $65.8 | $22.7 | $156.4 | $44.9 |
| Net income | $44.7 | $14.4 | $101.9 | $28.9 |
| Diluted EPS | $0.61 | $0.20 | $1.38 | $0.40 |
| Adjusted EBITDA | $86.3 | $36.6 | $177.8 | $70.2 |
| Adjusted EBITDA margin | 47.5% | 40.0% | 46.0% | 39.2% |
| Adjusted net income | $58.3 | $24.4 | $120.0 | $46.3 |
- Q2 revenue increased 99% year over year; H1 revenue increased 116%. Growth largely reflects the USAA acquisition, higher average AUM and added administration and transfer-agent fees, rather than a directly comparable organic increase.
- Investment management fees were $130.0 million in Q2 and $276.9 million in H1. Fund administration and distribution fees were $51.9 million and $109.4 million, respectively.
- Revenue on average AUM declined to 56.7 basis points in Q2 from 61.0 basis points in Q2 2019, and to 56.9 basis points for H1 from 61.6 basis points. Management cited asset and client mix effects.
- Q2 GAAP operating margin was approximately 36.2% versus 24.9% a year earlier; net margin was approximately 24.6% versus 15.7%. The filing’s stated adjusted EBITDA margins are shown above.
- Operating costs increased with the acquisition: Q2 personnel expense was $49.1 million, distribution and other asset-based expense $41.6 million, and general and administrative expense $13.3 million. Q2 included $2.6 million of restructuring and integration costs and a $5.3 million expense from an increase in contingent acquisition consideration fair value.
Cash flow, debt and liquidity
- H1 operating cash flow was $120.9 million, versus $49.3 million in H1 2019. Investing cash outflow was $6.9 million; financing cash outflow was $95.8 million, chiefly reflecting $70.3 million of debt repayments/retirements, $13.1 million of share repurchases and $7.0 million of dividends.
- Cash and cash equivalents were $55.2 million at June 30, up from $37.1 million at year-end. Receivables were $74.8 million. The $100 million revolving facility was undrawn; the company reported no revolver borrowings and compliance with its financial covenant.
- Term-loan principal was $880.7 million and reported long-term debt, net, was $857.2 million, down from $952.0 million principal and $924.5 million net at year-end. The loan matures in July 2026. The term-loan rate was 3.94% at June 30; a swap fixes the rate at 3.465% on $450 million through maturity. The swap had an $11.0 million liability fair value.
- After quarter-end, Victory reduced term-loan principal by a further $20.5 million. It reported total debt reduction of $239.8 million since July 1, 2019.
Outlook, risks and unusual items
- No specific earnings or AUM guidance was provided. Management said COVID-19 had not materially adversely affected reported Q1 or Q2 results, but the future impact remains uncertain and depends on the pandemic, market conditions, client behavior, vendors and employee productivity. Management stated it was monitoring liquidity and believed operating cash flows and financing sources would meet needs.
- Key business exposures include market-driven AUM declines, client withdrawals, fee-rate and asset-mix pressure, substantial indebtedness, integration of the USAA business, reliance on third-party service providers and technology, regulation, cybersecurity and litigation risks. A 10% change in AUM, proportionately distributed, was estimated to change annualized revenue by approximately $73.5 million at the Q2 weighted-average fee rate.
- The USAA acquisition includes contingent payments of up to $150 million over four years; the estimated liability was $118.5 million at June 30. The estimate depends on assumptions including non-managed-money revenue growth and volatility.
- The Board declared a Q2 dividend of $0.05 per share; on August 5 it declared a $0.06 per-share dividend payable September 25, 2020. A new $15 million share-repurchase authorization began in May; $11.9 million remained available at June 30.
- Management reported disclosure controls were effective and no material change in internal control during the quarter. The company reported no material legal proceedings.
Important facts for investors to verify
- How much of reported revenue and earnings growth reflects the acquired USAA business, and how underlying organic performance is trending.
- Whether sustained outflows—especially money-market and short-term outflows—and fee-rate compression affect future AUM, revenue and margins.
- Debt-paydown pace, interest costs, covenant headroom and the effect of the interest-rate swap.
- Progress integrating USAA, including ongoing distribution, transfer-agent and transition-service costs, and the assumptions behind the earn-out liability.
- The duration and financial effects of COVID-19, including potential market declines and further client withdrawals.