Artisan Partners Asset Management Inc. — Q2 2013 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2013. Unaudited. The IPO and corporate reorganization closed March 12, 2013, so APAM’s reported results and ownership attribution are not directly comparable with prior periods in all respects.
Business context and performance
Artisan is an active investment manager operating five investment teams and 13 strategies. Revenue is derived principally from management fees based on AUM. At June 30, AUM was $85.8 billion, up 33.9% from a year earlier. Management attributed growth to $15.1 billion of market appreciation and $6.6 billion of net client inflows over the year.
- Q2 average AUM was $85.3 billion, up 34.1% year over year; net inflows were $1.4 billion and market appreciation was $1.2 billion.
- First-half average AUM was $82.3 billion, up 30.0%; net inflows were $3.6 billion and market appreciation was $7.9 billion.
- Eight of 13 strategies had net inflows in Q2 and 11 of 13 in the first half. Emerging Markets had first-half outflows of $1.1 billion.
Financial results and liquidity
Unless noted, amounts are in U.S. dollars. Q2 and first-half comparisons are to the corresponding 2012 periods.
| Metric | Q2 2013 | Six months 2013 |
|---|---|---|
| Revenue | $161.9 million; +34% | $310.2 million; +29% |
| Operating income (loss), GAAP | $48.4 million | $(372.9) million |
| Net income (loss) before noncontrolling interests | $47.0 million | $(352.4) million |
| Net income attributable to APAM | $5.8 million | $8.7 million |
| APAM earnings per share | $0.38 basic and diluted | $0.57 basic and diluted for March 12–June 30 |
| Adjusted operating income and margin (non-GAAP) | $72.2 million; 44.6% | $127.1 million; 41.0% |
| Adjusted net income (non-GAAP) | $44.5 million | $77.7 million |
| Operating cash flow | Not presented separately | $46.5 million, versus $109.7 million |
Q2 GAAP operating margin was about 29.9%, compared with about 34.4% in Q2 2012. The weighted-average management fee rate was 76 basis points in both Q2 periods. APAM held $257.4 million in cash and cash equivalents at June 30, excluding Launch Equity cash, and had $53.8 million of accounts receivable. Total assets were $491.0 million.
Borrowings were $200.0 million, all senior unsecured notes: $60 million due 2017, $50 million due 2019 and $90 million due 2022. The $100 million revolving facility was undrawn. Cash increased by $116.2 million during the first half, supported by IPO proceeds; financing cash flow was $76.1 million, while investing activities used $6.4 million.
Material changes and unusual items
- The first-half GAAP operating loss primarily reflects IPO-related compensation and reorganization accounting. The company recorded a $287.3 million nonrecurring charge from modifying Class B awards, $41.9 million from changes in their pre-IPO value, $27.8 million of post-modification amortization, and $77.3 million in cash incentive and other pre-offering compensation. These items substantially distort comparison with 2012.
- Class B awards’ cash-redemption feature was eliminated in the reorganization; remaining unvested awards are recognized as compensation over their vesting periods. The company reported $200.2 million of unrecognized compensation expense at June 30.
- A $33.4 million first-half gain from reducing the fair value of contingent value rights (CVRs) boosted non-operating income; the Q2 gain was $8.6 million. The CVR liability was $22.0 million at June 30 and could require cash payment, capped at $100 million, in 2016 or earlier after a change of control.
- Cash raised in the $353.4 million net IPO proceeds was used in part for $105.3 million of distributions to pre-IPO partners, repayment of $90.0 million of revolver borrowings, and a $76.3 million purchase of Holdings units.
Outlook, risks and contingencies
- No specific revenue or earnings guidance was provided. Management said it expects to distribute a significant portion of future profits to equity holders and expects operating cash needs to be met primarily from operations.
- Management cited additional public-company costs and estimated $2–$3 million of client and fund approval costs in aggregate during Q3 2013 through Q1 2014 related to an expected 2014 change of control for regulatory purposes. A July 2013 employee award of 1.6 million restricted shares is expected to generate approximately $79.2 million of compensation expense over five years.
- On August 2, 2013, Artisan closed its Small Cap Growth strategy to most new investors and client relationships. It launched a Global Small-Cap Growth strategy and a U.S. Value Equity UCITS fund during Q2.
- Market declines, weaker investment performance, client withdrawals, fee-rate or asset-mix changes, and foreign exchange movements could reduce AUM and revenue. The filing estimates that a 10% AUM change would affect annualized revenue by about $65.2 million at the current 76-basis-point average fee rate.
- APAM recorded $53.6 million payable under tax receivable agreements (TRAs), generally requiring it to remit 85% of specified tax savings. Future payments may vary, and in certain circumstances may be accelerated or exceed realized tax benefits. Debt agreements also contain leverage and interest-coverage covenants.
- No legal proceedings were pending or known to be threatened; the company reported no material change to previously disclosed risk factors. Management concluded disclosure controls were effective.
After quarter-end, the board declared a $19.1 million Holdings distribution and a $0.43 per-share Class A dividend, payable in August 2013.
Important facts for investors to verify
- Separate recurring operating performance from IPO-related compensation charges, CVR fair-value gains and non-GAAP adjustments; review the company’s reconciliation and definitions.
- Confirm the timing and cash impact of the Class B award expense, future equity compensation, TRA payments and any CVR settlement.
- Track AUM flows and investment performance by strategy, particularly continued Emerging Markets outflows and the impact of strategy closures on growth.
- Assess cash generation against distributions, debt service, covenant requirements and any future use of the revolver.
- Consider the post-IPO ownership structure: APAM held approximately 22% of Holdings’ economics at June 30, with the remainder reflected as noncontrolling interests.