Westwood Holdings Group, Inc. — Q1 2015 Form 10-Q Summary
Business context and reporting period
Westwood provides investment management, trust and custodial services to institutional investors, private wealth clients and financial intermediaries. Revenue is primarily tied to assets under management (AUM) and market performance. This unaudited Form 10-Q covers the three months ended March 31, 2015, compared with the three months ended March 31, 2014.
Total AUM was $21.7 billion at March 31, 2015, up 14% from $19.1 billion at March 31, 2014. AUM included $13.5 billion institutional, $4.0 billion private wealth and $4.2 billion mutual fund assets. The quarter-end AUM increase reflected $1.1 billion of net inflows and $410 million of market appreciation.
Key financial metrics
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Total revenue | $29.6 million | $25.9 million | +14% |
| Asset-based advisory fees | $23.9 million | $20.4 million | +17% |
| Performance-based advisory fees | $0.3 million | $0.4 million | -21% |
| Trust fees | $5.2 million | $5.0 million | +2% |
| Total expenses | $21.2 million | $17.3 million | +22% |
| Income before taxes | $8.4 million | $8.6 million | -3% |
| Net income | $5.6 million | $5.6 million | +1% |
| Diluted EPS | $0.71 | $0.72 | Down $0.01 |
| Economic Earnings | $9.4 million | $9.2 million | +3% |
| Economic Earnings per diluted share | $1.20 | $1.18 | +2% |
| Cash dividends declared per share | $0.50 | $0.44 | +14% |
Net margin was approximately 18.9% in Q1 2015 versus 21.4% in Q1 2014. Income before tax margin was approximately 28.3% versus 33.2%. The margin decline primarily reflected higher employee compensation, stock-based compensation and transaction-related professional services costs.
Operating cash flow was $13.8 million, compared with $14.6 million in the prior-year quarter. Investing cash outflow was $0.3 million, primarily for property and equipment. Financing cash outflow was $10.3 million, including $4.9 million of dividends, $1.3 million of treasury stock purchases and $5.6 million of restricted stock withheld for employee taxes.
Cash and cash equivalents were $19.6 million at March 31, 2015, compared with $18.1 million at December 31, 2014. Cash and investments totaled $83.6 million, compared with $97.8 million at year-end. Working capital was $90.0 million. The company reported no debt or borrowed-money liabilities and stated that existing cash, short-term investments and operating cash flow should fund ordinary operations and the Woodway acquisition for at least the next twelve months.
Material changes versus the prior comparable period
- Revenue growth was led by a $3.5 million increase in asset-based advisory fees, supported by higher average AUM, client inflows and market appreciation.
- Institutional AUM increased 11%, mutual fund AUM increased 41%, and private wealth AUM increased 1% year over year.
- Employee compensation and benefits increased 19% to $15.3 million, including higher headcount and merit increases, as well as additional payroll tax and 401(k) costs related to first-quarter bonus payments.
- Professional services expense increased 50% to $2.1 million, including $0.7 million of Woodway acquisition transaction costs.
- Information technology expense increased 45%, while Westwood mutual fund expense increased 27% and sales and marketing expense increased 38%.
- The effective tax rate declined to 33.0% from 35.4%, primarily because of increased income generated by the Canadian operation, which is taxed at a lower rate.
- Foreign currency translation loss increased to $1.4 million from $0.4 million, reducing comprehensive income to $4.2 million from $5.2 million.
- The company purchased 21,193 treasury shares for approximately $1.3 million and withheld 90,193 shares to satisfy employee tax obligations.
Guidance, outlook, commentary, risks and unusual items
Management did not provide formal revenue or earnings guidance. For 2015 performance-based restricted stock awards, the Compensation Committee established an adjusted pre-tax income goal of at least $46.0 million. Management concluded in the first quarter that achievement was probable and began recording related compensation expense.
On April 1, 2015, Westwood completed its acquisition of Woodway Financial Advisors, a Houston-based private wealth and trust company with approximately $1.6 billion of AUM at December 31, 2014. Consideration included $25.3 million in cash, 109,712 Westwood shares valued at $6.7 million, and a potential earn-out capped at $15 million. The purchase price allocation was not complete as of the filing date. The company expects to account for the transaction as a business combination and record acquired goodwill and identifiable intangible assets as applicable.
Westwood declared a quarterly cash dividend of $0.50 per share in April 2015, payable July 1, 2015, to shareholders of record June 12, 2015.
Material risks include dependence on AUM levels and market values, customer and revenue concentration, competitive fee pressure, investment performance, personnel retention, regulatory changes, cybersecurity and information systems, conflicts of interest, insurance coverage, acquisition integration and litigation. An AGF-related Canadian litigation matter remains in the discovery phase. The company cannot estimate the ultimate financial impact, although management does not currently believe the matter will be material. Fifty percent of defense costs for the AGF claims, excluding Westwood’s counterclaim, are covered by insurance; a $343,000 insurance receivable was recorded at March 31, 2015.
Westwood sponsors and advises certain variable interest entities but does not consolidate them because it is not the primary beneficiary. The company reported $14.3 million of fee revenue from these entities in Q1 2015 and had approximately $5.8 million of corporate funds invested in them at quarter-end.
Management stated that disclosure controls and procedures were effective and that no material changes occurred in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Confirm the final purchase price allocation, goodwill and intangible assets recorded for the Woodway acquisition, along with the cash and stock used to fund the transaction.
- Monitor post-acquisition AUM retention, revenue contribution, integration costs and potential earn-out obligations.
- Assess whether revenue growth can offset rising compensation, technology, professional services and other operating costs.
- Track AUM flows by institutional, private wealth and mutual fund channels, including continued outflows in the LargeCap Value strategy.
- Evaluate the sustainability of the $0.50 per-share dividend and its effect on liquidity and capital allocation.
- Review developments in the AGF litigation, legal costs and insurance recoveries.
- Consider exposure to market movements, foreign currency translation, investment performance, customer concentration and competitive fee pressure.
- Distinguish GAAP net income and diluted EPS from management’s non-GAAP Economic Earnings measure, which adds back stock-based compensation and certain amortization and tax items.