MN 10-Q _Q1 2014
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________________________________________
FORM 10-Q 
_____________________________________________________________
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2014
OR 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from            to            

Commission file number: 001-35355
 _____________________________________________________________
MANNING & NAPIER, INC.
(Exact name of registrant as specified in its charter)
_____________________________________________________________
Delaware
 
45-2609100
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
290 Woodcliff Drive
Fairport, New York
 
14450
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code:
(585) 325-6880
_____________________________________________________________ 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
 
¨
  
Accelerated filer
 
x
 
 
 
 
Non-accelerated filer
 
¨  (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date. 
Class
  
Outstanding at May 6, 2014
Class A common stock, $0.01 par value per share
  
13,648,169
Class B common stock, $0.01 par value per share
  
1,000
 




TABLE OF CONTENTS
 
 
 
Page
Part I
 
Item 1.
 
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
Part II
 
Item 1A.
Item 6.
 
 
 
 
In this Quarterly Report on Form 10-Q, “we”, “our”, “us”, the “Company”, “Manning & Napier” and the “Registrant” refers to Manning & Napier, Inc. and, unless the context otherwise requires, its consolidated direct and indirect subsidiaries and predecessors.
 
 


i

Table of Contents

PART I—FINANCIAL INFORMATION
Item 1. Financial Statements
Manning & Napier, Inc.
Consolidated Statements of Financial Condition
(In thousands, except share data)
 
 
 
March 31, 2014
 
December 31, 2013
 
 
(unaudited)
 
 
Assets
 
 
 
 
Cash and cash equivalents
 
$
118,707

 
$
125,250

Accounts receivable
 
24,362

 
24,140

Accounts receivable—Manning & Napier Fund, Inc.
 
16,421

 
16,461

Due from broker
 
5,567

 
5,816

Investment securities, at fair value
 
24,334

 
21,321

Prepaid expenses and other assets
 
7,715

 
8,028

Total current assets
 
197,106

 
201,016

Property and equipment, net
 
5,783

 
5,424

Net deferred tax assets, non-current
 
42,686

 
46,164

Total assets
 
$
245,575

 
$
252,604

 
 
 
 
 
Liabilities
 
 
 
 
Accounts payable
 
$
1,303

 
$
1,476

Accrued expenses and other liabilities
 
62,169

 
49,813

Deferred revenue
 
13,611

 
12,007

Total current liabilities
 
77,083

 
63,296

Other long-term liabilities
 
1,893

 
1,444

Amounts payable under tax receivable agreement, non-current
 
39,965

 
42,075

Total liabilities
 
118,941

 
106,815

Commitments and contingencies (Note 9)
 


 


Shareholders’ equity
 
 
 
 
Class A common stock, $0.01 par value; 300,000,000 shares authorized; 13,648,169 and 13,634,246 issued and outstanding at March 31, 2014 and December 31, 2013, respectively
 
136

 
136

Class B common stock, $0.01 par value; 2,000 shares authorized, 1,000 shares issued and outstanding at March 31, 2014 and December 31, 2013
 

 

Additional paid-in capital
 
208,297

 
208,988

Retained deficit
 
(42,647
)
 
(40,544
)
Accumulated other comprehensive income
 

 
(1
)
Total shareholders’ equity
 
165,786

 
168,579

Noncontrolling interests
 
(39,152
)
 
(22,790
)
Total shareholders’ equity and noncontrolling interests
 
126,634

 
145,789

Total liabilities, shareholders’ equity and noncontrolling interests
 
$
245,575

 
$
252,604

The accompanying notes are an integral part of these consolidated financial statements.


1

Table of Contents

Manning & Napier, Inc.
Consolidated Statements of Operations
(In thousands, except share data)
(Unaudited)
 
 
 
Three months ended March 31,
 
 
2014
 
2013
Revenues
 
 
 
 
Investment management services revenue
 
$
98,470

 
$
90,256

Expenses
 
 
 
 
Compensation and related costs
 
51,810

 
48,483

Distribution, servicing and custody expenses
 
18,440

 
15,915

Other operating costs
 
7,937

 
7,779

Total operating expenses
 
78,187

 
72,177

Operating income
 
20,283

 
18,079

Non-operating income (loss)
 
 
 
 
Interest expense
 
(3
)
 
(3
)
Interest and dividend income
 
214

 
63

Change in liability under tax receivable agreement
 
2,110

 

Net gains (losses) on investments
 
116

 
250

Total non-operating income (loss)
 
2,437

 
310

Income before provision for income taxes
 
22,720

 
18,389

Provision for income taxes
 
5,076

 
1,997

Net income attributable to controlling and noncontrolling interests
 
17,644

 
16,392

Less: net income attributable to noncontrolling interests
 
17,563

 
16,048

Net income attributable to Manning & Napier, Inc.
 
$
81

 
$
344

 
 
 
 
 
Net income per share available to Class A common stock
 
 
 
 
Basic
 
$
0.01

 
$
0.03

Diluted
 
$
0.01

 
$
0.03

Weighted average shares of Class A common stock outstanding
 
 
 
 
Basic
 
13,634,401

 
13,583,873

Diluted
 
13,751,690

 
13,583,873

Cash dividends declared per share of Class A common stock
 
$
0.16

 
$
0.16

The accompanying notes are an integral part of these consolidated financial statements.


2

Table of Contents

Manning & Napier, Inc.
Consolidated Statements of Comprehensive Income
(In thousands)
(Unaudited)
 
 
 
Three months ended March 31,
 
 
2014
 
2013
Net income attributable to controlling and noncontrolling interests
 
$
17,644

 
$
16,392

Reclassification adjustment for realized losses on investment securities included in net income
 
1

 

Comprehensive income
 
$
17,645

 
$
16,392

Less: Comprehensive income attributable to noncontrolling interests
 
$
17,564

 
$
16,048

Comprehensive income attributable to Manning & Napier, Inc.
 
$
81

 
$
344

The accompanying notes are an integral part of these consolidated financial statements.


3

Table of Contents

Manning & Napier, Inc.
Consolidated Statement of Shareholders’ Equity
(In thousands, except share data)
(Unaudited) 
 
 
 
Common Stock –  class A
 
Common Stock – class B
 
Additional
Paid in Capital
 
Retained
Deficit
 
Accumulated
Other
Comprehensive Income (Loss)
 
Non
Controlling
Interests
 
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
 
Total
Balance—December 31, 2013
 
13,634,246

 
$
136

 
1,000

 
$

 
$
208,988

 
$
(40,544
)
 
$
(1
)
 
$
(22,790
)
 
$
145,789

Net income
 

 

 

 

 

 
81

 

 
17,563

 
17,644

Distributions to noncontrolling interests
 

 

 

 

 

 

 

 
(26,972
)
 
(26,972
)
Net changes in unrealized investment securities gains or losses
 

 

 

 

 

 

 
1

 

 
1

Issuance of stock for restricted stock grants
 
13,923

 

 

 

 

 

 

 

 

Equity-based compensation
 

 

 

 

 
3,165

 

 

 
19,519

 
22,684

Dividends declared on Class A common stock - $0.16 per share
 

 

 

 

 

 
(2,184
)
 

 

 
(2,184
)
Purchase of Class A units of Manning & Napier Group, LLC held by noncontrolling interests (Note 3)
 

 

 

 

 
(3,856
)
 

 

 
(26,472
)
 
(30,328
)
Balance—March 31, 2014
 
13,648,169

 
$
136

 
1,000

 
$

 
$
208,297

 
$
(42,647
)
 
$

 
$
(39,152
)
 
$
126,634

The accompanying notes are an integral part of these consolidated financial statements.


4

Table of Contents

Manning & Napier, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
 
 
 
Three months ended March 31,
 
 
2014
 
2013
Cash flows from operating activities:
 
 
 
 
Net income
 
$
17,644

 
$
16,392

Adjustment to reconcile net income to net cash provided by operating activities:
 
 
 
 
Equity-based compensation
 
22,684

 
21,740

Depreciation
 
477

 
486

Change in amounts payable under tax receivable agreement
 
(2,110
)
 

Net gains on investment securities
 
(116
)
 
(250
)
Deferred income taxes
 
3,478

 
393

(Increase) decrease in operating assets and increase (decrease) in operating liabilities:
 
 
 
 
Accounts receivable
 
(222
)
 
(856
)
Accounts receivable—Manning & Napier Fund, Inc.
 
40

 
(809
)
Prepaid expenses and other assets
 
313

 
169

Accounts payable
 
(173
)
 
94

Accrued expenses and other liabilities
 
(13,682
)
 
(8,489
)
Deferred revenue
 
1,604

 
1,712

Other long-term liabilities
 
449

 

Net cash provided by operating activities
 
30,386

 
30,582

Cash flows from investing activities:
 
 
 
 
Purchase of property and equipment
 
(773
)
 
(373
)
Sale of investments
 
1,486

 
4,852

Purchase of investments
 
(4,082
)
 
(2,077
)
Proceeds from maturity of investments
 
100

 

Net cash (used in) provided by investing activities
 
(3,269
)
 
2,402

Cash flows from financing activities:
 
 
 
 
Dividends paid on Class A common stock
 
(3,272
)
 
(2,173
)
Payment of capital lease obligations
 
(60
)
 
(36
)
Purchase of Class A units of Manning & Napier Group, LLC
 
(30,328
)
 
(7,413
)
Net cash used in financing activities
 
(33,660
)
 
(9,622
)
Net (decrease) increase in cash and cash equivalents
 
(6,543
)
 
23,362

Cash and cash equivalents:
 
 
 
 
Beginning of period
 
125,250

 
108,324

End of period
 
$
118,707

 
$
131,686

The accompanying notes are an integral part of these consolidated financial statements.

5

Table of Contents

Manning & Napier, Inc.
Notes to Consolidated Financial Statements

Note 1—Organization and Nature of the Business
Manning & Napier, Inc. ("Manning & Napier", or the "Company") provides a broad range of investment solutions through separately managed accounts, mutual funds, and collective investment trust funds, as well as a variety of consultative services that complement its investment process. Founded in 1970, the Company offers equity and fixed income portfolios as well as a range of blended asset portfolios, such as life cycle funds, that use a mix of stocks and bonds. Headquartered in Fairport, New York, the Company serves a diversified client base of high net worth individuals and institutions, including 401(k) plans, pension plans, Taft-Hartley plans, endowments and foundations.
The Company is the sole managing member of Manning & Napier Group, LLC (together with its subsidiaries, "Manning & Napier Group"), a holding company for the investment management businesses conducted by its operating subsidiaries. The diagram below depicts the Company's organization structure as of March 31, 2014.
  
(1)
The operating subsidiaries of Manning & Napier Group include Manning & Napier Advisors, LLC ("MNA"), Exeter Advisors I, LLC, Manning & Napier Alternative Opportunities, LLC, Perspective Partners LLC, Manning & Napier Information Services, LLC, Manning & Napier Benefits, LLC, Manning & Napier Investor Services, Inc. and Exeter Trust Company.
Note 2—Summary of Significant Accounting Policies
Critical Accounting Policies
There have been no significant changes in our critical accounting policies and estimates from those that were disclosed in our Annual Report on Form 10-K for the year ended December 31, 2013.
The Company believes that the disclosures herein are adequate so that the information presented is not misleading; however, these financial statements should be read in conjunction with the financial statements and the notes thereto in our Annual Report on Form 10-K for the year ended December 31, 2013. The financial data for the interim periods may not necessarily be indicative of results for future interim periods or for the full year.

6

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)


Basis of Presentation
The accompanying unaudited consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) and related rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) for interim financial reporting and include all adjustments, consisting only of normal recurring adjustments which are, in the opinion of management, necessary for a fair statement of the results for the interim period.
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates or assumptions that affect the reported amounts and disclosures in the consolidated financial statements. Actual results could differ from these estimates or assumptions.
Principles of Consolidation
As of March 31, 2014, Manning & Napier holds an approximately 14.3% economic interest in Manning & Napier Group but, as managing member, controls all of the business and affairs of Manning & Napier Group. As a result, the Company consolidates the financial results of Manning & Napier Group and records a noncontrolling interest on its consolidated statements of financial condition with respect to the remaining economic interest in Manning & Napier Group held by Manning & Napier Group Holdings, LLC (“M&N Group Holdings”) and Manning & Napier Capital Company, LLC (“MNCC”).
All material intercompany transactions have have been eliminated in consolidation.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. Cash and cash equivalents are primarily held in operating accounts at major financial institutions and also in money market mutual funds. Cash equivalents are stated at cost, which approximates market value due to the short-term maturity of these investments. The fair value of cash equivalents have been classified as Level 1 in accordance with the fair value hierarchy.
Due from broker
The Company conducts business with brokers for certain of its investment activities. The due from broker balance on the consolidated statements of financial condition represents cash held by brokers as collateral for managed futures and cash at brokers as collateral for securities sold, not yet purchased.
Investment Securities
Investment securities are classified as either trading or available-for-sale and are carried at fair value. Fair value is determined based on quoted market prices in active markets for identical or similar instruments.
Investment securities classified as trading consist of equity securities, fixed income securities, and investments in mutual funds for which the Company provides advisory services. Realized and unrealized gains and losses on trading securities are recorded in net gains (losses) on investments in the consolidated statements of operations. Realized gains and losses on sales of trading securities are computed on a specific identification basis. At March 31, 2014, trading securities consist solely of investments held by the Company to provide initial cash seeding for product development purposes.
Securities sold, not yet purchased are recorded on the trade date, are stated at fair value and represent obligations of the Company to purchase the securities at prevailing market rates. Therefore, the future satisfaction of such obligations may be for an amount greater or less than the amounts recorded on the consolidated statements of financial condition. The ultimate gains or losses recognized are dependent upon the prices at which these securities are purchased to settle the obligations under the sales commitments. Realized gains and losses from covers of securities sold, not yet purchased transactions are included in net gain (loss) from investments on the consolidated statements of operations. Securities sold, not yet purchased are stated at fair value in accrued expenses and other liabilities in the consolidated statements of financial condition, with any unrealized gains or losses reported in current period earnings in net gain (loss) from investments on the consolidated statements of operations.
Operating Segments
The Company operates in one segment, the investment management industry. The Company primarily provides investment management services to separately managed accounts, mutual funds and collective investment trust funds. Management assesses the financial performance of these vehicles on a combined basis.
Advisory Agreements
The Company derives significant revenue from its role as advisor to the Manning & Napier Fund Inc. series of mutual funds (the “Fund”) and the Exeter Collective Investment Trust (“CIT”).

7

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

The Company's investments in the Fund amounted to approximately $1.7 million as of March 31, 2014 and December 31, 2013.
Fees earned for advisory related services provided to the Fund and CIT investment vehicles were approximately $52.1 million and $46.6 million for the three months ended March 31, 2014 and 2013, respectively. These amounts represent greater than 10% of the Company's revenue in each period.
Note 3—Noncontrolling Interests
Manning & Napier holds an approximately 14.3% economic interest in Manning & Napier Group, but as managing member controls all of the business and affairs of Manning & Napier Group. As a result, the Company consolidates the financial results of Manning & Napier Group and records a noncontrolling interest on its consolidated statement of financial condition with respect to the remaining approximately 85.7% aggregate economic interest in Manning & Napier Group held by M&N Group Holdings and MNCC. Net income attributable to noncontrolling interests on the statements of operations represents the portion of earnings or loss attributable to the economic interest in Manning & Napier Group held by the noncontrolling interests.
The following provides a reconciliation from “Income before provision for income taxes” to “Net income attributable to Manning & Napier, Inc.”:
 
 
 
Three months ended March 31,
 
 
2014
 
2013
 
(in thousands)
Income before provision for income taxes
 
$
22,720

 
$
18,389

Less: gain (loss) before provision for income taxes of Manning & Napier, Inc. (a)
 
2,105

 
(308
)
Income before provision for income taxes, as adjusted
 
20,615

 
18,697

Controlling interest percentage (b)
 
14.0
%
 
13.9
%
Net income attributable to controlling interest
 
2,876

 
2,597

Plus: gain (loss) before provision for income taxes of Manning & Napier, Inc. (a)
 
2,105

 
(308
)
Income before income taxes attributable to Manning & Napier, Inc.
 
4,981

 
2,289

Less: provision for income taxes of Manning & Napier, Inc. (c)
 
4,900

 
1,945

Net income attributable to Manning & Napier, Inc.
 
$
81

 
$
344

________________________
a)
Manning & Napier, Inc. incurs certain gains or expenses that are only attributable to it and are therefore excluded from the net income attributable to noncontrolling interests.
b)
Income before provision for income taxes is allocated to the controlling interest based on the percentage of units of Manning & Napier Group held by Manning & Napier, Inc. The amount represents the Company's weighted ownership of Manning & Napier Group for the respective periods.
c)
The consolidated provision for income taxes is equal to the sum of (i) the provision for income taxes for entities other than Manning & Napier, Inc. and (ii) the provision for income taxes of Manning & Napier, Inc. which includes all U.S. federal and state income taxes. The consolidated provision for income taxes totaled approximately $5.1 million and $2.0 million for the three months ended March 31, 2014 and 2013, respectively.
Noncontrolling interests as of and for the three months ended March 31, 2014 and 2013, included the following amounts:
 
 
Three months ended March 31,
 
 
2014
 
2013
 
 
(in thousands)
Balance, beginning of period
 
$
(22,790
)
 
$
(41,115
)
Net income attributable to noncontrolling interests
 
17,563

 
16,048

Distributions to noncontrolling interests
 
(26,972
)
 
(26,996
)
Equity-based compensation
 
19,519

 
18,720

Purchase of Class A units of Manning & Napier Group, LLC held by noncontrolling interests
 
(26,472
)
 
(7,413
)
Balance, end of period
 
$
(39,152
)
 
$
(40,756
)

8

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

On March 31, 2014, M&N Group Holdings and MNCC exchanged a total of 2,098,837 Class A units of Manning & Napier Group for approximately $30.3 million in cash, $26.5 million of which was attributable to the noncontrolling interests. Subsequent to the exchange, the Class A units were retired. In addition, as further described in Note 11, 13,923 shares of Class A common stock were granted resulting in Manning & Napier, Inc. acquiring an additional 13,923 units of Manning & Napier Group. As a result of the aforementioned transactions, the Company's economic ownership interest in Manning & Napier Group increased to 14.3%. As of March 31, 2014, M&N Group Holdings and MNCC may exchange an aggregate of 73,762,186 units of Manning & Napier Group for shares of the Company's Class A common stock pursuant to the terms of the exchange agreement entered into at the time of the Company's 2011 initial public offering ("IPO").
During both the three months ended March 31, 2014 and 2013, the Company declared approximately $27.0 million of distributions to noncontrolling interests. None of these distributions are payments pursuant to the tax receivable agreement (“TRA”) which the Company entered into in connection with the IPO.
At March 31, 2014 and December 31, 2013, the Company had recorded a liability of $41.9 million and $44.0 million, respectively, representing the estimated payments due to the selling unit holders under the TRA. Of these amounts, $2.0 million were included in accrued expenses and other liabilities at March 31, 2014 and December 31, 2013, respectively. The Company made no payments pursuant to the TRA during either of the three months ended March 31, 2014 and 2013. The Company recorded an adjustment of $2.1 million to the amounts payable under the TRA during the three months ended March 31, 2014 to account for enacted changes in tax laws.
Obligations pursuant to the TRA are obligations of Manning & Napier. They do not impact the noncontrolling interests. These obligations are not income tax obligations. Furthermore, the TRA has no impact on the allocation of the provision for income taxes to the Company’s net income.

Note 4—Investment Securities
The following table represents the Company’s investment securities holdings as of March 31, 2014 and December 31, 2013:
 
 
March 31, 2014
 
 
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
 
 
(in thousands)
Available-for-sale securities
 
 
 
 
 
 
 
 
U.S. Treasury note (0.25%, 8/31/2014)
 
$
505

 
$

 
$

 
$
505

U.S. Treasury note (0.25%, 10/31/2015)
 
100

 

 

 
100

 
 
605

 

 

 
605

Trading securities
 
 
 
 
 
 
 
 
Equity securities
 
 
 
 
 
 
 
12,165

Fixed income securities
 
 
 
 
 
 
 
9,842

Managed mutual funds
 
 
 
 
 
 
 
1,722

 
 
 
 
 
 
 
 
23,729

Total investment securities
 
 
 
 
 
 
 
$
24,334


9

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

 
 
December 31, 2013
 
 
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
 
 
(in thousands)
Available-for-sale securities
 
 
 
 
 
 
 
 
U.S. Treasury note (0.25%, 8/31/2014)
 
$
505

 
$

 
$

 
$
505

U.S. Treasury note (1.75%, 1/31/2014)
 
102

 

 

 
102

 
 
607

 

 

 
607

Trading securities
 
 
 
 
 
 
 
 
Equity securities
 
11,961

Fixed income securities
 
7,085

Managed mutual funds
 
1,668

 
 
 
 
 
 
 
 
20,714

Total investment securities
 
 
 
 
 
 
 
$
21,321

Investment securities are classified as either trading or available-for-sale and are carried at fair value. Fair value is determined based on quoted market prices in active markets for identical or similar instruments.
Investment securities classified as trading consist of equity securities, fixed income securities and investments in mutual funds for which the Company provides advisory services. At March 31, 2014 and December 31, 2013, trading securities consist solely of investments held by the Company to provide initial cash seeding for product development purposes. The Company recognized approximately $0.5 million and $0.4 million of net unrealized gains related to investments classified as trading during the three months ended March 31, 2014 and 2013, respectively.
Investment securities classified as available-for-sale consist of U.S. Treasury notes for compliance with certain state regulations. As of March 31, 2014 and December 31, 2013, $0.6 million of investment securities is considered restricted. The Company periodically reviews each individual security position that has an unrealized loss, or impairment, to determine if that impairment is other-than-temporary. No other-than-temporary impairment charges have been recognized by the Company during the three months ended March 31, 2014 and 2013.
Note 5—Derivative Instruments
The Company enters into futures contracts for product development purposes. Futures are commitments either to purchase or sell a designated financial instrument, currency, commodity or an index at a specified future date for a specified price and may be settled in cash or another financial asset. Upon entering into a futures contract, the Company is required to pledge to the broker an amount of cash, which is reported in due from broker within the consolidated statements of financial condition. Futures contracts have little credit risk because the counterparties are futures exchanges. The Company does not hold any derivatives in a formal hedge relationship under ASC 815-10, Derivatives and Hedging.
The following tables present the notional value and fair value as of March 31, 2014 and December 31, 2013 for derivative instruments not designated as hedging instruments:

 
 
March 31, 2014
 
 
 
 
Fair Value
 
 
Notional Value
 
Asset Derivative
 
Liability Derivative
 
 
(in thousands)
Interest rate futures
 
$
141,978

 
$
37

 
$
(56
)
Total derivatives
 
$
141,978

 
$
37

 
$
(56
)

10

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

 
 
December 31, 2013
 
 
 
 
Fair Value
 
 
Notional Value
 
Asset Derivative
 
Liability Derivative
 
 
(in thousands)
Interest rate futures
 
$
123,164

 
$
217

 
$
(66
)
Total derivatives
 
$
123,164

 
$
217

 
$
(66
)

As of March 31, 2014 and December 31, 2013, the derivative assets and liabilities are measured at fair value and are included in due from broker in the consolidated statements of financial condition, with changes in the fair value reported in net gains (losses) on investments in the consolidated statements of operations. For the three months ended March 31, 2014, the average volume of derivative activity (measured in terms of notional value) was approximately $151.0 million. There was no derivative activity during the three months ended March 31, 2013. The following table presents the losses recognized in net gains (losses) on investments in the consolidated statements of operations for the three months ended March 31, 2014 and 2013:        
 
 
Three months ended March 31,
 
 
2014
 
2013
 
(in thousands)
Interest rate futures
 
$
(365
)
 
$

Balance as of end of period
 
$
(365
)
 
$

The Company discloses information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position in accordance with ASU 2011-11, Disclosures about Offsetting Assets and Liabilities. The derivatives instruments are subject to a master netting agreement allowing for the netting of assets and liabilities on the consolidated statements of financial position.

The following table presents the offsetting of interest rate futures as of March 31, 2014 and December 31, 2013:
 
 
Gross Amounts of Recognized Liabilities
 
Gross Amounts Offset in the Statement of Financial Position
 
Net Amounts of Assets (Liabilities) Presented in the Statement of Financial Position
 
Financial Instruments
 
Cash Collateral Received (Pledged)
 
Net Amount
 
 
(in thousands)
March 31, 2014
 
$
(56
)
 
$
37

 
$
(19
)
 
$

 
$
(19
)
 
$

December 31, 2013
 
$
(66
)
 
$
217

 
$
151

 
$

 
$

 
$
151

Note 6—Fair Value Measurements
Fair value is defined as the price that the Company would receive upon selling an investment in an orderly transaction to an independent buyer in the principal or most advantageous market of the investment. A fair value hierarchy is provided that gives the highest priority to unadjusted quoted prices in active markets for identical assets and liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).
The following three-tier fair value hierarchy prioritizes the inputs used in measuring fair value:
Level 1—observable inputs such as quoted prices in active markets for identical securities;
Level 2—other significant observable inputs (including but not limited to quoted prices for similar securities, interest rates, prepayment rates, credit risk, etc.); and
Level 3—significant unobservable inputs (including the Company’s own assumptions in determining the fair value of investments).

11

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

The following provides the hierarchy of inputs used to derive the fair value of the Company’s assets as of March 31, 2014 and December 31, 2013: 
 
 
March 31, 2014
 
 
Level 1
 
Level 2
 
Level 3
 
Totals
 
 
(in thousands)
Equity securities
 
$
12,165

 
$

 
$

 
$
12,165

Fixed income securities
 
1,242

 
8,600

 

 
9,842

Managed mutual funds
 
1,722

 

 

 
1,722

U.S. Treasury notes
 

 
605

 

 
605

Derivatives
 
37

 

 

 
37

Total assets at fair value
 
$
15,166

 
$
9,205

 
$

 
$
24,371

 
 
 
 
 
 
 
 
 
Securities sold, not yet purchased
 
$
925

 
$

 
$

 
$
925

Derivatives
 
56

 

 

 
56

Total liabilities at fair value
 
$
981

 
$

 
$

 
$
981

 
 
December 31, 2013
 
 
Level 1
 
Level 2
 
Level 3
 
Totals
 
 
(in thousands)
Equity securities
 
$
11,961

 
$

 
$

 
$
11,961

Fixed income securities
 
1,220

 
5,865

 

 
7,085

Managed mutual funds
 
1,668

 

 

 
1,668

U.S. Treasury notes
 

 
607

 

 
607

Derivatives
 
217

 

 

 
217

Total assets at fair value
 
$
15,066

 
$
6,472

 
$

 
$
21,538

 
 
 
 
 
 
 
 
 
Securities sold, not yet purchased
 
$
777

 
$

 
$

 
$
777

Derivatives
 
66

 

 

 
66

Total liabilities at fair value
 
$
843

 
$

 
$

 
$
843


Valuations of investments in fixed income securities and U.S. Treasury notes can generally be obtained through independent pricing services. For most bond types, the pricing service utilizes matrix pricing, which considers one or more of the following factors: yield or price of bonds of comparable quality, coupon, maturity, current cash flows, type and current day trade information, as well as dealer supplied prices. These valuations are categorized as Level 2 in the hierarchy.
There were no Level 3 securities held by the Company at March 31, 2014 or December 31, 2013.
The Company’s policy is to recognize transfers in and transfers out of the valuation levels as of the beginning of the reporting period. There were no transfers between Level 1 and Level 2 securities during the three months ended March 31, 2014.

12

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

Note 7—Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities as of March 31, 2014 and December 31, 2013 consisted of the following:
 
 
March 31, 2014
 
December 31, 2013
 
 
(in thousands)
Accrued bonus and sales commissions
 
$
16,309

 
$
28,305

Accrued payroll and benefits
 
1,522

 
2,970

Accrued sub-transfer agent fees
 
8,957

 
8,081

Dividends payable
 
2,184

 
3,272

Accrued distributions
 
26,972

 

Amounts payable under tax receivable agreement
 
1,955

 
1,955

Securities sold, not yet purchased
 
925

 
777

Other accruals and liabilities
 
3,345

 
4,453

 
 
$
62,169

 
$
49,813

Note 8—Line of Credit
On February 13, 2013, the Company and Manning & Napier Group executed a Daily Adjusting LIBOR Revolving Line Note (the "Note") with M&T Bank. The Note has an original principal amount of $10.0 million and bears an interest rate of 1.50 percentage points above the greater of (a) one-month LIBOR, adjusting daily, or (b) one-day (i.e., overnight) LIBOR. The Note is unsecured and is payable on demand. If the Company fails to make payment when due under the Note, the default rate on the outstanding balance shall be 5 percentage points per year above the otherwise applicable rate per year. The Company has not drawn any loans under the Note.
Note 9—Commitments and Contingencies
The Company may from time to time enter into agreements that contain certain representations and warranties and which provide general indemnifications. The Company may also serve as a guarantor of such obligations of one or more of the Manning & Napier Group entities. The Company’s maximum exposure under these arrangements is unknown, as this would involve future claims that may be made against the Company that have not yet occurred. The Company expects any risk of liability associated with such guarantees to be remote.
Regulation
As an investment adviser to a variety of investment products, the Company and its affiliated broker-dealer are subject to routine reviews and inspections by the SEC and the Financial Industry Regulatory Authority, Inc. (“FINRA”). From time to time, the Company may also be subject to claims, be involved in various legal proceedings arising in the ordinary course of its business and be subject to other contingencies. The Company does not believe that the outcome of any of these reviews, inspections or other legal proceedings will have a material impact on its consolidated financial statements; however, litigation is subject to many uncertainties, and the outcome of individual litigated matters is difficult to predict. The Company will establish accruals for matters that are probable, can be reasonably estimated, and may take into account any related insurance recoveries to the extent of such recoveries. Currently, there are no legal proceedings pending, or to the Company’s knowledge, threatened against it. As of March 31, 2014 and December 31, 2013, the Company has not accrued for any such claims, legal proceedings, or other contingencies.
Note 10—Earnings per Common Share
Basic earnings per share (“basic EPS”) is computed by dividing net income by the weighted average number of shares outstanding for the reporting period. Diluted earnings per share (“diluted EPS”) gives effect during the reporting period to other potentially dilutive shares outstanding. 

13

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

The following is a reconciliation of the income and share data used in the basic and diluted earnings per share computations for the three months ended March 31, 2014 and 2013:
 
 
Three months ended March 31,
 
 
2014
 
2013
 
(in thousands, except share data)
Net income attributable to controlling and noncontrolling interests
 
$
17,644

 
$
16,392

Less: net income attributable to noncontrolling interests
 
17,563

 
16,048

Net income attributable to Manning & Napier, Inc.
 
$
81

 
$
344

 
 
 
 
 
Weighted average shares of Class A common stock outstanding - basic
 
13,634,401

 
13,583,873

Dilutive effect from restricted stock units
 
117,289

 

Weighted average shares of Class A common stock outstanding - diluted
 
13,751,690

 
13,583,873

Net income available to Class A common stock per share - basic
 
$
0.01

 
$
0.03

Net income available to Class A common stock per share - diluted
 
$
0.01

 
$
0.03

At March 31, 2014 there were 73,762,186 Class A Units of Manning & Napier Group outstanding which, subject to certain restrictions, may be exchangeable for up to 73,762,186 shares of the Company’s Class A common stock. The restrictions set forth in the exchange agreement were in place at the end of the current reporting period. As such, these units were not included in the calculation of diluted earnings per common share for the three months ended March 31, 2014.
The Company’s Class B common stock represent voting interests and do not participate in the earnings of the Company. Accordingly, there is no basic or diluted EPS related to the Company’s Class B common stock.
Note 11—Equity Based Compensation
2011 Equity Compensation Plan
During the three months ended March 31, 2014, 13,923 shares of Class A common stock were awarded under the 2011 Equity Compensation Plan (the "2011 Plan"). These awards vested immediately upon grant.
The following table summarizes stock award activity for the three months ended March 31, 2014 under the 2011 Plan:
 
 
Restricted
Stock Awards
 
Weighted Average Grant Date Fair Value
Stock awards outstanding at January 1, 2014
 
416,917

 
$
15.63

Granted
 
13,923

 
$
16.16

Vested
 
(13,923
)
 
$
16.16

Forfeited
 

 

Stock awards outstanding at March 31, 2014
 
416,917

 
$
15.63

The weighted average grant date fair value of 2011 Plan awards granted during the three months ended March 31, 2014 was $16.16, based on the closing sale price of Manning & Napier Inc.'s Class A common stock as reported on the New York Stock Exchange on the date of grant.
For the three months ended March 31, 2014, the Company recorded approximately $0.8 million of compensation expense related to awards granted under the 2011 Plan. The aggregate intrinsic value of 2011 Plan awards that vested during the three months ended March 31, 2014 was approximately $0.2 million. As of March 31, 2014, there was unrecognized compensation expense related to 2011 Plan awards of approximately $4.5 million, which the Company expects to recognize over a weighted average period of approximately 2.0 years.
Reorganization-Related Equity Based Compensation

14

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

The following table summarizes service-based stock unit activity for the three months ended March 31, 2014 specific to the 2011 reorganization transactions:
 
 
Service-Based
Stock Units
 
Weighted Average Grant Date Fair Value
Stock unit awards outstanding at January 1, 2014
 
1,458,049

 
$
12.00

Granted
 

 
$

Vested
 

 
$

Forfeited
 

 
$

Stock unit awards outstanding at March 31, 2014
 
1,458,049

 
$
12.00

In addition to the service-based stock unit activity above, during 2014 the Company also commenced recognition of compensation expense for the approximately 4.1 million performance-based awards eligible to vest on December 31, 2014 under the vesting terms of ownership interests in connection with the 2011 reorganization transactions. Vesting of these performance-based awards is contingent upon the satisfaction of annual performance criteria specific to each award recipient. The determination of whether an award recipient has met such performance criteria will be made at the end of the annual service period. In accordance with Accounting Standards Codification Topic 718, Stock Compensation, the grant date for these performance-based awards will occur at the end of the service period. Until the grant date, compensation expense will be re-measured at the end of each reporting period, to the extent that service has been rendered in proportion to the total requisite service period.
For the three months ended March 31, 2014, the Company recorded approximately $21.9 million of compensation expense related to the vesting terms of ownership interests in connection with the 2011 reorganization transactions. For the three months ended March 31, 2014, approximately $4.5 million is attributable to the service-based awards. For the same period, the remaining expense of approximately $17.4 million is attributable to performance-based awards. For the three months ended March 31, 2014, $17.3 million of the expense attributable to performance-based awards is related to awards eligible to vest on December 31, 2014 under the vesting terms of ownership interests in connection with the 2011 reorganization transactions. As discussed above, this expense is based upon the closing sale price of Manning & Napier Inc.’s Class A common stock as reported on the New York Stock Exchange on March 31, 2014.
For the three months ended March 31, 2013, the Company recognized a total of approximately $21.7 million of compensation expense related to the vesting terms of ownership interests in connection with the 2011 reorganization transactions. For the three months ended March 31, 2013, approximately $6.2 million was attributable to the service-based awards. For the same periods, the remaining expense of approximately $15.6 million was attributable to performance-based awards. For the three months ended March 31, 2013, $15.5 million of the expense attributable to performance-based awards was related to awards that were eligible to vest on December 31, 2013 under the vesting terms of ownership interests in connection with the 2011 reorganization transactions.
As of March 31, 2014, there was unrecognized compensation expense related to unvested service-based awards of approximately $11.2 million. The Company expects to recognize this expense over a weighted average period of 0.6 years.
As of March 31, 2014, there was unrecognized compensation expense related to unvested performance-based awards of approximately $52.3 million, which the Company expects to recognize over a weighted average period of 0.8 years. Included in this total is an estimate of $51.8 million of unrecognized compensation expense related to the approximately 4.1 million unvested performance-based awards under the vesting terms of ownership interests in connection with the 2011 reorganization transactions. This estimate is based upon the closing sale price of Manning & Napier, Inc.’s Class A common stock as reported on March 31, 2014.
Note 12—Income Taxes
The Company is comprised of entities that have elected to be treated as either a limited liability company ("LLC") or a “C-Corporation". As such, the entities functioning as LLC’s are not liable for or able to benefit from U.S. federal and most state income taxes on their earnings, and earnings will be included in the personal income tax returns of each entity’s unit holders. The entities functioning as C-Corporations are liable for or able to benefit from U.S. federal and state and local income taxes on their earnings and losses, respectively.
The Company’s income tax provision and effective tax rate were as follows: 

15

Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)

 
 
Three months ended March 31,
 
 
2014
 
2013
 
(in thousands)
Earnings from continuing operations before income taxes
 
$
22,720

 
$
18,389

Effective tax rate
 
22.3
%
 
10.9
%
Provision for income taxes
 
5,076

 
1,997

Provision for income taxes @ 35%
 
7,952

 
6,436

Difference between tax at effective vs. statutory rate
 
$
(2,876
)
 
$
(4,439
)
For the three months ended March 31, 2014 and 2013, the difference between the Company’s recorded provision and the provision that would result from applying the U.S. statutory rate of 35% is primarily attributable to the benefit resulting from the fact that a significant portion of the Company’s operations include a series of flow-through entities which are generally not subject to federal and most state income taxes. Accordingly, a portion of the Company’s earnings are not subject to corporate level taxes. For the three months ended March 31, 2014, the benefit is partially offset by the impact of a reduction to the Company's deferred tax asset as a result of enacted changes in tax laws during the first quarter of 2014, which reduced expected tax benefits.
Note 13—Related Party Transactions
Transactions with noncontrolling members
From time to time, the Company may be asked to provide certain services, including accounting, legal and other administrative functions for the noncontrolling members of Manning & Napier Group. While immaterial, the Company has not received any reimbursement for such services.
The Company manages the personal funds of certain of the Company's executive officers, including William Manning. Pursuant to the respective investment management agreements, in some instances the Company waives or reduces its regular advisory fees for these accounts and personal funds utilized to incubate products. The aggregate value of the fees waived for the three months ended March 31, 2014 related to the Company's executive officers was less than $0.1 million
Affiliate transactions - Manning & Napier Fund, Inc.
The Company has agreements to serve as the investment manager of Manning & Napier Fund, Inc., with which certain of its officers are affiliated. Under the terms of these agreements, which are generally reviewed and continued by the board of directors of Manning & Napier Fund, Inc. annually, the Company receives a fee based on an annual percentage of the average daily net assets of each series within the Manning & Napier Fund, Inc. The Company has contractually agreed to limit its fees and reimburse expenses to limit operating expenses incurred by certain of Manning & Napier Fund, Inc. series.
Note 14—Subsequent Events
Distributions and dividends
On May 6, 2014, the Board of Directors approved a distribution from Manning & Napier Group to Manning & Napier and the noncontrolling interests of Manning & Napier Group. The amount of the distribution to the members of Manning & Napier Group is approximately $31.3 million, of which approximately $26.8 million is expected to be payable to the noncontrolling interests. Concurrently, the Board of Directors declared a $0.16 per share dividend to the holders of Class A common stock. The dividend is payable on August 1, 2014 to shareholders of record as of July 15, 2014.
   




16

Table of Contents

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
This report contains forward-looking statements within the meaning of section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which reflect our views with respect to, among other things, our operations and financial performance. Words like "believes," "expects," "may," "estimates," "will," "should," "could," "intends," "likely," "plans," or "anticipates" or the negative thereof or other variations thereon or comparable terminology, are used to identify forward-looking statements, although not all forward-looking statements contain these words. Although we believe that we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know about our business and operations, there can be no assurance that our actual results will not differ materially from what we expect or believe. Some of the factors that could cause our actual results to differ materially from our expectations or beliefs are disclosed in the “Risk Factors” section, as well as other sections, of our Annual Report on Form 10-K which include, without limitation: changes in securities or financial markets or general economic conditions; a decline in the performance of our products; client sales and redemption activity; and changes of government policy or regulations. All forward-looking statements speak only as of the date on which they are made and we undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Overview
Business
We are an independent investment management firm that provides a broad range of investment solutions through separately managed accounts, mutual funds and collective investment trust funds. Founded in 1970, we offer equity and fixed income portfolios as well as a range of blended asset portfolios, such as life cycle portfolios, that use a mix of stocks and bonds. We serve a diversified client base of high net worth individuals and institutions, including 401(k) plans, pension plans, Taft-Hartley plans, and endowments and foundations. Our operations are based principally in the United States, with our headquarters located in Fairport, New York.
Our Products
We derive substantially all of our revenues from investment management fees earned from providing advisory services to separately managed accounts and mutual funds and collective investment trusts—including those offered by the Manning & Napier Fund, Inc. (the "Fund") and Exeter Trust Company.
Our separate accounts are primarily distributed through our Direct Channel, where our representatives form relationships with high net worth individuals, middle market institutions or large institutions that are working with a consultant. To a lesser extent, we also obtain a portion of our separate account distribution via third parties, either through our Intermediary Channel, where national brokerage firm representatives or independent financial advisors select our separate account strategies for their clients, or through our Platform/Sub-Advisory Channel, where unaffiliated registered investment advisors approve our strategies for their product platforms. Our separate account products are a primary driver of our blended asset portfolios for high net worth and middle market institutional clients and financial intermediaries. In contrast, larger institutions and unaffiliated registered investment advisor platforms are a driver of our separate account equity portfolios.
Our mutual funds and collective investment trusts are primarily distributed through financial intermediaries, including brokers, financial advisors, retirement plan advisors and platform relationships. We also obtain a portion of our mutual fund and collective investment trust distribution through our direct sales representatives, in particular within the defined contribution and institutional marketplace. Our mutual fund and collective investment trust products are an important driver of our blended asset class portfolios, in particular with 401(k) plan sponsors, advisors and recordkeepers that select our funds as default options for participants. In addition, financial intermediaries, mutual fund advisory programs and retail platforms are a driver of equity strategies within our mutual fund offerings.
Our assets under management (“AUM”) was $52.2 billion as of March 31, 2014. The composition of our AUM by vehicle and portfolio is illustrated in the table below.
 
 
March 31, 2014
AUM - by investment vehicle and portfolio
 
Blended
Asset
 
Equity
 
Fixed Income
 
Total
 
 
(in millions)
Separately managed accounts
 
$
13,339.6

 
$
12,781.5

 
$
1,096.4

 
$
27,217.5

Mutual funds and collective investment trusts
 
11,173.7

 
13,758.4

 
41.8

 
24,973.9

Total
 
$
24,513.3

 
$
26,539.9

 
$
1,138.2

 
$
52,191.4


17

Table of Contents

The composition of our separately managed accounts as of March 31, 2014, by channel and portfolio, is set forth in the table below. 
 
 
March 31, 2014
 
 
Blended
Asset
 
Equity
 
Fixed Income
 
Total
 
 
(dollars in millions)
Separate account AUM
 
 
 
 
 
 
 
 
Direct Channel
 
$
9,560.5

 
$
9,887.5

 
$
902.5

 
$
20,350.5

Intermediary Channel
 
3,778.5

 
1,067.7

 
193.9

 
5,040.1

Platform/Sub-advisor Channel
 
0.6

 
1,826.3

 

 
1,826.9

Total
 
$
13,339.6

 
$
12,781.5

 
$
1,096.4

 
$
27,217.5

Percentage of separate account AUM
 
 
 
 
 
 
 
 
Direct Channel
 
35
%
 
36
%
 
3
%
 
74
%
Intermediary Channel
 
14
%
 
4
%
 
1
%
 
19
%
Platform/Sub-advisor Channel
 

 
7
%
 

 
7
%
Total
 
49
%
 
47
%
 
4
%
 
100
%
Percentage of portfolio by channel
 
 
 
 
 
 
 
 
Direct Channel
 
72
%
 
77
%
 
82
%
 
74
%
Intermediary Channel
 
28
%
 
9
%
 
18
%
 
19
%
Platform/Sub-advisor Channel
 

 
14
%
 

 
7
%
Total
 
100
%
 
100
%
 
100
%
 
100
%
Percentage of channel by portfolio
 
 
 
 
 
 
 
 
Direct Channel
 
47
%
 
49
%
 
4
%
 
100
%
Intermediary Channel
 
75
%
 
21
%
 
4
%
 
100
%
Platform/Sub-advisor Channel
 

 
100
%
 

 
100
%
Our separate accounts contributed 30% of our total gross client inflows for the three months ended March 31, 2014 and represented 52% of our total AUM as of March 31, 2014.
Our separate account business has historically been driven primarily by our Direct Channel, where sales representatives form a relationship with high net worth investors, middle market institutions, and large institutional clients working in conjunction with a consultant. The Direct Channel contributed 74% of the total gross client inflows for our separate account business for the three months ended March 31, 2014 and represented 74% of our total separate account AUM as of March 31, 2014. We anticipate the Direct Channel to continue to be the largest driver of new separate account business going forward, given the Direct Channel’s high net worth and middle market institutional client-type focus.
During the three months ended March 31, 2014, blended asset and equity portfolios represented 56% and 37% of the separate account gross client inflows from the Direct Channel, respectively, while fixed income portfolios accounted for 7%. As of March 31, 2014, blended asset and equity portfolios represented 47% and 49%, respectively, of total Direct Channel separate account AUM, while our fixed income portfolios were 4%. We expect our focus on individuals and middle market institutions to continue to drive interest in our blended asset class portfolios, where we provide a comprehensive portfolio of stocks and bonds managed to a client’s specific investment objectives. Historically, relationships with larger institutions have been a driver of growth in separately managed account equity strategies. Going forward, we expect many of these larger institutions may seek exposure to non-U.S. equity strategies through commingled vehicles to limit related custody expenses rather than separately managed accounts, and our U.S.-based equity strategies may continue to be attractive to large institutions in a separate account format.
To a lesser extent, we also obtain separate account business from third parties, including financial advisors or unaffiliated registered investment advisor programs or platforms. During the three months ended March 31, 2014, 15% of the total gross client inflows for separate accounts came from financial advisor representatives (Intermediary Channel), and an additional 11% came from registered investment advisor platforms (Platform/Sub-advisor Channel). The Intermediary and Platform/Sub-advisor Channels represented 26% of our total separate account AUM as of March 31, 2014.
New separate account business through the Intermediary Channel flowed into both our blended asset and equity portfolios, driven by advisors’ needs to identify either a one-stop solution (blended asset portfolio) or to fill a mandate within a multi-strategy portfolio. During the three months ended March 31, 2014, blended asset and equity portfolios represented 91%

18

Table of Contents

and 8%, respectively, of the separate account gross client inflows from the Intermediary Channel, while fixed income portfolios represented 1%. As of March 31, 2014, 75% of our separate account AUM derived from financial advisors was allocated to blended asset portfolios, with 21% allocated to equity and 4% allocated to fixed income. We expect that equity and fixed income portfolios may see additional interest from financial advisors over time as more and more advisors structure a multi-strategy portfolio for their clients.
In contrast, gross client inflows through the Platform/Sub-advisor Channel are primarily directed to our equity strategies, where we are filling a specific mandate within the investment program or platform product. During the three months ended March 31, 2014, 100% of our separate account gross client inflows from the Platform/Sub-advisory Channel were into equity portfolios.
Our annualized separate account retention rate across all channels was approximately 98% during the three months ended March 31, 2014, representing the strong relationship focus that is inherent in our direct sales model, which is the primary driver of our separate account business.
During the three months ended March 31, 2014, market appreciation for our separate account AUM was 2.8%, including 2.6% in our blended assets and 3.1% in equity portfolios.
The composition of our mutual fund and collective investment trust AUM as of March 31, 2014, by portfolio, is set forth in the table below. 
 
 
March 31, 2014
 
 
Blended
Asset
 
Equity
 
Fixed Income
 
Total
 
 
(in millions)
Mutual fund and collective investment trust AUM
 
$
11,173.7

 
$
13,758.4

 
$
41.8

 
$
24,973.9

Our mutual funds and collective investment trusts contributed 70% of our total gross client inflows for the three months ended March 31, 2014 and represented 48% of our total AUM as of March 31, 2014. As of March 31, 2014, our mutual fund and collective investment trust AUM consisted of 45% from blended asset portfolios and 55% from equity portfolios. During the three months ended March 31, 2014, 46% and 53% of the gross client inflows were attributable to blended assets and equity portfolios, respectively. For the three months ended March 31, 2014, market appreciation for our mutual fund and collective investment trust AUM was 2.3%, including 2.5% in our blended assets and 2.0% in our equity portfolios.
Our mutual fund and collective investment trust business is driven by financial intermediaries and to a lesser extent, our direct sales representatives. Intermediary distribution of our mutual fund and collective investment trust vehicles is achieved via financial advisors, brokers and retirement plan advisors. Through our Intermediary Channel, we are increasingly focused on our blended asset life cycle fund vehicles given our emphasis on advisors that work with retirement plans. Our blended asset portfolios are also used by advisors seeking a multi-asset class solution for their retail clients. In addition, our allocation to equity portfolios within the Intermediary Channel is anticipated to increase due to national brokerage firm representatives who wish to use our mutual funds as a component of a larger portfolio.
Through our Platform/Sub-advisor Channel, we have relationships with consultants and advisors at platforms. We derive equity portfolio assets in this channel through the selection of our funds within advisory programs where our mutual funds are used within a multi-strategy portfolio, or through placement on platforms’ approved lists of funds. To facilitate our relationships with intermediaries, we currently have more than 280 dealer relationships. These relationships are important to the expansion of our retail business as well as our 401(k) life cycle and institutional business.
Our Direct Sales Representatives distribute our equity portfolios, in particular our non-U.S. portfolios, to large institutional clients with which we have direct relationships, and often the client’s consultant. Through the Direct Channel, we also form relationships with middle market and large market defined contribution plan sponsors seeking to use our life cycle mutual funds and collective investment trusts as default options on their investment menu. We expect this channel to be focused on distributing blended asset and equity portfolio funds, particularly as the breadth of our mutual fund and collective investment trust offerings expands.
Results of Operations
Below is a discussion of our consolidated results of operations for the three months ended March 31, 2014 and 2013.


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Key Components of Results of Operations
Overview
Changes to our operating results over time are largely driven by net client asset flows and changes to the market value of our AUM.
An important factor influencing inflows and outflows of our AUM is the investment performance of our various investment approaches. Our variety of stock selection strategies, absolute pricing discipline and active asset allocation management approach generally results in specific absolute and relative return characteristics in different market environments. For example, during a fundamental-driven bull market when prices are rising alongside improving fundamentals, we are likely to experience positive absolute returns and competitive relative returns. However, in a more momentum-driven bull market, when prices become disconnected from underlying fundamentals, we are likely to experience positive absolute returns but lagging relative returns. Similarly, during a valuation-driven bear market, when markets experience a period of price correction following a momentum-driven bull market, we are likely to experience negative absolute returns but strong relative returns. However, in a momentum-driven bear market, which is typically characterized by broad price declines in a highly correlated market, we are likely to experience negative absolute returns and lagging relative returns. Essentially, our approach is likely to do well when markets are driven by fundamentals, but lag when markets are driven primarily by momentum.
Other components impacting our operating results include:
asset-based fee rates and changes in those rates;
the composition of our AUM among various portfolios, vehicles and client types; and
the rate of increase in our variable and fixed costs, which is affected by the rate of revenue increases, changes to base compensation and year-to-year changes in incentive bonuses, vendor-related costs and investment spending on new products.

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Assets Under Management
The following tables reflect the indicated components of our AUM for our investment vehicles for the three months ended March 31, 2014 and 2013.
 
 
Separately
managed
accounts
 
Mutual funds
and collective
investment
trusts
 
Total
 
Separately
managed
accounts
 
Mutual funds
and collective
investment
trusts
 
Total
 
 
 
 
(in millions)
 
 
 
 
 
 
 
 
As of December 31, 2013
 
$
26,835.0

 
$
23,991.2

 
$
50,826.2

 
53
%
 
47
%
 
100
%
Gross client inflows
 
716.3

 
1,689.7

 
2,406.0

 
 
 
 
 
 
Gross client outflows
 
(1,076.0
)
 
(1,248.5
)
 
(2,324.5
)
 
 
 
 
 
 
Market appreciation (depreciation)
 
742.2

 
541.5

 
1,283.7

 
 
 
 
 
 
As of March 31, 2014
 
$
27,217.5

 
$
24,973.9

 
$
52,191.4

 
52
%
 
48
%
 
100
%
Average AUM for period
 
$
26,900.4

 
$
24,187.7

 
$
51,088.1

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2012
 
$
24,683.6

 
$
20,525.3

 
$
45,208.9

 
55
%
 
45
%
 
100
%
Gross client inflows
 
980.1

 
1,747.7

 
2,727.8

 
 
 
 
 
 
Gross client outflows
 
(1,154.9
)
 
(1,592.7
)
 
(2,747.6
)
 
 
 
 
 
 
Market appreciation (depreciation)
 
1,722.4

 
1,168.9

 
2,891.3

 
 
 
 
 
 
As of March 31, 2013
 
$
26,231.2

 
$
21,849.2

 
$
48,080.4

 
55
%
 
45
%
 
100
%
Average AUM for period
 
$
25,770.8

 
$
21,417.4

 
$
47,188.2

 
 
 
 
 
 
The following tables reflect the indicated components of our AUM for our portfolios for the three months ended March 31, 2014 and 2013.
 
 
Blended
Asset
 
Equity
 
Fixed
Income
 
Total
 
Blended
Asset
 
Equity
 
Fixed
Income
 
Total
 
 
 
 
(in millions)
 
 
 
 
 
 
 
 
 
 
As of December 31, 2013
 
$
23,710.2

 
$
25,977.0

 
$
1,139.0

 
$
50,826.2

 
47
%
 
51
%
 
2
%
 
100
%
Gross client inflows
 
1,137.5

 
1,201.7

 
66.8

 
2,406.0

 
 
 
 
 
 
 
 
Gross client outflows
 
(942.9
)
 
(1,299.1
)
 
(82.5
)
 
(2,324.5
)
 
 
 
 
 
 
 
 
Market appreciation (depreciation)
 
608.5

 
660.3

 
14.9

 
1,283.7

 
 
 
 
 
 
 
 
As of March 31, 2014
 
$
24,513.3

 
$
26,539.9

 
$
1,138.2

 
$
52,191.4

 
47
%
 
51
%
 
2
%
 
100
%
Average AUM for period
 
$
23,987.8

 
$
25,967.9

 
$
1,132.4

 
$
51,088.1

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2012
 
$
20,470.7

 
$
23,472.5

 
$
1,265.7

 
$
45,208.9

 
45
%
 
52
%
 
3
%
 
100
%
Gross client inflows
 
1,299.9

 
1,385.9

 
42.0

 
2,727.8

 
 
 
 
 
 
 
 
Gross client outflows
 
(1,097.4
)
 
(1,580.6
)
 
(69.6
)
 
(2,747.6
)
 
 
 
 
 
 
 
 
Market appreciation (depreciation)
 
1,235.4

 
1,655.8

 
0.1

 
2,891.3

 
 
 
 
 
 
 
 
As of March 31, 2013
 
$
21,908.6

 
$
24,933.6

 
$
1,238.2

 
$
48,080.4

 
45
%
 
52
%
 
3
%
 
100
%
Average AUM for period
 
$
21,371.6

 
$
24,579.8

 
$
1,236.8

 
$
47,188.2

 
 
 
 
 
 
 
 
Revenue
Our revenues primarily consist of investment management fees earned from managing our clients’ AUM. We earn our investment management fees as a percentage of our clients’ AUM either as of a specified date or on a daily basis. Our investment management fees can fluctuate based on the average fee rate for our investment management products, which are affected by the composition of our AUM among various portfolios and investment vehicles. We currently do not have revenues from performance fee based products.
Manning & Napier Advisors, LLC ("MNA"), a subsidiary of Manning & Napier Group, serves as the investment advisor to the Fund and Exeter Trust Company. The Fund is a family of open-end mutual funds that offer no-load share classes designed to meet the needs of a range of institutional and other investors. Exeter Trust Company is an affiliated New

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Hampshire-chartered trust company that sponsors a family of collective investment trusts for qualified retirement plans, including 401(k) plans. These mutual funds and collective investment trusts comprised $25.0 billion, or 48%, of our AUM as of March 31, 2014, and investment management fees from these mutual funds and collective investment trusts were $52.1 million, or 53% of our revenues for the three months ended March 31, 2014. MNA also serves as the investment advisor to all of our separately managed accounts, managing $27.2 billion, or 52%, of our AUM as of March 31, 2014, including assets managed as a sub-advisor to pooled investment vehicles and assets in client accounts invested in the Fund.
Operating Expenses
Our largest operating expenses are employee compensation and distribution, servicing and custody expenses, discussed further below, with a significant portion of these expenses varying in a direct relationship to our AUM and revenues. We review our operating expenses in relation to the investment market environment and changes in our revenues. However, we are generally willing to make expenditures as necessary even when faced with declining rates of growth in revenues in order to support our investment products, our client service levels, strategic initiatives and our long-term value.
Compensation and related costs. Employee compensation and related costs represent our largest expense, including employee salaries and benefits, incentive compensation to investment and sales professionals, reorganization-related share-based compensation and equity-based compensation issued under our equity compensation plan. These costs are affected by changes in the employee headcount, the mix of existing job descriptions, competitive factors, the addition of new skill sets, absolute and relative investment performance, variations in the level of our AUM and revenues, changes in our stock price reflected in share-based compensation and/or the number of awards issued.
Distribution, servicing and custody expenses. Distribution, servicing and custody expense represent amounts paid to various platforms that distribute our mutual fund and collective investment trust products as well as costs for custodial services and 12b-1 distribution and servicing fees. These expenses generally increase or decrease in line with changes in our mutual fund and collective investment trust AUM.
Other operating expenses. Other operating expenses include fund fee waiver and/or expense reimbursement, professional fees, including accounting and legal fees, occupancy and facility costs, as well as other costs related to travel and entertainment expenses, insurance, market data service expenses and all other miscellaneous costs associated with managing the day-to-day operations of our business.
Non-Operating Income (Loss)
Non-operating income (loss) includes interest expense, interest and dividend income, changes in liability under the tax receivable agreement and gains (losses) related to investment securities sales and changes in values of those investment securities designated as trading. We expect the interest and investment components of non-operating income (loss) to fluctuate based on market conditions, the performance of our investments and the overall amount of our investments held by the Company to provide initial cash seeding for product development purposes.
Provision for Income Taxes
The Company is comprised of entities that have elected to be treated as either a limited liability company ("LLC") or a "C-Corporation". As such, the entities functioning as LLC's are not liable for or able to benefit from U.S. federal or most state and local income taxes on their earnings, and their earnings (losses) will be included in the personal income tax returns of each entity's unit holders. The entities functioning as C-Corporations are liable for or able to benefit from U.S. federal and state and local income taxes on their earnings and losses, respectively.
Critical Accounting Policies and Estimates
There have been no significant changes in our critical accounting policies and estimates from those that were disclosed in our Annual Report on Form 10-K for the year ended December 31, 2013.
This management’s discussion and analysis should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2013 together with the consolidated financial statements and related notes and the other financial information that appear elsewhere in this report.
Revenue Recognition
Because the majority of our revenues are earned based on AUM that has been determined using fair value methods and since market appreciation/depreciation has a significant impact on our revenue, we have presented our AUM using the U.S. GAAP ("GAAP")) framework for measuring fair value. A fair value hierarchy is provided that gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The following three-tier fair value hierarchy prioritizes the inputs used in measuring fair value:
Level 1—observable inputs such as quoted prices in active markets for identical securities;

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Level 2—other significant observable inputs (including but not limited to quoted prices for similar securities, interest rates, prepayment rates, credit risk, etc.); and
Level 3—significant unobservable inputs (including the Company’s own assumptions in determining the fair value of investments).
The table below summarizes the approximate amount of AUM for the periods indicated for which fair value is measured based on Level 1, Level 2 and Level 3. 
 
 
Level 1
 
Level 2
 
Level 3
 
Total
 
 
(in millions)
March 31, 2014
 
$
32,009

 
$
20,174

 
$
8

 
$
52,191

December 31, 2013
 
$
30,049

 
$
20,769

 
$
8

 
$
50,826

As substantially all our AUM is valued by independent pricing services based upon observable market prices or inputs, we believe market risk is the most significant risk underlying valuation of our AUM, as discussed in this Form 10-Q under “Item 3. Quantitative and Qualitative Disclosures About Market Risk” and in “Part II. Item 1A. Risk Factors” of our Form 10-K for the year ended December 31, 2013.
Three Months Ended March 31, 2014 Compared to Three Months Ended March 31, 2013
Assets Under Management
The following table reflects changes in our AUM for the three months ended March 31, 2014 and 2013: 
 
 
Three months ended March 31,
 
Period-to-Period
 
 
2014
 
2013
 
$
 
%
 
 
(in millions)
Separately managed accounts
 
 
 
 
 
 
 
 
Beginning assets under management
 
$
26,835.0

 
$
24,683.6

 
$
2,151.4

 
9
 %
Gross client inflows
 
716.3

 
980.1

 
(263.8
)
 
(27
)%
Gross client outflows
 
(1,076.0
)
 
(1,154.9
)
 
78.9

 
(7
)%
Market appreciation (depreciation)
 
742.2

 
1,722.4

 
(980.2
)
 
(57
)%
Ending assets under management
 
$
27,217.5

 
$
26,231.2

 
$
986.3

 
4
 %
Mutual funds and collective investment trusts
 
 
 
 
 
 
 
 
Beginning assets under management
 
$
23,991.2

 
$
20,525.3

 
$
3,465.9

 
17
 %
Gross client inflows
 
1,689.7

 
1,747.7

 
(58.0
)
 
(3
)%
Gross client outflows
 
(1,248.5
)
 
(1,592.7
)
 
344.2

 
(22
)%
Market appreciation (depreciation)
 
541.5

 
1,168.9

 
(627.4
)
 
(54
)%
Ending assets under management
 
$
24,973.9

 
$
21,849.2

 
$
3,124.7

 
14
 %
Total assets under management
 
 
 
 
 
 
 
 
Beginning assets under management
 
$
50,826.2

 
$
45,208.9

 
$
5,617.3

 
12
 %
Gross client inflows
 
2,406.0

 
2,727.8

 
(321.8
)
 
(12
)%
Gross client outflows
 
(2,324.5
)
 
(2,747.6
)
 
423.1

 
(15
)%
Market appreciation (depreciation)
 
1,283.7

 
2,891.3

 
(1,607.6
)
 
(56
)%
Ending assets under management
 
$
52,191.4

 
$
48,080.4

 
$
4,111.0

 
9
 %
Our total AUM increased by $4.1 billion, or 9%, to $52.2 billion as of March 31, 2014 from $48.1 billion as of March 31, 2013. For the three months ended March 31, 2014, our AUM increased by $1.4 billion as compared to the increase of $2.9 billion for the three months ended March 31, 2013. For the three months ended March 31, 2014, gross client inflows decreased by $0.3 billion as compared to the three months ended March 31, 2013, while gross client outflows decreased by $0.4 billion for the same period. Additionally, we experienced market appreciation of $1.3 billion for the three months ended March 31, 2014 compared to market appreciation of $2.9 billion for the three months ended March 31, 2013.
The total AUM increase of $1.4 billion, or 3%, to $52.2 billion at March 31, 2014 from $50.8 billion at December 31, 2013 was attributable to market appreciation of $1.3 billion and net client cash inflow of $0.1 billion. Our net client flows were comprised of separate accounts net client outflows of approximately $0.4 billion and net inflows from our mutual

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funds and collective investment trusts of approximately $0.4 billion. As it relates to separate accounts, outflows were mainly due to withdrawals from existing clients. The annualized separate account retention rate was 98% for the three months ended March 31, 2014.
Market appreciation during the three months ended March 31, 2014 constituted a 2.5% rate of increase in our total AUM. The investment gain was 2.8% in separately managed accounts and was 2.3% in mutual funds and collective investment trusts.
The rates of change in AUM during the three months ended March 31, 2014 were most significant in our blended asset and equity portfolios with increases of 3% and 2% respectively, while our fixed income portfolio remained unchanged. The rates of change in AUM were most significant in our blended asset and equity portfolios from March 31, 2013 to March 31, 2014, as these portfolios each experienced increases of 12% and 6%, respectively, over this period, while our fixed income portfolio decreased by 8%.
As of March 31, 2014, the composition of our AUM was 48% in mutual funds and collective investment trusts and 52% in separate accounts, compared to 45% in mutual funds and collective investment trusts and 55% in separate accounts at March 31, 2013. The composition of our AUM across portfolios at March 31, 2014 was 47% in blended assets, 51% in equity, and 2% in fixed income, compared to 45% in blended assets, 52% in equity, and 3% in fixed income at March 31, 2013.

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The following table sets forth our results of operations and related data for the three months ended March 31, 2014 and 2013: 
 
 
Three months ended March 31,
 
Period-to-Period
 
 
2014
 
2013
 
$
 
%
 
 
(in thousands, except share data)
 
 
Revenues
 
 
 
 
 
 
 
 
Investment management services revenue
 
$
98,470

 
$
90,256

 
$
8,214

 
9
 %
Expenses
 
 
 
 
 
 
 
 
Compensation and related costs
 
51,810

 
48,483

 
3,327

 
7
 %
Distribution, servicing and custody expenses
 
18,440

 
15,915

 
2,525

 
16
 %
Other operating costs
 
7,937

 
7,779

 
158

 
2
 %
Total operating expenses
 
78,187

 
72,177

 
6,010

 
8
 %
Operating income
 
20,283

 
18,079

 
2,204

 
12
 %
Non-operating income (loss)
 
 
 
 
 
 
 
 
Non-operating income (loss), net
 
2,437

 
310

 
2,127

 
686
 %
Income before provision for income taxes
 
22,720

 
18,389

 
4,331

 
24
 %
Provision for income taxes
 
5,076

 
1,997

 
3,079

 
154
 %
Net income attributable to controlling and noncontrolling interests
 
17,644

 
16,392

 
1,252

 
8
 %
Less: net income attributable to noncontrolling interests
 
17,563

 
16,048

 
1,515

 
9
 %
Net income attributable to Manning & Napier, Inc.
 
$
81

 
$
344

 
$
(263
)
 
(76