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 June 30, 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 August 5, 2014 | |
Class A common stock, $0.01 par value per share | 13,705,419 | |
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
PART I—FINANCIAL INFORMATION
Item 1. Financial Statements
Manning & Napier, Inc.
Consolidated Statements of Financial Condition
(In thousands, except share data)
June 30, 2014 | December 31, 2013 | |||||||
(unaudited) | ||||||||
Assets | ||||||||
Cash and cash equivalents | $ | 112,074 | $ | 125,250 | ||||
Accounts receivable | 27,103 | 24,140 | ||||||
Accounts receivable—Manning & Napier Fund, Inc. | 16,797 | 16,461 | ||||||
Due from broker | 5,713 | 5,816 | ||||||
Investment securities, at fair value | 25,343 | 21,321 | ||||||
Prepaid expenses and other assets | 8,301 | 8,028 | ||||||
Total current assets | 195,331 | 201,016 | ||||||
Property and equipment, net | 6,405 | 5,424 | ||||||
Net deferred tax assets, non-current | 43,632 | 46,164 | ||||||
Other long-term assets | 1,671 | — | ||||||
Total assets | $ | 247,039 | $ | 252,604 | ||||
Liabilities | ||||||||
Accounts payable | $ | 1,164 | $ | 1,476 | ||||
Accrued expenses and other liabilities | 52,161 | 49,813 | ||||||
Deferred revenue | 12,913 | 12,007 | ||||||
Total current liabilities | 66,238 | 63,296 | ||||||
Other long-term liabilities | 2,386 | 1,444 | ||||||
Amounts payable under tax receivable agreement, non-current | 41,191 | 42,075 | ||||||
Total liabilities | 109,815 | 106,815 | ||||||
Commitments and contingencies (Note 10) | ||||||||
Shareholders’ equity | ||||||||
Class A common stock, $0.01 par value; 300,000,000 shares authorized; 13,704,169 and 13,634,246 issued and outstanding at June 30, 2014 and December 31, 2013, respectively | 137 | 136 | ||||||
Class B common stock, $0.01 par value; 2,000 shares authorized, 1,000 shares issued and outstanding at June 30, 2014 and December 31, 2013 | — | — | ||||||
Additional paid-in capital | 209,912 | 208,988 | ||||||
Retained deficit | (44,141 | ) | (40,544 | ) | ||||
Accumulated other comprehensive income | — | (1 | ) | |||||
Total shareholders’ equity | 165,908 | 168,579 | ||||||
Noncontrolling interests | (28,684 | ) | (22,790 | ) | ||||
Total shareholders’ equity and noncontrolling interests | 137,224 | 145,789 | ||||||
Total liabilities, shareholders’ equity and noncontrolling interests | $ | 247,039 | $ | 252,604 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
1
Manning & Napier, Inc.
Consolidated Statements of Operations
(In thousands, except share data)
(Unaudited)
Three months ended June 30, | Six months ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
Revenues | ||||||||||||||||
Investment management services revenue | $ | 103,864 | $ | 92,973 | $ | 202,334 | $ | 183,229 | ||||||||
Expenses | ||||||||||||||||
Compensation and related costs | 56,148 | 47,321 | 107,958 | 95,804 | ||||||||||||
Distribution, servicing and custody expenses | 19,964 | 16,495 | 38,404 | 32,410 | ||||||||||||
Other operating costs | 8,565 | 7,750 | 16,502 | 15,529 | ||||||||||||
Total operating expenses | 84,677 | 71,566 | 162,864 | 143,743 | ||||||||||||
Operating income | 19,187 | 21,407 | 39,470 | 39,486 | ||||||||||||
Non-operating income (loss) | ||||||||||||||||
Interest expense | (4 | ) | (3 | ) | (7 | ) | (6 | ) | ||||||||
Interest and dividend income | 195 | 71 | 409 | 134 | ||||||||||||
Change in liability under tax receivable agreement | — | — | 2,110 | — | ||||||||||||
Net gains (losses) on investments | 717 | (298 | ) | 833 | (48 | ) | ||||||||||
Total non-operating income (loss) | 908 | (230 | ) | 3,345 | 80 | |||||||||||
Income before provision for income taxes | 20,095 | 21,177 | 42,815 | 39,566 | ||||||||||||
Provision for income taxes | 2,360 | 2,580 | 7,436 | 4,577 | ||||||||||||
Net income attributable to controlling and noncontrolling interests | 17,735 | 18,597 | 35,379 | 34,989 | ||||||||||||
Less: net income attributable to noncontrolling interests | 17,036 | 18,337 | 34,599 | 34,385 | ||||||||||||
Net income attributable to Manning & Napier, Inc. | $ | 699 | $ | 260 | $ | 780 | $ | 604 | ||||||||
Net income per share available to Class A common stock | ||||||||||||||||
Basic | $ | 0.05 | $ | 0.02 | $ | 0.06 | $ | 0.04 | ||||||||
Diluted | $ | 0.05 | $ | 0.02 | $ | 0.06 | $ | 0.04 | ||||||||
Weighted average shares of Class A common stock outstanding | ||||||||||||||||
Basic | 13,667,861 | 13,618,193 | 13,651,223 | 13,601,128 | ||||||||||||
Diluted | 13,820,309 | 13,718,182 | 13,788,381 | 13,601,128 | ||||||||||||
Cash dividends declared per share of Class A common stock | $ | 0.16 | $ | 0.16 | $ | 0.32 | $ | 0.32 | ||||||||
The accompanying notes are an integral part of these consolidated financial statements.
2
Manning & Napier, Inc.
Consolidated Statements of Comprehensive Income
(In thousands)
(Unaudited)
Three months ended June 30, | Six months ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
Net income attributable to controlling and noncontrolling interests | $ | 17,735 | $ | 18,597 | $ | 35,379 | $ | 34,989 | ||||||||
Net unrealized holding gain on investment securities, net of tax | — | — | — | — | ||||||||||||
Reclassification adjustment for realized losses on investment securities included in net income | — | — | 1 | — | ||||||||||||
Comprehensive income | $ | 17,735 | $ | 18,597 | $ | 35,380 | $ | 34,989 | ||||||||
Less: Comprehensive income attributable to noncontrolling interests | 17,036 | 18,337 | $ | 34,600 | $ | 34,385 | ||||||||||
Comprehensive income attributable to Manning & Napier, Inc. | $ | 699 | $ | 260 | $ | 780 | $ | 604 | ||||||||
The accompanying notes are an integral part of these consolidated financial statements.
3
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 | — | — | — | — | — | 780 | — | 34,599 | 35,379 | |||||||||||||||||||||||||
Distributions to noncontrolling interests | — | — | — | — | — | — | — | (53,809 | ) | (53,809 | ) | |||||||||||||||||||||||
Net changes in unrealized investment securities gains or losses | — | — | — | — | — | — | 1 | — | 1 | |||||||||||||||||||||||||
Common stock issued under equity compensation plan | 69,923 | 1 | — | — | — | — | — | — | 1 | |||||||||||||||||||||||||
Equity-based compensation | — | — | — | — | 6,577 | — | — | 39,846 | 46,423 | |||||||||||||||||||||||||
Dividends declared on Class A common stock - $0.32 per share | — | — | — | — | — | (4,377 | ) | — | — | (4,377 | ) | |||||||||||||||||||||||
Purchase of Class A units of Manning & Napier Group, LLC held by noncontrolling interests (Note 4) | — | — | — | — | (5,653 | ) | — | — | (26,530 | ) | (32,183 | ) | ||||||||||||||||||||||
Balance—June 30, 2014 | 13,704,169 | $ | 137 | 1,000 | $ | — | $ | 209,912 | $ | (44,141 | ) | $ | — | $ | (28,684 | ) | $ | 137,224 | ||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
4
Manning & Napier, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
Six months ended June 30, | ||||||||
2014 | 2013 | |||||||
Cash flows from operating activities: | ||||||||
Net income | $ | 35,379 | $ | 34,989 | ||||
Adjustment to reconcile net income to net cash provided by operating activities: | ||||||||
Equity-based compensation | 46,423 | 44,996 | ||||||
Depreciation | 1,007 | 949 | ||||||
Change in amounts payable under tax receivable agreement | (2,110 | ) | — | |||||
Net gains on investment securities | (833 | ) | 48 | |||||
Deferred income taxes | 3,975 | 1,403 | ||||||
(Increase) decrease in operating assets and increase (decrease) in operating liabilities: | ||||||||
Accounts receivable | (2,880 | ) | 172 | |||||
Accounts receivable—Manning & Napier Fund, Inc. | (336 | ) | (303 | ) | ||||
Prepaid expenses and other assets | (257 | ) | 522 | |||||
Accounts payable | (312 | ) | (556 | ) | ||||
Accrued expenses and other liabilities | 2,925 | (1,105 | ) | |||||
Deferred revenue | 906 | 970 | ||||||
Other long-term liabilities | 942 | — | ||||||
Net cash provided by operating activities | 84,829 | 82,085 | ||||||
Cash flows from investing activities: | ||||||||
Purchase of property and equipment | (1,477 | ) | (556 | ) | ||||
Sale of investments | 5,036 | 5,843 | ||||||
Purchase of investments | (7,792 | ) | (3,759 | ) | ||||
Acquisitions, net of cash received | (2,068 | ) | — | |||||
Proceeds from maturity of investments | 100 | — | ||||||
Net cash (used in) provided by investing activities | (6,201 | ) | 1,528 | |||||
Cash flows from financing activities: | ||||||||
Distributions to noncontrolling interests | (53,809 | ) | (53,986 | ) | ||||
Dividends paid on Class A common stock | (5,456 | ) | (4,347 | ) | ||||
Payment of capital lease obligations | (138 | ) | (85 | ) | ||||
Purchase of Class A units of Manning & Napier Group, LLC | (32,401 | ) | (7,413 | ) | ||||
Net cash used in financing activities | (91,804 | ) | (65,831 | ) | ||||
Net (decrease) increase in cash and cash equivalents | (13,176 | ) | 17,782 | |||||
Cash and cash equivalents: | ||||||||
Beginning of period | 125,250 | 108,324 | ||||||
End of period | $ | 112,074 | $ | 126,106 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
5
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, as well as a variety of consultative services that complement its investment process. Founded in 1970, the Company offers equity, fixed income and alternative strategies, as well as a range of blended asset portfolios, such as life cycle funds. 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 June 30, 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 June 30, 2014, Manning & Napier holds an approximately 14.5% 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.
In accordance with Accounting Standards Codification ("ASU") 2009-17, Consolidation (Topic 810) – Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities, the determination of whether a company is required to consolidate an entity is based on, among other things, an entity’s purpose and design, a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance, and whether a company is obligated to absorb losses or receive benefits that could potentially be significant to the entity. The standard also requires ongoing assessments of whether a company is the primary beneficiary of a variable interest entity (“VIE”). In January 2010, the FASB deferred portions of ASU 2009-17 that relate to certain investment companies. We determined that all entities for which we are investment manager and/or general partner, qualify for the scope deferral and will continue to be assessed for consolidation under prior accounting guidance for consolidation of VIEs.
We provide seed capital to our investment teams to develop new products and services for our clients. Our original seed investment typically represents all or a majority of the equity investment in the new product. We evaluate our seed investments on a regular basis and consolidate such investments as required pursuant to U.S. GAAP.
MNA serves as the investment adviser for Manning & Napier Fund Inc. series of mutual funds (the “Fund”) and the Exeter Collective Investment Trust (“CIT”). The Fund and CIT are legal entities, the business and affairs of which are managed by their respective boards of directors. As a result, each of these entities is a voting interest entity (“VOE”). While the Company holds, in limited cases, direct investments in a fund (which are made on the same terms as are available to other investors and do not represent a majority voting interest in any fund), the Company does not have a controlling financial interest or a majority voting interest and, as such, does not consolidate these entities.
On May 22, 2014 MNA became the investment advisor of the 2100 Xenon Managed Futures Offshore Fund, Ltd. ("Offshore Fund") and the General Partner of the 2100 Xenon Managed Futures Fund LP ("LP Fund") (Note 3). The Offshore Fund is a legal entity that is subject to oversight by its board of directors. Equity holders maintain the right to attend and vote at all general meetings and therefore the voting interest model is applied to determine consolidation. Since the Company does not have any direct investments or control in the Offshore Fund, it does not consolidate this entity.
The Company has determined that the LP Fund is not a VIE as (a) the the entity has enough equity to finance its activities without additional financial support and (b) the limited partners, as a group, have the ability to remove the general partner ("kick-out rights") with a majority vote of partnership percentage. Under the voting interest model, the Company does not consolidate VOEs in which the presumption of control by the general partner is overcome by kick-out rights.
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 securities. 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.
7
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
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 June 30, 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.
Revenue
The majority of the Company’s revenues are based on fees charged to manage customers’ portfolios. Investment management fees are generally computed as a percentage of assets under management ("AUM") and recognized as earned. Fees for providing investment advisory services are computed and billed in accordance with the provisions of the applicable investment management agreements. For the Company’s separately managed accounts, clients either pay investment management fees in advance, typically for a semi-annual or quarterly period, or in arrears, typically for a monthly or quarterly period. When investment management fees are paid in advance, the Company defers the revenue and recognizes it over the applicable period. When investment management fees are paid in arrears, the Company estimates revenues based on AUM market values as of the most recent month end date, and adjusts to actual when billed. For mutual funds and collective investment trust vehicles, the Company’s fees are calculated and earned daily based on AUM.
The Company has agreements with third parties who provide distribution and administrative services for its mutual funds, collective investment trusts and certain separately managed accounts. Third party agreements are evaluated against Financial Accounting Standards Board ("FASB") ASC 605-45 Revenue Recognition - Principal Agent Considerations to determine whether revenue should be reported gross or net of payments to third-party service providers. In management's judgment there are various indicators that support gross revenue reporting, the most notable being the Company acts as primary obligor and therefore principal service provider. Based on this evaluation, investment management service revenue is recorded gross of distribution and administrative fees paid to third parties.
Advisory Agreements
The Company derives significant revenue from its role as advisor to the Fund and the CIT.
The Company's investments in the Fund amounted to approximately $1.8 million as of June 30, 2014 and $1.7 million as of December 31, 2013.
Fees earned for advisory related services provided to the Fund and CIT investment vehicles were approximately $55.9 million and $108.0 million for the three and six months ended June 30, 2014, respectively, and $48.2 million and $94.7 million for the three and six months ended June 30, 2013, respectively. These amounts represent greater than 10% of the Company's revenue in each respective period.
8
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
Recent Accounting Pronouncements
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which supersedes existing accounting standards for revenue recognition and creates a single framework. The new guidance will be effective on January 1, 2017 and requires either a retrospective or a modified retrospective approach to adoption. Early application is prohibited. The Company is currently evaluating its transition method and the potential impact on its consolidated financial statements.
Note 3—Acquisitions
On May 22, 2014, the Company acquired the operating assets of 2100 Xenon LLC ("Xenon"), an alternative investment manager specializing in managed futures and global macro strategies for institutional and individual clients.
The acquisition was accounted for under the acquisition method of accounting in accordance with ASC 805 "Business Combinations." Accordingly, goodwill was measured as the excess of the acquisition-date fair value of the consideration transferred over the amount of acquisition-date identifiable assets acquired net of assumed liabilities. The Company recorded approximately $0.8 million of intangible assets and approximately $0.9 million of goodwill as an asset, all of which are deductible for U.S. tax purposes, in other long term assets in the consolidated statement of financial condition. The allocation of the purchase price is preliminary and will be finalized upon completion of the analysis of the fair values of the net assets of Xenon and the identified intangible assets. The final goodwill and intangible assets recorded on the consolidated statement of financial condition may differ as a result of future measurement period adjustments. In management's opinion, the goodwill represents the value expected from the synergies created through the integration of Xenon's operations, as well as the reputation and expertise of Xenon in the asset management industry.
The results of operations of Xenon have been included in the Company's results prospectively from the date of acquisition.
Note 4—Noncontrolling Interests
Manning & Napier holds an approximately 14.5% 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 85.5% 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 June 30, | Six months ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
(in thousands) | ||||||||||||||||
Income before provision for income taxes | $ | 20,095 | $ | 21,177 | $ | 42,815 | $ | 39,566 | ||||||||
Less: gain (loss) before provision for income taxes of Manning & Napier, Inc. (a) | (4 | ) | (255 | ) | 2,101 | (564 | ) | |||||||||
Income before provision for income taxes, as adjusted | 20,099 | 21,432 | 40,714 | 40,130 | ||||||||||||
Controlling interest percentage (b) | 14.4 | % | 13.9 | % | 14.2 | % | 13.9 | % | ||||||||
Net income attributable to controlling interest | 2,892 | 2,977 | 5,769 | 5,576 | ||||||||||||
Plus: gain (loss) before provision for income taxes of Manning & Napier, Inc. (a) | (4 | ) | (255 | ) | 2,101 | (564 | ) | |||||||||
Income before income taxes attributable to Manning & Napier, Inc. | 2,888 | 2,722 | 7,870 | 5,012 | ||||||||||||
Less: provision for income taxes of Manning & Napier, Inc. (c) | 2,189 | 2,462 | 7,090 | 4,408 | ||||||||||||
Net income attributable to Manning & Napier, Inc. | $ | 699 | $ | 260 | $ | 780 | $ | 604 | ||||||||
9
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
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 $2.4 million and $2.6 million for the three months ended June 30, 2014 and 2013, respectively. The consolidated provision for income taxes totaled approximately $7.4 million and $4.6 million for the six months ended June 30, 2014 and 2013, respectively. |
Noncontrolling interests as of and for the six months ended June 30, 2014 and 2013, included the following amounts:
Six months ended June 30, | ||||||||
2014 | 2013 | |||||||
(in thousands) | ||||||||
Balance, beginning of period | $ | (22,790 | ) | $ | (41,115 | ) | ||
Net income attributable to noncontrolling interests | 34,599 | 34,385 | ||||||
Distributions to noncontrolling interests | (53,809 | ) | (53,986 | ) | ||||
Equity-based compensation | 39,846 | 38,745 | ||||||
Purchase of Class A units of Manning & Napier Group, LLC held by noncontrolling interests | (26,530 | ) | (6,493 | ) | ||||
Balance, end of period | $ | (28,684 | ) | $ | (28,464 | ) | ||
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. Subsequent to the exchange, the Class A units were retired. In addition, on May 29, 2014, M&N Group Holdings exchanged a total of 187,848 Class A units of Manning & Napier Group. In connection with the exchange, Manning & Napier issued 56,000 shares of Class A common stock and paid approximately $2.1 million in cash for the remaining 131,848 units. The exchange of 187,848 Class A units on May 29, 2014 gave rise to a deferred tax asset of approximately $1.4 million and a corresponding liability of approximately $1.2 million pursuant to the tax receivable agreement ("TRA") which the Company entered into in connection with the Company's 2011 initial public offering ("IPO"). The initial estimate for the deferred tax asset, net of the liability under the TRA is recorded within paid-in capital.
As a result of the aforementioned transactions, the Company's economic ownership interest in Manning & Napier Group increased to 14.5%. As of June 30, 2014, M&N Group Holdings and MNCC may exchange an aggregate of 73,574,338 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 IPO.
During the six months ended June 30, 2014 and 2013, the Company distributed approximately $53.8 million and $54.0 million, respectively, to noncontrolling interests. None of these distributions are payments pursuant to the TRA.
At June 30, 2014 and December 31, 2013, the Company had recorded a liability of $43.1 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 June 30, 2014 and December 31, 2013. The Company made no payments pursuant to the TRA during either of the six months ended June 30, 2014 and 2013. The Company recorded an adjustment of $2.1 million to the amounts payable under the TRA during the six months ended June 30, 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 5—Investment Securities
10
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
The following table represents the Company’s investment securities holdings as of June 30, 2014 and December 31, 2013:
June 30, 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 | 12,589 | |||||||||||||||
Fixed income securities | 10,363 | |||||||||||||||
Managed mutual funds | 1,786 | |||||||||||||||
24,738 | ||||||||||||||||
Total investment securities | $ | 25,343 | ||||||||||||||
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 June 30, 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 $0.3 million and less than $0.1 million of net unrealized gains related to investments classified as trading during the six months ended June 30, 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 June 30, 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 six months ended June 30, 2014 and 2013.
Note 6—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.
11
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
The following tables present the notional value and fair value as of June 30, 2014 and December 31, 2013 for derivative instruments not designated as hedging instruments:
June 30, 2014 | ||||||||||||
Fair Value | ||||||||||||
Notional Value | Asset Derivative | Liability Derivative | ||||||||||
(in thousands) | ||||||||||||
Interest rate futures | $ | 114,442 | $ | 53 | $ | (165 | ) | |||||
Index futures | 3,018 | 23 | (6 | ) | ||||||||
Commodity futures | 2,269 | 11 | (52 | ) | ||||||||
Currency futures | 6,035 | 67 | (18 | ) | ||||||||
Total derivatives | $ | 125,764 | $ | 154 | $ | (241 | ) | |||||
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 June 30, 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 six months ended June 30, 2014, the average volume of derivative activity (measured in terms of notional value) was approximately $137.3 million. There was no derivative activity during the six months ended June 30, 2013. The following table presents the gains (losses) recognized in net gains (losses) on investments in the consolidated statements of operations for the three and six months ended June 30, 2014 and 2013:
Three months ended June 30, | Six months ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
(in thousands) | |||||||||||||||
Interest rate futures | $ | (191 | ) | $ | — | $ | (556 | ) | $ | — | |||||
Index futures | 69 | — | 69 | — | |||||||||||
Commodity futures | (60 | ) | — | (60 | ) | — | |||||||||
Currency futures | 35 | — | 35 | — | |||||||||||
Balance as of end of period | $ | (147 | ) | $ | — | $ | (512 | ) | $ | — | |||||
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 June 30, 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) | ||||||||||||||||||||||||
June 30, 2014 | $ | (241 | ) | $ | 154 | $ | (87 | ) | $ | — | $ | (87 | ) | $ | — | |||||||||
December 31, 2013 | $ | (66 | ) | $ | 217 | $ | 151 | $ | — | $ | — | $ | 151 | |||||||||||
12
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
Note 7—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).
The following provides the hierarchy of inputs used to derive the fair value of the Company’s assets as of June 30, 2014 and December 31, 2013:
June 30, 2014 | ||||||||||||||||
Level 1 | Level 2 | Level 3 | Totals | |||||||||||||
(in thousands) | ||||||||||||||||
Equity securities | $ | 12,589 | $ | — | $ | — | $ | 12,589 | ||||||||
Fixed income securities | 1,289 | 9,074 | — | 10,363 | ||||||||||||
Managed mutual funds | 1,786 | — | — | 1,786 | ||||||||||||
U.S. Treasury notes | — | 605 | — | 605 | ||||||||||||
Derivatives | 154 | — | — | 154 | ||||||||||||
Total assets at fair value | $ | 15,818 | $ | 9,679 | $ | — | $ | 25,497 | ||||||||
Securities sold, not yet purchased | $ | 1,203 | $ | — | $ | — | $ | 1,203 | ||||||||
Derivatives | 241 | — | — | 241 | ||||||||||||
Total liabilities at fair value | $ | 1,444 | $ | — | $ | — | $ | 1,444 | ||||||||
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 June 30, 2014 or December 31, 2013.
13
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
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 six months ended June 30, 2014.
Note 8—Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities as of June 30, 2014 and December 31, 2013 consisted of the following:
June 30, 2014 | December 31, 2013 | |||||||
(in thousands) | ||||||||
Accrued bonus and sales commissions | $ | 29,557 | $ | 28,305 | ||||
Accrued payroll and benefits | 2,602 | 2,970 | ||||||
Accrued sub-transfer agent fees | 10,688 | 8,081 | ||||||
Dividends payable | 2,193 | 3,272 | ||||||
Amounts payable under tax receivable agreement | 1,955 | 1,955 | ||||||
Securities sold, not yet purchased | 1,203 | 777 | ||||||
Other accruals and liabilities | 3,963 | 4,453 | ||||||
$ | 52,161 | $ | 49,813 | |||||
Note 9—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 10—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 June 30, 2014 and December 31, 2013, the Company has not accrued for any such claims, legal proceedings, or other contingencies.
Note 11—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.
14
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 and six months ended June 30, 2014 and 2013:
Three months ended June 30, | Six months ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
(in thousands, except share data) | ||||||||||||||||
Net income attributable to controlling and noncontrolling interests | $ | 17,735 | $ | 18,597 | $ | 35,379 | $ | 34,989 | ||||||||
Less: net income attributable to noncontrolling interests | 17,036 | 18,337 | 34,599 | 34,385 | ||||||||||||
Net income attributable to Manning & Napier, Inc. | $ | 699 | $ | 260 | $ | 780 | $ | 604 | ||||||||
Weighted average shares of Class A common stock outstanding - basic | 13,667,861 | 13,618,193 | 13,651,223 | 13,601,128 | ||||||||||||
Dilutive effect from restricted stock units | 152,448 | 99,989 | 137,158 | — | ||||||||||||
Weighted average shares of Class A common stock outstanding - diluted | 13,820,309 | 13,718,182 | 13,788,381 | 13,601,128 | ||||||||||||
Net income available to Class A common stock per share - basic | $ | 0.05 | $ | 0.02 | $ | 0.06 | $ | 0.04 | ||||||||
Net income available to Class A common stock per share - diluted | $ | 0.05 | $ | 0.02 | $ | 0.06 | $ | 0.04 | ||||||||
For the three and six months ended June 30, 2014, a total of 282,247 shares and for the six months ended June 30, 2013 a total of 416,917 shares of Class A common stock issuable upon the assumed conversion of restricted stock units were excluded from the calculation of diluted net income available to Class A common stock per share, as the effect of including these shares for the respective periods would have been anti-dilutive.
In addition, for the three and six months ended June 30, 2014, a total of 181,378 shares of Class A common stock issuable upon the assumed conversion of restricted stock units were excluded from the calculation of diluted net income available to Class A common stock per share, as the performance conditions of these awards were not satisfied as of June 30, 2014.
At June 30, 2014 there were 73,574,338 Class A Units of Manning & Napier Group outstanding which, subject to certain restrictions, may be exchangeable for up to 73,574,338 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 and six months ended June 30, 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.
15
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
Note 12—Equity Based Compensation
2011 Equity Compensation Plan
During the six months ended June 30, 2014, 533,548 equity awards were issued under the 2011 Equity Compensation Plan (the "2011 Plan"). Of these awards, 56,000 related to the redemption of previously issued and outstanding Class A units of Manning & Napier Group that were granted prior to the initial public offering, which were subsequently re-issued as Class A common stock. The remaining 477,548 represent newly issued awards, consisting of 13,923 shares of Class A common stock and 463,625 restricted stock units. The Class A common stock awards vested immediately, and 282,247 of the restricted stock units will vest on the third anniversary of the grant date. The remaining 181,378 of the restricted stock units will vest over a three-year service period, subject to achievement of certain revenue objectives. As such, these awards are considered to have a performance condition and the Company will periodically assess which outcomes are probable of achievement to ensure that compensation cost recognized for these awards reflects the number of awards that are ultimately expected to vest.
The following table summarizes stock award activity for the six months ended June 30, 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 | 533,548 | $ | 15.29 | ||||
Vested | (69,923 | ) | $ | 16.66 | |||
Forfeited | (12,780 | ) | $ | 15.60 | |||
Stock awards outstanding at June 30, 2014 | 867,762 | $ | 15.34 | ||||
The weighted average grant date fair value of 2011 Plan awards granted during the six months ended June 30, 2014 and 2013 was $15.29 and $15.83, respectively, 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, and reduced by the present value of the dividends expected to be paid on the underlying shares during the requisite service period. For such awards that vest over time, recipients are not entitled to dividends declared on the underlying Class A common shares until the awards become fully vested.
For the three and six months ended June 30, 2014, the Company recorded approximately $0.5 million and $1.3 million of compensation expense related to awards granted under the 2011 Plan. For the three and six months ended June 30, 2013, the Company recorded approximately $0.6 million of compensation expense related to awards under the 2011 Plan.
The aggregate intrinsic value of 2011 Plan awards that vested during the six months ended June 30, 2014 was approximately $1.2 million. As of June 30, 2014, there was unrecognized compensation expense related to 2011 Plan awards of approximately $7.9 million, which the Company expects to recognize over a weighted average period of approximately 2.4 years.
Reorganization-Related Equity Based Compensation
The following table summarizes service-based stock unit activity for the six months ended June 30, 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 June 30, 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 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.
16
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
The following table summarizes performance-based stock unit activity for the six months ended June 30, 2014 specific to the 2011 reorganization transactions:
Performance-Based Stock Units | Weighted Average Grant Date Fair Value | ||||||
Stock unit awards outstanding at January 1, 2014 | — | $ | — | ||||
Granted | 37,577 | $ | 16.78 | ||||
Vested | (37,577 | ) | $ | 16.78 | |||
Forfeited | — | $ | — | ||||
Stock unit awards outstanding at June 30, 2014 | — | $ | — | ||||
For the three and six months ended June 30, 2014, the Company recorded approximately $23.2 million and $45.1 million of compensation expense related to the vesting terms of ownership interests in connection with the 2011 reorganization transactions. For the three and six months ended June 30, 2014, approximately $4.5 million and $9.0 million is attributable to the service-based awards. For the same periods, the remaining expense of approximately $18.8 million and $36.2 million is attributable to performance-based awards. For the three and six months ended June 30, 2014, $18.3 million and $35.6 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 June 30, 2014.
For the three and six months ended June 30, 2013, the Company recognized a total of approximately $22.7 million and $44.4 million, respectively, of compensation expense related to the vesting terms of ownership interests in connection with the 2011 reorganization transactions. For the three and six months ended June 30, 2013, approximately $4.5 million and $10.6 million, respectively, was attributable to the service-based awards. For the same periods, the remaining expense of approximately $18.2 million and $33.8 million, respectively, was attributable to performance-based awards. For the three and six months ended June 30, 2013, $18.0 million and $33.8 million, respectively, 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 June 30, 2014, there was unrecognized compensation expense related to unvested service-based awards of approximately $6.7 million. The Company expects to recognize this expense over a weighted average period of 0.4 years.
As of June 30, 2014, there was unrecognized compensation expense related to unvested performance-based awards of approximately $35.6 million, which the Company expects to recognize over a weighted average period of 0.5 years. This estimate is based upon the closing sale price of Manning & Napier, Inc.’s Class A common stock as reported on June 30, 2014.
Note 13—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 (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.
The Company’s income tax provision and effective tax rate were as follows:
Three months ended June 30, | Six months ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
(in thousands) | ||||||||||||||||
Earnings from continuing operations before income taxes | $ | 20,095 | $ | 21,177 | $ | 42,815 | $ | 39,566 | ||||||||
Effective tax rate | 11.7 | % | 12.2 | % | 17.4 | % | 11.6 | % | ||||||||
Provision for income taxes | 2,360 | 2,580 | 7,436 | 4,577 | ||||||||||||
Provision for income taxes @ 35% | 7,033 | 7,412 | 14,985 | 13,848 | ||||||||||||
Difference between tax at effective vs. statutory rate | $ | (4,673 | ) | $ | (4,832 | ) | $ | (7,549 | ) | $ | (9,271 | ) | ||||
17
Manning & Napier, Inc.
Notes to Consolidated Financial Statements (Continued)
For the three and six months ended June 30, 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 six months ended June 30, 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 14—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 six months ended June 30, 2014 related to the Company's executive officers was approximately $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 15—Subsequent Events
Distributions and dividends
On August 5, 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 November 3, 2014 to shareholders of record as of October 15, 2014.
18
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, as well as a variety of consultative services that complement our investment process. Founded in 1970, we offer equity, fixed income, and alternative strategies, as well as a range of blended asset portfolios, such as life cycle funds. We serve a diversified client base of high net worth individuals and institutions, including 401(k) plans, pension plans, Taft-Hartley plans, 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 $54.1 billion as of June 30, 2014. The composition of our AUM by vehicle and portfolio is illustrated in the table below.
June 30, 2014 | ||||||||||||||||
AUM - by investment vehicle and portfolio | Blended Asset | Equity | Fixed Income | Total | ||||||||||||
(in millions) | ||||||||||||||||
Separately managed accounts | $ | 13,814.9 | $ | 12,629.1 | $ | 1,177.6 | $ | 27,621.6 | ||||||||
Mutual funds and collective investment trusts | 12,076.7 | 14,338.9 | 41.4 | 26,457.0 | ||||||||||||
Total | $ | 25,891.6 | $ | 26,968.0 | $ | 1,219.0 | $ | 54,078.6 | ||||||||
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The composition of our separately managed accounts as of June 30, 2014, by channel and portfolio, is set forth in the table below.
June 30, 2014 | ||||||||||||||||
Blended Asset | Equity | Fixed Income | Total | |||||||||||||
(dollars in millions) | ||||||||||||||||
Separate account AUM | ||||||||||||||||
Direct Channel | $ | 9,908.7 | $ | 9,422.3 | $ | 951.7 | $ | 20,282.7 | ||||||||
Intermediary Channel | 3,905.6 | 1,004.0 | 191.7 | 5,101.3 | ||||||||||||
Platform/Sub-advisor Channel | 0.6 | 2,202.8 | 34.2 | 2,237.6 | ||||||||||||
Total | $ | 13,814.9 | $ | 12,629.1 | $ | 1,177.6 | $ | 27,621.6 | ||||||||
Percentage of separate account AUM | ||||||||||||||||
Direct Channel | 36 | % | 34 | % | 3 | % | 73 | % | ||||||||
Intermediary Channel | 14 | % | 4 | % | 1 | % | 19 | % | ||||||||
Platform/Sub-advisor Channel | — | 8 | % | — | 8 | % | ||||||||||
Total | 50 | % | 46 | % | 4 | % | 100 | % | ||||||||
Percentage of portfolio by channel | ||||||||||||||||
Direct Channel | 72 | % | 75 | % | 81 | % | 73 | % | ||||||||
Intermediary Channel | 28 | % | 8 | % | 16 | % | 19 | % | ||||||||
Platform/Sub-advisor Channel | — | 17 | % | 3 | % | 8 | % | |||||||||
Total | 100 | % | 100 | % | 100 | % | 100 | % | ||||||||
Percentage of channel by portfolio | ||||||||||||||||
Direct Channel | 49 | % | 46 | % | 5 | % | 100 | % | ||||||||
Intermediary Channel | 76 | % | 20 | % | 4 | % | 100 | % | ||||||||
Platform/Sub-advisor Channel | — | 98 | % | 2 | % | 100 | % | |||||||||
Our separate accounts contributed 33% of our total gross client inflows for the six months ended June 30, 2014 and represented 51% of our total AUM as of June 30, 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 59% of the total gross client inflows for our separate account business for the six months ended June 30, 2014 and represented 73% of our total separate account AUM as of June 30, 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 six months ended June 30, 2014, blended asset and equity portfolios represented 46% and 45% of the separate account gross client inflows from the Direct Channel, respectively, while fixed income portfolios accounted for 9%. As of June 30, 2014, blended asset and equity portfolios represented 49% and 46%, respectively, of total Direct Channel separate account AUM, while our fixed income portfolios were 5%. 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 six months ended June 30, 2014, 13% of the total gross client inflows for separate accounts came from financial advisor representatives (Intermediary Channel), and an additional 28% came from registered investment advisor platforms (Platform/Sub-advisor Channel). The Intermediary and Platform/Sub-advisor Channels represented 27% of our total separate account AUM as of June 30, 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 six months ended June 30, 2014, blended asset and equity portfolios represented 83% and
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14%, respectively, of the separate account gross client inflows from the Intermediary Channel, while fixed income portfolios represented 3%. As of June 30, 2014, 76% of our separate account AUM derived from financial advisors was allocated to blended asset portfolios, with 20% 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 six months ended June 30, 2014, 98% of our separate account gross client inflows from the Platform/Sub-advisory Channel were into equity portfolios and 2% were into fixed income.
Our annualized separate account retention rate across all channels was approximately 91% during the six months ended June 30, 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 six months ended June 30, 2014, market appreciation for our separate account AUM was 7.1%, including 6.9% in our blended assets and 7.7% in equity portfolios.
The composition of our mutual fund and collective investment trust AUM as of June 30, 2014, by portfolio, is set forth in the table below.
June 30, 2014 | ||||||||||||||||
Blended Asset | Equity | Fixed Income | Total | |||||||||||||
(in millions) | ||||||||||||||||
Mutual fund and collective investment trust AUM | $ | 12,076.7 | $ | 14,338.9 | $ | 41.4 | $ | 26,457.0 | ||||||||
Our mutual funds and collective investment trusts contributed 67% of our total gross client inflows for the six months ended June 30, 2014 and represented 49% of our total AUM as of June 30, 2014. As of June 30, 2014, our mutual fund and collective investment trust AUM consisted of 46% from blended asset portfolios and 54% from equity portfolios. During the six months ended June 30, 2014, 52% and 47% of the gross client inflows were attributable to blended assets and equity portfolios, respectively. For the six months ended June 30, 2014, market appreciation for our mutual fund and collective investment trust AUM was 6.5%, including 7.2% in our blended assets and 5.9% 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 285 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 and six months ended June 30, 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. In addition, beginning in the quarter ended June 30, 2014, the line item "market appreciation/(depreciation) and other" within our AUM tables throughout "Management's Discussion and Analysis of Financial Condition and Results of Operations" includes investment gains/(losses) on assets under management and net flows from non-sales related activities including asset acquisitions.
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 |
• | changes in our variable costs, including incentive compensation and distribution, servicing and custody expenses, which are affected by our investment performance, level of our AUM and revenue; and |
• | fixed costs, including changes to base compensation, 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 and six months ended June 30, 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 March 31, 2014 | $ | 27,217.5 | $ | 24,973.9 | $ | 52,191.4 | 52 | % | 48 | % | 100 | % | |||||||||
Gross client inflows | 935.0 | 1,605.7 | 2,540.7 | ||||||||||||||||||
Gross client outflows | (1,761.7 | ) | (1,134.5 | ) | (2,896.2 | ) | |||||||||||||||
Market appreciation/(depreciation) & other | 1,230.8 | 1,011.9 | 2,242.7 | ||||||||||||||||||
As of June 30, 2014 | $ | 27,621.6 | $ | 26,457.0 | $ | 54,078.6 | 51 | % | 49 | % | 100 | % | |||||||||
Average AUM for period | $ | 27,413.4 | $ | 25,709.2 | $ | 53,122.6 | |||||||||||||||
As of March 31, 2013 | $ | 26,231.2 | $ | 21,849.2 | $ | 48,080.4 | 55 | % | 45 | % | 100 | % | |||||||||
Gross client inflows | 474.8 | 1,401.5 | 1,876.3 | ||||||||||||||||||
Gross client outflows | (1,808.1 | ) | (1,505.0 | ) | (3,313.1 | ) | |||||||||||||||
Market appreciation (depreciation) | (106.4 | ) | (219.5 | ) | (325.9 | ) | |||||||||||||||
As of June 30, 2013 | $ | 24,791.5 | $ | 21,526.2 | $ | 46,317.7 | 54 | % | 46 | % | 100 | % | |||||||||
Average AUM for period | $ | 25,833.2 | $ | 21,991.0 | $ | 47,824.2 | |||||||||||||||
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 | 1,651.3 | 3,295.4 | 4,946.7 | ||||||||||||||||||
Gross client outflows | (2,837.7 | ) | (2,383.0 | ) | (5,220.7 | ) | |||||||||||||||
Market appreciation/(depreciation) & other | 1,973.0 | 1,553.4 | 3,526.4 | ||||||||||||||||||
As of June 30, 2014 | $ | 27,621.6 | $ | 26,457.0 | $ | 54,078.6 | 51 | % | 49 | % | 100 | % | |||||||||
Average AUM for period | $ | 27,148.2 | $ | 24,948.6 | $ | 52,096.8 | |||||||||||||||
As of December 31, 2012 | $ | 24,683.6 | $ | 20,525.3 | $ | 45,208.9 | 55 | % | 45 | % | 100 | % | |||||||||
Gross client inflows | 1,454.9 | 3,149.2 | 4,604.1 | ||||||||||||||||||
Gross client outflows | (2,963.0 | ) | (3,097.7 | ) | (6,060.7 | ) | |||||||||||||||
Market appreciation (depreciation) | 1,616.0 | 949.4 | 2,565.4 | ||||||||||||||||||
As of June 30, 2013 | $ | 24,791.5 | $ | 21,526.2 | $ | 46,317.7 | 54 | % | 46 | % | 100 | % | |||||||||
Average AUM for period | $ | 25,740.7 | $ | 21,704.2 | $ | 47,444.9 | |||||||||||||||
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The following tables reflect the indicated components of our AUM for our portfolios for the three and six months ended June 30, 2014 and 2013.
Blended Asset | Equity | Fixed Income | Total | Blended Asset | Equity | Fixed Income | Total | |||||||||||||||||||||
(in millions) | ||||||||||||||||||||||||||||
As of March 31, 2014 | $ | 24,513.3 | $ | 26,539.9 | $ | 1,138.2 | $ | 52,191.4 | 47 | |||||||||||||||||||