Pzena Investment Management, Inc.
Q4 2015 Earnings Call Transcript

Published: 10 Feb 2016

[Operator:]

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2015 Pzena Investment Management Earnings Conference Call. My name is Jasmine and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions]. As a reminder, this call is being recorded for training purposes. Now I would like to turn the call over to Mr. Gary Bachman, Chief Financial Officer. Please proceed, sir.

[Gary Bachman:]

Thank you, operator. Good morning and thank you for joining us on the Pzena Investment Management fourth quarter 2015 earnings call. I am Gary Bachman, Chief Financial Officer. With me today is our Chief Executive Officer and Co-Chief Investment Officer, Rich Pzena. Our earnings press release contains the financial tables for the periods we will be discussing. If you do not have a copy, it can be obtained in our Investor Relations section on our website at www.pzena.com. Replays of this call will be available for the next two weeks on our website. Before we start, we need to remind you that today’s call may contain forward-looking statements and projections. We ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from today’s comments. Please note that we do not undertake to update such information to reflect the impact of circumstances or events going forward. In addition, please be advised that due to prohibitions on selective disclosures, we do not as a matter of policy disclose materials that is not public information on our conference calls. In a minute, I will turn the call over to Rich, but first I would like to review some of our financial highlights. We reported non-GAAP diluted EPS of $0.12 per share and $8.3 million in non-GAAP diluted net income. Revenues were $27.7 million for the quarter and our operating income was $13 million. I will discuss our financial results in greater details in a few minutes, but let me now turn the call over to Rich who will discuss our current view of the investing environments.

[Rich Pzena:]

Thank you, Gary. Last five years have been a rough time for value investors. We’ve been battling three headwinds

[Gary Bachman:]

Thank you, Rich. As I mentioned, we reported non-GAAP diluted earnings of $0.12 per share for the quarter, flat from last quarter and down from $0.13 during the fourth quarter of last year. Our non-GAAP income statements adjust for certain deferred tax asset adjustments as well as the recurring valuation allowance and tax receivable agreement items. During the fourth quarter of 2015, our non-GAAP income statements also adjusted for certain non-recurring charges recognized in operating expenses. I will address the current tax related adjustments at the conclusion of my remarks but for now, I will focus on the non-GAAP information. Our assets under management ended the quarter at $26 billion, up from 2% from $25.5 billion last quarter and down 6.1% from the fourth quarter of last year, which ended at $27.7 billion. In the fourth quarter of this year, we had market appreciation of $1.2 billion partially offset by net outflows of $0.7 billion. The $1.7 billion decrease from the fourth quarter of last year reflects $1.4 billion in market depreciation and $0.3 billion in net outflows. At December 31, 2015, our AUM consisted of $14.9 billion in institutional accounts and $11.1 billion in retail accounts. Compared to last quarter, institutional assets were flat, reflecting $0.6 billion in market appreciation offset by $0.6 billion in net outflows. Assets in retail accounts increased by $0.5 billion from the end of last quarter due to $0.6 billion in market depreciation partially offset by $0.1 billion in net outflows. Our average AUM was $26.4 billion during the quarter, down 2.6% from both last quarter and the fourth quarter of last year. Revenues were $27.7 million for the fourth quarter 2015, a decrease of 10.1% from last quarter and 3.1% from the fourth quarter of last year. These decreases primarily reflect lower performance fees recognized during the fourth quarter of 2015. We recognized $0.6 million in performance fees this quarter compared to $3.2 million last quarter and $1.2 million in the fourth quarter of last year. In general, our performance fees are calculated on an annualized basis over a three-year measurement period. Our weighted average fee rate was 42 basis points for the fourth quarter of 2015. This compared to 45.4 basis points last quarter and 42.2 basis points for the fourth quarter of last year. Our weighted average fee rate for institutional accounts was 53.2 basis points for the fourth quarter of 2015, down from 59.6 basis points last quarter and from 55.4 basis points for the fourth quarter of last year. The decrease from last quarter and the fourth quarter of last year primarily reflects the decrease in performance fees recognized during the fourth quarter of 2015. Our weighted average fee rate for retail accounts was 26.6 basis points for the fourth quarter 2015. This was relatively flat from the last quarter and the fourth quarter of last year. Looking at operating expenses, our compensation and benefit expense was $11 million for the quarter, down 5.5% from $11.6 million last quarter and up 2.9% from $10.7 million for the fourth quarter of last year. GAAP G&A expenses were $3.7 million for the fourth quarter of 2015, up approximately $0.8 million or 27% from the last quarter and up $0.6 million from the fourth quarter of last year. During the fourth quarter of 2014, we adjusted our non-GAAP results for non-recurring write-offs of $0.4 million associated with the move to our new headquarters during 2015. Excluding these one-time adjustments, G&A expense increased $1 million or 35.4% from the fourth quarter of last year. The non-GAAP operating margin adjusted for the non-recurring expenses was 46.9% this quarter compared to 52.7% last quarter and 53% in the fourth quarter of last year. The changes in non-GAAP operating margin during the quarter reflect a decrease in our annual bonus accrual offset by certain G&A expenses that we do not expect to recur. Net of outside interest, other income was $0.6 million this quarter compared to an expense of $1.7 million last quarter and income of $0.1 million during the fourth quarter of last year. These fluctuations arise generally as a result of the performance of the firm’s investments. The non-GAAP effective rate for our unincorporated business taxes was 4.1% this quarter compared to 4.2% last quarter and 4.3% in the fourth quarter of last year. We expect this rate to be between 4% and 5% on an ongoing basis. The non-GAAP effective tax rate for our corporate income taxes ex-UBT was 34.5% this quarter compared to 34.7% last quarter and 34.2% for the fourth quarter of last year. These effective rates reflect tax benefits from employee share and unit vesting and option exercises. We expect this rate, excluding any share and unit vesting, to be between 37% and 39% on an ongoing basis. The allocation to the non-public members of our operating company was approximately 77.4% of the operating company’s net income for the fourth quarter of 2015. This compared to 77.9% last quarter and approximately 80% in the fourth quarter of last year. The variance in these percentages is the result of changes in our ownership interest in the operating company. During the quarter, through our stock buyback program, we repurchased and retired 78,319 shares of Class A common stock for approximately $0.8 million and 33,690 units of our operating company’s Class B units for approximately $0.3 million. At December 31, there was approximately $10.7 million remaining in the repurchase program. Before we turn it over to questions, I’d like to briefly walk through the non-GAAP income tax expense items. We recognize adjustment as a result of the revised estimates of future taxable income and our ability to utilize our deferred tax asset. We recognized a $0.2 million net expense associated with changes to our deferred tax asset, valuation allowance and liability to our selling and converting shareholders. These adjustments comprised the majority of the difference between our fourth quarter 2015 non-GAAP and GAAP net income. On a quarterly basis, we will record adjustments to the valuation allowance and our liability to our selling and converting shareholders as necessary. The ultimate amount of these adjustments will depend on our estimates of the future taxable income of the operating company and the level of our economic interest in it. Inclusive of the effect of the valuation allowance and the tax receivable agreement amounts I just discussed, we reported GAAP basic and diluted EPS of $0.14 and $0.12 per share for the quarter respectively. At quarter end, our financial position remained strong. Our cash balance was $35.4 million at December 31 and we declared a $0.32 per share year end dividend last night. Thank you for joining us on the call. We’d now be happy to take any questions you may have.

[Operator:]

[Operator Instructions] And our first question comes from the line of Ken Worthington, JPMorgan.

[Ken Worthington:]

So maybe first on the narrative on the value cycle. How is that resonating with investors right now? Do you find that investors kind of buy into it? You obviously mentioned that investors like to see the turn before investing in it. But to what extent is the narrative resonating?

[Rich Pzena:]

Well, as you might expect it resonates differently with different people. There are the early adopters and we are actually having some interesting conversations with a couple that may want to be – that may want to take advantage of the valuation opportunities and are willing to do it just because the spreads are wide. But they are not the majority. Although they can be significant. So we are hopeful that one or two of these will actually make a significant impact in our flows for the year. But you can never be certain how you’re going to react. Most people, early adoption is one year into the cycle. And of course, we don’t know when the cycle is going to turn.

[Ken Worthington:]

Maybe on the expenses, AUM has started 2016 – or market has started down meaningfully. How do you think about expense flexibility and how do you think about being able to adjust to potentially lower AUM and revenue levels?

[Rich Pzena:]

We have a bit of flexibility but we are in the middle of these initiatives. So we sort of view the range of our expenses being up 5% to up 10% for the year. For us to actually cut expenses, we would either have to cut some of these initiatives or make some cuts that would not be consistent with the number of accounts that we are managing. We’re already pretty lean at this point. So most of our flexibility comes in the actual level of sales comp and bonuses, and – I mean if we wound up with a really horrible year where the markets were down and flows were negative, for sure we could cut bonuses. But our planning range now is somewhere between 5% and 10% growth in expenses.

[Ken Worthington:]

Then lastly, just give us update on the marketing of your own funds? How are things going in terms of getting your products on more of these third party platforms?

[Rich Pzena:]

We’re pretty much now on all the major platforms. We’ve hired one additional person. We are interviewing actively for another. And we’re just now – I mean the process of getting on the platforms takes a long time. So the balance of the year is going to now switch focus, now that we are on the platforms to actually going out and starting to pound the pavement. With some of the big intermediaries, we’ve already had a little bit of preliminary success as I have mentioned, which gives us hope that will turn into some flows in 2016. So if we’re successful this year with that, we will have some modest flows, and modest, I am going to say in a couple of hundred million dollars, that would be a good outcome for us. And we will see.

[Operator:]

[Operator Instructions] And we do have a follow-up question from Ken Worthington with JPMorgan.

[Ken Worthington:]

Non-US businesses, that was one of the areas that has been resonating with your investors over the last couple of years. Maybe talk about the performance there last year and maybe how 2016 has started. And then given that was an area of particular interest over the last couple of years, how, if at all, is the narrative changing given how emerging markets are performing, for example, not just the non-US markets?

[Rich Pzena:]

Yes, I would say the narrative is not very different. The performance was poor in 2015 pretty much across the board. This was probably the worst year globally for value that you can find in a long time. And I am not – when I say that, I am not specifically referring to the indices. People very often look at the growth and the value indices, like in the US they look at The Russell 1000 Growth and The Russell 1000 Value. If you actually look at more of the way the academics look at value, like the cheapest deciler, or the cheapest quintile versus the most expensive, the spreads everywhere in the world were completely perverse compared to long term history. So the most expensive stocks dramatically outperform the least expensive stocks everywhere in the world. So there is no difference in the story. It’s not like we can say, yes, it didn’t really work here in the US, but it’s working everywhere else, so we can be very excited about it. This is clearly a global phenomenon and a global investor concern. And which – what’s interesting about it is it’s so clearly tied to the global economic cycle, and the stocks that are impacted, whether they are in US, in Europe or in China, are all of the same ilk, so it’s telling you what – the markets are basically telling you that we are afraid that the world economy is slowing down, and we don’t want to be exposed to anything that has economic sensitivity. Now our view of this is that the basic consumer segments of global economies, whether you are in the US, Europe or the emerging markets, are chugging along doing reasonably well. It's hard anywhere to find excesses, and we don’t find excesses in consumer spending. You don’t find excesses in consumer debt levels. You don’t find excesses in housing. You don’t really find excesses in autos although the US is a little bit above trend. We’re hard pressed to say that that was true globally. But you don’t really find any excesses. What you found in excess was this – crazy investment cycle in commodities to meet what was viewed as a limitless demand from China and a permanent shortage of these things that led management teams to go nuts. And so if you think of what’s gone on, if you think of a slow, steady global economic growth and superimposed on this, a bi commodity boom and then a big commodity bust, what we think is negatively affecting people’s perceptions is this big economic bust on the commodity side. So the question is

[Operator:]

I would now like to turn the call back over to Gary Bachman for closing remarks.

[Gary Bachman:]

Great. Thank you, operator, and thank you everyone for joining us on our call today. This commences the call.

[Operator:]

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.