Westwood Holdings Group, Inc. (WHG) Q4 2017 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2017 Westwood Holdings Group, Inc Earnings Conference Call. [Operator Instructions] As a reminder, today’s conference is being recorded. I would now like to turn the call over to Ms. Julie Gerron, General Counsel and Chief Compliance Officer. Ma'am, you may begin.

Thank you. Good afternoon and welcome to our Fourth Quarter 2017 Earnings Conference Call. The following discussion will include forward-looking statements that are subject to known and unknown risks, uncertainties and other factors, which may cause actual results to be materially different from those contemplated by the forward-looking statements. Additional information concerning the factors that could cause such a difference is included in our press release issued earlier today as well as in our Form 10-Q for the quarter ended December 31, 2017, that is filed with the Securities and Exchange Commission. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You are cautioned not to place undue reliance on forward-looking statements. In addition, in accordance with SEC rules concerning non-GAAP financial measures, the reconciliation of our economic earnings and economic earnings per share to the most comparable GAAP measures is included at the end of our press release issued earlier today. On the call today, we have Brian Casey, our President and Chief Executive Officer and Tiffany Kice, our Chief Financial Officer. I will now turn the call over to Brian Casey, our CEO.

Thanks, Julie and thanks to all of you for taking the time to listen to our fourth quarter and fiscal year earnings call. With respect to the fourth quarter and fiscal year, I'll start our call today with comments on the investment environment and more specifically from our three distinct investment teams. The fourth quarter closed the year with a big rally, leading up to the year-end tax cuts and completed an extraordinary year, which consisted of positive returns for the S&P 500 in all 12 months of the year. Globally, equity markets were also strong and led by emerging, markets as measured by the MSCI Emerging Markets Index, which posted a return of 37%. Our key strategies, those with over $1 billion in assets under management fared well in these markets with over two-thirds of our key strategies beating their respective benchmarks in 2017. Domestic markets in the US saw large caps speed small caps and growth over value for the calendar year. The ongoing market shift towards earnings growth as a key differentiator was welcome news for Westwood portfolios and both our large cap and small cap strategies posted strong relative performance versus their benchmark and peer groups for the year. Westwood’s large cap value finished the year ranked in the 12th percentile in the investment large cap value equity universe and small cap finished in the top third of the small cap value equity manager peer group and second percentile for the trailing seven years. Concentrated large cap continued its outperformance and finished with a one and three year track record in the third percentile of its investment large cap value peer group universe. Westwood’s midcap showed improvement in 2017 and posted results that were ahead of the Russell 2500 value index, but below the core Russell 2500 index. Our taxable strategy, Select Equity, had an amazing first year with a return of 26.5% and beating its benchmark by 5.4%. The concept of a well-researched high quality low turnover tax efficient strategy has resonated well with clients and we now have close to 600 million invested in the strategy in only its first year of existence. Westwood's multi-asset strategies also did well, particularly income opportunity and worldwide income opportunity. The MLP space was challenged for most of the year, but clarity on potential tax changes and on OPEC's extension of their production cuts pushed MLPs higher in to year end. Our MLP strategies posted benchmark meeting performance, relative to the Alerian MLP index. Internationally, our global equity strategy rose 21%, emerging markets midcap rose nearly 29% and our emerging market strategy was up over 30%. While the absolute returns were impressive, we were unable to keep pace with the lower quality, momentum driven indices. However, we feel we are well positioned for this year, as volatility returns and the global markets begin to reward companies that deliver high quality earnings growth and starts to punish those companies who've enjoyed unjustified lofty multiples just for being part of a surging index. In global convertibles, our team’s long only strategy finished the year ahead of their benchmark, the Thomson Reuters global convertible index. The fund is overweight in the US market securities and continues to have higher sensitivity or delta to equity price changes relative to the benchmark. Strong equity markets in 2017 helped these Delta sensitive names capture a good portion of the equity market strength and to finish the year with double digit returns, beating the index’s sub-10% number. Our liquid alternative strategy, the market neutral income fund, was down slightly in the fourth quarter, but also finished the year strongly and posted positive absolute returns for 2017 and in line with our internal goals. Extremely low levels of price volatility offered limited opportunities for gains, but our funds remained resilient in the face of these headwinds. We continue to believe that the embedded options in convertible bonds are likely mispriced due to the unprecedented low levels of volatility we've experienced and that we're well positioned to benefit from an increase in volatility. Looking ahead, our focus remains on identifying high quality businesses with undervalued prospects and downside protection. Globally, the macroeconomic picture continues to be constructive with selected areas showing stretched valuations. Despite a strong economic backdrop across the globe, we expect an increase in volatility as monetary policy continues to tighten in the US and the growth rate of earnings are expected to peak in 2018. Our portfolio managers have prepared for increased volatility and a market correction as risk controls are meant prevalent throughout our investment processes. Turning now to institutional sales and service, overall, we're pleased to report a 95% client retention rate in 2017 and I'd like to take a minute to thank all our client service and investment professionals for the many days on the road serving over 400 clients. We have some of the best people in the business and your work is sincerely appreciated. Our subdelegation mandate with Aviva continues to grow and through year end 2017, we now manage over 1.3 billion, split between the long-only and absolute return fund. Aviva continues to expand their global sales force and have kept members of our team very busy, raising awareness for the funds around the world. In our other institutional strategies, we experienced our largest positive flows in the fourth quarter into small cap and large cap. Small cap has had several years of strong performance and the team recently funded a $220 million mandate as well as inflows from existing clients. Small cap finished the year with nearly 1.3 billion in assets under management. Our large cap strategy saw its inflows primarily in the subadvisory business, as a large client reallocated additional funds into the large cap strategy and grew their assets at Westwood by over 50% during the course of the year. Our emerging market strategy did again experience outflows and while some of the outflows were performance related, some of the outflows were due to rebalancing after several quarters of strong emerging market returns. With respect to our mutual fund business, our redemption rates continue to improve year-over-year and remain well ahead of our industry peers. Five of our 14 funds had positive new flows, while our emerging markets fund experienced its third straight year of positive net flows and our small cap fund saw its straight year of positive net flows. As we noted during our last call, on the private wealth front, we made a strategic decision to sell our Omaha business to Bridges Investment Management, which is located in Omaha. Outflows in the fourth quarter related to the sale approximated 400 million and the transaction officially closed on January 12 of this year. The final purchase price of 10.5 million resulted in an immaterial book gain recognized in 2018. Our Omaha business was small and represented less than 5% of our overall revenue. Joining Bridges allows our existing staff to be part of a larger local organization, which should provide greater opportunities for their career growth. Bridges will take good care of the clients and Westwood expects to continue to sub-advice more than 0.5 billion in Omaha client assets. The transaction is friendly. The end result is good for all parties and we expect to be a preferred partner with Bridges for many years to come. Excluding the outflows related to the sale of Omaha, our net flows in the private wealth area were slightly positive. Our Houston office is returning to normal, following the third quarter flooding and we've begun to see a pick up in new business development activity in both Houston and Dallas. We are expanding the array of services we offer to our private wealth customers and we're excited to see how those take shape in the years ahead. In closing, I'd like to congratulate Fabian Gomez who was promoted yesterday to Chief Operating Officer. Fabian has been with us for less than three years, but has made a tremendous impact on the firm and will continue to lead us forward, as we digitize our entire business over the next few years. I would also encourage all our shareholders to visit westwoodgroup.com, which has been totally redesigned to better support our clients and prospects and to support our goals for social media. Finally, I would like to note that we were recognized by P&I as one of the best places to work in our industry for the fourth consecutive year. This is due entirely to my amazing colleagues who do their very best for our clients and support each other every single day. I’ll now turn the call over to Tiffany Kice, our CFO and I'll be available for questions after her remarks.

Thanks, Brian and good afternoon, everyone. Today, we reported total revenues of 33.9 million for the fourth quarter of 2017, compared to 31.1 million in the prior year’s fourth quarter and 33.5 million in the third quarter of 2017. The increase is primarily related to higher average assets under management in the current quarter. Fourth quarter net income was 2.9 million or $0.34 per share compared to 7.6 million or $0.92 per share in the prior year’s fourth quarter. The decrease was primarily driven by a 3.4 million incremental tax expense that we recorded due to tax reform negatively impacting diluted EPS by $0.39 per share. Additionally, net income was impacted by higher compensation costs, partially offset by an increase in total revenues. Fourth quarter net income of 2.9 million or $0.34 per share compared to 4.1 million or $0.49 per share in the third quarter of 2017. The decrease was primarily driven by the incremental tax expense previously mentioned, offset by the legal settlement that we recorded in the third quarter. Economic earnings, a non-GAAP metric, was 7.6 million or $0.89 per share compared to 12 million or $1.45 per share in the prior year's fourth quarter and 9 million or $1.07 per share in the third quarter of 2017. For fiscal 2017, total revenues of 133.8 million compared to 123 million in 2016, primarily related to higher average assets under management in the current year and an increase in performance based advisory fees. Net income of 20 million or $2.38 per share compared to 22.6 million or $2.77 per share in the prior year. This was primarily due to the 2.5 million legal settlement charge recorded in the third quarter and the incremental income tax expense both negatively impacting diluted EPS by $0.70 per share, partially offset by increases in total revenues. Economic earnings, a non-GAAP metric, was 38.9 million or $4.63 per share compared to 41.1 million or $5.03 per share in 2016. The incremental 3.4 million income tax expense was related to the mandatory deemed repatriation of earnings from our Canadian subsidiary and the revaluation of our deferred taxes as a result of the decrease in the federal corporate tax rate. This resulted in an effective tax rate of 70% for the quarter and 41% for fiscal 2017. Given our financial flexibility and limited geographic footprint, we do not expect tax reform to significantly change our capital strategy. Firm-wide assets under management totaled 24.2 billion at year end and consisted of institutional assets of 14.4 billion or 60% of the total, private wealth assets of 5.6 billion or 23% of the total and mutual fund assets of 4.2 billion or 17% of the total. We experienced market appreciation of 1 billion for the quarter and net outflows of 405 million, which is primarily related to the sale of our Omaha private wealth business. For 2017, we experienced market appreciation of 3.4 billion, partially offset by net outflows of 398 million, including 713 million of inflows that transitioned from assets under advisement to assets under management in the third quarter of 2017. Our financial position continues to be very solid with cash and investment at year-end totaling 105.6 million and a debt free balance sheet. We do expect our cash and investments to continue to grow and changes in the [indiscernible] tax gives us access to approximately 33 million in foreign cash, some of which may be subject to local withholding taxes. We will continue to evaluate opportunities to increase shareholder value. We are currently evaluating the impact of tax legislation on our fiscal 2018 results, but based on our current understanding, we have preliminarily calculated a fiscal 2018 effective tax rate to be in the range of 23% to 25%. The rate is positively impacted by the reduction in the corporate rate, partially offset by deduction limitations on executive compensation. Our estimates may change based on additional regulatory guidance or changes in interpretations that may arise at a later date. We are pleased to announce that our Board of Directors approved a quarterly cash dividend of $0.68 per share, payable on April 2, 2018 to stockholders of record on March 9, 2018. This represents an annualized dividend yield of 4.3% at yesterday's closing price. That brings our prepared comments to a close. We encourage you to review our investor presentation we've posted on our website, reflecting fourth quarter and fiscal 2017 highlights as well as the discussion of our business, product development and longer term trends in revenue, earnings and dividends. We thank you for your interest in our company and we’ll open up the lines to questions now.

[Operator Instructions] And our first question comes from the line of Mac Sykes with Gabelli.

Brian, could you provide an update on where you may be looking to expand your investment offerings in ’18? And then as a follow-up, any specific areas of distribution that you may be looking to accelerate next year off of some positive signs in ’17?

Sure. So I'm excited to talk to you a little bit more about a new product that we have. We hired somebody who is a seasoned portfolio manager who has a product that is designed to generate income. It's called flexible income and that product, we started as a comingled fund at our trust company on January the 1. In his prior life, this was a five star fund at his predecessor firm and he is a very experienced person and we'll be rolling that out later this year as we get all the ducks in a row. So we're excited about that. As far as increased distribution, we have spent a lot of time on the private wealth side really thinking about ways that we can enhance our model as we shift from more of a product sale to one that is more advice and planning and there's a lot of nuances that go with that, but we have recently hired a financial planner in Dallas and we have a couple in Houston and that model I think will continue to evolve over time. There's lots of economic growth here in the great state of Texas and lots of people that need our help. So we expect that to continue to grow. And beyond that, it's just the normal blocking and tackling. We have an institutional group that does a great job that exceeded their sales goal last year. We're going to have a higher goal this year and try to go after it.

And then you mentioned the digitize initiative and I was just curious, maybe if you could provide some more detail on -- maybe the high level at this point, just on what the efforts might mean to clients as well as shareholders.

Sure. So, I would say as an industry, we are woefully under invested in technology and most of the platforms that we all use are really old platforms and clients of today are used to what we've been giving them. But when we look out at the world and we realize that in seven years 75% of the world are going to be millennials of the workforce and they demand a much different level of service. They want to be able to access things through their phone. They don't want to wait for a statement in the mail or by email. So that really is a profound change in the way that information is delivered and we are working very diligently to ultimately have a platform where all of our investment operations, our performance reporting, our data and our trust systems are all speaking to one another in a digital environment, so that we're able to create, not only a statement that people will, I think, really value, but will be able to customize it and in fact get to the point where a user can customize it. So that's what I'm talking about by digitization. If you look at our website, we've completely redone our website. I think it has a much better look and feel, but more importantly, the guts of it now are able to support social media. So as we put out thought leadership pieces either a white paper or something that we think is valuable, we're able to put that out in the hands of people through the various social media outlets.

[Operator Instructions] And I'm showing no further questions at this time. I would now like to turn the call back to Mr. Brian Casey for closing remarks.

Well, thanks everybody for taking a minute to listen. We had, it looks like a challenging day in the market today, but as I say to everyone, it's a good buying opportunity. So have a great afternoon. Thanks for being here. We appreciate you being a shareholder.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.