WisdomTree, Inc. (WT) Q2 2008 Earnings Report, Transcript and Summary

At this time I would like to welcome everyone to the Wisdom Tree 2008 second quarter conference call. (Operator Instructions) It is now my pleasure to turn the floor over to your host, Jonathan Steinberg.

Welcome, everybody. Good afternoon. I want to thank you all for your interest in Wisdom Tree and your time this afternoon. We have a busy agenda so let's just start. We have a very straightforward agenda today. We will review our business. Because this is our first investor call, we will briefly review our history, we will discuss an industry overview. Bruce Lavine, our President, will discuss certain growth initiatives and Amit Muni, our CFO, will take you through our second quarter results, and then we will do a question-and-answer session. We have been a publicly traded company for a while, but we have intentionally kept a low profile while we focused on building our business. We have now filled out our operating team with our General Counsel and our CFO. We have over two years of operating history. We have publicly stated we have a goal to relist on NASDAQ. Our investors and customers have been asking us for more information on the company, so with this call we begin our formal investor relations program to provide the information that our stakeholders are looking for. I think on this call probably many of you have invested in our ETFs. Our customers, for you we have created this company. Our philosophy for launching product is, is it better than what currently exists in the marketplace today? Do investors need this new fund? We have always put your interests first. We currently have 41 equity ETFs with $4.3 billion in assets under management. All are fundamentally weighted. Everyone at Wisdom Tree believes that our approach should deliver better long-term returns with less volatility than traditional cap-weighted ETFs. Cap-weighting, we believe, is structurally flawed. What does the S&P 500 or MSCI EAFA do? They tend to buy stocks high and continue to…

Thanks, John. I wanted to take you through three growth initiatives at Wisdom Tree. There are many going on at Wisdom Tree today, but I wanted to highlight these three for you. To talk a little bit about our fund launches in the ETF space, to talk about our licensing business which we've made a couple of announcements about lately, and finally to touch on our 401(k) business, an initiative that we're very excited about. First let's go to fund launches. There are three that I want to highlight for you; all of these have been filed with the SEC this year. We're in a quiet period on the last two of them, but I just want to talk about them at a high level. John mentioned about our currency funds having better structure and we're really excited about these. We spent over two years with the SEC to get these to market. They are coming out as active funds. So oddly enough with all the discussion about active, Wisdom Tree ends up being the leader in active management in ETFs at this point. But these are the first funds in the industry, so everything out there in currency land so far have been trusts or notes and we think this structure really makes us a better option in terms of being able to diversify credit risk, in terms of getting the best tax treatment possible, in terms of getting the highest yields possible in the underlying interest instruments and then we have brought them out at a low fee. We really think this is the right structure for the future. Others took shortcuts to come early and we think this ultimately is the best structure that is out there. We're going to continue to leverage this structure into other…

Thank you, Bruce. Before I begin the discussion of our financial results I would like to provide you with some background to understand our financials. Wisdom Tree is a young entrepreneurial growth company. We are in an investment mode for our business and as a result are incurring losses that should be expected. However, these losses are beginning to reverse as our business gains traction. As you can see from our presentation, we are executing at the highest levels in the industry. Our management, employees and board who are all major stakeholders in the company are committed to the same goals and are aligned with the interests of all of our shareholders. That is to grow this company to reach breakeven and then move on to profitability as soon as possible. With that background, I would like to begin by first reviewing our overall financial performance. Our total revenues have been growing, increasing 15% to $6.2 million from $5.4 million in the first quarter, primarily due to higher average assets under management and higher average pricing. Our total operating expenses, which exclude stock-based compensation and depreciation, decreased 8% to $11.1 million from $12.1 million, primarily due to lower levels of compensation-related expenses. Our operating loss decreased 27% to $4.8 million from $6.6 million. Our operating expenses and operating loss are the key metrics we use to measure the financial health of our business and our operating loss is a good approximation of our cash burn. Our net loss on a GAAP basis was $8 million, down 18% from $9.7 million in the first quarter. Let me emphasize that we are committed to decreasing our operating loss quarter after quarter until we reach breakeven. Now let's review the key drivers to our business. Our revenues are primarily driven by our average…

Thank you Amit, thank you Bruce. A summary and then we will open this up to questions. Wisdom Tree is the only publicly traded pure play ETF sponsor. We have a highly scalable business model. We are proven innovators. We have a very experienced management team and advisory team. Our goal as a public company will be full transparency in its operations and its financials, and again we have no debt and a solid balance sheet. With that, let me open it up for questions.

Your first question comes from Dan Weiskopf – UBS. Dan Weiskopf – UBS: I have to compliment you on your transparency. Going from what we are used to, to this, it is almost like coming out of the closet. Thanks. My question is there are about $5 billion in currency ETPs available in the marketplace now. Can you speak to how Wisdom Tree’s product ETF is better than what is out there currently? You probably should outline a little bit further what you mean by 40 Act.

Thanks for your question, Dan. Bruce, why don’t you take that please?

The advantages of the currency fund, we think there are a number of them. First of all, the structure allows us to get into some currencies that have never been available. So we have introduced the Indian rupee, the Chinese Yuan, the Brazilian real, things that were difficult to do and we access those markets with forward contracts. When we compare ourselves to a product that already exists in the marketplace, going head to head, so we have a product called EU, which is our euro fund, and there is a pretty active product out there already, FXE that Rydex has, which is their euro product. When we go head-to-head, the comparison is we will invest directly in the underlying instruments. In this case, the European denominated government paper, in that product you are in a J.P. Morgan overnight bank account. So you have 100% credit exposure to J.P. Morgan, they are a good credit but perhaps not as good as the European governments. From a tax perspective, we have as a 1940 Act mutual fund, a registered investment company, we get long-term capital gains treatment. So if you had a 20% gain in the euro in our product from the currency itself, you get long-term cap gains from it. If you had it on the FXE, you would pay income rates. Additionally, I said before that we came out under the SEC's active mandate. This really allows us to tap the potential and the expertise of Dreyfus. Dreyfus is essentially managing short-term cash instruments for us with a 30-day weighted average maturity. And as a result, we are going to get a higher yield than you would get in that J.P. Morgan bank account, probably about 35 basis points higher. On a fee perspective, I think we're slightly lower. So all in all, we think our structure gives you better protection from the credit risk, the best taxation possible, the highest yields one can get and we have brought them at low fees. It is something that is going to play out over time where we are head to head, but it also allows us to enter these new markets where others cannot go. Now, I haven't really talked about the note structure. I would just suggest, it is a similar kind of discussion there. You have 100% credit risk of the issuing institution and I would say those typically come out at even higher fees. Dan Weiskopf – UBS: Can you talk about your distribution channel? You are breaking it up and most people in the ETP market seem to be just doing feet on the ground. You guys seem to be trying to get some leverage from different distribution channels. How have you tried to focus that? The 401(k) market is different than the retail market.

Certainly there is a theme running through everything that we do of trying to do things where we are good at them and leverage others where others can do them better. We have our own existing salesforce, 30 people doing sales and marketing and we're out there every day much like other ETF sponsors in various channels like the warehouses, talking to the brokers at Merrill Lynch and Morgan Stanley and others. We're talking to the registered investment advisers, we're talking to the hedge funds. We're talking to the pension community. In the case of the currency products, we have a nice relationship with Dreyfu,s where we are lead sharing with each other. Certainly the relationship over time will grow. But we feel very good about our ability in two years to get the Wisdom Tree brand to a level where people have good feelings about it. We obviously, over time, would intend to add more distribution people but we have made really quite good inroads in two years. Dan Weiskopf – UBS: Your balance sheet, why is it that you have three lines basically for cash and investments? One is below the line.

It is primarily just classification of our balance sheet. Some of it is long-term and some of it is short-term, so if it is long-term dated investments we will classify that as under the bottom of the line as you call it, in long term. And if its maturing in one year or less it will be in the short term. Dan Weiskopf – UBS: And none of the capital is restricted?

No, absolutely not. Dan Weiskopf – UBS: Thanks guys.

Our next question is coming from Steven Green with Ordnance Capital. Please go ahead.

Congratulations guys on navigating a very tough environment especially in equities. That said, I know you guys sold stock two years ago at, I think, it was $3.00 a share. Have you been approached by other companies to buy portions of the company, or would the company be for sale. I know a lot of people, such as, I don’t know, Putnam and other people are looking for maybe an ETF strategy, would you be open to selling the company?

I take that. Thank you Steven for that question. There has been a lot of speculation about Wisdom Tree. I can understand that speculation, we do believe that Wisdom Tree would make an attractive acquisition target. It is a fact that there are very few ETF sponsors, so we are scarce commodity. There is also a growing belief that if you are traditional asset manager and you don’t have a vibrant ETF platform, you will eventually be left behind. As a CEO of a public company, I have an obligation to all shareholders to take these types of inquiries very seriously. And I do take these responsibilities very seriously. Also as I said earlier, management, the board, and all the employees of the company own substantial stock in the company so we are all fully aligned with you, the shareholders. Let me end this with one last point, we do value our independence. We do believe we can achieve our goals as a stand-alone company. Wisdom Tree was built on a simple vision; serve investors with great products, marry a revolutionary idea, fundamentally weighted indexes to a revolutionary structure, the ETF. Our ambitions from the very beginning was not to get to the 5 billion but to get to $50 billion and beyond. So our goal is to become a great asset management company. I hope that answers your question Thanks a lot, it does. I have one question for Bruce. You spent a lot of time obviously building iShares, can you compare your experience of that with where Wisdom Tree is today and how you see Wisdom Tree scaling to, like Jona mentioned, to $50 billion and beyond. One add on question to that is, this should be a good time for Wisdom Tree in terms of building their…

Thank you very much and good luck.

Our next question is coming from Jeffrey Whithorn with Gilman Hill Asset Management. Please go ahead.

Sales as a percent of revenues, as you mature or stabilize or wherever reach profitability, should be what percent? My second question, I believe other than AIG helping you distribute some shares, I thought you had another working relationship with them where they're going to help garner assets for you. If I'm correct with that, and I'm not sure that I am, has that been successful or not? And last question, when will you leave the world of pink sheets and get on another exchange? Or is that a matter of when we're closer to reaching profitability?

I will take the first two and then I will flip it back to John for your third question about the listing. Your first question was I think, our sales effort as a percent of revenue and what that might be over time. It is a little difficult to give you an exact figure and we are not really going to forecast for you, but we have a team in place that we feel we can gather lots of assets with and again, we would not expect it to grow by leaps and bounds going forward. There are about 30 people. There are plans to add a few more at the margin, but we would expect this to grow relatively slowly. This is part of what Wisdom Tree is thinking in terms of getting this thing to profitability quickly. We have tremendous operating leverage in the company in the sense of, we have now built an infrastructure that can handle multiple billions more than we have today without adding a lot of costs. I think that will start to play out in the numbers. Your second question I think was about AIG, about a distribution relationship. We don't actually have anything formal with AIG. They came in as an arm's-length investor. We have a nice relationship with them. Win Neuger sits on our board and he is a real great addition to us. We have been talking with them about potential things to do over time, and we would welcome the opportunity to do something. The deal we actually did was with ING, the Dutch insurance company and that is in the variable annuities space. We are talking with others. We are looking for ways to leverage our intellectual property that might include doing deals with non-US insurance companies. On pension side for the licensing business, we have had discussions with large pension funds around the world, Sovereign Wealth Funds, so there are really a lot of opportunity still. We are hopeful that Wisdom Tree is just getting going.

I'll answer your question about listing. We announced in the spring of 2007 that we intended to list last year on NASDAQ. However, as the market declined so did our stock price and we're no longer eligible for listing. The NASDAQ requires at least a $4 stock price and that is really the last hurdle for implementing a NASDAQ listing. So as we can get to that point, we will list.

One last thing, has Mr. Steinhardt sold any shares?

He had sold about 140,000 shares last year out of his 34 million shares. But this year in some of our open trading windows he was a buyer as were a number of our employees. Since we are not a fully reporting company those buying were not reported. What I think is most bullish from my standpoint is many of the employees that were buying were actually in the sales team, who have the greatest day-to-day contact with our customers.

Your next question comes from Mosel Katzter with J. Alden and Associates.

Thank you. I'm calling over the Internet. Hopefully you can hear me. I think Invesco bought power shares. Has that purchase been very helpful to the power shares business? My other question is, how much harder or easier is the next $5 billion under management than the first $5 billion?

I think I heard you at the beginning, Invesco bought power shares and what impact has that had? It is difficult for us to tell. We hear different things. It is very difficult for a traditional mutual fund distribution force to be married with the ETF distribution force just simply from a compensation perspective. Traditional mutual funds have a commission system and it is very easy to track the sale. In the case of an ETF you can't track the sale and it’s a different system. So it is very difficult to ask one salesperson to represent multiple products where they can track one and they can’t track others. It is hard pressed to pine on that.

The second part of the question was, if I remember correctly, is the next $5 billion easier than the first $5 billion? Before I answer that, let me just say one last thing about your question about Power Shares and their acquisition and did the combined entity enhance their ability to sell? Just from a factual standpoint, year-to-date with less than half of the products, that we did take in more assets in creations. In terms of the second $5 billion being easier, there is no question about it. I think one of the points that I want Wisdom Tree to be recognized for, not only are we building an asset manager, but we are also building the full infrastructure of the company. If you go back three years ago, we were three people and a business plan and $500 in the bank. We have had an immense amount of success. So we are building the corporate infrastructure and the active manager simultaneously. It is going to be much easier going forward than it has been in the past.

I would just add to that, very importantly we are building our track record and so we now have different ways to get our intellectual property out in the market. I mentioned the emerging markets fund and that stellar performance. Certainly I would expect that we ought to be able to gain some assets in the separate account world with that as well as the ETF world. Fortunately or unfortunately, lift off is the hardest part of building an asset management business. We definitely have lift off. We still have a lot of the costs that come with lift off. You haven't seen yet, the operating leverage that comes when the assets and the revenue starts increasing rapidly and the cost base increases very slowly.

Thank you. I will now turn the floor over for our web portion.

We are going to take a question from Charles Sharad from Raymond James. He would like you to discuss the prospects of your newest Middle East fund, GULF. In the room with us I have our Director of Research, Luciano Siracusano, one of the founders actually of Wisdom Tree. Luciano, why don't you take this question?

Thank you John. GULF is our Middle East dividend fund and it is designed to track the Wisdom Tree Middle East Dividend Index, which takes the hundred largest companies in the Middle East region by market cap, by dividend. The goal is to give investors in the US access to a difficult part of the world to reach, and an equity market that historically has not correlated very high to the S&P 500. In fact, it is one of the lowest correlating parts of the world left to invest in, in equities. What we have seen this year in 2008, is basically a trend of rising oil prices, rising gas prices and declining stock prices. The one part of the world that has really shown relative strength has been the Middle East region. So we think this particular fund, GULF, at 88 basis points is a very attractive product to get broad exposure to the region in the ETF structure, owning principal to local shares using Wisdom Tree's fundamental weighted methodology.

Let me just add one thing to Luciano’s answer. In a generalization, we would say that the less efficient the market the better fundamental weighting works. These are very early stage markets from a capital market standpoint. The dividend weighted approach is a very conservative way to enter what is really a frontier market.

We're going to take one more question, two questions from a single individual, Jeff DeLay from PNC. The first part of the question is, how successful is the product offering to the Chilean pension fund? The second part is, when do you expect to turn a profit?

What we did in Chile is we registered our funds for sale, I believe it was roughly the end of last year. They are now available for purchase by the Chilean pension funds. We have seen some sales go through. I don't know the exact amounts. I wouldn't say they are overwhelmingly large. This is the start of Wisdom Tree working throughout Latin America. We have a group in Santiago that represents us. We would intend to expand our distribution to Mexico, perhaps Brazil at some point. It is very early days for us there. They like ETFs, they like Wisdom Tree's approach as a general rule and the Chilean market is a very strong market that is increasing its allocations outside of Chile.

As far as the profitability question, it is very difficult for us to predict when we will become breakeven. There are a lot of variables to that, obviously the most major one is our revenues, primarily based on what is going on in the markets. It is very difficult for us to predict what is going to happen in the market. Also our expenses there, there is a variable component of our expenses are based on the number of assets that we have, the mix of our assets. Because of all of those factors it is very difficult to predict when that will happen. Let me just stress again that the company management here is very focused on closing the gap between our run rate revenues and expenses so we can get to cash breakeven as soon as we possibly can.

I would just add to that, I don't want to suggest that we have complete control over everything, but it has been a choice to continue investing in our business. We could breakeven more quickly but we don't think that would be in the best long-term interests of shareholders. Wisdom Tree is trying to put a big footprint out and I think we have been very successful at that. We're very focused on profitability, but not if it means that we are actually not maximizing the long-term shareholder value.

Your next question comes from Dan Weiskopf – UBS. Dan Weiskopf – UBS: My question has been asked. Thank you.

I will now turn the floor back over to the host.

The question-and answer session is over at this time. At this time I would like to turn the call over to Jonathan Steinberg for final comments.

I want to thank all of you for your time this afternoon. I hope this has been helpful. We look forward to speaking with you at our next quarterly conference call. Thank you.