Envestnet Inc (ENV) 2010 Q2 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Envestnet second-quarter earnings conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. If you have a question, (Operator Instructions). This conference is being recorded today, Tuesday, August 31, 2010.

I would now like to turn the conference over to our host, Mr. Chris Curtis, Senior Vice President and Treasurer of Envestnet. Please go ahead, sir.

Thank you, and good afternoon, everyone. With me on today's call are Jud Bergman, Founder and Chief Executive Officer; and Pete D'Arrigo, Chief Financial Officer.

Our second-quarter 2010 earnings press release can be found at envestnet.com under the Investor Relations section. During this conference call, we will be discussing certain non-GAAP financial information, including adjusted EBITDA and adjusted net income. This information is not calculated in accordance with GAAP and may be calculated differently than other companies' similarly titled non-GAAP information. Quantitative reconciliations of our non-GAAP financial information to their mostly directly comparable GAAP financial information appear in today's press release.

During the call, we will also be discussing certain forward-looking information. These discussions are not guarantees of future performance and, therefore, you should not put undue reliance on them. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Please refer to our most recent SEC filings as well as our earnings press release, which are available on our website, for more information on factors that could affect these matters.

This call is being webcast live and will be available for replay for one month on our website. All remarks made during the call are current at the time of the call and will not be updated to reflect subsequent material developments.

We'll take questions after our prepared remarks. With that, I will turn the call over to Jud Bergman.

Thank you, Chris. Good afternoon, everyone. I welcome you all to our first earnings call as a public company.

We are pleased to have completed our initial public offering in what turned out to be a tough capital market environment. We are also pleased to have delivered the second-quarter results just reported.

I would like to mention a few highlights. We ended the quarter with $53 billion in total assets under management or administration, and we're at an all-time high in terms of the number of advisors we are serving. Revenue for the quarter was $24.3 million, up 37% from the prior year. That drove adjusted EBITDA of $4.5 million, which was up 122% from the prior year's quarter. Gross sales of assets under management or administration during the second quarter were just over $4 billion compared to $3 billion in the second quarter of 2009.

During the second quarter, we also implemented the FundQuest business, which closed on May 1. At the end of June, FundQuest contributed $13.6 billion in assets under administration, approximately 80,000 accounts and more than 4,000 advisors.

Envestnet is a leading independent provide of technology-enabled investment and practice management solutions to financial advisors. We integrate a wide range of investment solutions and services, and provide financial advisors with the flexibility to address their clients' needs. We empower financial advisors, including RIAs, as well as larger financial institutions to better serve their clients.

Our investment management and research arm, PMC, or Portfolio Management Consultants, provides asset class selection and allocation; manager and fund research, and due diligence; portfolio construction; and ongoing overlay management. Our technology and service offerings are bundled into three distinct offerings.

First, we offer a bundled wealth management solution through Envestnet PMC, where we act as a fiduciary, conducting research, selecting managers, and constructing and rebalancing client portfolios. Advisors who utilize our bundled offering also gain access to our advisor workstation and our aggregated reporting solutions.

Our Advisor Suite is our wealth management workstation. Envestnet's Advisor Suite enables advisors to follow a fiduciary process and includes asset allocation, proposal generation, accounts automation, portfolio management, trading, rebalancing, billing administration, and fully aggregated reporting solutions.

And finally, we offer Envestnet's Reporting Solutions as a standalone offering, where we provide multi-custodial, aggregated, fully reconciled, and trade-ready Reporting Solutions to advisors and their clients.

Assets Under Management, or AUM, include assets invested with us as well as third party strategists who perform a similar role. For Assets Under Management, we charge basis points on the assets, and our sub-advisor fees and other direct costs vary with the level of assets.

Assets Under Administration, or AUA, include assets within Reporting Solutions and our Advisor Suite. For AUA, we generally also charge basis points on the assets, although in some situations, we have entered into license agreements which provide access to some or all of our platform technology for an ongoing licensing fee.

With that as an overview of our business, there are three points I would like to discuss in this call. And they are, first of all, that the ongoing evolution of the wealth management industry drives a large and growing market opportunity for Envestnet. Second, we believe we have substantial organic growth as well as strategic growth opportunities ahead of us. And third, we have an operating model that generates growth in recurring revenues, growing cash flow, and operating leverage.

To expand on the first point, with respect to the evolving wealth management industry, there are a number of powerful trends, which we believe we not only benefit from, but we also enable. And these include an increasing use of financial advisors by affluent and high net worth investors as they near retirement and find more complicated financial situations.

Second, a growing number of advisors who choose to be independent. Also, there's an expanded use of fee-based solutions rather than commission-based products. And more advisors are relying on technology to support their front, middle and back office administrative needs. And finally, there is an important shift toward the fiduciary standard of care for clients as opposed to the suitability standard of care.

We believe these trends will continue. Envestnet has been and we believe will continue to be a beneficiary of these trends, because we enable advisors to be independent, to follow the fiduciary process, and to better serve their clients.

We started the firm in 1999 with a simple idea -- we wanted to level the playing field for the small, independent advisor so they could compete more effectively against the larger brokerage firms. What we've heard from advisors who use our platform is that we've not only leveled the playing field, but, in fact, have begun to tilt it to their advantage. We serve the fastest-growing channels in terms of advisor growth within the wealth management industry.

The majority of our advisors work for or are themselves registered investment advisors or independent broker/dealer representatives, or are duly registered advisors. We also work with a large number of advisors who are representatives of the brokerage subsidiaries of insurance companies and banks.

Second, regarding our plans for growth, our organic growth strategy is straightforward -- we grow by increasing the number of advisors using our platform and by doing more business with each of them. We've been executing this core growth strategy for nearly 10 years. We gain new enterprise agreements and begin to work with advisors. As advisors come on to the platform, they bring accounts. Those accounts contain assets. And we typically get paid on the assets under management or administration.

We also expect that from time to time, organic growth will be accelerated by major conversions or strategic transactions. A primary reason for the IPO was to create the resources and currency that would enable us to accelerate our organic growth through selective acquisitions. We have been historically successful in identifying and implementing transactions that have complimented our business and allowed us to compete more effectively.

The acquisitions of PMC in 2001, Net Asset Management and Oberon Financial Technology in 2004 are some such examples. A more recent example would be the FundQuest transaction, which we completed during the most recent quarter. Because of our scale and operating leverage, that business was immediately accretive to us.

Now, we don't expect that major conversions or strategic transactions will occur every quarter. However, the opportunities we see for both of these kinds of accelerators are currently larger than we've historically seen.

Finally, my third point is regarding operating leverage. We believe that our scale and our operating margins will allow us to grow earnings faster than revenues over the foreseeable future, though this may vary from period to period.

In the second quarter of 2009, by example, our adjusted EBITDA margin was just over 11%. In the second quarter of 2010, on higher revenues, our margin was just over 18.5%. As our business grows, we believe we have the opportunity to continue to expand our margins. And to grow, we will continue to focus on adding value for advisors, which we believe will create value for our shareholders.

I would like to turn it over now to Pete D'Arrigo, our CFO, to discuss more detailed financial information.

Thank you, Jud, and good afternoon, everyone. Let me begin with a high level overview of our revenue model.

The majority of our revenues are derived from fees charged as a percentage of the assets that are managed or administered on our wealth management platform by financial advisors. These revenues are reported as revenues from Assets Under Management or Administration, which we call AUM or AUA. Our asset-based fees vary, based on the types of our investment solutions and services that financial advisors utilize. These fees accounted for approximately 77% of our total revenues for the three months ended June 30.

For a small number of large clients, we generate revenue from contractual licensing fees for providing access to our wealth management platform. These revenues are recorded under revenues from licensing and professional services. Licensing fees are generally fixed in nature for the contract term, and are based on the solutions and services provided rather than on the amount of client assets. We also earn professional services fees for software development work.

Licensing and professional services fees accounted for 23% of our total revenues for the second quarter. For over 90% of our revenues from AUM or AUA, we bill quarterly in advance, which means we bill customers at the beginning of each quarter based on the market value of assets as of the end of the prior quarter. For example, revenues from AUM or AUA for the second quarter are largely based on the market value of such assets as of March 31. Therefore, there is a high degree of visibility in our current quarter revenues.

With that as a backdrop, let me discuss our results for the second quarter of 2010. Total revenues increased 37% to $24.3 million from $17.7 million in the second quarter of last year. The increase was primarily due to an increase in revenues from AUM or AUA, which grew 49% to $18.7 million from $12.6 million in 2009. The increase in revenues was also due to the implementation of FundQuest.

New account growth and positive net flows for AUM and AUA resulted from continued success, increasing the number of advisors and accounts on our wealth management platform. The number of advisors with client accounts in AUM or AUA increased to 12,871, up from 7,834 on June 30 of 2009. And the number of AUM or AUA client accounts increased to approximately 275,000 from approximately 163,000 a year ago.

Two additional points from the second quarter -- licensing and professional services revenues increased 8% to $5.5 million compared to $5.1 million in the same period a year ago. Cost of revenues increased 40% to $7.7 million from $5.5 million last year. Cost of revenues include the sub-advisory fees we pay to managers of funds that are included in PMC's investment solutions, as well as clearing custody and brokerage costs. These costs are primarily assessed in basis points on the underlying assets and they vary with the level of assets under management.

Compensation and benefits increased 34% to $9.2 million from $6.8 million last year, primarily due to an increase in salaries and commissions of $1.7 million related to an increase in headcount to support the anticipated growth of the business. General and administrative administration expenses increased 43% to $5.1 million from $3.6 million in 2009. However, of the $1.5 million increase year-over-year, $1.1 million was due to an increase in legal fees related to a litigation. We expect that our litigation-related expenses will decrease meaningfully in the future, as the litigation in question was settled in early July.

On a non-GAAP basis, adjusted EBITDA increased 122% to $4.5 million from $2 million a year ago. We believe adjusted EBITDA is a good fundamental measure for how our business is performing, as we make adjustments for non-cash and nonrecurring items. Adjusted net income increased 190% to $1.8 million from $600,000 for the second quarter of 2009.

I also want to provide a little more detail on the FundQuest transaction. In connection with this transaction, we agreed to make various payments to FundQuest during the seven-year contract term. We made an initial payment of $10.3 million on May 1. We'll make a series of annual payments, and then a final payment at the end of the fifth year, based on the average annual revenue we receive from the FundQuest business during that time period. Our current estimate of the present value of all payments is approximately $28.7 million.

We also issued FundQuest a warrant to purchase approximately 1.4 million shares of our common stock, with an exercise price of $10.80, a 20% premium to our initial public offering price of $9 per share. At June 30, the warrant had estimated fair value of $2.9 million.

Consistent with US GAAP, we account for the payments of the warrant collectively as customer inducement costs. And we amortize them as a non-cash reduction to our revenues from AUM or AUA on a straight-line basis over the seven-year term of the agreement. Based on our current projections, the revenues we recognize under this agreement will be net of approximately $4.5 million annually in amortization of these customer inducement costs. Additionally, we expect to recognize approximately $750,000 of imputed interest expense annually during the term of the agreement.

And finally, I'd like to provide a few additional points. We ended the second quarter with nearly $23 million of cash and cash equivalents. Net proceeds from the IPO, including the overallotment, will increase our cash by approximately $42 million. We invest our cash in highly-liquid, low-risk investments, and our current yield is currently below about 20 basis points. As Jud mentioned, we intend to accelerate our growth through selective acquisitions and other transactions, and accordingly, we do not invest in higher yielding investments with longer maturities.

One item that will not be a significant use of cash in the near-term is taxes. We have approximately $38.9 million of net operating loss carryforwards for federal income tax purposes, represented by a net deferred tax asset of approximately $13.2 million at the end of the second quarter. For most jurisdictions, we are not a cash taxpayer today, nor will we be until we exhaust our NOLs. For our GAAP tax provision, we expect our tax rate to be around 41% in the near-term.

Total common shares outstanding at the end of June may be a little confusing, as the $14.1 million diluted shares reported exclude the common equivalents from preferred shares that were outstanding prior to our IPO. All preferred shares outstanding converted to common shares at the time of the IPO, after the conversion of the preferred stock and exercise of the underwriter's overallotment option, we have approximately 31.3 million common shares outstanding.

Potential dilutive shares as of today include approximately 5.1 million of stock options at a weighted average exercise price of $7.60, and the warrant issued to FundQuest to purchase approximately 1.4 million shares of common stock at an exercise price of $10.80. I'll point out that these are not the dilutive effects from options and warrants, but instead, the gross numbers that would be used under the Treasury stock method to calculate the dilutive effect for any given period.

I'll close by reiterating that, over time, we expect to grow the business through a combination of organic growth driven by favorable industry trends and opportunities for strategic activity to accelerate that growth. We also believe our scale and operating leverage should allow us to grow earnings faster than revenues.

With that, we thank you for joining the call today and we'll open it up and turn it back to the Operator for any questions.

(Operator Instructions). David Grossman, Stifel Nicolaus.

I was wondering maybe if you could update us on the pipeline of some of the larger enterprise clients you may be looking at or the conversions? And perhaps maybe what some of the catalysts may be that either accelerate or perhaps even stall those types of deals over the next several months?

David, you're asking to provide some color on some of the larger enterprise conversion opportunities?

Yes, the pipeline, exactly.

We're not going to get into any specifics on specific opportunities. What we will say, though, is that the drastic market correction in late 2008, and then again in 2009, created an environment where many of the larger broker-dealers and larger RIAs just did not make changes to their platform or did not make any major changes to how they were delivering technology solutions to their advisors. We saw that back in the 2002/2003 timetable as well.

As markets stabilize, we have found that the deferred changes that have to happen begin to back up. And that's what we're seeing right now. So what we are communicating and why we're communicating it is that we expect that beginning later this year in the fourth quarter, and then over subsequent quarters in the first and second quarter of 2011, that we will have conversion activity and net flows that are higher than what is our normalized organic growth rate. And that we are communicating this in advance so that there is no misperception or extrapolation that this now is our new and sustainable organic growth rate.

So the kinds of things that make that happen are, over time, advisors are looking to integrate their wealth management offering, their wealth management platform, and there are a number of conversions that are in our pipeline because of that. We expect that those will begin to be implemented later in 2010 and throughout the first half of 2011.

What could accelerate those kinds of things? Adoption of a fiduciary standard across the business, which we do not expect, could accelerate some of those conversions. What could slow those down? Internal choices made at the broker/dealers or the RIAs, or priorities other than pursuing those conversions could have an effect on the timing. But we expect that the timing of these conversions will be a benefit to our business beginning, as I said, later this year and throughout 2011.

Great. Thanks very much for that. And just one other question, just on, I guess, the cost of revenue. Is there anything changing that you've seen in the mix that would -- the asset mix or service mix, that would make us think differently about the cost of revenue, as we go into the second half of the year, as a percentage of revenue?

Let me address that, this is Jud. And then if Pete has anything to add.

We report Assets Under Management or Administration as a single category, and also, the revenue from that. The Assets Under Management have a couple of things that are going on in it. And I would say that while all of the product offerings -- that is, ETF portfolios, mutual fund portfolios, separately managed account portfolios, are all growing, it's the ETF portfolios that are growing faster than the mutual fund and separate account portfolios.

So they do have some differences in the cost of goods sold associated with it. They generally have lower gross revenue; lower cost of goods sold, or sub-advisory fees; they typically have no custodial fees associated with them; and then they're typically slightly lower than the separate account net revenue, if that is generated.

So within AUM, there is a continuing product shift; although SMAs, ETFs and mutual funds are all growing, it's the ETFs that have, in the last six months, grown fastest and we expect that that may continue. And then within the Assets Under Administration side, we have begun to offer, over the last year, our Reporting Solutions as a standalone offering. So, the Reporting Solutions that we offer tend to be at the lower end of the basis points for our Assets under Administration.

We expect that we're going to continue to grow our core offering at the rates that we have been offering; we've been experiencing that in the past. And we expect that we're going to continue to offer the Reporting Solutions and that will grow off of a smaller base.

So does that have a net -- is it a net impact of that, Jud, to lower the cost of revenue as a percentage of AUM and AUA?

Yes. The cost of goods that are attached to that AUM/AUA line should decline as long as these trends continue.

Very good. Thank you.

I would just add -- in the next couple of quarters, we'd expect that percentage of cost of revenues as a percentage of total revenues to kind of stay in that low 30's percent, in that range. No real dramatic shifts, but (multiple speakers) --

No dramatic shifts in the near-term, but over time, we would expect that -- we would expect the trends we're seeing now will continue.

Good. Thank you.

(Operator Instructions). Mr. Bergman, there are no further questions at this time. Please continue with any closing remarks you may have.

Well, all I really had intended to say was thank you for joining us on this call, and we look forward to doing this again in the future. And we appreciate the participation in today's call. Thank you.

Ladies and gentlemen, this concludes the Envestnet second-quarter earnings conference call. Thank you for your participation. You may now disconnect.