Virtus Investment Partners Inc (VRTS) 2011 Q2 法說會逐字稿

Good morning. My name is Onika and I will be your conference operator today. I would like to welcome everyone to the Virtus Investment Partners Quarterly Conference Call. The slide presentation for this call is available in the investor relations section of the Virtus website, www.virtus.com. This call is also being recorded and will be available for replay on the Virtus website.

At this time, all participants are in listen-only mode. After the speakers' remarks, there will be a question-and-answer period and instructions will follow at that time.

I will now turn the conference over to your host, Joe Fazzino. Please proceed.

Thank you, Onika. On behalf of Virtus Investment Partners, I would like to welcome you this morning to the discussion of our operating results for the second quarter of 2011.

Before we begin, I direct your attention to the important disclosures on page two of the slide presentation that accompanies this webcast.

Certain matters discussed on this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not statements of facts or guarantees of future performance and are subject to risks, uncertainties and other factors that may cause actual results to differ materially from those discussed in the statements.

These statements may be identified by such words as expect, anticipate, believe, outlook, may and similar terms.

For a discussion of these risks and uncertainties, please see the risk factors in management discussion and analysis sections of our periodic reports that are filed with the SEC, as well as our other recent filings, which are available in the investor relations section of our website, www.virtus.com.

In addition to results presented on a GAAP basis, Virtus uses certain non-GAAP measures to evaluate its financial results. Reconciliations of these non-GAAP financial measures to the applicable GAAP measures are included in our earnings press release, which is available on our website.

For this call, we have a presentation, including an appendix that is accessible with the webcast through the investor relations section of virtus.com.

This morning's call will begin with the remarks from President and Chief Executive Officer, George Aylward, who will review some of our accomplishments during the quarter. Mike Angerthal, Executive Vice President and Chief Financial Officer, will then discuss our financial results before we open the call to questions.

Now I would like to turn the call over to George.

Thank you, Joe, and good morning, everyone. We appreciate having you on the call with us today.

This morning, I will begin by reviewing the quarter's financial results, then I will discuss several recent accomplishments. Mike will discuss the financial results in more detail and then we'll open up the call to your questions.

The second quarter was a very strong quarter in terms of sales, flows and operating results and it is also an important quarter in that it provided evidence supporting some of the key themes we have talked about. Those being the sustainability of sales, the impact of growth on earnings, future growth opportunities and the advantages of our model.

So let me address each of the four points. First the quarter demonstrated our ability to sustain a strong level of sales and flows. With another quarter of strong sales and flows, we have demonstrated the sustainability, which is driven by the breadth of our product, the strong relative performance of our funds and our ability to successfully sell to a broad set of intermediaries.

Second, it showed the impact of strong sales on current and future earnings. As we've indicated before, the sales costs related to the strong level of sales, relative to our asset base, has a short-term negative impact on earnings, but lays the foundation for future profitability.

In the second quarter, we realized the earnings and profitability related to previous consecutive quarters of strong net flows and, for example, operating net income as adjusted grew to $10.3 million and our operating margin as adjusted grew to 28%, even as we continued to experience the same strong level of sales in the quarter.

Third, the quarter demonstrated that we have additional future growth opportunities. The closed-end fund that we launched last week at Duff and Phelps is an indication that there are additional growth opportunities for us beyond the strong growth of our open-end funds and we are actively pursuing them.

And the fourth and final point, we reaffirmed some of the advantages that our multi-manager business model has to offer. We can leverage our existing infrastructure and distribution when we have an opportunity with a new team or a new firm, as we demonstrated with the Newfleet multi-sector team.

Our model as a collection of boutique managers makes us an attractive home for a new team that wants to focus on what they do best, which is manage assets, and be supported with very strong distribution and operational resources.

I believe it's important to think of this quarter, not only in the terms of our continued strong sales and results, but also in terms of the potential impact of these additional opportunities.

So let me start by reviewing sales and flows in the second quarter. As we've demonstrated for the past several quarters, we, again, had very strong total sales, driven by the sales of our mutual funds. We've now had four consecutive quarters that each set records for the company in terms of gross sales, fund sales and net flows. Total sales were $2.6 billion in the second quarter, a continuation of the strong levels from the first quarter and an increase of 135% from $1.1 billion in the second quarter of 2010.

We had another impressive quarter of long-term open-end mutual fund sales. In the second quarter, mutual fund sales were $2.4 billion, an increase of 9% from the $2.2 billion in the first quarter. With $5.2 billion of sales for the first six months of the year, we have already exceeded our long-term mutual fund sales for all of 2010.

The strong mutual fund sales in the second quarter, once again, demonstrated that we have a range of products that have competitive relative performance and meet investors' needs and that we can effectively distribute the products. Sales were balanced among the sectors, with the strongest demand in the marketplace being domestic equities, international equities and taxable fixed income strategies that are most attractive to investors.

Additionally, our investment strategies continue to deliver solid relative performance. We look at several absolute and relative measures, such as fund ratings of three-year performance when we evaluate our investment managers. And they have produced results that stack up against any competitor.

At June 30th, 67% of our retail mutual fund assets were in the top quartile of their peer groups, with 84% of long-term retail mutual fund assets in the top half of their peer groups.

Positive net flows drive the earnings of the business and in the second quarter we, again, had great results. We had total positive net flows of $1.5 billion, primarily from long-term mutual funds sales. That was an increase of 8% from the first quarter. In fact positive net flows for this quarter alone nearly equaled net flows for all of 2010. Our positive net flows continue to be driven by strong sales, coupled with very low levels of redemptions.

With this level of sales and net flows, the organic growth rate for the long-term open-end funds increased in the second quarter to 48% from the already very high rate of 45% in the first quarter. And to put our sales growth in context, our mutual fund organic growth rate continues to be significantly higher than that of many of the companies in the industry.

As I mentioned at the start, one of our main themes this quarter was our ability to generate increased profitability, even, as we maintained a high level of sales. Operating income as adjusted was $10.3 million, which was a sequential increase from $7 million in the first quarter and nearly double our results of $5.3 million in the second quarter of 2010.

The Newfleet multi-sector team contributed $0.4 million to operating income as adjusted. Transition expenses of $3.2 million, related to the addition of the team, are excluded from operating income as adjusted.

And as I mentioned earlier, our operating margin as adjusted was 28% in the second quarter, compared with 21% in the prior quarter, which reflects the bottom line impact from the accumulated growth of the previous quarters. The increase also shows how we benefit from the leverageability of the business.

The addition of the Newfleet multi-sector team was one of two significant recent accomplishments that position us for future growth. Both of these will have an impact on our growth and profitability, so I want to spend a few minutes discussing each of them.

The first accomplishment was the addition of Dave Albrycht and the rest of the multi-sector fixed income team who joined us in the beginning of June. We established Newfleet multi-sector by hiring the team of investment professionals who had successfully managed $5.2 billion of our assets as an external subadvisor.

Dave and his team have an incredibly strong and consistent track record for many years, managing assets for our mutual fund investors in a variety of fixed income strategies. Dave has managed our largest mutual fund, the multi-sector short-term bond fund, practically since its inception. And his portfolio management skills, as well as his partnership with our distribution teams, have been vital to the fund's growth.

In fact, earlier this year, when Barron's ranked our taxable bond fund as the best performing in 2010, they explained that the portfolio decisions that Dave and the team made in the depth of the credit crisis in '08 and '09 were fundamental to the five-star rating today.

You may call that Dave and the team were part of Virtus's private spin-off in 2008, and they've always been an integral part of the company and central to our growth and success.

With the addition of this team, we've brought together three fixed income capabilities, multi-sector, core-plus and specialty as new asset fleet management, a full service, well-resourced firm that manages more than $8 billion in fixed income assets.

The addition to the multi-sector team has immediate and future benefits. As you saw in the second quarter, the team's contribution to operating income, as adjusted, was $0.4 million for June, excluding the transition related costs. Going forward, we will retain the 25 basis points of subadvisory fees that were previously paid to the unaffiliated subadvisor on the assets managed by the multi-sector team. And Mike will provide further detail on the financial implications.

Having the multi-sector team as an affiliated manager also gives us options that may not have been feasible in the past, including opportunities in the institutional market as well as with new products. The addition of the multi-sector team also demonstrates the flexibility of the business model. The platform nature of our business allows us to add a new capability that could take advantage of our share distribution and other resources. And this is very attractive to a team and further leverages our business.

I want to emphasize that the multi-sector team does not signal any change to our model of employing select subadvisors as well as our affiliated managers. We will continue to focus on offering the best products that are relevant to the changing needs of investors, and we will continue to access institutional-quality investment capabilities from the best managers available.

We are very pleased to have the multi-sector team back and I'm personally very happy to welcome Dave back to Virtus.

Finally, while there's no impact on the second quarter results, I do want to talk about the new Duff and Phelps Global Utility Income closed-in fund that was launched last week. We are very excited with the results of the new fund. The IPO raised $735 million, excluding any exercise of the over-allotment or use of leverage.

EPG was a tremendously successful launch and the second closed -- the second largest closed-end offering this year. To put that raise in perspective, there have been 42 closed-end funds since the beginning of 2009 and only four funds, two being very popular MLP funds and two from one of the largest issuers in the closed-end market. Those are the only ones that were bigger than our raise in that period.

The closed-end fund effort took advantage of several facets of our business, particularly our investment management and distribution capabilities. Duff and Phelps Investment Management has more than three decades of expertise in the utility and energy and infrastructure sectors and is experienced in closed-end funds.

With DPG, we leveraged Duff's capabilities to address the needs in the market. Investors are looking for more yield, but they may not be getting it from the usual sources, such as treasuries, munis, corporate bonds and after getting burned a few years' back, they may not have the same appetite for exotic products.

Utilities, telecom companies and MLPs have been among the higher yielding sectors and offer an alternative for generating yield.

For DPG to be successful, we also needed to reach FAs to raise assets. And while we have not created a new closed-end fund since our spin-off and have not really been known in that market, we have to use our long-term relationships with many firms to establish a very strong and deep syndicate. And as a result, more than 60 firms participated in the launch and we had a tremendous response to the product.

If you've been on these calls in the pass, you may have heard me say how much I like the closed-end funds business, with its sticky assets and its dependable revenue stream. Let me say this. After raising $735 million per DPG, I like the closed-end fund business even a little more today.

As a reminder, the fund in -- the fund closed on July 27th, so there was no impact on this quarter's results, but let me review the impact we will see beginning of the third quarter.

First, raising new assets always has a cost. And for closed-end funds, it is primarily in the form of structuring fees and sales and incentives. Unlike open-end fund distribution costs, closed-end fund structuring fees are paid up front at the time of issue. And the structuring fee for the IPO is approximately $9.6 million.

The net management fees of this fund will initially be 75 basis pints, increasing to 100 basis points over a period of time. The management fee is on total managed assets, including the over-allotment and leverage, if any.

Overall, this was a very successful opportunity to leverage two strengths of the company, our investment management and distribution resources to further grow our business.

The DPG offering showcased to many new investors the expertise and terrific capabilities we have at Duff and Phelps. It also gave our wholesalers an opportunity to talk with hundreds of new FAs, including those who may not have been familiar with Virtus or our products, or those who focus primarily on closed-end funds.

And they all certainly know us today, which can only help us and our partners as we generate new ideas about prospective closed-end funds for other products.

With that, let me ask Mike to review our results in more detail and provide additional insights into Newfleet. Mike?

Thank you, George, and good morning, everyone. Today, I will give you some additional perspective on the second quarter results, starting with the key metrics of sales, flows and assets. Then I'll review our operating results, including the impact of the addition of the Newfleet multi-sector team. And finally, I'll discuss our capital position.

Let's begin with slide nine, assets under management. AUM ended the quarter at $33.3 billion, up $1.4 billion, or 4%, from the end of March and up $8.2 billion, or 33%, from on year earlier. The growth in assets from the prior year was weighted equally between net inflows and market appreciation with each contributing $3.9 billion to AUM growth.

On a sequential basis, the primary driver of our asset growth was organic net flow growth. Positive net flows of $1.5 billion contributed to three times the AUM growth, compared to the $0.5 billion from market appreciation. The market growth offset a $0.6 billion decline in cash management strategies. Cash management assets, which are low-fee products, ended the quarter at $2.8 billion, down 18% from the prior quarter.

As a result of the strong sales in long-term open-end mutual funds and the decrease in cash strategies, the percentage of equity assets increased to 52.5% of assets at June 30th. Fixed income assets increased to 39.1% of AUM and cash assets are now below 10%. The ending asset level and the high percentage of equity assets are strong indicators of increasing fee rates on the current AUM base.

The next slide provides detail on asset flows. And I'll start with gross sales and net flows for the quarter. Gross sales, which is shown on the upper-left bar chart, remained at the very strong level that we achieved in the prior quarter, and we have now had two consecutive quarters with more than $2.6 billion of sales.

As with the past several quarters, total sales were driven by long-term open-end mutual fund sales, which were $2.4 billion in the second quarter. That was an increase of $200 million, or 9%, from the $2.2 billion in the first quarter.

The annualized sales rate for the quarter was 72% compared with 76% in the first quarter. What is particularly important to see in this chart is the continued positive net flow trends. We have now delivered positive net flows for nine consecutive quarters.

Total net flows were $1.5 billion in the second quarter, a sequential increase of 8% from $1.4 billion in the prior quarter. As you notice in the table below the chart, in addition to the strong quarterly sales, the modest 14% redemption in the second quarter contributed to net flows.

Flows increased by 24% for our long-term open-end mutual funds and were $1.6 billion this quarter, up from $1.3 billion in the first quarter. The increase in the flows reflected both the $200 million of increased sales as well as $117 million of lower redemptions versus the prior quarter. The sequential improvement of redemption rates to 23.8% this quarter from 31.3% in the first quarter was the result of lower redemptions across all of our products.

Our overall organic growth rate remained at 19.2% for the quarter, and for our long-term open-end mutual funds, the organic growth rate increased by 350 basis points to 48.3%, up from 44.8% last quarter.

These strong sales are a reflection of the strength of our distribution efforts and the solid performance of our fund assets. At June 30th, 81% of our long-term open-end fund assets were rated four or five stars on the load-weight basis and 93% of assets were in funds with three or more stars.

Sales this quarter continued to be fairly balanced among domestic equity, international equity and taxable fixed income strategies. And the drivers of flows continued to be the premium alpha-sector fund, that benefited from a sales campaign in the quarter, our emerging markets fund, which continues to be a strong performer, and our multi-sector strategies, which are now internally managed.

Management fees earned on new assets increased by approximately one basis point from the prior quarter to 43.1 basis points, which was one of the drivers leading to the increase in the average net management fees earned, to 44.2 basis points, from 44 basis points in the first quarter.

Overall, our domestic equity strategies represented 46% of fund sales in the quarter. International equity was 17% and fixed income strategies generated 37% of sales. This continues to illustrate our product breadth and our ability to meet the needs of different investor preferences.

Turning to slide 11, our financial results. Operating income, as adjusted, was $10.3 million for the quarter, an increase of $3.3 million, or 49% on a sequential basis and an increase of $5 million, or 96%, from the second quarter of 2010.

The sequential increase was driven by increased mutual fund revenues and the leverageability of our cost structure, as we have substantially increased assets under management and maintained a relatively stable fixed cost base.

It's important to highlight that our non-GAAP performance measure, operating income as adjusted, excludes the $3.2 million transmission costs associated with the addition of the multi-sector team. In a traditional acquisition, the consideration to acquire a business or assets would be capitalized on the balance sheet as an intangible asset and would be amortized over the expected useful life of the asset.

Given the nature of the Newfleet internalization, the consideration is in the form of employment expenses rather than acquisition costs and these costs are not capitalized, but instead are expensed through the income statement. That is the primary reason why we have isolated these costs.

Operating income as adjusted is intended to illustrate the ongoing earnings potential of the company and provide investors with a supplemental financial measure that provides a comparative assessment to peer asset management companies that have different business models. This is consistent with how a company reviews its results.

Our non-GAAP financial measures are not substitutes for GAAP results and should be read in conjunction with GAAP financial results.

Of particular note is our operating margin as adjusted, which was 28% in the second quarter, up 700 basis points from the prior quarter. This growth reflects the substantial asset and sales growth we have been delivering over the past four quarters. You'll recall in the last two or three calls, we pointed out the impact of the incremental quarterly sales strain that suppressed the quarterly results.

While still delivering strong sales and organic growth, our incremental sales this quarter were only modestly higher, which allowed for stronger margin expansion, due to the larger asset base. The strong and consistent sales and net flow growth, the Newfleet multi-sector team addition and the new fund launch should provide additional opportunities to further expand the margin.

Let me spend a moment on the GAAP results, which were shown in our press release and are noted in the appendix to this deck, that is available on our website. We delivered net income attributable to common stockholders of $2 million or $0.30 per share in the second quarter, compared with a loss of $0.5 million, or $0.08 per share in the second quarter of 2010. The growth in bottom line earnings are driven by many of the same factors described earlier.

Our effective tax rate for the quarter increased to 11.5%, due to our estimated state tax obligations and changes in taxable income estimates for the full year 2011. The effective tax rate for the six months ended June 30th, 2011 is 8.5% and we would expect our rate for the full year to be within that range.

I should note that the current quarter includes $3.2 million, or approximately $0.47 per share, of Newfleet transition-related costs. That is a good segue to page 12, for a detailed discussion of the Q2 impact on Newfleet.

I'll spend a few minutes on the impact of adding Dave Albrycht and the multi-sector team. First, I want to say that now the multi-sector team has been internalized, given their performance and capabilities, we feel the team is well positioned for growth and we will look for opportunities to further leverage their capabilities in new products and with new channels.

As a reminder, there was no change in our reported assets under management from this transaction, since the team previously managed the assets under a subadvisory relationship. The multi-sector strategies have delivered strong organic growth on a year-to-date basis and, as expected, we did not experience any slowdown in sales after the transition in early June.

For the second quarter, the addition of the team contributed operating income as adjusted of $0.4 million, which represented just a bit less than a full month.

So as to be clear on what this contribution represents, it is the incremental revenue and costs associated with the team, as well as their share of allocated costs to support them. These results exclude the transition costs which I'll review in detail to provide some clarity into the impact of the addition of the team.

We paid $1 million in subadvisory fees, pursuant to the termination provisions in the agreement that contains a standard 30-day notice period. These subadvisory fees ended effective July 2, 2011. As a reminder, the company records management fees net of fees paid to subadvisors.

Transition-related employment expenses at $1.8 million include initial compensation, and the adjustments necessary to ensure the team receives a full year of incentive payouts in 2011, even though the team joined us on June 2nd.

To affect the transition, we have structured the initial compensation to be earned over time, so that the interests of the team are aligned with the interests of the company and our shareholders. The consideration includes both cash and Virtus equity, and will be expensed over time, depending on the form of the consideration. Transition-related other operating expenses are $0.4 million and are related to customary professional fees associated with structuring the transaction.

Now, we will continue to isolate additional transition costs in our non-GAAP results to provide comparability across periods.

Moving back to the quarterly results, slide 13 provides additional detail and investment management fees. Investment management fees with $31.5 million in the second quarter, up $2.7 million or 9% from the prior quarter. And, up $8.1 million for 35% from the prior year quarter.

The sequential improvement was primarily driven by the higher average assets under management, and the continued shift towards both equity and long-term mutual fund assets in our total AUM.

Average assets were up sequentially by 7%, primarily driven by the increase in our average mutual fund assets. And, in addition, average of long term assets, which have the greatest impact on investment management fees, increased by 8% sequentially. And, by 42% from the prior year.

The blended fee rate increased modestly to 38.5 basis points in the second quarter from 38.1 basis points in the first quarter, and the main driver of this is the strong organic growth of the long-term mutual fund assets that now comprise 58% of total assets in the second quarter. Up from 56% in the prior quarter.

As the mutual fund assets comprise of bigger portion of assets and their fee rate increases, this will drive changes in the overall fee rate. Notably, the continued growth of our long term mutual funds, combined with a new fleet change, and the closed end fund launch, positions a company for higher fee rates in the third quarter.

Let's turn to the expense side. We'll begin on slide 14 with employment expenses. As we noted earlier, there are certain employment related transition costs tied to the new fleet, multi-sector team, that were highlighting to eight in the analysis of the results.

Employment expenses total $23.1 million in the second quarter, which includes the $1.8 million of transition related costs. Excluding the transitional costs, employment expenses were $21.3 million are up $1.7 million or 9% on a sequential basis. The primary driver of the $1.7 million increase relates to the higher variable profit based and sales compensation over the first quarter.

And, as a reminder, our employment expenses are highly variable, with more than half of employment expenses tied directly to the profitability for the sales results of the company.

As the results of each of those metrics improve, we would expect our variable incentives to increase. Specifically, as operating income has adjusted increased sequentially by 49% from $7 million to $10.3 million. We would expect incentives tied to profitability to increase as well.

During the quarter, our strong results and the successful execution of the two business initiatives we described earlier, have provided a strong outlook with respect to the 2011 variable incentive plans and led to higher incentive compensation accruals. In addition, the quarterly increase included $0.3 million of a one-time adjustment related to employee benefits.

I would like to point out that while the quarter-over-quarter incremental sales costs were relatively flat as open end fund sales increased by 9%, our variable-based sales costs are still high as a result of our high 72% sales rate.

To add context, if our long-term open end sales rate was at the second quarter 2010 rate of 41%, we would have had approximately $1.5 million less of sales based compensation this quarter. This underscores the point we have made about the impact of strong sales.

One other point of note, after adjusting for the transition costs related to Newfleet, employment expenses as a percentage of revenue as adjusted, decreased 250 basis points to 56.7%, a key driver of the increased margin for the quarter.

Slide 15, other operating expenses. I think the most important metric on this slide is in the table below the chart, which demonstrates the leveragability of our fixed cost structure, even as we have significantly grown top line sales.

Once again, for your benefit, we have delineated the Newfleet transition costs, as well as the annual director stock base compensation. Which, we exclude as part of operating expenses as adjusted. In the second quarter, other operating expenses were $7.9 million, for an increase of $500,000 from the first quarter.

However, if we exclude two items, other operating expenses would have been $7.1 million for the quarter. Those two items are $0.4 million of stock grants to the directors, which is comparable to the figure shown in the second quarter of 2010. And, $0.4 million of professional fees that were part of the Newfleet transition.

On a sequential-quarter basis, other operating expenses, a percentage of revenue as adjusted, which is shown at the table at the lower left of the slide, decreased 110 basis points to 21.1%, compared to 22.2% in the first quarter.

Excluding the stock grants and the transition costs, other operating expenses would have represented 19% of revenue as adjusted in the second quarter, or a decrease of 320 basis points. This five quarter trend is a positive development and a solid indicator of our ability to leverage resources across the company as we drive growth.

Moving on to the balance sheet highlights on slide 16, you see the continuation of several important trends. First, we continue to see sequential increase in our working capital position. We ended the quarter with $47.4 million, an increase of 3% from the prior quarter, and we have now posted eight consecutive quarters with a sequential increase in working capital.

As we have discussed before, working capital is one of the key metrics that we analyzed to assess whether we have adequate capital available to meet our current and future operating and growth needs.

In this quarter, those capital demands included transition costs for the addition of the Newfleet team. Because of the specific capital needs related to the business opportunities during the quarter, working capital grew more slowly than in the past.

And, as you see, in the first line of the table beneath the bar graph, working capital as a percentage of annualized operating expenses dropped from the previous quarter.

In addition, after the quarter, we funded $9.6 million of standard closed-end fund launch costs, related to structuring fees paid to the underwriting group, and incurred sales incentives for the retail distribution team, as the fund was distributed through the retail channel.

To that end, we continually prioritize our capital needs and ensure we are capitalized to be opportunistic as we create additional capital usage opportunities.

As we have stated before, our priorities include further investing in additional organic growth opportunities, including distribution efforts or additional closed end fund launches, seeing new mutual funds to ensure a strong pipeline of future saleable products. Funding ongoing and potential investments in our infrastructure to achieve greater economies of scale, and a more efficient overall cost structure.

And, while our priority has been on generating organic growth options, we will consider selective inorganic growth opportunities. And, as we have demonstrated, our model is conducive to adding on teams, managers or additional assets.

Our working capital position is also a key factor in evaluating the balance required between adequately reinvesting into growth initiatives, and returning capital to our shareholders.

We balance these opportunities with our view of the importance of returning capital to shareholders. And, in the second quarter, we repurchased 35,000 shares of common stock at a cost of $2 million. We have now repurchased a total of 105,000 shares, or approximately 1.5% of the diluted average common shares outstanding. We have 245,000 shares remaining on the authorization.

Year to date, we have returned $6.7 million to our shareholders, or 53% of our free cash flow metric, compared with 29% for the same period last year. Free cash flow is defined in our credit facility as EBITA less cash income taxes, cash interest expense, and capital expenditures.

Finally, our outstanding debt balance remains at $15 million on our credit facility. In addition, we have $15 million of unused capacity on the facility. We continually evaluate how to best utilize this facility and our other capital resources to ensure we have appropriate operating flexibility in place to adequately manage the business, and deliver on our business and capital priorities going forward.

With that, let me turn the call back over to George.

Thanks, Mike. We are pleased with what we accomplished this quarter, and we believe we are well positioned for continued growth.

This quarter, we recognized the benefit of our strong recent sales and flows, and also demonstrated we have the product, performance and distribution to help us maintain this level of sales, depending, of course, on developed mints in Washington and the financial markets.

Additionally, we showed several ways we can further leverage our business, with the addition of the Newfleet multi-sector team, and the very strong IPO for the DPG closed end fund.

These are very good trends, and we look forward to maintaining this momentum throughout the year, and delivering loan terms, sustainable growth for our shareholders.

We're now ready to answer your questions, and I'm going to ask the operator to open up the lines. We ask that you limit your questions to two at a time as a courtesy to the other listeners who want to post questions.

If you have more questions, please feel free to get back into the queue. Onika, can you open up, please?

Thank you. (Operator Instructions). Your first question comes from the line of Larry Hedden with KBW. Please proceed.

Good morning.

Hi, Larry.

Hey. So, what -- you know, I guess it will depend on whether or not the over allotment is exercised. But, in terms of the closed end fund, what is the expected range of the, sort of, sales related commissions?

Are you talking about other than -- we pointed out the underwriting fees related to that.

Right.

The $9.6 million has been funded on closing. So, you're referring to are there going to be other costs? The answer is yes, that there will be other costs related to that, obviously, for marketing and distributing.

Yes, they haven't been finalized as of yet. We do expect that we will spike that our separately for comparability in the third quarter. And, we would expect that to be, potentially --

Well, it would be generally consistent with what you're seeing --

Industry averages.

Yes, in terms of our, you know, retail incentive comp, I think if you, sort of, look at some of deltas we've given from the third to fourth, or fourth to fifth, you've seen the range of basis points that's been paid. So, this would be relatively consistent, you know, with that.

But, literally, we're still tallying up, obviously, the sales and which sales are subject to commissions, but we will spike that out separately. So, you'll get full clarity on what that number is.

Okay, and a follow on to that, I mean, what other opportunities are you seeing in the closed end fund space, in terms of a potential demand for other strategies?

Well, to be clear, a couple of things. One, we really, really, do like closed ends funds, but it is the most competitive part of the market. And, you know, we can't control whether or not we can do one. What we have to do is, do we have attractive investment strategies at a current time in the market, and do we have access through the distributions.

So, I mean, the DPG fund, again, fit a very important need that's in the market right now, which is, about, you know, yield -- well, we say yield in rising rates.

But, people are really looking for yield in those funds, and, you know, with their track record, it was just a very attractive offering and, again, I think what we demonstrated in the raise is that Virtus, while it hasn't recently been known as a closed end fund distributor, did an incredible job in terms of raising assets relative to the last 42 closed end funds that were issued.

So, what we look at going forward is, are there other strategies and capabilities that we believe that we have that would be attractive in the market. And, we would then have to, you know, find a syndicate and leads that would be interested in bringing those products to market.

Again, with the experience of the successful raise on TPG, I do believe that makes Virtus very interesting in terms of a partner, because we've shown we can raise assets.

So, it's really, you know, us competing with everyone else who love to do closed end funds, and trying to have compelling strategies. Again, our view, and we're slightly biased, is with the different capabilities we have in our model, as well as our select subadvisors, that there's a lot of flexibility and a lot of things that we can do to try to meet the needs of closed end fund investors. As I think we've done a very good job with the open end side.

So, we really do like that space, but, again, you have to understand it is, probably, the most competitive part of the market.

Okay, and in terms of compensation, I'm trying to get my arms around some of the moving parts there, can you, sort of, parse out, you know, what was the incremental comp associated with Newfleet?

We've given the incremental -- okay, and to be clear, the number we're giving for Newfleet, as Mike said, is the contribution of Newfleet. Which, is both the incremental revenue and expense, as well as the costs that are required to support them as they share trading systems and other support personnel to run their business.

So, that, we believe, is the key metric to, really, focus in on, which is, really, what their contribution is. And, you know, the specific pieces of, you know, how much is employment or other operating -- you know, we don't want to, you know, lose the forest for the trees.

This is a very accretive transaction, and, actually, I would argue more important than that is the growth opportunity that it represents.

So, we, sort of, isolated most of the Newfleet costs, but when you look at employment expense, again, just echoing some of the things that Mike pointed out. We're actually proud of the fact that we are very variable in terms of our comp. And, it's related either to sales, where there's a direct correlation for people who sell at the sales levels. But, it's profitability for affiliates, as well as the rest of the company is really based upon profitability and sales and investment performance.

And, all of those metrics, obviously, were incredibly strong in the third quarter. And, the example that Mike uses is, you know, there's a significant portion of our compensation that's tied to operating income as adjusted. So, when it goes from 7 to 10 quarter over quarter, you should fully expect and model for increases consistent with that. So, and then there was the little true up that Mike referred to of the 300,000.

So, we spiked out the Newfleet incremental transitional costs, we have bundled up, sort of, like the Newfleet net contribution, but as you look at compensation, again, we always encourage everyone to, really, understand and focus on the true variability of our sales. And, if sales go up and investment performance goes up and operating income goes up, so will our compensation, and vice-versa. When it goes down, it will go down as well.

And, Larry, I'll just add that we'll continue to spike out any transition-related costs with respect to the Newfleet addition. However, we don't break out any employment expense information for any of our affiliate managers for obvious reasons. So, you know, that information, you know, will not be provided separately.

And, there's another reason for it, and I totally agree with what Mikes said. But, in a shared service model, when you have certain people providing service to multiple areas. So, it's settlements. You know, operational support.

When you're charging in between affiliates, it will sometimes, actually, for that affiliate, show up as another operating expense instead of employment.

So, the distinction becomes less important an employment versus operating, when you're sort of sharing a level of services. And, the other thing I do want to point out for Newfleet, it's 28 days. It's important to think about the fact that it's 28 days is just sort of a think through year projections.

Okay, and just finally, could you -- I'm not sure if I fully follow. So, in Mike's comments, in terms of Newfleet and, sort of, future transition related costs being spiked out, is that to imply that, you know, there is, sort of, more earn outs associated with the transaction?

No, it implies that in the employment element, there were equity awards as well as cash transition awards. And, equity, as you're familiar with, the standard form of grants the company employs there, those are expensed over a period of time.

So, we structured the consideration to align the interests, and that will continue to flow through the income statement over time going forward.

Okay, great. Thank you for answering my questions. I'll hop back into the queue.

Thanks, Larry.

Thank you, Larry.

Your next question comes from the line of Steve White with RBM Capital Management. Please proceed.

Hey guys, how are you?

Hi Steve.

Hi Steve, good morning.

Morning. I've got a couple quick ones. First of all, are there any incremental expenses if the new DPG fund was to use leverage? And, when I say incremental expenses, I just mean to Virtus, not the actual fund.

No. There's variable expenses associated with --

Oh, I'm sorry, yes, yes.

So, to the extent that you're generating additional revenue by bringing on more assets, you'd have additional variable costs.

But, no, there would be no additional fixed costs that you would be required to have it placed for that.

Right, at the Duff or the Virtus level. Obviously, the fund itself has a cost of leverage, which the portfolio managers make the decision on. But, yes, Mike is correct that, again, all of our plans are aligned to how much profit is contributed to Virtus. So, if leverage adds assets and revenue and profit, it would be a variable comp implication.

Okay, and then the $9.5 million or so in the structuring fee, did that at all play into the somewhat modest buyback in the quarter, and do you think that the amount of the buyback is, in any way, indicative of, perhaps, future accretive uses of capital, such as this?

The first part of the question is, would the DPG raise -- no, because if you think about the purchases we did in the quarter, the decision on those purchases, I think as we've pointed out in the past, actually have to be made in advance in an appropriate open window.

And, at that point, we would not have known what the raise would be for the DPG fund. Obviously, we would have, obviously, been aware that we were doing the fund. But, I would not associate a correlation between that and the other. And, again, I think the total pay out ratio we did for the quarter was 53% or so.

Yes, there were a myriad of factors that go into the level of buyback in any given quarter or given year. And, pay out ratio, as George indicated, is one of them. So, I wouldn't believe of a correlation there, Steve.

Okay. And, Mike, you didn't give a sales strain number like you had in the last couple of quarters. You did mention that $1.5 million compared to the second quarter results of 2010. Is it then pretty fair to say that the actual sales strain quarter over quarter was very little since the delta between this quarter's gross sales and last quarter's was pretty small?

Yes, it's a good question. There was a 9% increase in long term open end mutual fund sales. So, there was a slight additional or incremental sales cost over the prior quarter. And, given that it was much more modest, I think it was $300,000 this quarter, to be specific.

But, given that it was much more modest, we didn't spike that out as one of the key drivers of the change, that increase of $1.7 million of employment expenses from one period to the other.

But, there was a slight $300,000 increase from period to period. The $1.5 million was, sort of, just trying to provide context. If we were delivering sales at a 40% sales rate, rather than 72% sales rate, which is where we were about a year ago, the sales compensation levels would be $1.5 million lower, all else being equal.

And, as you know, 41% or a 40% sales rate is still, probably, a top level or a very strong level in the industry. So, that was just the context around that metric.

No, that was helpful. I'm glad you did. And, then, just lastly, I know it's not a big amount, but there's about a $600,000 or so charge in severance and restructuring. And, I'm just kind of wondering, I'm a little surprised to still see charges flowing through that line item. Can you say what this was related to and should we expect more of these charges going forward?

Yes, I think -- you know, and again, the line that we put, you know, the severance and the restructuring, you know, is a long standing line. And, it really relates to, you know, to severance.

And, I think as we said, and we sort of did the spin and we did a lot of stuff, we had a lot of that that was all -- you know, when the world was ending and we, like everyone else, did a lot of changes related to that.

And, when we asked a question of, you know, what are the types of things that are there in the future, you know, we continue to look to, sort of, you know, make sure we have the maximum and the optimum model. And, some of the stuff that we do takes a long period of time to, sort of, adjust. You know, obviously, anything related to operations or information technology in some of the other things that are more long tail projects.

So, I think we try to be vigilant over ways to optimize our model and to the extent that there are, you know, eliminations or savings or positions that, literally, are no longer necessary for the business, that's the type of stuff that you're seeing.

And, again, I wouldn't count on it necessarily just being a very large or continuous thing. But, when those opportunities do happen, you know, we will, obviously, do the right thing and take those types of charges.

And, again, we think presenting it separately on both the face of the income statement, and then in our non-GAAP measure, just provides that ability for ease of comparability across periods when those changes do occur.

Okay. Well, thanks for answering my questions. Another great quarter.

Thanks, Steve.

Thank you very much.

(Operator Instructions). Your next question comes from the line of Justin Evans with Sonoma Capital.

Hey guys, how are you doing?

Hey, Justin.

Morning, Justin.

I just want to say thank you. You guys have far exceeded our expectations on the new product side. You keep creating and growing value faster than I can update my model. I now have your stock worth over $125.00 a share using modest industry multiples on next year's estimates.

My question relates to your pipeline of opportunities. Are you seeing an up tick in people approaching you as potential partners for new products?

Well, yes, again, I think some of the successes that we have had, you know, for a period of time now in the open end funds, and now with the recent closed end fund, as well as the integration of the Newfleet team, those things, you know, do gather a little bit of attention.

We've always, sort of, been viewed as a potential partner because we do use subadvisors and our model, basically, we face the market as one point access to, you know, differentiate in distinct high quality institutional boutique-y managers. So, that is, sort of, a very important way that some people would be looking to approach the market.

So, to answer your question, yes, we are getting, you know, inquiries on different opportunities. We're very discriminating in terms of looking at things we do. We only like to do things that we think will be interesting and that we will focus in on. We don't like to just do relationships or things for the sake of doing them and having them not be successful.

And, I think because of that, we have been generally successful with those relationships. And, that, in and of itself, makes us more interesting. That we're not going to waste anyone's time. So, we do -- we're very pleased that we have more and more opportunities opening for us as past successes lead to future opportunities.

Okay, and just one other comment. You know, your track record of doing organic M&A for almost zero cost is just so wonderful. I cannot think of four big deals that you've done like that, the Harris insight deal, the VIP deal, Newfleet, and now DPG.

I think it really shows how attractive the Virtus platform is. And, I don't want to leave out the other smaller things, like the various fund mergers you've done and rights offerings. But, anyway, I just wanted to just say congrats and just -- and, I guess, maybe a question out of that is, do you envision that to continue for the future? You know, we hope so.

Yes, to be clear, I assume you're long on the stock then.

(inaudible - microphone inaccessible)

Those are the types of things that we, sort of, like to do and look at. They're not easy to find, executing on some of the stuff that we've done.

You know, again, we like to be careful and judicious with capital. And, again, it comes from our experience of trying to manage the business without any capital, which is a great learning experience.

So, we do think there continues to be those opportunities out there. But, you know, we'll consider all types of opportunities, because net, it comes down to what can we do to continue to position the company for long term sustainable growth.

And, so, some of those that you just described were even different from each other. Some, literally, had zero money up front. Some had a modest up front. But, again, from our view, they all have incredible paybacks and return profiles. And, as we are more successful, to your previous question, I think a few more of those opportunities surface.

So, we'll continue to look to those types of things and take advantage of the opportunities that present themselves.

Well, I'm going to continue to cheerlead. So, great work and thanks a lot.

Okay, Justin. Thank you very much.

Your next question is a follow-up from the line of Larry Hedden with KBW. Please proceed.

Hello. To the extent possible, could you guys give, sort of, your thoughts for the fee rate, how the fee rate would be shaping up for 2Q post Newfleet?

Yes, it's going to impact both our mutual fund, we break out our mutual fund long term fee rate, which was 44.2 in the second quarter, and then all products was 38.5. It will impact both of them. If you just do a pro-forma, we would expect the mutual funds to increase nearly seven basis points from the additional 25 basis points we'll be recognizing on the multi-sector products.

And, then, on an overall basis, just the waiting and the math of that should increase it by, approximately, 4 basis points.

Okay, great. And, then, also, do you have any sense as to when you would hear back from the IRS about the determination relating to the private letter ruling?

We're as anxious as you are. We're hopeful to get it back in connection with filing the tax return in 2010, but there's no telling when it could come. We have not gotten it as of yet.

Fair enough, fair enough. And, then, finally, just in terms of -- could you just give some color, to the extent possible, relating to how, you know, sort of, mutual fund flows in July or trending, you know, for your product suite? And, perhaps, more specifically, to the multi sector short term bond fund, [pre-m alpha] sector and emerging markets opportunity fund?

Well, I'll say a couple of things. As we think about July, and I would say the rest of industry thinks about July and August, there's a lot of things going in on the market and in Washington which, to me, will have the bigger impact on the industry, as well as everyone.

And, obviously, remember for us in the month of July, our wholesaler force was very focused on the DPG closed end fund.

So, in terms of thinking through July, you should think about it that way, but what I would say is, you know, I think -- I'll just speak for myself. I was, generally, relatively pleased with the implications of the impact of that for July. That with our sales force focused entirely on the DPG fund. And, what I'll politely call turmoil in Washington, I was pleased with the results, given what you could have expected that impact to be.

Again, our products continue to be very competitive and attractive, and I would argue with some of the nonsense going on, even becoming more attractive. So, we continue -- so, we don't have anything to guide you to express concern about our sales results.

Fair enough. Thank you for answering my questions.

Thank you, Larry.

This concludes our question and answer session. I would now like to turn the conference back over to Mr. Aylward for closing remarks.

Okay. Well, thank everyone for joining us this morning. And, I hope that gave you a better understanding of the company and our results. And, as always, if you have any further questions, you know, please give us a call. Thank you.

That concludes today's teleconference. Thank you for participating. You may now disconnect.