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Edited Transcript of SEIC earnings conference call or presentation 23-Oct-19 8:30pm GMT

Q3 2019 SEI Investments Co Earnings Call

OAKS Oct 29, 2019 (Thomson StreetEvents) -- Edited Transcript of SEI Investments Co earnings conference call or presentation Wednesday, October 23, 2019 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Alfred P. West

SEI Investments Company - Chairman & CEO

* Dennis J. McGonigle

SEI Investments Company - CFO & Executive VP

* Kathy C. Heilig

SEI Investments Company - VP, CAO & Controller

* Paul Francis Klauder

SEI Investments Management Corporation - Senior VP & MD of Institutional Group

* Stephen G. Meyer

SEI Investments Company - Executive VP & Head of Global Wealth Management Services

* Stephen M. Onofrio

SEI Investments Company - SVP of Sales and Service for Independent Advisor Solutions

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Conference Call Participants

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* Christopher Charles Shutler

William Blair & Company L.L.C., Research Division - Research Analyst

* Christopher Roy Donat

Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research

* Glenn Edward Greene

Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst

* Patrick Joseph O'Shaughnessy

Raymond James & Associates, Inc., Research Division - Research Analyst

* Robert Andrew Lee

Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by. Welcome to the SEI Third Quarter 2019 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

I'd now like to turn the conference over to Chairman and CEO, Al West. Please go ahead.

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Alfred P. West, SEI Investments Company - Chairman & CEO [2]

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Welcome, everyone. All of our segment leaders are on the call as well as Dennis McGonigle, SEI's CFO; and Kathy Heilig, SEI's Controller.

I'll start by recapping the third quarter 2019. I'll then turn it over to Dennis to cover LSV and the investment in new business segment. After that, each of the business segment leaders will comment on the results of their segments with one exception. Since Wayne Withrow is on vacation, Steve Onofrio, the Head of Sales and Service for the Investment Advisors segment, will report on that business. Then finally, Kathy Heilig will provide you with some important company-wide statistics. As usual, we will field questions at the end of each report. So let me start with the third quarter 2019.

Third quarter earnings increased by 3% from a year ago. Diluted earnings per share for the third quarter of $0.86 represents a 10 -- I'm sorry, an 8% increase from the $0.80 per share reported for the third quarter of 2018. We also reported a 2% increase in revenue from third quarter 2018 to third quarter 2019.

Also during the third quarter 2019, our noncash asset balance under management increased by $1 billion. At the same time, LSV assets under management decreased by $3.3 billion. These increases in AUM were primarily due to market appreciation while the decreases were caused by negative cash flow.

A milestone was reached at the end of the quarter. SEI reached the $1 trillion mark in total assets under management, assets under administration and advised assets. In addition, during the third quarter of 2019, we repurchased approximately 1.4 million shares of SEI's stock at an average price of $58.12 per share. That translates to $81.4 million of stock repurchases during the quarter.

Finally, in the third quarter, as part of the investments we make to create growth, we capitalized approximately $7.3 million of the SWP development and amortized approximately $12 million of previously capitalized SWP and IMS development. Third quarter 2019 sales events, net of client losses, totaled approximately $42.7 million and are expected to generate net annualized recurring revenues of approximately $33.2 million.

We were satisfied with our third quarter sales results in our technology and operational businesses, and we are becoming bullish about our future. While slow contract negotiations in this tightly regulated environment is still considered a headwind, we are becoming less troubled as our active pipelines grow. Our asset management businesses continue to face headwinds. Our advisory business began to see positive flows during the quarter. The Institutional Investor business with U.S. corporate DB plans continues to be a challenge.

Now all that being said, there are bright spots. One is that across the company, we have fully engaged sales teams in a lot of activity; two, IMS sales continue to be strong; three, the adviser -- I'm sorry, the migration of advisers to SWP is now behind us, this allows our full attention to be on growth; and now four, we've signed significant new SWP business; and fifth and last, we are moving forward with some of our promising new initiatives. Our market unit heads will speak to the bright spots in their specific sales activities.

This concludes my formal remarks. So I'll now turn it over to Dennis to give you an update on LSV and the investment in new business segment. I'll then turn it over to the other business segment heads. Dennis?

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Dennis J. McGonigle, SEI Investments Company - CFO & Executive VP [3]

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Thanks, Al. Good afternoon, everyone. I will cover the third quarter results for the investments in new business segment and discuss the results of LSV Asset Management.

During the third quarter of 2019, the investments in new business segment continued its focus on the ultrahigh net worth investor segment through our private wealth management group and additional research initiatives, including the digital services and hosting opportunity and a modularization of larger technology platforms into stand-alone components for the wealth management and investment processing space.

During the quarter, the investments in new business segment incurred a loss of $4.5 million, which compared to a loss of $2.9 million during the third quarter of 2018. This increase in loss reflects the growth of our private wealth management business, more than offset by other areas of investment.

Regarding LSV, our earnings from LSV represent our approximate 39% ownership interest during the third quarter. LSV contributed $37.6 million in income to SEI during the quarter. This compares to a contribution of $41.7 million in income during the third quarter of 2018.

Assets during the third quarter were down approximately $3.3 billion. LSV experienced net negative cash flow during the quarter of approximately $3.5 billion, which was offset by market appreciation. Revenue for LSV was approximately $121.2 million and performance fees were minimal. Our effective tax rate for the quarter was 18.9%.

And I will now take any questions.

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Operator [4]

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(Operator Instructions) And we actually have no lines queuing up at this time.

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Alfred P. West, SEI Investments Company - Chairman & CEO [5]

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Thank you, Dennis. I'm now going to turn it over to Steve Meyer to discuss our private banking segment. Steve?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [6]

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Thank you, Al. For the third quarter of 2019, revenues for the segment totaled $117.3 million, which is down 1% as compared to our revenue in the third quarter of 2018. This year-over-year revenue decrease was due primarily to some of the client losses previously announced, along with decreased revenue in our asset management business.

Our quarterly profit for the segment of $6.5 million increased $4.5 million as compared to the third quarter of 2018. Our third quarter profit is down $1.8 million as compared to our profit in the second quarter of 2019 due mainly to 2 items: as a sign of maturity, our development work has moved from larger items to maintenance and product enhancements. We expense this type of work as it occurs and do not capitalize it. Second, in Q3, we had the effect of midyear compensation adjustments, which contributed to our expense increase in Q3 compared to Q2. We continue to manage expenses tightly, but with an eye on supporting the growth momentum we are building in new events.

And turning to sales activity. For the quarter, we signed approximately $18.8 million in net sales events. Additionally, we had $7.3 million in onetime events. These events included the following: the 2 deals previously discussed on our second quarter call. As a reminder, they are CIBC U.S. Private Wealth Management who is a leading North American financial institution. Its U.S. Private Wealth Management business offers investment management, wealth strategies and legacy planning solutions. The second was a long-time client, law firm Dorsey & Whitney. During the quarter, we also signed 2 additional clients to SWP. Both are existing TRUST 3000 clients, which are scheduled to migrate their existing books of business to the SEI Wealth Platform in the second half of 2020.

Additionally, as you might have seen in the press, we are pleased to announce that after the quarter end, but before today's call, we entered into an agreement with the Principal Financial Group to provide our trust platform to service their acquired Wells Fargo institutional retirement and trust business. The deal is not included in our announced events for this quarter, and we will work over this quarter to finalize the contract. This deal is significant for us not only from a financial standpoint, but also Principal is a market leader, and we are encouraged about the opportunity to expand our relationship from here.

And turning to an update on our TRUST 3000 business. In the third quarter, we successfully converted 3 TRUST 3000 clients to the SEI Wealth Platform. They were BMO Wealth Management, Rockland Trust Company and Security and Trust Company. All 3 conversions went very well and demonstrated our ability to increasingly scale our implementation strategy as well as prove our value proposition against the increasingly aggressive competition. We also recontracted one trust client with a contract term of 5 years.

As an update on our backlog, our total signed but not installed backlog is approximately $48.6 million in net new recurring revenue, not including the Principal business mentioned previously.

From an asset management standpoint, total assets under management ended the period at $22.6 billion, representing flat quarter-over-quarter and slightly lower year-over-year assets. We did see negative cash flows of $106 million. However, we continue to build a strong global pipeline in our AMD business.

Turning to a couple of client updates. First an update on the Department of Interior business that we previously disclosed will be leaving us. After several rescheduled conversion dates, this business did deconvert off our trust platform at the end of the third quarter. The full effect of that loss will be in our fourth quarter numbers. And as mentioned several times before, we will need to navigate this headwind as we continue to gain momentum and grow our business.

Also during the quarter, we worked with Wells Fargo on a number of initiatives. As mentioned previously, Wells has recently sold their institutional retirement and trust business. Also as disclosed in the past, Wells continues to have other important and pressing technology projects and have recently had the appointment of a new CEO. In light of the need to change priorities, Wells Fargo has informed us that it must pause the scheduled SWP implementation in order to redirect resources to other more immediate technology leads, including the IRT conversion. SEI is working closely with Wells Fargo on these other priorities, and we will be providing Wells with professional service support around these initiatives. Currently, no dates have been finalized for when the SWP implementation will restart, and we will work with Wells on their current priorities in the interim.

These recent developments have demonstrated to us that there are factors that have significant influence over Wells' expense and business priorities that are not within our control. Consequently, we cannot reasonably estimate the timing of implementation. Accordingly, we will not be giving updates on new conversion dates until Wells finalizes them. More importantly, we will focus on the momentum the business is generating both the U.S. and U.K. and focus on implementing our current and growing backlog, including the conversion of the IRT business, which will result in a new client to SEI, the Principal Financial Group.

In closing, I would like to highlight our momentum. As you can see by our backlog of signed yet to be installed clients combined with our market activity, we feel a resurgence of growth momentum. We have an active pipeline across the U.S. and U.K. and look to continue that momentum into 2020. We feel well positioned to grow our private banking business and feel we have great opportunity offering the power and capabilities of all of SEI's technology and processing platforms across the wealth management market. We are excited for the future.

That concludes my prepared remarks, and I'll now turn it over for any questions you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We do have a question from Robert Lee with KBW.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [2]

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Quick question. So just to make sure I understand kind of the moving pieces. The $18.8 million of net sales, I mean, if I remember correctly, when you had talked about CIBC and the other transaction in the last earnings call, that was about $16-odd million of recurring sales. So does that $18.8 million kind of include that $16 million, the new and then you're also backing out Wells from that?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [3]

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No. So you were right up until the Wells point. So if you remember, we announced CIBC -- or mentioned CIBC at the end of the second quarter call, we did not include that in those events. They are included in Q3 events, the $18.8 million. Wells has no impact on that net sales number. They're still a client, and we still have them in the backlog. What is -- that is a net number, though, that $18.8 million, so it takes in the sales, the gross sales we had, minus any net downs or losses in clients for the quarter as normally we announce.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [4]

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And did I have it correct that the Wells and the other one were about $16 million recurring when you had announced them last quarter?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [5]

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You keep mentioning Wells, I think, Rob, from that...

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [6]

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Well, I apologize. CIBC, sorry.

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [7]

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CIBC. Yes, CIBC is the other one we announced last quarter at $16.2 million. And then we had other events this quarter. Those other events plus CIBC, and I believe it was Dorsey, minus any net downs or losses is what results in the net $18.8 million for the quarter.

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Operator [8]

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And for our next question, we'll go to Chris Donat at Sandler O'Neill.

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Christopher Roy Donat, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [9]

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Just on the Department of the Interior contract, can you remind us what the expected revenue hit should be in the fourth quarter? And is there any expense offset you expect fourth quarter or over time with that?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [10]

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Well, Chris, not to be smart, but we never really told you the amount. We don't really talk to specific amounts. I think there was speculation on the amount. But it is a larger amount. It was a very profitable account. And again, that will all come out in Q4, but we don't specifically tie revenue to individual clients.

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Christopher Roy Donat, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [11]

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Okay. And then just on the expense side. There's -- should I assume that there's -- will there be any expense change related to this or not...

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [12]

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I would -- it's very little expense change. Any of those expense savings we've been working on all along the way, so very little.

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Operator [13]

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We'll move now to Chris Shutler at William Blair.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [14]

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So let's see, the -- I want to talk about the new -- the conversions that happened in the quarter, so BMO and the other 2. How should we think about the incremental revenue that we will see in Q4 from the combination of those clients relative to the current quarter, to Q3?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [15]

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Well, I'd say 2 things. One, keep in mind on trust lifts, typically we only announce -- in the events when we announce them, we only announce the net up from the SWP pricing that's from TRUST 3000. Two, I would say the net uptick in revenue from them and others will be somewhat muted by the Department of Interior loss and other losses. So it'll probably get lost a little bit in the shuffle of the revenue decreases versus the revenue increases.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [16]

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Okay. And then the -- I know it's tough to isolate clients, but like on -- with Wells is the fact that they're kind of putting a pause on things. How does that impact the P&L?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [17]

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Well, Wells is still an active client and a large client for TRUST 3000 and will continue to be. And also, we will continue -- as I mentioned in the script, we will continue to work with them on a number of initiatives that we can -- currently working on with them, but also some new initiatives on some of the new projects they have. So I would expect some of our onetimes and inflates to continue.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [18]

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Okay. And then lastly, TRUST 3000 attrition and net downs, you mentioned it a couple of times. Could you maybe give any more specifics on what happened in the quarter there, if anything?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [19]

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We did have one loss of a TRUST 3000 client. That was netted out of our events. And we also had 1 recontract for 5 years that I mentioned in the quarter.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [20]

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And that was a net down?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [21]

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Well, there was a net down of revenue from the lost client that we netted against our gross events, but that is in that net $18.8 million.

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Operator [22]

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(Operator Instructions) We do have a follow-up from Robert Lee at KBW. Please excuse me, no, we have no one in queue at this time now.

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Presentation

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Alfred P. West, SEI Investments Company - Chairman & CEO [1]

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Thank you, Steve. Now our next segment today is Investment Managers, and Steve Meyer will also discuss this segment. Steve?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [2]

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Great. Thank you again, Al. And turning to Investment Managers. For the third quarter of 2019, revenues for the segment totaled $112.2 million, which was $10.9 million or 10.8% higher as compared to our revenue in the third quarter of 2018. This year-over-year revenue increase was due primarily to net new client fundings and existing client expansion.

Our quarterly profit for this segment of $40.3 million was $4.3 million or 12% higher as compared to the third quarter of 2018. Higher profits were primarily driven by an increase in revenue, offset by a smaller increase in personnel expense and investments.

Third-party asset balances at the end of the third quarter of 2019 were $638 billion or 5.1% higher as compared to the asset balances at the end of the second quarter of 2019. This was due to an increase in assets due to net new client fundings of $21.1 billion as well as market appreciation of $9.8 billion.

And turning to market activity. During the third quarter of 2019, we had a very strong sales quarter with net new business events totaling $15.1 million in recurring revenues. Encouragingly, these sales were diverse and spanned our entire business and included both new-name business and expansion of wallet share with the current clients. These events included the following highlights: In our alternative market unit, in the third quarter, we converted a $16 billion debt [overshot] from a competitor and launched several new multibillion-dollar funds to our growing private equity business. In our traditional market unit, we continue to have success across all product lines, particularly in collective investment trust. We are also pleased to announce a mandate won on our 40 Act turnkey series trust from $1 trillion global manager who is establishing a family of mutual funds. SEI Archway had new sales events in both the single-family office and multifamily office market segments.

At the end of the third quarter, our backlog of announced but not yet converted business was $39.6 million, an increase of $1.2 million over the end of the second quarter of 2019.

From a market standpoint, we remain excited at the growth opportunities ahead of us. Our vision is to provide the leading integrated platform covering the front, middle and back office for wealth managers. We feel the investments we have made in our technology and platforms have not only differentiated us, but they are resonating extremely well in the market.

That concludes my prepared remarks, and I will now turn it over for any questions you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We go to Chris Shutler at William Blair.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [2]

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All right. The expenses in the quarter, Steve, it looks like they bumped up about $3 million quarter-over-quarter. Just what was that related to? How much of that was performance related given the strong sales?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [3]

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Well, keep in mind, Chris, so sales we amortize, so it's less of the sales compensation, if that was your question. The $3 million was primarily a little bit like the private banking market. We had the impact of midyear market compensation adjustments. We also had an increase in investments and an increase of -- obviously, we're bringing in business faster, so we're obviously hiring and adding people.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [4]

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So we should look at the -- I guess we should look at that third quarter number as a jumping-off point for subsequent quarters?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [5]

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I wouldn't say that necessarily. I would say, depending on where we stick with investments and we continue to look to scale the business. I think I've said this before, it's tough to look at a quarter-over-quarter look from -- especially from an expense standpoint. As you can see, we're in a pretty good sales mode, and I want to keep that sales mode up. And certainly adding new expense, we have to add to support that revenue. So depending on quarter-over-quarter, that will impact it.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [6]

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Okay. And then just I wanted to also ask about the $1 trillion manager. Can you just explain that a little bit more, what exactly you won and who this client is?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [7]

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Well, certainly we can't mention the name, but it's a very large manager. And similar to what we've looked at with other business, we think this is an initial product that they are looking to start. They have quite a bit of funding to start a range of mutual funds that they have been looking for. And they're asking us to provide the full service, full front, middle, back office, and we're looking at this as an opportunity to starting new relationship and expand from there.

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Operator [8]

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And at this time, there are no more questions in queue. Please continue.

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Presentation

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Alfred P. West, SEI Investments Company - Chairman & CEO [1]

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Thank you, Steve. Our next segment is Investment Advisors. Steve Onofrio, who is standing in for Wayne Withrow, will cover this segment. Steve?

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Stephen M. Onofrio, SEI Investments Company - SVP of Sales and Service for Independent Advisor Solutions [2]

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Thanks, Al. In the third quarter of 2019, we continued to build sales momentum after the completion of the migration onto the SEI Wealth Platform. We also continued our focus on value-added technology development and client technology adoption.

Third quarter revenues totaled $103 million, up only slightly from the third quarter of last year. These results were primarily driven by market appreciation, offset in part by negative cash flow in the first 6 months of this year. Expenses were down over 3% from last year's third quarter. Savings were realized in most categories with technology leading the way. We did have increased direct costs primarily tied to our managed accounts growth, but other savings more than offset these increases.

Our profits increased $2.2 million from last year's third quarter due to cost savings. Assets under management were essentially flat from the third quarter of 2018 with market appreciation being offset by negative cash flow. During the third quarter, our net cash flow was a positive $70 million. We are encouraged with our quarterly progress as we regained sales traction. We recruited 75 new advisers during the quarter, and our pipeline of new advisers remains active.

In summary, during the third quarter, we posted good profit results. And while cash flow is short of where it needs to be, it is trending in the right direction. We are focused on reaping the benefits of the SEI Wealth Platform now that we are fully migrated.

I welcome any questions you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We first go to Glenn Greene at Oppenheimer.

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Glenn Edward Greene, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [2]

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Could you just give us any color on if you're getting any traction given that you've now converted to SWP in terms of new pools of assets or a higher -- bigger advisers or just sort of a different pool of advisers that may be -- being attracted? It's not really showing up yet in the flows, but give us a sense for what you're seeing in terms of business activity.

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Stephen M. Onofrio, SEI Investments Company - SVP of Sales and Service for Independent Advisor Solutions [3]

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Well, whether they would be larger advisers or a larger share of an adviser's book, the expanded services of the wealth platform include the ability to consolidate advisers on one platform. I think we would be a good option to a broader segment of advisers as we move forward.

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Operator [4]

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Next we'll go to Robert Lee at KBW.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [5]

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Great. Is it possible to get, I mean, a little bit of color on the flows? I mean you mentioned kind of feel like you're seeing some benefit from reengagement of sales, but are you seeing -- are advisers kind of starting to reengage more of their clients? I mean kind of lack of a better way of putting it, any signs kind of re-risking or whatnot? Or is this really just a function of more sales have been out there more focused on generating? Just trying to get a sense of kind of the underlying momentum.

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Stephen M. Onofrio, SEI Investments Company - SVP of Sales and Service for Independent Advisor Solutions [6]

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I don't think it's necessarily related to the adviser's client re-risking. I think we're encouraged by the sales that we have. In the short term, we're headed in the right direction. It's difficult to predict going forward. But we have seen a correlation between the time that we spend with advisers, helping them to adopt the technology -- the new wealth platform technology after the migration and the ease in doing business with SEI, so we're seeing a correlation in asset growth based on that work that we've been doing.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [7]

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And maybe just one follow-up. I think Wayne has definitely talked in the past about you've been seeing good demand for your -- I guess your ETF allocation product, which I assume has somewhat lower fee structure compared to more traditional products. Is that still the case? And I guess to some degree maybe been a little bit surprised that the fee rate, if you just look at revenue to average AUM, has held up pretty well despite kind of some of the underlying shifts. So I don't know if there's -- are we making too much of this kind of movement to the ETF kind of allocation product? Or kind of what's helping to support kind of fee rate where it is?

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Stephen M. Onofrio, SEI Investments Company - SVP of Sales and Service for Independent Advisor Solutions [8]

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No, I think you're right. I mean fee pressure is real in the industry. And we've only had a slight impact to ours, and I do believe it's the result of the continued growth of our ETF program. It's also the growth in our mutual fund models that offer the option of our large-cap passive fund. But I think the real strength of SEI is the fact that we have a fully comprehensive SMA program, a comprehensive mutual fund program, we offer it in taxable and tax managed. And when you look at an adviser's business, they have a diverse set of clients that use all of those products. So the blended fee that we receive is across the entire product line, which we think is more resilient to market pressure.

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Operator [9]

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And at this time, we have no further questions in queue.

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Presentation

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Alfred P. West, SEI Investments Company - Chairman & CEO [1]

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Thank you. Thanks, Steve. Our final segment today is the Institutional Investors segment. Paul Klauder will report on this segment. Paul?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [2]

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Thanks, Al. Good afternoon, everyone. I'm going to discuss the financial results for the third quarter of 2019. Third quarter revenues of $80.3 million decreased 4% compared to the third quarter of 2018. Third quarter operating profit of $43.1 million was flat as compared to the third quarter of 2018. Operating margin for the quarter was 53.6%.

Revenues were impacted by negative client fundings, client fee reductions associated with successful rebids and currency impact versus the third quarter of 2018. Operating profits were positively impacted by 2 onetime expense items: one, lower-than-anticipated subadviser expenses in certain products in the third quarter of 2019; and two, an operations error that resulted in higher-than-normal expenses in the third quarter of 2018.

Quarter end asset balances of $89.5 billion reflect a $2.5 billion decrease compared to the third quarter of 2018. This decrease is driven primarily by negative client fundings. Net sales were a negative $1.7 billion for the quarter. Gross sales were $1.1 billion, however, client losses were about $2.8 billion. Losses were primarily tied to 3 clients, two losses were acquisition related and one loss was an unsuccessful rebid of a long-term client.

The unfunded new client backlog at quarter end was $650 million, and we would expect the majority of this to fund in the fourth quarter. The new client signings were diversified across new clients in endowments and foundations, U.K. fiduciary management, U.S. defined benefit and a U.K. defined contribution win. We believe that new business focused on longer-term asset pools across all global markets is paying dividends for the business, and our sales pipeline is strong. We continue to stay focused in all client situations, especially those that are in rebid process or in M&A activity.

Thank you very much, and I'm happy to entertain any questions that you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question will come from Patrick O'Shaughnessy with Raymond James.

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Patrick Joseph O'Shaughnessy, Raymond James & Associates, Inc., Research Division - Research Analyst [2]

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Was just hoping to dig into your commentary about lower-than-anticipated subadviser expenses. Is that a onetime issue -- I'm sorry, catch-up in the quarter? Because I think your commentary suggested it was one time. Or is that something that we could think about kind of being sustained going forward?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [3]

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Yes. It was just -- Patrick, it was just onetime for the quarter. So some of our alternative investments, subadviser expenses we make an estimate based on the contract and where the run rate is. And in this particular quarter, 2 of the alternatives we were overaccrued for the first 2 quarters and we had a true-up. So we had lower expenses in the third quarter and also a write-down of what the expenses were for the first 6 months. So we were able to get that onetime benefit for the quarter only. So that's not an adjusted run rate.

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Patrick Joseph O'Shaughnessy, Raymond James & Associates, Inc., Research Division - Research Analyst [4]

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Got it. And then maybe a bigger picture question about margins. I think it's obviously somewhat unusual to see a business that's having top line pressures showing the year-over-year margin improvement that you guys have shown year-to-date and it does sound like some of that might be nonrecurring in nature. But how do you think about the sustainability in margins kind of in this general range?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [5]

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Dennis is looking at me just saying it's darn good management, but I guess that's not a good answer. I think we've been very smart in managing expenses and doing it judiciously, but also looking at the business strategically. When we have the Investor Day, we'll be talking about some other initiatives that we're looking for to really springboard us into other incremental market that we're not in now. So there may be some investment from that standpoint.

We've got a benefit of getting more diversification in alternative investments. The reality is that we're more efficient on how we service our clients, technology is part of that process now. That wasn't part of the process maybe 3, 4, 5 years ago. But as we move forward, the sustainability of 53% profit margins are now out there for the business given some of the headwinds, and we would expect that to come down. And more importantly, we're really thinking about how we get focused on long-term growth and how we get into new markets to be able to get us back to a growth engine for SEI.

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Operator [6]

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And next, we'll go to Chris Donat at Sandler O'Neill.

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Christopher Roy Donat, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [7]

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Paul, actually you know what, the -- Patrick's question, the way you covered it, that satisfies me, and I don't want to make any more trouble for you with Dennis.

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [8]

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Thanks, Chris. I appreciate it.

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Operator [9]

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We'll move then to Robert Lee at KBW.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [10]

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Just kind of curious, I mean you gave some color about the backlog and the sources of it. And maybe if you can update us on some of your U.S. DC initiatives. I know it's something you guys have talked about as a channel you have some priority on, although it feels like it's been maybe a little tough sledding getting too much there. Can you maybe just give us a quick update on what you see there?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [11]

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Sure. Well, I'll just pivot real quick to the U.K. So our master trust in the U.K, which is our largest way that people consume our defined contribution services, was approved by the FCA. So we had a nice incremental win in the third quarter of a new client coming into that. So we're quite positive about that as we move forward because we're one of the early ones that got the approval.

Pivoting to your question, with respect to the U.S., it has been slower on DC. One of the realities with regard to defined contribution plans is we still are in a market that ostensibly is going up, so there is not as much pain on the lineup for plan sponsors. Consequently, they're less likely to change their diversification options. So I've talked about this before. This is one of those markets that if we had some more volatility and we had some frustration either at the participant level or the sponsor level, we think we would be in a better position for getting the multimanager kind of white-label approach into DC plans.

We're still actively talking to a lot of our defined benefit customers. But again, it's a little bit of an inertia just because the lineups are doing pretty well. We do think long term, and again, we'll talk about at the Investor Day about some other things that could happen in the 401(k) defined contribution world that we think could be beneficial, but we don't see them on the short-term horizon, they would be more long-term initiatives.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [12]

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Great. And maybe just a quick follow-up, and I mean going back to the subadviser expense question, could you size that for what that impact was in the quarter?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [13]

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That was about $800,000.

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Operator [14]

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Next we have Chris Shutler at William Blair.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [15]

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So I wanted to follow up on that and just -- so you just gave the onetime benefit from subadviser. On the second piece, the operations error, I guess, can you size that? And can you just reiterate exactly what that item was?

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Paul Francis Klauder, SEI Investments Management Corporation - Senior VP & MD of Institutional Group [16]

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Yes. That was from the third quarter of 2018. That was a little bit -- so it's not in 2019. So it's a little bit less than $1 million that was in 2018. So from a comparative perspective, that's why I called that out.

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Operator [17]

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There are now no more questions in queue.

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Alfred P. West, SEI Investments Company - Chairman & CEO [18]

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Thank you, Paul. Before I turn it over to Kathy Heilig, I'm going to give the mic to Steve Meyer to cover something that's come up.

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [19]

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Yes, this is just a response to Chris, just 2 follow-ups. One, you'd asked about the Department of Interior, I get to plead ignorance because it was [pre-Steve]. But apparently, we did in the Q4 of 2017 have a conversation during the call about the amount of that client, it was $17.8 million. So I just want to clarify that. And secondly, on the expense uptick, Chris, that you brought up, the one thing I think you're probably looking for that might help you, in our personnel expense an uptick due to the performance of IMS. We did do a catch-up for IC because where we are tracking [in goals] in the quarter. So that onetime uptick was about $2.4 million for the year. Just wanted to follow up to clarify those. Thanks.

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Presentation

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Alfred P. West, SEI Investments Company - Chairman & CEO [1]

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Thank you. And now Kathy would like to give a few company-wide statistics.

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Kathy C. Heilig, SEI Investments Company - VP, CAO & Controller [2]

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Thanks, Al, and good afternoon, everyone. And I do have some additional corporate information about this quarter. Third quarter 2019 cash flow from operations was $163.9 million or $1.06 per share, bringing year-to-date September cash flow from operations to $381.5 million or $2.45 per share. Third quarter free cash flow was $144 million and year-to-date free cash flow is $324.2 million.

In the third quarter, we had capital expenditures excluding capitalized software of $12.3 million, a significant part of that was related to our facility expansion. In the fourth quarter, we would expect to have capital expenditures, excluding capitalized software, of $15 million and about half of that would be related to the facility. Our projected capital expansions for next year are about $40 million and again about half of that is related to the facility.

We also would like to remind you that many of our comments are forward-looking statements that are based upon assumptions that involve risks and that the financial information presented in our release and on this call is unaudited. In some cases, you can identify forward-looking statements by terminology such as may, will, expect, believe, continue or appear. Our forward-looking statements include our expectations as to revenue that we believe will be generated by sales events that occurred during the quarter or when our unfunded backlog may fund, the benefits we will derive from our investments, our ability to manage our expenses and scale our offerings, the timing of our implementations and conversions, the services we may provide to clients, the momentum of our businesses, the strength of our pipeline and growth opportunities and our ability to execute on and the success of our strategic objectives.

You should not place undue reliance on forward-looking statements as they are based on current beliefs and expectations of our management and subject to significant risks and uncertainties, many of which are beyond our control or subject to change. Although we believe the assumptions upon which we base our forward-looking statements are reasonable, they could be inaccurate. Some of the risks and important factors that could cause actual results to differ from those are described in our forward-looking statements can be found in Risk Factors section of our annual report Form 10-K for the year 2018.

And now please feel free to ask any other questions that you may have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We do have a question from Chris Shutler at William Blair.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [2]

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Just a couple more. First for Dennis. The -- on the investments in new business, the expenses grew about $1 million sequentially in Q2 and then another $1 million sequentially in Q3. Can you explain why that was? I think you said growth in the private wealth management business, but just explain what that was and how sustainable that is.

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Dennis J. McGonigle, SEI Investments Company - CFO & Executive VP [3]

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The growth in expenses is really a result of spending on some of our newer initiatives that were capturing those costs in the investments in new business segment. And the 2 that I mentioned on the call earlier were the digital services offering, we call it SEI IT services, what we used to call hosting services. So the development and buildout of that, those capabilities and beginning to take those to market as well as some of the modularization work on different technology components around the company that we believe are going to open up access for those capabilities to new markets. Those costs were offset by growth in the private wealth management business.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [4]

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Okay. Got it. So it sounds like those expenses at current run -- that the run rate in Q3 is the rate (inaudible) going forward?

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Dennis J. McGonigle, SEI Investments Company - CFO & Executive VP [5]

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Yes, I would go forward with that. We'll spend more time with that at the investor conference as well.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [6]

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Okay. Great. And then one last one for Steve on Wells. Just curious, when were you made aware of Wells being on hold? And was it post the new CEO coming on board? And any idea if this pause by Wells was specific to SEI or if they paused a bunch of their IT projects? Or any more color there would be great.

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [7]

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Well, as far as when we knew, we've been in conversations with Wells over the past several weeks. I would not tie this directly to the new CEO. I think there's a number of things on Wells' plate that caused this. As far as speculating to other providers, I do not believe this is just focused on SEI, but from our standpoint, I don't want to speak for Wells or speculate on their point -- on their part. I think the most important thing out of this is, Wells has asked us in their time of need for us to be a good partner and that's what we're going to do. We've done that for the past 40 years, and quite frankly, I think the solace we get is that we're putting our clients' needs above ours. We're a little disappointed obviously in pushing this, but we're going to continue to work on their current priorities. Wells does continue to be a large client of SEI. And I think the bigger story for us in private banking is the large backlog we have that is growing and the momentum that is putting off and that's what I want to focus on.

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Christopher Charles Shutler, William Blair & Company L.L.C., Research Division - Research Analyst [8]

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And I guess confidence that this -- there is no change in the long-term relationship with Wells as a result of this extremely high? Or how would you describe it?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [9]

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Well, again, my view is, Wells -- we've had a long history of 40 years with Wells and I expect that to continue for a very long time. They're currently a large client and we'll continue with that. And as I said, we're going to help them work on their current priorities right now as we wait for them to look at when they can reconsider SWP dates. And when they are ready to reconsider SWP dates, we're ready, willing and able.

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Operator [10]

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And our next question is from Robert Lee at KBW.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [11]

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Actually, Steve, maybe just I have 1 or 2 quick questions for you, though. The onetime revenues of $7 million, did that -- I assume that all flowed through in the quarter. I mean I know every quarter, you've had some, but does that...

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [12]

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No. So the $7.3 million announced was obviously tied to new business implementation. About $1 million of that flowed in Q3. The rest will come in over the next 12 or so months.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [13]

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Okay. Great. And then I know you had -- I don't think you've mentioned this call and I apologize if you did and I missed it. But the CIBC, fairly large new client, any sense of when you think that is going to begin coming on board?

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Stephen G. Meyer, SEI Investments Company - Executive VP & Head of Global Wealth Management Services [14]

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Well, we're in active implementation with them. Obviously, there is a large project on their side and our side. We will look to work through the next 12 to 14 months. But I think there'll be phases that we start to bring in towards the end of 2020. But obviously, there is an implementation fee that we'll start to recognize as we go through the implementation as well.

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Robert Andrew Lee, Keefe, Bruyette, & Woods, Inc., Research Division - MD & Analyst [15]

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Great. And then maybe, Dennis, I just had a quick question for you. I mean obviously, I know the tax rate moves around with -- particularly around the options and equity-based comp and things. But how should we be thinking of kind of -- any change in kind of your expectations for a "normal" tax rate or kind of basic core tax rate?

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Dennis J. McGonigle, SEI Investments Company - CFO & Executive VP [16]

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I mean fourth quarter will look more like first and second quarter. Third quarter, we also get the benefit of tax years closing out. So you get some reserve reversals as a result that benefit us. So third quarter -- our third quarter is usually a quarter where the tax rate is a little bit lower historically. Fourth quarter will be similar to first and second, more in the 21% range.

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Operator [17]

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And now there are no further questions in queue.

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Alfred P. West, SEI Investments Company - Chairman & CEO [18]

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Thank you. And so ladies and gentlemen, sales results were solid this quarter and we're encouraged by the size of our pipelines and the progress we're making throughout the company. Further, we believe that the investments we are making in our platforms and organization will help us benefit from all the changes taking place in our industry.

Now before you go, please note that we're holding an investor conference on November 12 and 13 at SEI's Oaks headquarters and dinner will be served on the 12, followed by the conference on the 13. I hope you make it. Thank you very much for attending this afternoon, and have a great day.

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Operator [19]

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That does conclude our conference for today. Thank you for your participation, and you may now disconnect.