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Edited Transcript of WHG earnings conference call or presentation 25-Jul-18 8:30pm GMT

Q2 2018 Westwood Holdings Group Inc Earnings Call

DALLAS Jul 26, 2018 (Thomson StreetEvents) -- Edited Transcript of Westwood Holdings Group Inc earnings conference call or presentation Wednesday, July 25, 2018 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brian O'Connor Casey

Westwood Holdings Group, Inc. - President, CEO & Director

* Julie Kramer Gerron

Westwood Holdings Group, Inc. - Senior VP, General Counsel, Chief Compliance Officer & Corporate Secretary

* Tiffany B. Kice

Westwood Holdings Group, Inc. - Senior VP, CFO & Treasurer

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Conference Call Participants

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* Macrae Sykes

Gabelli Funds, LLC - Research Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Q2 2018 Westwood Holdings Group, Inc. Earnings Conference Call. (Operator Instructions)

As a reminder, this conference call is being recorded for replay purposes. It is now my pleasure to hand the conference over to Ms. Julie Gerron, General Counsel and Chief Compliance Officer.

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Julie Kramer Gerron, Westwood Holdings Group, Inc. - Senior VP, General Counsel, Chief Compliance Officer & Corporate Secretary [2]

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Thank you. Good afternoon, and welcome to our Second Quarter 2018 Earnings Conference Call. The following discussion will include forward-looking statements. These forward-looking statements are subject to known and unknown risks, uncertainties and other factors which may cause actual results to be materially different from those contemplated by the forward-looking statements. Additional information concerning the factors that could cause such a difference is included in our press release issued earlier today as well as in our Form 10-Q for the quarter ended June 30, 2018, filed with the Securities and Exchange Commission. We undertake no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise. You are cautioned not to place undue reliance on forward-looking statements.

In addition, in accordance with SEC rules concerning non-GAAP financial measures, the reconciliation of our economic earnings and economic earnings per share to the most comparable GAAP measures is included at the end of our press release issued earlier today.

On the call today, we have Brian Casey, our President and Chief Executive Officer; and Tiffany Kice, our Chief Financial Officer.

I will now turn the call over to our CEO, Brian Casey.

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Brian O'Connor Casey, Westwood Holdings Group, Inc. - President, CEO & Director [3]

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Good afternoon, and thanks for taking time to listen to our second quarter earnings call. I will start with some comments on the investment environment and then dive deeper into our investment performance and business.

In the U.S., the headlines were dominated by concern over trade wars and the potential adverse effects on the larger internationally exposed companies. Meanwhile, SmallCap companies continue to roar ahead, with the SmallCap Value index posting its fifth largest gain in the past 5 years.

The market also had to digest another increase in rates by the Federal Reserve and the European Central Bank's plans to taper their asset purchases with a path to higher rates next year. We expect the net impact of these actions to be a shift in the investing landscape of the past 8 years from a market driven by monetary policy that lifts all companies towards one with clear winners and losers. This will likely lead to higher volatility and an environment that is more favorable for active management.

Given these dynamics, our larger U.S. Value products did well, while our Small and MidCap products were behind during the quarter. Our LargeCap Value product beat its primary benchmark for the sixth quarter in a row and remains in the top decile peer group since its inception over 30 years ago.

Concentrated LargeCap, which is in its fifth year, continues to have strong peer rankings and remains in the top quartile year-to-date and first percentile since inception. AllCap Value beat its benchmark for the quarter and year-to-date is in the top third of peer rankings over the past year.

Our SMidCap strategy continues to improve on a relative basis but was behind for the quarter, given the dynamics of Small and Midcap performance in the quarter. SMidCap peer rankings are in the top third year-to-date and top quartile since inception. Our SmallCap Value product, which has produced strong returns for several years, remains solidly ahead year-to-date but fell short of its benchmark in the quarter. Overall, its rankings remain in the top quartile year-to-date and for 1- and 3-year periods. For the 5, 7 and since-inception time periods, the SmallCap strategy is solidly in the top decile versus peers.

The MLP space rebounded strongly in the quarter with double-digit gains in all of our MLP-related strategies and well ahead of its benchmark for the quarter and year-to-date. We're especially pleased with our MLP and strategic energy mutual funds' top quartile rankings over the past year and so far in 2018. The strategy also ranks well amongst its peers in the institutional space, and we're pleased to earn another performance fee for a long-tenured client.

In our Multi-Asset products, Income Opportunity produced positive returns in the quarter, while Worldwide Income Opportunity saw its performance negatively affected by the performance in global equity market. Emerging Markets faced pressure over growth concerns and saw large declines in the quarter. China has benefited strongly from the positive impact of A share inclusion in the emerging markets benchmark, yet we remain cautious and consciously underweight.

As bottom-up stock pickers, our process drives us towards high-quality companies with successful track records and away from speculative, low-quality, momentum-driven companies. Over time, we found that quality always wins, and we remain patient, long-term investors.

For the quarter, we lagged the benchmarks for Emerging Markets and Global Equities, but we believe that our portfolio of well-researched, high-quality companies generating economic value added will outperform in more volatile and uncertain times.

In Global Convertibles, the economic backdrop for convertible bonds remain supportive of better returns from the asset class. Increased volatility is good for convertibles as the embedded options become more valuable and a sustained increase in volatility will eventually benefit convertible bonds as investors will be willing to pay more for that option if equity prices -- price movements become larger.

Our long-only convertible bond strategy produced a strong quarter with positive absolute returns against a benchmark that fell during the quarter. For the quarter and year-to-date, it has top quartile peer rankings.

Our Market Neutral Income product remains positioned to benefit not only from increased volatility but also a rise in interest rates. Meanwhile, the yield book portion of the fund has a shorter duration and is less susceptible to increases in rates. Looking ahead, our investment teams remain focused on identifying quality businesses that the market has mispriced. We remain of the view that the uptick in volatility seen in Q1 is just the beginning of a sustained move to even higher volatility. Despite strong earnings from companies large and small and a strong global economic environment, many risks remain in the investing landscape.

As mentioned in previous quarters, our portfolio managers are focused on risk control, and we are prepared for increased volatility and the inevitable market correction whenever it arrives.

Turning now to sales and client service. On the institutional front, I'm very pleased to welcome Steve Paddon as our new Head of Institutional Sales. He joins us from, most recently, the role of Head of Institutional and International sales at Oppenheimer Funds in New York. In his role here at Westwood, he is responsible for managing our institutional sales, service and marketing teams. As Steve ramps up his knowledge of Westwood, he is evaluating all aspects of our business and support infrastructure in an effort to increase direct new business selling efforts. We're very excited to have him on board with us and welcome him to the Westwood family.

As I commented earlier, our SMidCap product's record have been challenged over the last few years, and we did experience outflows related to that. The outflows were concentrated in 3 large client redemptions contributing to the bulk of our overall outflows for the quarter.

While our EM strategy has been out of favor recently, we continue to be proactive in visiting clients and feel they're appreciative of the thoughtful, well-researched approach we bring to managing their portfolios. We have an on-site scheduled for next week with one of the larger consulting firms, and we're working on a campaign to draw attention to the relative attractiveness of the EM asset class and the importance over time of owning sustainable, high-quality companies.

In our domestic strategies, LargeCap Value, Concentrated LargeCap Value and SmallCap Value have strong track records and fit the demand profile for differentiated active strategies. We are building proactive campaigns with these products as we see strong interest from consultants and prospects in these areas. We continue to feel positive about our sub-advisory mandate and partnership with Aviva and experience positive net inflows into our strategic Global Convertible strategy during the quarter. Aviva now represents more than 6% of our assets under management, and we look forward to growing with them as they build out their global sales force and consider additional Westwood strategies for their sales team.

Also in the sub-advisory space, we mentioned last quarter that we were selected by a high-profile brand to provide sub-advisory services. We're pleased to report that Morningstar has selected our SmallCap strategy to participate in its U.S. equity fund. We view our selection as a significant vote of confidence in our SmallCap team and our firm by the leading mutual fund consulting firm in the industry.

In our mutual funds business, we're pleased to report that we had a positive flows into our SmallCap fund for the quarter and year-to-date. Similar to the overall mutual fund industry, we saw inflows to our funds moderate in the second quarter, but our overall gross inflow and outflow rates have improved relative to prior years.

Our Worldwide Income Opportunity and Market Neutral Funds both reached 3-year milestones. Worldwide Income Opportunity Fund is run the same way as our flagship Income Opportunity Fund, with the added diversification benefit of global securities. Our Market Neutral Income Fund is differentiated with good performance and a strong peer ranking in Morningstar over the last 3 years. We're excited to see where both may go over the years ahead.

On the Private Wealth front, our Houston team is on pace to exceed plan, and momentum has continued through the summer with increasing business development activity. Our team believes they're taking market share from the larger companies in Houston with our holistic messaging that encompasses financial planning, estate planning and money management services. This approach resonates well with clients and prospects, and we're very excited to see what our Houston team will accomplish over the balance of the year.

In the Dallas Private Wealth business, our expanded array of services to clients is beginning to show positive results. Our ability to assist with complex financial planning is proving to be helpful to existing clients and creating new referrals for our pipeline. On the technology front, we continue to build out our digital platform. We began this process in 2016 with a -- significant improvements to our basic infrastructure when we moved our infrastructure to the cloud.

Concurrently in 2016, we migrated our front office trading and compliance platforms to Bloomberg, a true Multi-Asset, multicurrency platform. We are currently upgrading our institutional portfolio accounting system to a fully digital backbone. We will continue to build out our digital platform over the next couple of years, with the goal of providing seamless digital access to all our clients across all our distribution channels.

As you can see from our disclosures in our 10-Q, we made a strategic investment of $5 million in our partner, InvestCloud, who is currently helping us to build out our digital institutional portfolio accounting platform and digital client experience. We believe strongly in InvestCloud and look forward to expanding our relationship together as we build out a leading-edge digital platform.

Lastly, I'm pleased to announce that we've become a signatory of the United Nations Principles for Responsible Investment. We've always been active incorporating responsibility in our investing process, and we currently manage in excess of $3 billion in socially responsible investments. Being active describes more than our approach to investing but also how we run our business as a publicly traded company. Our focus on transparency; corporate governance; life principles; ethical conduct in giving back to the communities in which we operate is core to our values.

We just completed 16 years as a public company, and we're pleased to have grown the dividend every year, accumulated over $100 million in cash and investments on a debt-free balance sheet and produced returns ahead of the Russell 2000 and S&P 500.

None of this would've been possible without the commitment to excellence shown by my talented colleagues and the confidence of our long-term clients and shareholders. As we look forward, we believe that clients are looking for differentiated performance, and that starts with being different than a passive index. We will continue to adhere to a disciplined investment process and provide a range of products to satisfy the clients we have today and those we will have in the future.

I'll now turn it over to Tiffany Kice, our CFO, to discuss our financial results.

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Tiffany B. Kice, Westwood Holdings Group, Inc. - Senior VP, CFO & Treasurer [4]

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Thanks, Brian, and good afternoon, everyone. Today we reported total revenues of $32.8 million for the second quarter of 2018 compared to $33.8 million in the prior year second quarter and $33.6 million in the first quarter of 2018. The decreases were primarily due to net outflows and the sale of the Omaha-based component of our Private Wealth business, partially offset by higher performance-based fees earned in the current quarter.

Second quarter net income was $8 million or $0.94 per share compared to $6.9 million or $0.83 per share in the prior year second quarter. The current quarter benefited from higher performance-based fees; reductions in compensation following the sale of our Omaha-based component of our Private Wealth business; and reductions in short- and long-term incentive compensation; higher foreign currency transaction gains; and a lower U.S. corporate income tax rate due to tax reform.

These benefits were partially offset by lower asset-based fees and an increase in information technology implementation costs as we continue to invest in our technology infrastructure.

Second quarter net income of $8 million or $0.94 per share was essentially flat with the first quarter of 2018. The current quarter benefited from a reduction in employee compensation as a result of seasonal incremental payroll tax and benefit plan matching expenses on cash bonuses paid in the first quarter, while the first quarter of 2018 benefited from higher asset-based fees and a larger foreign currency transaction gain.

Economic earnings, a non-GAAP metric, was $12.2 million or $1.43 per share compared to $11.7 million or 1.41 per share in the prior year second quarter and $12.6 million or $1.48 per share in the first quarter of 2018. Firm-wide assets under management totaled $21.6 billion at quarter-end and consisted of institutional assets of $12.5 billion or 58% of the total, private wealth assets of $4.9 billion or 23% of the total and mutual fund assets of $4.2 billion or 19% of the total.

We experienced net outflows related to ongoing business of $0.9 billion, with the remaining outflows related to the sale of our Omaha-based Private Wealth operations and market depreciation of $31 million.

Our financial position continues to be very solid, with cash and investments at quarter-end totaling $108.8 million and a debt-free balance sheet. We have no significant updates on the impact of tax legislation since our last earnings call, and we continue to expect our fiscal 2018 effective tax rate to be in the range of 26% to 28%.

We are pleased to announce that our Board of Directors approved a quarterly cash dividend of $0.68 per share, payable on October 1, 2018, to stockholders of record on September 7, 2018. This represents an annualized dividend yield of 4.7% as of the closing price on July 23.

That brings our prepared comments to a close. We encourage you to review our investor presentation we have posted on our website reflecting second quarter 2018 highlights as well as a discussion of our business, product development and longer-term trends and revenues, earnings and dividends.

We thank you for your interest in our company, and we'll open up the lines to questions now.

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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 line of Mac Sykes with Gabelli.

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Macrae Sykes, Gabelli Funds, LLC - Research Analyst [2]

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Brian, with respect to this Morningstar sub-advisory committee, could you talk about the reach of distribution for this product, maybe how it's marketed?

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Brian O'Connor Casey, Westwood Holdings Group, Inc. - President, CEO & Director [3]

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Sure. It was a long time coming. There was a lot of discussion that started last year. And what Morningstar is attempting to do is really provide what they believe to be best-of-breed in each of the various style boxes and put that together in a number of different funds. So it will be available to advisers and available to 401(k) plans and others. So it's got a pretty broad and wide audience.

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Macrae Sykes, Gabelli Funds, LLC - Research Analyst [4]

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And then Tiffany, I noticed the investment portfolio looks like it went up about $12 million quarter-over-quarter. What was the change there? Is there more seeds or...

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Tiffany B. Kice, Westwood Holdings Group, Inc. - Senior VP, CFO & Treasurer [5]

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Oh, you mean the $5 million for the InvestCloud investment? (inaudible)

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Macrae Sykes, Gabelli Funds, LLC - Research Analyst [6]

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No. The movement in the balance sheet from cash to investments. Looks like the investment security bucket was moved from $48 million to $61 million. Is that really -- I can take it offline.

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Tiffany B. Kice, Westwood Holdings Group, Inc. - Senior VP, CFO & Treasurer [7]

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No, no, no. Let me just take a look. I don't know that there's any -- the combination of the 2 really hasn't been -- is not significantly changed.

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Macrae Sykes, Gabelli Funds, LLC - Research Analyst [8]

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Okay, great.

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Tiffany B. Kice, Westwood Holdings Group, Inc. - Senior VP, CFO & Treasurer [9]

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And keep in mind in first quarter, we pay all of our incentive comp bonuses.

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Brian O'Connor Casey, Westwood Holdings Group, Inc. - President, CEO & Director [10]

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Are there any other questions?

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Operator [11]

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I'm showing no further questions at this time.

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Brian O'Connor Casey, Westwood Holdings Group, Inc. - President, CEO & Director [12]

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Okay. Great. Well, thank you all very much for listening to the call. If you have any follow-up questions, please call either Tiffany or myself directly. Thanks for being a Westwood shareholder.

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Operator [13]

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Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program, and we may all disconnect. Everybody, have a wonderful day.