vctr_Current_Folio_10Q

Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


Form 10-Q

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2019

 

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                   to                 

 

Commission file number: 001-38388


Victory Capital Holdings, Inc.

(Exact name of registrant as specified in its charter)

 

Delaware

 

32-0402956

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

 

 

4900 Tiedeman Road 4th Floor

 

 

Brooklyn, OH

 

44144

(Address of principal executive offices)

 

(Zip Code)

 

(216) 898-2400

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  ☒  No  ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes  ☒  No  ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ☐

 

Accelerated filer ☐

Non-accelerated filer ☒

 

Smaller reporting company ☐

 

 

Emerging growth company ☒

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐ 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  ☐  No  ☒

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

 

 

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Class A Common Stock, $0.01 Par Value

VCTR

NASDAQ

 

The number of outstanding shares of the registrant’s Class A common stock, par value $0.01 per share and Class B common stock, par value $0.01 per share, as of April 30, 2019 were 14,784,313 and 52,800,011, respectively.

 

 

 

 

 


 

Table of Contents

TABLE OF CONTENTS

PART I FINANCIAL INFORMATION 

 

 

 

Item 1. 

Financial Information

6

Item 2. 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

25

Item 3. 

Quantitative and Qualitative Disclosures About Market Risk

39

Item 4. 

Controls and Procedures

40

 

 

 

PART II OTHER INFORMATION 

 

 

 

Item 1. 

Legal Proceedings

41

Item 1A. 

Risk Factors

41

Item 2. 

Unregistered Sales of Equity Securities and Use of Proceeds

41

Item 3. 

Defaults Upon Senior Securities

41

Item 4. 

Mine Safety Disclosures

41

Item 5. 

Other Information

41

Item 6. 

Exhibits

42

 

Signatures

43

 

In this report, when we refer to:

·

the “2014 Credit Agreement,” we are referring to the credit agreement dated as of October 31, 2014 (as amended);

·

“CEMP,” we are referring to Compass Efficient Model Portfolios, LLC;

·

the “CEMP Acquisition,” we are referring to our acquisition of the CEMP business in 2015;

·

“Cerebellum,” we are referring to Cerebellum Capital, LLC;

·

“Crestview,” we are referring to Crestview Advisors, L.L.C.;

·

“Crestview GP,” we are referring to Crestview Partners II GP, L.P.;

·

“ETFs,” we are referring to exchange‑traded funds;

·

the “Existing Credit Agreement,” we are referring to the credit agreement dated as of February 12, 2018 (as amended from time to time);

·

“Harvest,” we are referring to Harvest Volatility Management, LLC.;

·

the “Harvest Acquisition,” we are referring to the transaction contemplated in the Harvest Purchase Agreement;

·

the “Harvest Commitment Letter,” we are referring to the amended and rested commitment letter we entered into on September 21, 2018 (as amended from time to time) with Royal Bank of Canada and Barclays Bank PLC;

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·

the “Harvest Purchase Agreement,” we are referring to the purchase agreement entered into on September 21, 2018 between the Company, Harvest, the members of Harvest listed on Annex A thereto (collectively the “Members”), Curtis Brockelman, Jr. and LPC Harvest, LP, each solely in their joint capacity as Members’ Representative, to purchase 100% of the outstanding equity interests of Harvest; 

·

the “Harvest Termination Agreement,” we are referring to the termination agreement entered into on April 22, 2019 between the Company, Harvest, the Members, Curtis Brockelman, Jr. and LPC Harvest, LP, each solely in their joint capacity as Members’ Representative, to terminate the Harvest Purchase Agreement and abandon the Harvest Acquisition contemplated therein effective April 22, 2019;

·

“IPO,” we are referring to the initial public offering of Class A common stock of Victory Capital Holdings, Inc.;

·

“Members” has the meaning set forth in the definition of “Harvest Purchase Agreement”;

·

“Munder,” we are referring to our Munder Capital Management Franchise;

·

the “Munder Acquisition,” we are referring to our acquisition of Munder Capital in 2014;

·

“Munder Capital,” we are referring to Munder Capital Management;

·

the “RS Acquisition,” we are referring to our acquisition of RS Investments in 2016;

·

“RS Investments,” we are referring to RS Investment Management Co. LLC;

·

“Reverence Capital,” we are referring to Reverence Capital Partners, LP;

·

the “USAA AMCO Acquisition,” we are referring to the pending acquisition of USAA Asset Management Company and its mutual fund and ETF businesses and USAA 529 College Savings Plan and USAA Transfer Agency Company d/b/a USAA Shareholder Account Services pursuant to the USAA Stock Purchase Agreement;

·

the “USAA AMCO Credit Facilities Commitment Letter,” we are referring to the commitment letter we entered into on November 6, 2018 (as amended from time to time) with Barclays Bank PLC and Royal Bank of Canada;

 

·

the “USAA Stock Purchase Agreement,” we are referring to the stock purchase agreement entered into on November 6, 2018 between the Company, USAA Investment Corporation, and, for certain limited purposes, USAA Capital Corporation, and its mutual fund and ETF businesses and USAA 529 College Savings Plan to purchase 100% of the outstanding common stock of USAA Asset Management Company and USAA Transfer Agency Company d/b/a USAA Shareholder Account Services (each a “USAA Acquired Company” and collectively, the “USAA Acquired Companies”);

·

“VCA,” we are referring to Victory Capital Advisers, Inc., our broker‑dealer subsidiary registered with the Securities and Exchange Commission;

·

“VCM,” we are referring to Victory Capital Management Inc., our wholly owned registered investment adviser;

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·

“Victory,” the “Company,” “we,” “our” or “us,” we are referring to Victory Capital Holdings, Inc. and its consolidated subsidiaries, except where otherwise stated or where it is clear that the term means only Victory Capital Holdings, Inc. exclusive of its subsidiaries;

·

the “Victory Funds,” we are referring to the Victory Portfolios, Victory Variable Insurance Funds, Victory Institutional Funds and the mutual fund series of Victory Portfolio II, a family of open-end mutual funds; and

·

“VictoryShares,” we are referring to Victory’s ETF brand.

Forward‑Looking Statements

This report includes forward-looking statements, including in the sections entitled “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business”. These forward‑looking statements include, without limitation, statements regarding our industry, business strategy, plans, goals and expectations concerning our market position, future operations, margins, profitability, future efficiencies, capital expenditures, liquidity and capital resources and other financial and operating information. When used in this discussion, the words “may,” “believes,” “intends,” “seeks,” “anticipates,” “plans,” “estimates,” “expects,” “should,” “assumes,” “continues,” “could,” “will,” “future” and the negative of these or similar terms and phrases are intended to identify forward‑looking statements in this report.  

Forward‑looking statements reflect our current expectations regarding future events, results or outcomes. These expectations may or may not be realized. Although we believe the expectations reflected in the forward‑looking statements are reasonable, we can give no assurance that these expectations will prove to have been correct. Some of these expectations may be based upon assumptions, data or judgments that prove to be incorrect. Actual events, results and outcomes may differ materially from our expectations due to a variety of known and unknown risks, uncertainties and other factors. Although it is not possible to identify all of these risks and factors, they include, among others, the following:

·

reductions in AUM based on investment performance, client withdrawals, difficult market conditions and other factors;

·

the nature of our contracts and investment advisory agreements;

·

our ability to maintain historical returns and sustain our historical growth;

·

our dependence on third parties to market our strategies and provide products or services for the operation of our business;

·

our ability to retain key investment professionals or members of our senior management team;

·

our reliance on the technology systems supporting our operations;

·

our ability to successfully acquire and integrate new companies;

·

the concentration of our investments in long only small‑ and mid‑cap equity and U.S. clients;

·

risks and uncertainties associated with non‑U.S. investments;

·

our efforts to establish and develop new teams and strategies;

·

the ability of our investment teams to identify appropriate investment opportunities;

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·

our ability to limit employee misconduct;

·

our ability to meet the guidelines set by our clients;

·

our exposure to potential litigation (including administrative or tax proceedings) or regulatory actions;

·

our ability to implement effective information and cyber security policies, procedures and capabilities;

·

our substantial indebtedness;

·

the potential impairment of our goodwill and intangible assets;

·

disruption to the operations of third parties whose functions are integral to our ETF platform;

·

our determination that we are not required to register as an “investment company” under the 1940 Act;

·

the fluctuation of our expenses;

·

our ability to respond to recent trends in the investment management industry;

·

the level of regulation on investment management firms and our ability to respond to regulatory developments;

·

the competitiveness of the investment management industry;

·

the dual class structure of our common stock;

·

the level of control over us retained by Crestview GP;

·

our status as an emerging growth company and a controlled company;

·

our ability to close and integrate the USAA AMCO Acquisition; and

·

other risks and factors included, but not limited to, those described in Part II, “Item 1A. Risk Factors,” and those listed under the caption “Risk Factors” in Item 1A of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2018, filed with the Securities and Exchange Commission “(SEC”) on March 15, 2019, which is accessible on the SEC’s website at www.sec.gov.

In light of these risks, uncertainties and other factors, the forward‑looking statements contained in this report might not prove to be accurate. All forward‑looking statements speak only as of the date made and we undertake no obligation to update or revise publicly any forward‑looking statements, whether as a result of new information, future events or otherwise.

 

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PART I—FINANCIAL INFORMATION

Item 1.  Financial Statements

Victory Capital Holdings, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
(in thousands, except for shares)

 

 

 

 

 

 

 

 

    

March 31, 2019

    

December 31, 2018

Assets

 

 

  

 

 

  

Cash and cash equivalents

 

$

66,261

 

$

51,491

Receivables

 

 

42,783

 

 

44,120

Prepaid expenses

 

 

3,832

 

 

2,664

Investments

 

 

15,742

 

 

13,320

Property and equipment, net

 

 

8,874

 

 

8,780

Goodwill

 

 

284,108

 

 

284,108

Other intangible assets, net

 

 

383,029

 

 

387,679

Other assets

 

 

9,299

 

 

9,349

Total assets

 

$

813,928

 

$

801,511

 

 

 

 

 

 

 

Liabilities and stockholders' equity

 

 

  

 

 

  

Accounts payable and accrued expenses

 

$

24,410

 

$

20,350

Accrued compensation and benefits

 

 

19,901

 

 

30,228

Consideration payable for acquisition of business

 

 

5,921

 

 

5,838

Deferred tax liability, net

 

 

7,575

 

 

6,212

Other liabilities

 

 

16,636

 

 

14,478

Long-term debt

 

 

269,320

 

 

268,857

Total liabilities

 

 

343,763

 

 

345,963

 

 

 

 

 

 

 

Stockholders' equity

 

 

  

 

 

  

Class A common stock, $0.01 par value per share: 2019 - 400,000,000 shares authorized, 15,663,474 shares issued and 14,684,242 shares outstanding; 2018 - 400,000,000 shares authorized, 15,280,833 shares issued and 14,424,558 shares outstanding

 

 

157

 

 

153

Class B common stock, $0.01 par value per share: 2019 - 200,000,000 shares authorized, 55,014,007 shares issued and 52,837,919 shares outstanding; 2018 - 200,000,000 shares authorized, 55,284,408 shares issued and 53,137,428 shares outstanding

 

 

550

 

 

553

Additional paid-in capital

 

 

606,181

 

 

604,401

Class A treasury stock, at cost: 2019 - 979,232 shares; 2018 - 856,275 shares

 

 

(9,389)

 

 

(8,045)

Class B treasury stock, at cost: 2019 - 2,176,088 shares; 2018 - 2,146,980 shares

 

 

(22,037)

 

 

(21,719)

Accumulated other comprehensive income (loss)

 

 

(12)

 

 

(86)

Retained deficit

 

 

(105,285)

 

 

(119,709)

Total stockholders' equity

 

 

470,165

 

 

455,548

Total liabilities and stockholders' equity

 

$

813,928

 

$

801,511

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

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Victory Capital Holdings, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Operations

(in thousands, except for shares)

 

 

 

 

 

 

 

 

 

 

Three Months Ended March 31, 

 

 

    

2019

    

2018

 

Revenue

 

 

  

 

 

  

 

Investment management fees

 

$

74,411

 

$

89,130

 

Fund administration and distribution fees

 

 

13,068

 

 

15,834

 

Total revenue

 

 

87,479

 

 

104,964

 

 

 

 

 

 

 

 

 

Expenses

 

 

  

 

 

  

 

Personnel compensation and benefits

 

 

34,501

 

 

36,803

 

Distribution and other asset-based expenses

 

 

15,767

 

 

25,161

 

General and administrative

 

 

7,087

 

 

9,056

 

Depreciation and amortization

 

 

5,222

 

 

6,412

 

Acquisition-related costs

 

 

2,777

 

 

 —

 

Restructuring and integration costs

 

 

 —

 

 

264

 

Total operating expenses

 

 

65,354

 

 

77,696

 

 

 

 

 

 

 

 

 

Income from operations

 

 

22,125

 

 

27,268

 

 

 

 

 

 

 

 

 

Other income (expense)

 

 

  

 

 

  

 

Interest income and other income/(expense)

 

 

1,833

 

 

(37)

 

Interest expense and other financing costs

 

 

(4,624)

 

 

(7,092)

 

Loss on debt extinguishment

 

 

 —

 

 

(6,058)

 

Total other income (expense), net

 

 

(2,791)

 

 

(13,187)

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

19,334

 

 

14,081

 

 

 

 

 

 

 

 

 

Income tax expense

 

 

(4,807)

 

 

(3,557)

 

 

 

 

 

 

 

 

 

Net income

 

$

14,527

 

$

10,524

 

 

 

 

 

 

 

 

 

Earnings per share of common stock

 

 

 

 

 

 

 

Basic

 

$

0.22

 

$

0.17

 

Diluted

 

$

0.20

 

$

0.16

 

 

 

 

 

 

 

 

 

Weighted average number of shares outstanding

 

 

 

 

 

 

 

Basic

 

 

67,520,883

 

 

61,599,057

 

Diluted

 

 

72,281,878

 

 

66,283,621

 

 

 

 

 

 

 

 

 

Dividends declared per share of common stock

 

$

 —

 

$

 —

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

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Victory Capital Holdings, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Comprehensive Income

(in thousands)

 

 

 

 

 

 

 

 

 

 

Three Months Ended March 31, 

 

 

    

2019

    

2018

 

Net income

 

$

14,527

 

$

10,524

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax

 

 

  

 

 

  

 

Net unrealized income on available-for-sale securities

 

 

 —

 

 

 5

 

Net unrealized gain (loss) on foreign currency translation

 

 

12

 

 

29

 

Total other comprehensive income (loss), net of tax

 

 

12

 

 

34

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

14,539

 

$

10,558

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

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Victory Capital Holdings, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Changes in Stockholders’ Equity
(in thousands, except for shares)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Additional

 

Other

 

 

 

 

 

 

 

 

Common Stock

 

 

 

Treasury Stock

 

 

 

Paid-In

 

Comprehensive

 

Retained

 

 

 

 

    

Class A

Class B

 

    

Class A

Class B

 

    

Capital

    

Income (Loss)

    

Deficit

    

Total

Balance, December 31, 2018

 

$

153

$

553

 

 

 

$

(8,045)

$

(21,719)

 

 

 

$

604,401

 

$

(86)

 

$

(119,709)

 

$

455,548

Issuance of common stock

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

13

 

 

 —

 

 

 —

 

 

13

Share conversion - Class B to A

 

 

 4

 

(4)

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Repurchase of shares

 

 

 —

 

 —

 

 

 

 

(1,344)

 

 —

 

 

 

 

 —

 

 

 —

 

 

 —

 

 

(1,344)

Shares withheld related to net settlement of equity awards

 

 

 —

 

 —

 

 

 

 

 —

 

(318)

 

 

 

 

 —

 

 

 —

 

 

 —

 

 

(318)

Vesting of restricted share grants

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Exercise of options

 

 

 —

 

 1

 

 

 

 

 —

 

 —

 

 

 

 

220

 

 

 —

 

 

 —

 

 

221

Cumulative effect of adoption of ASU 2016-01 and 2018-02

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

62

 

 

(62)

 

 

 —

Other comprehensive income/(loss)

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

12

 

 

 —

 

 

12

Share-based compensation

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

1,547

 

 

 —

 

 

 —

 

 

1,547

Dividends paid

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

 —

 

 

(41)

 

 

(41)

Net income

 

 

 —

 

 —

 

 

 

 

 —

 

 —

 

 

 

 

 —

 

 

 —

 

 

14,527

 

 

14,527

Balance, March 31, 2019

 

$

157

$

550

 

 

 

$

(9,389)

$

(22,037)

 

 

 

$

606,181

 

$

(12)

 

$

(105,285)

 

$

470,165

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Additional

 

Other

 

 

 

 

 

 

 

 

Common Stock

 

Treasury Stock

 

Paid-In

 

Comprehensive

 

Retained

 

 

 

 

    

Class A

Class B

Pre-IPO

 

Class A

Class B

Pre-IPO

    

Capital

    

Income (Loss)

    

Deficit

    

Total

Balance, December 31, 2017

 

$

 —

$

 —

$

572

 

$

 —

$

 —

$

(20,899)

 

$

435,334

 

$

64

 

$

(183,888)

 

$

231,183

Issuance of Class A common stock, net of underwriter discount

 

 

128

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

156,421

 

 

 —

 

 

 —

 

 

156,549

Class A common stock offering costs

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

(4,561)

 

 

 —

 

 

 —

 

 

(4,561)

Redesignation of common stock

 

 

 —

 

572

 

(572)

 

 

 —

 

 —

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Share conversion - Class B to A

 

 

 1

 

(1)

 

 —

 

 

 —

 

 —

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Vesting of restricted share grants

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Exercise of options

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

12

 

 

 —

 

 

 —

 

 

12

Fractional shares retired

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

(2)

 

 

 —

 

 

 —

 

 

(2)

Cumulative effect of adoption of ASU 2016-09

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

512

 

 

 —

 

 

1,306

 

 

1,818

Other comprehensive income/(loss)

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

 —

 

 

34

 

 

 —

 

 

34

Share-based compensation

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

3,322

 

 

 —

 

 

 —

 

 

3,322

Dividends paid

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

 —

 

 

 —

 

 

(53)

 

 

(53)

Net income

 

 

 —

 

 —

 

 —

 

 

 —

 

 —

 

 —

 

 

 —

 

 

 —

 

 

10,524

 

 

10,524

Balance, March 31, 2018

 

$

129

$

571

$

 —

 

$

 —

$

 —

$

(20,899)

 

$

591,038

 

$

98

 

$

(172,111)

 

$

398,826

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

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Victory Capital Holdings, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Cash Flows
(in thousands)

 

 

 

 

 

 

 

 

 

 

Three Months Ended March 31, 

 

 

    

2019

    

2018

    

Cash flows from operating activities

 

 

  

 

 

  

 

Net income

 

$

14,527

 

$

10,524

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

  

 

 

 

 

Provision for deferred income taxes

 

 

1,360

 

 

3,361

 

Depreciation and amortization

 

 

5,222

 

 

6,412

 

Deferred financing costs and derivative and accretion expense

 

 

593

 

 

995

 

Stock-based and deferred compensation

 

 

3,924

 

 

4,253

 

Unrealized depreciation (appreciation) on investments

 

 

(1,458)

 

 

124

 

Loss on equity method investment

 

 

 4

 

 

137

 

Loss on debt extinguishment

 

 

 —

 

 

6,058

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

Receivables

 

 

(327)

 

 

1,104

 

Prepaid expenses

 

 

(1,181)

 

 

(1,545)

 

Other assets

 

 

 —

 

 

425

 

Accounts payable and accrued expenses

 

 

5,685

 

 

2,166

 

Accrued compensation and benefits

 

 

(10,331)

 

 

(8,280)

 

Other liabilities

 

 

(80)

 

 

138

 

Net cash provided by operating activities

 

 

17,938

 

 

25,872

 

 

 

 

 

 

 

 

 

Cash flows from investing activities

 

 

  

 

 

  

 

Purchases of property and equipment

 

 

(484)

 

 

(703)

 

Purchases of trading securities

 

 

(1,533)

 

 

(1,464)

 

Sales of trading securities

 

 

570

 

 

448

 

Equity method investment

 

 

 —

 

 

(1,000)

 

Net cash used in investing activities

 

 

(1,447)

 

 

(2,719)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities

 

 

  

 

 

  

 

Issuance of Class A common stock, net of underwriter discount

 

 

13

 

 

156,549

 

Payment of Class A common stock deferred offering costs

 

 

 —

 

 

(438)

 

Issuance of Class B common stock from exercise of stock options

 

 

221

 

 

10

 

Repurchase of common stock

 

 

(1,643)

 

 

 —

 

Payments of taxes related to net share settlement of equity awards

 

 

(196)

 

 

 —

 

Proceeds from long-term senior debt

 

 

 —

 

 

359,100

 

Payment of debt financing fees

 

 

 —

 

 

(2,091)

 

Repayment of long-term senior debt

 

 

 —

 

 

(536,750)

 

Repayment of promissory note

 

 

(96)

 

 

(144)

 

Payment of dividends

 

 

(41)

 

 

(53)

 

Net cash used in financing activities

 

 

(1,742)

 

 

(23,817)

 

 

 

 

 

 

 

 

 

Effect of changes of foreign exchange rate on cash and cash equivalents

 

 

21

 

 

39

 

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

 

14,770

 

 

(625)

 

Cash and cash equivalents, beginning of period

 

 

51,491

 

 

12,921

 

Cash and cash equivalents, end of period

 

$

66,261

 

$

12,296

 

 

 

 

 

 

 

 

 

Supplemental cash flow information

 

 

  

 

 

  

 

Cash paid for interest

 

$

3,801

 

$

6,163

 

Cash paid for income taxes

 

 

343

 

 

 —

 

Supplemental disclosure of non-cash item

 

 

  

 

 

  

 

Class A common stock offering costs reclassed from prepaid expenses and accounts payable and accrued expenses  to additional paid in capital

 

 

 —

 

 

4,123

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

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Victory Capital Holdings, Inc. and Subsidiaries
Notes to Unaudited Condensed Consolidated Financial Statements

March 31, 2019

1. Organization and Nature of Business

Victory Capital Holdings, Inc., a Delaware corporation (along with its wholly-owned subsidiaries, collectively referred to as “the Company”) was formed on February 13, 2013 for the purpose of acquiring Victory Capital Management Inc. (“VCM”) and Victory Capital Advisers, Inc. (“VCA”), which occurred on August 1, 2013.

VCM is a registered investment adviser managing assets through open-end mutual funds, separately managed accounts, unified management accounts, ETFs, collective trust funds, wrap separate account programs and UCITs. VCM also provides mutual fund administrative services for the Victory Portfolios, Victory Variable Insurance Funds, Victory Institutional Funds and the mutual fund series of the Victory Portfolios II (collectively, “the Victory Funds”), a family of open-end mutual funds, and the VictoryShares (the Company’s ETF brand). VCM additionally employs all of the Company’s U.S. investment professionals across its Franchises and Solutions, which are not separate legal entities. VCA is registered with the SEC as an introducing broker-dealer and serves as distributor and underwriter for the Victory Funds.

On February 12, 2018, the Company completed the initial public offering (“IPO”) of its Class A common stock, which trades on the NASDAQ under the symbol “VCTR.”

2. Basis of Presentation and Significant Accounting Policies

The Company prepares its interim unaudited condensed consolidated financial statements on the accrual basis of accounting in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and applicable rules and regulations of the SEC regarding interim financial reporting. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, these financial statements contain all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the Company’s financial condition and results of operations.

These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 filed with the SEC. A complete listing of the Company’s significant accounting policies is included in the 2018 Annual Report on Form 10-K.

All dollar amounts, except per share data in the text and tables herein, are stated in thousands unless otherwise indicated.

Retroactive Adjustments for Common Stock Split

The Company’s Board of Directors and stockholders approved a 175.194 for 1 stock split of the Company’s common stock on February 1, 2018. All common share and common per share amounts in the unaudited condensed consolidated financial statements and notes thereto have been retroactively adjusted for all periods presented to give effect to this stock split. See Notes 10, 11 and 12.

Principles of Consolidation

The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly‑owned subsidiaries. All intercompany transactions and balances have been eliminated.

The Company evaluates entities in which it invests and investment funds that it sponsors to determine whether the Company has a controlling financial interest in these entities and is required to consolidate them. A controlling financial interest generally exists if 1) the Company holds greater than 50% voting interest in entities controlled through voting

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interests or if 2) the Company has the ability to direct significant activities of a fund not controlled through voting interests (a variable interest entity or VIE) and the obligation to absorb losses of and/or the right to receive benefits from the VIE that could potentially be significant to the VIE.

The Company’s involvement with non‑consolidated sponsored investment funds that are considered VIEs include providing investment advisory services, fund administration and distribution services and/or holding a minority interest. At March 31, 2019 and December 31, 2018, the Company’s investments in and maximum risk of loss related to unconsolidated sponsored VIE investment funds totaled $15.3 million and $12.9 million respectively which are included in investments on the unaudited condensed consolidated balance sheets. The Company has not provided financial support to these entities outside the ordinary course of business, which includes assuming operating expenses of funds for competitive or contractual reasons through fee waivers and fund expense reimbursements. The Company does not consolidate the sponsored investment funds in which it had an equity investment as it holds a minority interest, does not direct significant activities of these funds and does not have the right to receive benefits nor the obligation to absorb losses that could potentially be significant to these funds.

During the period ended March 31, 2019, the Company’s involvement with other non‑consolidated VIEs included an equity method investment with Cerebellum Capital, LLC (“Cerebellum Capital”). The Company’s maximum risk of loss associated with Cerebellum Capital totaled $9.0 million at March 31, 2019 and December 31, 2018. See Note 13.

The Company applies the equity method of accounting to investments where it does not hold a controlling equity interest but has the ability to exercise significant influence over operating and financial matters. In the event that management identifies an other than temporary decline in the estimated fair value of an equity method investment to an amount below its carrying value, the investment is written down to its estimated fair value.

Use of Estimates and Assumptions

The preparation of the unaudited condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts and disclosures in the financial statements. Actual results may ultimately differ from those estimates and the differences may be material.

Revenue Recognition

The Company’s revenue includes fees earned from providing investment management, fund administration and fund distribution services. Revenue is recognized for each distinct performance obligation identified in customer contracts when the performance obligation has been satisfied by transferring services to a customer either over time or at the point in time when the customer obtains control of the service. Revenue is recognized in the amount of variable or fixed consideration allocated to the satisfied performance obligation that the Company expects to be entitled to in exchange for transferring services to a customer. Variable consideration is included in the transaction price only when it is probable that a significant reversal of such revenue will not occur when the uncertainty associated with the variable consideration is subsequently resolved.

Investment management, fund administration and fund distribution fees are generally considered variable consideration as they are typically calculated as a percentage of assets under management and advisement (“AUM’). The amount of fees earned is subject to factors outside of the Company’s control including customer or underlying investor contributions and redemptions and financial market volatility. These fees are considered constrained and are excluded from the transaction price until the asset values on which the customer is billed are calculated and the value of consideration is measurable.

The timing of when the Company bills its clients and related payment terms varies in accordance with the agreed upon contractual terms. Clients are generally billed after the service is performed which results in the recording of accounts receivable and accrued revenue. Deferred revenue is recorded in situations where a client is billed in advance.

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The Company has contractual arrangements with third parties to provide certain advisory, administration and distribution services. Management considers whether the Company is acting as the principal service provider or as an agent to determine whether its revenue should be recorded based on the gross amount payable by the customer or net of payments to third-party service providers, respectively. The Company is considered a principal service provider if it controls the service that is transferred to the customer. The Company is considered an agent when it arranges for the service to be provided by another party and does not control the service.

Investment Management Fees 

Investment management fees are received in exchange for investment management services that represent a series of distinct incremental days of investment management service. Control of investment management services is transferred to the customers over time as these customers receive and consume the benefits provided by these services. Investment management fees are calculated as a contractual percentage of AUM and are generally paid in arrears on a monthly or quarterly basis.

Investment management fees are recognized as revenue using a time-based output measure to measure progress. Revenue is recorded at month end or quarter end when the value of consideration is measured. The amount of investment management fee revenue varies from one reporting period to another as levels of AUM change (from inflows, outflows and market movements) and as the number of days in the reporting period change.

The Company may waive certain fees for investment management services provided to the Victory Funds and VictoryShares and may subsidize certain share classes of the Victory Funds and VictoryShares to ensure that specified operating expenses attributable to such share classes do not exceed a specified percentage. These waivers and reimbursements reduce the transaction price allocated to investment management services and are recognized as a reduction to investment management fees revenue. The amounts due to the Victory Funds and VictoryShares for waivers and expense reimbursements represent consideration payable to customers, which is recorded in accounts payable and accrued expenses on the unaudited condensed consolidated balance sheet, and no distinct services are received in exchange for these payments.

Performance‑based investment management fees, which include fees under performance fee and fulcrum fee arrangements, are included in the transaction price for providing investment management services. Performance-based investment management fees are calculated as a percentage of investment performance on a client’s account versus a specified benchmark or hurdle based on the terms of the contract with the customer. Performance-based investment management fees are variable consideration and are recognized as revenue when it is probable that a significant reversal of the cumulative revenue for the contractual performance period will not occur. Performance-based investment management fees recognized as revenue in the current period may pertain to performance obligations satisfied in prior periods.  

Fund Administration Fees 

The Company recognizes fund administration fees as revenue using a time-based output measure to measure progress. Fund administration fees are determined based on the contractual rate applied to average daily net assets of the Victory Funds and VictoryShares for which administration services are provided. Revenue is recorded on a monthly basis when the value of consideration is measured using actual average daily net assets and constraints are removed.

The Company has contractual arrangements with a third party to provide certain sub-administration services. The Company is the primary obligor under the contracts with the Victory Funds and VictoryShares and has the ability to select the service provider and establish pricing. As a result, fund administration fees and sub-administration expenses are recorded on a gross basis.

Fund Distribution Fees 

VCA receives compensation for sales and sales-related services promised under distribution contracts with the Victory Funds. Revenue is measured in an amount that reflects the consideration to which VCA expects to be entitled in

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exchange for providing distribution services. Distribution fees are generally calculated as a percentage of average net assets in the Victory Funds. VCA’s performance obligation is satisfied at the point in time when control of the services is transferred to customers, which is upon investor subscription or redemption.

Based on the nature of the calculation, the revenue for these services is accounted for as variable consideration, VCA may recognize distribution fee revenue in the current period that pertains to performance obligations satisfied in prior periods, as it represents variable consideration and is recognized as uncertainties are resolved. VCA’s distribution fee revenue is recorded in fund administration and distribution fees on the unaudited condensed consolidated statements of operations.

VCA has contractual arrangements with third parties to provide certain distribution services. VCA is the primary obligor under the contracts with the Victory Funds and has the ability to select the service provider and establish pricing. Substantially all of VCA’s revenue is recorded gross of payments made to third parties.

Costs Related to Customer Contracts 

The Company is required to capitalize certain costs directly related to the acquisition or fulfillment of a contact with a customer. The Company has not identified any sales-based compensation or similar costs that meet the definition of an incremental cost to acquire a contract and as such has no intangible assets related to contract acquisitions.

Direct costs incurred to fulfill services under VCA’s distribution contracts include sales commissions paid to third party dealers for the sale of Class C Shares. VCA may pay upfront sales commissions to dealers and institutions that sell Class C shares of the participating Victory Funds at the time of such sale. Upfront sales commission payments with respect to Class C shares equal 1.00% of the purchase price of the Class C shares sold by the dealer or institution. When VCA makes an upfront payment to a dealer or institution for the sale of Class C shares, VCA capitalizes the cost of such payment, which is recorded in prepaid expenses on the unaudited condensed consolidated balance sheets, and amortizes the cost over a 12 month period, the estimated period of benefit.

Valuation of Assets Under Management

The fair value of assets under management of the Victory Funds and VictoryShares is primarily determined using quoted market prices or independent third party pricing services or broker price quotes. In limited circumstances, a quotation or price evaluation is not readily available from a pricing service. In these cases, pricing is determined by management based on a prescribed valuation process that has been approved by the directors/trustees of the sponsored products. The same prescribed valuation process is used to price securities in separate accounts and other vehicles for which a quotation or price evaluation is not readily available from a pricing service. For the periods presented, a de minimis amount of the AUM was priced in this manner.

 

Distribution and Other Asset‑Based Expenses

Distribution and other asset‑based expenses include broker dealer distribution, platform distribution, sub‑administration, and sub‑advisory expenses. These expenses are accrued on a monthly basis and are generally calculated as a percentage of AUM and vary as levels of AUM change from inflows, outflows and market movement and with the number of days in the month.

Also included in distribution and other asset‑based expenses are middle office expenses. Middle office expenses are accrued on a monthly basis and vary with changes in mutual fund, institutional and wrap separate account AUM levels, the number of accounts and volume of account transaction activity.

Restructuring and Integration Costs

In connection with business combinations, asset purchases and changes in business strategy, the Company incurs costs integrating investment platforms, products and personnel into existing systems, processes and service provider

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arrangements and restructuring the business to capture operating expense synergies. These costs include severance‑related expenses related to one‑time benefit arrangements and contract termination costs.

Contract termination liabilities are recorded for contract termination costs when the Company terminates a contract or stops using the product or service covered by the contract. Contract termination liabilities are recognized and measured at fair value. Contract termination costs are recorded in restructuring and integration costs on the unaudited condensed consolidated statements of operations. A rollforward of restructuring and integration liabilities, which are recorded in accounts payable and accrued expenses on the unaudited condensed consolidated balance sheets, for the three months ended March 31, 2019 and 2018 appears below.

 

 

 

 

 

 

 

 

 

    

Three Months Ended March 31, 

 

(in millions)

    

2019

    

2018

    

Liability balance, beginning of period

 

$

0.1

 

$

0.1

 

Severance expense

 

 

 —

 

 

0.3

 

Restructuring and integration costs

 

 

 —

 

 

0.3

 

Settlement of liabilities

 

 

 —

 

 

(0.2)

 

Liability balance, end of period

 

$

0.1

 

$

0.2

 

 

Earnings Per Share

The calculation of basic earnings per share is based on the weighted average number of shares of the Company’s common stock, Class A common stock and Class B common stock outstanding during the period. Diluted earnings per share is similar to basic earnings per share, but adjusts for the dilutive effect of the potential issuance of incremental shares of all classes of the Company’s common stock. The Company had vested and unvested stock options and unvested restricted stock grants outstanding during the periods presented and applies the treasury stock method to these securities in its calculation of diluted earnings per share. The treasury stock method assumes that the proceeds of exercise are used to purchase common stock at the average market price for the period. The Company does not have any participating securities that would require the use of the two‑class method of computing earnings per share.

Debt Modification

Gains and losses on debt modifications that are considered extinguishments are recognized in current earnings. Debt modifications that are not considered extinguishments are accounted for prospectively through yield adjustments, based on the revised terms. Legal fees and other costs incurred with third parties that are directly related to debt modifications are expensed as incurred and included in general and administrative expense on the unaudited condensed consolidated statements of operations. The analysis as to whether a modification of debt is an extinguishment or modification is performed on a creditor‑by‑creditor basis.

Adoption of New Accounting Standards

In May 2014, the FASB issued ASU 2014‑09, Revenue from Contracts with Customers (ASC 606, as amended), which supersedes prior revenue recognition guidance. ASU 2014-09 and all subsequent amendments related to ASU 2014-09 (the “new revenue guidance") requires the following steps when recognizing revenue: 1) identify the contract with the customer 2) identify performance obligations in the contract 3) determine the transaction price 4) allocate the transaction price to the performance obligations in the contract and 5) recognize revenue when or as performance obligations are satisfied.

The Company’s introducing broker-dealer VCA adopted ASU 2014-09 on January 1, 2018. The Company adopted ASU 2014-09 on January 1, 2019 using the modified retrospective approach. No cumulative effect adjustment was required to be recorded and the comparative information has not been restated. The Company determined that the new revenue guidance did not have a material impact on the timing of recognition of the Company’s revenue. The most significant impact from adopting the new revenue guidance was a change to a net presentation of certain fund expense reimbursements which were previously presented on a gross basis. See Note 3 for the effect of the changes in the presentation of fund expense reimbursements.

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In early 2016, the FASB issued ASU 2016‑01. This update requires equity securities to be measured at fair value and changes in the fair value of equity securities to be recognized in net income. The Company adopted ASU 2016-01 on January 1, 2019, and the adoption had an immaterial impact on the Company’s unaudited condensed consolidated financial statements. In the three months ended March 31, 2019, the Company recognized $0.1 million of unrealized gains in interest income and other income/(expense) in the unaudited condensed consolidated statements of operations.

In February 2018, the FASB issued ASU 2018-02, "Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income". ASU 2018-02 allows companies to reclassify tax effects stranded in accumulated other comprehensive income from remeasuring deferred tax assets and liabilities upon the enactment of the Tax Cuts and Job Act in December 2017. The Company adopted ASU 2018-02 on January 1, 2019 and elected to reclassify the income tax effects of the 2017 Tax Cuts and Jobs Act, which totaled $0.1 million, from accumulated other comprehensive income to retained deficit.

On October 2018, as part of Rule 3-04 of Regulation S-X, the SEC published amended rules requiring an analysis of changes in stockholders’ equity for the current and comparative quarter and year to date periods in financial statements included in quarterly reports on Form 10-Q. The Company began including an analysis of changes in stockholders’ equity for the current and comparative quarter in its unaudited condensed consolidated financial statements included on Form 10-Q for the quarter ending March 31, 2019.

In August 2016, the FASB issued ASU 2016‑15 which provides guidance on the cash flow statement classification of debt extinguishment costs, contingent consideration payments made after a business combination, and distributions received from equity method investees. The Company adopted ASU 2016-15 on January 1, 2019 and there was no impact on the unaudited condensed consolidated financial statements.

Recent Accounting Pronouncements

In February 2016, the FASB issued ASU 2016‑02 on leases. The new guidance requires lessees to record most leases on their balance sheets. Expense will be recognized in the income statement in a manner that is similar to today’s accounting. A modified retrospective transition approach is used when adopting the amended ASU 2016-02, which includes a number of optional practical expedients that entities may elect to apply. The update is effective for fiscal years beginning after December 15, 2018 for non‑emerging growth companies and for fiscal years beginning after December 15, 2019 for the Company. The Company continues to analyze the impact on its financial statements of adopting this standard but expects to record right of use assets and lease liabilities related to its operating leases upon adoption on January 1, 2020.

In January 2017, the FASB issued ASU 2017-04 simplifying the test for goodwill impairment. The standard eliminates Step 2 from the goodwill impairment test. Under the amended guidance, an entity will perform its goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity will recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, but the loss cannot exceed the total amount of goodwill allocated to the reporting unit. The new guidance is effective for the Company’s fiscal year that begins after December 15, 2020 and requires a prospective approach to adoption. Early adoption is permitted for interim or annual goodwill impairment tests. Upon adoption, the new guidance will impact the Company’s consolidated financial statements and related disclosures only in the event there is goodwill impairment.

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3. Revenue Recognition

 

The following table presents a disaggregation of revenue by type and product for the three months ended March 31, 2019 and 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended March 31, 

(in thousands)

 

 

 

2019

 

2018

Investment management fees

 

 

 

 

 

 

 

 

Mutual funds (Victory Funds)

 

 

 

$

50,576

 

$

63,071

ETFs (VictoryShares)

 

 

 

 

2,016