Item 2. Management’s Discussion and Analysis
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
Certain matters discussed in this Quarterly Report on Form 10-Q, in our other filings with the Securities and Exchange Commission, in our press releases and in oral statements made with the approval of an executive officer may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements include, but are not limited to, statements related to our expectations regarding the performance of our business, our financial results, our liquidity and capital resources, and other non-historical statements, and may be prefaced with words such as “outlook,” “guidance,” “believes,” “expects,” “potential,” “preliminary,” “continues,” “may,” “will,” “should,” “seeks,” “approximately,” “predicts,” “projects,” “positioned,” “prospects,” “intends,” “plans,” “estimates,” “pending investments,” “anticipates” or the negative version of these words or other comparable words. Such statements are subject to certain risks and uncertainties, including, among others, the factors discussed under the caption “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2019, and also under “Item 1A. Risk Factors” in our Quarterly Report on Form 10-Q for the period ended March 31, 2020. These factors (among others) could affect our financial condition, business activities, results of operations, cash flows or overall financial performance and could cause our actual results and business activities to differ materially from historical periods and those presently anticipated and projected. Forward-looking statements speak only as of the date they are made, and we will not undertake and we specifically disclaim any obligation to release publicly the result of any revisions that may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of events, whether or not anticipated. In that respect, we caution readers not to place undue reliance on any such forward-looking statements.
Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our Consolidated Financial Statements and the notes thereto contained elsewhere in this Quarterly Report on Form 10-Q.
Executive Overview
We are a global asset management company with equity investments in high-quality boutique investment management firms, which we call our “Affiliates.” Our strategy is to generate long-term value by investing in leading independent active investment managers, through a proven partnership approach, and allocating resources across our unique opportunity set to the areas of highest growth and return. Through our innovative partnership approach, each Affiliate’s management team retains significant equity ownership in their firm while maintaining operational autonomy. In addition, we offer centralized capabilities to our Affiliates across a variety of areas, including strategy, marketing and distribution, and product development. As of June 30, 2020 , our aggregate assets under management were $638.4 billion, across a broad range of active, return-oriented strategies.
D uring the six months ended June 30, 2020, the pandemic caused by the novel coronavirus (“COVID-19”), had a significant impact on the global economy, which may continue for months to come. The overall extent and duration of COVID-19 on businesses and economic activity generally remains unclear. We and our Affiliates remain focused on the health and well-being of the individuals and families at AMG, our Affiliates, and the community at large. Given the nature of our decentralized operations and our entrepreneurial culture, we and our Affiliates remain fully operational and have experienced minimal disruption in continuing to serve our key stakeholders, most importantly our clients. We continue to monitor the economic uncertainty related to COVID-19, and the extent of the impact on our business operations and financial results will depend on a number of factors and future developments, which are uncertain and cannot be predicted.
Operating Performance Measures
Under accounting principles generally accepted in the U.S. (“GAAP”), we are required to consolidate certain of our Affiliates and use the equity method of accounting for others. Whether we consolidate an Affiliate or use the equity method of accounting, we maintain the same innovative partnership approach and provide support and assistance in substantially the same manner for all of our Affiliates. Furthermore, all of our Affiliates are boutique investment managers and are impacted by similar marketplace factors and industry trends. Therefore, our key aggregate operating performance measures are important in providing management with a more comprehensive view of the operating performance and material trends across our entire business.
24
Table of Contents
The following table presents our key aggregate operating performance measures:
As of and for the Three Months Ended June 30,
As of and for the Six Months Ended June 30,
(in billions, except as noted)
2019
2020
% Change
2019
2020
% Change
Assets under management
$
772.2
$
638.4
(17
)%
$
772.2
$
638.4
(17
)%
Average assets under management
774.2
635.7
(18
)%
773.4
649.4
(16
)%
Aggregate fees (in millions)
1,163.1
960.9
(17
)%
2,415.1
2,214.0
(8
)%
As of and for the three and six months ended June 30, 2020 , assets under management and average assets under management exclude the assets under management of certain Affiliates in which we have repositioned or are repositioning our interests. These Affiliates are not significant to our operating performance measures or our results of operations. Assets under management is presented on a current basis without regard to the timing of the inclusion of an Affiliate’s financial results in our operating performance measures and Consolidated Financial Statements. Average assets under management reflects the timing of the inclusion of an Affiliate’s financial results in our operating performance measures and Consolidated Financial Statements. Average assets under management for mutual funds and similar retail investment products represents an average of the daily net assets under management, while for institutional and high net worth clients, average assets under management represents an average of the assets at the beginning or end of each month during the applicable period.
For the three and six months ended June 30, 2019 and 2020 , aggregate fees consists of the total asset and performance based fees earned by all of our consolidated and equity method Affiliates, and includes the aggregate fees of certain Affiliates in which we have repositioned or are repositioning our interests. These Affiliates are not significant to our operating performance measures or our results of operations. For certain of our Affiliates accounted for under the equity method, we report aggregate fees and the Affiliate’s financial results in our Consolidated Financial Statements one quarter in arrears. Aggregate fees is provided in addition to, but not as a substitute for, Consolidated revenue or other GAAP performance measures.
Assets Under Management
Through our Affiliates, we provide a comprehensive and diverse range of active, return-oriented strategies designed to assist institutional, retail and high net worth clients worldwide in achieving their investment objectives. We continue to see demand for active, return-oriented strategies, particularly in illiquid alternative and multi-asset and fixed income strategies, reflecting continued investor demand for returns that are less correlated to traditional equity markets, while we are experiencing outflows in quantitative strategies across alternative strategies and equities strategies. We believe the best performing active equity managers (whether global-, regional-, or country-specific) will continue to have significant opportunities to grow as a result of net client cash inflows. We believe we are well-positioned to benefit from these trends.
The outbreak of COVID-19 has created significant disruption in economic activity. The impact of the COVID-19 outbreak on our Affiliates and their clients’ demand for investment strategies is currently uncertain, and could result in changes in investor demand for our strategies in ways that cannot be predicted but could vary from recent trends. During the six months ended June 30, 2020 , we experienced a decline in average assets under management and, therefore, asset based fees as a result of COVID-19. If financial markets were to worsen as a result of COVID-19 or other factors, the Company’s average assets under management and asset based fees could be adversely impacted.
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Table of Contents
The following charts present information regarding the composition of our assets under management by active, return-oriented strategy and client type as of June 30, 2020 :
Assets Under Management (in billions)
___________________________
(1)
Alternatives include illiquid alternative strategies, which accounted for 16% of our assets under management as of June 30, 2020 .
(2)
Global equities include emerging markets strategies, which accounted for 8% of our assets under management as of June 30, 2020 .
The following tables present changes in our assets under management by active, return-oriented strategy and client type for the three months ended June 30, 2020 :
By Strategy - Quarter to Date
(in billions)
Alternatives
Global Equities
U.S. Equities
Multi-Asset & Fixed Income
Total
March 31, 2020
$
226.1
$
204.3
$
72.5
$
97.0
$
599.9
Client cash inflows and commitments
7.6
8.9
4.3
5.2
26.0
Client cash outflows
(14.9
)
(17.7
)
(6.8
)
(4.8
)
(44.2
)
Net client cash flows
(7.3
)
(8.8
)
(2.5
)
0.4
(18.2
)
Market changes
2.4
33.2
14.7
6.8
57.1
Foreign exchange (1)
—
0.8
0.1
0.4
1.3
Realizations and distributions (net)
(0.5
)
(0.1
)
—
—
(0.6
)
Other (2)
(0.2
)
(0.2
)
(0.8
)
0.1
(1.1
)
June 30, 2020
$
220.5
$
229.2
$
84.0
$
104.7
$
638.4
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Table of Contents
By Client Type - Quarter to Date
(in billions)
Institutional
Retail
High Net Worth
Total
March 31, 2020
$
347.8
$
149.9
$
102.2
$
599.9
Client cash inflows and commitments
10.7
10.7
4.6
26.0
Client cash outflows
(21.5
)
(17.9
)
(4.8
)
(44.2
)
Net client cash flows
(10.8
)
(7.2
)
(0.2
)
(18.2
)
Market changes
28.1
19.4
9.6
57.1
Foreign exchange (1)
0.8
0.2
0.3
1.3
Realizations and distributions (net)
(0.5
)
(0.1
)
—
(0.6
)
Other (2)
(0.5
)
(0.4
)
(0.2
)
(1.1
)
June 30, 2020
$
364.9
$
161.8
$
111.7
$
638.4
By Strategy - Year to Date
Alternatives
Global Equities
U.S. Equities
Multi-Asset & Fixed Income
Total
December 31, 2019
$
241.2
$
274.9
$
100.0
$
106.4
$
722.5
Client cash inflows and commitments
16.3
17.3
7.7
10.8
52.1
Client cash outflows
(26.0
)
(32.9
)
(14.5
)
(10.7
)
(84.1
)
Net client cash flows
(9.7
)
(15.6
)
(6.8
)
0.1
(32.0
)
New investments
3.7
—
—
—
3.7
Market changes
(10.8
)
(24.6
)
(7.8
)
(0.6
)
(43.8
)
Foreign exchange (1)
(3.1
)
(5.1
)
(0.4
)
(1.3
)
(9.9
)
Realizations and distributions (net)
(0.7
)
(0.1
)
—
(0.1
)
(0.9
)
Other (2)
(0.1
)
(0.3
)
(1.0
)
0.2
(1.2
)
June 30, 2020
$
220.5
$
229.2
$
84.0
$
104.7
$
638.4
By Client Type - Year to Date
Institutional
Retail
High Net Worth
Total
December 31, 2019
$
407.2
$
198.1
$
117.2
$
722.5
Client cash inflows and commitments
21.4
21.4
9.3
52.1
Client cash outflows
(37.8
)
(36.0
)
(10.3
)
(84.1
)
Net client cash flows
(16.4
)
(14.6
)
(1.0
)
(32.0
)
New investments
3.7
—
—
3.7
Market changes
(23.3
)
(16.8
)
(3.7
)
(43.8
)
Foreign exchange (1)
(5.1
)
(4.3
)
(0.5
)
(9.9
)
Realizations and distributions (net)
(0.7
)
(0.1
)
(0.1
)
(0.9
)
Other (2)
(0.5
)
(0.5
)
(0.2
)
(1.2
)
June 30, 2020
$
364.9
$
161.8
$
111.7
$
638.4
___________________________
(1)
Foreign exchange reflects the impact of translating into U.S. dollars the assets under management of our Affiliates whose functional currency is not the U.S. dollar.
(2)
Other includes assets under management attributable to product transitions and reclassifications.
Aggregate Fees
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Table of Contents
Aggregate fees consists of asset and performance based fees. Asset based fees include advisory and other fees earned by our Affiliates for services provided to their clients and are typically determined as a percentage of the value of a client’s assets under management. Performance based fees are based on investment performance, typically on an absolute basis or relative to a benchmark, and are recognized when they are earned (i.e., when they become billable to customers and are not subject to claw-back). Performance based fees are generally billed less frequently than asset based fees, and although performance based fees inherently depend on investment performance and will vary from period to period, we anticipate performance based fees will be a recurring component of our aggregate fees.
Aggregate fees is generally determined by the level of our average assets under management, the composition of these assets across our active, return-oriented strategies that realize different asset based fee ratios, and performance based fees. Our asset based fee ratio is calculated as asset based fees divided by average assets under management.
Aggregate fees were $960.9 million for the three months ended June 30, 2020 , a decrease of $202.2 million or 17% as compared to the three months ended June 30, 2019 . The decrease in our aggregate fees was due to a $191.9 million or 16% decrease from asset based fees and a $10.3 million or 1% decrease from performance based fees. The decrease in asset based fees was due to a decrease in our average assets under management, principally in our alternative strategies and global equity strategies due to net client cash outflows, and a change in the composition of our assets under management.
Aggregate fees were $2,214.0 million for the six months ended June 30, 2020 , a decrease of $201.1 million or 8% as compared to the six months ended June 30, 2019 . The decrease in our aggregate fees was due to a $298.4 million or 12% decrease from asset based fees, offset by a $97.3 million or 4% increase from performance based fees. The decrease in asset based fees was due to a decrease in our average assets under management, principally in our alternative strategies and global equity strategies due to net client cash outflows, and a change in the composition of our assets under management.
Financial and Supplemental Financial Performance Measures
The following table presents our key financial and supplemental financial performance measures:
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
% Change
2019
2020
% Change
Net income (loss) (controlling interest)
$
107.7
$
30.7
(71
)%
$
(93.1
)
$
15.1
N.M. (2)
Adjusted EBITDA (controlling interest) (1)
219.3
162.1
(26
)%
434.8
362.4
(17
)%
Economic net income (controlling interest) (1)
170.1
129.6
(24
)%
339.1
280.9
(17
)%
___________________________
(1)
Adjusted EBITDA (controlling interest) and Economic net income (controlling interest) are non-GAAP performance measures and are discussed in “Supplemental Financial Performance Measures.”
(2)
Percentage change is not meaningful.
Adjusted EBITDA (controlling interest) is an important supplemental financial performance measure for management as it provides a comprehensive view of our share of the financial performance of our business. While aggregate fees decreased $202.2 million or 17% in the three months ended June 30, 2020 , our Adjusted EBITDA (controlling interest) decreased $57.2 million or 26% . Adjusted EBITDA (controlling interest) decreased more than aggregate fees on a percentage basis due to a decline in earnings at certain Affiliates in which we share in revenue less agreed-upon expenses and the recognition of performance based fees at Affiliates in which we hold less of an economic interest. The decrease was also due to a $12.3 million increase in share-based compensation primarily due to an event that accelerated certain share-based compensation.
While aggregate fees decreased $201.1 million or 8% in the six months ended June 30, 2020 , our Adjusted EBITDA (controlling interest) decreased $72.4 million or 17% . Adjusted EBITDA (controlling interest) decreased more than aggregate fees on a percentage basis due to a decline in earnings at certain Affiliates in which we share in revenue less agreed-upon expenses and the recognition of performance based fees at Affiliates in which we hold less of an economic interest. The decrease was also due to an $11.7 million increase in share-based compensation primarily due to an event that accelerated certain share-based compensation.
While Adjusted EBITDA (controlling interest) decreased $57.2 million or 26% , for the three months ended June 30, 2020 , our Net income (controlling interest) decreased $77.0 million or 71% . The decline in Net income (controlling interest) was
28
greater than the decline in Adjusted EBITDA (controlling interest) primarily due to a $33.0 million increase in Intangible amortization and impairments attributable to the controlling interest and a $22.6 million increase in Investment and other expense attributable to the controlling interest. These decreases were partially offset by a $32.3 million reduction in Income tax expense attributable to the controlling interest.
While Adjusted EBITDA (controlling interest) decreased $72.4 million or 17% , for the six months ended June 30, 2020 , our Net income (controlling interest) increased $108.2 million . The increase in Net income (controlling interest) was primarily due to a $260.9 million decrease in equity method intangible amortization and impairments. This increase was partially offset by a $27.8 million increase in Intangible amortization and impairments attributable to the controlling interest, and a $32.7 million increase in Income tax expense attributable to the controlling interest.
We believe Economic net income (controlling interest) is an important supplemental financial performance measure because it represents our performance before non-cash expenses relating to the acquisition of interests in Affiliates and improves comparability of performance between periods. In the three months ended June 30, 2020 , our Economic net income (controlling interest) decreased $40.5 million or 24% . This decrease was primarily due to a $57.2 million decrease in Adjusted EBITDA (controlling interest), partially offset by a $22.6 million decrease in current and other deferred taxes.
In the six months ended June 30, 2020 , our Economic net income (controlling interest) decreased $58.2 million or 17% . This decrease was primarily due to a $72.4 million decrease in Adjusted EBITDA (controlling interest), partially offset by a $20.3 million decrease in current and other deferred taxes.
Results of Operations
The following discussion includes the key operating performance measures and financial results of our consolidated and equity method Affiliates. Our consolidated Affiliates’ financial results are included in our Consolidated revenue, Consolidated expenses, and Investment and other income (expense), and our share of our equity method Affiliates’ financial results is reported, net of intangible amortization and impairments, in Equity method income (loss) (net).
Consolidated Revenue
The following table presents our consolidated Affiliate average assets under management and Consolidated revenue:
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions, except as noted)
2019
2020
% Change
2019
2020
% Change
Consolidated Affiliate average assets under management (in billions)
$
407.5
$
339.8
(17
)%
$
403.3
$
345.9
(14
)%
Consolidated revenue
$
591.9
$
471.1
(20
)%
$
1,135.1
$
978.3
(14
)%
Our Consolidated revenue decreased $120.8 million or 20% for the three months ended June 30, 2020 , due to an $84.4 million or 14% decrease from asset based fees and a $36.4 million or 6% decrease from performance based fees. The decrease in asset based fees was due to a decrease in consolidated Affiliate average assets under management, principally in our alternative strategies and equities strategies due to net client cash outflows, and a change in the composition of our assets under management.
Our Consolidated revenue decreased $156.8 million or 14% for the six months ended June 30, 2020 , due to a $121.5 million or 11% decrease from asset based fees and a $35.3 million or 3% decrease from performance based fees. The decrease in asset based fees was due to a decrease in consolidated Affiliate average assets under management, principally in our alternative strategies and equities strategies due to net client cash outflows, and a change in the composition of our assets under management.
Consolidated Expenses
Our Consolidated expenses are primarily attributable to the non-controlling interests of our consolidated Affiliates in which we share in revenue without regard to expenses. For these Affiliates, the amount of expenses attributable to the non-controlling interests, including compensation, is generally determined by the percentage of revenue allocated to expenses as part of the structured partnership interests in place at the respective Affiliate. Accordingly, increases in revenue generally will increase a consolidated Affiliate’s expenses attributable to the non-controlling interests and decreases in revenue will generally decrease a consolidated Affiliate’s expenses attributable to the non-controlling interests.
The following table presents our Consolidated expenses:
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Table of Contents
For the Three Months Ended June 30,
For the Six Months Ended June 30,
% Change
% Change
(in millions)
2019
2020
2019
2020
Compensation and related expenses
$
258.0
$
216.5
(16
)%
$
486.2
$
424.4
(13
)%
Selling, general and administrative
96.2
73.6
(23
)%
191.8
163.8
(15
)%
Intangible amortization and impairments
21.2
80.9
N.M. (1)
50.9
101.5
99
%
Interest expense
19.7
22.3
13
%
37.9
41.8
10
%
Depreciation and other amortization
5.3
5.0
(6
)%
10.6
10.1
(5
)%
Other expenses (net)
12.2
11.3
(7
)%
23.0
22.3
(3
)%
Total consolidated expenses
$
412.6
$
409.6
(1
)%
$
800.4
$
763.9
(5
)%
___________________________
(1)
Percentage change is not meaningful.
Compensation and related expenses decreased $41.5 million or 16% for the three months ended June 30, 2020 , primarily due to a $50.7 million decrease in bonus and salary expenses, principally as a result of the decline in Consolidated revenue and headcount repositioning in 2019. This decrease was partially offset by a $12.3 million increase in share-based compensation primarily due to an event that accelerated certain share-based compensation.
Compensation and related expenses decreased $61.8 million or 13% for the six months ended June 30, 2020 , primarily due to a $75.6 million decrease in bonus and salary expenses, principally as a result of the decline in Consolidated revenue and headcount repositioning in 2019. This decrease was partially offset by an $11.7 million increase in share-based compensation primarily due to an event that accelerated certain share-based compensation, and a $3.8 million increase in Affiliate equity compensation expense.
Selling, general and administrative expenses decreased $22.6 million or 23% for the three months ended June 30, 2020 , primarily due to a $6.3 million decrease from sub-advisory and distribution expenses related to a decrease in consolidated Affiliate average assets under management, a $5.4 million decrease in travel-related expenses, a $3.8 million decrease in renewal commissions, and a $3.5 million decrease in professional fees.
Selling, general and administrative expenses decreased $28.0 million or 15% for the six months ended June 30, 2020 , primarily due to a $10.8 million decrease from sub-advisory and distribution expenses related to a decrease in consolidated Affiliate average assets under management, a $7.5 million decrease in renewal commissions, a $6.8 million decrease in travel-related expenses, and a $3.8 million decrease in professional fees. These decreases were partially offset by a $4.4 million increase in reserves on notes receivable.
Intangible amortization and impairments increased $59.7 million for the three months ended June 30, 2020 , primarily due to a $60.3 million expense to reduce the carrying value of certain acquired client relationships at one of our Affiliates to zero. See Note 9 of our Consolidated Financial Statements.
Intangible amortization and impairments increased $50.6 million or 99% for the six months ended June 30, 2020 , primarily due to a $60.3 million expense to reduce the carrying value of certain acquired client relationships at one of our Affiliates to zero. See Note 9 of our Consolidated Financial Statements. This increase was partially offset by an $8.4 million reduction in amortization expense related to a decrease in actual and expected client attrition for certain definite-lived acquired client relationships.
Interest expense increased $2.6 million or 13% for the three months ended June 30, 2020 , primarily due to a $3.5 million increase due to the termination of our pound sterling-denominated forward foreign currency contracts in March 2020. This increase was partially offset by a $2.2 million decrease from lower interest rates on our senior unsecured term loan facility (the “term loan”).
Interest expense increased $3.9 million or 10% for the six months ended June 30, 2020 , primarily due to a $4.3 million increase from our junior subordinated notes issued in March 2019 and a $4.1 million increase due to the termination of our pound sterling-denominated forward foreign currency contracts in March 2020. These increases were partially offset by a $3.2 million decrease from lower interest rates on our term loan and a $1.8 million decrease due to lower borrowings and interest rates on our senior unsecured multicurrency revolving credit facility (the “revolver”).
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Table of Contents
There were no significant changes in Depreciation and other amortization or Other expenses (net) for the three and six months ended June 30, 2020 .
Equity Method Income (Loss) (Net)
For a majority of our Affiliates accounted for under the equity method, we use structured partnership interests in which we contractually share in the Affiliate’s revenue less agreed-upon expenses. We also use structured partnership interests in which we contractually share in the Affiliate’s revenue without regard to expenses. Our share of earnings or losses from Affiliates accounted for under the equity method, net of amortization and impairments, is included in Equity method income (loss) (net).
The following table presents equity method Affiliate average assets under management and equity method revenue, as well as equity method earnings and equity method intangible amortization and impairments, which in aggregate form Equity method income (loss) (net):
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions, except as noted)
2019
2020
% Change
2019
2020
% Change
Operating Performance Measures
Equity method Affiliate average assets under management (in billions)
$
366.7
$
295.9
(19
)%
$
370.1
$
303.5
(18
)%
Equity method revenue
$
571.2
$
489.8
(14
)%
$
1,280.0
$
1,235.7
(3
)%
Financial Performance Measures
Equity method earnings
$
68.3
$
54.3
(20
)%
$
148.3
$
120.4
(19
)%
Equity method intangible amortization and impairments
(38.9
)
(36.9
)
(5
)%
(477.1
)
(216.2
)
(55
)%
Equity method income (loss) (net)
$
29.4
$
17.4
(41
)%
$
(328.8
)
$
(95.8
)
(71
)%
Our equity method revenue decreased $81.4 million or 14% for the three months ended June 30, 2020 , due to a $107.5 million or 19% decrease from asset based fees, offset by a $26.1 million or 5% increase from performance based fees. The decrease in asset based fees was primarily due to a decrease in equity method Affiliate average assets under management, principally in our alternative strategies and global equity strategies due to net client cash outflows.
While equity method revenue decreased $81.4 million or 14% for the three months ended June 30, 2020 , equity method earnings decreased $14.0 million or 20% . Equity method earnings decreased more than equity method revenue on a percentage basis due to a decline in earnings at certain Affiliates in which we share in revenue less agreed-upon expenses.
There was no significant change in equity method intangible amortization and impairments for the three months ended June 30, 2020 .
Our equity method revenue decreased $44.3 million or 3% for the six months ended June 30, 2020 , due to a $177.0 million or 14% decrease from asset based fees, partially offset by a $132.7 million or 11% increase from performance based fees. The decrease in asset based fees was primarily due to a decrease in equity method Affiliate average assets under management, principally in our alternative strategies and global equity strategies due to net client cash outflows.
While equity method revenue decreased $44.3 million or 3% for the six months ended June 30, 2020 , equity method earnings decreased $27.9 million or 19% . Equity method earnings decreased more than equity method revenue on a percentage basis due to a decline in earnings at certain Affiliates in which we share in revenue less agreed-upon expenses.
Equity method intangible amortization and impairments decreased $ 260.9 million or 55% for the six months ended June 30, 2020 , primarily due to a $275.0 million decrease in expenses to reduce the carrying value to fair value of certain Affiliates. See Note 10 of our Consolidated Financial Statements. This decrease was partially offset by a $15.5 million increase in amortization expense due to an increase in actual and expected client attrition for certain definite-lived acquired client relationships.
Investment and Other Income (Expense)
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The following table presents our Investment and other income (expense):
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
% Change
2019
2020
% Change
Investment and other income (expense)
$
7.2
$
(12.1
)
N.M. (1)
$
15.2
$
(9.7
)
N.M. (1)
___________________________
(1)
Percentage change is not meaningful.
Investment and other expense increased $19.3 million for the three months ended June 30, 2020 , primarily due to a $19.1 million increase in net unrealized losses on Investments in marketable securities and Other investments.
Investment and other expense increased $24.9 million for the six months ended June 30, 2020 , primarily due to a $24.4 million increase in net unrealized losses on Other investments.
Income Tax Expense (Benefit)
The following table presents our Income tax expense (benefit):
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
% Change
2019
2020
% Change
Income tax expense (benefit)
$
35.7
$
3.3
(91
)%
$
(26.1
)
$
5.5
N.M. (1)
__________________________
(1)
Percentage change is not meaningful.
Income tax expense decreased $32.4 million or 91% for the three months ended June 30, 2020 , primarily due to a decrease in Income before income taxes attributable to the controlling interest, a $5.5 million benefit related to the release of an uncertain tax position, and a $4.1 million capital loss benefit for an amount carried back a year prior to the effective date of the Tax Cuts and Jobs Act.
Income tax expense increased $31.6 million for the six months ended June 30, 2020 , primarily due to an increase in Income before income taxes attributable to the controlling interest, partially offset by a $5.5 million benefit related to the release of an uncertain tax position, and a $4.1 million capital loss benefit for an amount carried back a year prior to the effective date of the Tax Cuts and Jobs Act.
Net Income (Loss)
The following table presents Net income, Net income (non-controlling interests) and Net income (loss) (controlling interest):
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
% Change
2019
2020
% Change
Net income
$
180.2
$
63.5
(65
)%
$
47.2
$
103.4
N.M. (1)
Net income (non-controlling interests)
72.5
32.8
(55
)%
140.3
88.3
(37
)%
Net income (loss) (controlling interest)
107.7
30.7
(71
)%
(93.1
)
15.1
N.M. (1)
__________________________
(1)
Percentage change is not meaningful.
Net income (controlling interest) decreased $77.0 million or 71% for the three months ended June 30, 2020 , primarily due to a $33.0 million increase in Intangible amortization and impairments attributable to the controlling interest, a $22.6 million increase in Investment and other expense attributable to the controlling interest, and a $12.0 million decrease in Equity method income (net). These decreases to Net income (controlling interest) were partially offset by a $32.3 million decrease in Income tax expense attributable to the controlling interest.
Net income (controlling interest) increased $108.2 million for the six months ended June 30, 2020 , primarily due to a $233.0 million decrease in Equity method loss partially offset by a $32.7 million increase in Income tax expense attributable to
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the controlling interest, a $27.8 million increase in Intangible amortization and impairments attributable to the controlling interest, and a $16.8 million increase to Investment and other expense attributable to the controlling interest.
Supplemental Financial Performance Measures
Adjusted EBITDA (controlling interest)
As supplemental information, we provide a non-GAAP measure that we refer to as Adjusted EBITDA (controlling interest). Adjusted EBITDA (controlling interest) is an important supplemental financial performance measure for management as it provides a comprehensive view of our share of the financial performance of our business before interest, taxes, depreciation, amortization, impairments, certain Affiliate equity expenses, gains and losses on general partner and seed capital investments, and adjustments to our contingent payment arrangements. We believe that many investors use this measure when assessing the financial performance of companies in the investment management industry. This non-GAAP performance measure is provided in addition to, but not as a substitute for, Net income (loss) (controlling interest) or other GAAP performance measures.
The following table presents a reconciliation of Net income (loss) (controlling interest) to Adjusted EBITDA (controlling interest):
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
2019
2020
Net income (loss) (controlling interest)
$
107.7
$
30.7
$
(93.1
)
$
15.1
Interest expense
19.7
22.3
37.9
41.8
Income taxes
33.4
1.1
(31.5
)
1.2
Intangible amortization and impairments (1)
55.3
86.3
515.1
282.0
Other items (2)
3.2
21.7
6.4
22.3
Adjusted EBITDA (controlling interest)
$
219.3
$
162.1
$
434.8
$
362.4
___________________________
(1)
Intangible amortization and impairments in our Consolidated Statement of Income includes amortization attributable to our non-controlling interests. For our Affiliates accounted for under the equity method, we do not separately report intangible amortization and impairments in our Consolidated Statements of Income. Our share of these Affiliates’ amortization is reported in Equity method income (loss) (net).
The following table presents the Intangible amortization and impairments shown above:
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions)
2019
2020
2019
2020
Consolidated intangible amortization and impairments
$
21.2
$
80.9
$
50.9
$
101.5
Consolidated intangible amortization and impairments (non-controlling interests)
(4.8
)
(31.5
)
(12.9
)
(35.7
)
Equity method intangible amortization and impairments
38.9
36.9
477.1
216.2
Total
$
55.3
$
86.3
$
515.1
$
282.0
(2)
Other items includes depreciation and adjustments to contingent payment arrangements. Beginning with the first quarter of 2020, other items also includes certain Affiliate equity expenses and gains and losses on general partner and seed capital investments. These changes were made to improve the comparability of performance between periods. Prior periods have not been revised as the amounts were not significant.
Economic Net Income (controlling interest) and Economic Earnings Per Share
As supplemental information, we also provide non-GAAP performance measures that we refer to as Economic net income (controlling interest) and Economic earnings per share. We believe Economic net income (controlling interest) and Economic earnings per share are important measures because they represent our performance before non-cash expenses relating to the acquisition of interests in Affiliates and improve comparability of performance between periods. Economic net income (controlling interest) and Economic earnings per share are used by our management and Board of Directors as our principal performance benchmarks, including as one of the measures for aligning executive compensation with stockholder value. These
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non-GAAP performance measures are provided in addition to, but not as substitutes for, Net income (loss) (controlling interest) and Earnings per share (diluted) or other GAAP performance measures.
We adjust Net income (loss) (controlling interest) to calculate Economic net income (controlling interest) by adding back our share of pre-tax intangible amortization and impairments attributable to intangible assets (including the portion attributable to equity method investments in Affiliates) because these expenses do not correspond to the changes in the value of these assets, which do not diminish predictably over time. We also add back the deferred taxes attributable to intangible assets because we believe it is unlikely these accruals will be used to settle material tax obligations. Further, we add back other economic items to improve comparability of performance between periods.
Economic earnings per share represents Economic net income (controlling interest) divided by the Average shares
outstanding (adjusted diluted). In this calculation, the potential share issuance in connection with our junior convertible securities is measured using a “treasury stock” method. Under this method, only the net number of shares of common stock equal to the value of these junior convertible securities in excess of par, if any, is deemed to be outstanding. We believe the inclusion of net shares under a treasury stock method best reflects the benefit of the increase in available capital resources (which could be used to repurchase shares of common stock) that occurs when these securities are converted and we are relieved of our debt obligation. This method does not take into account any increase or decrease in our cost of capital in an assumed conversion.
The following table presents a reconciliation of Net income (loss) (controlling interest) to Economic net income (controlling interest) and Economic earnings per share:
For the Three Months Ended June 30,
For the Six Months Ended June 30,
(in millions, except per share data)
2019
2020
2019
2020
Net income (loss) (controlling interest)
$
107.7
$
30.7
$
(93.1
)
$
15.1
Intangible amortization and impairments (1)
55.3
86.3
515.1
282.0
Intangible-related deferred taxes
6.6
(3.1
)
(87.1
)
(34.1
)
Other economic items (2)
0.5
15.7
4.2
17.9
Economic net income (controlling interest)
$
170.1
$
129.6
$
339.1
$
280.9
Average shares outstanding (diluted)
51.0
47.3
51.5
47.6
Stock options and restricted stock units
—
—
0.0
—
Average shares outstanding (adjusted diluted)
51.0
47.3
51.5
47.6
Economic earnings per share
$
3.33
$
2.74
$
6.59
$
5.90
___________________________
(1)
See note (1) to the table in “Adjusted EBITDA (controlling interest).”
(2)
Other economic items includes non-cash imputed interest (principally related to the accounting for convertible securities and contingent payment arrangements), tax windfalls and shortfalls from share-based compensation and certain Affiliate equity expenses. Beginning with the first quarter of 2020, other economic items also includes gains and losses on general partner and seed capital investments. These changes were made to improve the comparability of performance between periods. Prior periods have not been revised as the amounts were not significant. For the three and six months ended June 30, 2019 and 2020 , other economic items were net of income tax expense (benefit) of $0.1 million and $0.3 million, respectively, and $(4.3) million and $(3.2) million, respectively.
Liquidity and Capital Resources
We generate long-term value by investing in new Affiliates, investing in existing Affiliates, and investing in centralized capabilities through which we can leverage our scale and resources to benefit our Affiliates and enhance their long-term growth prospects. We then return capital to shareholders through share repurchases and the payment of cash dividends on our common stock while maintaining a conservative capital structure consistent with an investment grade rating.
Cash and cash equivalents were $681.6 million as of June 30, 2020 and were attributable to both the controlling and non-controlling interests. For the six months ended June 30, 2020 , we met our cash requirements primarily through cash generated by operating activities. Our principal uses of cash during the quarter were for repayment of debt, investments in existing Affiliates primarily through repurchases of Affiliate equity interests, the return of capital through share repurchases and the payment of cash dividends on our common stock, and distributions to non-controlling interests. We expect the primary uses of capital for the foreseeable future to be for investments in new Affiliates, investments in existing Affiliates through repurchases
34
of Affiliate equity interests, the return of capital through share repurchases, distributions to non-controlling interests and the repayment of debt.
We anticipate that cash flows from operations, together with borrowings under our revolver, will be sufficient to support our cash flow needs. In addition, we may draw funding from the debt and equity capital markets, and our credit ratings, among other factors, allow us to access these sources of funding on favorable terms. We are currently rated A3 by Moody’s Investors Service and BBB+ by S&P Global Ratings.
The following table presents operating, investing and financing cash flow activities:
For the Six Months Ended June 30,
(in millions)
2019
2020
Operating cash flow
$
309.2
$
375.4
Investing cash flow
(43.0
)
3.1
Financing cash flow
(470.4
)
(226.3
)
Operating Cash Flow
Operating cash flows are calculated by adjusting Net income for other significant sources and uses of cash, significant non-cash items, and timing differences in the cash settlement of assets and liabilities.
For the six months ended June 30, 2020 , Cash flows from operating activities were $375.4 million , primarily from Net income of $103.4 million, adjusted for Distributions of earnings received from equity method investments of $160.2 million, Equity method loss (net) of $95.8 million, non-cash expenses for Intangible amortization and impairments of $101.5 million, and Share-based compensation and Affiliate equity expense of $57.5 million. These items were partially offset by timing differences in the cash settlement of assets and liabilities of $155.4 million, primarily due to the payment of incentive compensation. For the six months ended June 30, 2020, operating cash flows were primarily attributable to the controlling interest.
Investing Cash Flow
For the six months ended June 30, 2020 , Cash flows from investing activities were $3.1 million , principally due to the sale of investment securities, net of purchases of $10.0 million, partially offset by purchases of fixed assets of $4.5 million. These activities were primarily attributable to the controlling interest.
Financing Cash Flow
For the six months ended June 30, 2020 , Cash flows used in financing activities were $226.3 million , primarily due to $171.7 million of distributions to non-controlling interests, $143.5 million of Affiliate equity repurchases, net of issuances, the return of $129.1 million of capital to shareholders through share repurchases and dividends on our common stock, and a $100.0 million paydown of our term loan. Cash flows used in financing activities was partially offset by the receipt of $349.8 million of proceeds from the issuance of senior notes. These activities were primarily attributable to the controlling interest.
Affiliate Equity
We periodically repurchase Affiliate equity from and issue Affiliate equity to our consolidated Affiliate partners and our officers, under agreements that provide us with a conditional right to call and Affiliate equity holders with a conditional right to put their Affiliate equity interests to us at certain intervals. For Affiliates accounted for under the equity method, we do not typically have such put and call arrangements. The purchase price of these conditional purchases is generally calculated based upon a multiple of the Affiliate’s cash flow distributions, which is intended to represent fair value. Affiliate equity holders are also permitted to sell their equity interests to other individuals or entities in certain cases, subject to our approval or other restrictions.
As of June 30, 2020 , our current redemption value of $682.1 million for these interests (including $20.7 million of consolidated Affiliate sponsored investment products primarily attributable to third-party investors) has been presented as Redeemable non-controlling interests. Although the timing and amounts of these purchases are difficult to predict, we paid $143.5 million for Affiliate equity repurchases, net of issuances during the six months ended June 30, 2020 , and we expect net repurchases of approximately $110 million of Affiliate equity during the remainder of 2020 . In the event of a repurchase, we
35
become the owner of the cash flow associated with the repurchased equity. See Notes 13 and 14 of our Consolidated Financial Statements.
Share Repurchases
Our Board of Directors authorized share repurchase programs in October 2019 and January 2019 to repurchase up to 6.0 million and 3.3 million shares of our common stock, respectively, and these authorizations have no expiry. Purchases may be made from time to time, at management’s discretion, in the open market or in privately negotiated transactions, including through the use of derivative financial instruments and accelerated share repurchase programs. During the three and six months ended June 30, 2020 , we repurchased 0.6 million and 1.5 million shares, respectively, of our common stock, at an average price per share of $72.85 and $76.03 , respectively. As of June 30, 2020 , we had repurchased all of the shares of the January 2019 authorized amount, and there were a total of 5.4 million shares available for repurchase under our October 2019 share repurchase program.
Debt
The following table presents the carrying value of our outstanding indebtedness. See Note 5 of our Consolidated Financial Statements:
(in millions)
December 31, 2019
June 30,
2020
Senior bank debt
$
450.0
$
350.0
Senior notes
746.8
1,097.0
Junior convertible securities
315.4
316.9
Junior subordinated notes
290.7
290.7
The carrying value of our debt differs from the amount reported in the notes to our Consolidated Financial Statements, as the carrying value of our debt in the table above is not reduced for debt issuance costs.
Senior Bank Debt
We have a $1.25 billion revolver and a $350.0 million term loan (together, the “credit facilities”). The revolver matures on January 18, 2024, and the term loan matures on January 18, 2023. Subject to certain conditions, we may increase the commitments under the revolver by up to an additional $500.0 million and may borrow up to an additional $75.0 million under the term loan.
As of June 30, 2020 , we had no outstanding borrowings under the revolver, and could borrow all capacity and remain in compliance with our credit facilities.
Senior Notes
On June 5, 2020, we issued $350.0 million aggregate principal amount of 3.3% senior unsecured notes due June 15, 2030 (the “2030 senior notes”). The 2030 senior notes pay interest semi-annually and may be redeemed at any time, in whole or in part, at a make-whole redemption price plus accrued and unpaid interest. In addition to customary event of default provisions, the indenture governing the 2030 senior notes limits our ability to consolidate, merge or sell all or substantially all of our assets and requires us to make an offer to repurchase the 2030 senior notes upon certain change of control triggering events.
We used $250.0 million of the net proceeds from the 2030 senior notes to repay all of the outstanding indebtedness under our revolver, and $100.0 million of the remaining net proceeds to repay a portion of the outstanding indebtedness under the term loan.
Equity Distribution Program
We have equity distribution and forward equity agreements with several major securities firms under which we may, from time to time, issue and sell shares of our common stock (immediately or on a forward basis) having an aggregate sales price of up to $500.0 million (the “equity distribution program”). As of June 30, 2020 , no sales had occurred under the equity distribution program.
Derivatives
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In the first quarter of 2020, we entered into an interest rate swap contract (the “interest rate swap”) with a financial institution, which will expire in March 2023. The interest rate swap, which is designated as a cash flow hedge, is used to exchange our LIBOR-based interest payments for fixed rate payments. Under the contract, we receive payments based on one month LIBOR and make payments based on an annual fixed rate of 0.5135% on a notional amount of $250.0 million .
In the first quarter of 2020, we terminated our forward contracts and corresponding collar contracts entered into in 2018, and we received net proceeds of $24.9 million upon settlement. See Note 6 of our Consolidated Financial Statements.
Commitments
See Note 7 of our Consolidated Financial Statements.
Contractual Obligations
The following table summarizes our contractual obligations as of June 30, 2020 . Contractual debt obligations include the cash payment of fixed interest.
Payments Due
(in millions)
Total
Remainder of 2020
2021-2022
2023-2024
Thereafter
Contractual Obligations
Senior bank debt
$
350.0
$
—
$
—
$
350.0
$
—
Senior notes
1,351.2
20.7
81.6
473.1
775.8
Junior convertible securities
819.1
11.1
44.4
44.4
719.2
Junior subordinated notes
991.9
8.8
35.3
35.3
912.5
Leases (1)
235.3
21.7
74.6
54.4
84.6
Affiliate equity repurchase obligations (2)
73.3
73.3
—
—
—
Other obligations (3)
73.9
10.0
63.9
—
—
Total contractual obligations
$
3,894.7
$
145.6
$
299.8
$
957.2
$
2,492.1
Contingent Obligations
Contingent payment arrangements (4)
$
52.5
$
—
$
40.0
$
12.5
$
—
___________________________
(1)
The total controlling interest portion is $53.5 million ( $6.3 million through 2020, $22.1 million in 2021-2022, $16.5 million in 2023-2024 and $8.6 million thereafter).
(2)
Affiliate equity repurchase obligations represent the fair value of obligations put to us and outstanding as of June 30, 2020 .
(3)
Other obligations represent obligations to make investments in an Affiliate and for liabilities at certain consolidated Affiliates as of June 30, 2020 .
(4)
Contingent payment arrangements represent the expected settlement amounts. The maximum contingent obligation that may become payable is $150.0 million in 2021, $77.5 million in 2022 and $62.5 million from 2023 through 2025.
The table above does not include liabilities for commitments to co-invest in certain Affiliate sponsored investment products or uncertain tax positions of $135.3 million and $61.0 million , respectively. This table also does not include potential obligations relating to our derivative financial instruments. See Note 6 of our Consolidated Financial Statements. These items are excluded as we cannot predict the timing of when such obligations will be paid.
Recent Accounting Developments
See Note 2 of our Consolidated Financial Statements.
Critical Accounting Estimates and Judgments
Our 2019 Annual Report on Form 10‑K includes additional information about our Critical Accounting Estimates and Judgments, and should be read in conjunction with this Quarterly Report on Form 10‑Q.
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
There have been no material changes to our Quantitative and Qualitative Disclosures About Market Risk for the three
37
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months ended June 30, 2020 . Please refer to Item 7A of our 2019 Annual Report on Form 10-K.