Waddell & Reed Financial Inc.’s (WDR) second-quarter earnings of 40 cents per share came in a penny short of the Zacks Consensus Estimate of 41 cents. However, this compares favorably with earnings of 27 cents in the prior-year quarter.
Results for the quarter were aided primarily by improved gross sales across all of the company’s revenue channels except Wholesale, stronger growth in assets under management and an improved operating margin. Offsetting these positives were significantly lower net inflow and higher operating expenses. However, positive flows were witnessed in each of Waddell & Reed’s three distribution channels.
The performance of Waddell & Reed’s funds has been mixed as of June 30, 2010. Though almost two-thirds of Waddell & Reed’s mutual funds outperformed their peer group, the performance of the two largest funds showed weakness.
Operating revenues for the reported quarter were $257.2 million, up 28.8% from $199.6 million in the year-ago quarter. Operating revenues also surpassed the Zacks Consensus Estimate of $253.0 million. An increase in all the revenue sources helped deliver better revenues during the reported quarter.
Net operating margin increased to 24.2% from 23.3% in the prior quarter and 19.0% in the prior-year quarter.
Quarter in Detail
Net income for the reported quarter came in at $34.2 million, up 46.1% from $23.4 million in the prior-year quarter.
In the Advisors channel, revenues increased 1.5% sequentially and 29.6% year over year to $61.4 million. Gross sales for the quarter increased 7.7% sequentially and 21.8% year over year to $954 million. Flows during the quarter were positive at $100 million, down from $146 million in the prior quarter and $140 million in the year-ago quarter.
In the Wholesale channel, revenue increased 1.9% sequentially and 42.5% year over year to $38.8 million. However, net flows substantially decreased to $388 million from $2.4 billion in the prior quarter and $2.9 billion in the year-ago quarter, primarily due to higher redemptions and lower sales volume. Gross sales decreased 20.3% sequentially and 14.0% year over year to $3.5 billion.
Gross sales of the Institutional channel decreased 6.2% sequentially but increased 46.0% year-over-year to $768 million. Though sales of traditional defined benefit products were modest, net flows were positive. Net flows during the quarter were $243 million, down from $325 million in the prior quarter but up from $92 million in the year-ago quarter.
Waddell & Reed’s operating expenses increased 1.0% sequentially and 20.6% year-over-year to $194.9 million. The year-over-year increase was primarily attributable to higher underwriting and distribution costs, sub-advisory fees and compensation costs.
Assets Under Management
As of June 30, 2010, assets under management were $68.3 billion, compared with $74.2 billion at the end of the prior quarter and $55.6 billion at the end of the prior-year quarter. Net inflows were $731 million, compared with $2.8 billion in the prior quarter and $3.2 billion in the prior-year quarter. Redemptions for the reported quarter increased 40.5% sequentially and 93.3% year-over-year to $4.8 billion.
Though we expect that Waddell & Reed will be able to maintain its strong growth story with increasing assets under management as a result of solid investment and sales performance, operating margin compression as a result of growth in flows and significant intangibles on its balance sheet will drag profitability.
Waddell & Reed currently retains a Zacks #3 Rank, which translates into a short-term Hold rating. Also, in the absence of any significant positive or negative catalysts, we maintain a long-term Neutral recommendation on the stock.
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