UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended MARCH 31, 1999
----------------------------------
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 001-14818
FEDERATED INVESTORS, INC.
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 25-1111467
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
FEDERATED INVESTORS TOWER
PITTSBURGH, PENNSYLVANIA
15222-3779
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code) 412-288-1900
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 X . No ______.
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the last practicable date: As of May 12, 1999, the
Registrant had outstanding 6,000 shares of Class A Common Stock and 85,478,850
shares of Class B Common Stock.
<PAGE>
Federated Investors, Inc.
Form 10-Q
For the Three Months Ended
March 31, 1999
Index
PAGE NO.
Part I. Financial Information
Item 1.Financial Statements
Consolidated Balance Sheets at
March 31, 1999 and December 31, 1998 3
Consolidated Statements of Income
for the Three Months Ended
March 31, 1999 and 1998 4
Consolidated Statements of Cash
Flows for the Three Months Ended
March 31, 1999 and 1998 5
Notes to Consolidated Financial Statements 6
Item 2.Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 16
Part II. Other Information
Item 6.Exhibits and Reports on Form 8-K
(a) Exhibits required by Item 601 of Regulation S-K 16
(b) Reports on Form 8-K 16
Signatures 17
<PAGE>
<TABLE>
<CAPTION>
FEDERATED INVESTORS, INC.
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
(unaudited) MARCH 31, DECEMBER 31,
1999 1998
------------- -------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ $
179,311 185,581
Securities available for sale
39,251 13,398
Receivables, net of reserve of $573 and $1,276, respectively
33,287 30,969
Accrued revenues
4,067 3,666
Prepaid expenses
2,714 4,688
Other current assets
4,214 3,958
------------- -------------
Total current assets
262,844 242,260
------------- -------------
LONG-TERM ASSETS:
Customer relationships, net of accumulated amortization of $41,173 and $39,571,
respectively 14,706 17,743
Goodwill, net of accumulated amortization of $14,324 and $13,762, respectively
34,544 35,107
Other intangible assets, net of accumulated amortization of $94 and $3,608,
respectively 97 103
Deferred sales commissions, net
271,566 258,593
Property and equipment, net of accumulated depreciation of $43,177 and $42,959,
respectively 21,185 21,550
Other long-term assets
6,253 4,664
------------- -------------
Total long-term assets
348,351 337,760
------------- -------------
Total assets $ $
611,195 580,020
============= =============
CURRENT LIABILITIES:
Cash overdraft $ $
7,541 5,932
Current portion of long-term debt - recourse
244 239
Accrued expenses
31,587 51,096
Accounts payable
24,927 24,864
Income taxes payable
14,935 2,522
Other current liabilities
3,599 1,675
------------- -------------
Total current liabilities
82,833 86,328
------------- -------------
LONG-TERM LIABILITIES:
Long-term debt - recourse
98,635 98,698
Long-term debt - nonrecourse
284,991 272,850
Deferred tax liability, net
31,700 29,949
Other long-term liabilities
5,121 2,818
------------- -------------
Total long-term liabilities
420,447 404,315
------------- -------------
Total liabilities
503,280 490,643
------------- -------------
Minority interest
635 671
------------- -------------
SHAREHOLDERS' EQUITY :
Common Stock :
Class A, no par value, 20,000 shares
authorized, 6,000 shares issued and outstanding
189 189
Class B, no par value, 900,000,000 shares
authorized, 86,337,000 shares issued
75,077 75,090
Retained earnings
38,003 14,556
Treasury stock, at cost, 458,150 and 138,750 shares Class B Common Stock,
respectively (4,600) (23)
Employee restricted stock plan
(1,384) (1,512)
Accumulated other comprehensive income
(5) 406
------------- -------------
Total shareholders' equity
107,280 88,706
------------- -------------
Total liabilities, minority interest, and shareholders' equity $ $
611,195 580,020
============= =============
(THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.)
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FEDERATED INVESTORS, INC.
CONSOLIDATED STATEMENTS OF INCOME THREE MONTHS ENDED
(dollars in thousands, except per share data) MARCH 31,
-----------------------
(unaudited) 1999 1998
---------- ----------
<S> <C> <C>
REVENUE:
Investment advisory fees, net-Federated funds $ $
73,839 61,905
Investment advisory fees, net-other
2,265 1,772
Administrative service fees, net-Federated funds
19,801 17,262
Administrative service fees, net-other
5,302 6,661
Other service fees, net-Federated funds
28,379 22,496
Other service fees, net-other
5,360 6,279
Commission income
991 941
Interest and dividends
3,079 1,395
Gain on sale of securities available for sale
748 189
Other income
1,503 3,692
---------- ----------
Total revenue
141,267 122,592
---------- ----------
OPERATING EXPENSES:
Compensation and related
39,103 37,518
Advertising and promotional
12,859 11,207
Systems and communications
7,338 6,361
Office and occupancy
6,416 6,625
Professional service fees
5,950 5,591
Travel and related
3,346 3,124
Amortization of deferred sales commissions
10,241 5,174
Amortization of intangible assets
3,606 3,776
Other
415 3,323
---------- ----------
Total operating expenses
89,274 82,699
---------- ----------
Operating income
51,993 39,893
---------- ----------
NONOPERATING EXPENSES:
Debt expense - recourse
2,220 2,205
Debt expense - nonrecourse
5,462 3,947
---------- ----------
Total nonoperating expenses
7,682 6,152
---------- ----------
Income before minority interest and income taxes
44,311 33,741
Minority interest
2,449 1,996
---------- ----------
Income before income taxes
41,862 31,745
Income tax provision
15,141 10,908
---------- ----------
Net income $ $
26,721 20,837
========== ==========
EARNINGS PER SHARE:
Basic and diluted $ 0.31 $ 0.25
========== ==========
Cash dividends per share $ 0.0380 $ 0.0208
========== ==========
</TABLE>
PER SHARE AMOUNTS HAVE BEEN RESTATED TO REFLECT THE ONE-FOR-ONE AND THE
ONE-FOR-TWO STOCK DIVIDENDS PAID IN 1998.
(THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.)
<PAGE>
<TABLE>
<CAPTION>
FEDERATED INVESTORS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS THREE MONTHS ENDED
(dollars in thousands) MARCH 31,
----------------------
(unaudited) 1999 1998
---------- ---------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income $ 26,721 $ 20,837
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH PROVIDED BY
OPERATING ACTIVITIES:
Amortization of intangible assets 3,606 3,776
Depreciation and other amortization 1,846 1,803
Amortization of deferred sales commissions 10,241 5,174
Minority interest 2,449 1,996
Loss (gain) on disposal of property and equipment 8 (59)
Amortization of employee restricted stock and other compensation 114 371
plans
Provision (benefit) for deferred income taxes 1,981 (293)
Net realized gain on sale of securities available for sale (748) (189)
Deferred sales commissions paid (31,805) (40,159)
Contingent deferred sales charges received 8,591 4,408
Foreign currency translation, net of tax (25) 0
Other 11 12
Other changes in assets and liabilities:
Increase in receivables, net (2,318) (3,500)
(Increase) decrease in accrued revenues (401) 1,206
Decrease in prepaid expenses and other current assets 1,718 622
(Increase) decrease in other long-term assets (1,309) 420
Decrease in accounts payable and accrued expenses (19,446) (372)
Increase in income taxes payable 12,413 18,939
Increase (decrease) in other current liabilities 3,533 (1,781)
Increase (decrease) in other long-term liabilities 2,290 (38)
---------- ---------
Net cash provided by operating activities 19,470 13,173
---------- ---------
INVESTING ACTIVITIES:
Additions to property and equipment (1,176) (894)
Cash paid for acquisitions 0 (162)
Investment in joint venture (592) 0
Purchases of securities available for sale (40,079) (790)
Proceeds from redemptions of securities available for sale 14,362 5,800
---------- ---------
Net cash (used) provided by investing activities (27,485) 3,954
---------- ---------
FINANCING ACTIVITIES:
Distributions to minority interest (2,485) (1,862)
Dividends paid (3,276)
(1,738)
Proceeds from issuance of Common Stock/options 0 1,000
Purchase of Treasury Stock 0
(4,577)
Proceeds from new borrowings - nonrecourse 30,827
33,444
Payments on debt - recourse (58) (51)
Payments on debt - nonrecourse (18,686)
(10,911)
---------- ---------
Net cash provided by financing activities 1,745 19,882
---------- ---------
Net (decrease) increase in cash and cash equivalents (6,270) 37,009
Cash and cash equivalents, beginning of period 185,581 22,912
---------- ---------
Cash and cash equivalents, end of period $ 179,311 $ 59,921
========== =========
</TABLE>
(THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.)
<PAGE>
FEDERATED INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Summary of Significant Accounting Policies
(a) BASIS OF PRESENTATION
The interim consolidated financial statements of Federated Investors,
Inc. (Federated) included herein have been prepared in accordance with
generally accepted accounting principles. In the opinion of management,
the financial statements reflect all adjustments which are of a normal
recurring nature and necessary for a fair statement of the results for
the interim periods presented.
In preparing the unaudited interim consolidated financial statements,
management is required to make estimates and assumptions that affect the
amounts reported in the financial statements. Actual results will differ
from such estimates and such differences may be material to the
financial statements.
These financial statements should be read in conjunction with
Federated's Annual Report on Form 10-K for the year ended December 31,
1998. Certain items previously reported have been reclassified to
conform with the current year's presentation.
(b) RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (SFAS 133), requires that
all derivatives, including hedges, be recorded at fair value and that
all changes in fair value or cash flow of both the hedge and the hedged
item be recognized in earnings in the same period. SFAS 133 is effective
for years beginning after June 15, 1999, but companies may adopt SFAS
133 as of the beginning of any fiscal quarter that begins after June
1998. The adoption of SFAS 133 is not expected to have a significant
effect on earnings or the financial position of Federated based on the
current minimal use of derivatives.
(2) Securitization of B Share Assets and Nonrecourse Debt
Federated sells the rights to the future revenue streams associated
with the 12b-1, shareholder service and CDSC fees of the Class B Shares
of various mutual funds it manages on a continuous basis. For accounting
purposes, transactions executed under the agreement are reflected as
financings and nonrecourse debt has been recorded at interest rates
based on current market conditions.
<PAGE>
FEDERATED INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)
(2) Securitization of B Share Assets and Nonrecourse Debt, Continued
The following tables summarize the changes in both the deferred sales
commissions and nonrecourse debt related to this agreement:
Three Months Ended
March 31, 1999
---------------
(IN THOUSANDS)
Deferred B Share Sales Commissions:
Financed balance at December 31, $ 249,580
1998...........................
B Share sales commissions 30,090
financed..............................
CDSC fees (8,300)
collected..............................................
Amortization.....................................(9,263)
---------------
Financed balance at March 31, $ 262,107
1999.......................................
===============
Nonrecourse Debt:
Balance at December 31, $ 272,850
1998.............................................
Additional 30,827
financings...............................................
Payments of nonrecourse (18,686)
debt.........................................
---------------
Balance at March 31, $ 284,991
1999...................................................
===============
Below is the activity of the nonrecourse debt tranches:
<TABLE>
<CAPTION>
(IN THOUSANDS)
----------------------------------------------------------
Interest Balance Additional Balance
Tranche Rate 12/31/98 Financings Payments 3/31/99
<S> <C> <C> <C> <C> <C>
- --------------------------------- ---------- ------------ ----------- ------------ -----------
1997-1 Class 7.44% $ 74,251 $ $ 5,343 $ 68,908
A....................................................... -
1997-1 Class B.................................................. 9.80% 9,700 9,700
- -
Financings 10/97 through 7.60% 177,443 13,343 164,100
11/98............................. -
Financings 12/98 through 6.68% 11,456 30,827 42,283
3/99........................................ -
============ =========== ============ ===========
$ 272,850 $ 30,827 $ 18,686 $ 284,991
============ =========== ============ ===========
</TABLE>
(3) Long-Term Debt - Recourse
Federated's long-term debt - recourse consisted of the following:
<TABLE>
<CAPTION>
Interest March 31, December 31,
Rate 1999 1998
----------- ------------- -------------
(IN THOUSANDS)
<S> <C> <C> <C>
Recourse Debt:
Senior Secured Note Purchase 7.96% $ 98,000 $ 98,000
Agreement.............................
Capitalized 7.1%-8.5% 879 937
leases........................................................
------------- -------------
Total recourse 98,879 98,937
debt.........................................................
Less current 244 239
portion......................................................
-------------
============= =============
Total long-term debt - $ 98,635 $ 98,698
recourse..............................................
============= =============
</TABLE>
<PAGE>
FEDERATED INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)
(4) Common Stock
(a) Initial Public Offering and Subsequent Merger
On May 19, 1998, Federated Investors was merged with and into Federated
Investors, Inc., its wholly owned subsidiary. All outstanding Class A
and Class B Common Shares of Federated Investors were exchanged for an
equal number of shares of no par Class A and Class B Common Stock of
Federated Investors, Inc., respectively, with the same proportionate
ownership and substantially similar rights, and all Treasury Stock of
Federated Investors was retired.
As a condition precedent to the merger described above, Federated
Investors, Inc. issued an additional 2,610,000 shares of Class B Common
Stock in an initial public offering for net proceeds of approximately
$46.2 million in cash.
(b) Dividends
Federated's Senior Secured Credit Agreement allows dividends in an
amount not to exceed $20 million plus 50% of any net income (less 100%
of any loss) of Federated less any stock repurchase payments during the
period from January 1, 1998 to and including the date of payment. The
Senior Secured Note Purchase Agreement allows dividends to an amount of
$5 million plus 50% of any net income (less 100% of any loss) of
Federated during the period from January 1, 1996 to and including the
date of payment. Cash dividends of $0.038 per share or approximately
$3.3 million were paid in the first quarter of 1999 to holders of common
shares. Additionally, on April 20, 1999, the board of directors of
Federated declared a dividend of $0.042 per share to be paid on May 14,
1999, to shareholders of record as of May 3, 1999. After the payment of
the dividend on May 14, 1999, approximately $56.6 million is available
to pay dividends under the more restrictive of the two debt covenant
limitations.
(c) Employee Stock Purchase Plan
In July 1998, Federated established an Employee Stock Purchase Plan
which allows employees to purchase a maximum of 500,000 shares of Class
B Common Stock. Employees may contribute up to 10% of their salary to
purchase shares of Federated's Class B Common Stock on a quarterly basis
at the market price. The shares under the plan may be newly issued or
may be shares purchased on the open market.
(d) Stock Repurchase Program
On January 26, 1999, the board of directors approved a share
repurchase program authorizing Federated to purchase up to $20 million
of Federated Class B Common Stock over the next 12 months. The program
authorizes executive management to make purchases in open market
transactions, with the timing of the purchases and the amount of shares
to be determined by the Federated executive management team. The stock
will be held in treasury for employee benefit plans, potential
acquisitions and other corporate activities. As of May 12, 1999,
Federated has purchased 674,400 shares of Class B Common Stock for
approximately $11.0 million under this program.
<PAGE>
FEDERATED INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)
(5) Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
-------------------------------
1999 1998
------------- -------------
(IN THOUSANDS, EXCEPT PER
SHARE DATA)
<S> <C> <C>
Numerator:
Net income.............................. $ 26,721 $ 20,837
============= =============
Denominator:
Basic weighted-average shares 85,001 82,335
outstanding.................................................
Dilutive potential shares from stock-based 2,578 1,955
compensation.............
------------- -------------
Diluted weighted-average shares 87,579 84,290
outstanding.............................................
============= =============
Basic and diluted earnings per $ 0.31 $ 0.25
share............................................................................
============= =============
</TABLE>
(6) Comprehensive Income
Comprehensive income was $26.3 million and $20.8 million for the three
month periods ended March 31, 1999 and 1998, respectively.
(7) Subsequent Events
On April 22, 1999, Federated entered into a collateralized bond
obligation (CBO) transaction with various institutional investors.
Federated, as collateral manager for the CBO, will manage the collateral
securities equal to approximately $360 million in high yield assets.
Federated purchased $11.0 million of subordinated notes issued by the CBO
special purpose vehicle which will be classified as "Securities available
for sale" in the Consolidated Balance Sheets.
<PAGE>
Part I, Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
HIGHLIGHTS
<TABLE>
<CAPTION>
SELECTED OPERATING DATA Three Months Ended
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) March 31,
----------------------------
1999 1998
----------- ----------
<S> <C> <C>
Total revenue...............................................$ 141,267 $ 122,592
Operating expenses.......................................... 89,274 82,699
----------- ----------
Operating income............................................... 51,993 39,893
Nonoperating expenses and minority 10,131 8,148
interest.........................................................
----------- ----------
Income before income taxes......................................41,862 31,745
Income tax provision............................................15,141 10,908
=========== ==========
Net income............................................... $ 26,721 $ 20,837
=========== ==========
Operating margin percentage 37% 33%
Earnings per share - basic and $ 0.31 $ 0.25
diluted............................................................
</TABLE>
<TABLE>
<CAPTION>
MANAGED AND ADMINISTERED ASSETS AT PERIOD END
(IN MILLIONS) March 31, %
1999 1998 Change
----------- ---------- ----------
<S> <C> <C> <C>
Money market funds.......................................$ 78,178 $ 64,215 22%
Fixed income funds........................................ 16,967 15,601 9%
Equity funds.............................................. 16,126 13,843 16%
Separate accounts......................................... 3,679 2,389 54%
=========== ==========
Total Managed $ 114,950 $ 96,048 20%
Assets....................................................
=========== ==========
Total Administered $ 30,367 $ 51,651 (41%)
Assets....................................................
=========== ==========
AVERAGE MANAGED AND ADMINISTERED ASSETS Three Months Ended
(IN MILLIONS) March 31, %
----------------------------
1999 1998 Change
----------- ---------- ----------
Money market funds.......................................$ 78,495 $ 64,830 21%
Fixed income funds....................................... 16,810 15,407 9%
Equity funds............................................. 15,806 12,569 26%
Separate accounts........................................ 2,841 2,296 24%
=========== ==========
Total average Managed $ 113,952 $ 95,102 20%
Assets...................................................
=========== ==========
Total average Administered $ 29,454 $ 49,946 (41%)
Assets...................................................
=========== ==========
</TABLE>
COMPONENTS OF CHANGES IN EQUITY AND FIXED INCOME FUND MANAGED ASSETS
<TABLE>
<CAPTION>
(IN Three Months Ended
MILLIONS)
March 31,
EQUITY 1999 1998
FUNDS
<S> <C> <C>
Beginning assets..................................$ 15,503 $ 11,710
----------- -----------
Sales................................... 1,369 1,390
Redemptions............................. (1,007) (631)
----------- -----------
Net 362 759
sales......................................
Net exchanges............................. 11 51
Other*.........................................250 1,323
=========== ===========
Ending assets....................................$ 16,126 $ 13,843
=========== ===========
FIXED INCOME FUNDS
Beginning assets................................$ 16,437 $ 15,067
----------- -----------
Sales................................... 1,776 1,577
Redemptions............................. (1,459) (1,063)
----------- -----------
Net 317 514
sales......................................
Net exchanges................................ 207 (130)
Other*.......................................... 6 150
=========== ===========
Ending assets....................................$ 16,967 $ 15,601
=========== ===========
</TABLE>
* Primarily reinvested dividends and distributions, net investment income
and changes in the value of securities held by the funds.
RESULTS OF OPERATIONS - THREE MONTHS ENDED MARCH 31, 1999 COMPARED TO THE
THREE MONTHS ENDED MARCH 31, 1998
In preparing the discussion and analysis below, Federated has presumed
that the readers of the interim financial information have read or have
access to Federated's discussion and analysis of financial condition and
results of operations contained in Federated's Annual Report on Form
10-K for the year ended December 31, 1998.
NET INCOME. Net income for the three months ended March 31, 1999 was
$26.7 million, or $0.31 per diluted share, a 28% and 24% increase,
respectively, over the same period in 1998. Revenue growth of 15%
resulting from a 20% increase in average Managed Assets as well as
improvements in operating margins from 33% to 37% were the primary
reasons for the improved financial performance.
REVENUE. Federated's consolidated revenue increased $18.7 million, or
15%, to $141.3 million for the quarter ended March 31, 1999 from $122.6
million for the same period in 1998. Revenue from Managed Assets
increased $20.9 million, or 20%, due principally to the 20% increase in
average Managed Assets from $95.1 billion for the first quarter of 1998
to $114.0 billion for the first quarter of 1999, including increases of
21%, 9%, 26%, and 24% in money market funds, fixed income funds, equity
funds, and separate accounts, respectively. Service-related revenues
from sources other than Managed Assets decreased by $2.3 million due
primarily to the 41% reduction in average Administered Assets from $49.9
billion to $29.5 billion for the first quarter of 1998 and 1999,
respectively, resulting from the loss of servicing clients in 1998.
Interest and dividends increased by $1.7 million, or 121%, over the
prior year first quarter as a result of higher levels of invested cash
resulting from the net proceeds from Federated's initial public offering
in May 1998 and cash generated from operations. Other income decreased
$2.2 million, or 59%, from $3.7 million for the first three months of
1998 to $1.5 million for the same period in 1999 primarily as a result
of a servicing contract buyout in the first quarter of 1998 totaling
$2.5 million.
OPERATING EXPENSES. Total operating expenses increased from $82.7
million for the first quarter of 1998 to $89.3 million for the first
quarter of 1999, an increase of $6.6 million, or 8%. Expense management
continues to be a major focus for Federated, with expense increases
largely attributable to increases in variable expenses due to continued
sales and the resultant growth in assets under management as well as
higher levels of profitability. As a result, expense growth has been
contained at levels substantially below the 15% increase in revenues
and, accordingly, operating margins have improved to 37% for the quarter
ended March 31, 1999 from 33% for the same period in 1998.
Compensation and related expenses increased $1.6 million, or 4%, from
$37.5 million for the quarter ended March 31, 1998 to $39.1 million for
the quarter ended March 31, 1999 due principally to salary increases for
employees as well as the resulting increases in payroll taxes and
retirement plan matching contributions.
Advertising and promotional expenses increased from $11.2 million for
the quarter ended March 31, 1998 to $12.9 million for the quarter ended
March 31, 1999, an increase of $1.7 million, or 15%, primarily as a
result of higher levels of marketing allowances being paid to brokers
and bank clients for retailing efforts of marketing funds.
Systems and communications expenses increased $0.9 million, or 15%,
from $6.4 million for the first three months of 1998 to $7.3 million for
the same period in 1999 primarily due to new computer hardware leasing
agreements and the renegotiation of an alliance agreement with a
third-party vendor.
Professional service fees increased from $5.6 million for the quarter
ended March 31, 1998 to $6.0 million for the quarter ended March 31,
1999, an increase of $0.4 million, or 6%, due principally to increased
service fees related to subcontracted portfolio accounting services.
Amortization of deferred sales commissions increased from $5.2 million
for the first quarter of 1998 to $10.2 million for the same period in
1999, an increase of $5.0 million, or 98%. This increase is due to
higher levels of deferred sales commissions as a result of the continued
sale of shares of funds which require Federated to advance commissions
to the broker / dealers.
Other expenses decreased $2.9 million, or 88%, from $3.3 million for
the quarter ended March 31, 1998 to $0.4 million for the quarter ended
March 31, 1999. This decrease is predominantly attributable to the
reduction of bad debt expense as a result of the improved collection of
accounts receivable as well as the reduction in processing errors and
related penalties.
NONOPERATING EXPENSES. Nonoperating expenses increased by $1.5 million,
or 25%, to $7.7 million for the three months ended March 31, 1999 as
compared to $6.2 million for the three months ended March 31, 1998 due
to interest expense recognized relative to the increased level of
nonrecourse debt incurred as a result of the continued financing of
certain future cash flows related to the B Share fund assets.
MINORITY INTEREST. The minority interest increased from $2.0 million
for the first quarter of 1998 to $2.4 million for the first quarter of
1999, an increase of $0.4 million, or 23%. This increase is a result of
higher net income being recorded for the subsidiary for which Federated
acts as the general partner with a majority interest of 50.5%. The
increase in income is attributable to higher average Managed Assets of
the funds which the subsidiary advises.
INCOME TAXES. The income tax provision for the quarter ended March 31,
1999 was $15.1 million as compared to $10.9 million for the first
quarter of 1998, an increase of $4.2 million, or 39%. This increase was
due primarily to the increase in the level of income before income taxes
from $31.7 million for the three months ended March 31, 1998 to $41.9
million for the three months ended March 31, 1999, an increase of 32%.
CAPITAL RESOURCES AND LIQUIDITY
CASH FLOW. Cash provided by operating activities totaled $19.5
million for the quarter ended
March 31, 1999. The cash flow from operating activities was primarily
utilized for purchases of securities available for sale, dividend
payments, distributions to the minority interest, the repurchase of
Treasury Stock as well as payments on long-term debt.
DEFERRED SALES COMMISSIONS AND NONRECOURSE DEBT. Certain subsidiaries
of Federated pay commissions to broker / dealers (deferred sales
commissions) to promote investments in certain mutual funds. For mutual
fund shares sold under such marketing programs, Federated retains
certain distribution and servicing fees from the mutual fund over the
outstanding life of such shares. These fees consist of 12b-1,
shareholder service and contingent deferred sales charge (CDSC) fees.
Both 12b-1 and shareholder service fees are calculated as a percentage
of average Managed Assets associated with the related classes of shares.
If shares are redeemed before the end of a specified holding period as
outlined in the related mutual fund prospectus, the mutual fund
shareholder is normally required to pay Federated a CDSC fee based on a
percentage of the lower of the current market value or the original cost
basis of the redeemed shares, such percentage diminishing over a
recovery schedule not to exceed six years.
For non-B Share related sales, the up-front commissions Federated pays
to broker / dealers are capitalized, recorded as deferred sales
commissions and amortized over the estimated benefit period not to
exceed CDSC periods. The 12b-1 and shareholder service fees are
recognized in the statements of income over the life of the mutual fund
class share. Any CDSC fees collected are used to reduce the deferred
sales commission asset.
For B Share related sales, Federated has agreed to sell, on a regular
basis over a three-year contract period terminating in 2000, the rights
associated with certain of the future fee revenue associated with the
deferred sales commissions. For accounting purposes, the sales of the
future cash flow rights have been accounted for as financings and
nonrecourse debt was recorded.
The following table demonstrates the effects of the B Share financing
program on both the Consolidated Balance Sheets at March 31, 1999 and
December 31, 1998, and the Consolidated Statements of Income for the
three-month periods ended March 31, 1999 and 1998:
<TABLE>
<CAPTION>
(IN THOUSANDS) 1999 1998
- ---------------------------------------------------------------------------------------------
MARCH 31 AND DECEMBER 31, RESPECTIVELY
Assets
<S> <C> <C>
Deferred sales commissions, net* $ 262,107 $ 249,580
Receivables 6,996 6,314
Other long-term assets 2,610 2,798
Liabilities
Long-term debt - nonrecourse $ 284,991 $ 272,850
Accounts payable 4,498 3,951
THREE MONTHS ENDED MARCH 31
Revenues
Other service fees, net - Federated $ 15,929 $ 11,048
funds
Expenses
Amortization of deferred sales $ 9,263 $ 4,517
commissions
Debt expense - nonrecourse 5,462 3,947
Other expenses 160 246
</TABLE>
* EXCLUDES DEFERRED SALES COMMISSIONS RELATED TO B SHARE REVENUE STREAMS WHICH
HAVE NOT BEEN FINANCED AS OF THE END OF THE PERIOD DUE TO THE TIMING OF THE SALE
OF THE REVENUE STREAMS TO THE THIRD PARTY.
<PAGE>
Due to the nonrecourse nature of this financing arrangement, the $17.8
million excess of B Share-related liabilities over the related assets at
March 31, 1999, will be recognized in income over the remaining life of
the B Share cash flows.
CAPITAL EXPENDITURES. Capital expenditures totaled $1.2 million for
the first quarter of 1999, which excludes Year 2000-related project
costs described below.
DIVIDENDS. Federated's board of directors adopted a policy in 1998 to
declare and pay cash dividends on a quarterly basis. A dividend of
$0.0208 per share was paid in the first quarter of 1998, and dividends
of $0.038 per share were paid in the second, third and fourth quarters
of 1998 and in the first quarter of 1999. Federated's board of directors
declared a dividend of $0.042 per share to be paid on May 14, 1999 to
registered shareholders as of May 3, 1999. After the payment of the
dividend on May 14, 1999, Federated, given current debt covenants, has
the ability to pay dividends of approximately $56.6 million.
DEBT FACILITIES. Federated has the following recourse debt
facilities: Senior Secured Credit Agreement and Senior Secured Note
Purchase Agreement.
SENIOR SECURED CREDIT AGREEMENT: At March 31, 1999, the outstanding
balance under the Senior Secured Credit Agreement was zero with an
amount available to borrow of $150.0 million. The Senior Secured Credit
Agreement contains various financial and other covenants. Federated was
in compliance with all debt covenants at March 31, 1999.
SENIOR SECURED NOTE PURCHASE AGREEMENT: The Senior Secured Note
Purchase Agreement debt totaled $98.0 million as of March 31, 1999. The
notes are due in seven annual $14.0 million installments beginning June
27, 2000, and maturing June 27, 2006. Federated was in compliance with
all debt covenants at March 31, 1999.
CAPITALIZED LEASE OBLIGATIONS. At March 31, 1999, Federated had
capitalized lease obligations totaling $0.9 million related to certain
telephone equipment. The scheduled principal payments approximate $0.2
million per year for 1999 through 2002.
SHAREHOLDERS' EQUITY. In May 1998, Federated Investors was merged with
and into Federated Investors, Inc., its wholly owned subsidiary. All
outstanding Class A and Class B Common Shares of Federated Investors
were exchanged for an equal number of shares of no par Class A and Class
B Common Stock of Federated Investors, Inc., respectively, with the same
proportionate ownership and substantially similar rights. All Treasury
Stock of Federated Investors was retired, and additional paid-in capital
was transferred to the no par Class A and Class B Common Stock of
Federated Investors, Inc. based on their relative proportionate values
immediately prior to the merger.
Also in May 1998, Federated issued an additional 2,610,000 shares of
Class B Common Stock in an initial public offering for net proceeds of
approximately $46.2 million in cash.
FUTURE CASH REQUIREMENTS. Management expects that the principal needs
for cash will be to advance sales commissions, fund property and
equipment acquisitions, pay shareholder dividends, repurchase company
stock, service debt and fund strategic business acquisitions. Management
believes that Federated's existing liquid assets, together with the
expected continuing cash flow from operations, its borrowing capacity
under current credit facilities, its B Share financing arrangement and
its ability to issue stock will be sufficient to meet its present and
reasonably foreseeable cash needs.
YEAR 2000 READINESS DISCLOSURE. Many existing information technology
(IT) products and systems and non-IT products and systems containing
embedded processor technology were originally programmed to represent
any date by using six digits (e.g., 12/31/99), as opposed to eight
digits (e.g., 12/31/1999). Accordingly, such products and systems may
experience miscalculations, malfunctions or disruptions when attempting
to process information containing dates that fall after December 31,
1999 or when attempting to recognize the year 2000 as a leap year. These
potential problems are collectively referred to as the "Year 2000," or
"Y2K" problem. Also, the occurrence of such problems may take place
before the year 2000 if a computer system utilizes future dates during
its processing.
STATE OF READINESS: Computer processing is critical to Federated's
business operations, and the Y2K issue poses a significant potential
risk to operations. Therefore, Federated has established an
enterprise-wide project to address this issue. The project includes four
phases: inventory / assessment, which includes the identification of all
components of Federated's computing environment and the assessment of
Y2K issues for these components; remediation of the Y2K issues
identified in the inventory / assessment phase; testing to ensure that
remediation was successful; and implementation of the modified systems.
The project scope has been divided into four segments which comprise
Federated's computing environment as follows:
o systems developed internally by Federated's IT division - this constitutes
the majority of Federated's Y2K efforts; o mission-critical processing
provided by the funds' service providers;
o other critical aspects of systems and operations within the business units,
including both commercially available computer applications and the
progress of key business partners; and
o embedded systems - for Federated's operations, embedded systems mainly
consist of building systems and office equipment.
As of the end of March 1999, Federated has completed the inventory /
assessment phase with respect to its internally developed systems.
Federated has also substantially completed (99%) the remediation and
unit testing of individual programs. Approximately 90% of applications
have been implemented into production after unit level testing. In
addition, approximately 83% of these systems have finished the next
phase, system level testing. The focus during the remainder of 1999 is
to complete implementation and system testing during the first half of
the year and test with external interfacing systems.
Certain mission-critical processing is performed for Federated's funds
by outside service providers, including the transfer agency, portfolio
accounting, and custody functions. Federated has identified these
service providers, is monitoring the progress of these companies in
addressing Y2K issues via progress reports and meetings, and is working
with these service providers to test their systems, as appropriate. As
of the end of the first quarter of 1999, the critical service providers
reported good progress and confidence in making their systems compliant.
Assessment and remediation are underway for business unit systems, key
business partners, and embedded systems. Federated currently expects to
complete assessment and necessary remediation for these items by
mid-1999. Some acceptance testing of vendor-supplied products will
continue throughout 1999.
Additionally, Federated is participating in the "industry-wide testing"
being coordinated by the Securities Industry Association. This testing
is being conducted to ensure that major broker / dealers, exchanges,
clearing houses, and depositories are able to communicate properly in
the year 2000. Federated participated in initial tests for processing of
mutual fund transactions in both July and October 1998. Federated has
also participated in the full industry-wide test conducted in March /
April 1999 and encountered no Y2K-related errors.
COSTS TO ADDRESS Y2K: Federated estimates its Y2K project will cost
approximately $10 million. Federated has incurred approximately $6.5
million from the inception of the Y2K project through March 31, 1999,
with $1.3 million being reflected within the current year's financial
statements. Y2K costs are being funded from operating revenue and are
being expensed as incurred. These cost estimates are subject to change
as the project continues. The estimated total costs are not considered
to have a material impact on Federated's results of operations or
financial position.
While certain non time-sensitive IT projects have been delayed due to
Y2K efforts and costs, no strategic projects or projects for legal or
regulatory requirements have been deferred or canceled.
RISKS OF YEAR 2000 ISSUES: It must be realized that, as with all other
companies in the financial services industry, many day-to-day functions
of Federated are dependent on accurate computer processing. Further,
this processing is conducted by an extensive network of systems, both
internal to Federated and external, with both direct and indirect
interaction. Accordingly, if not addressed, Y2K issues could result in
Federated's inability to perform mission-critical functions, including
the trading of securities and processing of fund shareowner
transactions.
A portion of Federated's business involves international investments,
thereby exposing Federated to operations, custody and settlement
processes outside the United States. Federated is monitoring the
progress of the funds' international custodians in these areas.
Federated is also assessing Y2K issues for other aspects of its
international operations.
Y2K is a risk for many of the issuers of the specific securities in
which Federated's funds invest, in both the U.S. and international
markets. Accordingly, Federated has incorporated assessment of Y2K risk
into its investment management process.
CONTINGENCY PLANS: Because Federated's operations are reliant upon
systems which are not under its direct control, Federated's Y2K plan
includes the development of contingency plans to address its critical
operations in the event of Y2K-related disruptions. The creation of
these plans is currently underway. However, in an operation as complex
and geographically distributed as Federated's business, there are
limited alternatives to certain of its mission-critical systems or
public utilities. If certain mission-critical systems or public
utilities are not made Year 2000 compliant or fail, there would be a
material adverse impact upon Federated's business, financial condition
and results of operations. Although Federated is investigating
alternative solutions, it is unlikely that an adequate contingency plan
can be developed to avoid such an adverse impact in the event
mission-critical systems or public utilities fail to achieve compliance.
SPECIAL NOTE REGARDING FORWARD-LOOKING INFORMATION. Certain statements
under "Management's Discussion and Analysis of Financial Condition and
Results of Operations" included in the Future Cash Requirements and Year
2000 Readiness Disclosure sections and elsewhere in this report,
constitute forward-looking statements, which involve known and unknown
risks, uncertainties, and other factors that may cause the actual
results, levels of activity, performance, or achievements of Federated,
or industry results, to be materially different from any future results,
levels of activity, performance, or achievements expressed or implied by
such forward-looking statements. For a discussion of such risk factors,
see the section titled Risk Factors and Cautionary Statements in
Federated's Annual Report on Form 10-K for the year ended December 31,
1998, and other reports on file with the Securities and Exchange
Commission. As a result of the foregoing and other factors, no assurance
can be given as to future results, levels of activity, performance, or
achievements, and neither Federated nor any other person assumes
responsibility for the accuracy and completeness of such statements.
Part I, Item 3. Quantitative and Qualitative Disclosures About Market Risk
Federated's investments are primarily in money market and fixed income
funds. Occasionally, Federated invests in new fluctuating net asset
value mutual funds (priming) sponsored by Federated in order to provide
investable cash to the fund, allowing the fund to establish a yield
history. Federated may use derivative financial instruments as an
attempt to hedge these investments. As of March 31, 1999, Federated had
no priming investments or derivative financial instruments.
All of Federated's debt instruments carry fixed interest rates and
therefore are not subject to market risk.
Part II, Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits required to be filed by Item 601 of Regulation S-K
are filed herewith and incorporated by reference herein:
Exhibit 27. Financial Data Schedule (filed herewith)
(b) Reports on Form 8-K: No reports on Form 8-K were filed during the period
subject to this Quarterly Report on Form 10-Q.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
FEDERATED INVESTORS, INC.
(Registrant)
Date MAY 13, 1999 By: /S/ J. CHRISTOPHER DONAHUE
J. Christopher Donahue
President and
Chief Executive Officer
Date MAY 13, 1999 By: /S/ THOMAS R. DONAHUE
Thomas R. Donahue
Chief Financial Officer and
Principal Accounting Officer
<PAGE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 5
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 179,311,000
<SECURITIES> 39,251,000
<RECEIVABLES> 33,860,000
<ALLOWANCES> 573,000
<INVENTORY> 1,567,000
<CURRENT-ASSETS> 262,844,000
<PP&E> 64,362,000
<DEPRECIATION> 43,177,000
<TOTAL-ASSETS> 611,195,000
<CURRENT-LIABILITIES> 82,833,000
<BONDS> 383,626,000
0
0
<COMMON> 75,266,000
<OTHER-SE> 32,014,000
<TOTAL-LIABILITY-AND-EQUITY> 611,195,000
<SALES> 0
<TOTAL-REVENUES> 141,267,000
<CGS> 0
<TOTAL-COSTS> 89,274,000
<OTHER-EXPENSES> 7,682,000
<LOSS-PROVISION> (525,000)
<INTEREST-EXPENSE> 7,225,000
<INCOME-PRETAX> 41,862,000
<INCOME-TAX> 15,141,000
<INCOME-CONTINUING> 26,721,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 26,721,000
<EPS-PRIMARY> 0.31
<EPS-DILUTED> 0.31
</TABLE>
