On Thursday, LPL Financial (LPLA) laid out a $500 million stock-buyback plan, up from the $152 million on the books as of Sept. 30, and reported its third-quarter results. It executives also issued lower targets on expense growth.
Its latest earnings beat estimates by a penny. But revenue of $1.055 billion (down 3% from last year) missed estimates by $19 million, according to William Blair analysts Christopher Shutler and Andrew Nicholas.
“While we are encouraged by LPL’s commitment to expense discipline and appreciate the scale-driven competitive advantages its business model provides, we remain on the sidelines due to stagnant core business trends” and the uncertainty around Department of Labor’s new fiduciary rule, Shutler and Nicholas explained in a note on LPL published Friday.
Commissions totaled $480.3 million, $11.2 million below Shutler and Nicholas’ estimates, and were down nearly 8% year over year. Plus, daily commission revenue per average advisor was $536,000 on an annualized basis, a 9.2% drop from a year ago.
Read on for details on what’s behind the “stagnant” trends and sources of both possible growth and weakness that could impact future results for the biggest independent broker-dealer in the business — and its rivals.
1. Let’s Make a (Cheap) Deal
“Well, we continue to look for M&A … and [the] flexibility to do M&A and take leverage up further,” CEO Mark Casady said during the earnings call with analysts. “And so we feel fine that we can do what we need to do in that market. We do know whenever properties [become] available for sale and people [are] looking to sell, so we’ll continue to evaluate those as we have done in the past.”
Still, the right price matters.
“I think there was a recently announced transaction in the last two weeks in which we saw a 14-plus multiple to EBITDA; that’s a very high multiple,” the CEO stated. “We’re a six times to eight times EBITDA buyer. And so, that really will guide us as to what returns we can get in the M&A market.”
2. Impact of DOL Is Likely ‘Small’
In terms of investors that might have to be pushed out of LPL if the proposed fiduciary standard goes through in its current state, that number is “small,” according to Casady.
“It’s less than 5% of assets, probably closer to 3% [of the 30% of assets in our brokerage retirement accounts, and less than 1% of total assets]. So it’s not a lot of assets that we may not be able to service. And we will characterize those assets under $15,000 in balances,” he explained. “So, they’re assets that in our advisory platforms are just too small to deal with in and of itself.”
As for the DOL standard’s potential impact on gross profits, that “is about 2%, not including anything related to the resell of a product,” the CEO says. “So, it would affect at the gross level 2% of gross profits, and then obviously those assets will be invested in something else, which will offset that. So even in the worst case we can imagine that sort of a 1% net impact or less from there.”
Nonetheless, Casady points out, “You can have a situation where it goes all the way over, and we decide not to offer brokerage services; that’s the worst case we can imagine, as we sit here today, and that we think that would be a travesty for investors.”
3. Headcount is Dropping, but …
In the third quarter, the company lost 57 net advisors during the period, which it says were mainly lower-producing reps. It says it expects “some continued weakness in net new advisor headcount” in the fourth quarter but also anticipates “solid net new advisory assets.”
In the most recent quarter, the average yearly level of fees and commissions for its 14,073 reps was $136,000, vs. $144,000 in Q2’15 and $150,000 a year ago.
“Generally we make money at lower levels of production down to even $100,000. It is just not a — very much of a quantum of profits,” Casady explained. “And the extent to which that takes away our focus from practices that are growing, we always want to focus on those practices that can grow and have good opportunity to continue to help their investors.”
However, the firm says it continues to add higher-producing reps and “gather assets nicely through recruiting,” according to the CEO. “This is why headcount is a kludgy way of measuring it, because we are much better off to have smaller producers go off and focus on some other industry and to have large producers join us.”
4. Weak Product Sales May Continue
According to Thomas Lux, acting CFO, alternative investment commissions were about $26 million in the third quarter. This is the lowest level in four years, according to William Blair equity analysts.
“I think, we’ve sort of used in the past a bench-line quarterly for those revenues being about $40 million, so it was a very soft quarter overall,” Lux said on a call with analysts. Variable annuity sales “were roughly flat, inclusive of both sales and trail commissions.”
Lux says that low long-term interest rates are part of the problem. “[W]e’re well away from the 3% rate on the 10-year that we’ve talked about being a large trigger of creation of product features on VAs that make those attractive products in the investor’s toolkit [and] we just don’t see anything changing on that in the near term,” he explained.
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