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National Financial Partners Corp. (NYSE:NFP)

Q4 2012 Earnings Call

February 15, 2013 08:30 am ET

Executives

Jessica Bibliowicz – Chairman & Chief Executive Officer

Doug Hammond – President & Chief Operating Officer

Donna Blank – Executive Vice President & Chief Financial Officer

Abbe Goldstein – Senior Vice President, Investor Relations and Corporate Communications

Analysts

Mark Finkelstein – Evercore Partners

[Adam Klaver] – William Blair

Seth Weiss – Bank of America-Merrill Lynch

[Humphrey Fili – UBS]

Operator

Good day ladies and gentlemen, and welcome to the Q4 2012 NFP Conference Call. My name is Marie and I’ll be your operator for today. (Operator instructions.) As a reminder, this call is being recorded for reply purposes. And I’d now like to turn the call over to Abbe Goldstein, Senior Vice President Investor Relations and Corporate Communications. Please proceed, ma’am.

Abbe Goldstein

Thanks, Marie. Good morning everyone and thank you for joining us on our Q4 2012 earnings conference call. During this call management may make certain statements regarding their expectations and projections for NFP which are forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management’s current views and are subject to risks and uncertainties that could cause actual results and events to differ materially from those contemplated by a forward-looking statement.

We refer you to the risk factors described in NFP’s filings with the SEC such as NFP’s Annual Report on Form 10(k) for the year ended December 31, 2011. Forward-looking statements speak only as of the date which they are made and NFP expressly disclaims any obligation to update or revise any forward-looking statements.

Our Q4 earnings conference call will be accompanied by a presentation that is available for download on the Investor Relations section of NFP’s website or upon connecting to the audio webcast of this call on the same website. A reconciliation of the non-GAAP measures discussed on this call can be found in the presentation or in the quarterly financial supplement which is available at the same website.

At this time I would like to turn the call over to our CEO Jessica Bibliowicz, and her presentation starts on Slide 7.

Jessica Bibliowicz

Great, thanks Abbe, and good morning everyone. 2012 was an important year of growth for us. We accomplished a great deal, expanding revenue and adjusted EBITDA while improving our margin performance. In addition to growing organically we took bold steps toward furthering our consolidation efforts by initiating a multi-year management contract buyout plan. Most recently we closed two transactions in the Southeast. We also made several acquisitions that advance our client value proposition.

For the full year our revenue was $1.1 billion, up 4.8% and our organic revenue growth was 2.5%. Our adjusted EBITDA for the year was $141 million up 11.5%, and our margin expanded from 12.5% to 13.3%. Overall growth in corporate and executive benefits in P&C (inaudible), assets under management grew and wealth management performance was solid. While the market remains challenging, life insurance showed some improvements in Q4.

Turning to Slide 8, we continue to enhance our business profile largely to our diversified product and service offerings and our increasing recurring revenue. For the full year 2012, recurring revenue accounted for 65% of total revenue, an increase from 62% in 2011.

Turning to Slide 9, we are pleased with our progress, executing our strategy to complement NFP’s broad client offering with strategic acquisitions integrated under a single brand, particularly in property and casualty. During 2012, we used $97 million for acquisitions and corporate benefits, P&C and our advisor services group. Of this amount, $17 million was used to effect management contract buyouts.

During 2012 we used $20 million to repurchase shares which included $2 million during Q4. As of December 31, we had $38 million remaining on our buyback authorization. Earlier in the week we announced a new $325 million credit facility which provides greater financial flexibility. We are excited about 2013 and look forward to the opportunities that are ahead.

At this point I would like to turn the call over to our President and future CEO, Doug Hammond.

Doug Hammond

Thanks, Jessica, and good morning everyone. This morning I’ll first review our quarterly segment results followed by our 2013 capital allocation expectations, and conclude with our outlook for the year.

Turning to our segment performance for Q4, you can see on Slide 11 NFP’s three business segments and their percentage revenue contribution. The corporate client group represented 43% of total revenue and performed well with 2.7% organic revenue growth. The individual client group, which includes wealth management and life insurance, represented 36.4% of total revenue with organic revenue growth of 8.3%. And the advisor services group represented the remaining 20.6% of total revenue with a decline in organic revenue of 5.9%.

Turning to Slide 12, our CCG offices have stayed focused on delivering comprehensive employee benefits solutions. CCG continues to make progress, broadening the scope of services we offer to each client with a particular focus on P&C, retirement planning and executive benefits. Given our long history of successfully operating in a healthcare exchange environment we are also well positioned to compete effectively as various opportunities develop in this area.

Corporate benefits which includes health and welfare, retirement, and voluntary benefits generated 81.0% of CCG’s revenue. Executive benefits generated 10.5% and P&C generated the remaining 8.5%. CCG’s adjusted EBITDA margin for Q4 was 19.4% compared with 18.6% in Q4 2011. We are pleased with the performance of our recently acquired P&C businesses as well as our other corporate benefits acquisitions and management contract buyouts. We are off to a good start with the end-of-year 2012 and early Q1 2013 management contract buyouts of our largest corporate benefits offices in the Southeast. Together, these businesses have annualized combined revenue of approximately $14 million and accelerate our consolidation goals in the region.

As previously announced during Q4 we acquired a national personal lines P&C business that represents a unique opportunity for us to complement our high net worth offerings. These transactions are fully aligned with our strategy of deploying capital to accelerate the alignment of our business under one NFP with a focus on transitioning away from the management company structure and building scale in P&C.

In ICG, our wealth management business showed solid performance in the quarter and represented 15.9% of ICG’s revenue up from 15.1% in Q4 last year. We are pleased with the progress we’ve made with the reorganization of our life business and remain committed to life over the long term. We view life insurance as a valuable complement to our other businesses.

Improved life insurance sales in Q4 were driven by two factors that we do not expect to repeat: first, long-term clarity on the estate tax front released a backlog of sales that had previously stalled due to the temporary nature of the prior estate tax laws. Second, we saw increased demand for guaranteed products that have been either re-priced higher or withdrawn due to the new 2013 insurance company reserve requirements. Partners Financial, a division of NFP Life and a core business with our reorganized life business was a solid contributor to our positive results in life in the quarter and was well positioned to take advantage of both of these drivers.

In ASG, Q4 2012 revenue declined 5.9% as the trend of lower transactional business due to the uncertain tax and pre-election political environment continued. In Q4 we had margin benefits in ASG related to the integration of Fusion. Our assets under management grew over 11% year-over-year in Q4 to $10.8 billion. As we continued to focus on our operating efficiencies adjusted EBITDA in the quarter increased by over 45.0% and margins expanded to 6.2% compared with 4.0% in Q4 last year.

In ASG we continued to build our recruiting and growth efforts around multidisciplinary practices where our broader platform represents a unique value proposition to advisors. This approach is in line with our internal strategy where ASG continues to serve NFP’s multidiscipline and diversified businesses.

Turning to Slide 13 and our 2013 capital allocation outlook, our primary goal for 2013 is to continue to advance our client offering through an increasingly integrated one NFP that leverages our diverse suite of resources. In 2013 we expect to allocate our capital toward a multi-year plan of management contract buyouts and for acquisitions, focusing on building our P&C capabilities. Stock repurchases will also continue to be a component of our 2013 plan.

With our new credit facility we have increased financial flexibility to support our strategic growth plan and enhance shareholder value. We will be disciplined in our deployment of capital and we plan to operate the business with a debt-to-EBITDA leverage ratio of approximately 2x. Since 2010 our leverage ratio has been between 1.5x and 2x.

In 2013 we expect to allocate approximately $120 million to $130 million for management contract buyouts and acquisitions, weighted more toward management contract buyouts. Starting no sooner than Q2, we expect to allocate $25 million to $30 million for stock repurchases.

Turning to Slide 14 and our full-year 2013 segment outlook, we expect CCG organic revenue growth to be between 3.0% and 4.0%. To put this growth rate into perspective and as previously discussed, we will be round tripping tough comps compared with the first half of 2012. You may recall that we earned profit participation bonuses in the first half of 2012 that were higher than our historic trend. Excluding these amounts, CCG’s normalized 2012 organic revenue growth was about 100 basis points lower than our reported organic growth rate of 5.2%.

These profit bonuses also positively impacted 2012 CCG adjusted EBITDA margins by about 80 basis points. We expect CCG adjusted EBITDA margins to be approximately 20% to 21% for the full year 2013. We anticipate about 50 basis points to 100 basis points of CCG’s 2013 margin will be a result of management contract buyouts.

In ICG, despite the solid performance of our life business in Q4 the life insurance carrier and product environment, driven largely by extended low interest rates, continues to represent a significant challenge and we remain cautious on the business throughout 2013. We are committed to NFP Life and continue to transform the business within the context of this difficult environment.

Looking ahead in ASG for the full year 2013, we expect organic revenue growth of 5% to 7%. We expect our adjusted EBITDA margins for the year to be in the range of 5.75% to 6.00% including the benefit of Fusion and weighted more toward Q4 2013.

We accomplished a lot in 2012 and we are excited about the opportunities in 2013. I’ll now turn the call over to Donna.

Donna Blank

Thanks, Doug, and good morning everyone. Turning to Slide 16, Q4 2012 cash earnings was $37.2 million compared with $27.7 million in Q4 2011. Cash EPS was $0.85 compared to $0.65 in the prior year period.

Our effective tax rate in Q4 2012 was 9.0% primarily driven by the positive impact associated with the disposition of certain life insurance businesses. This lower tax rate positively impacted cash EPS by about $0.15 when compared to an expected 2013 effective tax rate of 40.0% and about $0.05 when compared to our previous guidance of an effective tax rate of 20.0%. The actual rate for the quarter was lower than our previous guidance because we had dispositions and changes in unrecognized tax benefits in Q4 2012 that drove the rate down.

For the full year, cash earnings was $114.8 million compared to $90.8 million in 2011. Cash EPS was $2.72 compared to $2.07 in 2011. Our effective tax rate for the full year 2012 was 15.4% primarily driven by the positive impact of taxes associated with the disposition of certain life insurance businesses and changes in unrecognized tax benefits. This lower tax rate positively impacted cash EPS by approximately $0.20 when compared to an expected 2013 40% rate. Our 40% tax rate expectation for 2013 excludes the impact of management contract buyouts, impairments, disposition activity and changes in unrecognized tax benefits.

We reported Q4 net income of $19.4 million compared with $11.2 million in the same period last year. Net income in Q4 2012 was impacted by revenue increases in both CCG and ICG offset by an increase in total compensation expense of $13 million driven by both acquisitions and organic increases. Included within compensation expense is the benefit of $4.7 million in connection with an RSU adjustment, an increase in management contract buyouts of $9.8 million, and a $1.5 million pre-tax adjustment in estimated acquisition earn-out payables. Net income in Q4 2011 included an $8.3 million pre-tax impairment related to expected dispositions and planned management contract buyouts.

Adjusted EBITDA in Q4 2012 was $43.5 million, which increased 8.3% compared to $40.1 million on the same period last year. Adjusted EBITDA margin was 14.5%, an increase compared with 13.9% in Q4 last year. Adjusted EBITDA in CCG increased by $3.4 million which was driven organically and from acquisitions. Adjusted EBITDA margins increased from 18.6% to 19.4% in CCG driven primarily by organic growth.

ICG adjusted EBITDA declined $1.2 million and adjusted EBITDA margins decreased from 14.8% to 13.4%, driven by the increases in the compensation ratio. ASG’s adjusted EBITDA increased by $1.2 million and the adjusted EBITDA margins expanded from 4.0% to 6.2% driven by Fusion and lower commissionable revenue.

On Slide 17 you can see that our total compensation ratio in Q4 2012 was 52% for CCG and 53% for ICG. These ratios exclude the benefit of our Q4 RSU adjustment. Although we expect there will be some quarterly variations in these ratios our comp ratios have stayed in the range of high 40%’s to low 50%’s.

Turning to Slide 18, cash flow from operations for Q4 2012 was $14.5 million compared with cash flow from operations of $36.4 million in Q4 2011. During Q4 2012 the company made a cash payment in connection with a management contract buyout of $9.4 million. In addition, cash payments of fees to principles increased by $9 million as earnings increased and requests for accelerated timing of payouts for above-target performance were met in advance of the changing tax environment. The remaining differences in cash flow from operations compared with the prior period are associated with increases from acquisitions and organic performance where the cash received from certain year-end production was not paid until January, 2013.

Overall for the year the major drivers of the decline in operating cash flow from $116.2 million to $53.1 million were management contract buyouts and the timing of payments for certain obligations, such as fees to principles and taxes. To walk you through this change, let’s start with 2012 adjusted EBITDA which increased $14.6 million compared with 2011. Cash flow in CCG derived from acquisitions and organic growth reflects that positive change.

This increase was partially offset by declines in certain ICG business lines and other net decreases in cash flow that account for the primary year-over-year declines. The significant drivers were $17 million in cash consideration for management contract buyouts compared to zero in 2011; $8 million more in estimated tax payments as taxable income increased; $15 million related to an increase in receivables, approximately half of which were received in January, 2013; and $25 million more paid to principles due to timing of incentive payments. Of this amount, approximately $7 million will benefit 2013 cash flow.

Turning to Slide 19 you can see a summary pro forma balance sheet for our new credit facility. At year end the outstanding obligations on the preexisting senior secured credit facility due in 2014 were approximately $94 million on a term loan and $30 million on a revolver. On February 8, 2013, we closed on a new $325 million senior secured credit facility which is a revolver and has a five-year term.

This new credit facility, with $123.8 million outstanding, refinanced and replaced our former credit facility. In addition, NFP continues to have $125 million aggregate principal amount of 4% convertible senior notes outstanding due June, 2017, which were issued in 2010. Terms of the 2013 credit facility are largely similar to those of the previous credit facility and provide certain increased financial flexibility for NFP including increased borrowing capacity, extended maturity, no required quarterly amortization payments, increased maximum leverage ratio of 3:1 and generally lower borrowing rates. The $50 million trailing four-quarter carve out for share repurchases and the fixed charge coverage ratio requirements remain the same.

We’d now like to open the line to questions.

Question-and-Answer Session

Operator

Thank you. (Operator instructions.) And our first question comes from the line of Mark Finkelstein from Evercore Partners. Please go ahead.

Mark Finkelstein – Evercore Partners

Good morning. I guess my first question is obviously kind of a higher allocation toward management contract buyouts and acquisitions. I’m just curious, if you were to look ahead to the year-end 2013 how far through the process of call it unifying the NFP model would you expect to be given the much higher capital deployment level that you’re anticipating?

Doug Hammond

Yeah, again it depends on how quickly we can execute on the opportunities with discipline relative to the integration of the offices and things of that matter. We’re thinking right now about a three- to four-year plan.

Mark Finkelstein – Evercore Partners

Okay. So there’s no way of saying “Here’s the cash allocation towards these identified owned firms, here’s how much we’re spending in ’13, this is our total allocation, we’re this far through it?”

Doug Hammond

No, not at this point.

Mark Finkelstein – Evercore Partners

Okay. How should we think about multiples and what we’re paying on management contract buyouts, and what we’re paying on P&C acquisitions?

Doug Hammond

We’ve talked generally that the multiples on the management contract buyouts just because we already own the core asset are generally lower than the outside acquisitions. So the new acquisitions coming in are a bit less competitive and it’s a different dynamic, so I think generally what we’ve talked about is 5x to 6x on the management contract buyouts and a 6x to 7x roughly on the property and casualty deals.

Mark Finkelstein – Evercore Partners

Okay, perfect. And then I think, Doug, when you were talking about the opportunities with the Affordable Care Act you used the words “compete effectively as various opportunities evolve.” Can you just talk broadly about the various opportunities you see and should we think about these as revenue opportunities in ’13 or are they more ’14-type opportunities as the exchanges come into play?

Doug Hammond

Yeah, the sentence as you said, this sentence was really focused on what our expertise is in the exchange marketplace. And what we’ve also said is that the exchange opportunities are not necessarily totally apparent at this moment and we’re watching the landscape very carefully and we’re picking our spots in terms of the areas where we want to deploy capital and pursue opportunities. There are a number of those opportunities that are presenting themselves and we see them more and more.

Generally there’s an uptick associated with the initial engagement, so there’s work associated with how we engage a new opportunity. So there’s longer-term value because of the building that’s required in the initial phases, and the building is building off of the incredible infrastructure that already exists. So I think the [farther we’re out there] there will be more opportunities and there should be a bit of opportunity that’s built into our numbers in 2013.

Mark Finkelstein – Evercore Partners

Okay. Final question is, is there any specific reason why you’re not starting the buybacks until Q2?

Doug Hammond

We’re looking at what the pipeline looks like in our acquisition and management contract buyout areas and we’ve got a nice pipeline right now, and we intend to deploy more capital to those initiatives earlier in the year.

Mark Finkelstein – Evercore Partners

Okay, actually one final question: any guidance on how much you expect to lever up?

Doug Hammond

Yeah, we actually said that we were comfortable operating around 2.0x which is pretty much, we’ve been in the 1.5x to 2.0x range since 2010 and we’re comfortable staying there.

Mark Finkelstein – Evercore Partners

Okay, I was getting at the dollar value but you’ll probably not give me that number.

Doug Hammond

No. [laughter]

Mark Finkelstein – Evercore Partners

Worth trying, okay thank you.

Operator

Okay, thank you. And our next question comes from the line of [Adam Klaver] from William Blair. Please go ahead

[Adam Klaver] – William Blair

Good morning everyone. Taking a look at operating cash flow, if you exclude the impact of management buyouts do you think 2013 will at least be at the level of 2011 or potentially above?

Jessica Bibliowicz

Well, we had a number of one-time events as we went through on the remarks. There is always as you’re growing a negative drag on working capital so that’s a factor that we need to think about in projecting, but the management contract buyouts should be the biggest variance I think going forward.

[Adam Klaver] – William Blair

So if you exclude those management contract buyouts do you think it will be up in 2013 versus 2012?

Jessica Bibliowicz

We’re not expecting any particular number at this point and as I said, I think the negative working capital implications of using working capital as you grow will definitely be a factor in 2013. But we don’t expect the magnitude of one-time changes as we had in 2012.

[Adam Klaver] – William Blair

Okay, that’s helpful, that’s helpful. As far as the buybacks, without putting a specific number do you think buybacks will be above 2012 levels?

Doug Hammond

Yeah, we said in the $25 million to $30 million range.

Jessica Bibliowicz

We were at $20 million for 2012.

[Adam Klaver] – William Blair

Right, right, that’s what I thought. Then in CCG are you seeing any growth, payroll growth among your clients?

Doug Hammond

We’re seeing pockets of it, yes. It’s not a trend that sort of is impacting us across the board, though.

[Adam Klaver] – William Blair

Okay.

Doug Hammond

We’ll hear anecdotally of sort of nice opportunities associated with growth with certain clients but it’s not something that we’re hearing across the board.

[Adam Klaver] – William Blair

Right, okay. That’s all I have, thank you.

Operator

Okay, thank you. And our next question comes from the line of Seth Weiss with Bank of America-Merrill Lynch. Please go ahead.

Seth Weiss – Bank of America-Merrill Lynch

Hey, good morning. A quick question, in the Advisor Services Group you talked about EBITDA margins weighted more towards Q4 2013. I’m just wondering if that’s a seasonal impact or if you expect to see margins grow steadily? And then more broadly on the Corporate Client Group if there’s any seasonality there that we should be aware of in 2013 as we set up our models?

Doug Hammond

Yeah, there’s some seasonality on the broker/dealer at ASG and at the RIAs where it’s more heavily weighted in a margin performance perspective. We saw it last year and we expect that we should see it again this year. And in CCG, there is actually some seasonality but nothing really to discuss at this point.

Seth Weiss – Bank of America-Merrill Lynch

Okay, and the seasonality there is obviously not on the revenue side, but particularly on the margin side or nothing there to point out?

Doug Hammond

Nothing to point out at this time.

Seth Weiss – Bank of America-Merrill Lynch

Great, thanks a lot.

Operator

Okay, thank you. And our next question comes from the line of [Humphrey Fili] from UBS. Please go ahead.

[Humphrey Fili – UBS]

Good morning, everybody. In terms of the tax rates for this quarter, my understanding is there is some FIN 48 kind of flowing through that 9%. So how much did the FIN 48 help on the tax rate? And the second question would be are you expecting any benefit from FIN 48 for 2013? I understand that it’s not part of your guided tax rate of 40% but if you do have some expectation of FIN 48 in ’13 how should we think about the size of the impact?

Donna Blank

FIN 48 was a significant contributor to the lower tax rate, and as we said when we projected the 40% for you we are excluding any changes there. That can skew the tax rate up or down as we’ve seen in the past but the 40% guidance we gave you excludes that impact.

[Humphrey Fili – UBS]

So I guess as we move along, if you see anything then you’ll update us on these potential tax rate impacts.

Donna Blank

Yes, absolutely.

[Humphrey Fili – UBS]

Okay. And then in terms of the new credit facility, although there’s no amortization payments requirement are you planning on making any sort of quarterly payments or are you expecting to maintain a higher debt balance to support the business?

Donna Blank

We have flexibility so we’ll use it if we need it, we’ll pay it down if we don’t. There’s not any preset schedule and that’s one of the things that we like about it.

[Humphrey Fili – UBS]

Okay. Just one last question: you mentioned that in Q1 you have seen a lot of activities and the pipeline for acquisitions is quite good. Can you comment on the size of the deals that you’re looking at or any color regarding the pipeline?

Doug Hammond

Really all shapes and sizes and I would say remember, management contract buyouts continue to be a big focus so it’s management contract buyout opportunities and acquisitions. And we’re looking at tuck-ins and we’re looking at straight property & casualty acquisitions to roll into the NFP P&C platform so they’re coming in in different ways.

[Humphrey Fili – UBS]

So when we think about the $120 million to $130 million allocation for acquisitions and buyouts should we think about more kind of frontend loaded for this year or how should we think about it in terms of the timing?

Doug Hammond

It’s really tough to say on some of these deals. We have a nice pipeline right now and the way we’re looking at them it looks like we can get some deals done in the front end of the year. But the timing of deals and the timing of execution on these things is a difficult thing to predict. We need to get it right and we take our time to make sure that we’re going through the process with discipline. So we’ve got nice opportunities that exist now and if we can expedite them then you’ll see a heavier flow in the first half of the year, but if they drag due to negotiations or us not getting the terms we need then that’ll be the result.

[Humphrey Fili – UBS]

Okay got it, thanks.

Operator

(Operator instructions.)

Jessica Bibliowicz

Okay, it seems like there are no further questions. Obviously we are available. Thank you all very much for being on the call. Have a great day and a great long weekend, thank you.

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