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LPL Financial Holdings, Inc. (NASDAQ:LPLA)

Q1 2013 Earnings Call

April 25, 2013, 8:00 a.m. ET

Executives

Trap Kloman - Senior Vice President of Investor Relations

Mark Casady - Chairman & Chief Executive Officer

Dan Arnold - Chief Financial Officer

Analysts

Steve Fullerton – Citi

Ken Worthington – JP Morgan

Chris Shutler – William Blair

Alex Klam - UBS

Douglas Sipkin - Susquehanna

Operator

Good day ladies and gentlemen, and welcome to the LPL Financial Holdings’ first quarter earnings call.

At this time, all participants in a listen-only mode; later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions).

As a reminder this conference call is being recorded.

I would now like to turn the call over to your host Mr. Trap Kolman, Senior Vice President of Investors Relations.

Mr. Kolman, please begin.

Trap Kloman

Thank you. Good morning, and welcome to the LPL Financials’ first quarter earnings conference call.

On the call today is Mark Casady, our Chairman and Chief Executive Officer, who will provide his perspective on our performance.

Following his remarks Dan Arnold, our Chief Financial Officer, will speak to our financial results and capital deployment.

Following the introductory remarks, we will open the call for questions. We would appreciate if each analyst would ask no more than two questions.

Please note that we have posted a financial supplement on the Events section of the Investor Relations page on LPL.com.

Before turning the call over to Mark, I'd like to note that comments made during this conference call may incorporate certain forward-looking statements, this may include statements concerning such topics as earnings growth targets, operational plans and other opportunities we foresee.

Underpinning these forward-looking statements are certain risks and uncertainties. We refer our listeners to the Safe Harbor disclosures contained in the earnings release and our latest SEC filings to appreciate those factors that may cause results to differ from those contemplated in such forward-looking statements.

In addition, comments during this call will include certain nonGAAP financial measures governed by SEC Regulation G. For reconciliation of these measure, please refer to our earnings press release.

With that I'll turn the call over to Mark Casady.

Mark Casady

Thank you, Trap. And thank you everyone for joining today's call. I'm pleased to report on our strong start to the year, which is driven by the efforts of our advisors to serve their clients as markets improved and retail investor engagement increased during the first quarter. This led to net revenue growing 8% yearoveryear to a record $975 million and drove adjusted earning per up 14% to $0.64 per share. We'll talk more about this in depth on today's call.

I also look forward to providing an update on the broader business and regulatory environment as well as offering insight into strategic developments for the firm.

Attracting new advisors, retaining our existing advisors and driving their productivity are the fundamentals that fuel our longterm growth. We measure the operational health of our firm by these metrics.

Advisor productivity is strong this quarter as shown by annualized commissions per advisor increasing yearoveryear and sequentially to $145,000.

Advisors were engaged with our clients positioning them to take advantage of changing market conditions. They continue to utilize our technology and services to broaden their capabilities and pursue new client relationships. The result was increased transaction activity, the opening of new accounts and putting cash to work as cash balances declined as a percent of total assets.

We do believe the business conditions and sentiment are much stronger this year compared to the first quarter of 2012. This belief is reinforced by our interactions with our advisors.

Our management team had the opportunity this quarter to meet with many leading advisors at an annual conference for our top producers. The conference provided a dynamic educational setting for our advisors to share ideas for driving continued growth.

Overall, advisor sentiment was positive as they work with investors who are willing to reengage to achieve their financial goals and recognize that they cannot indefinitely stand on the sidelines.

In the past we have shared that your company has multiple growth levers. Growth in this quarter as driven by strong advisor productivity, rising markets, retention of 97% of our advisors' production and the accelerating production of advisors added in the last 12 months.

However, growth and net new advisors was modest quarter, particularly compared to strong fourth quarter activities.

We believe that improving market conditions extended the business development sales cycle with the overall level of advisor movement slowing across the industry.

This slower cycle in business development is normal event in our industry at times, particularly during the initial phases of market recovery when investor engagement is pronounced.

In reviewing the first quarter industry advisor movement we feel very good about our performance relative to our peers. Our longterm outlook on new business development continues to be positive as our pipeline is active and our value proposition remains compelling to an array of advisors.

Although we do not control advisors in motion at any time in the marketplace, the expectation we set for our company is to be in the top three in recruiting each and every year. We were number two in 2011 and number one in 2012. And we continue to believe in the strength of independent model, our industry-leading position and that longterm industry trends remain in our favor.

Turning to our strategic efforts, we are making good progress implementing our service value commitment. Our goal is to create a better service experience for our advisors and institutions by evolving our operating model and enhancing investments in areas that are differentiators for our business while unlocking greater efficiencies in non-core areas.

We continue to work with a third-party vendor on planning this extensive project, which will take time in order to ensure a smooth transition with minimal disruption to our advisors.

To put this idea in context, I'd like to share an example that illustrates the benefits of our service value commitment. Currently members of our insurance team allocate significant time to gathering information and performing data entry to support the servicing and sales of insurance by our advisors. Sourcing administrative functions, such as these, to third party vendor will enable our team to spend more time consulting directly with advisors on activities such as case design and customize marketing material that will position them for increased sales.

The analysis and conclusions will remain the responsibility of our team, but our new model will enhance our productivity.

In addition, sourcing the transactional tasks will lead to better consistency, faster turn-around times and lower costs through the dedicated third-party vendor.

Turning to the regulatory environment, we self-reported a matter related to email surveillance and production to our principle regulator in 2011. Since then we have been working to implement enhancements to our supervisory systems and procedures related to these email issues. As we referenced last quarter we've also been engaged in discussions with the regulator regarding the resolution of potential related rule violations and we believe this issue will be settled in the second quarter of 2013.

Looking forward, we believe the regulatory environment will evolve of in complexity across our industry. As a result, we continue to invest in the people, processes and technology infrastructure necessary to maintain and strengthen our compliance capability.

Our compliance and risk management tools are integrated into our technology platform to further enhance the overall effectiveness and scalability of our control environment.

Since 2007 the number of employees supporting LPL Financial compliance functions grew over 140%. We have committed over $12 million in compliance-specific technology investment in the last two years.

Although no firm in the industry is immune from the actions of ill-intended individuals, we firmly believe the independent model is best structured to provide sound objective advice to investors.

We also see opportunities to further support advisors in light of the regulatory environment and enable them to focus on what they do best, serving investors.

We believe we are well positioned to differentiate ourselves to meet this growing demand for regulatory support and are exploring ways to further our value proposition.

From a leadership perspective, with the changing landscape and our continued growth, it is imperative for a management team to continually evolve. We believe that our management team is a mosaic of collaborative efforts and its strength lies in the diversity of perspective and commitment to position LPL Financial for longterm success.

We strive to continually develop our leadership team to meet new opportunities and challenges.

We've attracted exceptional executives, such as Sally Larson, to lead our human capital team and Victor Fetter to lead our technology team to further differentiate our solution in the marketplace.

In addition we continually position exiting LPL leaders to take on expanded roles. Recently we announced that our President of Advisor and Institution Solutions, Robert Moore, has broadened his responsibilities. Robert's responsibilities now include oversight of our independent advisor, institutional and retirement business lines in addition to his existing responsibilities. Those responsibilities include a broad range of consultative teams and solutions that support the growth of our advisors and institutions.

As Robert's role has expanded, so have the responsibilities of three senior executives now reporting to him; Derek Ruden and Andy Cowbal and Bill Chetney oversee the daytoday management of our business development and consulting teams. These leaders have significant industry experience and already have established successful track record at LPL.

This change in our management structure provides them the opportunity to evolve as leaders and further support our growth. We see these management changes as central to our longterm strategy and performance.

We are also delighted this quarter to nominate Ann Mulcahey, who is the former CEO and Chairman of Xerox for election to our Board of Directors at our upcoming annual meeting of stockholders in May. We expect the company to benefit greatly from an additional independent director of Ann's skill, stature and experience.

In conclusion, I'm pleased with our results this quarter and our ability to deliver longterm growth for our stockholders. Our success comes from your partnership with our advisors and their relationships with their clients and the dedication and talents of our employees.

With that I'll turn the call over to our CFO Dan Arnold, who will review our financial results and outlook in greater detail.

Dan Arnold

Thanks, Mark.

This morning I'll be discussing four main themes. First I'll address topline results for the quarter and highlight the fundamental drivers behind our growth. Next I'll review the various components of our expense structure and then discuss our earnings and profit margins.

Finally, I'll conclude my remarks with the review of our capital management activity.

With respect to the topline, in the first quarter we generated record revenue of 975 million representing 8% growth yearoveryear. Total brokerage and advisory assets rose 11% to a record 394 billion.

In addition, assets per advisor grew from 27.3 million to 29.5 million. This growth was driven primarily by improved advisor productivity, enhanced market levels and the accelerating approximate of 415 net new advisor added over the last 12 months.

Advisor productivity steadily increased for a second consecutive quarter reflecting strong momentum in our business. This increase was driven by both the rebalancing of existing investor assets and the inflow of new assets.

As a result of these productivity gains and appreciation in the market, annualized commissions per advisor increased to 145,000 and led to 486 million in commission revenue or 5%yearoveryear growth.

This quarter, advisory fees increased 12% compared to the first quarter of 2012 to 281 million. This was primarily driven by asset growth in our corporate RIA platform.

We also attracted net new advisory flows of 3 billion in the first quarter representing 9% annualized growth. These advisory flows and recent market performance will largely benefit our advisory fee revenue and second quarter results.

I’d like to now briefly review the drivers behind our asset-based revenue.

As a result of expanding Omnibus processing capabilities and rising asset balances, asset-based fees increased by 7% to 104 million. This growth was partially offset by cash sweep revenue declining by 3 million or 8%. This was driven by the expected repricing of our ICA contracts and the fee decline in our money market fund program which was primarily driven by the feds conclusion of Operation Twist.

In line with prior guidance, we anticipated the ICA fee to be down approximately 10 bases points in total for the year, assuming a flat feds fund rate.

As we mentioned last quarter, we continue to review our renegotiation options which may lead to additional near-term fee compression in return for longterm benefits and predictability.

Cash balances declined 6% sequentially to 23.1 billion. We experienced a buildup of client cash at the end of the fourth quarter due to the market uncertainty surrounding the fiscal cliff. With less concern regarding the federal budget debate and improved market conditions this quarter clients worked with their advisors to put the cash back to work.

Despite the year-end fluctuation in our cash balances, the longterm trend remains positive. Cash balances have grown by more than 1 billion since the end of the three quarter last year driven by both the addition of new advisors and the strong flows to our existing advisors.

I like to turn to our expenses beginning with the payout rate. Our first quarter payout rate declined 38 basis points yearoveryear to 86%. The decrease was primarily driven by a lower base payout rate due the relatively faster growth of our advisory revenue compared to our commission revenue.

As expected, the growth in our production bonus moderated relative to previous quarters increasing only 14 basis points from the first quarter in 2012. This was mainly due to the changes we implemented in the prior year related to our large enterprises.

For the remainder of the year the production bonus rate will increase as designed as advisors achieve higher production tiers.

I'll now discuss the G&A portion of our expenses with a breakout of key components. For the first quarter core G&A expenses defined as compensation and G&A expenses excluding promotional expense, depreciation and amortization and items excluded in our determination of adjusted earnings grew yearoveryear by 12 million or 9%to 146 million. A significant contributor to this increase was $7 million in expenses resulting from organic investments and acquisitions related to NestWise and Fortigent that largely began in the second quarter of 2012. The remaining $5 million increase is associated with the overall growth of the business.

Separately, our promotional expense increased by seven million yearoveryear primarily due to the time of a large advisor conference. As a result we expect a decline in the conference expense in second quarter of 2013.

Transition assistance expense increased marginally compared the first quarter of 2012 due to several factors, including the mix of advisors, a marginal increase in our cost to recruit and the way in which the assistance was structured.

Now we'll provide some commentary on the drivers behind first quarter GAAP expenses of $13 million that were excluded in our adjusted results. These fall into two main categories, compensation-related expense and restructuring costs associated with our service value commitment, which are consistent with our practices and disclosures in the past.

Of the total 13 million in adjustments 5 million are related to employees share-based compensation and three million in nonrecurring severance expense.

We incurred 5 million of expense related to service value commitment. Of that 5 million, approximately 2 million is for outsourcing activities, such as knowledge transfer and vendor transition development. 1.5 million is for employee severance and approximately 800,000 is related to our technology transformation.

We anticipate having 6 to 8 million in expenses in the second quarter of 2013 and remain on track to incur approximately 40 million for the entire year.

To provide additional perspective on our overall expense management and outlook for the second quarter of 2013, I'd like to briefly highlight our sequential performance. Core G&A expense of 146 million was up 4% or $5 million compared to 141 million in the fourth quarter of 2012. This increase was in line with our guidance and is mainly attributed to the anticipated annual resetting of payroll taxes and bonus accruals and was partially offset by ongoing efforts to achieve expense savings.

Looking forward, we expect our second quarter 2013 core G&A expense to rise by approximately 4 to 5 million compared to the first quarter of 2013.

We maintain our outlook for 2013 and expect core G&A to grow 6 to 7% for the year.

I will now review adjusted EBITDA and adjusted earnings performance.

For the quarter, adjusted EBITDA grew 9% to 136 million yearoveryear primarily due to top line revenue growth of 8%. Excluding the impact on revenue and expenses from NestWise and Fortigent, our adjusted EBITDA would have grown 11% yearoveryear.

Our adjusted EBITDA margin as a percet net revenue expanded 9 basis points yearoveryear to 13.9% despite the elevated expenses related to our investments in NestWise and Fortigent.

As we fully absorb the cost associated with these investments, we anticipate generating yearoveryear margin expansion in the remaining quarters of 2013 assuming advisor productivity levels drive revenue growth in the high single digits.

Adjusted earnings per share grew 14% yearoveryear to a record $0.64 per share. This was supported by growth in adjusted EBITDA of 9%, share repurchases reducing fully diluted shares outstanding by 5 million an interest expense savings of 4 million. This interest expense savings resulted from the refinancing of our credit facilities in the second quarter of 2012.

We believe that current debt market conditions may also provide additional opportunities to improve the efficiency and flexibility off your capital structure and we are actively reviewing our options.

I will now turn tour capital management performance. One of the distinctive characteristics of our business is its ability to consistently generate free cash flow available to grow the business and reorder shareholders. This quarter we invested 14 million in capital expenditures, paid 14 million in total dividends, reduced debt by 11 million and conducted 4.9 million worth of share repurchases.

After the significant buybacks in the fourth quarter of 2012, this quarter we moderated our rate of share repurchases as we evaluated the business environment, market conditions and share price performance. 82 million remains authorized for their repurchases and we will continue to be opportunistic buying back shares to deliver value to your investors.

In summary, our results demonstrate our ability to improve profit margins when we experience increased advisor productivity and focus on managing our expenses. Industry trends remain in our favor as advisors and investor recognize the value of our independent business model.

Looking ahead, we believe that our focus strategy and the adaptability of our business model will enable us to fully capitalize on the opportunity.

With that, Mark and I look forward to answering your questions.

Question-and-Answer Session

Operator

(Operator instructions). The first question is from William Katz of Citi please go ahead.

Steve Fullerton – Citi

Hi. This is actually Steve Fullerton filling in for Bill.

Can you provide little more detail on where you saw the cash going to work? You talked about client reengagement a bit, but can you delve of into that a little deeper?

Dan Arnold

Yes Steve, this is Dan. Good morning. I think there's two primary places that we saw that cash going to work and it primarily is the cash that was sitting on the sidelines that built up in the fourth quarter as I think investors waited for clarity in the tax environment or tax policy environment and then they began to put that back to work in both a mix of our advisory solutions and our brokerage solutions. So, you would have seen that classic example of probably 50% of that those assets going to advisory and 50% to brokerage, which is in line with typically how we experience the growth in new assets overall.

Steve Fullerton – Citi

Okay great thanks and one more. Just how much more do you think can you renegotiate on the suite fees? How much more to go this year and just any further update on those negotiations?

Dan Arnold

So it’s Dan again. We remained active in or renegotiations focused on that part of the latter portfolio that we described to you last quarter of some of those maturities that come due at the end of '14. And so we continue to have dialogue around that portion of our portfolio. We're making progress in that dialogue and I think as we get more definitive insight on the outcomes of that we'll certainly update you. But we are having active conversation and no progress to report that is any different than we updated you last time.

Steve Fullerton – Citi

Okay great thanks a lot.

Dan Arnold

Thank you.

Operator:

The next question is from Ken Worthington of JP Morgan, please, go head.

Ken Worthington – JP Morgan

Hi. Good morning.

Maybe first for Dan, can you flush out your comments on transition costs for the quarter? Net new advisors was down. You explained it well based on market conditions, but I think you indicated that the transition assistance was up for, I think you had, like two or three reasons. So, I’d love for you to flesh that out.

And assuming recruiting kind of seasons and returns to more normal levels as the impact of good market conditions kind of works through, what happens to transition costs? Do they kind of normalize and we start to see things return to where they were on last year or the year before or are they going to go up? Is kind of that trend or that thing we saw in 1Q going to persist into '13 and '14 and beyond?

Dan Arnold

So let me take the comments around the first quarter transition assistance as it relates to first quarter of 2012, it's primarily driven by two things one the mix of the advisors. There's a spectrum of advisors we have from core advisor to what we call masters recruit, which are just larger advisors. And over that spectrum of advisors that transition assistance may vary depending on the complexity and size of their practice and so that mix in the size of the advisors that we recruit in has some impact over the cycles or over that comparison period. Now that's one.

The second is how we structure the transition assistance sometimes that can be paid in the form of cash all up front and other cases it can be paid in the form of a loan that amortizes out over a 3 to 5 year period of time and that can affect how we actually account for that transition assistance.

I think at the end of the day though, if you summarize and look at the actual cost of transition assistance. It was up marginally yearonyear, it was actually down from the fourth quarter cost, but I think we generally look at that in the range of somewhere in the low 20% of overall transition assistance and it's seen that range persists primarily for the last 12 months. And I think as we go forward though there may be some pressure marginally upward on that cost we see it staying in that low 20% range.

Ken Worthington – JP Morgan

Okay. Great.

And then on the sort of the money market fund yield so they fell by half, it's six bases points, but it's decently meaningful, you mentioned it was the end of twist. Is this just overnight rates going lower because of twist or is there kind of something else there? I couldn't quite get  I didn't understand what you meant by the operation twist going away.

Mark Casady

Yes, I think when we went is that there's clearly measure in overnight rates that drives them lower, so there's nothing structural about the money fund payment and the way that it all works it's still the same way it's always been, it's just that it is absolutely affected by near term demand, whether it's operation twist or just the end of the year cash flux that occurred across the entire industry as people position, look like to us a lot of people took gains not surprisingly for tax purposes in 2012, and that drove up cash balances across the industry. And those cash balances would show up in ICA and they also show up in money funds not only in LPL but our competitors as well. And so therefore, what happens is there's obviously a flood of supply, which drives down price, it's as simple as that. Right. So in any market.

And you're right, even a few bases point is painful so we would prefer to go the other way, but it's really just has to do with supply and demand being unusually suppressed.

Ken Worthington – JP Morgan

Okay. Great. Thank you very much.

Mark Casady

Absolutely.

Operator

The next question is from Chris Shetler of William Blair. Please, go ahead.

Chris Shutler – William Blair

So, Mark, I was hoping that maybe or Dan, I was hoping that you could refresh us on what you said on margins. I think I might have missed some of that. You said that if revenue growth is in the upper single digits you expect what is the adjusted EBITDA market to expand in the remaining quarters?

Dan Arnold

Yes, Chris, that's correct with growth sustaining itself in those high single digits we would expect yearonyear at margin expansion associated with that growth.

Chris Shutler – William Blair

And in that comment what kind of recruiting environment are you assuming?

Dan Arnold

Yes the recruiting environment assumed to be at normalized levels.

Chris Shutler – William Blair

Is your commentary from last quarter, basically, still stands you expect full year tore on par with last year but more back half weighted.

Dan Arnold

Yes, that is correct. I think with respect to the slowdown in recruiting for the first part of the year, clearly as Mark reflected in his comments, it is correlated with the enhanced productivity and investor reengagement as advisor focus on serving those opportunities with their clients, which stretches out the sale cycle historically whether that occurs. And typically those last for periods of three to six months. And we expect to see any of that slowdown that occurred in this year with a very active and robust pipeline we would anticipate recruiting to pick back up its pays and ultimately.

Chris Shutler – William Blair

I think another way to say it, Chris, it's a classic quarter. We get up top growth we're going to get bottom line growth. He know how to produce properties in the business, but we need for oxygen up top.

Last year was about 5% top line growth and you tend to role backwards in margin, as we've said for the business, so we, obviously, like this kind of environment and we like the offsetting nature of when same store sales are up we know that recruiting tends to be down. And like with same store sales are down recruiting tends to be up, which gets prepared for the next part of the cycle.

So we're looking for hopefully this classic quarter to turn into a classic year for the business.

Chris Shutler – William Blair

Okay. Thanks.

Then the only other one for me one other comment that we hear fairly frequently from some advisor recruiters is that some advisors feel that LPL has become a little bit less personal over the last few years just given the growth you guys have experienced. Obviously, the growth of the OSJ model is kind of evident that advisors want a more personal experience so or maybe just talk a little bit about the SBC and give us some example how you plan to get closer to your advisors over time.

Mark Casady

Sure. Happy to.

A few things I think we have to look at the fundamentals, what do I look to know if the health of system is good or not good and there's three key things I point to.

Number one, is we are, obviously, a place people want to join since we came in number one last year, number two the year before in terms of net new advisor ads so that's a fabulous record by advisors voting with their business to move to us.

Number two or retention levels are very very high, the high 90's, 97%, 96%, 98% over the last three years, which tells you people stay and therefore, satisfied about what they're doing.

The third measure is net promoter scores in which we look at our note promoter score on a blind basis against our competitors and we rank among the very highest that are there.

So we feel good about the fundamentals of the business and feel good about the fact that we are offering that great value for our advisors.

Completely agree that we can always find ways to improve service and improve who we are in our relationship with your advisors, very much value their partnership in what they're doing and we're also very much understand the pressures they're under. Right. They're running a business that has a lot more regulations in it just because we experience that and often have to be the folks who bring that in.

Secondly, their businesses are experiencing some of what the medical practices have is they need be more productive.

And third, it's tough to find runs for clients. Right. And so, they're facing a lot of pressure. We're here to help them as partners and part of the way we can do that is through our service experience and through or compliance experience.

What we've done in the last few months is we've examined groups, I think I've described to analysts for that one of things I've done since the first of 2012, so just over a year is, essentially, reprise my role as the COO of the company and have spent a lot of time looking at our internal processes, our service levels and so forth. What we are finding is that in outsourcing our ability to serve well and meet our SLA's and exceed them and therefore, delight our customers we see real evidence of that happening here in the first quarter for the groups that we have he already outsourced. So we're seeing a much better consistency of delivery of service as a result of that.

Number two we're forward hiring, which is a practice we haven't had in quite some time. So, meaning that rather than wait for volumes to show up, which shareholders might like a little bit better, what we've done is we've added, essentially, trained teams that are prepared to go into groups, whether it's in compliance where volumes can hit you pretty quickly, whether it's on the service phone or whether it's in processing to be able to anticipate volumes that are coming. And should we see fewer volumes than expected we can use them to do other work.

And then the third area that we've been working to delight our clients is to work on making life simpler for them. The example I like to use just used this week with an advisor group that I meet with are forms. We've taken, believe it or not there's 1500 forms one can use as LPL to do, work that's not unusual for broker dealer and an investment advisor. We've knocked another numbers down to a thousand. So, we've eliminated a third of the forms. So we've cleaned them up so they have consistency in terms of look and feel.

Believe it or not, most of that was all faxed to us about four million faxes per year to 64 different fax lines. We reduced that down to three fax lines. And now we've automated it to an E significant process similar to what people use for singing mortgage papers.

So, we've basically taken simplification from reduced complexity of the forms, reduce complexity of the fax machine and an automated we can get of those four million pieces of paper and turned it digital. And that is the strategy that we're focused on as a company for the next several years to drive that simplification into your business.

I think that will certainly feel and match the efficiency needs of our customers and will certainly create a more personalized more connected LPL, which is certainly something that we strive for off of a base of an excellent relationship with advisors today.

Chris Shutler – William Blair

Okay. Great thanks a lot guys.

Operator

The next question is from Alex Comb of UBS. Please, go ahead.

Alex Klam - UBS

Good morning. Just wanted to come back to the expense side of the business, which obviously there has been a bunch of questions already, but I try to ask it a little bit different here. So, clearly expense control has been a big focus of you and investors have talked to you about that over the last two quarters. And I think this quarter was very good perform on the metrics but as some people pointed out advisor group was a little bit slower than what we were used to. So maybe you can just compare and contrast a little bit how much of the expense declines are really cost based, some of the initiative.

How much is maybe hey, we were really focus on cost maybe we're not going to be as aggressive on recruiting and maybe walk away from the situation, because (Inaudible) too high particular situation so maybe just compare and contrast the expenses and the growth of the business, the advisor growth how it all connects. Thank you.

Mark Casady

Great question. Let me start at 30,000 feet and Dan will take it from a thousand feet from there.

So this quarter has transition characteristics to it, actually, transition is up, right. The reason it was up was because of mixed shift to advisor practices in which we expense the cost. So, even though the account was low, although it will be industry leading I can tell you for the first quarter, is that what you'll see is the cost of that in this quarter was really a little bit higher than normal so that didn't really have control to it in the sense of being a lower numbers. We can get there through a low TA number.

Secondly we had to absorb NestWise and Fortigent, which we love as companies and love strategically, but their costs are new this quarter and they significant on a relative basis, so they weren't there a year ago. They're now fully baked into our run rate which is good. So, there's a negative in terms of G&A.

So what this tells you is that we're able  it gives you a much better insight to how the model works, which is that the margin, a slightly higher growth rate in revenue, 8% as opposed to 5%, allows us plenty of room to grow expenses to make sure we're serving our clients well, but at the same time we're able to boost profits for shareholders. We do need to have the revenue growth. So, I've actually come back to that description of this quarter as classic in that sense, because from my perspective we actually felt a little more G&A than we normally would do in a normalized rate so it wasn't some sort of savings that occurred in the G&A for the quarter that got us there. This got us there because of the dynamic of this model and what happens when you get same store sales growth.

I wouldn't worry at all about to where we got to on a net advisor basis, because this again, classic to the way the business works.

What I've always loved about this business is the fact that when one part of it grows another part of it tends to slow down and that's why we should be able to consistently produce profits over time, but again, back conditions we need are for some level of same store sales or investor engagement to make that environment work. So that's kind of broad view of the quarter and Dan.

Dan Arnold

That was great, Mark, the only thing that I would add to that if you focus on what we define as our core G&A expenses, which excludes the fluctuation of the transition assistance expense from quarter to quarter that I think is characterized for the rest of year by the absorption of up weighted investment at Fortigent and NestWise, which as you remember began second quarter of last year, and hit its full run rate in fourth quarter of last year. So those yearonyear comparisons is that absorbed in will reflect better on the true core G&A expense that is associated with operating the business model and supporting that growth. And again, that's where you'll see that trend down over the year. And if you look at it over the average of the full year it will be in that six to 7% range.

Alex Klam - UBS

Fair enough.

Just then I guess switching gears a little bit within of things I don't think you talked about much today on the call is the RA business and because we you look at the metrics I think that's probably one of biggest successes in terms of the growth. So my question is when you look at the growth and where are you compared to like the really big guys, like Schwab and Ameritrade (Inaudible) I mean, you certainly bigger now, so how has that changed (Inaudible) prospect, how has it changed (inaudible) are you more on the radar screen now? Are you attracting bigger guys and do you also feel many that the bigger guys or the bigger competitors I know more into really gearing up to compete more with you. So, how is the business changing because of your phenomenal growth year?

Mark Casady

Well, I appreciate the question, particularly the way you said it, so thank you for that.

So few things, number one, is we have the highest average assets under management per RAA in the industry. So we are attracting very good practices into this model. And so it's significantly higher than the next competitor.

We've gone from no assets in a space of 2008 when we would launched at the end of '08 auspicious time to launch to just under $50 billion at the end of this quarter, which I think is remarkable. It's made us the fifth largest custodian in a very short time we're selling number three.

So we look at our relative sales to the competitors classic competitors in that space who are very good at what they do and we have a ton of respect for. So we feel good about where we're selling visa vie the industry, which tells you that we have a value proposition that is differentiated.

Just to remind the listeners why our value proposition is differentiated is we're the only ones that can combine the brokerage business of an advisor with the advisory business that they have, the socalled hybrid business, and that is our classic client.

Somebody who is a pure RAA we can help. We can help through our (Inaudible) subsidiary. We can provide custody services. You've seen some good press on a couple of different organizations Robertson Stevens and concerts in particular that I would describe as relatively pure RAA's, but who need that integrated platform to be able to attract advisors to their businesses.

So we've been able to enable our clients to be successful in bringing on new recruits for their businesses.

As mentioned I was just in Morristown, New Jersey just yesterday meeting with a team there, one of our large groups and they are, again, using that integrated platform to be successful in bringing on new recruits.

So we do see the differentiated value proposition does make a big difference. We're seeing it in the numbers, we're seeing it in success that's there and we're seeing it at a type of practice that we attract.

So I think all around we feel very, very good about our relative performance, feel very good about our competitive positioning. We'll continue to make significant investments in that platform.

We're rolling out a trading rebalancing tool that's in about 50 of our offices it just passed 50,000 trades on it and we're getting very positive response in terms of the efficiency gains of practice has by using that tool. We're getting lots of positive response on the Fortigent packaging that we're doing, bringing that technology I around reporting to practices of more high net worth based.

And then the third area that we're seeing really nice uplift is in the areas of alternative investments packaged in our central advisory platforms, again, offered through Fortigent and then also our LPL research centrally managed platform in advisory that allows an advisor to essentially outsource some of that investment management or with the trade rebalancing tool do it themselves.

We're seeing the cylinders hit all the way that we hoped they would in terms of our strategy. So, we want to continue with that success and continue to push that lever.

Alex Klam - UBS

Very helpful thank you.

Operator

The next question is from Douglas Sipkin of Susquehanna. Please, go ahead.

Douglas Sipkin Susquehanna

Yes. Thank you. And good morning.

So just wanted to come back to maybe the production ratio, I'm just trying to better understand how it evolves with sort of mix of revenue.

Obviously, us guys saw a nice improve in the yearoveryear. Can you help me walk through maybe why the ratio came down on a yearoveryear basis? I guess it has something to do with the mix of revenue.

And then my second question and I know it's been a lot of talk about it on the F8 stuff; do you guys actually have sort of a guidance number for 2013 that we think about?

Obviously, I know you guys indicated the first quarter would be slower, but I'm just trying to frame it up, how should we be thinking about the second half in terms of thinking about a growth number, basically, thinking about the whole year?

Thanks.

Mark Casady

Let me take the second question, Dan will take the first.

In the second question if we were to see continued strong same store sales then we would see lower recruits join the firm. If we were to see  have this rate that we're at today stay the same or even slightly dip we would see recruiting get back to probably a little bit more of its classic run.

Typically we try to guide too about 500 net new as we've done over the last two years. When we've launched the firm publically we guided net to net 400, because we have had a nice pickup over the last two years we guided in the fourth quarter towards a 500 number. Still feel good about that sitting here today, but what would cause that number to come down would be if we are to seek continued same store sales elevation, because advisors are then busy with their clients and therefore, are not going to entertain moving as much as they would normally. That's why we see sources like the discovery data base telling us that turnover is down in the industry, because they're busy servicing their clients as they should be.

So those are the ways to think about that. So you have kind of a way of thinking of cause and effect so as you see the conditions unearth over the next several months you can anticipate what those numbers would looks like in recruiting.

Dan Arnold

And on your first question our pay out rate is fundamentally driven by two main components, it's the base rate and that's what we reported being down yearoveryear. And that is primarily driven  well, it's pretty consistent in its range in and around probably a fluctuation of plus or minus 30 basis points. And it can be impacted by a mix shift in business as we have a higher payout ratio on brokerage solutions versus advisory solutions. And in this case as we've seen the mix of advisory business growing faster than we have the brokerage it does have an impact.

Again, I think it is pretty consistent in its outcome over a full year cycle and we would expect it to be in the range that we experienced historically.

That said the second component of the payout rate is your production bonus and that is what varies throughout the year. It is engineered where every advisor resets at the beginning of each year and at 0 and as they achieve new production tiers throughout the year their payout rate will be increased as that occurs. And so, you have a normal trend throughout the year for the production bonus to grow over the year.

What has changed is some of the changes that we made in the middle of last year around our large enterprises and their recruitment of existing advisors at LPL into their practices and the impact it was having on that production bonus, so we made some changes there which we anticipated would reduce the yearonyear growth of that production bonus or the rate of that growth. And so in the past we've seen that grow as much as 40 to 50 basis points on a yearonyear basis.

We have given guidance around the expectation that that would be reduced by as much as 50% by the changes that we made last year. And we're seeing evidence of that show up in first quarter in terms of the production bonuses increase from 2012 based on the benefits of those changes.

Douglas Sipkin Susquehanna

Okay. Thank you vest very helpful.

Operator

I am showing no further questions in the cue and we'll now conclude the conference.

Ladies and gentlemen, thank you for your participation you may now disconnect and everyone have a good day.

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