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Envestnet Inc. (NYSE:ENV)

Q1 2013 Earnings Call

May 16, 2013 5:00 PM ET

Executives

Chris CurtisSVP and Treasurer

Jud Bergman – Chairman and CEO

Pete D'Arrigo – CFO

Analysts

Alex Cram – UBS

Chris Donat – Sandler O'Neill.

Chris Shutler – William Blair

Hugh Miller – Sidoti & Co.

David Grossman – Stifel Nicolaus

Peter Heckmann – Avondale Partners

Operator

Good day, everyone and welcome to the Envestnet First Quarter 2013 Earnings Conference. Today's conference is being recorded. At this time, I would like to turn things over to Mr. Chris Curtis, Senior Vice President and Treasurer. Please go ahead, sir.

Chris Curtis

Thank you and good afternoon, everyone. With me on today's call are Jud Bergman, Chairman and Chief Executive Officer; and Pete D'Arrigo, Chief Financial Officer. Our first quarter 2013 earnings press release and associated Form 8-K can be found at envestnet.com under the Investor Relations section.

During this conference call, we will be discussing certain non-GAAP information, including adjusted revenues, adjusted EBITDA, adjusted net income, and adjusted net income per share. This information is not calculated in accordance with GAAP and maybe calculated differently than other Company's similarly titled non-GAAP information. Quantitative reconciliations of our non-GAAP financial information to the most directly comparable GAAP information appear in today's press release.

During the call, we will also be discussing certain forward-looking information. These discussions are not guarantees of future performance and therefore you should not put undue reliance on them. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Please refer to our most recent SEC filings, as well as our earnings press release, which are available on our website for more information on factors that could affect these matters.

This call is being webcast live and will be available for replay for one month on our website. All remarks made during the call are current at the time of the call and will not be updated to reflect subsequent material developments. We will take questions after our prepared remarks.

With that, I will turn the call over to Jud.

Judson Bergman

Thank you, Chris. Good afternoon. I add my own welcome to everyone on today's call. Envestnet is leading the transformation of wealth management to a transparent objective independent and fully aligned standard of care for investors. We are doing this by empowering advisors to achieve higher standards in portfolio and practice management.

On our last earnings call in February, I outlined our priorities for 2013, to grow our existing business organically by adding new advisors and enterprises, to continue to develop our platform and product offerings, and to accelerate our growth with disciplined merger or acquisition activity.

I am pleased to report that we are delivering on these priorities. As a result of the continued strength in our business, in the first quarter we grew our top-line by over 40%. We grew adjusted EBITDA by 60% over the same period last year.

Revenue, adjusted EBITDA, and adjusted earnings are all at record levels for the company. Growth in our core business remains strong as we focus on adding advisors, accounts and assets to our wealth management platform. This has been the core organic growth driver of our business and we believe it will continue to drive us toward our growth objectives going forward.

During the quarter we added 334 new advisors ending March with more than 16,000 advisors who have fee-based assets under management or administration on our platform. That’s a 14% year-over-year in an environment with declining advisors overall including licensing arrangements we now serve more than 23,300 advisors on our wealth management platform.

Accounts per advisor with assets under administration also grew in the quarter up 15% from a year ago. The growth we’ve seen in advisors and in accounts per advisor compound out to overall account growth, which was 32% year-over-year.

Gross sales of assets under management or administration during the first quarter were $9.9 billion, excluding conversions, an increase of 17% over the prior year period. Reductions averaged 1.8% per month during the quarter, slight improvement from what we experienced during 2012 and as a result, net flows were significantly than last year during the first quarter.

We also continue to onboard significant assets to new client conversions. During the first quarter, we had about $2.5 billion of asset-priced conversions plus just over $5 billion in licensed conversions. We expect conversions will continue to contribute meaningfully to our organic growth in the coming quarters.

We’ve already completed second quarter conversions of more than $5 billion, which includes two large enterprise conversions, each with more than $2.5 billion in fee-based assets. Licensed-based conversions are also strong.

Our implementation teams remain fully utilized as we expect conversion activity to remain a meaningful driver of our organic growth. Also at the end of the quarter, we supported more than $100 billion in fee-based assets under management or administration and more than $400 billion in total advisor assets that are supported.

We are making good strides in new product developments and designing new solutions to help our advisors achieve excellence in portfolio and practice management. Last quarter I talked about our next generation wealth management platform, we call it ENV2. We officially launched it at Advisor Summit just two weeks ago.

Our platform’s sole capabilities are now available in a mobile environment enabling advisors serve clients as effectively in their client living room as they can in the advisors’ office. We believe ENV2 is the first fully mobile and second wealth management platform available in the industry. And it includes a number of feature and functionality enhancements.

It’s further fortified our offering. The Advisor Summit, some of which I am happy you attended, was a hugely successful event held at a location in last year, we doubled last year’s attendance to almost 1200 participants, bolstered with more advisors and industry partners. We also incorporated Tamarac’s User Conference in December this year making the three day event a great opportunity for our clients and partners to learn more about the full power of Envestnet’s wealth management solutions.

At the summit, we unveiled two additional capabilities that we believe will fundamentally change how advisors render advice to their clients and how they manage their practices.

First we introduced Envestnet Intelligence, which is our practice management and business intelligence offering for the advisors. Clients are already calling it a game changer. The value proposition here at Envestnet has data on what 23 advisors are doing everyday in servicing more than a 1.5 million investor accounts.

Other portfolios are allocated by asset class which investments they are selecting, which they are not, how their portfolios are performing, the list of our methods are very long. We aggregate this information, scrub it, make an analysis but then deliver back intelligence feedback and benchmarking to the advisor, so they can achieve better outcomes for their clients and manage their practice more effectively.

Envestnet Intelligence is part of the long-term strategy towards helping advisors achieve better outcomes for their clients. Envestnet, we believe is uniquely positioned, unlike some other industry participants to both enable and encourage a fiduciary approach to advising Envestnet clients supported by this intelligence.

There will be early adopters who immediately understand the value and there will be other adopters who understand it over time, but we believe the trend of leveraging real data and the behavior and investment performance of advisors and their end clients will be years in the making and we look forward to the industry leading it as this develops.

A second big launch for us is the innovative solution that we are calling Quantitative Portfolios or QPs offered by our PMC group this transformative product can add value beyond market performance.

QPs will have many of the benefits of Exchange Traded Funds or ETFs but several very important other advantages. For example, like an ETF, QPs will provide low-cost access to market data. And like ETFs, QPs will have broad exposure to various asset classes. But unlike ETFs, they will be tax manageable because the end client owns the bases in the underlying securities and unlike ETFs, QPs are customized with a concentrated stock positions.

For years, we got advisors from various parts of the country that takes an advisor in the Bay area who as they service and support their high net worth client base, high net worth client bases over-invested or over-allocated to hi-tech or software or even particular companies. QPs are perfect solution for creating customized portfolios around concentrated holding in single stocks or in sectors.

Another element is that these will be available only through the advisors they are exclusively sourced through the advisor unlike ETFs which are available broadly in main market outlets. And finally for a number of investors in taxable accounts, both the management fees and custody fees may very well be tax deductible.

All told, these quantitative portfolios we believe will be a very useful tool will find their way into many of our advisors’ portfolios. Both investment intelligence and our quantitative portfolio offerings have already experienced strong receptivity from advisors and we expect they will grow in importance to our business in the coming quarters.

One last important item in my prepared comments before handing this over to Pete, we last month announced the acquisition of Prudential’s Wealth Management Solutions business also known as WMS. This consolidated acquisition makes a lot of sense to us both strategically and financially.

From a strategic perspective, WMS further solidifies our leadership in the bank and trust channel. Currently, our primary relationships within this channel are with the banks’ broker/dealer divisions. In contrast, WMS generally serves the banks’ trust operations.

So, the acquisition of WMS is expected to close sometime in the third quarter offers at least four strategic benefits to Envestnet. One, it enables us to fully serve the wealth management needs of the bank channel in a more effective way. We’ll be able to unify the wealth management systems used by desperate parts of the bank.

Two it strengthens our Canadian presence expanding our North American footprint. Three, it deepens our practice management capabilities with a team of seasoned professions who know how to build fee-based businesses. And four it confirms our leadership as the largest independent managed account platforms.

Financially, we expect that this acquisition will exceed our hurdle rate of 25% return on investment once it’s fully consolidated into Envestnet, which should be as soon as 12 months, it could be as long as 15 to 18 months from closing. This means that with an assumed purchase price of $33 million, we expect to generate cash flow greater than $10 million on an annualized basis, once we complete the integration.

As people point out because of the product mix profile for WMS, our emergence will be negatively impacted in the short to intermediate time periods but we regard the acquisition as likely to be highly accretive financially and benefit strategically to us as well. I’ll conclude with a few remarks in a moment, but first I will turn it over to Pete, our Chief Financial Officer to discuss our financial performance in greater detail.

Pete D'Arrigo

Thank you, Jud and thank you for dialing in this afternoon to everyone on the call. For the 2013 first quarter, revenues from assets under management or administration grew 29% to $36.3 million compared to $28.3 million in the first quarter of 2012.

Licensing and professional services revenue in the first quarter was $10.4 million, up 138% from $4.4 million a year ago on an adjusted basis. As a result, adjusted revenues increased 43% to $46.8 million in the first quarter from $32.6 million in the first quarter of last year.

Our cost of revenues increased to $16.8 million for the quarter from $11.5 million last year. As a percentage of revenue from assets under management or administration, cost of revenues was 46.3%.

We reported GAAP net income in the first quarter of just over $500,000 which is $0.02 per diluted share. Included in the GAAP results are ongoing non-cash items of approximately $1.4 million higher than the prior year on an after-tax basis. Included in this amount is the deferred revenue fair value adjustment, non-cash compensation and amortization of acquired intangibles. This first quarter’s GAAP net income also reflects approximately $800,000 after tax of fees related to the re-audit of 2011 and 2010.

On a non-GAAP basis, adjusted EBITDA was $8.2 million for the first quarter 61% higher than 2012’s first quarter. Adjusted earnings per share was $0.12 in the first quarter increasing 71% from $0.07 last year.

Looking forward, we expect our revenue from assets under management or administration to be up 30% to 32% in the second quarter compared to the second quarter of last year. This reflects an effective fee rate of approximately 14.7 to 14.9 basis points on our March 31 AUMA asset base of $109.7 billion. We believe licensing and professional services revenue in the second quarter of this year will be up approximately 50% year-over-year on a GAAP basis, reflecting a full quarter of revenue each of last year’s second quarter acquisitions.

Adjusted revenues for the second quarter should increase between 32% and 33% year-over-year. That includes the deferred revenue fair value adjustment of $23,000 which is the last such amount will have from last year’s acquisitions. We expect second quarter cost of revenues to increase to 47.3% to 47.5% of AUMA revenue.

We have experienced rapid adoption to several new programs with relatively higher cost of revenue compared to other AUM products. In particular, programs which offer a third-party strategies have been successful with advisors and this continues the trend we have experienced in the last several quarters.

We expect our adjusted EBITDA to increase 73% to 76% in the second quarter compared to the prior year period. We expect our effective tax rate in 2013 will be approximately 42% which is a couple of percentage points higher than the rate we assumed in 2012. This change is driven by two items an increase in our expected federal tax rate as we are generating greater taxable income, and a higher ongoing provision related to India.

As it relates to India, we indicated in today’s press release that we have assessed the potential exposure for 2012 and prior periods that was disclosed in filing and to the India income tax department’s audit of our transfer pricing assumptions.

And we’ve determined that we will book a provision of approximately $850,000 to reflect this exposure. This amount will be recognized in the fourth quarter of 2012 and will be included in our financial statements within our 2012 Form 10-K.

Regarding the filing of our 10-K we continue to work towards completion of the re-audits of 2010 and 2011 and the audit of 2012. We expect to file our 2012 10-K as well as our 10-Q for the first quarter of 2013 in the next several weeks.

Finally, I’d like to provide some additional color on the expected financial impact of our acquisition of Prudential’s Wealth Management Solutions business that Jud identified earlier. We expect the acquisition will close early in the third quarter. We’ll take cash of $10 million upon closing and up to an additional $23 million over the following three years depending on achievement of performance hurdles.

We expect revenue from WMS to be approximately $60 million to $70 million on an annualized basis, and there as a base of approximately $22 billion. That amount includes fees paid to third-party managers which will be reflected as cost of revenue.

The acquired business is expected to have cost of revenue of around 55% to 60% of the total revenue. Upon closing, we expect to bring on approximately 60 to 65 people. We also will need to continue supporting the WMS business on the legacy platform, until we are able to completely migrate clients to the investment platform.

During this transition period we will have a services agreement with Prudential. We expect the adjusted EBITDA contribution to be neutral to slightly negative as we transition the business to the Envestnet platform which could be as soon as 12 months but could be 15 to 18 months.

During this time, the WMS acquisition will contribute to our revenue but not to our adjusted EBITDA and earnings. As a result we expect EBITDA margins will decline sequentially in the third quarter. However, once fully consolidated we expect the financial benefits will be significant.

At that point, we expect the WMS acquisition will exceed our hurdle rate for cash-on-cash returns from consolidating acquisitions of 25%. We will provide more specific details on the financial impact on our next call as we anticipate the closing in the first part of the third quarter. Thank you again for joining today and I’ll turn it back to Jud for his closing remarks.

Judson Bergman

Thank you, Pete. As I mentioned, we unify and fortify the wealth management process for advisors and as we empower advisors to deliver better results for their clients, we believe Envestnet is well positioned to deliver substantial revenue and cash flow growth in 2013 and beyond. Our long-term targets are to grow top-line revenue at 20% per year and to grow adjusted cash flow at 25% per year, reflecting improving operating leverage in our business.

Last quarter we indicated that we expected to grow revenue by at least 25% this year and adjusted EBITDA by at least 45%. With business as strong that it has been and assuming the backdrop of favorable capital markets remains, we now expect full year revenue to be at least 30% higher than in 2012 and adjusted EBITDA to be at least 50% higher than last year before any impact from Prudential’s WMS acquisition.

I thank you again for your time this afternoon. Thank you sincerely for your support of Envestnet and with the conclusion of these prepared remarks, we are happy to take your questions.

Question-and-Answer-Session

Operator

(Operator Instructions) We will hear first from Alex Cram of UBS.

Alex Cram – UBS

Hey, good evening everyone.

Chris Curtis

Hello

Judson Bergman

Hey, Alex

Alex Cram – UBS

Hey, so maybe just to start with what Jud just said at the end with raising the guidance to some degree, maybe you can just review a little bit how you are thinking about, maybe in the next couple of years all else equal, the EBITDA margin expansion, the growth trajectory, the reason why I am asking is basically, if I think back around over the last couple of years since your IPO, I think you had a really strong start where markets are very favorable the business was hitting on all cylinders and people got very excited.

But then, you kind of went back and said, like well, we are really running ahead here, let’s actually try to capitalize on this and spend a little bit more and try to really grow, accelerate growth over the next few years. So, my question is, just because, since you are running ahead so much.

Is there, should we be thinking about you guys maybe bringing up investment spending again doing something that you maybe otherwise wouldn’t have not done if the environment was not as favorable, or do you really think you can see that operating leverage that we know your business model has?

Judson Bergman

So, this is the challenge of building a business, building it wisely and making sure that we get the full benefit of the growth opportunity that we have. It was three quarters ago, when we outlined what we believe would be sequential expansion in our margin over the coming quarters.

And if you go through the guidance that Pete has laid out for the second quarter, and do the calculations, we will have developed in four quarters beginning third quarter last year, fourth quarter, first quarter and second quarter this year, between 400 and 450 basis points in operating margin expansion.

And we’ve been able to do that while still growing the top-line. Our backlog is at an acceptable level. But we do have our implementation teams fully engaged we are growing organically as fast as it’s prudently possible. And there is inherent leverage in the business model as we’ve been able to demonstrate.

I think the one big setback that we had during 2012 was the re-negotiated license arrangement with the large institutional client which is now behind us. So as we are looking forward, we’ve now got a very significant strategic opportunity and WMS’s over $20 billion of assets under administration is highly mixed or highly skewed towards separately managed account assets.

They have more separate account assets than Envestnet does and those are the products that have the highest amount of cost of goods associated with it. So, what we are signaling is that, beginning in the third quarter this is going to have a adverse effect on margins. But it will have a significantly accretive benefit, both revenue-wise and cash flow-wise and I would add earnings-wise as we integrate all of that.

So we feel like we’ve made – over this past year, we’ve made the right decisions in terms of balancing investments in the future and enabling us to grow very quickly. We see that that’s going to continue. We do see that there are some elements of our product mix that just over the last couple of quarters have grown faster than what we had anticipated.

Pete identified one, that’s the third-party strategies piece which looks a bit like a separate account in that, there is fairly high cost of goods sold with it, because there is a third-party manager involved. And for the next quarter or two, we see that that’s probably not going to abate.

But over time, what we’ve been able to do is, benefit from our scale and achieve breakpoints in terms of the underlying strategies to managers and I expect that that process will be happening again on this.

So we are fortunate to be able to serve a number of different advisor preferences and if everything were to stay stable in terms of mix and channel strategy, these sequential margin expansions would be easier to predict. What we are saying here is for the next quarter or two through this WMS acquisition, there is going to necessarily be a reset in terms with the operating margins.

Alex Cram – UBS

Yeah, I know, so just to sum it up, excluding any acquisition, just because, things are running ahead and markets are favorable, you don’t see yourself doing anything different anytime soon that would change the core expense base or anything like that.

Judson Bergman

We do not see any kind of upping the ongoing operating investment in our operations like what we signaled an opportunity to do that in early 2011.

Alex Cram – UBS

Okay, no, that’s great.

Judson Bergman

Again, expenses are going to continue to grow just as our footprint grows. We have more people, we have more offices, we have more growth.

Alex Cram – UBS

Yeah, no, no, no, just wanted to make sure that there is nothing out of the ordinary that would surprise us, because things are really growing faster here and you have cash flow and resources to do something new. But okay, great, thanks.

Let me move on. Just a couple of quick ones, after the detailed answer your like, stock-based comp, maybe I missed that, but it really jumped up a lot, is this maybe you can just give us a little bit more color, but is that the range we should be thinking about for the remainder of the year here?

Pete D'Arrigo

No, that was a little high. There was a true-up adjustment as we completed the first year after the Tamarac acquisition and so there was a certain amount of shares that reach their performance vesting requirements and that amount exceeded the estimate we have been using prior and that was recognized in the first quarter.

Alex Cram – UBS

So that should come down like $1 million or so again next quarter I guess or a little bit less I guess?

Judson Bergman

Little less than a $1 million

Pete D'Arrigo

Little less than a $1 million.

Alex Cram – UBS

Yeah, no I get it. And then, just lastly, and again this is detail too, but given, I mean thanks for giving us the early look in the second quarter on the conversions, I mean $5 billion that’s pretty impressive.

Is that going to impact, that into the math yet, is that going to impact revenue already in the second quarter too given that we are only half way through or is this not going to get priced until the end of the next quarter and then while we are on the topic of conversions.

Maybe you gave some color but anything else you can add in terms of the outlook here, I mean it seems like, first and second quarter looks really strong, is looking really strong, anything else you can comment on the pipeline here and in particular when it comes to AUM and AUA, because I think, last time you said, a lot of it would be coming in licensing and looks like it’s actually a lot of it is fee-based now? Thanks.

Pete D'Arrigo

Yeah, the revenue that is related to some of those conversions are included in the guidance that we’ve given as those came on earlier in the quarter. So we are aware of them and we are billing on them now. So we know about and we’ve included that. In terms of the pipeline, I let Jud elaborate.

Judson Bergman

Alex, it’s a very strong pipeline and there are dependencies that we don’t always control and our insight or whatever you want to call it is that, it’s an important part of our long-term organic growth but it’s lumpier, it’s harder to predict. It’s probably on an overall growth basis it may add anywhere from 200 to 400 basis points per year in top-line growth. But it’s lumpier and the pipeline is as strong as it’s ever been, maybe stronger than it’s ever been.

Alex Cram – UBS

Okay, now that’s very helpful. Thanks.

Operator

Moving on, we’ll take a question from Chris Donat of Sandler O'Neill.

Chris Donat – Sandler O'Neill.

Hi, good afternoon everyone.

Pete D'Arrigo

Hi, Chris.

Chris Donat – Sandler O'Neill.

Just one quick detailed question on the re-audit expenses, can we expect something similar for the second quarter or is this largely done here?

Pete D'Arrigo

Well, it’s still ongoing. The amount probably not quite as much, but I don’t want to quantify the amount until we are done and we know what it all looks like.

Chris Donat – Sandler O'Neill.

Okay, and then just a geography question, which lines of the income statement did that hit?

Pete D'Arrigo

That hits our G&A.

Chris Donat – Sandler O'Neill.

Okay, it’s all G&A then, okay. And then, just more strategically here on the competitive landscape, it seems like there is some relatively young firms coming out of California like Welfron Adpar that are more software focused. I am just trying to understand how you see yourself competitively and what advantages you have against startups given the relationships you have now.

And a lot of growth comes from existing advisor relationships. I am just trying to understand if there is something that can come from Westfield that would be disruptive to you or if that’s a low probability event?

Pete D'Arrigo

Well, we are caring the weight about competition. We worry about it, it comes from a lot of different potential quarters or sectors. Our basic competitive position is that we provide a unified end-to-end solution that can be deployed fully as an end-to-end solution, but the component parts are all best-in-class in terms of their standards, their features and functionality.

So, we in some cases, have to compete against a portfolio accounting system or a portfolio rebalancing or a performance reporting or a research or in some cases a portfolio analytics package. In other times, we compete against platform providers who are called TAMs Turnkey Asset Management platforms and we are winning our share of business.

I would say more than our share of business whether we are going up against other platforms or whether we are going up against single point applications. Part of this is that when we started the business, we started it as a web-based solution, people now are calling that a cloud solution. When we started the business, it was very difficult to get enterprises to even consider using a young firm that hosted the solution that didn’t put it on the enterprise’s mainframes. We overcame that. We overcame that in the early part of the last decade.

So now there is a – or it seems to be a new growth of a number of wealth management companies. A lot of them are essentially business to consumer place, direct place to investors. They’ve got their work cut off of that. There is some very interesting technology, some very interesting approaches.

Our research has consistently shown that while young people of modest means will use online resources and affluent and high net worth individuals of substantial means will use online services for a sliver of their portfolio while we have found that.

What we have also found is that affluent and high net worth investors by definition of substantial means, are growing in their dependence on advisors. And in particular they are growing in their dependence on independent advisors. So the trends that has fueled our growth as the trends that we are enabling and we like those.

So a lot of the firms that are cropping up out west are looking to short circuit that advisor experience. What we are investing in is in ways of creating an electronic or a web-based store front for advisors and enable them over time to be more efficient in how they are rendering their advice to their target marketplace and maybe even enabling them to go down somewhat in terms of that target marketplace.

So, that’s where a lot of the activity is. We watch it, neither of the firms that you identified have we come up against in any business selling. So, we haven’t come up against them, nor have we lost any business to the firms that you’ve identified.

Chris Donat – Sandler O'Neill.

Got it. Thanks very much for that answer, Jud.

Operator

And we’ll take our next question today from Chris Shutler of William Blair.

Chris Shutler – William Blair

Hey guys, good afternoon. So, first on WMS its looks like a really nice deal. Couple of questions, first as I know they had some pretty large bank clients in their mix. So, just curious if you had any initial discussions with those clients yet, and if so, how confident you are that they are going to remain with Envestnet?

And then second, I know you’ve talked a lot in the past about seeing potential for consolidating transactions and Funquest was one of those, this is another. But Jud, how many more of these kinds of sizable deals are there still out there potentially over the next two or three years?

Pete D'Arrigo

So, Bill Crager, our President have been very closely, Lori Hardwick as well, with Kevin Osborne and his team, we’ve met with the majority of the clients we have had very good meetings. We have a high degree of confidence that not only are we a better technology solution for these clients going forward, but by being able to leverage the practice management strengths of the WMS group.

We believe that there will be both a feature and functionality lift and they won’t lose any of the benefits of the practice management capabilities. So, we feel really good about the clients coming over and that it’s even I would say strengthened our sense of the attractiveness of this transaction on Bill and Lori’s and others parts as we’ve been meeting.

So that; very, very positive. If this priced at how many of these kinds of opportunities are still out there. And, this will take some time for us to digest. So I don’t think this, I think that the key is that, I’d be very surprised if there is an announcement of another consolidating acquisition of this size before the end of the year. It’d be very surprising to me.

Chris Shutler – William Blair

Okay, but just as we, maybe as we think about the number of potential consolidating or firms that maybe potential candidates for this type of transaction over the next few years. Are there still a handful or how would you characterize the number of …

Pete D'Arrigo

One of our directors, independent director, Chip Roame runs a firm, Chip runs strategic advisors. He do an annual review of the TAM marketplace, a regular review. They update it fairly regularly. And I can’t remember the exact number, but I think the last count there were over 40 identified TAMs in that study. Now this ranges from TAMs of as small as $1 billion to TAM as large as Envestnet. But there are a number of attractive potential opportunities for Envestnet that I think will take years to fully, I think it will take years for the industry to fully consolidate.

Chris Shutler – William Blair

Okay, great. And then Jud we’ve heard some broker/dealers are maybe thinking about pairing back the number of wealth management platforms that they are going to work with going forward. Just curious to get a sense whether you do in fact think of that is going to become a trend and because it would certainly seen that you would be a beneficiary of that from an adoption rate standpoint?

Pete D'Arrigo

So, I think these are questions that are coming from somebody that’s done their homework in the space. We are seeing this too. We are seeing it and we are encouraged by it. We are seeing it in a handful of instances where it’s too early to be a trend. But as these independent broker/dealers look to increase efficiency to gain operational lift to gain leverage with their partners with their platform partners.

There are compelling reasons why they may not want six or seven or eight TAM offerings and may want to consolidate that with one primary offering and maybe one or two specialty offerings around that. So that is something that we’ve seen and in fact in a couple of instances it’s a fundamental driver of our advisor and account growth at several of our – a couple of our larger enterprise broker/dealers.

Chris Shutler – William Blair

Okay, thanks for the color and then last one is on the quantitative portfolios, pretty interesting offering there just – how many of those have you rolled out so far and can you give us some sense of what the revenue profile of those products looks like for Envestnet?

Judson Bergman

So we are in soft launch right now and what we mean by that is, we’ve identified about a dozen advisors and two enterprises that want to be during this first period of introduction of the QPs the quantitative portfolios. And the basic offering is seven different portfolios in the first phase, large cap, core large cap, value large cap growth, small cap core, emerging market, international and fixed income and this is just the first phase.

We expect that we will be offering additional versions of this with introducing various factors. For example value tilt within the index-based approach or perhaps an income tilt towards the dividend, income tilt towards the stock base portfolio.

And then depending on whether these are passive and un-tax managed where passive and tax-managed, whether they are large cap core or whether they are specialty, the portfolio’s fee will be as low as 15 basis points and as high as 35 basis points and then there is a platform fee that goes along with that as well of somewhere in the 10 to 15 basis point range on average.

Chris Shutler – William Blair

Okay, thanks a lot Jud.

Pete D'Arrigo

So we have received very strong indications from our best clients about the fit with this with their portfolio strategies going forward and we are – in some ways we are seeing this as the culmination of a lot of work, because we’ve got all of these systems and portfolio accounting systems that are geared towards the managed account delivery infrastructure. We are able to do customizations and restrictions.

We are able to do tax lost harvesting with the software protecting against 30-day – rule violations, all of that. And this now is being able to bring this to the marketplace for the benefit of advisors and their clients. It’s a very, very valuable product and the Tamarac piece and there – in particular their tax rebalancing mechanism that address both risk and cost was the final piece enabling us to bring this to market.

Chris Shutler – William Blair

Okay, thanks. Thanks again Jud.

Operator

Moving on we’ll take a question from Hugh Miller of Sidoti.

Hugh Miller – Sidoti & Co.

Hi, thank you for taking my questions.

Judson Bergman

Hi, Hugh.

Hugh Miller – Sidoti & Co.

I guess, I had a question about the Envestnet Intelligence data that you were commenting on. I was wondering, is that’s something that you guys plan to monetize in a way or is it just kind of data that you put out there that will just add to the attractiveness of the platform?

Pete D'Arrigo

So, on Envestnet intelligence, we see that there will be several ways of monetizing that. One is through licensing the findings with the benchmarking, two whoever wants it, home offices, enterprises and advisors. There is tremendous value in the data and in the dissemination of the data we see that commercial or that monetization will be in two primary forms.

One will be in the form of licensing it. But the second will be – we see that there would be a higher perceived value in the marketplace for the Envestnet wealth management offerings and today where is the question about competition.

We are able to sustain good pricing from a technology standpoint versus our competition in virtually all cases particularly when you take the full cost of ownership into account which includes the service list that the firm gets either by administering the software themselves or relying on Envestnet to do so. So a second important element over time is that we see this as a way of maintaining the pricing that we have enjoyed in the Wealth Management Solution space.

Hugh Miller – Sidoti & Co.

Gotcha. That’s very helpful. And I guess, a follow-up question on the QPs. I know you talked about the customization aspect for concentrated positions, is that tailored, I assume I think that’s tailored to the individual client, but how does that then kind of change the liquidity aspect in someone’s ability to kind of buy and sell the portfolio relative to that’s a very easy to do with an ETF. How does that compare?

Judson Bergman

See, this is the beauty of the underlying technology. It is not the underlying ETF that will be sold if the underlying holdings, if somebody wants to liquidate some or all of the portfolio, our software will liquidate shares within the underlying portfolio.

Hugh Miller – Sidoti & Co.

Okay, interesting. And then just a question or two about the pipeline I guess, you guys had mentioned, I think you at one point said that was a very acceptable and in another point said it’s very strong. Would you say that in the first half of the year given some of the strength that you guys have seen. Are you guys drawing down on the pipeline that you had at year end or is that not the case?

Judson Bergman

Well, we are drawing down in the front-end of the pipeline, but fortunately the back-end of the pipeline is a little smaller than it was when we began the year.

Hugh Miller – Sidoti & Co.

Right, right. So on a net basis, I mean, would you say that you are drawing down or are you’ve being able to kind of replenish?

Judson Bergman

Yeah, our backlog is a little bit longer now that it was at the start of the year.

Hugh Miller – Sidoti & Co.

Okay, great. And then, one other question, I think I may have just missed it, when you are talking about the composition of the enterprise conversions that we should see in the second quarter that you’ve mentioned about the roughly $5 billion. What is that comprised of, what types of assets?

Judson Bergman

So, we are not prepared to give guidance for that today. You do have the net effect of that in Pete’s guidance for the quarter..

Hugh Miller – Sidoti & Co.

Right, okay. All right very helpful thank you very much.

Operator

Our next question today comes from David Grossman of Stifel.

Judson Bergman

Hi David.

David Grossman – Stifel Nicolaus

Hi, good afternoon. I am wondering, I get across the call, so I apologize if this was covered earlier, but it looks like you had a fairly healthy uptick in gross sales in both AU and AUA. Is there some fundamental change in the marketplace in terms of just the market going up and people just feeling more comfortable making casual outlays that were – is there some other factors at play?

Pete D'Arrigo

Yeah, I don’t know if there is a fundamental change or not. It feels as it advisors are gaining new assets. It’s interesting the amount of our overall mix of fee-based assets or assets under management or administration. The allocation to domestic equities is down to around 45% to 46%, which is as low as it’s ever been.

So, it’s not as if we are seeing the end investor’s stream into domestic equities. We are seeing these portfolios being structured and offered to the end investor and they are diversified across asset classes, larger portions in alternatives, or in some cases tactical or dynamic strategies that, I think advisors sometimes use as an alternative.

I think if there is anything that gives us a certain amount of comfort for the business, is that those redemption rates are continuing to trend down but there is still not down to where they are at the long-term averages would be, which would be down more in that 1.5% to 1.6% per month range. So I think it’s strong, we’ll take it while it comes, and certainly the first six weeks or so of Q2 has nothing has really changed on that front. But I am not sure, I am ready to see there is a sea change here David.

David Grossman – Stifel Nicolaus

So, Jud, so as we enter really in through a full cycle with you as a public company, and also your mix, it changed a little bit, since you’ve been public, are there any – are there things that we should look to that in a sustained up-market that impact the model other than the obvious ones that we talk about every quarter?

Pete D'Arrigo

We haven’t intentionally gone about this, but the mix of our business has changed, it’s evolved since we went public. We are up to, I don’t know 27% license-based professional services non-asset based or somewhere around that. The license part of our business is growing faster than the asset-based part of our business. RIA’s high-end portfolio managers prefer buying services in a license basis.

The wealth advisors tend to like to buy bundled with services and trade protection and those sorts of things but our business has evolved, and it’s less dependent and I guess the negative way of saying this is, here is less upside in the waiting bull market than there would have been two or three years ago.

But, I think that the competitive dynamic is again slowly inextricably coming our way and that’s the benefits we’ve been talking about from the start, more high net worth clients using advisors. More of those advisors are independent and more of the advice is being rendered using fees and the fiduciary approach rather than the commissions and the closed architecture approach.

And I think that, the more that people return to equities as they maybe move away from fixed income, there is certainly on the gross margin side there is a lot more lift. Depending on how they work that through. In the short run that can lead to faster cost of goods increases than the bottom-line increases, but then as we get scale and get our arms around that, we address that and we start to get some of the efficiencies there. So, and that’s a long way of saying, I didn’t really say anything on cycle. I am sorry about that David.

David Grossman – Stifel Nicolaus

No, that’s helpful. Let me just ask maybe just couple of quick financial questions. I assume that the comp number went up as a percentage of revenue as a result of the Tamarac stock-based comp comment you made earlier. Is that correct?

Judson Bergman

Yeah, that’s a big driver of it.

Pete D'Arrigo

That’s the primary driver, David

David Grossman – Stifel Nicolaus

Okay, and then, there were a couple other expense lines it seems to have popped up like the litigation number and the restructuring. Did the litigation adjustment include the audit fees or is there something else that throw that number up a lot?

Pete D'Arrigo

We added a line item called re-audit fees which had that number in it.

David Grossman – Stifel Nicolaus

Okay, so any sense for what was in that litigation number or maybe that’s other as well, maybe that’s combined.

Judson Bergman

I think that’s combined, David. That litigation was only $7,000.

David Grossman – Stifel Nicolaus

Sorry, okay. It combines three numbers. I am sorry, just the aggregate other category that we use – it was up a lot.

Judson Bergman

The two things David, were the re-audit related expenses and then restructuring charges and transaction costs which were then mostly transaction-related cost due to the WMS acquisition.

David Grossman – Stifel Nicolaus

Got it, okay. Great, thanks very much.

Operator

Up next, we have Peter Heckmann of Avondale.

Peter Heckmann – Avondale Partners

Good afternoon, gentlemen.

Judson Bergman

Hey, Peter.

Peter Heckmann – Avondale Partners

Is there way to quantify the standalone growth of Tamarac and potentially – Prima, maybe for the first half of 2013, obviously there is some cross-sell effort going on. But about how much – can you isolate how much revenue grew year-over-year?

Judson Bergman

We haven’t – I’ll turn it over to Pete to see what kind of help he can give on that.

Pete D'Arrigo

On the whole, we are seeing quarter-to-quarter, I think that incremental revenue largely is related to both Tamarac and Prima. And so, as we are estimating it combined, it’s about 10% sequentially. In terms of the contract value of the licenses there, so that would imply something on the order of about 40% annually.

Judson Bergman

But that’s just on a look back basis.

Peter Heckmann – Avondale Partners

Sure, sure. That’s fair.

Judson Bergman

And that’s 1Q and that should not being further rolled forward.

Peter Heckmann – Avondale Partners

And then I had a follow-up question on the acquisition of Prudential WMS and I know that some of these comments are somewhat preliminary as the deal hasn’t closed yet, but did I infer correctly that that you would be receiving all of that revenue immediately when the deal closes?

Pete D'Arrigo

We will begin accruing all that revenue once the deal closes, yes.

Peter Heckmann – Avondale Partners

Okay, and then, as regards cost, I understand that the system is going to be maintained on Prudential’s mainframe for a period of time, would we expect then cost to step-up over a period of three to four quarters, as you are beginning to run duplicate systems or would they step down as you do in the individual institution conversions?

Judson Bergman

There is a third option there, Pete. I think for the first two to three quarters, all of that will probably blend out, I think that what we are indicating that our expectation is that expenses for both purchased services and what we do here to ramp up will be above what revenue is, it may be slightly to the negative over the first couple of quarters. It will take us at least – it could be as early as 12 months from the closing and as long as 15 to 18 months to get the full benefit of the financial accretion and that’s where we expect it to exceed our stated hurdle rates.

Pete D'Arrigo

And that will become more like a giant step at the end.

Judson Bergman

Closer two of these steps although, that last quarter or two it would certainly be some benefits we would expect.

Peter Heckmann – Avondale Partners

Okay, okay, that’s helpful, and so the – assume you’ll provide some additional comments on the next conference call to help refine that data, but…

Pete D'Arrigo

Absolutely, yeah, absolutely, we haven’t closed yet. We haven’t really gotten it, I mean, we haven’t really gotten the final confirmations from the all the clients which we are expecting. We have rolled up our sleeves and done a lot of planning. There is a very good team on the WMS side, but we obviously haven’t started to implement yet. We can’t, we won’t until we have completed the transaction.

Peter Heckmann – Avondale Partners

Sure, that’s fair and then, Pete, is there a way to talk about CapEx for the year including Prudential, WMS? Would we require a step-up?

Pete D'Arrigo

The incremental CapEx for Prudential’s WMS is almost non-existent. There are some programming and development costs that we will be expensing and a little bit that we will be that we will probably be capitalizing.

But it’s not very much, Pete. It essentially when we talk about a consolidating transaction, this is an existing legacy system Mainframe Cobol based that they’ve been supporting with very good people. And in a consolidating transaction, we bring the clients, the revenue, the product support over to the Envestnet platform and eventually all of that technology and operating support there is no longer necessary.

Peter Heckmann – Avondale Partners

Okay, that’s helpful, thanks.

Operator

And with that, we have no further questions, Mr. Bergman, I’ll turn the conference back to you for any additional or closing remarks.

Judson Bergman

I just would like to again thank you for your time today. Thank you for the questions and we look forward to speaking with you throughout the quarter and again next quarter. Thanks, bye.

Operator

Ladies and gentlemen that does conclude today’s conference. Again we do thank you all for joining us.

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