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Financial Engines (NASDAQ:FNGN)

Q4 2013 Earnings Call

February 20, 2014 5:00 pm ET

Executives

Raymond Jay Sims - Chief Financial Officer, Chief Risk Officer and Executive Vice President

Jeffrey Nacey Maggioncalda - Chief Executive Officer and Director

Analysts

Hugh M. Miller - Sidoti & Company, LLC

Michael J. Grondahl - Piper Jaffray Companies, Research Division

Brian Hogan

Mayank Tandon - Needham & Company, LLC, Research Division

Avishai Kantor - Cowen and Company, LLC, Research Division

Operator

Good day, and welcome to the Financial Engines' Fourth Quarter 2013 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Mr. Ray Sims, Chief Financial Officer. Mr. Sims, the floor is yours, sir.

Raymond Jay Sims

Good afternoon, and thank you all for being on today's call. Before we get started, I need to remind everyone that part of today's discussion will include forward-looking statements, such statements regarding our operating metrics; anticipated costs and expenses; growth and growth opportunities; strategy; trends impacting our business; our competitive position; impact of new laws and regulations; enrollment rates; implementation and potential impact of enrollment enhancements and strategies; anticipated benefits, success and impact of our services, including Income+; anticipated adoption of our products and services; anticipated benefits and impact of customer experience enhancements; long-term objectives; and financial outlook for 2014.

These statements are based on what we expect as of this conference call, as well as current market and industry conditions, financial and otherwise, and we undertake no obligation to update these statements to reflect events, circumstances or changes that might arise after this call. These forward-looking statements are not guarantees of future performance or plans, and therefore, investors should not place undue reliance on them. We refer all of you to our SEC filings for more detailed discussions of the risks that could impact our future operating results and financial conditions, which could cause actual results to differ materially from those discussed in these forward-looking statements.

I also want to inform our listeners that we will make some reference to non-GAAP financial measures during today's call. You will find supplemental data in our press release, which reconciles our non-GAAP measures to our GAAP results.

Now I would like to turn the call over to Jeff Maggioncalda, our Chief Executive Officer.

Jeffrey Nacey Maggioncalda

Thanks, Ray. Good afternoon, everyone. Thank you for joining us today.

I'm pleased to report that Financial Engines had a solid fourth quarter. Let's take a look at our numbers for the quarter. Revenue increased 27% to $65.2 million in Q4 compared to $51.4 million 1 year ago. Non-GAAP adjusted EBITDA increased 33% to $23.3 million in Q4 compared to $17.5 million 1 year ago. And non-GAAP adjusted earnings per share increased 38% to $0.22 in Q4 compared to $0.16 1 year ago.

And as for our year-end numbers, revenue increased 29% to $239 million in 2013 compared to $185.8 million in 2012. Non-GAAP adjusted EBITDA increased 42% to $79.3 million in 2013 compared to $55.8 million in 2012. And non-GAAP adjusted earnings per share increased 50% to $0.75 for the full year 2013 compared to $0.50 for the full year 2012.

In addition to our financial performance, we report quarterly on some important operating metrics, including assets under management, assets under contract, total members and enrollment rates. Please refer to our SEC filings for definitions of these operating metrics.

We had a solid quarter against each of these metrics. As of December 31, assets under management reached $88.2 billion, a 38% increase from $63.9 billion 1 year ago. Assets under contract increased by 37% to $786 billion from $575 billion 1 year ago. Total members enrolled in Professional Management grew to more than 753,000 members, and enrollment rates among employer plans, where services have been available 26 months or more, averaged 13.2% and an estimated 13.1% had AUC been mark-to-market at the end of the fourth quarter 2013.

There are a number of fundamental forces driving our growth opportunities. As we've discussed previously, demographic trends continue to drive our business. The youngest members of the baby boomer generation, those born in 1964, began turning 50 this year and will be thinking about their approach to retirement. Many people nearing retirement faced major concerns, such as when to retire, how much to spend, how to avoid major losses and how to make sure they don't outlive their money. The Evolution of the Retirement Investor report, recently published by Cerulli Associates, estimates that distributions from 401(k) plans are expected to begin outpacing contributions in 2016.

Near retiree's need for a holistic income planning strategy is urgent and growing as their financial decisions become more complex and their life expectancies continue to increase. For a 65-year-old couple, there is a 1 in 4 chance that one spouse will live until age 97. As the demographic wave of baby boomers enter into retirement, we believe that employers will be motivated to provide more holistic help to their plan participants.

In addition to demographics, we believe another factor driving our growth is increasing reliance on defined contribution plans. A recent Aon Hewitt retirement industry report revealed that only 29% of defined benefit plans are still open to employees, yet 98% of these employers allow individuals to participate in a defined contribution plan. In 2014, we expect the employers with pension plans may evaluate pension derisking.

2013 was the best year on record for pension gains. The funded ratios for the largest plan sponsors increased sharply due to strong stock markets and rising interest rates that lowered liabilities. Towers Watson estimates that 2013 pension fund status reached 93%, an increase of 16 percentage points in 2013 and the highest funding level since 2007.

As conditions improve, industry experts are predicting that plan sponsors will take action to protect gains and formalize steps to derisk their defined benefit pension plan by offering lump-sum buyouts to former employees. The Towers Watson survey found that 75% of respondents either have implemented, are planning to implement or are considering developing a formal plan to derisk their defined benefit plans. The leading factor cited were the impact of the defined benefit plan on the financial statements, the impact on company's cash flow and the cost of administering the plan.

Financial Engines current plan-sponsored customers represent about $600 billion in defined benefit assets. Successful buyout programs in 2012 and 2013 by a few large plan sponsors may help drive activity of similar programs in 2014, especially if the recent improvements in funded status continue. With increasing interest and pension de-risking, we believe that plan sponsors offering lump-sum distributions presents an opportunity for Financial Engines to manage additional assets, especially with the availability of Income+ and IRA management.

Financial Engines also continues to benefit from legal and regulatory tailwinds. We're encouraged to see policymakers raising public awareness with respect to the retirement crisis, proposing solutions to encourage increased savings behavior by American workers and creating retirement plans for small businesses to offer cost-effective retirement plans to their plan participants.

U.S. Senator Tom Harkin, Chairman of the Health, Education, Labor and Pensions Committee, has proposed legislation to provide universal access to hybrid, privately run retirement system, which combines elements of a traditional pension plan with the portability and ease of the 401(k). He believes that one of the biggest contributors to the retirement crisis is that small business employees do not have access to low-cost, high-quality retirement plans.

And just last month, in a State of the Union address, President Obama announced that he would introduce a new kind of retirement savings plan for workers who don't have access to a retirement plan through their employer. My Retirement Account, or MyRA, was introduced as a new, simple, safe and affordable retirement account. They'll be offered through a Roth IRA account and will be backed by the U.S. government. Details are still limited on both proposals, but we're encouraged by the policymakers' increased focus on retirement income adequacy in continuing national discussion on this topic.

We also see a trend of plan sponsor providing more help to participants in 401(k) plans. In 2014, Financial Engines marks the 10-year anniversary of launching Professional Management services. In 2004, we began offering managed accounts with just 2 charter sponsor clients, both of whom remain clients of ours today. We are now working with 553 plan sponsors and helping approximately 7.7 million participants to achieve a secure retirement.

Cerulli Associates has again named Financial Engines the leading defined contribution managed account provider by assets in Q4 2013. Our assets are more than double the closest competitor and more than all listed competitors combined. We believe the growth of our business over the last 10 years demonstrates that plan sponsors recognize the importance of retirement help for their plan participants.

We also believe that plan sponsors can drive higher utilization of 401(k) plans and improve retirement savings outcomes for participants by incorporating automatic enrollment features into the plan design. Account Investment Institute survey found that the percentage of plans offering auto enrollment increased from 52% in 2012 to 58% in 2013. Their survey also revealed that 11% of plan sponsors intend to increase the automatic enrollment default contribution percentage in 2014. Of the plans offering automatic enrollment, 87% also offer automatic contribution escalations, a dramatic increase from just 57% a year ago. We believe the adoption of automatic features in the plan design will contribute to the growth of our assets under contract and assets under management over the coming years.

So our growth opportunities continue to benefit from demographic trends, an increasing reliance on 401(k) plans, legal and regulatory tailwinds and demand for investment advice in the workplace. Now I'd like to discuss our strategy to take advantage of these growth opportunities and the progress that we've been making.

Let's start with assets under contract, which is the value of assets in retirement plans where Professional Management has been made available. Assets under contract rose to $786 billion by the end of Q4, up from $752 billion at the beginning of the quarter and up 37% over the last year. The year-over-year growth in the fourth quarter was driven primarily by new employers making our services available, the positive performance of financial markets over the last year and the steady contributions that participants and employers have been making into their 401(k) accounts.

Competitors, including new investment advisory firms and established players alike, continue to focus on providing managed accounts to the 401(k) plan market. We recognize that we'll need to continue to broaden the scope of the services we offer and to improve the customer experience in order to further differentiate from target date funds and managed account competitors as we grow our AUC. As we broaden the scope of our services, we believe in improving the customer experience will also drive engagement, enrollment and retention, especially among the near-retiree demographic.

We continue to focus our efforts on converting assets under contract into assets under management by improving enrollment. We drive new AUM primarily by offering annual print enrollment campaigns and by integrating ongoing electronic enrollment into our provider partner websites. In Q4 2013, we added $4.4 billion of gross new AUM from enrollment. The growth in AUM was due to high campaign volume and increasing ongoing enrollment. The majority of gross new AUM came from annual print campaigns, which were lower in Q4 than Q3 due to typical seasonal variation. Additionally, we've not yet conducted enrollment campaigns for all the new AUC brought on in Q3 and expect these campaigns to be conducted in the coming quarters.

In addition to enrollment campaigns, we're pleased with the ongoing progress from our integrated enrollment efforts and continue to focus on non-campaign enrollment methods. We continue to identify content and strategies that improve our click and conversion rates. And we're working with our provider partners to deploy these improvements across our full book of business. We continue to make progress understanding what drives enrollment, designing more effective communication programs and deploying these programs more broadly across our installed base.

Enrollment for employers rolled out 26 months or more averaged 13.2% at the end of Q4 or 13.1% had AUC been mark-to-market. This is up from 12.7% 1 year ago and 11.4% at the time of our initial public offering in March of 2010 and is consistent with the long-term trend we forecasted at that time. However, quarter-to-quarter, we can see some fluctuation based on plan sponsors entering and leaving the cohort. In Q1, 2014, a few large sponsors, whose enrollment rates are lower than the cohort average, will enter the 26-month cohort, which will tend to temporarily dampen the enrollment rate for this cohort.

An attractive characteristic of our business model is the built-in growth that comes from ongoing contribution from 401(k) participants. Every 2 weeks, a part of most participants' paycheck is deducted and deposited into their 401(k) account, which is usually partially matched by their employer. In addition to AUM from new enrollment, we estimate that our AUM increased by approximately $1.4 billion more in Q4 due to member and employer matching contributions. For the full year 2013, contributions increased our AUM by approximately $5.4 billion.

A recent Callan survey reported that 1 in 10 plan sponsors either increased or reinstated their company matching contributions in the last 12 months. Their survey also shared that no plan sponsors eliminated or reduced the company match in 2013 nor did they intend to in 2014.

We continue to focus on retention of Professional Management members. For the fourth quarter of 2013, our average quarterly overall cancellation rate was 4.0%, which is in line with our historical cancellation rate. Our AUM decreased approximately $1.6 billion due to voluntary cancellations in Q4. A current area of focus for improving retention is with members in the first 90 days, where we see a larger portion of our voluntary cancellations to occur.

Because we typically see higher participant cancellation rates in the 90 days following a completed campaign and we had a high volume of campaigns in Q3 of 2013, we saw a corresponding increase in voluntary cancellations in Q4. We believe we can reduce cancellations over the coming years by increasing personalization, flexibility and the breadth of services we offer.

Early indications from retention tests suggest that more personalized and concerted outreach during the first 90 days can profitably reduce voluntary cancellations. And we continue to more broadly test these promising approaches. We are also testing new features that allow members more flexibility in personalization in the way that they manage their accounts.

In addition to voluntary cancellations, our AUM decreased by $1.8 billion in Q4 due to involuntary cancellations. Involuntary cancellations consist of both member cancellations, where the individual has left the company and took their 401(k) with them, and sponsor terminations, where the plan sponsor no longer offers Financial Engines services and the entire population for that sponsor is, therefore, involuntarily canceled. Involuntary member cancellations in Q4 were consistent with previous quarters.

However, in Q4, we saw unusually high involuntary cancellations due primarily to a plan sponsor move to a record keeper with whom we do not have a plan provider connection. Sponsor cancellations accounted for approximately $800 million of the overall $1.8 billion of involuntary cancellations in Q4. Our average sponsor retention over the last 3 years was 94% and 98% when weighted by AUM. We believe that Income+, IRA management and broader retirement income services will be important strategies to reduce involuntary cancellations in the coming years.

In total, net new AUM was $2.4 billion in Q4, including $1 billion from net new enrollments. In addition to net flows, our AUM increased by approximately $3.8 billion due to the positive movement in the markets in Q4. Although the S&P 500 increased approximately 10% in Q4 of 2013, international equities increased only about 5% and fixed income was flat over the quarter.

Our growth strategy continues to focus on enhancing services for near retirees with services like Income+, a retirement income feature that provides retirees with a steady monthly paycheck from their 401(k) to a checking account that can last for life. We continue to make progress deploying Income+ with our provider partners and plan sponsors.

Providers who have committed to offering Income+, including those whose connections are not yet live, represent more than 95% of our AUC. We are pleased to share that in Q4, we established a live Income+ connection with another of our plan provider partners, Xerox HR Solutions. In Q1 2011, we announced that 5 plan provider partners had committed to offer Income+ to their plan sponsor clients. With the Xerox connection, all 5 initially announced providers are now live.

Following 2011 announcement, Fidelity Investments went live in Q4 of 2012 with Income+ and efforts are currently underway to establish Income+ connection with Vanguard. With provider connections established, we can more effectively sell Income+ to plan sponsors. As of December 31, 2013, 51 plan sponsors have made Income+ available to 1 million participants, representing $107 billion of assets under contract.

We continue to see accelerated rates of adoption as provider connections come online and the installed base of plan sponsors with Income+ grows and as the industry becomes more familiar with our Income+ offering. As of December 31, all signed contracts for Income+ represent 121 plan sponsors, over $223 billion in retirement assets and 2.6 million participants. We believe the broader adoption of Income+ by plan providers and sponsors positions Financial Engines to become the standard for retirement income in 401(k) plans. We expect the larger benefit of a broader retirement planning offer, including Income+ and IRA management, to be realized over the longer term as the demographic wave of baby boomers retiring continues over the next 2 decades.

We are committed to evolving and enhancing our customer experience to meet the needs of near retirees as they transition into retirement by offering holistic retirement income planning that takes into account not only their 401(k) accounts, but also their IRA accounts, pensions, Social Security, Medicare and spousal retirement accounts.

Through our research and discussions with plan sponsors, consultants and near retirees, we're finding that Social Security is a critical piece of the retirement income puzzle and that the complexity and importance of the claiming decision is vastly misunderstood by the majority of people. Americans view starting Social Security not as a strategy but simply something you do upon retiring.

But determining an optimal strategy depends on many factors: marital status, the relative size of each person's earned benefit, interest rates and life expectancies, which, together, represent more than 8,000 different combinations for a typical married couple. Few people understand the challenge and the opportunities that Social Security presents, and making informed choices may result in dramatically more retirement income.

According to research by Financial Engines board member and Stanford Professor John Shoven, over 75% of people start claiming Social Security within 3 months of retirement or turning age 62, which can reduce expected Social Security lifetime benefits by as much as $250,000 per married couple and $120,000 for individuals. Holistic guidance on how to claim the benefit is not widely available to individuals with modest retirement savings. And for many individuals, effective guidance could produce more expected value than the total amount of savings in their retirement accounts.

Financial Engines, in partnership with Greenwald & Associates, a leading public opinion and market research company, has conducted a national survey to understand near retiree and retiree views and behaviors on Social Security claiming. We'll be sharing the full results of the survey next month. But in general, we found that confidence in claiming is high but understanding is low. The early results indicate that both men and women are very or somewhat confident that they know enough about planning Social Security to make a good decision for the household. But in reality, their answers to a short 8-question claimant quiz reflected a very limited understanding. The survey also revealed that education can be effective and that near retirees want Social Security help.

We believe that our distribution channels and broad customer base, our technology and methodology and availability of our investment advisor representatives all make us well positioned to address this opportunity to help baby boomers with Social Security. We also believe that the flexibility of the Income+ methodology will provide a good option for participants who want to delay their Social Security but need to use their retirement savings to bridge the income gap created by delaying.

At the end of Q4, 2013, we began piloting personalized Social Security guidance with a few Income+ sponsor clients. The service is currently available at no additional cost to participants in these plans. All participants can receive Social Security guidance online or with an advisor and near retirees can receive from our advisor representatives a personalized holistic income plan that includes all sources of income, including Social Security. Social Security guidance is currently available at 16 plan sponsors, and we intend to make Social Security guidance available at no additional cost to plan sponsors who've rolled out Income+.

We're encouraged by the reaction we're getting from both near retirees and plan sponsors. Individuals are broadly unaware of the significant potential increase from a deferred claiming strategy. When provided with the information about their options and the potential increase in retirement income, it is a big eye-opener for most people.

Social Security guidance reflects our continuing investment in enhancing our offering to better address more of the needs of the near retiree, which we believe will help drive engagement and enrollment. And broadening our services will also differentiate us from competitors and products like target date funds. We also believe that extending our service offering will help mitigate the pricing pressure prevalent in the industry today. And we expect a broader offering, including Income+, Social Security guidance and IRA management, in improved sponsor and member satisfaction, revenue per member and voluntary and involuntary retention rates over time.

We continue to expand the number of plan sponsors we serve. At the end of the fourth quarter, we had 553 plan sponsors where Professional Management was available, representing $786 billion in assets and about $7.7 million plan participants. At the end of the fourth quarter, we were managing portfolios with $88.2 billion for more than 753,000 members. And 1/2 of those members have less than $53,000 in their accounts. As of December 31, 2013, 147 of the Fortune 500 have hired Financial Engines to help their employees and our advice is available to approximately 9 million participants.

When I look at the fundamental trends driving our growth, the breadth and strength of our relationships and the qualities, scalability and uniqueness of our services, I feel that Financial Engines is increasingly well positioned to take advantage of a significant market opportunity to deliver on our promise of providing everyone with the independent personalized retirement help that they deserve.

Now I'd like to turn it over to our CFO, Ray Sims, to discuss our financial results in more detail. Ray?

Raymond Jay Sims

Thanks, Jeff. As Jeff said, total revenue increased 27% to $65.2 million in the fourth quarter of 2013 compared to $51.4 million in the prior year period. The increase in revenue was driven primarily by growth in Professional Management revenue, which increased 30% to $56.4 million in the fourth quarter of 2013.

Professional Management revenue growth was driven by higher AUM, which reached $88.2 billion at the end of the fourth quarter, compared to $63.9 billion ending the prior year period. This increase in AUM was the result of market performance, increased enrollment for marketing campaigns and other ongoing member acquisitions, as well as contributions. Platform and other revenue was up 9% to $8.9 million for the fourth quarter of 2013 compared with $8.1 million for the fourth quarter of 2012.

Cost of revenue, exclusive of amortization of internal use software, increased 34% to $24.9 million for the quarter compared to $18.6 million for the prior year period, due primarily to an increase in data connectivity fees as revenue increased. As a percentage of revenue, cost of revenue increased from 36% in the fourth quarter of 2012 to 38% in the fourth quarter of 2013 as data connectivity expenses grew at a slightly faster rate than revenue.

As most of you already know, employee-related costs are our largest expense and include items such as wages, cash incentive compensation, noncash stock-based compensation and benefits. The expense variance I'll be talking about within each of the functional areas was driven primarily by increases in noncash stock-based compensation expense as a result of the commencement of a performance-based, long-term incentive program in May 2013 and awards to certain personnel in November 2012 and certain nonexecutive personnel in November 2013, as well as increased employee-related wages, benefits and employer payroll taxes from growth in headcount and increased annual cash compensation.

Research and development expense increased to $8.4 million for the quarter, up 24% from $6.8 million in the prior year period, due primarily to an increase in noncash stock-based compensation, as well as a decrease in the amount of internal use software capitalization as more developer hours were dedicated to updating and maintaining existing core services in the current period. As a percentage of revenue, R&D remained constant at 13% in the comparative periods.

Sales and marketing expense increased to $11.7 million for the quarter, up 17% from $10 million in the prior year's quarter. This increase was driven primarily by increased employee-related expenses. As a percentage of revenue, sales and marketing expenses decreased from 20% in the prior year period to 18% this quarter as employee-related and printed marketing materials expenses grew at a slower rate than revenue.

General administrative expense increased to $6 million in the quarter, up 40% from $4.3 million in the prior year quarter, due primarily to increases in noncash stock-based compensation expense, as well as wages, benefits and cash incentive compensation expenses. As a percentage of revenue, general administrative expense increased from 8% in the fourth quarter of 2012 to 9% in the current quarter, primarily due to noncash stock-based compensation expenses increasing at a faster rate than revenue during the same period.

Income from operations as a percentage of revenue remained constant at 20% for the comparable periods. Net income increased to $9.3 million in the fourth quarter of 2013 compared with net income of $6.5 million in the fourth quarter of 2012.

As many of you know, we look at non-GAAP adjusted EBITDA as a key measure of our financial performance. Our earnings release has a table that reconciles our GAAP net income to adjusted EBITDA.

Adjusted EBITDA in the quarter increased to $23.3 million, up 33% from $17.5 million in the fourth quarter of last year. Adjusted EBITDA is one of the metrics we use to determine employee cash incentive compensation.

We include further information about the calculation of our non-GAAP adjusted EPS in today's earnings release. Non-GAAP adjusted EPS was $0.22 per share in the fourth quarter of 2013 compared to $0.16 per share in the fourth quarter of 2012.

In terms of cash resources, as of December 31, 2013, we had total cash, cash equivalents and short-term investments of $246 million compared with $181 million as of December 31, 2012.

On February 11, 2014, Financial Engines' Board of Directors declared a cash dividend of $0.06 per share of the company's stock. A cash dividend will be paid on April 4, 2014, to stockholders of record as of the close of business on March 21, 2014.

Now on to our outlook for 2014. Based on financial markets remaining at February 14, 2014 levels, we estimate 2014 revenue to be in the range of $274 million and $279 million and 2014 non-GAAP adjusted EBITDA to be in the range of $92 million to $94 million. Using only the S&P 500 index as a benchmark for equity markets, we estimate from February 14, 2014 market levels, a sustained 1% change in the S&P index on February 14 through the end of 2014 would impact our 2014 revenue by approximately 0.58% and our 2014 non-GAAP adjusted EBITDA by approximately 1.09%, all else being equal.

While we have historically provided sensitivity based on the S&P 500 for simplicity, we encourage investors to utilize the percentage breakdown of our aggregate portfolios provided in our earnings release to run more accurate market sensitivities as international equity and bond markets performance may deviate substantially from the S&P 500 performance. The recommended indices are the Russell 3000 for domestic equities, the MSCI EAFE Index for international equities and the Barclays Capital U.S. Bond Index for bonds.

In the past, we have recommended the S&P 500 for domestic equities to calculate sensitivities, but we believe the Russell 3000 serves as a better proxy of the U.S. equities market as it captures a broader array of equities. The S&P 500 index does not fully capture overall changes in the market, especially when small and mid-cap stocks are very volatile.

With that, operator, we'd like to open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] At this time, we'll proceed to our first question, and it comes from Hugh Miller of Sidoti.

Hugh M. Miller - Sidoti & Company, LLC

Appreciate the color your guys gave us on the line items for the AUM changes for the fourth quarter. And I guess I had a question just with regards to, obviously, some of the uptick and volatility that we've seen in the first quarter of this year. You guys have previously talked about how when markets are going up and volatility is low, people are more apt to kind of stay with the program. And I was wondering if you could provide some color on whether or not you're seeing any kind of change in that with regards to the uptick in volatility we've seen so far in the first quarter.

Jeffrey Nacey Maggioncalda

Yes. Hugh, this is Jeff. So I think that the general pattern remains the same that over a long period of time, as markets are rising, usually is good for us because people attribute some of the positive performance to the way we're managing the portfolio. And over the longer term, as markets are declining, our current members kind of feel oppositely. Typically, short-term fluctuations in the market don't matter that much unless it's a few repeatedly that get people really concerned. Honestly, the market has had some of those days and weeks in the first quarter. It's still obviously pretty early in the quarter. But I think we'll see whether that -- the pattern holds up and whether the member base kind of feels like, "Hey, this is just a short blip or this is something longer." So I think -- generally speaking, we expect to be pretty similar to long-term trends that it's going to be pretty consistent cancellation rates. But it's possible that if the market drops a couple more times, people start getting a little bit antsy. It's kind of a whips off, in fact, now. It kind of goes down and it comes back up, and people aren't really sure what to make of it.

Hugh M. Miller - Sidoti & Company, LLC

Okay. I appreciate the insight there. And if we take a look at kind of the growth in AUM from net new enrollments relative to the increase in kind of the member base, it's been growing at a much faster clip over the last year or 2. I guess showing -- is that really a function of you guys kind of bringing on larger balance accounts? It looks like the assets per member has been increasing somewhat substantially. Can you just talk about what could be driving that and how we should be thinking about that relationship going forward?

Jeffrey Nacey Maggioncalda

Yes, sure. So there are a few things that you might think about in terms of the AUM growth due to enrollees and then our enrollees looking different over time. Clearly, there is the question of how much does the AUM go up because of the markets. And as we kind of said in the scripts, using just the S&P in this quarter would've probably given you not a very accurate estimate because the S&P did quite well but the EAFE index did worse, the emerging market index did worse and bonds did worse. And so the actual portfolios that we're managing did not experience the market returns of the S&P 500. Separate from that though, a couple of things that you might want to look at in terms of the AUM versus member growth. Contributions is a big factor. So even if you have the same number of members, we're bringing on about $1.4 billion per quarterly, that's what we did in Q4 and Q3, simply due to contributions. And then in the call scripts, you heard us talk a little bit about trends towards plan sponsors turning on automatic escalation. So that savings rates increase automatically and increasing default rates, which is when you get put in your 401(k) plan to start, you get started at a higher rate and then it escalates from there. So we are seeing pretty positive trends in the industry in terms of plan design, plan sponsors being more aggressive out of the gate at setting higher savings rates and then stepping up -- those up over time. So contributions is definitely helping us to grow AUM separate from the markets. And then you mentioned the third factor, which is the demographics of our participants. So as we go towards broader services that appeal to near retirees, those near retirees typically have higher balances. And as we are more able to hold onto those higher balance people with services, like Social Security guidance and Income+ and IRA management, we do expect, over time, average balances to remain higher than they were before we had those broader near-retiree services.

Raymond Jay Sims

So, Hugh, this is Ray. Just to put a point on that. A year ago, at the end of 2012, our average balance was just under $97,000, and the median was $44,000. Fast forward to now, because of all the factors Jeff was talking about, the average is just over $117,000 and the median is at $53,000. So the average balances in all the account have gone up, and therefore, the new balances, even to the extent they were identical to the ones of existing members, would be higher by about the same amounts.

Hugh M. Miller - Sidoti & Company, LLC

Sure. Yes, I know. I appreciate the -- all the color there. And I was kind of looking at kind of just the net enrollment number as opposed to -- I realize the influence of market depreciation in some of the contributions and things of that like. I wonder -- I guess you did mention previously that -- is it possible also that you're getting more plans that are kind of opt out versus opt in? And so therefore, the initial contributions from members, aside from just having larger accounts, may also be more substantial. I guess I was looking at it more from the net enrollment figure and how that's been trending and growing relative to the increase in members.

Jeffrey Nacey Maggioncalda

Yes. No, I think that there might be. As I sort of think about it, sort of a bit of a demographic shift, it does seem like some of the bigger plans we brought on in the last many quarters have typically skewed a bit more towards higher-balance, longer-tenured employees. So that might be a bit of it. But generally speaking, what I'm expecting is as we offer these broader services to near retirees, that would be the primary factor. Absent contributions and absent market depreciation, that would drive up the average balance per member.

Hugh M. Miller - Sidoti & Company, LLC

Okay. That makes sense, certainly. And then as we think about -- you've been talking for a period of time now about kind of improving the personalization and flexibility and the user experience for new members in trying to improve cancellation rates through those efforts. What's -- in your opinion, I mean, what's been the benefit we've seen maybe to date and what's a realistic timeframe to which you can reasonably see some type of benefit on the cancellation side from these efforts?

Jeffrey Nacey Maggioncalda

Yes. It really depends. So when you look at the overall needle, it's kind of impact per person x scope of deployment. And so what we're looking for, obviously, are highly impactful innovations that can really move the needle on things like voluntary and involuntary cancellations rates, et cetera, enrollment rates, et cetera, and then deployability, which is, say, how quickly you can get it out there. I think that you should expect that deployment, as has been the case for the last 15 years in our business, is a longer-term proposition. So we have what we call a discovery cycle where we're prototyping and testing lots of ideas on a more limited base of participants. In fact, we test lots of different ideas. And then we have a delivery and deployment cycle, which is quite a bit longer as you ripple it through all the different providers. And so I would say that the rate of discovery will be higher, the rate of deployment will be lower. When you mix it all together, I think that the fair expectation is we continue to hit singles and doubles. We incrementally deploy these things throughout the installed base over multiple quarters, sometimes multiple years. And then there probably isn't going to be -- I mean, it's possible, but a home run type of innovation that is able to be deployed within a quarter or 2. And when you look at our outlook for 2014, we do bake in what we think are reasonable estimates for discoveries that move the needle and estimated deployment timelines as well. So that's all incorporated in our 2014 outlook.

Hugh M. Miller - Sidoti & Company, LLC

Okay. I appreciate that. And then the last question I had was -- I believe you had commented that kind of -- we did see a noticeable pickup in AUC increase in the third quarter and that you guys kind of hadn't been able to go out there and do all of the enrollment campaigns that you would've normally been able to do and that those are still ongoing. Can you just give us a sense as to either the magnitude of the plans that you're kind of still trying to do enrollments for and any particular reason why maybe it wasn't kind of done in the fourth quarter?

Raymond Jay Sims

Yes. So, Hugh, this is Ray. When we take on AUC, just to remind everybody, it's all of the assets in the plan. And we only count AUM when we've had enrollment. The timing of the campaign is largely at the request of the sponsor. And they have to balance it against all the other things they're doing with their employee population, whether it's open enrollment or other changes they're making to their assorted plans. Historically, the bulk of our campaigns begin in the second and third quarters, because that's a quarter where employers can focus on what we're doing as opposed to all the other things that tend to happen at the beginning or at the end of the year. And campaigns often overlap a quarter. So it's not unreasonable to think that the large volume of campaigns -- of AUC, rather, that we brought on late in 2013 would have their campaigns in the middle 2 quarters of 2014, and some of those campaigns could end in the last quarter of 2014. And when we built, again, as Jeff will often hear, one or the other will say, the chorus is, all of that is built into our outlook for the year. I would temper that by saying that I tend to be cautiously pessimistic and recognize the potential delays before I recognize the potential upside, and I wait for that to be more real.

Operator

Mike Grondahl, Piper Jaffray.

Michael J. Grondahl - Piper Jaffray Companies, Research Division

The first one is could you talk a little bit about how you market the Social Security guidance, that new service, if you will? If you're rolling it out at 16 plan sponsors who also have Income+, how do the members hear about it, learn about it? Could you go over that?

Jeffrey Nacey Maggioncalda

Yes. I'll give you a rough sketch. It'll be specific to Social Security but you can think of it a little more broadly as a -- if you will, an awareness and engagement platform, sort of the system of strategies by which we make sure that employees become aware of these services. One of the things about Social Security that we really like is the fact that the individual doesn't have to pay for anything. It's just part of the service offering. And plan sponsors, of course, like to promote services that are universally beneficial and don't cost money for the employees. In the case of Social Security, the kinds of things that we'll be doing to promote awareness, and we're sort of still crafting the suite of awareness strategies, are things like e-mails that would go out from the company saying, "Hey, Social Security's pretty important. You might not have known that there are over 8,000 combinations, and you and your spouse could have hundreds of thousands of dollars more if you do this the right way." There are placements on our integrated enrollment with the provider websites, where when someone logs in to check their balance, it's like, "Hey, did you know that the improvement from Social Security could be worth more than your whole 401(k)? Click here and you can actually see how to do it." You can imagine on-site webinar -- on-site seminars where they're like workshops for older people getting close to retirement, thinking about Social Security, go and really learn about Social Security. We have actually trained a portion of our advisors, specialists -- advisor representatives to be Social Security specialists. So they're very expert at understanding the Social Security rules. They will be doing on-sites and actually educating people in workshops about how to do these. And then in terms of how the individual actually consumes the guidance, if you will, they can either get it online in a self-service online experience. And at any point during that experience, they can click a button, talk to an advisor, actually do screen sharing with the advisor. The advisor can actually step them through the whole Social Security claiming process. For Social Security, like your 401(k), is just one piece of a bigger retirement income puzzle. And so Social Security, we think, we have found to be a pretty interesting engagement mechanism because a lot of people are pretty interested in it and it's a part of a bigger conversation once you start there.

Michael J. Grondahl - Piper Jaffray Companies, Research Division

Got you. That's helpful. And then you talked a little bit about the defined benefit sort of pension derisking opportunity. How do you guys think up just sort of capture some AUM from that?

Jeffrey Nacey Maggioncalda

Yes. At -- so I think there's sort of a direct and there's an indirect tie to what we're doing and the potential trends in some of the activity we've already seen with respect to pension derisking. The direct trend, if it were to materialize, would be that when a sponsor offers to have participants take a lump sum as opposed to a pension, those participants need some help, how do I evaluate whether I should take a check or take a lifetime paycheck? How do I figure out what -- how much could I spend if I did take the lump sum? And is this a smart thing to do for me and my family? So there's certainly a world where if we kind of built out a service that was really tailored to helping families with that lump-sum question, we might be asked to actually help them with that lump-sum question. More indirectly, even if we didn't have something that was very specific to that question, there is certainly still the question for an individual household, which is do I take a pension or do I take a lump sum? Well, how does that fit into the rest of the picture? Do I have other income from other sources? What about Social Security? Does my spouse have an IRA account? Do I need this lump sum? Do I need that pension? And even there are points where you would integrate the pension lump sum with Social Security. Should I use some of that lump sum to defer Social Security? So again, it becomes a very holistic problem that requires a fairly holistic solution. And we expect that anytime a sponsor gets interested in a certain piece, it creates an opportunity to come in with our holistic solution.

Operator

Brian Hogan of William Blair.

Brian Hogan

Question on the guidance or outlook, I guess. On October 31 is when you gave your -- well, that was when your guidance was based on market levels at that point. And now you're basing them on February 14. Markets are up nearly 5% since then, but yet you maintained guidance. Can I just understand the delta, please?

Raymond Jay Sims

Yes. Brian, this is Ray. We kept putting the -- "Your mileage may vary" warning on the S&P for -- for quarters, and we talked about it a little more this quarter. So let me talk about the factors that have led to us holding the numbers flat. We observed that in the fourth quarter, the S&P was up 10.5%. If you disaggregate that into where our assets really are, the Russell was up 10.1% and about 49% of our assets kind of correlate with that. The MSCI EAFE, which is the international average we track, was only up 5.7%. And of the 26% of our assets that are international, fully 5% are in emerging markets and that return was a hefty 1.8%. And then bonds were actually down 0.1%. So when you look at the weight average of that, the increase wasn't really all that big. And so that led to a little bit of tempering. And that was the largest single element. In addition to that, there are some sponsors who are changing record keepers. One of which is a large termination, which we know will be happening and so we've baked that in. Also, there's some move amongst sponsors from direct to sub-advised provider relationships. As we've said in the past, the economics are about the same. But sub-advised sponsors, we get paid net, not gross. So the growth in the revenue coming from a sponsor who has transitioned from a direct to a sub-advised relationship is a little bit lower. And there's one very large campaign in our future, which the sponsor has requested to be delayed a little bit. And they want the first campaign to be sort of a customized version of what we normally do. And we have found when initial campaigns are customized away from our best practices, enrollments typically are a little bit lower. And as I pointed out earlier, I tend to be cautiously pessimistic about these things. So we've used a lower enrollment rate because of the planned customization. We may indeed do better. But starting out with those assumptions, when you net it all through, we've held the outlook flat.

Brian Hogan

All right. That's very helpful. And then questions on operating margins and I guess related to in that is stock comps. I assume stock comp's based on where your share price is. Is that true?

Raymond Jay Sims

There's a lot of factors that enter into it. Let me go through a few of them just to remind you. We did not have a stock grant in the year following the IPO. That is 2010. We began regular stock grants in late 2011. And since they typically have 4-year vesting, the stock comp increases until you're at steady state, which is 1 year from now, which will be our fourth year of those regular grants. The grants are typically tied to value as opposed to share. So as the share price goes up, the number of shares which we grant, either as options to new employees or to RSUs in the refresh grants and a combination to execs, and so those values are constant but the additive effect continues. In addition, in our last proxy, we discussed a long-term incentive plan, which was a contingent grant of performance shares which will vest if we hit some very aggressive performance targets at the end of 2015 and at the end of 2017. And we accrue each quarter based on the likelihood of hitting or partially hitting those objectives. And finally, in Q4 there are typically some catch-up adjustments made to stock comp, and they were a little larger than usual in this Q4. So it's approaching steady-state on the value of stock comp. But as the share price goes up, the number of shares issued, either as options or as RSUs, will decline because it's based on value. And the only other impact of a rising share price, and this is a bit arcane, is when you look at the fully diluted shares outstanding, it's calculated on something called the treasury stock method where you assume all the in-the-money options are exercised and the proceeds are used to repurchase shares at the average market price. As the average market price goes up, you repurchase these phantom shares at a higher price so you repurchase few of them -- fewer of them so the denominator tends to rise. And that's used for the earnings per share calculation. So that's the extent to which the share price does and does not influence stock-based compensation.

Brian Hogan

Okay. And then can I go back to the previous questions. How do you handicap the conversations you have with the -- your sponsors that have the defined benefit pension plans? Are they more advanced discussions with Ray or not Ray but documents in the direct and indirect ways into there, or is it more of an early-stages conversations? How do you characterize those?

Jeffrey Nacey Maggioncalda

Yes. I would characterize them as earlier. I think that when pensions were way underwater, a lot of companies were just thinking about how do I get up to some reasonable funding levels. Some of them that were better funded started taking some action with respect to term-vested folks. As the funding levels came back, the consultants are -- the pension consultants are getting much more interested in projects to help derisk these portfolios -- these defined benefit plans. So I'd say that the industry even is in the earlier stages. I, frankly, think a lot of it is going to be based on demographics, too, that you're going to start seeing a lot more folks with vested DB plans retiring. And so I think there'll be a lot of more conversations about this. It's still in the relatively early stages.

Raymond Jay Sims

Yes. It's -- Jeff quoted a statistic that said, in aggregate, pension plans are now 93% funded. For decades, people would've thought they died and went to heaven to think that their plan was 93% funded. But that last 7% can be very expensive to fund. So you can do lump sum distributions. But companies are sitting on record amounts of cash earning approximately nothing. So the ability to allocate some of that corporate cash to pay the 7% and then for once and for all get these liabilities and income statement rags off the financials can be pretty powerful. But it's a long-term, board-level decision. It's been going on for a while, and the numbers are fairly attractive. And if they happen, they tend to happen in really big pieces. But it's still a potential that's out there.

Brian Hogan

And one last question. What are you seeing in regards to pricing? Is it -- seeing pricing from competitors putting pressure on yours, or is it target date funds putting pressure? Or do you actually see it being held steady?

Jeffrey Nacey Maggioncalda

Yes. I think -- this is Jeff. I think that -- yes, there remains a lot of pricing pressure out there, which is why it's kind of in the script every quarter is -- and most of it, the most intense portion of the pricing pressure that we feel is the decreasing pricing on target date funds. I mean, it's a near substitute that really has been dropping in price, particularly among the largest sponsors. Now once we get to a certain very, very, very low price, you can't go a whole lot lower. And so I think that at some point, those things are going to hit a pricing level that is just what it's going to be, maybe in the single digit or teens of basis points among the largest sponsors. What we're doing, and you can sort of see it quarter-over-quarter, is we're continuing to add more and more value, differentiate more and more in terms of the scope and nature of the services to maintain effectively our price premium above those target date funds. But that really is the biggest source of pressure that we're feeling, is justifying the value compared to a simple single account, diversified, growth-oriented portfolio and a target date fund. On the competitive side, not a lot. And particularly, as we continue to broaden out the scope of our services, get these connections with all the record keepers, get adoption of Income+ now across virtually all of our providers and over a couple hundred billion of AUC, we're making pretty decent progress in establishing ourselves as a set of services for retirement income that, frankly, target date funds don't really have a good answer to right now. And so we think we're doing a reasonable job mitigating that pricing pressure, although that pressure is definitely still there.

Raymond Jay Sims

Yes. And something else that's going on, which I think is good news but is worth chatting about, is I mentioned our average balance this quarter was about $117,000. For large accounts, we have breakpoints. So typically, the first $150,000 is at the highest price point. Assets above that get a reduction, and assets above about $250,000 get a further reduction. So as the average goes up, more of our member accounts exceed at least the first and, in some cases, the second breakpoint. And that can result in a lower average price, although it typically is a very small fraction of 1 basis point to the extent to which it affects the population. But the good news is the accounts are much larger, we're collecting more fees. But on the amounts over $150,000 and over $250,000, the incremental fees are slightly lower on a per-account basis. And as we get people closer to retirement in good markets, more accounts hit those levels. And also, the mix of direct and sub-advised can fluctuate between quarters. And again, the economics are similar. But on the GAAP financials, the basis points from sub-advised, since they come in net, will appear to be lower as well. And then I'll sing the chorus that all of that is baked into the outlook we give every quarter.

Operator

Mayank Tandon, Needham & Company.

Mayank Tandon - Needham & Company, LLC, Research Division

Jeff and Ray, I just had 2 points of clarification. First, on the involuntary cancellation, did I hear you right that there was about a $800,000 impact -- or sorry, $800 million impact in the fourth quarter from one sponsor moving to another record keeper? And then did you say there was more to come, or...

Jeffrey Nacey Maggioncalda

Yes. You heard close to that, which is that we did have about $800 million of involuntary cancellations due to sponsor terminations, and there was one that happened to be a passive client. So that's pretty decent-sized AUM that represented the significant majority of that number. So we mentioned our sponsor retention rates remain at 94% weighted -- equally weighted and 98% weighted by AUC. But we did have a pretty large sponsor who was passive, had many hundreds of millions of dollars of AUM, not the full $800 million but a substantial majority of that move over to a different record keeper.

Jeffrey Nacey Maggioncalda

And that flows through into next year's outlook as well.

Mayank Tandon - Needham & Company, LLC, Research Division

So that's what you're referring to, Ray, in terms of just tempering your expectations because of the impact of these terminations?

Raymond Jay Sims

Yes.

Jeffrey Nacey Maggioncalda

Yes. The -- you also asked, do we expect to see more of them coming? It's hard to say for sure. You don't have a really good view on this. But sponsors have definitely been switching record keepers. We have connections with almost all the record keepers who are involved in those switches. So we do a pretty decent job. But one of the things we've seen is as the fee pressure has put a lot more plans out to bid, a lot more RFPs, there seems to be a much higher level of activity among consultants evaluating record keepers and evaluating fund managers and trying to find the best deal out there. And at least anecdotally, it feels like there's more evaluation and, potentially, more switching that happens. So that's a possibility, but I wouldn't call it a trend at this point.

Mayank Tandon - Needham & Company, LLC, Research Division

Okay. That's helpful color, Jeff. And then just one quick follow-up, the guidance. Ray, when you provided guidance back in November, you also gave guidance based on normal market conditions. Is that still holding true, or is that guidance off the table?

Raymond Jay Sims

No. I think the outlook that we just updated to is as of where markets were on Valentine's Day. And the changes we mentioned, the sensitivities are from changes assuming they happened on February 14 and persisted for the whole year. And I once again urge people to disaggregate into those different indices as opposed to just use the S&P 500. But subject to those, they -- it continues to be based on typical markets.

Jeffrey Nacey Maggioncalda

But, Mayank, I think you're probably referring to a practice that we've had for 2 years, which is when we give the full next year's outlook.

Raymond Jay Sims

In Q3.

Jeffrey Nacey Maggioncalda

In Q3. We do it both flat and assuming typical markets. We don't usually do that every quarter. In the quarters, we usually just say flat and then bake whatever you want in. But at the end of the year, when we give the full next year, we have done both of them, flat and growing. But the one that we're doing now is the flat one, which is our typical practice on a quarterly basis.

Raymond Jay Sims

That's correct. Again, just to clarify, the $274 million to $279 million revenue is without any market impact. So you get that raw and you can put your market assumptions on it, and the same thing for the $92 million to $94 million of adjusted EBITDA. That's before any assumptions that the market will move from its closing levels on February 14.

Mayank Tandon - Needham & Company, LLC, Research Division

Okay. So the way I read it is you're not changing guidance based on what you gave back in November on an apples-to-apples basis. Is that fair?

Jeffrey Nacey Maggioncalda

That's -- it's pretty close. Obviously, there [indiscernible]. But that's pretty close.

Operator

Avishai Kantor of Cowen and Company.

Avishai Kantor - Cowen and Company, LLC, Research Division

Quick question. Can you talk specifically about the progress with your digital...

[Technical Difficulty]

Jeffrey Nacey Maggioncalda

I think I might've lost you. I think I know what you're going to ask. But let me just pause and see if you're there, and you can finish up the sentence.

[Technical Difficulty]

Jeffrey Nacey Maggioncalda

Yes, sorry. I think you were going to ask about the integrated enrollment, the digital marketing.

Avishai Kantor - Cowen and Company, LLC, Research Division

Exactly. Can you talk a little bit about the progress in that feature, please?

Jeffrey Nacey Maggioncalda

Yes. So the progress kind of -- I'll try to describe it simply and we can go into more detail if you like. The way that I think about the progress comes down to kind of 3 primary factors and then sort of a process. The factors are can you get placements on -- into the right spots for the digital marketing. This is mostly integrated enrollment with the providers, and we've done a pretty decent job getting real estate there where we can serve up the message. The second one is when you present something, will they click on it. And the third is when they click on it, will they enroll. We've done a pretty decent job and have pretty good coverage across all of our record keepers. I'd say that we're -- there's another part of the puzzle that's important for us, which is the ability to test and iterate quickly. So you could put up personalized message for different folks. That does require permission from the provider and often the sponsor. I would characterize our progress as slow and steady. We are running a number of different experiments. What slows it down a little bit though is that we do have to work with the provider partners to do these experiments and often with the sponsor, as well. But we have found various things that improve the click rates and that improve the conversion rates. And so I'd say that so far, I would characterize it as a good platform for incremental progress. We continue to test ideas and a little bit more breakout ideas. But our job is to kind of continually deliver singles and doubles and test things that could potentially be a home run if we connected. But what you're seeing is generally more of the incremental progress at this point.

Operator

At this time, we'll go ahead and conclude today's conference. We thank you all for attending. Please disconnect your lines. Take care, and have a great day, everyone. Thank you.

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