SEI Investments' (SEIC) CEO Al West on Q3 2016 Results - Earnings Call Transcript

| About: SEI Investments (SEIC)

SEI Investments Company (NASDAQ:SEIC)

Q3 2016 Earnings Conference Call

October 20, 2016 4:30 PM ET

Executives

Al West – Chairman and Chief Executive Officer

Dennis McGonigle – Chief Financial Officer

Joe Ujobai – Executive Vice President, Head of Private Banking

Wayne Withrow – Executive Vice President, Head of SEI Advisor Network

Paul Klauder – Executive Vice President, Head of SEI Institutional Group

Steve Meyer – Executive Vice President, Head of Investment Manager Services

Kathy Heilig – Vice President, Treasurer and Controller

Analysts

Chris Shutler – William Blair

Chris Donat – Sandler O’Neill

Tom McCrohan – CLSA

Robert Lee – KBW

Patrick O’Shaughnessy – Raymond James

Operator

Ladies and gentlemen, thank you for standing by and welcome to the SEI Third Quarter 2016 Earnings Call. At this time all participants are in a listen-only mode. Later, we’ll conduct a question-and-answer session; instructions will be given at that time. [Operator Instructions] And as a reminder, this conference is being recorded.

I would now like to turn the conference over to our host Chairman and CEO, Mr. Al West. Please go ahead, sir.

Al West

Thank you, and welcome, everybody, and good afternoon. All of our segment leaders are on the call as well as Dennis McGonigle, SEI’s CFO; and Kathy Heilig, SEI’s Controller. I’ll start by recapping the third quarter 2016. I’ll then turn it over to Dennis to cover LSV and the Investment in New Business segment. After that each of the business segment leaders will comment on the results of their segments. Then finally Kathy Heilig, will provide you with some important company-wide statistics. And as usual, we will field questions at the end of each report.

So let me start with the third quarter 2016. Third quarter earnings increased by 9% from a year ago. Diluted earnings per share for the third quarter of $0.53, represents a 13% increase from the $0.47 reported for the third quarter of 2015. We also reported a 6% increase in revenue from third quarter 2015 to third quarter 2016.

Plus during the third quarter 2016, our non-cash asset balances under management increased by $11.3 billion. SEI assets grew by $5.8 billion and LSV assets grew by $5.5 billion. In addition, during the third quarter of 2016, we repurchased approximately 1.6 million shares of SEI stock at an average price of $45.74 per share. That translates to over $73 million of stock repurchases during the quarter.

Finally, during the third quarter, we capitalized approximately $13.6 million of new technology development, of which approximately $11.3 million was for SEI Wealth Platform development, and we amortized approximately $11.3 million of previously capitalized development.

Now, turning to sales, our net new sales during the quarter were $14.6 million, of these sales $11.6 million are recurring revenues and each of the segment heads will address the third quarter sales activity. As we discussed last quarter, we are increasing the investment we are making to SWP’s functionality and infrastructure, particularly related to our software and business processing offerings to the jumbo and large bank market.

Also we are investing into the migration of advisors and banks from TRUST 3000 to SWP as well as the installation of large new investment management clients. The third quarter’s results reflect some of these increased investments. But during the next quarter and during the next two quarters, the rate of investment will peak and after that we expect the rates to first flatten and then reduce.

I would note that while we are making these investments, we are diligently ensuring the investments are absolutely necessary and are delivered correctly and efficiently. At the same time, we are tightly managing total company spending. Now during the third quarter, the advisory team is successfully migrated another tranche of larger and more sophisticated advisor clients through SWP. They are readying another tranche of large advisors scheduled for April of next year as the move to the SWP continues.

In the IMF section, sales efforts have yielded number of large new clients, who are now immersed in sizable conversion projects. These conversions are a testimony to the value of our solutions in the markets we serve but require upfront investments. In the institutional investor segment, we are increasing our focus on a number of new market segment opportunities, the newest being fiduciary management of defined contribution plans and larger foundations and endowments. Now I’m continually encouraged by the feedback I received from clients and prospects across our company’s markets. These positive feelings in our client bases are reinforced by our sales activities.

Now this concludes my remarks, so I will now ask Dennis to give you an update on LSV and the investment in new business segment. I’ll then turn it over to the other business segments. Dennis?

Dennis McGonigle

Thanks, Al. Now before I get started, I just wanted to thank everyone for accommodating our new time for our earnings calls. We’ve gotten feedback until last couple of calls from some of you that this was preferable to do the call after the market closes or before the market opens, so we chose after the market closes.

I will cover the third quarter results for the investments in new business segment and discuss the results of LSV Asset Management. During the third quarter of 2016, the investments in new business segment continued its focus principally on the ultra-high-net-worth investors segment through our private wealth management group and the operational development of testing of a web-based digital device offering.

During the quarter, the Investments in New Businesses segment incurred a loss of $3.8 million, which was flat to the second quarter of 2016. There has been no material change in this segment. Regarding LSV, our earnings from LSV represent our approximate 39% ownership interest during the third quarter.

LSV contributed $32.6 million in income to SEI during the quarter. This compares to $30.3 million contribution for the second quarter of 2016. Assets grew approximately $5.5 billion for the quarter and LSV experienced slightly negative cash flow during the quarter offset by market growth. Revenue at LSV was approximately $103.3 million, of which approximately 1% was performance fee related.

A quick comment on the company. Last quarter, we discussed our expected expense growth over the third quarter and fourth quarters of 2016. As our results reflect, we were able to keep total expense growth quarter-to-quarter in the 3% range. As we look forward, we’re still expecting a 4% to 6% incremental increase in the fourth quarter with some carryover into the first quarter really due to the timing. As always we will do our best, as Al mentioned, to manage expenses as we grow the company.

I will now take any questions you have.

Question-and-Answer Session

Operator

[Operator Instructions] And we first turn to the line of Chris Shutler with William Blair. Please go ahead. Your line is open.

Chris Shutler

Hi, Dennis, good afternoon.

Dennis McGonigle

Hi, Chris.

Chris Shutler

Hi. I just wanted to first just confirm on the expense commentary that it’s basically unchanged as may be pushed out just a little bit versus what you have communicated before? It sounds like that’s the case.

Dennis McGonigle

Yes, and I think we’re having a little bit of success in tightening down a little bit, but that’s essentially the case.

Chris Shutler

Okay, great. So, we’re still looking at about 1.1 billion next year of expense.

Dennis McGonigle

And yes, I think that’s about right.

Chris Shutler

Okay. And then on LSV, their performance over the last year or so hasn’t been quite as strong. I think it maybe picked up in the quarter. So maybe you could just talk about their performance in the quarter and just what the pipeline looks like there? Has the near-term performance hindered the pipeline at all?

Dennis McGonigle

Yes, I’d say it hasn’t. In general, their third quarter performance, relative performance was good. So they had a good rebound performance. When you look at their cash flows to a combination of three things, it’s they had new cash flows in from new clients. So they continue to be able to sell particularly in their large cap product line, but some of their other products are still open. They did lose some cash flow out of it from existing clients, so they didn’t lose the client, but they lose some cash flow from rebalancing, part of that could be performance related. And then they have lost a couple of clients. And I’d say that’s a little bit more in my general understanding is a little more fee related.

LSV is very – is very convicted about their abilities and their fee ranges and they are not going to get, I would say bidded down in the market. But I don’t think their performance or their three year, five year numbers are okay. They’re still relatively good. And they feel pretty good about their ability to continue to sell.

Chris Shutler

Okay, thank you.

Dennis McGonigle

You’re welcome.

Operator

And next we turn to the line of Chris Donat with Sandler O’Neill. Please go ahead.

Chris Donat

Hi, Dennis, just wanted to ask one more on LSV, there is a comment in the press release about increased personnel expenses at LSV. Is that a one-time thing for the quarter? Is that something that’s going to be ongoing from an LSV perspective?

Dennis McGonigle

That’s really – and that comparative is really year-over-year, so it’s last year’s third quarter to this year’s third quarter. So kind of trends along with what’s happened at the firm over the past year, not particularly to a single quarter. And what we did as a partner and what the firm has done is increased some of the cash compensation levels to certain employees because we’ve generally moved away from some of the bigger equity transactions activity we had three, four, five years ago. When you read our Q or K and you see those loan guarantees are related to those types of events.

Chris Donat

Yep.

Dennis McGonigle

So there seem to be less of those and we have some minor equity distributions that occurred generally in the April timeframe. And the way they have counterbalanced the equity side with – for their employee bases increased cash compensation. And whereas a largest partner, we’re certainly willing to support that given their success.

Chris Donat

Okay, understood.

Dennis McGonigle

There are still, the other margins in the firm are as you saw last quarter really haven’t changed much. They are still in the 80% to 85% range.

Chris Donat

Yes.

Operator

[Operator Instructions] Next we turn to the line of Tom McCrohan with CLSA. Please go ahead.

Tom McCrohan

Hi, Dennis. I don’t know if this is too early to ask the question on Wells Fargo and Regions or any update that you can provide for either of those two accounts?

Dennis McGonigle

Yes, I think - I will just pass the speaker to Joe, he can address that because he is in the best position to do so.

Joe Ujobai

Hi, Tom, how are you?

Tom McCrohan

Good, Joe. How are you?

Joe Ujobai

Good. So as you know a big project for us is the conversion of those two clients as well as the underlying technology and infrastructure build development and infrastructure build. So both of those client’s conversions are on time and we’re meeting all of the goals that we’ve set with them. So we’re in a good shape with both firms.

Tom McCrohan

Great, that’s all I had. Thank you.

Operator

Speakers, we have no further questions in queue at this time.

Al West

Thank you. Thank you, Dennis. Excuse me. And Joe, now, I am going to turn it over to Joe Ujobai to discuss our private banking segment.

Joe Ujobai

Thanks, Al. I will start with the financial update on the third quarter for the Private Banking segment. Third quarter revenue of $116 million was up $1 million from the second quarter. Operating profit of $10.4 million was down $1.5 million from the second quarter due to increased investment spending from the SEI Wealth Platform. As we discussed on the previous call increased investment has been triggered by sales to larger firms and will ultimately help us grow our business in very large and growing market segments.

During the quarter, we had net recurring revenue sales events of negative $3.5 million, largely due to the loss of two smaller TRUST 3000 clients. Modest TRUST 3000 client losses have been tied to merger and acquisition activity and extremely competitive pricing at the smallest legacy clients. One-time or professional services sales events were $1.2 million for the quarter. Our SWP sales activity remains sizable and is focused on some of our largest TRUST 3000 clients.

We also have new name activity in both the U.S. and U.K. as well as net new cash flows and cross-sell activity with some of our current SWP clients. Although I am disappointed that we aren’t announcing new names this quarter, I’m encouraged by the activity in the market as always the sales cycle is longer and more complex than any of us would like.

Regarding the backlog, late in the quarter, we installed two new SWP clients: a new name client MassMutual Trust and a TRUST 3000 client Webster Bank, both of these conversions went well. Our total signed, but not installed backlog for the SEI Wealth Platform is now $41 million in net new recurring revenue. We expect to install $21 million by the end of 2017 and the remaining to install in later years.

Regarding expenses going forward, as we discussed during second quarter earnings call, we are increasing investment in the SEI wealth platform in three key areas. Number one, additional development to deliver the platform in a Software as a Service model to the world’s largest wealth managers. Wells Fargo will be our first client in this model. Number two, additional development largely around front-end services to deliver a fully integrated platform in a business processing as a service or BSP model to large wealth managers. Regions Bank is our first client in this model.

And number three, underlying infrastructure to deliver scale, operational efficiency, reliability and data security. During the third quarter, we began to ramp up of increased investment although a bit more slowly than expected. We will see continued investment during the next two quarters. We are making good progress though on all deliverables and the conversion of the backlog is proceeding as scheduled.

As a quick update on the UK, net cash flows from certain clients to SWP were approximately $700 million for the quarter. Assets under administration are now approximately $40 billion. Our asset management distribution business had challenging quarter given market and currency volatility. Assets under management were relatively flat at $18.6 billion. We have a growing and diversified pipeline of new distributors and expect to see growth over time.

In summary, we have much work to do but we are making good progress as we enhance the solution to grow the business. Are there any questions?

Operator

[Operator Instructions] And our first question comes from the line of Robert Lee with KBW. Please go ahead.

Robert Lee

Hi, good afternoon, Joe.

Joe Ujobai

Hi, Robert.

Robert Lee

Question real quickly on the new business on the net new business. So is it possible to just get a sense of if you kind of exclude those two TRUST 3000 small TRUST 3000 clients you lost, I mean you did sign on a couple of – bring on two small SWP clients, who did a positive cash flows on SWP in the UK. So kind of if we wanted to look under parse that a little bit more and kind of look at what maybe some of the ongoing business did in the quarter and get a sense of that?

Joe Ujobai

So as I mentioned, we announced the sales event, loss of two smaller TRUST 3000 clients. One was a merger and acquisition situation and the other one was a very competitive re-contract situation again at a smaller client. And so those are disappointing but in general most of our trusted accounts and clients are very enthusiastic and interested in the SEI wealth platform. The two clients that we converted at the very end of the quarter, I mean literally the very, very end of the quarter, had signed in previous quarters and so those sales events were recognized six to 12 months ago.

But in general, I think the activity is pretty good. In the UK where we have 18 or 19 clients, we are seeing opportunity for cross sell as well as those firms continue to grow net cash flow onto the platform. But I think the biggest really change since the Wells and Regions announcements have been our larger clients in the U.S. have taken more interest around the opportunity to move toward [indiscernible] because they are at the larger end of the spectrum, those are complex and longer decision processes, but we are pretty busy on the sales side.

Robert Lee

And maybe to follow up and I suspect I know the answer but since I have gotten this question a couple of times I will ask it. Any reason to expect that Wells’ recent issues will at all affect your contract with them or expectations or timing around bringing them on board?

Joe Ujobai

At this point there is no reason to expect that that would cause any delay in the delivery of the SEI wealth platform.

Robert Lee

Great, that was it. Thank you.

Joe Ujobai

Thanks.

Operator

And next we turn to the line of Patrick O’Shaughnessy with Raymond James. Please go ahead.

Q - Patrick OShaughnessy

So the question is with the investments that you are making in SEI Wealth Platform, how would you describe your technological advantage relative to our competitors? And I don’t if you think about it in terms of years; it would take them X number of years to catch up to you or X dollars investment spending. But how big of a technological lead do you think you have at this point?

Joe Ujobai

We think it is pretty significant. Most of our competitors are on mainframe base legacy platforms which makes it difficult to I would say provide what the market is looking for more efficiency and opportunity for advisors and more efficiency and opportunity for the investors to be a part of their portfolios. So I think we are from sort of an underlying architecture standpoint, we are in pretty good shape and I think we have also been pretty – made some great progress around functionality that takes us not just in the principal and income trust business but into other areas of wealth management inside of the banks.

Q - Patrick OShaughnessy

Got you and then a quick follow-up. So let’s assume next quarter you have the happy news of you have another big client announcement. Would there be additional incremental spend to support the implementation with that client or did you kind of figure with what you are doing with Wells and with the Regions that gets you 95% of the way there for any additional big clients that you sign on?

Joe Ujobai

I think that the two business models that we are building out, the large Software as a Service model for Wells and the wholly integrated front to back platform for Regions Bank gives us the bulk of what we need. There will always be some customization. Often time the client will pay for that but it really gives us I think the two models that we believe are the biggest opportunities in the coming years.

Q - Patrick OShaughnessy

Great. Very helpful. Thank you.

Joe Ujobai

Thanks.

Operator

And next we turn to the line of Chris Shutler with William Blair. Please go ahead.

Chris Shutler

Hi, Joe.

Joe Ujobai

Hi, Chris.

Chris Shutler

I just wanted to confirm, so total net sales events for the Company I think were $14.6 million in the quarter so the impact of those two losses was what? I just want to make sure I have that number right.

Joe Ujobai

That’s $3.5 million.

Chris Shutler

$3.5 million, okay, got it. And then let’s see on the ASP model with SWP, which obviously Wells is going on, I mean, how confident are you guys at this stage that there will be demand that actually materializes for that? I mean where are you in discussions with some firms on that?

Joe Ujobai

I think some of the largest firms, that is certainly the direction they want to head. And I think we are seeing on the outsourcing side, we are seeing larger firms than historically we have sold to. So I think Regions is an example of a larger firm. A couple of years ago we moved SunTrust from ASP to BSP. So we see in that what we call large or regional space a real powerful business model with outsourcing. But the very, very largest wealth managers I think both here in the US and globally are looking to really run the operations themselves. And so we think there is a pretty big market there. We think there is opportunity to go to new segments within the wealth management space with that model and we are actively talking to both current clients and prospects in that space.

Chris Shutler

Got it, okay. And I guess on the expenses, Joe, to what extent were the – maybe a little below what most of us expected on expenses, to what extent was that due to just lower sales activity versus it taking a little bit longer to ramp up?

Joe Ujobai

Not that much from a lower sales perspective. It is really mostly any expense increase is really mostly tied to really two things, continued development as well as some of this infrastructure build for these two very large and important clients.

Chris Shutler

Okay. Lastly, sorry for all of the questions, on the professional services or kind of the implementation revenue, can you just give us some sense of as we look out through 2017, how we should think about that order of magnitude?

Joe Ujobai

So the one time I think as we certainly sell more clients one time will increase. And so we still have a ways to go to install Wells and there is one time associated with again large conversions particularly in the ASP space where we work on data conversion as well as integration to other systems inside the bank. And again as we would announce additional large clients, I think there is an opportunity for that one time to continue to grow.

Chris Shutler

Okay, so pretty minimal next year?

Joe Ujobai

Dependent on how much we can sign in the coming quarters. But yes, it is an increasingly important part of our revenue because there is a lot of work to be done and then an opportunity for us to drive revenue there.

Chris Shutler

I am just trying to get a sense within what you have signed thus far, if it is going to be a material number next year or not?

Joe Ujobai

Again, we have a decent amount of activity associated with the current pipeline, the current backlog and then it will depend as we sign bigger deals.

Chris Shutler

Okay, thank you.

Operator

[Operator Instructions] Next we turn to the line of Robert Lee with KBW. Please go ahead.

Robert Lee

Thanks and thanks for taking my follow-ups. Joe, I guess two questions. The first, I mean you have mentioned seeing some increased competition among kind of smaller TRUST 3000 clients and one of your competitors was acquired so I guess they have a reason to try to maintain or grow their business. So do you have any sense if you look over the next couple of quarters are you aware of – do you expect this kind of modest attrition of small accounts to kind of continue for a while? So if we are looking at your new sales events outside of you announcing some decent sized SWP relationships that we could see this kind of slight drag for a while?

Joe Ujobai

You know, it is hard to predict that. We are spending a lot of time with our clients, we are talking to them about the future and the wealth platform. I think that there are some smaller firms that may not necessarily have a growth strategy when it comes to wealth management and so we are seeing some of our competitors come in at fairly substantial price discounts. But honestly where there is a growth agenda and a strategy to build out wealth management, I think we are in pretty good shape.

Robert Lee

Okay. Maybe just a follow-up. I am just curious, to the extent and I know it has been frustrating for everyone that how long it is taking to sign up a client or complicated. But to what extent maybe after you signed up Wells and Regions and you kind of go back and start doing more work to try to figure out the conversion and what you need, I mean is any of these slowdown that you think – can you attribute any of that to the fact that maybe you guys had to go back and kind of rethink maybe your pricing dynamics or mechanisms or how you were thinking about charging that maybe slowed down the process for some period of time?

Joe Ujobai

I think we have evolved our pricing model. When we first started talking about the platform, we talked about a bundled model. We have evolved that I think over time that there is pricing for sort of core functionality and then more a la carte pricing as clients would take advantage of some of particularly the front end. We have also seen opportunities in the space around disaster recovery and data security where some of the larger banks want to significantly upgrade that. So the pricing model has evolved but it remains still largely assets under administration based which I think is a win-win for everybody and I think our clients generally prefer that over the account-based model.

Robert Lee

Great. Thanks for taking my follow-ups.

Joe Ujobai

Thanks.

Operator

And speakers, we have no further questions in queue at this time.

Joe Ujobai

Thank you.

Al West

Thank you, Joe. Our next segment is investment advisors. Wayne Withrow will cover this segment. Wayne?

Wayne Withrow

Thanks, Al. During the third quarter, we posted good growth in our traditional business. At the same time, we continued significant progress toward the transformation of our business, one supported by the SEI wealth platform and the growth opportunities it holds for us in the future. Assets under management were $55.1 billion at September 30, a 2.7% increase from June 30. During the quarter, we had $690 million of positive net cash flow.

Revenues for the quarter were $85.3 million. This compares to $81.9 million for the second quarter, a 4.2% increase. Contributing to this increase were net positive cash flow, positive market returns, improved yields on money market funds and a shift from lower revenue liquidity products to higher revenue equity products. Expenses for this quarter were up roughly 1% compared to the second quarter. We experienced increases in the SEI wealth platform build and migration expenses, but aggressively managed expenses in other areas to dampen the overall expense increase.

We will continue these efforts but it is becoming increasingly hard. On the new business front, we signed 132 new advisors. This is a slight increase from the second quarter. Our pipeline of prospects remains strong. Moving on to the status of the SEI Wealth Platform, we completed our largest migration at the end of September and now have $15.6 billion on the platform. Significantly, we now convert about one-half of our new clients directly onto the wealth platform as opposed to TRUST 3000 and expect to convert the vast majority of the new clients directly onto the platform by the start of next year.

Putting new clients directly onto the platform in combination with a migration of our existing book will now enable us to make significant progress in the migration of our entire business onto the SEI Wealth Platform. During the third quarter, we also made big strides in enhancing both the advisor and end client experience on the SEI wealth platform. For end clients, we have begun the rollout of our new end client website. Initial feedback is very positive.

As for advisors, we continue to enhance their online straight through experience and now support functions like e-signatures, automated account maintenance and trade approvals. Items like trade and cash management approvals are supported both through the desktop and tablet technologies. In summary, we continue to recruit new advisors and gather net positive cash flow during the quarter.

Our third quarter client migration onto the SEI wealth platform was a success and we are now converting new clients directly onto the platform. In addition, our vision of a robust automated straight through experience is now taking shape. I remain optimistic about our future prospects. I now welcome any questions you have.

Operator

[Operator Instructions] Our first question comes from the line of Robert Lee with KBW. Please go ahead.

Robert Lee

Good afternoon, Wayne. How are you doing?

Wayne Withrow

I’m doing great.

Robert Lee

Good. First, I’ve got two questions for you. I guess the first one just kind of we started to see different advisory firms talking about how they are going to respond to the DOL rule and one of the things that I think kind of hearing out there is or is maybe a concern out there is that it as more and more advisors try to drive business to fee-based accounts that that is ultimately going to put pressure on what different advisors can charge their clients on fee-based accounts. So it kind of puts this downward pressure on everyone.

And to what extent do you think that that is going to start getting translated or are you starting to feel it or how do you respond to it kind of pressure on you in terms of if your advisors are charging whatever they are charging 100 and all of a sudden they have to charge clients 75, I mean do you feel like that’s going to be – they are going to try to kind of take part of that out of what you are charging their end clients? Or do feel like you are relatively immune from that pressure?

Wayne Withrow

Yes, well, there is really two questions in your single question so I guess you really have three questions. I want to answer the second question first, but I will take this one. There has been kind of the global fee pressure question, which is sort of consumed within your DOL question, it is consumed in that. But insofar as DOL is concerned I think the initial reaction to the DOL rule was a lot of people were reading it or saying that really this means lowest fee. And the reality of it is it does not mean lowest fee. And when you look at what the commentators have said and what a lot of the experts have said, it doesn’t mean lower fee, it means level fee.

However, it does bring into the spotlight the fact that you have to show value for the PU chart [ph]. So it’s not that you have to be reduced from 100 to 75, but you have to show the value that you give for 100 in the example you posited. So if I look at fee pressure I would say it is not primarily driven by the DOL it is just overall fee pressure in the industry and I don’t see the DOL being a major driver independent of this global trend of lower fees of being a separate driver.

Robert Lee

Okay, great. Then I guess could you just refresh our memory on is it once you have kind of all your new business and most of your existing advisors on SWP, when are you going to start really marketing that so you can start administering a third-party asset? Has that started? Just refresh our memory of when you think that initiative is going to start really being pushed?

Al West

Yes, I think we are migrating over to that as we speak and I think you will start to see some revenue from that next year. And I think it’s really going to gain momentum probably in 2018 [indiscernible] really begin somewhere around the second quarter next year but it is not going to make a material difference

Robert Lee

Okay great, thanks for taking my questions today.

Operator

We next return to the line of Chris Donat with Sandler O’Neill. Please go ahead.

Chris Donat

Good afternoon. Thanks for taking my questions West.

Al West

Sure.

Chris Donat

Just wanted to ask on the Department of Labor, we have heard from some other firms out there that there has been among advisors, it has sort of slowed the recruitment process as they’ve tried to understand the DOL changes. But it doesn’t sound like that is having much effect for you guys with 132 advisors signed this quarter, 128 last quarter. Are you seeing any signs either quantitatively or qualitatively about people taking more time with decision-making?

Al West

It certainly it hasn’t hurt our recruiting efforts. I think it has, however, taken up advisors’ time because they are very concerned about this and they need to spend some time on what I would call more of an infrastructure issue as opposed to a growth issue. So that does hurt us more with kind of the existing buyers than going out there and getting some slice of their time if you will to talk about our value add. But I think that is the major.

Overall, the DOL since we are in the fee-based business is a good thing for us not the sea change we thought it was going to be but it certainly is more positive than negative.

Chris Donat

Okay. But you haven’t seen any lengthening of sales cycles with the new advisors or anything like that?

Al West

We have not. I mean to the extent you are talking about broker-dealers as opposed to people in our business, it probably impacts them differently because they are figuring out what to do with these giant books of advisors. Some of the industry lags [ph] will tell you that those books of advisors that may not be viable in the new model.

Chris Donat

Yes, okay thanks. Thanks Wayne.

Operator

[Operator Instructions] I next return to line of Chris Shutler with William Blair. Please go ahead.

Chris Shutler

Hi everyone good afternoon.

Al West

Good afternoon.

Chris Shutler

I wanted to follow-up on the question earlier about administering third-party assets. Just why wouldn’t that process have already started? What is the gating factor there?

Al West

Well, we have started that process. I think the two gating factors are the degree, the volume of new clients we have in the wealth platform because it only applies to the wealth platforms and then the degree to which we want to go whole hog in turning out these. We are converting advisors over and we are trying to transition them over to a new pricing model. So that takes some time.

We did not charge for this in the past so this is not like everybody is saying – wow, I am excited to pay more fees.

Chris Shutler

Right, okay. And then just curious, what is the – if you look at the average advisor that you have been bringing on over the last few quarters, can you just give us – what is their profile in terms of types of assets under management, what percentage of their book are they giving to SEI?

Al West

By and large, the majority, the clients we recruit are shifting over to us as a new provider and send us all their new business. It is not that they take their existing book and shift it over to us wholesale from the get-go. So part of the strategy is we tried to get them to shift us new business, we try to prove ourselves in terms of the value that we can add to the practice, then we try to into their existing business and look at pockets of that existing business that make sense for us to say look, this would be better for your clients, it would be better for you if you can move over that pocket of business. But it comes in chunks, not all of once if that makes sense.

Chris Shutler

Yes it does. Thank you.

Operator

And speakers we have no further questions in queue.

Dennis McGonigle

Thank you, Wayne. Our next segment is the institutional investors segment. I’m going to turn it over to Paul Klauder to discuss this segment.

Paul Klauder

Thanks, Al. Good afternoon everyone. I’m going to discuss the financial results for the third quarter of 2016. Third-quarter revenues of $76.2 million increased 2% compared to the second quarter of 2016. Capital markets performance and net client fundings of $550 million positively impacted revenue for the third quarter 2016 compared to the second quarter of 2016.

Currency translations negatively impacted third-quarter profits and client losses due to acquisitions negatively impacted third-quarter net fundings. Quarter end asset balances of $81.4 billion reflect a $2.8 billion increase compared to the second quarter. The unfunded client backlog at quarter end was $1 billion. Third-quarter 2016 operating profits of $39.3 million increased 3% compared to the second quarter of 2016. Third-quarter 2016 margins were 51.5%.

Client signings for the third quarter 2015 were $1.2 billion including a new large market UK fiduciary management client. We anticipate making continued investments in executing our strategy to grow our defined contribution and foundation and endowment businesses and expand our global footprint into new markets that will embrace fiduciary management, OCIO or standalone investment strategies.

Thank you very much and I would be entertain any of your questions.

Operator

[Operator Instructions] And our first question comes from the line of Robert Lee with KBW. Please go ahead.

Robert Lee

Hi, good afternoon. I guess I was just a little bit confused about which is probably par for course on the client fundings. Was that $550 million net client fundings for the quarter? Did I understand that correctly?

Paul Klauder

Yes that’s correct Robert.

Robert Lee

Okay, great. Can you maybe talk a little bit as you look at the DC market and I guess based on comments today as you continue to focus on maybe somewhat larger foundations, endowments and plans which you have been doing I guess for the last couple of years, can you maybe talk a little bit about if you are starting to see that translate into when you talk to clients and prospects a change in the fee rate? Because I would assume as you go larger more separate account, we should expect to eventually see some migration down as you go up market.

Paul Klauder

We’ve always had that reality as we go up market, when we have a fiduciary management fee or OCIO fee. The client is going to have more leverage with us than they would with our competitor. So that has been in existence for some time. I think what is different in the institutional market now with OCIO firms is fee transparency. So us segregating our fee and then us also showing what the cost of the implementation would be. So that has some possibility for margin erosion but it has just been minimal to date. What the benefit is for us is with the leverage that we have, $80 billion of assets under management, the cost of our delivery for the independent managers usually is far lower that what our competitors can bring.

So therefore when we add up a total cost, it is really a compelling story A versus status quo; and B versus the competitive framework that we are operating in. So transparency is certainly a reality across all of our market segments but in this case it has actually been helpful in being able to showcase the difference vis-à-vis status quo and also versus competitors.

Robert Lee

Thank you.

Paul Klauder

You’re welcome.

Operator

[Operator Instructions] We return to line of Robert Lee with KBW. Please go ahead.

Robert Lee

Okay, so I will ask another then.

Paul Klauder

Thank you Robert.

Robert Lee

Sure. So I’ll keep you too busy. Just curious as you look at the DC market and you read a lot about the target date market changing and having the more open architecture. I mean what do you – two things, two questions, not one. Number one, what is the size of your DC assets today? If you think of the business you have won the last year or this quarter, how much of that – and I know you called out the one large signing. But how much of that is kind of DC? And if you think about your pipeline and what is the biggest hurdle that you are finding as you go to plan sponsors and talking about your solution?

Dennis McGonigle

So the size of our DC business is $8 billion if the $80 billion, so roughly 10% of our assets under management. Our increase is larger than that for this year’s contributions, probably closer to 20% of our contribution. Probably the biggest hurdle is when you sell DC you have to sell to the sponsor and the sponsor has to sell to the participants. So in a DV, an endowment, a foundation, a healthcare you are just selling to the investment committee. Here you have to have two sales where we have to sell a sponsor they have to sell to the participant.

So consequently the decision tree will just go longer and the conversion cycle may take a little bit longer. But the real positive is this segregation of record-keeping from asset management and the fact that people are looking to simplify the menu, they are looking to go to custom target date and they are looking to move away from brand. And that really speaks volumes for firms like SEI who have a heritage of building these diversified portfolios and combining our unique asset allocation that come up with custom target date for the QDII. So think that probably answers your questions.

Robert Lee

It does. Thank you.

Dennis McGonigle

You’re welcome.

Operator

We next return to line of Patrick O’Shaughnessy with Raymond James. Please go ahead.

Q - Patrick OShaughnessy

Just a high level question on the DB side. So when you are talking to plan sponsors and they look at the menu of things they can go with, they can go with nothing, they can go with targeted funds, customized targeted funds, managed accounts. How are a lot of them thinking about these days? How do they say there is the pros, here is the consummate here is why we want to do a customized target date fund?

Dennis McGonigle

So the decision around a customized target date would be whether or not they provide a defined benefit plan and whether that is open or active, closed or frozen and whether we need to incorporate those benefits that a retiree would be getting or a participant would be getting in conjunction with the DC. And whether or not there is some specifics with regard to their demographics as far as risk tolerance and risk appetite that would warrant custom. And then the last thing would be size, they are sizable enough to go custom, custom will usually result in lower overall fees. So those are really kind of the decision trees there that a sponsor would go through in making that evaluation.

Q - Patrick OShaughnessy

Got you. I apologize I think I said defined benefit of DB and I did mean defined contribution.

Dennis McGonigle

Nobody wants to talk about DB anymore. But we still think that is healthy. But I realized it was on DC. Thank you.

Operator

And speakers we have no further questions in queue at this time.

Al West

Thanks all. And our final segment today is investment managers and I’m going to turn it over to Steve Meyer to discuss this segment.

Steve Meyer

Thanks Al. Good afternoon everyone. For the third quarter of 2016, revenues for this segment totaled $75.7 million which was $4.7 million or 6.7% higher as compared to our revenue for the second quarter of 2016. This quarter-over-quarter increase in revenue was primarily due to new client fundings and market appreciation. Our quarterly profit for this segment of $27.1 million was approximately $3.1 million or 13% higher than the second quarter of 2016. This increase in profit quarter-over-quarter was driven by the increase in our revenues offset by an expense increase of $1.6 million, largely due to implementation costs and incremental personnel expense needed to support our new client wins.

As you will recall last quarter we pointed out that our expenses would uptick over the next several quarters as we increased our expenses in support of our new revenue implementations. While this quarter’s expenses were up modestly, this was less than expected mainly due to timing. Looking forward, we do expect that our expenses will uptick again in the next few quarters as we continue to implement previously sold business and bring on additional new business. This increase in timing will be in line with the range that Dennis provided in his comments.

Third-party asset balances at the end of the third quarter of 2016 were $451.2 billion, which was $32.1 billion or 7.7% higher, as compared to asset balances at the end of the second quarter of 2016. The increase in assets was primarily due to net new client fundings of $27.5 billion, combined with market appreciation of $4.6 billion.

Turning to market activities, during the third quarter of 2016, we had another strong sales quarter. Net new business sales events totaled $9.3 million in annualized revenue. These sales were comprised of new name business and expansion of existing business with current clients across all our segments. These events include a competitive win of a large, middle and back office outsourcing mandate by a large traditional manager as well as several new competitive wins in the private equity outsourcing market.

Additionally, we continue to see strong demand for our comprehensive outsourcing platform and the market is telling us that it is differentiated. We are further encouraged by the opportunity we are seeing with our new solutions that we are investing in such as our compliance and regulatory platform.

So in summary, we are in the midst of implementing new clients and revenue, expanding our solutions and platforms for continued growth and investing in our future. Our pipeline remain strong and we remain optimistic in regards to our future opportunity.

I will now turn it over for any questions you may have.

Operator

[Operator Instructions] And our first question comes from the line of Robert Lee with KBW. Please go ahead.

Robert Lee

Hey, Steve, how are you?

Steve Meyer

Good. How are you, Rob?

Robert Lee

Good. Thanks. Just quick questions. Just could you update us on kind of what it seems like you had some pretty good fundings in the quarter. So maybe update us on where kind of the backlog stands of what you have won but hasn’t yet come on and some color around that?

Steve Meyer

Do I have to. You don’t disappoint me Rob. No, our backlog, if you remember back to Q2 I said it was around $46 million, it remains around $46 million. We did fund some. We are still funding some that are in implementation phase and conversion phase. But obviously with the new wins in the quarter, we filled it back up. So the good news is we are seeing the fundings. I think this quarter spoke for that and we still are winning new deals to put more into the backlog.

Robert Lee

All right, great. And then just a follow-up, any update – I know you have been somewhat I guess maybe a little frustrated or disappointed with the pace of penetration outside the U.S. I mean any updated thoughts on how that is continuing?

Steve Meyer

I think that’s still going slower, I think it is just really a result of the market. It is just slower outside the U.S. right now. With that said, we are seeing an increased activity – and when I see the activity kind of from an RFP client fall spike up, it is something I would expect that results would follow.

Robert Lee

Great thanks.

Steve Meyer

Sure.

Operator

And speakers we have no further questions in queue.

Al West

Thank you, Steve. And now I would like to Kathy Heilig to give you a few Company-wide statistics. Kathy?

Kathy Heilig

Thanks, Al. Good afternoon, everyone. I have some additional corporate information regarding this quarter. Third-quarter cash flow from operations was $124 million or $0.76 per share. Year-to-date cash flow from operations is $283 million. Third quarter free cash flow was $92.9 million, and year-to-date free cash flow, $223 million.

Capital expenditures this quarter excluding capitalized software were $17.6 million and we project an additional $5 million of capital expenditures excluding capitalized software in the fourth quarter. The annual tax rate is projected to be about 34.5% and this does reflect expiration of the statute of limitations for some of our closed tax years or tax years that closed in the third quarter. We also would like to remind you that many of our comments are forward-looking statements and are based upon assumptions that involve risks and that the financial information presented in our release and on this call is unaudited.

Future revenues and income could differ from expected results. We have no obligation to publicly update or correct any statements herein as a result of future developments. You should refer to our periodic SEC filings for a description of various risks and uncertainties that could affect our future financial results. Now please feel free to ask any other additional questions that you may have.

Operator

Thank you. [Operator Instructions] Speakers, we have no questions at this time.

Al West

Thanks, Kathy. So ladies and gentlemen, we feel that we are making significant progress throughout the Company. Our sales activities and backlog are strong even though the new business we have garnered with larger clients require investment ahead of revenues. Now looking ahead, we will keep our focus on sound execution across the Company while we work to increase our rate of growth. That concludes today’s session and thank you very much for joining us. Have a good evening.

Operator

And ladies and gentlemen, this conference will be made available for replay after 6:30 PM today until January 20, 2017 at midnight. You may access the AT&T Executive playback service at any time by dialing 1-800-475-6701 and entering the access code 404239. International participants may dial 1-320-365-3844. Again, those numbers are 1-800-475-6701 and entering the access code 404239. International participants may dial 1-320-365-3844 and enter that same access code of 404239.

That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference service. You may now disconnect.

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