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EATON VANCE CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) This Item includes statements that are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding our expectations, intentions or strategies regarding the future. All statements, other than statements of historical facts, included in this Form 10-Q regarding our financial position, business strategy and other plans and objectives for future operations are forward-looking statements. The terms "may", "will", "could", "anticipate", "plan", "continue", "project", "intend", "estimate", "believe", "expect" and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain such words. Although we believe that the assumptions and expectations reflected in such forward-looking statements are reasonable, we can give no assurance that they will prove to have been correct or that we will take any actions that may now be planned. Certain important factors that could cause actual results to differ materially from our expectations are disclosed in the "Risk Factors" in Item 1A in our latest annual report on Form 10-K. All subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by such factors. We do not assume any obligation to update any forward-looking statements. We disclaim any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. General Our principal business is managing investment funds and providing investment management and advisory services to high-net-worth individuals and institutions. Our core strategy is to develop and sustain management expertise across a range of investment disciplines and to offer leading investment products and services through multiple distribution channels. In executing this strategy, we have developed broadly diversified investment management capabilities and a powerful marketing, distribution and customer service organization. Although we manage and distribute a wide range of investment products and services, we operate in one business segment, namely as an investment adviser to funds and separate accounts. Through our subsidiaries Eaton Vance Management ("EVM") and Atlanta Capital Management, LLC ("Atlanta Capital") and other affiliates we manage active equity, income and alternative strategies across a range of investment styles and asset classes, including U.S. and global equities, floating-rate bank loans, municipal bonds, global income, high-yield and investment grade bonds. Through our subsidiary Parametric Portfolio Associates LLC ("Parametric") we manage a range of engineered alpha strategies, including systematic equity, systematic alternatives and managed options strategies, and provide portfolio implementation services, including tax-managed core and specialty index strategies, futures- and options-based portfolio overlay, and centralized portfolio management of multi-manager portfolios. We also oversee the management of investment funds sub-advised by third-party managers, including global, regional and sector equity, commodity and asset allocation strategies. Our breadth of investment management capabilities supports a wide range of products and services offered to fund shareholders, retail managed account investors, institutional investors and high-net-worth clients. Our equity strategies encompass a diversity of investment objectives, risk profiles, income levels and geographic representation. Our income investment strategies cover a broad duration and credit quality range and encompass both taxable and tax-free investments. We also offer a range of alternative investment strategies, including commodity-based investments and a spectrum of absolute return strategies. As of January 31, 2014, we had $278.6 billion in assets under management. Our principal retail marketing strategy is to distribute funds and separately managed accounts through financial intermediaries in the advice channel. We have a broad reach in this marketplace, with distribution partners including national and regional broker-dealers, independent broker-dealers, independent financial advisory firms, banks and insurance companies. We support these distribution partners with a team of approximately 135 sales professionals covering U.S.and international markets. 39 We also commit significant resources to serving institutional and high-net-worth clients who access investment management services on a direct basis. Through our wholly owned affiliates and consolidated subsidiaries we manage investments for a broad range of clients in the institutional and high-net-worth marketplace in the U.S. and internationally, including corporations, sovereign wealth funds, endowments, foundations, family offices and public and private employee retirement plans. Our revenue is derived primarily from investment advisory, administrative, distribution and service fees received from Eaton Vance funds and investment advisory fees received from separate accounts. Our fees are based primarily on the value of the investment portfolios we manage and fluctuate with changes in the total value and mix of assets under management. As a matter of course, investors in our sponsored open-end funds and separate accounts have the ability to redeem their investments at any time, without prior notice, and there are no material restrictions that would prevent them from doing so. Our major expenses are employee compensation, distribution-related expenses, facilities expense and information technology expense. Our discussion and analysis of our financial condition and results of operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP"). The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to goodwill and intangible assets, income taxes, investments and stock-based compensation. We base our estimates on historical experience and on various assumptions that we believe to be reasonable under current circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates. Business Developments Prevailing market conditions affect our managed asset levels, operating results and the recoverability of our investments. The Company's ending consolidated assets under management decreased by $2.1 billion, or 1 percent, in the first quarter to $278.6 billion on January 31, 2014, reflecting net outflows and market price declines, most notably in emerging market strategies. Net outflows for the first quarter were concentrated in global income and alternatives, large-cap value equity, managed options and municipal bond mandates. Notable sources of net inflows for the quarter included floating-rate income and high yield bond mandates and implementation services. Average consolidated assets under management increased from the prior quarter by $10.9 billion, or 4 percent, to $282.3 billion in the first quarter. Our overall average effective fee rate decreased to 51 basis points in the first quarter of fiscal 2014 from 59 basis points in the first quarter of fiscal 2013, reflecting the full impact of the Clifton acquisition, which was completed on December 31, 2012. Our average effective investment advisory and administrative fee rate decreased to 43 basis points in the first quarter of fiscal 2014 from 49 basis points in the first quarter of last year. The primary driver of our overall average effective fee rate continues to be the mix of assets by distribution channel and mandate and the timing of the recognition of performance fees. Consolidated Assets under Management Consolidated assets under management of $278.6 billion on January 31, 2014 increased $30.8 billion, or 12 percent from the $247.8 billion reported a year earlier. Consolidated assets under management on January 31, 2014 included $132.0 billion in long-term funds, $94.9 billion in institutional separate accounts, $19.4 billion in high-net-worth separate accounts, $32.1 billion in retail managed accounts and $0.2 billion in cash management fund assets. Long-term fund net inflows of $11.4 billion over the last twelve months reflect gross inflows of $44.8 billion offset by outflows of $33.4 billion. Institutional separate account net inflows were $5.9 billion, high-net-worth separate account net inflows were $0.5 billion and retail managed account net inflows were $0.5 40 billion over the past twelve months. Net price appreciation in managed assets increased assets under management by $12.6 million over the last twelve months. We report managed assets and flow data by investment mandate. The "Alternative" category includes a range of absolute return strategies, as well as commodity- and currency-linked investments. The "Implementation Services" category reflects the distinctive attributes of Parametric's tax-managed core, centralized portfolio management and specialty index business lines as well as their futures- and options-based overlay and exposure management services. Consolidated Assets under Management by Investment Mandate(1)(2) January 31, % of % of % (in millions) 2014 Total 2013 Total Change Equity(3) $ 90,765 32 % $ 86,518 35 % 5 % Fixed income 43,339 16 % 49,679 20 % -13 % Floating-rate income 44,073 16 % 28,656 11 % 54 % Alternative 13,171 5 % 14,345 6 % -8 % Implementation services 87,010 31 % 68,420 28 % 27 % Cash management 211 0 % 155 0 % 36 % Total $ 278,569 100 % $ 247,773 100 % 12 % (1)Consolidated Eaton Vance Corp. See table on page 45 for managed assets and flows of 49 percent-owned Hexavest Inc. (2)Assets under management for which we estimate fair value using significant unobservable inputs are not material to the total value of the assets we manage. (3)Includes assets in balanced accounts holding income securities. Equity and implementation services assets under management included $59.2 billion and $48.9 billion of assets managed for after-tax returns on January 31, 2014 and 2013, respectively. Fixed income assets included $25.0 billion and $29.6 billion of tax-exempt municipal bond assets on January 31, 2014 and 2013, respectively. Net outflows for long-term funds and separate accounts totaled $1.1 billion in the first quarter of fiscal 2014 compared to net inflows of $5.4 billion in the first quarter of fiscal 2013. Net flows into long-term funds were flat in the first quarter of fiscal 2014, reflecting gross inflows of $10.2 billion, net of redemptions of $10.3 billion. Net flows into long-term funds totaled $2.2 billion in the first quarter of fiscal 2013, reflecting gross inflows of $9.1 billion, net of redemptions of $6.9 billion. Separate account net outflows totaled $1.0 billion in the first quarter of fiscal 2014 compared to net inflows of $3.2 billion in the first quarter of fiscal 2013. Institutional separate account net outflows totaled $0.7 billion in the first quarter of fiscal 2014 compared to net inflows of $3.0 billion in the first quarter of fiscal 2013, reflecting gross inflows of $16.8 billion and $6.8 billion in the first quarter of fiscal 2014 and 2013, respectively, net of withdrawals of $17.5 billion and $3.8 billion, respectively. High-net-worth account net outflows totaled $0.4 billion in the first quarter of fiscal 2014 compared to $0.2 billion of net inflows in the first quarter of fiscal 2013, reflecting gross inflows of $0.7 billion and $1.4 billion in the first quarter of fiscal 2014 and 2013, respectively, net of withdrawals of $1.1 billion and $1.2 billion, respectively. Retail managed account gross inflows of $1.8 billion were offset by withdrawals of $1.8 billion in the first quarter of fiscal 2014, while retail managed account gross inflows of $2.2 billion were offset by withdrawals of $2.2 billion in the first quarter of fiscal 2013. The following tables summarize our consolidated assets under management and asset flows by investment mandate and investment vehicle for the three months ended January 31, 2014 and 2013: 41 Consolidated Net Flows by Investment Mandate(1) Three Months Ended January 31, % (in millions) 2014 2013 Change Equity assets - beginning of period(2) $ 93,585 $ 80,782 16 % Sales and other inflows 3,785 4,496 -16 % Redemptions/outflows (5,621 ) (4,959 ) 13 % Net flows (1,836 ) (463 ) 297 % Assets acquired(4) - 1,572 NM (3) Exchanges 512 (8 ) NM Market value change (1,496 ) 4,635 NM Equity assets - end of period $ 90,765 $ 86,518 5 % Fixed income assets - beginning of period 44,211 49,003 -10 % Sales and other inflows 2,451 3,377 -27 % Redemptions/outflows (3,281 ) (3,375 ) -3 % Net flows (830 ) 2 NM Assets acquired(4) - 472 NM Exchanges (99 ) (22 ) 350 % Market value change 57 224 -75 % Fixed income assets - end of period $ 43,339 $ 49,679 -13 % Floating-rate income assets - beginning of period 41,821 26,388 58 % Sales and other inflows 4,786 3,260 47 % Redemptions/outflows (2,705 ) (1,359 ) 99 % Net flows 2,081 1,901 9 % Exchanges 54 33 64 % Market value change 117 334 -65 % Floating-rate income assets - end of period $ 44,073 $ 28,656 54 % Alternative assets - beginning of period 15,212 12,864 18 % Sales and other inflows 1,089 1,809 -40 % Redemptions/outflows (2,989 ) (1,055 ) 183 % Net flows (1,900 ) 754 NM Assets acquired(4) - 650 NM Exchanges (48 ) (13 ) 269 % Market value change (93 ) 90 NM Alternative assets - end of period $ 13,171 $ 14,345 -8 % Implementation services assets - beginning of period 85,637 30,302 183 % Sales and other inflows 17,421 6,479 169 % Redemptions/outflows (16,010 ) (3,316 ) 383 % Net flows 1,411 3,163 -55 % Assets acquired(4) - 32,064 NM Exchanges (453 ) - NM Market value change 415 2,891 -86 %Implementation services assets - end of period $ 87,010 $ 68,420 27 % Long-term assets - beginning of period 280,466 199,339 41 % Sales and other inflows 29,532 19,421 52 % Redemptions/outflows (30,606 ) (14,064 ) 118 % Net flows (1,074 ) 5,357 NM Assets acquired(4) - 34,758 NM Exchanges (34 ) (10 ) 240 % Market value change (1,000 ) 8,174 NM Total long-term assets - end of period $ 278,358 $ 247,618 12 % Cash management fund assets - end of period 211 155 36 % Total assets under management - end of period $ 278,569 $ 247,773 12 % (1) Consolidated Eaton Vance Corp. See table on page 45 for managed assets and flows of 49 percent-owned Hexavest Inc. (2) Includes assets in balanced accounts holding income securities. (3) Not meaningful ("NM") (4) Represents Clifton assets acquired on December 31, 2012. 42 Consolidated Net Flows by Investment Vehicle(1) Three Months Ended January 31, % (in millions) 2014 2013 ChangeLong-term fund assets - beginning of period $ 133,198 $ 113,249 18 % Sales and other inflows 10,234 9,079 13 % Redemptions/outflows (10,262 ) (6,876 ) 49 % Net flows (28 ) 2,203 NM Assets acquired(2) - 638 NM Exchanges (34 ) (19 ) 79 % Market value change (1,152 ) 3,091 NMLong-term fund assets - end of period $ 131,984 $ 119,162 11 % Institutional separate account assets - beginning of period 95,724 43,338 121 % Sales and other inflows 16,802 6,785 148 % Redemptions/outflows (17,472 ) (3,821 ) 357 % Net flows (670 ) 2,964 NM Assets acquired(2) - 34,120 NM Exchanges - 5 NM Market value change (185 ) 2,923 NM Institutional separate account assets - end of period $ 94,869 $ 83,350 14 % High-net-worth separate account assets - beginning of period 19,699 15,036 31 % Sales and other inflows 714 1,379 -48 % Redemptions/outflows (1,104 ) (1,198 ) -8 % Net flows (390 ) 181 NM Exchanges - (15 ) NM Market value change 65 1,043 -94 % High-net-worth separate account assets - end of period $ 19,374 $ 16,245 19 % Retail managed account assets - beginning of period 31,845 27,716 15 % Sales and other inflows 1,782 2,178 -18 % Redemptions/outflows (1,768 ) (2,169 ) -18 % Net flows 14 9 56 % Exchanges - 19 NM Market value change 272 1,117 -76 %Retail managed account assets - end of period $ 32,131 $ 28,861 11 % Total long-term assets - beginning of period 280,466 199,339 41 % Sales and other inflows 29,532 19,421 52 % Redemptions/outflows (30,606 ) (14,064 ) 118 % Net flows (1,074 ) 5,357 NM Assets acquired(2) - 34,758 NM Exchanges (34 ) (10 ) 240 % Market value change (1,000 ) 8,174 NMTotal long-term assets - end of period $ 278,358 $ 247,618 12 % Cash management fund assets - end of period 211 155 36 % Total assets under management - end of period $ 278,569 $ 247,773 12 % (1) Consolidated Eaton Vance Corp. See page 45 for managed assets and flows of 49 percent-owned Hexavest Inc. (2) Represents Clifton assets acquired on December 31, 2012. 43 The following table summarizes our consolidated assets under management by investment affiliate as of January 31, 2014 and 2013: Consolidated Assets under Management by Investment Affiliate(1) Three Months Ended January 31, % (in millions) 2014 2013 Change Eaton Vance Management (2) $ 142,931 $ 134,554 6 % Parametric 116,442 96,725 20 % Atlanta Capital 19,196 16,494 16 % Total $ 278,569 $ 247,773 12 % (1) Consolidated Eaton Vance Corp. See page 45 for managed assets and flows of 49 percent-owned Hexavest Inc. (2) Includes managed assets of wholly owned subsidiaries Eaton Vance Investment Counsel and Fox Asset Management LLC, as well as certain Eaton Vance-sponsored funds and accounts managed by Hexavest and unaffiliated third-party advisors under Eaton Vance supervision. As of January 31, 2014, 49 percent-owned affiliate Hexavest Inc. ("Hexavest") managed $16.1 billion of client assets, an increase of 11 percent from the $14.5 billion of managed assets on January 31, 2013. Net outflows from Hexavest-managed funds and separate accounts were $0.4 billion in the first quarter of fiscal 2014 compared to net inflows of $1.9 billion in the first quarter of fiscal 2013. Other than Eaton Vance-sponsored funds for which Hexavest is advisor or sub-advisor, the managed assets of Hexavest are not included in Eaton Vance consolidated totals. The following table summarizes assets under management and asset flow information for Hexavest for the three months ended January 31, 2014 and 2013: 44 Hexavest Assets under Management and Net Flows Three Months Ended January 31, % (in millions) 2014 2013 Change Eaton Vance distributed: Eaton Vance sponsored funds - beginning of period(1) $ 211 $ 37 470 % Sales and other inflows 30 94 -68 % Redemptions/outflows (25 ) (5 ) 400 % Net flows 5 89 -94 % Market value change (4 ) 9 NMEaton Vance sponsored funds - end of period $ 212 $ 135 57 % Eaton Vance distributed separate accounts - beginning of period(2) $ 1,574 $ - NM Sales and other inflows 76 1,148 -93 % Redemptions/outflows (5 ) - NM Net flows 71 1,148 -94 % Exchanges (235 ) - NM Market value change (27 ) 37 NM Eaton Vance distributed separate accounts - end of period $ 1,383 $ 1,185 17 % Total Eaton Vance distributed - beginning of period $ 1,785 $ 37 NM Sales and other inflows 106 1,242 -91 % Redemptions/outflows (30 ) (5 ) 500 % Net flows 76 1,237 -94 % Exchanges (235 ) - NM Market value change (31 ) 46 NMTotal Eaton Vance distributed - end of period $ 1,595 $ 1,320 21 % Hexavest directly distributed - beginning of period(3) $ 15,136 $ 12,073 25 % Sales and other inflows 440 920 -52 % Redemptions/outflows (960 ) (263 ) 265 % Net flows (520 ) 657 NM Exchanges 235 - NM Market value change (308 ) 494 NMHexavest directly distributed - end of period $ 14,543 $ 13,224 10 % Total Hexavest assets - beginning of period $ 16,921 $ 12,110 40 % Sales and other inflows 546 2,162 -75 % Redemptions/outflows (990 ) (268 ) 269 % Net flows (444 ) 1,894 NM Exchanges - - NM Market value change (339 ) 540 NM Total Hexavest assets - end of period $ 16,138 $ 14,544 11 % (1) Managed assets and flows of Eaton Vance-sponsored pooled investment vehicles for which Hexavest is advisor or sub-advisor. Eaton Vance receives management and/or distribution revenue on these assets, which are included in the Eaton Vance consolidated results. (2) Managed assets and flows of Eaton Vance-distributed separate accounts managed by Hexavest. Eaton Vance receives distribution revenue, but not investment advisory fees, on these assets, which are not included in the Eaton Vance consolidated results. (3) Managed assets and flows of pre-transaction Hexavest clients and post-transaction Hexavest clients in Canada. Eaton Vance receives no investment advisory or distribution revenue on these assets, which are not included in the Eaton Vance consolidated results. 45 Consolidated Ending Assets under Management by Asset Class(1) January 31, % of % of % (in millions) 2014 Total 2013 Total Change Open-end funds: Class A $ 29,537 11 % $ 29,496 12 % 0 % Class B 611 0 % 911 0 % -33 % Class C 9,631 3 % 9,841 4 % -2 % Class I 41,664 15 % 33,527 14 % 24 % Class N 2,107 1 % 1,638 1 % 29 % Class R 382 0 % 310 0 % 23 % Other(2) 1,456 1 % 714 0 % 104 % Total open-end funds 85,388 31 % 76,437 31 % 12 % Private funds(3) 21,870 7 % 19,131 8 % 14 % Closed-end funds 24,937 9 % 23,749 9 % 5 % Total fund assets 132,195 47 % 119,317 48 % 11 %Institutional account assets 94,869 34 % 83,350 34 % 14 % High-net-worth account assets 19,374 7 % 16,245 6 % 19 % Retail managed account assets 32,131 12 % 28,861 12 % 11 % Total separate account assets 146,374 53 % 128,456 52 % 14 % Total $ 278,569 100 % $ 247,773 100 % 12 % (1) Consolidated Eaton Vance Corp. See page 45 for directly managed assets and flows of 49 percent-owned Hexavest Inc. (2) Includes other classes of Eaton Vance open-end funds. (3) Includes privately offered equity, fixed income and floating-rate bank loan funds and CLO entities. We currently sell open-end mutual funds under the Eaton Vance and Parametric brands in five primary pricing structures: front-end load commission ("Class A"); level-load commission ("Class C"); institutional no-load ("Class I, also referred to as "Institutional Class"); retail no-load ("Class N," referred to as "Investor Class" or "Advisors Class"); and retirement plan no-load ("Class R"). We waive the front-end sales load on Class A shares under certain circumstances and sell such shares at net asset value. Class A shares are offered at net asset value (without a sales charge) to tax-deferred retirement plans and deferred compensation plans, and to clients of financial intermediaries who charge an ongoing fee for advisory, investment, consulting or similar services. Class A shares are also offered at net asset value to clients of financial intermediaries that have entered into an agreement with Eaton Vance Distributors, Inc. ("EVD") to offer Class A shares through a no-load network or platform, to certain separate account clients of Eaton Vance and its affiliates, and to certain persons affiliated with Eaton Vance. Fund assets represented 47 percent of total assets under management on January 31, 2014, down from 48 percent on January 31, 2013, while separate account assets, which include institutional, high-net-worth and retail managed account assets, increased to 53 percent of total assets under management on January 31, 2014 from 52 percent on January 31, 2013. Fund assets under management decreased $1.2 billion, or 1 percent, from $133.4 billion on October 31, 2013, reflecting market price declines of $1.2 billion. Separate account assets under 46 management decreased $0.9 billion, or 1 percent, from $147.3 billion on October 31, 2013, reflecting net outflows of $1.1 billion offset by market appreciation of $0.2 billion. Consolidated average assets under management presented in the following table represent a monthly average by asset class. This table is intended to provide information useful in the analysis of our asset-based revenue and distribution expenses. Separate account investment advisory fees are generally calculated as a percentage of either beginning, average or ending quarterly assets. Fund investment advisory, administrative, distribution and service fees, as well as certain expenses, are generally calculated as a percentage of average daily assets. Consolidated Average Assets under Management by Asset Class(1) Three Months Ended January 31, % (in millions) 2014 2013 Change Open-end funds: Class A $ 29,910 $ 29,036 3 % Class B 638 932 -32 % Class C 9,736 9,716 0 % Class I 42,200 31,540 34 % Class N 2,223 1,591 40 % Class R 381 307 24 % Other(2) 1,512 682 122 % Total open-end funds 86,600 73,804 17 % Private funds(3) 21,960 18,361 20 % Closed-end funds 25,083 23,385 7 % Total fund assets 133,643 115,550 16 % Institutional account assets 96,683 56,969 70 % High-net-worth account assets 19,716 15,668 26 % Retail managed account assets 32,246 28,037 15 % Total separate account assets 148,645 100,674 48 % Total $ 282,288 $ 216,224 31 % (1) Assets under management attributable to acquisitions that closed during the relevant periods are included on a weighted average basis for the period from their respective closing dates. (2) Includes other classes of Eaton Vance open-end funds. (3) Includes privately offered equity, fixed income and floating-rate bank loan funds and CLO entities. Results of Operations In evaluating operating performance, we consider net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share, which are calculated on a basis consistent with U.S. GAAP, as well as adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share, both of which are internally derived non-U.S. GAAP performance measures. We define adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share as net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share, respectively, 47 adjusted to exclude changes in the estimated redemption value of non-controlling interests redeemable at other than fair value ("non-controlling interest value adjustments"), closed-end fund structuring fees and other items management deems non-recurring (such as the impact of special dividends, costs associated with the extinguishment of debt and tax settlements) or non-operating in nature. Adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share should not be construed to be a substitute for, or superior to, net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share computed in accordance with U.S. GAAP. We provide disclosures of adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share to reflect the fact that our management and Board of Directors consider these adjusted numbers a measure of the Company's underlying operating performance. The following table provides a reconciliation of net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share to adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share, respectively, for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, %(in thousands, except per share data) 2014 2013 Change Net income attributable to Eaton Vance Corp. shareholders $ 71,358 $ 49,805 43 % Non-controlling interest value adjustments(1) 2,389 10,647 -78 % Adjusted net income attributable to Eaton Vance Corp. shareholders $ 73,747 $ 60,452 22 % Earnings per diluted share $ 0.56 $ 0.38 47 % Non-controlling interest value adjustments 0.02 0.09 -78 % Special dividend adjustment(2) - 0.03 NM Adjusted earnings per diluted share $ 0.58 $ 0.50 16 % (1) Please see page 55, "Net Income Attributable to Non-controlling and Other Beneficial Interests," for a further discussion of the non-controlling interest value adjustments referenced above. (2) Reflects the impact of the special dividend paid in the first quarter of fiscal 2013 due to the disproportionate allocation of distributions in excess of earnings to common shareholders under the two-class method. We reported net income attributable to Eaton Vance Corp. shareholders of $71.4 million, or $0.56 per diluted share, in the first quarter of fiscal 2014 compared to net income attributable to Eaton Vance Corp. shareholders of $49.8 million, or $0.38 per diluted share, in the first quarter of fiscal 2013. We reported adjusted net income attributable to Eaton Vance Corp. shareholders of $73.7 million, or $0.58 per diluted share, in the first quarter of fiscal 2014 compared to adjusted net income attributable to Eaton Vance Corp. shareholders of $60.5 million, or $0.50 per diluted share, in the first quarter of fiscal 2013. The change in net income and, with certain exceptions, adjusted net income attributable to Eaton Vance Corp. shareholders can be primarily attributedto the following: · An increase in revenue of $41.7 million, or 13 percent, primarily due to a 31 percent increase in average assets under management, offset by a decrease in our annualized effective fee rate to 51 basis points in 48 the first quarter of fiscal 2014 from 59 basis points in the first quarter of fiscal 2013 as a result of the change in asset mix resulting from the Clifton acquisition in the first quarter of fiscal 2013 and the timing of the recognition of performance fees. · An increase in expenses of $18.2 million, or 8 percent, reflecting increases in compensation, distribution and service fees, amortization of deferred sales commissions, fund-related and other expenses. · A $4.8 million decrease in gains and other investment income, primarily due to a decrease in investment gains recognized on our seed capital portfolio. · A decrease of $1.2 million in interest expense, reflecting the retirement of $250 million of our 6.5 percent Senior Notes due 2017 and the contemporaneous issuance of $325 million of 3.625 percent Senior Notes due 2023 in the third quarter of fiscal 2013. · A $3.3 million increase other income (expense) of the Company's consolidated CLO entities reflecting an improvement in the performance of the consolidated CLO entities. · An increase in income taxes of $8.7 million, or 24 percent, reflecting the increase in the Company's income before taxes. Consolidated CLO entity income that is allocated to other beneficial interest holders is not subject to tax in the Company's provision. · A decrease in net income attributable to non-controlling and other beneficial interests of $6.9 million, primarily reflecting a decrease in non-controlling interest value adjustments offset by a decrease in consolidated CLO entity net losses attributable to other beneficial holders. Weighted average diluted shares outstanding increased by 5.4 million shares, or 5 percent, in the first quarter of fiscal 2014 over the first quarter of fiscal 2013. The change reflects an increase in the total number of shares outstanding due to the exercise of employee stock options and an increase in the dilutive effect of in-the-money options resulting from the 30 percent increase in the average share price over the prior year period. Revenue Our overall average effective fee rate (total revenue, excluding other revenue, as a percentage of average assets under management) was 51 basis points in the first quarter of fiscal 2014 compared to 59 basis points in the first quarter of fiscal 2013. As noted above, the decrease in our average overall effective fee rate in the first quarter of fiscal 2014 compared to the first quarter of fiscal 2013 can be primarily attributed to the full quarter impact of the acquisition of Clifton, whose business operates at a significantly lower average effective fee rate, and a decrease in performance fees recognized, as discussed in more detail below. The following table shows our investment advisory and administrative fees, distribution and underwriter fees, service fees and other revenue for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, % (in thousands) 2014 2013 Change Investment advisory and administrative fees $ 304,713 $ 263,281 16 % Distribution and underwriter fees 21,621 22,751 -5 % Service fees 32,291 31,130 4 % Other revenue 1,636 1,355 21 % Total revenue $ 360,261 $ 318,517 13 % Investment advisory and administrative fees Investment advisory and administrative fees are determined by contractual agreements with our sponsored funds and separate accounts, and are generally based upon a percentage of the market value of assets under 49 management. Net asset flows and changes in the market value of managed assets affect the amount of managed assets on which investment advisory and administrative fees are earned, while changes in asset mix among different investment mandates and products affect our average effective fee rate. Investment advisory and administrative fees represented 85 percent of total revenue in the first quarter of fiscal 2014 compared to 83 percent in the first quarter of fiscal 2013. The increase in investment advisory and administrative fees of 16 percent, or $41.4 million, in the first quarter of fiscal 2014 from the same period a year earlier can be primarily attributed to the 31 percent increase in average assets under management offset by a decline in our effective fee rate. The increase in average assets reflects strong organic growth over the last twelve months as well as the impact of the Clifton acquisition, which added $34.8 billion of primarily lower-fee implementation services to our consolidated assets under management. The decrease in our effective investment advisory and administrative fee rate to 43 basis points in the first quarter of fiscal 2014 from 49 basis points in the first quarter of fiscal 2013 reflects both the full quarter impact of the Clifton acquisition on product mix and a decrease in performance fees, which totaled approximately $140,000 in the first quarter of fiscal 2014 compared to $1.6 million in the first quarter of last year. Distribution and underwriter fees Distribution plan payments, which are made under contractual agreements with certain share classes of our sponsored funds and private funds, are calculated as a percentage of average assets under management. These fees fluctuate with both the level of average assets under management and the relative mix of assets. Underwriter commissions are earned on the sale of shares of our sponsored mutual funds on which investors pay a sales charge at the time of purchase (Class A share sales). Sales charges and underwriter commissions are waived or reduced on shareholder purchases that exceed specified minimum amounts and on certain categories of investors. Underwriter commissions fluctuate with the level of Class A share sales and the mix of Class A shares offered withand without sales charges. Distribution plan payments decreased 1 percent, or $0.3 million, to $19.8 million in the first quarter of fiscal 2014 from the same period a year earlier, reflecting decreases in average Class B fund distribution fees, offset by an increase in average Class A, Class R and certain private fund distribution fees. The following table shows the total distribution payments with respect to our Class A, Class B, Class C, Class R and private equity funds for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, % (in thousands) 2014 2013 Change Class A $ 332 $ 212 57 % Class B 1,016 1,553 -35 % Class C 17,261 17,222 0 % Class R 241 191 26 % Private funds 959 895 7 % Total distribution plan payments $ 19,809 $ 20,073 -1 % Underwriter fees and other distribution income decreased to $1.8 million in the first quarter of fiscal 2014, a decrease of 32 percent, or $0.9 million, over the same period a year earlier, primarily reflecting an decrease of $0.6 million in underwriter fees received on sales of Class A shares and a decrease of $0.4 million in contingent deferred sales charges received on certain Class A share redemptions. 50 Service fees Service fees, which are paid to EVD pursuant to distribution or service plans adopted by our sponsored mutual funds, are calculated as a percent of average assets under management in specific mutual fund share classes (principally Classes A, B, C, N and R). Certain private funds also make service fee payments to EVD. Service fees are paid to EVD as principal underwriter or placement agent to the funds for service and/or the maintenance of shareholder accounts. Service fee revenue increased 4 percent, or $1.2 million, to $32.3 million in the first quarter of fiscal 2014 from the same period a year earlier, primarily reflecting a 6 percent increase in average assets under management in funds and classes of funds subject to service fees. Other revenue Other revenue, which consists primarily of sub-transfer agent fees, miscellaneous dealer income, custody fees, Hexavest-related distribution and service revenue, and sublease income, increased by $0.3 million in the first quarter of fiscal 2014 over the same period a year ago, primarily reflecting an increase in Hexavest-related revenue. Expenses Operating expenses increased by 8 percent, or $18.2 million, in the first quarter of fiscal 2014 from the same period a year earlier, reflecting increases in compensation, distribution and service fees, amortization of deferred sales commissions, fund-related and other expenses as more fully described below. The following table shows our operating expenses for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, % (in thousands) 2014 2013 Change Compensation and related costs: Cash compensation $ 103,950 $ 94,662 10 % Stock-based compensation 14,872 14,167 5 % Total compensation and related costs 118,822 108,829 9 % Distribution expense 35,548 33,889 5 % Service fee expense 29,205 28,264 3 %Amortization of deferred sales commissions 4,970 4,783 4 % Fund-related expenses 8,453 7,424 14 % Other expenses 39,063 34,648 13 % Total expenses $ 236,061 $ 217,837 8 % Compensation and related costs Compensation expense increased by $10.0 million in the first quarter of fiscal 2014 from the same quarter a year earlier, reflecting increases in operating income-based incentives, base salaries and benefits and stock-based compensation, offset by decreases in sales-based incentives and other compensation. The following table shows our compensation and related costs for the three months ended January 31, 2014 and 2013: 51 Three Months Ended January 31, % (in thousands) 2014 2013 ChangeBase salaries and employee benefits $ 51,845 $ 46,495 12 % Stock-based compensation 14,872 14,167 5 % Operating income-based incentives 36,668 30,752 19 % Sales and revenue-based incentives 14,068 15,590 -10 % Other compensation expense 1,369 1,825 -25 % Total $ 118,822 $ 108,829 9 % Base salaries and employee benefits increased by 12 percent, or $5.4 million, primarily reflecting an increase in base compensation associated with higher headcount and annual merit increases, and an increase in employee benefits and payroll taxes. Stock-based compensation increased by 5 percent, or $0.7 million, in the first quarter of fiscal 2014, reflecting increases in headcount and expenses associated with subsidiary long-term equity plans. Operating-income based incentives increased by 19 percent, or $5.9 million, primarily reflecting an increase in pre-bonus adjusted operating income. Sales and revenue-based incentives decreased by 10 percent, or $1.5 million, primarily due to the decrease in gross sales on which sales-based incentives are paid. Other compensation expense decreased by 25 percent, or $0.5 million, reflecting reduced severance costs and sign-on bonuses. Distribution expense Distribution expense consists primarily of commissions paid to broker-dealers on the sale of Class A shares at net asset value, ongoing asset-based payments made to distribution partners pursuant to third-party distribution arrangements for certain Class C share and closed-end funds, marketing support arrangements to distribution partners and other discretionary marketing expenses. The following table shows our distribution expense for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, % (in thousands) 2014 2013 Change Class A share commissions $ 1,163 $ 2,195 -47 %Class C share distribution fees 13,445 13,823 -3 % Closed-end fund dealer compensation payments 4,690 4,330 8 % Intermediary marketing support payments 11,810 9,740 21 % Discretionary marketing expenses 4,440 3,801 17 % Total $ 35,548 $ 33,889 5 % Class A share commissions decreased by 47 percent, or $1.0 million, reflecting a decrease in certain Class A sales on which we pay a commission. Class C share distribution fees decreased by 3 percent, or $0.4 million, reflecting a decrease in Class C share assets held more than one year on which these fees are based. Closed-end fund dealer compensation payments increased 8 percent, or $0.4 million, reflecting an increase in average assets under management subject to those arrangements. Marketing expenses associated with intermediary marketing support payments to our distribution partners increased by 21 percent, or $2.1 million, reflecting increases in average assets subject to those arrangements. Discretionary marketing expenses increased by 17 percent, or $0.6 million, primarily reflecting an increase in the use of outside agencies. 52 Service fee expense Service fees we receive from sponsored funds are generally retained in the first year and paid to broker-dealers thereafter pursuant to third-party service arrangements. These fees are calculated as a percent of average assets under management in certain share classes of our mutual funds (principally Classes A, B, C, N and R), as well as certain private funds. Service fee expense increased by 3 percent, or $0.9 million, in the first quarter of fiscal 2014 from the same quarter a year earlier, reflecting an increase in average assets retained more than one year in funds and share classes that are subject to service fees.Amortization of deferred sales commissions Amortization expense is affected by ongoing sales and redemptions of mutual fund Class C shares and certain private funds and redemptions of Class B shares. Amortization expense increased 4 percent in the first quarter of fiscal 2014 from the same period a year earlier, primarily reflecting an increase in average Class C shares' deferred sales commissions. In the first quarter of fiscal 2014, 10 percent of total amortization related to Class B shares, 84 percent to Class C shares and 6 percent to privately offered equity funds. In the first quarter of fiscal 2013, 24 percent of total amortization related to Class B shares, 69 percent to Class C shares and 7 percent to privately offered equity funds.Fund-related expenses Fund-related expenses consist primarily of fees paid to sub-advisors, compliance costs and other fund-related expenses we incur. Fund-related expenses increased 14 percent, or $1.0 million, in the first quarter of fiscal 2014 over the same period a year earlier, primarily reflecting an increase in sub-advisory expenses associated with the use of unaffiliated sub-advisors for certain funds and an increase in other fund-related expenses. Other expenses Other expenses consist primarily of travel, facilities, information technology, professional services, communications and other miscellaneous corporate expenses, including the amortization of intangible assets. The following table shows our other expense for the three months ended January 31, 2014 and 2013: Three Months Ended January 31, % (in thousands) 2014 2013 Change Travel $ 3,990 $ 3,271 22 % Communications 1,167 1,240 -6 %Information technology 15,354 12,101 27 % Professional services 3,341 2,976 12 % Facilities-related 9,714 9,933 -2 % Other corporate expense 5,497 5,127 7 % Total $ 39,063 $ 34,648 13 % Other expenses increased by 13 percent, or $4.4 million, in the first quarter of fiscal 2014 from the same period a year earlier, primarily reflecting increases in information technology expense of $3.3 million, travel expense of $0.7 million, professional services expense of $0.4 million, and other corporate expenses of $0.4 million, offset by a decrease in facilities-related expenses of $0.2 million. The increase in information technology expense can be attributed to increases in software licensing and maintenance, market data and other information technology consulting expenses. The increase in travel expense relates to an overall increase in travel activity in the first quarter of fiscal 2014. The increase in professional services expense can be attributed to an increase in recruiting costs offset by a decrease in costs associated with corporate consulting engagements. The increase in other 53 corporate expenses reflects increases in charitable giving and the amortization of intangibles assets related to the Clifton acquisition. The decrease in facilities-related expenses can be primarily attributed to a decrease in depreciation expense. Non-operating Income (Expense) Three Months Ended January 31, % (in thousands) 2014 2013 ChangeGains and other investment income, net $ 413 $ 5,207 -92 % Interest expense (7,400 ) (8,570 ) -14 % Other income (expense) of consolidated CLO entities: Gains and other investment income, net 8,709 1,793 386 % Interest and other expense (7,835 ) (4,221 ) 86 % Total non-operating (expense) income $ (6,113 ) $ (5,791 ) 6 % Gains and other investment income, net, declined 92 percent in the first quarter of fiscal 2014 compared to the same period a year ago, primarily reflecting a decline in gains recognized on our seed capital investments. Interest expense decreased $1.2 million, or 14 percent, reflecting the retirement of $250 million of our 6.5 percent Senior Notes due 2017 and the contemporaneous issuance of $325 million of 3.625 percent Senior Notes due 2023 in the third quarter of fiscal 2013. Net income of our consolidated CLO entities totaled $0.7 million in the first quarter of fiscal 2014, representing $0.9 million of other income and $0.1 million of other operating expenses. Approximately $0.3 million of consolidated CLO entity net losses were included in net income (loss) attributable to non-controlling and other beneficial interests, reflecting third-party note holders' proportionate interests in the net income (loss) of each entity. Net income attributable to Eaton Vance Corp. shareholders included $1.0 million of income associated with consolidated CLO entities in the first quarter of fiscal 2014, representing management fees earned by the Company, offset by the Company's proportionate interest in the net income (losses) of the entities. Income Taxes Our effective tax rate, calculated as income taxes as a percentage of income before income taxes and equity in net income of affiliates, was 37.8 percent in the first quarter of fiscal 2014 compared to 37.9 percent in the first quarter of fiscal 2013. Excluding the effect of the consolidated CLO entities' net income (loss) allocated to other beneficial interest holders, our effective tax rate would have been 37.7 percent and 36.7 percent in the first quarter of fiscal 2014 and 2013, respectively. Our policy for accounting for income taxes includes monitoring our business activities and tax policies for compliance with federal, state and foreign tax laws. In the ordinary course of business, various taxing authorities may not agree with certain tax positions we have taken, or applicable law may not be clear. We periodically review these tax positions and provide for and adjust as necessary estimated liabilities relating to such positions as part of our overall tax provision. Equity in Net Income of Affiliates, Net of Tax Equity in net income of affiliates, net of tax, for the first quarter of fiscal 2014 primarily reflects our 49 percent equity interest in Hexavest, our 7 percent minority equity interest in a private equity partnership managed by a third party and equity interests in certain funds we sponsor or manage, most notably Eaton Vance Focused 54 Growth Opportunities Fund, Eaton Vance Focused Value Opportunities Fund, Eaton Vance Municipal Opportunities Fund, Eaton Vance Atlanta Capital Management Select Equity Fund, Eaton Vance Real Estate Fund, Eaton Vance Tax-Advantaged Bond Strategies Long-Term Fund and Eaton Vance Currency Income Advantage Fund. Equity in net income of affiliates, net of tax, increased by $0.1 million in the first quarter of fiscal 2014 over the same period a year earlier, primarily reflecting an increase in the Company's proportionate net interest in the earnings of Hexavest offset by decreases in the Company's proportionate net interests in the earnings of the private equity partnership and sponsored funds accounted for under the equity method. Net Income Attributable to Non-controlling and Other Beneficial Interests Net income attributable to non-controlling and other beneficial interests decreased by $7.0 million in the first quarter of fiscal 2014 from the same period a year earlier, reflecting an $8.3 million decrease in non-controlling interest value adjustments related to our majority owned subsidiaries and a $1.7 million decrease in net income attributable to non-controlling interest holders in the Company's consolidated funds and majority owned subsidiaries, offset by a $3.0 million decrease in net losses attributable to other beneficial interest holders in the Company's consolidated CLO entities. Net income attributable to non-controlling and other beneficial interests is not adjusted for taxes due to the underlying tax status of our consolidated subsidiaries. Parametric Risk Advisors LLC ("Parametric Risk Advisors") and Atlanta Capital Management Company LLC ("Atlanta Capital") are limited liability companies that are treated as partnerships for tax purposes. Funds and the CLO entities we consolidate are registered investment companies or private funds that are treated as pass-through entities for tax purposes. Effective November 1, 2013 Parametric Risk Advisors income and expenses are recorded in Parametric's tax filings. Changes in Financial Condition, Liquidity and Capital Resources The assets and liabilities of consolidated CLO entities do not affect our liquidity or capital resources. The collateral assets of consolidated CLO entities are held solely to satisfy the obligations of the entities, and we have no right to these assets beyond our direct investment in and management fees generated from the entities, both of which are eliminated in consolidation. The note holders of the CLO entities have no recourse to the general credit of the Company. As a result, the assets and liabilities of consolidated CLO entities are excluded from the discussion of liquidity and capital resources below.The following table summarizes certain key financial data relating to our liquidity and capital resources on January 31, 2014 and October 31, 2013 and the uses of cash for the three months ended January 31, 2014 and 2013. 55 Balance Sheet and Cash Flow Data January 31, October 31, (in thousands) 2014 2013 Balance sheet data: Assets: Cash and cash equivalents $ 361,974 $ 461,906 Investment advisory fees and other receivables 168,451 170,220 Total liquid assets $ 530,425 $ 632,126 Investments $ 575,546 $ 536,323 Liabilities: Debt $ 573,538 $ 573,499 Three Months Ended January 31, (in thousands) 2014 2013 Cash flow data: Operating cash flows $ (170,901 ) $ (72,206 ) Investing cash flows 41,765 12,132 Financing cash flows 30,394 (183,575 ) Liquidity and Capital Resources Liquid assets consist of cash and cash equivalents and investment advisory fees and other receivables. Cash and cash equivalents consist of cash and short-term, highly liquid investments that are readily convertible to cash. Investment advisory fees and other receivables primarily represent receivables due from sponsored funds and separately managed accounts for investment advisory and distribution services provided. Liquid assets represented 33 percent and 38 percent of total assets on January 31, 2014 and October 31, 2013, respectively, excluding those assets identified as assets of consolidated CLO entities. The Company's seed investments in consolidated funds and separate accounts as well as $91.6 million and $20.1 million of cash management assets as of January 31, 2014 and October 31, 2013, respectively, are not treated as liquid assets because they may be longer term in nature. The $101.7 million decrease in liquid assets in the first three months of fiscal 2014 primarily reflects net cash used for operating activities of $170.9 million, the payment of $26.7 million of dividends to shareholders, the repurchase of $43.5 million of Non-Voting Common Stock, the payment of $26.9 million to acquire additional interests in Atlanta Capital, offset by proceeds from the issuance of Non-Voting Common Stock of $26.1 million and the $137.8 million impact of consolidated CLO entity's investing and financing activities. On January 31, 2014, our debt consisted of $250 million in aggregate principal amount of 2017 Senior Notes and $325 million in aggregate principal amount of 2023 Senior Notes. We also maintain a $300.0 million unsecured revolving credit facility with several banks that expires on June 4, 2015. The facility provides that we may borrow at LIBOR-based rates of interest that vary depending on the level of usage of the facility and our 56 credit ratings. The agreement contains financial covenants with respect to leverage and interest coverage and requires us to pay an annual commitment fee on any unused portion. We had no borrowings under our revolving credit facility at January 31, 2014 or at any point during the fiscal quarter. We were in compliance with all debt covenants as of January 31, 2014. We continue to monitor our liquidity daily. We remain committed to growing our business and expect that our main uses of cash will be seed investments in new products, acquire shares of our Non-Voting Common Stock, pay dividends, make strategic acquisitions, enhance technology infrastructure and pay the operating expenses of the business, which are largely variable in nature and fluctuate with revenue and assets under management. We believe that our existing liquid assets, cash flows from operations and borrowing capacity under our existing credit facility are sufficient to meet our current and forecasted operating cash needs for the next twelve months and to satisfy our future commitments as more fully described in Contractual Obligations below. The risk exists, however, that if we need to raise additional capital or refinance existing debt in the future, resources may not be available to us in sufficient amounts or on acceptable terms. Our ability to enter the capital markets in a timely manner depends on a number of factors, including the state of global credit and equity markets, interest rates, credit spreads and our credit ratings. If we are unable to access capital markets to issue new debt, refinance existing debt or sell shares of our Non-Voting Common Stock as needed, or if we are unable to obtain such financing on acceptable terms, our business could be adversely impacted. We have a "well-known seasoned issuer" shelf registration statement on Form S-3 on file with the SEC that registers an unspecified amount of Non-Voting Common Stock, debt securities, depositary shares, warrants, stock purchase contracts and stock purchase units for future issuance. We would expect to use the net proceeds of future securities sales under the shelf registration for general corporate purposes. Recoverability of our Investments Our $575.5 million of investments as of January 31, 2014 consisted of our 49 percent equity interest in Hexavest, positions in Company-managed funds and separate accounts entered into for investment and business development purposes, and certain other investments held directly by the Company. Investments in Company-managed funds and separate accounts and direct investments by the Company are generally in liquid debt or equity securities and are carried at fair market value. We test our investments, other than equity method investments, for impairment on a quarterly basis. We evaluate our investments in non-consolidated CLO entities and investments classified as available-for-sale for impairment using quantitative factors, including how long the investment has been in a net unrealized loss position, and qualitative factors, including the credit quality of the underlying issuer and our ability and intent to continue holding the investment. If markets deteriorate in the quarters ahead, our assessment of impairment on a quantitative basis may lead us to impair investments in future quarters that were in an unrealized loss position at January 31, 2014. We test our investments in equity method investees, goodwill and indefinite-lived intangible assets in the fourth quarter of each fiscal year, or as facts and circumstances indicate that additional analysis is warranted. There have been no significant changes in financial condition in the first three months of fiscal 2014 that would indicate that an impairment loss exists at January 31, 2014. We periodically review our deferred sales commissions and identifiable intangible assets for impairment as events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. There have been no significant changes in financial condition in the first three months of fiscal 2014 that would indicate that an impairment loss exists at January 31, 2014. 57 Operating Cash Flows Our operating cash flows are calculated by adjusting net income to reflect other significant sources and uses of cash, certain significant non-cash items and timing differences in the cash settlement of other assets and liabilities. Significant sources and uses of cash that are not reflected in either revenue or operating expenses include net cash flows associated with our deferred sales commission assets (capitalized sales commissions paid net of contingent deferred sales charges received) as well as net cash flows associated with the purchase and sale of investments within the portfolios of our consolidated funds and separate accounts (proceeds received from the sale of trading investments net of cash outflows associated with the purchase of trading investments). Significant non-cash items include the amortization of deferred sales commissions and other intangible assets, depreciation, stock-based compensation and the net change in deferred income taxes. Cash used for operating activities totaled $170.9 million in the first three months of fiscal 2014, an increase of $98.7 million from the $72.2 million of cash used for operating activities in the first three months of fiscal 2013. The increase in net cash used for operating activities year-over-year primarily reflects an increase in the net purchase of trading securities and an increase in net cash used in the operating activities of our consolidated CLO entities, partly offset by an increase in deferred taxes and a decrease in the timing differences in the cash settlements of our other assets and liabilities. Investing Cash Flows Cash flows from investing activities consist primarily of the purchase of equipment and leasehold improvements, cash paid in acquisitions and the purchase and sale of available-for-sale investments in sponsored funds that we do not consolidate. Cash provided by investing activities totaled $41.8 million in the first three months of fiscal 2014 compared to $12.1 million in the first three months of fiscal 2013. The increase in cash provided by investing activities year-over-year can be primarily attributed to a decrease in cash utilized for acquisitions in the first quarter of fiscal 2014, reflecting payments made to the sellers of Clifton and TABS of $67.2 million and $14.1 million, respectively, in the first quarter of fiscal 2013, offset by a decrease of $46.3 million in the net proceeds from sales and purchases of available-for-sale securities and a decrease of $4.7 million in the net proceeds from the sale and maturities of consolidated CLO entity investments. Financing Cash Flows Financing cash flows primarily reflect distributions to non-controlling interest holders of our majority-owned subsidiaries and consolidated funds, the purchase of additional non-controlling interests in our majority-owned subsidiaries, the issuance and repurchase of our Non-Voting Common Stock, excess tax benefits associated with stock option exercises, the payment of dividends to our shareholders and the proceeds and payments associated with the Company's debt. Financing cash flows also include proceeds from the issuance of capital stock by consolidated investment companies and cash paid to meet redemptions by non-controlling interest holders of these funds. Cash provided by financing activities totaled $30.4 million in the first three months of fiscal 2014 compared to cash used for financing activities of $183.6 million in the first three months of fiscal 2013. In the first quarter of fiscal 2014 we paid $26.9 million to acquire additional interests in Atlanta Capital, we repurchased and retired a total of 1.1 million shares of our Non-Voting Common Stock for $43.5 million under our authorized repurchase programs and we issued 2.2 million shares of our Non-Voting Common Stock in connection with the grant of restricted share awards, the exercise of stock options and other employee stock purchases for total proceeds of $26.1 million. As of January 31, 2014, we have authorization to purchase an additional 7.8 million shares under our current share repurchase authorization and anticipate that future repurchases will continue to be an ongoing 58 use of cash. Our dividends declared per share were $0.22 in the first quarter of fiscal 2014 compared to $1.20 per share in the first quarter of fiscal 2013. Dividends declared per share in the first quarter of fiscal 2013 included a one-time special dividend of $1.00 per share declared and paid in December 2012. We currently expect to declare and pay quarterly dividends on our Voting and Non-Voting Common Stock comparable to the dividend declared in the first quarter of fiscal 2014. In the first quarter of fiscal 2014, cash provided by financing activities also included $337.7 million in principal payments made on senior notes, lines of credit and preferred shares of consolidated CLO entities as well as $429.6 million related to the issuance of new senior notes and preferred shares bythose entities. Contractual Obligations The following table details our contractual obligations as of January 31, 2014: Payments due by period Less than 1 1-3 4-5 After 5 (in millions) Total Year Years Years Years Operating leases - facilities and equipment(1) $ 372 $ 22 $ 40 $ 38 $ 272 Senior notes 575 - - 250 325 Interest payments on senior notes 177 28 56 40 53 Investment in private equity partnership 1 - 1 - - Unrecognized tax benefits(2) 2 1 1 - - Total $ 1,127 $ 51 $ 98 $ 328 $ 650 Contractual obligations of consolidated CLO entities: Senior and subordinated note obligations and preferred shares $ 701 $ - $ - $ - $ 701 Interest payments on senior and subordinated note obligations 100 11 21 21 47 Total contractual obligations of consolidated CLO entities $ 801 $ 11 $ 21 $ 21 $ 748 (1) Minimum payments have not been reduced by minimum sublease rentals of $2.0 million to be received in the future under non-cancelable subleases. (2) This amount includes unrecognized tax benefits along with accrued interest and penalties. In July 2006, we committed to invest up to $15.0 million in a private equity partnership that invests in companies in the financial services industry. We had invested $14.2 million of the maximum $15.0 million as of January 31, 2014. The remaining commitment is included in the table above. The Company will be obligated to make three additional annual contingent payments in respect of its acquisition of the TABS business in December 2008 based on prescribed multiples of TABS's revenue for the twelve months ending December 31, 2014, 2015 and 2016. There is no defined floor or ceiling on such payments, resulting in significant uncertainty as to the amount of any payment in the future. Accordingly, future payments to be made have been excluded from the above table. 59 The Company will be obligated to make an additional payment in respect of the acquired interest in Hexavest in fiscal 2014 if Hexavest exceeds defined annual revenue thresholds in the second twelve-month period following the closing. We also have the option to acquire an additional 26 percent interest in Hexavest in 2017. There is no defined floor or ceiling on any payment, resulting in significant uncertainty as to the amount of any payment in the future. Accordingly, future payments to be made have been excluded from the above table until such time as the uncertainty has been resolved. Although the amounts of these payments cannot be predicted with certainty, we anticipate they may be a significant use of cash in future years. Interests held by non-controlling interest holders of Atlanta Capital and Parametric are not subject to mandatory redemption. The purchase of non-controlling interests is predicated on the exercise of a series of puts held by non-controlling interest holders and calls held by us. The puts provide the non-controlling interest holders the right to require us to purchase these retained interests at specific intervals over time, while the calls provide us with the right to require the non-controlling interest holders to sell their retained equity interests to us at specified intervals over time, as well as upon the occurrence of certain events such as death or permanent disability. As a result, there is significant uncertainty as to the timing of any non-controlling interest purchase in the future. Non-controlling interests are redeemable at fair value or based on a multiple of earnings before interest and taxes of the subsidiary, which is a measure that is intended to represent fair value. As a result, there is significant uncertainty as to the amount of any non-controlling interest purchase in the future. Accordingly, future payments to be made to purchase non-controlling interests have been excluded from the above table, unless a put or call option has been exercised and a mandatory firm commitment exists for us to purchase such non-controlling interests. Although the timing and amounts of these purchases cannot be predicted with certainty, we anticipate that the purchase of non-controlling interests in our consolidated subsidiaries may be a significant use of cash in future years. We have presented all redeemable non-controlling interests at redemption value on our Consolidated Balance Sheet as of January 31, 2014. We have recorded the current quarter change in the estimated redemption value of non-controlling interests redeemable at fair value as a component of additional paid-in capital and have recorded the current quarter change in the estimated redemption value of non-controlling interests redeemable at other than fair value (non-controlling interests redeemable based on a multiple of earnings before interest and taxes of the subsidiary) as a component of net income attributable to non-controlling and other beneficial interests. Based on our calculations, the estimated redemption value of our non-controlling interests, redeemable at either fair value or other than fair value, totaled $90.9 million on January 31, 2014 compared to $74.9 million on October 31, 2013. Redeemable non-controlling interests as of January 31, 2014 consist of third-party investors' ownership in consolidated investment funds of $4.9 million, non-controlling interests in Atlanta Capital redeemable at other than fair value of $13.6 million, non-controlling interests in Parametric issued in conjunction with the Clifton acquisition and redeemable at fair value of $22.8 million, non-controlling interests in Parametric issued in conjunction with the Parametric Risk Advisors final put redeemable at fair value of $9.9 million and profit interests granted under the long-term incentive plans of Parametric and Atlanta Capital redeemable at fair value of $26.6 million and $12.9 million, respectively. Redeemable non-controlling interests as of October 31, 2013 consist of third-party investors' ownership in consolidated investment funds of $4.0 million, non-controlling interests in Parametric Risk Advisors and Atlanta Capital redeemable at other than fair value of $6.1 million and $13.6 million, respectively, non-controlling interests in Parametric issued in conjunction with the Clifton acquisition and redeemable at fair value of $13.9 million and redeemable interests in profit interests granted under the long-term incentive plans of Parametric and Atlanta Capital of $24.9 million and $12.3 million, respectively. On November 1, 2013, the non-controlling interest holders of Parametric Risk Advisors entered into a Unit Acquisition Agreement with Parametric to exchange their remaining ownership interests in Parametric Risk Advisors, including the 10 percent interest subject to the fiscal 2013 call, for indirect ownershipinterests in 60 Parametric. The indirect ownership interests issued in this exchange contain put and call features that are exercisable over a four year period beginning in 2018. Indirect capital and profit interests in Parametric issued in connection with the transaction totaled 0.8 percent on January 31, 2014. As a result of this exchange, Parametric became the sole owner of Parametric Risk Advisors effective November 1, 2013. Indirect profit interests granted to Parametric's employees under a long-term equity incentive plan of that entity increased to 5.1 percent at January 31, 2014, reflecting a 0.4 percent profit interest granted on November 1, 2013 under the plan. Indirect capital and profit interests in Parametric held by the principals of Clifton totaled 1.9 percent on January 31, 2014, reflecting indirect interests issued in conjunction with the Clifton acquisition on December 31, 2012. The indirect ownership interests issued in this exchange contain put and call features that are exercisable over a four year period beginning in 2014. Capital and profit interests in Parametric held by the Company decreased to 92.2 percent on January 31, 2014, reflecting the transactions described above. In fiscal 2013, the Company exercised a call option requiring the non-controlling interest holders of Atlanta Capital to sell a 3.4 percent profit interest and a 0.2 percent capital interest in Atlanta Capital to the Company for $12.8 million. In addition, the non-controlling interest holders of Atlanta Capital exercised a put option requiring the Company to purchase an additional 3.8 percent profit interest and a 0.3 percent capital interest in Atlanta Capital for $14.1 million. The purchase price of the call and put options was based on a multiple of earnings before taxes based on the financial results of Atlanta Capital for the fiscal year ended October 31, 2013. Upon the execution of the call and put options, the Company reduced redeemable non-controlling interests and recorded a liability within other liabilities on the Company's Consolidated Balance Sheet. The transactions settled in December 2013. Non-controlling interest holders of Atlanta Capital have the right to sell a 3.1 percent profit interest and their remaining 0.1 percent capital interest in Atlanta Capital to the Company at a multiple of earnings before taxes based on the financial results of Atlanta Capital for the fiscal year ended October 31, 2014 and each year thereafter subject to certain restrictions. The non-controlling interest holders have the right to sell the remaining non-controlling interest at a multiple of earnings before taxes based on Atlanta Capital's financial results for the fiscal year ending October 31, 2014 and each year thereafter through October 31, 2017. The Company has the right to purchase the remaining non-controlling interest at a multiple of earnings before taxes based on Atlanta Capital's financial results for the fiscal year ending October 31, 2015 and each year thereafter through October 31, 2017. Neither the exercise of the puts nor the exercise of the calls is contingent upon the non-controlling interest holders of Atlanta Capital remaining employees. Indirect profit interests in Atlanta Capital held by its employees, including profit interests granted under a long-term equity incentive plan, were 13.8 percent, reflecting the transactions above and a 1.2 percent profit interest granted on November 1, 2013. Capital interests in Atlanta Capital held by the Company increased to 99.9 percent and profit interests decreased to 86.2 percent, respectively, after reflecting the transactions described above. Foreign Subsidiaries We consider the undistributed earnings of our Canadian subsidiary as of January 31, 2014 to be indefinitely re-invested in foreign operations. Accordingly, no U.S. income taxes have been provided thereon. As of January 31, 2014 the Company had approximately $12.1 million of undistributed earnings in our Canadian subsidiary that is not available to fund domestic operations or to distribute to shareholders unless repatriated. Repatriation would require the Company to accrue and pay U.S. corporate income taxes. The Company does not have a current plan to repatriate these funds. 61 Off-Balance Sheet Arrangements We do not invest in any off-balance sheet vehicles that provide financing, liquidity, market or credit risk support or engage in any leasing activities that expose us to any liability that is not reflected in our Consolidated Financial Statements. Critical Accounting Policies There have been no updates to our critical accounting policies from those disclosed in Management's Discussion and Analysis of Financial Condition in our Form 10-K for the fiscal year ended October 31, 2013. Accounting Developments There have been no updates to the accounting developments from those disclosed in Management's Discussion and Analysis of Financial Condition in our Form 10-K for the fiscal year ended October 31, 2013. |