EDGAR 10-K Filing

Company CIK: 1052100
Filing Year: 2021
Filename: 1052100_10-K_2021_0001558370-21-001278.json

---

ITEM 1. BUSINESS
ITEM 1. Business
General
Waddell & Reed Financial, Inc. is a holding company, incorporated in the state of Delaware in 1981, that conducts business through its subsidiaries. Unless the context otherwise requires, all references to the “Company,” “we,” “our” or “us” include Waddell & Reed Financial, Inc. and its subsidiaries. Founded in 1937, we are one of the oldest mutual fund complexes in the United States, having introduced the former Waddell & Reed Advisors group of mutual funds (the “Advisors Funds”) in 1940. Over time we’ve added additional mutual funds: Ivy Funds (the “Ivy Funds”); Ivy Variable Insurance Portfolios, our variable product offering (“Ivy VIP”); InvestEd Portfolios, our 529 college savings plan (“InvestEd”); Ivy High Income Opportunities Fund, a closed-end mutual fund (“IVH”); the Ivy Global Investors Société d’Investissement à Capital Variable (the “SICAV”) and its Ivy Global Investors sub-funds (the “IGI Funds”), an undertaking for the collective investment in transferable securities; (collectively, the Advisors Funds, Ivy Funds, Ivy VIP, InvestEd and IVH are referred to as the “Funds”). In 2018, we completed the merger of all Advisors Funds into Ivy Funds with substantially similar objectives and strategies, and substantially completed the liquidation of the IGI Funds. In addition to the Funds and IGI Funds, our assets under management (“AUM”) include institutional accounts managed by the Company.
We derive our revenues from providing investment management and advisory services, investment product underwriting and distribution, and shareholder services administration to the Funds, institutional accounts, and the IGI Funds prior to their liquidation. We also provide wealth management services, primarily to retail clients through Waddell & Reed, Inc. (“W&R”), and independent financial advisors associated with W&R (“Advisors”), who provide financial planning and advice to their clients. Investment management and advisory fees and certain underwriting and distribution revenues are based on the level of AUM and assets under administration (“AUA”) and are affected by sales levels, financial market conditions, redemptions and the composition of assets. Our underwriting and distribution revenues consist of fees earned on fee-based advisory programs, asset-based service and distribution fees promulgated under the 1940 Act (“Rule 12b-1”), distribution fees on certain variable products, and commissions derived from sales of investment and insurance products. The products sold have various commission structures and the revenues received from those sales vary based on the type and dollar amount sold. Shareholder service fee revenue includes transfer agency fees, custodian fees from retirement plan accounts, portfolio accounting and administration fees, and is earned based on client AUM or number of client accounts. Our major expenses are for distribution of our products, compensation related costs, occupancy, general & administrative, and information technology.
Proposed Acquisition of Waddell & Reed Financial, Inc. by Macquarie
On December 2, 2020, the Company announced a merger agreement with Macquarie Asset Management, the asset management division of Macquarie Group. Subject to the terms and conditions of the Agreement and Plan of Merger (the “Merger Agreement”) by and among the Company, Macquarie Management Holdings, Inc. (“Macquarie”), Merry Merger Sub, Inc. (“Merger Sub”) and (solely for limited purposes) Macquarie Financial Holdings Pty Ltd, Merger Sub will be merged with and into the Company (the “merger”), with the Company surviving the merger as a wholly owned subsidiary of Macquarie. Pursuant to the Merger Agreement, at the effective time of the merger, each share of the Company’s Class A common stock issued and outstanding immediately prior to the effective time will be converted into the right to receive $25.00 per share in cash, without interest and subject to any withholding of taxes required by applicable law in accordance with the Merger Agreement. On completion of the merger, Macquarie intends to sell our wealth management business to LPL Holdings, Inc.
The proposed merger is expected to close by the end of April 2021, subject to regulatory approvals, Waddell & Reed Financial, Inc. stockholder approval and other customary closing conditions.
Please see the Risks Related to the Proposed Merger included in Item 1A - “Risk Factors” in this Annual Report for a discussion of certain risks related to our proposed merger with Macquarie. Please see the Company’s definitive proxy statement filed with the U.S. Securities and Exchange Commission (the “SEC”) on February 17, 2021, for additional information on the merger.
Response to the Coronavirus Disease 2019 (“COVID-19”)
The Company continues to proactively manage business continuity and safety considerations as circumstances of
COVID-19 evolve. Our leadership team’s priority is on ensuring the health and safety of all employees, clients, Advisors and communities, while also ensuring full continuity of service and access. The Company started transitioning to a work from home environment early in March 2020 and has been following the Centers for Disease Control and Prevention and local authorities’ recommendations on safe practices throughout this process. We have undertaken a number of steps to facilitate safety, security and full continuity of service, including:
● Our Enterprise Preparedness Team and COVID-19 steering committee continue to meet regularly to assess developments and determine the best action to ensure business continuity and the safety of our employees and partners.
● We have adopted interim business practices, including restricting business travel, requiring meetings to take place via remote access tools, adopting safety protocols to limit the potential for exposure, adopting social distancing practices, implementing a clearly-defined approval process for reentry to any worksite, advising personnel on preventive measures and offering remote collaboration and productivity tools and training resources to our employees.
● We enhanced monitoring and capabilities of our systems to allow our remote workforce to function efficiently and have continued our educational and monitoring practices to ensure there are no compromises to confidentiality, privacy and cybersecurity requirements.
● The Ivy investment management and distribution teams transitioned seamlessly to remote working. Our teams have a strong heritage of active collaboration which has migrated to a virtual environment without compromise.
● Within our wealth management business, approximately 25% of Advisors are working from temporary locations. We are demonstrating our differentiated service and support model by continuing regular communications with Advisors as well as delivering additional advisor and client focused resources.
● We have not initiated any layoffs, furloughs or reduced hours. As we implemented our business continuity plans, we have intentionally maintained the same pay practices for all of our employees based upon their regular work schedule, paid spot bonuses to certain employees, implemented a temporary hourly wage increase to designated client services personnel, increased certain benefit coverages for specific COVID-19 related treatments and made targeted philanthropic contributions to local organizations to help support the COVID-19 responses in our community.
Organization
We deliver our investment management advisory services through our subsidiary, Ivy Investment Management Company (“IICO”), the registered investment adviser for the Ivy Funds, Ivy VIP and InvestEd.
Our underwriting and distribution services are delivered through our two broker-dealers: W&R and Ivy Distributors, Inc. (“IDI”). W&R is a registered broker-dealer and investment adviser that acts as a distributor of variable annuities and other insurance products issued by our business partners. IDI is the distributor and underwriter for the Ivy Funds, Ivy VIP and InvestEd.
Waddell & Reed Services Company (“WRSCO”) and/or its subagents provide transfer agency and accounting services to the Funds.
Investment Management Operations
Our investment management and advisory services provide one of our largest sources of revenues. We earn investment management fee revenues by providing investment management and advisory services pursuant to investment management agreements with the Funds. While the specific terms of the agreements vary, the basic terms are similar. The agreements provide that we render overall investment management services to each of the Funds, subject to the oversight of each Fund’s board of trustees and in accordance with each Fund’s investment objectives and policies. The agreements permit us to enter into separate agreements for shareholder services or accounting services with each respective Fund.
Each Fund’s board of trustees, including a majority of the trustees who are not “interested persons” of the Fund or the Company within the meaning of the Investment Company Act of 1940, as amended (the “ICA”) (“disinterested members”) and the Fund’s shareholders must approve the investment management agreement between the respective Fund and the Company. These agreements may continue in effect from year to year if specifically approved at least annually by (i) the Fund’s board, including a majority of the disinterested members, or (ii) the vote of a majority of both the shareholders of the Fund and the disinterested members of each Fund’s board, each vote being cast in person at a meeting called for such purpose. Each agreement automatically terminates in the event of its assignment, as defined by the ICA or the Investment Advisers Act of 1940, as amended (the “Advisers Act”), and may be terminated without penalty by any Fund by giving us 60 days’ written notice if the termination has been approved by a majority of the Fund’s trustees or the Fund’s shareholders. We may terminate an investment management agreement without penalty on 120 days’ written notice. Our proposed merger with Macquarie constitutes an assignment under the ICA and the Advisers Act. Each Fund’s board of trustees and the Fund’s shareholders must approve any assignment of an investment management agreement. We are in the process of obtaining the consents required for the assignment of investment management agreements resulting from the consummation of the merger.
In addition to performing investment management services for the Funds, we act as an investment adviser for institutional and other private investors and we provide subadvisory services to other investment companies. Such services are provided pursuant to various written agreements, and our fees are generally based on a percentage of AUM.
Our investment management team begins each business day in a collaborative discussion that fosters the sharing of information, analysis and ideas, yet reinforces individual accountability. Through all market cycles, we remain dedicated to the following investment principles:
● Rigorous fundamental research-an enduring investment culture that dedicates itself to analyzing companies on our own rather than relying exclusively on widely available research produced by others.
● Collaboration and accountability-a balance of collaboration and individual accountability, which ensures the sharing and analysis of investment ideas among investment professionals while empowering portfolio managers to shape their portfolios individually.
● Focus on growing and protecting client assets-a sound approach that seeks to capture asset appreciation when market conditions are favorable and strives to manage risk during difficult market periods.
These three principles shape our investment philosophy and money management approach. For over 80 years, our investment organization has delivered consistently competitive investment performance. Through bull and bear markets, our investment professionals have not strayed from what works-fundamental research and a time-tested investment processes. We believe long-term clients turn to us because they appreciate that our investment approach continues to identify and create opportunities for wealth creation.
A key part of our investment culture is our commitment to long-term, sustainable business models. Environmental considerations, social matters including diversity, inclusion, employee engagement and community investments, leadership and governance, business impact and innovation are just some of the dimensions we have incorporated into our fundamental investment process. Collectively, these environmental, social and governance matters include issues known as “ESG”. In furthering our commitment to sustainable investing, we are a member of the Investor Advisory Group of the Sustainability Accounting Standards Board Alliance and an investor signatory to both the CDP and the Investor Stewardship Group.
We believe that great investors thrive in an investor-focused, stewardship culture, which we explicitly state in our Code of Ethics. Acting with a partnership mindset extends investment time horizons, and deepens client relationships, in a way that supports strong and sustainable investment performance. As such, our portfolio management group has meaningful personal assets invested alongside client funds at Ivy. Our investment management team is comprised of 91 professionals, including 32 portfolio managers who average 25 years of industry experience and 18 years of tenure with our firm. We have significant experience in virtually all major asset classes, several specialized asset classes and a range of investment styles. We have emphasized a culture and practice of team-based portfolio management on our funds and have fortified our research team with additional investment analysts over the past several years, while continuing to foster a collaborative culture across our investment management professionals. We also engage subadvisors who bring additional expertise in specific asset classes, when appropriate.
Investment Management Products
Our mutual funds provide a wide variety of investment options. We are the exclusive underwriter and distributor of 84 registered mutual fund portfolios in the Funds, which includes 48 investment strategies. During 2018, the remaining Advisors Funds merged into Ivy Funds with substantially similar objectives and strategies and six Ivy Funds and one Ivy VIP fund merged into Ivy Funds and an Ivy VIP fund, respectively, with generally similar investment objectives. Variable products, Ivy VIP and InvestEd are offered primarily through Advisors in our wealth management channel; in some circumstances, certain of those funds are also offered through the unaffiliated channel. The Ivy Funds are offered through both our unaffiliated channel and wealth management channel. The Funds’ AUM are included in either our unaffiliated channel or our wealth management channel depending on which channel marketed the client account or is the broker of record. We also offer our strategies in other structures, such as institutional separate accounts, collective investment trusts and model-delivery separately managed accounts. As of December 31, 2020, we managed $74.8 billion in AUM.
Distribution Channels
One of our distinctive qualities is that we distribute our investment products through a balanced distribution network. Our distribution channels cover retail sales channels, including our affiliated wealth manager, W&R, as well as an institutional sales channel.
Unaffiliated Channel
The IDI focused distribution model centers on two sales channels, National Distribution and Professional Buyers Distribution, to best diversify asset flow and the AUM profile of the Company. AUM in this channel were $28.0 billion at the end of 2020.
National Distribution, inclusive of National Accounts and National Wholesale, drives sales throughout the nationwide broker-dealer network. The National Accounts team focuses on firm home office interactions and the National Wholesale team focuses on driving sales at the financial advisor level. This alignment provides a holistic, cohesive and collaborative sales and service approach to our national broker-dealer partners. National Wholesale includes 23 external wholesalers, four of which are exclusively devoted to W&R.
Professional Buyers Distribution focuses on sales and service across the institutional, consultant relations, insurance, registered investment advisor (“RIA”) and defined contribution investment only (“DCIO”) categories. Unifying sales strategies within the Professional Buyers Distribution group brings collaboration, shared knowledge and enhanced service levels to key institutional, retirement, insurance and RIA clients that require specialized interactions and communication.
The Distribution Operations team supports IDI’s sales and service-related processes including training, business intelligence, client relationship management and sales systems, and practice management. This group also includes IDI’s professional client experience team, which creates key client-facing deliverables utilized by both distribution groups. The Distribution Operations team is designed to help increase the overall knowledge and responsiveness of the entire distribution channel.
Wealth Management Channel
Throughout our history and continuing today, Advisors sell investment products to individuals, families and businesses across the country in geographic markets of all sizes. Advisors assist clients on a wide range of financial issues with a significant focus on helping them plan, generally, for long-term goals and offer one-on-one consultations that emphasize long-term relationships through continued service.
Over the past several years, we have expanded our wealth management platform technology and product offering, while continuing to make investments that allow Advisors to simplify the way they conduct business with clients. We continue to work to transform W&R into a fully competitive and profitable aspect of our business model. These efforts have included enhancing the compensation program for Advisors, investing in a new advisor technology platform, transitioning advisors currently leasing space in W&R offices to personal branch offices and redesigning the Advisor service and support model. These additional enhancements were designed to increase our ability to retain and competitively
recruit experienced Advisors. Since January 1, 2020, 51 new advisors have affiliated with W&R with combined prior firm AUA totaling over $2.8 billion.
As of December 31, 2020, there were 936 Advisors and 397 licensed advisor associates, for a total of 1,333 licensed individuals associated with W&R who operate out of offices located throughout the United States. Based on industry data, W&R ranks among the largest independent wealth management firms. As of December 31, 2020, our wealth management channel had AUM of $43.3 billion.
Institutional Channel
We also manage assets in a variety of investment styles for a variety of types of institutions. The largest client type is other asset managers that hire us to act as subadvisor for their branded products; they are typically domestic distributors of investment products who lack scale or the track record to manage internally or choose to market multi-manager styles. Our diverse client list also includes pension funds, Taft-Hartley plans and endowments. AUM in the institutional channel were $3.6 billion at December 31, 2020.
Wealth Management Products and Services
Since our founding in 1937, W&R has been committed to our client’s financial goals. W&R offers a variety of sophisticated and personalized financial planning services to address virtually any client goal, objective or situation including retirement planning, education planning, survivor needs, asset allocation, estate planning, business planning, income tax planning, disability and long-term care. W&R offers a variety of products to clients including fee-based advisory products, mutual funds, general securities, 529 college savings plans, retirement plans and insurance and annuities. In 2020, W&R expanded its WaddellONE centralized digital platform with the launch of ONESource, a consolidated digital repository, which seamlessly connects data across platforms for advisors, and ONEService, a web-based repository of processes, procedures and other information available to all Advisors.
W&R offers clients full-service brokerage services as well as a variety of fee-based advisory programs, including Managed Allocation Portfolio (“MAP”), MAPChoice, MAPFlex, MAPSelect, MAPLatitude, MAPNavigator, MAPDirect, Guided Investment Strategies and Strategic Portfolio Allocation (“SPA”). These programs utilize a variety of underlying investment options including mutual funds, individual stocks and bonds and exchange traded funds (“ETFs”) and are part of the evolution of our fully independent wealth management business model. In 2020, W&R introduced a High Net Worth suite of products and services enabling affiliated advisors to offer a holistic, flexible approach to complex financial situations, as well as a new Separately Managed Account (“SMA”) Strategies product offering allowing affiliated advisors to offer the direct ownership structure, transparency, tax strategy options and other benefits of SMAs to clients. As of December 31, 2020, clients had $33.1 billion invested in our fee-based advisory programs.
Through W&R, we distribute various variable annuity products, some of which offer our affiliated Ivy VIP funds as an investment vehicle. Through our insurance agency subsidiaries, Advisors also offer clients retirement and life insurance products underwritten by our business partners. We offer unaffiliated mutual fund products, other variable annuity products, and full-service brokerage products and services through a third-party clearing broker-dealer.
AUA includes both client assets invested in the Funds and in other companies’ products that are distributed through W&R and held in brokerage accounts or within our fee-based advisory programs. As of December 31, 2020, we managed AUA of $69.7 billion.
Service Agreements
We earn service fee revenues by providing various services to the Funds and their shareholders. Pursuant to shareholder servicing agreements, we perform shareholder servicing functions for which the Funds pay us a monthly fee, including: maintaining shareholder accounts; issuing, transferring and redeeming shares; distributing dividends and paying redemptions; furnishing information related to the Funds; and handling shareholder inquiries. During 2019, the Company outsourced the transactional processing operations of its internal transfer agency, which provides some of these services. Pursuant to accounting service agreements, we provide the Funds with accounting and administrative services and assistance for which the Funds pay us a monthly fee, including: maintaining the Funds’ records; pricing Fund shares; and preparing prospectuses for existing shareholders, proxy statements and certain other shareholder reports. Agreements with
the Funds may be adopted or amended with the approval of the disinterested members of each Fund’s board of trustees and have annually renewable terms.
Competition
The financial services industry is a highly competitive global industry. According to the Investment Company Institute (the “ICI”), at the end of 2020, there were more than 9,000 open-end investment companies, nearly 500 closed-end investment companies and more than 2,100 exchange traded funds of varying sizes, investment policies and objectives whose shares are being offered to the public in the United States alone. Factors affecting our business include investment performance, fees, brand recognition, business reputation, quality of service and the continuity of both client relationships and AUM. A majority of mutual fund sales go to funds that are highly rated by a small number of well-known ranking services that focus on investment performance. Competition is influenced by the achievement of competitive investment management performance, distribution methods, the type and quality of shareholder services, the success of marketing efforts and the ability to develop investment products for certain market segments to meet the changing needs of investors.
We compete with other mutual fund management, distribution and service companies that distribute their fund shares through a variety of methods, including affiliated and unaffiliated sales forces, broker-dealers and direct sales to the public of shares offered at a low or no sales charge. Many larger mutual fund complexes have significant advertising budgets and established relationships with brokerage houses with large distribution networks, which enable these fund complexes to reach broad client bases. In recent years, there has been a trend of consolidation in the mutual fund industry resulting in competitors with greater financial resources than us. Many investment management firms and unaffiliated advisors offer services and products similar to ours. We also compete with brokerage and investment banking firms, insurance companies, commercial banks and other financial institutions and businesses offering other financial products in all aspects of their businesses.
The distribution of mutual funds and other investment products has experienced significant evolution and change in recent years, which have intensified the competitive environment. Changes include the introduction of new products, the rationalization of the number of products offered on third party platforms, increasingly complex distribution systems with multiple classes of shares, the development of investors’ ability to invest online and through mobile applications, the introduction of sophisticated technological platforms used by financial advisors to sell and service mutual funds for their clients, the introduction of separately managed accounts-previously available only to institutional investors-to individuals, and growth in the number of products offered. In recent years, we have faced significant competition from passive investment strategies, which have taken market share from active managers like ourselves. While we cannot predict how much market share these competitors will gain, we believe there will always be demand for active management.
We believe we effectively compete across multiple dimensions of the asset management and wealth management businesses. First, we market our products, primarily the Ivy Funds family, to unaffiliated broker-dealers and advisors and compete against other asset managers offering mutual fund products. Competition is impacted by sales techniques, personal relationships and skills, and the quality of financial planning products and services offered. We compete against a broad range of asset managers and wealth managers that are both larger and smaller than our firm, but we believe that the breadth and depth of our products position us to compete in this environment. Second, we believe our business model targets clients seeking personal assistance from financial advisors or planners. The market for financial advice is extremely broad and fragmented. Advisors compete with large and small broker-dealers, unaffiliated advisors, registered investment advisers, financial institutions, insurance representatives and others. Finally, we compete in the institutional marketplace, working with consultants who select asset managers for various opportunities, as well as working directly with plan sponsors, foundations, endowments, sovereign funds and other asset managers who hire subadvisors.
We also face competition in attracting and retaining qualified employees and Advisors. To maximize our ability to compete effectively in our business, we offer competitive compensation. We are advancing our culture by focusing on our core values and further investing in our people through areas such as talent management, employee experience, diversity and inclusion and total rewards. For Advisors, we enhanced our compensation program and continue to build on our value proposition through enhancements to technology, products and a leading service model. We also boosted our recruiting efforts nationally and have a national recruiting team in place whose focus is to attract, build relationships with and, ultimately, add experienced financial advisors to W&R’s national network.
For additional discussion regarding the impact of competition, please see the Market and Competition risk factors included in Item 1A - “Risk Factors” in this Annual Report.
Regulation
The securities industry is subject to extensive regulation and virtually all aspects of our business are subject to various federal and state laws and regulations. These laws and regulations are primarily intended to protect investors, including our clients and customers and the shareholders of the registered investment companies to which we provide services, and contribute to the maintenance of fair and orderly markets. Under these laws and regulations, agencies and organizations that regulate various of our subsidiaries in their capacity as investment advisers, broker-dealers, and transfer agents have broad administrative powers, including the power to limit, restrict or prohibit an investment adviser, broker-dealer or transfer agent from carrying on its business in the event that it fails to comply with applicable laws and regulations. In such event, the possible sanctions that may be imposed include, but are not limited to, the suspension of individual employees or agents, limitations on engaging in certain lines of business for specified periods of time, censures, fines and the revocation of registrations.
The SEC is the federal agency responsible for the administration of federal securities laws and the regulation and oversight of investment advisers, broker-dealers, and transfer agents.
Two of our subsidiaries, W&R and IICO, are registered with the SEC as investment advisers under the Advisers Act, which imposes numerous obligations on registered investment advisers including, among other things, fiduciary duties, record keeping and reporting requirements, operational requirements and disclosure obligations, as well as general anti-fraud prohibitions. Investment advisers are subject to examination by the SEC, and the SEC is authorized to institute proceedings and impose sanctions for violations of the Advisers Act, ranging from censure to termination of an investment adviser’s registration.
Two of our subsidiaries, W&R and IDI, are registered as broker-dealers with the SEC and each state and U.S. territory in which they conduct business. The SEC’s rules impose numerous obligations on registered broker-dealers, including, among other things capital, record-keeping, and reporting requirements, operational requirements and financial and other disclosure requirements, as well as general anti-fraud prohibitions. In particular, the SEC’s broker-dealer net capital requirements are designed to ensure the financial soundness and liquidity of broker-dealers and prohibit continued operation by a broker-dealer that fall below minimum net capital requirements. The maintenance of minimum net capital requirements may also limit our ability to pay dividends. As of December 31, 2020 and 2019, net capital for W&R and IDI exceeded all minimum requirements. In addition, both W&R and IDI are members of, and subject to comprehensive regulation and oversight by, the Financial Industry Regulatory Authority, Inc. (“FINRA”), which regulates most aspects of the business conducted by broker-dealers while also exercising examination, oversight and enforcement powers. W&R and IDI are also members of various other self-regulatory organizations that regulate and oversee more limited aspects of these subsidiaries’ business. These other self-regulatory organizations include the Municipal Securities Rulemaking Board, which regulates activity related to municipal securities and the securities exchanges, which regulate and oversee exchange related activities. Collectively, regulations by the SEC, FINRA and other self-regulatory organizations, and the states and U.S. territories cover all aspects of a broker-dealer’s securities business, including, in addition to those already listed above, sales practices, market making and trading, the use and safekeeping of clients’ funds and securities, and the conduct of directors, officers, employees and associated persons. Broker-dealers are subject to examination by the SEC, FINRA and applicable states and territories, each of which is authorized to institute proceedings and impose sanctions for violations of applicable laws and rules. Sanctions can include revocation of broker-dealer licenses, the imposition of censures or fines, and the suspension or expulsion of a firm, its officers or employees. In addition to being registered as a broker-dealer, W&R is dually-registered with the SEC as an investment adviser under the Advisers Act.
In June 2019, the SEC adopted a package of rulemakings and interpretations, including Regulation Best Interest and Form CRS, that became effective in June 2020, and were intended to enhance the quality and transparency of retail investors’ relationships with broker-dealers and investment advisers. Regulation Best Interest enhanced the broker-dealer conduct standard towards retail investors beyond existing suitability obligations and requires compliance with disclosure, care, conflict of interest and compliance obligations. Form CRS requires broker-dealers and registered investment advisers to provide a relationship summary to retail investors, including (i) the types of client and customer relationships and services the firm offers, (ii) the fees, costs, conflicts of interest and required standard of conduct associated with those relationships and services, (iii) whether the firm and its financial professionals currently have reportable legal or disciplinary history; and (iv) how to obtain additional information about the firm. In addition, certain states have enacted
or proposed fiduciary and best interest standards for broker-dealers.
The Funds are registered as investment companies with the SEC under the ICA, and various filings are made with states under applicable state rules and regulations. The ICA regulates the relationship between a mutual fund and its investment adviser and prohibits or severely restricts principal transactions and joint transactions. Various regulations cover certain investment strategies that may be used by the Funds for hedging and/or speculative purposes. To the extent the Funds purchase futures contracts, options on futures contracts, swaps and foreign currency contracts above certain de minimis thresholds established by the Commodity Futures Trading Commission (the “CFTC”), they are subject to the commodities and futures regulations of the CFTC. Pursuant to the mandate of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), which was signed into law in July 2010, the CFTC and the SEC have promulgated rules that increase the regulation of over-the-counter derivatives markets. The CFTC has adopted certain amendments to its rules that would limit the ability of mutual funds and certain other products we sponsor to use commodities, futures, swaps, and other derivatives without additional registration. The Dodd-Frank Act also expanded the CFTC’s authority to limit the maximum long or short position that any person may take in futures contracts, options on futures contracts and certain swaps.
As a publicly-traded company, the Company is also subject to federal and state laws affecting corporate governance, including the Sarbanes Oxley Act of 2002, as well as rules adopted by the SEC. Our report on internal controls over financial reporting for 2020 is included in Part I, Item 9A. As a publicly traded company that is listed for trading on the New York Stock Exchange (the “NYSE”), we are also subject to certain rules of the NYSE, including the NYSE’s corporate governance listing standards, as approved by the SEC.
Title III of the USA PATRIOT Act, the International Money Laundering Abatement and Anti Terrorist Financing Act of 2001, imposes significant anti money laundering requirements on most financial institutions, including domestic banks and domestic operations of foreign banks, broker-dealers, futures commission merchants and investment companies.
The Company and Advisors in our wealth management channel are subject to the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), and related provisions of the Internal Revenue Code of 1986, as amended, to the extent they are considered “fiduciaries” under ERISA with respect to certain clients. In April 2016, the U.S. Department of Labor (the “DOL”) adopted regulations that, among other things, treated as fiduciaries any person who provides investment advice or recommendations to employee benefit plans, plan fiduciaries, plan participants, plan beneficiaries, IRAs or IRA owners (the “DOL Fiduciary Rule”). Although the DOL Fiduciary Rule was vacated, we already had implemented a number of business and compliance initiatives in order to change our distribution methods and operations in response to the DOL Fiduciary Rule. The DOL is expected to promulgate in the future a rule to replace the DOL Fiduciary Rule that could impose materially different requirements on the Company and make such changes implemented in response to the DOL Fiduciary Rule unnecessary or no longer appropriate. Such a rule could also impose additional or different requirements on the Company than the SEC’s Regulation Best Interest and standards adopted by one or more states.
Our businesses may be materially affected not only by regulations applicable to investment advisers, broker-dealers or transfer agents, but also by laws and regulations of general application. For example, the volume of our principal investment advisory business in a given time period could be affected by, among other things, existing and proposed tax legislation and other governmental regulations and policies (including the interest rate policies of the Federal Reserve Board), and changes in the interpretation or enforcement of existing laws and rules that affect the business and financial communities.
Our business is also subject to new and changing laws and regulations, including those set forth below. For additional discussion regarding the impact of current and proposed legal or regulatory requirements, please see the Legal, Regulatory and Tax Risks included in Item 1A - “Risk Factors” in this Annual Report on Form 10-K.
The Dodd-Frank Act also established enhanced regulatory requirements for non-bank financial institutions designated as “systemically important” by the Financial Stability Oversight Committee (“FSOC”). Under a final rule and interpretive guidance issued by the FSOC, certain non-bank financial companies have been designated as Systemically Important Financial Institutions (“SIFIs”). At this time, regulators have not designated mutual funds or traditional asset managers as SIFIs. However, if any of the Funds or our affiliates is deemed a SIFI, we would be subject to enhanced prudential measures, which could include capital and liquidity requirements, leverage limits, enhanced public disclosures and risk management requirements, annual stress testing by the Federal Reserve, credit exposure and concentration limits,
supervisory and other requirements.
The SEC and its staff continue to engage in various initiatives and reviews that seek to modify the regulatory structure governing the asset management industry, and registered investment companies in particular. In late 2016, the SEC adopted new rules that require registered open-end funds to adopt liquidity risk management programs with specific requirements for measuring and reporting the liquidity of fund holdings, including the requirement to bucket every portfolio holding within one of four prescribed liquidity buckets. The SEC has also been directed toward risk identification and controls in trading practices, cybersecurity and the evaluation of systemic risks and has indicated an intention to propose new rules for transition planning by asset managers, including the transfer of client assets. In 2019, the SEC re-proposed a rule regulating the use of derivatives by registered investment companies on its regulatory agenda. Among other requirements, the rule, as proposed, would require our Funds to adopt a derivatives risk management program unless they qualify for certain exceptions and would limit the degree to which our Funds may invest in derivatives based on certain “value at risk” metrics.
Intellectual Property
We regard our names as material to our business and have registered certain service marks associated with our business with the United States Patent and Trademark Office.
Human Capital
At December 31, 2020, we had 1,116 full-time employees, consisting of 1,053 home office employees and 63 employees responsible for field supervision and administration. Women represented 44 percent of our workforce while those ethnically diverse represented 16 percent.
As an organization, we have taken specific action to advance our position as a values-based and purpose-driven organization and believe that supporting an environment that welcomes diverse thoughts, perspectives and experiences fosters stronger organizational growth. We are constantly challenging ourselves to ensure that our workforce is a reflection of our values and the communities we serve. To that end, we have engaged dedicated diversity and inclusion resources, and taken steps to enhance and continue to welcome diversity in all forms in our organization. Our CEO has signed the CEO Action for Diversity & Inclusion™ pledge, acknowledging that the Company will act to cultivate trust, diversity, flexibility and understanding. In addition, our employees were invited to sign the I ACT ON pledge to check bias, speak up for others and show up for all. We also offer our employees ongoing opportunities for education and training exploring bias and inclusion, designed to create conversations around the impact of natural biases and how the organization can continue to foster an environment of belonging and an inclusive workplace.
Our Culture Connections initiative is our version of employee resource groups, which are focused around five important pillars of our culture: Diversity & Inclusion, Employee Appreciation, Philanthropy, Strategy & Values, and Well-being. These employee groups represent a variety of roles, levels and diverse backgrounds and provide opportunities for all employees to elevate the employee experience and strengthen our culture.
We are partnering with organizations like Rock The Street Wall Street to encourage young females to consider careers in financial services. We started a partnership with the Forte Foundation, a non-profit organization connecting female MBA students and recent graduates with job opportunities in the financial services industry. In addition, we became a sponsor of Kansas City Women in Technology, a non-profit organization whose vision is to grow the number of women in technology careers within Kansas City. We launched a new employee mentoring program that enabled all employees to either connect with a mentor or act as a mentor to colleagues. The goal of our mentoring program is to actively support employees as they pursue personal and professional goals, which we believe leads to higher levels of engagement and retention.
Our work in fostering a culture of belonging was recognized in 2020 as Waddell & Reed Financial, Inc. was named a finalist for the Diversity Champions award by InvestmentNews. We, along with other firms, were chosen from over 120 nominations for the firm’s ability to inspire others from diverse backgrounds to join, flourish and bring their authentic selves to work in the financial services industry.
In addition, see the “Response to the Coronavirus Disease 2019 (“COVID-19”)” and “Competition” sections in this Item 1 for additional information related to employee safety, recruiting and our competitive benefits offerings.
Available Information
We make available free of charge our proxy statements, Annual Reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports under the “Reports & SEC Filings” menu on the “Investor Relations” section of our internet website at ir.waddell.com as soon as reasonably practical after such filing has been made with the SEC.

---

ITEM 1A. RISK FACTORS
ITEM 1A. Risk Factors
You should carefully consider the following risk factors as well as the other risks and uncertainties contained in this Annual Report on Form 10-K or in our other SEC filings. The occurrence of one or more of these risks or uncertainties could materially and adversely affect our business, financial condition, operating results and cash flows. In this Annual Report on Form 10-K, unless the context expressly requires a different reading, when we state that a factor could “adversely affect us,” have a “material adverse effect on our business,” “adversely affect our business” and similar expressions, we mean that the factor could materially and adversely affect our business, financial condition, operating results and cash flows. Information contained in this section may be considered “forward-looking statements.” See “Part I-Forward Looking Statements” for a discussion of cautionary statements regarding forward-looking statements.
RISKS RELATED TO THE PROPOSED MERGER
Regulatory Approvals May Not Be Received, May Take Longer Than Expected Or May Impose Conditions That Are Not Presently Anticipated Or Cannot Be Met. Before the transactions contemplated by the Merger Agreement may be completed, various approvals must be obtained from regulatory authorities. These regulatory authorities may impose conditions on the granting of such approvals. Such conditions or changes and the process of obtaining regulatory approvals could have the effect of delaying completion of the merger or of imposing additional costs or limitations on the combined company following the merger. The regulatory approvals may not be received at all, may not be received in a timely fashion, or may contain conditions on the completion of the merger that are not anticipated or cannot be met. If the consummation of the merger is delayed, including by a delay in receipt of necessary regulatory approvals, our business, financial condition and results of operations may also be materially and adversely affected. See the section entitled “The Merger-Regulatory Approvals Required for the Merger” in our definitive proxy statement filed with the SEC on February 17, 2021 (the “Proxy Statement”).
Failure Of The Merger To Be Completed, The Termination Of The Merger Agreement Or A Significant Delay In The Consummation Of The Merger Could Negatively Impact Us. The Merger Agreement is subject to a number of conditions, which must be fulfilled in order to complete the merger. Please see the section entitled “The Agreement and Plan of Merger-Conditions to the Merger” in the Proxy Statement. These conditions to the consummation of the merger may not be fulfilled and, accordingly, the merger may not be completed or significantly delayed. In addition, if the merger is not completed by December 2, 2021, either Macquarie or we may choose to terminate the Merger Agreement at any time after that date if the failure to consummate the transactions contemplated by the Merger Agreement is not caused by a breach in any material respect of the Merger Agreement by the party electing to terminate the Merger Agreement. Furthermore, the consummation of the merger may be significantly delayed due to various factors, including potential litigation related to the merger.
If the merger is not consummated or is significantly delayed, our ongoing business, financial condition and results of operations may be materially adversely affected, and the market price of our common stock may decline significantly, particularly to the extent that the current market price reflects a market assumption that the merger will be consummated. If the consummation of the merger is delayed, including by the receipt of a competing acquisition proposal, our business, financial condition and results of operations may be materially adversely affected.
In addition, we have incurred and will incur substantial expenses in connection with the negotiation and completion of the transactions contemplated by the Merger Agreement. If the merger is not completed or is significantly delayed, we would have to recognize many of these expenses without realizing the expected benefits of the merger. Any
of the foregoing, or other risks arising in connection with the failure of or delay in consummating the merger, including the diversion of management attention from pursuing other opportunities and the constraints in the Merger Agreement on our ability to make significant changes to our ongoing business during the pendency of the merger, could have a material adverse effect on our business, financial condition and results of operations.
Additionally, our business may have been adversely impacted by the failure to pursue other beneficial opportunities due to the focus of management on the merger, without realizing any of the anticipated benefits of completing the merger, and the market price of our common stock might decline to the extent that the current market price reflects a market assumption that the merger will be completed. If the Merger Agreement is terminated and our board of directors seeks another merger or business combination, our stockholders cannot be certain that we will be able to find a party willing to engage in a transaction on more attractive terms than the merger.
We Will Be Subject To Business Uncertainties And Contractual Restrictions While The Merger Is Pending. Uncertainty about the effect of the merger on employees, clients, Advisors or vendors may have an adverse effect on our business, financial condition and results of operations. These uncertainties may impair our ability to attract, retain and motivate employees and Advisors and attract and retain clients pending the consummation of the merger. Additionally, these uncertainties could cause our vendors and others with whom we deal to seek to change, or fail to extend, existing business relationships with us. In addition, competitors may target our existing clients by highlighting potential uncertainties and integration difficulties that may result from the merger.
The pursuit of the merger and the preparation for the integration may place a burden on our management and internal resources. Any significant diversion of management attention away from ongoing business concerns and any difficulties encountered in the transition and integration process could have a material adverse effect on our business, financial condition and results of operations.
In addition, the Merger Agreement restricts us from taking certain actions without Macquarie’s consent while the merger is pending. If the merger is not completed, these restrictions could have a material adverse effect on our business, financial condition and results of operations. Please see the section entitled “The Agreement and Plan of Merger-Covenants Regarding Conduct of Business by the Company and its Subsidiaries Prior to the Merger” in the Proxy Statement for a description of the restrictive covenants applicable to us. Certain of the risk factors set forth in this Annual Report on Form 10-K could be heightened by these Merger Agreement restrictions resulting in a material adverse effect on our business, results of operations or financial condition.
Litigation Against Us Or The Members Of Our Board of Directors Could Prevent Or Delay The Completion Of The Merger. While we believe that any claims asserted by purported stockholder plaintiffs related to the merger are without merit, the results of any such legal proceedings are difficult to predict and could delay or prevent the merger from being competed in a timely manner. Moreover, any litigation could be time consuming and expensive and could divert our management’s attention away from their regular business, and any lawsuit adversely resolved against us or members of our board of directors could have a material adverse effect on our business, financial condition and results of operations.
The conditions to the consummation of the merger include the absence of any law, injunction or governmental order restraining, enjoining or prohibiting the consummation of the transactions contemplated by the Merger Agreement and the absence of any law, injunction or governmental order initiated by a governmental entity restraining, enjoining or prohibiting the consummation of Macquarie’s sale of our wealth management business to LPL Holdings, Inc. Consequently, if a settlement or other resolution is not reached in any lawsuit that is filed or any regulatory proceeding and a claimant secures injunctive or other relief or a regulatory authority issues an order or other directive having the effect of making the merger illegal or otherwise prohibiting consummation of the merger, then such injunctive or other relief may prevent the merger from becoming effective in a timely manner or at all.
MARKET AND COMPETITION RISKS
We Could Experience Adverse Effects On Our Market Share Due To Competition. The investment management industry is highly competitive. We compete with investment management firms, wealth management
companies, investment banking firms, insurance companies, banks, internet investment sites, mobile investment products, automated financial advisors, registered investment advisers, and other financial institutions and individuals based on a number of factors, including investment performance, the level of fees charged, the quality and diversity of products and services offered, name recognition and reputation, and the ability to develop new investment strategies and products to meet the changing needs of investors. Many of these competitors not only offer mutual fund investments and services, but also offer an ever-increasing number of other financial products and services and have better brand recognition. See Item 1 - “Business - Competition.” If existing or potential clients decide to invest with our competitors instead of with us, our market share could decline, which could have a material adverse effect on our business.
There are a number of asset classes and product types that are not well covered by our current products and services. When these asset classes or products are in favor with investors, our competitors may receive outsized flows compared to others in the industry. As a result, we may miss the opportunity to gain the AUM that are being invested in these assets and face the risk of our managed assets being withdrawn in favor of competitors who offer these classes or products. For example, the trend in recent years in the asset management business in favor of lower fee, passive investment strategies, such as index and certain types of exchange-traded funds, favors our competitors who provide those products over active managers like us. In addition, we are not typically the lowest cost provider of asset management services. To the extent that we compete on the basis of price, we may not be able to maintain our current fee structure, which could adversely affect our operating revenues.
Our Business And Prospects Could Be Adversely Affected If The Securities Markets Decline Or Are Volatile. Our results of operations are affected by certain economic factors, including the success of the securities markets. Substantial fluctuations in the securities markets can occur on a daily basis and over longer periods as a result of a variety of factors, including national and international economic and political events, broad trends in business and finance, and interest rate movements. Adverse market conditions, particularly in the U.S. domestic stock market due to our high concentration of AUM in that market, and lack of investor confidence could result in investors further withdrawing from the markets or decreasing their rate of investment, either of which could adversely affect our revenues, earnings and growth prospects.
Our revenues are based on the market value of AUM and AUA. A decline in the securities markets may cause the value of our AUM and/or AUA to decline or cause investors to redeem or sell assets in favor of investments they perceive offer greater opportunity or lower risk, both of which decrease investment management and other fees and could significantly reduce our revenues and earnings. We do not hedge our revenue stream from this risk through derivatives or other financial contracts. Our growth is dependent to a significant degree upon our ability to attract and retain mutual fund assets and advisory assets, and, in an adverse economic environment, this may prove more difficult. The combination of adverse market conditions reducing both sales and investment management fees could compound one another and adversely affect our business.
There May Be Adverse Effects On Our Business If Our Funds’ Performance Declines.  Success in the investment management and mutual fund businesses, including the growth and retention of AUM, is dependent on the investment performance of client accounts relative to market conditions and the performance of competing funds. From time to time, we may experience poor investment performance, on a relative or absolute basis, in certain products or accounts that we manage, which may contribute to a significant reduction in our AUM and revenues. A Fund’s performance record is calculated over various trailing periods and, therefore, the Fund’s underperformance may continue to be reflected in a particular trailing period long after the Fund’s performance has improved. Accordingly, the Fund may experience delays in realizing, or may not realize, any increase in asset flows from improved performance. Good relative performance stimulates sales of the Funds’ shares and tends to keep redemptions low. Sales of the Funds’ shares in turn generate higher management fees and distribution revenues. Good relative performance may also attract institutional accounts and may result in higher ratings or rankings by research services such as Morningstar, Lipper or eVestment Alliance, which may compound the foregoing effects. Conversely, poor relative performance results in decreased sales, increased redemptions of the Funds’ shares and the loss of institutional accounts, resulting in decreases in our AUM and revenues. Poor investment performance also may adversely affect our ability to expand the distribution of our products through unaffiliated third parties. Further, any drop in market share of mutual fund sales in our wealth management channel may further reduce profits, as sales of unaffiliated mutual funds are less profitable than sales of our Funds.
As of December 31, 2020, 42% our AUM were concentrated in five Funds. As a result, our operating results are significantly affected by the performance of those Funds and our ability to minimize redemptions from and maintain AUM in those Funds. If we experienced a significant amount of redemptions of those Funds for any reason, our revenues would
decline, and our operating results would be adversely affected. Further, any adverse performance of those Funds may also indirectly affect the net sales and redemptions in our other products, which in turn, may adversely affect our business.
Changes In The Distribution Channels In Which We Operate Could Reduce Our Net Revenues and Adversely Affect Our AUM, Revenues and Growth Prospects. Our ability to market and distribute the Funds and other investment products we manage is significantly dependent on access to third party financial intermediaries that distribute these products. We sell a significant portion of our investment products through a variety of such intermediaries, including major wire houses, national and regional broker-dealers, defined contribution plan administrators, retirement platforms and registered investment advisers. AUM in our unaffiliated channel at December 31, 2020 were $28.0 billion, or 37% of total AUM. It would be difficult for us to acquire or retain the management of those assets without the assistance of the intermediaries. As third-party intermediaries rationalize and reduce the number of product offerings on their platforms, including in response to new best interest and fiduciary standards, we cannot provide assurances that we will be able to maintain an adequate number of investment product offerings, or access to these intermediaries, which could have a material adverse effect on our business. Relying on third party intermediaries also exposes us to the risk of increasing costs of distribution, as certain intermediaries with which we conduct business charge fees (largely determined by the distributor) to maintain access to their distribution networks. If we choose not to pay such fees, our ability to distribute through those intermediaries would be limited; significant increases in such fees will cause our distribution costs to increase, which could lower our profitability. In addition, over time, certain sectors of the financial services industry have become considerably more concentrated, as financial institutions involved in a broad range of financial services have been acquired by or merged into other firms.
Over half of our AUM, $43.3 billion, or 58%, as of December 31, 2020 are held in our wealth management channel. The investment products distributed in our wealth management channel include our Funds and other products, as well as products issued by unaffiliated mutual fund companies. A significant portion of the sales in this channel are sales of Funds, upon which we earn higher revenues from asset management fees as compared to the sale of unaffiliated funds. Sales of affiliated investment products in our wealth management channel may decrease (and redemptions increase) materially with the introduction of additional unaffiliated investment products in our advisory programs. Further, qualified accounts, particularly IRAs, make up a significant portion of our AUM and AUA in this channel, and a significant portion of those retirement assets are invested in our affiliated products. The introduction of additional unaffiliated products in this channel, sustained underperformance of key investment products, and the implementation of best interest and fiduciary standards could cause us to experience lower sales of our affiliated investment products, increased redemptions, or other developments that may not be fully offset by higher distribution revenues or other benefits. As a result, our AUM, AUA, revenues and earnings may decline. See “Legal, Regulatory and Tax Risks” below for the impact that changes to standards of conduct applicable to broker-dealers and investment advisers and potential fiduciary standards may have on our business, including our distribution activities.
Increasingly, investors, particularly in the institutional market, rely on external consultants and other third-party financial professionals for advice on the choice of an investment adviser and investment portfolio. Further, the institutional account business uses referrals from investment consultants, investment advisers and other professionals. These consultants and third parties tend to exert a significant degree of influence over their clients’ choices, and they may favor a competitor of ours. We cannot assure that our investment offerings will be among their recommended choices in the future. The Company cannot be certain that it will continue to have access to these third-party distribution channels or have an opportunity to offer some or all of its investment products through these channels. Further, their recommendations can change over time and we could lose their recommendation and their client assets under our management. Any failure to maintain strong business relationships with these distribution sources and the consultant community could impair our ability to sell our products, which in turn could have a negative effect on our revenues and profitability.
A Significant Percentage Of Our AUM Are Distributed Through Our Unaffiliated Channel, Which Has Higher Redemption Rates Than Our Wealth Management Channel.  The percentage of our AUM in the unaffiliated channel was 37% at December 31, 2020, and the percentage of our total sales represented by the unaffiliated channel was 64% for the year ended December 31, 2020. The success of sales in our unaffiliated channel depends upon our maintaining strong relationships with certain strategic partners, third party distributors and institutional accounts, as well as on the performance of our investment products marketed through this channel. Many of those distribution sources also offer investors competing funds that are internally or externally managed or may reduce the number of competing products on their platforms through systemic rationalization and reduction, which could limit the distribution of our products. The loss of any of these distribution channels and the inability to continue to access new distribution channels could decrease our AUM and adversely affect our results of operations and growth. There are no assurances that these channels and their
client bases will continue to be accessible to us. The loss or diminution of the level of business we do with those providers could have a material adverse effect on our business. Compared to the industry average redemption rate of 28.8% and 21.7% for each of the years ended December 31, 2020 and 2019, respectively, the unaffiliated channel had redemption rates of 37.9% and 38.1% for the years ended December 31, 2020 and 2019, respectively. Redemption rates were 13.4% and 13.8% for our wealth management channel in the same periods, reflecting the higher rate of transferability of investment assets in the unaffiliated channel. However, the modernization of our wealth management platforms and products and the introduction of additional unaffiliated investment products in our advisory programs, as well as changes resulting from the implementation of new best interest and fiduciary standards, may result in a higher redemption rate in our wealth management channel, as Advisors may move to sell more unaffiliated products. An increase in the sale of unaffiliated mutual funds compared to sales of the Funds in our wealth management channel may reduce profits, as sales of unaffiliated mutual funds are less profitable than sales of our Funds. See “Legal, Regulatory and Tax Risks.”
Fee Pressures Could Reduce Our Revenues And Profitability. There is an accelerating trend toward lower fees in some segments of the investment management business. The SEC has adopted rules that are designed to alter mutual fund corporate governance, which could result in further downward pressure on investment advisory fees in the mutual fund industry. Investors and clients are increasingly fee sensitive. Active management continues to experience pressure by increased flows to lower fee passive products. This trend has resulted in pressure on active management firms to reduce fees to compete with passive products. New best interest and fiduciary standards could increase fee pressure as financial advisors may have more fee sensitivity given their higher standard of conduct. In addition, competition could cause us to reduce the fees we charge for products and services. In the event that competitors charge lower fees for substantially similar products, we may be forced to compete on the basis of price in order to attract and retain clients. In the ordinary course of our business, we may reduce or waive investment management fees, or limit total expenses, on certain products or services for particular time periods to manage fund expenses, or for other reasons, and to help retain or increase AUM. The investment management agreements with the Funds continue in effect from year to year only if approved by the Funds’ board of trustees. Periodic review of these advisory agreements could result in a reduction in investment management fee revenues received from the Funds. Accordingly, there can be no assurance that we will be able to maintain our current fee structure. Fee reductions on existing or future new business could reduce our operating revenues and may adversely affect our business, future revenue and profitability.
The fees we earn vary depending on the type of asset managed, the type of client, the type of asset management product or service provided and whether the product is sub-advised. A shift in the mix of our AUM from higher revenue-generating assets to lower revenue-generating assets may result in a decrease in our operating revenues even if our aggregate AUM do not change. There can be no assurance that we will achieve a more favorable product mix in the future.
Our Ability To Attract And Retain Key Personnel And Advisors Is Significant To Our Success. Our success is largely dependent on our ability to attract and retain highly skilled personnel, including our corporate officers, portfolio managers, investment analysts, and sales and client relationship personnel, many of whom have specialized expertise and extensive experience in our industry. The market for experienced asset management personnel is extremely competitive. Most of our employees do not have employment agreements, and generally can terminate their employment with us at any time. Those employees who are subject to employment agreements are generally eligible to terminate their employment at any time upon written notice. Due to the competitive market for these professionals and the success of our highly skilled employees, our costs to attract and retain key personnel are significant. If we are unable to offer competitive compensation or otherwise attract and retain talented individuals, the Company’s ability to execute its strategic objectives, compete effectively and retain its existing clients may be materially impacted. Because the investment track record of many of our products and services is often attributed to a small number of individual employees, the departure of one or more of these employees could damage our reputation and result in the loss of assets or client accounts, which could have a material adverse effect on our results of operations and financial condition. If we are unable to attract and retain qualified personnel, it could damage our reputation, make it more difficult to retain and attract new employees, cause our retention costs to increase significantly, and materially adversely impact our financial condition and results of operations.
Additionally, a significant portion of the sales of our mutual funds, investment products, annuities and insurance products are sold in our wealth management channel. Our success is directly affected by the quality, quantity and productivity of Advisors who continue to manage their independent practices through their association with us. The market for experienced and productive Advisors is highly competitive, and we devote significant resources to attracting and retaining Advisors. If we are unable to attract new Advisors or to retain existing Advisors, our business may be adversely impacted.
There May Be An Adverse Effect On Our Business If Our Investors Redeem The Assets We Manage On Short Notice.  Our investment management agreements with institutions and other non-mutual fund accounts are generally terminable upon relatively short notice, and investors in the Funds that we manage may redeem their investments in the Funds at any time without prior notice. Institutional and individual clients can terminate their relationships with us, reduce the aggregate amount of AUM, or shift their funds to other types of accounts with different rate structures for any number of reasons, including investment trends, investment performance, changes in prevailing interest rates, changes in investment preferences of clients, changes in our reputation in the marketplace, changes in management or control of clients or third party distributors with whom we have relationships, loss of key investment management or other personnel, and financial market performance. In addition, in a declining securities market, the pace of mutual fund redemptions and withdrawal of assets from other accounts could accelerate. Poor investment performance generally or relative to other investment management firms tends to result in decreased purchases of Fund shares, increased redemptions of Fund shares, and the loss of institutional or individual accounts. Historically, the risk of our investors redeeming their investments in the Funds on short notice has been greater for assets in our unaffiliated channel. Additionally, redemptions in our wealth management channel may increase materially with the introduction of additional unaffiliated investment products in our advisory programs. The implementation of new best interest and fiduciary standards could also result in increased redemptions. An increase in redemptions and the corresponding decrease in our AUM may have a material adverse effect on our business.
There May Be Adverse Effects On Our Business Upon The Termination Of, Or Failure To Renew, Certain Agreements. A majority of our revenues are derived from investment management agreements with the Funds that, as required by law, are terminable on 60 days’ notice. Each investment management agreement must be approved and renewed annually by the disinterested members of each Fund’s board of trustees or its shareholders, as required by law. Additionally, our investment management agreements provide for automatic termination in the event of assignment, which includes a change of control, without the consent of our clients and, in the case of the Funds, approval of the Funds’ board of trustees and shareholders to continue the agreements. There can be no assurances that our clients will consent to any assignment of our investment management agreements, or that those and other contracts will not be terminated or will be renewed on favorable terms, if at all, at their expiration and new agreements may not be available. The decrease in revenues that could result from any such event could have a material adverse effect on our business.
We May Be Unable To Develop New Products And Support Provided To New Products May Reduce Fee Revenue, Increase Expenses And Expose Us To Potential Loss On Invested Capital. Our financial performance depends, in part, on our ability to develop, market and manage new investment products and services, which may require significant time and resources, as well as ongoing support and investment. Substantial risk and uncertainties are associated with the introduction of new products and services, including the implementation of new and appropriate operational controls and procedures, shifting client and market preferences, the introduction of competing products or services, and compliance with regulatory requirements. A failure to continue to innovate to introduce new products and services, or to manage successfully the risks associated with such products and services, may impact our market share relevance and may cause our AUM, revenue and earnings to decline. In addition, changes to the standards of conduct applicable to broker-dealers and investment advisers could require modifications to our distribution activities and impact our ability to engage in certain types of distribution or other business activities.
Additionally, we may support the development of new investment products by waiving a portion of the fees we usually receive for managing such products, by subsidizing expenses, or by making seed capital investments. There can be no assurance that new investment products we develop will be successful, which could have a material adverse effect on our business. Failure to have or devote sufficient capital to support new products could have an adverse impact on our future growth. Seed capital investments in new products utilize capital that would otherwise be available for general corporate purposes and expose us to capital losses due to investment market risk. Our non-operating investment and other income could be adversely affected by the realization of losses upon the disposition of our investments or the recognition of significant other-than-temporary impairments in the case of our available-for-sale portfolio and the recognition of unrealized losses related to our sponsored investment portfolios that are held as trading and accounted for under the equity method. We may use various derivative instruments to mitigate the risk of our seed capital investments, although some market risk would remain. The risk of loss may be greater for seed capital investments that are not hedged, or if an intended hedge does not perform as expected. Our use of derivatives would result in counterparty risk in the event of non-performance by counterparties to these derivative instruments, regulatory risk and the risk that the underlying positions do not move in relation to the related derivative instruments. As a result, volatility in the capital markets may affect the value of our seed capital investments, which may increase the volatility of our earnings and adversely affect our business.
The Failure Or Negative Performance Of Products Offered By Competitors May Cause AUM In Our Similar Products To Decline Irrespective Of The Performance Of Our Products. Many competitors offer similar products to those offered by us and the failure or negative performance of competitors’ products or the loss of confidence in a product type could lead to a loss of confidence in similar products offered by us, irrespective of the performance of our products. Any loss of confidence in a product type could lead to redemptions in such products, which may cause the Company’s AUM to decline and materially affect our business.
The Impairment Or Failure Of Other Financial Institutions Could Adversely Affect Our Business. We routinely execute transactions with counterparties, including brokers-dealers, commercial and investment banks, clearing organizations, mutual and hedge funds, and other institutional clients that expose us or the Funds or accounts we manage to operational, credit or other risks in the event that a counterparty with whom the Company transacts defaults on its obligations or if there are other unrelated systemic failures in the markets. Although we regularly assess risks posed by counterparties, such counterparties may be subject to sudden swings in the financial and credit markets that may impair their ability to perform or they may otherwise fail to meet their obligations. Any such impairment failure could negatively impact the performance of products or accounts we manage, which could lead to the loss of clients and may cause our AUM, revenue and earnings to decline.
Restrictions On Our Ability To Use “Soft Dollars” Could Result In An Increase In Our Expenses. On behalf of our mutual fund and investment advisory clients, we make decisions to buy and sell securities for each portfolio, select broker-dealers to execute trades, and negotiate brokerage commission rates. In connection with these transactions, we receive “soft dollar credits” from broker-dealers that we use to defray certain of our research and brokerage expenses consistent with Section 28(e) of the Securities Exchange Act of 1934, as amended. If our use of “soft-dollars” decreases or is eliminated, including due to the adoption of regulations or changes to market practice, or if the “soft dollars” we generate decrease because of reductions to our AUM or commission rates, our operating expenses could increase.
LEGAL, REGULATORY AND TAX RISKS
Regulatory Risk Is Substantial In Our Business And Regulatory Reforms Could Have A Material Adverse Effect On Our Business. Virtually all aspects of our business, including the activities of our parent company and our investment advisory and wealth management subsidiaries, are heavily regulated, primarily at the federal level. The regulatory environment in which we operate frequently changes and has seen a significant increase in regulation in recent years, which could have a material adverse effect on our business. For a discussion of laws, regulations (including certain pending regulatory reforms) and regulators to which we are subject, see Item 1 - “Business - Regulation.”
At this time, we cannot predict the nature or full impact of future changes to the legal and regulatory requirements applicable to our business, nor the extent to which current or future proposals, or possible enforcement proceedings, will impact our business. Any new and developing laws and regulations are likely to result in greater compliance and administrative burdens, including the investment of significant management time and resources in order to satisfy new regulatory requirements or to compete in a changed business environment, and the imposition of new compliance costs and/or capital requirements, including costs related to information technology systems. Changes to legal and regulatory requirements applicable to our business may require changes to the way we conduct business, which could have a material adverse impact on our results of operations, financial condition or liquidity. There are no assurances that we will be able to successfully execute changes and enhancements to our business model, operations, technology and compliance policies and procedures required by changing legal and regulatory requirements, which could materially and adversely affect our business. New legal and regulatory requirements applicable to our business could also create additional liability exposure to regulatory enforcement. The evolving regulatory environment may impact a number of our service providers and, to the extent such providers alter their services or increase their fees, it may impact our expenses or those of the products we offer. Changes in current rules and regulations that impact the business and financial communities generally, including changes in current legal, regulatory, accounting or compliance requirements, including state and federal taxation, or in governmental policies, could have a material adverse impact on our results of operations, financial condition or liquidity.
Compliance Within A Complex Regulatory Environment Imposes Significant Financial And Strategic Costs On Our Business, and Non-Compliance Could Result in Fines And Penalties. Non-compliance with applicable laws or regulations could result in criminal and civil liability, the suspension of our employees, sanctions being levied against us, including fines, penalties and censures, injunctive relief, suspension or expulsion from a certain jurisdiction or market, or the temporary or permanent revocation of licenses or registrations necessary to conduct our business. A regulatory proceeding, even one that does not result in a finding of wrongdoing or sanctions, could consume substantial expenditures
of time and capital. Any regulatory investigation and any failure to maintain compliance with applicable laws and regulations could severely damage our reputation or otherwise adversely affect our business and prospects.
Our Business Is Subject To Substantial Risk From Litigation, Regulatory Investigations And Potential Securities Laws Liability. Many aspects of our business involve substantial risks of litigation, regulatory investigations and/or arbitration, and from time to time, we are involved in various legal proceedings in the course of operating our business. See Item 3 - “Legal Proceedings.” We are exposed to liability under federal and state securities laws, other federal and state laws and court decisions, as well as rules and regulations promulgated by the SEC, FINRA and other regulatory bodies. These regulatory bodies have the authority to review our products and business practices, and those of our employees and the Advisors, and to bring regulatory or other legal actions against us if, in their view, our practices, or those of our employees or the Advisors, are improper. Actions brought against us may result in awards, settlements, penalties, injunctions or other adverse results, including reputational damage. In addition, we may incur significant expenses in connection with our defense against such actions regardless of their outcome. We, our subsidiaries, and/or certain of our past and present directors and officers, have been named as parties in legal actions, regulatory investigations and proceedings, and/or securities arbitrations in the past, and have been subject to claims alleging violation of such laws, rules and regulations, which have resulted in the payment of fines and settlements. From time to time, we receive subpoenas or other requests for information from governmental and regulatory authorities in connection with certain industry-wide, company-specific or other investigations or proceedings. These examinations, inquiries and proceedings, have in the past and could in the future, if compliance failures or other violations are found, cause the relevant regulator to institute proceedings and impose sanctions for violations. Any such action may also result in litigation by investors in the Funds, other clients or by our stockholders, which could harm the Company’s reputation, potentially harm the investment returns of the Funds, or result in the Company being liable for damages.
In addition, the Funds to which we provide investment advisory and management services are subject to litigation and governmental and self-regulatory organization investigations and proceedings, any of which could harm the investment returns or reputation of the applicable Fund or result in our investment adviser subsidiaries being liable to the Funds for any resulting damages.
There has been an increase in litigation and regulatory investigations in the asset management and financial services industries in recent years, including client claims, class action suits and government actions alleging substantial monetary damages and penalties. An adverse resolution of any lawsuit, legal or regulatory proceeding or claim against us could result in substantial costs or reputational harm to us and have a material adverse effect on our business. In addition to these financial costs and risks, the defense of litigation, regulatory investigations or arbitration may divert resources and management’s attention from operations.
Insurance May Not Be Available On A Cost Effective Basis And Insurance Coverage May Not Protect Us From Liability. We face inherent liability risk related to litigation from mutual fund investors, clients, third party vendors and others, and actions taken by regulatory agencies. To help protect against these potential liabilities, we purchase insurance in amounts, and against risks, that we consider appropriate and commercially reasonable, where such insurance is available at prices we deem acceptable. There can be no assurance, however, that a claim or claims will be covered by insurance or, if covered, will not exceed the limits of available insurance coverage, that any insurer will remain solvent and will meet its obligations to provide us with coverage, or that insurance coverage will continue to be available with sufficient limits at a reasonable cost. Insurance costs are impacted by market conditions and the risk profile of the insured, including prior claims, and may increase significantly over relatively short periods. In addition, certain insurance coverage may not be available or may only be available at prohibitive costs. Renewals of insurance policies may expose us to additional costs through higher premiums or the assumption of higher deductibles or co-insurance liability.
Financial Advisors Associated With Our Wealth Management Business Are Classified As Independent Contractors, And Changes To Their Classification May Increase Our Operating Expenses. From time to time, various legislative or regulatory proposals are introduced at the federal or state levels addressing the criteria for determining the status of independent contractors’ classification as employees for either employment tax purposes (withholding, social security, Medicare and unemployment taxes) or other employment benefits. Currently, most individuals are classified as employees or independent contractors for employment tax purposes based on relevant statutory, regulatory and common law tests, including the multi-factor test utilized by the Internal Revenue Service. We classify Advisors as independent contractors for all purposes, including employment tax. There can be no assurance that legislative, judicial or regulatory (including tax) authorities will not introduce proposals or assert interpretations of existing rules and regulations that would change the independent contractor classification of those Advisors or that private litigants might file actions seeking to
change such classification. The costs associated with potential changes, if any, with respect to these independent contractor classifications could have a material adverse effect on our business.
Misconduct By Our Employees And/Or By Advisors Could Result In Liability, Subject Us To Regulatory Sanctions Or Otherwise Adversely Affect Our Business, Results of Operations or Financial Condition. Our business is based on the trust and confidence of our clients, for whom Advisors handle a significant amount of funds, as well as financial and personal information. Misconduct by our employees or by Advisors could result in violations of law, regulatory sanctions and/or serious reputational or financial harm. Misconduct that could occur includes: (i) binding us to transactions that exceed authorized limits; (ii) hiding unauthorized or unsuccessful activities resulting in unknown and unmanaged risks or losses; (iii) improperly using, disclosing or otherwise compromising confidential information; (iv) recommending transactions that are not suitable; (v) engaging in fraudulent or otherwise improper activity, including the misappropriation of funds; (vi) engaging in unauthorized or excessive trading to the detriment of clients; or (vii) otherwise not complying with laws, regulations or our control procedures. Although we have implemented a system of internal controls to minimize the risk of misconduct, there can be no assurance that our controls or precautions to detect and prevent misconduct will be effective in all cases. Preventing and detecting misconduct among Advisors, who are not employees, presents additional challenges. We could be liable in the event of misconduct by employees or Advisors and we could also be subject to regulatory sanctions. Although we believe that we have adequately insured against these risks, there can be no assurance that our insurance will be maintained or that it will be adequate to meet any liability resulting from these activities. Any damage to the trust and confidence placed in us by our clients may cause our AUM and/or AUA to decline, which could adversely affect our reputation, business and prospects and lead to a material adverse effect on our business, results of operations or financial condition.
The Application Of Tax Laws And Regulations And Challenges To Our Tax Positions May Adversely Affect Our Effective Tax Rate And Business. The application of complex tax laws and regulations involves numerous uncertainties. Tax authorities may disagree with certain tax positions that we have taken, as we are periodically under audit by various state and federal jurisdictions. We regularly assess the likely outcomes of these audits in order to determine the appropriateness of our tax provision. However, there can be no assurance that we will accurately predict the outcomes of these audits, and the actual outcomes of these audits could have a material impact on our financial statements. Tax authorities may assess additional taxes, which could result in adjustments to, or impact the timing or amount of, taxable income, deductions or other tax allocations, and may adversely affect our effective tax rate and business.
OPERATIONAL AND TECHNOLOGY RISKS
The COVID-19 Pandemic Could Have A Material Adverse Effect On Our Business, Results Of Operations Or Financial Condition. The ongoing COVID-19 pandemic has caused significant disruption in global financial markets, including significant volatility in the securities markets. Declines in our AUM and AUA negatively impact our future revenues, earnings and growth prospects. In addition, certain of the risk factors set forth in this Annual Report on Form 10-K could be heightened by the effects of the COVID-19 pandemic and related economic conditions resulting in a material adverse effect on our business, results of operations or financial condition, including due to:
● declines in the securities markets or our Funds’ performance, which could result in decreased sales and increased redemptions;
● unprecedented market dislocation and disparate impact on particular businesses and industries;
● availability of financing capital;
● disruption of worldwide supply chains;
● negative impacts to our distribution channels or other financial institutions with which we do business;
● a work-from-home environment, which could result in reductions in our operating effectiveness or efficiency, increased operational, compliance and cybersecurity risks, the failure of controls and risk management policies to identify and manage risks, or the failure or breach of our operational or security systems or our technology infrastructure;
● the unavailability of key personnel necessary to conduct our business activities and operational challenges and costs associated with the return of employees from their remote working environments to the workplace;
● travel and visitation restrictions that limit our ability to engage with management of businesses in which we invest or may invest and with clients and business partners;
● the ability of Advisors to interact with clients and access their leased office spaces;
● actions and recommendations of federal, state and local governments in response to the COVID-19 pandemic; or
● our inability to reduce the level of our expenses to align with decreases in our revenues.
We are unable to accurately predict the ultimate impact of the COVID-19 pandemic due to various uncertainties, including the duration of the outbreak and length of time it will take for the financial markets and economy to recover and for our employees to safely return to the workplace. We closely monitor the impact of the COVID-19 pandemic, continually assessing its potential effects on our business and on the businesses in which we invest. The extent to which our business and financial results are affected by COVID-19 will largely depend on future developments, which cannot be accurately predicted and are uncertain.
For additional discussion regarding the impact on our business, results of operations and financial condition due to COVID-19 and the related economic conditions, please see Part II - Item 7 - "Management’s Discussion and Analysis of Financial Condition and Results of Operations-Impact of COVID-19”.
Our Business Is Subject to Numerous Operational Risks. Sustained Interruptions In Our Operating Systems, Technology Systems, Or Other Failure In Operational Execution, Could Materially And Adversely Affect Our Business. We face numerous and complex operational risks related to our business on a day-to-day basis. Operating risks include, but are not limited to:
● failure to properly perform or oversee mutual fund or portfolio recordkeeping responsibilities, including portfolio accounting, security pricing, corporate actions, investment restrictions compliance, daily NAV computations, account reconciliations, and required distributions to Fund shareholders to comply with tax regulations;
● failure to properly oversee transfer agent and participant recordkeeping responsibilities, including transaction processing, supervision of staff, tax reporting, and record retention;
● sales and marketing risks, including the intentional or unintentional misrepresentation of products and services in advertising materials, public relations information, or other external communications, and failure to properly calculate and present investment performance data accurately and in accordance with established guidelines and regulations;
● failure to properly perform brokerage business responsibilities, including processing trades and client information timely and accurately, maintenance of books and records, execution of financial planning activities, and supervisory and compliance activities; and
● our reliance on third party vendors who, now or in the future, may perform or support important parts of our operations as there can be no assurance that they will perform properly or that our processes and plans to execute, transition or delegate these functions to others will be successful or that there will not be interruptions in services from these third parties.
The systems upon which we rely to conduct our business may fail to operate properly or become disabled as a result of events that are wholly or partially beyond our control, including a disruption of electrical or communications services, termination or capacity constraints of any of the clearing agents, exchanges, clearing houses or other third party service providers that we use to facilitate, or are component providers to, our brokerage operations, securities transactions and other product manufacturing and distribution activities. Any such failure, termination or constraint could adversely
impact our ability to effect transactions, service our clients, manage our exposure to risk, or otherwise achieve desired outcomes. Failure to keep current and accurate books and records can render us subject to disciplinary action by governmental and self-regulatory authorities, as well as to claims by our clients. In connection with the modernization of our wealth management platforms and products, a significant portion of our software is licensed from and supported by third party vendors upon whom we rely to prevent operating system failure. A suspension or termination of these licenses or the related support, upgrades and maintenance could cause system delays or interruption. If any of our financial, portfolio accounting, brokerage or other data processing systems, or the systems of third parties on whom we rely, do not operate properly or are disabled, or if there are other shortcomings or failures in our internal processes, people or systems, or those of third parties on whom we rely, we could suffer financial loss, a disruption of our businesses, liability to clients, regulatory problems or damage to our reputation.
Interruptions could be caused by operational failures arising from service provider, employee or Advisor error or malfeasance, interference by third parties, including hackers, our implementation of new technology, as well as from our maintenance of existing technology. Our financial, accounting, brokerage, data processing or other operating systems and facilities may fail to operate or report data properly, experience connectivity disruptions or otherwise become disabled as a result of events that are wholly or partially beyond our control, adversely affecting our ability to process transactions or provide products and services to our clients. Although we have developed and maintain a comprehensive business continuity plan, and require our key technology vendors and service providers to do the same, there are inherent limitations in such plans and they might not, despite testing and monitoring, operate as designed. Further, we cannot control the execution of any business continuity plans implemented by our service providers.
Failure To Implement New Information Technology Systems Successfully Could Materially And Adversely Affect Our Business. We are in the process of continuing to modernize our wealth management platforms and products and implementing new information technology systems, including a new business administration platform and integrated data repository that we believe will facilitate and improve our core businesses and our productivity, and position our wealth management channel for long-term competitiveness. We may be required to make significant capital expenditures to maintain competitive infrastructure. Our technology infrastructure is vital to the competitiveness of our business. We depend on specialized technology to operate our business and a number of our key information technology systems were developed solely to handle our particular information technology infrastructure. Our continued success depends on our ability to effectively integrate necessary technology systems across our organization, and to adopt new or adapt existing technologies to meet client, industry, and regulatory demands. There can be no assurance that we will successfully implement new information technology systems, that our existing technology infrastructure can support new systems or changes to existing systems, that their implementation will be completed in a timely or cost effective manner, or that we will derive the expected benefits from these new systems. Failure to implement or maintain adequate information technology infrastructure may cause us to lose investors, clients, Advisors and fail to maintain regulatory compliance, which could severely damage our reputation, impede our ability to support business growth, and materially and adversely affect our results of operations.
A Failure In Or Breach Of Our Operational Or Security Systems Or Our Technology Infrastructure, Or Those Of Third Parties, Or Failure To Maintain Adequate Business Continuity Plans, Could Result In A Material Adverse Effect On Our Business And Reputation. We are highly dependent upon the use of various proprietary and third party software applications and other technology systems to operate our business. As part of our normal operations, we process a large number of transactions on a daily basis and maintain and transmit confidential client and employee information, the safety and security of which is dependent upon the effectiveness of our information security policies, procedures, capabilities and employees to protect such systems and the data that reside on or are transmitted through them. Although we take protective measures and endeavor to modify these protective measures as circumstances warrant, technology is subject to rapid change and the nature of the threats continue to evolve. As a result, our operating and technology systems, software and networks may fail to operate properly or become disabled, or may be vulnerable to unauthorized access, inadvertent disclosure, loss or destruction of data (including confidential client information), computer viruses or other malicious code, cyber-attacks and other events that could materially damage our operations, have an adverse security impact, or cause the disclosure or modification of sensitive or confidential information. Further, a cybersecurity intrusion could occur and persist for an extended period of time without detection, and any investigation of a cybersecurity intrusion could require a substantial amount of time. During all this time we might not know the extent of the harm or how best to remediate it, and errors or omissions could be repeated or compounded before being discovered and remediated, all of which could aggravate the costs and consequences of the intrusion. Most of the software applications that we use in our business are licensed from, and are supported, upgraded and maintained by, third party vendors. A suspension or termination of certain of these licenses or the related support, upgrades and maintenance could cause temporary system
delays or interruptions. We also take precautions to password protect and/or encrypt our laptops and other mobile electronic hardware; however, if such hardware is stolen, misplaced or left unattended, it may become vulnerable to hacking or other unauthorized use, creating a possible security risk and resulting in potentially costly actions against us. While we collaborate with clients, vendors and other third parties to develop secure transmission capabilities and otherwise protect against cyber-attacks, we cannot ensure that we or any third parties haves all appropriate controls in place to protect the confidentiality and integrity of such information. Further, while we have in place a disaster recovery plan to ensure we can recover from and continue our business upon the occurrence of catastrophic and unpredictable events, there is no guarantee that this plan will be sufficient in responding to or ameliorating the effects of all disaster scenarios, and we may experience system delays and interruptions as a result of natural disasters, power failures, acts of war, and third party failures. In addition, we rely to varying degrees on third party vendors for disaster contingency support, and we cannot be assured that these vendors will always be able to perform in an adequate and timely manner.
The breach of our operational or information security systems or our technology infrastructure, or those of third parties, due to one or more of these events could cause interruptions, malfunctions or failures in our operations and/or the loss or inadvertent disclosure of confidential client information could result in substantial financial loss or costs, liability for stolen assets or information, breach of client contracts, client dissatisfaction and/or other reputational loss, regulatory actions, remediation costs to repair damage caused by the breach, additional security costs to mitigate against future incidents, costs to provide notice to and credit monitoring for affected clients, and litigation costs resulting from the incident. Although we seek to assess regularly and improve our existing disaster recovery plans, a major disaster, or one that affected certain important operating areas, or our inability to recover successfully should we experience a disaster or other business continuity problem, could materially interrupt our business operations and cause material financial loss, loss of human capital, regulatory actions, reputational harm or legal liability. These events, and those discussed above, could have a material adverse effect on our business and reputation.
We remain subject to various state and federal laws and regulations related to the privacy, integrity and security of nonpublic personal information we create, collect and maintain in the conduct of our business concerning individuals, including Fund trustees and shareholders, our directors and shareholders, our clients, Advisors’ clients and our employees and independent contractors. For example, the State of California recently enacted the California Consumer Privacy Act of 2018 (“CCPA”), which was effective January 1, 2020 and, among other things, created detailed notice, opt-out/opt-in, access and erasure rights for consumers vis-à-vis businesses that collect their personal information, and provides a new private cause of action for data breaches. The California Privacy Rights Act, which was approved by ballot in November 2020 and will be effective in January 2023, augments and expands the CCPA. Other states have enacted or proposed, or in the future may enact, similar privacy and data security legislation. Privacy and data security laws and regulations, particularly when enacted on a state by state basis rather than at the federal level, could impose significant limitations, require changes to our business, restrict our collection, use or storage of nonpublic personal information and subject us to legal liability or regulatory action, which may result in increased compliance expenses, fines or penalties, the termination of client contracts, costly mitigation activities and harm to our reputation.
Failure To Establish Adequate Controls And Risk Management Policies, The Circumvention Of Controls And Risk Management Policies, Or Fraud Could Have An Adverse Effect On Our Reputation And Financial Position. We have established a comprehensive risk management process and continue to enhance various controls, procedures, policies and systems to monitor and manage risks; however, we cannot assure that such controls, procedures, policies and systems will successfully identify and manage internal and external risks to our business. We are subject to the risk that our employees, Advisors, contractors or other third parties may deliberately seek to circumvent established controls to commit fraud or act in ways that are inconsistent with our controls, policies and procedures. Persistent attempts to circumvent policies and controls, or repeated incidents involving fraud, conflicts of interest or transgressions of policies and controls, could have a materially adverse effect on our reputation and lead to costly regulatory inquiries, fines and/or sanctions.
Our Own Operational Failures Or Those Of Third Parties We Rely On, Including Failures Arising Out Of Human Error, Could Disrupt Our Business And Damage Our Reputation. Our business is highly dependent on our ability to process, on a daily basis, large numbers of transactions. These transactions generally must comply with client investment guidelines, as well as stringent legal and regulatory standards. Despite our employees being highly trained and skilled, due to the large number of transactions we process, errors may occur. If we make mistakes in performing our services that cause financial harm to our clients, our clients may seek to recover their losses. The occurrence of mistakes, particularly significant ones, could have a material adverse effect on our reputation and business.
RISKS RELATED TO OUR BUSINESS
A Failure To Protect Our Reputation Could Adversely Affect Our Businesses. Our reputation is one of our most important assets. Our ability to attract and retain clients, investors, employees and Advisors is highly dependent upon external perceptions of our Company. Damage to our reputation could cause significant harm to our business and prospects and may arise from numerous sources, including litigation or regulatory actions, failing to deliver minimum standards of service and quality, compliance failures, any perceived or actual weakness in our financial strength or liquidity, technological, cybersecurity, or other security breaches (including attempted breaches) resulting in improper disclosure of client or employee personal information, unethical behavior, and the misconduct of employees, Advisors and counterparties. Negative perceptions or publicity regarding these matters, even if they are baseless or eventually satisfactorily addressed, could damage our reputation among existing and potential clients, investors, employees and Advisors. Reputations may take decades to re-build, and negative incidents can quickly erode trust and confidence, particularly if they result in adverse mainstream and social media publicity, governmental investigations or litigation. Adverse developments with respect to our industry may also, by association, negatively impact our reputation or result in greater regulatory or legislative scrutiny or litigation against us.
Our reputation is also dependent on our continued identification of and mitigation against conflicts of interest, including those relating to our proprietary activities. For example, conflicts may arise between our position as a provider of financial planning services and as an investment adviser to Funds that an Advisor may recommend to a financial planning client. We have procedures and controls that are designed to identify, address and appropriately disclose perceived conflicts of interest. However, identifying and appropriately addressing conflicts of interest is complex, and our reputation could be damaged if we fail, or appear to fail, to address conflicts of interest appropriately.
In addition, the SEC and other federal and state regulators have increased their scrutiny of potential conflicts of interest, including through the implementation of new best interest and fiduciary standards. It is possible that potential or perceived conflicts could give rise to litigation or enforcement actions. It is possible also that the regulatory scrutiny of, and litigation in connection with, conflicts of interest will make our clients less willing to enter into transactions in which such a conflict may occur, and may materially affect our business.
Our Expenses Are Subject To Fluctuations That Could Materially Affect Our Operating Results. Our results of operations are dependent, in part, on the level of our expenses, which can vary significantly from period to period.
Increases in the level of our expenses, or our inability to reduce the level of our expenses, could materially affect our operating results. If we are unable to effect appropriate expense reductions in a timely manner to align with decreases in our revenue due to, among other things, a decline in the level of our AUM or AUA, or our current business environment, through operational changes or performance improvement, our business may be adversely affected.
We Have Significant Goodwill and Intangibles On Our Balance Sheet, And Any Impairment Could Adversely Affect Our Results of Operations. At December 31, 2020, our total assets were approximately $1.15 billion, of which approximately $145.9 million, or 13%, consisted of goodwill and identifiable intangible assets. See Item 7 - “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies and Estimates.” We complete an ongoing review of goodwill and intangible assets for impairment on an annual basis or more frequently whenever events or a change in circumstances warrant. Important factors in determining whether an impairment of goodwill or intangible assets might exist include significant continued underperformance compared to peers, the likelihood of termination or non-renewal of a mutual fund advisory or sub-advisory contract or substantial changes in revenues earned from such contracts, significant changes in our business and products, material and ongoing negative industry or economic trends, or other factors specific to each asset or subsidiary being tested. Because of the significance of goodwill and other intangibles to our consolidated balance sheets, the impairment analysis is critical. Any changes in key assumptions about our business and our prospects, or changes in market conditions or other externalities, could result in an impairment charge. Any such charge could have a material effect on our results of operations.
The Terms Of Our Credit Facility Impose Restrictions On Our Operations That May Adversely Impact Our Prospects And The Operations Of Our Business.  On October 20, 2020, we entered into a 364-day revolving credit facility (the “Credit Facility”) with various lenders providing for total availability of $100 million. Under the Credit Facility, the lenders may, at their option upon our request, expand the Credit Facility to $200 million. At February 5, 2021, there was no balance outstanding under the Credit Facility. The terms and conditions of the Credit Facility impose restrictions that affect, among other things, our ability to incur additional debt, make capital expenditures and acquisitions, merge, sell assets, pay dividends and create or incur liens. Our ability to comply with the financial covenants set forth in
the Credit Facility could be affected by events beyond our control, and there can be no assurance that we will achieve operating results that will comply with such terms and conditions, a breach of which could result in a default under the Credit Facility. In the event of a default under the Credit Facility, the lenders could elect to declare the outstanding principal amount of the Credit Facility, all interest thereon, and all other amounts payable under the Credit Facility to be immediately due and payable.
Our ability to meet our cash needs will depend upon our future operating performance, asset values, the perception of our creditworthiness and, indirectly, the market value of our common stock. These factors may be affected by prevailing economic, financial and business conditions and other circumstances, some of which are beyond our control. We anticipate that available cash, marketable securities, cash flow from operations and any funds generated by any borrowings from the Credit Facility will provide sufficient funds to finance our operating and capital requirements. However, in the event that we require additional capital, there can be no assurance that we will be able to raise such capital when needed or on satisfactory terms, if at all, and there can be no assurance that we will be able to renew or refinance the Credit Facility upon their maturity or on favorable terms. If we are unable to raise capital or obtain financing, we may be forced to incur unanticipated costs or revise our business plan.
Net Capital Requirements May Impede The Business Operations Of Our Subsidiaries. Certain of our subsidiaries are subject to net capital requirements imposed by various federal, state, and foreign authorities. Each of our subsidiaries’ net capital meets or exceeds all current minimum requirements; however, a significant change in the required net capital, an operating loss, or an extraordinary charge against net capital could adversely affect the ability of our subsidiaries to expand or even maintain their operations if we were unable to make additional investments in them.
RISKS RELATED TO OUR COMMON STOCK
Our Holding Company Structure Results In Structural Subordination And May Affect Our Ability To Fund Our Operations And Make Payments On Our Debt. We are a holding company and, accordingly, substantially all of our operations are conducted through our subsidiaries. As a result, our cash flow is dependent upon the earnings of our subsidiaries and the distribution of earnings, loans or other payments by our subsidiaries to us. Our subsidiaries are separate and distinct legal entities and have no obligation to provide us with funds for our payment obligations, whether by dividends, distributions, loans or other payments. In addition, any payment of dividends, distributions, loans or advances to us by our subsidiaries could be subject to statutory or contractual restrictions. Payments to us by our subsidiaries will also be contingent upon our subsidiaries’ earnings and business considerations. Our right to receive any assets of any of our subsidiaries upon their liquidation or reorganization, and therefore the right of the holders of our debt to participate in those assets, would be effectively subordinated to the claims of those subsidiaries’ creditors, including trade creditors. In addition, even if we were a creditor of any of our subsidiaries, our rights as a creditor would be effectively subordinate to any security interest in the assets of our subsidiaries and any indebtedness of our subsidiaries senior to that held by us.
There Are No Assurances That We Will Pay Future Dividends On, Or Repurchase Shares Of, Our Class A Common Stock, Which Could Adversely Affect Our Stock Price. The Waddell & Reed Financial, Inc. Board of Directors (the “Board of Directors”) currently intends to continue to declare quarterly dividends on, and to authorize the repurchase of shares of, our Class A common stock. However, the declaration and payment of dividends and the repurchase of common stock is subject to the discretion of our Board of Directors, and the terms of the Merger Agreement limit our ability to repurchase shares of our common stock while the merger is pending. Any determination as to the payment of dividends or repurchase of common stock, as well as the level of such dividends and stock repurchases, will depend on, among other things, general economic and business conditions, our strategic plans, our financial results and condition, and contractual, legal and regulatory restrictions on the payment of dividends by us or our subsidiaries and our ability to repurchase shares of our common stock. If the effective time of the merger occurs prior to the ex-dividend date with respect to a dividend that has been declared by our Board of Directors, then our stockholders immediately prior to the effective time of the merger would not be entitled to receive the previously declared dividend. We are a holding company and, as such, our ability to pay dividends and repurchase shares of our common stock is subject to the ability of our subsidiaries to provide us with cash. There can be no assurance that the current quarterly dividend level or the level of stock repurchases will be maintained or that we will pay any dividends or repurchase shares of common stock in any future period. Any change in the level of our dividends or stock repurchases or the suspension of the payment of dividends or stock repurchases could adversely affect our stock price. See Item 7 - “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.”

---

ITEM 1B. UNRESOLVED STAFF COMMENTS
ITEM 1B. Unresolved Staff Comments
None.

---

ITEM 2. PROPERTIES
ITEM 2. Properties
Our existing home office lease agreements cover approximately 298,000 square feet located in Overland Park, Kansas and 38,000 square feet for our disaster recovery facility. We also own three buildings on our home office campus: two 50,000 square foot buildings and a 52,000 square foot building. In January 2020, we signed a fifteen-year lease, which commences during early 2022, relating to the development of a new 260,000 square foot corporate headquarters in Kansas City, Missouri. As a result, the three buildings we own are being marketed for sale. The impact that our proposed merger with Macquarie will have on our new corporate headquarters lease has not been determined. In addition, we lease office space utilized by Advisors and field office support staff in various locations throughout the United States totaling approximately 14,000 square feet. The transition of the remaining Advisors currently leasing space from W&R to personal branch offices is nearly complete.

---

ITEM 3. LEGAL PROCEEDINGS
ITEM 3. Legal Proceedings
The information set forth in response to Item 103 of Regulation S-K under “Legal Proceedings” is incorporated by reference from Part II, Item 8. “Financial Statements and Supplementary Data,” Note 17 - Contingencies, of this Annual Report on Form 10-K.

---

ITEM 4. MINE SAFETY DISCLOSURE
ITEM 4. Mine Safety Disclosures
Not applicable.
PART II

---

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our Class A common stock (“common stock”) is listed on the NYSE under the ticker symbol “WDR.”
According to the records of our transfer agent, we had 2,034 holders of record of common stock as of February 5, 2021. We believe that a substantially larger number of beneficial stockholders hold such shares in depository or nominee form.
Dividends
The declaration of dividends is subject to the discretion of the Board of Directors. We intend, from time to time, to pay cash dividends on our common stock as our Board of Directors deems appropriate, after consideration of our operating results, financial condition, cash and capital requirements, compliance with covenants in the Credit Facility and such other factors as the Board of Directors deems relevant. To the extent assets are used to meet minimum net capital requirements under the Net Capital Rule, they are not available for distribution to stockholders as dividends. See Part I, Item 1. “Business-Regulation.” We anticipate that quarterly dividends will continue to be paid, subject to the terms of the Merger Agreement. The Merger Agreement limits our ability to increase the dividend with respect to our common stock while the merger is pending; however, we may continue to pay regular quarterly cash dividends not exceeding $0.25 per share, with declaration, record and payment dates substantially consistent with those paid during 2020. On February 1, 2021, we paid a quarterly dividend on our common stock of $0.25 per share to stockholders of record as of January 11, 2021. The Board of Directors has declared a quarterly dividend on our common stock of $0.25 per share, payable on April 30, 2021, to stockholders of record as of April 9, 2021. See Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources.”
Common Stock Repurchases
Our Board of Directors has authorized the repurchase of our common stock in the open market and/or private purchases. The acquired shares may be used for corporate purposes, including shares issued to employees in our share-
based compensation programs. During the year ended December 31, 2020, we repurchased 7,995,730 shares at an aggregate cost, including commissions, of $114.7 million, including 554,062 shares repurchased from employees to cover their tax withholdings from the vesting of shares granted under our share-based compensation programs at a cost of $9.0 million. The purchase price paid by us for repurchases of our common stock from employees is the closing market price on the vesting date (or the business date prior to the vesting date for shares granted beginning in March 2020). The terms of the Merger Agreement restrict our ability to repurchase shares of our common stock while the merger is pending; however, we may continue to repurchase shares of our common stock from employees to cover their tax withholdings in connection with the vesting of restricted shares.
The following table sets forth certain information about the shares of common stock we repurchased during the fourth quarter of 2020:
Total Number of
Maximum Number (or
Shares
Approximate Dollar
Purchased as
Value) of Shares That
Total Number
Average
Part of Publicly
May Yet Be
of Shares
Price Paid
Announced
Purchased Under The
Period
Purchased
per Share
Program (1)
Program (1)
October 1 - October 31
-
$
-
-
n/a
November 1 - November 30
15.95
-
n/a
December 1 - December 31
102,741
25.47
-
n/a
Total
102,817
$
25.46
-
(1) In October 2012, our Board of Directors approved a program to repurchase shares of our common stock on the open market. Under the repurchase program, we are authorized to repurchase, in any seven-day period, the greater of (i) 3% of our outstanding common stock or (ii) $50 million of our common stock. We may repurchase our common stock in privately negotiated transactions or through the New York Stock Exchange, other national or regional market systems, electronic communication networks or alternative trading systems. Our stock repurchase program does not have an expiration date or an aggregate maximum number or dollar value of shares that may be repurchased; however, our ability to repurchase shares of our common stock is limited while the merger is pending as described above.
During the fourth quarter of 2020, 102,817 shares were purchased in connection with funding employee income tax withholding obligations arising from the vesting of restricted shares.
Total Return Performance
Comparison of Cumulative Total Return (1)
The above graph compares the cumulative total stockholder return on the Company’s common stock from December 31, 2015 through December 31, 2020 with the cumulative total return of the Standard & Poor’s 500 Stock Index and the SNL Asset Manager Index. The SNL Asset Manager Index is a composite of 40 publicly traded asset management companies (including, among others, the companies in the peer group reviewed by the Compensation Committee for executive compensation purposes) prepared by S&P Global Market Intelligence. The graph assumes the investment of $100 in the Company’s common stock and in each of the two indices on December 31, 2015 with all dividends being reinvested. The closing price of the Company’s common stock on December 31, 2015 was $28.66 per share. The stock price performance on the graph is not necessarily indicative of future price performance.
Period Ending
Index
12/31/2015
12/31/2016
12/31/2017
12/31/2018
12/31/2019
12/31/2020
Waddell & Reed Financial, Inc.
100.00
74.67
94.22
80.11
78.65
127.88
SNL Asset Manager
100.00
105.79
140.48
105.98
147.70
189.47
S&P 500
100.00
111.96
136.40
130.42
171.49
203.04
(1) Cumulative total return assumes an initial investment of $100 on December 31, 2015, with the reinvestment of all dividends through December 31, 2020.

---

ITEM 6. SELECTED FINANCIAL DATA
ITEM 6. Selected Financial Data
The following table sets forth our selected consolidated financial and other data as of the dates and for the periods indicated and reflects continuing operations data. Selected financial data should be read in conjunction with, and is qualified in its entirety by, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our Consolidated Financial Statements and the Notes thereto appearing elsewhere in this Annual Report.
For the Year Ended December 31,
(in thousands, except per share data and percentages)
Revenues from:
Investment management fees
$
419,728
445,144
507,906
531,850
557,112
Underwriting and distribution fees
544,440
531,836
550,010
518,699
561,670
Shareholder service fees
85,329
93,335
102,385
106,595
120,241
Total revenues
1,049,497
1,070,315
1,160,301
1,157,144
1,239,023
Net income attributable to Waddell & Reed Financial, Inc.
$
70,457
114,992
183,588
141,279
156,695
Operating margin
%
%
%
%
%
Net income per share from continuing operations, basic and diluted
$
1.08
1.57
2.28
1.69
1.90
Dividends declared per common share
$
1.00
1.00
1.00
1.63
1.84
Shares outstanding at December 31,
62,398
68,847
76,790
82,687
83,118
As of December 31,
(in millions)
Assets under management
$
74,822
69,958
65,809
81,082
80,521
Balance sheet data:
Goodwill and identifiable intangible assets
$
145.9
145.9
145.9
147.1
148.6
Total assets
1,153.8
1,266.3
1,344.1
1,384.4
1,406.3
Long-term debt
-
94.9
94.9
94.8
189.6
Total liabilities
426.1
438.2
449.2
497.0
551.6
Total Waddell & Reed stockholders’ equity
727.8
808.9
883.5
872.9
844.0

---

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following should be read in conjunction with the “Selected Financial Data” and our Consolidated Financial Statements and Notes thereto appearing elsewhere in this Annual Report.
Overview
We are one of the oldest mutual fund and asset management firms in the country, with expertise in a broad range of investment styles and across a variety of market environments. Our earnings and cash flows are heavily dependent on financial market conditions and client activity. Significant increases or decreases in the various securities markets can have a material impact on our results of operations, financial condition and cash flows.
Our products are distributed through our unaffiliated channel, or through our wealth management channel by Advisors. Through our institutional channel, we distribute an array of investment styles to a variety of clients.
Through our unaffiliated channel, we distribute mutual funds through broker-dealers, retirement platforms and registered investment advisers through a team of external and internal wholesalers.
In our wealth management channel, we had 936 Advisors and 397 licensed advisor associates as of December 31, 2020, for a total of 1,333 licensed individuals associated with W&R who operate out of offices located throughout the United States and provide financial advice for retirement, education funding, estate planning and other financial needs for clients.
We manage assets in a variety of investment styles in our institutional channel. Most of the clients in this channel are other asset managers that hire us to act as a subadviser for their branded products; they are typically domestic and foreign distributors of investment products who lack scale or the track record to manage internally, or choose to market multi-manager styles. Our diverse client list also includes pension funds, Taft Hartley plans and endowments.
Proposed Acquisition of Waddell & Reed Financial, Inc. by Macquarie
On December 2, 2020, the Company announced entry into the Merger Agreement. Subject to the terms and conditions of the Merger Agreement, Merger Sub will be merged with and into the Company, with the Company surviving the merger as a wholly owned subsidiary of Macquarie. Pursuant to the Merger Agreement, at the effective time of the merger, each share of the Company’s Class A common stock issued and outstanding immediately prior to the effective time will be converted into the right to receive $25.00 per share in cash, without interest and subject to any withholding of taxes required by applicable law in accordance with the Merger Agreement. On completion of the merger, Macquarie intends to sell our wealth management business to LPL Holdings, Inc.
The proposed merger is expected to close by the end of April 2021, subject to regulatory approvals, Waddell & Reed Financial, Inc. stockholder approval and other customary closing conditions.
Please see the Risks Related to the Proposed Merger included in Item 1A - “Risk Factors” in this Annual Report for a discussion of certain risks related to our proposed merger with Macquarie. Please see the Company’s definitive proxy statement filed with the SEC on February 17, 2021, for additional information on the merger.
Impact of COVID-19
The market volatility that began in March 2020, as a result of the reaction to COVID-19 and its impact on the global economy, resulted in significant depreciation in the stock markets. In the second through fourth quarters of 2020, the markets rebounded, benefiting our measures of AUM and AUA and the revenues that are based on these assets for these periods.
Some of our expenses, particularly certain distribution expenses, are directly correlated with revenue, and we saw increases in these expenses in line with the revenue increases during the second through fourth quarters of 2020. At the same time, controllable expenses, defined as Compensation and benefits, General and administrative, Technology, Occupancy and Marketing and advertising, increased approximately 5% year-over-year. While the Company took several incremental actions to reduce these expenses throughout 2020, we took a long-term view and invested in the areas we
thought would allow us to come out of the pandemic in a stronger position to drive growth.
We transitioned most of our workforce and Advisors to a work from home environment early in March 2020. By late March, 98% of our employees were working remotely, with negligible downtime. The remote work environment has largely continued through the end of 2020 and into the new year. Our steady and proactive response has allowed our asset management and wealth management businesses to maintain full continuity of service and the access that our clients need and expect. With a successful transition to a remote working environment, we plan to closely monitor developments and reintroduce employees to the workplace only when it is safe to do so. The transition of employees to a work from home environment did not result in any material incremental expenses during 2020, and we do not expect to incur any material incremental expenses in future periods. For additional discussion regarding steps we have taken to facilitate safety, security and full continuity of service, please see Part I - Item 1 -Business, of this Annual Report on Form 10-K.
For additional discussion regarding the risks that can impact our business, results of operations and financial condition due to COVID-19 and the related economic conditions, please see Part I - Item 1A - “Risk Factors”.
Highlights
● Announced execution of a Merger Agreement under which Macquarie would acquire all the outstanding shares of the Company for $25.00 per share in cash representing total consideration of approximately $1.7 billion. The transaction is expected to close by the end of April 2021 subject to regulatory approvals, Waddell & Reed Financial, Inc. stockholder approval and other customary closing conditions.
● Continued execution of strategic initiatives in Asset Management
o AUM as of December 31, 2020 increased 7% compared to the prior year. The increase was due to market appreciation, partially offset by net outflows.
o Both gross sales and the overall redemption rate improved compared to the prior year, with unaffiliated sales notably improving.
o Investment performance improved across the complex as measured by the percentage of funds ranked in the top half of their respective Morningstar universes, where we saw an increase from the prior year in trailing one-, three- and five-year performance.
o Continued progress in strategic pricing evaluation, with 79% of AUM at or better than competitor median fees.
o Ivy Investments introduced two additional strategies in a model-delivery format, bringing the total offering to nine strategies.
● Significant progress in wealth management transformation continued, with enhanced focus on recruiting, improving operating metrics and additional growth opportunities
o AUA increased 16% compared to 2019, primarily due to strong market appreciation and growth in net new Advisory AUA, partially offset by ongoing migration away from Non-advisory brokerage accounts.
o Continued growth in Advisory AUA on the strength of positive net new Advisory AUA for the 8th consecutive quarter.
o Number of Advisors and advisor associates increased slightly to 1,333 on strong recruiting results during the year. Since January 1, 2020, 51 new Advisors have affiliated with W&R with combined prior firm AUA totaling over $2.8 billion.
o In 2020, W&R expanded its WaddellONE centralized digital platform with the launch of ONESource, a consolidated digital repository, which seamlessly connects data across platforms for advisors, and ONEService, a web-based repository of processes, procedures and other information available to all Advisors.
● During 2020, we returned $180.2 million of capital to stockholders through dividends and share repurchases, including repurchasing 8.0 million shares during the year.
● Balance sheet remains strong with $760.5 million in unrestricted cash and investments at December 31, 2020; repaid $95.0 million Series B senior unsecured notes in January 2021.
Operating Results (1)
We earned $1.0 billion in revenues in 2020, which decreased 2% compared to 2019. Average AUM were $66.7 billion in 2020 compared to $70.3 billion in 2019. AUA increased 16% in 2020 to $69.7 billion, compared to $60.1 billion in 2019. The increase in AUA was related to increases in Advisory AUA, due to market appreciation and positive net new Advisory AUA. The fourth quarter of 2020 was the 8th consecutive quarter for positive net new Advisory AUA.
Net income attributable to Waddell & Reed Financial, Inc. of $70.5 million decreased 39% compared to $115.0 million in 2019. Net income per diluted share was $1.08 for 2020 compared to $1.57 for 2019. The year ended December 31, 2020 included $39.6 million in costs related to our proposed merger with Macquarie. Excluding the merger-related costs, adjusted net income for 2020 was $102.8 million and adjusted net income per diluted share was $1.58. The year ended December 31, 2019 included non-cash asset impairment charges of $12.8 million in connection with certain assets held for sale, including real property related to our corporate headquarters move planned for 2022 and the elimination of our internal aviation operations, an $11.2 million non-cash charge related to the annual revaluation of the pension plan liability and $5.4 million in severance expense related to the outsourcing of our transfer agency transactional processing operations. Excluding these non-cash and severance expense charges, adjusted net income for 2019 was $137.4 million and adjusted net income per diluted share was $1.87.
Operating expenses of $954.7 million in 2020 increased $30.1 million compared to the prior year. Excluding merger-related costs, non-cash asset impairment charges and severance described above, adjusted operating expenses increased $8.7 million, or 1%, compared to adjusted 2019 operating expenses. The operating margin for 2020 was 9.0% and the adjusted operating margin was 12.8%, compared to the reported and adjusted operating margin of 13.6% and 15.3% for 2019, respectively.
(1) Adjusted net income, adjusted net income per diluted share, adjusted operating expenses and adjusted operating margin are non-GAAP financial measures. See Non-GAAP Financial Measures and Reconciliation of GAAP to non-GAAP Financial Measures on pages 48 and 49.
Assets Under Management
AUM of $74.8 billion at December 31, 2020 increased $4.8 billion, or 7%, compared to $70.0 billion at December 31, 2019. The increase in AUM is due to market appreciation of $12.2 billion, partially offset by net outflows of $7.3 billion.
Change in Assets Under Management (1)
Wealth
Unaffiliated (2)
Institutional
Management
Total
(in millions)
Beginning Assets
$
26,264
3,096
40,598
69,958
Sales(3)
5,450
2,869
8,519
Redemptions
(9,096)
(735)
(5,981)
(15,812)
Net Exchanges
(998)
-
Net Flows
(2,670)
(513)
(4,110)
(7,293)
Market Action
4,383
6,787
12,157
Ending Assets at December 31, 2020
$
27,977
3,570
43,275
74,822
Beginning Assets
$
24,977
3,655
37,177
65,809
Sales(3)
4,737
2,948
7,961
Redemptions
(9,933)
(1,901)
(6,311)
(18,145)
Net Exchanges
1,192
(1,217)
-
Net Flows
(4,004)
(1,600)
(4,580)
(10,184)
Market Action
5,291
1,041
8,001
14,333
Ending Assets at December 31, 2019
$
26,264
3,096
40,598
69,958
Beginning Assets
$
31,133
6,289
43,660
81,082
Sales(3)
7,287
3,835
11,995
Redemptions
(11,399)
(4,108)
(6,889)
(22,396)
Net Exchanges
(1,270)
-
Net Flows
(3,353)
(2,724)
(4,324)
(10,401)
Market Action
(2,803)
(2,159)
(4,872)
Ending Assets at December 31, 2018
$
24,977
3,655
37,177
65,809
(1) Includes all activity of the Funds, the IGI Funds (prior to their liquidation in 2018) and institutional accounts, including money market funds and transactions at net asset value, accounts for which we receive no commissions.
(2) Unaffiliated includes National channel (home office and wholesale), DCIO, RIA and Variable Annuity.
(3) Sales consists of gross sales and includes net reinvested dividends, capital gains and investment income.
Average AUM, which are generally more indicative of trends in revenue from investment management services than the change in ending AUM, decreased by 5% compared to 2019.
Average Assets Under Management
Percentage
Percentage
Percentage
Average
of Total
Average
of Total
Average
of Total
(in millions, except percentage data)
Distribution Channel:
Unaffiliated
Equity
$
19,465
%
21,026
%
24,164
%
Fixed income
4,534
%
5,177
%
5,607
%
Money market
%
-
-
Total
$
24,137
%
26,302
%
29,863
%
Institutional
Equity
$
3,052
%
3,719
%
5,410
%
Fixed income
-
-
-
%
%
Money market
-
-
-
-
-
-
Total
$
3,052
%
3,730
%
5,464
%
Wealth Management
Equity
$
29,149
%
29,453
%
31,446
%
Fixed income
8,673
%
9,231
%
9,870
%
Money market
1,724
%
1,556
%
1,696
%
Total
$
39,546
%
40,240
%
43,012
%
Total by Asset Class:
Equity
$
51,666
%
54,198
%
61,020
%
Fixed income
13,207
%
14,419
%
15,531
%
Money market
1,862
%
1,655
%
1,788
%
Total
$
66,735
%
70,272
%
78,339
%
The following table summarizes our five largest mutual funds as of December 31, 2020 by ending AUM and investment management fees, with the comparative positions in 2019 and 2018. The AUM and management fees of these mutual funds are presented as a percentage of our total AUM and total management fees.
Five Largest Mutual Funds by Ending Assets Under Management and Investment Management Fees
Percentage
Percentage
Percentage
Ending
of Total
Ending
of Total
Ending
of Total
(in millions, except percentage data)
By AUM:
Ivy Science & Technology
$
9,846
%
8,143
%
6,345
%
Ivy Mid Cap Growth
7,273
%
5,063
%
3,983
%
Ivy Large Cap Growth
5,666
%
4,762
%
3,873
%
Ivy Core Equity
4,546
%
4,268
%
3,862
%
Ivy High Income
4,108
%
4,722
%
4,857
%
Total
$
31,439
%
26,958
%
22,920
%
(in thousands, except percentage data)
By Management Fees:
Ivy Science & Technology
$
64,960
%
59,182
%
56,997
%
Ivy Mid Cap Growth
38,292
%
32,577
%
30,885
%
Ivy Large Cap Growth
27,347
%
25,248
%
21,465
%
Ivy Core Equity
25,520
%
25,751
%
28,264
%
Ivy High Income
21,580
%
25,914
%
27,971
%
Total
$
177,699
%
168,672
%
165,582
%
Performance
We have seen an increase from the prior year in trailing one-, three- and five-year performance as measured by the percentage of funds ranked in the top half of their respective Morningstar universes. As measured by percentage of assets, five-year performance improved while one- and three-year performance declined. Our commitment to institutional caliber processes means that while we are mindful of short-term market dynamics, we remain focused on the long term and on maintaining discipline and consistency in volatile times such as we have seen throughout 2020.
The following table is a summary of Morningstar rankings and ratings as of December 31, 2020:
MorningStar Fund Rankings 1
1 Year
3 Years
5 Years
Funds ranked in top half
%
%
%
Assets ranked in top half
%
%
%
MorningStar Ratings 1
Overall
3 Years
5 Years
Funds with 4/5 stars
%
%
%
Assets with 4/5 stars
%
%
%
(1) Based on class I share, which reflects the largest concentration of sales and assets.
Assets Under Administration
AUA includes both client assets invested in the Funds and in other companies’ products that are distributed through W&R and held in direct to fund accounts, brokerage accounts or within our fee-based advisory programs. AUA increased 16% compared to 2019, primarily due to strong market appreciation and growth in net new advisory assets, partially offset by ongoing migration away from Non-advisory brokerage accounts. Average AUA increased 6% compared to 2019. Average productivity per Advisor for the year ended December 31, 2020 was $487 thousand, an increase of 11% as compared to 2019. During 2020, we updated our definition of net new AUA to include dividends and interest to be more consistent with peers and have reflected this new definition for all periods presented in the table below. The slight increase in Advisors, along with an increase in productivity is due to our efforts to transform W&R into a fully competitive and profitable aspect of our business model, with a focus on higher producing Advisors.
For the Year ended December 31,
(in millions, except advisor data
and percentages)
Ending AUA
Advisory AUA
$
33,100
26,947
21,207
Non-advisory AUA
36,605
33,148
30,059
Total ending AUA
$
69,705
60,095
51,266
Average AUA (1)
Advisory AUA (1)
$
27,562
24,217
22,629
Non-advisory AUA (1)
32,373
32,110
34,224
Total average AUA (1)
$
59,935
56,327
56,853
Net new Advisory AUA (2)
$
1,695
1,447
1,130
Net new Non-advisory AUA (2), (3)
(1,878)
(2,987)
(3,335)
Total net new AUA (2), (3)
$
(183)
(1,540)
(2,205)
Annualized Advisory AUA growth (4)
6.3
%
6.8
%
5.2
%
Annualized AUA growth (4)
(0.3)
%
(3.0)
%
(3.9)
%
Advisors and advisor associates
1,333
1,327
1,403
Average trailing 12-month production per Advisor (5) (in thousands)
$
(1) Average AUA are calculated as the average of the beginning of month AUA during each reporting period.
(2) Net new AUA are calculated as total client deposits and net transfers less client withdrawals. Client deposits include dividends and interest.
(3) Excludes activity related to products held outside of our wealth management platform. These assets represent less than 10% of total AUA.
(4) Annualized growth is calculated as annualized total net new AUA divided by beginning AUA.
(5) Production per Advisor is calculated as trailing 12-month Total Underwriting and distribution fees less “other” underwriting and distribution fees divided by the average number of Advisors. “Other” underwriting and distribution fees predominantly include fees paid by Advisors for programs and services. Detail of “other” amounts is on page 41.
Results of Operations
Net Income
For the Year ended
December 31,
Variance
2020 vs.
2019 vs.
(in thousands, except per share and percentage data)
Net income attributable to Waddell & Reed Financial, Inc.
$
70,457
114,992
183,588
(39)
%
(37)
%
Earnings per share, basic and diluted
$
1.08
1.57
2.28
(31)
%
(31)
%
Operating Margin
%
%
%
(5)
%
(5)
%
Total Revenues
Total revenues decreased 2% in 2020 and 8% in 2019 compared to 2019 and 2018, respectively, primarily due to lower average AUM, partially offset by an increase in advisory fees due to higher AUA. The decrease in investment management fees from 2019 to 2020 was primarily due to a decrease in average AUM and new fee reductions made on our large cap growth and core bond products effective April 1, 2020 as well as increased money market fee waivers due to the low interest rate environment. The increase in underwriting and distribution fees was primarily due to an increase in advisory fees due to higher AUA. Shareholder services fees were also lower due to the decrease in average AUM.
For the Year ended
December 31,
Variance
2020 vs.
2019 vs.
(in thousands, except percentage data)
Investment management fees
$
419,728
445,144
507,906
(6)
%
(12)
%
Underwriting and distribution fees
544,440
531,836
550,010
%
(3)
%
Shareholder service fees
85,329
93,335
102,385
(9)
%
(9)
%
Total revenues
$
1,049,497
1,070,315
1,160,301
(2)
%
(8)
%
Investment Management Fee Revenues
Investment management fee revenues decreased $25.4 million, or 6%, in 2020 and decreased $62.8 million, or 12%, in 2019. Investment management fee revenues are based on the level of average client AUM and are affected by sales, financial market conditions, redemptions and the composition of assets. The following graph illustrates the direct relationship between average client AUM and investment management fee revenues for the years ending December 31, 2020, 2019 and 2018.
The following table summarizes investment management fee revenues, related average AUM, fee waivers and investment management fee rates for the years ending December 31, 2020, 2019 and 2018. Fee waivers for the Funds are recorded as an offset to investment management fees up to the amount of fees earned, with excess fee waivers recorded in general and administrative expense.
For the Year ended
December 31,
Variance
2020 vs.
2019 vs.
(in thousands, except for management fee rate, average assets and
percentage data)
Funds investment management fees (net)
$
407,396
430,028
486,181
(5)
%
(12)
%
Funds average assets (in millions)
63,683
66,542
72,875
(4)
%
(9)
%
Funds management fee rate (net)
0.6397
%
0.6462
%
0.6671
%
Total fee waivers
$
33,278
29,284
17,696
%
%
Institutional investment management fees (net)
$
12,332
15,116
21,725
(18)
%
(30)
%
Institutional average assets (in millions)
3,052
3,730
5,464
(18)
%
(32)
%
Institutional management fee rate (net)
0.4037
%
0.4053
%
0.4057
%
Revenues from investment management services provided to our retail mutual funds, which are distributed through the unaffiliated and wealth management channels, decreased $22.6 million in 2020, or 5%, compared to 2019, primarily due to a decrease in average assets and a decrease in the effective management fee rate, which was primarily due to fee reductions on selected mutual funds. The increased fee waivers were due to new fee reductions made on our large cap growth and core bond products effective April 1, 2020 as well as increased money market fee waivers due to the low interest rate environment. Revenues from investment management services provided to our mutual funds decreased
$56.2 million in 2019, or 12%, compared to 2018, primarily due to a decrease in average assets and fee reductions on selected mutual funds that were implemented as of July 31, 2018.
Institutional account revenues in 2020 decreased $2.8 million, or 18%, compared to 2019 due to a decrease in average AUM. Institutional account revenues in 2019 decreased $6.6 million, or 30%, compared to 2018. Outflows in assets for 2019 in this channel were primarily due to carryover effects of prior year personnel changes at the portfolio manager level.
Long-term redemption rates
(excludes money market redemptions)
for the year ended December 31,
Unaffiliated channel
37.9
%
38.1
%
38.7
%
Institutional channel
24.1
%
51.0
%
75.2
%
Wealth Management channel
13.4
%
13.8
%
13.9
%
Total
22.9
%
25.0
%
27.8
%
The long-term redemption rates continued a multi-year improvement in 2020, improving across all channels. The unaffiliated redemption rate improved modestly; prolonged redemptions in the unaffiliated channel could negatively affect revenues in future periods. The institutional redemption rate returned closer to historical levels as the effects of portfolio manager turnover in 2018 and 2019 subsided. In the wealth management channel, we continued to benefit from a long-term redemption rate that is significantly lower than that of the industry average. In aggregate, the industry average redemption rate in 2020, based on data provided by the ICI, was 28.8% versus our rate of 22.9%.
Underwriting and Distribution Fee Revenues
We offer a wide range of fee-based advisory products. These products offer clients a selection of traditional asset allocation models, as well as features such as systematic rebalancing and client and Advisor participation in determining asset allocation across asset classes. These products utilize a variety of underlying investment options, including mutual funds, stocks, bonds and ETFs. We earn asset-based fees on our advisory products.
We earn underwriting and distribution fee revenues primarily by distributing the Funds pursuant to an underwriting agreement with each Fund (except Ivy VIP as explained below) and by distributing mutual funds offered by other unaffiliated companies. Pursuant to each agreement, we offer and sell the Funds’ shares on a continuous basis (open-end funds) and pay certain costs associated with underwriting and distributing the Funds, including the costs of developing and producing sales literature and printing of prospectuses, which may be either partially or fully reimbursed by the Funds. The Funds are sold in various classes that are structured in ways that conform to industry standards (e.g., “front-end load,” “back-end load,” “level-load” and institutional).
We distribute variable products offering Ivy VIP as investment vehicles pursuant to general agency arrangements with our business partners and receive commissions, marketing allowances and other compensation as stipulated by such agreements. In connection with these arrangements, Ivy VIP is offered and sold on a continuous basis.
In addition to distributing variable products, we distribute a number of other insurance products through our insurance agency subsidiaries, including individual term life, group term life, whole life, accident and health, long-term care, Medicare supplement and disability insurance. We receive commissions and compensation from various underwriters for distributing these products. We are not an underwriter for any insurance policies.
The following tables summarize the significant components of underwriting and distribution fee revenues segregated by distribution channel for the years ended December 31, 2020, 2019 and 2018:
Total
(in thousands)
Underwriting and distribution fee revenues:
Advisory fees
$
318,964
284,188
269,069
Service and distribution fees
118,054
128,424
148,979
Sales commissions
72,398
82,515
92,912
Other revenues
35,024
36,709
39,050
Total
$
544,440
531,836
550,010
Unaffiliated Channel
(in thousands)
Underwriting and distribution fee revenues:
Service and distribution fees
$
58,507
65,227
78,041
Sales commissions
1,065
1,730
1,886
Other revenues
Total
$
59,934
67,247
80,495
Wealth Management Channel
(in thousands)
Underwriting and distribution fee revenues:
Advisory fees
$
318,964
284,188
269,069
Service and distribution fees
59,547
63,197
70,938
Sales commissions
71,333
80,785
91,026
Other revenues
34,662
36,419
38,482
Total
$
484,506
464,589
469,515
A significant portion of underwriting and distribution fee revenues are received from asset-based fees earned on our advisory products and commissions. Underwriting and distribution fee revenues also include Rule 12b-1 asset-based service and distribution fees earned on load, load-waived and deferred-load products sold by Advisors and third party intermediaries, sales commissions charged on front-end load products sold by Advisors, including mutual fund Class A shares (those sponsored by the Company and those underwritten by other non-proprietary mutual fund companies), variable annuities, sales of other insurance products, and financial planning fees. A significant amount of unaffiliated channel mutual fund sales are load-waived. We recover certain of our underwriting and distribution costs through Rule 12b-1 service and distribution fees, which are paid by the Funds. All Rule 12b-1 service and distribution fee revenue received from the Funds is recorded on a gross basis.
Underwriting and distribution fee revenues earned in 2020 increased by $12.6 million, or 2%, compared to 2019. Revenues from fee-based advisory products earned in 2020 in our wealth management channel increased 12% compared to 2019 due to an increase in average Advisory AUA of 14%, slightly offset by a decrease in the average fee rate due to product mix. This increase was partially offset by a decrease of $10.4 million, or 8%, in Rule 12b-1 asset-based service and distribution fees across both channels, as compared to 2019, which was driven by a decrease in average mutual fund AUM for which we earn Rule 12b-1 revenue. Sales commission revenues decreased $10.1 million, or 12%, due to lower commissionable sales, in part due to the impact of COVID-19 on sales activity. Other revenue also decreased $1.7 million primarily due to lower office space revenue from Advisors as we continued the transition to Advisor personal branch offices. Due to current industry trends toward institutional share classes in fee-based programs, we anticipate a continued decrease in 12b-1 service and distribution fees and sales commissions.
Underwriting and distribution fee revenues earned in 2019 decreased by $18.2 million, or 3%, compared to 2018. A decrease of $20.6 million, or 14%, in Rule 12b-1 asset-based service and distribution fees across both channels, as compared to 2018, was driven by a decrease in average mutual fund AUM for which we earn Rule 12b-1 revenue. Sales commissions decreased $11.8 million, or 13%, due to lower commissionable sales. These decreases were partially offset
by a 6% increase in revenues from fee-based advisory products due to an increase in average advisory AUA of 7%, slightly offset by a decrease in the average fee rate due to product mix.
Shareholder Service Fees Revenue
Shareholder service fee revenue primarily includes transfer agency fees, custodian fees from retirement plan accounts, and portfolio accounting and administration fees. Transfer agency fees and portfolio accounting and administration fees are asset-based revenues or account-based revenues, while custodian fees from retirement plan accounts are based on the number of client accounts.
During 2020, shareholder service fees revenue decreased $8.0 million, or 9%, compared to 2019. Account-based fees decreased $5.3 million compared to 2019 primarily due to a decrease in the number of accounts and decreases related to the outsourcing of our transfer agency transactional processing operations, which was offset by lower reimbursable costs. Service fees based on assets decreased $2.7 million, or 5%, compared to 2019, primarily due to a decrease in assets.
During 2019, shareholder service fees revenue decreased $9.1 million, or 9%, compared to 2018. Account-based fees decreased $4.6 million compared to 2018 primarily due to a decrease in the number of accounts. Service fees based on assets decreased $4.4 million, or 8%, compared to 2018, due to a decrease in assets as well as a decrease in fund administrative and accounting services fees due to the 2018 fund mergers.
Total Operating Expenses
Operating expenses for 2020, including $39.6 million of merger-related costs, were up 3% compared to 2019. Operating expenses for 2019, including $12.8 million of non-cash asset impairment charges and $5.4 million of severance expense related to the outsourcing of our transactional processing operations of our transfer agency, were down 1% compared to 2018. During 2021, we expect additional merger-related costs in general and administrative, including legal costs and certain expenses related to the Funds, and in compensation and benefits, including retention and incentive awards.
Operating expenses for the years ended December 31, 2020, 2019 and 2018 are set forth in the following table:
For the Year ended
December 31,
Variance
2020 vs.
2019 vs.
(in thousands, except percentage data)
Distribution
$
478,578
460,921
456,832
%
%
Compensation and benefits
278,711
254,534
263,329
%
(3)
%
General and administrative
90,813
77,482
73,643
%
%
Technology
57,066
63,719
65,275
(10)
%
(2)
%
Occupancy
16,559
24,243
27,197
(32)
%
(11)
%
Marketing and advertising
6,253
8,964
10,323
(30)
%
(13)
%
Depreciation
12,833
19,829
25,649
(35)
%
(23)
%
Subadvisory fees
13,914
14,931
14,805
(7)
%
%
Intangible asset impairment
-
-
1,200
-
(100)
%
Total operating expenses
$
954,727
924,623
938,253
%
(1)
%
Distribution Expenses
Distribution costs fluctuate with sales volume, such as Advisor commissions and commissions paid to field management, Advisor incentive compensation, commissions paid to third parties and to our own wholesalers, and related management commissions in our unaffiliated channel. Direct selling costs also fluctuate with AUM, such as Rule 12b-1 service and distribution fees paid to third parties.
Distribution expenses for the years ended December 31, 2020, 2019, and 2018 are set forth in the following table:
For the Year ended
December 31,
Variance
2020 vs.
2019 vs.
(in thousands, except percentage data)
Distribution - unaffiliated channel
$
91,157
96,718
112,562
(6)
%
(14)
%
Distribution - wealth management channel
387,421
364,203
344,270
%
%
Total distribution expenses
$
478,578
460,921
456,832
%
%
Distribution expenses in 2020 increased by $17.7 million, or 4%, compared to 2019. Expenses in the wealth management channel increased $23.2 million compared to 2019, primarily due to an increase in Advisory fee revenue resulting in a higher payout to Advisors. Expenses in the unaffiliated channel decreased $5.6 million compared to 2019 primarily due to lower Rule 12b-1 asset-based service and distribution expenses paid to third party distributors.
Distribution expenses in 2019 increased by $4.1 million, or 1%, compared to 2018. Expenses in the wealth management channel increased $19.9 million compared to 2018, primarily due to an increase in Advisor payouts following the additional enhancements to the Advisor compensation grid effective January 1, 2019. Expenses in the unaffiliated channel decreased $15.8 million compared to 2018 primarily due to lower Rule 12b-1 asset-based service and distribution expenses paid to third party distributors.
Compensation and Benefits
Compensation and benefits in 2020 increased $24.2 million, or 9%, compared to 2019. The primary driver of the increase was merger-related compensation expense of $29.1 million, including mark-to-market adjustments on outstanding restricted share units as a result of the increase in share price of our common stock, retention award accruals and higher cash incentive payments. In addition, compensation and benefits expense increased due to deferred compensation plan valuation adjustments and higher incentive accruals. Partially offsetting these increases were decreases in salaries and wages due to a decrease in headcount and a decrease in severance expenses due to charges related to the outsourcing of our transactional processing operations of our transfer agency in the prior period.
Compensation and benefits in 2019 decreased $8.8 million, or 3%, compared to 2018. The primary drivers of the decrease were a decrease in share-based compensation of $5.0 million and a decrease in headcount, which were partially offset by an increase in employer contributions to our 401(k) plan. The decrease in share-based compensation is primarily due to higher forfeitures in 2018 which resulted in lower expense in 2019. The decrease in headcount resulted in a decrease in salaries and wages and related taxes and benefits of $6.2 million. Partially offsetting these decreases was an increase of $2.6 million in 401(k) plan costs due to a discretionary contribution for 2019.
General and Administrative Expenses
General and administrative expenses are operating costs, including, but not limited to, dealer services, professional services, including legal, audit and consulting, travel and meetings and temporary office staff.
General and administrative expenses increased $13.3 million for the year ended December 31, 2020, compared to 2019. The increase was due to $10.5 million of merger-related expenses, including legal expense, consulting expense and project-related asset impairments, a shift of our transfer agency transactional processing operations costs from technology expenses to general and administrative expenses as a result of outsourcing and increased strategic project spending. Partially offsetting these increases were lower travel and meetings costs and lower non-cash impairment charges.
General and administrative expenses increased $3.8 million for the year ended December 31, 2019, compared to 2018. A non-cash impairment charge of $12.8 million in connection with certain assets held for sale, including real property related to our corporate headquarters move planned for 2022 and the elimination of our internal aviation operations, was recorded in 2019, which was partially offset by decreases in temporary office staff expense of $4.2 million, primarily due to reduced consulting services for projects completed in 2018, and lower dealer services costs of $1.5 million
due to decreases in accounts and assets used to calculate the fees. There were also decreases in legal, audit and consulting costs and fund expenses in 2019 compared to 2018.
Technology
Technology expenses decreased $6.7 million for the year ended December 31, 2020, compared to 2019 due to a shift of our transfer agency transactional processing operations costs from technology expenses to general and administrative expenses, partially offset by increased software and technology costs for strategic projects. Technology expenses decreased $1.6 million for the year ended December 31, 2019, compared to 2018 as lower shareholder servicing expense resulting from fewer accounts was partially offset by increased software costs for new technologies.
Occupancy
Occupancy expenses include facilities costs for our home office, as well as rent expense for our leased home office and field office space. Occupancy expenses decreased $7.7 million in 2020 compared to 2019 and decreased $3.0 million in 2019 compared to 2018 primarily as a result of the planned transition from Advisors leasing space from the Company to Advisors utilizing personal branch offices.
Marketing and advertising
Marketing and advertising expense decreased $2.7 million in 2020 compared to 2019, primarily due to lower fees in connection with the shift to virtual industry conferences. Marketing and advertising expense decreased $1.4 million in 2019 compared to 2018 due to reduced fund-related marketing expenses from 2018 fund mergers and focusing our marketing efforts on the highest impact markets and activities.
Depreciation
Depreciation expense decreased in 2020 compared to 2019 primarily due to certain fixed assets becoming fully depreciated and no depreciation on assets held for sale. Depreciation expense decreased in 2019 compared to 2018 primarily due to certain fixed assets reaching the end of their useful lives.
Subadvisory Fees
Subadvisory fees represent fees paid to other asset managers for providing advisory services for certain mutual fund portfolios. These expenses reduce our operating margin, as we pay out approximately half of our management fee revenues received from subadvised products.
Subadvisory expenses decreased $1.0 million for the year ended December 31, 2020 compared to 2019 due to a slight decrease in subadvised average assets. Subadvisory expenses were relatively flat for the year ended December 31, 2019 compared to 2018 due to relatively no change in subadvised average assets or average subadvisory fee rate.
Intangible Asset Impairment
During 2018, we recorded an intangible asset impairment charge of $1.2 million related to our subadvisory agreement to manage certain mutual fund products, as a result of the termination of the subadvisory agreement. At December 31, 2018, there was no remaining balance of our subadvisory intangible asset.
Other Income and Expenses
Investment and Other Income
Investment and other income decreased $4.6 million in 2020 compared to 2019. Lower unrealized and realized gains in 2020 as compared to 2019 on our corporate fixed income investments and seed investments, net of losses generated by our economic hedging program that uses total return swap contracts to hedge market risk, caused a decrease of $9.0 million. Interest and dividend income also decreased $4.8 million compared to 2019 primarily due to lower interest rates and redemptions in our corporate fixed income portfolio. Offsetting these decreases, lower expenses related to Pension
Plan settlement expense in 2020 compared to unrealized losses related to the revaluation of the Pension Plan liability in 2019 resulted in an increase of $9.2 million.
Investment and other income decreased $3.8 million in 2019 compared to 2018. Losses related to the revaluation of the Pension Plan liability in 2019 compared to gains in 2018 resulted in a decrease of $28.9 million. Offsetting this decrease, unrealized and realized gains in 2019 on our corporate fixed income investments and seed investments, net of losses generated by our economic hedging program that uses total return swap contracts to hedge market risk, caused an increase of $19.0 million compared to net unrealized and realized losses in 2018. In addition, investment income attributable to noncontrolling interests in sponsored funds where the Company held majority ownership increased $2.1 million compared to 2018. Interest and dividend income also increased $4.0 million compared to 2018 primarily due to higher interest rates in our corporate fixed income portfolio.
Interest Expense
Interest expense was $6.2 million, $6.2 million and $6.5 million in 2020, 2019 and 2018, respectively. The majority of our interest expense was related to our $95.0 million Series B senior unsecured notes. We expect interest expense to decrease in 2021 as the $95.0 million Series B senior unsecured notes matured and were repaid in January 2021.
Income Taxes
Our effective income tax rate was 29.3%, 26.2% and 23.3% in 2020, 2019, and 2018, respectively. The higher effective tax rate in 2020 compared to 2019 was primarily the result of an increase in non-deductible compensation. Also, state tax rates increased compared to the prior year. The impact of share-based payments was relatively flat in 2020 compared to 2019. The tax effects of share-based payments and non-deductible compensation could create continued volatility in the effective tax rate in future periods.
The higher effective tax rate in 2019 compared to 2018 was primarily the result of $6.4 million uncertain tax expense that was reversed in 2018 upon completion of a voluntary disclosure agreement with a state tax jurisdiction. State tax rates increased compared to the prior year. Offsetting these increases was the impact of share-based payments, which created a tax shortfall in both 2019 and 2018 due to the reduction in value of restricted stock from issuance to vesting, but the impact was greater in 2018.
Liquidity and Capital Resources
The Merger Agreement limits our ability to take certain actions while the merger is pending, including, among other things, actions related to acquiring businesses or investment securities, making seed capital investments, repurchasing our common stock, entering into or amending material contracts, incurring capital expenditures and incurring additional debt.
Management believes its available cash, marketable securities and expected cash flow from operations will be sufficient to fund the Company’s operating and capital requirements. Subject to the terms and conditions of the Merger Agreement, expected uses of cash include dividend payments, maturities of outstanding debt in January 2021, costs related to our proposed merger with Macquarie, income tax payments, seed capital investments, ongoing technology enhancements, capital expenditures, collateral funding for margin accounts established to support derivative positions and operating expenses of our business.
For the Year Ended
Variance
December 31,
2020 vs.
2019 vs.
(in thousands, except percentage data)
Balance Sheet Data:
Cash and cash equivalents
$
273,756
151,815
231,997
%
(35)
%
Investment securities
486,765
688,346
617,135
(29)
%
%
Short-term debt
94,997
-
-
-
-
Long-term debt
-
94,926
94,854
(100)
%
-
Cash Flow Data:
Cash flows from operating activities
188,044
165,983
357,015
%
(54)
%
Cash flows from investing activities
98,660
(6,851)
10,343
NM
NM
Cash flows from financing activities
(175,494)
(224,547)
(311,788)
%
%
Our operations provide much of the cash necessary to fund our priorities, which historically have been as follows:
● Pay dividends
● Repurchase our common stock
● Finance growth objectives
Pay Dividends
We paid quarterly dividends on our common stock that resulted in financing cash outflows of $65.6 million, $74.3 million and $81.2 million in 2020, 2019 and 2018, respectively. The Merger Agreement limits our ability to increase the dividend on our common stock while the merger is pending; however, we may continue to pay regular quarterly cash dividends not exceeding $0.25 per share, with declaration, record and payment dates substantially consistent with those paid during 2020.
On February 1, 2021, we paid a quarterly dividend on our common stock of $0.25 per share to stockholders of record as of January 11, 2021. The Board of Directors has declared a quarterly dividend on our common stock of $0.25 per share, payable on April 30, 2021, to stockholders of record as of April 9, 2021.
Repurchase Our Common Stock
We repurchased 8.0 million shares of our common stock in 2020 compared to 9.2 million and 7.0 million shares in 2019 and 2018, respectively, resulting in share repurchases of $114.7 million, $154.2 million and $135.9 million, respectively. These share repurchases included 554,062 shares, 548,132 shares and 729,882 shares tendered by employees to cover their tax withholdings with respect to vesting of share-based awards during the years ended December 31, 2020, 2019 and 2018, respectively.
The terms of the Merger Agreement restrict our ability to repurchase shares of our common stock while the merger is pending; however, we may continue to repurchase shares of our common stock from employees to cover their tax withholdings in connection with the vesting of restricted shares.
Finance Growth Objectives
We use cash to fund growth in our distribution channels. We continue to invest in our wealth management channel by offering home office resources, wholesaling efforts and enhanced technology tools, including the modernization of our wealth management platforms. Our unaffiliated channel requires cash outlays for wholesaler commissions and commissions to third parties on deferred load product sales and technology enhancements for asset management and distribution. We also provide seed money for new products to further enhance our product offerings and distribution efforts. The Merger Agreement limits our ability to take certain actions while the merger is pending, including making seed capital investments, entering into or amending material contracts and incurring capital expenditures.
On October 20, 2020, we entered into a 364-day unsecured revolving Credit Facility with various lenders, which initially provides for borrowings of up to $100.0 million and may be expanded to $200.0 million. The Credit Facility
replaced the prior credit facility, which was set to terminate in October 2020. The covenants in the Credit Facility are materially consistent with the covenants in the prior credit facility, including the requirement that the Company maintain a consolidated leverage ratio not to exceed 3.0 for four consecutive quarters and a consolidated interest coverage ratio of not less than 4.0 for four consecutive quarters. The Company was in compliance with these covenants for all periods presented. As of December 31, 2020, the Company’s consolidated leverage ratio was 0.7, and consolidated interest coverage ratio was 22.4. There were no borrowings under the Credit Facility or prior credit facility at December 31, 2020 or at any point during the year.
On August 31, 2010, the Company entered into an agreement to complete a $190.0 million private placement of the Series A and Series B senior unsecured notes. Interest was payable semi-annually in January and July of each year. The $95.0 million Series A, senior unsecured notes that matured on January 13, 2018 were repaid. In January 2021, the Company repaid the $95.0 million Series B senior unsecured notes at maturity.
Cash Flows
Cash from operations is our primary source of funds. In 2020, cash from operations increased compared to 2019 primarily due to increased maturities and sales of trading securities, partially offset by a decrease in net income. In 2019, cash from operations decreased primarily due to decreased sales of trading securities held by consolidated sponsored funds, due to the liquidation of the IGI Funds in 2018, and a decrease in net income as compared to 2018. In 2018, cash from operations increased primarily due to increased sales of trading securities held by consolidated sponsored funds, due to the liquidation of the IGI Funds, and an increase in net income as compared to 2017.
In addition to the items noted above, the payable to investment companies for securities, payable to customers and other receivables accounts can fluctuate significantly based on trading activity at the end of a reporting period. Changes in these accounts result in variances within cash from operations on the statement of cash flows; however, there is no impact to the Company’s liquidity and operations for the variances in these accounts.
Investing activities consist primarily of the seeding and sale of sponsored investment securities classified as available for sale, purchases and maturities of investments held in our fixed income laddering program classified as available for sale and capital expenditures. Future investing cash flows will be impacted by limitations on our ability to acquire investment securities and make seed capital investments pursuant to the terms of the Merger Agreement.
Financing activities include payment of dividends and repurchase of our common stock. Additionally, in 2018, financing activities included repayment of our Series A senior unsecured notes at maturity. Financing cash flows in 2021 will be affected by repayment of our Series B senior unsecured notes at maturity in January 2021 and our existing capital return policy, subject to the terms of the Merger Agreement.
Contractual Obligations and Contingencies
Expected short- and long-term capital requirements include interest on indebtedness and maturities of outstanding debt in January 2021, operating leases and purchase obligations, and potential recognition of tax liabilities, which are summarized in the following table as of December 31, 2020. Purchase obligations include amounts that will be due for the purchase of goods and services to be used in our operations under long-term commitments or contracts.
Thereafter/
Total
Indeterminate
(in thousands)
Short-term and long-term debt obligations, including interest
$
97,731
97,731
-
-
-
Non-cancelable operating lease commitments
195,260
6,814
25,162
26,644
136,640
Purchase obligations
118,133
58,050
52,460
7,623
-
Unrecognized tax benefits
1,945
-
-
-
1,945
$
413,069
162,595
77,622
34,267
138,585
We signed a lease in January 2020 for our new corporate headquarters, which we anticipate will be complete in 2022 and will create future lease commitments included in the table above for 2022 and beyond. The impact that our proposed merger with Macquarie will have on our new corporate headquarters lease, including eligibility for state and local tax savings, has not been determined; however, the Merger Agreement limits our ability to take certain actions while
the merger is pending, including authorizing material expenditures in connection with the relocation of operations, employees or assets of the Company to the new headquarters.
Off-Balance Sheet Arrangements
The Company does not have any off-balance sheet financing. The Company has not created, and is not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating its business.
Critical Accounting Policies and Estimates
Management believes the following critical accounting policies affect its significant estimates and judgments used in the preparation of its consolidated financial statements.
Accounting for Goodwill and Intangible Assets
Two significant considerations arise with respect to goodwill and intangible assets that require management estimates and judgment: (i) the valuation in connection with the initial purchase price allocation, and (ii) the ongoing evaluation of impairment.
In connection with all of our acquisitions, an evaluation is completed to determine reasonable purchase price allocations. The purchase price allocation process requires management estimates and judgments as to expectations for the various products, distribution channels and business strategies. For example, certain growth rates and operating margins were assumed for different products and distribution channels. If actual growth rates or operating margins, among other assumptions, differ from the estimates and judgments used in the purchase price allocation, the amounts recorded in the financial statements for identifiable intangible assets and goodwill could be subject to charges for impairment in the future.
We complete an ongoing review of the recoverability of goodwill and intangible assets on an annual basis, or more frequently whenever events occur, or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. Annually, the Company first assesses qualitative factors to determine whether it is necessary to perform a quantitative impairment test. If the Company determines, based on qualitative factors, that the fair value of the reporting unit is more likely than not greater than the carrying amount, a quantitative impairment test would not be required. We consider mutual fund advisory contracts indefinite lived intangible assets as they are expected to be renewed without significant cost or modification of terms. Factors that are considered important in determining whether an impairment of goodwill or intangible assets might exist include significant continued underperformance compared to peers, the likelihood of termination or non-renewal of a mutual fund advisory contract or substantial changes in revenues earned from such contracts, significant changes in our business and products, material and ongoing negative industry or economic trends, or other factors specific to each asset or subsidiary relationship being evaluated. Because of the significance of goodwill and other intangibles to our consolidated balance sheets, the annual impairment analysis is critical. Any changes in key assumptions about our business and our prospects, or changes in market conditions or other externalities, could result in an impairment charge.
Seasonality and Inflation
We do not believe our operations are subject to significant seasonal fluctuation. We have historically experienced increased sales activity in the first and fourth quarters of the year due to funding of retirement accounts by our clients. The Company has not suffered material adverse effects from inflation in the past. However, a substantial increase in the inflation rate in the future may adversely affect clients’ purchasing decisions, may increase the costs of borrowing, or may have an impact on the Company’s margins and overall cost structure.
Non-GAAP Financial Measures
“Adjusted net income attributable to Waddell & Reed Financial, Inc.,” “adjusted net income per share, basic and diluted,” “adjusted operating expenses,” “adjusted operating income” and “adjusted operating margin” are non-GAAP financial measures that are not presented in accordance with U.S. generally accepted accounting principles (“GAAP”). We believe that these non-GAAP financial measures provide meaningful supplemental information regarding our performance by excluding charges and gains that are not indicative of our core operating results, and allow management and investors to better evaluate our performance between periods and compared to other companies in our industry.
These non-GAAP financial measures should not be considered a substitute for financial measures presented in accordance with GAAP and you should not rely on non-GAAP financial measures alone as measures of our performance.
A reconciliation of these non-GAAP financial measures to the comparable GAAP financial measures is included in the table below.
Reconciliation of GAAP to non-GAAP Financial Measures
(in thousands, except for per share and percentage data)
Year Ended December 31,
Net income attributable to Waddell & Reed Financial, Inc. (GAAP)
$
70,457
$
114,992
$
183,588
Adjustments
Merger-related costs (1)
39,606
-
-
Severance
-
5,401
9,066
Non-cash asset impairments
-
12,841
-
Intangible impairment
-
-
1,200
Pension revaluation
-
11,217
(16,129)
Tax effect of adjustments
(7,226)
(7,070)
1,407
Adjusted net income attributable to Waddell & Reed Financial, Inc. (non-GAAP)
$
102,837
$
137,381
$
179,132
Weighted average shares outstanding-basic and diluted
64,974
73,299
80,468
Adjusted net income per share, basic and diluted (non-GAAP)
$
1.58
$
1.87
$
2.23
Operating expenses (GAAP)
$
954,727
$
924,623
$
938,253
Adjustments
Merger-related costs (1)
39,606
-
-
Severance
-
5,401
9,066
Non-cash asset impairments
-
12,841
-
Intangible impairment
-
-
1,200
Adjusted operating expenses (non-GAAP)
$
915,121
$
906,381
$
927,987
Operating income (GAAP)
$
94,770
$
145,692
$
222,048
Adjustments
Merger-related costs (1)
39,606
-
-
Severance
-
5,401
9,066
Non-cash asset impairments
-
12,841
-
Intangible impairment
-
-
1,200
Adjusted operating income (non-GAAP)
$
134,376
$
163,934
$
232,314
Operating revenue
$
1,049,497
$
1,070,315
$
1,160,301
Adjusted operating margin (non-GAAP)
12.8
%
15.3
%
20.0
%
(1) Primarily represents increased compensation from mark-to-market adjustments on outstanding restricted share units as a result of the increase in share price of our common stock, retention award accruals, higher cash incentive payments, legal and consulting costs and project-related asset impairments all related to our proposed merger with Macquarie.

---

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk
We use various financial instruments with certain inherent market risks, primarily related to interest rates and securities prices. The principal risks of loss arising from adverse changes in market rates and prices to which we are exposed relate to interest rates on debt and marketable securities. Generally, these instruments have not been entered into for trading purposes. Management actively monitors these risk exposures; however, fluctuations could impact our results of operations and financial position. As a matter of policy, we only execute derivative transactions to manage exposures arising in the normal course of business and not for speculative or trading purposes. The following information, together with information included in other parts of Management’s Discussion and Analysis of Financial Condition and Results of Operations, which are incorporated herein by reference, describe the key aspects of certain financial instruments that have market risk to us.
Interest Rate Sensitivity
Our interest sensitive assets and liabilities include the debt security holdings in our fixed income laddering program, debt security holdings in our seed investment portfolio, our long-term fixed rate Senior Notes and obligations for any balances outstanding under the Credit Facility or other short-term borrowings. Increases in market interest rates would generally cause a decrease in the fair value of the debt security holdings in the fixed income laddering program, debt security holdings in the seed investment portfolio and the Senior Notes, and an increase in interest expense associated with short-term borrowings and borrowings under the Credit Facility. Decreases in market interest rates would generally cause an increase in the fair value of the debt security holdings in the fixed income laddering program, debt security holdings in the seed investment portfolio and Senior Notes, and a decrease in interest expense associated with short-term borrowings and borrowings under the Credit Facility. There were no borrowings under the Credit Facility at December 31, 2020 or at any point during the year.
Investment Securities Sensitivity
We maintain an investment portfolio of various holdings, types and maturities. Our portfolio is diversified and consists primarily of sponsored funds, equity securities and debt securities. We have a hedging program that uses total return swaps to hedge our exposure to fluctuations in the value of our seed investment portfolio classified as trading debt securities and equity securities measured at fair value through net income, recorded using the equity method, or consolidated within our consolidated financial statements. At any time, a sharp increase in interest rates or a sharp decline in the stock markets could have a significant negative impact on the fair value of our investment portfolio. Conversely, declines in interest rates or a sizeable rise in the stock markets could have a significant positive impact on our investment portfolio. The results of fluctuations in interest rates and stock market volatility on our seed investment portfolio may be offset due to the hedging program. A portion of debt securities in the fixed income laddering program are classified as available for sale investments. If a decline in fair value is determined to be other than temporary by management or the Company intends or is required to sell the available for sale security prior to recovery of the amortized cost, the cost basis of the individual security accounted for as available for sale is written down to fair value. However, unrealized gains are not recognized in operations on available for sale debt securities until they are sold.
The following is a summary of the effect that a 10% increase or decrease in equity or fixed income prices would have on our investment portfolio subject to equity or fixed income price fluctuations at December 31, 2020:
Fair Value
Fair Value
Assuming a 10%
Assuming a 10%
Investment Securities
Fair Value
Increase
Decrease
(in thousands)
Available for sale:
Commercial paper
$
9,705
10,676
8,735
Corporate bonds
157,832
173,615
142,049
Trading:
Commercial paper
11,785
12,964
10,607
Corporate bonds
76,734
84,407
69,061
Mortgage-backed securities
Term Loans
47,224
51,946
42,502
Equity Securities:
Common stock
41,410
45,551
37,269
Sponsored funds
81,019
89,121
72,917
Sponsored privately offered funds
1,165
1,282
1,049
Equity Method:
Sponsored funds
59,890
65,879
53,901
Total
$
486,765
535,442
438,091
Securities Price Sensitivity
Our revenues are dependent on the underlying AUM and AUA for which we provide services. These assets are comprised of various combinations of equity, fixed income and other types of securities and commodities. Fluctuations in the value of these securities are common and are caused by numerous factors, including, without limitation, market volatility, the overall economy, inflation, changes in investor strategies, availability of alternative investment vehicles and government regulations. Accordingly, declines in any one or a combination of these factors, or other factors not separately identified, may reduce the value of investment securities and, in turn, the underlying assets on which our revenues are earned. These declines have an impact in our investment sales.
Credit Risk
Credit risk is the risk of loss due to adverse changes in a borrower’s, issuer’s or counterparty’s ability to meet its financial obligations under contractual or agreed upon terms. Credit risk includes the risk that collateral posted with the Company by counterparties to support derivative trading is insufficient to meet contractual obligations to the Company.

---

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 8. Financial Statements and Supplementary Data
Reference is made to the Consolidated Financial Statements referred to in the Index on page 60 setting forth our consolidated financial statements, together with the report of KPMG LLP dated February 19, 2021 on pages 61 and 62.

---

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.

---

ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9A. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures. The Company maintains a system of disclosure controls and procedures that is designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. The Company’s Chief Executive Officer and Chief Financial Officer, after evaluating the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) of the Exchange Act) as of December 31, 2020, have concluded that the Company’s disclosure controls and procedures were effective as of December 31, 2020.
(b) Management’s Report on Internal Control Over Financial Reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of our management, including our principal executive officer and our principal financial officer, we evaluated the effectiveness of our internal control over financial reporting as of December 31, 2020 based on the framework in “Internal Control-Integrated Framework (2013)” issued by the Committee of Sponsoring Organizations of the Treadway Commission. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable, not absolute, assurance with respect to financial statement preparation and presentation. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Based on our evaluation under the framework in “Internal Control-Integrated Framework (2013),” management concluded that, as of December 31, 2020, our internal control over financial reporting was effective. KPMG LLP, the independent registered public accounting firm that audited the financial statements included in this Annual Report on Form 10-K, also audited the effectiveness of our internal control over financial reporting as of December 31, 2020, as stated in their attestation report which follows.
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Waddell & Reed Financial, Inc.:
Opinion on Internal Control Over Financial Reporting
We have audited Waddell & Reed Financial, Inc. and subsidiaries’ (the Company) internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2020 and 2019, the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three year period ended December 31, 2020, and the related notes (collectively, the consolidated financial statements), and our report dated February 19, 2021 expressed an unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ KPMG LLP
Kansas City, Missouri
February 19, 2021
(c) Changes in Internal Control over Financial Reporting. The Company’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP. There were no changes in the Company’s internal control over financial reporting that occurred during the fiscal quarter ended December 31, 2020 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. During 2021, the Company expects to complete a human capital management system conversion. This system conversion will result in changes to processes and controls as we migrate from the legacy system to the new system. The system change is being undertaken to enhance our operating platform and is not being undertaken in response to any actual or perceived deficiencies in our internal control over financial reporting.

---

ITEM 9B. OTHER INFORMATION
ITEM 9B. Other Information
None.
PART III

---

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 10. Directors, Executive Officers and Corporate Governance
Pursuant to General Instruction G to Form 10-K, the information required by this item will either be (i) incorporated herein by reference to a definitive proxy statement that involves the election of directors or (ii) included in an amendment to this Form 10-K, in each case, filed with the SEC no later than 120 days after the end of the fiscal year covered by this Form 10-K.

---

ITEM 11. EXECUTIVE COMPENSATION
ITEM 11. Executive Compensation
Pursuant to General Instruction G to Form 10-K, the information required by this item will either be (i) incorporated herein by reference to a definitive proxy statement that involves the election of directors or (ii) included in an amendment to this Form 10-K, in each case, filed with the SEC no later than 120 days after the end of the fiscal year covered by this Form 10-K.

---

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Pursuant to General Instruction G to Form 10-K, the information required by this item will either be (i) incorporated herein by reference to a definitive proxy statement that involves the election of directors or (ii) included in an amendment to this Form 10-K, in each case, filed with the SEC no later than 120 days after the end of the fiscal year covered by this Form 10-K.

---

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 13. Certain Relationships and Related Transactions, and Director Independence
Pursuant to General Instruction G to Form 10-K, the information required by this item will either be (i) incorporated herein by reference to a definitive proxy statement that involves the election of directors or (ii) included in an amendment to this Form 10-K, in each case, filed with the SEC no later than 120 days after the end of the fiscal year covered by this Form 10-K.

---

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
ITEM 14. Principal Accounting Fees and Services
Pursuant to General Instruction G to Form 10-K, the information required by this item will either be (i) incorporated herein by reference to a definitive proxy statement that involves the election of directors or (ii) included in an amendment to this Form 10-K, in each case, filed with the SEC no later than 120 days after the end of the fiscal year covered by this Form 10-K.
PART IV

---

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
ITEM 15. Exhibits, Financial Statement Schedules
HIDDEN_ROW
(a)(1)
Financial Statements.
Reference is made to the Index to Consolidated Financial Statements on page 60 for a list of all financial statements filed as part of this Report.
(a)(2)
Financial Statement Schedules.
None.
(b)
Exhibits.
Exhibit
No.
Exhibit Description
2.1
Agreement and Plan of Merger, dated as of December 2, 2020, by and among Macquarie Management Holdings, Inc., Merry Merger Sub, Inc., Waddell & Reed Financial, Inc. and (solely for purposes of Section 9.15) Macquarie Financial Holdings Pty Ltd. Filed as Exhibit 2.1 to the Company’s Current Report on Form 8-K, File No. 001-13913, filed on December 4, 2020 and incorporated herein by reference. †
3.1
Restated Certificate of Incorporation of Waddell & Reed Financial, Inc. Filed as Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q, File No. 333-43687, for the quarter ended June 30, 2006 and incorporated herein by reference.
3.2
Amended and Restated Bylaws of Waddell & Reed Financial, Inc. Filed as Exhibit 3.2 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.
4.1
Specimen of Class A Common Stock Certificate, par value $0.01 per share. Filed as Exhibit 4.1 to the Company’s Registration Statement on Form S-1/A, File No. 333-43687, on February 27, 1998 and incorporated herein by reference.
4.2
Certificate of Designation, Preferences and Rights of Series B Junior Participating Preferred Stock of Waddell & Reed Financial, Inc., as filed on April 9, 2009 with the Secretary of State of the State of Delaware. Filed as Exhibit 4.1 to the Company’s Current Report on Form 8-K, File No. 333-43687, on April 10, 2009 and incorporated herein by reference.
4.3
Certificate of Elimination of Series B Junior Participating Preferred Stock of Waddell & Reed Financial, Inc., as filed on February 16, 2018 with the Secretary of the State of Delaware. Filed as Exhibit 4.3 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2017 and incorporated herein by reference.
4.4
Description of Securities. Filed as Exhibit 4.4 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.
10.1
Credit Agreement, dated October 20, 2020, by and among Waddell & Reed Financial, Inc., the lenders party thereto, Bank of America, N.A., as Administrative Agent for the lenders and Swing Line Lender, and BofA Securities, Inc., as Sole Lead Arranger and Sole Bookrunner. Filed as Exhibit 10.1 to the Company’s Current Report on Form 8-K, File No. 001-13913, filed October 21, 2020 and incorporated herein by reference.
10.2
Note Purchase Agreement, dated August 31, 2010, by and among Waddell & Reed Financial, Inc. and the purchasers party thereto. Filed as Exhibit 10.2 to the Company’s Current Report on Form 8-K, File No. 001-13913, on September 7, 2010 and incorporated herein by reference.
Exhibit
No.
Exhibit Description
10.3
Investment Management Agreement, dated July 29, 2016, by and between Ivy Variable Insurance Portfolios and Ivy Investment Management Company. Filed as Exhibit 10.5 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2018 and incorporated herein by reference.
10.4
Investment Management Agreement, dated July 29, 2016, by and between Ivy Variable Insurance Portfolios and Ivy Investment Management Company. Filed as Exhibit 10.6 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2018 and incorporated herein by reference.
10.5
Investment Management Agreement, dated November 13, 2008, by and between Ivy Funds and Ivy Investment Management Company. Filed as Exhibit 10.7 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2018 and incorporated herein by reference.
10.6
Waddell & Reed Financial, Inc. Executive Incentive Plan, as amended and restated.*
10.7
Waddell & Reed Financial, Inc. Stock Incentive Plan, as amended and restated.*
10.8
Form of Restricted Stock Unit Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. Stock Incentive Plan.*
10.9
Form of Restricted Stock Unit Award Agreement for awards to Non-Employee Directors pursuant to the Waddell & Reed Financial, Inc. Stock Incentive Plan.*
10.10
Form of Restricted Stock Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.26 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2015 and incorporated herein by reference.*
10.11
Form of Restricted Stock Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.27 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2016 and incorporated herein by reference.*
10.12
Form of Restricted Stock Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.11 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2018 and incorporated herein by reference.*
10.13
Form of Restricted Stock Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.11 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.*
10.14
Form of Restricted Stock Award Agreement for awards to Non-Employee Directors pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.14 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2017 and incorporated herein by reference.*
10.15
Form of Restricted Stock Award Agreement for awards to Non-Employee Directors pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.15 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2017 and incorporated herein by reference.*
Exhibit
No.
Exhibit Description
10.16
Form of Restricted Stock Award Agreement for awards to Non-Employee Directors pursuant to the Waddell & Reed Financial, Inc. 1998 Stock Incentive Plan, as amended and restated. Filed as Exhibit 10.14 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.*
10.17
Waddell & Reed Financial, Inc. Cash Settled RSU Plan. Filed as Exhibit 10.15 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.*
10.18
Form of Restricted Stock Unit Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. Cash Settled RSU Plan. Filed as Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q, File No. 001-13913, filed November 2, 2018 and incorporated herein by reference.*
10.19
Form of Restricted Stock Unit Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. Cash Settled RSU Plan. Filed as Exhibit 10.17 to the Company’s Annual Report on Form 10-K, File No. 001 13913, for the year ended December 31, 2018 and incorporated herein by reference.*
10.20
Form of Restricted Stock Unit Award Agreement for awards pursuant to the Waddell & Reed Financial, Inc. Cash Settled RSU Plan. Filed as Exhibit 10.18 to the Company’s Annual Report on Form 10-K, File No. 001-13913, for the year ended December 31, 2019 and incorporated herein by reference.*
10.21
Form of Indemnification Agreement. Filed as Exhibit 10.1 to the Company’s Current Report on Form 8-K, File No. 001 13913, on November 16, 2009 and incorporated herein by reference.*
10.22
Form of Change of Control Retention and Severance Agreement. Filed as Exhibit 10.1 to the Company’s Current Report on Form 8-K, File No. 001-13913, filed on December 4, 2020 and incorporated herein by reference.*
Subsidiaries of Waddell & Reed Financial, Inc.
Consent of KPMG LLP
Powers of Attorney
31.1
Rule 13a-14(a)/15d-14(a) Certification of the Chief Executive Officer
31.2
Rule 13a-14(a)/15d-14(a) Certification of the Chief Financial Officer
32.1
Section 1350 Certification of the Chief Executive Officer
32.2
Section 1350 Certification of the Chief Financial Officer
Materials from the Waddell & Reed Financial, Inc. Annual Report on Form 10-K for the year ended December 31, 2020, formatted in Inline Extensible Business Reporting Language (iXBRL): (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Income, (iii) Consolidated Statements of Comprehensive Income, (iv) Consolidated Statements of Stockholders’ Equity, (v) Consolidated Statements of Cash Flows, and (vi) related Notes to the Consolidated Financial Statements, tagged in detail.
Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)
*Indicates management contract or compensatory plan, contract or arrangement.
† Schedules omitted pursuant to item 601(b)(2) of Regulation S-K. The Company agrees to furnish supplementally a copy of any omitted schedule upon request by the SEC; provided, however, that the Company may request confidential treatment pursuant to Rule 24b-2 of the Exchange Act, as amended, for any schedule or exhibit so furnished.