T. ROWE PRICE GROUP INC. OVERVIEW.
Our revenues and net income are derived primarily from investment advisory services provided to individual and institutional investors inU.S. mutual funds, subadvised funds, separately managed accounts, and otherT. Rowe Price products. The otherT. Rowe Price products include: collective investment trusts, open-ended investment products offered to investors outside theU.S. , and products offered through variable annuity life insurance plans in theU.S. We also provide certain investment advisory clients with related administrative services, including distribution, mutual fund transfer agent, accounting, and shareholder services; participant recordkeeping and transfer agent services for defined contribution retirement plans; brokerage; and trust services. We manage a broad range ofU.S. , international and global stock, bond, and money market mutual funds and other investment products, which meet the varied needs and objectives of individual and institutional investors. Investment advisory revenues depend largely on the total value and composition of assets under our management. Accordingly, fluctuations in financial markets and in the composition of assets under management affect our revenues and results of operations. Additionally, approximately 30% of our operating expenses are impacted by fluctuations in our assets under management.
We incur significant expenditures to develop new products and services and improve and expand our capabilities and distribution channels in order to attract new investment advisory clients and additional investments from our existing clients. These efforts often involve costs that precede any future revenues that we may recognize from an increase to our assets under management.
The general trend to passive investing has been persistent and accelerated in recent years, which has negatively impacted our new client inflows. However, over the long term we expect well-executed active management to play an important role for investors. In this regard, we remain debt-free with ample liquidity and resources that allow us to take advantage of attractive growth opportunities. We are investing in key capabilities, including investment professionals, technologies, and new product offerings; and, most importantly, we provide our clients with strong investment management expertise and service both now and in the future. MARKET TRENDS.U.S. stocks plunged in the later part of the first quarter of 2020. After starting the year on a strong note, equities fell as a coronavirus outbreak that originated inChina in late 2019 rapidly spread to other countries and was deemed a global pandemic. The sell-off intensified in March, as the coronavirus spread rapidly in theU.S. , prompting government officials to close schools, nonessential businesses, and public facilities. TheFederal Reserve took drastic actions to increase financial market liquidity and support the flow of credit to consumers and businesses. Stocks did pare some losses in the final days of the quarter as the Trump administration andCongress passed into law a massive economic stimulus bill. Stocks in developed non-U.S. equity markets declined broadly; returns for U.S. investors were hurt by a strongerU.S. dollar versus many other currencies. InAsia , Australian shares fell more than 33%, while equities inJapan andHong Kong declined roughly 17%. InEurope , equity markets inSpain andItaly , where the coronavirus outbreak has been severe, fell roughly 30% and 29%, respectively. Stocks in emerging equity markets declined slightly more than developed markets. In emergingEurope markets, Russian shares fell more than 36% amid plunging oil prices followingOPEC heavyweightSaudi Arabia's decision to increase production and offer discounts to global customers. Emerging Asian markets were negative, though Chinese shares held up best with losses of roughly 10%.China's lockdown efforts started to ease late in the first quarter, which helped equities recover partially from earlier losses. InLatin America , all major markets posted losses of at least 30%. Page 17
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Returns of several major equity market indexes for the first quarter of 2020,
were as follows:
Three months ended
Index 3/31/2020
S&P 500 Index (19.6)%
NASDAQ Composite Index(1) (14.2)%
Russell 2000 Index (30.6)%
MSCI EAFE (
(23.6)%
(1) Returns exclude dividends
Global bond returns were largely negative inU.S. dollar terms. In theU.S. investment-grade universe, Treasuries surged as theFederal Reserve slashed short-term interest rates to near 0%, announced massive purchases ofU.S. government bonds and other securities, and rolled out a variety of programs and "facilities" intended to boost market liquidity and the flow of credit. The 10-yearTreasury note yield decreased from 1.92% at the end of 2019 to 0.70% at the end of March. Mortgage-backed securities significantly lagged Treasuries amid substantial mortgage refinancing activity. Asset-backed securities posted slightly negative returns, while corporate bonds declined in anticipation of weaker corporate profits and a recession. Municipal bonds underperformed taxable bonds. High yield bonds posted significant losses as the yield difference between higher- and lower-quality bonds widened dramatically. Bonds in developed non-U.S. countries produced negative returns inU.S. dollar terms. Bond prices climbed as longer-term interest rates in many countries declined, but most major currencies fell versus the dollar, reducing returns to U.S. investors. Most developed market governments unveiled fiscal stimulus measures, while most central banks responded with significant monetary easing programs.
Emerging markets bonds were broadly negative.
Returns for several major bond market indexes for the first quarter of 2020,
were as follows:
Three
months
ended
Index 3/31/2020
Bloomberg Barclays U.S. Aggregate Bond Index 3.2%
JPMorgan Global High Yield Index
(14.9)%
Bloomberg Barclays Municipal Bond Index
(.6)%
Bloomberg Barclays Global Aggregate Ex-U.S. Dollar Bond Index
(2.7)%
JPMorgan Emerging Markets Bond Index Plus (8.7)%
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ASSETS UNDER MANAGEMENT.
Assets under management ended the first quarter of 2020 at$1,008.8 billion , a decrease of$198.0 billion fromDecember 31, 2019 . Net cash outflows were$6.0 billion , and clients transferred$4.4 billion in net assets from theU.S. mutual funds to other investment products, of which$4.3 billion was transferred to retirement date trusts. Market depreciation and losses, net of dividends not reinvested, reduced our assets under management by$192.0 billion in the first quarter of 2020.
The following tables detail changes in our assets under management, by vehicle and asset class during the first quarter of 2020:
Three months ended 3/31/2020
Subadvised and Other investment
(in billions) U.S. mutual funds separate accounts products Total
Assets under management at beginning of
period $ 682.7 $
313.8
Net cash flows before client transfers (7.5 ) (3.5 ) 5.0 (6.0 ) Client transfers (4.4 ) - 4.4 - Net cash flows after client transfers (11.9 ) (3.5 ) 9.4 (6.0 ) Net market appreciation (depreciation) and income (108.4 ) (49.2 ) (34.3 ) (191.9 ) Net distributions reinvested (not reinvested) (.1 ) - - (.1 ) Change during the period (120.4 ) (52.7 ) (24.9 ) (198.0 ) Assets under management at March 31, 2020 $ 562.3$ 261.1 $ 185.4 $ 1,008.8 Three months ended 3/31/2020 Fixed income, including (in billions) Equity money market Multi-asset(1) Total Assets under management at beginning of period$ 698.9 $ 147.9$ 360.0 $ 1,206.8 Net cash flows (5.7 ) 3.0 (3.3 ) (6.0 ) Net market appreciation (depreciation) and income(2) (123.9 ) (4.6 ) (63.5 ) (192.0 ) Change during the period (129.6 ) (1.6 ) (66.8 ) (198.0 ) Assets under management at March 31, 2020$ 569.3 $ 146.3
(1) The underlying assets under management of the multi-asset portfolios have been aggregated and presented in this category and not reported in the equity and fixed income columns. (2) Includes distributions reinvested and not reinvested.
Investment advisory clients outside the
Our target date retirement products, which are included in the multi-asset totals shown above, continue to be a significant part of our assets under management. Assets under management in these portfolios were as follows:
As of
(in billions) 3/31/2020 Target date retirement U.S. mutual funds$ 132.0 $
164.8
Target date separately managed retirement accounts 7.1
8.4
Target date retirement trusts 103.1 119.2
$ 242.2 $ 292.4
Net cash inflows into our target date retirement products were $.7 billion in
the first quarter of 2020. A redemption in a risk-managed strategy from a large
institutional investor was the primary driver of the multi-asset outflows during
the first quarter of 2020.
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INVESTMENT PERFORMANCE.
Strong investment performance and brand awareness is a key driver to attracting and retaining assets-and to our long-term success. The percentage of ourU.S. mutual funds(1) (across primary share classes) that outperformed their comparable Morningstar median on a total return basis and that are in the top Morningstar quartile for the one-, three-, five-, and 10-years endedMarch 31, 2020 , were: 1 year 3 years 5 years 10 years
Outperformed Morningstar median(2)
All funds 50% 60% 72% 76% Multi-asset funds 44% 59% 76% 84% Top Morningstar quartile(2) All funds 19% 28% 41% 50% Multi-asset funds 8% 24% 50% 68% (1) Excludes passive and fund categories not ranked by Morningstar. (2) Source: © 2020 Morningstar, Inc. All rights reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete, or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results. In addition, 76% of assets under management in our ratedU.S. mutual funds (across primary share classes) ended the quarter with an overall rating of four or five stars from Morningstar. The performance of our institutional strategies against their benchmarks remains competitive, especially over longer time periods.
RESULTS OF OPERATIONS.
The following table and discussion sets forth information regarding our consolidated financial results for the three months endedMarch 31, 2020 and 2019 on aU.S. GAAP basis as well as a non-GAAP basis. The non-GAAP basis adjusts for the impact of our consolidatedT. Rowe Price investment products, the impact of market movements on the supplemental savings plan liability and related economic hedges, investment income related to certain other investments, and certain nonrecurring charges and gains. Three months ended Q1 2020 vs. Q1 2019 (in millions, except per-share data) 3/31/2020 3/31/2019 $ change % change U.S. GAAP basis Investment advisory fees$ 1,327.8 $ 1,194.2 $ 133.6 11.2 % Net revenues$ 1,462.6 $ 1,327.3 $ 135.3 10.2 % Operating expenses$ 755.4 $ 794.8 $ (39.4 ) (5.0 )% Net operating income$ 707.2 $ 532.5 $ 174.7 32.8 % Non-operating income (loss)(1)$ (500.3 ) $ 202.8 $ (703.1 ) n/m Net income attributable to T. Rowe Price Group$ 343.1 $ 512.6 $ (169.5 ) (33.1 )% Diluted earnings per common share$ 1.41 $ 2.09 $ (.68 ) (32.5 )% Weighted average common shares outstanding assuming dilution 236.8 239.6 (2.8 ) (1.2 )% Adjusted non-GAAP basis(2) Operating expenses$ 817.9 $ 756.6 $ 61.3 8.1 % Net operating income$ 647.2 $ 572.2 $ 75.0 13.1 % Non-operating income (loss)(1)$ (61.2 ) $ 44.2 $ (105.4 ) n/m Net income attributable to T. Rowe Price Group$ 454.3 $ 460.6 $ (6.3 ) (1.4 )% Diluted earnings per common share$ 1.87 $ 1.87 $ - - %
Assets under management (in billions)
Average assets under management
11.4 %
Ending assets under management
(1) The percentage change in non-operating income (loss) is not meaningful (n/m). (2) See the reconciliation to the comparableU.S. GAAP measures at the end of the Results of Operations section of this Management's Discussion and Analysis. Page 20 --------------------------------------------------------------------------------
Results Overview
Investment advisory revenues. Investment advisory fees are earned based on the value and composition of our assets under management, which change based on fluctuations in financial markets and net cash flows. As our average assets under management increase or decrease in a given period, the level of our investment advisory fee revenue for that same period generally fluctuates in a similar manner. Our annualized effective fee rates can be impacted by market or cash flow related shifts among asset and share classes, price changes in existing products, and asset level changes in products with tiered-fee structures. Investment advisory revenues earned in the first quarter of 2020 increased over the comparable 2019 quarter as average assets under our management increased$119.2 billion , or 11.4%, to$1,162.7 billion . The average annualized effective fee rate earned during the first quarter of 2020 was 45.9 basis points, compared with 46.4 basis points earned during the first quarter of 2019. The decline in our effective fee rate for the first quarter of 2020 compared to the same period in 2019 was primarily due to client transfers within the complex from higher fee vehicles to lower fee vehicles over the last twelve months. Operating expenses. Operating expenses were$755.4 million in the first quarter of 2020 compared with$794.8 million in the first quarter of 2019. The decrease in operating expenses for the first quarter of 2020 was primarily due to a change in market-related compensation expense of$100.3 million related to the supplemental savings plan. Partially offsetting this decrease were higher salary and benefits, interim bonus accrual, stock-based compensation expense and the continued strategic investments in the first quarter of 2020 compared to the first quarter of 2019. For the first quarter of 2020, the compensation expense related to the supplemental savings plan is more than offset by the non-operating losses incurred on the investments used to economically hedge the related liability.
On a non-GAAP basis, our operating expenses in the first quarter of 2020
increased 8.1% to
Given the market environment, we updated our 2020 non-GAAP operating expense growth range guidance from a range of 6%-9% to a range of 1%-4%. We expect certain expense categories, such as travel- and AUM-related, to be naturally impacted more than others. Most importantly, we will continue to make investments in our critical strategic initiatives to promote long-term growth in the business. We could elect to further adjust our expense growth should unforeseen circumstances arise, including significant market movements and ongoing disruption resulting from the coronavirus pandemic. Operating margin. Our operating margin in the first quarter of 2020 was 48.4%, compared to 40.1% earned in the 2019 quarter. The increase in our operating margin for the three months endedMarch 31, 2020 compared to the 2019 period is primarily driven by the lower compensation expense related to our supplemental savings plan as markets in the first quarter of 2020 underperformed the same period in 2019. Diluted earnings per share. Diluted earnings per share was$1.41 for the three months endedMarch 31, 2020 and$2.09 for the three months endedMarch 31, 2019 . The 32.5% decrease was primarily driven by significant losses incurred on our investment portfolio in the three months endedMarch 31, 2020 as compared to gains generated in the three months endedMarch 31, 2019 . This decrease in diluted earnings per share was partially offset by higher operating income and a lower effective tax rate. On a non-GAAP basis, diluted earnings per share was$1.87 for both the three months endedMarch 31, 2020 and 2019. For the three months endedMarch 31, 2020 , higher operating income, lower shares outstanding, and a lower effective tax rate were completely offset by non-operating losses. See our non-GAAP reconciliations later in this Management's Discussion and Analysis section. Page 21 --------------------------------------------------------------------------------
Net revenues
Three months ended Q1 2020 vs. Q1 2019
(in millions) 3/31/2020 3/31/2019 $ change % change
Investment advisory fees
U.S. mutual funds $ 876.2 $ 815.9 $ 60.3 7.4 %
Subadvised and separate accounts and
other investment products 451.6 378.3 73.3 19.4 %
1,327.8 1,194.2 133.6 11.2 %
Administrative, distribution, and
servicing fees
Administrative fees 106.9 102.9 4.0 3.9 %
Distribution and servicing fees 27.9 30.2 (2.3 ) (7.6 )%
134.8 133.1 1.7 1.3 %
Net revenues $ 1,462.6 $ 1,327.3 $ 135.3 10.2 %
Investment advisory fees.
U.S. mutual funds
Investment advisory revenues earned in the first quarter of 2020 from our U.S.
mutual funds were $876.2 million , an increase of 7.4% from the comparable 2019
quarter. Average assets under management in these funds for the first quarter of
2020 increased 7.2% from the 2019 quarter to $654.3 billion .
Subadvised and separate accounts and other investment products
Investment advisory revenues earned in the first quarter of 2020 from subadvised
and separate accounts and other investment products were $451.6 million , an
increase of 19.4% from the comparable 2019 quarter. Average assets under
management for these products increased 17.3% from the 2019 quarter to $508.4
billion .
Since the first quarter of 2019, the inflows into the Japanese ITMs, which have
a higher than average fee rate, have caused investment advisory fees to increase
at a rate greater than the increase in average assets under management for our
subadvised and separate accounts and other products.
Administrative, distribution, and servicing fees. Administrative, distribution,
and servicing fees in the first quarter of 2020 were $134.8 million , an increase
of $1.7 million , or 1.3%, from the comparable 2019 quarter. In this line, we
recognize fees earned from providing administrative and distribution services to
our investment advisory clients, primarily our U.S. mutual funds and their
investors. The increase was primarily due to increased transfer agent servicing
activities and higher recordkeeping fees, partially offset by lower 12b-1
revenue earned on certain share classes, including the Advisor and R classes, of
the U.S. mutual funds. The decline in 12b-1 revenue is attributable primarily to
a reduction in assets under management as client transferred assets to lower fee
vehicles and share classes. The decline in 12b-1 revenue is offset entirely by a
reduction in the costs paid to third-party intermediaries that source these
assets and reported in distribution and servicing expense.
Our first quarter net revenues reflect the elimination of $2.5 million in 2020
and $1.5 million in 2019, of revenue earned from our consolidated T. Rowe Price
investment products. The corresponding expenses recognized by these products,
and consolidated in our financial statements, were eliminated from operating
expenses.
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Operating expenses
Three months ended Q1 2020 vs. Q1 2019
(in millions) 3/31/2020 3/31/2019 $ change % change
Compensation and related costs $ 440.7 $ 491.5 $ (50.8 ) (10.3 )%
Distribution and servicing 65.7 66.4 (.7 ) (1.1 )%
Advertising and promotion 24.9 21.6 3.3 15.3 %
Product-related costs 41.6 44.2 (2.6 ) (5.9 )%
Technology, occupancy, and facility costs 105.4 98.1 7.3 7.4 %
General, administrative, and other 77.1 73.0 4.1 5.6 %
Total operating expenses $ 755.4 $ 794.8 Compensation and related costs. Compensation and related costs were$440.7 million in the first quarter of 2020, a decrease of$50.8 million , or 10.3%, compared to the 2019 quarter. The decrease was primarily due to a change in market-related expense of$100.3 million related to our supplemental savings plan as falling markets in the first quarter of 2020 reduced the liability and$4.7 million of higher labor capitalization related to internally developed software. These decreases in compensation and related costs were offset in part by increases in base salary, employee benefits and related employee costs of$22.6 million , primarily as a result of a 5.3% increase in our average staff size and, to a lesser extent, the modest increases in base salaries at the beginning of 2020. Our interim accrual for annual variable compensation, primarily bonus compensation, also increased$16.1 million from the 2019 quarter and non-cash stock-based compensation expense increased by$14.8 million . We recognize the interim bonus accrual ratably over the year using the ratio of recognized quarterly net revenues to currently forecasted annual net revenues. Distribution and servicing. Distribution and servicing includes those costs incurred to distributeT. Rowe Price products as well as client and shareholder servicing, recordkeeping, and administrative services. These costs were$65.7 million for the first quarter of 2020, a decrease of 1.1% from the$66.4 million recognized in the 2019 quarter. The decrease for the period is primarily driven by lower assets under management in those mutual funds for which we pay distribution and servicing costs as clients transferred assets to lower fee vehicles or share classes over the last twelve months. The decreases in costs related to these products were partially offset by higher distribution costs as a result of inflows into our Japanese ITMs since the end of the first quarter of 2019. Distribution and servicing costs paid to third-party intermediaries that source the assets of certain share classes of ourU.S. mutual funds are recognized in this expense line and are offset entirely by the 12b-1 revenue we earn and report in administrative, distribution, and servicing fees. Advertising and promotion. Advertising and promotion costs were$24.9 million in the first quarter of 2020, an increase of$3.3 million , or 15.3%, compared to the$21.6 million recognized in the 2019 quarter. The increase for the period is due primarily to increased television media advertising activity in 2020 as compared to 2019. Technology, occupancy, and facility costs. Technology, occupancy, and facility costs consists of depreciation expense, technology equipment and maintenance, software, and costs related to our facilities. These costs were$105.4 million in the first quarter of 2020, an increase of$7.3 million , or 7.4%, compared to the$98.1 million recognized in the 2019 quarter. The increase for the period is due primarily to the ongoing investment in our technology capabilities, including related depreciation and hosted solution licenses. General, administrative, and other. General, administrative, and other expenses were$77.1 million in the first quarter of 2020, an increase of$4.1 million , or 5.6%, compared to the$73.0 million recognized in the 2019 quarter. The increase in the first quarter of 2020 compared with the 2019 period is primarily due to an increase in third-party investment research costs and higher professional fees, partially offset by lower travel expenses as global travel restrictions were put in place amid the coronavirus pandemic. Page 23 --------------------------------------------------------------------------------
Non-operating income (loss)
Non-operating loss in the first quarter of 2020 was
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