AGF Management Limited

Robert J. Bogart - Chief Financial Officer and Executive Vice-President Blake Charles Goldring - Chairman and Chief Executive Officer

John Aiken - Barclays Capital, Research Division Jeff Fenwick - Cormark Securities Inc., Research Division Scott Chan - Canaccord Genuity, Research Division Geoffrey Kwan - RBC Capital Markets, LLC, Research Division John Reucassel - BMO Capital Markets Canada Paul Holden - CIBC World Markets Inc., Research Division James Justin Hughes - Philadelphia Financial Management of San Francisco, LLC

Thank you, operator. Good morning everyone, I'm Bob Bogart, CFO of AGF Management Limited.

Thank you for joining us today for a discussion of our second quarter 2013 financial results. Please note that the slides supporting today's call and webcast can be found in the Investor Relations section of agf.com.

Today, Blake Goldring, Chairman and CEO, and I will discuss our second quarter 2013 financial results. Turning to Slide 4 of the agenda for today's call, we will discuss the highlights of the second quarter, provide a business update, review the financial results, discuss our capital and liquidity position, and finally, close with an outlook for the rest of 2013.

After the prepared remarks, we'll be happy to take questions from the analysts. With that, I'll now turn the call over to Blake.

Thank you, Bob and thank you everyone for joining us on today's conference call. Financial market performance was mixed during our first fiscal quarter with global equities outperforming emerging market equities, which goes back off years of our growth slowdown.

Canadian equities continue to lag global markets as falling gold prices weighed on the TSX. Bond yields printed higher as the markets were concerned over the Fed tapering its bond purchase program.

During our fiscal quarter, the U.S. equity markets moved higher on the back of ongoing stimulus and generally stronger economic data, including a labor force in housing market that continued to show improvement, spending was resilient.

We continue to stress the importance of investing globally, both for equities and fixed income, not only due to the headwinds facing the Canadian economy, but in an effort to take advantage of the expanded opportunities set, breadth and diversification benefits available outside of Canada. As we have mentioned in the past, we feel AGF is positioned to benefit from our return to global investing and believe we have a competitive advantage in global investing capabilities, coupled with our distribution footprint.

This is a theme for our Institutional business and will play out in Retail over time. Now with that backdrop, let's review a summary of the second quarter.

AUM ended the quarter at $37.6 billion. Market actually was flat despite broad market buoyancy.

Our market return was influenced by high relative exposure to Emerging Markets Equity, which is underperformed developed markets. In our Retail mutual funds, excluding C capital movements, we achieved a 10% increase in gross sales in April 2013 compared to April 2012, and a 15% increase in May 2013 over the same month last year.

In fact, in each of the last 4 months, our net outflows have improved over the equivalent months in 2012. Our Institutional business has also made significant progress despite outflows for the quarter.

We have a pipeline of committed sales of over $550 million. In addition, a very promising strategy, Emerging Markets value will be added to the Smith & Williamson platform this fall for distribution through the wealth management platform in the U.K.

Emerging Markets value has been in incubation for over 3 years with our Dublin office and its performance and risk characteristics are very strong. We also have a few strategic opportunities that are not in the committed pipeline, including 2 potential opportunities to secure seed investors for our planned usage structure.

Adjusted EPS came in at $0.17 per share. Free cash flow was good and we feel comfortable around the sustainability of our dividend payments under the current market conditions.

To that end, the board approved a $0.27 per share dividend, consistent with previous periods and our commitment to return value to our shareholders. As highlighted in our financial statement disclosure, AGF has provided for additional tax reserves rated to the CRA proposed assessment that was received last quarter.

Bob will address this update in his comments. Turning to Slide 6.

Investment performance is a key driver in our business. One of the measures we look at to assess our Retail performance is the MorningStar ratings.

We now have 7, 4 and 5-stars funds as rated by MorningStar, up from 6 a quarter ago. AGF traditional income fund recently received 4-star rating and the fund's 3-year performance is second quartile.

The fund is a strong gross sales contributor. AUM above medium is another common measure and we target having 50% of AUM above median on a 1 year basis.

This is such a widely used measure because the information is available for the competitive retail fund universe. We currently have 22% of our Retail AUM above medium on 1 year basis.

But the fact is, that almost 50% of our AUM is not in the retail channel, with AUM above median measure does not fully capture the exceptional performance we have in our institutional mandates. For example, the Global team makes up a large portion of our institutional AUM, but is smaller on a relative basis in the retail space.

Global core, which is the broadest mandate managed by our global team ranks among the very best in the world. In institutional, clients and consultants view performance on a risk-adjusted basis, over longer periods of time.

The slide you're looking at shows that over 10 years, the strategy ranks in the first quartile on key performance and risk measures. The ranking is out of 86 global peers.

I point this out because leveraging our global investing capability is one of our core distribution strategies going forward. We think global investing will become a larger theme in the Canadian Retail channel over the next few years and we're well-positioned to capture that demand.

Turning to Slide 7. Excluding the impact of C capital, our retail outflows improved by 19% compared to the same quarter last year.

We saw improvement in both gross sales and redemptions of mutual funds resulting in a reduction outflows from $752 million in Q2 last year to $608 million in the current quarter. It's encouraging that we have changed the trajectory of our mutual fund net outflows and we expect this trend to hold for the remainder of the year.

The AGF floating rate income fund has been a significant contributor to the retail trajectory change and this firm surpassed $200 million in AUM. Launched in May 2012, the fund provides monthly income and a hedge against rising rates.

It is a well-designed, well-managed product that delivers an innovative solution to the marketplace. We are pushing harder to deliver product innovation and getting more traction in the IIROC and bank distribution channels, which will continue to be a key area of focus for us.

Advisors have told us that equity market volatility is a concern for their clients and we're working on a Retail solution for this, which will launch in the current quarter. During the quarter, we also have successes with expanding our reach with our strategic partners.

A major bank committed to allocate assets to our global dividend strategy, and global core was added to the platform of a prominent insurance partner. AGF loading rate was also placed on the recommended list of another major bank.

These successes are the results of working hard work with our partners to identify AGF capabilities that can be leveraged across their platforms. We expect the result will be new AUM and net flows with these clients going forward.

We also introduced a brand awareness campaign. The AGF branded tiger remains successful across the wealth management industry and we continue to push our marketing efforts to increase our brand awareness.

Turning now to Slide 8. I want to get into some detail on our institutional business and the context behind the Q2 activity.

Q2 redemptions relate to a large client loss in the emerging market strategy. Although some residual risk may exist, it's our belief that wins and losses going forward will be on a basis of performance, service and institutional allocations to and from the EM category.

In other words, normal course business. The U.K.

and European markets are being subject to a lot of very positive activity over the past few quarters. AGF made a decision in late 2011 to begin to focus more heavily on the European markets and we invested in our distribution platform accordingly.

We decided to build out a USIT platform for purposes of distributing our global mandates into the U.K. and European market.

As I mentioned earlier, our committed pipeline is strong. And we are very excited that we have opportunities to secure seed investors for our USIT structure, both Global Core and EM.

We continue to view the Institutional business as a growth channel for AGF. We see positive leading indicators through our high activity levels and we're progressing deeper into searchers and winning business with consultants.

We're also seeing a return of interest in other global mandates. Interest in global core has been strong as well our global dividend mandate.

We've made significant investment in our management and distribution capabilities in the Institutional business and we are confident that this will be a multibillion-dollar growth business for us over the next 3 to 5 years. Moving to Slide 9, I'll turn the call back over to Bob to review the financial results in more detail.

Thank you, Blake. If you had a chance to look at our published financials and MD&A, you'll notice that our presentation has been divided into continuing operations and discontinued operations.

This is consistent with presentation of results from previous quarters. Discontinued operations are identified as a single line item just below income from continuing operations and reflect the financial results from our cost operation that was sold in August of 2012.

This slide reflects the summary of our financial results for Q2 2013 as compared to Q2 2012. With continuing operations, we have also presented adjusted numbers, which are excluding the accrual related to the CRA proposed assessment, which is consistent with our MD&A.

EBITDA for Q2 2013 is $46.1 million, relative to $50.3 million a year ago. Second quarter diluted EPS came in at a loss of $0.12 per share on adjusted and $0.17 per share adjusted compared to $0.17 in the same quarter last year.

As discussed last quarter, we expect to receive a notice of reassessment from a Canada revenue agency relating to the transfer price and allocation of income between our Canadian and foreign subsidiary. As we have discussed, transfer price and arrangements have come under an increasing scrutiny by tax authorities around the world, and we're one of several Canadian asset managers to be dealing with this type of issue.

We believe our tax filing positions are reasonable based on our transfer pricing methodology and we're contesting the CRA's position. However, to reflect the uncertainty of CRA's appeals process and litigation, and based on the information provided by the CRA to date, and the imminent receipt of the notice of reassessment, we have recorded an incremental tax provision of $26 million in the current quarter.

The amount of tax provision recorded on the financial statements reflect management's best estimate of the ultimate resolution on this matter and includes an estimate for reassessments for the 2005 through the 2013 tax years. While the ultimate resolution of this process could take several years, the company is confident that the merit of this transfer pricing methodology, which is supported by annual transfer pricing studies, conducted by external experts and the economic substance of its legal and operating structure supported tax filings.

Turning to Slide 10. I'll walk you through the basis points yield on our business.

Now this is a slide we regularly show on our call that lets you see our performance on a longer trended basis and smoothing out some of the impacts of market volatility. It shows our Investment Management revenue, operating expenses and EBITDA as a percentage of our average AUM on the current quarter and the prior year's quarter, as well as a full year view on the trailing 12-month basis.

Now the quarters have been annualized and the results exclude the impact of one-time costs, fair value adjustments, interest and other income and the earnings from Smith and Williamson. This represents our core revenue from the asset management business.

We also have adjusted the prior year's SG&A to reflect the current year's change in our presentation of SG&A related to expense reimbursements with the distribution partner, which I highlighted last quarter. This allows for an apples-to-apples comparison.

With respect to revenue, the operations reflect an increase in revenue yield due to a higher mix of retail business per dollar of AUM has a relative large redemptions associated with lower fee institutional assets have caused this rate to increase. Our SG&A on a relative comparison to a percentage of AUM was higher in Q2 '13 as a result of a lower AUM level and increased expenses for the quarter.

In the current quarter, controllable SG&A was $3.8 million higher on a sequential quarter from Q1. This increase relates to several nonrecurring expenses, including a true up on absorption expense, legal expenses associated with the current CRA issue and one-time compensation items.

Part of the increase was timing related, associated with the recognition of certain sales and marketing expenses. We have provided guidance expectations for SG&A of $176 million set at the beginning of the year.

The unfavorable variance on SG&A through Q2 2013 is primarily driven by stock compensation increases and new investment management hires. The stock price has increased from beginning of our fiscal year and if this holds for the remainder of the year, it will also translate into about $4 million of additional compensation.

As I mentioned, there are also one-time costs in the second quarter. We continue to monitor our expense base as the year will progress, as it pertains to the topline revenue.

Overall, EBITDA was lower than Q2 2012 on a trailing 12-month basis due to the claim scale attributable to lower AUM in the business. Turning to Slide 11.

I'll discuss free cash flow and dividend coverage. The slide represents the last 5 quarters of free cash flow shown by the blue bars on the chart.

The cash flow represented is consolidated free cash flow and Q2 2013 is the third quarter without any free cash flow generated from AGF Trust. It's important to note that the free cash flow from quarter-to-quarter can be impacted by a variety of items, including timing of cash taxes and dividends received from minority investments.

Our Q2 2013 payout ratio came in at 84%. At current equity market levels, we forecast that our free cash flow generation will be sufficient to fund the dividend for fiscal 2013.

As we've guided in the past calls, we continue to exercise our NCIB, and we repurchased 1.5 million shares for total consideration of $17 million over the quarter. We have $357 million in cash on hand with a net cash position of $46 million.

Turning to Slide 12, I'll now turn the call back to Blake to wrap up.

Thanks, Bob. For the rest of 2013, I want to outline our priorities and expectations.

Firstly, we want to exit 2013 with 50% of our funds above 1 year median. We'll continue with product innovation and we'll launch new products focused on unmet demand in equity categories.

We expect continued improvement in year-over-year Retail mutual fund net sales over the remainder of fiscal year '13. This will be driven by our sales team leveraging our performance products and increased activities supported by our brand and marketing push.

For the Institutional business, we're seeing RFP and RFI turn into new AUM for the firm. This bodes well for us experiencing net sales in this business for the second half of the year.

We will invest to grow our business. As we mentioned, we see opportunities to add resources and grow our global platform capabilities to take advantage of our multibillion-dollar opportunity to distribute through the Retail and institutional channels over the next 3 years.

The NCIB was renewed and we will be selective with our share repurchases and have a strategy in place that has been approved by the board. I want thank everyone on the AGF team for all their hard work over this quarter and our shareholders for their continued support.

We'll now take your questions. Thank you.

Just a quick question. Can you give us a little bit more color on the one-time other item of the $3.7 million?

And whether or not that actually was a cash inflow?

It was a cash inflow. It was just a sale of certain investments we had on the balance sheet.

Okay. And then, I don't know, Bob or Blake, if you want to answer this.

But in terms of the share repurchase program, when you talk about being selective with the share price below the average that on the repurchase that occurred in the second quarter, can we assume that, that will mean that the program will continue through this and may even become a little more aggressive?

Yes. You're correct in that, John.

Just on the SG&A. How much -- and in terms of CRA-related cost, how much was that included in the SG&A?

It looks like it's about $1 million if I kind back out what the decrease was this year versus last year? Was it around that?

Scott, your math is very good.

And going forward, is there gonna be continued related cost? Regarding the CRA in subsequent...

We expect them to decrease on a relative basis, just as we're in a point now where the process is going to take, as I mentioned in my comments, up to 2 years to play out. But a lot of a heavy lifting with respect to our advisors has already occurred.

And that will -- we'll expect to see some amounts. But on a relative basis, it will not be as large as this current quarter.

Okay. And I just want to confirm the NCIB today.

I thought you bought back 1.5 million in April and then you bought some in May. Or is it the 1.5 million that you guys stated in your quarterly MD&A report?

That would be -- the 1.5 million shares would be through May 31, Scott.

Through May 31? Have you bought back shares after that?

Actually, probably not because of the little blackout period, right?

No. We have a program in place where we're actually able to -- under certain, I guess, constraints that we provide to our broker of record, where there would be purchased shares on our behalf.

Just had a question on the Institutional business. With respect to the Emerging Markets side, I mean, you mentioned that there was large redemption in Q2 starting to see positive flows in Q3.

Can you kind of talk about -- I mean do you think that the worst is behind in terms of redemptions? And now that you're getting some inflows, that we should see net sales positive in this product?

We've had some very encouraging great expressions of interest in actual commitments and funding. So I think that's -- these are always say that probably, we have, like to say, hit the point of inflection.

It's one where we're driving ahead and winning mandates. The team is gelled extremely well, Geoff.

And everything is working extremely well. So the team has been very decently received by clients and consultants.

Sorry, Geoff, I was just going to add to your -- to Blake's comments. That we're seeing positive results in the global mandates in aggregate, so not just EM, also positive momentum in Global Core.

And as Blake mentioned, the global dividend mandate as well. So it's our expectation and I think I may have mentioned this in last quarter's call as well.

But it's our expectation that we'll be in positive flows on the Institutional business, based on what we see and where we stand today, exiting Q4 2013.

Okay. And maybe just staying with the Institutional business.

It sounds like it's these global mandates that are driving kind of the gross sales side albeit, there's the occasional redemption. With respect to the other products you've got in the institutional side that were being one of the drivers of the redemption in recent quarters, is that starting to dissipate?

Or what are you seeing and can provide on that front?

We still see some risk in the other non-global mandates. Although the quantum I think is at a much lower level than what we anticipate in the global mandates on the new inflow side.

Okay. And the last question I had was, taking a look at the Retail flows side, can you talk about the mix that you saw in the quarter?

Did the post-RSP season in terms of the mix that we saw greater flows into equity funds? Did that persist for you guys in a post-RSP season?

And then maybe, can you talk about what the impact of the recent variability or volatility in the market has had on sales, at least the short-term impact we've seen so far?

We're actually seeing sort of the -- our floating rate income fund has been our great answer. And It's been a very strong seller through the post RSPC season, and has continued to grow.

Also, one of our -- Peter Frost has done extremely well in overall fund flows. The recent volatility in the last, say, 10 days or so, I would say across the board, there's just a lower level of activity just as people sort of stand on the sidelines, but I think that say, we're going to be addressing some of that concern in -- investors have with I think a very innovative product very shortly.

I'd say, Geoff, just that the year-over-year, our fixed income flows on the growth side have increased. We haven't really seen a significant rotation back into the equity although we feel that, that's improving of late.

But the balance, to Blake's point, the balanced funds, some of our wraps as well as the fixed income are up year-on-year and the equity is on a net basis, essentially flat year-on-year.

Bob, just couple of things I want to clarify. Just on the CRA, you said it covers your best estimate of '05 to '13, so this isn't -- I think, the last call, you talked about kind of 2 steps, 1 prior to '10 and then something post-'10.

But this is for the entire time period. Is that correct?

That is correct.

Okay. And it's just a charge, it's not a cash item at this stage?

That's correct.

Okay. And then on the $3.8 million of one-time cost you mentioned in the quarter, and you talked about the SG&A of $176 million this year.

Were you just trying to say it is $176 million is still our target, but this one-time cost could push us up to $180 million, is that what you're saying?

Not exactly -- partially, John. I think the -- part of the increase in the SG&A is going to be driven by stock compensation expense, right?

So the stock is up some 30% from the beginning of the year. So there's some variability in compensation with respect to that.

So I don't really call that one-time. I just call that variable with stock price.

So roughly 75% of the projected increase over the $176 million, so we're kind of guiding to $184 million in SG&A, 75% of that is really attributable to Investment Management compensation cost, mostly tied to the stock price. And then the remainder would be the one-time items that I mentioned.

Got it, okay. That's helpful.

And then just on the institutional business. You talked about the Emerging Markets global core and global dividend.

I'm just trying to get a sense of the profitability. Is the Emerging Market products still the most -- highest fee business?

And then that global core and global dividend are below that? Is that -- or are these closer to the global core and global equity closer to kind of Canadian mandate fee levels?

I'd say that they're in -- all 3, are in excess of Canadian type mandates by a wide margin. We have found that there is some price compression in the marketplace on global mandates including EM, but in terms of what the market will offer, it's -- they'll pay more for EM.

And then global core and global dividend are less than that, but comparable with each other.

And I'll also say, though -- I mean as we launch our USITs that will certainly helped in a significant way our margins.

USITs will be sold through kind of sub-advisory basis onto wealth management platforms. And there's just higher fees at the consumer end, and so therefore, we'll share in some of that as the sub-advisor.

Okay, that's helpful. And then Blake, just back to the wording here.

Selective share repurchases. I guess I took that that you might be a little slower on your share buyback in the back half of your fiscal year.

But in response to your earlier question, you said you might be a little more aggressive. So is -- I guess, which is selective?

Does it mean you're going to be more aggressive, about the same, or you'll just see where the stock price is?

I think we'll always see if there's an opportunity where it's below our targets, we'll be more active, I guess that's the thing, and -- because we do have targets, John, and we see returning value to shareholder certainly dividend is very important. And by buying back stock as well is also a good way.

And I think we'll just see where the price is relative to our target.

Just a couple of questions of -- clarification really. On the institutional slide, you mentioned a new product launch from the Dublin investment team.

Is that the global dividend mandate? Or is there something else coming out of that team?

No, it's a value, an emerging market value product.

It has -- it carries a fairly substantial dividend, about 4%.

Okay. And then in terms of your objective to get 50% of funds above the 1 year median, is that -- some places it says funds and in other places refer to AUM.

So I just want to clarify, which one is it? Is it funds or AUM, or is it both?

AUM.

I just want to follow up on the CRA that you accrued $26 million for. If we look at just '05, '06 and '07, they're seeking $35.8 million and again, you only accrued $26 million, and that's before even reassessing '05 through '13.

So I'm just wondering, are you assuming '05 to '13 is 0? And that you're going to get 75% awarded at -- in the final?

Just walk me through how you went from $26 million accrual versus them seeking $36 million for just those 3 years, excluding the additional years?

Well, what we've done is just assess the -- to the best of our ability, what the overall exposure is based on our guidance from external advisors. And the amount of provisioning that we have on the statement of financial position is what we believe is management's best estimate to cover all of the liabilities from 2005 to 2013.

So what the CRA proposes is one input into that. But we believe, in our ultimate position, and that we properly and fully accrued for the liability on the balance sheet.

Okay. And then, just one question on the institutional performance.

You mentioned that the Retail is very easy to track because it's all public. I assume you have internal benchmarks for your institutional performance.

And I'm just wondering what percentage of your institutional AUM is above those benchmarks?

These are -- from a MorningStar rating it's certainly -- we take a look. And certainly will all be above the median or else we wouldn't be winning mandate -- they're very competitive, beauty contest that are conducted at major consultants.

And some of them most sophisticated sovereign funds in the world.

I'm sorry, you said you used MorningStar ratings for your institutional products?

Not for the institutional side, but it's more from the fact that we're winning very large mandates amongst some very large institutional investors.

To answer your question directly, 100% of the AUM on the institutional sides are exceeding their benchmarks.

Yes. So [indiscernible] investments [indiscernible]

So if 100% is over benchmark, what's causing the outflows?

Well, with respect to the current quarter, these were at risk assets with respect to the team disruption that occurred a year prior. So there are other things beyond performance that will direct and dictate what institutions do with their mandates.

And you can be above benchmark and the institution can make a move out of, let's say, Emerging Markets category into fixed income, which has got nothing to do with performance, but more about the asset allocation of the institution. That's why there are outflows in good performing mandates.

Thank you very much for joining us today. Our next earnings call will take place on September 25, 2013, when we review our third quarter results for fiscal 2013.

Details of the call will be posted on our website. Finally, an archive of the audio webcast of today's call with supporting materials will be available in the Investor Relations section of our website.

With that, I say good day to everyone. Thank you.