S-1/A 1 b80825a2sv1za.htm FORM S-1/A sv1za
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As filed with the Securities and Exchange Commission on July 9, 2010
Registration No. 333-167325
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Amendment No. 2
to
Form S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
LPL Investment Holdings Inc.
(Exact name of registrant as specified in its charter)
 
         
Delaware   6200   20-3717839
(State or other jurisdiction of
incorporation or organization)
  (Primary Standard Industrial
Classification Code Number)
  (I.R.S. Employer
Identification No.)
One Beacon Street, Boston, MA 02108
(617) 423-3644
(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)
Mark S. Casady
Stephanie L. Brown
LPL Investment Holdings Inc.
One Beacon Street, Boston, MA 02108
(617) 423-3644
(Name, address, including zip code, and telephone number, including area code, of agent for service)
Copies to:
 
     
Julie H. Jones, Esq.
Keith F. Higgins, Esq.
Ropes & Gray LLP
One International Place
Boston, MA 02110
Telephone (617) 951-7000
Fax (617) 951-7050
  William F. Gorin, Esq.
Cleary Gottlieb Steen & Hamilton LLP
One Liberty Plaza
New York, NY 10006
Telephone (212) 225-2000
Fax (212) 225-3999
 
Approximate date of commencement of proposed sale to public:  As soon as practicable after this Registration Statement becomes effective.
 
If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended (the “Securities Act”), check the following box.  o
 
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer o Accelerated filer o Non-accelerated filer þ Smaller reporting company o
(Do not check if a smaller reporting company)
 
The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.
 


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The information in this preliminary prospectus is not complete and may be changed. These securities may not be sold until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.
 
Subject to Completion. Dated July 9, 2010.
 
          Shares
 
(LPL FINANCIAL LOGO)
 
Common Stock
 
This is an initial public offering of common stock of LPL Investment Holdings Inc.
 
LPL Investment Holdings Inc. is offering           shares to be sold in the offering. The selling stockholders identified in this prospectus are offering an additional           shares. LPL Investment Holdings Inc. will not receive any of the proceeds from the sale of the shares being sold by the selling stockholders.
 
Prior to this offering, there has been no public market for the common stock. It is currently estimated that the initial public offering price per share will be between $      and $     . LPL Investment Holdings Inc. intends to list the common stock on the NASDAQ Global Select Market under the symbol “LPLA.”
 
See “Risk Factors” on page 14 to read about factors you should consider before buying shares of the common stock.
 
 
 
 
Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
 
 
 
 
                 
    Per Share   Total
 
Initial public offering price
  $           $        
Underwriting discount
  $       $    
Proceeds, before expenses, to LPL Investment Holdings Inc. 
  $       $    
Proceeds, before expenses, to the selling stockholders
  $       $  
 
To the extent the underwriters sell more than           shares of common stock, the underwriters have the option to purchase up to an additional          shares from          at the initial public offering price less the underwriting discount.
 
 
 
 
The underwriters expect to deliver the shares against payment in New York, New York on          , 2010.
 
Goldman, Sachs & Co. Morgan Stanley
 
BofA Merrill Lynch J.P. Morgan
 
 
 
 
Prospectus dated          , 2010.


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(LPL FINANCIAL)
 


 

 
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We have not authorized anyone to provide any information or to make any representations other than those contained in or incorporated by reference into this prospectus or in any free writing prospectuses we have prepared. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. This prospectus is an offer to sell only the shares offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date.


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MARKET, RANKING AND OTHER INDUSTRY DATA
 
The data included in this prospectus regarding markets and ranking, including the size of certain markets and our position and the position of our competitors within these markets, are based on reports of government agencies or published industry sources and estimates based on our management’s knowledge and experience in the markets in which we operate. These estimates have been based on information obtained from our trade and business organizations and other contacts in the markets in which we operate. We believe these estimates to be accurate as of the date of this prospectus. However, this information may prove to be inaccurate because of the method by which we obtained some of the data for the estimates or because this information cannot always be verified with complete certainty due to the limits on the availability and reliability of raw data, the voluntary nature of the data gathering process and other limitations and uncertainties. As a result, you should be aware that market, ranking and other similar industry data included in this prospectus, and estimates and beliefs based on that data, may not be reliable.


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PROSPECTUS SUMMARY
 
This summary highlights information contained elsewhere or incorporated by reference in this prospectus. This summary does not contain all of the information you should consider before investing in our common stock. You should read this entire prospectus carefully, especially the “Risk Factors” section of this prospectus and our consolidated financial statements and related notes appearing at the end of this prospectus, before making an investment decision. This summary contains forward-looking statements that involve risks and uncertainties. Our actual results may differ significantly from the results discussed in the forward-looking statements as a result of certain factors, including those set forth in “Risk Factors” and “Special Note Regarding Forward-Looking Statements.”
 
We refer to Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share in this prospectus summary and elsewhere in this prospectus. For the definitions of Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share, an explanation of why we present these metrics and a description of the limitations of these non-GAAP measures, as well as a reconciliation to net income, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — How We Evaluate Growth.”
 
When we use the terms “we,” “us,” “our,” “LPL” or the “company,” we mean LPL Investment Holdings Inc., a Delaware corporation, and its consolidated subsidiaries, including LPL Financial Corporation (“LPL Financial”), taken as a whole, as well as the predecessor entity LPL Holdings, Inc. (“predecessor”), unless the context otherwise indicates.
 
Overview
 
We provide an integrated platform of proprietary technology, brokerage and investment advisory services to over 12,000 independent financial advisors and financial advisors at financial institutions (our “advisors”) across the country, enabling them to successfully service their retail investors with unbiased, conflict-free financial advice. In addition, we support over 4,000 financial advisors with customized clearing, advisory platforms and technology solutions. Our singular focus is to support our advisors with the front, middle and back-office support they need to serve the large and growing market for independent investment advice, particularly in the mass affluent market (which we define as investors with $100,000 — $1,000,000 in investable assets). We believe we are the only company that offers advisors the unique combination of an integrated technology platform, comprehensive self-clearing services and full open architecture access to leading financial products, all delivered in an environment unencumbered by conflicts from product manufacturing, underwriting or market making.
 
For over 20 years we have served the independent advisor market. We currently support the largest independent advisor base and the fifth largest overall advisor base in the United States. Through our advisors, we are also one of the largest distributors of financial products in the United States. Our scale is a substantial competitive advantage and enables us to more effectively attract and retain advisors. Our unique model allows us to invest more resources in our advisors, increasing their revenues and creating a “virtuous cycle” of growth. We are headquartered in Boston and currently have over 2,400 employees in our Boston, Charlotte and San Diego locations.
 
Market Opportunity and Industry Background
 
The market our advisors serve is significant and expanding. According to the Federal Reserve, U.S. household and non-profit organization financial assets totaled $45.1 trillion as of December 31, 2009, up from $41.7 trillion at December 31, 2008 and $38.9 trillion at December 31, 2004. In addition, according to Cerulli Associates, a research and consulting firm specializing in the financial services industry, $8.5 trillion of retail assets were professionally managed as of December 31, 2008, up from $6.8 trillion as of December 31, 2003. Finally, 58% of all U.S. households utilized a financial advisor in 2008.


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Cerulli Associates divides the retail advisor market into six broad channels: the two independent channels that we serve (independent and registered investment advisors (“RIAs”)) and four employee model or captive channels (insurance, wirehouse, regional and bank). During the period from 2004 to 2008, the independent channels experienced substantial growth on both an absolute and relative basis, taking market share from the captive channels. According to Cerulli Associates, the independent channels’ market share by number of advisors increased from 40% in 2004 to 43% in 2008. In 2008, over 132,000 independent financial advisors managed $2.7 trillion in client assets, representing 33% of total retail advisor client assets.
 
Cerulli Associates forecasts that total U.S. assets under management will grow 29% from 2008 to 2012 due to factors such as the retirement of the baby boomer generation as well as the continued growth of individual retirement account rollovers. During the same period, Cerulli Associates estimates that the independent channels’ market share by number of advisors will grow by seven percentage points to 50%, and market share by client assets will grow six percentage points to 39%.
 
We believe there are several key factors driving the growth of the independent channels. Investors in the mass affluent market, and increasingly in the high net worth market, are seeking unbiased, conflict-free advice. The number of advisors electing to leave the large financial institutions to become independent financial advisors has accelerated over the last several years in part because of the ongoing consolidation among the captive platforms, particularly among the wirehouses. Finally, many advisors have entrepreneurial aspirations and are attracted to the flexibility, control and compelling economics inherent in the independent financial advisor model.
 
Our Business
 
With our focus and scale, we are not only a beneficiary of the secular shift among advisors toward independence, but an active catalyst of this trend. Between 2004 and 2008, our number of advisors increased at a compound annual growth rate (“CAGR”) of 20%, while according to Cerulli Associates, the total number of advisors across all channels remained flat. We enable our advisors to provide their clients with high quality independent financial advice and investment solutions, and support our advisors in managing the complexity of their businesses by providing a comprehensive integrated platform of technology and clearing services. We provide these services through an open architecture product platform with no proprietary manufactured products, which enables an unbiased, conflict-free environment. Our historical advisor growth rate does not guarantee that we will attract advisors at comparable rates in the future. For example, when comparing our number of advisors as of March 31, 2010 to March 31, 2009, we had a net decrease in advisors, and as of December 31, 2009 to December 31, 2008, we had relatively no change in our number of advisors, in both cases due to the attrition of advisors in connection with the consolidation of the operations of certain of our previously acquired subsidiaries. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — How We Evaluate Growth.”
 
Our Financial Advisors
 
For more than 20 years our Commitment Creed has been ingrained in our culture and reflects our singular focus on the advisors we serve. The size and growth of our business has benefited from this focus. Our advisor base has grown from 3,596 advisors in 2000 to 12,026 as of March 31, 2010, representing a CAGR in excess of 14%. Our historical advisor growth rate does not guarantee that we will attract advisors at comparable rates in the future.
 
Our advisor base includes independent financial advisors, RIAs and advisors at small and mid-sized financial institutions. Advisors that join us average over 15 years of industry experience. This substantial industry experience allows us to focus on enhancing our advisors’ businesses without the need for basic training or subsidizing advisors that are new to the industry. We are also rigorous in both our initial advisor screening and diligence as well as our ongoing monitoring through our internal risk management and compliance functions.


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Our independent advisors join us from a broad range of firms including wirehouses, regional and insurance broker-dealers, banks and other independent firms. Our flexible business platform allows our advisors to choose the most appropriate business model to support their clients, whether they conduct brokerage business, offer brokerage and fee-based services on our corporate RIA platforms or provide fee-based services through their own RIAs.
 
Among our 12,000 advisors, we support over 2,400 advisors at over 750 banks and credit unions. We believe these financial institutions are drawn to our outsourcing solutions because we provide the broad array of services advisors at these institutions need to be successful, allowing these institutions to focus their energy and capital on their core businesses.
 
We also provide support to over 4,000 additional financial advisors who are affiliated and licensed with insurance companies. These outsourcing arrangements provide customized clearing, advisory platforms and technology solutions that enable financial advisors at these insurance companies to efficiently provide a breadth of services to their client base.
 
Our Service Value Proposition
 
The core of our business is dedicated to meeting the evolving needs of our advisors and providing the platform and tools to grow and enhance the profitability of their businesses. We support our advisors by providing front, middle and back-office solutions through the four pillars of our distinct value proposition:
 
  •  Enabling Technology.  We provide our technology and service to advisors through BranchNet, our proprietary, integrated technology platform that is server-based and web-accessed. Using the BranchNet workstation, our advisors effectively manage all critical aspects of their businesses while remaining highly efficient and responsive to their clients’ needs.
 
  •  Comprehensive Clearing and Compliance Services.  We custody and clear the majority of our advisors’ transactions, providing an enhanced advisor experience and expedited processing capabilities. Our self-clearing platform also enables us to serve a wider variety of advisors, including RIAs and dually-registered advisors (“hybrid RIAs”). We have made sizeable investments in our compliance offering to fully integrate these tools into our technology platform. Since 2000, our commitment of resources and focus on compliance have enabled us to maintain one of the best regulatory compliance records, based upon the number of regulatory events reported in FINRA’s BrokerCheck Reports, among the five largest U.S. broker-dealers, ranked by number of advisors.
 
  •  Practice Management Programs and Training.  Our practice management programs help our advisors enhance and grow their businesses. Because of our scale, we are able to dedicate a large and experienced group of professionals that work with our advisors to build and better manage their business and client relationships through one-on-one consulting. In addition, we hold 140 conferences and group training events annually for the benefit of our advisors.
 
  •  Independent Research.  Our research team consists of over 25 professionals with an average of 12 years of industry experience, dedicated to providing unbiased, conflict-free advice. We provide our advisors with integrated access to comprehensive proprietary and third-party independent research on mutual funds, separate accounts, insurance and annuities, asset allocation strategies, financial markets and the economy, among other areas.
 
Our Economic Value Proposition
 
We offer a compelling economic value proposition that is a key factor in our ability to attract and retain advisors. The independent channels pay advisors a greater share of brokerage commissions and advisory fees than the captive channels — generally 80-90% compared to 30-50%. Because of our scale and efficient operating model, we offer our advisors the highest average payout ratios


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among the five largest U.S. broker-dealers, ranked by number of advisors, which we believe provides us with an important competitive advantage. Throughout this prospectus, we use “payout ratio” to refer to the portion of advisor-generated revenues, consisting of commissions and advisory fees, that we collect from advisors’ clients and pay to advisors.
 
We believe our superior technology and service platforms enable our advisors to operate their practices at a lower cost than other independent advisors. As a result, we believe owners of practices associated with us earn meaningfully more pre-tax profit than owners of practices affiliated with other independent brokerage firms. We attribute this difference in profitability, in part, to lower fixed costs driven by the need for fewer staff at our associated practices. Finally, as business owners, independent advisors, unlike captive advisors, also have the opportunity to build equity in their own businesses.
 
Our Product Access
 
We do not manufacture any financial products. Instead, we provide our advisors open architecture access to a large variety of commission, fee-based, cash and money market products and services. Our platform provides access to over 8,500 financial products, which are manufactured by over 400 product sponsors. Our product diligence group pre-screens all new products.
 
As of March 31, 2010, advisory and brokerage assets totaled $285 billion, of which $81 billion was in advisory assets. In 2009, brokerage sales were over $28 billion, including over $10 billion in mutual funds and $14 billion in annuities. Advisory sales were $23 billion, which consisted primarily of mutual funds. As a result of this scale and significant distribution capabilities, we can offer leading products and services with attractive economics to our advisors.
 
Our Financial Model
 
We have a proven track record of strong financial performance. We have increased our annual Adjusted EBITDA for the past five consecutive years with only one decline in annual revenue in 2009 in conjunction with the major market downturn. Our net income over the same period has declined two times, in 2006 and 2008. We have experienced greater variability in our net income primarily due to amortization of purchased assets and interest expense from our senior secured credit facilities and subordinated notes, both a result of our merger transaction in 2005 with the investment funds affiliated with Hellman & Friedman LLC and TPG Capital (collectively the “Majority Holders”), as well as expenses associated with our acquisition integration and restructuring initiatives.
 
Since 2005, we have grown our net revenues at an 18% CAGR, our net income at a 2% CAGR, our Adjusted EBITDA at a 17% CAGR and our Adjusted Net Income at a 13% CAGR. See “Selected Consolidated Financial Data.” Our historical growth rates do not guarantee future results, levels of activity, performance or achievements. See “Special Note Regarding Forward-Looking Statements.” As we demonstrated during the financial crisis of 2008 and 2009, our financial model has inherent resilience, and our overall financial performance is a function of the following favorable characteristics:
 
  •  Diverse and Recurring Revenue.  Our revenue stems from diverse and recurring sources, including commission and advisory fees, asset based fees, fees from product manufacturers, recordkeeping and cash sweep balances. Our recurring revenue is associated with asset balances and is not based on transaction volumes or other activity-based fees. Therefore, although the level of our revenue sources can be impacted by external market conditions such as the economic downturn experienced in 2008 and 2009, their recurring nature provides a level of predictability. This is demonstrated by our recurring revenues in 2009, 2008 and 2007, which were 57.3%, 58.5% and 57.1%, respectively, of our net revenues.
 
  •  Variable Expenses.  Our expenses are predominantly variable. They consist primarily of payouts to advisors, which are determined as a percentage of advisor-generated revenue. This


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  percentage payout generally varies with advisor productivity, which is correlated to market performance. Our general and administrative expenses can be actively managed, as evidenced during the recent financial crisis.
 
  •  Low Capital Requirements.  We do not manufacture products, make markets, provide underwriting or engage in mortgage lending. As a result, our cash flow is not encumbered by capital intensive activities. In addition, we can reinvest the substantial free cash flows that we generate in our business.
 
Our Competitive Strengths
 
  •  Significant Scale and Market Leadership Position.  We are the established leader in the independent advisor market, which is our core business focus. Our scale enables us to benefit from the following dynamics:
 
  •  We actively reinvest in our comprehensive technology platform and practice support, which further improves the productivity of our advisors.
 
  •  As one of the largest distributors of financial products in the United States, we are able to obtain attractive economics from product manufacturers.
 
  •  Among the five largest U.S. broker-dealers by number of advisors, we offer the highest average payout ratios to our advisors.
 
The combination of our ability to reinvest in the business and maintain highly competitive payout ratios allows us to attract and retain advisors successfully. This, in turn, drives our growth and leads to a “virtuous cycle” that reinforces our established scale advantage.
 
  •  Unique Value Proposition for Independent Advisors.  We believe we are the only company that offers a conflict-free, open architecture and scalable platform, which leads to greater economics for our advisors and allows them to build equity in their businesses. This generates a significant opportunity to attract and retain highly qualified advisors who are seeking independence.
 
  •  Unique Value Proposition for Institutions.  We provide solutions to financial institutions, such as regional banks, credit unions and insurers, who would otherwise find the technology, infrastructure and regulatory requirements associated with delivering financial advice to be cost-prohibitive.
 
  •  Ability to Profitably Serve the Mass Affluent Market.  We have designed and integrated all aspects of our platforms and services to profitably meet the needs of advisors who serve the mass affluent market. We believe there is an attractive opportunity in this market, in part because wirehouses have not historically focused on the mass affluent market. We believe our scale will sustain and strengthen our competitive advantage in the mass affluent market.
 
  •  Ability to Serve a Broad Range of Advisor Models.  As a result of our integrated technology platform and the resulting flexibility, we are able to attract and retain advisors from multiple channels, including wirehouses, regional broker-dealers and other independent broker-dealers. In addition, although we have grown through our focus on the mass affluent market, the breadth of our platform has facilitated growing penetration of the high net worth market. As of March 31, 2010 our advisors supported accounts with more than $1 million in assets that in the aggregate represented $42.2 billion in advisory and brokerage assets, or 15% of our total.
 
  •  Experienced and Committed Senior Management Team.  We have an experienced and committed senior management team that provides stable and long-standing leadership for our business. The management team is aligned with stockholders and holds significant equity ownership in the company.


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Risks That We Face
 
Our business is subject to a number of risks of which you should be aware before making an investment decision. These risks are discussed more fully in the “Risk Factors” section of this prospectus immediately following this prospectus summary. These risks include the following:
 
  •  We depend on our ability to attract and retain experienced and productive advisors.  We derive a large portion of our revenues from commissions and fees generated by our advisors. If we fail to attract new advisors or to retain and motivate our current advisors, our business may suffer.
 
  •  Our financial condition and results of operations may be adversely affected by market fluctuations and other economic factors.  General economic and market factors can affect our commission and fee revenue. Significant downturns and volatility in equity and other financial markets have had and could continue to have an adverse effect on our financial condition and results of operations.
 
  •  Regulatory developments and our failure to comply with regulations could adversely affect our business by increasing our costs and exposure to litigation, affecting our reputation and making our business less profitable.  Our business is subject to extensive U.S. regulation and supervision, including securities and investment advisory services. Our ability to conduct business depends on our compliance with these laws, rules and regulations, which is largely dependent on our establishment and maintenance of compliance systems and procedures.
 
  •  We operate in an intensely competitive industry, which could cause us to lose advisors and their assets, thereby reducing our revenues and net income.  We are subject to competition in all aspects of our business, including competition for our advisors and clients. If we fail to continue to attract highly qualified advisors or advisors licensed with us leave us to pursue other opportunities, or if current or potential clients of our advisors decide to use one of our competitors, we could face a significant decline in market share, commission and fee revenues and net income.
 
  •  We rely on technology in our business, and technology and execution failures could subject us to losses, litigation and regulatory actions.  Our business relies extensively on electronic data processing and communications systems. Failure of our systems, which could result from events beyond our control, or an inability to effectively upgrade those systems or implement new technology-driven products or services, could result in financial losses, liability to clients and damage to our reputation.
 
  •  Our indebtedness could adversely affect our financial health and may limit our ability to use debt to fund future capital needs.  Our level of indebtedness could increase our vulnerability to general adverse economic and industry conditions, require us to dedicate a substantial portion of our cash flow from operation to payments on our indebtedness and may limit our flexibility in planning for changes in our business and the industry in which we operate.
 
  •  The Majority Holders will have the ability to control the outcome of matters submitted for stockholder approval and may have interests that differ from those of our other stockholders.  Due to their ownership of a majority of our capital stock, the Majority Holders have significant influence over corporate transactions and are able to effectively control our decisions, regardless of whether or not other stockholders believe that the transaction is in their own best interests.


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Our Sources of Growth
 
We expect to increase our revenue and profitability by benefiting from favorable industry trends and by executing strategies to accelerate our growth beyond that of the broader markets in which we operate.
 
Favorable Industry Trends
 
  •  Growth in Investable Assets.  According to Cerulli Associates, total assets under management in the United States are anticipated to grow at 7% per year over the next four years and retirement assets are expected to grow 8% from 2008 to 2014 (in part due to the retirement of the baby boomer generation and the resulting assets which are projected to flow out of retirement plans and into individual retirement accounts). In addition, individual retirement account rollovers are projected to almost double, growing from $3.6 trillion as of 2008 to $6.8 trillion by 2014.
 
  •  Increasing Demand for Independent Financial Advice.  Retail investors, particularly in the mass affluent market, are increasingly seeking financial advice from independent sources.
 
  •  Advisor Migration to Independence.   Independent channels are gaining market share from captive channels. We believe that we are not just a beneficiary of this secular shift, but an active catalyst in the movement to independence.
 
  •  Macroeconomic Trends.   As the macroeconomic environment continues to stabilize, we anticipate an appreciation in asset prices and a rise in interest rates from current, historically low levels. We expect that our business will benefit from growth in advisory and brokerage assets as well as increasing asset-based and cash sweep fees.
 
LPL-Specific Growth Opportunities
 
  •  Attracting New Advisors to our Platform.  We have only 3.8% market share of the approximately 310,000 financial advisors in the United States, according to Cerulli Associates, which provides us with significant opportunity to attract new advisors.
 
  •  Ramp-up of Newly-Attracted Advisors.  We predominately attract experienced advisors who have established practices. In our experience, it takes an average of three years for new advisors to re-establish their practices and associated revenues. This seasoning process creates accelerated growth of revenue from our new advisors.
 
  •  Increasing Productivity of Existing Advisor Base.  The productivity of our advisors increases over time as we enable them to add new clients, gain shares of their clients’ investable assets, and expand their existing practices with additional advisors. We facilitate these productivity improvements by helping our advisors better manage their practices in an increasingly complex environment.
 
  •  Our Business Model has Inherent Economies of Scale.  The largely fixed costs necessary to support our advisors deliver higher marginal profitability as our advisors’ client assets and our revenues grow. Historically, this dynamic has been demonstrated through the growth in our operating margins.
 
  •  Opportunistic Pursuit of Acquisitions.  We have a proven history of expanding our business through opportunistic acquisitions. In the past six years, we have successfully completed four transactions. Our scalable business model and operating platform make us an attractive acquirer in a fragmented market.


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Recent Developments
 
On May 24, 2010, we entered into a Third Amended and Restated Credit Agreement (our “senior secured credit agreement”) with our subsidiary, LPL Holdings, Inc., the lending institutions from time to time parties thereto, Morgan Stanley Senior Funding, as Administrative Agent, and Morgan Stanley & Co. Incorporated, as Collateral Agent, which amended and restated our Second Amended and Restated Credit Agreement, dated as of June 18, 2007.
 
We entered into the Third Amended and Restated Credit Agreement to raise an additional $580.0 million to redeem our senior unsecured subordinated notes due 2015. This transaction resulted in the reduction in our overall weighted average cost of interest. In addition, we extended the maturity of $500.0 million of our original term loan tranche to 2015 (the remaining balance of $317.1 million will mature on the original maturity date in 2013) and achieved greater flexibility to pay down our indebtedness in the future without penalty.
 
Our Corporate Structure
 
LPL Investment Holdings Inc. is the parent company of our collective businesses. Our address is One Beacon Street, Boston, Massachusetts 02108. Our telephone number is (617) 423-3644. Our website address is www.lpl.com. Information contained in, and that can be accessed through, our website is not incorporated into and does not form a part of this prospectus.
 
On December 28, 2005, LPL Holdings, Inc., the predecessor, and its subsidiaries were acquired through a merger transaction by funds affiliated with the Majority Holders. Any activities shown or described for periods prior to December 28, 2005 are those of the predecessor.


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THE OFFERING
 
Common stock we are offering           shares
 
Common stock selling stockholders are offering           shares
 
Common stock to be outstanding after this offering           shares
 
Option to purchase additional shares offered to underwriters           shares
 
Use of proceeds We estimate that the net proceeds from our sale of shares in this offering will be approximately $      million, or approximately $      million if the underwriters exercise their option to purchase additional shares in full. We expect to use all of the net proceeds from this offering received by us to repay a portion of the term loans under our senior secured credit facilities. We will not receive any of the proceeds from the sale of shares by the selling stockholders. See “Use of Proceeds.” The selling stockholders also include certain members of management.
 
Risk factors You should read the “Risk Factors” section of this prospectus beginning on page 14 for a discussion of factors to consider carefully before deciding whether to purchase shares of our common stock.
 
Proposed NASDAQ Global Select Market symbol LPLA
 
The number of shares of our common stock to be outstanding after this offering is based on 94,241,567 shares of common stock outstanding as of March 31, 2010 and excludes:
 
  •  22,710,790 shares of common stock issuable upon the exercise of options and warrants outstanding as of March 31, 2010, with exercise prices ranging from $1.07 to $27.80 per share and a weighted average exercise price of $7.00 per share (the number, price and range of outstanding options and warrants will be adjusted to reflect any exercise of options and warrants by selling stockholders in connection with this offering);
 
  •  2,823,452 stock units outstanding at March 31, 2010, under our 2008 Nonqualified Deferred Compensation Plan, each representing the right to receive one share of common stock at the earliest of (a) a date in 2012 to be determined by the board of directors; (b) a change in control of the company or (c) death or disability of the holder and
 
  •  3,108,907 additional shares of common stock as of March 31, 2010 reserved for future grants under our equity incentive plans.
 
Unless otherwise indicated, all information in this prospectus:
 
  •  assumes the adoption of our amended and restated certificate of incorporation (“certificate of incorporation”) and our second amended and restated bylaws (“bylaws”), to be effective upon the closing of this offering and
 
  •  assumes no exercise by the underwriters of their option to purchase up to          additional shares of our common stock in this offering.


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SUMMARY FINANCIAL DATA
 
The following tables present a summary of our historical financial information and operating data. You should read the following summary in conjunction with “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, all included elsewhere in this prospectus.
 
Historical dividends per share are presented as declared by the predecessor under its capital structure at that time. Shares of common stock of our predecessor are not equal to shares of common stock under our current capital structure and are not necessarily indicative of amounts that would have been received per share of common stock under our current capital structure.
 
                                                         
    For the Three Months
    For the Year Ended December 31,  
    Ended March 31,                             Predecessor(2)  
   
2010(1)
    2009(1)     2009(1)    
2008(1)
   
2007(1)
   
2006
   
2005
 
    (unaudited)                                
    (In thousands, except per share data)  
 
Consolidated statements of income data:
                                                       
Net revenues
  $ 743,406     $ 642,978     $ 2,749,505     $ 3,116,349     $ 2,716,574     $ 1,739,635     $ 1,406,320  
Total expenses
    698,690       616,193       2,676,938       3,023,584       2,608,741       1,684,769       1,290,570  
Income from continuing operations before provision for income taxes
    44,716       26,785       72,567       92,765       107,833       54,866       115,750  
Provision for income taxes
    19,162       11,988       25,047       47,269       46,764       21,224       46,461  
Income from continuing operations
    25,554       14,797       47,520       45,496       61,069       33,642       69,289  
Discontinued operations
                                        (26,200 )
Net income
    25,554       14,797       47,520       45,496       61,069       33,642       43,089  
Earnings per share
                                                       
Basic
  $ 0.29     $ 0.17     $ 0.54     $ 0.53     $ 0.72     $ 0.41     $ 0.52  
                                                         
Diluted
  $ 0.25     $ 0.15     $ 0.47     $ 0.45     $ 0.62     $ 0.35     $ 0.45  
                                                         
Pro forma net income per share (unaudited)(3)
                                                       
Basic
  $               $                                    
Diluted
  $               $                                  
 
                                                         
                As of December 31,  
    As of March 31,                             Predecessor(2)  
   
2010(1)
   
2009(1)
   
2009(1)
   
2008(1)
   
2007(1)
   
2006
   
2005
 
    (unaudited)                                
                (In thousands)                    
 
Consolidated statements of financial condition data:
                                                       
Cash and cash equivalents
  $ 324,761     $ 319,394     $ 378,594     $ 219,239     $ 188,003     $ 245,163     $ 134,592  
Total assets
    3,343,286       3,344,907       3,336,936       3,381,779       3,287,349       2,797,544       2,638,486  
Total debt(4)
    1,407,117       1,465,541       1,369,223       1,467,647       1,451,071       1,344,375       1,345,000  
 


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    As of and for the Three
  As of and for the Year Ended December 31,
    Months Ended March 31,                   Predecessor(2)
   
2010(1)
 
2009(1)
 
2009(1)
 
2008(1)
 
2007(1)
 
2006
 
2005
            (unaudited)            
 
Other financial and operating data:
                                                       
Adjusted EBITDA(5) (in thousands)
  $ 105,457     $ 81,948     $ 356,068     $ 350,171     $ 329,079     $ 247,912     $ 188,917  
Adjusted Net Income(5) (in thousands)
  $ 41,099     $ 25,311     $ 129,556     $ 108,863     $ 107,404     $ 65,372     $ 78,278  
Adjusted Net Income per share(5)
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08     $ 0.68     $ 0.82  
Number of advisors(6)
    12,026       12,294       11,950       11,920       11,089       7,006       6,481  
Advisory and brokerage assets(7) (in billions)
  $ 284.6     $ 231.7     $ 279.4     $ 233.9     $ 283.2     $ 164.7     $ 105.4  
Advisory assets under management (in billions)
  $ 81.0     $ 57.5     $ 77.2     $ 59.6     $ 73.9     $ 51.1     $ 38.4  
Insured cash account balances (in billions)
  $ 11.4     $ 12.0     $ 11.6     $ 11.2     $ 8.6     $ 5.8       n/a  
Money market account balances (in billions)
  $ 6.7     $ 10.8     $ 7.0     $ 11.2     $ 7.4     $ 3.5     $ 6.4  
 
(1) Financial results as of and for the years ended December 31, 2009, 2008 and 2007 and the quarters ended March 31, 2010 and 2009 include the acquisitions of UVEST Financial Services Group, Inc. (“UVEST”) (acquired on January 2, 2007), Pacific Select Group, LLC (renamed LPL Investment Advisory Services Group, LLC) and its wholly owned subsidiaries: Mutual Service Corporation (“MSC”), Associated Financial Group, Inc. (“AFG”), Associated Securities Corp. (“Associated”), Associated Planners Investment Advisory, Inc. (“APIA”) and Waterstone Financial Group, Inc. (“WFG”) (MSC, AFG, Associated, APIA and WFG are collectively referred to herein as the “Affiliated Entities”) (acquired on June 20, 2007) and IFMG Securities, Inc., Independent Financial Marketing Group, Inc. and LSC Insurance Agency of Arizona, Inc. (collectively “IFMG”) (acquired on November 7, 2007). Consequently, the financial results as of and for December 31, 2009, 2008 and 2007 and three months ended March 31, 2010 and 2009 may not be directly comparable to prior periods.
 
(2) On December 28, 2005, investment funds affiliated with the Majority Holders acquired a majority of our capital stock through a merger transaction. Activities as of December 28, 2005 and periods prior are those of the predecessor. Predecessor net revenues were $1,156 million, $908 million, $796 million, $739 million and $812 million for the years ended December 31, 2004, 2003, 2002, 2001 and 2000, respectively. Predecessor net income was $35.4 million, $16.4 million, $35.9 million, $38.1 million and $29.7 million for the years ended December 31, 2004, 2003, 2002, 2001 and 2000, respectively.
 
(3) The unaudited pro forma net income per share gives effect to: (i) the recognition of $      million of share-based compensation expense based on the number of restricted shares issued under our Fifth Amended and Restated 2000 Stock Bonus Plan multiplied by the assumed initial public offering price net of the related tax benefit, (ii) the sale by us of      shares of common stock (assuming the underwriters do not exercise their option to purchase additional shares) that we are offering at the assumed initial public offering price and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (iii) the use of proceeds from the sale by us of these shares to reduce amounts outstanding under our senior secured credit facilities. For purposes of this calculation, the assumed initial public offering price is $      per share, which is the midpoint of the range listed on the cover page of this prospectus.
 
(4) Total debt consists of our senior secured credit facilities, senior unsecured subordinated notes, revolving line of credit facility and bank loans payable.
 
(5) Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share have limitations as analytical tools and should not be considered in isolation, or as substitutes for analysis of our results as reported under accounting principles generally accepted in the United States (“GAAP”). Some of these limitations are:
 
  •  Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share do not reflect all cash expenditures, future requirements for capital expenditures or contractual commitments;
 
  •  Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share do not reflect changes in, or cash requirements for, working capital needs and

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  •  Adjusted EBITDA does not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our debt.
 
For a discussion of why we think these are useful measures of our operating performance, please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — How We Evaluate Growth.”
 
  The reconciliation from net income to Adjusted EBITDA and Adjusted Net Income for the periods presented is as follows (in thousands):
 
                                                         
    For the Three
                               
    Months
    For the Year Ended December 31,  
    Ended March 31,                             Predecessor(2)  
    2010     2009     2009     2008     2007     2006     2005  
    (unaudited)        
 
Net income
  $ 25,554     $ 14,797     $ 47,520     $ 45,496     $ 61,069     $ 33,642     $ 43,089  
Loss from discontinued operations
                                        26,200  
Interest expense
    24,336       25,941       100,922       115,558       122,817       125,103       1,388  
Income tax expense
    19,162       11,988       25,047       47,269       46,764       21,224       46,461  
Depreciation and amortization
    25,590       27,395       108,296       100,462       78,748       65,348       17,854  
                                                         
EBITDA
  $ 94,642     $ 80,121     $ 281,785     $ 308,785     $ 309,398     $ 245,317     $ 134,992  
EBITDA Adjustments:
                                                       
Share-based compensation
expense (a)
  $ 2,536     $ 1,225     $ 6,437     $ 4,160     $ 2,159     $ 2,878     $ 8,354  
Acquisition and integration related expenses (b)
    140       822       3,037       18,326       16,350       1,237       33,741  
Restructuring and conversion costs (c)
    7,979       (259 )     64,658       15,122                    
Other (d)
    160       39       151       3,778       1,172       (1,520 )     11,830  
                                                         
Adjusted EBITDA
  $ 105,457     $ 81,948     $ 356,068     $ 350,171     $ 329,079     $ 247,912     $ 188,917  
                                                         
                                                         
Net income
  $ 25,554     $ 14,797     $ 47,520     $ 45,496     $ 61,069     $ 33,642     $ 43,089  
After-Tax:
                                                       
EBITDA Adjustments (e)
    7,015       1,395       46,089       26,045       12,263       1,820       33,919  
Amortization of purchased intangible assets (e)(f)
    8,530       9,119       35,947       37,322       34,072       29,910       1,270  
                                                         
Adjusted Net Income
  $ 41,099     $ 25,311     $ 129,556     $ 108,863     $ 107,404     $ 65,372     $ 78,278  
                                                         
Adjusted Net Income per share (g)
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08     $ 0.68     $ 0.82  
Weighted average shares outstanding — diluted
    98,945       97,959       98,494       100,334       99,099       96,159       95,555  
 
(a) Represents share-based compensation for stock options awarded to employees and non-executive directors.
 
(b) Represents acquisition and integration costs primarily as a result of our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
(c) Represents organizational restructuring charges incurred in 2008 and 2009 for severance and one-time termination benefits, asset impairments, lease and contract termination fees and other transfer costs.
 
(d) Represents impairment charges in 2008 for our equity investment in Blue Frog Solutions, Inc. (“Blue Frog”) and in 2005 for our mortgage subsidiary Innovex Mortgage, Inc., which subsequently ceased operations on December 31, 2007, as well as other taxes and employment tax withholding related to a nonqualified deferred compensation plan.
 
(e) EBITDA Adjustments and amortization of purchased intangible assets, a component of depreciation and amortization, have been tax effected using a federal rate of 35.0% and the applicable effective state rate which ranged from 3.90% to 4.71%, net of the federal tax benefit.
 
(f) Represents amortization of intangible assets and software which were $59.6 million, $61.7 million, $56.1 million, $49.2 million and $2.1 million before taxes for the years ended December 31, 2009, 2008, 2007, 2006 and 2005, respectively, and were $14.1 million and $15.1 million before taxes for the three months ended March 31, 2010 and 2009, respectively. The amortization of intangible assets and software was a result of our purchase accounting adjustments from our merger transaction in 2005 with the Majority Holders and our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.


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(g) Represents Adjusted Net Income divided by weighted average number of shares outstanding on a fully diluted basis. Set forth is a reconciliation of earnings per share on a fully diluted basis as calculated in accordance with GAAP to Adjusted Net Income per share:
 
                                                         
    For the Three
       
    Months Ended
    For The Year Ended December 31,  
    March 31,                             Predecessor
 
    2010     2009     2009     2008     2007     2006     2005  
                      (unaudited)                    
 
Earnings per share (diluted)
  $ 0.25     $ 0.15     $ 0.47     $ 0.45     $ 0.62     $ 0.35     $ 0.45  
Adjustment for allocation of undistributed earnings to stock units
  $ 0.01     $ 0.01     $ 0.01     $     $     $     $  
After-Tax:
                                                       
EBITDA Adjustments per share
  $ 0.07     $ 0.01     $ 0.47     $ 0.26     $ 0.12     $ 0.02     $ 0.35  
Amortization of purchased intangible assets per share
  $ 0.09     $ 0.09     $ 0.37     $ 0.38     $ 0.34     $ 0.31     $ 0.02  
                                                         
Adjusted Net Income per share
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08     $ 0.68     $ 0.82  
                                                         
 
(6) Number of advisors is defined as those investment professionals who are licensed to do business with our broker-dealer subsidiaries. In 2009, we attracted record levels of new advisors due to the dislocation in the marketplace that impacted many of our competitors. This record recruitment was offset due to anticipated attrition related to the consolidation of the operations of the Affiliated Entities. Excluding this attrition, we added 750 net new advisors during 2009, representing 6.3% advisor growth.
 
(7) Advisory and brokerage assets are comprised of assets that are custodied, networked and non-networked and reflect market movement in addition to new assets, inclusive of new business development and net of attrition. Non-networked assets was not available in 2005 and accordingly, advisory and brokerage assets is comprised of custodied and networked accounts.


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RISK FACTORS
 
Investing in our common stock involves a high degree of risk. You should carefully consider the following risk factors, as well as the other information in this prospectus, before deciding to invest in our common stock. The occurrence of any of the following risks could harm our business, financial condition, results of operations or prospects. In that case, the trading price of our common stock could decline, and you may lose all or part of your investment.
 
Risks Related to Our Business and Industry
 
We depend on our ability to attract and retain experienced and productive advisors.
 
We derive a large portion of our revenues from commissions and fees generated by our advisors. Our ability to attract and retain experienced and productive advisors has contributed significantly to our growth and success, and our strategic plan is premised upon continued growth in the number of our advisors. If we fail to attract new advisors or to retain and motivate our current advisors, our business may suffer.
 
The market for experienced and productive advisors is highly competitive, and we devote significant resources to attracting and retaining the most qualified advisors. In attracting and retaining advisors, we compete directly with a variety of financial institutions such as wirehouses, regional broker-dealers, banks, insurance companies and other independent broker-dealers. If we are not successful in attracting or retaining highly qualified advisors, we may not be able to recover the expense involved in attracting and training these individuals. There can be no assurance that we will be successful in our efforts to attract and retain the advisors needed to achieve our growth objectives.
 
Our financial condition and results of operations may be adversely affected by market fluctuations and other economic factors.
 
Our financial condition and results of operations may be adversely affected by market fluctuations and other economic factors. Significant downturns and volatility in equity and other financial markets have had and could continue to have an adverse effect on our financial condition and results of operations.
 
General economic and market factors can affect our commission and fee revenue. For example, a decrease in market levels can:
 
  •  reduce new investments by both new and existing clients in financial products that are linked to the stock market, such as variable life insurance, variable annuities, mutual funds and managed accounts;
 
  •  reduce trading activity, thereby affecting our brokerage commissions;
 
  •  reduce the value of advisory and brokerage assets, thereby reducing asset-based fee income and
 
  •  motivate clients to withdraw funds from their accounts, reducing advisory and brokerage assets, advisory fee revenue and asset-based fee income.
 
In addition, because certain of our expenses are fixed, our ability to reduce them over short periods of time is limited, which could negatively impact our profitability.
 
Significant interest rate changes could affect our profitability and financial condition.
 
Our revenues are exposed to interest rate risk primarily from changes in the interest rates payable to us from banks participating in our cash sweep programs. In the current low interest rate environment, our revenue from our cash sweep program has declined and may decline further due to changes in interest rates or clients moving assets out of our cash sweep program. We may also be


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limited in the amount we can reduce interest rates payable to clients in our cash sweep program and still offer a competitive return.
 
Lack of liquidity or access to capital could impair our business and financial condition.
 
Liquidity, or ready access to funds, is essential to our business. We expend significant resources investing in our business, in particular with respect to our technology and service platforms. In addition, we must maintain certain levels of required capital. As a result, reduced levels of liquidity could have a significant negative effect on us. Some potential conditions that could negatively affect our liquidity include:
 
  •  illiquid or volatile markets;
 
  •  diminished access to debt or capital markets or
 
  •  unforeseen cash or capital requirements, adverse legal settlements or judgments (including, among others, risks associated with auction rate securities).
 
The capital and credit markets continue to experience varying degrees of volatility and disruption. In some cases, the markets have exerted downward pressure on availability of liquidity and credit capacity for businesses similar to ours. Without sufficient liquidity, we could be required to curtail our operations, and our business would suffer.
 
Notwithstanding the self-funding nature of our operations, we may sometimes be required to fund timing differences arising from the delayed receipt of funds associated with the settlement of transactions in securities markets. Historically, these timing differences were funded either with internally generated cash flow or, if needed, with funds drawn under short-term borrowing facilities, including both committed unsecured lines of credit and uncommitted lines of credit secured by client securities. LPL Financial, one of our broker-dealer subsidiaries, utilizes uncommitted lines secured by client securities to fund margin loans and other client transaction-related timing differences.
 
In the event current resources are insufficient to satisfy our needs, we may need to rely on financing sources such as bank debt. The availability of additional financing will depend on a variety of factors such as
 
  •  market conditions;
 
  •  the general availability of credit;
 
  •  the volume of trading activities;
 
  •  the overall availability of credit to the financial services industry;
 
  •  our credit ratings and credit capacity and
 
  •  the possibility that our stockholders, advisors or lenders could develop a negative perception of our long-or short-term financial prospects if the level of our business activity decreases due to a market downturn.
 
Similarly, our access to funds may be impaired if regulatory authorities or rating organizations take negative actions against us.
 
Disruptions, uncertainty or volatility in the capital and credit markets may also limit our access to capital required to operate our business. Such market conditions may limit our ability to satisfy statutory capital requirements, generate commission, fee and other market-related revenue to meet liquidity needs and access the capital necessary to grow our business. As such, we may be forced to delay raising capital, issue different types of capital than we would otherwise, less effectively deploy such capital or bear an unattractive cost of capital, which could decrease our profitability and significantly reduce our financial flexibility.


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If the counterparties to the derivative instruments we use to hedge our interest rate risk default, we may be exposed to risks we had sought to mitigate.
 
We use derivative instruments to hedge our interest rate risk. If our counterparties fail to honor their obligations under the derivative instruments, our hedges of the interest rate risk will be ineffective. That failure could have an adverse effect on our financial condition, results of operations and cash flows that could be material. For the names of key counterparties upon which we currently rely, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Interest Rate Risk.”
 
A loss of our marketing relationships with manufacturers of financial products could harm our relationship with our advisors and, in turn, their clients.
 
We operate on an open architecture product platform with no proprietary financial products. To help our advisors meet their clients’ needs with suitable investment options, we have relationships with most of the industry-leading providers of financial and insurance products. We have sponsorship agreements with some manufacturers of fixed and variable annuities and mutual funds that, subject to the survival of certain terms and conditions, may be terminated upon notice. If we lose our relationships with one or more of these manufacturers, our ability to serve our advisors and our business may be materially and adversely affected.
 
Risks Related to Our Regulatory Environment
 
Regulatory developments and our failure to comply with regulations could adversely affect our business by increasing our costs and exposure to litigation, affecting our reputation and making our business less profitable.
 
Our business is subject to extensive U.S. regulation and supervision, including securities and investment advisory services. The securities industry in the United States is subject to extensive regulation under both federal and state laws. Our broker-dealer subsidiary, LPL Financial, is:
 
  •  registered as a broker-dealer with the Securities and Exchange Commission (“SEC”), each of the 50 states, and the District of Columbia, Puerto Rico and the U.S. Virgin Islands;
 
  •  registered as an investment advisor with the SEC;
 
  •  a member of Financial Industry Regulatory Authority, Inc. (“FINRA”);
 
  •  regulated by the Commodities Future Trading Commission (“CFTC”) with respect to the futures and commodities trading activities it conducts as an introducing broker and
 
  •  a member of the Nasdaq Stock Market and the Chicago Stock Exchange.
 
Much of the regulation of broker-dealers has been delegated to self-regulatory organizations (“SROs”), namely FINRA and the Municipal Securities Rulemaking Board (“MSRB”). The primary regulators of LPL Financial are FINRA, and for municipal securities, the MSRB. The CFTC has designated the National Futures Association (“NFA”) as LPL Financial’s primary regulator for futures and commodities trading activities.
 
The SEC, FINRA, CFTC, Office of the Comptroller of the Currency (“OCC”), various securities and futures exchanges and other U.S. governmental or regulatory authorities continuously review legislative and regulatory initiatives and may adopt new or revised laws and regulations. There can also be no assurance that other federal or state agencies will not attempt to further regulate our business. These legislative and regulatory initiatives may affect the way in which we conduct our business and may make our business model less profitable.
 
Our ability to conduct business in the jurisdictions in which we currently operate depends on our compliance with the laws, rules and regulations promulgated by federal regulatory bodies and the regulatory authorities in each of these jurisdictions. Our ability to comply with all applicable laws, rules


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and regulations is largely dependent on our establishment and maintenance of compliance, audit and reporting systems and procedures, as well as our ability to attract and retain qualified compliance, audit and risk management personnel. While we have adopted policies and procedures reasonably designed to comply with all applicable laws, rules and regulations, these systems and procedures may not be fully effective, and there can be no assurance that regulators or third parties will not raise material issues with respect to our past or future compliance with applicable regulations.
 
Our profitability could also be affected by rules and regulations that impact the business and financial communities generally and, in particular, our advisors’ clients, including changes to the laws governing taxation (including the classification of independent contractor status of our advisors), electronic commerce, privacy and data protection. Failure to comply with new rules and regulations could subject us to regulatory actions or litigation and it could have a material adverse effect on our business, results of operations, cash flows or financial condition. In addition, new rules and regulations could result in limitations on the lines of business we conduct, modifications to our business practices, increased capital requirements or additional costs.
 
We are subject to various regulatory ownership requirements, which, if not complied with, could result in the restriction of the ongoing conduct, growth, or even liquidation of parts of our business.
 
The business activities that we may conduct are limited by various regulatory agencies. Our membership agreement with FINRA may be amended by application to include additional business activities. This application process is time-consuming and may not be successful. As a result, we may be prevented from entering new potentially profitable businesses in a timely manner, or at all. In addition, as a member of FINRA, we are subject to certain regulations regarding changes in control of our ownership. Rule 1017 of the National Association of Securities Dealers (“NASD”) generally provides, among other things, that FINRA approval must be obtained in connection with any transaction resulting in a change in our equity ownership that results in one person or entity directly or indirectly owning or controlling 25% or more of our equity capital. Similarly, the OCC imposes advance approval requirements for a change of control, and control is presumed to exist if a person acquires 10% or more of our common stock. These regulatory approval processes can result in delay, increased costs and/or impose additional transaction terms in connection with a proposed change of control, such as capital contributions to the regulated entity. As a result of these regulations, our future efforts to sell shares or raise additional capital may be delayed or prohibited.
 
We are subject to various regulatory capital requirements, which, if not complied with, could result in the restriction of the ongoing conduct, growth, or even liquidation of parts of our business.
 
The SEC, FINRA, CFTC, OCC and NFA have extensive rules and regulations with respect to capital requirements. As a registered broker-dealer, LPL Financial is subject to Rule 15c3-1 (“Uniform Net Capital Rule”) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and related SRO requirements. The CFTC and NFA also impose net capital requirements. The Uniform Net Capital Rule specifies minimum capital requirements that are intended to ensure the general soundness and liquidity of broker-dealers. Because we are not a registered broker-dealer, we are not subject to the Uniform Net Capital Rule. However, our ability to withdraw capital from our broker-dealer subsidiaries could be restricted, which in turn could limit our ability to repay debt and redeem or purchase shares of our outstanding stock. A large operating loss or charge against net capital could adversely affect our ability to expand or even maintain our present levels of business.
 
Failure to comply with ERISA regulations could result in penalties against us.
 
We are subject to the Employee Retirement Income Security Act of 1974, as amended (“ERISA”) and Sections 4975(c)(1)(A), (B), (C) and (D) of the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”), and to regulations promulgated thereunder, insofar as we act


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as a “fiduciary” under ERISA with respect to benefit plan clients or otherwise deal with benefit plan clients. ERISA and applicable provisions of the Internal Revenue Code impose duties on persons who are fiduciaries under ERISA, prohibit specified transactions involving ERISA plan clients (including, without limitation, employee benefit plans (as defined in Section 3(3) of ERISA), individual retirement accounts and Keogh plans) and impose monetary penalties for violations of these prohibitions. Our failure to comply with these requirements could result in significant penalties against us that could have a material adverse effect on our business (or, in a worst case, severely limit the extent to which we could act as fiduciaries for any plans under ERISA).
 
Risks Related to Our Competition
 
We operate in an intensely competitive industry, which could cause us to lose advisors and their assets, thereby reducing our revenues and net income.
 
We are subject to competition in all aspects of our business, including competition for our advisors and their clients, from:
 
  •  asset management firms;
 
  •  commercial banks and thrift institutions;
 
  •  insurance companies;
 
  •  other clearing/custodial technology companies and
 
  •  brokerage and investment banking firms.
 
Many of our competitors have substantially greater resources than we do and may offer a broader range of services, including financial products, across more markets. Some operate in a different regulatory environment than we do which may give them certain competitive advantages in the services they offer. For example, certain of our competitors only provide clearing services and consequently would not have any supervision or oversight liability relating to actions of their financial advisors. We believe that competition within our industry will intensify as a result of consolidation and acquisition activity and because new competitors face few barriers to entry.
 
If we fail to continue to attract highly qualified advisors or advisors licensed with us leave us to pursue other opportunities, or if current or potential clients of our advisors decide to use one of their competitors, we could face a significant decline in market share, commission and fee revenues and net income. If we are required to increase our payout of commissions and fees to our advisors in order to remain competitive, our net income could be significantly reduced.
 
Poor service or performance of the financial products that we offer or competitive pressures on pricing of such services or products may cause clients of our advisors to withdraw their assets on short notice.
 
Clients of our advisors control their assets under management with us. Poor service or performance of the financial products that we offer or competitive pressures on pricing of such services or products may result in the loss of accounts. In addition, we must monitor the pricing of our services and financial products in relation to competitors and periodically may need to adjust commission and fee rates, interest rates on deposits and margin loans and other fee structures to remain competitive. Competition from other financial services firms, such as reduced commissions to attract clients or trading volume or higher deposit rates to attract client cash balances, could adversely impact our business. The decrease in revenue that could result from such an event could have a material adverse effect on our business.


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We face competition in attracting and retaining key talent.
 
Our success and future growth depends upon our ability to attract and retain qualified employees. There is significant competition for qualified employees in the broker-dealer industry. We may not be able to retain our existing employees or fill new positions or vacancies created by expansion or turnover. The loss or unavailability of these individuals could have a material adverse effect on our business.
 
Moreover, our success depends upon the continued services of our key senior management personnel, including our executive officers and senior managers. The loss of one or more of our key senior management personnel, and the failure to recruit a suitable replacement or replacements, could have a material adverse effect on our business.
 
Risks Related to Our Debt
 
Our indebtedness could adversely affect our financial health and may limit our ability to use debt to fund future capital needs.
 
At March 31, 2010, we had total indebtedness of $1.4 billion. Following this initial public offering, we expect to have total indebtedness of $     .
 
Our level of indebtedness could increase our vulnerability to general adverse economic and industry conditions. It could also require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate purposes. In addition, our level of indebtedness may limit our flexibility in planning for changes in our business and the industry in which we operate, place us at a competitive disadvantage compared to our competitors that have less debt and limit our ability to borrow additional funds.
 
Our ability to make scheduled payments on or to refinance indebtedness obligations depends on our financial condition and operating performance, which are subject to prevailing economic and competitive conditions and to certain financial, business and other factors beyond our control.
 
We may not be able to maintain a level of cash flows from operating activities sufficient to permit us to pay the principal, premium, if any, and interest on our indebtedness. In addition, as discussed above, we are limited in the amount of capital that we can draw from our broker-dealer subsidiaries. If our cash flows and capital resources are insufficient to fund our debt service obligations, we could face substantial liquidity problems and could be forced to sell assets, seek additional capital or seek to restructure or refinance our indebtedness. These alternative measures may not be successful or feasible. Our senior secured credit agreement restricts our ability to sell assets. Even if we could consummate those sales, the proceeds that we realize from them may not be adequate to meet any debt service obligations then due. Furthermore, if an event of default were to occur with respect to our senior secured credit agreement or other indebtedness, our creditors could, among other things, accelerate the maturity of our indebtedness.
 
In addition, as a result of reduced operating performance or weaker than expected financial condition, rating agencies could downgrade our senior unsecured subordinated notes, which would adversely affect the value of shares of our common stock.
 
Our senior secured credit agreement permits us to incur additional indebtedness. Although our senior secured credit agreement contains restrictions on the incurrence of additional indebtedness, these restrictions are subject to a number of significant qualifications and exceptions, and the indebtedness incurred in compliance with these restrictions could be substantial. Also, these restrictions do not prevent us from incurring obligations that do not constitute “indebtedness” as defined in our senior secured credit agreement. To the extent new debt or other obligations are added to our currently anticipated debt levels, the substantial indebtedness risks described above would increase.


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Restrictions under certain of our indebtedness may prevent us from taking actions that we believe would be in the best interest of our business.
 
Certain of our indebtedness contain customary restrictions on our activities, including covenants that may restrict us from:
 
  •  incurring additional indebtedness or issuing disqualified stock or preferred stock;
 
  •  paying dividends on, redeeming or repurchasing our capital stock;
 
  •  making investments or acquisitions;
 
  •  creating liens;
 
  •  selling assets;
 
  •  restricting dividends or other payments to us;
 
  •  guaranteeing indebtedness;
 
  •  engaging in transactions with affiliates and
 
  •  consolidating, merging or transferring all or substantially all of our assets.
 
We are also required to meet specified financial ratios. These restrictions may prevent us from taking actions that we believe would be in the best interest of our business. Our ability to comply with these restrictive covenants will depend on our future performance, which may be affected by events beyond our control. If we violate any of these covenants and are unable to obtain waivers, we would be in default under the applicable agreements and payment of the indebtedness could be accelerated. The acceleration of our indebtedness under one agreement may permit acceleration of indebtedness under other agreements that contain cross-default or cross-acceleration provisions. If our indebtedness is accelerated, we may not be able to repay that indebtedness or borrow sufficient funds to refinance it. Even if we are able to obtain new financing, it may not be on commercially reasonable terms or on terms that are acceptable to us. If our indebtedness is in default for any reason, our business could be materially and adversely affected. In addition, complying with these covenants may also cause us to take actions that are not favorable to holders of the common stock and may make it more difficult for us to successfully execute our business strategy and compete against companies that are not subject to such restrictions.
 
Provisions of our senior secured credit agreement could discourage an acquisition of us by a third party.
 
Certain provisions of our senior secured credit agreement could make it more difficult or more expensive for a third party to acquire us, and any of our future debt agreements may contain similar provisions. Upon the occurrence of certain transactions constituting a change of control, all indebtedness under our senior secured credit agreement may be accelerated and become due and payable. A potential acquirer may not have sufficient financial resources to purchase our outstanding indebtedness in connection with a change of control.
 
Risks Related to Our Technology
 
We rely on technology in our business, and technology and execution failures could subject us to losses, litigation and regulatory actions.
 
Our business relies extensively on electronic data processing and communications systems. In addition to better serving our advisors and clients, the effective use of technology increases efficiency and enables firms like ours to reduce costs. Our continued success will depend, in part, upon:
 
  •  our ability to successfully maintain and upgrade the capability of our systems;


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  •  our ability to address the needs of our advisors and their clients by using technology to provide products and services that satisfy their demands and
 
  •  our ability to retain skilled information technology employees.
 
Failure of our systems, which could result from events beyond our control, or an inability to effectively upgrade those systems or implement new technology-driven products or services, could result in financial losses, liability to clients and damage to our reputation.
 
Our operations rely on the secure processing, storage and transmission of confidential and other information in our computer systems and networks. Although we take protective measures and endeavor to modify them as circumstances warrant, the computer systems, software and networks may be vulnerable to unauthorized access, computer viruses or other malicious code and other events that could have a security impact. If one or more of these events occur, this could jeopardize our own, our advisors’ or their clients’ or counterparties’ confidential and other information processed, stored in and transmitted through our computer systems and networks, or otherwise cause interruptions or malfunctions in our own, our advisors’ or their clients’, our counterparties’ or third parties’ operations. We may be required to expend significant additional resources to modify our protective measures, to investigate and remediate vulnerabilities or other exposures or to make required notifications, and we may be subject to litigation and financial losses that are either not insured or are not fully covered through any insurance we maintain.
 
The securities settlement process exposes us to risks that may expose our advisors and us to adverse movements in price.
 
LPL Financial, one of our subsidiaries, provides clearing services and trade processing for our advisors and their clients and certain financial institutions. Broker-dealers that clear their own trades are subject to substantially more regulatory requirements than brokers that outsource these functions to third-party providers. Errors in performing clearing functions, including clerical, technological and other errors related to the handling of funds and securities held by us on behalf of clients, could lead to censures, fines or other sanctions imposed by applicable regulatory authorities as well as losses and liability in related lawsuits and proceedings brought by our advisors’ clients and others. Any unsettled securities transactions or wrongly executed transactions may expose our advisors and us to adverse movements in the prices of such securities.
 
Our networks may be vulnerable to security risks.
 
The secure transmission of confidential information over public networks is a critical element of our operations. As part of our normal operations, we maintain and transmit confidential information about clients of our advisors as well as proprietary information relating to our business operations. Our application service provider systems maintain and process confidential data on behalf of advisors and their clients, some of which is critical to our advisors’ business operations. If our application service provider systems are disrupted or fail for any reason, or if our systems or facilities are infiltrated or damaged by unauthorized persons, our advisors could experience data loss, financial loss, harm to reputation and significant business interruption. If such a disruption or failure occurs, we may be exposed to unexpected liability, advisors may withdraw their assets, our reputation may be tarnished and there could be a material adverse effect on our business.
 
Our networks may be vulnerable to unauthorized access, computer viruses and other security problems in the future. We rely on our advisors to comply with our policies and procedures to safeguard confidential data. The failure of our advisors to comply with such policies and procedures could result in the loss or wrongful use of their clients’ confidential information or other sensitive information. In addition, even if we and our advisors comply with our policies and procedures, persons who circumvent security measures could wrongfully use our confidential information or clients’


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confidential information or cause interruptions or malfunctions in our operations. Such loss or use could, among other things:
 
  •  seriously damage our reputation;
 
  •  allow competitors access to our proprietary business information;
 
  •  subject us to liability for a failure to safeguard client data;
 
  •  result in the termination of relationships with our advisors;
 
  •  subject us to regulatory sanctions or burdens, based on the authority of the SEC and FINRA to enforce regulations regarding business continuity planning and
 
  •  require significant capital and operating expenditures to investigate and remediate the breach.
 
Failure to maintain technological capabilities, flaws in existing technology, difficulties in upgrading our technology platform or the introduction of a competitive platform could have a material adverse effect on our business.
 
We depend on highly specialized and, in many cases, proprietary technology to support our business functions, including among others:
 
  •  securities trading and custody;
 
  •  portfolio management;
 
  •  customer service;
 
  •  accounting and internal financial processes and controls and
 
  •  regulatory compliance and reporting.
 
In addition, our continued success depends on our ability to effectively adopt new or adapt existing technologies to meet client, industry and regulatory demands. We might be required to make significant capital expenditures to maintain competitive technology. For example, we believe that our technology platform, particularly our BranchNet system, is one of our competitive strengths, and our future success will depend in part on our ability to anticipate and adapt to technological advancements required to meet the changing demands of our advisors. The emergence of new industry standards and practices could render our existing systems obsolete or uncompetitive. Any upgrades or expansions may require significant expenditures of funds and may also cause us to suffer system degradations, outages and failures. There cannot be any assurance that we will have sufficient funds to adequately update and expand our networks, nor can there be any assurance that any upgrade or expansion attempts will be successful and accepted by our current and prospective advisors. If our technology systems were to fail and we were unable to recover in a timely way, we would be unable to fulfill critical business functions, which could lead to a loss of advisors and could harm our reputation. A technological breakdown could also interfere with our ability to comply with financial reporting and other regulatory requirements, exposing us to disciplinary action and to liability to our advisors and their clients. There cannot be any assurance that another company will not design a similar platform that affects our competitive advantage.
 
Inadequacy or disruption of our disaster recovery plans and procedures in the event of a catastrophe could adversely affect our business.
 
We have made a significant investment in our infrastructure, and our operations are dependent on our ability to protect the continuity of our infrastructure against damage from catastrophe or natural disaster, breach of security, loss of power, telecommunications failure or other natural or man-made events. A catastrophic event could have a direct negative impact on us by adversely affecting our advisors, employees or facilities, or an indirect impact on us by adversely affecting the financial markets or the overall economy. While we have implemented business continuity and disaster


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recovery plans and maintain business interruption insurance, it is impossible to fully anticipate and protect against all potential catastrophes. If our business continuity and disaster recovery plans and procedures were disrupted or unsuccessful in the event of a catastrophe, we could experience a material adverse interruption of our operations.
 
We rely on outsourced service providers to perform key functions.
 
We rely on outsourced service providers to perform certain key technology, processing and support functions. For example, we have an agreement with Thomson Reuters BETA Systems, a division of Thomson Reuters, under which they provide us operational support, including data processing services for securities transactions and back office processing support. Any significant failures by these service providers could cause us to incur losses and could harm our reputation. If we had to change these service providers, we would experience a disruption to our business. Although we believe we have the resources to make such transitions with minimal disruption, we cannot predict the costs and time for such conversions. We cannot provide any assurance that the disruption caused by a change in our service providers would not have a material adverse affect on our business.
 
Risks Related to Our Business Generally
 
Any damage to our reputation could harm our business and lead to a loss of revenues and net income.
 
We have spent many years developing our reputation for integrity and superior client service, which is built upon our four pillars of support for our advisors: enabling technology, comprehensive clearing and compliance services, practice management programs and training, and independent research. Our ability to attract and retain advisors and employees is highly dependent upon external perceptions of our level of service, business practices and financial condition. 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 and
 
  •  unethical behavior and the misconduct of employees, advisors or counterparties.
 
Negative perceptions or publicity regarding these matters could damage our reputation among existing and potential advisors and employees. 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. These occurrences could lead to loss of revenue and net income.
 
Our business is subject to risks related to litigation, arbitration actions and governmental and SRO investigations.
 
We are subject to legal proceedings arising out of our business operations, including lawsuits, arbitration claims, regulatory, governmental or SRO subpoenas, investigations and actions and other claims. Many of our legal claims are client initiated and involve the purchase or sale of investment securities. In our investment advisory programs, we have fiduciary obligations that require us and our advisors to act in the best interests of our advisors’ clients. We may face liabilities for actual or alleged breaches of legal duties to our advisors’ clients, in respect of issues related to the suitability of the financial products we make available in our open architecture product platform or the investment advice of our advisors based on their clients’ investment objectives (including, for example, auction rate securities or exchange traded funds). In addition, we, along with other industry participants, are subject to risks related to litigation and settlements arising from market events such as the failures in the auction rate securities market. We may also become subject to claims, allegations and legal


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proceedings that we infringe or misappropriate intellectual property or other proprietary rights of others. In addition, we may be subject to legal proceedings related to employment matters, including wage and hour, discrimination or harassment claims. The outcome of any such actions cannot be predicted, and a negative outcome in such a proceeding could result in substantial legal liability, loss of intellectual property rights and injunctive or other equitable relief against us. Further, such outcome may cause us significant reputational harm and could have a material adverse effect on our business, results of operations, cash flows or financial condition.
 
Our risk management policies and procedures may not be fully effective in mitigating our risk exposure in all market environments or against all types of risks.
 
We have adopted policies and procedures to identify, monitor and manage our operational risk. These policies and procedures, however, may not be fully effective. Some of our risk evaluation methods depend upon information provided by others and public information regarding markets, clients or other matters that are otherwise accessible by us. In some cases, however, that information may not be accurate, complete or up-to-date. Also, because our advisors work in small, decentralized offices, additional risk management challenges may exist. If our policies and procedures are not fully effective or we are not always successful in capturing all risks to which we are or may be exposed, we may suffer harm to our reputation or be subject to litigation or regulatory actions that could have a material adverse effect on our business and financial condition.
 
Misconduct and errors by our employees and our advisors, who operate in a decentralized-environment, could harm our business.
 
Misconduct and errors by our employees and our advisors could result in violations of law by us, regulatory sanctions and/or serious reputational or financial harm. We cannot always prevent misconduct and errors by our employees and our advisors, and the precautions we take to prevent and detect these activities may not be effective in all cases. Prevention and detection among our advisors, who are not our direct employees and some of whom tend to be located in small, decentralized offices, present additional challenges. There cannot be any assurance that misconduct and errors by our employees and advisors will not lead to a material adverse effect on our business.
 
Our insurance coverage may be inadequate or expensive.
 
We are subject to claims in the ordinary course of business. These claims may involve substantial amounts of money and involve significant defense costs. It is not always possible to prevent or detect activities giving rise to claims, and the precautions we take may not be effective in all cases.
 
We maintain voluntary and required insurance coverage, including, among others, general liability, property, director and officer, excess-SIPC, business interruption, errors and omissions, excess entity errors and omissions and fidelity bond insurance. Recently, premium and deductible costs associated with certain insurance coverages have increased, coverage terms have become more restrictive and the number of insurers has decreased. While we endeavor to purchase coverage that is appropriate to our assessment of our risk, we are unable to predict with certainty the frequency, nature or magnitude of claims for direct or consequential damages. Our business may be negatively affected if in the future our insurance proves to be inadequate or unavailable. In addition, insurance claims may harm our reputation or divert management resources away from operating our business.
 
Our business could be materially adversely affected as a result of the risks associated with acquisitions and investments.
 
We may seek to opportunistically acquire businesses that offer complementary products, services or technologies. These acquisitions are accompanied by risks. For instance, the acquisition could have a negative effect on our financial and strategic position and reputation or the acquired


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business could fail to further our strategic goals. We could incur significant costs when integrating an acquired business and may not be successful in doing so. We may have a lack of experience in new markets, products or technologies brought on by the acquisition and we may have an initial dependence on unfamiliar supply or distribution partners. The acquisition may create an impairment of relationships with customers or suppliers of the acquired business or our advisors or suppliers. All of these and other potential risks may serve as a diversion of our management’s attention from other business concerns and any of these factors could have a material adverse effect on our business.
 
Changes in U.S. federal income tax law could make some of the products distributed by our advisors less attractive to clients.
 
Some of the financial products distributed by our advisors, such as variable annuities, enjoy favorable treatment under current U.S. federal income tax law. Changes in U.S. federal income tax law, in particular with respect to variable annuity products or with respect to tax rates on capital gains or dividends, could make some of these products less attractive to clients and, as a result, could have a material adverse effect on our business, results of operations, cash flows or financial condition.
 
Risks Related to this Offering and Ownership of Our Common Stock
 
The Majority Holders will have the ability to control the outcome of matters submitted for stockholder approval and may have interests that differ from those of our other stockholders.
 
Investment funds affiliated with the Majority Holders own a majority of our capital stock, on a fully-diluted basis, as of March 31, 2010. After the completion of this offering, the Majority Holders will own approximately     % of our common stock, or     % on a fully diluted basis. The Majority Holders have significant influence over corporate transactions. So long as investment funds associated with or designated by the Majority Holders continue to own a significant amount of the outstanding shares of our common stock, even if such amount is less than 50%, the Majority Holders will continue to be able to strongly influence or effectively control our decisions, regardless of whether or not other stockholders believe that the transaction is in their own best interests. Such concentration of voting power could also have the effect of delaying, deterring or preventing a change of control or other business combination that might otherwise be beneficial to our stockholders. If the Majority Holders enter into a change in control transaction, certain members of our executive team have the contractual ability to terminate their employment within the thirty day period immediately following the twelve month anniversary of a change in control and receive severance payments.
 
In addition, the Majority Holders and their affiliates are in the business of making investments in companies and may, from time to time in the future, acquire interests in businesses that directly or indirectly compete with certain portions of our business. To the extent the Majority Holders invest in such other businesses, the Majority Holders may have differing interests than our other stockholders. The Majority Holders may also pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us.
 
An active trading market for our common stock may not develop.
 
Prior to this offering, there has been no public market for our common stock. Although we plan to apply to have our common stock listed on the NASDAQ Global Select Market, an active trading market for our shares may never develop or be sustained following this offering. If the market does not develop or is not sustained, it may be difficult for you to sell your shares of common stock at a price that is attractive to you or at all. In addition, an inactive market may impair our ability to raise capital by selling shares and may impair our ability to acquire other companies by using our shares as consideration, which, in turn, could materially adversely affect our business.


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The price of our common stock may be volatile and fluctuate substantially, which could result in substantial losses for investors purchasing shares in this offering.
 
The initial public offering price for the shares of our common stock sold in this offering will be determined by negotiation between the representatives of the underwriters and us. This price may not reflect the market price of our common stock following this offering. In addition, the market price of our common stock is likely to be highly volatile and may fluctuate substantially due to the following factors (in addition to the other risk factors described in this section):
 
  •  actual or anticipated fluctuations in our results of operations;
 
  •  variance in our financial performance from the expectations of equity research analysts;
 
  •  conditions and trends in the markets we serve;
 
  •  announcements of significant new services or products by us or our competitors;
 
  •  additions or changes to key personnel;
 
  •  the commencement or outcome of litigation;
 
  •  changes in market valuation or earnings of our competitors;
 
  •  the trading volume of our common stock;
 
  •  future sale of our equity securities;
 
  •  changes in the estimation of the future size and growth rate of our markets;
 
  •  legislation or regulatory policies, practices or actions and
 
  •  general economic conditions.
 
In addition, the stock markets in general have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of the particular companies affected. These broad market and industry factors may materially harm the market price of our common stock irrespective of our operating performance. As a result of these factors, you might be unable to resell your shares at or above the initial public offering price after this offering. In addition, in the past, following periods of volatility in the overall market and the market price of a company’s securities, securities class action litigation has often been instituted against the affected company. This type of litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.
 
We are a holding company and rely on dividends, distributions and other payments, advances and transfers of funds from our subsidiaries to meet our debt service and other obligations.
 
We have no direct operations and derive all of our cash flow from our subsidiaries. Because we conduct our operations through our subsidiaries, we depend on those entities for dividends and other payments or distributions to meet any existing or future debt service and other obligations. The deterioration of the earnings from, or other available assets of, our subsidiaries for any reason could limit or impair their ability to pay dividends or other distributions to us. In addition, FINRA regulations restrict dividends in excess of 10% of a member firm’s excess net capital without FINRA’s prior approval. Compliance with this regulation may impede our ability to receive dividends from LPL Financial.
 
We currently do not intend to pay dividends on our common stock and, consequently, your only opportunity to achieve a return on your investment is if the price of our common stock appreciates.
 
Following the completion of this offering, we do not anticipate that we will pay any cash dividends on shares of our common stock for the foreseeable future. Furthermore, our senior secured


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credit agreement places substantial restrictions on our ability to pay cash dividends. Any determination to pay dividends in the future will be at the discretion of our board of directors and will depend on results of operations, financial condition, contractual restrictions, restrictions imposed by applicable law and other factors our board of directors deems relevant. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock. Please see the section titled “Dividend Policy” for additional information.
 
Upon expiration of lock-up agreements between the underwriters and our officers, directors and certain holders of our common stock, a substantial number of shares of our common stock could be sold into the public market shortly after this offering, which could depress our stock price.
 
Our officers, directors and certain holders of our common stock have entered into lock-up agreements with our underwriters which prohibit, subject to certain limited exceptions, the disposal or pledge of, or the hedging against, any of their common stock or securities convertible into or exchangeable for shares of common stock for a period through the date 180 days after the date of this prospectus, subject to extension in certain circumstances. In addition, certain holders who receive shares of common stock upon vesting of their restricted stock in connection with the initial public offering will be restricted from transferring such shares until the earlier of 180 days after the initial public offering and March 15, 2011. Our Stockholders Agreement also restricts the parties thereto from transferring their shares of common stock or any securities convertible into or exchangeable or exercisable for shares of common stock until 180 days after the effective date of the registration statement. The market price of our common stock could decline as a result of sales by our existing stockholders in the market after this offering and after the expiration of these lock-up periods, or the perception that these sales could occur. Once a trading market develops for our common stock, and after these lock-up periods expire, many of our stockholders will have an opportunity to sell their stock for the first time. These factors could also make it difficult for us to raise additional capital by selling stock. Please see the section titled “Shares Eligible for Future Sale” for additional information regarding these factors.
 
Our management will have broad discretion over the use of the proceeds we receive in this offering and might not apply the proceeds in ways that increase the value of your investment.
 
Our management will have broad discretion to use the net proceeds from this offering, and you will be relying on the judgment of our management regarding the application of these proceeds. They might not apply the net proceeds of this offering in ways that increase the value of your investment. We expect to use all of the net proceeds from this offering to repay a portion of the term loans under our senior secured credit facilities. Our management might not be able to yield any return on the investment and use of these net proceeds. You will not have the opportunity to influence our decisions on how to use the proceeds.
 
Anti-takeover provisions in our certificate of incorporation and bylaws could prevent or delay a change in control of our company.
 
Our certificate of incorporation and our bylaws contain certain provisions that may discourage, delay or prevent a change in our management or control over us that stockholders may consider favorable, including the following, some of which may only become effective when the Majority Holders collectively own less than 40% of our outstanding shares of common stock:
 
  •  the division of our board of directors into three classes and the election of each class for three-year terms;
 
  •  the sole ability of the board of directors to fill a vacancy created by the expansion of the board of directors;


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  •  advance notice requirements for stockholder proposals and director nominations;
 
  •  limitations on the ability of stockholders to call special meetings and to take action by written consent;
 
  •  when the Majority Holders collectively own 50% or less of our outstanding shares of common stock, the approval of holders of at least two-thirds of the shares entitled to vote generally on the making, alteration, amendment or repeal of our certificate of incorporation or bylaws, will be required to adopt, amend or repeal our bylaws, or amend or repeal certain provisions of our certificate of incorporation;
 
  •  the required approval of holders of at least two-thirds of the shares entitled to vote at an election of the directors to remove directors and, following the classification of the board of directors, removal only for cause and
 
  •  the ability of our board of directors to designate the terms of and issue new series of preferred stock, without stockholder approval, which could be used to institute a rights plan, or a poison pill, that would work to dilute the stock ownership or a potential hostile acquirer, likely preventing acquisitions that have not been approved by our board of directors.
 
The existence of the foregoing provisions and anti-takeover measures could limit the price that investors might be willing to pay in the future for shares of our common stock. They could also deter potential acquirers of our company, thereby reducing the likelihood that you could receive a premium for your common stock in the acquisition. For more information, please see the section titled “Description of Capital Stock.”
 
If securities or industry analysts do not publish research or reports or publish unfavorable research or reports about our business, our stock price and trading volume could decline.
 
The trading market for our common stock will depend in part on the research and reports that securities or industry analysts publish about us, our business, our market or our competitors. We may not obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of our company, the trading price for our stock could be negatively impacted. In the event we obtain securities or industry analyst coverage, if one or more of the analysts who covers us publishes unfavorable research or reports or downgrades our stock, our stock price would likely decline. If one or more of these analysts ceases to cover us or fails to regularly publish reports on us, interest in our stock could decrease, which could cause our stock price or trading volume to decline.


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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
 
This prospectus, including the sections titled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” and the documents incorporated by reference contain forward-looking statements. Forward-looking statements convey our current expectations or forecasts of future events. All statements contained in this prospectus other than statements of historical fact are forward-looking statements. Forward-looking statements include statements regarding our future financial position, business strategy, budgets, projected costs, plans and objectives of management for future operations. The words “may,” “might,” “should,” “predict,” “potential,” “continue,” “estimate,” “intend,” “plan,” “will,” “believe,” “project,” “expect,” “seek,” “anticipate” and similar expressions may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking.
 
Any or all of our forward-looking statements in this prospectus may turn out to be inaccurate. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. There are important factors that could cause our actual results, level of activity, performance or achievements to differ materially from the results, level of activity, performance or achievements expressed or implied by the forward looking statements including, but not limited to, changes in general economic and financial market conditions, fluctuations in the value of assets under management, effects of competition in the financial services industry, changes in the number of our advisors and their ability to effectively market financial products and services, the effect of current, pending and future legislation and regulation and regulatory actions. In particular, you should consider the numerous risks described in the “Risk Factors” section of this prospectus.
 
Although we believe the expectations reflected in the forward looking statements are reasonable, we cannot guarantee future results, level of activity, performance or achievements. In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this prospectus may not occur as contemplated, and actual results could differ materially from those anticipated or implied by the forward-looking statements.
 
You should not unduly rely on these forward-looking statements, which speak only as of the date of this prospectus. Unless required by law, we undertake no obligation to publicly update or revise any forward-looking statements to reflect new information or future events or otherwise. You should, however, review the factors and risks we describe in the reports we will file from time to time with the SEC after the date of this prospectus. See “Where You Can Find Additional Information.”


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USE OF PROCEEDS
 
We estimate that the net proceeds of the sale of the common stock that we are offering will be approximately $      million, or $      million if the underwriters exercise their option to purchase additional shares in full, assuming an initial public offering price of $      per share, which is the midpoint of the range listed on the cover page of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. We will not receive any proceeds from the sale of shares of common stock by the selling stockholders.
 
We expect to use all of the net proceeds from this offering received by us to repay a portion of the term loans under our senior secured credit facilities.
 
We currently have three term loan tranches under our senior secured credit facilities — a term loan tranche of $317.1 million maturing on June 28, 2013 (the “2013 Term Loans”), a term loan tranche of $500.0 million maturing on June 25, 2015 (the “2015 Term Loans”) and a term loan tranche of $580.0 million maturing on June 28, 2017 (the “2017 Term Loans). We used the proceeds of the 2017 Term Loans, which we incurred in May 2010, together with cash on hand, to repay all of our then-outstanding senior unsecured subordinated notes due 2015.
 
The applicable margin for borrowings with respect to the (a) 2013 Term Loans is currently 0.75% for base rate borrowings and 1.75% for LIBOR borrowings, (b) 2015 Term Loans is currently 1.75% for base rate borrowings and 2.75% for LIBOR borrowings, and (c) 2017 Term Loans is currently 2.75% for base rate borrowings and 3.75% for LIBOR borrowings.
 
We have not yet determined how we will allocate the reduction of indebtedness among our term loan tranches. Management will retain broad discretion in the allocation and use of the net proceeds to us from this offering, and determine the allocation of the net proceeds to repay indebtedness following the completion of this offering based on a number of factors, including remaining maturity, applicable interest rates, outstanding balance and ability to reborrow.


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DIVIDEND POLICY
 
We have not paid any dividends on our common stock during the past four fiscal years and we do not currently anticipate declaring or paying cash dividends on our common stock in the foreseeable future. We currently intend to retain all of our future earnings, if any, to finance operations and repay debt. Our senior secured credit facilities contain restrictions on our activities, including paying dividends on our capital stock. For an explanation of these restrictions see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Indebtedness.” In addition, FINRA regulations restrict dividends in excess of 10% of a member firm’s excess net capital without FINRA’s prior approval, potentially impeding our ability to receive dividends from LPL Financial. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend on a number of factors, including future earnings, capital requirements, financial conditions, future prospects, contractual restrictions and covenants and other factors that our board of directors may deem relevant.


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CAPITALIZATION
 
The following table sets forth our capitalization as of March 31, 2010:
 
  •  on an actual basis;
 
  •  on an as-adjusted basis to give effect to (i) the addition of a new $580.0 million term loan tranche of our senior secured credit facilities on May 24, 2010, (ii) the redemption of the $550.0 million senior unsecured subordinated notes at a price of 105.375% of the outstanding aggregate principal amount plus accrued and unpaid interest through March 31, 2010, (iii) the payment in cash of fees and costs totaling $18.0 million associated with the new term loan tranche and (iv) the after-tax impact to retained earnings of the loss on the early retirement of the senior unsecured subordinated notes of $22.9 million, and
 
  •  on a pro forma as-adjusted basis after giving effect to (i) the adjustments described above, (ii) the recognition of $      million of share-based compensation expense based on the number of restricted shares issued under our Fifth Amended and Restated 2000 Stock Bonus Plan multiplied by the assumed initial public offering price net of the related tax benefit, (iii) the sale by us of           shares of common stock (assuming the underwriters do not exercise their option to purchase additional shares) that we are offering at the assumed initial public offering price and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (iv) the use of proceeds from the sale by us of these shares to reduce amounts outstanding under our senior secured credit facilities. For purpose of this table, the assumed initial public offering price is $      per share, which is the midpoint of the range listed on the cover page of this prospectus.
 
You should read the following table in conjunction with our financial statements and related notes, “Selected Consolidated Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, all included elsewhere in this prospectus.
 
                         
    March 31, 2010  
                Pro-Forma, as
 
   
Actual
   
As Adjusted
   
Adjusted
 
    (In thousands)  
 
Cash and cash equivalents(4)
  $ 324,761     $ 289,995          
                         
Long-term obligations:
                       
Senior secured term loan(1)
  $ 817,117     $ 1,397,117          
Senior unsecured subordinated notes(2)
    550,000                
                         
Total long-term obligations
    1,367,117       1,397,117          
                         
Stockholders’ equity:
                       
Common stock: $.001 par value; 200,000,000 shares authorized; 94,241,567 shares issued and outstanding
    87       87          
Additional paid-in capital
    682,899       682,899          
Stockholder loans
    (51 )     (51 )        
Accumulated other comprehensive loss
    (8,614 )     (8,614 )        
Retained earnings
    208,836       185,948       (3 )
                         
Total stockholders’ equity(4)
    883,157       860,269          
                         
Total capitalization(4)
  $ 2,250,274     $ 2,257,386          
                         
 
(1) Borrowings under our senior secured credit facilities bear interest at a base rate equal to either one, two, three, six, nine or twelve-month LIBOR plus the applicable margin, or an alternative base rate (“ABR”) plus the applicable margin. The ABR is equal to the greatest of (a) the prime rate in effect on such day, (b) the effective federal funds rate in effect on such day, plus 0.50% or


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(c) solely in the case of the 2015 Term Loans and the 2017 Term Loans, 2.50%. The applicable margin on our senior secured term credit facilities could change depending on our credit rating. Our senior secured credit facilities are subject to certain financial and non-financial covenants. We may voluntarily repay outstanding loans under our senior secured credit facilities at any time without premium or penalty, other than customary “breakage” costs with respect to LIBOR loans. The LIBOR Rate with respect to the 2015 Term Loans and the 2017 Term Loans shall in no event be less than 1.50%.
 
(2) As of March 31, 2010, we have $550.0 million of senior unsecured subordinated notes due December 15, 2015. The notes bear interest at 10.75% per annum and interest payments are payable semiannually in arrears. We are not required to make mandatory redemption or sinking-fund payments with respect to the notes. The indenture underlying the senior unsecured subordinated notes contains various restrictions on us with respect to us, including one or more restrictions relating to limitations on liens, sale and leaseback arrangements and funded debt of subsidiaries. We may voluntarily repurchase our senior unsecured subordinated notes at any time, pursuant to certain prepayment penalties.
 
(3) Upon the offering, the 7,423,973 restricted shares of common stock issued to advisors under the Fifth Amended and Restated 2000 Stock Bonus Plan will vest. At such time, we will record expense based upon the initial public offering price per share multiplied by the number of restricted shares. We will also record a tax benefit approximately equal to 39.55% of the expense recorded.
 
(4) A $1.00 increase (decrease) in the assumed initial public offering price of $      per share would increase (decrease) cash and cash equivalents, total stockholders’ equity and total capitalization by $      million, $      million and $      million, respectively, assuming the number of shares offered by us and the selling stockholders, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated expenses payable by us.
 
The table above does not include:
 
  •  22,710,790 shares of common stock issuable upon the exercise of options and warrants outstanding as of March 31, 2010, with exercise prices ranging from $1.07 to $27.80 per share and a weighted average exercise price of $7.00 per share (the number, price and range of outstanding options and warrants will be adjusted to reflect any exercise of options and warrants by selling stockholders in connection with this offering);
 
  •  2,823,452 stock units outstanding at March 31, 2010, under our 2008 Nonqualified Deferred Compensation Plan, each representing the right to receive one share of common stock at the earliest of (a) a date in 2012 to be determined by the board of directors; (b) a change of control of the company or (c) death or disability of the holder and
 
  •  3,108,907 additional shares of common stock reserved for future grants under our equity incentive plans.


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SELECTED CONSOLIDATED FINANCIAL DATA
 
You should read the following selected financial and operating data together with our consolidated financial statements and the related notes appearing at the end of this prospectus and the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section of this prospectus. We have derived the consolidated statements of income data for the years ended December 31, 2009, 2008 and 2007 and the consolidated statements of financial condition data as of December 31, 2009 and 2008 from our audited financial statements included elsewhere in this prospectus. We have derived the consolidated statements of income data for the years ended December 31, 2006 and 2005 and consolidated statements of financial condition data as of December 31, 2007, 2006 and 2005 from our audited financial statements not included in this prospectus. We have derived the condensed consolidated statements of financial condition data as of March 31, 2010 and the condensed consolidated statements of income data for the three months ended March 31, 2010 and 2009 from our unaudited condensed consolidated financial statements included elsewhere in this prospectus. Our unaudited condensed consolidated financial statements for the three months ended March 31, 2010 and 2009 have been prepared on the same basis as the annual consolidated financial statements and include all adjustments, which include only normal recurring adjustments, necessary for fair presentation of this data in all material respects. Our historical results for any prior period are not necessarily indicative of results to be expected in any future period, and our results for any interim period are not necessarily indicative of results for a full fiscal year.
 
Our selected historical financial data may not be comparable from period to period and may not be indicative of future results. Additionally, historical dividends per share are presented as declared by the predecessor company under its capital structure at that time. Common shares of our predecessor are not equal to common shares under our current capital structure and are not necessarily indicative of amounts that would have been received per common share of current ownership.
 
                                                         
    For the Three Months
       
    Ended March 31,     For the Year Ended December 31,  
                                        Predecessor(2)  
   
2010(1)
   
2009(1)
   
2009(1)
   
2008(1)
   
2007(1)
   
2006
   
2005
 
    (unaudited)                                
    (In thousands, except per share data)  
 
Consolidated statements of income data:
                                                       
Net revenues
  $   743,406     $ 642,978     $ 2,749,505     $ 3,116,349     $ 2,716,574     $ 1,739,635     $ 1,406,320  
Total expenses
    698,690       616,193       2,676,938       3,023,584       2,608,741       1,684,769       1,290,570  
Income from continuing operations before provision for income taxes
    44,716       26,785       72,567       92,765       107,833       54,866       115,750  
Provision for income taxes
    19,162       11,988       25,047       47,269       46,764       21,224       46,461  
Income from continuing operations
    25,554       14,797       47,520       45,496       61,069       33,642       69,289  
Discontinued operations
                                        (26,200 )
Net income
    25,554       14,797       47,520       45,496       61,069       33,642       43,089  
Per share data:
                                                       
Earnings per basic share:
                                                       
Income from continuing operations
  $ 0.29     $ 0.17     $ 0.54     $ 0.53     $ 0.72     $ 0.41     $ 0.84  
Loss from discontinued operations
                                      $ (0.32 )
                                                         
Earnings per basic share
  $ 0.29     $ 0.17     $ 0.54     $ 0.53     $ 0.72     $ 0.41     $ 0.52  
                                                         


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    For the Three Months
       
    Ended March 31,     For the Year Ended December 31,  
                                        Predecessor(2)  
   
2010(1)
   
2009(1)
   
2009(1)
   
2008(1)
   
2007(1)
   
2006
   
2005
 
    (unaudited)                                
    (In thousands, except per share data)  
 
Earnings per diluted share:
                                                       
Income from continuing operations
  $ 0.25     $ 0.15     $ 0.47     $ 0.45     $ 0.62     $ 0.35     $ 0.72  
Loss from discontinued operations
                                        (0.27 )
                                                         
Earnings per diluted share
  $ 0.25     $ 0.15     $ 0.47     $ 0.45     $ 0.62     $ 0.35     $ 0.45  
                                                         
Pro-forma net income per share (unaudited)(3)
                                                       
Basic
  $               $                                    
Diluted
  $               $                                    
Predecessor cash dividends, per common share (unaudited)
                                                       
Class A & C (Predecessor)
    n/a       n/a       n/a       n/a       n/a       n/a     $ 6.36  
Class B (Predecessor)
    n/a       n/a       n/a       n/a       n/a       n/a     $ 1.47  
 
                                                         
    As of March 31,   As of December 31,
                            Predecessor(2)
   
2010
 
2009
 
2009(1)
 
2008(1)
 
2007(1)
 
2006
 
2005
    (unaudited)                    
    (In thousands)
 
Consolidated statements of financial condition data:
                                                       
Cash and cash equivalents
  $ 324,761     $ 319,394     $ 378,594     $ 219,239     $ 188,003     $ 245,163     $ 134,592  
Total assets
    3,343,286       3,344,907       3,336,936       3,381,779       3,287,349       2,797,544       2,638,486  
Total debt(4)
    1,407,117       1,465,541       1,369,223       1,467,647       1,451,071       1,344,375       1,345,000  
 
                                                         
    As of and for the Three Months Ended March 31,   As of and for the Year Ended December 31,
            (unaudited)       Predecessor(2)
   
2010
 
2009
 
2009(1)
 
2008(1)
 
2007(1)
 
2006
 
2005
 
Other financial and operating data:
                                                       
Adjusted EBITDA(5) (in thousands)
  $   105,457     $ 81,948     $ 356,068     $ 350,171     $ 329,079     $ 247,912     $ 188,917  
Adjusted net income(5) (in thousands)
  $ 41,099     $ 25,311     $ 129,556     $ 108,863     $ 107,404     $ 65,372     $ 78,278  
Adjusted net income per share(5)
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08     $ 0.68     $ 0.82  
Gross margin(6) (in thousands)
  $ 230,204     $ 200,447     $ 844,926     $ 953,301     $ 781,102     $ 508,530     $ 407,019  
Gross margin as a % of net revenue(6)
    31.0 %     31.2 %     30.7 %     30.6 %     28.8 %     29.2 %     28.9 %
Number of advisors(7)
    12,026       12,294       11,950       11,920       11,089       7,006       6,481  
Advisory and brokerage assets(8) (in billions)
  $ 284.6     $ 231.7     $ 279.4     $ 233.9     $ 283.2     $ 164.7     $ 105.4  
Advisory assets under management (in billions)
  $ 81.0     $ 57.5     $ 77.2     $ 59.6     $ 73.9     $ 51.1     $ 38.4  
Insured cash account balances (in billions)
  $ 11.4     $ 12.0     $ 11.6     $ 11.2     $ 8.6     $ 5.8       n/a  
Money market account balances (in billions)
  $ 6.7     $ 10.8     $ 7.0     $ 11.2     $ 7.4     $ 3.5     $ 6.4  

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(1) Financial results as of and for the years ended December 31, 2009, 2008 and 2007 and the quarters ended March 31, 2010 and 2009 include the acquisitions of UVEST Financial Services Group, Inc. (acquired on January 2, 2007), Pacific Select Group, LLC and its wholly owned subsidiaries: Mutual Service Corporation, Associated Financial Group, Inc., Associated Securities Corp., Associated Planners Investment Advisory, Inc. and Waterstone Financial Group, Inc. (acquired on June 20, 2007) and IFMG Securities, Inc., Independent Financial Marketing Group, Inc. and LSC Insurance Agency of Arizona, Inc. (acquired on November 7, 2007). Consequently, the results of operations for 2009, 2008 and 2007 and three months ended March 31, 2010 and 2009 may not be directly comparable to prior periods.
 
(2) On December 28, 2005, investment funds affiliated with the Majority Holders acquired a majority of our capital stock through a merger transaction. Activities as of December 28, 2005 and periods prior are those of the predecessor.
 
(3) The unaudited pro forma net income per share gives effect to: (i) the recognition of $      million of share-based compensation expense based on the number of restricted shares issued under our Fifth Amended and Restated 2000 Stock Bonus Plan multiplied by the assumed initial public offering price net of the related tax benefit, (ii) the sale by us of      shares of common stock (assuming the underwriters do not exercise their option to purchase additional shares) that we are offering at the assumed initial public offering price and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (iii) the use of proceeds from the sale by us of these shares to reduce amounts outstanding under our senior secured credit facilities. For purposes of this calculation, the assumed initial public offering price is $      per share, which is the midpoint of the range listed on the cover page of this prospectus.
 
(4) Total debt consists of our senior secured credit facilities, senior unsecured subordinated notes, revolving line of credit facility and bank loans payable.
 
(5) See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — How We Evaluate Growth” for an explanation of Adjusted EBITDA, Adjusted Net Income and Adjusted Net Income per share.
 
(6) Gross margin is calculated as net revenues less production expenses. Production expenses consist of the following expense categories from our consolidated statements of income: (i) commissions and advisory fees and (ii) brokerage, clearing and exchange. All other expense categories, including depreciation and amortization, are considered general and administrative in nature. Because our gross margin amounts do not include any depreciation and amortization expense, our gross margin amounts may not be comparable to those of others in our industry.
 
(7) Number of advisors is defined as those investment professionals who are licensed to do business with our broker-dealer subsidiaries.
 
(8) Advisory and brokerage assets are comprised of assets that are custodied, networked and non-networked and reflect market movement in addition to new assets, inclusive of new business development and net of attrition. Non-networked assets was not available in 2005 and accordingly, advisory and brokerage assets is comprised of custodied and networked accounts.


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MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes to those consolidated financial statements appearing elsewhere in this prospectus. This discussion contains forward-looking statements that involve significant risks and uncertainties. As a result of many factors, such as those set forth under “Risk Factors” and elsewhere in this prospectus, our actual results may differ materially from those anticipated in these forward-looking statements.
 
Overview
 
We provide an integrated platform of proprietary technology, brokerage and investment advisory services to over 12,000 independent financial advisors and financial advisors at financial institutions across the country, enabling them to successfully service their retail investors with unbiased, conflict-free financial advice. In addition, we support over 4,000 financial advisors with customized clearing, advisory platforms and technology solutions. Our singular focus is to support our advisors with the front, middle and back-office support they need to serve the large and growing market for independent investment advice, particularly in the mass affluent market. We believe we are the only company that offers advisors the unique combination of an integrated technology platform, comprehensive self-clearing services and full open architecture access to leading financial products, all delivered in an environment unencumbered by conflicts from product manufacturing, underwriting or market making.
 
Our Sources of Revenue
 
Our revenues are derived primarily from fees and commissions from products and advisory services offered by our advisors to their clients, a substantial portion of which we pay out to our advisors, as well as fees we receive from our advisors for use of our technology, custody and clearing platforms. We also generate asset-based fees through a distribution of financial products for a broad range of product manufacturers. Under our self-clearing platform, we custody the majority of client assets invested in these financial products, which includes providing statements, transaction processing and ongoing account management. In return for these services, mutual funds, insurance companies, banks and other financial product manufacturers pay us fees based on asset levels or number of accounts managed. We also earn fees for margin lending to our advisors’ clients.
 
We track recurring revenue, which we define to include our asset-based fee revenues, advisory fee revenues, our trailing commission revenues, our revenues from cash sweep programs and asset-based transaction and other fee revenues. Because recurring revenue is associated with asset balances, it will fluctuate depending on the market value of the asset balances and current interest rates. Accordingly, recurring revenue can be negatively impacted by adverse external market conditions. However, recurring revenue is meaningful to us despite these fluctuations because it is not based on transaction volumes or other activity-based fees, which are more difficult to predict, particularly in declining or volatile markets.


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The table below summarizes the sources of our revenue and the underlying drivers:
 
(Table)
 
  •  Commissions and Advisory Fees.  Transaction-based commissions and advisory fees both represent advisor-generated revenue, generally 85-90% of which is paid to advisors.
 
    Commissions.  Transaction-based commission revenues represent gross commissions generated by our advisors, primarily from commissions earned on the sale of various financial products such as fixed and variable annuities, mutual funds, general securities, alternative investments and insurance. We also earn trailing commission type revenues (a commission that is paid over time such as 12(b)-1 fees) on mutual funds and variable annuities held by clients of our advisors. Trail commissions are recurring in nature and are earned based on the current market value of investment holdings.
 
    Advisory Fees.  Advisory fee revenues represent fees charged by us and our advisors to their clients based on the value of advisory assets.
 
  •  Asset-Based Fees.  Asset-based fees are comprised of fees from cash sweep programs, our financial product manufacturer sponsorship programs, and sub-transfer agency and networking services. Pursuant to contractual arrangements, uninvested cash balances in our advisors’ client accounts are swept into either insured deposit accounts at various banks or third-party money market funds, for which we receive fees, including administrative and record-keeping fees based on account type and the invested balances. In addition, we receive fees from certain financial product manufacturers in connection with sponsorship programs that support our marketing and sales-force education and training efforts. We also earn fees on mutual fund assets for which we provide administrative and record-keeping services as a sub-transfer agent. Our networking fees represent fees paid to us by mutual fund and annuity product manufacturers in exchange for administrative and record-keeping services that we provide to


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  clients of our advisors. Networking fees are correlated to the number of positions we administer, not the value of assets under administration.
 
  •  Transaction and Other Fees.  Revenues earned from transaction and other fees primarily consist of transaction fees and ticket charges, subscription fees, IRA custodian fees, contract and license fees, conference fees and small/inactive account fees. We charge fees to our advisors and their clients for executing transactions in brokerage and fee-based advisory accounts. We earn subscription fees for the software and technology services provided to our advisors and on IRA custodial services that we provide for their client accounts. We charge monthly administrative fees to our advisors. We charge fees to financial product manufacturers for participating in our training and marketing conferences and fees to our advisors and their clients for accounts that fail to meet certain specified thresholds of size or activity.
 
  •  Interest and Other Revenue.  Other revenue includes marketing re-allowances from certain financial product manufacturers as well as interest income from client margin accounts and cash equivalents, net of operating interest expense.
 
Our Operating Expenses
 
  •  Production Expenses.  Production expenses consist of commissions and advisory fees as well as brokerage, clearing and exchange fees. We pay out the majority of commissions and advisory fees received from sales or services provided by our advisors. Substantially all of these payouts are variable and correlated to the revenues generated by each advisor.
 
  •  Compensation and Benefits Expense.  Compensation and benefits expense includes salaries and wages and related employee benefits and taxes for our employees (including share-based compensation), as well as compensation for temporary employees and consultants.
 
  •  General and Administrative Expenses.  General and administrative expenses include promotional fees, occupancy and equipment, communications and data processing, regulatory fees, travel and entertainment and professional services.
 
  •  Depreciation and Amortization Expense.  Depreciation and amortization expense represents the benefits received for using long-lived assets. Those assets represent significant intangible assets established through our acquisitions, as well as fixed assets which include internally developed software, hardware, leasehold improvements and other equipment.
 
  •  Restructuring Charges.  Restructuring charges represent expenses incurred as a result of our 2009 consolidation of the Affiliated Entities and our strategic business review committed to and implemented in 2008 to reduce our cost structure and approve operating efficiencies.
 
  •  Other Expenses.  Other expenses include bank fees, other taxes, bad debt expense and other miscellaneous expenses.
 
How We Evaluate Growth
 
We focus on several key financial and non-financial metrics in evaluating the success of our business relationships and our resulting financial position and operating performance. Our key metrics


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as of and for the years ended December 31, 2009, 2008, and 2007 and the three months ended March 31, 2010 and 2009 are as follows:
 
                                         
    As of and for the
   
    Three Months
  As of and for the Year
    Ended March 31,   Ended December 31,
   
2010
 
2009
 
2009
 
2008
 
2007
    (unaudited)
 
Non-Financial Metrics
                                       
Advisors(1)
    12,026       12,294       11,950       11,920       11,089  
Advisory and brokerage assets(2) (in billions)
  $ 284.6     $ 231.7     $ 279.4     $ 233.9     $ 283.2  
Advisory assets under management (in billions)
  $ 81.0     $ 57.5     $ 77.2     $ 59.6     $ 73.9  
                                         
Financial Metrics
                                       
Revenue growth (decline) from prior period
    15.6 %     (19.5 )%     (11.8 )%     14.7 %     56.2 %
Recurring revenue as a % of net revenue(3)
    60.1 %     55.0 %     57.3 %     58.5 %     57.1 %
Gross margin(4) (in millions)
  $ 230.2     $ 200.4     $ 844.9     $ 953.3     $ 781.1  
Gross margin as a % of net revenue(4)
    31.0 %     31.2 %     30.7 %     30.6 %     28.8 %
Net income (in millions)
  $ 25.6     $ 14.8     $ 47.5     $ 45.5     $ 61.1  
Adjusted EBITDA (in millions)
  $ 105.5     $ 81.9     $ 356.1     $ 350.2     $ 329.1  
Adjusted Net Income (in millions)
  $ 41.1     $ 25.3     $ 129.6     $ 108.9     $ 107.4  
 
(1) Advisors are defined as those investment professionals who are licensed to do business with our broker-dealer subsidiaries. In 2009, we attracted record levels of new advisors due to the dislocation in the marketplace that impacted many of our competitors. This record recruitment was offset, however, by the attrition of approximately 720 advisors licensed through the Affiliated Entities related to the consolidation of the operations of the Affiliated Entities. Excluding this attrition, we added 750 new advisors during 2009, representing 6.3% advisor growth.
 
(2) Advisory and brokerage assets are comprised of assets that are custodied, networked and non-networked and reflect market movement in addition to new assets, inclusive of recruiting and net of attrition.
 
(3) Recurring revenue is derived from sources such as advisory fees, asset-based fees, trailing commission fees, fees related to our cash sweep programs, interest earned on margin accounts and technology and service fees. In 2009, we revised our definition of recurring revenues. Accordingly, prior period amounts have been recast to reflect this change.
 
(4) Gross margin is calculated as net revenues less production expenses. Production expenses consist of the following expense categories from our consolidated statements of income: (i) commissions and advisory fees and (ii) brokerage, clearing and exchange. All other expense categories, including depreciation and amortization, are considered general and administrative in nature. Because our gross margin amounts do not include any depreciation and amortization expense, our gross margin amounts may not be comparable to those of others in our industry.
 
Adjusted EBITDA
 
Adjusted EBITDA is defined as EBITDA (net income plus interest expense, income tax expense, depreciation and amortization), further adjusted to exclude certain non-cash charges and other adjustments set forth below. We present Adjusted EBITDA because we consider it an important measure of our performance. Adjusted EBITDA is a useful financial metric in assessing our operating performance from period to period by excluding certain items that we believe are not representative of our core business, such as certain material non-cash items and other adjustments that are outside the control of management.


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We believe that Adjusted EBITDA, viewed in addition to, and not in lieu of, our reported GAAP results, provides useful information to investors regarding our performance and overall results of operations for the following reasons:
 
  •  because non-cash equity grants made to employees at a certain price and point in time do not necessarily reflect how our business is performing at any particular time, stock-based compensation expense is not a key measure of our operating performance and
 
  •  because costs associated with acquisitions and the resulting integrations, restructuring and conversions can vary from period to period and transaction to transaction, expenses associated with these activities are not considered a key measure of our operating performance.
 
We use Adjusted EBITDA:
 
  •  as a measure of operating performance;
 
  •  for planning purposes, including the preparation of budgets and forecasts;
 
  •  to allocate resources to enhance the financial performance of our business;
 
  •  to evaluate the effectiveness of our business strategies;
 
  •  in communications with our board of directors concerning our financial performance and
 
  •  as a bonus target for certain of our employees.
 
Adjusted EBITDA is a non-GAAP measure as defined by Regulation G under the Securities Act and does not purport to be an alternative to net income as a measure of operating performance or to cash flows from operating activities as a measure of liquidity. The term Adjusted EBITDA is not defined under GAAP, and Adjusted EBITDA is not a measure of net income, operating income or any other performance measure derived in accordance with GAAP, and is subject to important limitations.
 
Adjusted EBITDA has limitations as an analytical tool, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:
 
  •  Adjusted EBITDA does not reflect all cash expenditures, future requirements for capital expenditures or contractual commitments;
 
  •  Adjusted EBITDA does not reflect changes in, or cash requirements for, working capital needs and
 
  •  Adjusted EBITDA does not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our debt.
 
In addition, Adjusted EBITDA can differ significantly from company to company depending on long-term strategic decisions regarding capital structure, the tax jurisdictions in which companies operate and capital investments. Because of these limitations, Adjusted EBITDA should not be considered as a measure of discretionary cash available to us to invest in our business. We compensate for these limitations by relying primarily on the GAAP results and using Adjusted EBITDA as supplemental information.


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Set forth below is a reconciliation from our net income to Adjusted EBITDA for the years ended December 31, 2009, 2008 and 2007 and the three months ended March 31, 2010 and 2009 (in thousands):
 
                                         
    For the Three
       
    Months Ended
       
    March 31,     For The Year Ended December 31,  
   
2010
   
2009
   
2009
   
2008
   
2007
 
    (unaudited)  
 
Net income
  $ 25,554     $ 14,797     $ 47,520     $ 45,496     $ 61,069  
Interest expense
    24,336       25,941       100,922       115,558       122,817  
Income tax expense
    19,162       11,988       25,047       47,269       46,764  
Depreciation and amortization
    25,590       27,395       108,296       100,462       78,748  
                                         
EBITDA
  $ 94,642     $ 80,121     $ 281,785     $ 308,785     $ 309,398  
Share-based compensation expense(a)
  $ 2,536     $ 1,225     $ 6,437     $ 4,160     $ 2,159  
Acquisition and integration related expenses(b)
    140       822       3,037       18,326       16,350  
Restructuring and conversion costs(c)
    7,979       (259 )     64,658       15,122        
Other(d)
    160       39       151       3,778       1,172  
                                         
Adjusted EBITDA
  $ 105,457     $ 81,948     $ 356,068     $ 350,171     $ 329,079  
                                         
 
(a) Represents share-based compensation for stock options awarded to employees and non-executive directors.
 
(b) Represents acquisition and integration costs primarily as a result of our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
(c) Represents organizational restructuring charges incurred in 2008 and 2009 for severance and one-time termination benefits, asset impairments, lease and contract termination fees and other transfer costs.
 
(d) Represents impairment charges in 2008 for our equity investment in Blue Frog, other taxes and employment tax withholding related to a nonqualified deferred compensation plan.
 
Adjusted Net Income and Adjusted Net Income per share
 
Adjusted Net Income represents net income before: (a) share-based compensation expense, (b) amortization of intangible assets and software, a component of depreciation and amortization, resulting from our merger transaction in 2005 with the Majority Holders and our 2007 acquisitions, (c) acquisition and integration related expenses and (d) restructuring and conversion costs. Reconciling items are tax effected using the income tax rates in effect for the applicable period, adjusted for any potentially non-deductible amounts.
 
Adjusted Net Income per share represents Adjusted Net Income divided by weighted average outstanding shares on a fully diluted basis.
 
We prepared Adjusted Net Income and Adjusted Net Income per share to eliminate the effects of items that we do not consider indicative of our core operating performance.


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We believe that Adjusted Net Income and Adjusted Net Income per share, viewed in addition to, and not in lieu of, our reported GAAP results provide useful information to investors regarding our performance and overall results of operations for the following reasons:
 
  •  because non-cash equity grants made to employees at a certain price and point in time do not necessarily reflect how our business is performing at any particular time, stock-based compensation expense is not a key measure of our operating performance;
 
  •  because costs associated with acquisitions and related integrations, restructuring and conversions can vary from period to period and transaction to transaction, expenses associated with these activities are not considered a key measure of our operating performance and
 
  •  because amortization expenses can vary substantially from company to company and from period to period depending upon each company’s financing and accounting methods, the fair value and average expected life of acquired intangible assets and the method by which assets were acquired, the amortization of intangible assets obtained in acquisitions are not considered a key measure in comparing our operating performance.
 
We have historically not used Adjusted Net Income for internal management reporting and evaluation purposes; however, we believe Adjusted Net Income and Adjusted Net Income per share are useful to investors in evaluating our operating performance because securities analysts use them as supplemental measures to evaluate the overall performance of companies, and we anticipate that our investor and analyst presentations after we are public will include Adjusted Net Income and Adjusted Net Income per share.
 
Adjusted Net Income and Adjusted Net Income per share are not measures of our financial performance under GAAP and should not be considered as an alternative to net income or earnings per share or any other performance measure derived in accordance with GAAP, or as an alternative to cash flows from operating activities as a measure of our profitability or liquidity.
 
We understand that, although Adjusted Net Income and Adjusted Net Income per share are frequently used by securities analysts and others in their evaluation of companies, they have limitations as analytical tools, and you should not consider Adjusted Net Income and Adjusted Net Income per share in isolation, or as substitutes for an analysis of our results as reported under GAAP. In particular you should consider:
 
  •  Adjusted Net Income and Adjusted Net Income per share do not reflect our cash expenditures, or future requirements for capital expenditures or contractual commitments;
 
  •  Adjusted Net Income and Adjusted Net Income per share do not reflect changes in, or cash requirements for, our working capital needs and
 
  •  Other companies in our industry may calculate Adjusted Net Income and Adjusted Net Income per share differently than we do, limiting their usefulness as comparative measures.
 
Management compensates for the inherent limitations associated with using Adjusted Net Income and Adjusted Net Income per share through disclosure of such limitations, presentation of our financial statements in accordance with GAAP and reconciliation of Adjusted Net Income to the most directly comparable GAAP measure, net income.


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The following table sets forth a reconciliation of net income to Adjusted Net Income and Adjusted Net Income per share for the years ended December 31, 2009, 2008 and 2007 and the three months ended March 31, 2010 and 2009:
 
                                         
    For the Three Months
    For The Year Ended
 
    Ended March 31,     December 31  
   
2010
   
2009
   
2009
   
2008
   
2007
 
    (In thousands, except per share data)  
    (unaudited)  
 
Net income
  $ 25,554     $ 14,797     $ 47,520     $ 45,496     $ 61,069  
After-Tax:
                                       
EBITDA Adjustments(1)
    7,015       1,395       46,089       26,045       12,263  
Amortization of purchased intangible assets(1)(2)
    8,530       9,119       35,947       37,322       34,072  
                                         
Adjusted Net Income
  $ 41,099     $ 25,311     $ 129,556     $ 108,863     $ 107,404  
                                         
Adjusted Net Income per share(3)
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08  
Weighted average shares outstanding — diluted
    98,945       97,959       98,494       100,334       99,099  
 
 
(1) EBITDA Adjustments and amortization of purchased intangible assets, a component of depreciation and amortization, have been tax effected using a federal rate of 35.0% and the applicable effective state rate which ranged from 4.23% to 4.71%, net of the federal tax benefit.
 
(2) Represents amortization of intangible assets and software, which were $59.6 million, $61.7 million and $56.1 million before taxes for the years ended December 31, 2009, 2008 and 2007, respectively, and were $14.1 million and $15.1 million before taxes for the three months ended March 31, 2010 and 2009, respectively. The amortization of intangible assets and software was a result of our purchase accounting adjustments from our merger transaction in 2005 with the Majority Holders and our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
(3) Represents Adjusted Net Income divided by weighted average number of shares outstanding on a fully diluted basis. Set forth is a reconciliation of earnings per share on a fully diluted basis as calculated in accordance with GAAP to Adjusted Net Income per share:
 
                                         
    For the Three
       
    Months
       
    Ended March 31,     For The Year Ended December 31,  
   
2010
   
2009
   
2009
   
2008
   
2007
 
    (unaudited)  
 
Earnings per share (diluted)
  $ 0.25     $ 0.15     $ 0.47     $ 0.45     $ 0.62  
Adjustment for allocation of undistributed earnings to stock units
  $ 0.01     $ 0.01     $ 0.01     $     $  
After-Tax:
                                       
EBITDA Adjustments per share
  $ 0.07     $ 0.01     $ 0.47     $ 0.26     $ 0.12  
Amortization of purchased intangible assets per share
  $ 0.09     $ 0.09     $ 0.37     $ 0.38     $ 0.34  
                                         
Adjusted Net Income per share
  $ 0.42     $ 0.26     $ 1.32     $ 1.09     $ 1.08  
                                         


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Economic Overview and Impact of Financial Market Events
 
Since the middle of 2008, financial markets worldwide, particularly in the United States, experienced significant volatility, turbulence and substantial declines in value, followed by a partial recovery that began during the second quarter of 2009. The market’s decline and recovery is illustrated by the S&P 500 index, which began 2008 at 1,447, stood at 1,280 on June 30, 2008, declined to 903 at December 31, 2008, and dropped to 667 on March 6, 2009, before recovering to end 2009 at 1,115. During the first quarter of 2010, the equity and fixed income markets continued the positive trends that were observed toward the second half of 2009. For example, the S&P 500 averaged 1,124 during the first quarter of 2010, 39.1% above the average of 808 in the comparable prior year period. This rebound has positively influenced our advisory and brokerage assets and improved those revenue sources which are directly driven by client asset levels. Despite the market’s trending recovery, overall economic activity including consumer discretionary income, employment and consumer confidence remained weak.
 
In response to the market turbulence and overall economic environment, the central banks including the Federal Reserve have maintained historically low interest rates. The average effective rate for federal funds was 0.13% in the first quarter of 2010, compared to 0.12% for the fourth quarter of 2009 and 0.19% for the first quarter of 2009. The low interest rate environment negatively impacts our revenues from client assets in our cash sweep programs.
 
While our business has improved as a result of the more favorable environment, our outlook remains cautiously optimistic and we persist in our efforts to reduce costs and control our expenditures.
 
Throughout 2008 and 2009, we launched a series of expense management and organizational simplification initiatives that enabled us to reduce compensation and benefits expenses and other general and administrative expenses from 2008 to 2009 by $72.7 million and $48.0 million, respectively. In the fourth quarter of 2008, we initiated a series of cost reduction measures through a strategic business review. Those efforts included the December 31, 2008 decision to reduce our workforce by approximately 250 employees, or approximately 10%, which resulted in additional expenditures during the fourth quarter of 2008 and reduced compensation and benefits expense by approximately $27.0 million during 2009 in comparison to 2008.
 
In addition, the strategic business review included expense reductions that we view as temporary in nature. These items include (a) decreases in project expenses, (b) the elimination of or reduction in scope of certain advisor recognition programs and annual conferences and (c) employee-related items such as reduction in bonuses and employer contributions to our retirement plans.
 
In the third quarter of 2009, we furthered our restructuring plans by consolidating the operations of Pacific Select Group, LLC and its wholly-owned subsidiaries, which we refer to collectively as the Affiliated Entities, with those of LPL Financial. We also identified opportunities to restructure and consolidate certain advisor support activities, including sales and marketing and compliance across certain of our subsidiaries. As of March 31, 2010, we have incurred charges of $63.1 million and expect $10.6 million in additional one-time restructuring charges, all for severance and termination benefits, asset impairments, contract termination fees and other conversion costs. Beginning in 2010, we estimate the 2009 consolidation of our Affiliated Entities will result in approximately $24.0 million of annual cost savings.
 
We also enjoyed strong business development results in 2009 as market turbulence resulted in a significant dislocation of advisors at firms disrupted by or forced to merge in response to these adverse market conditions. In 2009, we attracted 750 net new advisors, exclusive of the attrition of those advisors impacted by our consolidation of the operations of the Affiliated Entities.
 
We continue to attempt to mitigate the impact of financial market events on our earnings with a strategic focus on attractive growth opportunities such as business development from attracting new advisors and through efficiency initiatives and expense management activities described earlier. We


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plan to continue these efforts into future periods as they may help mitigate some of the negative financial risks associated with volatile market conditions and bolster our growth capabilities. We remain focused on retaining our advisors and enabling them to provide their clients with independent and unbiased financial advice and leading service. This strategy is a key advantage and we believe it provides sustainable success for our advisors and our company.
 
Recent Acquisitions and Divestitures
 
From time to time we undertake acquisitions and/or divestitures based on opportunities in the competitive landscape. These activities are part of our overall growth strategy, but can distort comparability when reviewing revenue and expense trends for periods presented. The following describes significant acquisition and divestiture activities that have impacted our 2007, 2008 and 2009 results.
 
On January 2, 2007, we completed our acquisition of UVEST, augmenting our position in providing independent third-party brokerage services to banks, credit unions and other financial institutions. The purchase price was $89.5 million at closing, comprised of $78.0 million in cash financed primarily through borrowings under our senior secured credit facilities, as well as the issuance of 603,660 shares of our common stock at an estimated fair value of $18.90 per share on the date of acquisition. Immediately following the acquisition, we satisfied certain obligations under a phantom stock plan for UVEST employees by issuing 65,820 shares of common stock at an estimated fair value of $18.90 per share.
 
On June 20, 2007, we acquired the Affiliated Entities which increased the number of our advisors and strengthened our position as a leading independent broker-dealer. Accordingly, our 2007 results of operations include the activities of the Affiliated Entities beginning on June 21, 2007. Total purchase consideration was $120.5 million comprised of $63.3 million in cash funded primarily through borrowings under our senior secured credit facilities, and the issuance of 2,645,500 shares of common stock with an estimated fair value of $21.60 per share on the date of acquisition.
 
On November 7, 2007, we acquired all of the outstanding capital stock of IFMG, further expanding our reach in offering financial services to banks, savings and loan institutions and credit unions nationwide. Accordingly, our 2007 results of operations include the activities of IFMG beginning on November 7, 2007. Purchase consideration at closing was $25.7 million and was financed with borrowings under our senior secured credit facilities. At the time of acquisition, we announced a plan (the “Shutdown Plan”) to transfer existing IFMG financial institutional relationships to our other broker-dealer subsidiaries, LPL Financial and UVEST. In accordance with the Shutdown Plan, we made several post-closing payments based on the successful recruitment, retention and transition of these relationships during the third and fourth quarter of 2008.
 
On December 31, 2007, we ceased the operations of our subsidiary Innovex Mortgage, Inc. (“Innovex”). Prior to that date, Innovex provided comprehensive mortgage services for residential properties of the clients of our advisors.
 
On September 1, 2009, we consolidated the operations of the Affiliated Entities with those of LPL Financial. The consolidation involved the transfer of securities licenses of certain registered representatives associated with the Affiliated Entities and their client accounts. Following the consolidation, the registered representatives and client accounts that were transferred are now associated with LPL Financial. The consolidation of the Affiliated Entities was effected to enhance service offerings to our advisors while also generating efficiencies.
 
While our acquisitions of the Affiliated Entities and IFMG have contributed to the overall growth of our base of advisors and related revenue and market position, we have incurred significant non-recurring costs related to acquisition integration and the subsequent shutdown and/or conversion. Many of these expenditures are in the form of restructuring charges, personnel costs, system costs and professional fees. For example, the consolidation of the Affiliated Entities with LPL Financial in


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September 2009 resulted in restructuring charges including severance and one-time termination benefits, lease and contract termination fees, asset impairments and transfer and conversion costs.
 
Results of Operations
 
Three Months Ended March 31, 2010 and 2009
 
The following discussion presents an analysis of our results of operations for the three months ended March 31, 2010 and 2009. Where appropriate, we have identified specific events and changes that affect comparability or trends, and where possible and practical, have quantified the impact of such items.
 
                         
    Three Months
       
    Ended
       
    March 31,        
   
2010
   
2009
   
% Change
 
    (In thousands)        
 
Revenues
                       
Commissions
  $ 388,972     $ 347,220       12.0 %
Advisory fees
    206,330       163,905       25.9 %
Asset-based fees
    71,450       62,654       14.0 %
Transaction and other fees
    67,363       61,338       9.8 %
Other
    9,291       7,861       18.2 %
                         
Net revenues
    743,406       642,978       15.6 %
                         
Expenses
                       
Production
    513,202       442,531       16.0 %
Compensation and benefits
    73,575       66,978       9.8 %
General and administrative
    53,237       49,871       6.7 %
Depreciation and amortization
    25,590       27,395       (6.6 )%
Restructuring charges
    3,949       (327 )     *
Other
    4,777       3,720       28.4 %
                         
Total operating expenses
    674,330       590,168       14.3 %
                         
Non-operating interest expense
    24,336       25,941       (6.2 )%
Loss on equity method investment
    24       84       (71.4 )%
                         
Total expenses
    698,690       616,193       13.4 %
                         
Income before provision for income taxes
    44,716       26,785       66.9 %
Provision for income taxes
    19,162       11,988       59.8 %
                         
Net income
  $ 25,554     $ 14,797       72.7 %
                         
 
* Not meaningful.


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Revenues
 
Commissions
 
The following table sets forth our commission revenue by product category included in our unaudited condensed consolidated statements of income for the periods indicated (in thousands):
 
                                 
    Three Months Ended March 31,  
   
2010
   
% Total
   
2009
   
% Total
 
 
Variable annuities
  $ 155,692       40.0 %   $ 129,443       37.3 %
Mutual funds
    115,001       29.6 %     82,822       23.9 %
Fixed annuities
    33,888       8.7 %     60,153       17.3 %
Equities
    24,106       6.2 %     20,086       5.8 %
Fixed income
    21,012       5.4 %     15,637       4.5 %
Alternative investments
    20,018       5.1 %     17,321       5.0 %
Insurance
    18,678       4.8 %     21,101       6.0 %
Other
    577       0.2 %     657       0.2 %
                                 
Total commission revenue
  $ 388,972       100.0 %   $ 347,220       100.0 %
                                 
 
Commission revenue increased by $41.8 million, or 12.0%, for the three months ended March 31, 2010 compared with 2009. In comparison to the prior year, trail-based commissions increased significantly as a result of improved market conditions as well as growth in assets eligible for trail payment. Transaction-based commissions increased slightly, also as a result of greater sales of commission-based products. In particular, transaction-based commissions from more market sensitive products such as mutual funds and variable annuities experienced an increase over the prior year period due to increasing investor confidence. Sales of financial products with more predictable cash flows such as fixed annuities and insurance products, which typically increase during periods of financial uncertainty, decreased during this period, consistent with the market’s recovery.
 
Advisory Fees
 
Advisory fees increased by $42.4 million, or 25.9%, for the three months ended March 31, 2010 compared with 2009. The increase was primarily due to the effect of the rebounding market, which prompted a significant increase on the value of client assets in advisory programs. Our advisory assets increased 40.9% from $57.5 billion at March 31, 2009 to $81.0 billion at March 31, 2010.
 
Asset-Based Fees
 
Asset-based fees increased by $8.8 million, or 14.0%, for the three months ended March 31, 2010 compared with 2009. Revenues from product sponsors and for record-keeping services, which are largely based on the underlying asset values, increased due to the impact of the market’s recovery on the value of those underlying assets. Revenues from our cash sweep programs for the three months ended March 31, 2010 declined by $5.5 million, or 17.4% from the three months ended March 31, 2009 due to a decrease in assets held in our cash sweep programs and the depressed interest rate environment as reflected by the average effective federal funds rate and its influence on fees associated with our cash sweep programs. For the three months ended March 31, 2010, the effective federal funds rate averaged 0.13% compared to 0.19% for the three months ended March 31, 2009. Assets in our cash sweep programs averaged $18.4 billion and $22.5 billion for the three months ended March 31, 2010 and 2009, respectively.
 
Transaction and Other Fees
 
Transaction and other fees, which include fees from advisors and their client accounts for various processing, technology and account services, increased by $6.0 million, or 9.8%, for the three months ended March 31, 2010 compared with 2009. This increase is due, in part, to $2.5 million in revenues


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earned from advisor conferences held in 2010; these conferences were not held in 2009 due to market conditions. In addition, charges to advisors for professional liability insurance services increased by $3.0 million in 2010 as compared to 2009 due to increases in the pricing for such services.
 
Other Revenue
 
Other revenue increased by $1.4 million, or 18.2%, for the three months ended March 31, 2010 compared with 2009. The increase was due primarily to improved market conditions, which drove higher direct investment marketing allowances received from product sponsor programs, which are largely based on the market values of the underlying assets.
 
Expenses
 
Production Expenses
 
Production expenses increased by $70.7 million, or 16.0%, for the three months ended March 31, 2010 compared with 2009. This increase was correlated with our commission and advisory revenues, which increased by 16.5% during the same period. Our production payout averaged 84.8% for the three months ended March 31, 2010 and 85.0% for the three months ended March 31, 2009.
 
Compensation and Benefits Expense
 
Compensation and benefits increased by $6.6 million, or 9.8%, for the three months ended March 31, 2010 compared with 2009. The increase was primarily attributed to the restoration of certain employee-related items, including increases in bonus levels and employer contributions to our retirement plans in the current year period that were suspended in 2009 as a result of our cost management initiatives. Our average number of full-time employees was 2,464 and 2,463 for the three months ended March 31, 2010 and 2009, respectively.
 
General and Administrative Expenses
 
General and administrative expenses increased by $3.4 million, or 6.7%, for the three months ended March 31, 2010 compared with 2009. The increase compared to the prior year was due to aggressive cost reduction measures that took place in the first quarter of 2009 due to our ongoing strategic business review. As market conditions improve, we have cautiously reinstated certain levels of general and administrative expenses that are necessary to support the growth and service to our advisors. During the first quarter of 2010 we reinstated certain advisor conference services, which increased general and administrative expenses by $6.2 million.
 
Depreciation and Amortization Expense
 
Depreciation and amortization expense decreased by $1.8 million, or 6.6%, for the three months ended March 31, 2010 compared with 2009. The asset impairments of $19.9 million that were recorded in the third and fourth quarter of 2009 in the consolidation of our Affiliated Entities resulted in lower balances in those intangible assets that are amortized.
 
Restructuring Charges
 
Restructuring charges represent expenses incurred as a result of our 2008 strategic business review and our 2009 consolidation of the Affiliated Entities.
 
Restructuring charges were $3.9 million for the three months ended March 31, 2010, which includes charges incurred for severance and termination benefits of $1.8 million, contract termination costs of $0.4 million, asset impairment charges of $0.2 million and $1.5 million in other expenditures principally relating to the conversion and transfer of advisors and their client accounts from the


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Affiliated Entities to LPL Financial. In the first quarter of 2009, we recorded $0.3 million in adjustments that reduced previously estimated restructuring charges related to our 2008 strategic business review.
 
Other Expenses
 
Other expenses increased by $1.1 million, or 28.4%, for the three months ended March 31, 2010 compared with 2009. The increase was primarily due to an increase in bad debt expense.
 
Interest Expense
 
Interest expense includes non-operating interest expense for our senior secured credit facilities and our senior unsecured subordinated notes.
 
Interest expense decreased by $1.6 million, or 6.2%, for the three months ended March 31, 2010 compared with 2009. The decline reflects a decrease in the average principal amount of debt outstanding due primarily to lower level of borrowings on our revolving credit facility. Our average outstanding borrowing activity in the revolving and uncommitted line of credit facilities have decreased by $81.8 million from $90.0 million for the three months ended March 31, 2009 to $8.2 million for the three months ended March 31, 2010.
 
Loss on Equity Method Investment
 
Loss on equity method investment represents our share of losses related to our investment in a privately held technology company.
 
Loss on equity method investment decreased by $0.1 million, or 71.4%, for the three months ended March 31, 2010 compared with 2009.
 
Provision for Income Taxes
 
We estimate our full-year effective income tax rate at the end of each interim reporting period. This estimate is used in providing for income taxes on a year-to-date basis and may change in subsequent interim periods. The tax rate in any quarter can be affected positively and negatively by adjustments that are required to be reported in the specific quarter of resolution.
 
During the three months ended March 31, 2010, we recorded income tax expense of $19.2 million compared with an income tax expense of $12.0 million for the three months ended March 31, 2009. The increase in income tax expense of 59.8% is due to an increase in income before provision for income taxes of 66.9%, partially offset by a decrease in our effective income tax rates. Our effective income tax rate was 42.9% and 44.8% for the three months ended March 31, 2010 and 2009, respectively. The effective rates reflect the impact of state taxes, settlement contingencies and expenses that are not deductible for tax purposes.


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Years Ended December 31, 2009, 2008 and 2007
 
The following discussion presents an analysis of our results of operations for the years ended December 31, 2009, 2008 and 2007. Where appropriate, we have identified specific events and changes that affect comparability or trends, and where possible and practical, have quantified the impact of such items.
 
                                         
    Year Ended December 31,     Percentage Change  
   
2009
   
2008
   
2007
   
‘09 vs. ‘08
   
‘08 vs. ‘07
 
    (In thousands)              
 
Revenues
                                       
Commissions
  $ 1,477,655     $ 1,640,218     $ 1,470,285       (9.9 )%     11.6 %
Advisory fees
    704,139       830,555       738,938       (15.2 )%     12.4 %
Asset-based fees
    272,893       352,293       260,935       (22.5 )%     35.0 %
Transaction and other fees
    255,574       240,486       184,604       6.3 %     30.3 %
Other
    39,244       52,797       61,812       (25.7 )%     (14.6 )%
                                         
Net revenues
    2,749,505       3,116,349       2,716,574       (11.8 )%     14.7 %
                                         
Expenses
                                       
Production
    1,904,579       2,163,048       1,935,472       (11.9 )%     11.8 %
Compensation and benefits
    270,436       343,171       257,200       (21.2 )%     33.4 %
General and administrative
    218,416       266,447       199,895       (18.0 )%     33.3 %
Depreciation and amortization
    108,296       100,462       78,748       7.8 %     27.6 %
Restructuring charges
    58,695       14,966             292.2 %     *  
Other
    15,294       17,558       13,931       (12.9 )%     26.0 %
                                         
Total operating expenses
    2,575,716       2,905,652       2,485,246       (11.4 )%     16.9 %
Interest expense
    100,922       115,558       122,817       (12.7 )%     (5.9 )%
Loss on equity method investment
    300       2,374       678       (87.4 )%     250.1 %
                                         
Total expenses
    2,676,938       3,023,584       2,608,741       (11.5 )%     15.9 %
                                         
Income before provision for income taxes
    72,567       92,765       107,833       (21.8 )%     (14.0 )%
Provision for income taxes
    25,047       47,269       46,764       (47.0 )%     1.1 %
                                         
Net income
  $ 47,520     $ 45,496     $ 61,069       4.4 %     (25.5 )%
                                         
 
* Not meaningful.
 
Revenues
 
Commissions
 
The following table sets forth our commission revenue, by product category included in our consolidated statements of income for the periods indicated (in thousands):
 
                                                 
    Years Ended December 31,  
   
2009
   
% Total
   
2008
   
% Total
   
2007
   
% Total
 
 
Variable annuities
  $ 551,345       37.3 %   $ 627,021       38.2 %   $ 605,318       41.2 %
Mutual funds
    389,458       26.4 %     474,948       28.9 %     498,880       33.9 %
Fixed annuities
    225,342       15.3 %     179,743       11.0 %     42,775       2.9 %
Equities
    86,606       5.8 %     85,586       5.2 %     82,215       5.6 %
Alternative investments
    77,079       5.2 %     112,706       6.9 %     113,183       7.7 %
Fixed income
    75,210       5.1 %     65,309       4.0 %     48,552       3.3 %
Insurance
    69,907       4.7 %     91,327       5.6 %     77,613       5.3 %
Other
    2,708       0.2 %     3,578       0.2 %     1,749       0.1 %
                                                 
Total commission revenue
  $ 1,477,655       100.0 %   $ 1,640,218       100.0 %   $ 1,470,285       100.0 %
                                                 


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Commission revenue decreased by $162.6 million, or 9.9%, for 2009 compared to 2008. Transaction-based commissions decreased as a result of market turbulence and volatility that dampened client demand for purchases of new financial products, particularly in the more market sensitive products such as mutual funds, alternative investments and variable annuities. This decline was partially offset by increased sales of products with more predictable cash flows such as fixed annuities and fixed income securities, which investors normally favor during periods of uncertain equity markets. Trail commissions also decreased as a result of the effect of the market’s decline on the underlying assets eligible for trail commissions, partially offset by additional sales of assets eligible for trail payment.
 
Commission revenue increased by $169.9 million, or 11.6%, for 2008 compared to 2007, fueled primarily by the commission base obtained through our acquisitions of the Affiliated Entities and IFMG. Organic commission revenue growth remained relatively flat during this same period, attributed to the successful recruitment of our base of advisors which increased 7.5% to 11,920 in 2008 from 11,089 in 2007, largely offset by a decline in commissionable transactions and brokerage assets under management due to the unfavorable market conditions in 2008.
 
Advisory Fees
 
Advisory fees decreased by $126.4 million, or 15.2%, for 2009 compared to 2008. The decrease primarily reflects the effect of the decline in the equity markets during 2009 as compared to 2008. For 2009, the S&P 500 index averaged 948, down 22.3% from the average for 2008. This decrease was partially offset by increasing sales attributed to new advisory relationships.
 
Advisory fees increased by $91.6 million, or 12.4%, in 2008 from 2007, driven in part by the advisory fee base obtained through our acquisitions of the Affiliated Entities and IFMG and increased sales attributed to new advisory relationships. The growth in advisory fees from 2007 to 2008 was negatively impacted by declines in the equity market during the second half of 2008. The S&P 500 index averaged 1,220 for 2008, a decrease of 17.4% from 2007.
 
Asset-Based Fees
 
Asset-based fees decreased by $79.4 million, or 22.5%, for 2009 compared to 2008. This decrease resulted in part from the decline in the market value of assets included in our various sponsor and asset-based record-keeping programs, as the average for the S&P 500 index declined 22.3% from 2008 to 2009. Asset-based revenues in 2009 were also negatively impacted by the declining interest rate environment as reflected by the average effective federal funds rate and its influence on fees associated with our cash sweep programs. For the year ended December 31, 2009, the effective federal funds rate averaged 0.16% compared to 1.92% for the prior year. Assets in our cash sweep programs averaged $20.5 billion and $19.3 billion for the years ended December 31, 2009 and 2008, respectively.
 
Asset-based fees increased by $91.4 million, or 35.0%, from 2007 to 2008. Fees from our cash sweep programs increased $60.9 million driven primarily by a 72.7% increase in the average assets custodied in these programs, which can be attributed to prevailing negative market conditions and the resulting shift of client assets from invested capital to our cash sweep programs. During periods of financial uncertainty, the amount of client assets held in cash products increases as investors seek to reduce the risk profile of their investments. For 2008, the increase associated with this trend was partially offset by the negative interest rate environment and its influence on the margins associated with these products.
 
Transaction and Other Fees
 
Transaction and other fees increased $15.1 million, or 6.3%, for 2009 compared to 2008. This increase was primarily attributed to increases in our number of advisors and their client accounts. We also had increases of $6.6 million in charges to advisors largely for professional liability insurance


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premiums and $5.3 million in IRA custodial fees. Transaction and other fees include revenues from conferences held for advisors; these revenues declined by $4.4 million from 2008 to 2009, as we cancelled various conferences as a part of our cost containment efforts.
 
Transaction and other fees increased $55.9 million, or 30.3%, in 2008 from 2007. The increase was attributed primarily to a 59.3% increase in trade volume in 2008. This increase was primarily attributable to an increase in the number of underlying client accounts through our acquisitions of the Affiliated Entities and IFMG.
 
Other Revenue
 
Other revenue decreased $13.6 million, or 25.7%, for 2009 compared to 2008. The decrease was due primarily to lower interest revenue from client margin lending activities and to a lesser extent by lower interest income earned on our cash equivalents. Our average client margin balances decreased 33.5% from $328.3 million in 2008 to $218.3 million in 2009, reflecting a reduced demand by clients for margin leverage in reaction to volatility in the equity markets. Margin balances have typically decreased during periods of declining, volatile markets such as those experienced beginning in 2008.
 
Other revenue decreased $9.0 million, or 14.6%, in 2008 from 2007. Prior to our dissolution of our mortgage subsidiary, Innovex, other revenue also consisted of gains on the sale of mortgage loans held for sale. Through our mortgage affiliate Innovex, we recognized gains related to mortgage loans held for sale during 2007 that did not recur in 2008 because we ceased the operations of Innovex on December 31, 2007.
 
Expenses
 
Production Expenses
 
Production expenses decreased by $258.5 million, or 11.9%, for 2009 compared to 2008. Commission and advisory revenues declined $289.0 million, or 11.7%, during the same period, resulting in a corresponding decrease in our production payout to our advisors. Our production payout averaged 85.8% in 2009 and 86.3% in 2008.
 
Production expenses increased by $227.6 million, or 11.8%, for 2008 compared to 2007. The increase in production expenses was highly correlated with our increase in commission and advisory revenues, which increased by $261.6 million, or 11.8%, for 2008 compared to 2007. Our production payout averaged 86.3% in 2008 and 86.4% in 2007.
 
Compensation and Benefits Expense
 
Compensation and benefits expense decreased by $72.7 million, or 21.2%, for 2009 compared to 2008. The decrease was primarily attributed to our ongoing strategic business review and resulting cost management initiatives. These initiatives, along with ordinary attrition and retirements, resulted in our average number of full-time employees declining by 383, or 13.6%, to 2,430 for 2009, compared to 2,813 for 2008. Compensation and benefits expense in 2009 was further reduced from 2008 levels due to reductions in employee-related items including reduction in bonuses and elimination of the employer contribution to our retirement plans.
 
Compensation and benefits increased by $86.0 million, or 33.4%, for 2008 compared to 2007. The increase was attributed to salaries and benefits and the average number of full-time employees, which grew by 729, or 35.0%, to 2,813 in 2008, compared to 2,084 in 2007, primarily due to our acquisitions of the Affiliated Entities and IFMG and resulting integration efforts, and our initiative to strengthen our service infrastructure.


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General and Administrative Expenses
 
General and administrative expenses decreased by $48.0 million, or 18.0%, for 2009 compared to 2008. The decrease was primarily attributable to our ongoing strategic business review and resulting cost reduction measures which led to decreases of $38.3 million in promotional fees, $8.3 million in occupancy and equipment, $5.8 million in travel and entertainment and $3.8 million in communications and data processing.
 
General and administrative expenses increased by $66.6 million, or 33.3%, for 2008 compared to 2007. The increase was primarily attributable to increases of $35.4 million in promotional fees and business development expenses, $15.3 million in occupancy and equipment and $12.1 million in communication and data processing. The increase in these expenses was primarily due to our acquisitions of the Affiliated Entities and IFMG, and resulting integration efforts to support our overall growth.
 
Depreciation and Amortization Expense
 
Depreciation and amortization expense increased by $7.8 million, or 7.8%, for 2009 compared to 2008. The increase was attributed to capital expenditures made to support integration efforts related to the Affiliated Entities and the general growth of our business.
 
Depreciation and amortization expense increased by $21.7 million, or 27.6%, for 2008 compared to 2007, attributed to amortization of identifiable intangible assets and depreciation and amortization of fixed assets resulting from our acquisitions of the Affiliated Entities and IFMG, as well as capital expenditures made to support integration efforts and the general growth of our business.
 
Restructuring Charges
 
Restructuring charges were $58.7 million in 2009, compared to $15.0 million in 2008. In 2009, restructuring charges were incurred for severance and termination benefits of $9.5 million, contract termination costs of $15.9 million, asset impairment charges of $19.9 million and $13.9 million in other expenditures principally relating to the conversion and transfer of advisors and their client accounts from the Affiliated Entities to LPL Financial. These costs were partially offset by $0.5 million in adjustments that were recorded in the first half of 2009 for changes in cost estimates associated with post-employment benefits provided to employees impacted by our 2008 strategic business review.
 
In 2008, we committed to and implemented a strategic business review, resulting in a reduction in our overall workforce of approximately 250 employees, or approximately 10% of our workforce. Accordingly, we recorded a $15.0 million restructuring charge at the time such plan was communicated to our employees.
 
Other Expenses
 
Other expenses decreased by $2.3 million, or 12.9%, from 2008 to 2009. The decrease was primarily due to cost reduction measures.
 
Other expenses increased by $3.6 million, or 26.0%, from 2007 to 2008. The increase was due primarily to increases in bad debt expense and write-off activity with respect to our advisors. The remaining increase was due to storage services, which grew by $1.1 million in 2008.
 
Interest Expense
 
Interest expense decreased by $14.6 million, or 12.7%, for 2009 compared with 2008. The decline reflected lower average interest rates on our borrowings due in part to a credit rating upgrade received in the third quarter of 2008, partially offset by an increase in the average principal amount of debt outstanding due primarily to borrowings under our revolving credit facility. Our average


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outstanding borrowing activity in the revolving and uncommitted line of credit facilities increased by $7.8 million from $48.7 million for 2008 to $56.5 million for 2009.
 
Interest expense decreased by $7.3 million, or 5.9%, from 2007 to 2008, reflecting lower average interest rates on our borrowings due in part by a credit rating upgrade, partially offset by an increase in the principal amount of debt outstanding.
 
Loss on Equity Method Investment
 
Loss on equity investment decreased by $2.1 million, or 87.4%, for 2009 compared to 2008. The decrease was attributed to a $1.7 million other than temporary impairment charge incurred during the second quarter of 2008.
 
Loss on equity method investment increased by $1.7 million, or 250.1%, for 2008 compared to 2007, due to the $1.7 million other than temporary impairment charge during the second quarter of 2008.
 
Provision for Income Taxes
 
Our provision for income taxes decreased by $22.2 million, or 47.0%, between 2008 and 2009. The decrease was primarily the result of a decrease in the effective income tax rate under GAAP, which was 34.5% for 2009 as compared to 51.0% for 2008, as well as a decline in pre-tax income. In addition, our current effective tax rate reflects a benefit of approximately 8% from a newly enacted change to California’s income sourcing rules that are scheduled to take effect on January 1, 2011. This change requires us to revalue our deferred tax liabilities to the rate that will be in effect when the tax liabilities are utilized.
 
Our provision for income taxes increased by $0.5 million, or 1.1%, between 2007 and 2008. The increase was primarily the result of an increase in the effective income tax rate under GAAP, which was 51.0% for 2008 as compared to 43.4% for 2007, offset largely by a decline in pre-tax income. Changes in our effective tax rates reflect additional expenses and/or changes in our estimates for expenses that cannot be deducted for income tax purposes, namely a change in our estimates for certain state income tax rates and the impact of that change on our deferred tax liabilities. Additional increases in our effective tax rates relate to increases in items such as meals and entertainment and compensation for incentive stock options.
 
Quarterly Results of Operations
 
The following table sets forth our unaudited consolidated operating results for each of the nine quarters in the prior two-year period plus the interim quarter ended March 31, 2010. This information is derived from our unaudited financial statements, which in the opinion of management contain all adjustments consisting of only normal recurring adjustments, that we consider necessary for a fair statement of such financial data. Operating results for these periods are not necessarily indicative of the operating results for a full year. Historical results are not necessarily indicative of the results to be


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expected in future periods. You should read this data together with our consolidated financial statements and the related notes included elsewhere in this prospectus.
 
                                                                         
    March 31,
    December 31,
    September 30,
    June 30,
    March 31,
    December 31,
    September 30,
    June 30,
    March 31,
 
    2010     2009     2009     2009     2009     2008     2008     2008     2008  
    (unaudited)  
    (in thousands, except per share)  
 
Net revenues
  $ 743,406     $ 734,884     $ 702,326     $ 669,317     $ 642,978     $ 703,839     $ 799,341     $ 814,720     $ 798,449  
Gross margin(1)
  $ 230,204     $ 218,006     $ 221,144     $ 205,329     $ 200,447     $ 211,844     $ 251,788     $ 244,551     $ 245,118  
Net income (loss)
  $ 25,554     $ 18,598     $ (1,456 )   $ 15,581     $ 14,797     $ 2,360     $ 17,168     $ 14,303     $ 11,665  
Earnings (loss) per share — basic
  $ 0.29     $ 0.21     $ (0.02 )   $ 0.18     $ 0.17     $ 0.03     $ 0.20     $ 0.17     $ 0.14  
Earnings (loss) per share — diluted
  $ 0.25     $ 0.19     $ (0.02 )   $ 0.16     $ 0.15     $ 0.02     $ 0.17     $ 0.14     $ 0.12  
Other Finance and Operating Data
                                                                       
Adjusted EBITDA(2)
                                                                       
Net income (loss)
  $ 25,554     $ 18,598     $ (1,456 )   $ 15,581     $ 14,797     $ 2,360     $ 17,168     $ 14,303     $ 11,665  
Interest expense
    24,336       24,323       24,626       26,032       25,941       29,332       27,205       28,538       30,483  
Income tax expense
    19,162       1,521       (5,029 )     16,567       11,988       5,285       17,249       16,101       8,634  
Depreciation and amortization
    25,590       26,700       26,924       27,277       27,395       28,283       24,786       23,771       23,622  
                                                                         
EBITDA
  $ 94,642     $ 71,142     $ 45,065     $ 85,457     $ 80,121     $ 65,260     $ 86,408     $ 82,713     $ 74,404  
EBITDA Adjustments:
                                                                       
Share-based compensation expense(3)
  $ 2,536     $ 2,525     $ 1,640     $ 1,047     $ 1,225     $ 887     $ 1,409     $ 1,049     $ 815  
Acquisition and integration related expenses(4)
    140       648       728       839       822       1,500       2,324       9,960       4,542  
Restructuring and conversion costs(5)
    7,979       20,497       42,135       2,285       (259 )     15,122                    
Other(6)
    160       37       38       37       39       1,017       227       2,471       63  
                                                                         
Adjusted EBITDA(2)
  $ 105,457     $ 94,849     $ 89,606     $ 89,665     $ 81,948     $ 83,786     $ 90,368     $ 96,193     $ 79,824  
                                                                         
Net income (loss)
  $ 25,554     $ 18,598     $ (1,456 )   $ 15,581     $ 14,797     $ 2,360     $ 17,168     $ 14,303     $ 11,665  
After-Tax:
                                                                       
EBITDA Adjustments(7)
    7,015       14,745       27,177       2,772       1,395       11,442       2,712       8,364       3,527  
Amortization of purchased intangible assets(7)(8)
    8,530       8,714       8,994       9,120       9,119       9,892       9,228       9,096       9,106  
                                                                         
Adjusted Net Income(2)
  $ 41,099     $ 42,057     $ 34,715     $ 27,473     $ 25,311     $ 23,694     $ 29,108     $ 31,763     $ 24,298  
                                                                         
Adjusted Net Income per share(9)
  $ 0.42     $ 0.43     $ 0.35     $ 0.28     $ 0.26     $ 0.24     $ 0.29     $ 0.32     $ 0.24  
Weighted average shares outstanding — diluted
    98,945       98,787       98,703       98,501       97,959       100,170       100,444       100,498       99,812  
 
(1) Gross margin is calculated as net revenues less production expenses. Production expenses consist of the following expense categories from our consolidated statements of income: (i) commissions and advisory fees and (ii) brokerage, clearing and exchange. All other expense categories, including depreciation and amortization, are considered general and administrative in nature. Because our gross margin amounts do not include any depreciation and amortization expense, our gross margin amounts may not be comparable to those of others in our industry.
 
(2) This table includes a reconciliation of Adjusted EBITDA and Adjusted Net Income to net income. For a description of why we present Adjusted EBITDA and Adjusted Net Income please see “— How We Evaluate Growth.”
 
(3) Represents share-based compensation for stock options awarded to our employees and non-executive directors.
 
(4) Represents acquisition and integration costs primarily as a result of our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.


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(5) Represents organizational restructuring charges incurred in 2008 and 2009 for severance and one-time termination benefits, assets impairments, lease and contract termination fees and other transfer costs, pursuant to the terms of our senior secured credit agreement.
 
(6) Represents impairment charges in 2008 for our equity investment in Blue Frog, as well as other taxes and employment tax withholding related to a nonqualified deferred compensation plan.
 
(7) EBITDA Adjustments and amortization of purchased intangible assets, a component of depreciation and amortization, have been tax effected using a federal rate of 35% and our applicable effective state rate which ranged from 4.23% to 4.71%.
 
(8) Represents amortization of intangible assets and software which were $14.1 million, $14.4 million, $14.9 million, $15.1 million, $15.1 million, $16.4 million, $15.3 million, $15.0 million and $15.0 million before taxes for the three months ended March 31, 2010, December 31, 2009, September 30, 2009, June 30, 2009, March 31, 2009, December 31, 2008, September 30, 2008, June 30, 2008 and March 31, 2008, respectively. The amortization of intangible assets and software was a result of our purchase accounting adjustments from our merger transaction in 2005 with the Majority Holders and our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
(9) Represents Adjusted Net Income divided by weighted average number of shares outstanding on a fully diluted basis. Set forth is a reconciliation of earnings per share on a fully diluted basis as calculated in accordance with GAAP to Adjusted Net Income per share:
 
                                                                         
    March 31,
    December 31,
    September 30,
    June 30,
    March 31,
    December 31,
    September 30,
    June 30,
    March 31,
 
    2010     2009     2009     2009     2009     2008     2008     2008     2008  
    (unaudited)  
 
Earnings per share (diluted)
  $ 0.25     $ 0.19     $ (0.02 )   $ 0.16     $ 0.15     $ 0.02     $ 0.17     $ 0.14     $ 0.12  
Adjustment for allocation of undistributed earnings to stock units
  $ 0.01     $     $     $     $ 0.01     $     $     $     $  
After-Tax:
                                                                       
EBITDA Adjustments per share
  $ 0.07     $ 0.15     $ 0.28     $ 0.03     $ 0.01     $ 0.12     $ 0.03     $ 0.08     $ 0.03  
Amortization of purchased intangible assets per share
  $ 0.09     $ 0.09     $ 0.09     $ 0.09     $ 0.09     $ 0.10     $ 0.09     $ 0.10     $ 0.09  
                                                                         
Adjusted Net Income per share
  $ 0.42     $ 0.43     $ 0.35     $ 0.28     $ 0.26     $ 0.24     $ 0.29     $ 0.32     $ 0.24  
                                                                         
 
Liquidity and Capital Resources
 
Senior management establishes our liquidity and capital policies. These policies include senior management’s review of short- and long-term cash flow forecasts, review of monthly capital expenditures and daily monitoring of liquidity for our subsidiaries. Decisions on the allocation of capital include projected profitability and cash flow, risks of the business, regulatory capital requirements and future liquidity needs for strategic activities. Our Treasury Department assists in evaluating, monitoring and controlling the business activities that impact our financial condition, liquidity and capital structure and maintains relationships with various lenders. The objectives of these policies are to support the executive business strategies while ensuring ongoing and sufficient liquidity.


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A summary of changes in cash flow data is provided as follows (in thousands):
 
                                         
    Three Months
       
    Ended March 31,     Year Ended December 31,  
   
2010
   
2009
   
2009
   
2008
   
2007
 
 
Net cash flows provided by (used in):
                                       
Operating activities
  $ (86,022 )   $ 103,885     $ 271,157     $ 89,277     $ 10,072  
Investing activities
    (3,775 )     (1,905 )     (13,724 )     (76,202 )     (168,275 )
Financing activities
    35,964       (1,825 )     (98,078 )     18,161       101,043  
                                         
Net increase (decrease) in cash and cash equivalents
    (53,833 )     100,155       159,355       31,236       (57,160 )
Cash and cash equivalents — beginning of period
    378,594       219,239       219,239       188,003       245,163  
                                         
Cash and cash equivalents — end of period
  $ 324,761     $ 319,394     $ 378,594     $ 219,239     $ 188,003  
                                         
 
Cash requirements and liquidity needs are primarily funded through our cash flow from operations and our capacity for additional borrowing.
 
Net cash used in or provided by operating activities includes net income adjusted for non-cash expenses such as depreciation and amortization, restructuring charges, share based compensation, deferred income tax provision and changes in operating assets and liabilities. Operating assets and liabilities include balances related to settlement and funding of client transactions, receivables from product sponsors and accrued commissions and advisory fees due to our advisors. Operating assets and liabilities that arise from the settlement and funding of transactions by our advisors’ clients are the principal cause of changes to our net cash from operating activities and can fluctuate significantly from day to day and period to period depending on overall trends and client behaviors. Net cash used in operating activities for the three months ended March 31, 2010 was $86.0 million, compared to net cash provided by operating activities of $103.9 million for the three months ended March 31, 2009.
 
Net cash provided by operating activities for 2009, 2008 and 2007 totaled $271.2 million, $89.3 million and $10.1 million, respectively.
 
Net cash used in investing activities for the three months ended March 31, 2010 and March 31, 2009 totaled $3.8 million and $1.9 million, respectively. The increase for the three months ended March 31, 2010 as compared to the three months ended March 31, 2009 was principally due to a $2.5 million deposit to the escrow account in the first quarter of 2010 (See Note 3 of our unaudited condensed consolidated financial statements).
 
Net cash used in investing activities for 2009, 2008 and 2007, totaled $13.7 million, $76.2 million and $168.3 million, respectively. The decrease in 2009 as compared to 2008 was principally due to a decrease in capital expenditures and acquisition activity. The decrease in 2008 as compared to 2007 was principally due to our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
Net cash provided by financing activities for the three months ended March 31, 2010 was $36.0 million, compared to net cash used in financing activities of $1.8 million for the three months ended March 31, 2009. The increase in cash provided by financing activities for the three months ended March 31, 2010 as compared to the three months ended March 31, 2009 was primarily related to proceeds of $40.0 million from our uncommitted lines of credit in the first quarter of 2010.
 
Net cash used in financing activities for 2009 was $98.1 million, compared to net cash provided by financing activities for 2008 and 2007 of $18.2 million and $101.0 million, respectively. The decrease in 2009 as compared to 2008 was primarily related to a $90.0 million pay down on our revolving line of credit, which occurred in 2009. The decrease in 2008 as compared to 2007 was primarily related to borrowings under our senior secured credit facilities, which did not recur at the


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same level in 2008. These borrowings in 2007 were principally related to our acquisitions of UVEST, the Affiliated Entities and IFMG.
 
We believe that based on current levels of operations and anticipated growth, cash flow from operations, together with other available sources of funds, will be adequate to satisfy our working capital needs, the payment of all of our obligations and the funding of anticipated capital expenditures for the foreseeable future.
 
Operating Capital Requirements
 
Our primary requirement for working capital relates to funds we loan to our advisors’ clients for trading done on margin and funds we are required to maintain at clearing organizations to support these clients’ trading activities. We require that our advisors’ clients deposit funds with us in support of their trading activities and we hypothecate securities held as margin collateral, which we in turn use to lend to clients for margin transactions and deposit with our clearing organizations. These activities account for the majority of our working capital requirements, which are primarily funded directly or indirectly by our advisors’ clients. Our other working capital needs are primarily limited to regulatory capital requirements and software development, which we have satisfied in the past from internally generated cash flows.
 
Notwithstanding the self-funding nature of our operations, we may sometimes be required to fund timing differences arising from the delayed receipt of client funds associated with the settlement of client transactions in securities markets. Historically, these timing differences were funded either with internally generated cash flow or, if needed, with funds drawn under short-term borrowing facilities, including both committed unsecured lines of credit and uncommitted lines of credit secured by client securities. LPL Financial, one of our broker-dealer subsidiaries, utilizes uncommitted lines secured by client securities to fund margin loans and other client transaction-related timing differences.
 
Our registered broker-dealers are subject to the SEC’s Uniform Net Capital Rule, which requires the maintenance of minimum net capital. LPL Financial and Associated compute net capital requirements under the alternative method, which requires firms to maintain minimum net capital, as defined, equal to the greater of $250,000 or 2% of aggregate debit balances arising from client transactions plus 1% of net commission payable, as defined. LPL Financial is also subject to the CFTC’s minimum financial requirements, which require that it maintain net capital, as defined, equal to 4% of customer funds required to be segregated pursuant to the Commodity Exchange Act, less the market value of certain commodity options, all as defined. UVEST, MSC and WFG all compute net capital requirements under the aggregate indebtedness method, which requires firms to maintain minimum net capital, as defined, of not less than 6.67% of aggregate indebtedness plus 1% of net commission payable, also as defined.
 
Our subsidiary, The Private Trust Company, N.A. (“PTC”), is subject to various regulatory capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our consolidated financial statements.
 
Liquidity Assessment
 
Our ability to meet our debt service obligations and reduce our total debt will depend upon our future performance which, in turn, will be subject to general economic, financial, business, competitive, legislative, regulatory and other conditions, many of which are beyond our control. In addition, our operating results, cash flow and capital resources may not be sufficient for repayment of our indebtedness in the future. Some risks that could materially adversely affect our ability to meet our debt service obligations include, but are not limited to, general economic conditions and economic activity in the financial markets. The performance of our business is correlated with the economy and


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financial markets, and a continuing slowdown in the economy or financial markets could adversely affect our business, results of operations, cash flows or financial condition.
 
If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay investments, seek additional capital or restructure or refinance our indebtedness. These measures may not be successful and may not permit us to meet our scheduled debt service obligations. In the absence of sufficient cash flows and capital resources, we could face substantial liquidity constraints and might be required to dispose of material assets or operations to meet our debt service and other obligations. However, our senior secured credit agreement will restrict our ability to dispose of assets and the use of proceeds from any such dispositions. We may not be able to consummate those dispositions, and even if we could consummate such dispositions, or to obtain the proceeds that we could realize from them and, in any event, the proceeds may not be adequate to meet any debt service obligations then due.
 
Indebtedness
 
On May 24, 2010, we amended and restated our senior secured credit agreement to add a new term loan tranche of $580.0 million maturing at June 28, 2017, which we used, together with cash on hand, to repay our $550.0 million of senior unsecured subordinated notes, as described below. We also extended the maturity of a $500.0 million tranche of our term loan facility to June 25, 2015, with the remaining $317.1 million tranche maturing at the original maturity date of June 28, 2013.
 
On May 24, 2010, we gave notice of redemption of all of our outstanding senior unsecured subordinated notes. As of March 31, 2010, we had outstanding $550.0 million of our senior unsecured subordinated notes. The redemption price of the senior unsecured subordinated notes is 105.375% of the outstanding aggregate principal amount, plus accrued and unpaid interest thereon up to but not including June 22, 2010 (the “Redemption Date”). The senior unsecured subordinated notes were redeemed on the Redemption Date.
 
We also maintain a revolving credit facility which is provided through the senior secured credit facilities. On January 25, 2010, we amended our senior secured credit agreement to increase the revolving credit facility from $100 million to $218.2 million. In connection with this amendment, we extended the maturity of a $163.5 million tranche of the revolving credit facility to June 28, 2013. The remaining $54.7 million tranche retains its original maturity date of December 28, 2011.
 
We also maintain two uncommitted lines of credit. One of the lines has an unspecified limit, and is primarily dependent on our ability to provide sufficient collateral. The other line has a limit of $100 million (increased to $150 million on May 27, 2010) and allows for both collateralized and uncollateralized (unsecured) borrowings.
 
We also are a party to interest rate swap agreements, in a notional amount of $400 million, to mitigate interest rate risk by hedging the variability of a portion of our floating-rate senior secured term loan.
 
Interest Rate and Fees
 
Borrowings under our senior secured credit facilities bear interest at a base rate equal to the one, two, three, six, nine or twelve-month LIBOR plus our applicable margin, or an alternative base rate (“ABR”) plus our applicable margin. The ABR is equal to the greatest of (a) the prime rate in effect on such day, (b) the effective federal funds rate in effect on such day plus 0.5% and (c) solely in the case of the 2015 Term Loans and the 2017 Term Loans, 2.50%.
 
The applicable margin for borrowings (a) with respect to the 2013 Term Loans is currently 0.75% for base rate borrowings and 1.75% for LIBOR borrowings, (b) with respect to the 2015 Term Loans is currently 1.75% for base rate borrowings and 2.75% for LIBOR borrowings, (c) with respect to the 2017 Term Loans is currently 2.75% for base rate borrowings and 3.75% for LIBOR borrowings, (d) with respect to revolver tranche maturing in 2011 is currently 1.00% for base rate borrowings and


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2.00% for LIBOR borrowings and (e) with respect to revolver tranche maturing in 2013 is currently 2.50% for base rate borrowings and 3.50% for LIBOR borrowings. The applicable margin on our 2013 Term Loans could change depending on our credit rating. The LIBOR Rate with respect to the 2015 Term Loans and the 2017 Term Loans shall in no event be less than 1.50%.
 
In addition to paying interest on outstanding principal under the senior secured credit facilities, we are required to pay a commitment fee to the lenders under the revolving credit facility in respect of the unutilized commitments thereunder. The commitment fee rates at March 31, 2010 were 0.375% for our revolver tranche maturing in 2011 and 0.75% for our revolver tranche maturing in 2013, but are subject to change depending on our leverage ratio. We must also pay customary letter of credit fees.
 
Prepayments
 
The senior secured credit facilities (other than the revolving credit facility) require us to prepay outstanding amounts under our senior secured term loan facility subject to certain exceptions, with:
 
  •  50% (percentage will be reduced to 25% if our total leverage ratio is 5.00 or less and to 0% if our total leverage ratio is 4.00 or less) of our annual excess cash flow (as defined in our senior secured credit agreement) adjusted for, among other things, changes in our net working capital;
 
  •  100% of the net cash proceeds of all nonordinary course asset sales or other dispositions of property, if we do not reinvest or commit to reinvest those proceeds in assets to be used in our business or to make certain other permitted investments within 15 months as long as such reinvestment is completed within 180 days and
 
  •  100% of the net cash proceeds of any incurrence of debt, other than proceeds from debt permitted under the senior secured credit agreement.
 
The foregoing mandatory prepayments will be applied to scheduled installments of principal of the senior secured term loan facility in direct order.
 
We may voluntarily repay outstanding loans under the senior secured credit agreement at any time without premium or penalty, other than customary “breakage” costs with respect to LIBOR loans.
 
Amortization
 
We are required to repay the loans under the senior secured term loan facility in equal quarterly installments in aggregate annual amounts equal to 1% of the original funded principal amount of such facility, with the balance being payable on the final maturity date of the facility.
 
Principal amounts outstanding under the revolving credit facilities are due and payable in full at maturity.
 
Guarantee and Security
 
The senior secured credit facilities are secured primarily through pledges of the capital stock in our subsidiaries.
 
Certain Covenants and Events of Default
 
The senior secured credit agreement contains a number of covenants that, among other things, restrict, subject to certain exceptions, our ability to:
 
  •  incur additional indebtedness;
 
  •  create liens;
 
  •  enter into sale and leaseback transactions;


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  •  engage in mergers or consolidations;
 
  •  sell or transfer assets;
 
  •  pay dividends and distributions or repurchase our capital stock;
 
  •  make investments, loans or advances;
 
  •  prepay certain subordinated indebtedness;
 
  •  engage in certain transactions with affiliates;
 
  •  amend material agreements governing certain subordinated indebtedness or
 
  •  change our lines of business.
 
Our senior secured credit facilities prohibit us from paying dividends and distributions or repurchasing our capital stock except for limited purposes, including, but not limited to payments in connection with: (i) redemption, repurchase, retirement or other acquisition of our equity interests from present or former officers, managers, consultants, employees and directors upon the death, disability, retirement, or termination of employment of any such person or otherwise in accordance with any stock option or stock appreciate rights plan, any management or employee stock ownership plan, stock subscription plan, employment termination agreement or any employment agreements or stockholders’ agreement, in an aggregate amount not to exceed $5.0 million in any fiscal year plus the amount of cash proceeds from certain equity issuances to such persons, the amount of equity interests subject to a certain deferred compensation plan and the amount of certain key-man life insurance proceeds, (ii) franchise taxes, general corporate and operating expenses not to exceed $3.0 million in any fiscal year, and fees and expenses related to any unsuccessful equity or debt offering permitted by the senior secured credit facilities, (iii) tax liabilities to the extent attributable to our business and our subsidiaries and (iv) dividends and other distributions in an aggregate amount not to exceed 50% of our cumulative consolidated net income available to stockholders at such time so long as at the time of such payment of dividend or the making of such distribution, and after giving effect thereto, our leverage ratio is less than 3.50:1.00.
 
In addition, our financial covenant requirements include a leverage ratio test and an interest coverage ratio test. Under our leverage ratio test, we covenant not to allow the ratio of our consolidated total debt (as defined in our senior secured credit agreement) to an adjusted EBITDA reflecting financial covenants in our senior secured credit facilities (“Credit Agreement Adjusted EBITDA”) to exceed certain prescribed levels set forth in the agreement. Under our interest coverage ratio test, we covenant not to allow the ratio of our Credit Agreement Adjusted EBITDA to our consolidated interest expense (as defined in our senior secured credit agreement) to be less than certain prescribed levels set forth in the agreement. Each of our financial ratios is measured at the end of each fiscal quarter.
 
Our senior secured credit agreement provides us with a right to cure in the event we fail to comply with our leverage ratio test or our interest coverage test. We must exercise this right to cure within ten days of the delivery of our quarterly certificate calculating the financial ratio for that quarter.
 
If we fail to comply with these covenants and are unable to cure, we could face substantial liquidity problems and could be forced to sell assets, seek additional capital or seek to restructure or refinance our indebtedness. These alternative measures may not be successful or feasible. Our senior secured credit agreement restricts our ability to sell assets. Even if we could consummate those sales, the proceeds that we realize from them may not be adequate to meet any debt service obligations then due. Furthermore, if an event of default were to occur with respect to our senior secured credit agreement, our creditors could, among other things, accelerate the maturity of our indebtedness. See “Risk Factors — Our indebtedness could adversely affect our financial health and may limit our ability to use debt to fund future capital needs.”


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As of March 31, 2010 and December 31, 2009, we were in compliance with all of our covenant requirements.
 
Our covenant requirements and pro forma ratios as of March 31, 2010 and December 31, 2009 are as follows:
 
                                 
    March 31, 2010   December 31, 2009
    Covenant
  Actual
  Covenant
  Actual
Financial Ratio
 
Requirement
 
Ratio
 
Requirement
 
Ratio
 
Leverage Test (Maximum)
    4.40       3.08       4.60       3.42  
Interest Coverage (Minimum)
    2.25       3.97       2.15       3.81  
 
Set forth below is a reconciliation from EBITDA, Adjusted EBITDA and Credit Agreement Adjusted EBITDA to our net income for the trailing twelve months ending March 31, 2010 and December 31, 2009 (in thousands):
 
                 
    Twelve Months Ended,  
    March 31,
    December 31,
 
   
2010
   
2009
 
 
Net income
  $ 58,277     $ 47,520  
Interest expense
    99,317       100,922  
Income tax expense
    32,221       25,047  
Depreciation and amortization
    106,491       108,296  
                 
EBITDA
    296,306       281,785  
Share-based compensation expense(1)
    7,748       6,437  
Acquisition and integration related expenses(2)
    2,355       3,037  
Restructuring and conversion costs(3)
    72,896       64,658  
Other(4)
    272       151  
                 
Adjusted EBITDA
    379,577       356,068  
Pro-forma adjustments(5)
           
                 
Credit Agreement Adjusted EBITDA
  $ 379,577     $ 356,068  
                 
 
(1) Represents share-based compensation for stock options awarded to employees and non-executive directors.
 
(2) Represents acquisition and integration costs primarily as a result of our 2007 acquisitions of UVEST, the Affiliated Entities and IFMG.
 
(3) Represents organizational restructuring charges incurred in 2008 and 2009 for severance and one-time termination benefits, assets impairments, lease and contract termination fees and other transfer costs, pursuant to the terms of our senior secured credit agreement.
 
(4) Represents excise and other taxes, pursuant to the terms of our senior secured credit agreement.
 
(5) Credit Agreement Adjusted EBITDA excludes pro forma general and administrative expenditures from acquisitions, as defined under the terms our senior secured credit agreement. There were no such adjustments for the twelve month periods ended March 31, 2010 and December 31, 2009.
 
Interest Rate Swaps
 
An interest rate swap is a financial derivative instrument whereby two parties enter into a contractual agreement to exchange payments based on underlying interest rates. We use interest rate swap agreements to hedge the variability on our floating rate for $400.0 million of our term loan under our senior secured credit facilities. We are required to pay the counterparty to the agreement fixed interest payments on a notional balance and in turn receive variable interest payments on that


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notional balance. Payments are settled quarterly on a net basis. As of March 31, 2010, we assessed our interest rate swaps as being highly effective and we expect them to continue to be highly effective. While approximately $417.1 million of our term loan remains unhedged as of March 31, 2010, the risk of variability on our floating interest rate is partially mitigated by the client margin loans on which we carry floating interest rates. At March 31, 2010, our receivables from our advisors’ clients for margin loan activity were approximately $222.6 million.
 
Senior Unsecured Subordinated Notes
 
As of March 31, 2010, we had outstanding $550.0 million of our senior unsecured subordinated notes. On May 24, 2010, we gave notice of redemption of all of our outstanding senior unsecured subordinated notes. The redemption price of the senior unsecured subordinated notes is 105.375% of the outstanding aggregate principal amount, plus accrued and unpaid interest thereon to but not including the Redemption Date. The senior unsecured subordinated notes were redeemed on the Redemption Date.
 
Prior to this redemption, our senior unsecured subordinated notes were due in 2015 and bore interest at 10.75% per annum. Interest payments were payable semi-annually in arrears.
 
Bank Loans Payable
 
We maintain two uncommitted lines of credit. One line has an unspecified limit, and is primarily dependent on the company’s ability to provide sufficient collateral. The other line has a $150.0 million limit and allows for both collateralized and uncollateralized borrowings. At March 31, 2010 there was a $40.0 million outstanding balance on the unsecured portion of one of the uncommitted lines of credit. The line was subsequently paid down in full on April 1, 2010. Both lines were utilized in 2009, however there were no balances outstanding at December 31, 2009.
 
Off-Balance-Sheet Arrangements
 
We enter into various off-balance-sheet arrangements in the ordinary course of business, primarily to meet the needs of our advisors’ clients. These arrangements include firm commitments to extend credit. For information on these arrangements, see Notes 14 and 20 to our consolidated financial statements.
 
Contractual Obligations
 
The following table provides information with respect to our commitments and obligations as of March 31, 2010:
 
                                         
    Payments Due by Period  
          < 1
    1-3
    4-5
    > 5
 
   
Total
   
Year
   
Years
   
Years
   
Years
 
    (In thousands)  
 
Leases and other obligations(1)
  $ 115,005     $ 29,688     $ 49,929     $ 22,099     $ 13,289  
Bank loans payable — unsecured
    40,000       40,000                    
Senior secured credit facilities and senior unsecured subordinated notes(2)(3)
    1,367,117       8,424       16,848       791,845       550,000  
Fixed interest payments
    337,505       59,125       118,250       118,250       41,880  
Variable interest payments(2)(3)
    92,617       20,174       64,268       8,175        
Interest rate swap agreements(2)(3)
    17,881       12,189       5,692              
                                         
Total contractual cash obligations
  $ 1,970,125     $ 169,600     $ 254,987     $ 940,369     $ 605,169  
                                         


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(1) Minimum payments have not been reduced by minimum sublease rental income of $0.5 million due in the future under noncancelable subleases. Note 10 of our unaudited condensed consolidated financial statements provides further detail on operating lease obligations and obligations under non-cancelable service contracts.
 
(2) Notes 8 and 9 of our unaudited condensed consolidated financial statements provide further detail on these debt obligations.
 
(3) Our senior secured credit facilities bear interest at floating rates. Of the $817.1 million outstanding at March 31, 2010, we have hedged the variable rate cash flows using interest rate swaps of $400.0 million of principal (see Notes 8 and 9 of our unaudited condensed consolidated financial statements for the three months ended March 31, 2010). Variable interest payments are shown for the unhedged ($417.1 million) portion of the senior secured credit facilities assuming the three-month LIBOR at March 31, 2010 remains unchanged (see Note 8 of our unaudited condensed consolidated financial statements for more information).
 
As of March 31, 2010, we reflect a liability for unrecognized tax benefits of $22.5 million, which we have included in income taxes payable on the unaudited condensed consolidated statements of financial condition. This amount has been excluded from the contractual obligations table because we are unable to reasonably predict the ultimate amount or timing of future tax payments.
 
Fair Value of Financial Instruments
 
We use fair value measurements to record certain financial assets and liabilities at fair value and to determine fair value disclosures.
 
We use prices obtained from an independent third-party pricing service to measure the fair value of our trading securities. We validate prices received from the pricing service using various methods including, comparison to prices received from additional pricing services, comparison to available market prices and review of other relevant market data including implied yields of major categories of securities. At March 31, 2010, we did not adjust prices received from the independent third-party pricing service. For certificates of deposit and treasury securities, we utilize market-based inputs including observable market interest rates that correspond to the remaining maturities or next interest reset dates.
 
Critical Accounting Policies
 
Our consolidated financial statements are prepared in accordance with GAAP, which require management to make estimates, judgments and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. We believe that of our critical accounting policies, the following are noteworthy because they require management to make estimates regarding matters that are uncertain and susceptible to change where such change may result in a material adverse impact on our financial position and reported financial results.
 
Revenue Recognition
 
We record commissions received from mutual funds, annuity, insurance, equity, fixed income, direct investment, option and commodity transactions on a trade-date basis. Commissions also include mutual fund and variable annuity trails, which are recognized as a percentage of assets under management over the period for which services are performed. Due to the significant volume of mutual fund and variable annuity purchases and sales transacted by financial advisors directly with product manufacturers, management must estimate a portion of its upfront commission and trail revenues for each accounting period for which the proceeds have not yet been received. These estimates are based on a number of factors including market levels, the volume of transactions in prior periods and cash receipts in the current period. We record commissions payable based upon standard payout ratios for each product as it accrues for commission revenue.


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Legal Reserves
 
We record reserves for legal proceedings in accounts payable and accrued liabilities in our consolidated statements of financial condition. The determination of these reserve amounts requires significant judgment on the part of management. We consider many factors including, but not limited to, the amount of the claim, the amount of the loss in the client’s account, the basis and validity of the claim, the possibility of wrongdoing on the part of a advisor, likely insurance coverage, previous results in similar cases and legal precedents and case law. Each legal proceeding is reviewed with counsel in each accounting period and the reserve is adjusted as deemed appropriate by management. Any change in the reserve amount is recorded as professional services in our consolidated statements of income.
 
Valuation of Goodwill and Other Intangibles
 
We test goodwill for impairment at least annually, or whenever indications of impairment exist. An impairment exists when the carrying amount of goodwill exceeds its implied fair value, resulting in an impairment charge for the excess.
 
The value of intangible assets, including goodwill, could be impacted by future adverse changes such as: (i) significant declines in our operating results, (ii) a significant decline in the valuation of comparable company stocks, (iii) a further significant slowdown of the worldwide economy or industry or (iv) any failure to meet the performance projections included in our forecasts of future operating results.
 
We perform an impairment analysis on our goodwill on an annual basis on the first day of the fourth fiscal quarter (October 1). In testing for a potential impairment of goodwill on October 1, 2009, the estimated fair value of each of our reporting units was significantly greater than its carrying value, and therefore we concluded that no amount of goodwill was impaired. At a reporting unit level, the estimated fair value was, at a minimum, 1.5 times its carrying value.
 
The fair value of our reporting units was estimated using the income approach methodology that includes the discounted cash flow method, and the market approach methodology that includes the use of market multiples. The discounted cash flows for each reporting unit were based on discrete financial forecasts developed by management for planning purposes and include significant assumptions about revenue growth, operating margins, discount rates and capital expenditures. Cash flows beyond the discrete forecasts were estimated using a terminal value calculation, which incorporated historical and forecasted financial trends for each identified reporting unit and considered long-term earnings growth for publicly traded peer companies. Future cash flows were discounted to present value by incorporating the present value techniques discussed in Financial Accounting Standards Board Concepts Statement 7, Using Cash Flow Information and Present Value in Accounting Measurements.
 
In addition, publicly available information regarding peer companies with comparable market capitalization was also considered in assessing the reasonableness of cumulative fair values of our reporting units estimated using the market approach methodology. In our analysis, we developed appropriate valuation multiples for each of our reporting units. Specifically, we considered valuation multiples of our peer companies including revenue, EBITDA, net income and after-tax cash flows.
 
The income approach valuations included reporting unit cash flow discount rates ranging from 12.1% to 16.0% and terminal growth rates of 3.0%. Our discount rate represents our weighted average cost of capital adjusted for company-specific risk premium. The development of the weighted average cost of capital used in our estimate of fair value considered current market conditions for the equity-risk premium and risk-free interest rate, benchmark capital structures for guideline companies with characteristics similar to our reporting units, the size and industry of our reporting units and risks related to the forecast of future revenues and profitability of our reporting units. The discount rate incorporates current market participant considerations, as indicated above,


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and decreased year over year, as increases in the weighted average cost of capital (due to general economic conditions) were offset by reductions in the company-specific risk premium. The company-specific risk premium was reduced primarily due to lower long-term growth and profitability assumptions associated with the 2009 forecast. The weighted average cost of capital used in the estimate of fair value in future periods may be impacted by changes in market conditions (including those of market participants), as well as the future performance of our reporting units and is subject to change, based on changes in specific facts and circumstances.
 
Significant management judgment is required in the forecasts of future operating results that are used in the discounted cash flow method of valuation. The estimates we have used are consistent with the plans and estimates that we use to manage or business. It is possible, however, that the plans may change and estimates used may prove to be inaccurate. Changes in our planned business operations such as unanticipated competition, a loss of key personnel, the sale of a reporting unit or a significant portion of a reporting unit or other unforeseen developments could result in an impairment of our recorded goodwill. Changes in forecasted operating results and other assumptions could materially affect those estimates.
 
We review our property, equipment, capitalized software and intangible assets for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Such events or changes may include a deterioration in the business climate or a significant adverse change in the extent or manner in which a long-lived asset is being used. If the total of projected future undiscounted cash flows is less than the carrying amount of an asset, we may need to record an impairment loss based on the excess of the carrying amount over the fair value of the assets.
 
Income Taxes
 
We estimate income tax expense based on the various jurisdictions where we conduct business. We must then assess the likelihood that the deferred tax assets will be realized. A valuation allowance is established to the extent that it is more-likely-than-not that such deferred tax assets will not be realized. When we establish a valuation allowance or modify the existing allowance in a certain reporting period, we generally record a corresponding increase or decrease to the provision for income taxes in the consolidated statements of income. We make significant judgments in determining the provision for income taxes, the deferred tax assets and liabilities and any valuation allowances recorded against the deferred tax asset. Changes in the estimate of these taxes occur periodically due to changes in the tax rates, changes in the business operations, implementation of tax planning strategies, resolution with taxing authorities of issues where we have previously taken certain tax positions and newly enacted statutory, judicial and regulatory guidance. These changes, when they occur, affect accrued taxes and can be material to our operating results for any particular reporting period.
 
Additionally, we account for uncertain tax positions in accordance with GAAP. The application of income tax law is inherently complex. Laws and regulations in this area are voluminous and are often ambiguous. We are required to make many subjective assumptions and judgments regarding our income tax exposures. Interpretations of and guidance surrounding income tax laws and regulations change over time. As such, changes in our subjective assumptions and judgments can materially affect amounts recognized in our consolidated financial statements.
 
Valuation and Accounting for Financial Derivatives
 
We periodically use financial derivative instruments, such as interest rate swap agreements, to protect us against changing market prices or interest rates and the related impact to our assets, liabilities, or cash flows. We also evaluate our contracts and commitments for terms that qualify as embedded derivatives. All derivatives are reported at their corresponding fair value in our consolidated statements of financial condition.


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Financial derivative instruments expected to be highly effective hedges against changes in cash flows are designated as such upon entering into the agreement. At each reporting date, we reassess the effectiveness of the hedge to determine whether or not it can continue to use hedge accounting. Under hedge accounting, we record the increase or decrease in fair value of the derivative, net of tax impact, as other comprehensive income or losses. If the hedge is not determined to be a perfect hedge, yet still considered highly effective, we will calculate the ineffective portion and record the related change in its fair value as additional interest income or expense in the consolidated statements of income. Amounts accumulated in other comprehensive income are generally reclassified into earnings in the same period or periods during which the hedged forecasted transaction affects earnings.
 
Share-Based Compensation
 
Certain employees, advisors, officers and directors who contribute to our success participate in various stock option plans. In addition, certain financial institutions participate in a warrant plan. Stock options and warrants generally vest in equal increments over a three to five-year period and expire on the 10th anniversary following the date of grant.
 
We recognize share-based compensation expense related to employee stock option awards in net income based on the grant-date fair value over the requisite service period of the individual grants, which generally equals the vesting period. We account for stock options and warrants awarded to our advisors and financial institutions based on the fair value of the award at each interim reporting period. We record the increase in price of the option or warrant as commission expense during such period. If the value of our common stock increases over a given period, this accounting treatment results in additional commission expense.
 
As there are no observable market prices for identical or similar instruments, we estimate fair value using a Black Scholes valuation model. We must make assumptions regarding the number of share-based awards that will be forfeited. The forfeiture assumption is ultimately adjusted to the actual forfeiture rate. Therefore, changes in the forfeiture assumptions do not impact the total amount of expense ultimately recognized over the vesting period. Rather, different forfeiture assumptions would only impact the timing of expense recognition over the vesting period.
 
The following table presents the weighted average assumptions used by us in calculating the fair value of our stock options and warrants with the Black Scholes valuation model for the three months ended March 31, 2010 and 2009 and the years ended December 31, 2009, 2008 and 2007:
 
                                         
    March 31,   December 31,
   
2010
 
2009
 
2009
 
2008
 
2007
 
Expected life (in years)
    6.51       8.81       7.13       6.52       6.50  
Expected stock price volatility
    50.32 %     48.67 %     51.35 %     33.78 %     31.08 %
Expected dividend yield
                             
Annualized forfeiture rate
    4.99 %     3.00 %     4.35 %     1.51 %     1.00 %
Fair value of options
  $ 12.34     $ 10.40     $ 12.30     $ 9.96     $ 9.86  
Risk-free interest rate
    2.79 %     2.45 %     2.93 %     2.73 %     4.93 %
 
The risk-free interest rates are based on the implied yield available on U.S. Treasury constant maturities in effect at the time of the grant with remaining terms equivalent to the respective expected terms of the options. The dividend yield of zero is based on the fact that we have no present intention to pay cash dividends. In the future, as we gain historical data for volatility of our stock and the actual term over which employees hold our options, expected volatility and the expected term may change, which could substantially change the grant-date fair value of future awards of stock options and, ultimately, compensation recorded on future grants. We estimate the expected term for our employee option awards using the simplified method in accordance with Staff Accounting Bulletin 110, Certain Assumptions Used in Valuation Methods, because we do not have sufficient relevant historical


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information to develop reasonable expectations about future exercise patterns. We estimate the expected term for stock options and warrants awarded to our advisors using the contractual term. Expected volatility is calculated based on companies of similar growth and maturity and our peer group in the industry in which we do business because we do not have sufficient historical volatility data. We will continue to use peer group volatility information until our historical volatility is relevant to measure expected volatility for future grants.
 
We have assumed an annualized forfeiture rate for our stock options and warrants based on a combined review of industry and employee turnover data, as well as an analytical review performed of historical pre-vesting forfeitures occurring over the previous year. We record additional expense if the actual forfeiture rate is lower than estimated and record a recovery of prior expense if the actual forfeiture is higher than estimated.
 
As of each stock option grant date, we considered the fair value of the underlying common stock, determined as described below, in order to establish the option exercise price. As of each stock option grant date, we reviewed an average of the disclosed year-end volatility of a group of companies that we considered peers based on a number of factors including, but not limited to, similarity to us with respect to industry, business model, stage of growth, financial risk or other factors, along with considering the future plans of our company to determine the appropriate volatility. The expected life was based on our historical stock option activity. The risk-free interest rate was determined by reference to the United States Treasury rates with the remaining term approximating the expected life assumed at the date of grant. In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those options expected to vest. We estimate the forfeiture rate based on our historical experience. Further, to the extent our actual forfeiture rate is different from our estimate, stock-based compensation expense is adjusted accordingly.
 
The following table sets forth all stock option and warrant grants since January 1, 2006 through the date of this prospectus:
 
                         
            Per Share
            Weighted
        Exercise or
  Average
    Number of
  Purchase
  Estimated Fair
Date of
  Shares
  Price per
  Value of
Issuance
  Granted   Share   Options
 
Q1 2006
          n/a       n/a  
Q2 2006
    28,000     $ 10.31     $ 4.60  
Q3 2006
          n/a       n/a  
Q4 2006
    80,000     $ 15.84     $ 9.20  
Q1 2007
    124,000     $ 18.89     $ 8.36  
Q2 2007
    295,150     $ 21.60     $ 9.25  
Q3 2007
    100,000     $ 25.50     $ 10.69  
Q4 2007
    241,500     $ 27.40     $ 11.05  
Q1 2008
    1,438,500     $ 27.80     $ 9.78  
Q2 2008
    304,706     $ 27.17     $ 12.82  
Q3 2008
    184,000     $ 26.33     $ 11.25  
Q4 2008
    9,000     $ 24.96     $ 11.98  
Q1 2009
    508,606     $ 18.04     $ 13.55  
Q2 2009
    319,000     $ 19.74     $ 9.77  
Q3 2009
    1,993,000     $ 22.08     $ 11.79  
Q4 2009
    388,755     $ 23.02     $ 15.41  
Q1 2010
    75,184     $ 23.41     $ 13.26  


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These estimates of the fair value of our common stock were made based on information from the following valuation dates:
 
         
    Fair Value
Valuation Date
  per Share
 
December 28, 2005
  $ 10.31  
March 31, 2006
  $ 10.31  
June 30, 2006
  $ 10.31  
September 30, 2006
  $ 15.84  
December 31, 2006
  $ 18.89  
March 31, 2007
  $ 21.60  
June 30, 2007
  $ 25.50  
September 30, 2007
  $ 27.40  
December 31, 2007
  $ 27.80  
March 31, 2008
  $ 27.17  
June 30, 2008
  $ 26.33  
September 30, 2008
  $ 24.96  
December 31, 2008
  $ 18.04  
March 31, 2009
  $ 19.74  
June 30, 2009
  $ 22.08  
September 30, 2009
  $ 23.02  
December 31, 2009
  $ 23.41  
March 31, 2010
  $ 27.81  
 
Since prior to this offering our common stock has not been publicly traded, we established our stock price together with the review and discussion of valuation by the Audit and Compensation Committees in the course of performing each committee’s responsibility. We considered numerous objective and subjective factors in valuing our common stock, on quarterly valuation dates, in accordance with the guidance in the American Institute of Certified Public Accountants Practice Aid Valuation of Privately-Held-Company Equity Securities Issued as Compensation (the “Practice Aid”). These objective and subjective factors included, but were not limited to:
 
  •  current and projected market multiples of revenues and earnings, including for peer companies;
 
  •  multiples implied from recently-completed transactions involving financial services companies;
 
  •  our projected growth rates in revenues and earnings, including EBITDA, as compared to peer companies;
 
  •  contemporaneous independent valuations performed on a quarterly basis and
 
  •  our weighted average cost of capital.
 
Since 2008, independent valuations have been performed on a quarterly basis, and are considered in the course of determining the fair market value of our common stock. Our independent valuations were performed in accordance with the Practice Aid and derive an indicated value using a weighted average of three methods. The primary method employs a market approach using multiples of historical and projected EBITDA and pre-tax income for peer companies. We also consider a market approach using prices of recent transactions involving financial services companies and an income approach based upon discounted cash flow projections. Prior to the March 31, 2010 valuation, the indicated value was decreased by a market discount factor, reflecting our private status. This marketability discount factor ranged from 10 to 20% of the indicated value. The valuation report is then reviewed, and the fair value per share of common stock is determined, as of each quarter end period. That value is applied to any share or share-based issuance made during the following quarter.
 
Prior to 2008, we relied on internally developed valuation models that used methods similar to those used in our independent valuations. In addition to use in determining the value of stock-based


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compensation, these valuations were used in connection with several acquisitions for which a portion of the consideration paid was company stock.
 
We have issued 7,423,973 restricted shares to our advisors. These restricted shares may not be sold, assigned or transferred and are not entitled to receive dividends or non-cash distributions, until either a sale of the company that constitutes a change in control or an initial public offering. We account for these restricted shares by measuring such grants at their then-current lowest aggregate value. Since the value is contingent upon the company’s decision to sell itself or issue its common stock through an initial public offering, the current aggregate value will be zero until such event occurs.
 
Upon the closing of this offering, we will record the par value, additional paid-in capital and expense based on the fair value per share multiplied by 7,423,973 restricted shares. We will also record an income tax benefit equal to our effective incremental income tax rate in effect for the period in which the offering occurs. Based on an assumed initial public offering price of            , which is the midpoint of the range listed in the cover page of this prospectus, we expect the pre-tax expense to be $      million and the related tax benefit to be $       million.
 
Recent Accounting Pronouncements
 
Refer to Note 2 of our unaudited condensed consolidated financial statements for a discussion of recent accounting standards and pronouncements.
 
Quantitative and Qualitative Disclosures About Market Risk
 
Market Risk
 
We maintain inventories of trading securities owned and securities sold but not yet purchased in order to ensure availability of securities and to facilitate client transactions. These securities include mutual funds, debt securities issued by the U.S. government, money market funds, corporate debt securities, certificates of deposit and equity securities.
 
Changes in value of our trading inventory may result from fluctuations in interest rates, credit ratings of the issuer, equity prices and the correlation among these factors. We manage our trading inventory by product type. Our primary method of controlling risk in our trading inventory is through the establishment and monitoring of limits on the dollar amount of securities positions that can be entered into and other risk-based limits. Our trading activities in the aggregate were significantly below these limits at December 31, 2009. Position limits in trading inventory accounts are monitored on a daily basis. Management also monitors inventory levels and trading results, as well as inventory aging, pricing, concentration and securities ratings.
 
At December 31, 2009, the fair value of our trading securities owned and securities sold but not yet purchased were $15.4 million and $4.0 million respectively. See Note 6 of our consolidated financial statements for information regarding the fair value of trading securities owned and securities sold but not yet purchased associated with our client facilitation activities. See Note 7 of our consolidated financial statements for information regarding the fair value of securities held to maturity.
 
We do not enter into contracts involving derivatives or other similar financial instruments for trading or proprietary purposes.
 
We also have market risk on the fees we earn that are based on the market value of advisory and brokerage assets, assets on which trail commissions are paid and assets eligible for sponsor payments.
 
Interest Rate Risk
 
We are exposed to risk associated with changes in interest rates. As of March 31, 2010, all of the outstanding debt under our senior secured credit facilities, $817.1 million, was subject to floating


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interest rate risk. To provide some protection against potential rate increases associated with our floating senior secured credit facilities, we have entered into derivative instruments in the form of interest rate swap agreements with Morgan Stanley Capital Services, Inc. covering a significant portion ($400.0 million) of our senior secured indebtedness. The interest rate swap agreements qualify for hedge accounting and have been designated as cash flow hedges against specific payments due on our senior secured term loan. Accordingly, any interest rate differential is reflected in an adjustment to interest expense over the lives of the interest rate swap agreements. While the unhedged portion of our senior secured debt is subject to increases in interest rates, we believe that this risk is offset with variable interest rates associated with client borrowings. At March 31, 2010, we had $417.1 million in unhedged senior secured borrowings, the variable cost of which is partially offset by variable interest income on $222.6 million of client margin receivables. Because of this relationship, and our expectation for outstanding balances in the future, we do not believe that a short-term change in interest rates would have a material impact on our income before taxes. A 10 basis point increase in interest rates would result in an increase in interest expense on the variable portion of our debt of approximately $0.4 million. For a discussion of such interest rate swap agreements, see Note 9 to our unaudited condensed consolidated financial statements.
 
We offer our advisors and their clients two primary cash sweep programs that are interest rate sensitive: our bank sweep programs and money market sweep vehicles involving multiple money market fund providers. Our bank sweep programs use multiple non-affiliated banks to provide up to $1.5 million ($3.0 million joint) of FDIC insurance for client deposits custodied at the banks. While clients earn interest for balances on deposit in the bank sweep programs, we earn a fee. Our fees from the bank sweep programs are based on prevailing interest rates in the current interest rate environment, but may be adjusted in an increasing or decreasing interest rate environment or for other reasons. Changes in interest rates and fees for the bank sweep programs are monitored by our Fee and Rate Setting Committee (the “FRS Committee”), which governs and approves any changes to our fees. By meeting promptly after interest rates change, or for other market or non-market reasons, the FRS Committee balances financial risk of the bank sweep programs with products that offer competitive client yields. However, as short-term interest rates hit lower levels, the FRS Committee may be compelled to lower fees. The average Federal Reserve effective federal funds rate for March 2010 was 0.16%. A change in short-term interest rates of 10 basis points, if accompanied by a commensurate change in fees for our cash sweep programs, could result in an increase or decrease in income before income taxes of $11.4 million on an annual basis (assuming that client balances at March 31, 2010 did not change). Actual impacts may vary depending on interest rate levels, the significance of change, and the FRS Committee’s strategy in responding to that change.
 
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. We bear credit risk on the activities of our advisors’ clients, including the execution, settlement, and financing of various transactions on behalf of these clients.
 
These activities are transacted on either a cash or margin basis. Our credit exposure in these transactions consists primarily of margin accounts, through which we extend credit to clients collateralized by cash and securities in the client’s account. Under many of these agreements, we are permitted to sell or repledge these securities held as collateral and use these securities to enter into securities lending arrangements or to deliver to counterparties to cover short positions.
 
As our advisors execute margin transactions on behalf of their clients, we may incur losses if clients do not fulfill their obligations, the collateral in the client’s account is insufficient to fully cover losses from such investments, and our advisors fail to reimburse us for such losses. Our loss on margin accounts is immaterial and did not exceed $0.1 million in any of the years ended December 31, 2009, 2008 and 2007. We monitor exposure to industry sectors and individual securities and perform analyses on a regular basis in connection with our margin lending activities.


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We adjust our margin requirements if we believe our risk exposure is not appropriate based on market conditions.
 
We are subject to concentration risk if we extend large loans to or have large commitments with a single counterparty, borrower, or group of similar counterparties or borrowers (e.g. in the same industry). Receivables from and payables to clients and stock borrowing and lending activities are conducted with a large number of clients and counterparties and potential concentration is carefully monitored. We seek to limit this risk through careful review of the underlying business and the use of limits established by senior management, taking into consideration factors including the financial strength of the counterparty, the size of the position or commitment, the expected duration of the position or commitment and other positions or commitments outstanding.
 
Operational Risk
 
Operational risk generally refers to the risk of loss resulting from our operations, including, but not limited to, improper or unauthorized execution and processing of transactions, deficiencies in our technology or financial operating systems and inadequaci