10-K 1 d453576d10k.htm FORM 10-K FORM 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-K

 

 

(Mark One)

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2012

OR

 

¨

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to                     

Commission file number 0-16633

 

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

(Exact name of registrant as specified in its charter)

 

 

 

MISSOURI   43-1450818

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer

Identification No.)

12555 Manchester Road

Des Peres, Missouri

  63131
(Address of principal executive offices)   (Zip Code)

(314) 515-2000

Registrant’s telephone number, including area code

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class   Name of each exchange on which registered
NONE   NONE

Securities registered pursuant to Section 12(g) of the Act:

Limited Partnership Interests

(Title of Class)

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    YES  ¨    NO  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    YES  ¨    NO  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    YES  x    NO  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES  x    NO  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulations S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

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

 

¨

  

Accelerated filer

 

¨

Non-accelerated filer

 

x  (Do not check if a smaller reporting company)

  

Smaller reporting company

 

¨

Indicated by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x

As of February 22, 2013, 648,897 units of limited partnership interest (“Interests”) are outstanding, each representing $1,000 of limited partner capital. There is no public or private market for such Interests.

DOCUMENTS INCORPORATED BY REFERENCE

None

 

 

 


Table of Contents

THE JONES FINANCIAL COMPANIES, L.L.L.P.

TABLE OF CONTENTS

 

     Page  

PART I

     

Item 1

  

Business

     3   

Item 1A

  

Risk Factors

     16   

Item 1B

  

Unresolved Staff Comments

     31   

Item 2

  

Properties

     31   

Item 3

  

Legal Proceedings

     32   

Item 4

  

Mine Safety Disclosures

     35   

PART II

     

Item 5

  

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     36   

Item 6

  

Selected Financial Data

     37   

Item 7

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     39   

Item 7A

  

Quantitative and Qualitative Disclosures about Market Risk

     64   

Item 8

  

Financial Statements and Supplementary Data

     65   

Item 9

  

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

     95   

Item 9A

  

Controls and Procedures

     95   

Item 9B

  

Other Information

     95   

PART III

     

Item 10

  

Directors, Executive Officers and Corporate Governance

     96   

Item 11

  

Executive Compensation

     103   

Item 12

  

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     106   

Item 13

  

Certain Relationships and Related Transactions, and Director Independence

     107   

Item 14

  

Principal Accounting Fees and Services

     109   

PART IV

  

Item 15

  

Exhibits and Financial Statement Schedules

     110   
  

Signatures

     111   

 

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PART I

 

ITEM 1.

BUSINESS

The Jones Financial Companies, L.L.L.P. (“JFC”) is a registered limited liability limited partnership organized under the Uniform Limited Partnership Law of the State of Missouri Revised Statutes. Unless expressly stated, or the context otherwise requires, the terms “Registrant” and “Partnership” refer to JFC and all of its consolidated subsidiaries. The Partnership’s principal operating subsidiary, Edward D. Jones & Co., L.P. (“Edward Jones”), was organized on February 20, 1941 and reorganized as a limited partnership on May 23, 1969. JFC was organized on June 5, 1987 and, along with Edward Jones, was reorganized on August 28, 1987.

As of December 31, 2012, the Partnership operates in two geographic operating segments, the United States of America (“U.S.”) and Canada. Edward Jones is comprised of a U.S. registered broker-dealer and (through a subsidiary) a Canadian registered broker-dealer and primarily serves individual investors. As the ultimate parent company of Edward Jones, JFC is a holding company. Edward Jones primarily derives its revenue from the retail brokerage business through the sale of listed and unlisted securities and insurance products, investment banking, principal transactions, distribution of mutual fund shares, and through fees related to assets held by and account services provided to its clients. Edward Jones primarily conducts business with its clients, various brokers, dealers, clearing organizations, depositories and banks in the U.S. and in Canada. For financial information related to these two operating segments for the years ended December 31, 2012, 2011 and 2010, see Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations and Note 16 to the Consolidated Financial Statements.

 

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PART I

 

Item 1.

Business, continued

 

ORGANIZATIONAL STRUCTURE

At December 31, 2012, the Partnership was organized as follows:

 

LOGO

For additional information about the Partnership’s other subsidiaries and affiliates, see Exhibit 21.

During 2009, Edward Jones sold 100% of the issued and outstanding shares of its subsidiary, Edward Jones Limited, a United Kingdom (“U.K.”) private limited company engaged in the retail financial services business in the U.K.

Branch Office Network. The Partnership primarily serves individual long-term investors in small to medium-size towns and metropolitan suburbs through its extensive network of branch offices. The Partnership operated 11,412 branch offices as of February 22, 2013, primarily staffed by a single financial advisor and a branch office administrator. Of this total, the Partnership operated 10,854 offices in the U.S. (located in all 50 states, predominantly in communities with populations of under 50,000 and metropolitan suburbs) and 558 offices in Canada.

 

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PART I

 

Item 1.

Business, continued

 

Governance. Unlike a corporation, the Partnership is not governed by a board of directors and has no individuals who are designated as directors. Moreover, none of its securities are listed on a securities exchange and therefore the governance requirements that apply to many U.S. Securities and Exchange Commission (“SEC”) reporting companies do not apply to it. Under the terms of the Partnership’s Eighteenth Amended and Restated Partnership Agreement (“the Partnership Agreement”), the Managing Partner has primary responsibility for administering the Partnership’s business, determining its policies and controlling the management and conduct of the Partnership’s business, and has the power to admit and dismiss general partners of JFC and to adjust the proportion of their respective interests in JFC. As of February 22, 2013, JFC was composed of 373 general partners, 14,009 limited partners and 297 subordinated limited partners. See Item 10 – Directors, Executive Officers and Corporate Governance for a description of the governance structure of the Partnership.

Revenues by Source. The following table sets forth on a continuing operations basis, for the past three years, the sources of the Partnership’s revenues. Due to the interdependence of the activities and departments of the Partnership’s investment business and the arbitrary assumptions required to allocate overhead, it is impractical to identify and specify expenses applicable to each aspect of the Partnership’s operations. Further information on revenue related to the Partnership’s reportable segments is provided in Note 16 to the Consolidated Financial Statements and Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

(Dollars in thousands)

   2012     2011     2010  

Asset-based fees

   $ 2,042,392         41   $ 1,776,883         39   $ 1,397,333         33

Commissions

               

Mutual funds

     1,050,948         20     866,005         19     856,020         21

Listed securities

     450,293         9     392,743         9     338,605         8

Insurance

     388,889         8     385,184         8     326,698         8

Over-the-counter securities

     88,896         2     54,755         1     54,529         1
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total commissions

     1,979,026         39     1,698,687         37     1,575,852         38

Account and activity fees

     573,949         11     522,898         11     503,264         12

Principal transactions

     155,895         3     284,231         6     320,777         8

Interest and dividends

     133,469         3     130,150         3     126,769         3

Investment banking

     111,539         2     153,100         3     208,615         5

Other revenue

     31,148         1     11,553         1     30,489         1
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total revenue

   $ 5,027,418         100   $ 4,577,502         100   $ 4,163,099         100
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Asset-based Fees

The Partnership earns fees from investment advisory services offered through Edward Jones Advisory Solutions (“Advisory Solutions”), Edward Jones Managed Account Program (“MAP”) and, in Canada, Edward Jones Portfolio Program (“Portfolio Program”). Advisory Solutions and MAP are both registered as investment advisory programs with the SEC under the Investment Advisers Act of 1940. Portfolio Program is not required to be registered under this act as services from this program are only offered in Canada. Advisory Solutions provides investment advisory services to its clients for a monthly fee based upon the average value of their assets in the program, and consists of a managed account invested in mutual funds, exchange-traded funds (ETFs) and money market funds, or Unified Managed Account models, which also include separately managed allocations (SMAs).

 

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Item 1.

Business, continued

 

For this program, the client must elect either a research or a custom account model. If the client elects a research type model, the Partnership assumes full investment discretion on the account, which will be one of numerous different research models developed and managed by Edward Jones’ Mutual Fund Research department. If the client elects to build a custom model, the Partnership assumes limited investment discretion on the account developed by the client and his or her financial advisor.

In order to address the current size and expected growth in Advisory Solutions, in 2013 the Partnership is planning to introduce a new sub-advised mutual fund designed solely for Advisory Solutions. Olive Street Investment Advisers, L.L.C. (“OLV”), a 100% wholly-owned subsidiary of JFC and a Missouri limited liability company, was established in December 2012 to be the investment adviser to a new sub-advised mutual fund trust. OLV is intended to have primary responsibility for allocation of funds, setting the mutual fund’s overall investment strategies, and the selection and management of subadvisors, and supervisory responsibility for the general management of the trust, subject to the review and approval by its board of trustees.

MAP and Portfolio Program offer investment advisory services to clients, for a monthly fee based upon the average value of assets in the program, by using independent investment managers.

In addition to the advisory programs mentioned above, the Partnership also earns asset-based fees from the trust and investment management services offered to its clients through Edward Jones Trust Company (“EJTC”).

The Partnership also earns service fees on most of its clients’ assets which are held by mutual fund companies and insurance companies. The fees generally range from 15 to 25 basis points (0.15% to 0.25%) of the value of the client assets so held.

In addition, the Partnership earns revenue sharing from certain mutual fund and insurance vendors. In most cases, this is additional compensation paid by investment advisers or distributors based on a percentage of average vendor assets held by the Partnership’s clients, on those products covered under the revenue sharing agreements. Revenue sharing agreements that provide for a fixed annual payment are also included in asset-based fees.

The Partnership is a 49.5% limited partner of Passport Research, Ltd., the investment adviser to certain money market funds made available to the Partnership’s clients. Revenue from this source is primarily based on client assets in the funds. However, due to the current low interest rate environment, the investment adviser voluntarily chose (beginning in March 2009) to reduce certain fees charged to the funds to a level that will maintain a positive client yield on funds. For further information on this reduction of fees, see Item 7A – Quantitative and Qualitative Disclosures About Market Risk.

Commissions

Commissions revenue is primarily comprised of charges to clients for the purchase or sale of securities, mutual fund shares and insurance products. The following briefly describes the Partnership’s sources of commissions revenue.

 

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Item 1.

Business, continued

 

Mutual Funds. The Partnership distributes mutual fund shares in continuous offerings and new underwritings. As a dealer in mutual fund shares, the Partnership receives a dealer’s discount which generally ranges from 1% to 5% of the purchase price of the shares, depending on the terms of each fund’s prospectus and the amount of the purchase.

Listed Securities Transactions. The Partnership receives a commission when it acts as an agent for a client in the purchase or sale of listed securities. These securities include common and preferred stocks and debt securities traded on and off the securities exchanges. The commission is based on the value of the securities purchased or sold.

Insurance. The Partnership sells life insurance, long-term care insurance, disability insurance, fixed and variable annuities and other types of insurance products of unaffiliated insurance companies to its clients through its financial advisors who hold insurance sales licenses. As an agent for the insurance companies, the Partnership receives commissions on the premiums paid for the policies.

Over-the-Counter Securities Transactions. Partnership activities in unlisted (over-the-counter) securities transactions are similar to its activities as a broker in listed securities. In connection with client orders to buy or sell securities, the Partnership charges a commission for agency transactions.

Account and Activity Fees

Revenue sources include sub-transfer agent accounting services fees, Individual Retirement Account (“IRA”) custodial services fees, and other product/service fees.

The Partnership charges fees to certain mutual funds for sub-transfer agent accounting services, including maintaining client account information and providing other administrative services for the mutual funds. Also, the Partnership acts as the custodian for clients’ IRA accounts and the clients are charged an annual fee for this service. Account and activity fees also include sales based revenue sharing fees pursuant to arrangements with certain mutual fund and insurance vendors where the vendors pay additional compensation to the Partnership based on a percentage of current year sales by the Partnership of products supplied by these vendors. The Partnership receives revenue through a co-branded credit card with a major credit card company and from offering mortgage loans to its clients through a joint venture. However, the joint venture partner has elected to terminate the joint venture arrangement in April 2013 and the Partnership will discontinue offering mortgage loans to its clients at this time.

Principal Transactions

The Partnership makes a market in over-the-counter corporate securities, municipal obligations, government obligations, unit investment trusts, mortgage-backed securities and certificates of deposit. The Partnership’s market-making activities are conducted with other dealers in the “wholesale” and “retail” markets where the Partnership acts as a dealer buying from and selling to its clients. In making markets in securities, the Partnership exposes its capital to the risk of fluctuation in the fair value of its security positions. The Partnership maintains securities positions in inventory solely to support its business of buying securities from and selling securities to its retail clients and does not seek to profit by engaging in proprietary trading for its own account.

 

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PART I

 

Item 1.

Business, continued

 

Investment Banking

Investment banking revenue is primarily derived from the Partnership’s distribution of unit investment trusts, corporate and municipal obligations, and government sponsored enterprise obligations. Investment banking revenue also includes underwriting fee revenue related to underwriting and management fees as well as gross acquisition profit / loss and volume concession revenue, which is earned and collected from the issuer.

The Partnership’s investment banking activities are performed primarily by its Syndicate, Investment Banking and Unit Investment Trust departments. The principal service which the Partnership renders as an investment banker is the underwriting and distribution of securities, either in a primary distribution on behalf of the issuer of such securities or in a secondary distribution on behalf of a holder of such securities. The roles the Partnership may play include senior manager, co-manager, syndicate member, selling group member, dealer or distributor and encompass both negotiated and competitively bid offerings.

The Partnership historically has not, and does not presently engage in other investment banking activities, such as assisting in mergers and acquisitions, arranging private placement of securities issues with institutions, or providing consulting and financial advisory services to entities.

In the case of an underwritten offering managed by the Partnership, the Syndicate, Investment Banking and Unit Investment Trust departments may form underwriting syndicates and work with the branch office network for sales of the Partnership’s own participation and with other members of the syndicate in the pricing and negotiation of other terms. In offerings managed by others in which the Partnership participates as a syndicate, selling group member, dealer or distributor, these departments serve as active coordinators between the managing underwriter and the Partnership’s branch office network.

The underwriting activity of the Partnership involves substantial risks. An underwriter may incur losses if it is unable to resell the securities it is committed to purchase or if it is forced to liquidate all or part of its commitment at less than the agreed upon purchase price. Furthermore, the commitment of capital to an underwriting may adversely affect the Partnership’s capital position and, as such, its participation in an underwriting may be limited by the requirement that it must at all times be in compliance with the SEC’s uniform net capital requirements (the “Uniform Net Capital Rule”).

Interest and Dividends

Interest and dividends revenue is earned on client margin (loan) account balances, cash and cash equivalents, cash and investments segregated under federal regulations, securities purchased under agreements to resell, partnership loans for general partnership interests, inventory securities and investment securities. Loans secured by securities held in client margin accounts provide a source of income to the Partnership. The Partnership is permitted to use securities owned by margin clients having an aggregate market value generally up to 140% of the debit balance in margin accounts as collateral for the borrowings. The Partnership may also use funds provided by free credit balances in client accounts to finance client margin account borrowings.

The Partnership’s interest income is impacted by the level of client margin (loan) account balances, cash and cash equivalents, cash and investments segregated under federal regulations, securities purchased under agreements to resell, partnership loans for general partnership interests, inventory securities and investment securities and the interest rates earned on each.

 

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PART I

 

Item 1.

Business, continued

 

Significant Revenue Source

As of December 31, 2012, the Partnership distributed mutual funds for approximately 75 mutual fund vendors, including American Funds Distributors, Inc. which represents 19% of the Partnership’s total revenue for the year ended December 31, 2012. This revenue consisted of commissions, asset-based fees and account and activity fees, which are described above. All of the revenue generated from this vendor relates to business conducted with the Partnership’s U.S. segment.

 

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PART I

 

Item 1.

Business, continued

 

BUSINESS OPERATIONS

Research Department. The Partnership maintains a Research department to provide specific investment recommendations and market information for clients. The department supplements its own research with the services of an independent research service. In addition, the Research department provides recommendations for asset allocation, portfolio rebalancing and investment selections for Advisory Solutions client accounts.

Client Account Administration and Operations. Employees in the Operations division are responsible for activities relating to client securities and the processing of transactions with other broker-dealers, exchanges and clearing organizations. These activities include receipt, identification, and delivery of funds and securities, internal financial controls, accounting and personnel functions, office services, custody of client securities and the handling of margin accounts. The Partnership processes substantially all of its own transactions.

To expedite the processing of orders, the Partnership’s branch office system is linked to the home office through an extensive communications network. Orders for securities are generally captured at the branch electronically, routed to the home office and forwarded to the appropriate market for execution. The Partnership’s processing of paperwork following the execution of a security transaction is generally automated.

There is considerable fluctuation during any one year and from year to year in the volume of transactions the Partnership processes. The Partnership records transactions and posts its books on a daily basis. The Partnership has a computerized branch office communication system which is principally utilized for entry of security orders, quotations, messages between offices, research of various client account information, and cash and security receipts functions. Home office personnel, including operations and compliance personnel, monitor day-to-day operations to determine compliance with applicable laws, rules and regulations. Failure to keep current and accurate books and records can render the Partnership liable to disciplinary action by governmental and self-regulatory organizations (“SROs”).

The Partnership clears and settles virtually all of its listed and over-the-counter equities, municipal bond, corporate bond, mutual fund and annuity transactions for its U.S. broker-dealer through the National Securities Clearing Corporation (“NSCC”), Fixed Income Clearing Corporation (“FICC”) and Depository Trust Company (“DTC”), which are all subsidiaries of the Depository Trust and Clearing Corporation located in New York, New York.

In conjunction with clearing and settling transactions with NSCC, the Partnership holds client securities on deposit with DTC in lieu of maintaining physical custody of the certificates. The Partnership also uses a major bank for custody and settlement of treasury securities and Government National Mortgage Association (“GNMA”), Federal National Mortgage Association (“FNMA”) and Federal Home Loan Mortgage Corporation (“FHLMC”) issues.

The Partnership is substantially dependent upon the operational capacity and ability of NSCC, DTC, FICC, and Canadian Depository of Securities (“CDS”). Any serious delays in the processing of securities transactions encountered by these clearing and depository companies may result in delays of delivery of cash or securities to the Partnership’s clients.

 

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Item 1.

Business, continued

 

Broadridge Financial Solutions, Inc. (“Broadridge”), along with its U.S. business, Securities Processing Solutions, U.S., and its international business, Securities Processing Solutions, International, provide automated data processing services for client account activity and related records for the Partnership in the U.S. and Canada, respectively. The Partnership does not employ its own floor brokers for transactions on exchanges. The Partnership has arrangements with other brokers to execute the Partnership’s transactions in return for a commission based on the size and type of trade. If, for any reason, any of the Partnership’s clearing, settling or executing agents were to fail, the Partnership and its clients would be subject to possible loss. To the extent that the Partnership would not be able to meet the obligations to the clients, such clients might experience delays in obtaining the protections afforded them.

The Canadian broker-dealer has an agreement with Broadridge to provide the securities processing systems, as well as an agreement with Computershare Trust Company of Canada to act as trustee for cash balances held by clients in their retirement accounts. The Canadian broker-dealer is the custodian for client securities and manages all related securities and cash processing, such as trades, dividends, corporate actions, client cash receipts and disbursements, client tax reporting and statements.

The Canadian broker-dealer handles the routing and settlement of client transactions. In addition, the Canadian broker-dealer is a member of CDS and FundServ for clearing and settlement of transactions. CDS effects clearing of securities on the Canadian National Stock Exchange (“CNQ”), Toronto Stock Exchange (“TSX”) and TSX Venture Exchange (“CDNX”). Client securities on deposit are also held with CDS and National Bank Correspondent Network (“NBCN”).

Employees. The Partnership’s financial advisors are employees (or general partners of the Partnership) and are not independent contractors. As of February 22, 2013, the Partnership had approximately 38,000 full and part-time employees, including its 12,530 financial advisors. The Partnership’s financial advisors are generally compensated on a commission basis and may, in addition, be entitled to bonus compensation based on their respective branch office profitability and the profitability of the Partnership. The Partnership has in the past paid bonuses to its non-financial advisor employees pursuant to a discretionary formula established by management.

Employees of the Partnership in the U.S. are bonded under a blanket policy as required by Financial Industry Regulation Authority, Inc. (“FINRA”) rules. The per occurrence coverage limit for employees in the U.S. is $5.0 million, subject to a $2.0 million deductible provision. In addition, there is excess coverage with an annual aggregate amount of $45.0 million. Employees of the Partnership in Canada are bonded under a blanket policy as required by the Investment Industry Regulation Organization of Canada (“IIROC”). The annual aggregate amount of coverage for employees in Canada is CAD $25.0 million, subject to a CAD $0.05 million deductible provision per occurrence.

The Partnership maintains an initial training program for prospective financial advisors that spans nearly four months which includes preparation for regulatory exams, concentrated instruction in the classroom and on-the-job training in a branch office. During the first phase, U.S. trainees spend nearly two months studying Series 7 and Series 66 examination materials and taking the examinations. In Canada, financial advisors have the requisite examinations completed prior to being hired. After passing the requisite examinations, trainees spend one week in a comprehensive training program in one of the Partnership’s home office training facilities, followed by seven weeks of on-the-job training in their market and in a nearby branch location. This training includes reviewing investments, compliance requirements, office procedures, and understanding client needs, as well as establishing a base of potential clients. One final week is then spent in a home office training facility to complete the initial training program.

 

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Item 1.

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Five months later, the financial advisor attends an additional training class in a home office location, and subsequently, the Partnership offers periodic continuing training to its experienced financial advisors for the entirety of their career. Training programs for the more experienced financial advisors focus on meeting client needs and effective management of the branch office.

The Partnership considers its employee relations to be good and believes that its compensation and employee benefits, which include medical, life and disability insurance plans and profit sharing and deferred compensation retirement plans, are competitive with those offered by other firms principally engaged in the securities business.

Competition. The Partnership is subject to intense competition in all phases of its business from other securities firms, many of which are substantially larger than the Partnership in terms of capital, brokerage volume and underwriting activities. In addition, the Partnership encounters competition from other organizations such as banks, insurance companies, and others offering financial services and advice. The Partnership also competes with a number of firms offering discount brokerage services, usually with lower levels of personalized service to individual clients. Clients are free to transfer their business to competing organizations at any time, although a fee may be charged to do so. There is intense competition among firms for financial advisors. The Partnership experiences continued efforts by competing firms to hire away its financial advisors, although the Partnership believes that its rate of turnover of financial advisors is in line with that of other comparable firms.

REGULATION

Broker-Dealer and Investment Adviser Regulation

Broker-dealers are subject to regulations which cover all aspects of the securities business, including sales methods, trade practices among broker-dealers, use and safekeeping of client funds and securities, client payment and margin requirements, capital structure of securities firms, record-keeping and the conduct of directors, officers and employees.

The SEC is the federal agency responsible for the administration of the U.S. securities laws. Its mission is to protect investors, maintain fair, orderly and efficient markets and facilitate capital formation. Edward Jones is registered as a broker-dealer and investment adviser with the SEC. Much of the regulation of broker-dealers has been delegated to SROs, principally FINRA. FINRA adopts rules (which are subject to approval by the SEC) that govern the broker-dealer industry and conducts periodic examinations of Edward Jones’ operations.

Securities firms are also subject to regulation by state securities commissions in those states in which they conduct business. Edward Jones is registered as a broker-dealer in all 50 states, the District of Columbia, Puerto Rico and the U.S. Virgin Islands.

The SEC, SROs and state securities commissions may conduct administrative proceedings which can result in censure, fine, suspension or expulsion of a broker-dealer, its officers or employees. Edward Jones has in the past been, and may in the future be, the subject of regulatory actions by various agencies that have the authority to regulate its activities (see Item 3 – Legal Proceedings for more information).

 

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Item 1.

Business, continued

 

As an investment dealer in all provinces and territories of Canada, the Canadian broker-dealer is subject to provincial, territorial and federal laws. All provinces and territorial jurisdictions have established securities administrators to fulfill the administration of securities laws. The Canadian broker-dealer is also subject to the regulation of the Canadian SRO, IIROC, which oversees the business conduct and financial affairs of its member firms, as well as all trading activity on debt and equity marketplaces in Canada. IIROC fulfills its regulatory obligations by implementing and enforcing rules regarding the proficiency, business and financial conduct of member firms and their registered employees, and marketplace integrity rules regarding trading activity on Canadian debt and equity marketplaces.

Pursuant to U.S. federal law, Edward Jones belongs to the Securities Investors Protection Corporation (“SIPC”). For clients in the U.S., SIPC provides $500,000 of coverage for missing securities, including a maximum of $250,000 for cash claims. Pursuant to IIROC requirements, the Canadian broker-dealer belongs to the Canadian Investor Protection Fund (“CIPF”), a non-profit organization that provides investor protection for investment dealer insolvency. For clients in Canada, CIPF limits coverage to CAD $1,000,000 in total, which can be any combination of securities and cash.

The Partnership currently maintains additional protection for U.S. clients provided by Underwriters at Lloyd’s. The additional protection contract provided by Underwriters at Lloyd’s protects clients’ accounts in excess of the SIPC coverage subject to specified limits. This policy covers theft, misplacement, destruction, burglary, embezzlement or abstraction of client securities up to an aggregate limit of $900 million for covered claims of all U.S. clients of Edward Jones. Market losses are not covered by SIPC or the additional protection.

In addition, Edward Jones and OLV are subject to the rules and regulations of the Investment Advisers Act of 1940, which require investment advisers to register with the SEC. The Investment Advisers Act’s rules and regulations govern all aspects of the investment advisory business, including registration, trading practices, custody of client funds and securities, record-keeping, advertising and business conduct.

Additional legislation, changes in rules promulgated by the SEC, the Department of Labor and SROs, and/or changes in the interpretation or enforcement of existing laws and rules, may directly affect the operations and profitability of broker-dealers and investment advisers. With the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), the SEC has been directed to study existing practices in the industry, and granted discretionary rulemaking authority to establish, among other things, comparable standards of conduct for broker-dealers and investment advisers when providing personalized investment advice about securities to retail clients and such other clients as the SEC provides by rule. The SEC may engage in rulemaking or issue interpretive guidance concerning the standard of conduct for broker-dealers and investment advisers. FINRA or other regulatory authorities may also issue rules related to the Dodd–Frank Act, but it is unclear at this time what impact such rulemaking activities will have on the Partnership or its operations.

 

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Item 1.

Business, continued

 

Trust Regulation of EJTC and Regulation of JFC as EJTC’s Parent

Pursuant to the Dodd-Frank Act, effective July 21, 2011 authority for the supervision and regulation of EJTC was transferred from the Office of Thrift Supervision (“OTS”) to the Office of the Comptroller of the Currency (“OCC”). As of the same date, responsibility for the supervision and regulation of JFC, based on its status as a savings and loan holding company (“SLHC”) (which such status is the result of its 100% ownership of EJTC), was transferred from the OTS to the Board of Governors of the Federal Reserve System (“FRB”). The Dodd-Frank Act, however, allows entities controlling a savings association that functions solely in a trust or fiduciary capacity to cease to be a SLHC. On October 31, 2012, JFC received confirmation from the FRB that its request to deregister as a SLHC had been approved. JFC is now subject to supervision and regulation as a holding company by the OCC.

Uniform Net Capital Rule

As a result of its activities as a broker-dealer and a member firm of FINRA, Edward Jones is subject to the Uniform Net Capital Rule which is designed to measure the general financial integrity and liquidity of a broker-dealer and the minimum net capital deemed necessary to meet the broker-dealer’s continuing commitments to its clients. The Uniform Net Capital Rule provides for two methods of computing net capital and Edward Jones has adopted what is generally referred to as the alternative method. Minimum required net capital under the alternative method is equal to the greater of $0.25 million or 2% of the aggregate debit items, as defined. The Uniform Net Capital Rule prohibits withdrawal of equity capital whether by payment of dividends, repurchase of stock or other means, if net capital would thereafter be less than minimum requirements. Additionally, certain withdrawals require the approval of the SEC to the extent they exceed defined levels even though such withdrawals would not cause net capital to be less than 5% of aggregate debit items. In computing net capital, various adjustments are made to exclude assets which are not readily convertible into cash and to provide a conservative valuation of other assets, such as securities owned. Failure to maintain the required net capital may subject Edward Jones to suspension or expulsion by FINRA, the SEC and other regulatory bodies and/or exchanges and may ultimately require liquidation. Edward Jones has, at all times, been in compliance with the Uniform Net Capital Rule.

The Canadian broker-dealer and EJTC are also required to maintain specified levels of regulatory capital. Each subsidiary has, at all times, been in compliance with the applicable capital requirements in the jurisdictions in which it operates.

 

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Item 1.

Business, continued

 

FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K, and in particular Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements within the meaning of U.S. securities laws. You can identify forward-looking statements by the use of the words “believe,” “expect,” “anticipate,” “intend,” “estimate,” “project,” “will,” “should,” and other expressions which predict or indicate future events and trends and which do not relate to historical matters. You should not rely on forward-looking statements, because they involve known and unknown risks, uncertainties and other factors, some of which are beyond the control of the Partnership. These risks, uncertainties and other factors may cause the actual results, performance or achievements of the Partnership to be materially different from the anticipated future results, performance or achievements expressed or implied by the forward-looking statements.

Some of the factors that might cause differences between forward-looking statements and actual events include, but are not limited to, the following: (1) general economic conditions; (2) regulatory actions; (3) changes in legislation or regulation, including new regulations under the Dodd-Frank Act; (4) actions of competitors; (5) litigation; (6) the ability of clients, other broker-dealers, banks, depositories and clearing organizations to fulfill contractual obligations; (7) changes in interest rates; (8) changes in technology; (9) a fluctuation or decline in the fair value of securities; and (10) the risks discussed under Item 1A – Risk Factors. These forward-looking statements were based on information, plans, and estimates at the date of this report, and the Partnership does not undertake to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events or other changes.

 

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ITEM 1A.

RISK FACTORS

The Partnership is subject to a number of risks potentially impacting its business, financial condition, results of operations and cash flows. In addition to the risks and uncertainties discussed elsewhere in this Annual Report on Form 10-K, or in the Partnership’s other filings with the SEC, the following are some important factors that could cause the Partnership’s actual results to differ materially from results experienced in the past or those projected in any forward-looking statement. The risks and uncertainties described below are not the only ones facing the Partnership. Additional risks and uncertainties not presently known to the Partnership or that the Partnership currently deems immaterial could also have a material adverse effect on the Partnership’s business and operations. If any of the matters included in the following risks were to occur, the Partnership’s business, financial condition, results of operations and cash flows could be materially adversely affected.

RISK RELATED TO THE PARTNERSHIP’S BUSINESS

MARKET CONDITIONSAs a part of the securities industry, a downturn in the U.S. and/or global securities markets has in the past had, and could in the future have, a significant negative effect on revenues and could significantly reduce or eliminate profitability of the Partnership.

General political and economic conditions and events such as economic recession, natural disasters, terrorist attacks, war, changes in local economic and political conditions, regulatory changes or changes in the law, or interest rate or currency rate fluctuations could create a downturn in the U.S and/or global securities markets. The securities industry, and therefore the Partnership, is highly dependent upon market prices and volumes which are highly unpredictable and volatile in nature. Events such as global recession, frozen credit markets, institutional failures, and government-sponsored bailouts of a number of large financial services companies, as well as debt ceiling debates, and sovereign credit downgrades, could make the capital markets increasingly volatile. Weakened global economic conditions and an unsettled nature of financial markets, among other things, could cause significant declines in the Partnership’s net revenues which will adversely impact its overall financial results.

With the Partnership’s composition of net revenue now more heavily weighted towards asset-based fee revenue than trade revenue as in the past, a decrease in the market value of assets due to market declines can cause a much more negative impact on the Partnership’s financial results than experienced in prior years, due to the fact that asset-based fees are earned on the value of the underlying assets. Conversely, in times of improved market conditions the Partnership’s asset-based fee revenue would be positively impacted due to the increase in the market value of assets on which fees are earned.

In addition, the Partnership could experience a material reduction in volume and lower securities prices in times of unfavorable economic conditions, which would result in lower commission revenue and losses in dealer inventory accounts and syndicate positions. This would have a material adverse impact on the profitability of the Partnership’s operations.

Financial markets continue to experience volatility and the risks to sustained global economic growth remain high. Furthermore, the Partnership would be subject to increased risk of its clients being unable to meet their commitments such as margin obligations if there was an economic recession. If clients are unable to meet their margin obligations, the Partnership has an increased risk of losing money on margin transactions and incurring additional expenses defending or pursuing claims. Developments such as lower revenues and declining profit margins could reduce or eliminate the Partnership’s profitability.

 

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Item 1A.

Risk Factors, continued

 

LEGISLATIVE AND REGULATORY INITIATIVESNewly adopted federal legislation and pending regulatory proposals intended to reform the financial services industry could significantly impact the regulation and operation of the Partnership and its subsidiaries, its revenue and its profitability. In addition, such laws and regulations may significantly alter or restrict the Partnership’s historic business practices, which could negatively affect its operating results.

The Partnership is subject to extensive regulation by federal and state regulatory agencies and by SROs, within the industry. The Partnership operates in a regulatory environment that is subject to ongoing change and has seen significantly increased regulation in recent years. The Partnership may be adversely affected as a result of new or revised legislation or regulations, changes in federal, state or foreign tax laws and regulations, or by changes in the interpretation or enforcement of existing laws and regulations.

The Dodd-Frank Act. The Dodd-Frank Act, passed by the U.S. Congress and signed by the President July 21, 2010, includes provisions that could potentially impact the Partnership’s operations. Since the passage of the Dodd-Frank Act, the Partnership has not been required to enact material changes to its operations. However, the Partnership continues to review and evaluate the provisions of the Dodd-Frank Act and the impending rules to determine what impact or potential impact it may have on the financial services industry, the Partnership and its operations. Among the numerous potentially impactful provisions in the Dodd-Frank Act are: (i) pursuant to Section 913 of the Dodd-Frank Act, the SEC staff issued a study recommending a universal fiduciary standard of care applicable to both broker-dealers and investment advisers when providing personalized investment advice about securities to retail clients, and such other clients as the SEC provides by rule. The standard of conduct is expected to require the broker-dealer and investment adviser to act in the best interest of the client without regard to the financial or other interest of the broker-dealer or investment adviser providing the advice; and (ii) pursuant to Section 914 of the Dodd-Frank Act, a new SRO is expected to be proposed to regulate investment advisers. In addition, the Dodd-Frank Act contains new or enhanced regulations that could impact specific securities products offered by the Partnership to investors and specific securities transactions. Proposed rules related to all of these provisions have not yet been adopted by regulators. It is unclear what impact any such rules, if adopted, would have on the Partnership.

Additionally, the Partnership continues to monitor several other proposed regulations and rules that do not presently appear as though they will have a material impact on the Partnership, such as Title X of the Dodd-Frank Act, which established the Bureau of Consumer Financial Protection with broad authority to issue new regulations, and proposed rules related to Section 956 of the Dodd-Frank Act, which would prohibit certain types of incentive-based compensation arrangements. In their present form, the Partnership does not believe these regulations and rules will have a material impact on the Partnership, but if revised the impact on the Partnership could be material.

It is expected that FINRA or other regulatory authorities will continue to issue rules related to the Dodd-Frank Act in the future and the Partnership will continue to monitor and review any such rules.

 

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Item 1A.

Risk Factors, continued

 

Department of Labor. In 2010, the Department of Labor (the “DOL”) proposed a modification to a rule that would have impacted the Employee Retirement Income Security Act’s definition of “fiduciary” and potentially limited certain of Edward Jones’ business practices. In September 2011, the DOL announced that it was withdrawing the proposed rule and stated its intention to re-propose the rule in the future. The DOL has not yet re-proposed the rule, but the Partnership expects such re-proposal to occur in the near future. The DOL has indicated that the re-proposed rule will impact IRAs and has indicated an intention to address what has been generally described as “third party payments,” such as revenue sharing. The Partnership cannot predict what the re-proposed rule will say, what its scope will be, when or if it will be re-proposed or adopted, or what the impact will be on the Partnership. However, any such rule could impact the operations of Edward Jones and the profitability of the Partnership.

International Financial Reporting Standards. The International Accounting Standards Board developed a core set of accounting standards to act as a framework for financial reporting known as the International Financial Reporting Standards (“IFRS”). By 2007, the majority of listed European Union companies, including banks and insurance companies, began using IFRS to prepare financial statements. In contrast, the majority of public companies in the U.S. prepare financial statements under accounting principles generally accepted in the U.S. (“GAAP”).

The SEC is evaluating adoption of IFRS in the U.S. It is unclear at this time whether the SEC will propose mandatory adoption of IFRS or some other form of GAAP and IFRS harmonization.

The Partnership is currently waiting on further guidance from the SEC to determine what impact, if any, the adoption of IFRS in the U.S. could have on its financial position or results of operations. If adopted, IFRS could significantly impact the way the Partnership determines income before allocations to partners, allocations to partners, or returns on partnership capital. In addition, switching to IFRS would be a complex endeavor for the Partnership. The Partnership may need to develop new systems and controls around the principles of IFRS and the specific costs associated with this conversion are uncertain.

Rule 12b-1 Fees. The Partnership receives various payments in connection with the purchase, sale and on-going servicing of mutual fund shares by its clients. Those payments include Rule 12b-1 fees (i.e., service fees) and expense reimbursements. Rule 12b-1, under the Investment Company Act of 1940, allows a mutual fund to pay distribution and marketing expenses out of the fund’s assets. The SEC currently does not limit the size of Rule 12b-1 fees that funds may pay. FINRA does impose such limitations. However, in July, 2010 the SEC proposed reform of Rule 12b-1. The proposal called for the rescission of Rule 12b-1 and a proposed new Rule 12b-2 which would allow funds to deduct a fee on an annual basis of up to 25 basis points to pay for distribution expenses without a cumulative cap on this fee. Additionally, the proposal includes other amendments that would permit funds to deduct an asset-based distribution fee in which the fund may deduct ongoing sales charges with no annual limit, but cumulatively the asset-based distribution fee could not exceed the amount of the highest front-end load for a particular fund. The proposed rule also allows funds to create and distribute a class of shares at net asset value and dealers could establish their own fee schedule. The proposal includes additional requirements for disclosure on trade confirmations and in fund documents. These proposed rules have not been enacted and the Partnership cannot predict with any certainty whether or which of these proposals will be enacted in their current form, revised form or not enacted at all. In addition, the Partnership is not yet able to determine the potential financial impact on its operating results related to this proposed reform of Rule 12b-1. For further information on the amount of Rule 12b-1 fees earned by the Partnership, see Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

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Item 1A.

Risk Factors, continued

 

Health Care Reform. The Patient Protection and Affordable Care Act (“PPACA”) was signed into law in March, 2010. PPACA requires employers to provide affordable coverage with a minimum essential benefit to full-time employees or pay a financial penalty. The bill contains provisions that go into effect over the next several years that expand employee eligibility for the Partnership’s medical plan and places limits on plan design. Regulatory guidance required to fully assess the impact of this law is still forthcoming. Accordingly, the Partnership is not yet able to determine the full potential financial impact on its operating results in future years.

Federal “Do Not Call” Regulations. The Partnership is also subject to federal and state regulations like other businesses and must evaluate and adapt to new regulations as they are adopted. In particular, the Partnership believes the federal “do not call” regulations enacted in recent years have affected the manner in which many of its financial advisors conduct their businesses. While the Partnership believes it is in compliance with these regulations, these regulations could impact the Partnership’s future revenues or results of operations.

Money Market Mutual Funds. In May 2010, the SEC adopted several reforms to money market funds (“MMF”) that were designed to, among other things, strengthen maturity limitations, increase diversification, and improve liquidity standards. Following those reforms, the President’s Working Group on Financial Markets, the Financial Stability Oversight Council (“FSOC”), and the SEC continued to evaluate and discuss additional reforms to address what they perceived to be structural vulnerabilities in MMFs. In November 2012, the FSOC, using its authority under the Dodd-Frank Act, proposed structural reforms to MMFs. Specifically, the FSOC proposed three alternatives for consideration: requiring MMFs to have (i) a floating net asset value; (ii) a net asset value buffer of 1% with a requirement that a percentage of a shareholder’s highest account value in excess of $100,000 during the previous 30 days be made available for redemption on a delayed basis and be the first amount at risk under certain MMF loss scenarios; and (iii) a net asset value buffer of 3% with other measures that could include more stringent investment diversification requirements, increased minimum liquidity levels, and/or more robust disclosure requirements. These FSOC alternatives are only proposals; they are not rules. It is unclear whether the proposals will be adopted in their current form, in a modified form, or at all. It is likely that any FSOC recommendation would require rulemaking by the SEC, which the SEC would likely propose for further public comment. Based on that, while MMF reforms in the nature of FSOC’s proposals could have an impact on the Partnership’s MMF, it is currently unclear what that impact would be.

Any of the foregoing regulatory initiatives could adversely affect the Partnership’s business operations, business model, and profitability. The Partnership cannot predict with any certainty whether or which of the regulatory proposals that have not yet been adopted will be adopted, and if so whether they will be adopted in their current form or adopted subject to further revisions. If adopted, some of these initiatives could significantly and adversely impact the Partnership’s operating costs, its structure, its ability to generate revenue, and its overall profitability.

COMPETITIONThe Partnership is subject to intense competition for clients and personnel, and many of its competitors have greater resources.

All aspects of the Partnership’s business are highly competitive. The Partnership competes for clients and personnel directly with other securities firms and increasingly with other types of organizations and other businesses offering financial services, such as banks and insurance companies.

 

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Item 1A.

Risk Factors, continued

 

Many of these organizations have substantially greater capital and additional resources, and some entities offer a wider range of financial services. Over the past several years, there has been significant consolidation of firms in the financial services industry, forcing the Partnership to compete with larger firms with greater capital and resources, brokerage volume and underwriting activities, and more competitive pricing. Also, the Partnership continues to compete with a number of firms offering discount brokerage services, usually with lower levels of personalized service to individual clients. Clients are free to transfer their business to competing organizations at any time, although there may be a fee to do so.

Competition among financial services firms also exists for financial advisors and other personnel. The Partnership’s continued ability to expand its business and to compete effectively depends on the Partnership’s ability to attract qualified employees and to retain and motivate current employees. If the Partnership’s profitability decreases, then bonuses paid to financial advisors and other personnel, along with profit-sharing contributions, may be decreased or eliminated, increasing the risk that personnel could be hired away by competitors. In addition, the Partnership has recently faced increased competition from larger firms in its non-urban markets, and from a broad range of firms in the urban and suburban markets in which the Partnership competes.

The competitive pressure the Partnership experiences could have an adverse effect on its business, results of operations, financial condition and cash flow. For additional information, see Item 1—Business Operations—Competition.

BRANCH OFFICE SYSTEMThe Partnership’s system of maintaining branch offices primarily staffed by one financial advisor may expose the Partnership to risk of loss or liability from the activities of the financial advisors and to increases in rent related to increased real property values.

Most of the Partnership’s branch offices are staffed by a single financial advisor and a branch office administrator without an onsite supervisor as would be found at broker-dealers with multi-broker branches. The Partnership’s primary supervisory activity is conducted from its home offices. Although this method of supervision is designed to comply with all applicable industry and regulatory requirements, it is possible that the Partnership is exposed to a risk of loss arising from alleged imprudent or illegal actions of its financial advisors. Furthermore, the Partnership may be exposed to further losses if additional time elapses before its supervisory personnel detect problem activity.

The Partnership maintains personal financial and account information and other documents and instruments for its clients at its branch offices, both physically and in electronic format. Despite reasonable precautions, because the branch offices are relatively small and some are in remote locations, the security systems at these branch offices may not prevent theft of such information. If security of a branch is breached and personal financial and account information is stolen, the Partnership’s clients may suffer financial harm and the Partnership could suffer financial harm, reputational damage and regulatory issues.

In addition, the Partnership leases its branch office spaces and a material increase in the value of real property may increase the amount of rent paid, which will negatively impact the Partnership’s profitability.

 

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Item 1A.

Risk Factors, continued

 

INABILITY TO ACHIEVE OUR GROWTH RATEIf the Partnership is unable to fully achieve its goals for hiring financial advisors or the attrition rate of its financial advisors is higher than its expectations, the Partnership may not be able to meet its planned growth rates or maintain its current number of financial advisors.

Historically, during market downturns it is more difficult for the Partnership to attract qualified applicants for financial advisor positions. In addition, the Partnership relies heavily on referrals from its current financial advisors in recruiting new financial advisors. During an economic downturn, current financial advisors can be less effective in recruiting potential new financial advisors through referrals.

Regardless of the presence of a market downturn, the Partnership may not be able to meet its hiring objectives. For instance, the Partnership has not met annual hiring objectives in eight of the last 10 years from 2002 through 2011. For 2012, the Partnership met its annual hiring objective, but there can be no assurance that the Partnership will be able to hire at desired rates in future periods or maintain its current number of financial advisors.

A significant number of the Partnership’s financial advisors have been licensed as brokers for less than three years. As a result of their relative inexperience, many of these financial advisors have encountered or may encounter difficulties developing or expanding their businesses. Consequently, the Partnership has periodically experienced higher rates of attrition, particularly with respect to the less experienced financial advisors and especially during market downturns. The Partnership generally loses more than half of its financial advisors who have been licensed for less than three years. In the past, the Partnership also has experienced increased financial advisor attrition due to increased competition from other financial services companies and efforts by those firms to recruit its financial advisors. There can be no assurance that the attrition rates the Partnership has experienced in the past will not continue or increase in the future. In addition, the Partnership raised the performance standards for its financial advisors in 2011, which may attribute to higher attrition for financial advisors unable to meet these performance standards.

Either the failure to achieve hiring goals or an attrition rate higher than anticipated may result in a decline in the revenue the Partnership receives from commissions and other securities related revenues. As a result, the Partnership may not be able to either maintain its current number of financial advisors or achieve the level of net growth upon which its business model is based and its revenues and results of operations may be adversely impacted.

In order to attract candidates to become financial advisors, the Partnership has recently increased the compensation paid to new financial advisors during the first three years as a financial advisor. The intent is to attract a greater number of high quality recruits with an enhanced level of compensation in order to meet the Partnership’s growth objectives. If the Partnership increases new financial advisor compensation and does not comparatively increase the level of productivity and retention rate of these financial advisors, then the additional compensation could negatively impact the Partnership’s financial performance in future periods.

 

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Item 1A.

Risk Factors, continued

 

LITIGATION AND REGULATORY INVESTIGATIONS AND PROCEEDINGSAs a securities firm, the Partnership is subject to litigation involving civil plaintiffs seeking substantial damages and regulatory investigations and proceedings, which have increased over time and are expected to continue to increase even as global market conditions improve.

Many aspects of the Partnership’s business involve substantial litigation and regulatory risks. The Partnership is, from time to time, subject to examinations and informal inquiries by regulatory and other governmental agencies.

Such matters have in the past, and could in the future, lead to formal actions, which may impact the Partnership’s business. In the ordinary course of business, the Partnership also is subject to arbitration claims, lawsuits and other significant litigation such as class action suits. Over time, there has been increasing litigation involving the securities industry, including class action suits that generally seek substantial damages.

The Partnership has incurred significant expenses to defend and/or settle claims in the past. In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages or in actions which are at very preliminary stages, the Partnership cannot predict with certainty the eventual loss or range of loss related to such matters. Due to the uncertainty related to litigation and regulatory investigations and proceedings, the Partnership cannot determine if future litigation will have a material adverse effect on its consolidated financial condition. Such legal actions may be material to future operating results for a particular period or periods. See Item 3 – Legal Proceedings for more information regarding unresolved claims.

RELIANCE ON THIRD PARTIESThe Partnership’s dependence on third-party organizations exposes the Partnership to disruption if their products and services are no longer offered, supported or develop defects.

The Partnership incurs obligations to its clients which are supported by obligations from firms within the industry, especially those firms with which the Partnership maintains relationships by which securities transactions are executed. The inability of an organization with which the Partnership does a large volume of business to promptly meet its obligations could result in substantial losses to the Partnership.

The Partnership is particularly dependent on Broadridge, which acts as the Partnership’s primary vendor for providing accounting and record-keeping for client accounts in both the U.S. and Canada. The Partnership’s communications and information systems are integrated with the information systems of Broadridge. There are relatively few alternative providers to Broadridge and although the Partnership has analyzed the feasibility of performing Broadridge’s functions internally, the Partnership may not be able to do it in a cost-effective manner or otherwise. Consequently, any new computer systems or software packages implemented by Broadridge which are not compatible with the Partnership’s systems, or any other interruption or the cessation of service by Broadridge as a result of systems limitations or failures, could cause unanticipated disruptions in the Partnership’s business which may result in financial losses and/or disciplinary action by governmental agencies and/or SROs.

 

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Item 1A.

Risk Factors, continued

 

CANADIAN OPERATIONS The Partnership is focusing heavily on efforts, and intends to continue to make substantial investments to support the potential profitability of its Canadian operations, which have not yet achieved profitability.

The Partnership commenced operations in Canada in 1994 and plans to continue to expand its branch system in Canada. The Canadian operations have operated at a substantial deficit from inception. The Partnership may make additional investments in its Canadian operations to address short-term liquidity, capital, or expansion needs, which could be substantial. However, the number of Canadian financial advisors employed by the Partnership has declined since 2009. This decline could affect the ability of the Partnership to reach its profitability goals for the Canadian segment.

There is no assurance the Canadian operations will ultimately become profitable. For further information on the Canadian operations, see Note 16 to the Consolidated Financial Statements.

CAPITAL LIMITATIONS; UNIFORM NET CAPITAL RULEThe SEC’s Uniform Net Capital Rule imposes minimum net capital requirements and could limit the Partnership’s ability to engage in certain activities which are crucial to its business.

Adequacy of capital is vitally important to broker-dealers, and lack of sufficient capital may limit the Partnership’s ability to compete effectively. In particular, lack of sufficient capital or compliance with the Uniform Net Capital Rule may limit Edward Jones’ ability to commit to certain securities activities such as underwriting and trading, which require significant amounts of capital, its ability to expand margin account balances, as well as its commitment to new activities requiring an investment of capital. FINRA regulations and the Uniform Net Capital Rule may restrict Edward Jones’ ability to expand its business operations, including opening new branch offices or hiring additional financial advisors. Consequently, a significant operating loss or an extraordinary charge against net capital could adversely affect Edward Jones’ ability to expand or even maintain its present levels of business.

In addition to the regulatory requirements applicable to Edward Jones, EJTC and the Canadian broker-dealer are subject to regulatory capital requirements in the U.S. and in Canada. Failure by the Partnership to maintain the required net capital for any of its subsidiaries may subject it to disciplinary actions by the SEC, FINRA, IIROC, OCC or other regulatory bodies, which could ultimately require its liquidation. In the U.S., Edward Jones may be unable to expand its business and may be required to restrict its withdrawal of subordinated debt and partnership capital in order to meet its net capital requirements.

LIQUIDITYThe Partnership’s business in the securities industry requires that sufficient liquidity be available to maintain its business activities, and it may not always have access to sufficient funds.

Liquidity, or ready access to funds, is essential to the Partnership’s business. The current tight credit market environment could have a negative impact on its ability to maintain sufficient liquidity to meet its working capital needs. Short-term and long-term financing are two sources of liquidity that could be affected by the current tight credit market. As a result of the concerns about the stability of the markets in general, some lenders have reduced their lending to borrowers, including the Partnership. There is no assurance that financing will be available at attractive terms, or at all, in the future. A significant decrease in the Partnership’s access to funds could negatively affect its business and financial management in addition to its reputation in the industry.

 

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Item 1A.

Risk Factors, continued

 

Many limited partners, subordinated limited partners and general partners have financed the initial and subsequent Partnership capital contributions by obtaining personal bank loans. Any such bank loan agreement is and will be between the partner and the bank. The Partnership does not guarantee the bank loans, nor can partners pledge their Partnership interest as collateral for the bank loan. Partners who finance all or a portion of their Partnership interest with bank financing may be more likely to request the withdrawal of capital to repay such obligations should the Partnership experience a period of reduced earnings. Any withdrawals by general partners, subordinated limited partners or limited partners are subject to the terms of the Partnership Agreement and would reduce the Partnership’s available liquidity and capital.

The Partnership makes loans available to general partners (other than those who are members of the Executive Committee) that require financing for some or all of their individual partner capital contributions. Loans made by the Partnership to general partners are generally for a period of one year and bear interest at a rate defined in the loan documents. The Partnership recognizes interest income for the interest paid by general partners in connection with such loans. General partners borrowing from the Partnership are required to repay such loans by applying earnings received from the Partnership to such loans. As a result, there is no assurance that general partner’s will be able to repay the interest and/or the principal amount of their loans at or prior to its maturity.

UPGRADE OF TECHNOLOGICAL SYSTEMSThe Partnership may engage in significant technology initiatives in the future which may be costly and could lead to disruptions.

From time to time, the Partnership has engaged in significant technology initiatives and expects to continue to do so in the future. Such initiatives are not only necessary to better meet the needs of the Partnership’s clients, but also to satisfy new industry standards and practices and better secure the transmission of clients’ information on the Partnership’s systems. With any major system replacement, there will be a period of education and adjustment for the branch and home office employees utilizing the system. Following any upgrade or replacement, if the Partnership’s systems or equipment does not operate properly, is disabled or fails to perform due to increased demand (which might occur during market upswings or downturns), or if a new system or system upgrade contains a major problem, the Partnership could experience unanticipated disruptions in service, including interrupted trading, slower response times, decreased client service and client satisfaction and delays in the introduction of new products and services, any of which could result in financial losses, liability to clients, regulatory intervention or reputational damage. Further, the inability of the Partnership’s systems to accommodate a significant increase in volume of transactions also could constrain its ability to expand its business.

 

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Item 1A.

Risk Factors, continued

 

INTEREST RATE ENVIRONMENTThe Partnership’s profitability is impacted by the low interest rate environment.

The current low interest rate environment adversely impacts the interest income the Partnership earns from clients’ margin loans, the investment of excess funds, and securities the Partnership owns, as well as the fees earned by the Partnership through its minority ownership in the investment adviser to the Edward Jones money market funds. While the low interest rate environment positively impacts the Partnership’s expenses related to liabilities that finance certain assets, such as amounts payable to clients and other interest-bearing liabilities, its interest bearing liabilities are less impacted by short-term interest rates compared to its interest earning assets, resulting in interest income being more sensitive to the current low interest rate environment than interest expense.

CREDIT RISKThe Partnership is subject to credit risk due to the nature of the transactions it processes for its clients.

The Partnership is exposed to the risk that third parties who owe it money, securities or other assets will not meet their obligations. Many of the transactions in which the Partnership engages expose it to credit risk in the event of default by its counterparty or client, such as cash balances held at various major U.S. financial institutions, which typically exceed FDIC insurance coverage limits. In addition, the Partnership’s credit risk may be increased when the collateral it holds cannot be realized or is liquidated at prices insufficient to recover the full amount of the obligation due to the Partnership. See Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations, for more information about the Partnership’s credit risk.

LACK OF CAPITAL PERMANENCY Because the Partnership’s capital is subject to mandatory liquidation either upon the death or withdrawal request of a partner, the capital is not permanent and a significant mandatory liquidation could lead to a substantial reduction in the Partnership’s capital, which could, in turn, have a material adverse effect on the Partnership’s business.

Under the terms of the Partnership Agreement, a partner’s capital balance is liquidated upon death. In addition, partners may request withdrawals of their partnership capital, subject to certain limitations on the timing of those withdrawals. Accordingly, partnership capital is not permanent and is dependent upon current and future partners to both maintain their existing capital and make additional capital contributions in the Partnership. Any withdrawal requests by general partners, subordinated limited partners or limited partners would reduce the Partnership’s available liquidity and capital.

Under the terms of the Partnership Agreement, limited partners who request the withdrawal of their capital are repaid their capital in three equal annual installments beginning the month after their withdrawal request. The Managing Partner may, in his discretion, allow a limited partner to accelerate the withdrawal of his or her capital. The capital of general partners requesting the withdrawal of capital from the Partnership may be converted to subordinated limited partner capital or, at the discretion of the Managing Partner, redeemed by the Partnership. The withdrawal of subordinated limited partner capital is repaid in six equal annual installments beginning the month after their request for withdrawal. Liquidations upon the death of a partner are generally required to be made within six months of the date of death. Due to the nature of the liquidation requirements of the capital as set forth in the Partnership Agreement, the Partnership accounts for its capital as a liability, in accordance with GAAP. If the Partnership’s capital declines by a substantial amount due to liquidation or withdrawal, the Partnership may not have sufficient capital to operate or expand its business or to meet withdrawal requests by partners.

 

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Item 1A.

Risk Factors, continued

 

INTERRUPTION OF BUSINESS AND OPERATIONSAny substantial disruption to the Partnership’s business and operations could lead to significant financial loss to its business and operations as well as harm relations with its clients.

The Partnership relies heavily on communications and information systems to conduct its business. The Partnership’s home office facilities and its existing computer system and network, including its backup systems, are vulnerable to damage or interruption from human error, natural disasters, power loss, sabotage, computer viruses, intentional acts of vandalism, attempts by others to gain unauthorized access to the Partnership’s information technology system, and similar events. Such an event could substantially disrupt the Partnership’s business by causing physical harm to its home office facilities and its technological systems. In addition, the Partnership’s reputation and business may suffer if clients experience data or financial loss from a significant interruption. The Partnership’s primary data center is located in St. Louis, Missouri. The Partnership has a data center in Tempe, Arizona, which currently operates as a secondary data center to its primary data center in St. Louis and is designed to enable the Partnership to maintain service during a system disruption contained in St. Louis. A prolonged interruption of either site might result in a delay in service and substantial additional costs and expenses. While the Partnership has disaster recovery and business continuity planning processes, and interruption and property insurance to mitigate and help protect it against such losses, there can be no assurance that the Partnership is fully protected from such an event. In 2011, the Partnership began re-purposing its secondary data center in Tempe, Arizona in order to be able to operate this facility as a primary data center for processing the most critical systems such that they could run in St. Louis, Missouri or Tempe, Arizona. As of December 31, 2012, this is still in process and is expected to take another two to three years to complete.

UNDERWRITING, SYNDICATE AND TRADING POSITION RISKSThe Partnership engages in underwriting activities, which can expose the Partnership to material losses and liability.

Participation as a manager or syndicate member in the underwriting of fixed income and equity securities subjects the Partnership to substantial risk. As an underwriter, the Partnership is subject to risk of substantial liability, expense and adverse publicity resulting from possible claims against it as an underwriter under federal and state securities laws. Such laws and regulations impose substantial potential liabilities on underwriters for material misstatements or omissions in the document used to describe the offered securities. In addition, there exists a potential for possible conflict of interest between an underwriter’s desire to sell its securities and its obligation to its clients not to recommend unsuitable securities. There has been an increasing incidence of litigation in these areas. These lawsuits are frequently brought by large classes of purchasers of underwritten securities. Such lawsuits often name underwriters as defendants and typically seek substantial amounts in damages.

Further, as an underwriter, the Partnership may incur losses if it is unable to resell the securities it is committed to purchase or if it is forced to liquidate all or part of its commitment at less than the agreed upon purchase price. In addition, the commitment of capital to an underwriting may adversely affect the Partnership’s capital position and, as such, the Partnership’s participation in an underwriting may be limited by the requirement that it must at all times be in compliance with the SEC’s Uniform Net Capital Rule. In maintaining inventory in fixed income and equity securities, the Partnership is exposed to a substantial risk of loss, depending upon the nature and extent of fluctuations in market prices.

 

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PART I

 

Item 1A.

Risk Factors, continued

 

RISK OF INFLATIONAn increase in inflation could affect securities prices and as a result, the profitability and capital of the Partnership.

Inflation and future expectations of inflation can negatively influence securities prices, as well as activity levels in the securities markets. As a result, the Partnership’s profitability and capital may be adversely affected by inflation and inflationary expectations. Additionally, the impact of inflation on the Partnership’s operating expenses may affect profitability to the extent that additional costs are not recoverable through increased prices of services offered by the Partnership.

TRANSACTION VOLUME VOLATILITYSignificant increases and decreases in the number of transactions by the Partnership’s clients can have a material negative effect on the Partnership’s profitability and its ability to efficiently process and settle these transactions.

Significant volatility in the number of client transactions may result in operational problems such as a higher incidence of failures to deliver and receive securities and errors in processing transactions, and such volatility may also result in increased personnel and related processing costs. In the past, the Partnership has experienced adverse effects on its profitability resulting from significant reductions in securities sales and, likewise, has encountered operational problems arising from unanticipated high transaction volume. The Partnership is not able to control such decreases and increases, and there is no assurance that it will not encounter such problems and resulting losses in future periods.

In addition, significant transaction volume could result in inaccurate books and records, which would expose the Partnership to disciplinary action by governmental agencies and SROs.

 

27


Table of Contents

PART I

 

Item 1A.

Risk Factors, continued

 

RISKS RELATED TO AN INVESTMENT IN LIMITED PARTNERSHIP INTERESTS

HOLDING COMPANY — JFC is a holding company; as a consequence, JFC’s ability to satisfy its obligations under the Partnership Agreement will depend in large part on the ability of its subsidiaries to pay distributions or dividends to JFC, which is restricted by law and contractual obligations.

Since JFC is a holding company, the principal sources of cash available to it are distributions or dividends from its subsidiaries and other payments under intercompany arrangements with its subsidiaries. Accordingly, JFC’s ability to generate the funds necessary to satisfy its obligations with respect to the Interests, including the 7.5% “guaranteed payment” (for tax purposes, within the meaning of the Internal Revenue Code) to limited partners pursuant to Section 3.3 of the Partnership Agreement (the “7.5% Payment”), will be dependent on distributions, dividends, and intercompany payments from its subsidiaries, and if those sources are insufficient, JFC may be unable to satisfy such obligations.

JFC’s principal operating subsidiaries, including Edward Jones, are subject to various statutory and regulatory restrictions applicable to broker-dealers generally that limit the amount of cash distributions, dividends, loans and advances that those subsidiaries may pay to JFC. Regulations relating to capital requirements affecting some of JFC’s subsidiaries also restrict their ability to pay distributions or dividends and make loans to JFC. See subheading “Regulation” of Item 1, “Business” of this Annual Report on Form 10-K.

In addition, JFC’s subsidiaries may be restricted under the terms of their financing arrangements from paying distributions or dividends to JFC, or may be required to maintain specified levels of capital. Moreover, JFC or its subsidiaries may enter into financing arrangements in the future which may include additional restrictions or debt covenant requirements further restricting distributions to JFC, which may impact JFC’s ability to make distributions to its limited partners.

AVAILABILITY OF FINANCING — Limited partners may finance their purchase of the Interests with a bank loan, but the Partnership does not guarantee those loans.

Many limited partners finance the purchases of their Interests by obtaining personal bank loans. Any such bank loan agreement is between the limited partner and the bank. The Partnership does not guarantee the bank loans, nor can limited partners pledge their Partnership interest as collateral for the bank loan. Limited partners who have chosen to finance a portion of the purchase price of their Interests assume all risks associated with the loan, including the legal obligation to repay the loan.

There is no assurance that distributions from the Partnership will be sufficient to pay the interest on a limited partner’s loan or repay the principal amount of the loan at or prior to its maturity. There also can be no assurance that such distributions will be sufficient to pay all income taxes due each year arising from a limited partner’s share of the Partnership’s income. Furthermore, in the event the Partnership experiences a loss which leads to its liquidation, there is no assurance there will be sufficient capital available to distribute to the limited partners for the repayment of any loans.

 

28


Table of Contents

PART I

 

Item 1A.

Risk Factors, continued

 

NON-VOTING INTERESTS; NON-TRANSFERABILITY OF INTERESTS; ABSENCE OF MARKET; PRICE FOR INTERESTSThe Interests are non-voting and non-transferable, no market for the Interests exists or is expected to develop, and the price only represents book value.

None of the limited partners in their capacity as limited partners may vote or otherwise participate in the management of the Partnership’s business. The Managing Partner has the authority to amend the Partnership Agreement without the consent of the limited partners or general partners. None of the limited partners may sell, pledge, exchange, transfer or assign their Interests without the express written consent of the Managing Partner (which is not expected to be given).

Because there is no market for the Interests, there is no fair market value for the Interests. The price ($1,000 per Interest) at which the Interests were offered represents the book value of each Interest. Capital could decline to a point where the book value of the Interests could be less than the price paid.

RISK OF DILUTIONThe Interests may be diluted from time to time, which could lead to decreased returns to the limited partners.

The Managing Partner has the ability, in his sole discretion, to issue additional Interests or Partnership capital. Any addition of new Interests will decrease the Partnership’s net interest income by the 7.5% Payments for any such additional Interests, and holders of existing Interests may suffer decreased returns on their investment because the amount of the Partnership’s net income they participate in may be reduced as a consequence. Additionally, the Partnership retains approximately 23% of the general partners’ net income as capital which is credited monthly to the general partners’ Adjusted Capital Contributions (as defined in the Partnership Agreement). Beginning in 2013, the Partnership decreased the amount of retention to approximately 14% of net income allocated to general partners. Such retention, along with any additional capital contributions by general partners, will reduce the percentage of participation in net income by limited partners. There is no requirement to retain a minimum amount of general partners’ net income, and the percentage of retained net income could change at any time in the future. In accordance with the Partnership Agreement, the percentage of income allocated to limited partners is reset annually and the amount of retained general partner income and any additional issuance of general partnership capital reduces the income allocated to limited partners.

LIMITATION OF LIABILITY; INDEMNIFICATIONThe Partnership Agreement limits the liability of the Managing Partner and general partners by indemnifying them under certain circumstances, which may limit a limited partner’s rights against them and could reduce the accumulated profits distributable to limited partners.

The Partnership Agreement provides that none of the general partners, including the Managing Partner, will be liable to any person for any acts or omissions by such partner on behalf of the Partnership (even if such action, omission or failure constituted negligence) as long as such partner has not (a) committed fraud, (b) acted or failed to act in subjective good faith or in a manner which involved intentional misconduct or a knowing violation of law or which was grossly negligent, or (c) derived improper personal benefit.

 

29


Table of Contents

PART I

 

Item 1A.

Risk Factors, continued

 

The Partnership also must indemnify the general partners, including the Managing Partner, from any claim in connection to acts or omissions performed in connection with the business of the Partnership and from costs or damages stemming from a claim attributable to acts or omissions by such partner unless such act was not in good faith on behalf of the Partnership, in a manner reasonably believed by the partner to be within the scope of his or her authority, nor in the best interests of the Partnership. The Partnership does not have to indemnify any general partner in instances of fraud, acts or omissions not in good faith or which involve intentional misconduct, a knowing violation of the law, or gross negligence, or where such partner derived improper personal benefit.

As a result of these provisions, the limited partners will have more limited rights against such partners than they would have absent the limitations in the Partnership Agreement. Indemnification of the general partners could deplete the Partnership’s assets unless the indemnification obligation is covered by insurance, which the Partnership may or may not obtain, or which insurance may not be available at a reasonable price or at all or in an amount sufficient to cover the indemnification obligation. The Partnership Agreement does not provide for indemnification of limited partners.

 

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Table of Contents

PART I

 

ITEM 1B.

UNRESOLVED STAFF COMMENTS

None.

 

ITEM 2.

PROPERTIES

The Partnership primarily conducts its U.S. home office operations from two campus locations in St. Louis, Missouri and one campus location in Tempe, Arizona. As of December 31, 2012, the Partnership’s U.S. home office consisted of 18 separate buildings totaling approximately 2.0 million square feet.

Of the 18 U.S. home office buildings, two buildings are leased through an operating lease and the remaining 16 are owned by the Partnership. In addition, the Partnership leases its Canadian home office facility in Mississauga, Ontario through an operating lease. The Partnership also maintains facilities in 11,415 branch locations as of December 31, 2012, which are located in the U.S. and Canada and are predominantly rented under cancelable leases. See Notes 14 and 17 to the Consolidated Financial Statements for information regarding non-cancelable lease commitments and related party transactions, respectively.

 

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PART I

 

 

ITEM 3.

LEGAL PROCEEDINGS

In the normal course of business, the Partnership is named, from time to time, as a defendant in various legal actions, including arbitrations, class actions and other litigation. Certain of these legal actions may include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages. The Partnership is involved, from time to time, in investigations and proceedings by governmental organizations and SROs, certain of which may result in adverse judgments, fines or penalties.

Countrywide. There have been four cases filed against Edward Jones (in addition to numerous other issuers and underwriters) asserting claims under the U.S. Securities Act of 1933 (the “Securities Act”) in connection with registration statements and prospectus supplements issued for certain mortgage-backed certificates issued between 2005 and 2007. Three cases are purported class actions (David H. Luther, et al. v. Countrywide Financial Corporation, et al. filed in 2007.; Maine State Retirement System, et al. v. Countrywide Financial Corporation, et al. filed in 2010; and Western Conference of Teamsters Pension Trust Fund v. Countrywide Financial Corporation, et al. filed in 2010). All three cases remain pending in the U.S. District Court for the Central District of California. Plaintiffs seek unspecified compensatory damages, attorneys’ fees, costs, expenses and rescission. In November 2010, the Court in the Maine State case dismissed all of plaintiffs’ claims to the extent they related to any certificates for which Edward Jones acted as dealer. The Western Conference of Teamsters case has been stayed by agreement of the parties.

On August 10, 2012, the Federal Deposit Insurance Corporation, in its capacity as receiver for Colonial Bank, filed a separate lawsuit (FDIC v. Countrywide Securities Corporation, Inc., et al.) in the U.S. District Court for the Central District of California against numerous issuers and underwriters including Edward Jones. However, plaintiff does not allege that it purchased any tranche of any offering for which Edward Jones acted as dealer. Following defendant’s motion to dismiss, plaintiffs filed their first amended complaint on November 6, 2012. The parties have agreed to a briefing schedule on defendants’ motion to dismiss.

Lehman Brothers. Edward Jones was named as a defendant in three actions related to its underwriting of Lehman Brothers Holdings Inc. (“Lehman Brothers”) notes that are or were pending in the U.S. District Court for the Southern District of New York (“SDNY”). Two of the suits were putative class action suits originally brought by plaintiffs in state court in Arkansas (the “Arkansas Plaintiffs”), which asserted Securities Act claims based upon two offerings of Lehman Brothers’ notes in 2007. The Court dismissed those actions on December 11, 2012. The Arkansas Plaintiffs will have the right to appeal the dismissal order. The third suit was amended in October 2011 to assert a Section 11 claim against Edward Jones related to three offerings of Lehman bonds in January and February 2008. Plaintiffs, American National Life Insurance Company of Texas, Comprehensive Investment Services Inc., The Moody Foundation, and American National Insurance Company, allege to have purchased $3 million of securities in these offerings, but did not make any of these purchases through Edward Jones. This action names several other purported underwriters as defendants, as well as Lehman Brothers’ former auditor. On January 6, 2012, Edward Jones and other defendants moved to dismiss this action. The motion was fully briefed as of March 5, 2012. The Court has not yet ruled on the motion to dismiss.

 

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PART I

 

Item 3.

Legal Proceedings, continued

 

Nicholas Maxwell, individually and on behalf of all others similarly situated. Edward Jones was named as a defendant in a putative class action complaint in Alameda Superior Court. The complaint asserted causes of action for unlawful wage deductions (Labor Code sections 221, 223, 400-410, 2800, 2802, Cal. Code Reg. title 8, section 11040(8)); California Unfair Competition Law violations (Business and Professions Code sections 17200-04); and waiting time penalties (Labor Code sections 201-203). Plaintiff alleges that Edward Jones improperly charged its California financial advisors fees, costs, and expenses related to trading errors or “broken” trades, and failed to timely pay wages at termination; however plaintiff does not allege a specific amount of damages. Plaintiff filed the complaint on December 18, 2012 and Edward Jones filed its answer on February 6, 2013. There is a case management conference scheduled for July 10, 2013.

Tribune. In August 2011, retirees of Times Mirror/Tribune Company filed suit in the U.S. District Court for the SDNY against numerous brokerage firms and banks, including Edward Jones, claiming that a fraudulent transfer occurred during the 2007 Times Mirror/Tribune Company merger. Plaintiffs allege that payments made to Tribune Company shareholders, of which Edward Jones’ customers received approximately $6.5 million, constituted fraudulent transfers. The case has been consolidated in the U.S. District Court for the SDNY along with a number of similar cases as part of the multi-district litigation process.

Yavapai County Litigation. In September, 2009, three lawsuits were filed in the State of Arizona; all three lawsuits were consolidated and are pending before the U.S. District Court for the District of Arizona. The actions relate to bonds underwritten by Edward Jones and other brokerage firms for the purpose of financing construction of an event center in Prescott Valley, Arizona. Edward Jones sold approximately $2.9 million of the bonds. The plaintiffs allege the underwriters, including Edward Jones, made material misrepresentations and omissions in the preliminary official statement and/or in the official statement. One of the matters was filed as a putative class action in which the plaintiffs seek to represent all purchasers of the issued bonds. Allstate is suing as a purchaser of the bonds and Wells Fargo filed a separate action as indenture trustee on behalf of all bond holders. The Court entered an order in November, 2010 dismissing several of the claims against Edward Jones, including all claims brought on behalf of the class. The remaining claims against Edward Jones stem from allegations that defendants violated certain state securities acts and committed common law torts. Plaintiffs are seeking an unspecified amount of damages including attorneys’ fees, costs, expense, rescission or statutory damages, out-of-pocket damages and prejudgment interest. In 2011, Edward Jones filed a third-party complaint and counterclaim against Wells Fargo Bank, N.A., solely in its capacity as indenture trustee, asserting claims for negligent misrepresentation based on Wells Fargo’s involvement with the bond documents and official statement.

In the Matter of Edward D. Jones & Co., L.P. Municipal Bond Pricing. On April 27, 2012, the SEC’s Division of Enforcement informed Edward Jones it had commenced an investigation into Nebraska Public Power District’s (“NPPD”) Taxable Build America Bonds, which formed part of NPPD’s 2009 General Revenue Bonds offering. Edward Jones was a co-manager of said offering. The investigation inquired into whether Edward Jones and others may have engaged in possible violations of the Securities Act, the U.S. Securities Exchange Act of 1934 (the “Exchange Act”) (including Section 10(b) and Rule 10b-5 thereunder), and MSRB Rules. In January 2013, the SEC commenced a second investigation that subsumed the one just described, relating more generally to municipal bond pricing, which also inquired into possible violations of the Securities Act, Exchange Act (including Section 10(b) and Rule 10b-5 thereunder), and MSRB Rules. Consistent with its practice, Edward Jones is cooperating fully with the SEC with respect to these investigations. The SEC has stated to Edward Jones with respect to each of the investigations described above that the “investigation is a non-public, fact-finding, informal inquiry, which should not be construed as an indication that the Commission or its staff have determined that any violations of law have occurred,” and the SEC has not taken any action against Edward Jones or others with respect to either investigation.

New Hampshire Investigation. In March 2012, Edward Jones received an inquiry from the State of New Hampshire in connection with its investigation into Edward Jones’ procedures regarding compliance with federal and state telemarketing rules. The state has requested documentation and interviewed individuals at Edward Jones. Edward Jones is engaged in ongoing discussions with the state and has produced documents as requested by the state.

 

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Table of Contents

PART I

 

Item 3.

Legal Proceedings, continued

 

FINRA Letter of Acceptance Waiver and Consent. FINRA initiated an investigation into certain procedures at Edward Jones, and alleged that prior to July 13, 2012 Edward Jones did not establish and maintain written supervisory procedures to ensure that registered representatives’ Uniform Applications for Securities Industry Registration or Transfer (“Form U4”) were updated to reflect unsatisfied judgments and liens of which Edward Jones’ payroll department was on notice. As a result, FINRA alleged that Edward Jones did not timely file Form U4 amendments in such circumstances in violation of Article V, Section 2(c) of the FINRA By-Laws, FINRA Rule 2010, and NASD Rules 3010(b) and 2110. Without admitting or denying the findings, Edward Jones entered into a Letter of Acceptance, Waiver and Consent which included a censure and a fine of $35,000.

 

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PART I

 

ITEM 4.

MINE SAFETY DISCLOSURES

None.

 

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Table of Contents

PART II

 

ITEM 5.

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

There is no established public trading market for the Partnership’s limited partnership and subordinated limited partnership interests and their assignment is prohibited. As of February 22, 2013, the Partnership was composed of 14,009 limited partners and 297 subordinated limited partners.

 

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PART II

 

 

ITEM 6.

SELECTED FINANCIAL DATA

The following information sets forth, for the past five years, selected financial data determined from audited financial statements.

All information included in the Annual Report on Form 10-K is presented on a continuing operations basis unless otherwise noted.

Summary Consolidated Statements of Income Data:

(All dollars in millions, except per unit information and units outstanding)

 

     2012      2011      2010      2009     2008  

Total revenue

   $ 5,027       $ 4,578       $ 4,163       $ 3,548      $ 3,821   

Interest expense

     62         68         56         58        72   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Net revenue

   $ 4,965       $ 4,510       $ 4,107       $ 3,490      $ 3,749   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Income from continuing operations

   $ 555       $ 482       $ 393       $ 269      $ 385   

Loss from discontinued operations

     —            —            —            (105     (73
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Income before allocations to partners

   $ 555       $ 482       $ 393       $ 164      $ 312   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Income allocated to limited partners per weighted average $1,000 equivalent limited partnership unit outstanding

   $ 109.84       $ 104.66       $ 96.07       $ 41.44      $ 86.21   

Weighted average $1,000 equivalent limited partnership units outstanding

     655,663         668,450         455,949         471,597        489,920   

In accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) No. 480, Distinguishing Liabilities from Equity (“ASC 480”), the Partnership presents net income of $0 on its Consolidated Statements of Income. See Note 1 to the Consolidated Financial Statements for further discussion.

 

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Table of Contents

PART II

 

Item 6.

Selected Financial Data, continued

 

Summary Consolidated Statements of Financial Condition Data:

(All dollars in millions)

 

     2012      2011      2010      2009      2008  

Total assets(1)

   $ 13,042       $ 9,584       $ 8,241       $ 7,168       $ 6,992   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Bank loans

   $ —         $ —         $ —         $ 58       $ 43   

Long-term debt

     6         7         66         59         9   

Other liabilities exclusive of subordinated liabilities and partnership capital subject to mandatory redemption(2)

     10,953         7,521         6,366         5,327         5,203   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     10,959         7,528         6,432         5,444         5,255   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subordinated liabilities

     100         150         204         257         261   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals

     1,812         1,758         1,497         1,437         1,413   

Reserve for anticipated withdrawals

     171         148         108         30         63   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Partnership capital subject to mandatory redemption(3)

     1,983         1,906         1,605         1,467         1,476   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities and partnership capital

   $ 13,042       $ 9,584       $ 8,241       $ 7,168       $ 6,992   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Assets include amounts reclassified as discontinued operations of $95 for 2008.

(2) 

Liabilities include amounts reclassified as discontinued operations of $56 for 2008.

(3) 

Partnership capital include amounts reclassified as discontinued operations of $39 for 2008.

 

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PART II

 

 

ITEM 7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis is intended to help the reader understand the results of operations and the financial condition of the Partnership. Management’s Discussion and Analysis should be read in conjunction with the Partnership’s Consolidated Financial Statements and accompanying notes included in Item 8, Financial Statements and Supplementary Data of this Annual Report on Form 10-K.

Basis of Presentation

The Partnership broadly categorizes its net revenues into four categories: trade revenue (revenue from client buy or sell transactions of securities), fee revenue, net interest and dividends revenue (net of interest expense) and other revenue. In the Partnership’s Consolidated Statements of Income, trade revenue is composed of commissions, principal transactions and investment banking. Fee revenue is composed of asset-based fees and account and activity fees. These sources of revenue are affected by a number of factors. Trade revenue is impacted by the number of financial advisors, trading volume (client dollars invested), mix of the products in which clients invest, margins earned on the transactions and market volatility. Asset-based fees are generally a percentage of the total value of specific assets in client accounts. These fees are impacted by client dollars invested in and divested from the accounts which generate asset-based fees and change in market values of the assets. Account and activity fees and other revenue are impacted by the number of client accounts and the variety of services provided to those accounts, among other factors. Net interest and dividends revenue is impacted by the amount of cash and investments, receivables from clients and payables to clients, the variability of interest rates earned and paid on such balances, the number of Interests, and the balances of general partner loans, long-term debt and liabilities subordinated to claims of general creditors.

 

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Table of Contents

PART II

 

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

OVERVIEW

The following table sets forth the change in major categories of the Consolidated Statements of Income as well as several key related metrics for the last three years. Management of the Partnership relies on this financial information and the related metrics to evaluate the Partnership’s operating performance and financial condition. All amounts are presented in millions, except the number of financial advisors and as otherwise noted.

 

     For the years ended December 31,     % Change  
     2012     2011     2010     2012 vs. 2011     2011 vs. 2010  

Revenue:

          

Trade revenue:

          

Commissions

   $ 1,979.0      $ 1,698.7      $ 1,575.8        17     8

Principal transactions

     155.9        284.2        320.8        -45     -11

Investment banking

     111.6        153.1        208.6        -27     -27
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trade revenue

     2,246.5        2,136.0        2,105.2        5     1
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

% of net revenue

     45     47     51    

Fee revenue:

          

Asset-based

     2,042.4        1,776.9        1,397.3        15     27

Account and activity

     573.9        522.9        503.3        10     4
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total fee revenue

     2,616.3        2,299.8        1,900.6        14     21
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

% of net revenue

     53     51     46    

Net interest and dividends

     71.2        62.5        70.5        14     -11

Other revenue

     31.2        11.6        30.5        169     -62
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     4,965.2        4,509.9        4,106.8        10     10

Operating expenses

     4,410.2        4,028.1        3,714.0        9     8
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before allocations to partners

   $ 555.0      $ 481.8      $ 392.8        15     23
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Related metrics:

          

Client dollars invested(1):

          

Trade ($ billions)

   $ 97.4      $ 88.4      $ 87.8        10     1

Advisory programs ($ billions)

   $ 11.9      $ 17.8      $ 21.6        -33     -18

Client households at year end (millions)

     4.52        4.48        4.46        1     0

Client assets under care:

          

Total:

          

At year end ($ billions)

   $ 668.7      $ 591.2      $ 572.6        13     3

Average ($ billions)

   $ 636.9      $ 586.1      $ 535.8        9     9

Advisory Programs:

          

At year end ($ billions)

   $ 87.4      $ 68.8      $ 53.7        27     28

Average ($ billions)

   $ 78.8      $ 63.6      $ 40.8        24     56

Financial advisors:

          

At year end

     12,463        12,242        12,616        2     -3

Average

     12,273        12,359        12,694        -1     -3

Attrition %

     10.7     14.1     16.2     n/a        n/a   

Dow Jones Industrial Average:

          

At year end

     13,104        12,218        11,578        7     6

Average for year

     12,965        11,958        10,669        8     12

S&P 500 Index:

          

At year end

     1,426        1,258        1,258        13     0

Average for year

     1,379        1,268        1,139        9     11

 

(1) 

Client dollars invested, related to trade revenue, includes the principal amount of clients’ buy and sell transactions generating a commission. Client dollars invested related to advisory programs revenue represents the net inflows of client dollars into the programs.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

2012 versus 2011 Overview

During 2012, global market and economic conditions improved overall compared to 2011 even though concerns about U.S. and global economic growth and an uncertain political environment led investors to remain cautious. Despite these concerns, the Partnership experienced record financial results in 2012 through continued focus on providing solutions to its clients.

Net revenue increased 10% to $5.0 billion in 2012 compared to 2011, which is a record for the Partnership. This significant growth in net revenue is primarily attributable to a 14% increase in fee revenue due to higher levels of asset values on which fees were earned, driven by the continued investment of client dollars into advisory programs and the overall rise in the equity market daily averages, evidenced by the 9% increase in the daily average S&P 500 Index and the 8% increase in the daily average Dow Jones Industrial Average. These factors also contributed to a changing composition of net revenue, which was 45% trade and 53% fee revenue in 2012, compared to 47% trade and 51% fee revenue in 2011.

Operating expenses increased 9% in 2012 compared to 2011, primarily due to an increase in compensation and benefits driven by increased financial advisor productivity as well as higher variable incentive compensation due to the increase in the Partnership’s profitability.

The impact of the 10% increase in net revenues, partially offset by a 9% increase in operating expenses resulted in a 15% increase in income before allocations to partners to $555.0 million.

The Partnership’s key performance measures were relatively strong in 2012. Average client assets under care grew 9% in 2012 to $636.9 billion, which included a 24% increase in the average advisory programs assets under care to $78.8 billion. In addition, client dollars invested relating to trade revenue were up 10% to $97.4 billion.

2011 versus 2010 Overview

The Partnership experienced improved financial results in 2011 compared to 2010 despite some challenging economic and market conditions throughout 2011 caused by the debt ceiling crisis, a downgrade of the U.S. credit rating and concerns over European debt, all of which caused increased market volatility. This volatility is reflected in the fact that the S&P 500 Index was as low as 1,099 in October of 2011 and as high as 1,364 in April 2011, a 24% swing, ending the year at 1,258, the same as it started the year. However, the 2011 daily average S&P 500 Index was up 11% year-over-year and the Dow Jones Industrial Average daily average was up 12% year-over-year.

The Partnership’s key performance measures were relatively strong in 2011. Average client assets under care grew 9% in 2011 to $586.1 billion, which included a 56% increase in the average advisory programs assets under care to $63.6 billion. In addition, client dollars invested relating to trade revenue were up slightly 1% to $88.4 billion.

In 2011, net revenue increased 10% to $4.5 billion compared to 2010. This increase was driven by a 21% increase in fee revenue, primarily due to higher levels of asset values on which fees were earned, driven by the continued investment of client dollars into advisory programs and the overall rise in the equity market daily averages. These factors also contributed to a changing composition of net revenue, which was 47% trade and 51% fee revenue in 2011, compared to 51% trade and 46% fee revenue in 2010.

 

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Operating expenses increased 8% in 2011 compared to 2010, primarily due to an increase in compensation and benefits driven by increased financial advisor productivity as well as higher variable incentive compensation due to the increase in the Partnership’s profitability.

The impact of the increase in net revenues and operating expenses resulted in a 23% increase in income before allocations to Partners.

RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010

The discussion below details the significant fluctuations and their drivers for each of the major categories of the Partnership’s Consolidated Statements of Income.

Trade Revenue

Trade revenue, which consists of commissions, principal transactions and investment banking revenue, increased 5% to $2.2 billion during 2012 and 1% to $2.1 billion during 2011. The increase in trade revenue for 2012 was primarily due to the impact of increased client dollars invested, partially offset by a decrease in the margin earned on client dollars invested. The increase in trade revenue for 2011 was primarily due to the impact of increased client dollars invested, as well as the increase in the margin earned on client dollars invested. A discussion specific to each component of trade revenue follows.

 

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Commissions

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Commissions revenue ($ millions):

             

Mutual funds

   $ 1,050.9       $ 866.0       $ 856.0         21     1

Equities

     539.2         447.5         393.0         20     14

Insurance

     388.9         385.2         326.7         1     18

Corporate bonds

     —            —            0.1         0     -100
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total commissions revenue

   $ 1,979.0       $ 1,698.7       $ 1,575.8         17     8
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics:

             

Client dollars invested ($ billions)

   $ 79.4       $ 65.3       $ 61.0         22     7

Margin per $1,000 invested

   $ 24.90       $ 26.00       $ 25.90         -4     0

U.S. business days

     250         252         252         -1     0

Commissions revenue increased 17% in 2012 to $2.0 billion primarily due to a 22% increase in client dollars invested in commission generating transactions resulting from the continued improvement in market conditions and the fact that clients are continuing to reinvest their dollars from maturing fixed income products into mutual fund and equity products. This increase was partially offset by a 4% decrease in the margin per $1,000 invested caused by a shift from higher-margin equity mutual funds to lower-margin debt mutual funds.

Commissions revenue increased 8% in 2011 to $1.7 billion primarily due to a 7% increase in client dollars invested in commission generating transactions resulting from improved market conditions and the fact that clients are generally reinvesting their dollars from maturing fixed income products into mutual fund and equity products.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Principal Transactions

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Principal transactions revenue ($ millions):

             

State and municipal obligations

   $ 116.0       $ 212.6       $ 239.5         -45     -11

Corporate bonds and notes

     16.6         35.2         43.5         -53     -19

Certificates of deposit

     13.1         13.5         14.8         -3     -9

Unit investment trusts

     4.2         11.0         7.4         -62     49

Government and agency obligations

     3.1         5.9         8.9         -47     -34

Collateralized mortgage obligations

     1.6         3.5         6.3         -54     -44

Net inventory gains

     1.3         2.5         0.4         -48     525
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total principal transactions revenue

   $ 155.9       $ 284.2       $ 320.8         -45     -11
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics:

             

Client dollars invested ($ billions)

   $ 13.6       $ 18.0       $ 20.2         -24     -11

Margin per $1,000 invested

   $ 11.30       $ 15.70       $ 15.80         -28     -1

U.S. business days

     250         252         252         -1     0

Principal transactions revenue decreased 45% in 2012 to $155.9 million primarily due to the current low interest rate environment and the continued improvement in equity market conditions, which led clients to reinvest their dollars from maturing fixed income products into mutual fund and equity products. This resulted in a 24% decrease in client dollars invested in products that resulted in principal transactions revenue. In addition, margins per $1,000 invested decreased 28% in 2012 as client investments shifted in the current period towards products with shorter maturities, which have lower margins.

Principal transactions revenue decreased 11% in 2011 to $284.2 million primarily due to the continued low interest rate environment and improved equity market conditions, which led clients to reinvest their dollars from maturing fixed income products into mutual fund and equity products. This resulted in an 11% decrease in client dollars invested in products that resulted in principal transactions revenue.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Investment Banking

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Investment banking revenue ($ millions):

             

Distribution

   $ 106.9       $ 141.2       $ 191.1         -24     -26

Underwriting

     4.7         11.9         17.5         -61     -32
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total investment banking revenue

   $ 111.6       $ 153.1       $ 208.6         -27     -27
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics:

             

Client dollars invested ($ billions)

   $ 4.3       $ 5.1       $ 6.6         -16     -23

Margin per $1,000 invested

   $ 26.00       $ 29.90       $ 31.60         -13     -5

U.S. business days

     250         252         252         -1     0

Investment banking revenue decreased 27% in 2012 to $111.6 million. Due to the continued low interest rate environment and lower supply of state and municipal obligations, the demand for investment banking products decreased by 16% in 2012. The decrease in investment banking revenue was further caused by a 13% decrease in in the margin earned per $1,000 invested, resulting from a shift in client investments away from higher margin municipal and corporate unit investment trusts towards lower margin equity unit investment trusts.

Investment banking revenue decreased 27% in 2011 to $153.1 million. Due to the continued low interest rate environment and lower supply of state and municipal obligations, the demand for investment banking products decreased by 23% in 2011. The decrease in investment banking revenue was further caused by a 5% decrease in the margin earned per $1,000 invested, resulting from a shift in client investments away from higher margin municipal and corporate unit investment trusts towards lower margin equity unit investment trusts.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Fee Revenue

Fee revenue increased 14% in 2012 to $2.6 billion and 21% in 2011 to $2.3 billion. A discussion specific to each component of fee revenue follows.

Asset-based

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Asset-based fee revenue ($ millions):

             

Advisory programs fees

   $ 1,052.5       $ 849.6       $ 543.9         24     56

Service fees

     808.7         765.0         693.9         6     10

Revenue sharing

     138.6         129.0         119.0         7     8

Trust fees

     28.4         23.9         19.6         19     22

Cash solutions

     14.2         9.4         20.9         51     -55
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total asset-based fee revenue

   $ 2,042.4       $ 1,776.9       $ 1,397.3         15     27
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics ($ billions):

             

Average U.S. client asset values(1):

             

Mutual fund assets held outside of advisory programs

   $ 329.3       $ 305.3       $ 274.0         8     11

Advisory programs

     78.8         63.6         40.8         24     56

Insurance

     54.6         50.4         44.8         8     13

Cash solutions

     18.4         17.9         18.8         3     -5
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total client asset values

   $ 481.1       $ 437.2       $ 378.4         10     16
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

 

(1)

Assets on which the partnership earns asset-based fee revenue. U.S. asset-based fee revenue represents 97% of consolidated asset-based fee revenue for the years ended December 31, 2012, 2011 and 2010.

Asset-based fee revenue increased 15% in 2012 to $2.0 billion primarily due to increases in advisory programs fees. Advisory programs fee revenue increased 24% primarily due to market appreciation of asset values as well as continued investment of client dollars into the advisory programs. A majority of client assets held in the advisory programs were converted from other client investments previously held with the Partnership.

Asset-based fee revenue increased 27% in 2011 to $1.8 billion primarily due to increases in advisory programs fees. Advisory programs fee revenue increased 56% primarily due to market appreciation of asset values as well as continued investment of client dollars into the advisory programs.

 

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Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Account and Activity

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Account and activity fee revenue ($ millions):

             

Sub-transfer agent services

   $ 322.2       $ 289.1       $ 273.7         11     6

Retirement account fees

     141.6         136.9         132.7         3     3

Other account and activity fees

     110.1         96.9         96.9         14     0
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total account and activity fee revenue

   $ 573.9       $ 522.9       $ 503.3         10     4
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics (millions):

             

Average client accounts:

             

Sub-transfer agent services(1)

     18.4         17.1         15.8         8     8

Retirement accounts

     3.7         3.5         3.4         6     3

 

(1)

Amount represents average number of individual mutual fund holdings serviced, on which the Partnership recognizes sub-transfer agent services revenue.

Account and activity fee revenue increased 10% in 2012 to $573.9 million primarily due to increases in revenue from sub-transfer agent services and other account and activity fees. Sub-transfer agent services increased primarily due to increases in the number of average client holdings serviced as well as a contract rate adjustment effective for 2012. Other account and activity fees increased primarily due to increases in various other types of fees including credit card revenue and other transaction fees.

Account and activity fee revenue increased 4% in 2011 to $522.9 million primarily due to increases in revenue from sub-transfer agent services and retirement account fees. Sub-transfer agent services and retirement account fees increased primarily due to increases in the number of average client holdings serviced and the number of accounts, respectively.

 

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Item 7.

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Net Interest and Dividends

 

     Years Ended December 31,     % Change  
     2012     2011     2010     2012 vs. 2011     2011 vs. 2010  

Net interest and dividends revenue ($ millions):

          

Client loan interest

   $ 112.9      $ 115.2      $ 112.7        -2     2

Short-term investing interest

     11.3        7.4        9.9        53     -25

Other interest and dividends

     9.2        7.5        4.2        23     79

Interest expense

     (62.2     (67.6     (56.3     -8     20
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net interest and dividends revenue

   $ 71.2      $ 62.5      $ 70.5        14     -11
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Related metrics ($ millions):

          

Average aggregate client loan balance

   $ 2,187.9      $ 2,213.9      $ 2,144.3        -1     3

Average rate earned

     5.15     5.20     5.26     -1     -1

Average funds invested

   $ 6,560.0      $ 4,815.0      $ 4,046.8        36     19

Average rate earned

     0.17     0.15     0.24     13     -38

Weighted average $1,000 equivalent limited partnership units outstanding

     655,663        668,450        455,949        -2     47

Net interest and dividends revenue increased 14% in 2012 to $71.2 million primarily due to a decrease in interest expense and increases in short-term investing interest and other interest and dividends. Interest expense decreased in 2012 primarily due to lower average debt balances during the current period related to debt repayments in 2011 and 2012. Other interest and dividends revenue increased 23% primarily due to an increase in interest income recognized on general partner partnership loans. See further discussion of these loans in Note 10 to the Consolidated Financial Statements.

Interest income from cash and cash equivalents, cash and investments segregated under federal regulations and securities purchased under agreements to resell increased 53% in 2012 primarily due to an increase in the average funds invested on these types of investments as well as an increase in the rate earned. The related average funds invested increased 36% and included $5.6 billion of funds that were segregated in special reserve bank accounts for the benefit of U.S. clients under SEC rule 15c3-3, compared to $3.9 billion in 2011. The average rate earned on total funds invested increased 13% to 0.17% and the average rate earned on the segregated funds invested increased 15% to 0.16%. See the Liquidity and Capital Resources discussion below for additional information.

Net interest and dividends revenue decreased 11% in 2011 to $62.5 million primarily due to an increase in interest expense and a decrease in short-term investing interest partially offset by an increase in other interest and dividends. Interest expense increased in 2011 primarily due to an increase ($15.9 million) in the minimum 7.5% annual return on the additional limited partnership interests resulting from the limited partnership offering completed in January 2011. This increase was partially offset by a decrease in debt interest expense of $4.9 million (25%), due to lower average debt balances outstanding caused by debt repayments during 2011 and 2010. Other interest and dividends revenue increased 79% primarily due to an increase in interest income recognized on general partner partnership loans.

 

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Item 7.

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Interest income from cash and cash equivalents, cash and investments segregated under federal regulations and securities purchased under agreements to resell decreased 25% in 2011 primarily due to a decrease in rates earned on these types of investments, partially offset by an increase in average funds invested. The related average funds invested increased 19% in 2011 and included $3.9 billion of funds that were segregated in special reserve bank accounts for the benefit of U.S. clients under SEC Rule 15c3-3, compared to $3.0 billion in 2010. The average rate earned on total funds invested decreased 38% to 0.15% and the average rate earned on the segregated funds invested decreased 44% to 0.14%. See the Liquidity and Capital Resources discussion below for additional information.

Other Revenue

Other revenue increased 169% to $31.2 million in 2012 and decreased 62% to $11.6 million in 2011. The fluctuations in both years are primarily attributable to changes in the value of the investments held related to the Partnership’s non-qualified deferred compensation plan. As the market value of these investments fluctuates, the gains or losses are reflected in other revenue with an offset in compensation and fringe benefits expense, which results in no net impact to the Partnership’s income before allocations to partners.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Operating Expenses

 

     Years Ended December 31,      % Change  
     2012      2011      2010      2012 vs. 2011     2011 vs. 2010  

Operating expenses ($ millions):

             

Compensation and benefits

   $ 3,285.2       $ 2,940.1       $ 2,643.7         12     11

Occupancy and equipment

     353.0         356.6         343.3         -1     4

Communications and data processing

     279.3         289.4         290.1         -3     0

Payroll and other taxes

     186.0         171.1         159.9         9     7

Advertising

     56.3         54.2         55.7         4     -3

Postage and shipping

     47.6         48.5         49.8         -2     -3

Clearance fees

     12.6         12.6         11.6         0     9

Other operating expenses

     190.2         155.6         159.9         22     -3
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Total operating expenses

   $ 4,410.2       $ 4,028.1       $ 3,714.0         9     8
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Related metrics:

             

Number of branches

             

At period end

     11,415         11,408         11,375         0     0

Average

     11,396         11,394         11,306         0     1

Financial advisors:

             

At period end

     12,463         12,242         12,616         2     -3

Average

     12,273         12,359         12,694         -1     -3

Branch employees(1):

             

At period end

     13,619         12,889         13,002         6     -1

Average

     13,365         13,130         12,665         2     4

Home office employees(1):

             

At period end

     5,087         4,933         4,898         3     1

Average

     5,008         4,919         4,866         2     1

Home office employees(1) per 100 financial advisors (average)

     40.8         39.8         38.3         3     4

Branch employees(1) per 100 financial advisors (average)

     108.9         106.2         99.8         3     6

Average operating expenses per financial advisor(2)

   $ 177,177       $ 166,096       $ 159,000         7     4

 

(1)

Counted on a full-time equivalent (“FTEs”) basis.

(2)

Operating expenses used in calculation represents total operating expenses less financial advisor and variable compensation.

Operating expenses increased 9% in 2012 to $4.4 billion primarily due to a 12% increase in compensation and benefits resulting from increases in financial advisor compensation, variable incentive compensation and salary and fringe benefit expense (described below). The remaining operating expenses increased 3% ($37.0 million) primarily due to a 9% increase in payroll and other taxes caused by the increases in compensation and a 22% increase in other operating expenses.

Financial advisor compensation (excluding financial advisor salary and subsidy and variable incentive compensation) increased 9% ($141.6 million) in 2012 primarily due to increases in trade and asset-based fee revenue on which financial advisor commissions are paid. Financial advisor salary and subsidy increased 21% ($22.6 million) primarily due to new financial advisor compensation initiatives implemented in July 2012, in addition to more financial advisors participating in the programs.

 

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Item 7.

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Salary and fringe benefit expense increased 8% ($64.5 million) in 2012 primarily due to salary increases, increases in fringe benefits expense caused by increased healthcare costs and increases in personnel to support increased productivity of the Partnership’s financial advisor network. On a full-time equivalent basis, the average number of both the Partnership’s home office and branch employees increased 2%.

Variable incentive compensation expands and contracts in relation to revenues, income before allocations to partners and the Partnership’s related profit margin. As the Partnership’s financial results and profit margin improve, a significant portion is allocated to variable incentive compensation and paid to employees in the form of increased profit sharing and bonuses. As a result, variable incentive compensation increased 31% ($118.8 million) in 2012 to $497.0 million.

The Partnership uses the ratios of both the number of home office and the number of branch employees per 100 financial advisors and the average operating expenses per financial advisor as key metrics in managing its costs. In 2012, the average number of home office employees per 100 financial advisors increased 3%, resulting from the impact of the 2% increase in the average number of home office employees, as well as the 1% decrease in the average number of financial advisors. This result is despite the Partnership’s longer term cost management strategy to grow its financial advisor network at a faster pace than its home office support staff. Lack of growth in the number of financial advisors in 2013 could result in growing home office compensation costs at a faster rate than financial advisors, which would cause the average operating expense per financial advisor to increase. Although the average number of financial advisors in 2012 decreased 1% as compared to 2011, the number of financial advisors at December 31, 2012 increased 2% as compared to December 31, 2011. The average number of branch employees per 100 financial advisors increased 3% due to the impact of the 2% increase in the average number of branch employees, as well as the 1% decrease in the average number of financial advisors. This is the result of increased branch employee hours in support of increased financial advisor productivity. The average operating expense per financial advisor increased 7% primarily due to increases in home office employees’ salary and fringe benefit expenses and branch operating expenses to support the Partnership’s financial advisor network, in addition to a decrease in the average number of financial advisors.

Operating expenses increased 8% in 2011 to $4.0 billion primarily due to an 11% increase in compensation and benefits resulting from increases in financial advisor compensation, salary and fringe benefit expense and variable incentive compensation described below. The remaining operating expenses increased 2% ($17.7 million) due to a 7% increase in payroll and other taxes caused by increases in compensation and a 4% increase in occupancy and equipment costs primarily due to increased rent expense.

Financial advisor compensation (excluding financial advisor salary and subsidy and variable incentive compensation) increased 12% ($176.0 million) in 2011 primarily due to increases in trade and asset-based fee revenue on which financial advisor commissions are paid. Financial advisor salary and subsidy decreased 20% ($27.5 million) primarily due to fewer financial advisor hires participating in these compensation programs. The Partnership found that potential new financial advisors who would have to leave successful positions in a different industry or at a different firm to embrace a new opportunity at Edward Jones were reluctant to change jobs. To help address this issue, effective January 2011, the Partnership raised the base pay to better recruit certain financial advisors. However, financial advisor growth was a challenge for the Partnership in 2011, as the number of financial advisors decreased in 2011 compared to 2010.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Salary and fringe benefit expense increased 5% ($43.9 million) in 2011 primarily due to salary increases, increases in fringe benefits expense caused by increased healthcare costs and increases in personnel to support increased productivity of the Partnership’s financial advisor network. On a full-time equivalent basis, the average number of the Partnership’s home office and branch employees increased 1% and 4%, respectively.

Variable incentive compensation expands and contracts in relation to revenues, income before allocations to partners and the Partnership’s related profit margin. As the Partnership’s financial results and profit margin improve, a significant portion is allocated to variable incentive compensation and paid to employees in the form of increased profit sharing and bonuses. As a result, variable incentive compensation increased 38% ($103.7 million) in 2011.

In 2011, the average number of home office employees per 100 financial advisors increased 4%, due to the decrease in the average number of financial advisors, as well as the 1% increase in the average number of home office employees. This result is despite the Partnership’s longer term cost management strategy to grow its financial advisor network at a faster pace than its home office support staff. The average number of branch employees per 100 financial advisors increased 6% primarily due to the impact of the decrease in the average number of financial advisors, as well as the 4% increase in the number of branch employees. This is the result of increased branch employee hours in support of increased financial advisor productivity. The average operating expense per financial advisor increased 4% primarily due to increases in home office employees’ salary and fringe benefit expenses and branch operating expenses to support the Partnership’s financial advisor network, in addition to a decrease in the average number of financial advisors.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Segment Information

An operating segment is defined as a component of an entity that has all of the following characteristics: it engages in business activities from which it may earn revenues and incur expenses; the entity’s chief operating decision-maker (or decision-making group) regularly reviews its operating results for resource allocation and to assess performance; and discrete financial information is available. Operating segments may be combined in certain circumstances into reportable segments for financial reporting. The Partnership has determined it has two operating and reportable segments based upon geographic location, the U.S. and Canada.

Each segment, in its own geographic location, primarily derives its revenues from the retail brokerage business through the sale of listed and unlisted securities and insurance products, investment banking, principal transactions, as a distributor of mutual fund shares and through revenues related to assets held by and account services provided to its clients.

The Partnership evaluates the performance of its segments based upon income before allocation to partners as well as income before variable incentive compensation. Variable incentive compensation is determined at the Partnership level for profit sharing and home office and branch employee bonus amounts, and therefore is allocated to each geographic segment independent of that segment’s individual income before variable incentive compensation. The amount of financial advisor bonuses is determined in part by the overall Partnership’s profitability as well as the performance of the individual financial advisors at the segment. As such, both income before allocation to partners and income before variable incentive compensation are considered in evaluating segment performance.

The Canadian segment information as reported in the following table is based upon the Consolidated Financial Statements of the Partnership’s Canadian operations without eliminating any intercompany items, such as management fees that it pays to affiliated entities. The U.S. segment information is derived from the Partnership’s Consolidated Financial Statements less the Canada segment information as presented. This is consistent with how management reviews the segments in order to assess performance.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Financial information about the Partnership’s reportable segments is presented in the following table. All amounts are presented in millions, except the number of financial advisors and as otherwise noted.

 

     Years Ended December 31,     % Change  
     2012     2011     2010     2012 vs. 2011     2011 vs. 2010  

Net revenue:

          

United States of America

   $ 4,789.9      $ 4,324.5      $ 3,939.8        11     10

Canada

     175.3        185.4        167.0        -5     11
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net revenue

     4,965.2        4,509.9        4,106.8        10     10

Operating expenses (excluding variable compensation):

          

United States of America

     3,734.4        3,468.6        3,261.7        8     6

Canada

     178.8        181.2        177.7        -1     2
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     3,913.2        3,649.8        3,439.4        7     6

Pre-variable income (loss):

          

United States of America

     1,055.5        855.9        678.1        23     26

Canada

     (3.5     4.2        (10.7     -183     139
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total pre-variable income

     1,052.0        860.1        667.4        22     29

Variable incentive compensation:

          

United States of America

     485.2        366.7        266.1        32     38

Canada

     11.8        11.6        8.5        2     36
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total variable incentive compensation

     497.0        378.3        274.6        31     38

Income (loss) before allocation to partners:

          

United States of America

     570.3        489.2        412.0        17     19

Canada

     (15.3     (7.4     (19.2     -107     61
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total income before allocation to partners

   $ 555.0      $ 481.8      $ 392.8        15     23
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Client assets under care ($ billions):

          

United States of America

          

At year end

   $ 651.9      $ 576.4      $ 557.3        13     3

Average

   $ 621.1      $ 570.5      $ 521.9        9     9

Canada

          

At year end

   $ 16.8      $ 14.8      $ 15.3        14     -3

Average

   $ 15.9      $ 15.6      $ 13.9        2     12

Financial advisors:

          

United States of America

          

At year end

     11,822        11,622        11,980        2     -3

Average

     11,652        11,740        12,016        -1     -2

Canada

          

At year end

     641        620        636        3     -3

Average

     621        619        677        0     -9

United States of America

Net revenue increased 11% in 2012 primarily due to increases in asset-based fee revenue, trade revenue and account and activity fees. Asset-based fee revenue increased 15% ($263.9 million) primarily due to increases in advisory program fee revenue of 24% ($201.4 million) which is the result of continued growth of the client assets under care in advisory programs.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

The increase to trade revenue of 6% ($121.0 million) is primarily due to the impact of increased client dollars invested, partially offset by a decrease in the margin earned on client dollars invested in 2012 compared to 2011. The increase in account and activity fees of 10% ($51.6 million) is primarily the result of increases in revenue from sub-transfer agent services primarily caused by an increase in the number of average client holdings serviced.

Operating expenses (excluding variable incentive compensation) increased 8% in 2012 primarily due to increases in financial advisor compensation and salary and fringe benefits. The increases in financial advisor compensation were due to increases in trade and asset-based fee revenue on which financial advisor commissions are paid. Salary and fringe benefits expense increased due to salary increases and increased personnel to support increased productivity of the Partnership’s financial advisor network as well as an increase in healthcare costs.

Net revenue increased 10% in 2011 primarily due to increases in asset-based fee revenue, trade revenue and account and activity fees. Asset-based fee revenue increased 27% ($370.6 million) primarily due to increases in advisory program fee revenue of 56% ($305.7 million) which is the result of continued growth of the client assets under care in advisory programs. The increase to trade revenue of 1% ($30.8 million) is primarily due to an increase in the margin earned on client dollars invested, as well as the impact of increased client dollars invested. The increase in account and activity fees of 3% ($17.1 million) is primarily the result of increases in revenue from sub-transfer agent services primarily caused by an increase in the number of average client holdings serviced.

Operating expenses (excluding variable incentive compensation) increased 6% in 2011 primarily due to increases in financial advisor compensation and salary and fringe benefits. These increases were partially offset by a decrease in financial advisor salary and subsidy expense. The increases in financial advisor compensation were due to increases in trade and asset-based fee revenue on which financial advisor commissions are paid. Salary and fringe benefits expense increased due to salary increases and increased personnel to support increased productivity of the Partnership’s financial advisor network. Financial advisor salary and subsidy decreased due to fewer financial advisor hires participating in these compensation programs.

Canada

Net revenue decreased 5% in 2012 primarily due to a decrease in trade revenue. Trade revenue decreased 9% ($10.5 million) primarily due to a decrease in client dollars invested. This decrease is consistent with the lower levels of client activity and unfavorable market conditions, reflected in the 8% decrease in the daily average of the TSX.

Operating expenses (excluding variable incentive compensation) decreased 1% in 2012 primarily due to decreases in financial advisor compensation caused by a decrease in trade revenue on which financial advisor commissions are paid.

Despite the decrease in pre-variable income in 2012, the Canadian business segment continues to focus on strategies to achieve profitability in Canada. This includes several strategic initiatives to increase revenue and reduce expenses. Revenue initiatives include the plan to grow the number of financial advisors, client assets under care and the depth of financial solutions provided to clients and the roll out of additional advisory programs. Expense reduction efforts put into place over the past few years included a change to new financial advisor compensation, conversion of certain communication systems to lower-cost options and review and renegotiation of several vendor contracts.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

The Canadian business segment has experienced a slight increase in the average number of financial advisors in 2012 and a 3% growth year-over-year, however, if this trend does not continue, a decrease in the number of financial advisors could impact the Partnership’s ability to grow revenue in the future, and thus could impact the ability of the Partnership to reach profitability for the Canadian business segment.

Net revenue increased 11% in 2011 primarily due to increases in asset-based fee revenue of 22% ($8.9 million) and trade revenue of 6% ($6.1 million). Canada asset-based fee revenue increased in 2011 primarily due to the increase in average asset values on which these fees are earned, mostly due to the overall improved market conditions year-over-year, reflected in the 10% increase in the daily average of the TSX. Canada trade revenue increased in 2011 primarily the result of increased client dollars invested.

Operating expenses (excluding variable incentive compensation) increased 2% in 2011 primarily due to increases in financial advisor compensation caused by increases in trade and asset-based fee revenue on which financial advisor commissions are paid and increases in home office and branch salary and fringe benefits resulting from increased personnel to support increased productivity of the Partnership’s financial advisor network. These increases were partially offset by decreases in financial advisor salary and subsidy, which decreased due to fewer financial advisor hires participating in these compensation programs.

LEGISLATIVE AND REGULATORY REFORM

As discussed more fully in the “Legislative and Regulatory Initiatives” risk factor in Part I, Item 1A – Risk Factors, the Partnership continues to monitor several regulatory initiatives and proposed rules, including a universal fiduciary standard of care applicable to both broker-dealers and investment advisers under the Dodd-Frank Act, limits on fees paid by mutual funds (often called 12b-1 fees), and reforms to the regulation of money market funds. These regulatory initiatives and proposed rules may impact the manner in which the Partnership markets its products and services, manages its business and operations, and interacts with regulators, all of which could materially impact the Partnership’s results of operations, financial condition, and liquidity. However, the Partnership cannot presently predict when or if these changes will be enacted or the impact that these changes will have on the Partnership.

MUTUAL FUNDS AND ANNUITIES

The Partnership derived 74%, 70% and 66% of its total revenue from sales and services related to mutual fund and annuity products in 2012, 2011 and 2010, respectively. In addition, the Partnership derived 19%, 19% and 21% of its total revenue in 2012, 2011 and 2010, respectively, from one mutual fund vendor. All of the revenue generated from this vendor relates to business conducted with the Partnership’s U.S. segment.

Significant reductions in the revenues from this mutual fund source due to regulatory reform or other changes to the Partnership’s relationship with mutual fund vendors could have a material adverse effect on the Partnership’s results of operations.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

LIQUIDITY AND CAPITAL RESOURCES

The Partnership requires liquidity to cover its operating expenses, net capital requirements, capital expenditures, debt repayment obligations and redemptions of partnership interests. The principal sources for meeting the Partnership’s liquidity requirements include existing liquidity and capital resources of the Partnership and funds generated from operations. The Partnership believes that the liquidity provided by these sources will be sufficient to meet its capital and liquidity requirements for the next twelve months. Depending on conditions in the capital markets and other factors, the Partnership will, from time to time, consider the issuance of debt and additional partnership capital, the proceeds of which could be used to meet growth needs or for other purposes.

Partnership Capital

The Partnership’s growth in capital has historically been through the sale of limited partnership interests to its employees and existing limited partners, the sale of subordinated limited partnership interests to its current or retiring general partners and retention of general partner earnings.

The Partnership’s capital subject to mandatory redemption at December 31, 2012, net of reserve for anticipated withdrawals, was $1.8 billion, an increase of $53.9 million from December 31, 2011. This increase in the Partnership’s capital subject to mandatory redemption was primarily due to the retention of general partner earnings ($97.2 million) and the issuance of subordinated limited partner interests ($36.1 million), offset by redemption of limited partner and subordinated limited partner interests ($11.5 million and $7.8 million, respectively) and the increase of partnership loans outstanding during the year ended December 31, 2012 ($83.4 million). During the years ended December 31, 2012, 2011 and 2010, the Partnership retained 23.0%, 23.0% and 27.6%, respectively, of income allocated to general partners. Beginning in 2013, the Partnership decreased the amount of retention to 13.8% of net income allocated to general partners, due to the increase in individual income tax rates in 2013 and current capital needs. The decrease in the percentage of retention of income allocated to general partners is not expected to have a material impact on the Partnership’s capital or liquidity.

Under the terms of the Partnership Agreement, a partner’s capital is required to be redeemed by the Partnership in the event of the partner’s death or withdrawal from the Partnership, subject to compliance with ongoing regulatory capital requirements. In the event of a partner’s death, the Partnership must generally redeem the partner’s capital within six months. The Partnership has withdrawal restrictions in place limiting the amount of capital that can be withdrawn at the discretion of the partner. Under the terms of the Partnership Agreement, limited partners withdrawing from the Partnership are to be repaid their capital in three equal annual installments beginning the month after their withdrawal. The capital of general partners withdrawing from the Partnership is converted to subordinated limited partnership capital or, at the discretion of the Managing Partner, redeemed by the Partnership. Subordinated limited partners are repaid their capital in six equal annual installments beginning the month after their request for withdrawal of contributed capital. The Partnership’s Managing Partner has discretion to waive or modify these withdrawal restrictions and to accelerate the return of capital.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

General partners (other than Executive Committee members) may elect to finance a portion or all of their purchase of general partnership interests through loans made available from the Partnership. Loans made by the Partnership to general partners are generally for a period of one year but are expected to be renewed and bear interest at the prime rate, as defined in the loan documents. The Partnership will recognize interest income for the interest paid by general partners in connection with such loans. General partners borrowing from the Partnership will be required to repay such loans by applying the earnings received from the Partnership to such loans, net of amounts retained by the Partnership and amounts distributed for income taxes. However, prior to 2013, any bank loans entered into by general partners to finance their capital contributions in the Partnership were repaid prior to any application of earnings towards that partner’s Partnership loan. In 2013, there are no longer any bank loans related to capital contributions of general partners (other than Executive Committee members) or subordinated limited partners due to the fact that the Partnership paid, through earnings on behalf of the general partners, the $35.4 million outstanding balances on these bank loans on January 18, 2013, prior to their original one-year maturity date of February 22, 2013. In connection with this payoff, the Partnership issued $11.2 million of Partnership loans. This activity coupled with additional 2013 issuances of Partnership loans for general partner interests as well as payments made, resulted in Partnership loans outstanding of $250 million as of February 22, 2013. All future purchases of general partnership interests (other than for Executive Committee members) will be financed through Partnership loans. The Partnership will have full recourse against any general partner that defaults on loan obligations to the Partnership. The Partnership does not anticipate that general partner loans will have an adverse impact on the Partnership’s short-term liquidity or capital resources.

In addition, the Partnership has not and will not provide loans to members of the Executive Committee. Executive Committee members who require financing for some or all of their partnership capital contributions will continue to borrow directly from banks willing to provide such financing on an individual basis. Other partners may also choose to have individual banking arrangements for their partnership capital contributions.

Any bank financing of purchases of partnership interests (only for limited partners and Executive Committee members from 2013 and forward) is in the form of unsecured bank loan agreements and are between the individual and the bank. Additionally, the Partnership has performed certain administrative functions in connection with its partners who have elected to finance a portion of the purchase of partnership interests through individual unsecured bank loan agreements from banks with whom the Partnership has other banking relationships. For all individual purchases financed through such bank loan agreements, each agreement instructs the Partnership to apply the proceeds from the liquidation of that individual’s capital account to the repayment of their bank loan prior to any funds being released to the partner. In addition, the partner is required to apply partnership earnings, net of any distributions to pay taxes, to service the interest and principal on the bank loan. Should a subordinated limited or limited partner’s individual bank loan not be renewed upon maturity for any reason, the Partnership could experience increased requests for capital liquidations, which could adversely impact the Partnership’s liquidity. In addition, limited partners who finance all or a portion of their partnership interest with bank financing may be more likely to request the withdrawal of capital to meet bank financing requirements should the partners experience a period of reduced earnings. As a partnership, any withdrawals by general partners, subordinated limited partners or limited partners would reduce the Partnership’s available liquidity and capital.

As mentioned above, many of the same banks that provide financing to limited partners also provide various forms of financing to the Partnership. To the extent these banks increase credit available to the partners, financing available to the Partnership may be reduced.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

The Partnership, while not a party to any partner unsecured bank loan agreements, does facilitate making payments of allocated income to certain banks on behalf of the partner. The following table represents amounts related to partnership loans as well as bank loans (for which the Partnership facilitates certain administrative functions). Partners may have arranged their own bank loans to finance their partnership capital for which the Partnership does not facilitate certain administrative functions and therefore any such loans are not included in the table.

 

     As of December 31, 2012  

($ in thousands)

   Limited
Partnership
Interests
    Subordinated
Limited
Partnership
Interests
    General
Partnership
Interests
    Total
Partnership
Capital
 

Partnership capital(1):

        

Total partnership capital

   $ 650,735      $ 283,709      $ 1,048,067      $ 1,982,511   
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital owned by partners with individual loans

   $ 198,677      $ 425      $ 537,701      $ 736,803   
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital owned by partners with individual loans as a percent of total partnership capital

     30.5     0.1     51.3     37.2

Partner loans:

        

Bank loans

   $ 51,791      $ 147      $ 35,246      $ 87,184   

Partnership loans

     —           —           170,264        170,264   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total loans

   $ 51,791      $ 147      $ 205,510      $ 257,448   
  

 

 

   

 

 

   

 

 

   

 

 

 

Partner loans as a percent of total partnership capital

     8.0     0.1     19.6     13.0

Partner loans as a percent of partnership capital owned by partners with loans

     26.1     34.6     38.2     34.9

 

(1) 

Partnership capital, as defined for this table, is before the reduction of partnership loans and is net of reserve for anticipated withdrawals.

Historically, neither the amount of partnership capital financed with individual loans as indicated in the table above, nor the amount of partner capital withdrawal requests has had a significant impact on the Partnership’s liquidity or capital resources.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Partnership Debt

The composition of the Partnership’s aggregate bank lines of credit in place as of December 31, 2012 and 2011 are as follows:

 

($ in thousands)

   2012      2011  

2011 Credit Facility

   $ 395,000       $ 395,000   

Uncommitted secured credit facilities

     415,000         595,000   
  

 

 

    

 

 

 

Total bank lines of credit

   $ 810,000       $ 990,000   
  

 

 

    

 

 

 

In March 2011, the Partnership entered into a three-year $395 million committed unsecured revolving line of credit (the “2011 Credit Facility”), which has a maturity date of March 18, 2014. The 2011 Credit Facility is intended to provide short-term liquidity to the Partnership should the need arise. In addition, the Partnership has uncommitted lines of credit that are subject to change at the discretion of the banks. Based on credit market conditions and the uncommitted nature of these credit facilities, it is possible that these lines of credit could decrease or not be available in the future. During 2012, the Partnership’s uncommitted lines of credit were reduced by $180.0 million to $415.0 million. The reduction was not related to the Partnership’s creditworthiness.

Actual borrowing availability on the secured lines is based on client margin securities and partnership securities, which would serve as collateral on loans in the event the Partnership borrowed against these lines. There were no amounts outstanding on the 2011 Credit Facility and the uncommitted lines of credit as of December 31, 2012 and 2011. In addition, the Partnership did not have any draws against these lines of credits during the year ended December 31, 2012 and 2011.

The Partnership is in compliance with all covenants related to its outstanding debt agreements as of December 31, 2012. For further details on covenants, see discussion regarding debt covenants in the Notes to the Consolidated Financial Statements.

Cash Activity

As of December 31, 2012, the Partnership had $600.9 million in cash and cash equivalents and $1.1 billion in securities purchased under agreements to resell, which have maturities of less than one week. This totals $1.7 billion of Partnership liquidity as of December 31, 2012, a 13% ($0.2 billion) increase from $1.5 billion at December 31, 2011. In addition, the Partnership also had $7.7 billion and $4.5 billion in cash and investments segregated under federal regulations as of December 31, 2012 and 2011, respectively, which was not available for general use.

Regulatory Requirements

As a result of its activities as a U.S. broker-dealer, Edward Jones, is subject to the net capital provisions of Rule 15c3-1 of the Exchange Act and capital compliance rules of the FINRA Rule 4110. Under the alternative method permitted by the rules, Edward Jones must maintain minimum net capital, as defined, equal to the greater of $0.25 million or 2% of aggregate debit items arising from client transactions. The net capital rules also provide that partnership capital may not be withdrawn if the resulting net capital would be less than minimum requirements. Additionally, certain withdrawals require the approval of the SEC and FINRA to the extent they exceed defined levels, even though such withdrawals would not cause net capital to be less than minimum requirements.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

As of December 31, 2012, Edward Jones’ net capital of $711.9 million was 34.0% of aggregate debit items and its net capital in excess of the minimum required was $670.1 million. Net capital after anticipated capital withdrawals, as a percentage of aggregate debit items was 18.5%. Net capital and the related capital percentage may fluctuate on a daily basis.

As of December 31, 2012, the Partnership’s Canadian broker-dealer’s regulatory risk adjusted capital of $38.5 million was $27.6 million in excess of the capital required to be held by IIROC. In addition, EJTC was in compliance with regulatory capital requirements.

The Partnership and its subsidiaries are subject to examination by the Internal Revenue Service (“IRS”) and by various state and foreign taxing authorities in the jurisdictions in which the Partnership and its subsidiaries conduct business. In 2012, the IRS began an examination of Edward Jones’ income tax returns for the years ended 2009 and 2010. This event is not expected to have a material impact to the Partnership.

OFF BALANCE SHEET ARRANGEMENTS

The Partnership does not have any significant off-balance-sheet arrangements.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

CONTRACTUAL COMMITMENTS AND OBLIGATIONS

The following table summarizes the Partnership’s long-term financing commitments and obligations, as of December 31, 2012. Subsequent to December 31, 2012, these commitments and obligations may have fluctuated based on the changing business environment. The interest on financing commitments is based upon the stated rates of the underlying instruments, which range from 7.28% to 7.33%. For further disclosure regarding long-term debt, liabilities subordinated to claims of general creditors and rental commitments, see Notes 8, 9 and 14, respectively, to the Consolidated Financial Statements.

 

(Dollars in thousands)

   Payments Due by Period  
     2013      2014      2015      2016      2017      Thereafter      Total  

Long-term debt

   $ 1,073       $ 1,153       $ 1,240       $ 1,333       $ 704       $ —         $ 5,503   

Liabilities subordinated to claims of general creditors

     50,000         50,000         —           —           —           —           100,000   

Interest on financing commitments1

     5,863         2,117         198         104         15         —           8,297   

Rental commitments

     129,984         35,871         24,370         17,081         12,634         41,498         261,438   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total financing commitments and obligations

   $ 186,920       $ 89,141       $ 25,808       $ 18,518       $ 13,353       $ 41,498       $ 375,238   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

1 

Interest paid may vary depending on timing of principal payments in addition to changes in variable interest rates on underlying obligations.

In addition to the above table, the Partnership has a revolving unsecured line of credit outstanding as of December 31, 2012 (see Note 7 to the Consolidated Financial Statements). Additionally, the Partnership would incur termination fees of approximately $71 million in 2013 in the event the Partnership terminated existing contractual commitments with certain vendors providing ongoing services. These termination fees will decrease over the related contract periods, which generally expire within the next three years.

CRITICAL ACCOUNTING POLICIES

The Partnership’s financial statements are prepared in accordance with GAAP, which may require judgment and involve estimation processes to determine its assets, liabilities, revenues and expenses which affect its results of operations.

The Partnership believes that of its significant accounting policies, the following critical policies require estimates that involve a higher degree of judgment and complexity.

Asset-Based Fees. Due to the timing of receipt of information, the Partnership must use estimates in recording the accruals related to certain asset-based fees. These accruals are based on historical trends and are adjusted to reflect market conditions for the period covered. Additional adjustments, if needed, are recorded in subsequent periods.

Legal Reserves. The Partnership provides for potential losses that may arise out of litigation, regulatory proceedings and other contingencies to the extent that such losses can be estimated, in accordance with ASC No. 450, Contingencies. See Note 15 to the Consolidated Financial Statements and Part I, Item 3 – Legal Proceedings for further discussion of these items. The Partnership regularly monitors its exposures for potential losses. The Partnership’s total liability with respect to litigation and regulatory proceedings represents the best estimate of probable losses after considering, among other factors, the progress of each case, the Partnership’s experience and discussions with legal counsel.

 

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Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations, continued

 

Included in Part II, Item 7A – Quantitative and Qualitative Disclosures about Market Risk and in the notes to the financial statements (see Note 1 to the Consolidated Financial Statements), are additional discussions of the Partnership’s accounting policies.

THE EFFECTS OF INFLATION

The Partnership’s net assets are primarily monetary, consisting of cash and cash equivalents, cash and investments segregated under federal regulations, securities owned and net payable to clients. Monetary net assets are primarily liquid in nature and would not be significantly affected by inflation. Inflation and future expectations of inflation influence securities prices, as well as activity levels in the securities markets. As a result, profitability and capital may be impacted by inflation and inflationary expectations. Additionally, inflation’s impact on the Partnership’s operating expenses may affect profitability to the extent that additional costs are not recoverable through increased prices of services offered by the Partnership.

RECENTLY ISSUED ACCOUNTING STANDARDS

In December 2011, the Financial Accounting Standards Board issued Accounting Standards Update (“ASU”) No. 2011-11, Disclosures about Offsetting Assets and Liabilities (“ASU 2011-11”), to establish requirements for an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. The amendments in this update are effective for interim and annual periods beginning on or after January 1, 2013. Adoption is not expected to have a material impact on the Partnership’s Consolidated Financial Statements.

 

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ITEM 7A.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Various levels of management within the Partnership manage the Partnership’s risk exposure. Position limits in trading and inventory accounts are established and monitored on an ongoing basis. Credit risk related to various financing activities is reduced by the industry practice of obtaining and maintaining collateral. The Partnership monitors its exposure to counterparty risk through the use of credit exposure information, the monitoring of collateral values and the establishment of credit limits. For further discussion of monitoring, see the Risk Management discussion in Item 10 – Directors, Executive Officers and Corporate Governance of this Annual Report on Form 10-K.

The Partnership is exposed to market risk from changes in interest rates. Such changes in interest rates impact the income from interest earning assets, primarily receivables from clients on margin balances and short-term investments, which averaged $2.2 billion and $6.6 billion for the year ended December 31, 2012, respectively. The changes in interest rates may also have an impact on the expense related to liabilities that finance these assets, such as amounts payable to clients and other interest and non-interest bearing liabilities.

The Partnership performed an analysis of its financial instruments and assessed the related interest rate risk and materiality in accordance with the SEC rules. Under current market conditions and based on current levels of interest earning assets and the liabilities that finance these assets, the Partnership estimates that a 100 basis point (1.00%) increase in short-term interest rates could increase its annual net interest income by approximately $80 million. Conversely, the Partnership estimates that a 100 basis point (1.00%) decrease in short-term interest rates could decrease the Partnership’s annual net interest income by approximately $13 million. A decrease in short-term interest rates currently has a less significant impact on net interest income due to the current low interest rate environment. The Partnership has two distinct types of interest bearing assets: client receivables from margin accounts and short-term, primarily overnight, investments, which are primarily comprised of cash and investments segregated under federal regulations and securities purchased under agreements to resell. These investments have earned interest at an average rate of approximately 17 basis points (0.17%) in 2012, and therefore the financial dollar impact of further decline in rates is minimal. The Partnership has put in place an interest rate floor for the interest charged related to its client margin loans, which helps to limit the negative impact of declining interest rates.

In addition to the interest earning assets and liabilities noted above, the Partnership’s revenue earned related to its minority ownership interest in the advisor to the Edward Jones money market funds is also impacted by changes in interest rates. As discussed in Item 1—Business, as a 49.5% limited partner of Passport Research Ltd., the investment adviser to certain money market funds made available to Edward Jones clients, the Partnership receives a portion of the income of the investment adviser. Due to the current historically low interest rate environment, the investment adviser voluntarily chose (beginning in March 2009) to reduce certain fees charged to the funds to a level that will maintain a positive client yield on the funds. This reduction of fees reduced the Partnership’s cash solutions revenue by approximately $90 million for the years ended December 31, 2012 and 2011 and is expected to continue at that level in future periods, based upon the current interest rate environment. Alternatively, if the interest rate environment improved such that this reduction in fees was no longer necessary to maintain a positive client yield, the Partnership’s revenue could increase annually by that same level.

 

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ITEM 8.

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Financial Statements Included in this Item

 

     Page No.  

Management’s Report on Internal Control over Financial Reporting

     66   

Report of Independent Registered Public Accounting Firm

     67   

Consolidated Statements of Financial Condition as of December 31, 2012 and 2011

     69   

Consolidated Statements of Income for the years ended December 31, 2012, 2011 and 2010

     70   

Consolidated Statements of Changes in Partnership Capital Subject to Mandatory Redemption for the years ended December 31, 2012, 2011 and 2010

     71   

Consolidated Statements of Cash Flows for the years ended December 31, 2012, 2011 and 2010

     72   

Notes to Consolidated Financial Statements

     73   

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

MANAGEMENT’S REPORT ON INTERNAL CONTROL

OVER FINANCIAL REPORTING

Management of The Jones Financial Companies, L.L.L.P. and all wholly-owned subsidiaries (collectively, the “Partnership”), is responsible for establishing and maintaining adequate internal control over financial reporting. The Partnership’s internal control over financial reporting is a process designed under the supervision of the Partnership’s chief executive officer and chief financial officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Partnership’s financial statements for external purposes in accordance with U.S. generally accepted accounting principles.

As of the end of the Partnership’s 2012 fiscal year, management conducted an assessment of the effectiveness of the Partnership’s internal control over financial reporting based on the framework established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management has determined that the Partnership’s internal control over financial reporting as of December 31, 2012 was effective.

The Partnership’s internal control over financial reporting includes policies and procedures that pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of assets; provide reasonable assurances that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures are being made only in accordance with authorizations of management of the Partnership; and provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Partnership’s assets that could have a material effect on its financial statements.

The Partnership’s internal control over financial reporting as of December 31, 2012 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their accompanying report, which expresses an unqualified opinion on the effectiveness of the Partnership’s internal control over financial reporting as of December 31, 2012.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To The Jones Financial Companies, L.L.L.P.

In our opinion, the accompanying Consolidated Statements Of Financial Condition and the related Consolidated Statements of Income, of Changes in Partnership Capital Subject To Mandatory Redemption and of Cash Flows present fairly, in all material respects, the consolidated financial position of The Jones Financial Companies, L.L.L.P. and its subsidiaries (the “Partnership”) at December 31, 2012 and 2011, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2012 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the index appearing under Item 15(a)(2) present fairly, in all material respects, the information set forth therein when read in conjunction with the related Consolidated Financial Statements. Also in our opinion, the Partnership maintained, in all material respects, effective internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Partnership’s management is responsible for these financial statements and financial statement schedules, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on these financial statements, on the financial statement schedules, and on the Partnership’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ PricewaterhouseCoopers LLP

St. Louis, Missouri

April 1, 2013

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

 

     December 31,      December 31,  

(Dollars in thousands)

   2012      2011  

ASSETS:

     

Cash and cash equivalents

   $ 600,936       $ 819,506   

Cash and investments segregated under federal regulations

     7,714,642         4,472,526   

Securities purchased under agreements to resell

     1,092,586         676,448   

Receivable from:

     

Clients

     2,266,874         2,353,308   

Brokers, dealers and clearing organizations

     189,119         103,805   

Mutual funds, insurance companies and other

     355,507         300,007   

Securities owned, at fair value:

     

Inventory securities

     74,552         74,666   

Investment securities

     111,904         104,502   

Equipment, property and improvements, at cost, net of accumulated depreciation and amortization

     537,049         579,439   

Other assets

     99,074         99,379   
  

 

 

    

 

 

 

TOTAL ASSETS

   $ 13,042,243       $ 9,583,586   
  

 

 

    

 

 

 

LIABILITIES:

     

Payable to:

     

Clients

   $ 10,075,684       $ 6,727,090   

Brokers, dealers and clearing organizations

     65,477         80,247   

Securities sold, not yet purchased, at fair value

     22,327         7,586   

Accrued compensation and employee benefits

     665,509         540,416   

Accounts payable and accrued expenses

     124,850         165,970   

Long-term debt

     5,503         6,500   
  

 

 

    

 

 

 
     10,959,350         7,527,809   
  

 

 

    

 

 

 

Liabilities subordinated to claims of general creditors

     100,000         150,000   

Commitments and contingencies (Notes 14 and 15)

     

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals

     1,812,247         1,758,365   

Reserve for anticipated withdrawals

     170,646         147,412   
  

 

 

    

 

 

 

Total partnership capital subject to mandatory redemption

     1,982,893         1,905,777   
  

 

 

    

 

 

 

TOTAL LIABILITIES

   $ 13,042,243       $ 9,583,586   
  

 

 

    

 

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

CONSOLIDATED STATEMENTS OF INCOME

 

(Dollars in thousands, except per

   For the Years Ended December 31,  

unit information and units outstanding)

   2012      2011      2010  

Revenue:

        

Trade revenue

        

Commissions

   $ 1,979,026       $ 1,698,687       $ 1,575,852   

Principal transactions

     155,895         284,231         320,777   

Investment banking

     111,539         153,100         208,615   
  

 

 

    

 

 

    

 

 

 

Total trade revenue

     2,246,460         2,136,018         2,105,244   

Fee revenue

        

Asset-based

     2,042,392         1,776,883         1,397,333   

Account and activity

     573,949         522,898         503,264   
  

 

 

    

 

 

    

 

 

 

Total fee revenue

     2,616,341         2,299,781         1,900,597   

Interest and dividends

     133,469         130,150         126,769   

Other revenue

     31,148         11,553         30,489   
  

 

 

    

 

 

    

 

 

 

Total revenue

     5,027,418         4,577,502         4,163,099   

Interest expense

     62,243         67,641         56,323   
  

 

 

    

 

 

    

 

 

 

Net revenue

     4,965,175         4,509,861         4,106,776   

Operating expenses:

        

Compensation and benefits

     3,285,171         2,940,088         2,643,683   

Occupancy and equipment

     352,968         356,555         343,305   

Communications and data processing

     279,320         289,358         290,070   

Payroll and other taxes

     185,954         171,125         159,916   

Advertising

     56,255         54,201         55,677   

Postage and shipping

     47,587         48,487         49,848   

Clearance fees

     12,648         12,564         11,562   

Other operating expenses

     190,252         155,700         159,930   
  

 

 

    

 

 

    

 

 

 

Total operating expenses

     4,410,155         4,028,078         3,713,991   
  

 

 

    

 

 

    

 

 

 

Income before allocations to partners

     555,020         481,783         392,785   

Allocations to partners:

        

Limited partners

     72,018         69,960         43,803   

Subordinated limited partners

     60,551         50,292         41,720   

General partners

     422,451         361,531         307,262   
  

 

 

    

 

 

    

 

 

 

Net income

   $ —         $ —         $ —     
  

 

 

    

 

 

    

 

 

 

Income allocated to limited partners per weighted average $1,000 equivalent limited partnership unit outstanding

   $ 109.84       $ 104.66       $ 96.07   
  

 

 

    

 

 

    

 

 

 

Weighted average $1,000 equivalent limited partnership units outstanding

     655,663         668,450         455,949   
  

 

 

    

 

 

    

 

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERSHIP CAPITAL

SUBJECT TO MANDATORY REDEMPTION

FOR THE YEARS ENDED DECEMBER 31, 2012, 2011 and 2010

 

(Dollars in thousands)

   Limited
Partnership
Capital
    Subordinated
Limited
Partnership
Capital
    General
Partnership
Capital
    Total  

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, DECEMBER 31, 2009

   $ 475,737      $ 198,913      $ 792,162      $ 1,466,812   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (12,736     (2,972     (14,576     (30,284
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, December 31, 2009

   $ 463,001      $ 195,941      $ 777,586      $ 1,436,528   

Issuance of partnership interests

     —          35,984        —          35,984   

Redemption of partnership interests

     (11,652     (9,957     (38,982     (60,591

Income allocated to partners

     43,803        41,720        307,262        392,785   

Withdrawals and distributions

     (15,598     (26,273     (157,862     (199,733
  

 

 

   

 

 

   

 

 

   

 

 

 

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, DECEMBER 31, 2010

   $ 479,554      $ 237,415      $ 888,004      $ 1,604,973   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (28,205     (15,447     (64,596     (108,248
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, December 31, 2010

   $ 451,349      $ 221,968      $ 823,408      $ 1,496,725   

Issuance of partnership interests

     223,560        35,182        103,790        362,532   

Redemption of partnership interests

     (12,683     (1,736     (82,772     (97,191

Income allocated to partners

     69,960        50,292        361,531        481,783   

Withdrawals and distributions

     (26,482     (34,623     (190,114     (251,219
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans

     705,704        271,083        1,015,843        1,992,630   

Partnership loans outstanding

     —          —          (86,853     (86,853
  

 

 

   

 

 

   

 

 

   

 

 

 

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, DECEMBER 31, 2011

   $ 705,704      $ 271,083      $ 928,990      $ 1,905,777   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (43,478     (15,669     (88,265     (147,412
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, December 31, 2011

   $ 662,226      $ 255,414      $ 840,725      $ 1,758,365   

Partnership loans outstanding, December 31, 2011

     —          —          86,853        86,853   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans, net of reserve for anticipated withdrawals, December 31, 2011

     662,226        255,414        927,578        1,845,218   

Issuance of partnership interests

     —          36,134        103,157        139,291   

Redemption of partnership interests

     (11,491     (7,839     (79,840     (99,170

Income allocated to partners

     72,018        60,551        422,451        555,020   

Withdrawals and distributions

     (27,195     (41,352     (218,655     (287,202
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans

     695,558        302,908        1,154,691        2,153,157   

Partnership loans outstanding, December 31, 2012

     —          —          (170,264     (170,264
  

 

 

   

 

 

   

 

 

   

 

 

 

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, DECEMBER 31, 2012

   $ 695,558      $ 302,908      $ 984,427      $ 1,982,893   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (44,823     (19,199     (106,624     (170,646
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, December 31, 2012

   $ 650,735      $ 283,709      $ 877,803      $ 1,812,247   

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

     For the years ended December 31,  

(Dollars in thousands)

   2012     2011     2010  

CASH FLOWS FROM OPERATING ACTIVITIES:

      

Net income

   $ —        $ —        $ —     

Adjustments to reconcile net income to net cash provided by operating activities:

      

Income before allocations to partners

     555,020        481,783        392,785   

Depreciation and amortization

     80,148        90,609        98,187   

Changes in assets and liabilities:

      

Cash and investments segregated under federal regulations

     (3,242,116     (858,363     (802,009

Securities purchased under agreements to resell

     (416,138     278,761        (188,932

Net payable to clients

     3,435,028        1,085,328        723,968   

Net receivable from brokers, dealers and clearing organizations

     (100,084     8,124        (26,795

Receivable from mutual funds, insurance companies and other

     (55,500     (8,922     7,051   

Securities owned, net

     7,453        (3,700     (11,151

Other assets

     305        (5,113     (18,079

Accrued compensation and employee benefits

     125,093        34,195        125,674   

Accounts payable and accrued expenses

     (41,975     (21,974     14,221   
  

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

     347,234        1,080,728        314,920   
  

 

 

   

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

      

Purchase of equipment, property and improvements, net

     (36,903     (54,230     (95,653
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (36,903     (54,230     (95,653
  

 

 

   

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

      

Repayment of bank loans

     —          —          (58,000

Issuance of long-term debt

     —          —          14,806   

Repayment of long-term debt

     (997     (59,897     (7,709

Repayment of liabilities subordinated to claims of general creditors

     (50,000     (53,700     (53,700

Issuance of partnership interests (net of partnership loans)

     45,121        270,839        35,984   

Redemption of partnership interests

     (99,170     (97,191     (60,591

Withdrawals and distributions from partnership capital

     (434,614     (359,467     (230,017

Repayment of general partnership loans

     10,759        4,840        —     
  

 

 

   

 

 

   

 

 

 

Net cash used in financing activities

     (528,901     (294,576     (359,227
  

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash and cash equivalents

     (218,570     731,922        (139,960

CASH AND CASH EQUIVALENTS

      

Beginning of year

     819,506        87,584        227,544   
  

 

 

   

 

 

   

 

 

 

End of year

   $ 600,936      $ 819,506      $ 87,584   
  

 

 

   

 

 

   

 

 

 

Cash paid for interest

   $ 62,524      $ 67,904      $ 56,403   
  

 

 

   

 

 

   

 

 

 

Cash paid for taxes (Note 12)

   $ 4,132      $ 5,087      $ 4,043   
  

 

 

   

 

 

   

 

 

 

NON-CASH ACTIVITIES:

      

Additions of equipment, property and improvements in accounts payable and accrued expenses

   $ 516      $ 1,371      $ 2,153   
  

 

 

   

 

 

   

 

 

 

Issuance of general partnership interests through partnership loans in current period

   $ 94,170      $ 91,693      $ —     
  

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

THE JONES FINANCIAL COMPANIES, L.L.L.P.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except per unit information and the number of financial advisors)

NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Partnership’s Business and Basis of Accounting. The accompanying Consolidated Financial Statements include the accounts of The Jones Financial Companies, L.L.L.P. and all wholly-owned subsidiaries (collectively, the “Partnership”). All material intercompany balances and transactions have been eliminated in consolidation. Non-controlling minority interests are accounted for under the equity method. The results of the Partnership’s subsidiary in Canada are included in the Partnership’s Consolidated Financial Statements for the twelve month periods ended November 30, 2012, 2011 and 2010 because of the timing of the Partnership’s financial reporting process.

The Partnership’s principal operating subsidiary, Edward D. Jones & Co., L.P. (“Edward Jones”), is comprised of two registered broker-dealers primarily serving individual investors in the United States of America (“U.S.”) and, through a subsidiary, Canada. Edward Jones primarily derives its revenues from the retail brokerage business through the sale of listed and unlisted securities and insurance products, investment banking, principal transactions, distribution of mutual fund shares, and through fees related to assets held by and account services provided to its clients. The Partnership conducts business in the U.S. and Canada with its clients, various brokers, dealers, clearing organizations, depositories and banks. For financial information related to the Partnership’s two operating segments for the years ended December 31, 2012, 2011 and 2010, see Note 16 to the Consolidated Financial Statements. Trust services are offered to Edward Jones’ U.S. clients through Edward Jones Trust Company (“EJTC”), a wholly-owned subsidiary of the Partnership.

The Consolidated Financial Statements have been prepared on the accrual basis of accounting in conformity with accounting principles generally accepted in the U.S. (“GAAP”) which require the use of certain estimates by management in determining the Partnership’s assets, liabilities, revenues and expenses. Actual results could differ from these estimates.

Under the terms of the Partnership’s Eighteenth Amended and Restated Partnership Agreement (the “Partnership Agreement”), a partner’s capital is required to be redeemed by the Partnership in the event of the partner’s death or withdrawal from the Partnership, subject to compliance with ongoing regulatory capital requirements. In the event of a partner’s death, the Partnership must generally redeem the partner’s capital within six months. The Partnership has withdrawal restrictions in place limiting the amount of capital that can be withdrawn at the discretion of the partner. Under the terms of the Partnership Agreement, limited partners withdrawing from the Partnership are to be repaid their capital in three equal annual installments beginning the month after their withdrawal. The capital of general partners withdrawing from the Partnership is converted to subordinated limited partnership capital or, at the discretion of the Managing Partner, redeemed by the Partnership. Subordinated limited partners are repaid their capital in six equal annual installments beginning the month after their request for withdrawal of contributed capital. The Partnership’s Managing Partner has discretion to waive or modify these withdrawal restrictions and to accelerate the return of capital. All current and future partnership capital is subordinate to all current and future liabilities of the Partnership.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

Transaction Risk. The Partnership’s securities activities involve execution, settlement and financing of various securities transactions for clients. The Partnership may be exposed to risk of loss in the event clients, other brokers and dealers, banks, depositories or clearing organizations are unable to fulfill contractual obligations. For transactions in which it extends credit to clients, the Partnership seeks to control the risks associated with these activities by requiring clients to maintain margin collateral in compliance with various regulatory and internal guidelines. Cash balances held at various major U.S. financial institutions, which typically exceed Federal Deposit Insurance Corporation insurance coverage limits, subject the Partnership to a concentration of credit risk. Additionally, the Partnership’s Canadian broker-dealer may also have cash deposits in excess of the applicable insured amounts. The Partnership regularly monitors the credit ratings of these financial institutions in order to mitigate the credit risk that exists with the deposits in excess of insured amounts.

Revenue Recognition. The Partnership’s commissions, principal transactions and investment banking revenues are recorded on a trade date basis. All other forms of revenue are recorded on an accrual basis. The Partnership classifies its revenue into the following categories:

Commissions revenue consists of charges to clients for the purchase or sale of listed and unlisted securities, insurance products and mutual fund shares.

Principal transactions revenue is the result of the Partnership’s participation in market-making activities in over-the-counter corporate securities, municipal obligations, government obligations, unit investment trusts, mortgage-backed securities and certificates of deposit.

Investment banking revenue is derived from the Partnership’s distribution of unit investment trusts, corporate and municipal obligations, and government sponsored enterprise obligations.

Asset-based fee revenue is derived from fees determined by the underlying value of client assets. Most asset-based fee revenue is generated from fees for investment advisory services within the Partnership’s advisory programs, including Edward Jones Advisory Solutions (“Advisory Solutions”), which consists of numerous different research models, Edward Jones Managed Account Program (“MAP”) and, in Canada, Edward Jones Portfolio Program.

The Partnership also earns asset-based fee revenue through service fees and other revenues received under agreements with mutual fund and insurance companies based on the underlying value of the Partnership’s clients’ assets invested in those companies’ products, including revenue related to the Partnership’s ownership interest in Passport Research Ltd., the investment adviser to the Edward Jones Money Market Funds.

Account and activity fee revenue includes fees received from mutual fund companies for sub-transfer agent accounting services performed by the Partnership and retirement account fees primarily consisting of self-directed IRA custodian account fees. This revenue category also includes other activity-based fee revenue from clients, mutual fund companies and insurance companies.

Interest and dividends revenue is earned on client margin (loan) account balances, cash and cash equivalents, cash and investments segregated under federal regulations, securities purchased under agreements to resell, partnership loans for general partnership interests, inventory securities and investment securities.

 

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The Partnership derived 19%, 19% and 21% of its total revenue for the years ended December 31, 2012, 2011 and 2010, respectively, from one mutual fund vendor. All of the revenue generated from this vendor relates to business conducted with the Partnership’s U.S. segment. Significant reductions in the revenues from this mutual fund source due to regulatory reform or other changes to the Partnership’s relationship with this mutual fund vendor could have a material impact on the Partnership’s results of operations.

Foreign Exchange. Assets and liabilities denominated in a foreign currency are translated at the exchange rate at the end of the period. Revenue and expenses denominated in a foreign currency are translated using the average exchange rate for each period. Foreign exchange gains and losses are included in other revenue on the Consolidated Statements of Income.

Fair Value. Substantially all of the Partnership’s financial assets and financial liabilities covered under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) No. 820, Fair Value Measurement and Disclosure (“ASC 820”), are carried at fair value or contracted amounts which approximate fair value. Upon the adoption of fair value guidance set forth in FASB ASC No. 825, Financial Instruments, the Partnership elected not to take the fair value option on all debt and liabilities subordinated to the claims of general creditors.

Fair value of a financial instrument is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, also known as the “exit price.” Financial assets are marked to bid prices and financial liabilities are marked to offer prices. The Partnership’s financial assets and financial liabilities recorded at fair value in the Consolidated Statements of Financial Condition are categorized based upon the level of judgment associated with the inputs used to measure their fair value. Hierarchical levels, defined by ASC 820 with the related amount of subjectivity associated with the inputs to value these assets and liabilities at fair value for each level, are as follows:

Level I – Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.

The types of assets and liabilities categorized as Level I generally are government and agency obligations, equities listed in active markets, unit investment trusts and investments in publicly traded mutual funds with quoted market prices.

Level II – Inputs (other than quoted prices included in Level I) are either directly or indirectly observable for the asset or liability through correlation with related market data at the measurement date and for the duration of the instrument’s anticipated life. The Partnership uses the market approach valuation technique which incorporates prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities in valuing these types of investments.

The types of assets and liabilities categorized as Level II generally are certificates of deposit, state and municipal obligations, collateralized mortgage obligations and corporate bonds and notes.

Level III – Inputs are both unobservable and significant to the overall fair value measurement. These inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the inputs to the model.

The Partnership did not have any assets or liabilities categorized as Level III during the periods ended December 31, 2012 and 2011. In addition, there were no transfers into or out of Levels I, II or III during these periods.

 

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The Partnership estimates the fair value of long-term debt and the liabilities subordinated to claims of general creditors, based on the present value of future principal and interest payments associated with the debt, using current rates obtained from external lenders that are extended to organizations for debt of a similar nature as that of the Partnership (Level II input).

Cash and Cash Equivalents. The Partnership considers all highly liquid investments with original maturities of three months or less to be cash equivalents.

Cash and Investments Segregated under Federal Regulations. Cash of $6,607,714 and $3,513,902 and investments of $1,106,928 and $958,624 as of December 31, 2012 and 2011, respectively, were segregated in special reserve bank accounts for the benefit of U.S. clients under Rule 15c3-3 of the Securities and Exchange Commission (“SEC”).

Securities Purchased Under Agreements to Resell. The Partnership participates in short-term resale agreements collateralized by government and agency securities. These transactions are reported as collateralized financing. The fair value of the underlying collateral as determined daily, plus accrued interest, must equal or exceed 102% of the carrying amount of the transaction. It is the Partnership’s policy to have such underlying resale agreement collateral delivered to the Partnership or deposited in its accounts at its custodian banks. Resale agreements are carried at the amount at which the securities will be subsequently resold, as specified in the agreements. The Partnership considers these financing receivables to be of good credit quality and, in response, has not recorded a related allowance for credit loss due to the fact that these securities are fully collateralized and, as a result, the Partnership considers risk related to these securities to be minimal.

Securities Borrowing and Lending Activities. Securities borrowed and securities loaned transactions are reported as collateralized financings. Securities borrowed transactions require the Partnership to deposit cash or other collateral with the lender. In securities loaned transactions, the Partnership receives collateral in the form of cash or other collateral. Collateral for both securities borrowed and securities loaned is based on 102% of the fair value of the underlying securities loaned. The Partnership monitors the fair value of securities borrowed and loaned on a daily basis, with additional collateral obtained or refunded as necessary. Securities borrowed and securities loaned are included in receivable from and payable to brokers, dealers and clearing organizations in the Consolidated Statements of Financial Condition.

Collateral. The Partnership reports as assets, collateral it has pledged in secured borrowings and other arrangements when the secured party cannot sell or repledge the assets or the Partnership can substitute collateral or otherwise redeem it on short notice. The Partnership does not report collateral it has received in secured lending and other arrangements as an asset when the debtor has the right to redeem or substitute the collateral on short notice.

Securities Owned and Sold, Not Yet Purchased. Securities owned and sold, not yet purchased, including inventory securities and investment securities, are recorded at fair value, which is determined by using quoted market prices, third-party pricing services or other relevant observable information. The Partnership records the related unrealized gains and losses in principal transactions revenue, within trade revenue.

 

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Equipment, Property and Improvements. Equipment, including furniture and fixtures, is recorded at cost and depreciated using straight-line and accelerated methods over estimated useful lives of three to twelve years. Buildings are depreciated using the straight-line method over their useful lives, which are estimated at thirty years. Leasehold improvements are amortized based on the term of the lease or the economic useful life of the improvement, whichever is less. When assets are retired or otherwise disposed of, the cost and related accumulated depreciation or amortization is removed from the respective category and any related gain or loss is recorded in the Consolidated Statements of Income. The cost of maintenance and repairs is charged against income as incurred, whereas significant enhancements are capitalized. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the book value of the asset may not be fully recoverable. If impairment is indicated, the asset value is written down to its fair value.

Non-qualified Deferred Compensation Plan. The Partnership has a non-qualified deferred compensation plan for certain financial advisors. The Partnership has recorded a liability for the future payments due to financial advisors participating in the non-qualified deferred compensation plan. As the future amounts due to financial advisors change in accordance with plan requirements, the Partnership records the change in future amounts owed to financial advisors as an increase or decrease in accrued compensation and employee benefits expense. The Partnership has chosen to hedge this future liability by purchasing investment securities in an amount similar to the future liability expected to be due in accordance with the plan. As the fair value of the investment securities fluctuates, the gains or losses are reflected in other revenue. Each period, the net impact of the change in future amounts owed to financial advisors in the non-qualified deferred compensation plan and the change in investment securities are approximately the same, resulting in minimal net impact on the Partnership’s financial results.

Lease Accounting. The Partnership enters into lease agreements for certain home office facilities as well as branch office locations. The associated lease expense is recognized on a straight-line basis over the minimum lease terms.

Income Taxes. Income taxes have not been provided for in the Consolidated Financial Statements since the Partnership is organized as a partnership and each partner is liable for its own tax payments. Any subsidiaries’ income tax provisions are insignificant (see Note 12).

Reclassification. Certain prior year balances have been reclassified to conform to the current year presentation.

Partnership Capital Subject to Mandatory Redemption. FASB ASC No. 480, Distinguishing Liabilities from Equity (“ASC 480”), established standards for classifying and measuring certain financial instruments with characteristics of both liabilities and equity. Under the provisions of ASC 480, the obligation to redeem a partner’s capital in the event of a partner’s death is one of the criteria requiring capital to be classified as a liability.

Since the Partnership Agreement obligates the Partnership to redeem a partner’s capital after a partner’s death, ASC 480 requires all of the Partnership’s equity capital to be classified as a liability. Income allocable to limited, subordinated limited and general partners are classified as a reduction of income before allocations to partners, which results in a presentation of $0 net income for the years ended December 31, 2012, 2011 and 2010. The financial statement presentations required to comply with ASC 480 do not alter the Partnership’s treatment of income, income allocations or capital for any other purposes.

 

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Financial Statements and Supplementary Data, continued

 

Net income, as defined in the Partnership Agreement, is equivalent to income before allocations to partners on the Consolidated Statements of Income. Such income, if any, for each calendar year is allocated to the Partnership’s three classes of capital in accordance with the formulas prescribed in the Partnership Agreement. Income allocations are based upon partner capital contributions including capital contributions financed with loans from the Partnership. First, limited partners are allocated net income (as defined in the Partnership Agreement) in accordance with the prescribed formula for their share of net income. Limited partners do not share in the net loss in any year in which there is a net loss and the Partnership is not dissolved or liquidated. Thereafter, subordinated limited partners and general partners are allocated any remaining net income or net loss based on formulas as defined in the Partnership Agreement.

Recently Issued Accounting Standards. In December 2011, FASB issued Accounting Standards Update (“ASU”) No. 2011-11, Disclosures about Offsetting Assets and Liabilities (“ASU 2011-11”), to establish requirements for an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. The amendments in this update are effective for interim and annual periods beginning on or after January 1, 2013. Adoption is not expected to have a material impact on the Partnership’s Consolidated Financial Statements.

NOTE 2 – RECEIVABLE FROM AND PAYABLE TO CLIENTS

Receivable from and payable to clients include margin balances and amounts due on cash transactions. The value of securities owned by clients and held as collateral for these receivables is not reflected in the Consolidated Financial Statements. Substantially all amounts payable to clients are subject to withdrawal upon client request. The Partnership pays interest on certain credit balances in client accounts. The Partnership considers these financing receivables to be of good credit quality due to the fact that these receivables are primarily collateralized by the related client investments and, as a result, the Partnership considers risk related to these receivables to be minimal.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

NOTE 3 – RECEIVABLE FROM AND PAYABLE TO BROKERS, DEALERS AND CLEARING ORGANIZATIONS

The components of receivable from and payable to brokers, dealers and clearing organizations as of December 31, 2012 and 2011 are as follows:

 

     2012      2011  

Receivable from money market funds

   $ 88,084       $ 58,598   

Receivable from clearing organizations

     53,242         32,111   

Securities failed to deliver

     2,582         4,757   

Other

     45,211         8,339   
  

 

 

    

 

 

 

Total receivable from brokers, dealers and clearing organizations

   $ 189,119       $ 103,805   
  

 

 

    

 

 

 

Payable to clearing organizations

   $ 53,874       $ 37,654   

Securities failed to receive

     10,723         14,218   

Payable to brokers and dealers

     864         28,315   

Securities loaned

     16         60   
  

 

 

    

 

 

 

Total payable to brokers, dealers and clearing organizations

   $ 65,477       $ 80,247   
  

 

 

    

 

 

 

NOTE 4 – RECEIVABLE FROM MUTUAL FUNDS, INSURANCE COMPANIES, AND OTHER

Receivable from mutual funds, insurance companies and other is primarily composed of amounts due to the Partnership for asset-based fees and fees for sub-transfer agent accounting services from the mutual fund vendors and insurance companies as well as a receivable from a retirement account trustee. This receivable from the retirement account trustee represents deposits held with the trustee for the Partnership’s Canadian client’s retirement account funds as required by Canadian regulations. The prior year balance for this receivable includes approximately $148,500 that has been reclassified from receivable from brokers, dealers and clearing organizations to conform to the current year presentation.

 

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Item 8.

Financial Statements and Supplementary Data, continued

 

NOTE 5 – FAIR VALUE

The following table sets forth the Partnership’s financial instruments measured at fair value:

 

     Financial Assets at Fair Value as of  
     December 31, 2012  
     Level I      Level II      Level III      Total  

Investments segregated under federal regulations

           

U.S. treasuries

   $ 1,006,928       $ —         $ —         $ 1,006,928   

Certificates of deposit

     —           100,000         —           100,000   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investments segregated under federal regulations

   $ 1,006,928       $ 100,000       $ —         $ 1,106,928   
  

 

 

    

 

 

    

 

 

    

 

 

 

Securities owned:

           

Inventory securities:

           

State and municipal obligations

   $ —         $ 46,705       $ —    &