10-Q 1 d554234d10q.htm FORM 10-Q Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

x

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

For the quarterly period ended June 28, 2013

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 office)

(Zip Code)

(314) 515-2000

(Registrant’s telephone number, including area code)

 

 

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 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 Exchange Act).    Yes  ¨    No  x

As of July 26, 2013, 645,056 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.

 

 

 


Table of Contents

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

INDEX

 

          Page  

Part I.

  

FINANCIAL INFORMATION

  

Item 1.

  

Financial Statements

  
  

Consolidated Statements of Financial Condition

     3   
  

Consolidated Statements of Income

     4   
  

Consolidated Statements of Changes in Partnership Capital Subject to Mandatory Redemption

     5   
  

Consolidated Statements of Cash Flows

     6   
  

Notes to Consolidated Financial Statements

     7   

Item 2.

  

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

     21   

Item 3.

  

Quantitative and Qualitative Disclosures about Market Risk

     47   

Item 4.

  

Controls and Procedures

     48   

Part II.

  

OTHER INFORMATION

  

Item 1.

  

Legal Proceedings

     49   

Item 1A.

  

Risk Factors

     51   

Item 2.

  

Unregistered Sales of Equity Securities and Use of Proceeds

     52   

Item 6.

  

Exhibits

     53   
  

Signatures

     54   

 

2


Table of Contents

PART I. FINANCIAL INFORMATION

 

ITEM 1.

FINANCIAL STATEMENTS

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

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(Unaudited)

 

(Dollars in thousands)

   June  28,
2013
     December 31,
2012
 

ASSETS:

     

Cash and cash equivalents

   $ 425,060       $ 600,936   

Cash and investments segregated under federal regulations

     7,787,104         7,714,642   

Securities purchased under agreements to resell

     759,843         1,092,586   

Receivable from:

     

Clients

     2,275,837         2,266,874   

Brokers, dealers and clearing organizations

     139,865         189,119   

Mutual funds, insurance companies and other

     423,937         355,507   

Securities owned, at fair value:

     

Inventory securities

     67,407         74,552   

Investment securities

     115,827         111,904   

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

     542,105         537,049   

Other assets

     101,667         99,074   
  

 

 

    

 

 

 

TOTAL ASSETS

   $ 12,638,652       $ 13,042,243   
  

 

 

    

 

 

 

LIABILITIES:

     

Payable to:

     

Clients

   $ 9,775,125       $ 10,075,684   

Brokers, dealers and clearing organizations

     77,960         65,477   

Securities sold, not yet purchased, at fair value

     8,790         22,327   

Accrued compensation and employee benefits

     597,337         665,509   

Accounts payable and accrued expenses

     217,755         124,850   

Long-term debt

     4,976         5,503   
  

 

 

    

 

 

 
     10,681,943         10,959,350   
  

 

 

    

 

 

 

Liabilities subordinated to claims of general creditors

     50,000         100,000   

Contingencies (Note 8)

     

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

     1,810,654         1,812,247   

Reserve for anticipated withdrawals

     96,055         170,646   
  

 

 

    

 

 

 

Total partnership capital subject to mandatory redemption

     1,906,709         1,982,893   
  

 

 

    

 

 

 

TOTAL LIABILITIES

   $ 12,638,652       $ 13,042,243   
  

 

 

    

 

 

 

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

 

3


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

     Three Months Ended      Six Months Ended  

(Dollars in thousands, except per unit information and units outstanding)

   June 28,
2013
     June 29,
2012
     June 28,
2013
     June 29,
2012
 

Revenue:

           

Trade revenue

           

Commissions

   $ 566,187       $ 479,983       $ 1,105,659       $ 960,604   

Principal transactions

     33,575         41,815         60,446         87,116   

Investment banking

     30,601         30,038         57,789         59,112   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total trade revenue

     630,363         551,836         1,223,894         1,106,832   

Fee revenue

           

Asset-based

     616,960         494,636         1,187,287         976,965   

Account and activity

     140,388         143,462         279,082         284,030   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total fee revenue

     757,348         638,098         1,466,369         1,260,995   

Interest and dividends

     33,356         33,344         65,815         65,652   

Other revenue

     10,666         6,960         26,316         19,205   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

     1,431,733         1,230,238         2,782,394         2,452,684   

Interest expense

     15,053         15,752         30,216         31,876   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenue

     1,416,680         1,214,486         2,752,178         2,420,808   
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses:

           

Compensation and benefits

     941,739         797,199         1,828,799         1,577,855   

Occupancy and equipment

     89,241         87,342         178,655         177,153   

Communications and data processing

     73,336         70,753         146,577         141,917   

Payroll and other taxes

     52,735         46,336         110,595         98,986   

Advertising

     13,582         12,982         30,219         25,524   

Postage and shipping

     13,773         11,966         26,710         24,347   

Clearance fees

     3,096         3,025         6,440         6,472   

Other operating expenses

     57,038         45,921         103,264         91,027   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total operating expenses

     1,244,540         1,075,524         2,431,259         2,143,281   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income before allocations to partners

     172,140         138,962         320,919         277,527   

Allocations to partners:

           

Limited partners

     19,975         18,056         37,314         36,166   

Subordinated limited partners

     18,850         15,400         35,354         31,068   

General partners

     133,315         105,506         248,251         210,293   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net Income

   $ —         $ —         $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

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

   $ 30.92       $ 27.50       $ 57.64       $ 54.92   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average $1,000 equivalent limited partnership units outstanding

     646,022         656,582         647,363         658,521   
  

 

 

    

 

 

    

 

 

    

 

 

 

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

 

4


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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

CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERSHIP CAPITAL

SUBJECT TO MANDATORY REDEMPTION

SIX MONTHS ENDED JUNE 28, 2013 AND JUNE 29, 2012

(Unaudited)

 

(Dollars in thousands)

   Limited
Partnership
Capital
    Subordinated
Limited
Partnership
Capital
    General
Partnership
Capital
    Total  

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

     —          35,534        99,506        135,040   

Redemption of partnership interests

     (6,694     (3,205     (73,459     (83,358

Income allocated to partners

     36,166        31,068        210,293        277,527   

Distributions

     (3,839     (25,454     (118,775     (148,068
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans

     687,859        293,357        1,045,143        2,026,359   

Partnership loans outstanding, June 29, 2012

     —          —          (173,255     (173,255
  

 

 

   

 

 

   

 

 

   

 

 

 

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, JUNE 29, 2012

   $ 687,859      $ 293,357      $ 871,888      $ 1,853,104   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (32,327     (5,614     (43,151     (81,092
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, June 29, 2012

   $ 655,532      $ 287,743      $ 828,737      $ 1,772,012   

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   

Partnership loans outstanding, December 31, 2012

     —          —          170,264        170,264   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans, net of reserve for anticipated withdrawals, December 31, 2012

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

Issuance of partnership interests

     —          31,072        101,158        132,230   

Redemption of partnership interests

     (5,271     (9,566     (92,357     (107,194

Income allocated to partners

     37,314        35,354        248,251        320,919   

Distributions

     (4,230     (28,646     (157,729     (190,605
  

 

 

   

 

 

   

 

 

   

 

 

 

Total partnership capital, including capital financed with partnership loans

     678,548        311,923        1,147,390        2,137,861   

Partnership loans outstanding, June 28, 2013

     —          (144     (231,008     (231,152
  

 

 

   

 

 

   

 

 

   

 

 

 

TOTAL PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION, JUNE 28, 2013

   $ 678,548      $ 311,779      $ 916,382      $ 1,906,709   
  

 

 

   

 

 

   

 

 

   

 

 

 

Reserve for anticipated withdrawals

     (33,084     (6,708     (56,263     (96,055
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital subject to mandatory redemption, net of reserve for anticipated withdrawals, June 28, 2013

   $ 645,464      $ 305,071      $ 860,119      $ 1,810,654   

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

 

5


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

     Six Months Ended  
     June 28,     June 29,  

(Dollars in thousands)

   2013     2012  

CASH FLOWS FROM OPERATING ACTIVITIES:

    

Net income

   $ —        $ —     

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

    

Income before allocations to partners

     320,919        277,527   

Depreciation and amortization

     40,570        40,917   

Changes in assets and liabilities:

    

Cash and investments segregated under federal regulations

     (72,462     (884,604

Securities purchased under agreements to resell

     332,743        (70,559

Net payable to clients

     (309,522     567,541   

Net receivable from brokers, dealers and clearing organizations

     61,737        13,638   

Receivable from mutual funds, insurance companies and other

     (68,430     (26,699

Securities owned, net

     (10,315     (53,627

Other assets

     (2,593     9,284   

Accrued compensation and employee benefits

     (68,172     (39,049

Accounts payable and accrued expenses

     93,453        (7,581
  

 

 

   

 

 

 

Net cash provided by (used in) operating activities

     317,928        (173,212
  

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

    

Purchase of equipment, property and improvements, net

     (46,174     (14,929
  

 

 

   

 

 

 

Net cash used in investing activities

     (46,174     (14,929
  

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

    

Repayment of long-term debt

     (527     (490

Repayment of subordinated liabilities

     (50,000     (50,000

Issuance of partnership interests (net of partnership loans)

     38,205        40,942   

Redemption of partnership interests

     (107,194     (83,358

Distributions from partnership capital

     (361,251     (295,480

Issuance of partnership loans

     (11,203     —     

Repayment of partnership loans

     44,340        7,696   
  

 

 

   

 

 

 

Net cash used in financing activities

     (447,630     (380,690
  

 

 

   

 

 

 

Net decrease in cash and cash equivalents

     (175,876     (568,831

CASH AND CASH EQUIVALENTS:

    

Beginning of period

     600,936        819,506   
  

 

 

   

 

 

 

End of period

   $ 425,060      $ 250,675   
  

 

 

   

 

 

 

Cash paid for interest

   $ 30,283      $ 32,089   
  

 

 

   

 

 

 

Cash paid for taxes

   $ 5,997      $ 3,422   
  

 

 

   

 

 

 

NON-CASH ACTIVITIES:

    

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

   $ 1,064      $ 81   
  

 

 

   

 

 

 

Issuance of general partnership interests through partnership loans in current period

   $ 94,025      $ 94,098   
  

 

 

   

 

 

 

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

 

6


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Dollars in thousands)

NOTE 1 – BASIS OF PRESENTATION

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 subsidiaries in Canada are included in the Partnership’s Consolidated Financial Statements for the three and six month periods ended May 31, 2013 and 2012 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 (“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 three and six month periods ended June 28, 2013 and June 29, 2012, see Note 9 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.

 

7


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

The interim financial information included herein is unaudited. However, in the opinion of management, such information includes all adjustments, consisting primarily of normal recurring accruals, which are necessary for a fair presentation of the results of interim operations. Certain prior period amounts have been reclassified to conform to the current period presentation.

The results of operations for the three and six month periods ended June 28, 2013 are not necessarily indicative of the results to be expected for the year ended December 31, 2013. These Consolidated Financial Statements should be read in conjunction with the Partnership’s Annual Report on Form 10-K for the year ended December 31, 2012 (“Annual Report”).

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

Principal transactions revenue is the result of the Partnership’s participation in market-making activities in municipal obligations, over-the-counter corporate 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”), 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, inventory securities and investment securities.

The Partnership derived from one mutual fund vendor 20% of its total revenue for both the three and six month periods ended June 28, 2013 and 19% of its total revenue for both the three and six month periods ended June 29, 2012. All of the revenue generated from this vendor related

 

8


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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.

NOTE 2 – 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 U.S. treasuries, 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 June 28, 2013 and December 31, 2012. In addition, there were no transfers into or out of Levels I, II or III during these periods.

 

9


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

The following tables set forth the Partnership’s financial assets and liabilities measured at fair value:

 

     Financial Assets at Fair Value as of
June 28, 2013
 
     Level I      Level II      Level III      Total  

Investments segregated under federal regulations:

           

U.S. treasuries

   $ 1,256,363       $ —         $ —         $ 1,256,363   

Certificates of deposit

     —           225,000         —           225,000   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investments segregated under federal regulations

   $ 1,256,363       $ 225,000       $ —         $ 1,481,363   
  

 

 

    

 

 

    

 

 

    

 

 

 

Securities owned:

           

Inventory securities:

           

State and municipal obligations

   $ —         $ 31,454       $ —         $ 31,454   

Equities

     26,098         —           —           26,098   

Corporate bonds and notes

     —           5,093         —           5,093   

Certificates of deposit

     —           2,352         —           2,352   

Collateralized mortgage obligations

     —           1,365         —           1,365   

Unit investment trusts

     893         —           —           893   

Government and agency obligations

     152         —           —           152   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total inventory securities

   $ 27,143       $ 40,264       $ —         $ 67,407   
  

 

 

    

 

 

    

 

 

    

 

 

 

Investment securities:

           

Mutual funds

   $ 95,180       $ —         $ —         $ 95,180   

Government and agency obligations

     14,237         —           —           14,237   

Equities

     5,419         —           —           5,419   

Corporate bonds and notes

     —           816         —           816   

Collateralized mortgage obligations

     —           162         —           162   

State and municipal obligations

     —           13         —           13   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investment securities

   $ 114,836       $ 991       $ —         $ 115,827   
  

 

 

    

 

 

    

 

 

    

 

 

 
     Financial Liabilities at Fair Value as of
June 28, 2013
 
     Level I      Level II      Level III      Total  

Securities sold, not yet purchased:

           

Equities

   $ 3,979       $ —         $ —         $ 3,979   

State and municipal obligations

     —           2,549         —           2,549   

Corporate bonds and notes

     —           1,996         —           1,996   

Unit investment trusts

     185         —           —           185   

Government and agency obligations

     44         —           —           44   

Certificates of deposit

     —           19         —           19   

Collateralized mortgage obligations

     —           18         —           18   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total securities sold, not yet purchased

   $ 4,208       $ 4,582       $ —         $ 8,790   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

10


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

 

     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       $ —         $ 46,705   

Equities

     17,845         —           —           17,845   

Certificates of deposit

     —           4,236         —           4,236   

Corporate bonds and notes

     —           3,183         —           3,183   

Collateralized mortgage obligations

     —           1,417         —           1,417   

Government and agency obligations

     1,036         —           —           1,036   

Unit investment trusts

     130         —           —           130   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total inventory securities

   $ 19,011       $ 55,541       $ —         $ 74,552   
  

 

 

    

 

 

    

 

 

    

 

 

 

Investment securities:

           

Mutual funds

   $ 89,743       $ —         $ —         $ 89,743   

Government and agency obligations

     14,678         —           —           14,678   

Equities

     6,184         —           —           6,184   

Corporate bonds and notes

     —           810         —           810   

State and municipal obligations

     —           305         —           305   

Collateralized mortgage obligations

     —           184         —           184   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investment securities

   $ 110,605       $ 1,299       $ —         $ 111,904   
  

 

 

    

 

 

    

 

 

    

 

 

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

Securities sold, not yet purchased:

           

Mutual funds

   $ 12,014       $ —         $ —         $ 12,014   

Equities

     5,133         —           —           5,133   

Certificates of deposit

     —           2,774         —           2,774   

Corporate bonds and notes

     —           1,492         —           1,492   

State and municipal obligations

     —           588         —           588   

Government and agency obligations

     202         —           —           202   

Unit investment trusts

     112         —           —           112   

Collateralized mortgage obligations

     —           12         —           12   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total securities sold, not yet purchased

   $ 17,461       $ 4,866       $ —         $ 22,327   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

11


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

The Partnership attempts to reduce its exposure to market price fluctuations of its inventory securities through the sale of U.S. government securities and, to a limited extent, the sale of fixed income futures contracts. The amount of the securities purchased or sold fluctuates on a daily basis due to changes in inventory securities owned, interest rates and market conditions. Futures contracts are settled daily, and any gain or loss is recognized as a component of net inventory gains, which are included in principal transactions revenue. The notional amounts of futures contracts outstanding were $6,000 and $2,000 at June 28, 2013 and December 31, 2012, respectively. The average notional amounts of futures contracts outstanding throughout the three and six month periods ended June 28, 2013 and the year ended December 31, 2012 were approximately $6,300, $6,700 and $4,700, respectively. The underlying assets of these contracts are not reflected in the Partnership’s Consolidated Financial Statements; however, the related mark-to-market adjustment loss of $8 and gain of $7 are included in the Consolidated Statements of Financial Condition as of June 28, 2013 and December 31, 2012, respectively. The total gains or losses related to these assets, recorded within the Consolidated Statements of Income, were gains of $420 and $200 for the three and six month periods ended June 28, 2013, respectively, and losses of $413 and $291 for the three and six month periods ended June 29, 2012, respectively.

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). The following table shows the estimated fair values of long-term debt and liabilities subordinated to claims of general creditors as of:

 

     June 28,      December 31,  
     2013      2012  

Long-term debt

   $ 5,390       $ 6,091   

Liabilities subordinated to claims of general creditors

     50,000         103,396   
  

 

 

    

 

 

 

Total

   $ 55,390       $ 109,487   
  

 

 

    

 

 

 

See Notes 4 and 5 for the carrying values of long-term debt and liabilities subordinated to claims of general creditors, respectively.

 

12


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

NOTE 3 – LINES OF CREDIT

The following table shows the composition of the Partnership’s aggregate bank lines of credit in place as of:

 

     June 28,      December 31,  
     2013      2012  

2011 Credit Facility

   $ 395,000       $ 395,000   

Uncommitted secured credit facilities

     415,000         415,000   
  

 

 

    

 

 

 

Total lines of credit

   $ 810,000       $ 810,000   
  

 

 

    

 

 

 

In March 2011, the Partnership entered into an agreement with 10 banks for a three-year $395,000 committed unsecured revolving line of credit (“2011 Credit Facility”), which has an expiration date of March 18, 2014. The 2011 Credit Facility is intended to provide short-term liquidity to the Partnership should the need arise. The 2011 Credit Facility has a tiered interest rate margin based on the Partnership’s leverage ratio (ratio of total debt to total capitalization). Borrowings made with a three-day advance notice will have a rate of LIBOR plus a margin ranging from 1.50% to 2.25%. Same day borrowings, which are subject to certain borrowing notification cutoff times, will have a rate consisting of a margin ranging from 0.50% to 1.25% plus the greater of the prime rate, the federal funds effective rate plus 1.00%, or the one-month LIBOR rate plus 1.00%. In accordance with the terms of the 2011 Credit Facility, the Partnership is required to maintain a leverage ratio of no more than 35% and minimum partnership capital, net of reserve for anticipated withdrawals, of at least $1,200,000 plus 50% of subsequent issuances of partnership capital. As of June 28, 2013, the Partnership is in compliance with all covenants related to the 2011 Credit Facility. As of the date of this filing, the Partnership has not borrowed against the 2011 Credit Facility.

The Partnership’s uncommitted lines of credit are subject to change at the discretion of the banks and, therefore, due to credit market conditions and the uncommitted nature of these credit facilities, it is possible these lines of credit could decrease or not be available in the future.

Actual borrowing availability on the uncommitted lines of credit is based on client margin securities and partnership securities, which would serve as collateral in the event the Partnership borrowed against these lines. There were no amounts outstanding on the uncommitted lines of credit as of June 28, 2013 and December 31, 2012. In addition, the Partnership did not have any draws against these lines of credit during the six and twelve month periods ended June 28, 2013 and December 31, 2012, respectively.

 

13


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

NOTE 4 – LONG-TERM DEBT

The following table shows the Partnership’s long-term debt as of:

 

     June 28,      December 31,  
     2013      2012  

Note payable, collateralized by real estate, fixed rate of 7.28%, principal and interest due in fluctuating monthly installments, with a final installment on June 1, 2017

   $ 4,976       $ 5,503   
  

 

 

    

 

 

 
   $ 4,976       $ 5,503   
  

 

 

    

 

 

 

NOTE 5 – LIABILITIES SUBORDINATED TO CLAIMS OF GENERAL CREDITORS

The following table shows the Partnership’s liabilities subordinated to claims of general creditors as of:

 

     June 28,      December 31,  
     2013      2012  

Capital notes 7.33%, due in annual installments of $50,000 commencing on June 12, 2010 with a final installment on June 12, 2014

   $ 50,000       $ 100,000   
  

 

 

    

 

 

 
   $ 50,000       $ 100,000   
  

 

 

    

 

 

 

In June 2013, the Partnership paid the annual scheduled installment of $50,000.

 

14


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

NOTE 6 – PARTNERSHIP CAPITAL SUBJECT TO MANDATORY REDEMPTION

The following table shows the Partnership’s capital subject to mandatory redemption as of:

 

     June 28,     December 31,  
     2013     2012  

Partner capital outstanding:

    

Limited partnership capital

   $ 645,464      $ 650,735   

Subordinated limited partnership capital

     305,215        283,709   

General partnership capital

     1,091,127        1,048,067   
  

 

 

   

 

 

 

Total partner capital outstanding

     2,041,806        1,982,511   

Partnership loans outstanding:

    

Partnership loans outstanding at beginning of period

     (170,264     (86,853

Partnership loans issued during the period

     (105,228     (94,170

Repayment of partnership loans during the period

     44,340        10,759   
  

 

 

   

 

 

 

Total partnership loans outstanding

     (231,152     (170,264

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

     1,810,654        1,812,247   

Reserve for anticipated withdrawals

     96,055        170,646   
  

 

 

   

 

 

 

Partnership capital subject to mandatory redemption

   $ 1,906,709      $ 1,982,893   
  

 

 

   

 

 

 

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 be classified as a liability. Income allocable to limited, subordinated limited and general partners prior to the issuance of ASC 480 was classified in the Partnership’s Consolidated Statements of Income as net income. In accordance with ASC 480, these allocations are now classified as a reduction of income before allocations to partners, which results in presentation of $0 net income. 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.

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 as indicated in the previous table. 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 and 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.

 

15


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

The Partnership makes loans available to those general partners (other than members of the Executive Committee, which consists of the executive officers of the Partnership) who require financing for some or all of their partnership capital contributions. In limited circumstances a general partner may withdraw from the Partnership and become a subordinated limited partner while he or she still has an outstanding partnership loan. Loans made by the Partnership to 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 recognizes interest income for the interest received related to these loans. The outstanding amount of partner loans financed through the Partnership is reflected as a reduction to total partnership capital in the Consolidated Statements of Changes in Partnership Capital Subject to Mandatory Redemption. As of June 28, 2013 and December 31, 2012, the outstanding amount of partner loans financed through the Partnership was $231,152 and $170,264, respectively. Interest income from these loans, which is included in interest and dividends in the Consolidated Statements of Income, was $1,923 and $3,908 for the three and six month periods ended June 28, 2013, respectively, and $1,421 and $2,847 for the three and six month periods ended June 29, 2012, respectively. Partnership loans issued during the six month period ended June 28, 2013 consisted of $94,025 of new capital contributions and $11,203 of partnership loans issued in connection with paying off bank loans, as further discussed below.

Effective January 18, 2013, there were no partnership administered bank loans outstanding related to capital contributions of general or subordinated limited partners. The Partnership paid, through earnings on behalf of the general and subordinated limited partners, the $35,393 outstanding balance 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 $11,203 of partnership loans. It is anticipated that all future general and subordinated limited partnership capital contributions (other than for Executive Committee members) requiring financing will be financed through partnership loans.

The limited partnership capital subject to mandatory redemption is held by current and former employees and general partners of the Partnership. Limited partners participate in the Partnership’s profits and are paid a minimum 7.5% annual return on the face amount of their capital, in accordance with the Partnership Agreement. The minimum 7.5% annual return totaled $12,114 and $24,280 for the three and six month periods ended June 28, 2013, respectively, and $12,313 and $24,697 for the three and six month periods ended June 29, 2012, respectively. These amounts are included as a component of interest expense in the Consolidated Statements of Income.

The subordinated limited partnership capital subject to mandatory redemption is held by current and former general partners of the Partnership. Subordinated limited partners receive a percentage of the Partnership’s net income determined in accordance with the Partnership Agreement. The subordinated limited partnership capital subject to mandatory redemption is subordinated to the limited partnership capital.

The general partnership capital subject to mandatory redemption is held by current general partners of the Partnership. General partners receive a percentage of the Partnership’s net income determined in accordance with the Partnership Agreement. The general partnership capital subject to mandatory redemption is subordinated to the limited partnership capital and the subordinated limited partnership capital.

 

16


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

NOTE 7 – NET CAPITAL REQUIREMENTS

As a result of its activities as a broker-dealer, Edward Jones is subject to the net capital provisions of Rule 15c3-1 of the Securities Exchange Act of 1934 (“Exchange Act”) and capital compliance rules of the Financial Industry Regulatory Authority (“FINRA”) Rule 4110. Under the alternative method permitted by the rules, Edward Jones must maintain minimum net capital equal to the greater of $250 or 2% of aggregate debit items arising from client transactions. The net capital rules also provide that Edward Jones’ partnership capital may not be withdrawn if resulting net capital would be less than minimum requirements. Additionally, certain withdrawals require the approval of the U.S. Securities and Exchange Commission (“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.

The following table shows the Partnership’s net capital figures for its U.S. and Canada broker-dealers as of:

 

     June 28,     December 31,  
     2013     2012  

U.S.:

    

Net capital

   $ 691,338      $ 711,894   

Net capital in excess of the minimum required

   $ 649,481      $ 670,072   

Net capital as a percentage of aggregate debit items

     33.0     34.0

Net capital after anticipated capital withdrawals, as a percentage of aggregate debit items

     21.1     18.5

Canada:

    

Regulatory risk adjusted capital

   $ 32,958      $ 38,488   

Regulatory risk adjusted capital in excess of the minimum required to be held by the Investment Industry Regulatory Organization of Canada (“IIROC”)

   $ 28,933      $ 27,567   

Net capital and the related capital percentages may fluctuate on a daily basis. In addition, EJTC was in compliance with its regulatory capital requirements.

NOTE 8 – CONTINGENCIES

In the normal course of business, the Partnership has been named as a defendant in various legal actions, including arbitrations, class actions and other litigation. Certain of these legal actions include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages. The Partnership is also involved from time to time in investigations and proceedings by governmental and self-regulatory organizations, certain of which may result in adverse judgments, fines or penalties. In addition, the Partnership provides for potential losses that may arise related to other contingencies.

The Partnership assesses its liabilities and contingencies utilizing available information. For those matters where it is probable the Partnership will incur a potential loss and the amount of the loss is reasonably estimable, in accordance with FASB ASC No. 450, Contingencies (“ASC 450”), an accrued liability has been established. These reserves represent the Partnership’s aggregate estimate of the potential loss contingency and are believed to be sufficient. Such liability may be adjusted from time to time to reflect any relevant developments.

 

17


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

For such matters where an accrued liability has not been established and the Partnership believes a loss is both reasonably possible and estimable, as well as for matters where an accrued liability has been recorded but for which an exposure to loss in excess of the amount accrued is both reasonably possible and estimable, the current estimated aggregated range of possible loss is $3,000 to $35,000. This range of reasonably possible loss does not necessarily represent the Partnership’s maximum loss exposure as the Partnership was not able to estimate a range of reasonably possible loss for all matters.

Further, the matters underlying any disclosed estimated range will change from time to time, and actual results may vary significantly. While the outcome of these matters is inherently uncertain, based on information currently available, the Partnership believes that its established reserves are adequate and the liabilities arising from such proceedings will not have a material adverse effect on the consolidated financial position, results of operations or cash flows of the Partnership. However, based on future developments and the potential unfavorable resolution of these matters, the outcome could be material to the Partnership’s future consolidated operating results for a particular period or periods.

NOTE 9 – 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; its operating results are regularly reviewed by the entity’s chief operating decision-maker (or decision-making group) 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 revenue from the retail brokerage business as a distributor of mutual fund shares, through the sale of listed and unlisted securities and insurance products, investment banking, principal transactions, and through revenues related to assets held by and account services provided to its clients.

The accounting policies of the segments are the same as those described in the Notes to the Consolidated Financial Statements of the Partnership’s Annual Report. Financial information about the Partnership’s reportable segments is presented in the following table. For computation of segment information, the Partnership allocates costs incurred by the U.S. entity in support of Canada operations to the Canada segment.

The Partnership evaluates segment performance based upon income before allocations to partners, as well as income before variable compensation. Variable 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 compensation. Financial advisor bonuses are determined by the overall Partnership’s profitability, as well as the performance of the individual financial advisors at the segment. As such, both income before allocations to partners and income before variable compensation are considered in evaluating segment performance.

 

18


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

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

Financial information for the Partnership’s reportable segments is presented in the following table:

 

     Three Months Ended     Six Months Ended  
     June 28,     June 29,     June 28,     June 29,  
     2013     2012     2013     2012  

Net revenue:

        

U.S.

   $ 1,366,657      $ 1,168,693      $ 2,650,166      $ 2,331,248   

Canada

     50,023        45,793        102,012        89,560   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total net revenue

   $ 1,416,680      $ 1,214,486      $ 2,752,178      $ 2,420,808   
  

 

 

   

 

 

   

 

 

   

 

 

 

Pre-variable income (loss):

        

U.S.

   $ 323,609      $ 260,997      $ 604,643      $ 506,136   

Canada

     1,803        868        4,781        (229
  

 

 

   

 

 

   

 

 

   

 

 

 

Total pre-variable income

     325,412        261,865        609,424        505,907   

Variable compensation:

        

U.S.

     148,649        119,114        279,883        222,019   

Canada

     4,623        3,789        8,622        6,361   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total variable compensation

     153,272        122,903        288,505        228,380   

Income (loss) before allocations to partners:

        

U.S.

     174,960        141,883        324,760        284,117   

Canada

     (2,820     (2,921     (3,841     (6,590
  

 

 

   

 

 

   

 

 

   

 

 

 

Total income before allocations to partners

   $ 172,140      $ 138,962      $ 320,919      $ 277,527   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

19


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements, continued

 

NOTE 10 – OFFSETTING ASSETS AND LIABILITIES

The Partnership does not offset financial instruments in the Consolidated Statements of Financial Condition. However, the Partnership enters into master netting arrangements with counterparties for securities purchased under agreements to resell that are subject to net settlement in the event of default. These agreements create a right of offset for the amounts due to and due from the same counterparty in the event of default or bankruptcy.

The following table shows the Partnership’s assets subject to master netting arrangements:

 

                          Gross amounts not offset in
the Consolidated Statements
of  Financial Condition
       
     Gross
Amounts of
Recognized
Assets
     Gross amounts
offset in the
Consolidated
Statements of
Financial
Condition
     Net amounts
presented in the
Consolidated
Statements of
Financial
Condition
     Financial
instruments
     Securities
collateral(1)
    Net
amount
 

Securities purchased under agreements to resell as of:

                

June 28, 2013

   $ 759,843         —           759,843         —           (759,843   $ —     

December 31, 2012

   $ 1,092,586         —           1,092,586         —           (1,092,586   $ —     

 

(1) 

Actual collateral was greater than 102% of the related assets for U.S. agreements and greater than 100% for Canada agreements for all periods presented.

 

 

20


Table of Contents

PART I. FINANCIAL INFORMATION

 

ITEM 2.

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 1, Financial Statements of this Quarterly Report on Form 10-Q and Item 8, Financial Statements and Supplementary Data of the Partnership’s Annual Report.

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 (net of interest expense) and other revenue. In the 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 and payables to clients, the variability of interest rates earned and paid on such balances, the number of limited partner interests, and the balances of general partner loans, long-term debt and liabilities subordinated to claims of general creditors.

 

21


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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 three and six month periods ended June 28, 2013 and June 29, 2012. 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.

 

     Three Months Ended     Six Months Ended  
     June 28,     June 29,           June 28,     June 29,        
     2013     2012     % Change     2013     2012     % Change  

Revenue:

            

Trade revenue:

            

Commissions

   $ 566.2      $ 480.0        18   $ 1,105.7      $ 960.6        15

Principal transactions

     33.6        41.8        -20     60.4        87.1        -31

Investment banking

     30.6        30.0        2     57.8        59.1        -2
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trade revenue

     630.4        551.8        14     1,223.9        1,106.8        11
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

% of net revenue

     44     45       44     46  

Fee revenue:

            

Asset-based

     617.0        494.6        25     1,187.3        977.0        22

Account and activity

     140.3        143.5        -2     279.1        284.0        -2
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total fee revenue

     757.3        638.1        19     1,466.4        1,261.0        16
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

% of net revenue

     53     53       53     52  

Net interest and dividends

     18.3        17.6        4     35.6        33.8        5

Other revenue

     10.7        7.0        53     26.3        19.2        37
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     1,416.7        1,214.5        17     2,752.2        2,420.8        14

Operating expenses

     1,244.6        1,075.5        16     2,431.3        2,143.3        13
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before allocations to partners

   $ 172.1      $ 139.0        24   $ 320.9      $ 277.5        16
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Related metrics:

            

Client dollars invested(1):

            

Trade ($ billions)

   $ 28.1      $ 23.7        19   $ 54.2      $ 47.4        14

Advisory programs ($ billions)

   $ 5.1      $ 2.9        76   $ 10.1      $ 5.9        71

Client households at period end (millions)

     4.56        4.49        2     4.56        4.49        2

Net new assets for the period end ($ billions)

   $ 9.7      $ 6.8        43   $ 21.2      $ 15.0        41

Client assets under care:

            

Total:

            

At period end ($ billions)

   $ 711.5      $ 628.9        13   $ 711.5      $ 628.9        13

Average ($ billions)

   $ 715.4      $ 627.1        14   $ 701.6      $ 625.5        12

Advisory programs:

            

At period end ($ billions)

   $ 98.3      $ 77.3        27   $ 98.3      $ 77.3        27

Average ($ billions)

   $ 97.7      $ 76.0        29   $ 94.3      $ 74.9        26

Financial advisors:

            

At period end

     12,786        12,240        4     12,786        12,240        4

Average

     12,687        12,224        4     12,602        12,209        3

Attrition %

     9.3     9.0     n/a        9.5     11.2     n/a   

Dow Jones Industrial Average:

            

At period end

     14,910        12,880        16     14,910        12,880        16

Average for period

     14,959        12,761        17     14,492        12,803        13

S&P 500 Index:

            

At period end

     1,606        1,362        18     1,606        1,362        18

Average for period

     1,609        1,350        19     1,563        1,349        16

 

(1) 

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

 

22


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Second Quarter 2013 versus 2012 Overview

The Partnership experienced improved financial results during the second quarter of 2013 as compared to 2012, which was attributable to growth in fee and trade revenues. Fee revenue increased due to market appreciation of asset values as well as continued investment of client dollars into its advisory programs. The Partnership’s benefit from improved market conditions was the result of the 19% increase in the daily average S&P 500 Index and the 17% increase in the daily average Dow Jones Industrial Average.

The Partnership’s key performance measures were relatively strong during the second quarter of 2013. Average client assets under care grew 14% to $715.4 billion, which included a 29% increase in the advisory programs’ average assets under care to $97.7 billion. In addition, client dollars invested related to trade revenue were up 19% and net new assets increased 43%.

For the second quarter of 2013, net revenue of $1.4 billion increased 17% over the second quarter of 2012. This increase was led by a 19% 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. Revenue growth was also driven by a 14% increase in trade revenue.

Operating expenses increased 16% in the second quarter of 2013 compared to the second quarter of 2012, primarily due to an increase in compensation and benefits driven by increased financial advisor productivity as well as higher variable compensation due to the increase in the Partnership’s profitability.

The increases in net revenues of 17% and operating expenses of 16% resulted in a 24% increase in income before allocations to partners to $172.1 million.

Year to Date 2013 versus 2012 Overview

The Partnership experienced improved financial results during the first six months of 2013 as compared to 2012, which was attributable to growth in fee and trade revenues. Fee revenue increased due to market appreciation of asset values as well as continued investment of client dollars into its advisory programs. The Partnership’s benefit from improved market conditions was the result of the 16% increase in the daily average S&P 500 Index and the 13% increase in the daily average Dow Jones Industrial Average.

The Partnership’s key performance measures were relatively strong during the first six months of 2013. Average client assets under care grew 12% to $701.6 billion, which included a 26% increase in the advisory programs’ average assets under care to $94.3 billion. In addition, client dollars invested related to trade revenue were up 14% and net new assets increased 41%.

For the first six months of 2013, net revenue of $2.8 billion increased 14% over the first six months of 2012. This increase was led by a 16% 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. Revenue growth was also driven by an 11% increase in trade revenue.

Operating expenses increased 13% in the first six months of 2013 compared to 2012, primarily due to an increase in compensation and benefits driven by increased financial advisor productivity as well as higher variable compensation due to the increase in the Partnership’s profitability.

 

23


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

The increases in net revenues of 14% and operating expenses of 13% resulted in a 16% increase in income before allocations to partners to $320.9 million.

RESULTS OF OPERATIONS FOR THE THREE AND SIX MONTH PERIODS ENDED JUNE 28, 2013 AND JUNE 29, 2012

The discussion below details the significant fluctuations and drivers for 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 14% to $630.4 million and 11% to $1,223.9 million in the second quarter and first six months of 2013 compared to the same periods in 2012, respectively. The increase in trade revenue for the second quarter and first six months of 2013 was primarily due to the impact of increased client dollars invested, partially offset by a decrease in the margin earned due to changes in product mix. Additionally, there was one more U.S. business day in the second quarter of 2013 compared to the second quarter of 2012 and one less U.S. business day in the first six months of 2013 compared to the first six months of 2012. A discussion of trade revenue components follows.

Commissions

 

     Three Months Ended     Six Months Ended  
     June 28,      June 29,            June 28,      June 29,         
     2013      2012      % Change     2013      2012      % Change  

Commissions revenue ($ millions):

                

Mutual funds

   $ 314.9       $ 253.4         24   $ 626.7       $ 503.6         24

Equities

     156.0         129.3         21     298.4         261.8         14

Insurance

     95.3         97.3         -2     180.6         195.2         -7
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total commissions revenue

   $ 566.2       $ 480.0         18   $ 1,105.7       $ 960.6         15
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Related metrics:

                

Client dollars invested ($ billions)

   $ 23.3       $ 18.9         23   $ 45.4       $ 37.9         20

Margin per $1,000 invested

   $ 24.30       $ 25.40         -4   $ 24.30       $ 25.30         -4

U.S. business days

     64         63         2     124         125         -1

For the three months ended June 28, 2013, commissions revenue increased 18% to $566.2 million compared to the three months ended June 29, 2012. The increase was primarily due to a 23% increase in client dollars invested in commission generating transactions resulting from the continued improvement in market conditions and clients continuing to reinvest their dollars from 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. The average trade size of mutual fund products has increased, resulting in lower commission rates and thus a decrease in margin earned.

 

24


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

For the six months ended June 28, 2013, commissions revenue increased 15% to $1,105.7 million compared to the six months ended June 29, 2012. The increase was primarily due to a 20% increase in client dollars invested in commission generating transactions resulting from the continued improvement in market conditions and clients continuing to reinvest their dollars from 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. The average trade size of mutual fund products has increased, resulting in lower commission rates and thus a decrease in margin earned.

Principal Transactions

 

     Three Months Ended     Six Months Ended  
     June 28,     June 29,            June 28,     June 29,         
     2013     2012      % Change     2013     2012      % Change  

Principal transactions revenue ($ millions):

              

State and municipal obligations

   $ 28.8      $ 31.1         -7   $ 49.9      $ 64.0         -22

Corporate bonds and notes

     3.9        4.5         -13     7.7        9.7         -21

Certificates of deposit

     2.4        3.6         -33     4.5        6.8         -34

Unit investment trusts

     1.2        1.0         20     1.7        3.3         -48

Government and agency obligations

     0.6        0.9         -33     1.4        1.9         -26

Collateralized mortgage obligations

     0.3        0.4         -25     0.6        0.9         -33

Net inventory (loss) gains

     (3.6     0.3         -1300     (5.4     0.5         -1180
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total principal transactions revenue

   $ 33.6      $ 41.8         -20   $ 60.4      $ 87.1         -31
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Related metrics:

              

Client dollars invested ($ billions)

   $ 3.4      $ 3.7         -8   $ 6.4      $ 7.2         -11

Margin per $1,000 invested

   $ 10.80      $ 11.30         -4   $ 10.30      $ 12.00         -14

U.S. business days

     64        63         2     124        125         -1

For the three months ended June 28, 2013, principal transactions revenue decreased 20% to $33.6 million compared to the three months ended June 29, 2012. Overall, principal transactions revenue was negatively impacted by both the continued low interest rate environment and improvement in equity market conditions. The most notable decrease was in revenue from state and municipal obligations. Clients reinvested their dollars from fixed income products into mutual fund and equity products, evidenced by the 8% decrease in client dollars invested in the second quarter of 2013 compared to the second quarter of 2012. Additionally, margin per $1,000 invested decreased 4% in the second quarter of 2013 as client investments shifted towards products with shorter maturities which have lower margins. Volatility of interest rates experienced in mid-June resulted in a net inventory loss of $3.6 million in the second quarter of 2013.

For the six months ended June 28, 2013, principal transactions revenue decreased 31% to $60.4 million compared to the six months ended June 29, 2012. Overall, principal transactions revenue was negatively impacted by both the continued low interest rate environment and improvement in equity market conditions. The most notable decrease was in revenue from state and municipal obligations. Clients reinvested their dollars from fixed income products into mutual fund and equity products, evidenced by the 11% decrease in client dollars invested during the six months ended June 28, 2013 compared to the six months ended June 29, 2012. Additionally, margin per $1,000 invested decreased 14% in 2013 as client investments shifted towards products with shorter maturities which have lower margins. Volatility of interest rates experienced in mid-June resulted in a net inventory loss of $5.4 million in the six months ended June 28, 2013.

 

25


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Investment Banking

 

     Three Months Ended     Six Months Ended  
     June 28,      June 29,            June 28,      June 29,         
     2013      2012      % Change     2013      2012      % Change  

Investment banking revenue ($ millions):

                

Distribution

   $ 29.3       $ 28.7         2   $ 55.4       $ 56.4         -2

Underwriting

     1.3         1.3         0     2.4         2.7         -11
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total investment banking revenue

   $ 30.6       $ 30.0         2   $ 57.8       $ 59.1         -2
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Related metrics:

                

Client dollars invested ($ billions)

   $ 1.3       $ 1.2         8   $ 2.5       $ 2.2         14

Margin per $1,000 invested

   $ 23.10       $ 25.80         -10   $ 23.60       $ 26.60         -11

U.S. business days

     64         63         2     124         125         -1

For the three months ended June 28, 2013, investment banking revenue increased 2% to $30.6 million compared to the three months ended June 29, 2012. The increase in investment banking revenue was primarily due to an 8% increase in client dollars invested, resulting from improved market conditions. This increase was partially offset by a 10% 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.

For the six months ended June 28, 2013, investment banking revenue decreased 2% to $57.8 million compared to the six months ended June 29, 2012. The decrease in investment banking revenue was primarily due to an 11% 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. This decrease was partially offset by a 14% increase in client dollars invested, resulting from improved market conditions.

 

26


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Fee Revenue

Fee revenue, which consists of asset-based fees and account and activity fees, increased 19% to $757.3 million and 16% to $1,466.4 million in the second quarter and first six months of 2013 compared to the same periods in 2012, respectively. The increase in fee revenue for the second quarter and first six months of 2013 was primarily due to higher asset values and continued investment in advisory programs. A discussion of fee revenue components follows.

Asset-based

 

     Three Months Ended     Six Months Ended  
     June 28,      June 29,            June 28,      June 29,         
     2013      2012      % Change     2013      2012      % Change  

Asset-based fee revenue ($ millions):

                

Advisory program fees

   $ 330.2       $ 252.8         31   $ 633.3       $ 498.1         27

Service fees

     236.5         196.4         20     456.8         390.7         17

Revenue sharing

     39.4         35.2         12     75.9         68.8         10

Trust fees

     8.5         6.8         25     16.2         13.4         21

Cash solutions

     2.4         3.4         -29     5.1         6.0         -15
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total asset-based fee revenue

   $ 617.0       $ 494.6         25   $ 1,187.3       $ 977.0         22
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Related metrics ($ billions):

                

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

                

Mutual fund assets held outside of advisory programs

   $ 384.6       $ 324.2         19   $ 378.3       $ 314.5         20

Advisory programs

     97.4         75.7         29     94.0         74.7         26

Insurance

     62.5         53.9         16     60.0         53.2         13

Cash solutions

     19.7         18.0         9     19.8         18.1         9
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total client asset values

   $ 564.2       $ 471.8         20   $ 552.1       $ 460.5         20
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

 

(1)

Assets on which the Partnership earns asset-based fee revenue. U.S. asset-based fee revenue represents 98% of consolidated asset-based fee revenue for the three and six month periods ended June 28, 2013 and 97% for the three and six month periods ended June 29, 2012.

For the three months ended June 28, 2013, asset-based fee revenue increased 25% to $617.0 million compared to the three months ended June 29, 2012. The increase is primarily due to higher advisory program fees and service fees. Advisory program fees revenue increased primarily due to market appreciation of asset values as well as continued investment of client dollars into advisory programs, which includes new client assets. Service fees revenue increased in the second quarter of 2013 primarily due to increases in the market value of the underlying assets as well as continued investment of client dollars into mutual fund and insurance products, which includes new client assets.

For the six months ended June 28, 2013, asset-based fee revenue increased 22% to $1,187.3 million compared to the six months ended June 29, 2012. The increase is primarily due to higher advisory program fees and service fees. Advisory program fees revenue increased primarily due to market appreciation of asset values as well as continued investment of client dollars into the advisory programs, which includes new client assets. Service fees revenue increased in the first six months of 2013 primarily due to increases in the market value of the underlying assets as well as continued investment of client dollars into mutual fund and insurance products, which includes new client assets.

 

27


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Account and Activity

 

     Three Months Ended     Six Months Ended  
     June 28,      June 29,            June 28,      June 29,         
     2013      2012      % Change     2013      2012      % Change  

Account and activity fee revenue ($ millions):

                

Sub-transfer agent services

   $ 88.6       $ 81.3         9   $ 170.7       $ 160.4         6

Retirement account fees

     30.4         33.8         -10     60.4         67.5         -11

Other account and activity fees

     21.3         28.4         -25     48.0         56.1         -14
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total account and activity fee revenue

   $ 140.3       $ 143.5         -2   $ 279.1       $ 284.0         -2
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Related metrics (millions):

                

Average client accounts:

                

Sub-transfer agent services(1)

     19.6         18.3         7     19.4         18.2         7

Retirement accounts

     4.1         3.9         5     4.1         3.8         8

 

(1)

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

For the three months ended June 28, 2013, account and activity fee revenue decreased 2% to $140.3 million compared to the three months ended June 29, 2012. Retirement account fees decreased as more client accounts reached the asset level at which fees are waived. Effective January 1, 2013, the Partnership reduced the asset level on which retirement account fees and certain other account activity fees are waived. This change is not expected to have a material impact on the Partnership’s financial results. Other account and activity fees decreased primarily due to declines in mortgage revenue (see further discussion in Other Revenue), banking services revenue and other transaction fees. These decreases were partially offset by higher sub-transfer agent services primarily related to increases in the number of average client holdings serviced.

For the six months ended June 28, 2013, account and activity fee revenue decreased 2% to $279.1 million compared to the six months ended June 29, 2012. Retirement account fees decreased as more client accounts reached the asset level at which fees are waived. Effective January 1, 2013, the Partnership reduced the asset level on which retirement account fees and certain other account activity fees are waived. This change is not expected to have a material impact on the Partnership’s financial results. Other account and activity fees decreased primarily due to declines in mortgage revenue (see further discussion in Other Revenue), banking services revenue and other transaction fees. These decreases were partially offset by higher sub-transfer agent services primarily related to increases in the number of average client holdings serviced.

 

28


Table of Contents

PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Net Interest and Dividends

 

     Three Months Ended     Six Months Ended  
     June 28,     June 29,           June 28,     June 29,        
     2013     2012     % Change     2013     2012     % Change  

Net interest and dividends revenue ($ millions):

            

Client loan interest

   $ 26.9      $ 28.3        -5   $ 52.8      $ 56.2        -6

Short-term investing interest

     3.3        2.8        18     7.1        4.8        48

Other interest and dividends

     3.1        2.3        35     5.9        4.7        26

Limited partnership interest expense

     (12.1     (12.3     -2     (24.3     (24.7     -2

Other interest expense

     (2.9     (3.5     -17     (5.9     (7.2     -18
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net interest and dividends revenue

   $ 18.3      $ 17.6        4   $ 35.6      $ 33.8        5
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Related metrics ($ millions):

            

Average aggregate client loan balance

   $ 2,099.5      $ 2,194.1        -4   $ 2,102.3      $ 2,196.6        -4

Average rate earned

     5.14     5.17     -1     5.12     5.16     -1

Average funds invested

   $ 8,474.9      $ 6,253.6        36   $ 8,449.6      $ 5,890.7        43

Average rate earned

     0.16     0.17     -6     0.17     0.16     6

Weighted average $1,000 equivalent limited partnership units outstanding

     646,022        656,582        -2     647,363        658,521        -2

For the three month period ended June 28, 2013, net interest and dividends revenue increased 4% to $18.3 million compared to the three month period ended June 29, 2012 primarily due to increases in other interest and dividends and short-term investing interest and a decrease in other interest expense, partially offset by a decrease in interest income from client loans. Other interest expense decreased 17% primarily due to lower average debt balances during the current period as a result of debt repayments in 2012 and 2013. Interest income from client loans decreased 5% reflecting lower average aggregate client loan balances and average rate earned.

Interest income from short-term investments in cash and cash equivalents, cash and investments segregated under federal regulations and securities purchased under agreements to resell increased 18% in the second quarter of 2013 primarily due to an increase in the average funds invested, partially offset by a decrease in the average rate earned. The related average funds invested increased 36% and included $7.6 billion of cash and investments segregated in special reserve bank accounts for the benefit of U.S. clients under SEC rule 15c3-3, compared to $5.2 billion in the second quarter of 2012. The average rate earned on total funds invested decreased 6% to 0.16%. See the Liquidity and Capital Resources discussion below for additional information.

For the six month period ended June 28, 2013, net interest and dividends revenue increased 5% to $35.6 million compared to the six month period ended June 29, 2012 primarily due to an increase in short-term investing interest and a decrease in other interest expense, partially offset by a decrease in interest income from client loans. Other interest expense decreased 18% primarily due to lower average debt balances during the current period as a result of debt repayments in 2012 and 2013. Interest income from client loans decreased 6% reflecting lower average aggregate client loan balances and average rate earned.

Interest income from short-term investments in cash and cash equivalents, cash and investments segregated under federal regulations and securities purchased under agreements to resell increased 48% in the first six months of 2013 primarily due to an increase in the average funds invested as well as the average rate earned. The related average funds invested increased 43% and included $7.6 billion of cash and investments segregated in special reserve

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

bank accounts for the benefit of U.S. clients under SEC rule 15c3-3, compared to $5.0 billion in the first six months of 2012. The average rate earned on total funds invested increased 6% to 0.17%. See the Liquidity and Capital Resources discussion below for additional information.

Other Revenue

Other revenue increased 53% to $10.7 million and 37% to $26.3 million in the second quarter and first six months of 2013 compared to the same periods in 2012, respectively. These increases are primarily attributable to increases 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 recorded in other revenue with an offset in compensation and fringe benefits expense, resulting in no net impact to the Partnership’s income before allocations to partners. In addition, the increase in the first six months of 2013 is due to receipt of $4.0 million related to the dissolution of the Partnership’s mortgage joint venture arrangement recognized in March 2013. The mortgage joint venture stopped accepting applications for new loans effective January 12, 2013 and was dissolved and discontinued all operations effective April 12, 2013.

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

Operating Expenses

 

     Three Months Ended     Six Months Ended  
     June 28,      June 29,            June 28,      June 29,         
     2013      2012      % Change     2013      2012      % Change  

Operating expenses ($ millions):

                

Compensation and benefits:

                

Financial advisor compensation

   $ 505.4       $ 422.4         20   $ 980.7       $ 847.3         16

Home office and branch

     235.3         223.2         5     468.3         447.7         5

Variable compensation

     153.3         122.9         25     288.5         228.4         26

Financial advisor salary and subsidy

     47.7         28.7         66     91.3         54.5         68
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total compensation and benefits

     941.7         797.2         18     1,828.8         1,577.9         16

Occupancy and equipment

     89.2         87.3         2     178.7         177.2         1

Communications and data processing

     73.3         70.8         4     146.6         141.9         3

Payroll and other taxes

     52.8         46.3         14     110.6         99.0         12

Advertising

     13.6         13.0         5     30.2         25.5         18

Postage and shipping

     13.8         12.0         15     26.7         24.3         10

Clearance fees

     3.1         3.0         3     6.4         6.5         -2

Other operating expenses

     57.1         45.9         24     103.3         91.0         14
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total operating expenses

   $ 1,244.6       $ 1,075.5         16   $ 2,431.3       $ 2,143.3         13
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Related metrics:

                

Number of branches

                

At period end

     11,512         11,386         1     11,512         11,386         1

Average

     11,470         11,389         1     11,445         11,396         0

Financial advisors:

                

At period end

     12,786         12,240         4     12,786         12,240         4

Average

     12,687         12,224         4     12,602         12,209         3

Branch employees(1):

                

At period end

     13,731         13,484         2     13,731         13,484         2

Average

     13,540         13,383         1     13,481         13,302         1

Home office employees(1):

                

At period end

     5,144         5,044         2     5,144         5,044         2

Average

     5,104         4,999         2     5,095         4,966         3

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

     40.2         40.9         -2     40.4         40.7         -1

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

     106.7         109.5         -3     107.0         109.0         -2

Average operating expenses per financial advisor(2)

   $ 46,181       $ 43,374         6   $ 92,216       $ 87,446         5

 

(1) 

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

(2) 

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

For the three month period ended June 28, 2013, operating expenses increased 16% to $1.2 billion compared to the three month period ended June 29, 2012 primarily due to an 18% increase in compensation and benefits (described below). The remaining operating expenses increased 9% ($24.6 million) primarily due to a 14% increase in payroll and other taxes as a result of increased compensation and a 24% increase in other operating expenses.

Financial advisor compensation (which excludes financial advisor salary and subsidy and variable compensation) increased 20% ($83.0 million) in the second quarter of 2013 primarily due to increases in trade and asset-based fee revenue on which financial advisors earn commissions. Financial advisor salary and subsidy increased 66% ($19.0 million) primarily due to new financial advisor compensation initiatives implemented in July 2012, in addition to more financial advisors participating in these programs.

 

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Item 2.

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

 

Home office and branch salary and fringe benefit expense increased 5% ($12.1 million) in the second quarter of 2013 primarily due to wage increases, higher fringe benefits expense caused by increased healthcare costs and more 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 employees increased 2% and branch employees increased 1%.

Variable 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 compensation and paid to employees in the form of increased profit sharing and bonuses. As a result, variable compensation increased 25% ($30.4 million) in the second quarter of 2013 to $153.3 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 the second quarter of 2013, the average number of home office and branch employees per 100 financial advisors decreased 2% and 3%, respectively, reflecting the Partnership’s longer term cost management strategy to grow its financial advisor network at a faster pace than its home office and branch support staff. The average operating expense per financial advisor increased 6% 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, partially offset by the impact of spreading these costs over a growing number of financial advisors.

For the six month period ended June 28, 2013, operating expenses increased 13% to $2.4 billion compared to the six month period ended June 29, 2012 primarily due to a 16% increase in compensation and benefits (described below). The remaining operating expenses increased 7% ($37.1 million) primarily due to a 12% increase in payroll and other taxes as a result of increased compensation and a 14% increase in other operating expenses.

Financial advisor compensation (which excludes financial advisor salary and subsidy and variable compensation) increased 16% ($133.4 million) in the first half of 2013 primarily due to increases in trade and asset-based fee revenue on which financial advisors earn commissions. Financial advisor salary and subsidy increased 68% ($36.8 million) primarily due to new financial advisor compensation initiatives implemented in July 2012, in addition to more financial advisors participating in these programs.

Home office and branch salary and fringe benefit expense increased 5% ($20.6 million) in the first half of 2013 primarily due to wage increases, higher fringe benefits expense caused by increased healthcare costs and more 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 employees increased 3% and branch employees increased 1%.

Variable 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 compensation and paid to employees in the form of increased profit sharing and bonuses. As a result, variable compensation increased 26% ($60.1 million) in the first half of 2013 to $288.5 million.

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

In the first half of 2013, the average number of home office and branch employees per 100 financial advisors decreased 1% and 2%, respectively, reflecting the Partnership’s longer term cost management strategy to grow its financial advisor network at a faster pace than its home office and branch support staff. The average operating expense per financial advisor increased 5% 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, partially offset by the impact of spreading these costs over a growing number of financial advisors.

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

The Partnership evaluates segment performance based upon income before allocations to partners, as well as income before variable compensation. Variable 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 compensation. Financial advisor bonuses are determined by the overall Partnership’s profitability, as well as the performance of the individual financial advisors at the segment. As such, both income before allocations to partners and income before variable compensation are considered in evaluating segment performance.

Canada segment information, as reported in the following table, is based upon the Consolidated Financial Statements of the Partnership’s Canada operations without eliminating intercompany items, such as management fees paid to affiliated entities. The U.S. segment information is derived from the 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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PART I. FINANCIAL INFORMATION

 

Item 2.

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.

 

     Three Months Ended     Six Months Ended  
     June 28,     June 29,           June 28,     June 29,        
     2013     2012     % Change     2013     2012     % Change  

Net revenue:

            

U.S.

   $ 1,366.7      $ 1,168.7        17   $ 2,650.2      $ 2,331.2        14

Canada

     50.0        45.8        9     102.0        89.6        14
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net revenue

     1,416.7        1,214.5        17     2,752.2        2,420.8        14

Operating expenses (excluding variable compensation):

            

U.S.

     1,043.1        907.7        15     2,045.6        1,825.1        12

Canada

     48.2        44.9        7     97.2        89.8        8
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     1,091.3        952.6        15     2,142.8        1,914.9        12

Pre-variable income (loss):

            

U.S.

     323.6        261.0        24     604.6        506.1        19

Canada

     1.8        0.9        100     4.8        (0.2     2500
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total pre-variable income

     325.4        261.9        24     609.4        505.9        20

Variable compensation:

            

U.S.

     148.7        119.1        25     279.9        222.0        26

Canada

     4.6        3.8        21     8.6        6.4        34
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total variable compensation

     153.3        122.9        25     288.5        228.4        26

Income (loss) before allocations to partners:

            

U.S.

     174.9        141.9        23     324.7        284.1        14

Canada

     (2.8     (2.9     3     (3.8     (6.6     42
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total income before allocations to partners

   $ 172.1      $ 139.0        24   $ 320.9      $ 277.5        16
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Client assets under care ($ billions):

            

U.S.

            

At period end

   $ 694.7      $ 613.6        13   $ 694.7      $ 613.6        13

Average

   $ 698.1      $ 611.7        14   $ 684.5      $ 609.9        12

Canada

            

At period end

   $ 16.8      $ 15.3        10   $ 16.8      $ 15.3        10

Average

   $ 17.3      $ 15.4        12   $ 17.1      $ 15.6        10

Financial advisors:

            

U.S.

            

At period end

     12,135        11,622        4     12,135        11,622        4

Average

     12,041        11,610        4     11,957        11,597        3

Canada

            

At period end

     651        618        5     651        618        5

Average

     646        613        5     645        612        5

 

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Item 2.

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

 

U.S.

For the three month period ended June 28, 2013, net revenue increased 17% compared to the three month period ended June 29, 2012 primarily due to increases in asset-based fee revenue and trade revenue. Asset-based fee revenue increased 25% ($120.0 million) primarily due to increases in advisory program fee revenue of 31% ($77.1 million) resulting from growth of the client assets under care in advisory programs due to the continued investment of client dollars as well as market increases. The increase to trade revenue of 14% ($75.8 million) is primarily due to the impact of increased client dollars invested and the impact of one additional business day in the second quarter of 2013 compared to the second quarter of 2012, partially offset by a decrease in the margin earned on client dollars invested.

Operating expenses (excluding variable compensation) increased 15% in the second quarter of 2013 primarily due to increases in financial advisor compensation and salary and fringe benefits. Higher financial advisor compensation was 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 wage increases and more personnel to support increased productivity of the Partnership’s financial advisor network as well as higher healthcare costs.

For the six month period ended June 28, 2013, net revenue increased 14% compared to the six month period ended June 29, 2012 primarily due to increases in asset-based fee revenue and trade revenue. Asset-based fee revenue increased 22% ($206.3 million) primarily due to increases in advisory program fee revenue of 27% ($134.7 million) resulting from growth of the client assets under care in advisory programs due to the continued investment of client dollars as well as market increases. The increase to trade revenue of 11% ($111.6 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 and the impact of one less business day in the first half of 2013 compared to the first half of 2012.

Operating expenses (excluding variable compensation) increased 12% in the first half of 2013 primarily due to increases in financial advisor compensation and salary and fringe benefits. Higher financial advisor compensation was 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 wage increases and more personnel to support increased productivity of the Partnership’s financial advisor network as well as higher healthcare costs.

Canada

Net revenue increased 9% in the second quarter of 2013 primarily due to increases in trade revenue and asset-based fee revenue. Trade revenue increased 11% ($2.7 million) primarily due to an increase in client dollars invested and the impact of one additional business day in the second quarter of 2013 compared to the second quarter of 2012, partially offset by a decrease in the margin earned on client dollars invested. The increase in client dollars invested is consistent with the higher levels of client activity and favorable market conditions, reflected in the 3% increase in the daily average of the Toronto Stock Exchange. Asset-based fee revenue increased 18% ($2.3 million) primarily due to an increase in service fee revenue of 18% ($2.0 million) resulting from increases in client dollars invested and the market value of the underlying assets.

 

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Item 2.

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

 

Operating expenses (excluding variable compensation) increased 7% in the second quarter of 2013 primarily due to higher financial advisor compensation caused by an increase in trade and asset-based fee revenues on which financial advisor commissions are paid.

As a result, pre-variable income improved from $0.9 million in the second quarter of 2012 to $1.8 million in the second quarter of 2013. Improvement in the Canada segment is due in part to the continued strategic focus to achieve profitability. This includes several strategic initiatives to increase revenue and control 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.

For the six month period ended June 28, 2013, net revenue increased 14% primarily due to increases in trade revenue and asset-based fee revenue. Trade revenue increased 10% ($5.4 million) primarily due to an increase in client dollars invested, partially offset by the impact of one less business day in the first half of 2013 compared to the first half of 2012 and a decrease in the margin earned on client dollars invested. The increase in client dollars invested is consistent with the higher levels of client activity and favorable market conditions, reflected in the 3% increase in the daily average of the Toronto Stock Exchange. Asset-based fee revenue increased 16% ($4.0 million) primarily due to an increase in service fee revenue of 15% ($3.4 million) resulting from increases in client dollars invested and the market value of the underlying assets.

Operating expenses (excluding variable compensation) increased 8% in the second quarter of 2013 primarily due to higher financial advisor compensation caused by an increase in trade and asset-based fee revenues on which financial advisor commissions are paid.

As a result, pre-variable income (loss) improved from a loss of $0.2 million in the first half of 2012 to income of $4.8 million in the first half of 2013. Improvement in the Canada segment is due in part to the continued strategic focus to achieve profitability in Canada. This includes several strategic initiatives to increase revenue and control 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.

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

LEGISLATIVE AND REGULATORY REFORM

As discussed more fully in the “Legislative and Regulatory Initiatives” risk factor in Part I, Item 1A – Risk Factors of the Partnership’s Annual Report and updated below, the Partnership continues to monitor several regulatory initiatives and proposed or potential rules (“Regulatory Initiatives”), including the possibility of 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. The regulatory activities that occurred during the first half of 2013 have not materially changed the Partnership’s view of the potential impact to the Partnership of these Regulatory Initiatives. The Regulatory Initiatives may impact the manner in which the Partnership markets its products and services, manages its business and operations, and interacts with clients and regulators, any or 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 any Regulatory Initiatives will be enacted or the impact that any Regulatory Initiatives will have on the Partnership.

Money Market Mutual Funds. On June 5, 2013, the SEC proposed rules to further reform money market mutual funds. The proposal includes two alternative reforms, which could be adopted separately or in combination. The first alternative would require institutional prime funds to move to a floating net asset value (“NAV”). Alternative one would maintain the stable NAV for all government money market funds and other retail money market funds, defined by the proposal as any money market funds that limit shareholder redemptions to no more than $1 million per business day. Alternative two would permit money market funds to maintain a stable NAV, but provide for liquidity fees and redemption gates as a mechanism to counter shareholder redemptions in times of market stress. This alternative would require a non-government money market fund’s board to impose a two percent liquidity fee if a fund’s level of liquid assets falls below 15% of the fund’s total assets, unless the board determines this is not in the shareholder’s best interest. The fund board could also postpone or gate shareholder redemptions for up to 30 days should a fund fall below the 15% threshold. The SEC’s proposal also includes additional diversification and disclosure requirements that would apply under either alternative. The Partnership cannot predict with any certainty whether the SEC will adopt one of these alternatives, a hybrid approach combining the two alternatives, or decide to take a completely different approach to money market reform based on the written comments received from interested parties to this proposal.

MUTUAL FUNDS AND ANNUITIES

The Partnership derived 76% of its total revenue from sales and services related to mutual fund and annuity products in both the three and six month periods ended June 28, 2013, and 74% and 73% in the three and six month periods ended June 29, 2012, respectively. In addition, the Partnership derived from one mutual fund vendor 20% of its total revenue for both the three and six month periods ended June 28, 2013 and 19% of its total revenue for both the three and six month periods ended June 29, 2012. 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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PART I. FINANCIAL INFORMATION

 

Item 2.

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, distributions to partners 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.

 

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PART I. FINANCIAL INFORMATION

 

Item 2.

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

 

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 June 28, 2013, net of reserve for anticipated withdrawals, was $1.8 billion, a slight decrease of $1.6 million from December 31, 2012. This slight decrease in the Partnership’s capital subject to mandatory redemption was primarily due to the redemption of limited partner, subordinated limited partner and general partner interests ($5.3 million, $9.6 million and $92.4 million, respectively) and the increase of partnership loans outstanding during the current quarter ($60.9 million), partially offset by the retention of general partner earnings ($34.3 million) and additional capital contributions related to subordinated limited partner and general partner interests ($31.1 million and $101.2 million, respectively). During the six month periods ended June 28, 2013 and June 29, 2012, the Partnership retained 13.8% and 23.0%, 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 did not 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.

The Partnership makes loans available to those general partners (other than members of the Executive Committee) who require financing for some or all of their partnership capital contributions. Additionally, in limited circumstances a general partner may withdraw from the Partnership and become a subordinated limited partner while he or she still has an outstanding partnership loan. Loans made by the Partnership to 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 recognizes interest income for the interest received related to these loans. 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. Prior to 2013, bank loans administered by the Partnership and entered into by general or subordinated limited partners to finance their capital contributions in the Partnership were repaid prior to any application of earnings towards that partner’s partnership loan. Effective January 18, 2013, there were no partnership administered bank loans outstanding related to capital contributions of general or subordinated limited partners. The Partnership paid, through earnings on behalf of the general

 

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Item 2.

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

 

and subordinated limited partners, the $35.4 million outstanding balance 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. It is anticipated that all future general and subordinated limited partnership capital contributions (other than for Executive Committee members) that require financing will be financed through partnership loans. The Partnership has full recourse against any partner that defaults on loan obligations to the Partnership. The Partnership does not anticipate that partner loans will have an adverse impact on the Partnership’s short-term liquidity or capital resources.

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 capital contributions is in the form of unsecured bank loan agreements and are between the individual and the bank. The Partnership does not guarantee these bank loans, nor can the partner pledge his or her partnership interest as collateral for the bank loan. The Partnership performs certain administrative functions in connection with its limited partners who have elected to finance a portion of their partnership capital contributions through individual unsecured bank loan agreements from banks with whom the Partnership has other banking relationships. For all limited partner capital contributions 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 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, partners who finance all or a portion of their capital contributions 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 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 2.

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 June 28, 2013  

($ in thousands)

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

Partnership capital(1):

        

Total partnership capital

   $ 645,464      $ 305,215      $ 1,091,127      $ 2,041,806   
  

 

 

   

 

 

   

 

 

   

 

 

 

Partnership capital owned by partners with individual loans

   $ 153,737      $ 525      $ 577,823      $ 732,085   
  

 

 

   

 

 

   

 

 

   

 

 

 

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

     23.8     0.2     53.0     35.9

Partner loans:

        

Bank loans

   $ 34,870      $ —        $ —        $ 34,870   

Partnership loans

     —          144        231,008        231,152   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total loans

   $ 34,870      $ 144      $ 231,008      $ 266,022   
  

 

 

   

 

 

   

 

 

   

 

 

 

Partner loans as a percent of total partnership capital

     5.4     0.0     21.2     13.0

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

     22.7     27.4     40.0     36.3

 

(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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Partnership Lines of Credit

The following table shows the composition of the Partnership’s aggregate bank lines of credit in place as of:

 

($ in thousands)

   June 28,
2013
     December 31,
2012
 

2011 Credit Facility

   $ 395,000       $ 395,000   

Uncommitted secured credit facilities

     415,000         415,000   
  

 

 

    

 

 

 

Total bank lines of credit

   $ 810,000       $ 810,000   
  

 

 

    

 

 

 

In March 2011, the Partnership entered into the 2011 Credit Facility, which has an expiration 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.

Actual borrowing availability on the uncommitted 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 June 28, 2013 and December 31, 2012. In addition, the Partnership did not have any draws against these lines of credit during the six and twelve month periods ended June 28, 2013 and December 31, 2012, respectively.

The Partnership is in compliance with all covenants related to its outstanding debt agreements as of June 28, 2013. For further details on covenants, see discussion regarding debt covenants in the Notes to the Consolidated Financial Statements.

Cash Activity

As of June 28, 2013, the Partnership had $425.1 million in cash and cash equivalents and $759.8 million in securities purchased under agreements to resell, which have maturities of less than one week. This totals $1,184.9 million of Partnership liquidity as of June 28, 2013, a 30% ($508.6 million) decrease from $1,693.5 million at December 31, 2012. This decrease is primarily due to the $309.5 million decrease in the net payable to clients. In addition, the Partnership had $7,787.1 million and $7,714.6 million in cash and investments segregated under federal regulations as of June 28, 2013 and December 31, 2012, respectively, which was not available for general use.

 

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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 Edward Jones’ 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.

The following table shows the Partnership’s net capital figures for its U.S. and Canada broker-dealers as of ($ in millions):

 

     June 28,
2013
    December 31,
2012
    % Change  

U.S.:

      

Net capital

   $ 691.3      $ 711.9        -3

Net capital in excess of the minimum required

   $ 649.5      $ 670.1        -3

Net capital as a percentage of aggregate debit items

     33.0     34.0     -3

Net capital after anticipated capital withdrawals, as a percentage of aggregate debit items

     21.1     18.5     14

Canada:

      

Regulatory risk adjusted capital

   $ 33.0      $ 38.5        -14

Regulatory risk adjusted capital in excess of the minimum required to be held by IIROC

   $ 28.9      $ 27.6        5

Net capital and the related capital percentages may fluctuate on a daily basis. In addition, EJTC was in compliance with its 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.

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.

 

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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 450. See Note 8 to the Consolidated Financial Statements and Part II, Item 1 – 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.

Included in Item 3 – 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 inventories and receivables less liabilities. 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.

 

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FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q, and in particular Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements within the meaning of the federal 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 in the fair value of securities; and (10) the risks discussed under the caption “Risk Factors” in the Partnership’s Annual Report and subsequent Quarterly Reports on Form 10-Q. 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 3.

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 the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of the Partnership’s Annual Report.

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 $2.1 billion and $8.4 billion for the six month period ended June 28, 2013, 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 $73 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 the first six months of 2013, 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 investment adviser to the Edward Jones money market funds is also impacted by changes in interest rates. As discussed in Note 1 to the Consolidated Financial Statements, as a 49.5% limited partner of Passport Research Ltd., the investment adviser to some of the money market funds made available to Edward Jones clients, the Partnership receives a portion of the income of the investment adviser. Due to the 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 $48 million and $44 million for the six month periods ended June 28, 2013 and June 29, 2012, respectively, or approximately $95 million annually, 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 approximately $95 million.

 

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ITEM 4.

CONTROLS AND PROCEDURES

The Partnership maintains a system of disclosure controls and procedures which are designed to ensure that information required to be disclosed by th