10-Q 1 apam-2013x9x30x10q.htm 10-Q APAM-2013-9-30-10Q
 


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

Form 10-Q

(Mark One)
 
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2013
OR
o
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: 001-35826
 
Artisan Partners Asset Management Inc.
(Exact name of registrant as specified in its charter)

Delaware
45-0969585
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
875 E. Wisconsin Avenue, Suite 800
Milwaukee, WI
53202
(Address of principal executive offices)
(Zip Code)
 
 

(414) 390-6100
(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 þ No o

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 þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
 
 
Accelerated filer o
Non-accelerated filer þ
(Do not check if a smaller reporting company)
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

The number of outstanding shares of the registrant’s Class A common stock, par value $0.01 per share, Class B common stock, par value $0.01 per share, and Class C common stock, par value $0.01 per share, as of November 6, 2013 were 19,807,436, 25,629,149 and 24,849,294, respectively.
 



TABLE OF CONTENTS
 
 
Page
Part I
Financial Information
 
Item 1.
Unaudited Consolidated Financial Statements
 
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
Part II
Other Information
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
Except where the context requires otherwise, in this report, references to the "Company", "Artisan", "we", "us" or "our" refer to Artisan Partners Asset Management Inc. ("APAM") and its consolidated subsidiaries, including Artisan Partners Holdings LP ("Artisan Partners Holdings" or "Holdings"). On March 12, 2013, APAM closed its initial public offering and related corporate reorganization. Prior to that date, APAM was a subsidiary of Artisan Partners Holdings. The reorganization and initial public offering are described in the notes to our consolidated financial statements included in Part I of this Form 10-Q.
Forward-Looking Statements
This report contains, and from time to time our management may make, forward-looking statements within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. In some cases, you can identify these statements by forward-looking words such as “may”, “might”, “will”, “should”, “expects”, “intends”, “plans”, “anticipates”, “believes”, “estimates”, “predicts”, “potential” or “continue”, the negative of these terms and other comparable terminology. These forward-looking statements, which are subject to risks, uncertainties and assumptions, may include projections of our future financial performance, future expenses, anticipated growth strategies, descriptions of new business initiatives and anticipated trends in our business or financial results. These statements are only predictions based on our current expectations and projections about future events. Among the important factors that could cause actual results, level of activity, performance or achievements to differ materially from those indicated by such forward-looking statements are: fluctuations in quarterly and annual results, adverse economic or market conditions, incurrence of net losses, adverse effects of management focusing on implementation of a growth strategy, failure to develop and maintain the Artisan Partners brand and other factors disclosed under “Risk Factors” in our prospectus dated October 31, 2013, filed with the Securities and Exchange Commission in accordance with Rule 424(b) of the Securities Act of 1933, which is accessible on the SEC's website at www.sec.gov. We undertake no obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise, except as required by law.
Forward-looking statements include, but are not limited to, statements about:
our anticipated future results of operations;



our potential operating performance and efficiency;
our expectations with respect to future levels of assets under management, inflows and outflows;
our financing plans, cash needs and liquidity position;
our intention to pay dividends and our expectations about the amount of those dividends;
our expected levels of compensation of our employees;
our expectations with respect to future expenses and the level of future expenses;
our expected tax rate, and our expectations with respect to deferred tax assets; and
our estimates of future amounts payable pursuant to our tax receivable agreements and the contingent value rights we have issued.







Part I — Financial Information
Item 1. Financial Statements
ARTISAN PARTNERS ASSET MANAGEMENT INC.
Unaudited Condensed Consolidated Statements of Financial Condition
(U.S. dollars in thousands, except per share amounts)
 
September 30,
2013
 
December 31,
2012
ASSETS
Cash and cash equivalents
$
275,927

 
$
141,159

Cash and cash equivalents of Launch Equity
18,420

 
10,180

Accounts receivable
59,398

 
46,022

Accounts receivable of Launch Equity
15,187

 
10,595

Investment securities
23,649

 
15,241

Investment securities of Launch Equity
65,341

 
46,237

Property and equipment, net
8,491

 
8,807

Deferred tax assets
64,754

 

Prepaid expenses and other assets
10,620

 
9,319

Total assets
$
541,787

 
$
287,560

LIABILITIES, REDEEMABLE PREFERRED UNITS AND STOCKHOLDERS' EQUITY (DEFICIT)
Accounts payable, accrued expenses, and other
$
42,930

 
$
50,266

Accrued incentive compensation
83,832

 
7,254

Borrowings
200,000

 
290,000

Class B liability awards

 
225,249

Amounts payable under tax receivable agreements
53,975

 

Contingent value rights
15,080

 

Payables of Launch Equity
14,533

 
10,726

Securities sold, not yet purchased of Launch Equity
35,497

 
19,586

Total liabilities
$
445,847

 
$
603,081

Commitments and contingencies


 


Redeemable preferred units

 
357,194

Common stock
 
 
 
Class A common stock ($0.01 par value per share, 500,000,000 shares authorized and 14,287,436 outstanding at September 30, 2013)
143

 

Class B common stock ($0.01 par value per share, 200,000,000 shares authorized and 25,629,149 outstanding at September 30, 2013)
256

 

Class C common stock ($0.01 par value per share, 400,000,000 shares authorized and 29,001,959 outstanding at September 30, 2013)
290

 

Convertible preferred stock ($0.01 par value per share, 15,000,000 shares authorized and 2,565,463 outstanding at September 30, 2013)
74,748

 

Additional paid-in capital
(60,305
)
 

Retained earnings
8,601

 

Accumulated other comprehensive income (loss)
826

 

Total stockholders’ equity
24,559

 

Noncontrolling interest - Artisan Partners Holdings
22,464

 
(709,414
)
Noncontrolling interest - Launch Equity
48,917

 
36,699

Total equity (deficit)
95,940

 
(672,715
)
Total liabilities, redeemable preferred units and equity (deficit)
$
541,787

 
$
287,560


The accompanying notes are an integral part of the consolidated financial statements.

1


ARTISAN PARTNERS ASSET MANAGEMENT INC.
Unaudited Consolidated Statements of Operations
(U.S. dollars in thousands, except per share amounts)
 
 For the Three Months Ended September 30,
 
 For the Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Revenues
 
 
 
 
 
 
 
Management fees
$
178,092

 
$
128,044

 
$
488,222

 
$
368,191

Performance fees

 
39

 
26

 
351

Total revenues
$
178,092

 
$
128,083

 
$
488,248

 
$
368,542

Operating Expenses
 
 
 
 
 
 
 
Compensation and benefits
 
 
 
 
 
 
 
Salaries, incentive compensation and benefits
79,470

 
56,401

 
221,401

 
165,655

Pre-offering related compensation - share-based awards
23,441

 
56,023

 
380,523

 
85,907

Pre-offering related compensation - other

 
32,065

 
143,035

 
53,960

Total compensation and benefits
102,911

 
144,489

 
744,959

 
305,522

Distribution and marketing
10,093

 
7,216

 
27,116

 
21,424

Occupancy
2,609

 
2,294

 
7,781

 
6,809

Communication and technology
3,464

 
3,456

 
10,309

 
9,875

General and administrative
5,655

 
8,846

 
17,653

 
17,258

Total operating expenses
124,732

 
166,301

 
807,818

 
360,888

Total operating income (loss)
53,360

 
(38,218
)
 
(319,570
)
 
7,654

Non-operating income (loss)
 
 
 
 
 
 
 
Interest expense
(2,885
)
 
(2,914
)
 
(8,986
)
 
(8,146
)
Net gains of Launch Equity
5,499

 
6,935

 
9,068

 
8,474

Loss on interest rate swap

 
(17
)
 

 
(69
)
Loss on debt extinguishment

 
(827
)
 

 
(827
)
Net gain on the valuation of contingent value rights
6,940

 

 
40,360

 

Other non-operating expense

 
(682
)
 

 
(682
)
Total non-operating income (loss)
9,554

 
2,495

 
40,442

 
(1,250
)
Income (loss) before income taxes
62,914

 
(35,723
)
 
(279,128
)
 
6,404

Provision for income taxes
6,824

 
243

 
17,146

 
822

Net income (loss) before noncontrolling interests
56,090

 
(35,966
)
 
(296,274
)
 
5,582

Less: Net income (loss) attributable to noncontrolling interests - Artisan Partners Holdings
44,614

 
(42,901
)
 
(320,067
)
 
(2,892
)
Less: Net income attributable to noncontrolling interests - Launch Equity
5,499

 
6,935

 
9,068

 
8,474

Net income attributable to Artisan Partners Asset Management Inc.
$
5,977

 
$

 
$
14,725

 
$

 
July 1, 2013 to September 30, 2013
 
 
 
March 12, 2013 to September 30, 2013
 
 
Earnings per share
 
 
 
 
 
 
 
Basic
$
0.42

 
 
 
$
0.97

 
 
Diluted
$
0.35

 
 
 
$
0.90

 
 
Weighted average number of common shares outstanding
 
 
 
 
 
 
 
Basic
12,728,949

 
 
 
12,728,949

 
 
Diluted
15,294,412

 
 
 
15,294,412

 
 
The accompanying notes are an integral part of the consolidated financial statements.

2


ARTISAN PARTNERS ASSET MANAGEMENT INC.
Unaudited Consolidated Statements of Comprehensive Income (Loss)
(U.S. dollars in thousands)
 
 For the Three Months Ended September 30,
 
 For the Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Net income (loss) before noncontrolling interests
$
56,090

 
$
(35,966
)
 
$
(296,274
)
 
$
5,582

Other comprehensive income (loss), net of tax
 
 
 
 
 
 
 
Unrealized gains on investment securities:
 
 
 
 
 
 
 
Unrealized holding gains on investment securities, net of tax of $406, $0, $453 and $0, respectively
1,004

 
1,233

 
2,955

 
2,471

Less: reclassification adjustment for gains (losses) included in net income

 

 

 

Net unrealized gains on investment securities
1,004

 
1,233

 
2,955

 
2,471

Foreign currency translation gain
371

 
87

 
53

 
116

Total other comprehensive income
1,375

 
1,320

 
3,008

 
2,587

Comprehensive income (loss)
57,465

 
(34,646
)
 
(293,266
)
 
8,169

Comprehensive income (loss) attributable to noncontrolling interests - Artisan Partners Holdings
45,250

 
(41,581
)
 
(317,885
)
 
(305
)
Comprehensive income attributable to noncontrolling interests - Launch Equity
5,499

 
6,935

 
9,068

 
8,474

Comprehensive income attributable to Artisan Partners Asset Management Inc.
$
6,716

 
$

 
$
15,551

 
$


The accompanying notes are an integral part of the consolidated financial statements.


3


ARTISAN PARTNERS ASSET MANAGEMENT INC.
Unaudited Consolidated Statements of Changes in Stockholders' Equity
(U.S. dollars in thousands)
 
Common Stock
Convertible Preferred Stock
Additional Paid-in Capital
Retained Earnings
Accumulated Other Comprehensive Income
Noncontrolling interest - Artisan Partners Holdings
Noncontrolling interest - Launch Equity
Total Equity (Deficit)
Redeemable Preferred Units
Balance at December 31, 2012
$

$

$

$

$

$
(709,414
)
$
36,699

$
(672,715
)
$
357,194

Net income (loss)





(434,342
)

(434,342
)

Other comprehensive income





1,065


1,065


Partnership distributions





(100,514
)

(100,514
)

Modification of equity award and other pre-offering related compensation





572,471


572,471


Modification of redeemable preferred units





357,194


357,194

(357,194
)
Initial establishment of contingent value right liability





(55,440
)

(55,440
)

Capital redemption





(16
)

(16
)

Balance at March 12, 2013
$

$

$

$

$

$
(368,996
)
$
36,699

$
(332,297
)
$

 
 
 
 
 
 
 
 
 
 
IPO proceeds





353,414


353,414


Attribution of noncontrolling interest
674

74,748

(58,365
)

662

(17,719
)



Redemption of partnership units





(76,319
)

(76,319
)

Establishment of deferred tax assets, net of amounts payable under tax receivable agreements


18,487





18,487


Net income (loss)



14,725


114,275

9,068

138,068


Other comprehensive income, net of tax




383

1,848


2,231


Cumulative impact of changes in ownership of Artisan Partners Holdings LP, net of tax


(33,247
)

(219
)
33,178


(288
)

Capital contribution






3,150

3,150


Amortization of equity-based compensation


12,835



42,352


55,187


Forfeitures
(1
)

1







Issuance of restricted stock awards
16


(16
)






Distributions





(59,569
)

(59,569
)

Dividends



(6,124
)



(6,124
)

Balance at September 30, 2013
$
689

$
74,748

$
(60,305
)
$
8,601

$
826

$
22,464

$
48,917

$
95,940

$


The accompanying notes are an integral part of the consolidated financial statements.


4


ARTISAN PARTNERS ASSET MANAGEMENT INC.
Unaudited Consolidated Statements of Cash Flows
(U.S. dollars in thousands)
 
 For the Nine Months Ended September 30,
 
2013
 
2012
Cash flows from operating activities
 
 
 
Net income (loss) before noncontrolling interests
$
(296,274
)
 
$
5,582

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
2,284

 
1,644

Deferred income taxes
7,255

 

Net gain on the valuation of contingent value rights
(40,360
)
 

(Gains) losses of Launch Equity, net
(9,068
)
 
(8,474
)
Proceeds from sale of investments by Launch Equity
113,951

 
34,163

Purchase of investments by Launch Equity
(108,416
)
 
(33,137
)
Loss on disposal of property and equipment
6

 
3

Loss on interest rate swap

 
69

Loss on debt extinguishment

 
827

Amortization of debt issuance costs
336

 
519

Share-based compensation
627,657

 

Change in assets and liabilities resulting in an increase (decrease) in cash:
 
 
 
Net change in operating assets and liabilities of Launch Equity
(8,685
)
 
(5,631
)
Accounts receivable
(13,376
)
 
(6,733
)
Prepaid expenses and other assets
(1,592
)
 
(209
)
Accounts payable and accrued expenses
71,888

 
62,920

Class B liability awards
(227,793
)
 
86,155

Deferred lease obligations
(55
)
 
658

Net cash provided by operating activities
117,758

 
138,356

Cash flows from investing activities
 
 
 
Acquisition of property and equipment
(1,466
)
 
(1,744
)
Leasehold improvements
(500
)
 
(766
)
Purchase of investment securities
(5,000
)
 

Change in restricted cash

 
(145
)
Net cash used in investing activities
(6,966
)
 
(2,655
)
Cash flows from financing activities
 
 
 
Partnership distributions
(160,098
)
 
(72,930
)
Dividends paid
(6,124
)
 

Interest rate swap

 
(1,135
)
Change in other liabilities
(47
)
 
87

Payment of debt issuance costs

 
(2,573
)
Proceeds from draw on revolving credit facility

 
90,000

Proceeds from issuance of notes payable

 
200,000

Principal payments on note payable

 
(324,789
)
Repayment under revolving credit facility
(90,000
)
 

Net proceeds from issuance of common stock
356,579

 

Payment of costs directly associated with the issuance of Class A common stock
(3,165
)
 

Purchase of Class A common units
(76,319
)
 

Capital invested into Launch Equity
3,150

 
5,000

Capital distributed by Launch Equity

 
(285
)
Net cash provided by (used in) financing activities
23,976

 
(106,625
)
Net increase (decrease) in cash and cash equivalents
134,768

 
29,076

Cash and cash equivalents
 
 
 
Beginning of period
141,159

 
126,956

End of period
$
275,927

 
$
156,032

Supplementary information
 
 
 
Noncash activity:
 
 
 
Issuance of preferred stock
$
74,748

 
$

Initial establishment of deferred tax assets
70,862

 

Initial establishment of amounts payable under tax receivable agreements
53,449

 

Initial establishment of contingent value rights
55,440

 


The accompanying notes are an integral part of the consolidated financial statements.

5


ARTISAN PARTNERS ASSET MANAGEMENT INC.
Notes to Unaudited Consolidated Financial Statements
(U.S. currencies in thousands, except per share or per unit amounts and as otherwise indicated)
Note 1. Organization and nature of business
Organization
On March 12, 2013, Artisan Partners Asset Management Inc. ("APAM") completed an initial public offering of 12,712,279 Class A common shares (the "IPO"). APAM was formed in 2011 as a subsidiary of Artisan Partners Holdings LP ("Artisan Partners Holdings" or "Holdings"). APAM was formed for the purpose of becoming the general partner of Holdings in connection with the IPO. The reorganization established the necessary corporate structure to complete the IPO while at the same time preserving the ability of the firm to conduct operations through Holdings and its subsidiaries. See Note 2, "Reorganization and IPO" for more information on the reorganization and IPO".
As part of the reorganization, APAM became the sole general partner of Holdings. As the sole general partner, APAM controls the business and affairs of Holdings. As a result, APAM consolidates Holdings' financial statements and records a noncontrolling interest for the economic interests in Holdings held by the limited partners of Holdings. At September 30, 2013, APAM's total economic interest in Holdings approximated 24% of Holdings' economics.
Artisan Partners Asset Management has been allocated a part of Artisan Partners Holdings' net income since March 12, 2013, when it became Artisan Partners Holdings' general partner.
On November 6, 2013, APAM completed an offering of 5,520,000 shares of Class A common stock and utilized all of the net proceeds to purchase from private equity funds controlled by Hellman & Friedman LLC, 4,152,665 preferred units of Artisan Partners Holdings ("Holdings"), our direct subsidiary, and 1,367,335 shares of our convertible preferred stock. Because the offering occurred subsequent to September 30, 2013, the impact of the offering, including the cancellation of the CVRs in connection with the offering, is not reflected in APAM's September 30, 2013 consolidated financial statements. See Note 16, "Subsequent Events".
Nature of Business
Artisan is an investment management firm focused on providing high-value added, active investment strategies to sophisticated clients globally. Artisan's operations are conducted through Artisan Partners Holdings and its subsidiaries.
Artisan has five autonomous investment teams that oversee thirteen distinct U.S., non-U.S. and global investment strategies.
Each strategy is offered through multiple investment vehicles to accommodate a broad range of client mandates. Artisan offers its investment management services primarily to institutions and through intermediaries that operate with institutional-like decision-making processes and have long-term investment horizons.
Note 2. Reorganization and IPO
Reorganization
In connection with the IPO, APAM and Holdings entered into a series of transactions in order to reorganize their capital structures and complete the IPO. The reorganization transactions included, among others, the following:
Appointment of APAM as the sole general partner of Holdings.
Modification of APAM's capital structure into three classes of common stock and a series of convertible preferred stock. Shares of Class B common stock, Class C common stock and convertible preferred stock were issued to pre-IPO partners of Holdings. A description of these shares is included in Note 10, "Stockholders' Equity".
Merger (the "H&F Corp Merger") into APAM of a corporation ("H&F Corp") that at the time of the merger was a holder of preferred units and contingent value rights ("Partnership CVRs") issued by Holdings and Class C common stock of APAM. As consideration for the merger, the shareholder of H&F Corp received shares of APAM's convertible preferred stock, contingent value rights ("APAM CVRs") issued by APAM, and the right to receive an amount of cash equal to H&F Corp's share of the post-IPO distribution of Holdings pre-IPO retained profits.
Entry by APAM into two tax receivable agreements ("TRAs"), one with the pre-merger shareholder of H&F Corp and the other with each limited partner of Holdings. Pursuant to the first TRA, APAM will pay to the counterparty a portion of certain tax benefits realized by APAM as a result of the H&F Corp Merger. Pursuant to the second TRA, APAM will pay to the counterparties a portion of certain tax benefits realized by APAM as a result of the purchase of Class A common units in connection with the IPO and future redemptions or exchanges of limited partner units of Holdings for APAM Class A common stock. The TRAs are further described in Note 3, "Summary of Significant Accounting Policies - Tax Receivable Agreements".

6



Because APAM and Holdings were under common control at the time of the reorganization, APAM's acquisition of control of Holdings was accounted for as a transaction among entities under common control. The consolidated financial statements of APAM reflect the following:
Statements of Financial Condition - The assets, liabilities and equity of Holdings and of APAM have been carried forward at their historical carrying values. The historical partners' deficit of Holdings is reflected as a noncontrolling interest.
Statements of Operations, Comprehensive Income and Cash Flows - The historical consolidated statements of Holdings have been consolidated with the statements of operations, comprehensive income and cash flows of APAM.
Modification of Artisan Partners Holdings' Units
As part of the reorganization, the limited partner units of Holdings were modified. In addition to modification of the voting and other rights with respect to each class of units, the following modifications were made to the Class B common units and the preferred units:
The Class B common units of Holdings, which are held by employee-partners, were modified to eliminate a cash redemption feature. Prior to the reorganization, the terms of the Class B unit award agreements required Holdings to redeem the units from a holder whose employment by Artisan had been terminated. As a result of the redemption feature, Artisan was required to account for the Class B units as liability awards. At the time of the IPO, the amount of the liability was increased to $552.0 million to reflect the value implied by the IPO valuation. Thereafter, as a result of the elimination of the redemption feature, Artisan reclassified the entire liability to equity. Any Class B awards that were unvested at the time of the reorganization will be reflected as "Pre-offering related compensation - share-based awards" over the remaining vesting period (see Note 11, "Compensation and Benefits").
The preferred units of Holdings were modified to eliminate the associated put right. In exchange for the elimination of the put right, Holdings issued Partnership CVRs to the holders of the preferred units. The CVRs were classified as liabilities and the preferred units were reclassified to permanent equity after the modification. As discussed above, in conjunction with the H&F Corp Merger, Artisan Partners Asset Management received the modified preferred units and partnership CVRs and issued to the H&F holders convertible preferred stock and APAM CVRs. For each outstanding APAM CVR, APAM was issued one Partnership CVR. The convertible preferred stock and APAM CVRs issued are recorded at the carryover basis of the preferred units and Partnership CVRs originally held by the H&F holders. On November 6, 2013, all of the CVRs were terminated without any payment by us.
IPO and Use of Proceeds
The net proceeds from the IPO were $353.4 million. In connection with the IPO, Artisan used cash on hand to make cash incentive payments aggregating $56.8 million to certain of its portfolio managers. Artisan used a portion of the IPO net proceeds, combined with remaining cash on hand, for the following:
Retained profits distributions to pre-IPO partners
 
$
105,301

Repayment of principal amounts under the revolving credit agreement (see Note 6, "Borrowings")
 
90,000

Purchase of 2,720,823 Class A common units from certain investors
 
76,319

Total
 
$
271,620

Artisan is using the remaining proceeds for general corporate purposes.
Note 3. Summary of Significant Accounting Policies
Basis of presentation
The accompanying financial statements are unaudited. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of such consolidated financial statements have been included. Such interim results are not necessarily indicative of full year results. The consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP") for interim financial reporting and accordingly they do not include all of the information and footnotes required in the annual consolidated financial statements and accompanying footnotes. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP. The consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2012 of APAM included in APAM's prospectus dated October 31, 2013, filed with the SEC in accordance with Rule 424(b) of the Securities Act of 1933 on November 1, 2013, which is accessible on the SEC's website at www.sec.gov.
The accompanying financial statements were prepared in accordance with U.S. GAAP and related rules and regulations of the SEC. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates or assumptions that affect the reported amounts and disclosures in the financial statements. Actual results could differ from these estimates or assumptions.

7


Principles of consolidation
Artisan’s policy is to consolidate all subsidiaries in which it has a controlling financial interest and variable interest entities ("VIEs") of which Artisan is deemed to be the primary beneficiary. The primary beneficiary is deemed to be the entity that has the power to govern the financial and operating policies of the subsidiary so as to obtain benefits from its activities. The Consolidated Financial Statements include the accounts of APAM, all subsidiaries in which APAM has a direct or indirect controlling financial interest and VIEs of which Artisan is deemed to be the primary beneficiary. All material intercompany balances have been eliminated in consolidation.
At September 30, 2013 and December 31, 2012, Artisan's wholly-owned subsidiary, Artisan Partners Alternative Investments GP LLC, was the general partner of Artisan Partners Launch Equity LP ("Launch Equity"), a private investment partnership that is considered a VIE. Launch Equity is considered an investment company and therefore accounted for under Accounting Standard Codification Topic 946, "Financial Services – Investment Companies". Artisan has retained the specialized industry accounting principles of this investment company in its Consolidated Financial Statements. See Note 9, "Variable and Voting Interest Entities" for additional details.
Tax Receivable Agreements ("TRAs")
In connection with the IPO, APAM entered into two tax receivable agreements. Under the first TRA, APAM generally is required to pay to the holders of convertible preferred stock issued as consideration for the H&F Corp Merger (or Class A common stock issued upon conversion of that convertible preferred stock) 85% of the applicable cash savings, if any, in U.S. federal and state income tax that APAM actually realizes (or is deemed to realize in certain circumstances) as a result of (i) the tax attributes of the preferred units APAM acquired in the merger, (ii) net operating losses available as a result of the merger and (iii) tax benefits related to imputed interest.
Under the second TRA, APAM generally is required to pay to the holders of limited partnership units of Holdings (or Class A common stock or convertible preferred stock issued upon exchange of limited partnership units) 85% of the applicable cash savings, if any, in U.S. federal and state income tax that APAM actually realizes (or is deemed to realize in certain circumstances) as a result of (i) certain tax attributes of their units sold to APAM or exchanged (for shares of Class A common stock or convertible preferred stock) and that are created as a result of the sales or exchanges and payments under the TRAs and (ii) tax benefits related to imputed interest. Under both agreements, APAM generally will retain the benefit of the remaining 15% of the applicable tax savings.
For purposes of the TRAs, cash savings in tax are calculated by comparing APAM's actual income tax liability to the amount it would have been required to pay had it not been able to utilize any of the tax benefits subject to the TRAs, unless certain assumptions apply. The TRAs will continue in effect until all such tax benefits have been utilized or expired, unless APAM exercises its right to terminate the agreements or payments under the agreements are accelerated in the event that APAM materially breaches any of its material obligations under the agreements. The actual increase in tax basis, as well as the amount and timing of any payments under these agreements, will vary depending upon a number of factors, including the timing of exchanges by the holders of limited partnership units, the price of the Class A common stock or the value of the convertible preferred stock, as the case may be, at the time of the exchange, whether such exchanges are taxable, the amount and timing of the taxable income APAM generates in the future and the tax rate then applicable and the portion of APAM's payments under the TRAs constituting imputed interest.
Payments under the TRAs, if any, will be made pro rata among all TRA counterparties entitled to payments on an annual basis to the extent APAM has sufficient taxable income to utilize the increased depreciation and amortization charges. We expect to make payments under the TRAs, to the extent they are required, within 125 days after APAM's federal income tax return is filed for each fiscal year. Interest on such payments will begin to accrue at a rate equal to one-year LIBOR plus 100 basis points from the due date (without extension) of such tax return.
Comprehensive income (loss)
Total comprehensive income (loss) includes net income and other comprehensive income. Other comprehensive income (loss) consists of the change in unrealized gains (losses) on available-for-sale investments and foreign currency translation, net of related tax effects. The tax effects of components of other comprehensive income (loss) is calculated on the portion of comprehensive income (loss) attributable to APAM.

8


Accumulated Other Comprehensive Income (Loss), net of tax, in the accompanying Unaudited Condensed Consolidated Statements of Financial Condition represents the portion of accumulated other comprehensive income attributable to APAM, and consists of the following:
 
As of September 30,
2013
 
As of December 31,
2012
Unrealized gain on investments
$
800

 
$

Foreign currency translation
26

 

Accumulated Other Comprehensive Income (Loss)
$
826

 
$

Comprehensive income (loss) attributable to noncontrolling interests - Artisan Partners Holdings on the Unaudited Consolidated Statements of Comprehensive Income (Loss) represents the portion of comprehensive income (loss) attributable to the economic interests in Holdings held by the limited partners of Holdings. For periods prior to the IPO, all comprehensive income (loss) is entirely attributable to noncontrolling interests.
Recent accounting pronouncements
In December 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2011-11, Disclosures about Offsetting Assets and Liabilities. The ASU requires an entity to disclose information about offsetting and related arrangements for financial and derivative instruments to provide information on the effect of those arrangements on its financial position. In January 2013, the FASB also issued ASU 2013-01, Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities. This ASU clarifies the scope of ASU 2011-11 to specify the disclosures apply to derivatives accounted for in accordance with ASC Topic 815, Derivatives and Hedging, including bifurcated embedded derivatives, repurchase agreements and reverse repurchase agreements, and securities borrowing and securities lending transactions that are either offset in accordance with ASC 210-20-45 or ASC 815-10-45 or subject to an enforceable master netting arrangement or similar agreement. These amendments are effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. The adoption of ASU 2011-11 and ASU 2013-01 did not have an impact on our financial statements.
In February 2013, the FASB issued ASU 2013-02, Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. The ASU requires an entity to provide information about the amounts reclassified out of accumulated other comprehensive income by component. The ASU also requires presentation, either on the face of the statement where net income is presented or in the notes to the financial statements, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income. However, such disclosure is only required if the amount reclassified is required under U.S. GAAP to be reclassified to net income in its entirety in the same reporting period. For other amounts that are not required to be reclassified in their entirety to net income, an entity should cross-reference to other disclosures that provide additional detail about those amounts. For public entities, the ASU is effective prospectively for reporting periods beginning after December 15, 2012. The adoption of ASU 2013-02 did not have an impact on our financial statements.
In March 2013, the FASB issued ASU 2013-05, Parent’s Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity. The ASU clarifies the interaction between ASC 810-10, Consolidation—Overall, and ASC 830-30, Foreign Currency Matters—Translation of Financial Statements, when releasing the cumulative translation adjustment into net income when a parent either sells a part or all of its investment in a foreign entity or no longer holds a controlling financial interest in a subsidiary or group of assets that is a nonprofit activity or a business (other than a sale of in substance real estate or conveyance of oil and gas mineral rights) within a foreign entity. The ASU is effective prospectively for fiscal years, and interim periods within those years, beginning after December 15, 2013. We do not currently expect the adoption of this ASU to have an impact on our financial statements.
In June 2013, the FASB issued ASU 2013-08, Investment Companies (Topic 946). The ASU changes the approach to the investment company assessment in Topic 946, clarifying the characteristics of an investment company and provides comprehensive guidance for assessing whether an entity is an investment company. This update would also require an investment company to measure noncontrolling ownership interests in other investment companies at fair value rather than using the equity method of accounting and to include additional disclosures. The ASU is effective for reporting periods beginning after December 15, 2013. We are currently evaluating the impact of this ASU on Launch Equity for 2014.

9


Note 4. Investment Securities
The disclosures below include details of Artisan’s investments. Investments held by Launch Equity are described in Note 9, "Variable and Voting Interest Entities".
 
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
At September 30, 2013
 
 
 
 
 
 
 
Equity mutual funds
$
18,335

 
$
5,314

 
$

 
$
23,649

At December 31, 2012
 
 
 
 
 
 
 
Equity mutual funds
$
13,335

 
$
1,906

 
$

 
$
15,241

Artisan’s investments in equity mutual funds consist of investments in shares of Artisan Partners Funds, Inc. and Artisan Partners Global Funds plc and are considered to be available-for-sale securities. As a result, unrealized gains (losses) are recorded to Accumulated other comprehensive income (loss).
As of September 30, 2013 and December 31, 2012, Artisan held no available-for-sale securities in an unrealized loss position.
Note 5. Fair Value Measurements
The table below presents information about Artisan’s assets and liabilities that are measured at fair value and the valuation techniques we utilized to determine such fair value. The fair value of financial instruments held by Launch Equity is presented in Note 9, "Variable and Voting Interest Entities". The fair value of the Company's borrowings is presented in Note 6, "Borrowings". In accordance with ASC 820, fair value is defined as the price that Artisan would receive upon selling an investment in an orderly transaction to an independent buyer in the principal or most advantageous market for the investment. The following three-tier fair value hierarchy prioritizes the inputs used in measuring fair value:
Level 1 – Observable inputs such as quoted (unadjusted) market prices in active markets for identical securities.
Level 2 – Other significant observable inputs (including but not limited to quoted prices for similar instruments, interest rates, prepayment speeds, credit risk, etc.).
Level 3—Significant unobservable inputs (including Artisan’s own assumptions in determining fair value).
The following provides the hierarchy of inputs used to derive fair value of Artisan’s assets and liabilities that are financial instruments as of September 30, 2013 and December 31, 2012:
 
Assets and Liabilities at Fair Value
 
Total
 
Level 1
 
Level 2
 
Level 3
September 30, 2013
 
 
 
 
 
 
 
Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
275,927

 
$
275,927

 
$

 
$

Equity mutual funds
23,649

 
23,649

 

 

Liabilities
 
 
 
 
 
 
 
Contingent value rights
15,080

 

 

 
15,080

 
 
 
 
 
 
 
 
December 31, 2012
 
 
 
 
 
 
 
Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
141,159

 
$
141,159

 
$

 
$

Equity mutual funds
15,241

 
15,241

 

 

Fair values determined based on Level 1 inputs utilize quoted market prices for identical assets. Our Level 1 assets generally consist of marketable open-end mutual funds or UCITS. Our only Level 3 liabilities are the CVRs, which are discussed below. There were no Level 3 assets or liabilities as of December 31, 2012.

10


Our policy is to recognize transfers in and transfers out of the valuation levels as of the beginning of the reporting period. There were no transfers between Level 1, Level 2 or Level 3 securities during the three and nine months ended September 30, 2013 and 2012.
Contingent Value Rights ("CVRs")
As part of the IPO-related reorganization, Holdings issued Partnership CVRs and APAM issued APAM CVRs in order to provide holders of Holdings preferred units and APAM convertible preferred stock with economic rights following the reorganization and IPO that, collectively, are similar (although not identical) to the economic rights they possessed with respect to Holdings prior to the reorganization and IPO. APAM was issued one Partnership CVR for each outstanding APAM CVR. The holders of the preferred units and convertible preferred stock did not pay any cash consideration for the CVRs. The CVRs are classified as liabilities and are accounted for under ASC 815 as derivatives.
The CVRs may require Artisan to make a cash payment to the holders thereof on July 11, 2016, or, if earlier, five business days after the effective date of a change in control of Artisan. The amount of any required payment will depend on the average of the daily volume weighted average price, or VWAP, of APAM Class A common stock over the 60 consecutive trading days prior to July 3, 2016 or the effective date of an earlier change of control and any proceeds realized by the CVR holders with respect to their equity interest in Artisan, subject to a maximum aggregate payment of $100.0 million for all CVRs. The CVRs will be terminated without a payment if the average of the daily VWAP of APAM Class A common stock over any period of 60 consecutive trading days, beginning no earlier than June 12, 2014, is at least $43.11 divided by the then-applicable conversion rate applicable to the convertible preferred stock.
Because the CVRs are not traded and therefore there is no market price for them, the fair value of the CVR liability is determined using a Monte Carlo pricing model. Monte Carlo simulation is often used to value complex derivative instruments by simulating various path-dependent conditions. The observable and unobservable assumptions used in the pricing model are included in the table below. Artisan's nonperformance or credit risk is embodied within the Monte Carlo pricing model through the discount rate assumption. For the three and nine months ended September 30, 2013, there were no changes in credit risk that would have an adverse impact on the CVR valuation. The development and determination of the unobservable inputs for Level 3 fair value measurements and fair value calculations are the responsibility of Artisan's management.
Significant unobservable inputs include expected stock prices, expected volatility, dividend yield rate, and discount rate. Significant increases in the expected stock prices, discount rate and expected volatility would result in a significantly lower fair value measurement. Significant increases in the dividend yield rate would result in a significantly higher fair value measurement.
 
September 30, 2013
Observable assumptions:
 
Price per share of Class A common stock
$
52.36

Remaining term of CVRs
2.78 years

Unobservable assumptions:
 
Expected price volatility of Class A common stock
33.00
%
Dividend yield rate
4.40
%
Discount rate
5.00
%
The unobservable assumptions were derived as follows:
Expected price volatility of Class A common stock - based on the average historical 2.78-year volatility of a peer group of public companies selected by management.
Dividend yield rate - based on management's assumptions of future dividends on Class A common stock and the price per share of Class A common stock.
Discount rate - based on the average of Artisan's borrowing rate and similar rates observed among a peer group of public companies selected by management.
As of September 30, 2013, a fair value of $15.1 million has been recorded as a liability for the CVRs. For the three and nine months ended September 30, 2013, gains of $6.9 million and $40.3 million, respectively, were recorded in other non-operating gains (losses) to reflect a decrease in the estimated fair value of the CVR liability.

11


The following table is a reconciliation of the beginning and ending balance of the liabilities measured at fair value using significant unobservable inputs (Level 3) as of September 30, 2013:
Balance at December 31, 2012
$

Issuance of contingent value rights
55,440

(Gains) losses included in earnings
(40,360
)
Balance at September 30, 2013
$
15,080

Note 6. Borrowings
Artisan's borrowings consist of the following:
 
 
 
September 30, 2013
 
December 31, 2012
 
Maturity
 
Outstanding Balance
 
Interest Rate Per Annum
 
Outstanding Balance
 
Interest Rate Per Annum
Revolving credit agreement
August 2017
 

 
NA

 
90,000

 
1.96
%
(1) 
Senior notes
 
 
 
 
 
 
 
 
 
 
Series A
August 2017
 
60,000

 
4.98
%
 
60,000

 
4.98
%
 
Series B
August 2019
 
50,000

 
5.32
%
 
50,000

 
5.32
%
 
Series C
August 2022
 
90,000

 
5.82
%
 
90,000

 
5.82
%
 
Total borrowings
 
 
$
200,000

 
 
 
$
290,000

 
 
 
(1) Interest rate under revolving credit agreement represents LIBOR plus the applicable margin as of December 31, 2012.
The fair value of borrowings was approximately $197.4 million as of September 30, 2013. Fair value was determined based on future cash flows, discounted to present value using current market interest rates. The inputs are categorized as Level 2 in the fair value hierarchy, as defined in Note 5, "Fair Value Measurements".
Term Loan - On July 3, 2006, Holdings entered into an unsecured five-year term loan agreement with a syndicate of lenders (the "Term Loan") in the principal amount of $400.0 million. In November 2010, the Term Loan agreement was amended and the aggregate outstanding principal amount was reduced to $380.0 million. The maturity date of the loan was extended to July 1, 2013, for $363.0 million of the loan outstanding. The remaining $17.0 million of the loan matured on July 1, 2011. The amended Term Loan generally bore interest at a rate equal to, at our election, (i) LIBOR plus an applicable margin depending on Holdings’ leverage ratio (as defined in the Term Loan agreement) or (ii) an alternate base rate plus an applicable margin depending on Holdings’ leverage ratio.
On August 16, 2012, Holdings issued $200.0 million in senior unsecured notes and entered into a $100.0 million five-year revolving credit agreement and repaid all of the then-outstanding principal under the Term Loan.
Revolving credit agreement - Any loans outstanding under the revolving credit agreement bear interest at a rate equal to, at our election, (i) LIBOR adjusted by a statutory reserve percentage plus an applicable margin ranging from 1.50% to 3.00%, depending on Holdings’ leverage ratio (as defined in the revolving credit agreement) or (ii) an alternate base rate equal to the highest of (a) prime rate plus 0.50%, (b) the federal funds effective rate plus 0.50%, and (c) the daily one-month LIBOR adjusted by a statutory reserve percentage plus 1.00%, plus, in each case, an applicable margin ranging from 0.50% to 2.00%, depending on Holdings’ leverage ratio. Unused commitments under the revolving credit agreement bear interest at a rate that ranges from 0.175% to 0.625%, depending on Holdings’ leverage ratio.
In connection with the closing of the IPO, we paid all of the then-outstanding principal amount of loans under the revolving credit agreement. As of September 30, 2013, there were no borrowings outstanding under the revolving credit agreement and the interest rate on the unused commitment was 0.175%.
Senior notes - The fixed interest rate on each series of unsecured notes is subject to a 1.00% increase in the event Holdings receives a below-investment grade rating and any such increase will continue to apply until an investment grade rating is received. The unsecured notes and the revolving credit agreement contain certain restrictive financial covenants including a limitation on the leverage ratio of Holdings and a minimum interest coverage ratio.
Interest expense incurred on the term loan, unsecured notes and revolving credit agreement was $2.8 million and $2.6 million for the three months ended September 30, 2013 and 2012, respectively, and $8.6 million and $6.9 million for the nine months ended September 30, 2013 and 2012, respectively.

12


As of September 30, 2013, the aggregate maturities of debt obligations, based on their contractual terms, are as follows:
2013
$

2014

2015

2016

Thereafter
200,000

 
$
200,000

Note 7. Derivative Instruments
Prior to August 16, 2012, Holdings was a party to a forward starting interest rate swap with a counterparty that had a total notional value of $200 million upon issuance, a start date of July 1, 2011, and a final maturity date of July 1, 2013. Holdings entered into that agreement on November 22, 2010. The counter-party under this forward starting interest rate swap contract paid Holdings variable interest at the three-month LIBOR rate, and Holdings paid the counterparty a fixed interest rate of 1.04%. This forward starting interest rate swap effectively converted the amended Term Loan into fixed rate debt to the extent of the notional value of the swap contract, in order to manage interest rate risk on the amended Term Loan. On December 14, 2011, Holdings discontinued the hedge accounting treatment of the swap because the hedged forecasted transaction was no longer probable of occurring. All prospective fair value changes of the derivative were recognized in earnings. On August 16, 2012, Holdings terminated the swap in connection with the repayment of the entire then-outstanding principal amount of the Term Loan and made a required final swap settlement payment of $1.1 million. Net interest expense incurred on the interest rate swap was $0.2 million and $0.7 million for the three and nine months ended September 30, 2012, respectively.
See Note 5, "Fair Value Measurements" for information regarding the contingent value rights.
The following tables present gains (losses) recognized on derivative instruments for the three and nine months ended September 30, 2013 and 2012:
 
 
 
Three months ended September 30,
 
 
2013
 
2012
Income Statement Classification
 
Gains
 
Losses
 
Gains
 
Losses
Contingent value rights
Net gain on the valuation of contingent value rights
 
$
6,940

 
$

 
$

 
$

Interest rate swap
Loss on interest rate swap
 

 

 

 
(17
)
Total
 
 
$
6,940

 
$

 
$

 
$
(17
)
 
 
 
Nine months ended September 30,
 
 
2013
 
2012
Income Statement Classification
 
Gains
 
Losses
 
Gains
 
Losses
Contingent value rights
Net gain on the valuation of contingent value rights
 
$
40,360

 
$

 
$

 
$

Interest rate swap
Loss on interest rate swap
 

 

 

 
(69
)
Total
 
 
$
40,360

 
$

 
$

 
$
(69
)
Note 8. Noncontrolling interest - Holdings
Holdings is the predecessor of APAM for accounting purposes, and its consolidated financial statements are our historical financial statements for periods prior to March 12, 2013, the date on which APAM became the general partner of Holdings. As of September 30, 2013, APAM held approximately 24% of the economic interests in Holdings. "Net income (loss) attributable to noncontrolling interests - Artisan Partners Holdings" on the Unaudited Consolidated Statements of Operations represents the portion of earnings or loss attributable to the economic interests in Holdings held by the limited partners of Holdings. All income for the period prior to March 12, 2013, is entirely attributable to noncontrolling interests.

13


During the three months ended September 30, 2013, APAM's ownership interest in Holdings increased due to (i) the issuance of 1,575,157 Holdings' GP units corresponding to 1,575,157 restricted shares of Class A common stock issued by APAM during the period and (ii) the forfeiture of 42,055 Holdings' LP units as a result of the termination of employment of employee-partners. Since APAM continues to have a controlling interest in Holdings, changes in ownership of Holdings are accounted for as equity transactions. "Additional paid-in capital" and "Noncontrolling interest - Artisan Partners Holdings" on the Unaudited Condensed Consolidated Statements of Financial Condition are adjusted to reallocate Holdings' historical equity to reflect the change in APAM's ownership of Holdings.
As a result of the change in ownership, a deficit of $33.2 million was transferred to additional paid-in capital from noncontrolling interests in Artisan Partners Holdings. Additionally, accumulated other comprehensive income is adjusted to reflect the change in ownership interest through a $0.1 million reduction to noncontrolling interest and a $0.1 million increase to accumulated other comprehensive income. The increased ownership level also resulted in a $0.3 million decrease in deferred tax assets and accumulated other comprehensive income. The impact of the change in APAM's ownership interests in Holdings is reflected in "Cumulative impact of changes in ownership of Artisan Partners Holdings LP, net of tax" in the Unaudited Consolidated Statement of Changes in Stockholders' Equity.
Note 9. Variable and Voting Interest Entities
Artisan Funds and Artisan Global Funds
We serve as the investment adviser for Artisan Partners Funds, Inc. ("Artisan Funds"), a family of mutual funds registered with the SEC under the Investment Company Act of 1940, and Artisan Partners Global Funds plc ("Artisan Global Funds"), a family of Ireland-based UCITS. Artisan Funds and Artisan Global Funds are corporate entities the business and affairs of which are managed by their respective boards of directors. The shareholders of the funds retain all voting rights, including the right to elect and reelect members of their respective boards of directors. As a result, each of these entities is a voting interest entity ("VOE"). While we hold, in limited cases, direct investments in a fund (which are made on the same terms as are available to other investors and do not represent a majority voting interest in any fund), we do not have a controlling financial interest or a majority voting interest and, as such, we do not consolidate these entities.
Artisan Partners Launch Equity LP
We serve as the investment adviser for Launch Equity, a private investment partnership which seeks to achieve returns primarily through capital appreciation, while also mitigating market risk through the use of hedging strategies. We receive management fees as compensation for services provided as the investment adviser. We also maintain, through Artisan Partners Alternative Investments GP LLC, a direct equity investment in the fund and receive an allocation of profits based upon Launch Equity's net capital appreciation during a fiscal year. Each of these represents a variable interest in the fund.
The limited partners of Launch Equity are certain of our employees and are considered related parties to us. We have determined that Launch Equity is a variable interest entity ("VIE") as (a) the voting rights of the limited partners are not proportional to their obligations to absorb expected losses and rights to receive expected residual returns and (b) substantially all of Launch Equity's activities either involve or are conducted on behalf of the limited partners (the investors that have disproportionately few voting rights) and their related parties (including us).
Launch Equity qualifies for deferral of the current consolidation guidance for VIEs; therefore the consolidation assessment is based on previous consolidation guidance. This guidance requires an analysis of which party, through holding interests directly or indirectly in the entity or contractually through other variable interests, such as management and incentive fees, would absorb a majority of the expected variability of the entity. In determining whether we are the primary beneficiary of Launch Equity, we considered both qualitative and quantitative factors such as voting rights of the equity holders, economic participation of all parties, including how fees are earned by us, related party ownership and the level of involvement we had in the design of the VIE. We concluded we were the primary beneficiary as the related party group absorbs a majority of the variability associated with Launch Equity and we are the member within the related party group that is most closely associated with the VIE. Although we have only a minimal equity investment in Launch Equity, as the general partner, we control Launch Equity's management and affairs. In addition, the fund was designed to attract third party investors to provide an economic benefit to us in the form of quarterly management fees and an annual incentive fee based upon the net capital appreciation of the fund. Also, in the ordinary course of business, we may choose to waive certain fees or assume operating expenses of the fund. As a result, we concluded we were the primary beneficiary of Launch Equity and its results are included in our consolidated financial statements.
Our maximum exposure to loss from our involvement with Launch Equity is limited to our equity investment of $1 thousand while our potential benefit is limited to the management and incentive fees we receive as investment adviser. Therefore, the gains or losses of Launch Equity have not had a significant impact on our results of operations, liquidity or capital resources. We have no right to the benefits from, nor do we bear the risks associated with, Launch Equity's investments, beyond our minimal direct investment in Launch Equity. If we were to liquidate, the assets of Launch Equity would not be available to our general creditors and as a result, we do not consider investments held by Launch Equity to be our assets.

14


The following tables reflect the impact of consolidating Launch Equity's assets and liabilities into the Consolidated Statement of Financial Condition as of September 30, 2013 and December 31, 2012 and results into the Consolidated Statement of Operations for the three and nine months ended September 30, 2013 and 2012.
Condensed Consolidating Statements of Financial Condition
 
As of September 30, 2013
 
As of December 31, 2012
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
Cash and cash equivalents
$
275,927

 
$

 
$

 
$
275,927

 
$
141,159

 
$

 
$

 
$
141,159

Cash and cash equivalents of Launch Equity

 
18,420

 

 
18,420

 

 
10,180

 

 
10,180

Accounts receivable
59,398

 

 

 
59,398

 
46,022

 

 

 
46,022

Accounts receivable of Launch Equity

 
15,187

 

 
15,187

 

 
10,595

 

 
10,595

Investment securities of Launch Equity
1

 
65,341

 
(1
)
 
65,341

 
1

 
46,237

 
(1
)
 
46,237

Other assets
107,514

 

 

 
107,514

 
33,367

 

 

 
33,367

Total assets
$
442,840

 
$
98,948

 
$
(1
)
 
$
541,787

 
$
220,549

 
$
67,012

 
$
(1
)
 
$
287,560

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Payables of Launch Equity
$

 
$
14,533

 
$

 
$
14,533

 
$

 
$
10,726

 
$

 
$
10,726

Securities sold, not yet purchased of Launch Equity

 
35,497

 

 
35,497

 

 
19,586

 

 
19,586

Other liabilities
395,817

 

 

 
395,817

 
572,769

 

 

 
572,769

Total liabilities
395,817

 
50,030

 

 
445,847

 
572,769

 
30,312

 

 
603,081

Redeemable preferred units

 

 

 

 
357,194

 

 

 
357,194

Total stockholders' equity
24,559

 

 

 
24,559

 

 

 

 

Noncontrolling interest - Artisan Partners Holdings
22,464

 
1

 
(1
)
 
22,464

 
(709,414
)
 
1

 
(1
)
 
(709,414
)
Noncontrolling interest - Launch Equity

 
48,917

 

 
48,917

 

 
36,699

 

 
36,699

Total equity (deficit)
47,023

 
48,918

 
(1
)
 
95,940

 
(709,414
)
 
36,700

 
(1
)
 
(672,715
)
Total liabilities and equity
$
442,840

 
$
98,948

 
$
(1
)
 
$
541,787

 
$
220,549

 
$
67,012

 
$
(1
)
 
$
287,560


15


Condensed Consolidating Statements of Operations
 
Three Months Ended
 
September 30, 2013
 
September 30, 2012
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
Total revenues
$
178,214

 
$

 
$
(122
)
 
$
178,092

 
$
128,174

 
$

 
$
(91
)
 
$
128,083

Total operating expenses
124,854

 

 
(122
)
 
124,732

 
166,392

 

 
(91
)
 
166,301

Operating income (loss)
53,360

 

 

 
53,360

 
(38,218
)
 

 

 
(38,218
)
Non-operating income (loss)
4,055

 

 

 
4,055

 
(4,440
)
 

 

 
(4,440
)
Net gains of Launch Equity

 
5,499

 

 
5,499

 

 
6,935

 

 
6,935

Total non-operating income (loss)
4,055

 
5,499

 

 
9,554

 
(4,440
)
 
6,935

 

 
2,495

Income (loss) before income taxes
57,415

 
5,499

 

 
62,914

 
(42,658
)
 
6,935

 

 
(35,723
)
Provision for income taxes
6,824

 

 

 
6,824

 
243

 

 

 
243

Net income (loss)
50,591

 
5,499

 

 
56,090

 
(42,901
)

6,935

 

 
(35,966
)
Less: Net income attributable to noncontrolling interests - Artisan Partners Holdings
44,614

 

 

 
44,614

 
(42,901
)
 

 

 
(42,901
)
Less: Net income attributable to noncontrolling interests - Launch Equity

 
5,499

 

 
5,499

 

 
6,935

 

 
6,935

Net income attributable to Artisan Partners Asset Management Inc.
$
5,977

 
$

 
$

 
$
5,977

 
$

 
$

 
$

 
$


16


 
Nine Months Ended
 
September 30, 2013
 
September 30, 2012
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
 
Before
Consolidation
 
Launch Equity
 
Eliminations
 
As Reported
Total revenues
$
488,583

 
$

 
$
(335
)
 
$
488,248

 
$
368,772

 
$

 
$
(230
)
 
$
368,542

Total operating expenses
808,153

 

 
(335
)
 
807,818

 
361,118

 

 
(230
)
 
360,888

Operating income (loss)
(319,570
)
 

 

 
(319,570
)
 
7,654

 

 

 
7,654

Non-operating income (loss)
31,374

 

 

 
31,374

 
(9,724
)
 

 

 
(9,724
)
Net gains of Launch Equity

 
9,068

 

 
9,068

 

 
8,474

 

 
8,474

Total non-operating income (loss)
31,374

 
9,068

 

 
40,442

 
(9,724
)
 
8,474

 

 
(1,250
)
Income (loss) before income taxes
(288,196
)
 
9,068

 

 
(279,128
)
 
(2,070
)
 
8,474

 

 
6,404

Provision for income taxes
17,146

 

 

 
17,146

 
822

 

 

 
822

Net income (loss)
(305,342
)
 
9,068

 

 
(296,274
)
 
(2,892
)
 
8,474

 

 
5,582

Less: Net income (loss) attributable to noncontrolling interests - Artisan Partners Holdings
(320,067
)
 

 

 
(320,067
)
 
(2,892
)
 

 

 
(2,892
)
Less: Net income attributable to noncontrolling interests - Launch Equity

 
9,068

 

 
9,068

 

 
8,474

 

 
8,474

Net income attributable to Artisan Partners Asset Management Inc.
$
14,725

 
$

 
$

 
$
14,725

 
$

 
$

 
$

 
$

The carrying value of Launch Equity's consolidated investments is also their fair value. Short and long positions on equity securities are valued based upon closing market prices of the security on the principal exchange on which they are traded. Investments in investment companies are valued at their respective net asset values on the valuation date. Short-term investments, other than repurchase agreements, maturing within sixty days from the valuation date are valued at amortized cost, which approximates market value.
The following table presents the fair value hierarchy levels of investments and liabilities held by Launch Equity which are measured at fair value as of September 30, 2013 and December 31, 2012:
 
Assets and Liabilities at Fair Value:
 
Total
 
Level 1
 
Level 2
 
Level 3
September 30, 2013
 
 
 
 
 
 
 
Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
18,420

 
$
18,420

 
$

 
$

Equity securities – long position
$
65,341

 
$
65,341

 
$

 
$

Liabilities
 
 
 
 
 
 
 
Equity securities – short position
$
35,497

 
$
35,497

 
$

 
$

 
 
 
 
 
 
 
 
December 31, 2012
 
 
 
 
 
 
 
Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
10,180

 
$
10,180

 
$

 
$

Equity securities – long position
$
46,237

 
$
46,237

 
$

 
$

Liabilities
 
 
 
 
 
 
 
Equity securities – short position
$
19,586

 
$
19,586

 
$

 
$


17


Note 10. Stockholders' Equity
Artisan Partners Holdings - Partners' Deficit
Prior to the reorganization described in Note 2, "Reorganization and IPO", Holdings was a private company. Holdings had several outstanding classes of partnership units held by investors.
Holdings historically made, and will continue to make, distributions of its net income to the holders of its partnership units for income taxes as required under the terms of the partnership agreement and also made, and will continue to make, additional distributions of its net income under the terms of the partnership agreement. The distributions have been recorded in the financial statements on the declaration date, or on the payment date in lieu of a declaration date.
Holding's partnership distributions totaled $58.5 million and $81.1 million for the three months ended September 30, 2013 and 2012, respectively, and $245.1 million and $134.6 million for the nine months ended September 30, 2013 and 2012, respectively. Partnership distributions for the three and nine months ended September 30, 2012 includes a partnership distribution payable of $12.5 million declared by Holdings on September 12, 2012 and paid on October 16, 2012. The portion of these distributions made prior to the IPO to the holders of Class B common units (which were classified as liability awards prior to the IPO) are reflected as compensation and benefits expense within the Consolidated Statements of Operations, and totaled $32.1 million for the three months ended September 30, 2012, and $65.7 million and $54.0 million for the nine months ended September 30, 2013 and 2012, respectively. The portion of these distributions made prior to the IPO to the other partners of Holdings and, after the IPO, to all partners impact total stockholders' equity, with the exception of the portion of distributions made to APAM, the general partner of Holdings. Holdings distributions to APAM totaled $12.5 million and $19.3 million for the three and nine months ended September 30, 2013, respectively.
The pre-IPO partners of Holdings received APAM shares in connection with the reorganization and IPO, as described below.
APAM - Stockholders' Equity
As of September 30, 2013, APAM had the following authorized and outstanding equity:
 
Shares at September 30, 2013
 
 
 
 
 
Authorized
 
Outstanding
 
Voting Rights (1)
 
Economic Rights (2)
Common shares
 
 
 
 
 
 
 
Class A, par value $0.01 per share
500,000,000

 
14,287,436

 
1 vote per share
 
Proportionate
Class B, par value $0.01 per share
200,000,000

 
25,629,149

 
5 votes per share
 
None
Class C, par value $0.01 per share
400,000,000

 
29,001,959

 
1 vote per share
 
None
 
 
 
 
 
 
 
 
Preferred shares
 
 
 
 
 
 
 
Convertible preferred, par value $0.01 per share
15,000,000

 
2,565,463

 
1 vote per share
 
Proportionate
(1) Artisan Investment Corporation and each of our employees to whom we have granted equity have entered into a stockholders agreement with respect to all shares of our common stock they have acquired from us and any shares they may acquire from us in the future, pursuant to which they granted an irrevocable voting proxy to a Stockholders Committee. As of September 30, 2013, our employees held 1,575,157 shares of Class A common stock subject to the agreement and all 25,629,149 outstanding shares of Class B common stock, and Artisan Investment Corporation held 9,627,644 shares of Class C common stock.
(2) The holders of preferred units of Holdings are entitled to preferential distributions in the case of a partial capital event or upon dissolution of Holdings. In the case of any distributions on the preferred units, prior to declaring or paying any dividends on the Class A common stock, APAM must pay the holders of convertible preferred stock a dividend equal to the distribution APAM received in respect of the preferred units it holds, net of taxes, if any.
APAM is dependent on cash generated by Holdings to fund any dividends. Generally, Holdings will make distributions to all of its partners, including APAM, based on the proportionate ownership each holds in Holdings. APAM will fund dividends to its stockholders from its proportionate share of those distributions after provision for its taxes and other obligations. During the quarter APAM paid a dividend of $0.43 per share of outstanding Class A common stock.
APAM issued the following shares during the nine months ended September 30, 2013, primarily in connection with the reorganization and IPO described in Note 2, "Reorganization and IPO":

18


Class A Common Stock
APAM issued 12,712,279 shares of Class A common stock in the IPO. APAM also granted a total of 16,670 restricted stock units with respect to Class A common stock to non-employee directors in connection with the IPO. Following the first anniversary of the IPO (absent an earlier waiver by APAM), subject to certain conditions and restrictions, each Class A, Class B, Class D and Class E unit of Holdings (together with the corresponding share of Class B or Class C common stock) will be exchangeable for one share of Class A common stock. The preferred units of Holdings (together with the corresponding shares of Class C common stock) will also be exchangeable for Class A common stock, though in certain circumstances on less than a one-for-one basis. Our convertible preferred stock is convertible into Class A common stock generally on a one-for-one basis, though in certain circumstances on a less than one-for-one basis.
On July 17, 2013, APAM issued 1,575,157 restricted shares of Class A common stock to its employees and employees of its subsidiaries. In general, these restricted shares will vest pro rata in the third fiscal quarter of each of the next five years.
Class B Common Stock
APAM issued 26,271,120 shares of Class B common stock to employee-partners in amounts equal to the number of Class B common units those individuals held in Holdings. Upon termination of employment with Artisan, an employee-partner's vested Class B common units are automatically exchanged for Class E common units; unvested Class B common units are forfeited. The employee-partner's shares of Class B common stock are canceled and APAM issues the former employee-partner a number of shares of Class C common stock equal to the former employee-partner's number of Class E common units. The former employee-partner's Class E common units are exchangeable for Class A common stock subject to the same restrictions and limitations on exchange applicable to the other common units of Holdings. During the three and nine months ended September 30, 2013, 209,853 and 641,971 shares of Class B common stock, respectively, were canceled as a result of the termination of employment of employee-partners.
Class C Common Stock
APAM issued 28,442,643 shares of Class C common stock to certain investors in Holdings. The number of shares issued was equal to the number of units the investors held in Holdings. During the three and nine months ended September 30, 2013, 167,798 and 559,316 shares of Class C common stock, respectively, were issued to former employee-partners in connection with the termination of their employment as described above.
Convertible Preferred Stock
APAM issued 2,565,463 shares of convertible preferred stock in connection with the H&F Corp Merger as described in Note 2, "Reorganization and IPO". Shares of APAM convertible preferred stock are convertible into Class A common stock generally on a one-for-one basis, though in certain circumstances on a less than one-for-one basis. When the holders of APAM convertible preferred stock are no longer entitled to preferential distributions, all shares of convertible preferred stock will automatically convert into shares of Class A common stock at the conversion rate plus cash in lieu of fractional shares.
Note 11. Compensation and Benefits
 
 
 For the Three Months Ended September 30,
 
 For the Nine Months Ended September 30,
 
 
2013
 
2012
 
2013
 
2012
Salaries, incentive compensation and benefits (1)
 
$
76,056


$
56,401

 
$
217,987


$
165,655

Restricted share compensation expense
 
3,414



 
3,414



Total salaries, incentive compensation and benefits
 
79,470

 
56,401

 
221,401

 
165,655

Pre-offering related compensation - share-based awards
 
23,441

 
56,023

 
380,523

 
85,907

Pre-offering related compensation - other
 

 
32,065

 
143,035

 
53,960

Total compensation and benefits
 
$
102,911

 
$
144,489

 
$
744,959

 
$
305,522

(1) Excluding share-based compensation
Incentive compensation
Cash incentive compensation paid to members of our portfolio management teams and members of our marketing and client service teams is based on a formula that is tied directly to revenues. These payments are made in the quarter following the quarter in which the incentive was earned with the exception of fourth quarter payments which are paid in the fourth quarter of the year. Cash incentive compensation paid to most other employees is discretionary and subjectively determined based on individual performance and our overall results during the applicable year and is generally paid in the fourth quarter of the year.

19


Restricted shares
On July 17, 2013, our board of directors approved the issuance of 1,575,157 restricted shares of Class A common stock to our employees and employees of our subsidiaries pursuant to our 2013 Omnibus Incentive Compensation Plan. The shares will vest pro rata over the next five years. Unvested shares are subject to forfeiture upon termination of employment. Grantees receiving the awards are entitled to voting rights and rights to dividends on unvested and vested shares.
Total compensation expense associated with the July 17 award is expected to be approximately $79.2 million, which will be recognized over the five-year vesting period. The Company recognizes compensation expense based on estimated grant date fair value, for only those awards expected to vest, on a straight-line basis over the requisite service period of the award. The Company estimated the number of awards expected to vest based, in part, on historical forfeiture rates and also based on management's expectations of employee turnover. Forfeitures are estimated at the time of grant and revised in subsequent periods, if necessary, based on actual forfeiture activity.
The following table summarizes the restricted share activity for the nine months ended September 30, 2013:
 
 
Weighted-Average Grant Date Fair Value
 
Number of Awards
Unvested at December 31, 2012
 
$

 

Granted
 
52.36

 
1,575,157

Forfeited
 

 

Vested
 

 

Unvested at September 30, 2013
 
$
52.36

 
1,575,157

Compensation expense recognized related to the restricted shares was $3.4 million for the three and nine months ended September 30, 2013. The unrecognized compensation expense for the unvested restricted shares as of September 30, 2013 was $75.8 million with a weighted average recognition period of 4.80 years remaining.
Pre-offering related compensation consists of the following:
 
 
 For the Three Months Ended September 30,
 
 For the Nine Months Ended September 30,
 
 
2013
 
2012
 
2013
 
2012
Change in value of Class B liability awards
 
$

 
$
56,023

 
$
41,942

 
$
85,907

Class B award modification expense
 

 

 
287,292

 

Amortization expense on pre-offering Class B awards
 
23,441

 

 
51,289

 

Pre-offering related compensation - share-based awards
 
23,441

 
56,023

 
380,523

 
85,907

 
 
 
 
 
 
 
 
 
Pre-offering related cash incentive compensation
 

 

 
56,788

 

Pre-offering related bonus make-whole compensation
 

 

 
20,520

 

Distributions on Class B liability awards
 

 
32,065

 
65,727

 
53,960

Pre-offering related compensation - other
 

 
32,065

 
143,035

 
53,960

Total pre-offering related compensation
 
$
23,441

 
$
88,088

 
$
523,558