10-Q 1 v474502_10q.htm FORM 10-Q

 

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

xQuarterly Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934

For the quarterly period ended July 31, 2017

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: 1-8100

 

EATON VANCE CORP.

(Exact name of registrant as specified in its charter)

 

Maryland   04-2718215
(State or other jurisdiction of   (I.R.S. Employer Identification No.)
incorporation or organization)    

 

Two International Place, Boston, Massachusetts 02110
(Address of principal executive offices) (zip code)

 

(617) 482-8260
(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, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer x Accelerated filer ¨
Non-accelerated filer ¨ (Do not check if smaller reporting company) Smaller reporting company ¨
Emerging growth company ¨    

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. Yes ¨ No x

 

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

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class:   Outstanding as of July 31, 2017
Non-Voting Common Stock, $0.00390625 par value   116,163,127 shares
Voting Common Stock, $0.00390625 par value   442,932 shares

 

 

 

 

 

 

Eaton Vance Corp.

Form 10-Q

As of July 31, 2017 and for the

Three and Nine Month Periods Ended July 31, 2017

 

Table of Contents

 

Required
Information
      Page
Number
Reference
         
Part I   Financial Information    
Item 1.   Consolidated Financial Statements (unaudited)   3
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations   41
Item 3.   Quantitative and Qualitative Disclosures About Market Risk   68
Item 4.   Controls and Procedures   68
         
Part II   Other Information    
Item 1.   Legal Proceedings   69
Item 1A.   Risk Factors   69
Item 2.   Unregistered Sales of Equity Securities and Use of Proceeds   69
Item 6.   Exhibits   70
         
Signatures       71

 

 2 

 

 

Part I - Financial Information

 

Item 1. Consolidated Financial Statements (unaudited)

 

Eaton Vance Corp.

Consolidated Balance Sheets (unaudited)

 

   July 31,   October 31, 
(in thousands)  2017   2016 
         
Assets          
           
Cash and cash equivalents  $550,171   $424,174 
Management fees and other receivables   201,766    186,172 
Investments   750,168    589,773 
Deferred sales commissions   35,001    27,076 
Deferred income taxes   64,118    73,295 
Equipment and leasehold improvements, net   47,188    44,427 
Intangible assets, net   92,051    46,809 
Goodwill   259,681    248,091 
Loan to affiliate   5,000    5,000 
Other assets   68,891    85,565 
Total assets  $2,074,035   $1,730,382 

 

See notes to Consolidated Financial Statements.

 

 3 

 

 

Eaton Vance Corp.

Consolidated Balance Sheets (unaudited) (continued)

 

   July 31,   October 31, 
(in thousands, except share data)  2017   2016 
Liabilities, Temporary Equity and Permanent Equity          
           
Liabilities:          
           
Accrued compensation  $151,343   $173,485 
Accounts payable and accrued expenses   70,878    59,927 
Dividend payable   39,487    36,525 
Debt   618,582    571,773 
Other liabilities   102,625    75,069 
Total liabilities   982,915    916,779 
           
Commitments and contingencies (Note 19)          
           
Temporary Equity:          
           
Redeemable non-controlling interests   189,154    109,028 
           
Permanent Equity:          
           
Voting Common Stock, par value $0.00390625 per share:          

Authorized, 1,280,000 shares

Issued and outstanding, 442,932 and 442,932 shares, respectively

   2    2 
Non-Voting Common Stock, par value $0.00390625 per share:          

Authorized, 190,720,000 shares

Issued and outstanding, 116,163,127 and 113,545,008 shares, respectively

   454    444 
Additional paid-in capital   77,699    - 
Notes receivable from stock option exercises   (11,205)   (12,074)
Accumulated other comprehensive loss   (41,614)   (57,583)
Retained earnings   875,867    773,000 
Total Eaton Vance Corp. shareholders' equity   901,203    703,789 
Non-redeemable non-controlling interests   763    786 
Total permanent equity   901,966    704,575 
Total liabilities, temporary equity and permanent equity  $2,074,035   $1,730,382 

 

See notes to Consolidated Financial Statements.

 

 4 

 

 

Eaton Vance Corp.

Consolidated Statements of Income (unaudited)

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands, except per share data)  2017   2016   2017   2016 
Revenue:                    
Management fees  $339,866   $292,814   $966,148   $852,739 
Distribution and underwriter fees   20,114    18,883    58,991    56,216 
Service fees   30,515    27,150    89,493    80,203 
Other revenue   3,251    2,321    8,705    6,856 
Total revenue   393,746    341,168    1,123,337    996,014 
Expenses:                    
Compensation and related costs   142,338    121,827    412,940    365,856 
Distribution expense   37,160    31,616    100,284    88,338 
Service fee expense   28,630    24,831    83,384    73,036 
Amortization of deferred sales commissions   4,182    3,861    12,062    11,862 
Fund-related expenses   14,029    8,939    36,752    26,133 
Other expenses   46,376    43,369    133,528    127,671 
Total expenses   272,715    234,443    778,950    692,896 
Operating income   121,031    106,725    344,387    303,118 
Non-operating income (expense):                    
Gains and other investment income, net   5,537    3,137    15,319    9,766 
Interest expense   (6,180)   (7,342)   (21,592)   (22,024)
Loss on extinguishment of debt   (5,396)   -    (5,396)   - 
Other income (expense) of consolidated collateralized loan obligation (CLO) entity:                    
Gains and other investment income, net   -    4,467    -    21,654 
Interest expense   -    (4,393)   -    (9,107)
Total non-operating income (expense)   (6,039)   (4,131)   (11,669)   289 
Income before income taxes and equity in net income of affiliates   114,992    102,594    332,718    303,407 
Income taxes   (42,462)   (39,781)   (123,864)   (112,793)
Equity in net income of affiliates, net of tax   2,323    2,961    7,973    7,847 
Net income   74,853    65,774    216,827    198,461 
Net income attributable to non-controlling and other beneficial interests   (7,492)   (2,875)   (16,780)   (22,209)
Net income attributable to Eaton Vance Corp. shareholders  $67,361   $62,899   $200,047   $176,252 
Earnings per share:                    
Basic  $0.61   $0.57   $1.81   $1.60 
Diluted  $0.58   $0.55   $1.73   $1.55 
Weighted average shares outstanding:                    
Basic   111,284    109,533    110,540    110,275 
Diluted   117,051    113,810    115,751    114,044 
Dividends declared per share  $0.280   $0.265   $0.840   $0.795 

 

See notes to Consolidated Financial Statements.

 

 5 

 

 

Eaton Vance Corp.

Consolidated Statements of Comprehensive Income (unaudited)

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
                 
Net income  $74,853   $65,774   $216,827   $198,461 
Other comprehensive income (loss):                    
Change in unrealized losses on derivatives, net of tax   -    -    (413)   - 
Amortization of net gains on derivatives, net of tax   37    3    46    10 
Unrealized holding gains (losses) on available-for-sale investments and reclassification adjustments, net of tax   205    422    857    369 
Foreign currency translation adjustments, net of tax   18,208    (9,336)   15,479    (1,560)
                     
Other comprehensive income (loss), net of tax   18,450    (8,911)   15,969    (1,181)
                     
Total comprehensive income   93,303    56,863    232,796    197,280 
Comprehensive income attributable to non-controlling and other beneficial interests   (7,492)   (2,875)   (16,780)   (22,209)
Total comprehensive income attributable to Eaton Vance Corp. shareholders  $85,811   $53,988   $216,016   $175,071 

 

See notes to Consolidated Financial Statements.

 

 6 

 

 

Eaton Vance Corp.

Consolidated Statements of Shareholders' Equity (unaudited)

 

   Permanent Equity   Temporary
Equity
 
(in thousands)  Voting
Common
Stock
   Non-Voting
Common
Stock
   Additional
Paid-In Capital
   Notes
Receivable
from Stock
Option
Exercises
  

Accumulated

Other
Comprehensive
Income (Loss)

   Retained
Earnings
  

Non-
Redeemable
Non-
Controlling

Interests

   Total
Permanent
Equity
   Redeemable
Non-
Controlling
Interests
 
Balance, November 1, 2016  $2   $444   $-   $(12,074)  $(57,583)  $773,000   $786   $704,575   $109,028 
Net income   -    -    -    -    -    200,047    2,892    202,939    13,888 
Other comprehensive income   -    -    -    -    15,969    -    -    15,969    - 
Dividends declared ($0.840 per share)   -    -    -    -    -    (97,180)   -    (97,180)   - 
Issuance of Non-Voting Common Stock:                                             
On exercise of stock options   -    13    100,715    (2,277)   -    -    -    98,451    - 
Under employee stock purchase plans   -    -    2,976    -    -    -    -    2,976    - 
Under employee stock purchase incentive plan   -    -    3,491    -    -    -    -    3,491    - 
Under restricted stock plan, net of forfeitures   -    6    -    -    -    -    -    6    - 
Stock-based compensation   -    -    60,395    -    -    -    -    60,395    - 
Tax benefit of stock option exercises   -    -    8,188    -    -    -    -    8,188    - 
Tax benefit of non-controlling interest repurchases   -    -    3,784    -    -    -    -    3,784    - 
Repurchase of Non-Voting Common Stock   -    (9)   (100,226)   -    -    -    -    (100,235)   - 
Principal repayments on notes receivable from stock option exercises   -    -    -    3,146    -    -    -    3,146    - 
Net subscriptions (redemptions/distributions) of non-controlling interest holders   -    -    -    -    -    -    (2,851)   (2,851)   142,542 
Net consolidations (deconsolidations) of sponsored investment funds   -    -    -    -    -    -    -    -    (70,682)
Reclass to temporary equity   -    -    -    -    -    -    (64)   (64)   64 
Purchase of non-controlling interests   -    -    -    -    -    -    -    -    (7,310)
Other changes in non-controlling interests   -    -    (1,624)   -    -    -    -    (1,624)   1,624 
Balance, July 31, 2017  $2   $454   $77,699   $(11,205)  $(41,614)  $875,867   $763   $901,966   $189,154 

 

See notes to Consolidated Financial Statements.

 

 7 

 

 

Eaton Vance Corp.

Consolidated Statements of Shareholders' Equity (unaudited) (continued)

 

   Permanent Equity   Temporary
Equity
 
(in thousands)  Voting
Common
Stock
   Non-Voting
Common
Stock
   Additional
Paid-In Capital
   Notes
Receivable
from Stock
Option
Exercises
   Accumulated
Other
Comprehensive
Loss
  

Appropriated
Retained

Earnings
(Deficit)

   Retained
Earnings
   Non-
Redeemable
Non-
Controlling
Interests
   Total
Permanent
Equity
   Redeemable
Non-
Controlling
Interests
 
Balance, November 1, 2015  $2   $451   $-   $(11,143)  $(48,586)  $(5,338)  $684,845   $1,725   $621,956   $88,913 
Net income   -    -    -    -    -    12,009    176,252    2,969    191,230    7,231 
Other comprehensive loss   -    -    -    -    (1,181)   -    -    -    (1,181)   - 
Dividends declared ($0.795 per share)   -    -    -    -    -    -    (90,469)   -    (90,469)   - 
Issuance of Voting Common Stock   -    -    232    -    -    -    -    -    232    - 
Issuance of Non-Voting Common Stock:                                                  
On exercise of stock options   -    7    48,237    (870)   -    -    -    -    47,374    - 
Under employee stock purchase plans   -    -    3,145    -    -    -    -    -    3,145    - 
Under employee stock purchase incentive plan   -    -    3,224    -    -    -    -    -    3,224    - 
Under restricted stock plan, net of forfeitures   -    5    -    -    -    -    -    -    5    - 
Stock-based compensation   -    -    54,275    -    -    -    -    -    54,275    - 
Tax benefit of stock option exercises   -    -    1,767    -    -    -    -    -    1,767    - 
Repurchase of Voting Common Stock   -    -    (77)   -    -    -    -    -    (77)   - 
Repurchase of Non-Voting Common Stock   -    (23)   (108,612)   -    -    -    (96,392)   -    (205,027)   - 
Principal repayments on notes receivable from stock option exercises   -    -    -    2,340    -    -    -    -    2,340    - 
Net subscriptions (redemptions/distributions) of non-controlling interest holders   -    -    -    -    -    -    -    (2,753)   (2,753)   (1)
Net consolidations (deconsolidations) of sponsored investment funds   -    -    -    -    -    -    -    -    -    (1,567)
Reclass to temporary equity   -    -    -    -    -    -    -    (119)   (119)   119 
Purchase of non-controlling interests   -    -    -    -    -    -    -    -    -    (6,310)
Other changes in non-controlling interests   -    -    (2,191)   -    -    -    -    -    (2,191)   2,191 
Balance, July 31, 2016  $2   $440   $-   $(9,673)  $(49,767)  $6,671   $674,236   $1,822   $623,731   $90,576 

 

See notes to Consolidated Financial Statements.

 

 8 

 

 

Eaton Vance Corp.

Consolidated Statements of Cash Flows (unaudited)

 

   Nine Months Ended 
   July 31, 
(in thousands)  2017   2016 
         
Cash Flows From Operating Activities:          
Net income  $216,827   $198,461 
Adjustments to reconcile net income to net cash provided by operating activities:          
Depreciation and amortization   14,128    15,252 
Unamortized loss on derivative instrument   (684)   - 
Amortization of deferred sales commissions   12,066    11,868 
Stock-based compensation   60,395    54,275 
Deferred income taxes   12,708    15,921 
Net losses on investments and derivatives   888    88 
Equity in net income of affiliates, net of amortization   (7,973)   (7,956)
Dividends received from affiliates   8,192    8,623 
Loss on extinguishment of debt   5,396    - 
Consolidated CLO entity's operating activities:          
Net gains on bank loans, other investments and note obligations   -    (8,094)
Amortization   -    (456)
Net increase in other assets and liabilities, including cash and cash equivalents   -    74,359 
Changes in operating assets and liabilities:          
Management fees and other receivables   (15,397)   5,369 
Investments in trading securities   (222,063)   (48,208)
Deferred sales commissions   (19,989)   (12,804)
Other assets   10,348    13,240 
Accrued compensation   (22,476)   (50,657)
Accounts payable and accrued expenses   10,066    2,327 
Other liabilities   24,348    4,891 
Net cash provided by operating activities   86,780    276,499 
           
Cash Flows From Investing Activities:          
Additions to equipment and leasehold improvements   (8,316)   (8,786)
Issuance of loan to affiliate   -    (5,000)
Net cash paid in acquisitions   (63,605)   (10,130)
Cash paid for intangible assets   -    (25)
Proceeds from sale of investments   11,471    8,971 
Purchase of investments   (178)   (17,135)
Consolidated CLO entity's investing activities:          
Proceeds from sales and maturities of bank loans and other investments   -    126,177 
Purchase of bank loans and other investments   -    (203,048)
Net cash used for investing activities   (60,628)   (108,976)

 

See notes to Consolidated Financial Statements.

 

 9 

 

 

Eaton Vance Corp.

Consolidated Statements of Cash Flows (unaudited) (continued)

 

   Nine Months Ended 
   July 31, 
(in thousands)  2017   2016 
Cash Flows From Financing Activities:          
Purchase of additional non-controlling interest   (9,820)   (15,580)
Debt issuance costs   (2,761)   - 
Proceeds from issuance of debt   298,896    - 
Repayment of debt   (250,000)   - 
Loss on extinguishment of debt   (5,396)   - 
Proceeds from issuance of Voting Common Stock   -    232 
Proceeds from issuance of Non-Voting Common Stock   104,924    53,748 
Repurchase of Voting Common Stock   -    (77)
Repurchase of Non-Voting Common Stock   (100,235)   (205,027)
Principal repayments on notes receivable from stock option exercises   3,146    2,340 
Excess tax benefit of stock option exercises   12,120    3,706 
Dividends paid   (94,216)   (89,574)
Net subscriptions received from (redemptions/distributions paid to) non-controlling interest holders   139,838    (2,754)
Net cash provided by (used for) financing activities   96,496    (252,986)
Effect of currency rate changes on cash and cash equivalents   3,349    (1,939)
Net increase (decrease) in cash and cash equivalents   125,997    (87,402)
Cash and cash equivalents, beginning of period   424,174    465,558 
Cash and cash equivalents, end of period  $550,171   $378,156 
           
Supplemental Cash Flow Information:          
Cash paid for interest  $20,191   $20,192 
Cash paid for interest upon repayment of debt   1,354    - 
Cash paid for interest by consolidated CLO entity   -    6,746 
Cash paid for income taxes, net of refunds   96,915    81,767 
Supplemental Disclosure of Non-Cash Information:          
Increase in equipment and leasehold improvements due to non-cash additions  $895   $84 
Exercise of stock options through issuance of notes receivable   2,277    870 
Non-controlling interest call option exercise recorded in other liabilities   -    93 
Increase (decrease) in non-controlling interests due to net consolidations (deconsolidations) of sponsored investment funds   86,129    (1,567)

 

See notes to Consolidated Financial Statements.

 

 10 

 

 

Eaton Vance Corp.

Notes to Consolidated Financial Statements (unaudited)

 

1.Summary of Significant Accounting Policies

 

Basis of presentation

 

In the opinion of management, the accompanying unaudited interim Consolidated Financial Statements of Eaton Vance Corp. (the Company) include all adjustments necessary to present fairly the results for the interim periods in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP). Such financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures have been omitted pursuant to such rules and regulations. As a result, these financial statements should be read in conjunction with the audited Consolidated Financial Statements and related notes included in the Company’s latest Annual Report on Form 10-K.

 

During the first quarter of fiscal 2017, the Company changed the description of a line item in the Consolidated Statements of Income from investment advisory and administrative fees to management fees. The change in the description had no impact on the Company’s previously reported net income or financial position, and does not represent a restatement of previously reported financial results. Management fees are defined as including both investment advisory fees and administration fees for all periods presented.

 

Adoption of new accounting standards

 

The Company adopted the following accounting standards as of November 1, 2016:

 

·Consolidation - Accounting Standards Update (ASU) 2015-02, Amendments to the Consolidation Analysis
·Consolidation - ASU 2016-17, Interests Held through Related Parties That Are under Common Control
·Debt issuance costs - ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs

 

The adoption of the amendments to the consolidation guidance did not result in the consolidation of a previously unconsolidated legal entity or the deconsolidation of a previously consolidated entity. The amendment to the consolidation guidance that had the most significant impact on the Company’s consolidation analysis is the elimination of the deferral of accounting guidance that required separate evaluation for investment company variable interest entities (VIEs). The elimination of this deferral reduced the threshold used to evaluate whether the Company has a controlling financial interest in the Company’s sponsored funds in which the Company holds a seed investment from an ownership percentage of 50 percent to 10 percent. The amended guidance also impacted the Company’s evaluation of limited partnerships. Under the amended guidance, if limited partners with equity at risk in a limited partnership or similarly structured entity do not have either substantive kick-out rights over the general partner or substantive participation rights, the limited partnership is deemed to be a VIE. This update to the guidance resulted in the Company identifying that a private equity partnership managed by a third party that was previously considered a voting interest entity is now considered a VIE. The Company holds a variable interest in, but is not deemed to be the primary beneficiary of, this VIE. Refer to disclosure of this variable interest in Note 6, under the heading Other Entities.

 

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The adoption of the new guidance related to debt issuance costs resulted in the Company changing the classification of certain debt issuance costs in its Consolidated Balance Sheets. All debt issuance costs were previously reported as a component of other assets. Debt issuance costs related to the Company’s term debt are now presented as a component of debt on the Company’s Consolidated Balance Sheets. Amounts for the comparative prior fiscal year have been restated to conform to the current year presentation. This reclassification had no impact on previously reported net income or previously reported financial results.

 

The following table presents the effects of the change in presentation of debt issuance costs on the Company’s previously reported Consolidated Balance Sheet:

 

October 31, 2016            
(in thousands)  As
Previously
Reported
   Reclassification   As Restated 
Other assets  $87,759   $(2,194)  $85,565 
Total assets   1,732,576    (2,194)   1,730,382 
Debt   573,967    (2,194)   571,773 
Total liabilities   918,973    (2,194)   916,779 
Total permanent equity   704,575    -    704,575 
Total liabilities, temporary equity and permanent equity   1,732,576    (2,194)   1,730,382 

 

In addition to the above updates, the Company adopted ASU 2017-01, Clarifying the Definition of a Business, in conjunction with the acquisition of the assets of Calvert Investment Management, Inc. (Calvert), which closed on December 30, 2016. This new standard provides for an up-front quantitative approach, which is referred to as a “screen,” to determine whether an entity is acquiring assets or a business. In applying the screen, the Company determined that substantially all of the fair value of the gross assets acquired was concentrated in a single identifiable asset or group of similar assets and that the assets acquired, therefore, did not qualify as a business. Disclosure of the acquisition is included in Note 9.

 

The Company’s significant accounting policies related to each of the ASUs adopted as of November 1, 2016 are summarized below, as amended.

 

Principles of consolidation

 

With limited exceptions, each of the Company’s sponsored mutual funds is organized as a separately managed component (or series) of a series trust. All assets of a series irrevocably belong to that series and are subject to the liabilities of that series; under no circumstances are the liabilities of one series payable by another series. The Company’s series trusts have no equity investment at risk, rather, all equity is issued at the series level. However, decisions regarding the trustees of the trust and certain key activities of each series (i.e., sponsored fund) within the trust, such as appointment of each sponsored fund’s investment adviser, typically reside at the trust level. As a result, shareholders of a sponsored fund that is organized as a series of a series trust lack the ability to control the key decision-making processes that most directly affect the performance of the sponsored fund. Accordingly, the Company believes that each trust is a VIE and each sponsored fund within the trust is a silo that also meets the definition of a VIE. Having concluded that each silo is a VIE, the primary beneficiary evaluation is focused on an analysis of economic interests in the silo. The Company may hold a significant interest in the shares of a sponsored fund during the seed

 

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investment stage when the sponsored fund’s investment track record is being established. The Company consolidates a sponsored fund when it has a controlling financial interest in the fund. Given that the fees earned from each sponsored fund are commensurate with the services provided and consistent with market-based terms, the Company has generally concluded that its asset management arrangements with sponsored funds represent variable interests that convey both power and economics to the Company in instances in which the Company holds a greater than 10 percent ownership interest in the fund.  Fee revenue earned on, as well as investments in, consolidated sponsored funds are eliminated in consolidation.

 

The Company regularly seeds new sponsored funds and may consolidate one or more sponsored funds during a given reporting period. Due to the similarity of risks related to the Company’s involvement with each sponsored fund, disclosures required under the VIE model, such as disclosures regarding the carrying amount and classification of assets of sponsored funds and the gains and losses that the Company recognizes from sponsored funds, are aggregated.

 

When the Company is no longer deemed to hold a controlling financial interest in a sponsored fund, the Company deconsolidates the sponsored fund and removes the related assets, liabilities and non-controlling interests from its balance sheet and classifies the Company’s remaining investment as available-for-sale. Because consolidated sponsored funds carry their assets and liabilities at fair value, there is no incremental gain or loss recognized upon deconsolidation.

 

The extent of the Company’s exposure to loss with respect to a consolidated sponsored fund is limited to the amount of the Company’s investment in the sponsored fund. The Company is not obligated to provide financial support to sponsored funds. Only the assets of a sponsored fund are available to settle its obligations. Beneficial interest holders of sponsored funds do not have recourse to the general credit of the Company.

 

Consolidation of VIEs

 

Accounting guidance provides a framework for determining whether an entity should be considered a VIE and, if so, whether a company’s involvement with the entity results in a variable interest in the entity. If the Company determines that it does have a variable interest in an entity, it must perform an analysis to determine whether it is the primary beneficiary of the VIE. If the Company determines it is the primary beneficiary of the VIE, it is required to consolidate the assets, liabilities, results of operations and cash flows of the VIE.

 

The Company’s evaluation of whether it qualifies as the primary beneficiary of a VIE is complex. The Company is the primary beneficiary of a VIE if it has a controlling financial interest in the VIE. A company is deemed to have a controlling financial interest in a VIE if it has both (i) the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance, and (ii) the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE.

 

For collateralized loan obligation (CLO) entities, the Company must evaluate the relative size of the Company’s residual interest and the overall magnitude and design of the collateral fees within each structure. There is also judgment involved in assessing whether the Company has the power to direct the activities that most significantly impact the VIE’s economic performance and the obligation to absorb losses of or the right to receive benefits from the VIE that could potentially be significant to the entity.

 

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While the Company believes its overall evaluation of VIEs is appropriate, future changes in estimates, judgments and assumptions, changes in the ownership interests of the Company in a VIE and/or future accounting pronouncements may affect the resulting consolidation, or deconsolidation, of the assets, liabilities, results of operations and cash flows of a VIE.

 

Debt issuance costs

 

Deferred debt issuance costs are amortized using the effective interest method over the related debt term. Debt issuance costs related to the Company’s term debt are included in debt in the Company’s Consolidated Balance Sheets. The amortization of deferred debt issuance costs is included in interest expense on the Company’s Consolidated Statements of Income.

 

2.New Accounting Standards Not Yet Adopted

 

Statement of cash flows – restricted cash

 

In November 2016, the Financial Accounting Standards Board (FASB) issued an amendment to existing guidance on the presentation and classification of restricted cash in the statement of cash flows. The amendment requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. The amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The new guidance is effective for the Company’s fiscal year that begins on November 1, 2018 and requires a retrospective approach to adoption. The Company is currently evaluating the potential impact on its Consolidated Financial Statements and related disclosures.

 

Simplifying the test for goodwill impairment

 

In January 2017, the FASB issued amended guidance that simplifies the test for goodwill impairment. The standard eliminates Step 2 from the goodwill impairment test. Under the amended guidance, an entity should perform its goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity will recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, but the loss cannot exceed the total amount of goodwill allocated to the reporting unit. The new guidance is effective for the Company’s fiscal year that begins on November 1, 2020 and requires a prospective approach to adoption. Early adoption is permitted for interim or annual goodwill impairment tests. The Company is currently evaluating the potential impact on its Consolidated Financial Statements and related disclosures.

 

3.Consolidated Sponsored Funds

 

The following table sets forth the balances related to consolidated sponsored funds at July 31, 2017 and October 31, 2016, as well as the Company’s interest in these funds:

 

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(in thousands)         July 31,
 2017  
   October 31,
2016
 
Investments  $386,675   $248,036 
Other assets   13,462    10,984 
Other liabilities   (47,545)   (23,947)
Redeemable non-controlling interests   (110,603)   (24,474)
Interest in consolidated sponsored funds  $241,989   $210,599 

 

4.Investments

 

The following is a summary of investments at July 31, 2017 and October 31, 2016:

 

(in thousands)    July 31,
2017
     October 31,
2016
 
Investment securities, trading:          
Short-term debt securities  $84,443   $85,822 
Consolidated sponsored funds   386,675    248,036 
Separately managed accounts   90,514    79,683 
Total investment securities, trading   561,632    413,541 
Investment securities, available-for-sale   16,092    13,312 
Investments in non-consolidated CLO entities   3,649    3,837 
Investments in equity method investees   149,664    139,929 
Investments, other   19,131    19,154 
Total investments  $750,168   $589,773 

 

Investment securities, trading

 

The following is a summary of the fair value of investments classified as trading at July 31, 2017 and October 31, 2016:

 

(in thousands)    July 31,
2017
     October 31,
2016
 
Short-term debt securities  $84,443   $85,822 
Other debt securities   301,821    191,688 
Equity securities   175,368    136,031 
Total investment securities, trading  $561,632   $413,541 

 

The Company recognized gains related to trading securities still held at the reporting date of $6.8 million and $7.3 million for the three months ended July 31, 2017 and 2016, respectively, and $15.5 million and $13.3 million for the nine months ended July 31, 2017 and 2016, respectively, within net gains and other investment income in the Company’s Consolidated Statements of Income.

 

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Investment securities, available-for-sale

 

The following is a summary of the gross unrealized gains and losses included in accumulated other comprehensive income (loss) related to securities classified as available-for-sale at July 31, 2017 and October 31, 2016:

 

July 31, 2017      Gross Unrealized     
(in thousands)  Cost   Gains   Losses   Fair Value 
Investment securities, available-for-sale  $9,912   $6,192   $(12)  $16,092 

 

October 31, 2016      Gross Unrealized     
(in thousands)  Cost   Gains   Losses   Fair Value 
Investment securities, available-for-sale  $8,528   $4,798   $(14)  $13,312 

 

Net unrealized holding gains (losses) on investment securities classified as available-for-sale included in other comprehensive income (loss) on the Company’s Consolidated Statements of Comprehensive Income were $0.3 million and $0.7 million for the three months ended July 31, 2017 and 2016, respectively, and $1.4 million and $0.7 for the nine months ended July 31, 2017 and 2016, respectively.

 

The Company did not recognize any impairment losses on investment securities classified as available-for-sale during three and nine months ended July 31, 2017 or 2016.

 

The aggregate fair value of available-for-sale investments in an unrealized loss position at July 31, 2017 was $5.2 million; unrealized losses related to these investments totaled $12,000. No investment with a gross unrealized loss has been in a loss position for greater than one year.

 

The following is a summary of the Company’s realized gains and losses recognized upon disposition of investments classified as available-for-sale for the three and nine months ended July 31, 2017 and 2016:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Gains  $29   $-   $233   $199 
Losses   -    -    (1)   (37)
Net realized gains  $29   $-   $232   $162 

 

Investments in equity method investees

 

The Company has a 49 percent interest in Hexavest Inc. (Hexavest), a Montreal, Canada-based investment adviser. The carrying value of this investment was $146.6 million and $137.3 million at July 31, 2017 and October 31, 2016, respectively. At July 31, 2017, the Company’s investment in Hexavest consisted of $6.2 million of equity in the net assets of Hexavest, definite-lived intangible assets of $24.9 million and goodwill of $122.2 million, net of a deferred tax liability of $6.7 million. At October 31, 2016, the Company’s investment in Hexavest consisted of $5.3 million of equity in the net assets of Hexavest, definite-lived intangible assets of $24.5 million and goodwill of $114.1 million, net of a deferred tax liability of $6.6

 

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million. The investment is denominated in Canadian dollars and is subject to foreign currency translation adjustments, which are recorded in accumulated other comprehensive income (loss).

 

The Company has an option to purchase an additional 26 percent interest in Hexavest. The option is exercisable within 60 days of the Company’s receipt of Hexavest’s August 31, 2017 audited financial statements, which must be provided to the Company no later than October 30, 2017. The Company then has 60 days from receipt of the audited financial statements to notify Hexavest of its intent to exercise. As part of the purchase price allocation at closing, a value of $8.3 million was assigned to this option. The option is included in other assets in the Company’s Consolidated Balance Sheets at July 31, 2017 and October 31, 2016.

 

The Company also has a seven percent equity interest in a private equity partnership managed by a third party that invests in companies in the financial services industry. The Company’s investment in the partnership was $3.0 million and $2.6 million at July 31, 2017 and October 31, 2016, respectively.

 

The Company did not recognize any impairment losses related to its investments in equity method investees during the three and nine months ended July 31, 2017 or 2016.

 

During the nine months ended July 31, 2017 and 2016, the Company received dividends of $8.2 million and $8.6 million, respectively, from its investments in equity method investees.

 

Investments, other

 

Investments, other, consists of certain investments carried at cost totaling $19.1 million and $19.2 million at July 31, 2017 and October 31, 2016, respectively.

 

During the fiscal year ended October 31, 2016, the Company participated as lead investor in an equity financing in SigFig, an independent San Francisco-based wealth management technology firm. The carrying value of Company’s investment in SigFig was $17.0 million at both July 31, 2017 and October 31, 2016.

 

5.Derivative Financial Instruments

 

Derivative financial instruments designated as cash flow hedges

 

In April 2017, the Company issued $300.0 million in aggregate principal amount of 3.5 percent ten-year senior notes due April 6, 2027 (2027 Senior Notes). In anticipation of the offering, the Company entered into a Treasury lock transaction with a notional amount of $125.0 million and concurrently designated the Treasury lock as a cash flow hedge of its exposure to variability in the forecasted semi-annual interest payments on $125.0 million of principal outstanding on the 2027 Senior Notes. The benchmark U.S. Treasury rate declined from the time the Treasury lock was entered into until the time the 2027 Senior Notes were priced, and the Treasury lock was net settled for cash at a loss of $0.7 million. The Treasury lock was determined to be a highly effective cash flow hedge and the entire $0.7 million loss, net of the associated deferred tax benefit of $0.3 million, was recorded in other comprehensive income (loss), net of tax. The loss recorded in other comprehensive income (loss) will be reclassified to earnings as a component of interest expense over the term of the debt. During the three and nine months ended July 31, 2017, approximately $17,000 and $20,000 of this deferred loss was reclassified into interest expense, respectively. During the next twelve months, the Company expects to reclassify approximately $68,000 of the loss into interest expense.

 

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In fiscal 2013, the Company entered into a forward-starting interest rate swap in connection with the offering of its 3.625 percent unsecured senior notes due June 15, 2023 (2023 Senior Notes) and recorded the unamortized gain on the swap in other comprehensive income (loss), net of tax. The Company reclassified $50,000 and $0.2 million of the deferred gain into interest expense during both the three and nine months ended July 31, 2017 and 2016, respectively, and will reclassify the remaining $1.2 million of unamortized gain as of July 31, 2017 to earnings as a component of interest expense over the remaining term of the debt. During the next twelve months, the Company expects to reclassify approximately $0.2 million of the gain into interest expense.

 

In fiscal 2007, the Company entered into a Treasury lock transaction in connection with the offering of its 6.5 percent unsecured senior notes due October 2, 2017 (2017 Senior Notes) and recorded the unamortized loss on the Treasury lock in other comprehensive income (loss), net of tax. During the three months ended July 31, 2017, the Company reclassified the remaining $0.1 million of unamortized loss to earnings as a component of interest expense concurrent with the redemption of the 2017 Senior Notes in May 2017 (see Note 11). The Company reclassified $56,000 of the deferred loss into interest expense during the three months ended July 31, 2016. During both the nine months ended July 31, 2017 and 2016, the Company reclassified $0.2 million of the deferred loss into interest expense.

 

Other derivative financial instruments not designated for hedge accounting

 

The Company utilizes stock index futures contracts, total return swap contracts, foreign exchange contracts, commodity futures contracts, currency futures contracts and interest rate futures contracts to hedge the market and currency risks associated with its investments in certain consolidated sponsored funds and separately managed accounts seeded for new product development purposes (consolidated seed investments).

 

The Company was a party to the following derivative financial instruments at July 31, 2017 and October 31, 2016:

 

   July 31, 2017   October 31, 2016 
   Number of
contracts
   Notional
value

 (in millions)
   Number of
contracts
   Notional
value

 (in millions)
 
Stock index futures contracts   1,672   $129.9    1,721   $125.4 
Total return swap contracts   5   $50.2    1   $40.0 
Foreign exchange contracts   26   $26.8    32   $18.7 
Commodity futures contracts   201   $8.9    -   $- 
Currency futures contracts   93   $10.5    -   $- 
Interest rate futures contracts   128   $44.6    -   $- 

 

The Company has not designated any of these derivative contracts as hedging instruments for accounting purposes. The derivative contracts outstanding, and the notional values they represent at July 31, 2017 and October 31, 2016, are representative of derivative balances throughout each respective period.

 

The Company has not elected to offset fair value amounts related to derivative instruments executed with the same counterparty under master netting arrangements; as a result, the Company records all derivative

 

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financial instruments as either other assets or other liabilities, gross, on its Consolidated Balance Sheets and measures them at fair value. The following tables present the fair value of derivative financial instruments not designated for hedge accounting and how they are reflected in the Company’s Consolidated Financial Statements as of July 31, 2017 and October 31, 2016:

 

   July 31, 2017   October 31, 2016 
(in thousands)  Other
assets
   Other
liabilities
   Other
assets
   Other
liabilities
 
Stock index futures contracts  $301    3,178   $1,722   $130 
Total return swap contracts   -    2,192    -    418 
Foreign exchange contracts   115    500    350    267 
Commodity futures contracts   123    195    -    - 
Currency futures contracts   90    250    -    - 
Interest rate futures contracts   33    240    -    - 
Total  $662   $6,555   $2,072   $815 

 

Changes in the fair value of derivative contracts are recognized in gains and other investment income, net (see Note 14). The Company recognized the following net gains (losses) on derivative financial instruments for the three and nine months ended July 31, 2017 and 2016:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Stock index futures contracts  $(6,416)  $(4,518)  $(19,446)  $(3,597)
Total return swap contracts   (1,108)   (1,450)   (3,083)   (1,889)
Foreign exchange contracts   (593)   496    (990)   (644)
Commodity futures contracts   (72)   -    (74)   - 
Currency futures contracts   (91)   -    (101)   - 
Interest rate futures contracts   (436)   -    (436)   - 
Total  $(8,716)  $(5,472)  $(24,130)  $(6,130)

 

In addition to the derivative contracts described above, certain consolidated seed investments may utilize derivative financial instruments within their portfolios in pursuit of their stated investment objectives. See Note 3 for discussion of consolidated sponsored funds.

 

6.Variable Interest Entities

 

Investments in VIEs that are consolidated

 

Consolidated sponsored funds

The Company invests in investment companies that meet the definition of a VIE. Disclosure regarding such consolidated sponsored funds is included in Note 3.

 

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Consolidated CLO entities

As of July 31, 2017 and October 31, 2016, the Company was not deemed to be the primary beneficiary of any CLO entities; accordingly, no CLO entities have been consolidated at July 31, 2017 and October 31, 2016.

 

Eaton Vance CLO 2015-1

On September 21, 2016, the Company sold its 16.1 percent subordinated interest in Eaton Vance CLO 2015-1 to an unrelated third party, recognizing a gain on disposal of $0.1 million. Although the Company continues to serve as collateral manager of the entity, and therefore has the power to direct the activities that most significantly impact the economic performance of the entity, the Company concluded that it was no longer the primary beneficiary of the entity upon disposition of its 16.1 percent residual interest. As a result, the Company deconsolidated Eaton Vance CLO 2015-1 effective September 21, 2016.

 

Prior to the deconsolidation of Eaton Vance CLO 2015-1, changes in the fair values of bank loan investments resulted in net gains (losses) of $2.9 million and $(1.6) million for the three and nine months ended July 31, 2016, respectively, while changes in the fair values of Eaton Vance CLO 2015-1’s note obligations resulted in net gains (losses) of $(3.4) million and $9.7 million for the three and nine months ended July 31, 2016, respectively. The combined net gains (losses) of $(0.5) million and $8.1 million for the three and nine months ended July 31, 2016, respectively, were recorded in gains and other investment income, net, of consolidated CLO entity on the Company’s Consolidated Statements of Income.

 

For the three and nine months ended July 31, 2016, the Company recorded net income (loss) of $(15,000) and $12.4 million, respectively, related to Eaton Vance CLO 2015-1. The Company recorded net income (loss) attributable to other beneficial interests of $(0.7) million and $12.0 million for the three and nine months ended July 31, 2016, respectively. Net income attributable to Eaton Vance Corp. shareholders was $0.7 million and $0.4 million for the three and nine months ended July 31, 2016, respectively.

 

Investments in VIEs that are not consolidated

 

Sponsored funds

The Company classifies its investments in certain sponsored funds that are considered VIEs as available-for-sale investments when it is not considered the primary beneficiary of these VIEs (generally when the Company owns less than 10 percent of the fund). The Company provides aggregated disclosures with respect to these non-consolidated sponsored fund VIEs in Note 4.

 

Non-consolidated CLO entities

Non-consolidated CLO entities had total assets of $1.5 billion and $2.0 billion as of July 31, 2017 and October 31, 2016, respectively. The Company’s variable interests in these entities consist of the Company’s direct ownership in these entities and any subordinated management fees earned but uncollected. The Company’s investment in these entities totaled $3.6 million and $3.8 million as of July 31, 2017 and October 31, 2016, respectively. Collateral management fees receivable for these entities totaled $0.5 million and $1.4 million on July 31, 2017 and October 31, 2016, respectively. In the first nine months of fiscal 2017, the Company did not provide any financial or other support to these entities that it was not contractually required to provide in any of the periods presented. The Company’s risk of loss with respect to these managed CLO entities is limited to the carrying value of its investments in, and collateral management fees receivable from, these entities as of July 31, 2017.

 

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The Company’s investment in non-consolidated CLO entities is carried at amortized cost and is disclosed as a component of investments in Note 4. Income from these entities is recorded as a component of gains and other investment income, net, in the Company’s Consolidated Statements of Income, based upon projected investment yields.

 

Other entities

The Company holds variable interests in, but is not deemed to be the primary beneficiary of, certain sponsored privately offered equity funds with total assets of $16.9 billion and $13.5 billion on July 31, 2017 and October 31, 2016, respectively. The Company’s variable interests in these entities consist of the Company’s direct ownership therein, which in each case is insignificant relative to the total ownership of the fund, and any investment advisory fees earned but uncollected. The Company held investments in these entities totaling $2.6 million and $2.2 million on July 31, 2017 and October 31, 2016, respectively, and investment advisory fees receivable totaling $1.0 million and $0.8 million on July 31, 2017 and October 31, 2016, respectively. In the first nine months of fiscal 2017, the Company did not provide any financial or other support to these entities that it was not contractually required to provide. The Company’s risk of loss with respect to these managed entities is limited to the carrying value of its investments in, and investment advisory fees receivable from, the entities as of July 31, 2017. The Company does not consolidate these VIEs because it does not have the obligation to absorb losses or right to receive benefits that could potentially be significant to the VIE.

 

The Company’s investments in privately offered equity funds are carried at fair value and included in investment securities, available-for-sale, which are disclosed as a component of investments in Note 4. The Company records any change in fair value, net of tax, in other comprehensive income (loss).

 

The Company also holds a variable interest in, but is not deemed to be the primary beneficiary of, a private equity partnership managed by a third party that invests in companies in the financial services industry. The Company’s variable interest in this entity consists of the Company’s direct ownership in the private equity partnership, equal to $3.0 million and $2.6 million at July 31, 2017 and October 31, 2016, respectively. The Company did not provide any financial or other support to this entity. The Company’s risk of loss with respect to the private equity partnership is limited to the carrying value of its investment in the entity as of July 31, 2017. The Company does not consolidate this VIE because the Company does not hold the power to direct the activities that most significantly impact the VIE.

 

The Company’s investment in the private equity partnership is accounted for as an equity method investment and disclosures related to this entity are included in Note 4 under the heading investments in equity method investees.

 

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7.Fair Value of Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

The following tables summarize financial assets and liabilities measured at fair value on a recurring basis and their assigned levels within the valuation hierarchy at July 31, 2017 and October 31, 2016:

 

July 31, 2017

 

(in thousands)  Level 1   Level 2   Level 3   Other
Assets Not
Held at
Fair Value
   Total 
                     
Financial assets:                         
Cash equivalents  $20,108   $123,266   $-   $-   $143,374 
Investments:                         
Investment securities, trading:                         
Short-term debt securities   -    84,443    -    -    84,443 
Other debt securities   15,914    285,907    -    -    301,821 
Equity securities   124,541    50,827    -    -    175,368 
Investment securities, available-for-sale   13,488    2,604    -    -    16,092 
Investments in non-consolidated CLO entities(1)   -    -    -    3,649    3,649 
Investments in equity method investees(2)   -    -    -    149,664    149,664 
Investments, other(3)   -    146    -    18,985    19,131 
Derivative instruments   -    662    -    -    662 
Total financial assets  $174,051   $547,855   $-   $172,298   $894,204 
                          
Financial liabilities:                         
Derivative instruments  $-   $6,555   $-   $-   $6,555 
Total financial liabilities  $-   $6,555   $-   $-   $6,555 

 

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October 31, 2016

 

(in thousands)  Level 1   Level 2   Level 3  

Other
Assets Not

Held at
Fair Value

   Total 
                     
Financial assets:                         
Cash equivalents  $21,875   $35,913   $-   $-   $57,788 
Investments:                         
Investment securities, trading:                         
Short-term debt securities   -    85,822    -    -    85,822 
Other debt securities   18,757    172,931    -    -    191,688 
Equity securities   93,491    42,540    -    -    136,031 
Investment securities, available-for-sale   11,051    2,261    -    -    13,312 
Investments in non-consolidated CLO entities(1)   -    -    -    3,837    3,837 
Investments in equity method investees(2)   -    -    -    139,929    139,929 
Investments, other(3)   -    120    -    19,034    19,154 
Derivative instruments   -    2,072    -    -    2,072 
Total financial assets  $145,174   $341,659   $-   $162,800   $649,633 
                          
Financial liabilities:                         
Derivative instruments  $-   $815   $-   $-   $815 
Total financial liabilities  $-   $815   $-   $-   $815 

 

(1)The Company’s investments in these CLO entities are measured at fair value on a non-recurring basis using Level 3 inputs. The investments are carried at amortized cost unless facts and circumstances indicate that the investments have been impaired, at which time the investments are written down to fair value. During the three and nine months ended July 31, 2017, the Company recognized $0.4 million of other-than-temporary impairment losses related to its investment in one non-consolidated CLO entity. The Company did not recognize any impairment losses on investments in non-consolidated CLO entities during the three and nine months ended July 31, 2016.

(2)Investments in equity method investees are not measured at fair value in accordance with U.S. GAAP.

(3)Investments, other, include investments carried at cost that are not measured at fair value in accordance with U.S. GAAP.

 

Valuation methodologies

 

Cash equivalents

Cash equivalents include investments in money market funds, U.S. Treasury and government agency securities, certificates of deposit and commercial paper with original maturities of less than three months. Cash investments in actively traded money market funds are valued using published net asset values and are classified as Level 1 within the fair value measurement hierarchy. U.S. Treasury and government agency securities are valued based upon quoted market prices for similar assets in active markets, quoted prices for identical or similar assets that are not active and inputs other than quoted prices that are observable or corroborated by observable market data. The carrying amounts of certificates of deposit and commercial paper are measured at amortized cost, which approximates fair value due to the short time between the purchase and expected maturity of the investments. Depending on the nature of the inputs, these assets are generally classified as Level 1 or 2 within the fair value measurement hierarchy.

 

Investment securities, trading short-term debt

Short-term debt securities include certificates of deposit, commercial paper and corporate debt obligations with remaining maturities from three months to 12 months. Short-term debt securities held

 

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are generally valued on the basis of valuations provided by third-party pricing services, as derived from such services’ pricing models. Inputs to the models may include, but are not limited to, reported trades, executable bid and ask prices, broker-dealer quotations, prices or yields of securities with similar characteristics, benchmark curves or information pertaining to the issuer, as well as industry and economic events. The pricing services may use a matrix approach, which considers information regarding securities with similar characteristics to determine the valuation for a security. Depending on the nature of the inputs, these assets are generally classified as Level 1 or 2 within the fair value measurement hierarchy.

 

Investment securities, trading other debt

Other debt securities classified as trading include debt obligations held in the portfolios of consolidated sponsored funds and separately managed accounts. Other debt securities held are generally valued on the basis of valuations provided by third-party pricing services as described above for investment securities, trading – short-term debt. Other debt securities purchased with a remaining maturity of 60 days or less (excluding those that are non-U.S. denominated, which typically are valued by a third-party pricing service or dealer quotes) are generally valued at amortized cost, which approximates fair value. Depending upon the nature of the inputs, these assets are generally classified as Level 1 or 2 within the fair value measurement hierarchy.

 

Investment securities, trading equity

Equity securities classified as trading include foreign and domestic equity securities held in the portfolios of consolidated sponsored funds and separately managed accounts. Equity securities are valued at the last sale, official close or, if there are no reported sales on the valuation date, at the mean between the latest available bid and ask prices on the primary exchange on which they are traded. When valuing foreign equity securities that meet certain criteria, the portfolios use a fair value service that values such securities to reflect market trading that occurs after the close of the applicable foreign markets of comparable securities or other instruments that have a strong correlation to the fair-valued securities. In addition, the Company performs its own independent back test review of fair values versus the subsequent local market opening prices when available. Depending upon the nature of the inputs, these assets generally are classified as Level 1 or 2 within the fair value measurement hierarchy.

 

Investment securities, available-for-sale

Investment securities classified as available-for-sale include investments in sponsored mutual funds and privately offered equity funds. Sponsored mutual funds are valued using published net asset values and are classified as Level 1 within the fair value measurement hierarchy. Investments in sponsored privately offered equity funds that are not listed on an active exchange but have net asset values that are comparable to mutual funds and have no redemption restrictions are classified as Level 2 within the fair value measurement hierarchy.

 

Derivative instruments

Derivative instruments, which include stock index futures contracts, total return swap contracts, foreign exchange contracts, commodity futures contracts, currency futures contracts and interest rate futures contracts, are recorded as either other assets or other liabilities on the Company’s Consolidated Balance Sheets. Stock index futures contracts, total return swap contracts, commodity futures contracts, currency futures contracts and interest rate futures contracts are valued using a third-party pricing service that determines fair value based on bid and ask prices. Foreign exchange contracts are valued by interpolating a value using the spot foreign exchange rate and forward points, which are based on spot rate and currency interest rate differentials. Derivative instruments generally are classified as Level 2 within the fair value measurement hierarchy.

 

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Transfers in and out of Levels

 

The following table summarizes fair value transfers between Level 1 and Level 2 of the fair value measurement hierarchy for the three and nine months ended July 31, 2017 and 2016:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Transfers from Level 1 into Level 2(1)  $136   $127   $532   $97 
Transfers from Level 2 into Level 1(2)   423    37    2    15 

 

(1)Transfers from Level 1 into Level 2 represent securities for which unadjusted quoted market prices in active markets became unavailable.
(2)Transfers from Level 2 into Level 1 represent securities for which unadjusted quoted market prices in active markets became available.

 

Level 3 assets and liabilities

 

The Company did not hold any assets or liabilities valued on a recurring basis and classified as Level 3 within the fair value measurement hierarchy during the three and nine months ended July 31, 2017. The following table shows a reconciliation of the beginning and ending fair value measurements of assets and liabilities valued on a recurring basis and classified as Level 3 within the fair value measurement hierarchy for the three and nine months ended July 31, 2016:

 

   Three Months Ended   Nine Months Ended 
   July 31, 2016   July 31, 2016 
(in thousands) 

Bank loans
and other
investments of
Eaton Vance
CLO 2015-1

   Senior and
subordinated
note
obligations of
Eaton Vance
CLO 2015-1
  

Bank loans
and other
investments of
Eaton Vance
CLO 2015-1

   Senior and
subordinated
note
obligations of
Eaton Vance
CLO 2015-1
 
Beginning balance  $660   $384,224   $-   $- 
Net gains (losses) on investments and note obligations included in net income(1)   114    3,401    74    (3,186)
Purchases   72    -    72    - 
Sales   (756)   -    (756)   - 
Amortization of original issue discount   -    158    -    315 
Transfers into Level 3(2)   -    -    700    390,654 
Ending balance  $90   $387,783   $90   $387,783 
Change in unrealized gains (losses) included in net income relating to assets and liabilities held  $18   $3,559   $18   $(2,871)

 

(1)Substantially all net gains (losses) on investments and note obligations attributable to the assets and borrowings of the Company's consolidated CLO entities are allocated to non-controlling and other beneficial interests on the Company's Consolidated Statements of Income.
(2)Transfers into Level 3 were the result of a reduction in the availability of significant observable inputs used in determining the fair value of certain instruments.

 

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As discussed more fully in Note 6, the Company deconsolidated Eaton Vance CLO 2015-1 on September 21, 2016.

 

8.Fair Value Measurements of Other Financial Instruments

 

Certain financial instruments are not carried at fair value, but their fair value is required to be disclosed. The following is a summary of the carrying amounts and estimated fair values of these financial instruments at July 31, 2017 and October 31, 2016:

 

   July 31, 2017   October 31, 2016 
(in thousands)  Carrying
Value
   Fair
Value
   Fair
Value
Level
   Carrying
Value
   Fair
Value
   Fair
Value
Level
 
Loan to affiliate  $5,000   $5,000    3   $5,000   $5,000    3 
Investments, other  $18,984   $18,984    3   $19,034   $19,034    3 
Other assets  $6,638   $4,638    3   $6,194   $4,328    3 
Debt  $618,582   $641,696    2   $571,773   $603,625    2 

 

As discussed in Note 20, on December 23, 2015, Eaton Vance Management Canada Ltd. (EVMC), a wholly owned subsidiary of the Company, loaned $5.0 million to Hexavest under a term loan agreement to seed a new investment strategy. The carrying value of the loan approximates fair value. The fair value is determined annually using a cash flow model that projects future cash flows based upon contractual obligations, to which the Company then applies an appropriate discount rate.

 

Included in investments, other, is a non-controlling capital interest in SigFig carried at $17.0 million at both July 31, 2017 and October 31, 2016 (see Note 4). The carrying value of this investment approximates fair value, as the Company purchased this investment in the previous fiscal year and there have been no events or changes in circumstances that would have had a significant effect on the fair value of this investment at July 31, 2017.

 

Included in other assets at July 31, 2017 and October 31, 2016 is an option to acquire an additional 26 percent interest in Hexavest carried at $6.6 million and $6.2 million, respectively. The option is exercisable within 60 days of the Company’s receipt of Hexavest’s August 31, 2017 audited financial statements, which must be provided to the Company no later than October 30, 2017. The Company then has 60 days from receipt of the audited financial statements to notify Hexavest of its intent to exercise. The fair value of this option is determined using a Monte Carlo model, which simulates potential future market multiples of earnings before interest and taxes (EBIT) and compares this to the contractually fixed multiple of Hexavest’s EBIT at which the option can be exercised. The Monte Carlo model uses this array of simulated multiples and their difference from the contractual multiple times the projected EBIT for Hexavest to estimate the future exercise value of the option, which is then adjusted to present value.

 

The fair value of the Company’s debt has been determined based on quoted prices in inactive markets.

 

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9.Acquisitions

 

There was no new acquisition activity during the three months ended July 31, 2017.

 

Atlanta Capital Management Company, LLC (Atlanta Capital)

 

In the second quarter of fiscal 2017, the Company exercised a call option requiring the non-controlling interest holders of Atlanta Capital to sell a 0.1 percent profit interest in Atlanta Capital for $0.4 million pursuant to the terms of the original acquisition agreement, as amended. The purchase price of this transaction was based on a multiple of Atlanta Capital’s earnings before taxes for the fiscal year ended October 31, 2016. The transaction settled in May 2017.

 

In the fourth quarter of fiscal 2016, the Company purchased a 0.9 percent profit interest in Atlanta Capital for $1.9 million pursuant to the put and call provisions of the Atlanta Capital Management Company, LLC Long-term Equity Incentive Plan (the Atlanta Capital Plan). The transaction settled in November 2016.

 

Total profit interests in Atlanta Capital held by non-controlling interest holders, including direct profit interests related to the original acquisition as well as indirect profit interests issued pursuant to the Atlanta Capital Plan, increased to 13.1 percent as of July 31, 2017 from 13.0 percent as of October 31, 2016, reflecting the transactions described above as well as the grant of an additional 1.1 percent profit interest to employees of Atlanta Capital pursuant to the terms of the Atlanta Capital Plan in the first quarter of fiscal 2017. Non-controlling interest holders did not hold any capital interests in Atlanta Capital as of July 31, 2017.

 

Calvert

 

On December 30, 2016, the Company, through its newly formed subsidiary Calvert Research and Management, acquired substantially all of the assets of Calvert for cash. The transaction was accounted for as an asset acquisition because substantially all of the fair value of the gross assets acquired was concentrated in a single identifiable intangible asset related to acquired contracts to manage and distribute sponsored mutual funds (the Calvert Funds). The Calvert Funds are a diversified family of responsibly invested mutual funds, encompassing actively and passively managed equity, fixed income and asset allocation strategies managed in accordance with the Calvert Principles for Responsible Investment. See Note 10 for a summary of the acquired intangible assets.

 

Parametric Portfolio Associates LLC (Parametric)

 

In the first quarter of fiscal 2017, the Company exercised a call option related to non-controlling interests in Parametric issued in conjunction with the Clifton acquisition, resulting in the Company’s acquisition of an indirect 0.5 percent profit interest and a 0.5 percent capital interest in Parametric. The transaction settled in January 2017 for $6.9 million.

 

In the first quarter of fiscal 2016, certain non-controlling interest holders of Parametric exercised a put option and the Company exercised a call option related to non-controlling interests in Parametric issued in conjunction with the Clifton acquisition, resulting in the Company’s acquisition of an indirect 0.5 percent profit interest and a 0.5 percent capital interest in Parametric. The put settled in November 2015 for $4.1 million and the call settled in December 2015 for $2.1 million.

 

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In the fourth quarter of fiscal 2016 the Company purchased a 0.1 percent profit interest in Parametric for $0.6 million pursuant to the put and call provisions of the Parametric Portfolio Associates LLC Long-term Equity Incentive Plan, as amended and restated (the Parametric Plan). The transaction settled in November 2016.

 

Total profit interests in Parametric held by non-controlling interest holders, including indirect profit interests issued pursuant to the Parametric Plan, decreased to 6.4 percent as of July 31, 2017 from 7.0 percent as of October 31, 2016, reflecting the transactions described above. Total capital interests in Parametric held by non-controlling interest holders decreased to 1.3 percent as of July 31, 2017 from 1.8 percent as of October 31, 2016.

 

Tax Advantaged Bond Strategies (TABS)

 

In fiscal 2009, the Company acquired the TABS business of M.D. Sass Investors Services for cash and future consideration. During the second quarter of fiscal 2017, the Company made a final contingent payment of $11.6 million to the selling group based upon prescribed multiples of TABS’s revenue for the twelve months ended December 31, 2016. The payment increased goodwill by $11.6 million, as the acquisition was completed prior to the change in accounting for contingent purchase price consideration.

 

10.Intangible Assets

 

The following is a summary of intangible assets at July 31, 2017 and October 31, 2016:

 

July 31, 2017            
(in thousands)  Gross
Carrying
Amount
   Accumulated
Amortization
   Net
Carrying
Amount
 
             
Amortizing intangible assets:               
Client relationships acquired  $134,247   $(101,236)  $33,011 
Intellectual property acquired   1,025    (436)   589 
Trademark acquired   4,257    (729)   3,528 
Research system   639    (124)   515 
                
Non-amortizing intangible assets:               
Mutual fund management contracts acquired   54,408    -    54,408 
Total  $194,576   $(102,525)  $92,051 

 

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October 31, 2016            
(in thousands)  Gross
Carrying
Amount
   Accumulated
Amortization
   Net
Carrying
Amount
 
             
Amortizing intangible assets:               
Client relationships acquired  $133,927   $(94,873)  $39,054 
Intellectual property acquired   1,025    (385)   640 
Trademark acquired   900    (493)   407 
                
Non-amortizing intangible assets:               
Mutual fund management contracts acquired   6,708    -    6,708 
Total  $142,560   $(95,751)  $46,809 

 

Amortization expense was $2.2 million and $2.1 million for the three months ended July 31, 2017 and 2016 respectively, and $6.8 million and $6.5 million for the nine months ended July 31, 2017 and 2016, respectively. Estimated remaining amortization expense for fiscal 2017 and the next five fiscal years, on a straight-line basis, is as follows:

 

   Estimated 
Year Ending October 31,  Amortization 
(in thousands)  Expense 
Remaining 2017  $2,239 
2018   8,927 
2019   4,978 
2020   3,807 
2021   2,282 
2022   2,154 

 

Acquired intangible assets

 

The following is a summary of the intangible assets acquired in the first quarter of fiscal 2017 and the net carrying amount of these assets as of July 31, 2017:

 

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(in thousands)  Weighted-
Average
Remaining
Amortization
Period
(in years)
   Gross
Carrying
Amount
   Accumulated
Amortization
   Net
Carrying
Amount
 
Amortizing intangible assets:                    
Client relationships acquired   14.4   $320   $(12)  $308 
Trademark acquired   13.4    3,357    (140)   3,217 
Research system   2.4    639    (124)   515 
Non-amortizing intangible assets:                    
Mutual fund management contracts acquired        47,700    -    47,700 
Total   12.1   $52,016   $(276)  $51,740 

 

Amortization expense related to intangible assets acquired in the first quarter of fiscal 2017 was $0.1 million and $0.3 million for the three and nine months ended July 31, 2017, respectively. Estimated remaining amortization expense for these assets for fiscal 2017 and the next five fiscal years, on a straight-line basis, is as follows:

 

   Estimated 
Year Ending October 31,  Amortization 
(in thousands)  Expense 
Remaining 2017  $119 
2018   474 
2019   474 
2020   297 
2021   261 
2022   261 

 

11.Debt

 

2027 Senior Notes

 

On April 6, 2017, the Company issued $300.0 million in aggregate principal amount of 3.5 percent ten-year senior notes due April 6, 2027, resulting in net proceeds of approximately $296.1 million after deducting the underwriting discount and offering expenses. Interest is payable semi-annually in arrears on April 6th and October 6th of each year, commencing on October 6, 2017. The 2027 Senior Notes are unsecured and unsubordinated obligations of the Company.

 

Redemption of 2017 Senior Notes

 

On May 6, 2017, the Company used the net proceeds from the 2027 Senior Notes to redeem the remaining $250 million aggregate principal amount of its 2017 Senior Notes. The Company paid total consideration of $256.8 million to the holders of the 2017 Senior Notes at redemption, which was calculated pursuant to

 

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the terms of the Indenture that governs the notes at an amount equal to the sum of the aggregate principal amount outstanding, the present value of the remaining scheduled payments of interest through the original maturity date and the interest accrued to the date of redemption. The Company recognized a $5.4 million non-operating loss on the extinguishment of the 2017 Senior Notes during the third quarter of fiscal 2017, representing the difference between the total consideration paid and the net carrying amount of the extinguished debt plus interest accrued to the date of redemption.

 

12.Stock-Based Compensation Plans

 

The Company recognized compensation cost related to its stock-based compensation plans for the three and nine months ended July 31, 2017 and 2016 as follows:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Omnibus Incentive Plans:                    
Stock options  $5,192   $4,489   $15,712   $14,218 
Restricted shares   13,165    10,777    36,788    32,728 
Phantom stock units   165    96    391    220 
Employee Stock Purchase Plans   540    178    716    389 
Employee Stock Purchase Incentive Plan   111    155    660    515 
Atlanta Capital Plan   855    736    2,565    2,153 
Parametric Plan   940    1,333    2,820    4,272 
Parametric Phantom Incentive Plan   378    -    1,134    - 
Total stock-based compensation expense  $21,346   $17,764   $60,786   $54,495 

 

The total income tax benefit recognized for stock-based compensation arrangements was $7.7 million and $6.0 million for the three months ended July 31, 2017 and 2016, respectively, and $22.0 million and $18.3 million for the nine months ended July 31, 2017 and 2016, respectively.

 

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Stock options

Stock option transactions under the Company’s 2013 Omnibus Incentive Plan (the 2013 Plan) and predecessor plans for the nine months ended July 31, 2017 were as follows:

 

(share and intrinsic value figures in thousands)  Shares   Weighted-
Average
Exercise
Price
   Weighted-
Average
Remaining
Contractual
Term 
(in years)
   Aggregate
Intrinsic
Value
 
Options outstanding, beginning of period   20,311   $33.52           
Granted   2,886    34.97           
Exercised   (3,141)   32.06           
Forfeited/expired   (10)   39.01           
Options outstanding, end of period   20,046   $33.95    5.5   $303,423 
Options exercisable, end of period   10,725   $32.18    3.4   $181,327 
Vested or expected to vest at July 31, 2017   19,997   $33.95    5.5   $302,766 

 

The Company received $98.5 million and $47.4 million related to the exercise of options for the nine months ended July 31, 2017 and 2016, respectively.

 

As of July 31, 2017, there was $50.3 million of compensation cost related to unvested stock options granted under the 2013 Plan and predecessor plans not yet recognized. That cost is expected to be recognized over a weighted-average period of 2.9 years.

 

Restricted shares

A summary of the Company’s restricted share activity for the nine months ended July 31, 2017 under the 2013 Plan and predecessor plans is as follows:

 

       Weighted- 
       Average 
       Grant Date 
(share figures in thousands)  Shares   Fair Value 
Unvested, beginning of period   4,157   $35.43 
Granted   1,691    35.98 
Vested   (1,211)   33.18 
Forfeited   (58)   36.09 
Unvested, end of period   4,579   $36.22 

 

As of July 31, 2017, there was $115.2 million of compensation cost related to unvested restricted shares granted under the 2013 Plan and predecessor plans not yet recognized. That cost is expected to be recognized over a weighted-average period of 3.0 years.

 

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Phantom stock units

During the nine months ended July 31, 2017, 10,395 phantom stock units were issued to non-employee Directors pursuant to the 2013 Plan. As of July 31, 2017, there was $0.4 million of compensation cost related to unvested phantom stock units granted under the 2013 Plan not yet recognized. That cost is expected to be recognized over a weighted-average period of 1.1 years.

 

13.Common Stock Repurchases

 

The Company’s current Non-Voting Common Stock share repurchase program was announced on January 11, 2017. The Board authorized management to repurchase and retire up to 8.0 million shares of its Non-Voting Common Stock on the open market and in private transactions in accordance with applicable securities laws. The timing and amount of share purchases are subject to management’s discretion. The Company’s share repurchase program is not subject to an expiration date.

 

In the first nine months of fiscal 2017, the Company purchased and retired approximately 1.4 million shares of its Non-Voting Common Stock under the current repurchase authorization and approximately 0.9 million shares under a previous repurchase authorization. Approximately 6.6 million additional shares may be repurchased under the current authorization as of July 31, 2017.

 

14.Non-operating Income (Expense)

 

The components of non-operating income (expense) for the three and nine months ended July 31, 2017 and 2016 were as follows:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Interest and other income  $6,784   $3,960   $17,385   $9,321 
Net losses on investments and derivatives   (436)   (1,462)   (889)   (88)
Net foreign currency gains (losses)   (811)   639    (1,177)   533 
Gains and other investment income, net   5,537    3,137    15,319    9,766 
Interest expense   (6,180)   (7,342)   (21,592)   (22,024)
Loss on extinguishment of debt   (5,396)   -    (5,396)   - 
Other income (expense) of consolidated CLO entity:                    
Interest income   -    4,967    -    13,560 
Net gains (losses) on bank loans, other investments and note obligations   -    (500)   -    8,094 
Gains and other investment income, net   -    4,467    -    21,654 
Interest expense   -    (4,393)   -    (9,107)
Total non-operating income (expense)  $(6,039)  $(4,131)  $(11,669)  $289 

 

15.Income Taxes

 

The provision for income taxes was $42.5 million and $39.8 million, or 36.9 percent and 38.8 percent of pre-tax income, for the three months ended July 31, 2017 and 2016, respectively. The provision for income taxes was $123.9 million and $112.8 million, or 37.2 percent of pre-tax income, for both the nine months ended July 31, 2017 and 2016, respectively. The provision for income taxes in the three and nine months ended July 31, 2017 and 2016 is comprised of federal, state, and foreign taxes. The differences between

 

 33 

 

 

the Company’s effective tax rate and the statutory federal rate of 35.0 percent for each period presented reflect the impact of state income taxes, income and losses recognized by non-controlling and other beneficial interest holders of consolidated entities, equity-based compensation plans and other permanent items.

 

No valuation allowance has been recorded for deferred tax assets, reflecting management’s belief that all deferred tax assets will be utilized.

 

The Company considers the undistributed earnings of certain of its foreign corporations to be indefinitely reinvested in foreign operations as of July 31, 2017. Accordingly, no U.S. income taxes have been provided thereon. As of July 31, 2017, the Company had approximately $58.0 million of undistributed earnings in certain Canadian, United Kingdom, Australian and Japanese foreign corporations that are not available to fund domestic operations or to distribute to shareholders unless repatriated. Repatriation would require the Company to accrue and pay U.S. corporate income taxes. The unrecognized deferred income tax liability on these un-repatriated funds, or temporary difference, is estimated to be $7.1 million. The Company does not intend to repatriate these funds, has not previously repatriated funds from these entities and has the financial liquidity to permanently leave these funds offshore.

 

The Company is generally no longer subject to income tax examinations by U.S. federal, state, local or non-U.S. taxing authorities for fiscal years prior to fiscal 2013.

 

16.Non-controlling and Other Beneficial Interests

 

The components of net income attributable to non-controlling and other beneficial interests for the three and nine months ended July 31, 2017 and 2016 were as follows:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Consolidated sponsored funds  $(3,124)  $(343)  $(4,836)  $(327)
Majority-owned subsidiaries   (4,365)   (3,233)   (12,015)   (9,749)
Non-controlling interest value adjustments(1)   (3)   9    71    (124)
Consolidated CLO entities   -    692    -    (12,009)
Net income attributable to non-controlling  and other beneficial interests  $(7,492)  $(2,875)  $(16,780)  $(22,209)

 

(1)Relates to non-controlling interests redeemable at other than fair value.

 

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17.Accumulated Other Comprehensive Income (Loss)

 

The components of accumulated other comprehensive income (loss), net of tax, for the three months ended July 31, 2017 and 2016 are as follows:

 

(in thousands)  Unamortized
Net Gains
(Losses) on
Derivatives(1)
   Net Unrealized
Holding Gains
(Losses) on
Available-for-
Sale
Investments(2)
   Foreign
Currency
Translation
Adjustments
   Total 
Balance at April 30, 2017  $283   $3,595   $(63,942)  $(60,064)
Other comprehensive income (loss), before reclassifications and tax   -    329    18,208    18,537 
Tax impact   -    (124)   -    (124)
Reclassification adjustments, before tax   60    -    -    60 
Tax impact   (23)   -    -    (23)
Net current period other comprehensive income (loss)   37    205    18,208    18,450 
Balance at July 31, 2017  $320   $3,800   $(45,734)  $(41,614)
                     
Balance at April 30, 2016  $681   $3,680   $(45,217)  $(40,856)
Other comprehensive income (loss), before reclassifications and tax   -    680    (9,336)   (8,656)
Tax impact   -    (258)   -    (258)
Reclassification adjustments, before tax   5    -    -    5 
Tax impact   (2)   -    -    (2)
Net current period other comprehensive  income (loss)   3    422    (9,336)   (8,911)
Balance at July 31, 2016  $684   $4,102   $(54,553)  $(49,767)

 

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The components of accumulated other comprehensive income (loss), net of tax, for the nine months ended July 31, 2017 and 2016 are as follows:

 

(in thousands)  Unamortized
Net Gains
(Losses) on
Derivatives(1)
   Net Unrealized
Holding Gains
(Losses) on
Available-for-
Sale

Investments(2)
   Foreign
Currency
Translation
Adjustments
   Total 
Balance at October 31, 2016  $687   $2,943   $(61,213)  $(57,583)
Other comprehensive income (loss), before reclassifications and tax   (684)   1,396    15,479    16,191 
Tax impact   271    (539)   -    (268)
Reclassification adjustments, before tax   74    -    -    74 
Tax impact   (28)   -    -    (28)
Net current period other comprehensive  income (loss)   (367)   857    15,479    15,969 
Balance at July 31, 2017  $320   $3,800   $(45,734)  $(41,614)
                     
Balance at October 31, 2015  $674   $3,733   $(52,993)  $(48,586)
Other comprehensive income (loss), before reclassifications and tax   -    657    (1,560)   (903)
Tax impact   -    (246)   -    (246)
Reclassification adjustments, before tax   16    (83)   -    (67)
Tax impact   (6)   41    -    35 
Net current period other comprehensive  income (loss)   10    369    (1,560)   (1,181)
Balance at July 31, 2016  $684   $4,102   $(54,553)  $(49,767)

 

(1)Amounts reclassified from accumulated other comprehensive income (loss), net of tax, represent the amortization of net gains (losses) on qualifying derivative financial instruments designated as cash flow hedges over the life of the Company's Senior Notes into interest expense on the Consolidated Statements of Income.

(2)Amounts reclassified from accumulated other comprehensive income (loss), net of tax, represent gains (losses) on disposal of available- for-sale securities and were recorded in gains and other investment income, net, on the Consolidated Statements of Income.

 

18.Earnings per Share

 

The following table sets forth the calculation of earnings per basic and diluted share for the three and nine months ended July 31, 2017 and 2016:

 

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   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands, except per share data)  2017   2016   2017   2016 
Net income attributable to Eaton Vance Corp. shareholders  $67,361   $62,899   $200,047   $176,252 
                     
Weighted-average shares outstanding – basic   111,284    109,533    110,540    110,275 
Incremental common shares   5,767    4,277    5,211    3,769 
Weighted-average shares outstanding – diluted   117,051    113,810    115,751    114,044 
                     
Earnings per share:                    
Basic  $0.61   $0.57   $1.81   $1.60 
Diluted  $0.58   $0.55   $1.73   $1.55 

 

Antidilutive common shares related to stock options and unvested restricted stock excluded from the computation of earnings per diluted share were approximately 3.0 million and 10.5 million for the three months ended July 31, 2017 and 2016, respectively, and approximately 3.9 million and 12.2 million for the nine months ended July 31, 2017 and 2016, respectively.

 

19.Commitments and Contingencies

 

In the normal course of business, the Company enters into agreements that include indemnities in favor of third parties, such as engagement letters with advisors and consultants, information technology agreements, distribution agreements and service agreements. In certain circumstances, these indemnities in favor of third parties relate to service agreements entered into by investment funds managed and/or advised by Eaton Vance Management, Boston Management and Research or Calvert Research and Management, all wholly owned subsidiaries of the Company. The Company has also agreed to indemnify its directors, officers and employees in accordance with the Company’s Articles of Incorporation, as amended. Certain agreements do not contain any limits on the Company’s liability and, therefore, it is not possible to estimate the Company’s potential liability under these indemnities. In certain cases, the Company has recourse against third parties with respect to these indemnities. Further, the Company maintains insurance policies that may provide coverage against certain claims under these indemnities.

 

The Company and its subsidiaries are subject to various legal proceedings. In the opinion of management, after discussions with legal counsel, the ultimate resolution of these matters will not have a material effect on the consolidated financial condition, results of operations or cash flows of the Company.

 

20.Related Party Transactions

 

Sponsored funds

 

The Company is an investment adviser to, and has administrative agreements with, certain sponsored funds, privately offered equity funds and closed-end funds for which employees of the Company are officers and/or directors. Revenues for services provided or related to these funds for the three and nine months ended July 31, 2017 and 2016 are as follows:

 

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   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Management fees  $239,319   $203,973   $681,027   $599,371 
Distribution fees   19,225    17,146    56,504    51,085 
Service fees   30,515    27,150    89,493    80,203 
Shareholder services fees   1,126    546    3,099    1,763 
Other revenue   293    809    645    2,058 
Total  $290,478   $249,624   $830,768   $734,480 

 

For the three months ended July 31, 2017 and 2016, the Company had investment advisory agreements with certain sponsored funds pursuant to which the Company contractually waived $4.6 million and $3.8 million, respectively, of management fees it was otherwise entitled to receive. For the nine months ended July 31, 2017 and 2016, the Company contractually waived $12.7 million and $11.3 million, respectively, of management fees it was otherwise entitled to receive.

 

Sales proceeds and net realized gains for the three and nine months ended July 31, 2017 and 2016 from investments in sponsored funds classified as available-for-sale are as follows:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Proceeds from sales  $5,459   $2   $9,193   $8,300 
Net realized gains   14    -    217    162 

 

The Company bears the non-advisory expenses of certain sponsored funds for which it earns an all-in management fee and provides subsidies to startup and other smaller sponsored funds to enhance their competitiveness. For the three months ended July 31, 2017 and 2016, expenses of $10.4 million and $5.8 million, respectively, were incurred by the Company pursuant to these arrangements. For the nine months ended July 31, 2017 and 2016, expenses of $26.3 million and $17.6 million, respectively, were incurred by the Company pursuant to these arrangements.

 

Included in management fees and other receivables at July 31, 2017 and October 31, 2016 are receivables due from sponsored funds of $98.6 million and $88.7 million, respectively, and payables to sponsored funds of $3.1 million and $1.6 million, respectively.

 

Loan to affiliate

 

On December 23, 2015, EVMC, a wholly owned subsidiary of the Company, loaned $5.0 million to Hexavest under a term loan agreement to seed a new investment strategy. The loan renews automatically for an additional one-year period on each anniversary date unless written termination notice is provided by EVMC. The loan earns interest equal to the one-year Canadian Dollar Offered Rate plus 200 basis points, which is payable quarterly in arrears. Hexavest may prepay the loan in whole or in part at any time without penalty. During both the three months ended July 31, 2017 and 2016, the Company recorded $38,000 of interest income related to the loan in gains and other investment income, net, on the Company’s Consolidated Statement of Income. During both the nine months ended July 31, 2017 and 2016, the Company recorded $0.1 million of interest income related to the loan. Interest due from Hexavest under

 

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this arrangement included in other assets on the Company’s Consolidated Balance Sheets at both July 31, 2017 and October 31, 2016 was $13,000.

 

Hexavest agreements

 

The Company has an agreement with Hexavest whereby the Company compensates Hexavest for sub-advisory services and Hexavest reimburses the Company for a portion of fund subsidies related to certain investment companies for which the Company is the investment adviser. During the three months ended July 31, 2017 and 2016, the Company paid Hexavest $99,000 and $67,000, respectively, in sub-advisory fees, and the Company received from Hexavest $19,000 and $42,000, respectively, for reimbursement of fund subsidies. During the nine months ended July 31, 2017 and 2016, the Company paid Hexavest $0.3 million and $0.2 million, respectively, in sub-advisory fees, and the Company received from Hexavest $0.1 million and $0.2 million, respectively, for reimbursement of fund subsidies. The amount due to Hexavest under this arrangement, which is included in other liabilities on the Company’s Consolidated Balance Sheets at July 31, 2017 and October 31, 2016, was $14,000 and $51,000, respectively.

 

In addition, the Company has an agreement with Hexavest whereby the Company is reimbursed for placement costs of certain institutional separately managed accounts. During both the three months ended July 31, 2017 and 2016, the Company earned reimbursements of $0.7 million under this arrangement. During the nine months ended July 31, 2017 and 2016, the Company earned $1.7 million and $1.8 million, respectively, under this arrangement. The amount due from Hexavest under this arrangement, which is included in other assets on the Company’s Consolidated Balance Sheets at July 31, 2017 and October 31, 2016, was $0.2 million and $0.3 million, respectively.

 

Employee loan program

 

The Company has established an Employee Loan Program under which a program maximum of $20.0 million is available for loans to officers (other than executive officers) and other key employees of the Company for purposes of financing the exercise of employee stock options. Loans outstanding under this program, which are full recourse in nature, are reflected as notes receivable from stock option exercises in shareholders’ equity and amounted to $11.2 million and $12.1 million at July 31, 2017 and October 31, 2016, respectively.

 

21.Geographic Information

 

Revenues by principal geographic area for the three and nine months ended July 31, 2017 and 2016 are as follows:

 

   Three Months Ended   Nine Months Ended 
   July 31,   July 31, 
(in thousands)  2017   2016   2017   2016 
Revenue:                
U.S.  $377,688   $327,098   $1,077,590   $956,958 
International   16,058    14,070    45,747    39,056 
Total  $393,746   $341,168   $1,123,337   $996,014 

 

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Long-lived assets by principal geographic area as of July 31, 2017 and October 31, 2016 are as follows:

 

   July 31,   October 31, 
(in thousands)  2017   2016 
Long-lived Assets:          
U.S.  $45,037   $42,153 
International   2,151    2,274 
Total  $47,188   $44,427 

 

International revenues and long-lived assets are attributed to countries based on the location in which revenues are earned and where long-lived assets reside.

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This Item includes statements that are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding our expectations, intentions or strategies regarding the future. All statements, other than statements of historical facts, included in this Form 10-Q regarding our financial position, business strategy and other plans and objectives for future operations are forward-looking statements. The terms “may,” “will,” “could,” “anticipate,” “plan,” “continue,” “project,” “intend,” “estimate,” “believe,” “expect” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain such words. Although we believe that the assumptions and expectations reflected in such forward-looking statements are reasonable, we can give no assurance that they will prove to have been correct or that we will take any actions that may now be planned. Certain important factors that could cause actual results to differ materially from our expectations are disclosed in the “Risk Factors” in Item 1A in our latest Annual Report on Form 10-K. All subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by such factors. We disclaim any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

The discussion and analysis below should be read in conjunction with the consolidated financial statements appearing elsewhere in this report. Management has presumed that the readers of this interim financial information have read or have access to Management’s Discussion and Analysis of Financial Condition and Results of Operations appearing in our Annual Report on Form 10-K for the year ended October 31, 2016.

 

Overview

 

Our principal business is managing investment funds and providing investment management and advisory services to high-net-worth individuals and institutions. Our core strategy is to develop and sustain management expertise across a range of investment disciplines and to offer leading investment products and services through multiple distribution channels. In executing this strategy, we have developed broadly diversified investment management capabilities and a highly functional marketing, distribution and customer service organization. Although we manage and distribute a wide range of investment products and services, we operate in one business segment, namely as an investment adviser to funds and separate accounts.

 

Through our subsidiaries Eaton Vance Management, Atlanta Capital Management Company, LLC (Atlanta Capital), Calvert Research and Management and other affiliates, we manage active equity, income and alternative strategies across a range of investment styles and asset classes, including U.S. and global equities, floating-rate bank loans, municipal bonds, global income, high-yield and investment grade bonds. Through our subsidiary Parametric Portfolio Associates LLC (Parametric), we manage a range of engineered alpha strategies, including systematic equity, systematic alternatives and managed options strategies. Through Parametric, we also provide portfolio implementation and overlay services, including tax-managed and non-tax-managed custom core equity strategies, centralized portfolio management of multi-manager portfolios and customized exposure management services. We also oversee the management of, and distribute, investment funds sub-advised by unaffiliated third-party managers, including global and regional equity and asset allocation strategies. Our breadth of investment management capabilities supports a wide range of products and services offered to fund shareholders, retail managed account investors, institutional investors and high-net-worth clients. Our equity strategies encompass a diversity of investment objectives, risk profiles, income levels and

 

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geographic representation. Our income investment strategies cover a broad duration and credit quality range and encompass both taxable and tax-free investments. We also offer a range of alternative investment strategies, including commodity- and currency-based investments and a spectrum of absolute return strategies. As of July 31, 2017, we had $405.6 billion in consolidated assets under management.

 

We distribute our funds and retail managed accounts principally through financial intermediaries. We have broad market reach, with distribution partners including national and regional broker-dealers, independent broker-dealers, registered investment advisors, banks and insurance companies. We support these distribution partners with a team of approximately 120 sales professionals covering U.S. and international markets.

 

We also commit significant resources to serving institutional and high-net-worth clients who access investment management services on a direct basis and through investment consultants. Through our wholly owned affiliates and consolidated subsidiaries, we manage investments for a broad range of clients in the institutional and high-net-worth marketplace in the U.S. and internationally, including corporations, sovereign wealth funds, endowments, foundations, family offices and public and private employee retirement plans.

 

Our revenue is derived primarily from management, distribution and service fees received from Eaton Vance, Calvert and Parametric funds and management fees received from separate accounts. Our fees are based primarily on the value of the investment portfolios we manage and fluctuate with changes in the total value and mix of assets under management. As a matter of course, investors in our sponsored open-end funds and separate accounts have the ability to redeem their investments at any time, without prior notice, and there are no material restrictions that would prevent them from doing so. Our major expenses are employee compensation, distribution-related expenses, facilities expense and information technology expense.

 

Our discussion and analysis of our financial condition, results of operations and cash flows is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP). The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to goodwill and intangible assets, income taxes, investments and stock-based compensation. We base our estimates on historical experience and on various assumptions that we believe to be reasonable under current circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates.

 

Business Developments

 

The Company is pursuing five primary business growth initiatives: (1) capitalizing on the Company’s broad range of high-performing investment strategies to grow sales and gain market share in active management; (2) continuing to pursue the market opportunity for Parametric Custom Core equity and Eaton Vance municipal and corporate bond ladder separate account offerings in the retail and high-net-worth markets; (3) further developing the Company’s global investment capabilities and international distribution and client service resources to address identified market opportunities outside the United States; (4) advancing NextShares™ exchange-traded managed funds toward commercial success; and (5) acquiring and integrating complementary investment management businesses in a period of potential industry consolidation.

 

As of July 31, 2017, the Company offered 69 U.S. mutual funds rated four or five stars by Morningstar™ for at least one class of shares, including 26 funds rated five stars for at least one class of shares. Although actively

 

 42 

 

 

managed strategies as a whole are losing share to passive investments, the Company believes that top-performing active strategies can continue to grow, particularly in asset classes where competition versus passive alternatives is less acute. In the first nine months of fiscal 2017, net flows into the Company’s active strategies totaled $8.0 billion.

 

The Company continues to experience strong growth in its Parametric Custom Core equity and Eaton Vance laddered municipal and corporate bond separate account offerings to the retail and high-net-worth markets. Compared to index mutual funds and exchange-traded funds, rules-based separately managed accounts can provide clients with greater ability to tailor their market exposures to achieve better tax outcomes and to reflect client-specified responsible investing criteria, factor tilts and portfolio exclusions. In the first nine months of fiscal 2017, net inflows into Parametric Custom Core and Eaton Vance laddered municipal and corporate bond strategies offered as retail managed accounts and high-net-worth separate accounts totaled $14.4 billion.

 

Outside the United States, the Company continues to expand investment staff and commit additional client service and distribution resources to support business growth. On February 1, 2017, Eaton Vance Asia Pacific, Ltd. (Eaton Vance Asia Pacific) opened a Tokyo-based representative office to provide relationship management and client service support to clients in Japan and other parts of Asia. In the first nine months of fiscal 2017, the Company’s net inflows from clients outside the United States totaled $3.2 billion.

 

NextShares continue to progress toward broad market availability. As of the end of the third quarter of fiscal 2017, eight NextShares funds from three different fund families were available in the marketplace. Additional NextShares funds in registration include the Calvert Ultra-Short Income NextShares. UBS Wealth Management Americas has announced its intent to begin offering NextShares through its U.S. financial advisors network by the end of 2017, which the Company believes will stimulate growth in NextShares managed assets.

 

On December 30, 2016, Calvert Research and Management, a newly formed Eaton Vance subsidiary, completed the purchase of substantially all of the business assets of Calvert Investment Management, Inc. (Calvert). At acquisition, Calvert had $11.9 billion of managed assets. Of this, $2.1 billion was previously included in the Company’s consolidated managed assets because Atlanta Capital is sub-adviser to one of the Calvert-sponsored mutual funds (Calvert Funds). The Calvert Funds are one of the largest and most diversified families of responsibly invested mutual funds, encompassing actively and passively managed equity, fixed income and asset allocation strategies managed in accordance with the Calvert Principles for Responsible Investment. Responsible investing is a leading trend in asset management, appealing to the growing universe of investors who seek both financial returns and positive societal impact from their investments. The Calvert Funds are now being offered through Eaton Vance Distributors, with greatly expanded market reach. Asset flows into Calvert Funds and Calvert-managed separate accounts turned positive in the third quarter of fiscal 2017, contributing to a 4 percent increase in Calvert Research and Management’s assets under management during the period.

 

Consolidated Assets under Management

 

Prevailing equity and income market conditions and investor sentiment affect the sales and redemptions of our investment products, managed asset levels, operating results and the recoverability of our investments. During the third quarter and first nine months of fiscal 2017, the S&P 500 Index, a broad measure of U.S. equity market performance, had total returns of 3.4 percent and 17.0 percent, respectively, and the MSCI Emerging Market Index, a broad measure of emerging market equity performance, had total returns of 8.8 percent and 18.1 percent, respectively. Over the same period, the Barclays U.S. Aggregate Bond Index, a broad measure of U.S. bond market performance, had total returns of 1.3 percent and 0.4 percent, respectively.

 

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Consolidated assets under management increased by $71.2 billion, or 21 percent, to $405.6 billion on July 31, 2017 from the $334.4 billion reported a year earlier. The year-over-year increase in consolidated assets under management reflects net inflows of $34.7 billion, market appreciation in managed assets of $26.5 billion, and $9.9 billion of new managed assets gained in the acquisition of the business assets of Calvert.

 

The following tables summarize our consolidated assets under management by investment mandate, investment vehicle and investment affiliate as of July 31, 2017 and 2016. Within the investment mandate table, the “Portfolio Implementation” category consists of Parametric’s custom core equity strategies and centralized portfolio management services, and the “Exposure Management” category consists of Parametric’s futures- and options-based customized exposure management services.

 

Consolidated Assets under Management by Investment Mandate (1)(2)

 

   July 31,     
(in millions)  2017   % of Total   2016   % of Total   %
Change
 
Equity(3)(4)  $110,198    27%  $91,826    27%   20%
Fixed income(4)(5)   68,708    17%   59,371    18%   16%
Floating-rate income(4)   38,754    10%   32,397    10%   20%
Alternative(4)   11,877    3%   9,961    3%   19%
Portfolio implementation   93,285    23%   72,428    22%   29%
Exposure management(2)   82,763    20%   68,407    20%   21%
Total  $405,585    100%  $334,390    100%   21%

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated assets under management exclude client positions in exposure management mandates identified as transitory in nature. As of July 31, 2017, such positions totaled $12.6 billion.
(3)Includes balanced and multi-asset mandates.
(4)In the second quarter of fiscal 2017, the Company reclassified among investment mandates certain managed assets. The above presentation of prior year results has been revised for comparability purposes. The reclassification does not affect total consolidated assets under management for any period.
(5)Includes cash management mandates.

 

Equity assets under management included $36.6 billion and $31.7 billion of assets managed for after-tax returns on July 31, 2017 and 2016, respectively. Portfolio implementation assets under management included $65.7 billion and $48.2 billion of assets managed for after-tax returns on July 31, 2017 and 2016, respectively. Fixed income assets included $39.2 billion and $35.4 billion of municipal income assets on July 31, 2017 and 2016, respectively.

 

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Consolidated Assets under Management by Investment Vehicle(1)(2)

 

   July 31,     
(in millions)  2017   % of
Total
   2016   % of
Total
   %
Change
 
Open-end funds(3)(4)  $95,797    24%  $74,699    23%   28%
Private funds(5)   32,289    8%   27,661    8%   17%
Closed-end funds(6)   24,648    6%   23,999    7%   3%
Institutional separate account assets(2)(4)   154,253    38%   134,580    40%   15%
High-net-worth separate account assets   36,439    9%   25,823    8%   41%
Retail managed account assets   62,159    15%   47,628    14%   31%
Total  $405,585    100%  $334,390    100%   21%

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated assets under management exclude client positions in exposure management mandates identified as transitory in nature. As of July 31, 2017, such positions (held as institutional separate accounts) totaled $12.6 billion.
(3)Includes assets in NextShares funds.
(4)Reflects the reclassification from institutional separate accounts to open-end funds of $2.1 billion of managed assets of Calvert Equity Portfolio sub-advised by Atlanta Capital upon the Company’s acquisition of the business assets of Calvert on December 30, 2016.
(5)Includes privately offered equity, fixed income and floating-rate income funds and CLO entities.
(6)Includes unit investment trusts.

 

Consolidated Assets under Management by Investment Affiliate (1)(2)

 

   July 31,   % 
(in millions)  2017   2016   Change 
Eaton Vance Management (3)(4)  $160,570   $143,798    12%
Parametric (2)(4)   213,213    171,466    24%
Atlanta Capital (4)(5)   21,476    19,126    12%
Calvert Research and Management (5)   10,326    -    NM(6)
Total  $405,585   $334,390    21%

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated assets under management exclude client positions in exposure management mandates identified as transitory in nature. As of July 31, 2017, such positions (managed by Parametric) totaled $12.6 billion.
(3)Includes managed assets of Eaton Vance-sponsored funds and accounts managed by Hexavest and unaffiliated third-party advisers under Eaton Vance supervision.
(4)In the second quarter of fiscal 2017, the Company reclassified among investment affiliates certain managed assets. The above presentation of prior year results has been revised for comparability purposes. The reclassification does not affect total consolidated assets under management for any period.
(5)Consistent with the Company's policies for reporting the managed assets and flows of investment portfolios for which multiple Eaton Vance affiliates have management responsibilities, the managed assets of Atlanta Capital indicated above include the assets of Calvert Equity Portfolio, for which Atlanta Capital serves as sub-adviser. The total managed assets of Calvert Research and Management, including assets sub-advised by other Eaton Vance affiliates, were $12.5 billion as of July 31, 2017.
(6)Not meaningful (NM).

 

Consolidated average assets under management presented in the following tables are derived by averaging the beginning and ending assets of each month over the period. The tables are intended to provide information useful in the analysis of our asset-based revenue and distribution expenses. Separate account

 

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management fees are generally calculated as a percentage of either beginning, average or ending quarterly assets. Fund management, distribution and service fees, as well as certain expenses, are generally calculated as a percentage of average daily assets.

 

Consolidated Average Assets under Management by Investment Mandate(1)(2)

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in millions)  2017   2016   Change   2017   2016   Change 
Equity(3)(4)  $107,017   $89,564    19%  $101,117   $87,998    15%
Fixed income(4)(5)   67,989    57,916    17%   65,226    55,023    19%
Floating-rate income(4)   37,764    32,268    17%   35,368    32,966    7%
Alternative(4)   11,629    9,916    17%   11,107    9,958    12%
Portfolio implementation   89,512    68,858    30%   82,980    63,783    30%
Exposure management(2)   81,276    66,395    22%   76,224    65,255    17%
Total  $395,187   $324,917    22%  $372,022   $314,983    18%

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated average assets under management exclude client positions in exposure management mandates identified as transitory in nature.
(3)Includes balanced and multi-asset mandates.
(4)In the second quarter of fiscal 2017, the Company reclassified among investment mandates certain managed assets. The above presentation of prior year results has been revised for comparability purposes. The reclassification does not affect total consolidated average assets under management for any period.
(5)Includes cash management mandates.

 

Consolidated Average Assets under Management by Investment Vehicle(1)(2)

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in millions)  2017   2016   Change   2017   2016   Change 
Open-end funds(3)  $94,224   $73,413    28%  $88,343   $72,279    22%
Private funds(4)   31,387    27,128    16%   29,785    26,566    12%
Closed-end funds(5)   24,356    23,731    3%   23,971    23,710    1%
Institutional separate account assets(2)   150,847    129,711    16%   143,368    124,607    15%
High-net-worth separate account assets   34,637    25,020    38%   31,518    24,553    28%
Retail managed account assets   59,736    45,914    30%   55,037    43,268    27%
Total  $395,187   $324,917    22%  $372,022   $314,983    18%

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated average assets under management exclude client positions (held as institutional separate accounts) in exposure management mandates identified as transitory in nature.
(3)Includes assets in NextShares funds.
(4)Includes assets in privately offered equity, fixed income and floating-rate income funds and CLO entities.
(5)Includes assets in unit investment trusts.

 

 46 

 

 

Consolidated Net Flows

 

Consolidated net inflows of $9.1 billion in the third quarter of fiscal 2017 represented 9 percent annualized internal growth in managed assets (consolidated net inflows divided by beginning of period consolidated assets under management). For comparison, the Company had consolidated net inflows of $7.1 billion in the third quarter of fiscal 2016, also equating to 9 percent annualized internal growth in managed assets. On the basis of net contribution to management fee revenue, the Company’s annualized internal revenue growth rate (calculated as the management fees attributed to net new sales divided by management fees attributed to beginning of period assets under management) was 6 percent in the third quarter of fiscal 2017 and 3 percent in the third quarter of fiscal 2016, as the revenue contribution from new sales during each quarter exceeded the revenue lost from redemptions and other withdrawals.

 

The following tables summarize our consolidated assets under management and asset flows by investment mandate and investment vehicle for the three and nine months ended July 31, 2017 and 2016:

 

 47 

 

 

Consolidated Assets under Management and Net Flows by Investment Mandate(1)(2)

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in millions)  2017   2016   Change   2017   2016   Change 
Equity assets - beginning of period(3)(4)  $104,666   $88,540    18%  $89,981   $89,890    0%
Sales and other inflows   5,745    3,763    53%   15,955    11,488    39%
Redemptions/outflows   (4,259)   (3,437)   24%   (14,317)   (11,873)   21%
Net flows   1,486    326    356%   1,638    (385)   NM 
Assets acquired(5)   -    -    0%   5,704    -    NM 
Exchanges   7    (25)   NM    60    (18)   NM 
Market value change   4,039    2,985    35%   12,815    2,339    448%
Equity assets - end of period  $110,198   $91,826    20%  $110,198   $91,826    20%
Fixed income assets - beginning of period(4)(6)   66,881    56,356    19%   60,607    52,465    16%
Sales and other inflows   5,516    5,111    8%   16,841    15,735    7%
Redemptions/outflows   (4,178)   (2,711)   54%   (13,006)   (9,991)   30%
Net flows   1,338    2,400    -44%   3,835    5,744    -33%
Assets acquired(5)   -    -    0%   4,170    -    NM 
Exchanges   (2)   (3)   -33%   (147)   44    NM 
Market value change   491    618    -21%   243    1,118    -78%
Fixed income assets - end of period  $68,708   $59,371    16%  $68,708   $59,371    16%
Floating-rate income assets - beginning of period(4)   36,957    32,688    13%   32,107    35,534    -10%
Sales and other inflows   3,567    2,008    78%   12,874    5,398    138%
Redemptions/outflows   (2,113)   (2,507)   -16%   (6,962)   (8,653)   -20%
Net flows   1,454    (499)   NM    5,912    (3,255)   NM 
Exchanges   (8)   6    NM    146    (44)   NM 
Market value change   351    202    74%   589    162    264%
Floating-rate income assets - end of period  $38,754   $32,397    20%  $38,754   $32,397    20%
Alternative assets - beginning of period(4)   11,212    9,719    15%   10,687    10,173    5%
Sales and other inflows   1,359    1,182    15%   3,546    3,016    18%
Redemptions/outflows   (666)   (1,009)   -34%   (2,351)   (2,961)   -21%
Net flows   693    173    301%   1,195    55    NM 
Exchanges   -    (1)   NM    (7)   -    NM 
Market value change   (28)   70    NM    2    (267)   NM 
Alternative assets - end of period  $11,877   $9,961    19%  $11,877   $9,961    19%
Portfolio implementation assets - beginning of period   86,376    66,132    31%   71,426    59,487    20%
Sales and other inflows   5,869    5,857    0%   18,160    16,801    8%
Redemptions/outflows   (2,790)   (2,946)   -5%   (9,260)   (7,253)   28%
Net flows   3,079    2,911    6%   8,900    9,548    -7%
Exchanges   5    -    NM    5    (13)   NM 
Market value change   3,825    3,385    13%   12,954    3,406    280%
Portfolio implementation assets - end of period  $93,285   $72,428    29%  $93,285   $72,428    29%
Exposure management assets - beginning of period   80,921    65,235    24%   71,572    63,689    12%
Sales and other inflows   17,734    13,663    30%   56,293    37,530    50%
Redemptions/outflows   (16,649)   (11,912)   40%   (47,897)   (34,661)   38%
Net flows   1,085    1,751    -38%   8,396    2,869    193%
Market value change   757    1,421    -47%   2,795    1,849    51%
Exposure management assets - end of period(2)  $82,763   $68,407    21%  $82,763   $68,407    21%
Total assets under management - beginning of period   387,013    318,670    21%   336,380    311,238    8%
Sales and other inflows   39,790    31,584    26%   123,669    89,968    37%
Redemptions/outflows   (30,655)   (24,522)   25%   (93,793)   (75,392)   24%
Net flows   9,135    7,062    29%   29,876    14,576    105%
Assets acquired(5)   -    -    0%   9,874    -    NM 
Exchanges   2    (23)   NM    57    (31)   NM 
Market value change   9,435    8,681    9%   29,398    8,607    242%
Total assets under management - end of period  $405,585   $334,390    21%  $405,585   $334,390    21%

 

 48 

 

 

(1)Consolidated Eaton Vance Corp. See table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated assets under management and net flows exclude client positions in exposure management mandates identified as transitory in nature. As of July 31, 2017, such positions totaled $12.6 billion.
(3)Includes balanced and multi-asset mandates.
(4)In the second quarter of fiscal 2017, the Company reclassified among investment mandates certain managed assets and flows. The above presentation of prior year results has been revised for comparability purposes. The reclassification does not affect total consolidated assets under management or total consolidated net flows for any period.
(5)Managed assets gained in the acquisition of the business assets of Calvert on December 30, 2016. Equity category and total acquired assets under management exclude $2.1 billion of managed assets of Calvert Equity Portfolio sub-advised by Atlanta Capital that were previously included in the Company’s consolidated managed assets as institutional separate account managed assets.
(6)Includes cash management mandates.

 

 49 

 

 

Consolidated Assets under Management and Net Flows by Investment Vehicle(1)(2)

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in millions)  2017   2016   Change   2017   2016   Change 
Fund assets - beginning of period(3)  $147,341   $122,902    20%  $125,722   $125,934    0%
Sales and other inflows   9,736    7,571    29%   30,664    22,807    34%
Redemptions/outflows   (7,641)   (6,385)   20%   (24,946)   (22,941)   9%
Net flows   2,095    1,186    77%   5,718    (134)   NM 
Assets acquired(4)   -    -    0%   9,821    -    NM 
Exchanges(5)   2    (24)   NM    2,186    (84)   NM 
Market value change   3,296    2,295    44%   9,287    643    NM 
Fund assets - end of period  $152,734   $126,359    21%  $152,734   $126,359    21%
Institutional separate account assets - beginning of period   149,044    126,620    18%   136,451    119,987    14%
Sales and other inflows   21,227    19,501    9%   66,452    51,341    29%
Redemptions/outflows   (19,109)   (15,225)   26%   (56,984)   (42,072)   35%
Net flows   2,118    4,276    -50%   9,468    9,269    2%
Assets acquired(4)   -    -    0%   40    -    NM 
Exchanges(5)   -    -    0%   (2,055)   420    NM 
Market value change   3,091    3,684    -16%   10,349    4,904    111%
Institutional separate account assets - end of period(2)  $154,253   $134,580    15%  $154,253   $134,580    15%
High-net-worth separate account assets - beginning of period   33,225    24,565    35%   25,806    24,516    5%
Sales and other inflows   3,103    903    244%   9,827    4,583    114%
Redemptions/outflows   (1,347)   (803)   68%   (3,893)   (3,997)   -3%
Net flows   1,756    100    NM    5,934    586    913%
Exchanges   4    1    300%   (31)   (337)   -91%
Market value change   1,454    1,157    26%   4,730    1,058    347%
High-net-worth separate account assets - end of period  $36,439   $25,823    41%  $36,439   $25,823    41%
Retail managed account assets - beginning of period   57,403    44,584    29%   48,401    40,917    18%
Sales and other inflows   5,724    3,609    59%   16,726    11,237    49%
Redemptions/outflows   (2,558)   (2,109)   21%   (7,970)   (6,497)   23%
Net flows   3,166    1,500    111%   8,756    4,740    85%
Assets acquired(4)   -    -    0%   13    -    NM 
Exchanges   (4)   (1)   300%   (43)   (30)   43%
Market value change   1,594    1,545    3%   5,032    2,001    151%
Retail managed account assets - end of period  $62,159   $47,628    31%  $62,159   $47,628    31%
Total fund and separate account assets - beginning of period   387,013    318,671    21%   336,380    311,354    8%
Sales and other inflows   39,790    31,584    26%   123,669    89,968    37%
Redemptions/outflows   (30,655)   (24,522)   25%   (93,793)   (75,507)   24%
Net flows   9,135    7,062    29%   29,876    14,461    107%
Assets acquired(4)   -    -    0%   9,874    -    NM 
Exchanges   2    (24)   NM    57    (31)   NM 
Market value change   9,435    8,681    9%   29,398    8,606    242%
Total assets under management - end of period  $405,585   $334,390    21%  $405,585   $334,390    21%

 

(1)Consolidated Eaton Vance Corp. See the table on page 51 for managed assets and flows of 49 percent-owned Hexavest Inc.
(2)Reported consolidated assets under management and net flows exclude client positions in exposure management mandates identified as transitory in nature. As of July 31, 2017, such positions (held as institutional separate accounts) totaled $12.6 billion.
(3)Includes assets in cash management funds.
(4)Managed assets gained in the acquisition of the business assets of Calvert on December 30, 2016. Fund category and total acquired assets under management exclude $2.1 billion of managed assets of Calvert Equity Portfolio sub-advised by Atlanta Capital that were previously included in the Company’s consolidated managed assets as institutional separate account managed assets.
(5)Reflects the reclassification from institutional separate accounts to funds of $2.1 billion of managed assets of Calvert Equity Portfolio sub-advised by Atlanta Capital upon the Company’s acquisition of the business assets of Calvert on December 30, 2016.

 

 50 

 

  

As of July 31, 2017, the Company’s 49 percent-owned affiliate Hexavest Inc. (Hexavest) managed $15.4 billion of client assets, up 7 percent from $14.4 billion of managed assets on July 31, 2016. Other than Eaton Vance-sponsored funds for which Hexavest is adviser or sub-adviser, the managed assets of Hexavest are not included in Eaton Vance consolidated totals.

 

The following table summarizes assets under management and asset flow information for Hexavest for the three and nine months ended July 31, 2017 and 2016:

 

Hexavest Assets under Management and Net Flows

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in millions)  2017   2016   Change   2017   2016   Change 
Eaton Vance distributed:                              
Eaton Vance sponsored funds - beginning of period(1)  $262    $226    16%  $231    $229    1%
Sales and other inflows   29    1    NM    62    13    377%
Redemptions/outflows   (147)   (7)   NM    (174)   (32)   444%
Net flows   (118)   (6)   NM    (112)   (19)   489%
Market value change   7    11    -36%   32    21    52%
Eaton Vance sponsored funds - end of period  $151    $231    -35%  $151    $231    -35%
Eaton Vance distributed separate accounts - beginning of period(2)   2,138    2,557    -16%   2,492    2,440    2%
Sales and other inflows   455    28    NM    725    54    NM 
Redemptions/outflows   (23)   (59)   -61%   (903)   (94)   861%
Net flows   432    (31)   NM    (178)   (40)   345%
Market value change   85    132    -36%   341    258    32%
Eaton Vance distributed separate accounts - end of period  $2,655    $2,658    0%  $2,655    $2,658    0%
Total Eaton Vance distributed - beginning of period   2,400    2,783    -14%   2,723    2,669    2%
Sales and other inflows   484    29    NM    787    67    NM 
Redemptions/outflows   (170)   (66)   158%   (1,077)   (126)   755%
Net flows   314    (37)   NM    (290)   (59)   392%
Market value change   92    143    -36%   373    279    34%
Total Eaton Vance distributed - end of period  $2,806    $2,889    -3%  $2,806    $2,889    -3%
Hexavest directly distributed - beginning of period(3)   12,065    11,435    6%   11,021    11,279    -2%
Sales and other inflows   249    308    -19%   850    610    39%
Redemptions/outflows   (210)   (734)   -71%   (815)   (1,505)   -46%
Net flows   39    (426)   NM    35    (895)   NM 
Market value change   534    513    4%   1,582    1,138    39%
Hexavest directly distributed - end of period  $12,638    $11,522    10%  $12,638    $11,522    10%
Total Hexavest assets - beginning of period   14,465    14,218    2%   13,744    13,948    -1%
Sales and other inflows   733    337    118%   1,637    677    142%
Redemptions/outflows   (380)   (800)   -53%   (1,892)   (1,631)   16%
Net flows   353    (463)   NM    (255)   (954)   -73%
Market value change   626    656    -5%   1,955    1,417    38%
Total Hexavest assets - end of period  $15,444    $14,411    7%  $15,444    $14,411    7%

 

(1)Managed assets and flows of Eaton Vance-sponsored pooled investment vehicles for which Hexavest is adviser or sub-adviser. Eaton Vance receives management fees (and in some cases also distribution fees) on these assets, which are included in the Eaton Vance consolidated assets under management and flows.
(2)Managed assets and flows of Eaton Vance-distributed separate accounts managed by Hexavest. Eaton Vance receives distribution fees, but not management fees, on these assets, which are not included in the Eaton Vance consolidated assets under management and flows.
(3)Managed assets and flows of pre-transaction Hexavest clients and post-transaction Hexavest clients in Canada. Eaton Vance receives no management fees or distribution fees on these assets, which are not included in the Eaton Vance consolidated assets under management and flows.

 

 51 

 

 

Results of Operations

 

In evaluating operating performance, we consider net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share, which are calculated on a basis consistent with U.S. GAAP, as well as adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share, both of which are internally derived non-U.S. GAAP performance measures.

 

We define adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share as net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share adjusted to exclude items management deems non-operating or non-recurring in nature or otherwise outside the ordinary course of business. These adjustments may include the add back of adjustments made in connection with changes in the estimated redemption value of non-controlling interests in our affiliates redeemable at other than fair value (non-controlling interest value adjustments), and, when applicable, other items such as closed-end fund structuring fees, special dividends, costs associated with retiring debt and tax settlements. Adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share should not be construed to be a substitute for, or superior to, net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share computed in accordance with U.S. GAAP. Management and our Board of Directors, as well as our investors, consider these adjusted numbers a measure of the Company’s underlying operating performance. Management believes adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share are important indicators of our operations because they exclude items that may not be indicative of, or are unrelated to, our core operating results, and may provide a better baseline for analyzing trends in our underlying business.

 

The following table provides a reconciliation of net income attributable to Eaton Vance Corp. shareholders and earnings per diluted share to adjusted net income attributable to Eaton Vance Corp. shareholders and adjusted earnings per diluted share, respectively, for the three and nine months ended July 31, 2017 and 2016:

 

 52 

 

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in thousands, except per share data)  2017   2016   Change   2017   2016   Change 
Net income attributable to Eaton Vance Corp. shareholders  $67,361    $62,899    7%  $200,047    $176,252    14%
Non-controlling interest value adjustments(1)   3    (10)   NM    (71)   123    NM 
Closed-end fund structuring fees, net of tax(2)   2,139    1,401    53%   2,139    1,401    53%
Loss on extinguishment of debt, net of tax(3)   3,346    -    NM    3,346    -    NM 
Adjusted net income attributable to Eaton Vance Corp. shareholders  $72,849    $64,290    13%  $205,461    $177,776    16%
                               
Earnings per diluted share  $0.58   $ 0.55    5%  $1.73    $1.55    12%
Non-controlling interest value adjustments   -    -    -    -    -    - 
Closed-end fund structuring fees, net of tax   0.01    0.01    -    0.02    0.01    100%
Loss on extinguishment of debt, net of tax   0.03    -    NM    0.03    -    NM 
Adjusted earnings per diluted share  $0.62    $0.56    11%  $1.78    $1.56    14%

 

(1)Please see page 62, "Net Income Attributable to Non-controlling and Other Beneficial Interests," for a further discussion of the non-controlling interest value adjustments referenced above.
(2)For the three and nine months ended July 31, 2017, reflects structuring fees of $3.5 million (net of the associated impact to taxes of $1.4 million) paid in connection with the July 2017 initial public offering of Eaton Vance Floating-Rate 2022 Target Term Trust. For the three and nine months ended July 31, 2016, reflects structuring fees of $2.3 million (net of the associated impact to taxes of $0.9 million) paid in connection with the May 2016 initial public offering of Eaton Vance High Income 2021 Target Term Trust.
(3)Reflects the $5.4 million loss on extinguishment of debt associated with retiring the remaining $250 million aggregate principal amount of the Company's 6.5 percent senior notes due October 2, 2017 in May, net of the associated impact to taxes of $2.1 million.

 

The 7 percent increase in net income attributable to Eaton Vance Corp. shareholders in the third quarter of fiscal 2017 compared to the third quarter of fiscal 2016 can be primarily attributed to the following:

 

·An increase in revenue of $52.6 million, or 15 percent, primarily reflecting growth in managed assets, partially offset by lower average fee rates.
·An increase in expenses of $38.3 million, or 16 percent, primarily reflecting increases in compensation, distribution expense, service fee expense, amortization of deferred sales commissions, fund-related expenses and other operating expenses. The increase in compensation expense is driven by the Calvert acquisition at the end of the 2016 calendar year, increased headcount and operating income-based bonus accruals, and employee termination costs. The increase in non-compensation related costs is due to higher service and distribution fees related to higher fund average assets under management, closed-end structuring fees, higher marketing and promotion costs, certain fund reimbursements made by the Company in the third quarter of fiscal 2017 and one-time legal and consulting costs incurred in conjunction with the investigation of fraudulent activities of a former trader.
·A $2.4 million increase in gains and other investment income, net, primarily related to the Company’s investments in sponsored funds.
·A $1.2 million decrease in interest expense, primarily reflecting the May 2017 retirement of $250 million in aggregate principal amount of the Company’s 6.5 percent senior notes due October 2, 2017 (2017 Senior Notes) and the April 2017 issuance of $300 million in aggregate principal amount of 3.5 percent senior notes due April 6, 2027 (2027 Senior Notes).

 

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·A $5.4 million loss on extinguishment of debt related to the costs incurred on the retirement of the 2017 Senior Notes referenced above.
·A $0.1 million decrease in income contribution from the Company’s consolidated CLO entities driven by the deconsolidation of the Company’s formerly consolidated CLO entity in the fourth quarter of fiscal 2016.
·An increase in income taxes of $2.7 million, reflecting the increase in the Company’s income before taxes offset by a decrease in the effective tax rate.
·A decrease in equity in net income of affiliates, net of tax, of $0.6 million, reflecting a decrease in the Company’s proportionate net interest in the earnings of Hexavest.
·An increase in net income attributable to non-controlling and other beneficial interests of $4.6 million, primarily reflecting an increase in net income attributable to non-controlling interest holders in the Company’s consolidated sponsored funds and majority owned subsidiaries, partially offset by a decrease in the net income of consolidated CLOs attributable to other beneficial interest holders.

 

Weighted average diluted shares outstanding increased by 3.2 million shares, or 3 percent, in the third quarter of fiscal 2017 from the third quarter of fiscal 2016, primarily reflecting an increase in the dilutive effect of in-the-money options and unvested restricted stock, an increase in employee option exercises and a decrease in the number of shares repurchased when compared to the same period a year earlier.

 

The 14 percent increase in net income attributable to Eaton Vance Corp. shareholders in the first nine months of fiscal 2017 compared to the first nine months of fiscal 2016 can be primarily attributed to the following:

 

·An increase in revenue of $127.3 million, or 13 percent, primarily reflecting growth in managed assets, partially offset by lower average fee rates.
·An increase in expenses of $86.1 million, or 12 percent, primarily reflecting increases in compensation, distribution expense, service fee expense, fund-related expenses and other operating expenses. The increase in compensation expense is driven by the Calvert acquisition at the end of the 2016 calendar year, increased headcount and operating income-based bonus accruals, and employee termination costs. Increase in non-compensation related costs is due to higher service and distribution fees related to higher fund average assets under management, closed-end structuring fees, higher marketing and promotion costs, certain fund reimbursements made by the Company in the third quarter of fiscal 2017 and one-time legal and consulting costs incurred in conjunction with the investigation of fraudulent activities of a former trader.
·A $5.6 million increase in gains and other investment income, net, primarily due to an increase in interest income partially offset by an increase in losses recognized on the Company’s investments in sponsored funds and an increase in foreign currency losses. Gains and other investment income, net, also includes a $1.9 million gain recognized upon release from escrow of payments received in connection with the sale of the Company’s equity interest in Lloyd George Management (BVI) Ltd. (Lloyd George Management) in fiscal 2011.
·A $0.4 million decrease in interest expense primarily reflecting a reduction in interest expense associated with the May 2017 retirement of $250 million in aggregate principal amount of the Company’s 2017 Senior Notes, partially offset by an increase in interest expense related to the April 2017 issuance of $300 million in aggregate principal amount of the Company’s 2027 Senior Notes.
·A $5.4 million loss on extinguishment of debt related to the costs incurred on the retirement of the 2017 Senior Notes referenced above.
·A $12.5 million decrease in income contribution from the Company’s consolidated CLO entities driven by the deconsolidation of the Company’s final consolidated CLO entity in the fourth quarter of fiscal 2016.

 

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·An increase in income taxes of $11.1 million, or 10 percent, reflecting the increase in the Company’s income before taxes.
·An increase in equity in net income of affiliates, net of tax, of $0.1 million, primarily reflecting an increase in the Company’s proportionate net interest in the earnings of Hexavest and a private equity partnership, both of which are accounted for under the equity method.
·A decrease in net income attributable to non-controlling and other beneficial interest holders of $5.4 million, primarily reflecting a decrease in the net income of consolidated CLOs attributable to other beneficial interest holders, partially offset by an increase in net income attributable to non-controlling interest holders in the Company’s consolidated sponsored funds and majority owned subsidiaries.

 

Weighted average diluted shares outstanding increased by 1.7 million shares, or 1 percent, in the first nine months of fiscal 2017 over the first nine months of fiscal 2016, primarily reflecting the impact of employee option exercises, vesting of restricted stock and share repurchases over the past twelve months as well as an increase in the dilutive effect of in-the-money options and unvested restricted stock.

 

Revenue

 

The following table shows our management fees, distribution and underwriter fees, service fees and other revenue for the three and nine months ended July 31, 2017 and 2016:

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in thousands)  2017   2016   Change   2017   2016   Change 
Management fees  $339,866   $292,814    16%  $966,148   $852,739    13%
Distribution and underwriter fees   20,114    18,883    7%   58,991    56,216    5%
Service fees   30,515    27,150    12%   89,493    80,203    12%
Other revenue   3,251    2,321    40%   8,705    6,856    27%
Total revenue  $393,746   $341,168    15%  $1,123,337   $996,014    13%

 

Management fees

The increase in management fees in the third quarter and first nine months of fiscal 2017 from the same periods a year earlier can be primarily attributed to an increase in average consolidated assets under management, partially offset by a decline in our average annualized management fee rate. Average consolidated assets under management increased by 22 percent and 18 percent in the third quarter and first nine months of fiscal 2017 from the same periods a year earlier, respectively. Excluding performance-based fees, average annualized management fee rates decreased to 34.2 basis points and 34.7 basis points in the third quarter and first nine months of fiscal 2017, respectively, from 35.6 basis points and 36.0 basis points in the third quarter and first nine months of fiscal 2016, respectively. Performance-based fees were $0.5 million and $2.7 million in the third quarter of fiscal 2017 and 2016, respectively, and contributed $0.6 million and $2.8 million in the first nine months of fiscal 2017 and 2016, respectively.

 

The primary drivers of our average annualized management fee rates are the mix of our assets by investment mandate and distribution channel, and the timing and amount of performance fees recognized. Excluding the impact of performance-based fees, changes in average annualized management fee rates for the compared periods primarily reflect the ongoing shift in the Company’s mix of business towards investment mandates and distribution channels with lower fee rates.

 

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Average annualized management fee rates by investment mandate, excluding performance-based fees, for the three and nine months ended July 31, 2017 and 2016 were as follows:

 

   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in basis points on average managed assets)  2017   2016   Change   2017   2016   Change 
Equity(1)(2)   61.5    62.7    -2%   62.1    62.5    -1%
Fixed income(1)(2)   37.7    39.8    -5%   38.3    40.2    -5%
Floating-rate income(1)(2)   50.7    51.5    -2%   51.5    51.8    -1%
Alternatives(1)(2)   63.2    63.4    0%   63.0    63.0    0%
Portfolio implementation(1)   14.6    14.8    -1%   14.6    15.0    -3%
Exposure management(1)(3)   5.1    5.2    -2%   5.1    5.2    -2%

Consolidated average annualized management fee rates(1)

   34.2    35.6    -4%   34.7    36.0    -4%

 

(1)In the second quarter of fiscal 2017, the Company modified its methodology for calculating average annualized management fee rates for quarterly periods to remove the effect of variations in the number of days in a given quarter. The above presentation of prior period results has been revised for comparability purposes.
(2)In the second quarter of fiscal 2017, the Company reclassified among investment mandates certain managed assets. The above presentation of prior period results has been revised for comparability purposes.
(3)Excludes management fees attributable to client positions in exposure management mandates identified as transitory in nature.

 

Average assets under management by investment mandate to which these fee rates apply can be found in the table “Consolidated Average Assets under Management by Investment Mandate” on page 46.

 

Distribution and underwriter fees

Distribution fees, underwriter fees and other distribution income for the three and nine months ended July 31, 2017 and 2016:

 

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   Three Months Ended       Nine Months Ended     
   July 31,   %   July 31,   % 
(in thousands)  2017   2016   Change   2017   2016   Change 
Distribution fees:                              
Class A  $199   $156    28%  $539   $490    10%
Class B   184    318    -42%   638    1,055    -40%
Class C   15,417    15,100    2%   45,977    44,956    2%
Class F   375    -    NM    850    -    NM 
Class N   20    18    11%   52    64    -19%
Class R   422