LPL Financial Q3 2024 Earnings Call Transcript

Quartr
Provided by Quartr
October 30, 2024

There are 8 speakers on the call.

Operator

Good afternoon and thank you for joining the Q3 2024 Earnings Conference Call for LPL Financial Holdings Inc. Joining the call today are our Chief Executive Officer, Rich Steinmeier and President and Chief Financial Officer, Matt Audette. Rich and Matt will offer introductory remarks and then the call will be open for questions. The company would like would appreciate if analysts would limit themselves to 1 question and one follow-up each. The company has posted its earnings press release and supplementary information on the Investor Relations section of the company's website, investor.

Operator

Lpl.com. Today's call will include forward looking statements, including statements about LPL Financial's future financial and operating results, outlook, business strategy and plans, as well as other opportunities and potential risks that management foresees. Such forward looking statements reflect management's current estimates or beliefs and are subject to known and unknown risks and uncertainties that may cause actual results or the timing of events to differ materially from those expressed or implied in such forward looking statements. For more information about such risks and uncertainties, the company refers listeners to the disclosure set forth under the caption Forward Looking Statements in the earnings press release as well as the risk factors and other disclosures contained in the company's recent filings with the Securities and Exchange Commission. During the call, the company will also discuss certain non GAAP financial measures.

Operator

For a reconciliation of such non GAAP financial measures to the comparable GAAP figures, please refer to the company's earnings release, which can be found at investor. Lpl.com. With that, I will now turn the call over to Mr. Steinmeier.

Speaker 1

Thank you so much, operator. As a long time listener and first time caller, it is great to speak to everyone on today's call. And for those that haven't met me, I'm Rich Steinmeier and it is my privilege to serve as LPL's Chief Executive Officer. I joined the firm in 2018 following roughly a decade working in wealth management at a couple of wirehouses after having started my career in management consulting. I joined LPL with the mandate to accelerate our growth and for the past 6 years have worked closely with Matt and the rest of our leadership team to set our strategic vision and to build and execute on the plan to achieve that vision.

Speaker 1

Looking forward, our opportunity is clear to assert our leadership and shape both the advisor and institutional markets. Our focus is on creating the culture, strategy and capabilities to achieve sustainable outperformance by serving as an indispensable partner to our advisors and institutions, while delivering long term value to shareholders. Okay. With introductions complete, let's turn to our results. In the quarter, total assets increased to a record $1,600,000,000,000 as we attracted organic net new assets of $27,000,000,000 representing a 7% annualized growth rate.

Speaker 1

This was on pace with the past 12 months during which we brought on nearly $100,000,000,000 of organic net new assets, representing approximately 8% growth rate. Our 3rd quarter business results led to strong financial performance with an adjusted EPS of $4.16 Next, let's turn to our strategic plan and recent growth across our organic and inorganic initiatives. As a reminder, our long term vision is to become the leader across the advisor centered marketplace. To do that, our strategy is to invest back into the platform and provide unmatched flexibility and how advisors can affiliate with us and to deliver capabilities and services to help maximize advisors' success throughout the lifecycle of their businesses. Doing this well gives us a path to sustainable industry leadership, not just in the independent and institution markets, but across all of Wealth Management.

Speaker 1

In the Q3, recruited assets were $26,000,000,000 bringing our total for the trailing 12 months to $87,000,000,000 both of which represent records excluding periods where we've onboarded large institutions. In our traditional independent market, recruiting reached a new quarterly high of approximately $23,000,000,000 in assets, improving on our already industry leading capture rates of advisors in motion, while also expanding the breadth and depth of our pipeline. With respect to our new affiliation models, strategic wealth, independent employee and our enhanced RAA offering, we delivered another solid quarter recruiting roughly $3,000,000,000 in assets. And as we look ahead, we expect that the increasing awareness of these models in the marketplace and the ongoing enhancements to our capabilities will drive a sustained increase in their growth. During the quarter, we also continue to make progress within the large institution marketplace, where we advanced our preparation to onboard the retail wealth management businesses of Prudential Financial and WindTrust Financial.

Speaker 1

Collectively, these two partnerships will add approximately $76,000,000,000 of brokerage and advisory assets by early 2025. As a complement to our organic growth, earlier this month, we closed the acquisition of Atria Wealth Solutions, welcoming their approximately 2,200 advisors, 160 institutions and home office staff to the LPL family. The transaction is progressing well and we are on track to meet our 80% retention target. And as an aside, I've had the opportunity to spend time with the Atria team over the past several months and it is clearer than ever that their advisor centric orientation and high quality relationships with their advisors and institutions makes them a perfect fit for LPL. As for our broader business, asset retention remains industry leading at 98% over the last 12 months.

Speaker 1

This is a testament to our continued efforts to enhance the advisor experience through the delivery of new capabilities and technology and the evolution of our service and operations functions. In that spirit, I would be remiss not to call out a driving force behind our improving advisor experience, which is the ongoing operational transformation of the firm spearheaded by Matt. Beyond his leadership as CFO, Matt has been at the helm of our operations and risk organizations and has expanded and in his expanded role as President, we've consolidated additional responsibilities for the day to day operations of the firm under his purview, including customer service and supervision. It goes without saying that all of these critical functions are in very good hands. In closing, I want to reiterate how honored I am to lead this amazing firm and to express my gratitude to our employees for the way they show up every single day, to our advisors and institutions for their partnership and to our shareholders for continuing to place their support and trust in LPL Financial.

Speaker 1

With that, I'll turn the call over to Matt, who I would like to point out dressed up as Johnny Cash for our company Halloween event last Friday and I just wanted you all to visualize that image as he dives into our results.

Speaker 2

Are you telling me that was a Halloween event on Friday? That's what I normally wear. I figured the white onesie you were wearing is what you wore on Friday.

Speaker 1

The man in black speaks.

Speaker 2

Yes, who knew? All right. Well, thanks, Rich. I'm glad to speak with everyone on today's call. I too feel exceedingly fortunate to serve this great firm in an expanded capacity as LPL's President and CFO.

Speaker 2

To echo Rich's sentiment, we have built an advantage position in the advisor mediated market and have a tremendous opportunity to extend our leadership. I look forward to partnering with Rich and continuing to enhance value for all the stakeholders we serve. Turning to our results. In the Q3, we remain focused on serving our advisors, growing our business and delivering shareholder value. This focus led to another quarter of strong organic growth in both our traditional and new markets, and we are preparing to onboard the wealth management businesses of Prudential and Wintrust.

Speaker 2

As a complement to our strong organic growth, we closed on the acquisition of Atria earlier this month. In addition, we entered into an agreement to acquire the investment center, which we plan to onboard in the first half of twenty twenty five. So as we look ahead, we remain excited by the opportunities we have to serve and support our growing advisor base, while continuing to deliver an industry leading value proposition and drive organic growth. With respect to our Q3 business results, as Rich mentioned, it was another quarter of strong growth with annualized growth rate of approximately 7% or 9% prior to the planned separation from misaligned large OSJ. On the recruiting front, Q3 recruited assets were $26,000,000,000 which prior to large institutions was a new quarterly high.

Speaker 2

Looking ahead to Q4, in addition to the expected onboarding of 1 of our largest institutional partners, Prudential, we continue to have a strong pipeline. However, I would note the natural seasonal headwinds to advisory movement during the back half of December related to FINRA shutdown and the holidays. As for our Q3 financial results, the combination of organic growth and expense discipline led to adjusted EPS of $4.16 Gross profit was $1,128,000,000 up $49,000,000 sequentially. As for the components, commission advisory fees net of payout were $274,000,000 up $11,000,000 from Q2. Our payout rate was 87.5 percent, up 20 basis points from Q2 due to typical seasonality.

Speaker 2

With respect to client cash revenue, it was $372,000,000 up $11,000,000 from Q2 driven by higher renewal rates on our fixed rate contracts. Overall client cash balances ended the quarter at $46,000,000,000 up $2,000,000,000 sequentially driven by organic growth. Within our ICA portfolio, the mix of fixed rate balances was roughly 65%, within our target range of 50% to 75%. Looking more closely at our ICA yield, it was 3 32 basis points in Q3, up 14 basis points from Q2. As we look ahead to Q4, we expect the yields on our new fixed rate contracts to more than offset the impact of the 2 additional rate cuts expected by year end.

Speaker 2

As a result, we expect our ICA yield to increase by approximately 5 basis points. As for service and fee revenue, it was $146,000,000 in Q3, up $11,000,000 from Q2. Looking ahead to Q4, we do not have any large advisor conferences and expect seasonally lower IRA fees. However, given the acquisition of Atria earlier this month and the onboarding of Prudential later this quarter, we expect service and fee revenue to be roughly flat sequentially. Moving on to Q3 transaction revenue.

Speaker 2

It was $59,000,000 flat compared to Q2. As we look ahead to Q4, based on activity levels to date as well as the expected contribution from Atria and Prudential, we expect transaction revenue to increase by approximately $5,000,000 sequentially. Now let's move on to Atria and Prudential. Starting with Atria, as mentioned, we closed on the transaction and continue to expect to onboard the advisors in mid-twenty 25. Overall, the transaction is progressing well.

Speaker 2

We are on track to meet our estimate of 80% retention. But factoring in current asset levels, we now expect the run rate EBITDA benefit to be approximately $150,000,000 up from our original estimate of 140,000,000 dollars That said, in the near term, given the timing of when synergies are realized, we anticipate our post close pre conversion EBITDA to be roughly $40,000,000 Moving on to Prudential. We are on track to onboard them during Q4. As for Prudential's financial contribution, given current asset levels, which at the end of Q3 were approximately $60,000,000,000 as well as current cash balances, we now expect approximately $70,000,000 of run rate EBITDA, up from our original $60,000,000 estimate. Now let's turn to expenses starting with core G and A.

Speaker 2

It was $359,000,000 in Q3. Looking ahead, while there are variable costs associated with supporting our strong levels of organic growth, given our ongoing focus on efficiency, we are tightening our 2024 core G and A outlook to a range of $1,475,000,000 to $1,485,000,000 Additionally, now that we have closed our acquisition of Atria and expect to onboard Prudential by the end of the year, we are including those costs in our overall core G and A outlook. As such, we expect Prudential and Atria to add $35,000,000 to $40,000,000 of core G and A in 2024. As a result, our new core G and A outlook range is $1,510,000,000 to $1,525,000,000 Moving on to Q3 promotional expense. It was 176,000,000 dollars up $28,000,000 from Q2, primarily driven by conference spend as we hosted our annual focus conference as well as increased transition assistance resulting from our strong recruiting.

Speaker 2

Looking ahead to Q4, we expect promotional expense to decrease by approximately $10,000,000 driven by lower conference spend, partially offset by transition assistance related to Atria. As for regulatory expense, it was $25,000,000 in Q3, up from Q2 as we recorded an $18,000,000 charge related to a planned SEC settlement for anti money laundering controls. Looking ahead, given the nonrecurring nature of this item, we expect continue to expect regulatory expense to be roughly $10,000,000 per quarter. Turning to depreciation and amortization. It was $78,000,000 in Q3, up $7,000,000 sequentially.

Speaker 2

This included approximately $3,000,000 of technology development related to Prudential. Looking ahead, we continue to invest in technology and recently went live with 2 new internal data sets. As a result, we expect depreciation and amortization to increase by approximately $10,000,000 sequentially. I would just note that we don't expect this level of sequential increase going forward. As for interest expense, it was $68,000,000 in Q3, up $4,000,000 sequentially, driven by the full quarter impact of the May debt issuance.

Speaker 2

Looking ahead to Q4, given revolver balances following the close of the Atria transaction, we expect interest expense to increase by approximately $14,000,000 sequentially. Regarding capital management, we ended Q3 with corporate cash of $708,000,000 up $24,000,000 from Q2. As for our leverage ratio, at the end of Q3, it was 1.6 times. Looking ahead, consistent with our expectations, following the closing of the Atria transaction earlier this month, we anticipate our Q4 leverage ratio to be near the midpoint of our target leverage range of 1.5 to 2.5 times. And we expect corporate cash to return to more normalized levels near our management target range of approximately $200,000,000 Moving on to capital deployment.

Speaker 2

Our framework remains focused on allocating capital aligned with the returns we generate, investing in organic growth 1st and foremost, pursuing M and A where appropriate, returning excess capital to shareholders. In Q3, the majority of our capital deployment was focused on supporting organic growth as well as M and A where we allocated capital to our liquidity and succession solution. And on October 1, closed on the acquisition of Atria. Specific to share repurchases, a reminder that we paused buybacks following the announcement of the Atria acquisition. Now that we closed on the transaction, we plan to restart share repurchases in Q4 and anticipate buying back $100,000,000 of our shares in the quarter.

Speaker 2

To summarize, our balance sheet is strong and we are well positioned to drive value through our capital allocation framework. In closing, we delivered another quarter of strong business and financial results. As we look forward, we remain excited about the opportunities we have to continue investing to serve our advisors, grow our business and create long term shareholder value. With that operator, please open the call for questions.

Operator

Thank you. Our first question comes from Alex Blostein with Goldman Sachs. Your line is open.

Speaker 3

Hey, good afternoon, everyone. Rich, Matt, congrats to both of you on new and expanded roles. That's good stuff. Rich, I was hoping we could start with you given this is your first opportunity to speak with a broader kind of investor and analyst group in your new role, obviously, the CEO of the firm. Maybe spend a couple of minutes on the key priorities for the business over the next 1 to 2 years.

Speaker 3

What are the key areas of focus likely for you to be? And is there going to be sort of any strategic change in direction for the business?

Speaker 1

Great. Thanks, Alex. Thanks for congratulating Matt and I on the expanded roles. Actually really appreciate it. As we jump in as a newly formed management committee into moving the business forward, I'd say there are 3 top priorities that we're thinking about every day.

Speaker 1

The first are that we have got to maintain the client centricity that this firm is known for and that is in serving our advisors, our institutions and allowing them to serve their end clients with distinction. It's what the firm was built on and so for us that is one of the top priorities as we advance making sure that we don't lose sight of what's made us special. 2nd, which is a slight pivot is to empower our employees. This is the ability to take the employees who sit at the all levels of this firm who are deeply connected with our clients and empower them to take the decisions to help those clients achieve success in however they may define it. And so for us, that's about putting in place a decision making framework and a control framework that allows all of our employees to have the authority to make better decisions in support of our clients.

Speaker 1

It will allow us to feel nimbler and more direct in serving the clients. The 3rd priority is driving operating leverage. We have had the privilege of high levels of growth extended over the last couple of years. And as I mentioned in remarks, we have had Matt take over all of the operations, service, compliance and supervision to try to drive and continue to drive operating leverage and value for our shareholders. The one thing, Alex, that I would point out that is not going to change is actually our strategy.

Speaker 1

Our long term vision is to become the leader across the advisor centered marketplace and that outlook remains positive. And as a reminder, that's driven by our conviction in 3 structural and durable trends: The growing demand for investor advice, the appeal to receive that advice from a financial professional and the attractiveness of the independent model. We actually sit in a privileged position in the marketplace. We have outsized gains in advisors that change firms and that growth has enabled us to fuel our strategy of investing back in our platform and our capabilities. I think that strategy should persist and it will give us the opportunity to outperform over the longer term.

Speaker 1

And maybe if you'll allow me just one final thought. It's been 3 weeks where I have spent time meeting with 100 of our clients. And what I've learned in those 3 weeks is that this firm is a very special place. In fact, the thing is our clients actually when I reach out to them say, Rich, how can we help you? These relationships that we have with our clients have been built over years decades.

Speaker 1

And in fact, those relationships are built on foundation of relationships. But it's not relationships with me as the CEO. It's relationships with relationship managers, advisory consultants, branch managers, supervisory consultants, transition specialists. And what I've seen in the last 3 weeks are those employees have stepped up in a major way. Our clients are echoing that back to us.

Speaker 1

And if you think about our ability to succeed in the future, it will be driven by our clients being the loudest advocates for our firm and that's what I've seen. I give huge kudos to our employee base.

Speaker 3

Great. Thank you for that perspective. Very helpful. Matt, I guess since you dressed up as Johnny Cash, let's talk about cash. You guys and the industry broadly put up really nice growth in cash balances for the first time in a while.

Speaker 3

Obviously, much, much welcome development for you guys in the space. Maybe unpack a little bit what have been sort of the sources of growth and totally understand the hesitation of sort of calling the bottom on cash balances. We've tried to do that before and that hasn't played out yet. But are you starting to see a more durable kind of outlook on just based on the where recruited assets are and the outlook for growth on cash balances starting to grow over time from these levels?

Speaker 2

Yes. Alex, I think on your point of calling the bottom, it's always tough. But I think just to reiterate some things that we've talked a fair bit about in the past that I think are relevant now, as you just start to hone in on when you're looking at cash those are cash balances that are largely operational. So you're starting to get down to what is really the amount of cash necessary to do things like rebalancing, paying advisory fees, facilitating withdrawals, things of that nature. And when we look at that as a cash as a percent of AUM, right, that has been coming down.

Speaker 2

We've stabilized the last couple of quarters in the just under 3% zone. But even if you look at the few quarters leading up to that, a big part of the driver, the primary part of the driver, was really the denominator, meaning the market is going up, so that percentage came down. So if you look at it just as cash balances on an average per account, they have stabilized for a few quarters at just over $5,000 So to your point, it's always tough to call a bottom. But I think when you look at where we are right now, with the amount of cash that's in there, it really is the cash necessary to manage accounts. So then I think you pivot to really what is our growth outlook look like, because as you bring in new accounts, if those on average are $5,000 you can you've got strong organic growth like we do and you do couple that with a stabilization, you can start to be in a place where you could see cash balances start growing again, right?

Speaker 2

So it's hard to promise that, but I think the dynamics that would lead to that are there and we'll see how that plays out.

Speaker 3

Great. All right. Thank you both.

Operator

Thank you. Our next question comes from Steven Chubak with Wolfe Research. Your line is open.

Speaker 4

Hi, good afternoon, Matt, and welcome, Rich. Just echoing Alex's remarks, congrats to both of you on the new and expanded roles. Rich, maybe just starting with you. Since you've been the primary architect of the growth strategy these last 6 years, I thought it might be helpful if you could lay out your either strategic vision or growth priorities specifically for the institutional and private wealth channels, just given those are much larger TAMs, you're increasing your share, but the penetration is still quite low. And what does that success just look like for you over the next 5 years across both of those channels?

Speaker 1

Thanks, Stephen. I will take those each in turn. So let's start with the institutional channel. So as you know, we've had some nice success in the recent past. But maybe I'd start this discussion a little bit earlier because while we've had an acceleration certainly in our participation in the institutional channel in the last 5 years, This story starts decades ago.

Speaker 1

This firm has always served community banks, credit unions and built capabilities to actually serve them. And as we built those capabilities and committed to the growth in that channel, we started to attract really progressive firms, Old National Bank, South State, Webster, Simmons and we grew our sophistication in the ability to serve larger institutions. As we did that, we made a concerted effort probably around 2020 to say there's a real opportunity inside the large bank channel. And that opportunity for us is because the demands of serving and delivering a wealth business, which used to sit with lower thresholds to be able to participate, those were growing because of the expectations of regulatory changes of the needs to deliver an outstanding platform and the expectations of what end investors were requiring. And so we had a pivotal moment around 2021 when we had a leader in M and T choose us.

Speaker 1

And that was probably one of the first times that a firm above $20,000,000,000 in wealth had chosen to partner with an outsourced firm. And at that point, it actually changed the dynamic in the marketplace, from large firms being asked, why on earth would you outsource to starting to ask the question of the leaders asking, why aren't you considering outsourcing and partnering with a world class partner. And that's not just the M and T, but it's the credibility of a Doris Meister and a Matt McAfee, the leaders of that firm and the position that they held in the marketplace where others actually really trusted their vision and trusted the decision that they made. So from there, we saw us beginning to snowball into the larger bank segment in a material way. And as a reminder, that's a $1,000,000,000,000 market segment.

Speaker 1

And at this point, we've built capabilities where we are clearly the leader in the ability to deliver a world class wealth management program in partnership with a financial institution. And beyond our capabilities, what happens is in 2 weeks, we'll have a roundtable where you will see the leaders of the industry at the roundtable and they happen to be our clients. And what happens in that scenario is that they are feeding from each other, learning from each other, pushing us and pushing each other. And so there are dynamics there that allow us to extend our leadership in that market. In a similar way, we then realized there is an opportunity for us to integrate the data that sits inside of a product manufacturer and insurance firm with the wealth data that allowed us to have a distinctive offering in the marketplace.

Speaker 1

We began discussions and found a willing partner in Prudential. And as we progress those discussions with Prudential and built towards this solution that we'll deliver in the last quarter of this year, we then realized that we now also have a distinctive offering in that marketplace in the integration of 2 different types of experiences, that being the insurance as well as the wealth. Instead of having folks having to swivel chair back and forth, they now have a world class integrated platform with end investor capabilities that is second to none. Again, taking Caroline Feeney and Brad Hearn, the leaders of the wealth business there taking a big bold step with us. And in fact, what that has led to is beginnings of conversations inside the marketplace around, I think, the pivot that M and T drove in the marketplace, which is not why on earth would you outsource, but why aren't you considering a partner to achieve the efficiency, the de risking and the platform capabilities that would come with being with a world class leader.

Speaker 1

So we think we feel pretty good about our opportunity to continue to progress our momentum, not only in the bank segment, but as well as in that product manufacturer and insurance segment. And as a reminder, that segment is a 1 point $5,000,000,000,000 market opportunity as well. So I think we're building momentum. It still feels like early days and it feels great that we're a leader presenting an opportunity to continue to grow as the requirements of scale continue to increase in those markets. If I turn the page, even and talk about high net worth and private wealth, maybe I have to go backwards again to go forwards here.

Speaker 1

But a couple of years ago, we identified that we wanted to expand our participation in the wealth management market And we realized that our capabilities were really strong. And in fact, the independent movement and the offering that we could bring to market around independence was incredibly well regarded in the marketplace. But we needed to build more capabilities to allow folks to get to independence. And that began our journey to introducing our strategic wealth services, which is the supported 1099 model. Then we introduced our Linsco independent employee model.

Speaker 1

And now more recently, what we've realized is, as we built capabilities to support those more sophisticated advisors that are by and large coming out of the wires or other regionals, we've built capabilities that allowed us to progress into a private wealth market. And we've been able to introduce in that market a unique offering because it brings the principles of independence and book ownership. It brings higher payouts to the advisors, while also providing all of the capabilities expected in a private wealth offering, advanced planners, access to capital markets, partnership models to secure solutions for high net worth investors. And as you put that together, it feels like a second to none offering in the marketplace. Now there's a couple of things we'll have to build more capabilities around our alts capabilities, integrated banking capabilities and further progression inside of our advisory platforms and we're on that journey.

Speaker 1

But as we progress those capabilities married with our learnings, what we've seen is early momentum that we feel really good about. And so, so far since we launched that offering November 3 a year ago, we've had 4 teams join serving over $2,000,000,000 in assets. And as we expand our participation in that market, that's a $5,000,000,000,000 market opportunity that we see ourselves at the beginning of a trend and just like the Linsco offering and the strategic wealth offering that allowed us to penetrate Wirehouse and regional advisors with greater distinction, we think that this is a distinctive offering that goes after those private wealth advisors and should lead us to sustained growth in this segment.

Speaker 4

Really helpful insights, Rich. Thanks for all the color. Just a follow-up for Matt. Over the past year, we've seen a pretty meaningful decoupling between the share price and NNA. Your stock currently trading at a pretty steep discount to wealth peers despite generating much stronger NNA and in a consistent fashion, mind you.

Speaker 4

It clearly suggests the market just not willing to capitalize that stronger organic flow momentum. Wanted to get your perspective just on what you believe the market is underappreciating first? And second, why not consider leaning more aggressively into buyback just to take advantage of this valuation disconnect that exists today?

Speaker 2

Yes, Stephen. I think there we certainly view the stock as undervalued, maybe hitting the leading into buybacks first, which we are restarting, as I covered in the prepared remarks. I think one of the really important things that I think we are unwavering on is having a strong balance sheet. For many reasons, I think a lot of them are obvious, but maybe some of them are less obvious. And that is also a contributor to the driver of organic growth, right?

Speaker 2

When you look at the businesses that we serve and support, being with a partner that's going to be able to withstand, environments where interest rates go down or equity markets go down and not have to look inward and reduce their levels of investment, like some of other firms that they've come from, that is a really important thing. So I think when we look at our capital allocation, it's all in a construct of being within that leverage target range. And then I think when you click down within that, we continue to focus on driving returns, which include share repurchases. I think the returns on organic growth, are better. The returns on M and A have been better.

Speaker 2

The returns on share repurchases are compelling. So I think we would anticipate allocating capital to all those areas. I think to the first part of your question, I think from a market disconnect standpoint, I think there certainly is one. It's tough to understand how and why, other than I think our conviction on the investments we're making that are going to drive long term value, that when you're doing things like a bringing on a Prudential and that certainly does require a lot of upfront investment, upfront capital, that not only is a compelling return for that particular opportunity, but opens up a broader market. These are all things that are an example of things that just drive long term value.

Speaker 2

Probably not the first time in the history of the markets where the long term opportunity is perhaps underappreciated. Certainly not underappreciated by us, which is why we've got the conviction to keep doing what we're doing. So hopefully that helps.

Speaker 4

Well said, Matt. Thanks so much for taking my questions.

Operator

Thank you. Our next question comes from Michael Cyprys with Morgan Stanley. Your line is open.

Speaker 5

Great. Thanks, Rich. Matt, good afternoon and congratulations on the well deserved expanded calls. We just want on liquidity and succession for you. Great to see your first off platform deal.

Speaker 5

Maybe you could just update us on the traction you're seeing. Remind us how much capital you're deploying into this and anticipate deploying into this over the next 12 months relative to say the last 12 months. More broadly, strategically, how you're thinking about the opportunity set here unfolding as you look out over the next couple of years?

Speaker 1

Yes, Michael, it's Rich. Thank you so much for the kind words at the beginning. I'm going to start and then I'm going to hand it over to Matt around the capital deployment. And so let's start with the momentum inside of liquidity and succession. I think you got to start with the background of how big is the opportunity.

Speaker 1

And so we think that over the next 10 years, we expect to see 1 third of advisors retire in the industry. And as you look at the independent segment, which is the fastest growing segment in the marketplace, there really wasn't a mature set of solutions to help those advisors retire. In fact, in the past, those solutions largely were seller financed moving from one advisor to the next, but the risk was often borne by the advisor who was selling the business. And so in 2022 with that backdrop, we came at this, I would say from a different angle than many folks. We started we had in fact, it was driven by our existing clients asking us, please provide us a solution because we want to stay with LPL.

Speaker 1

We don't want to have to sell away and we don't want to lose control of our business. And in listening to those clients like we do on so many different things, we comprised an offering that one, helps those advisors monetize their business at a fair market rate. 2, it identifies and supports the next generation of advisors. We call those the G2 advisors, where we will build a relationship with those advisors to help finance them in buying back that practice from the founder or the practitioner as it stands. And in fact, 70% of those transactions that we're involved in have an identified G2 advisor already in place inside of the practice.

Speaker 1

3, we then move that business It's the same brand. It's the same way that they deliver advice, It's the same brand. It's the same way that they deliver advice. Maybe it's a planning based orientation to advice. And so the clients actually feel continuity in that progression and not a disruptive move from one firm to the next.

Speaker 1

And then 4th, maybe oftentimes most important, those founders of those principles of the business, they want to see the legacy of their business protected. They are not in it for actually the top dollar. They want to see that what they built or maybe what their father or mother built continues into the next generation. And that's so important for them. And so as we built that solution, which I will tell you does not exist in the marketplace other than at this firm, We now see the proof in the pudding.

Speaker 1

Our advisors who have gone through and entered into a liquidity and succession agreement with us are some of the happiest advisors that we have at this firm. Their NPSs are off the chart, net promoter score is off the charts. And I got a tangible experience of this. We had our focus conference not that long ago and we hosted a happy hour with a number, probably 15 of those teams and advisors that had entered into that agreement with us. And I felt like the bell of the ball.

Speaker 1

I couldn't be I was spun like a top because every one of them said, thank you so much for derisking my business. Thank you so much for getting it to the next generation. Thank you so much for not making me sell to another firm that is going to whitewash my business, change the way my clients are served and shut my office down. And so that momentum we've seen internally, we have our most outspoken advisors, our largest advisors and our most influential advisors and so many of them are already in partnership with us. And so I think you'll see a continuing momentum on that internal opportunity for liquidity and succession.

Speaker 1

And what that's led to first in the external marketplace was that advisors who we were in discussions with to recruit them learned of how strong this program was and it began to influence advisors consideration of our firm, not to necessarily go through a liquidity and succession event, but recognizing that this was a unique solution that would want them that would be attractive to them to join our firm. And I've been on so many HOVs with those large teams that are coming over specifically because they have optionality at some point to provide continuity into their staff and consistency into their clients. But then it went probably a step further is obviously we're trafficking in a lot of conversations with advisors at all stages of their development and their progression. And with advisors at all stages of their development and their progression. And so as you've seen in the last quarter, we've begun to move into having direct liquidity and succession transactions with external advisors to our firm.

Speaker 1

We think that it works from 2 ways. 1, We think that it works from 2 ways. 1, primarily it's attractive to join this firm because then they have the L and S solution, which is unique in the marketplace available for them when they want to move towards transitioning to the next generation. But 2, we also do see, you can't look past that a third of advisors are going to retire in the next 10 years. That's not just at this firm.

Speaker 1

And with that offering, we think that it will be able to augment our way that we go to market in a way that will allow us to have an addressable market that is even larger than we have today. I'll turn it over to Matt to think about to talk about the use of capital.

Speaker 2

Yes, Mike. I'll think of the use of capital. I think on the external side, it's early, right? Kind of hard to have a sharp estimate on where that goes from a capital allocation standpoint other than to underscore where Rich said the opportunity set there is quite large. But it's all volume dependent.

Speaker 2

So I just go back to kind of the key metrics and that we use on these deals where we're typically they're in the $10,000,000 to $20,000,000 zone if you look at those internal deals per deal. We're doing 6 to 8 times EBITDA is largely the zone that we land. We've done about $40,000,000 so far and the purchase prices have kind of been in the middle of that zone, so call it $500,000,000 So that's probably a good way to think about going forward from here. And then I think external deals would just add on to that probably at a lower multiple because you're getting not only you're basically getting 2 things. You're getting the recruiting economics, which are typically at 3 to 4 times and you're doing the L and S transaction, which is at 6 to 8.

Speaker 2

So on average, it's probably a multiple that's a little bit lower, so than an internal. So hopefully that helps guide you.

Speaker 5

Great. Thanks so much. And just a follow-up question coming back to one of your strategic priorities was to drive operating leverage. I was hoping you could elaborate on some of the steps you might take to drive operating leverage in the business, what we might see there? What sort of magnitude do you think is achievable over the next couple of years?

Speaker 5

And what success might look like there?

Speaker 2

Yes. I mean, I think when you look at just the areas where we add cost, right, as we grow, It's a great insight to see where we can get more efficient and get more leverage and really drive down our costs to serve. So it's in the areas that have the largest headcount. And as Rich covered, kind of the areas that I'm largely responsible for now. And I think when you look at what we're doing there is you've got a combination of investing in efficiencies, things like robotics.

Speaker 2

You've got opportunities as we improve our technology, as we improve our capabilities, the reasons that advisors may need to call our service center with decline, which allows you to grow this business without adding more heads there. So there's just a host of areas, Mike, where the more that we invest in efficiencies, the more that we improve our technology, the more that we get deeper and deeper into our expertise in all these different areas, the things that we're driving costs will come down. So I think it's a classic just cost to serve opportunity set that really has allowed us if you just look at this year and this quarter where we're delivering on quite strong levels of growth, but where our core G and A guidance is really within the range of where we started the year. And the reason for that is our cost to serve is coming down. And I think that's the focus and the intent that we'll have going forward as well.

Speaker 1

Hey, Mike, it's Rich. I'd love to add just one thing to that. One thing I wouldn't overlook in the construct of how we improve operating leverage is actually our organizational alignment. And so the guy sitting across from me who has demonstrated that he is one of the best CFOs in Wealth Management with an eye towards making sure he understands how the business is put together also now leads the largest components of cost for the firm. He understands how to responsibly deploy capital to build efficiencies to achieve sustained improvement in our operating costs, while doing that inside of that environment of being both the CFO and President.

Speaker 1

And so I think there's a lot of harmony in that evolved organizational alignment that should allow us to continue to make progress against that operating leverage.

Speaker 2

I don't think anybody heard that, if you mind repeating it.

Speaker 1

Yes. I just do it every day and twice on Sunday.

Speaker 5

Great. Thanks so much.

Operator

Thank you. Our next question comes from Craig Siegenthaler with Bank of America. Your line is open.

Speaker 6

Rich, Matt, first just wanted to offer you both congrats on the expanded roles.

Speaker 1

Thank you. Thank you.

Speaker 6

My question is on free cash flow conversion and I'm looking at Page 15 of the release. We saw positive sequential growth and year over year growth in corporate cash balances, although the growth was smaller after backing out the excess cash at the regulated subs. Given the return of the buyback, how should we think about your cash and liquidity objectives at the company and the HoldCo? And really what metrics are you focused on?

Speaker 2

Yes, Craig, I think when you look at the 2 big metrics that we'll focus on really is overall leverage, right? So 1.5x to 2.5x target range. I think we'll between the mix of cash flow that we generate deploy and the borrowings that we use, which I think is a more efficient use of capital than equity, is really being in that range. And then allocating that capital to the areas that we've talked through, so organic growth, M and A, share repurchases. I think maybe specifically on your point on cash itself, that was elevated the last couple of quarters as we did opportunistically go to market in May when the markets were quite good to raise the cash to get ready to close on Atria.

Speaker 2

So when you go into Q4, you should expect to see that cash level that corporate cash level to come back down to where we typically operate, which is in that 200 plus zone, which is the amount of cash we typically like to keep around. But then you'll see leverage more in that right in the middle of that range, so kind of call it around 2x. So that's where we like to anchor. And then based on where we are from a leverage standpoint, just take that liquidity and apply it to our capital allocation framework like we always have.

Speaker 6

Thank you, Matt. My follow-up is on your alternative investment offering. I was wondering if you could remind us what the offering looks like today between both private market strategies and drawdown funds and also semi liquid vehicles? And do you have plans to expand this offering further, which could enhance your recruiting effort?

Speaker 1

Hey, Craig, it's Rich. I'll take that on. So let me start at the end of your question, which is do we intend to expand this platform further? The answer is yes. It goes to the journey that we've been on, which is that we started to serve really exceptional independent advisors.

Speaker 1

We then expanded our total addressable market by being very intentional at looking at wirehouse and regional advisors. And as we began to have success into those wires and regionals, the demand to join our firm continued to increase, but some of our capabilities were short of the absolute need, that those advisors may have been used to at the other firms. And so that would center on all some of our banking capabilities. And as I mentioned, the further extension of our wealth management platform is specifically our UMA. Inside of Alts, over the last year, we've made significant progress in building towards a world class platform.

Speaker 1

The first thing we did was expand our custodial and operational capabilities. And the second was then beginning the material expansion of our shelf of alts themselves. This is a multi year effort. In fact, now we have over 20 folks working full time inside of the alts to go through diligence as well as to position to our advisor base to help them understand solutions and help them position them to their clients. In addition to those capabilities specifically this year, we began a new we've deployed a new alternative investment order entry system, which we launched in the Q2 with a pilot set of advisors and have gotten a lot of feedback on.

Speaker 1

And in fact, we have used that launch in the Q2 to build and enhance what we call AIOE, our alternative investment order entry system. So that is much more intuitive and has better capabilities in support of a broad deployment at the end of the Q4. The feedback that we've got from the advisors who went on the pilot has been incredibly positive. And as they've learned into our expanded capabilities in response to their feedback, it's only gotten stronger. So we look forward over the next year to finalizing that build reflective of the needs of those advisors and continue to expand that breadth of product offerings to achieve not only the opportunity to support our existing advisors, but as you mentioned, make us more attractive inside of those high net worth oriented advisors that either set sit as what we would call maybe high net worth dabblers inside of the wires and regionals or those that are inside of the private wealth channels themselves.

Speaker 1

That goes to a little bit of maybe one of the earlier questions that I was answering. So you're spot on. This is a capability that is important to us that we have made investments in and we'll continue to make investments in until it becomes a world class capability for us.

Speaker 6

Thank you, Rich.

Operator

Thank you. Our next question comes from Mike Brown with Wells Fargo Securities. Your line is open.

Speaker 7

Great. Thank you for taking my questions. I appreciate all the background, Rich, on the institutional side of the business and the momentum is clearly very strong there. Can you just speak to the constraints in growing in that channel? What is the kind of annual pace that you could tackle there when you're considering that $1,500,000,000,000 opportunity?

Speaker 7

And as you onboard some of these bigger complex clients like Prudential, can that speed of onboarding begin to pick up?

Speaker 1

Absolutely, Mike. Thank you for the question. Odette, I would note that Mike is the first person that has not congratulated you on your expanded role. So I also feel the same way you do, Mike. I think he should have just be a little more humble.

Speaker 1

So let's get into that question.

Speaker 7

There's still time. I can congrats on that. That's what

Speaker 5

I get. It's darn it.

Speaker 7

I'm sorry. I'm answering from

Speaker 1

you both. Okay. Let's talk about the constraints on the institutional segment. There's a couple of things. If you think about accelerating the pace in an institutional segment, one of the differences between an advisor segment and the institutional segment is that the sales and engagement process is quite a bit longer.

Speaker 1

If you think about our engagement with Prudential, we actually were in discussions for a couple of years before we got to contracting, which then led us to a pretty sizable build to build those capabilities. Now the good news is for incremental initiatives or incremental partnerships that we would have, for so many of them we won't have that long build cycle because we will have built the capabilities certainly inside the product manufacturer segment. On the bank side, we're the leader in capabilities. And so that again, that's going to have a longer sales cycle. That's not going to look like years.

Speaker 1

It's going to look like probably a 9 month sales cycle. You're going to see an RFI and an RFP. They're going to go through decisioning and then you've got contracting. And then you can think of anything between 6 months to 12 months as a timeframe for which we're preparing to onboard that. And so what you'll get, Mike, as you're building momentum, some of that you're not going to see in the short term is because as firms are specifically mentioned inside of that product manufacturer space, as they see through the Prudential transition and successful Prudential transition, as they've been raised their heads and start to get into an engagement process with us, you're going to have a pretty sizable lead time.

Speaker 1

And so that's one of the things you would see. Now you specifically asked about constraints, and so let's get back to constraints. A couple of years ago, as we would go through a major transition, we would think about having the capacity to do 1 a quarter. And I think that would have been a constraint at the time. And then we began to think about the ability to do one major transition a month.

Speaker 1

And I can tell you in the last year or so, we started to feel that that might be a constraint. And so we've built the capabilities and the capacity and the onboarding and that's probably a really important component that I didn't allude to earlier. Because we've done so many of these large transition events, we've invested pretty heavily in digitizing and automating those transitions themselves. And so when Matt was talking about driving down driving that operating leverage up, part of that is ongoing, but part of it is actually reducing the cost and the friction to actually get those large firms over in a large event, either an M and A event or a partnership event. And so as we've gone through that, we have built the capacity now to handle multiple events inside of even a single month.

Speaker 1

We had that happen not that long ago. We had 2 events across a 3 week period and we did not miss a beat. And so we've begun to take away the constraint around the ability to transition material events at a pace that feels a lot more accelerated than we would have had in the past. But probably one of the things, Mike, is I'd probably lean more towards the first part of my answer, which is as firms see us as a more attractive offering, there's a lot of due diligence to go through. And in many cases, there's some custom build that has to go on.

Speaker 1

And so that back and forth, there's a lot of complex solutioning that our team is engaged with to understand their operating environment, especially in those larger firms. And that timeframe is very hard to compress. You can compress the conversion, but it's harder to compress the sales cycle because of the complexity of so many of these really larger firms. I hope that helps.

Speaker 7

Yes, very helpful. And then just for a follow-up as you to build on the operating leverage comment, I was hoping to maybe get a little sneak peek on to 2025. The annual core G and A growth for 2024 was 7.5% to 8.5% prior to Pru and Atria. I'm just trying to think through, is that perhaps the right range to consider for 2025? Or what's the puts and takes there, Matt?

Speaker 2

Yes, Mike. We're in that planning process now. So we'll come back like we normally do in the year end call and give that guidance. But I think that maybe the higher level things I would hit is one, just keep in mind, we'll have Pru and Atria for the full year effect of that in 2025. So if you kind of put that aside, I think and just reiterate what we've talked about on this call, I think our focus will be continuing to invest to drive organic growth, but at the same time delivering that operating leverage.

Speaker 2

And I think this year, I think is a good example of those growth rates starting to come down and balance those two things versus 2022 and 2023 where we had more of an outsized investment. So we'll have that same perspective going into 2025, but we haven't landed those plans yet. It will be guided by the opportunities we see to invest and drive growth and by the opportunities we see to invest and deliver operating leverage. But those principles will be the thing that guides us.

Speaker 7

Okay, great. Thank you and congrats to both of you.

Operator

Thank you. That's all the time we have for questions. I'd like to turn the call back over to Rich Steinmeier for closing remarks.

Speaker 1

Thank you, operator, and thank you all for joining us. We look forward to speaking with you again in January. Have a great night and have a safe and happy Halloween.

Operator

Thank you for your participation. You may now disconnect.

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Earnings Conference Call
LPL Financial Q3 2024
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