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On Mar 21, 2013, we reaffirmed our Neutral recommendation on Waddell & Reed Financial Inc. (WDR - Analyst Report) based on its better-than-expected results, robust assets under management (AUM) and meaningful capital deployment activities. However, the presence of substantial intangibles on its balance sheet and downward pressure on investment advisory fees remain the major causes of concern for this asset management company.

Why the Neutral Stance?

Waddell & Reed’s fourth-quarter 2012 earnings from continuing operations were marginally ahead of the Zacks Consensus Estimate. This also compared favorably with the prior-year quarter earnings. Results benefited from augmented top line, partially offset by higher expenses.

Further, in the past 60 days, few estimates have moved up, helping the Zacks Consensus Estimate for 2013 rise by a meager 2.8%. Similarly, estimates for 2014 have increased by 2.5% over the same period. In addition, over the past 4 quarters, the average earnings surprise has been a decent 5.6% for the company.

Waddell & Reed’s AUM trajectory has displayed powerful growth, rising nearly 319% to $96.4 billion from $23 billion 12 years ago, when it was converted into a publicly traded company. The company has a history of enhancing shareholder value through dividend payments and share repurchases.

In Nov 2012, the company increased its quarterly dividend by 12% and has maintained it ever since. Additionally, the board had paid a special cash dividend in Dec 2012. Moreover, Waddell & Reed repurchased approximately 1.5 million shares of its common stock at an aggregate cost of about $49 million in 2012.

Yet, the presence of substantial intangibles on its balance sheet makes us apprehensive. Further, the highly equity-centric nature of AUM and the new rules adopted by the Securities and Exchange Commission for improvement of mutual fund corporate governance could lead to further downward pressure on investment advisory fees, thereby adversely impacting the company’s revenue and earnings.

Other Stocks to Consider

Better performing stock in the same sector include Virtus Investment Partners, Inc. (VRTS - Snapshot Report), Lazard Ltd. (LAZ - Analyst Report) and Legg Mason Inc. (LM - Analyst Report). All these carry a Zacks Rank #1 (Strong Buy).

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