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WETF > SEC Filings for WETF > Form 10-K on 3-Mar-2014All Recent SEC Filings




Annual Report


The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and the related notes and the other financial information included elsewhere in this Report. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below. For a more complete description of the risks noted above and other risks that could cause our actual results to materially differ from our current expectations, please see the Item 1A. "Risk Factors" of this Report. We assume no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by law.

Executive Summary

We were the fifth largest sponsor of ETFs in the United States based on AUM, with AUM of $34.9 billion as of December 31, 2013. An ETF is an investment fund that holds securities such as equities or bonds and/or other assets such as derivatives or commodities and that generally trades at approximately the same price as the net asset value of its underlying components over the course of the trading day. ETFs offer exposure to a wide variety of investment themes, including domestic, international and global equities, fixed income securities, currencies or commodities, as well as securities in specific industries and countries. At December 31, 2013 we offered a comprehensive family of 61 ETFs, which includes 42 international and domestic equity ETFs, 11 fixed income ETFs, six currency ETFs and two alternative strategy ETFs.

Through our operating subsidiary, we provide investment advisory and other management services to the WisdomTree ETFs. In exchange for providing these services, we receive advisory fee revenues based on a percentage of the ETFs average daily net AUM. Our expenses are predominantly related to selling, operating and marketing our ETFs. We have contracted with third parties to provide certain operational services for the ETFs.

We distribute our ETFs through all major channels within the asset management industry, including brokerage firms, registered investment advisers, institutional investors, private wealth managers and discount brokers. Our primary sales efforts are not directed towards the retail segment but rather are directed towards financial or investment advisers that act as intermediaries between the end-client and us.

Our revenues have increased substantially since we launched our ETFs in June 2006. Our revenues have grown from $65.2 million in 2011 to $149.5 million in 2013 and our net income grew from $3.1 million to $51.5 million over the same time period.

Market Environment

The economic environment and markets have generally improved over the last three years; however, the markets continue to experience volatility due to a host of factors including, among others, underlying concerns regarding unemployment and the rate of economic recovery in the United States, the stability of European economies and their banks, and rising inflation and sustainability of growth in the emerging market countries.

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The following charts reflect the returns of the broad based market capitalization weighted equity indexes on a quarterly and annual basis over the last three years:

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Source: Bloomberg.

Despite a robust equity market in 2013, flows into the ETF industry in 2013 declined slightly from the prior year as the chart below reflects:

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Source: Investment Company Institute.

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Our Results and 2013 Highlights

Our AUM has been growing and reaching record levels each year from $12.2 billion at the end of 2011 to $34.9 billion at the end of 2013. Our net inflows have also been increasing during that same time period from $3.9 billion to $14.3 billion. We experienced a significant increase in our net inflows in 2013 largely due to the success of our Japan hedged equity ETF (DXJ), which accounted for nearly 70% of our net inflows in 2013. Political and economic policy changes in Japan, in particular the Japanese government's desire to implement policies which have decreased the value of the Yen, drove increased investor interest in the region and in our Japanese hedged equity ETF. We believe our increasing inflow levels and AUM is a result of our innovative product offerings, new product launches to further diversify our product offering, as well as a longer track record for the funds we launched in 2006 and 2007. Our growth strategy seeks to increase our market share of ETF industry inflows through continued product diversification and execution of our marketing and sales strategies.

Our strong operating results have translated into record financial results. Between 2011 and 2013, our revenues increased from $65.2 million to $149.5 million, expenses increased from $62.1 million to $97.9 million and our net income increased from $3.1 million to $51.5 million. The record level of net inflows in 2013 was a significant contributor to our record results in 2013.

2013 was also a year of investment in strategic growth initiatives to better position us for longer term success:

We launched 15 new ETFs in 2013 focused on capitalizing on macro-investment themes. We launched six fixed income ETFs focused on a potential rise in interest rates; we launched five equity ETFs to take advantage of a rising U.S. dollar; we launched three dividend growth ETFs and one emerging markets consumer ETF. While these ETFs have not gathered significant AUM to date, we believe they better diversify us and have the potential to gather significant AUM in future years.

We invested significantly in marketing and sales related initiatives to support our existing ETFs as well as new ETF launches. Our marketing and sales related spending increased 65% or $5.8 million over 2012 levels.

We added 22 new employees to our company in 2013, predominantly in sales and other functions supporting sales including research and marketing.

We believe these investments will pay off in the future with faster growth rates.

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The following charts reflect certain key operating statistics of our business for the periods indicated:

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Competitive Environment

The ETF industry is becoming significantly more competitive as existing players compete on price and broaden their suite of products to different strategies that are, in some cases, similar to ours. For example, in August 2013, Charles Schwab & Co. launched six ETFs using the Russell fundamentally weighted indexes with fees generally equivalent with our comparable ETFs. In September 2013, iShares filed a registration statement for three currency hedged equity ETFs including a Japan hedged equity ETF. Those ETFs launched in February 2014 with fees generally equivalent with comparable ETFs. Also, Deutsche Bank renamed five of their equity ETFs to stress their currency hedging strategy and launched three additional currency hedged equity ETFs. More recently, iShares launched a floating rate treasury ETF on the same day as we launched our similar ETF; however, iShares waived fees for one year while we did not.

We do not know what effect, if any, the launch of these ETFs may have on our business. Within the ETF industry, being a first mover, or one of the first providers of ETFs in a particular asset class, can be a significant advantage, as the first ETF in a category to attract scale in AUM and trading liquidity is generally viewed as the most attractive ETF. We believe that our early launch of ETFs in a number of asset classes or strategies, including fundamental weighting and currency hedging, positions us well to maintain our position as one of the leaders of the ETF industry.

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Transfer of Fund Administration Services

In September, 2013, we entered into an agreement with State Street to transfer fund administration and custody services from BNY Mellon, effective April 1, 2014. As a result of this change, we expect cost savings and an improvement in our gross margins.

New Office Facilities

In August 2013, we entered into a 16 year lease for a new 38,000 square feet office space in New York City as our prior lease expired in January 2014. We increased the square footage of our office space in anticipation of future growth. In addition, the cost per square foot increased as compared to our then existing lease. We occupied the new space in January 2014; however, we incurred rent expense for the new office space beginning September 2013 in order to build out the new facility. As such, we incurred additional rent expense of $0.9 million in 2013.

Recent Developments

Since 2013, emerging markets have experienced significant weakness due to concerns over inflation and sustainability of growth rates. That weakness increased towards the second half of 2013 and into 2014. From January 1, 2014 through February 27, 2014, we experienced overall net outflows of approximately $2.0 million primarily attributed to approximately $1.2 billion of outflows from our emerging markets equity, currency and fixed income ETFs. Offsetting this are net inflows of $1.0 billion, primarily into our European focused equity ETFs as well as our Japan hedged equity ETF.

European Expansion

In January 2014, we announced our plans to expand into Europe through a majority investment in U.K.-based ETP provider Boost. We expect to invest $20 million in working capital to fund the build-out of a local European fund platform and operations to be led by Boost's management team. Through this platform we intend to launch a select range of UCITS ETFs under the WisdomTree brand and continue to manage and grow the Boost portfolio of short and leveraged fully collateralized ETPs under the Boost brand.

Under the terms of our agreement, we will own a 75% of the new WisdomTree Europe entity and existing Boost shareholders will own 25%. We will acquire remaining 25% ownership from the existing Boost shareholders at the end of four years. The payout formula is based on European AUM at the end of the four year period and is tied to our enterprise value over global AUM at the time of payout, and affected by profitability of the European business. The payout will be in cash over two years. Subject to regulatory approval and other customary closing conditions, the transaction is expected to close in the first half of 2014.

Components of Revenue

ETF advisory fees

The majority of our revenues are comprised of advisory fees we earn from our ETFs. We earn this revenue based on a percentage of the average daily value of AUM. Our average daily value of AUM is the average of the daily aggregate AUM of our ETFs as determined by the then current net asset value (as defined under Investment Company Act Rule 2a-4) of such ETFs as of the close of business each day. Our fee percentages for individual ETFs range from 0.28% to 0.95%. A summary of the average advisory fee we earned and average AUM in 2013 by asset class is as follows:

                                               Average              Average
                                             Advisory Fee             AUM
                                                                 (in billions)
      International Hedged Equity ETFs                0.49 %    $           8.8
      Emerging Markets Equity ETFs                    0.66 %    $           7.8
      U.S. Equity ETFs                                0.35 %    $           5.8
      International Developed Equity ETFs             0.56 %    $           3.0
      Fixed Income ETFs                               0.55 %    $           2.3
      Currency ETFs                                   0.49 %    $           0.7
      Alternative Strategy ETFs                       0.94 %    $           0.1

      Total Average Advisory Fee and AUM              0.52 %    $          28.5

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We determine the appropriate advisory fee to charge for our ETFs based on the cost of operating each particular ETF taking into account the types of securities the ETFs will hold, fees third party service providers will charge us for operating the ETFs and our competitors' fees for similar ETFs. Generally, our actively managed ETFs, such as our Alternative Strategy and Currency ETFs, along with our Emerging Markets ETFs, are priced higher than our other index based ETFs as the former are more costly to operate.

Each of our ETFs has a fixed advisory fee. In order to increase the advisory fee, we would need to obtain the approval from a majority of the ETF shareholders which may be difficult or not possible to achieve. There may also be a significant cost in obtaining such ETF shareholder approval. We do not need ETF shareholder approval to lower our advisory fee.

Until the end of 2012, the advisory fee charged for our Currency ETFs and one Fixed Income ETF was subject to a joint venture with Mellon Capital and Dreyfus as discussed below. We had determined that we were the principal participant for transactions under this collaborative arrangement and as such, the advisory fee above reflects the gross fee under this arrangement-see "Notes to the Consolidated Financial Statements" included in this Report.

Our ETF advisory fee revenue may fluctuate based on general stock market trends which include market value appreciation or depreciation, currency fluctuations against the U.S. dollar and level of inflows or outflows from our ETFs. In addition, these revenues may fluctuate due to increased competition or a determination by the independent trustees of the WisdomTree ETFs to terminate or significantly alter the funds' investment management agreements with us.

Other income

Other income includes fees from licensing our indexes to third parties and interest income from investing our corporate cash. These revenues are immaterial to our financial results and we do not expect them to be material in the near term.

Components of Expenses

Our operating expenses consist primarily of costs related to selling, operating and marketing our ETFs as well as the infrastructure needed to run our business.

Compensation and benefits

Employee compensation and benefits expenses are expensed when incurred and include salaries, incentive compensation, and related benefit costs. Virtually all our employees receive incentive compensation which is based on our operating results as well as their individual performance. Therefore, a portion of this expense will fluctuate with our business results. In order to attract and retain qualified personnel, we must maintain competitive employee compensation and benefit plans. In normal circumstances, we expect to experience a general rise in employee compensation and benefit expenses over the long term as we grow; however, the rate of increase should be less than the rate of increase in our revenues.

Also included in compensation and benefits are costs related to equity awards granted to our employees. Our executive management and Board of Directors strongly believe that equity awards are an important part of our employees' overall compensation package and that incentivizing our employees with equity in the Company aligns the interest of our employees with that of our stockholders. We use the fair value method in recording compensation expense for restricted stock and options grants. We ceased granting options in favor of restricted stock beginning in 2012 and do not anticipate issuing options in the future unless industry pay practices change. Under the fair value method, compensation expense is measured at the grant date based on the estimated fair value of the award and is recognized as an expense over the vesting period.

We expect our total compensation and benefits expense will be between 20% to 23% of our revenues in 2014.

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Fund management and administration

Fund management and administration expenses are expensed when incurred and are comprised of costs we pay third party service providers to operate our ETFs. Under our advisory agreement with the WisdomTree Trust, the Trustees have approved us and other third parties to provide essential management and administrative services to the Trust and each ETF in exchange for an advisory fee. The costs include:

portfolio management of our ETFs (sub-advisory);

fund accounting and administration;

custodial services;

accounting and tax services;

printing and mailing of stockholder materials;

index calculation;

distribution fees;

legal and compliance services;

exchange listing fees;

trustee fees and expenses;

preparation of regulatory reports and filings;


certain local income taxes; and

other administrative services.

We are not responsible for extraordinary expenses, taxes and certain other expenses.

BNY Mellon acts as sub-adviser for the majority our ETFs and provide portfolio management, fund administration, custody and accounting related services for all the WisdomTree ETFs. The fees we pay BNY Mellon and other sub-advisers have minimums per fund which range from $25,000 to $85,000 per year depending on the nature of the ETF. In addition, we pay additional fees ranging between 0.015% and 0.18% of average daily AUM at various breakpoint levels. The fees we pay for accounting, tax, index calculation and exchange listing are based on the number of ETFs we have. The remaining fees are based on a combination of both AUM and number of funds, or as incurred. As discussed above, we will be changing our fund administration, custody and accounting related services to State Street from BNY Mellon beginning in April 2014.

Marketing and advertising

Marketing and advertising expenses are recorded when incurred and include the following:

advertising and product promotion campaigns that are initiated to promote our existing and new ETFs as well as brand awareness;

development and maintenance of our website; and

creation and preparation of marketing materials.

Our discretionary advertising comprises the largest portion of this expense and we expect these costs to increase in the future as we continue to execute our growth strategy and compete against other ETF sponsors and new market entrants. We generally decrease our level of advertising in the third quarter due to a general slowdown of trading activity in the market during the summer months, but we may change that strategy going forward based on our financial results, competitive pressures and market conditions. In addition, we may incur expenditures in certain periods to attract inflows, the benefit of which may or may not be recognized from increases to our AUM in future periods. However, due to the discretionary nature of some of these costs, they can generally be reduced if there were a decline in the markets.

Sales and business development

Sales and business development expenses are recorded when incurred and includes the following:

travel and entertainment or conference related expenses for our sales force;

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market data services for our research team;

sales related software tools; and

legal and other advisory fees associated with the development of new funds or business initiatives.

Professional and consulting fees

Professional fees are expensed when incurred and consist of fees we pay to corporate advisers including accountants, tax advisers, legal counsel, investment bankers, human resources or other consultants. These expenses fluctuate based on our needs or requirements at the time. Certain of these costs are at our discretion and can fluctuate year to year.

Also included in professional fees was stock-based compensation related to restricted stock or option awards we granted to senior advisers to our Board of Directors. Under generally accepted accounting principles, these awards were considered variable expenses and are re-measured each reporting period with a corresponding impact to stockholders' equity. These awards were fully expensed at November 2012.

Occupancy, communications and equipment

Occupancy, communications and equipment expense includes costs for our corporate headquarters in New York City. As discussed above, we entered into a new 16 year lease beginning in August 2013. These costs will increase compared to 2013 levels.

Depreciation and amortization

Depreciation and amortization expense results primarily from amortization of leasehold improvements to our office space as well as depreciation on fixed assets we purchase which is depreciated over three or seven years. This expense will increase in future periods in connection with the amortization of leasehold improvements for our new office space as discussed above.

Third party sharing arrangements

Included in third party sharing arrangements expense are (i) payments from and reimbursements to us with respect to our joint venture with Mellon Capital and Dreyfus and (ii) payments to third parties to market our ETFs.

In 2008, we entered into a mutual participation agreement with Mellon Capital and Dreyfus, wholly owned by BNY Mellon, in which we agreed to collaborate in developing currency and fixed income ETFs under the WisdomTree Trust. Under the agreement, we contributed our expertise in operating the ETFs, sales, marketing and research, and BNY Mellon contributed sub-advisory, fund administration and accounting services for these collaborated ETFs. All third party costs and profits and losses were shared equally. This agreement terminated on December 31, 2012 and we entered into a new fee arrangement with BNY Mellon. Under the new arrangement, BNY Mellon continues to serve as portfolio manager to these ETFs under more traditional sub-advisory economic terms and such expenses are recorded in fund management and administration expense.

Our joint venture with Mellon Capital and Dreyfus was considered a collaborative arrangement and as such we determined that we were the principal participant for transactions under this collaborative arrangement and we recorded these transactions on a gross basis reflecting all of the revenues and third party expenses on our financial statements in accordance with the nature of the revenue or expense. Any net profit/loss payments were reflected in the "Third Party Sharing Arrangement" expense line.


Other expenses consist primarily of insurance premiums, general office related expenses, securities license fees for our sales force, public company related expenses, corporate related travel and entertainment and board of director fees, including stock-based compensation related to equity awards we granted to our directors.

Factors that May Impact our Future Financial Results

Our revenues are highly correlated to the level and relative mix of our AUM, as well as the fee rate associated with our ETFs. While our AUM has increased on an annual basis, we have experienced fluctuations on a quarterly basis due to changes in net inflows

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and market movement. A significant portion of our AUM is invested in securities issued outside of the United States. Therefore, our AUM and our revenues are affected by movements in global capital market levels and the strengthening or weakening of the U.S. dollar against other currencies.

Another factor impacting our revenues is the fees associated with our ETFs. Our overall average fee rate is affected by the mix of flows into our ETFs. With a significant portion of our AUM invested in securities issued outside of the U.S., favorable market sentiment to emerging markets, currencies and international fixed income is likely to have a positive effect on our overall revenue and conversely unfavorable market sentiment is likely to have a negative impact.

In addition, we currently compete within the ETF market against several large ETF sponsors, many smaller sponsors, as well as new entrants to the marketplace, and will compete against large asset management companies who have recently launched or announced intentions to launch ETF products. However, it is our belief that our ability to gather inflows into our ETFs, coupled with general stock market trends, will have the greatest impact on our business.

We have and will continue to strategically invest in our business in order to continue and accelerate our growth in the fast growing ETF industry. Our investment in strategic growth initiatives includes:

higher spending on marketing and advertising and our sales efforts and provide value added content to our clients;

incremental increases to our headcount, primarily in sales and sales support functions; and

launching of additional ETFs to further broaden and strengthen our product offering.

We expect our investment in strategic growth initiatives to range from $6.0 to $9.0 million in 2014. The components of our strategic growth initiatives may increase or decrease from our planned estimates depending on the nature of the growth initiatives and market conditions.

Our current gross margin, which we define as our total revenues less our fund management and administration expenses and less third party sharing arrangements, was 76% for the year ended December 31, 2013. After the transfer of our fund accounting and administrative services from BNY Mellon to State Street we expect our gross margins to be between 77% and 80% in the near term.

Gross margin is a non-GAAP financial measurement which we believe provides useful and meaningful information as it is a financial measurement management reviews when evaluating the Company's operating results. We define gross margin as total revenues less fund management and administration expenses and third party sharing arrangements. We believe this financial measurement provides investors with a consistent way to analyze the amount we retain after paying third party service providers to operate our ETFs and third party marketing agents whose fees are associated with our AUM level. The following table reflects the calculation of our gross margin:

                                                   Year Ended December 31,
                                              2013           2012          2011
       Total revenues                       $ 149,468      $ 84,798      $ 65,160
       Fund management and administration      35,076        23,020        19,882
       Third party sharing arrangements         1,368         5,468         5,651

       Gross margin                           113,024        56,310        39,627
       Gross margin percentage                     76 %          66 %          61 %
. . .
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